Subprime lending, a growth niche that just a year ago banks were tripping over themselves to buy into, may soon be a business nobody can afford to touch.
Under fire from vote-hungry politicians and facing lawsuits on several fronts for their business practices, subprime lenders may also soon find funding tougher to raise as government and activist lawyers increasingly look to hit the companies at their sources of funding - the banks that buy and securitize their loans. In the process, some bankers wonder whether anyone can profitably lend to low-income borrowers, whose riskier credit records call for higher returns. Though lending discrimination and abuses have always been an issue, attention has increased noticeably in recent months. Experts cite political grandstanding, the boom in subprime lending, and other factors.
"It's an election year, and generally, regardless of the administration, enforcement actions pick up during election years," said Lawrence Platt, a partner in the Washington law firm Kirkpatrick & Lockhart. "The name of the game is perpetual press releases to show constituents that the government is serving their interests."
"I can't help but be swayed by the argument that this is the political season and [predatory lending] is a populist issue that gets a lot of attention," said Angelo R. Mozilo, chairman of Countrywide Credit Industries of Calabasas, Calif., the largest independent mortgage company.
Mr. Mozilo was quick to add that his company "enthusiastically supports all responsible efforts to eradicate any and all abuses." But he said there are "troubling aspects to the kinds of things that have been flying around."
For example, Mr. Mozilo said, some aspects of an anti-predatory-lending law passed in North Carolina last year harm the very people such laws are supposed to help.
The law limits the number of points a lender can charge the borrower, he said, and if the lender has a subsidiary that provides ancillary services like credit reports or appraisals, fees for these services are counted toward the limit. But if the consumer gets such services from outside sources, regardless of how much is charged, the fees are not counted toward the limit.
Moreover, several observers worry that broad enforcement and legislative actions could unfairly tar large swaths of the business. "It seems to me that the entire industry is under attack for exceptions," Mr. Platt said.
On the court front, activity over so-called predatory lending intensified this week as one major lender was sued and another was said to be facing a discrimination lawsuit.
In a suit filed Wednesday in Dallas, the Association of Community Organizations for Reform Now, or Acorn, charged that Wells Fargo Home Mortgage is violating the Fair Housing Act through certain functions on its Web site.
Meanwhile, The Wall Street Journal, citing "people close to the matter," reported Thursday that the Justice Department is preparing to sue Associates First Capital. The suit reportedly would charge that the Irvine, Tex., company discriminated against African-Americans in making subprime home equity loans.
The recent legal strategy has involved threatening lenders' reputations to get them to settle, Mr. Platt said. "Much of the action is normative, or about what laws should be, not what they are, and plaintiffs hope that defendants will be embarrassed into settling," he said.
Scott McAfee, president of WMC Mortgage, a Woodland Hills, Calif., subprime lender, said First Alliance's failure to defend itself against accusations of deceptive sales practices triggered the recent increase of noise over predatory lending. First Alliance of Irvine, Calif., was the target of a host of lawsuits accusing it of deceptive sales practices. It was also the subject of investigative news stories published in The New York Times and broadcast on ABC News in mid-March.
Rather than defend itself against these accusations, "the accused ran for the hills" and filed for bankruptcy protection March 23, Mr. McAfee said. Consumer activists "smelled blood in the water" and "started taking a closer look" at the predatory lending issue, he said.
In the last 15 years "we have made so much progress in homeownership that there is a very strong feeling amongst people that homeownership is possible," said Franklin D. Raines, chairman of Fannie Mae. If people do not get homeownership, they "think there is something wrong" and often conclude that there are abusive practices.
Community activists say predatory lending is a ubiquitous, multibillion-dollar practice that harms individuals and whole communities.
Peter Skillern, director of the Community Reinvestment Association of North Carolina, said the problem is not just swindlers but an institutionalized and ever-expanding system of subprime lending. "One reason is the enormous growth in the subprime market, from about $30 billion to over $160 billion, and that's conservative," he said. "The tremendous growth has exponentially increased the number of problems."
Mr. Skillern also said the issue gained legitimacy as an important public policy concern last spring when the North Carolina General Assembly, which he called a conservative body, passed an anti-predatory-lending law.
"Focus on predatory lending really took off last year when we were fighting this in North Carolina," he said. "I think the combination of the growing problem and the states' developing legislative remedies forced it to be a federal issue."
Deborah Warren, executive director of the Southern Rural Development Initiative in Raleigh, N.C., said predatory lending has been pushed into the public consciousness by the disappearance of banks in rural, lower-income, and minority communities because of bank consolidation; a growing link between large banks and subprime lenders; and the participation of Wall Street firms in the buying and selling of the securities of subprime companies.
"There seems to be a huge growth of subprime lending in the low-income and minority communities," Ms. Warren said. "And through the securitization process, Wall Street is giving them capital to expand and penetrate in these communities."
Despite the range of explanations for the emergence of the predatory lending debate, all agreed it will remain a lightning rod issue for years to come.
"What you're seeing is only an initial round of actions," said Andrew L. Sandler, a partner in the law firm of Skadden, Arps, Slate, Meagher & Flom and counsel to Associates First Capital. "You're going to see a lot more action over time - a lot of lawsuits and a lot of government enforcement activity - against a wide variety of lenders."
In its suit against Wells Fargo, Acorn charges that a section called the "Community Calculator," which requires prospective movers to fill in ZIP code information from their current neighborhood to receive recommendations for their new home, perpetuates racial segregation and discriminates against predominantly African-American neighborhoods.
The suit asks that Wells immediately remove from its Web site all items that "create racial steering" and that the company "create affirmative programs to reverse the effects of years of redlining."
A statement from Wells Fargo Home Mortgage, of Des Moines, said the company "is confident that our lending practices are fair and comply fully with all fair-lending laws."
Associates' attorney, Mr. Sandler, dismissed the allegations as an attempt by the Federal Trade Commission to force the Justice Department's hand through the media.
"It appears that somebody at the FTC has leaked partial information about an FTC investigation to pressure the Justice Department to file a lawsuit based on FTC statistical analysis that is not credible," Mr. Sandler said. "We are certain the FTC will address these leaks to protect its integrity."
Officials at the Justice Department and the Federal Trade Commission declined to comment on the status or existence of any action against Associates First Capital.
"I think one of the problems is that the government is seeking to bring actions against practices it doesn't like, but which are not necessarily illegal," Mr. Sandler said. "And though we'll see legislative developments that will set the rules of the game - about what is acceptable and what is not acceptable - right now you have agencies like the FTC acting like legislators, by seeking to make conduct illegal that may not be. And that's not the job of a law enforcement agency."
Erick Bergquist contributed to this article