Under Fire, Fed Unveils Sweeping Mortgage Plan

WASHINGTON — Under threat by Congress to be stripped of its consumer protection power, the Federal Reserve Board issued a 660-page proposal Thursday that would enhance disclosures for mortgages, home equity lines of credit and fees paid to originators.

The far-reaching plan would require a recalculation of the annual percentage rate for some mortgages, prohibit certain payments to brokers and lengthen the amount of notice a lender must give before decreasing the size of a home equity line of credit.

Fed Chairman Ben Bernanke, who spent two days this week before Congress defending the central bank's consumer turf, said the proposal would improve disclosures without overburdening potential borrowers.

"When disclosing the details of complex financial transactions, there is necessarily a trade-off," he said. "While attempting to provide complete and accurate information, we must not overload consumers with excess information they cannot use. Our consumer testing has aided us in striking a proper balance."

One of the most controversial parts of the plan would target yield-spread premiums. The plan would ban any payments to a mortgage broker or loan officer that are based on the loan's interest rate or other terms. Loan originators would also be prohibited from "steering" consumers to transactions that are not in a consumer's interest or that increase the originator's compensation. Fed officials said they were not trying to ban yield-spread premiums altogether, but were seeking to curb abuses resulting from such premiums.

For closed-end mortgages — those that cannot be repaid before maturity — the Fed is revamping disclosures in four stages. At the time of application, lenders must provide borrowers with a one-page publication with questions and answers about the risks of their loan along with another one-page document that compares fixed and adjustable-rate mortgages.

Within three days after the application, the lender must disclose an APR that includes settlement fees and costs. The goal here is to prevent surprises at closing, but Donald Kohn, the Fed's vice chairman, asked whether it might push some rates into the high-cost category established by the Home Ownership and Equity Protection Act, which would trigger even more disclosures.

"For the typical loan, the $175,000 to $200,000 range, the extra fee adds a fairly de minimis amount to the APR," said Leonard Chanin, the associate director of the Fed's division of consumer and community affairs. "For smaller loans, it can add quite a bit more. As a consequence, a much larger share of the small loans could be pushed above the threshold."

Also within three days of the application, the lender would be required to show borrowers a graph that compares their APR to that of borrowers with excellent credit and those with lower credit scores. Lenders would also be forced to make clear the potential changes to payments over the life of the loan.

Final disclosures under the Truth-in-Lending Act would have to be provided within three days of the loan closing. The plan would also require lenders making home equity lines of credit to give borrowers 45 days' notice before reducing the size of the line. That is up from the current 15 days.

The proposal also would establish a safer harbor that would ban ending or cutting a line of credit for properties whose value declined more than 5%. The new protection is valid for lines of credit that had a 90% loan-to-value ratio at the time of origination.