It seems clear that predatory lending will be a subject that, deservedly, will receive attention in the new Congress.
But Congress should take care that legislation addressing this issue does not create unintended consequences — in particular, a lessening of the availability of credit to disadvantaged borrowers.
One proposal that has the potential for such consequences is that put forth by some consumer advocates for the imposition of a suitability standard. This would require lenders to determine that a loan fits a borrower's particular financial situation, or that it provides a "reasonable, net tangible benefit" to the borrower.
While there are some consumerists who seem to believe many borrowers do not have the capacity to make financial decisions in their own best interests, one would think that they would nevertheless be chary about imposing such a highly discretionary kind of responsibility on loan officers.
Whether an extension of credit is suitable or appropriate for a borrower, or whether it provides net benefits, are questions that involve judgments of a sort that lending officers are not typically trained to make.
Do we really want bank lending officers acting in loco parentis, making subjective judgments about the worthiness of particular needs or desires of borrowers and doling out credit based on some elusive notion of suitability?
And will a requirement of this sort really deter the truly predatory lender, who, after all, is the very person who tries to persuade the borrower that he or she needs the loan? Those who advocate such an approach point to requirements imposed in the securities industry, but the comparison is not apposite.
First of all, there are myriad types of securities available in the market, having widely differing characteristics, uses, and risk profiles. It does not seem unreasonable to ask brokers to consider whether a particular security meets a customer's investment objectives.
However, more importantly, the purchase of securities is not an essential element of the financial life of the average citizen, particularly lower-income individuals, but access to credit most assuredly is. The potential for suitability requirements in the credit area to result in a lessening of the availability of credit to lower-income borrowers is real and should be a cause for concern.
This is not at all to say that borrowers should be left to the mercies of the marketplace. There are clear standards that can and should be applied and that would provide significant safeguards against predatory lending.
The essence of predatory lending is the pushing out of credit to borrowers who simply cannot afford it. Predatory lenders typically target the equity that borrowers have built up in their homes. They are less concerned with a borrower's ability to service and pay off a loan than they are in snagging that equity to cover high rates and fees.
The proper response to predatory lending is not to turn loan officers into credit nannies, but to insist that they rigorously apply accepted underwriting criteria when making loans. This means making sure, based on objective information, that the borrower has the capacity to service and pay off the loan at maturity without recourse to the collateral securing the loan.
If proper underwriting is used — and if the regulators assure that it is — we should not need to have platform officers making what might well be social judgments about borrowers.
More importantly, if borrowers satisfy the basic underwriting test, we should be able to trust them to make their own decisions about the appropriateness of their loans and the net benefits they can expect.
