The financial crisis of 2008 started with shoddy mortgage-lending practices. Congress answered this problem with the 2010 Dodd-Frank Act, which was designed, among other things, to tighten mortgage lending standards and disclosures, keeping consumers better informed and curbing predatory lending practices.
Here is a quick overview of what the Dodd-Frank Act means to you as a home buyer and seller.
The need for reform. The 2008-09 financial crisis was triggered by millions of borrowers going into default on their mortgages. That, in turn, rocked the securities markets (stocks, bonds and commodities) because investment firms had bundled portfolios of these faulty loans into investment products called derivatives and sold them to large investment banks. The banks were caught holding these investments when the underlying loans went bad.
New agency. Dodd-Frank created a new federal agency, the Consumer Financial Protection Bureau, to enforce the hundreds of new regulations over the mortgage-lending industry and provide an educational source and grievance resolution center for consumers. The agency can be found online at www.consumerfinance.gov.
Ability to repay. Dodd-Frank set new, strict requirements that lenders must meet to determine if applicants have the ability to pay back their loans.
Originator compensation. Dodd-Frank prohibits lenders from being paid better commissions for selling mortgages with higher interest rates or risky terms to the borrower. Only the principal amount loaned can vary the amount of compensation.
Fewer risky loans. Certain high-risk loans not in the consumer’s best interest are now banned, such as negative amortization loans. No interest loans, which were a major catalyst of the meltdown in 2008, are still available, but with much stricter requirements to protect against defaults. Overall, loans have elevated requirements.
Important disclosures. Lenders have had to provide Truth in Lending statements to borrowers for many years, but Dodd-Frank took steps to get them to borrowers earlier in the process and to make the forms easier to understand. Integrated with the Truth in Lending statements are the Real Estate Settlement Procedures Act statements, which disclose the costs of loan settlement. Both sets of forms are provided to the consumer together, are easier to understand and replace previous forms.
Appraisals. Lenders are still able to charge a borrower for an appraisal of the contracted property, but they must provide a copy of the appraisal to the borrower at no charge.