DURHAM, NC -- New research by the Center for Responsible Lending (CRL) finds that predatory mortgage lending is a significant problem in rural America that hinders borrowers from taking advantage of improving credit or interest rate declines.
Perceived as an urban problem by many, certain abusive lending practices are more prevalent in rural areas than in cities. Rural borrowers are 20 percent more likely than their urban counterparts to receive a prepayment penalty that remains effective for five years or more on subprime mortgage loans.
A prepayment penalty is a fee charged by a lender when a borrower pays a designated amount of mortgage debt prior to the due date. Prepayment penalties of five years or longer are of particular note because they have been often cited as inflicting the greatest harm on borrowers. Prepayment penalties in subprime loans create a financial trap that may cost four to seven percent of the loan balance when a refinance is attempted, and provide an incentive for mortgage broker kickbacks (known as "yield spread premiums"). Prepayment penalties are common in up to 80 percent of subprime loans, while less than two percent of prime loans contain them. This disparity is especially troubling given a homeowners' best interest -- the ability to refinance from a subprime loan into a less costly prime loan as their credit improves.
"Today, while many rural areas are struggling economically, opportunistic predatory lenders are stripping hard-earned home equity from rural homeowners," commented Keith Ernst, CRL Senior Policy Counsel. "Allowing such practices is completely counter to longstanding policies that support homeownership in general and rural communities in particular."
The CRL research shows that a majority of rural borrowers who received subprime loans in 2002 -- nearly 63 percent -- had a prepayment penalty with a term of two years or longer and the disparity appears to be widening over time. In 2000, rural homeowners with subprime loans were eight percent more likely than similar urban borrowers to receive a prepayment penalty with a term of at least five years. By 2002, the difference jumped to 20 percent.
Policymakers have recognized the negative effects of prepayment penalties with more than 35 states regulating their use in home loans. Although most of the poorest counties in the United States are rural, 75 percent of non-metro residents are homeowners as compared to 67 percent of those who live in central cities.
If abusive prepayment penalties continue unchecked, rural families risk severe financial losses or worse, foreclosure. Given the economic challenges rural residents face, this research highlights the need for anti-predatory mortgage lending policies that restrict abusive prepayment penalties and allow homeowners to retain home equity without being penalized for seeking more affordable loans.
About the Data and Methodology
The key findings of "Rural Borrowers More Likely to be Penalized for Refinancing Subprime Home Loans" were derived from examination of a subset of the Loan Performance Asset-Backed Securities database. The database contained approximately two million loans originated from 2000 through 2002 across the country; two-thirds of the loans were refinances, 81 percent of the loans were for single-family residences, and the percentage of loans with prepayment penalties was approximately 68 percent. CRL researchers looked at the incidence and length of prepayment penalties in defined geographic categories, loan-level underwriting factors and individual loan characteristics, and racial and ethnic concentration by zip code.
A fuller treatment of the research is slated for publication in next month's edition of the peer-reviewed Fannie Mae Foundation journal, Housing Policy Debate. About Urban & Rural Definitions The US Office of Management and Budget definition of metropolitan statistical areas (MSAs) with central city areas with a population of one million or more delineated "urban borrowers" while rural refers to borrowers outside any MSA. The key findings may be accessed at kf-Rural_Borrowers-0904.pdf.
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