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QotD: Subprime Mortgage Mess - Who’s to Blame?
By JLP | March 22, 2007
I’ll get right to the question:
My opinion:
Unless lenders were lying to the borrowers, the responsibility ultimately lies with those people who signed on the dotted line (unless the lenders were lying). Lack of understanding really isn’t an excuse. I think it’s funny that we all saw this coming and now that a crisis is at hand congress decides to bring in the lenders to grill them about what went wrong.
UPDATE: Here’s the part of the article ($) that was in today’s Wall Street Journal that SteveK (see comments below) is referring to:
Federal regulators, meanwhile, have tended to focus more on the solvency of the institutions they oversee and less on individual consumer complaints. The case of Dorothy Smith, a 67-year-old from East St. Louis, Ill., illustrates how hard it was for individuals to get regulators’ help. In 2001, Ms. Smith, living on $540 a month in government benefits, was encouraged by a contractor to apply for a loan to finance home repairs. After two loan applications were rejected, a broker submitted a third showing that she had monthly income of $1,499 and was employed at a senior-citizens home though she had actually retired 10 years before, she said. The $36,000 mortgage that First Union National Bank (now part of Wachovia Corp.) approved for her required a monthly payment of $360.33 for 15 years followed by a “balloon” payment — when she would be over 80 — of $30,981.48. Fees and closing costs came to $3,431.
When the contractor left work unfinished, Ms. Smith sought help from Land of Lincoln Legal Assistance Foundation, which complained to Illinois bank regulators. The legal aid lawyers say the loan required unreasonably high payments given Ms. Smith’s income and a balloon payment when she would be over 80 years old. The state forwarded her complaint to the OCC, First Union’s regulator, which responded in 2002: “We cannot intercede in a private party situation regarding the interpretation or enforcement of her contract….The OCC can provide no further assistance.”
Ms. Smith sued First Union in a St. Clair County, Ill., court, for, among other things, extending credit beyond her ability to pay. Last year, the bank settled without admitting any violations, forgiving her remaining loan balance and paying her $14,000. “It is extremely rare, for individual matters, to get relief from either the state or the federal regulators,” says Diane Thompson, her attorney. A Wachovia spokeswoman declined to comment on the settlement but noted the bank has very little subprime business.
Topics: Housing Market, Question of the Day |
March 22nd, 2007 at 10:17 am
I agree, but we can’t forget about the role that the Federal Reserve played in keeping interest rates insanely low for so long. I believe that this more than anything shows how manipulative the Fed can be and it’s just one more reason why the existence Fed is a bad idea. After all if they didn’t need to raise rates to stave off inflation (caused by low rates IMHO) then peoples payments wouldn’t be adjusting.
March 22nd, 2007 at 10:24 am
Easy E,
Mortgage rates are tied to the 10-year note and really have nothing to do with short-term interest rates.
Besides, interest rates move up and down all the time. If you get an ARM at a time when interest rates are really low, don’t you have to consider the fact that interest rates COULD move up? When mortgage rates were really low, people had to know that rates couldn’t really go anywhere but up.
I also think a big part of the problem is people saying, “forget the future, I want this house now.”
March 22nd, 2007 at 10:51 am
I agree with you and wrote about it
http://extremeperspective.blogspot.com/2007/03/scammers-and-personal-responsibility.html
The average person in our society seems to want someone else to take responsibility when they do something dumb, whether getting to heavily in debt with credit or buying something they cannot afford
March 22nd, 2007 at 10:55 am
Paul,
You are correct. Unfortunately, politicians understand this and that’s why they make people out to be victims since it is an easy way for them to get votes.
March 22nd, 2007 at 10:56 am
Most of the subprime problems aren’t due to fed rates increasing or decreasing. They’re due to resets based on loan terms. First 2 years you get a teaser rate of 2% and then it goes to the normal rate. Or you have an Option ARM and you can pay below minimum until you hit 115% LTV which requires “normal” payments. I’m sure most people knew what these loan terms were — they just bought into the idea that the value of their house would increase in 2 years where they could refinance. Or perhaps they fooled themselves thinking they could improve their credit in 2 years to refinance — when in reality, buying a house just opened the gateway for more spending.
March 22nd, 2007 at 11:12 am
Well both are at fault for two different reasons. First, the lenders should have nothing to complain about. Subprime lending is simply providing loans to people who are a credit risk and don’t qualify for standard rates. Clearly a lender should realize that lending money to these people will carry additional risk. If they want to market their loans to these people with attractive rates and offers and end up getting burned when they can’t pay, boo hoo.
On the same token, a large part of the blame falls on borrowers for not understanding what they were getting into. Yes, some of the marketing tactics of adjustable rate mortgages and such can lead people into making poor decisions but as was already mentioned, ignorance is not a defense unless they were lied to.
I have no sympathy for either party. I know some people who bought $350,000 condos or homes right out of college just because the bank was willing to give them the money. Now they are complaining their payments are too high. Well too bad, you shouldn’t let the bank tell you what you can afford, and too bad for the bank lending more money than they should have.
There is enough stupidity to go around!
March 22nd, 2007 at 11:44 am
Ben Stein’s recent comments summed it up for me, as they so often do: Foreclosures are such a tiny, insignificant fraction of the market, there’s nothing to worry about.
Read/watch his entire editorial here–
http://www.cbsnews.com/stories/2007/03/18/sunday/main2581859.shtml
March 22nd, 2007 at 1:11 pm
I’m not saying that lenders and borrowers aren’t to blame. They have the primary responsibility. But you cannot say that the Fed rate doesn’t have an impact on mortgage rates either. If that were true then Fed rate changes would have almost no use. Their changes in rates do eventually filter into the 10-year note. It may not be direct but it does have an effect. And they do directly affect things like HELOCs.
Also, Ben Stein doesn’t know what he is talking about. Defaulted mortgages were packaged as securities and sold over and over again. The reason for many of the sub-prime lenders going bankrupt is due to the institutions that purchased the junk loans wanting the mortgage companies to buy back the mortgages. The mortgage companies don’t have the money due to the defaults and thus fold. Mortgage defaults don’t affect just mortgage companies, but financial institutions, homebuilders, building supply, landlords, anyone who makes money from housing, and the retailers who rely on consumers employed in those industries. No part of the economy is too small to cripple the whole thing. Think about all of the people who won’t be able to get HELOCs to fund their spending sprees anymore. Ben Stein sounds like he could’ve been there on the Thursday before black Friday saying the same thing. Don’t worry everything is peachy. I’m not saying to be scared, and I’m not saying that this isn’t a bad thing, I just think that people should be more aware of the interconnectedness of the economy and stop living in a fantasy world were everything goes up always and forever.
Great topic.
March 22nd, 2007 at 1:25 pm
Lenders and borrowers both share the blame, in my opinion. Lenders because they lowered their lending standards below where they should have to chase after additional profits in the sub prime market. And borrowers for being ignorant or naive about what they were getting into, and the possibility that house prices would not endlessly go up. Both lenders and borrowers got too greedy and got caught.
March 22nd, 2007 at 1:32 pm
I agree with Sam, Both are to blame of course the lenders want the money therefore he/she may not tell you everything about the loan. But it is up to the borrower to read the fine print ( but who reads it when you are so excited to get the house). I feel that no one should be approve for a mortgage that does not have decent credit. In other words suprime mortgages should not exist same as payday loans. I feel they prey on people with poor credit and it should stop.
March 22nd, 2007 at 2:20 pm
Lost amidst all this talk about foreclosure is the fact that lenders generally don’t want to foreclose. The banks don’t want an illiquid real property; they want the steady stream of cash that comes from people making their mortgage payments. Foreclosure is about cutting losses, not expanding revenues.
The problem is that people keep trying to attach moral values to what are, fundamentally, business decisions. There’s nothing inherently right or wrong about debt or property; the moral outrage is misplaced.
March 22nd, 2007 at 3:54 pm
The borrowers. I hate the fact that our society allows people to blame everyone but themselves. There is no such thing as personal responsiblity. What you say? Well if it’s not the subprimer lenders, it’s the predatory Credit Card Companies. Oh my, that someone should realize after 1 year that they are paying Interest to a CC. Oh my gosh, that someone should realize that CC are spending money you have to pay back? It’s free?
Like an Arm. Not a bad mortgage, but people don’t get that you have to realize the purpose for it?
No personal responsiblity.
March 22nd, 2007 at 4:48 pm
The blame should be shared, but I would tend towards blaming the borrowers more. Just because the marketplace allows one to make stupid financial decisions doesn’t mean that they have to do so.
Did anyone read the WSJ story today entitled “Regulators Scrutinized In Mortgage Meltdown”? I don’t have online access, but later in the story it tells an anecdote about an older lady who sued her bank because she couldn’t afford the balloon payment. The bank actually settled without admitting fault, and forgave the balance of the loan! I saw this at work today, and it burned me up to read it. Is anyone here able to reprint this part of the article?
March 22nd, 2007 at 5:17 pm
I don’t see how you can place the blame primarily on either party. These are, by their nature, voluntary transactions, and therefore the responsibility should be shared equally between the lender and the lendee. For borrower who defaults, there has to be a myopic lender handing the pen over for signature.
March 22nd, 2007 at 6:16 pm
Well — I think it’s largely the borrower’s responsibility/fault. At least until the day when they start holding a gun to your head and telling you that you MUST sign this mortgage.
There is responsibility/fault on the part of lenders too — I think they make it difficult to understand and when they have a particular flavor of the month mortgage that they want to sell, they will do a pretty sweet job of it.
But ultimately, the buck stops with the individual. Corporations and mortgage lenders can push products endlessly at us — that’s sort of their point for existing. We do not have to buy however. We can resist being the grinding slave to consumerism.
I’ve made a lot of bad decisions in my life (and I take responsibility for them.) One of the BEST ones I made was a few years ago when I was actively shopping for a mortgage. I was scared that I’d lose out on the insanely low interest rate at the time. In the end, I chose to stop my efforts to buy a house then because I just didn’t like the terms under which I would be purchasing. (0 down, ARM — I couldn’t get anybody to talk to me about a fixed rate mortgage, and I couldn’t find any properties I liked that had a payment I was comfortable with).
I think it was the most responsible decision I’ve made in my life not to buy when I so desperately wanted to — I certainly couldn’t have paid off the debt I have if I’d bought the house then. Someday, my house will come.
db
http://www.debtblitzkrieg.com
March 22nd, 2007 at 7:09 pm
You forgot to mention all of the loan officers and brokers on the lender side who assured all of the sub prime borrowers that if they budget 100% of their income they will do just fine. Forget situational expenses or increases in costs of living over time. I have even heard of loan officers transfering large sums of money into borrower’s bank account for a few days to inflate their debt to income ratio when the banks check. It’s all of the shady salesmen who got both the lenders and the borrowers into this mess.
March 22nd, 2007 at 8:03 pm
Waaaay back when we bought our first home we hired an attorney to review everything and accompany us to the closing. We really couldn’t afford his fees but, in the end, it was worth it. If you don’t understand what you’re signing, get help! That’s the best advice I can give.
March 23rd, 2007 at 4:44 am
I disagree with Ben Stein and agree with Alan Greenspan that this will spread.
As far as where the blame goes, I think there’s enough to spread around to lenders, RE agents, (former) homeowners, and the institutional mortgage bundle buyers. And no one would have been caught had not the rates been raised at the same time as the job market remained relatively sluggish for the lower paid, and the RE bubble hadn’t burst.
Everyone knows someone, first hand or second hand, who can relate some questionable lending practices. Couple that with consumer pressure, greed on all sides, and you get a financial perfect storm.
As they say, you can’t tell who’s swimming nekid until the tide goes out.
March 23rd, 2007 at 7:32 am
Wait a sec… she applies for a loan with false information on it, because she had already been rejected twice when applying with her actual info, and sues the bank because they believed her? I do feel bad for her - she was pretty clearly taken advantage of by her contractor and the broker - but just about the only criticism I have of the bank is that they should have verified her application before approving the loan. Also, didn’t the broker who submitted that application commit fraud when he ‘helped’ her apply for the loan with the false information?
March 23rd, 2007 at 2:10 pm
As many have said above, both the borrowers and lenders got in over their heads. However they’re responsible for different problems.
In the individual cases where a borrower has to default, it’s usually they’re problem for not being financially knowledgeable (discounting surprises like having to suddenly take care of 16 nieces and nephews or some such).
The larger problem however, that some see as potentially starting a recession, is with lenders going under; that’s entirely the lenders fault for not accounting for the amount of risk inherent in the loans they were giving out.
March 23rd, 2007 at 6:04 pm
Adam -
You couldn’t be more wrong. There are many instances where a borrow will have less than perfect credit, be in over their head with outgo, and borrow from a subprime lender to consolidate debt. I encounter them every day. To minimize their outgo, an ARM is often a good solution. It is a good solution PROVIDED THEY BUDGET THEIR INCOME AS I ADVISE. During the fixed period, they can increase their credit scores in order to qualify for a fixed rate mortgage when their ARM is due to adjust (again, if they follow my advice). The problem is that our society has people fixated on “keeping up with the Joneses” and living way beyond their means. Are there the occasional “situational expenses”? Sure, but they are few and far between. Far more people pay off all of their credit card debt only to max out their cards again within a year. The “increases in costs of living over time” are negligable; we’re talking about 2-3 years here typically. COL doesn’t increase that much in such a short period.
You wrote, “I have even heard of loan officers transfering large sums of money into borrower’s bank account for a few days to inflate their debt to income ratio when the banks check.”
If this is true, then yes, that is shady. I tend not to believe it though, because a borrower’s bank account balance doesn’t typically come into play with their DTI. And even if it did, lenders (at least the ones I deal with) will require the funds to be seasoned for up to 60 days.
Brokers and lenders do have responsibility to not write bad loans (MTA options…I have never sold a single one. There are only a FEW RARE cases in which one might be advised). However the borrower has far more responsibility to manage their own finances. We live in a society that is far too materialistic, and people constantly spend much more than they should. That is the problem; not lenders, and not brokers.
March 23rd, 2007 at 7:14 pm
Who’s to blame, the drug dealers or the drug addicts?
I feel that both the lenders and the borrowers are reaping what they sowed. Both got greedy. Nobody made the lenders give out their money, nobody made the borrowers take it.
March 25th, 2007 at 7:00 am
I had this whole long post written and it comes down to this:
Jeremy is right. It’s both parties - lenders knew the risk of the sub-prime loan. Borrowers think that pleading ignorance will save their butts (and then sue when they find out it’s not a magical world we live in).
Plain and simple - if I *was* to purchase a $250,000 home (or a $60,000 home for that matter), I’d be doing a lot of homework on it unless I was paying it full, in my *own* cash.
March 27th, 2007 at 10:50 am
I replied extensively to this post here:
http://gamingthecreditsystem.blogspot.com/2007/03/re-jlps-subprime-lender-mess-question.html
March 28th, 2007 at 1:00 pm
[...] Similar concerns about consumer attitudes are expressed by JLP @ AllFinancialmatters; by Paul @ Extreme Perspective ; and by Gaming the Credit System. [...]
April 15th, 2007 at 8:13 am
[...] This was the Question of the Day a few weeks ago. Today I found this article by Les Christie over on the Yahoo! Personal Finance website that listed several culprits of the subprime lending woes: [...]