Belinda and Kenneth Anderson of Denver have lived in their home for the past six years. They bought the house with a 30-year, 7.0% interest rate mortgage with monthly payments of a little over $1,000. In 1998, they took out a second mortgage with their credit union, which had an interest rate of around 9% and monthly payments of $325. Their home is currently appraised at $225,000.

The Andersons’ first contact with Beneficial, which is owned and run by Household Finance, came around obtaining some personal loans. When they wanted to consolidate some bills with their second mortgage, they went back to Beneficial in November 2000, when the loan officer convinced them to consolidate their first ($123,324) and second ($27,684) mortgages, along with their Beneficial personal loan ($12,202) and a cash-out of $27,827 to make a down payment on a truck, fix up their basement, and pay some other bills. The loan amount of $208,084 produced monthly payments of $2,242 and an interest rate of 12.6%; he said they could get a reduced interest rate after six months, but when that time had passed he kept putting them off. The Andersons were never told about the $15,286 in Beneficial’s fees and $841 in third-party charges that were financed into the loan. They explicitly asked whether there was a prepayment penalty and were assured that there wasn’t only to later find that they were locked into the loan by a five-year prepayment penalty for six months interest, or around $13,000.

Beneficial enrolled the Andersons in the EZ Pay Plus program, in which payments are automatically deducted biweekly from their checking account. In August, an extra deduction was taken out of their account, and finance and late charges began accumulating on their loan even as they kept up with the normal payments. At the end of 2001, they finally had to refinance again with Beneficial, adding all of the extra charges into their loan amount, which now increased to over $213,000 and the payments are now $2,305. The length of the refinanced loan’s prepayment penalty has been reduced to three years – in line with Household’s new standard that was adopted in response to public pressure about their predatory lending practices – but the amount of the penalty remains six months interest. The new loan contains the same interest rate of 12.6%, and Beneficial keeps telling them it will be lowered six months or a year down the road.

The Andersons have tried to refinance with banks to more reasonable rates but are prevented by the combination of their high loan-to-value ratio and the prepayment penalty. Now they are having to make big sacrifices to meet their mortgage payment of $2,305 each month on their combined monthly take-home pay of $3,600 from her work as a financial consultant for a retirement company and his work in the computer industry.

The above family is just one of the millions of unsuspecting homeowners and homebuyers who have been robbed by predatory lenders – mortgage and finance companies which make loans with high interest rates, exorbitant fees, and harmful terms, often through fraudulent and deceptive methods. Elderly homeowners, communities of color, and low-income neighborhoods are the most severely impacted by these practices.

Despite increased awareness of the issue and some modest progress over the last year in combating the problem, predatory lending has continued, as these modern day loan sharks sink their teeth into new prey every day. In 2000, for the seventh consecutive year, home prices nationally rose at a greater rate than general inflation, exacerbating the problem by making more homeowners targets for predatory lenders intent on stripping their equity¹.

Nationally, the number of subprime loans has skyrocketed since the early 1990s, as the number of other loans has fallen sharply. There were just over 100,000 home purchase and refinance loans in 1993, which grew to almost a million subprime loans in 1999, falling some to almost 900,000 subprime loans last year. But that 11% decline in the number of subprime loans from 1999 to 2000 was less than half the 23% decrease in the number of all other home purchase and refinance loans between those two years.

The rise in subprime and predatory lending has been most dramatic in minority communities. Subprime lenders now account for half, 51 percent, of all refinance loans made in predominantly black neighborhoods, compared to just 9 percent of the refinance loans made in predominantly white neighborhoods². Subprime lending, with its higher prices and attendant abuses, is becoming the dominant form of lending in minority communities. At the same time, although minority communities suffer from an extreme concentration of higher cost, harmful loans, the problem should not be viewed as one that only affects minorities, for the vast majority of borrowers in subprime loans, and thus predatory lending victims, are white.

While not all subprime lenders are predatory, just about all predatory loans are subprime, and the subprime industry is a fertile breeding ground for predatory practices. Subprime loans are intended for people who are unable to obtain a conventional prime loan at the standard bank rate. The loans have higher interest rates to compensate for the potentially greater risk that these borrowers represent. There is a legitimate place for flexible loan products for people whose credit or other circumstances will not permit them to get loans on “A” terms. Predatory lending occurs when loan terms or conditions become abusive or when borrowers who would qualify for credit on better terms are targeted instead for higher cost loans. Unfortunately, these problems pervade too much of the subprime industry. For instance, Household Finance, which holds 10% of the subprime market, routinely overcharges its customers with high interest rates and fees, deceptively sells them credit insurance, and imposes severe prepayment penalties.

Fannie Mae has estimated that as many as half of all borrowers in subprime loans could have instead qualified for a lower cost mortgage, which could save a borrower more than $200,000 over the life of a thirty year loan³. Freddie Mac suggested a somewhat lower, but still extremely large figure – that as many as 35 percent of borrowers who obtained mortgages in the subprime market could have qualified for a prime loan⁴.

Too often these higher rate loans are also loaded with abusive features – high fees, large and extended prepayment penalties, financed single premium credit insurance – which cost borrowers even more money, and can lock them into the higher rates. When a borrower with good credit in a high rate loan is also charged inflated up front fees, assessed a prepayment penalty, and/or sold financed single premium credit insurance, it often leaves them without enough equity to refinance into a loan at fairer rates.

Those borrowers who are not in a position to qualify for an “A” loan are also routinely overcharged in the subprime market, with rates and fees which reflect what a lender or broker thought they could get away with, rather than any careful assessment of the actual credit risk. These loans too are often loaded with additional abusive features like financed credit insurance, hidden balloon payments, and mandatory arbitration clauses. As a result, such borrowers also find themselves trapped in high rate loans even once they have improved their credit. Many borrowers are also repeatedly solicited, and repeatedly refinanced into high rate loans, losing equity through every transaction.

Predatory lending practices are even more insidious because they specifically target members of our society who can least afford to be stripped of their equity or life savings, and have the fewest resources to fight back when they have been cheated. Subprime lending is disproportionately concentrated among minority, low-income, and elderly homeowners.

Many in the lending industry argue that the disproportionate concentration of subprime loans among low-income and minority borrowers is only a reflection of the greater risk that these borrowers represent based on their lower credit ratings. However, Fannie Mae has stated that the racial and economic disparities in subprime lending cannot be justified by credit quality alone. According to Fannie, loans to lower-income customers perform the same as loans to upper-income customers. In addition, the level of disparity presented in studies which showed that black households had more credit problems than white households was not even close to the level of disparity seen in subprime lending⁵.

Predatory lending threatens to reverse the progress that has been made in increasing homeownership rates among minority and lower income families. Many in the subprime industry like to portray their primary role as helping families realize the American dream of homeownership; however, the vast majority of subprime loans are refinances and home equity loans to existing homeowners, not purchase loans. More than two-thirds (67%) of the reported home loans made by subprime lenders were for refinance or home equity loans.

While it is important for homeowners to be able to use the equity in their homes to meet financial needs, predatory lenders bombard homeowners in many communities with refinance offers that lead to loans at high rates, with inflated fees, and other abusive terms. By stripping equity, increasing indebtedness, and even costing families their homes, these practices cause homeowners to lose their equity, rather than use it.

Furthermore, when we do examine the subprime industry’s role in the home purchase market, there is additional cause for concern. From 1993 to 1995 there was a substantial increase in prime home purchase loans to minorities. Since then, however, the number of prime loans has stagnated, while the number of subprime purchase loans has skyrocketed. From 1995 to 2000 the number of subprime purchase loans to African-American homebuyers rose 714%, while the number of prime conventional purchase loans to African-American homebuyers actually fell 2.5% during this period.

This, along with the data from Fannie Mae and Freddie Mac mentioned above, suggests that higher cost subprime loans are replacing rather than supplementing lower cost “A” credit, even for borrowers who could and should qualify for A loans. When buyers who should be eligible for loans at good interest rates are instead steered towards subprime lenders, they end up paying hundreds of dollars more each month than they would with a prime loan, and the higher interest rates and added fees deprive these homeowners of a fair opportunity to build equity. In the worst cases, the high interest and fees are only the tip of a predatory lending iceberg in which the loan also contains harmful terms, and the combination of these factors increase the likelihood of foreclosure.

In addition, subprime purchase loans are the financing mechanism of choice for carrying out “property flipping” scams, which unfortunately have become all too common an occurrence in a number of cities. Property flipping involves the purchase of distressed properties at a negligible price, and then, after minimal cosmetic or even no repairs, the property is sold at prices far above their actual worth. The victims of property flipping are often unsuspecting low-income, minority first-time homebuyers.

The damage that predatory lending inflicts on our communities cannot be underestimated. Homeownership provides the major source of wealth for low-income and minority families. Rather than strengthening neighborhoods by providing needed credit based on this accumulated wealth, predatory lenders have contributed to the further deterioration of neighborhoods by stripping homeowners of their equity and overcharging those who can least afford it, leading to foreclosures and vacant houses⁶.

The last few years have seen a growing recognition of the serious problem posed by predatory lending, and an increasing effort to begin to address it. Among the encouraging developments are legislation to combat predatory lending enacted or under consideration in cities and states around the country. On the Federal level, while the Federal Reserve Board has yet to act on the proposed rule it put out for comment last year, the first major hearings held by the new Chairman of the Senate Banking Committee, Senator Paul Sarbanes (D-MD), this summer were on predatory lending.

In an effort to demonstrate that they were “cleaning up their own acts” prior to the Senate hearings, and in response to continuing pressure from community organizations and advocates, some of the nation’s largest subprime lenders, including Citigroup and Household Finance, announced they would end one of their predatory practices and no longer finance single-premium credit insurance policies into mortgages.

Earlier this year, the Federal Trade Commission charged the Associates, the nation’s largest subprime lender and now owned by Citigroup, with massive violations of at least five federal laws in a case which the FTC estimates could cost the Associates $500 million.

Despite these developments, the problem of predatory lending has yet to be significantly curtailed in most parts of the country. While the FTC’s case against Associates is important, other large lenders routinely engage in similar conduct without scrutiny from state or federal regulators; the voluntary changes made by companies thus far leave most abuses in place; and too many in the mortgage industry have used high-paid lobbyists and large campaign contributions to vigorously oppose anti-predatory lending legislation. Meanwhile, predatory lenders continue to reap their profits, ravaging low-income and minority communities and leaving a wake of destruction in their path.

Table of Contents | The Costs of Predatory Lending in Colorado

1. Harvard University Joint Center for Housing Studies, “The State of the Nation’s Housing: 2000.”

2. “Curbing Predatory Home Mortgage Lending: A Joint Report,” June 2000, U.S. Department of Treasury and U.S. Department of Housing and Development.

3. “Financial Services in Distressed Communities,” Fannie Mae Foundation, August 2001.

4. “Automated Underwriting,” Freddie Mac, September 1996.

5. “Financial Services in Distressed Communities,” Fannie Mae Foundation, August 2001.

6. “Equity Strippers,” Pennsylvania ACORN, May 2000; “Preying on Neighborhoods,” National Training and Information Center, September 1999; “Unequal Burden in Baltimore,” HUD, May 2000.