A broad rewrite of financial rules will make it tougher to get a mortgage, but Congress may not be going far enough to crack down on the easy home loans at the heart of the financial meltdown.

Lawmakers negotiating final changes to a sweeping overhaul of Wall Street's rules last week melded housing-related provisions from competing financial reform bills from the Senate and the House of Representatives, taking one more step to finalizing stricter rules for home loans.

The private mortgage industry has all but dried up in the wake of the 2007-2009 financial crisis, with close to 97 percent of all new mortgages now directly or indirectly supported by the government.

Lawmakers, lenders and consumer advocates alike hope the new rules, which look certain to be approved along with the wider-ranging package of reforms, begin the process of normalizing the housing market.

But analysts are uncertain the degree to which the provisions would attack the risky lending practices that helped fuel the housing bubble.

Mark Zandi, an economist at Moody's Economy.com, says one of the main housing-related provisions in the legislation, is unlikely to play a big role in discouraging loose lending.

The provision, known skin-in-the-game, forces loan originators and securitizers to retain in their portfolios at least 5 percent of the value of loans, rather than shifting all of the risk down the food chain as the debt gets resold.

Proponents say forcing those who make the loans to retain some of the risk creates an incentive that should help make sure the underlying loans are ones that can be paid back.

Zandi, however, said just because a firm keeps risks on its balance sheet does not necessarily mean the lending would be sound. Just look at Bear Stearns, Lehman Brothers, AIG. They were all eating what they were cooking, he said.

John Taylor, president of the National Community Reinvestment Coalition, said the legislation glaringly does not directly address the conflict-of-interest issues related to how ratings agencies are paid.

Taylor, who heads an association of community-based groups that promote access to basic banking services for working families, and other critics contend that a system in which a debt issuer is rated by a company it hires allowed risky mortgage debt to be sold as AAA-rated.

If we don't create an arms-length transaction, we will have the same problem in the future, Taylor said.

Lawmakers hammering out the final financial reform bill decided on Tuesday to delete a measure that would have set up a government clearing house to assign structured debt offerings to ratings agencies on a semi-random basis.

Instead, the bill will instruct regulators to study how best to address conflicts of interest, and a clearinghouse would only be set up if they can't find a better approach.

If this Congress can't come up with a very strong bill, when in the heck are they going to? Taylor said.

IGNORING FANNIE MAE AND FREDDIE MAC

Andrew Caplin, an economist at New York University and a vocal critic of the Obama administration's housing policies, said the government continues to over-subsidize the housing market, supporting loans that should not be made.

They've cornered the market entirely and they don't know how to get out, Caplin said, adding that relatively easy-to-obtain loans from the Federal Housing Administration were crowding out private mortgage insurance. FHA-backed loans represent about 30 percent of new mortgages, up from just a few percent at the height of the U.S. housing bubble.

Caplin noted that the financial regulation legislation under consideration says nothing about the elephant in the room, referring to Fannie Mae (FNM.N) and Freddie Mac (FRE.N), the government-controlled mortgage finance giants, which own or guarantee about two-thirds of the U.S. mortgage market.

In his eyes, both entities are helping to support lending that private markets on their own would not.

Congress is expected to overhaul the entire U.S. housing finance system, including Fannie Mae and Freddie Mac, next year.

THE END OF LIAR LOANS

The congressional panel negotiating the final Wall Street reform bill kicked off talks last week, but it is not expect to turn to mortgage-specific provisions until next week.

The Democrats leading the charge hope to get a bill to President Barack Obama to sign into law by July 4.

While the mortgage measures fall short in the eyes of many, consumer advocates do welcome a number provisions that should provide a greater level of protection for borrowers.

Julia Gordon, senior policy counsel at the Center for Responsible Lending, said it would have been unthinkable for a financial reform bill to move forward without addressing abusive lending practices.

Borrowers should not have to be worried about some kind of trick when they are applying for a home loan, she said.

One provision would make it more difficult for independent mortgage brokers and retail loan officers to steer borrowers into high-priced loans they cannot afford.

Borrowers would be required to show documentation proving their income and ability to repay the loan, eliminating the no-documentation loans known as liar loans and ninja loans that proved popular as the housing bubble was building.

Pre-payment penalties would be banned on subprime loans, which were the main culprit behind the crisis.

The language under consideration also bans so-called yield spread premiums, which allowed originators to collect higher commissions for loans with higher interest rates, often without the borrower knowing about it.

Borrowers could still pay some broker fees through a higher interest rate loan, but the borrower would have to choose to pay that rate and the originator could not simultaneously charge the lender for those fees, as was often the case.

The law, if approved, would also introduce the concept of a qualified mortgage, pushed by House Financial Services Committee Chairman Barney Frank, the Democrat who is chairing the negotiating sessions.

A qualified mortgage would have to meet certain conditions and any borrowers who sought to sue their lender for unfair treatment would have a much harder case to make.

Interest-only loans, balloon payments, and loans that give the borrower multiple payment options would not be allowed under so-called qualified mortgages, though they would be allowed under non-qualified mortgages.

Pre-payment penalties would also be prohibited in qualified mortgages.

(Additional reporting Andy Sullivan in Washington; Editing by Leslie Adler)

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