Lending Practices Target of Crackdown

"Effective consumer protection can help to restore confidence in the mortgage markets and help to preserve the flow of capital to consumers who wish to purchase a home," Federal Reserve Governor Randall Kroszner said in a speech to a conference of Hispanic real-estate executives here.

Under fire from Congress for being too lax in its oversight, the Fed has proposed a sweeping rule to protect homeowners from dubious lending practices. Subprime borrowers - those with tarnished credit histories or low incomes - have been hurt the most, although problems have spread to more credit-worthy borrowers.

The Fed's proposal is aimed at preventing prospective homebuyers from getting burned in the future when they take out a mortgage.

On this front, the Fed has a proposal that would: restrict lenders from penalizing risky borrowers who pay loans off early;, require lenders to make sure these borrowers set aside money to pay for taxes and insurance; and bar lenders from making loans without proof of a borrower's income.

It also would prohibit lenders from engaging in a pattern or practice of lending without considering a borrower's ability to repay a home loan from sources other than the home's value. The proposal would curtail misleading ads for many types of mortgages and bolster financial disclosures to borrowers.

"Substantial anecdotal evidence indicates that failing to verify (a borrower's) income invited fraud," said Kroszner, who has been the Fed's point person on the consumer protection provisions.

If ultimately adopted, the plan would apply to new loans made by thousands of lenders of all types, including banks and brokers. Thus, enforcement of the provisions would depend not only on the Fed but also on other federal and state regulators.

"It is not too early to emphasize that the effectiveness of the final rule will depend critically on effective enforcement," Kroszner said. "The Federal Reserve will do its part."