The subprime blues

Congress, legislature should get over them

Published April 26, 2007 at midnight

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Because of many bad loans and higher foreclosure rates, mortgage reform legislation is all the rage among state and federal officials.

Colorado is no exception. One of the measures working its way through the process is Senate Bill 216, which would impose fines on mortgage brokers who induce borrowers into deals they can't handle.

Or, as the bill puts it, brokers who promote loans that do not have "a reasonable, tangible net benefit to the borrower." The legislature would leave it to the director of the division of real estate to determine what constitutes a "reasonable, tangible net benefit."

The bill is aimed primarily at brokers making nontraditional, "subprime" home loans. These often involve adjustable rate mortgages where the initial low payments that tempted the borrowers into the transactions suddenly grow exponentially, well beyond their capacity to handle them.

Obviously mortgage brokers should be candid and straightforward in their dealings with would-be homebuyers. But will the new penalties and accompanying civil liability also discourage lenders from making what could be good loans to seniors and those with less than ideal credit?

Bill opponents like Sen. Shawn Mitchell, R-Broomfield, say yes. They argue that the bill amounts to "economic redlining" that hurts weaker borrowers.

Alex Tabarrok, a professor at George Mason University, coined a phrase that describes those who want to use penalties and civil liability to "protect" lesser borrowers from the possibility of home loans: "credit snobs."

They don't believe ordinary folks can handle credit, according to an article in The Wall Street Journal, and when the borrowers default, so-called predatory lenders are presumably to blame.

Of course predatory lenders, to the extent they exist, aren't the only problem for the industry. So are borrowers who inflate their income and assets in order to secure a loan. But they're not singled out in the bill.

A bigger threat than the fines on bad brokers is the possibility of increased civil liability on everyone involved. Plenty of legal sharks will be in the swim, waiting to sue the deepest pockets involved in a bad loan.

Although this is hard for some politicians to believe, the market itself would straighten out the default and repossession problem. Sure, loans became easier when some entrepreneur decided to bundle principal and interest payments into securities and sell them to investors, but if enough of these investment packages go bad, Wall Street will lose its taste for them.

Like it or not, S.B. 216 seems headed down the track and is likely to become law. We can only hope that it doesn't put too much of a crimp in the home-buying market, and that lawmakers won't have to come back in a year or two and liberalize the rules once again.

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