Wednesday, 

July 30, 2008 

Part III 

Federal Reserve 

System 

12 CFR Part 226 

Truth in Lending; Final Rule 


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44522 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

FEDERAL RESERVE SYSTEM 

12 CFR Part 226 

[Regulation Z; Docket No. R–1305] 

Truth in Lending 

AGENCY: Board of Governors of the 

Federal Reserve System. 

ACTION: Final rule; official staff 

commentary. 

SUMMARY: The Board is publishing final 

rules amending Regulation Z, which 

implements the Truth in Lending Act 

and Home Ownership and Equity 

Protection Act. The goals of the 

amendments are to protect consumers in 

the mortgage market from unfair, 

abusive, or deceptive lending and 

servicing practices while preserving 

responsible lending and sustainable 

homeownership; ensure that 

advertisements for mortgage loans 

provide accurate and balanced 

information and do not contain 

misleading or deceptive representations; 

and provide consumers transactionspecific disclosures early enough to use 

while shopping for a mortgage. The final 

rule applies four protections to a newlydefined category of higher-priced 

mortgage loans secured by a consumer’s 

principal dwelling, including a 

prohibition on lending based on the 

collateral without regard to consumers’ 

ability to repay their obligations from 

income, or from other sources besides 

the collateral. The revisions apply two 

new protections to mortgage loans 

secured by a consumer’s principal 

dwelling regardless of loan price, 

including a prohibition on abusive 

servicing practices. The Board is also 

finalizing rules requiring that 

advertisements provide accurate and 

balanced information, in a clear and 

conspicuous manner, about rates, 

monthly payments, and other loan 

features. The advertising rules ban 

several deceptive or misleading 

advertising practices, including 

representations that a rate or payment is 

‘‘fixed’’ when it can change. Finally, the 

revisions require creditors to provide 

consumers with transaction-specific 

mortgage loan disclosures within three 

business days after application and 

before they pay any fee except a 

reasonable fee for reviewing credit 

history. 

DATES: This final rule is effective on 

October 1, 2009, except for 

§ 226.35(b)(3)) which is effective on 

April 1, 2010. See part XIII, below, 

regarding mandatory compliance with 

§ 226.35(b)(3) on mortgages secured by 

manufactured housing. 

FOR FURTHER INFORMATION CONTACT: 

Kathleen C. Ryan or Dan S. Sokolov, 

Counsels; Paul Mondor, Senior 

Attorney; Jamie Z. Goodson, Brent 

Lattin, Jelena McWilliams, Dana E. 

Miller, or Nikita M. Pastor, Attorneys; 

Division of Consumer and Community 

Affairs, Board of Governors of the 

Federal Reserve System, Washington, 

DC 20551, at (202) 452–2412 or (202) 

452–3667. For users of 

Telecommunications Device for the Deaf 

(TDD) only, contact (202) 263–4869. 

SUPPLEMENTARY INFORMATION: 

I. Summary of Final Rules 

A. Rules To Prevent Unfairness, Deception, 

and Abuse 

B. Revisions To Improve Mortgage 

Advertising 

C. Requirement To Give Consumers 

Disclosures Early 

II. Consumer Protection Concerns in the 

Subprime Market 

A. Recent Problems in the Mortgage Market 

B. Market Imperfections That Can 

Facilitate Abusive and Unaffordable 

Loans 

III. The Board’s HOEPA Hearings 

A. Home Ownership and Equity Protection 

Act (HOEPA) 

B. Summary of 2006 Hearings 

C. Summary of June 2007 Hearing 

D. Congressional Hearings 

IV. Interagency Supervisory Guidance 

V. Legal Authority 

A. The Board’s Authority Under TILA 

Section 129(l)(2) 

B. The Board’s Authority Under TILA 

Section 105(a) 

VI. The Board’s Proposal 

A. Proposals To Prevent Unfairness, 

Deception, and Abuse 

B. Proposals To Improve Mortgage 

Advertising 

C. Proposal To Give Consumers 

Disclosures Early 

VII. Overview of Comments Received 

VIII. Definition of ‘‘Higher-Priced Mortgage 

Loan’’—§ 226.35(a) 

A. Overview 

B. Public Comment on the Proposal 

C. General Approach 

D. Index for Higher-Priced Mortgage Loans 

E. Threshold for Higher-Priced Mortgage 

Loans 

F. The Timing of Setting the Threshold 

G. Proposal To Conform Regulation C 

(HMDA) 

H. Types of Loans Covered Under § 226.35 

IX. Final Rules for Higher-Priced Mortgage 

Loans and HOEPA Loans 

A. Overview 

B. Disregard of Consumer’s Ability To 

Repay—§§ 226.34(a)(4) and 226.35(b)(1) 

C. Prepayment Penalties—§ 226.32(d)(6) 

and (7); § 226.35(b)(2) 

D. Escrows for Taxes and Insurance— 

§ 226.35(b)(3) 

E. Evasion Through Spurious Open-End 

Credit—§ 226.35(b)(4) 

X. Final Rules for Mortgage Loans—§ 226.36 

A. Creditor Payments to Mortgage 

Brokers—§ 226.36(a) 

B. Coercion of Appraisers—§ 226.36(b) 

C. Servicing Abuses—§ 226.36(c) 

D. Coverage—§ 226.36(d) 

XI. Advertising 

A. Advertising Rules for Open-End HomeEquity Plans—§ 226.16 

B. Advertising Rules for Closed-End 

Credit)—§ 226.24 

XII. Mortgage Loan Disclosures 

A. Early Mortgage Loan Disclosures— 

§ 226.19 

B. Plans To Improve Disclosure 

XIII. Mandatory Compliance Dates 

XIV. Paperwork Reduction Act 

XV. Regulatory Flexibility Analysis 

I. Summary of Final Rules 

On January 9, 2008, the Board 

published proposed rules that would 

amend Regulation Z, which implements 

the Truth in Lending Act (TILA) and the 

Home Ownership and Equity Protection 

Act (HOEPA). 73 FR 1672. The Board is 

publishing final amendments to 

Regulation Z to establish new regulatory 

protections for consumers in the 

residential mortgage market. The goals 

of the amendments are to protect 

consumers in the mortgage market from 

unfair, abusive, or deceptive lending 

and servicing practices while preserving 

responsible lending and sustainable 

homeownership; ensure that 

advertisements for mortgage loans 

provide accurate and balanced 

information and do not contain 

misleading or deceptive representations; 

and provide consumers transactionspecific disclosures early enough to use 

while shopping for mortgage loans. 

A. Rules To Prevent Unfairness, 

Deception, and Abuse 

The Board is publishing seven new 

restrictions or requirements for 

mortgage lending and servicing 

intended to protect consumers against 

unfairness, deception, and abuse while 

preserving responsible lending and 

sustainable homeownership. The 

restrictions are adopted under TILA 

Section 129(l)(2), which authorizes the 

Board to prohibit unfair or deceptive 

practices in connection with mortgage 

loans, as well as to prohibit abusive 

practices or practices not in the interest 

of the borrower in connection with 

refinancings. 15 U.S.C. 1639(l)(2). Some 

of the restrictions apply only to higherpriced mortgage loans, while others 

apply to all mortgage loans secured by 

a consumer’s principal dwelling. 

Protections Covering Higher-Priced 

Mortgage Loans 

The Board is finalizing four 

protections for consumers receiving 

higher-priced mortgage loans. These 

loans are defined as consumer-purpose, 

closed-end loans secured by a 

consumer’s principal dwelling and 


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Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 44523 

1See Board and FDIC, CA 04–2, Unfair Acts or 

Practices by State-Chartered Banks (March 11, 

2004), available at http://www.federalreserve.gov/ 

boarddocs/press/bcreg/2004/20040311/ 

attachment.pdf. 

having an annual percentage rate (APR) 

that exceeds the average prime offer 

rates for a comparable transaction 

published by the Board by at least 1.5 

percentage points for first-lien loans, or 

3.5 percentage points for subordinatelien loans. For higher-priced mortgage 

loans, the final rules: 

Æ Prohibit creditors from extending 

credit without regard to a consumer’s 

ability to repay from sources other than 

the collateral itself; 

Æ Require creditors to verify income 

and assets they rely upon to determine 

repayment ability; 

Æ Prohibit prepayment penalties 

except under certain conditions; and 

Æ Require creditors to establish 

escrow accounts for taxes and 

insurance, but permit creditors to allow 

borrowers to cancel escrows 12 months 

after loan consummation. 

In addition, the final rules prohibit 

creditors from structuring closed-end 

mortgage loans as open-end lines of 

credit for the purpose of evading these 

rules, which do not apply to open-end 

lines of credit. 

Protections Covering Closed-End Loans 

Secured by Consumer’s Principal 

Dwelling 

In addition, in connection with all 

consumer-purpose, closed-end loans 

secured by a consumer’s principal 

dwelling, the Board’s rules: 

Æ Prohibit any creditor or mortgage 

broker from coercing, influencing, or 

otherwise encouraging an appraiser to 

provide a misstated appraisal in 

connection with a mortgage loan; and 

Æ Prohibit mortgage servicers from 

‘‘pyramiding’’ late fees, failing to credit 

payments as of the date of receipt, or 

failing to provide loan payoff statements 

upon request within a reasonable time. 

The Board is withdrawing its proposal 

to require servicers to deliver a fee 

schedule to consumers upon request; 

and its proposal to prohibit creditors 

from paying a mortgage broker more 

than the consumer had agreed in 

advance that the broker would receive. 

The reasons for the withdrawal of these 

two proposals are discussed in parts 

X.A and X.C below. 

Prospective Application of Final Rule 

The final rule is effective on October 

1, 2009, or later for the requirement to 

establish an escrow account for taxes 

and insurance for higher-priced 

mortgage loans. Compliance with the 

rules is not required before the effective 

dates. Accordingly, nothing in this rule 

should be construed or interpreted to be 

a determination that acts or practices 

restricted or prohibited under this rule 

are, or are not, unfair or deceptive 

before the effective date of this rule. 

Unfair acts or practices can be 

addressed through case-by-case 

enforcement actions against specific 

institutions, through regulations 

applying to all institutions, or both. A 

regulation is prospective and applies to 

the market as a whole, drawing bright 

lines that distinguish broad categories of 

conduct. By contrast, an enforcement 

action concerns a specific institution’s 

conduct and is based on all of the facts 

and circumstances surrounding that 

conduct.1

Because broad regulations, such as the 

rules adopted here, can require large 

numbers of institutions to make major 

adjustments to their practices, there 

could be more harm to consumers than 

benefit if the rules were effective 

immediately. If institutions were not 

provided a reasonable time to make 

changes to their operations and systems 

to comply with this rule, they would 

either incur excessively large expenses, 

which would be passed on to 

consumers, or cease engaging in the 

regulated activity altogether, to the 

detriment of consumers. And because 

the Board finds an act or practice unfair 

only when the harm outweighs the 

benefits to consumers or to competition, 

the implementation period preceding 

the effective date set forth in the final 

rule is integral to the Board’s decision 

to restrict or prohibit certain acts or 

practices. 

For these reasons, acts or practices 

occurring before the effective dates of 

these rules will be judged on the totality 

of the circumstances under other 

applicable laws or regulations. 

Similarly, acts or practices occurring 

after the rule’s effective dates that are 

not governed by these rules will 

continue to be judged on the totality of 

the circumstances under other 

applicable laws or regulations. 

B. Revisions To Improve Mortgage 

Advertising 

Another goal of the final rules is to 

ensure that mortgage loan 

advertisements provide accurate and 

balanced information and do not 

contain misleading or deceptive 

representations. Thus the Board’s rules 

require that advertisements for both 

open-end and closed-end mortgage 

loans provide accurate and balanced 

information, in a clear and conspicuous 

manner, about rates, monthly payments, 

and other loan features. These rules are 

adopted under the Board’s authorities 

to: adopt regulations to ensure 

consumers are informed about and can 

shop for credit; require that information, 

including the information required for 

advertisements for closed-end credit, be 

disclosed in a clear and conspicuous 

manner; and regulate advertisements of 

open-end home-equity plans secured by 

the consumer’s principal dwelling. See 

TILA Section 105(a), 15 U.S.C. 1604(a); 

TILA Section 122, 15 U.S.C. 1632; TILA 

Section 144, 15 U.S.C. 1664; TILA 

Section 147, 15 U.S.C. 1665b. 

The Board is also adopting, under 

TILA Section 129(l)(2), 15 U.S.C. 

1639(l)(2), rules to prohibit the 

following seven deceptive or misleading 

practices in advertisements for closedend mortgage loans: 

Æ Advertisements that state ‘‘fixed’’

rates or payments for loans whose rates 

or payments can vary without 

adequately disclosing that the interest 

rate or payment amounts are ‘‘fixed’’

only for a limited period of time, rather 

than for the full term of the loan; 

Æ Advertisements that compare an 

actual or hypothetical rate or payment 

obligation to the rates or payments that 

would apply if the consumer obtains the 

advertised product unless the 

advertisement states the rates or 

payments that will apply over the full 

term of the loan; 

Æ Advertisements that characterize 

the products offered as ‘‘government 

loan programs,’’ ‘‘government-supported 

loans,’’ or otherwise endorsed or 

sponsored by a federal or state 

government entity even though the 

advertised products are not governmentsupported or -sponsored loans; 

Æ Advertisements, such as 

solicitation letters, that display the 

name of the consumer’s current 

mortgage lender, unless the 

advertisement also prominently 

discloses that the advertisement is from 

a mortgage lender not affiliated with the 

consumer’s current lender; 

Æ Advertisements that make claims of 

debt elimination if the product 

advertised would merely replace one 

debt obligation with another; 

Æ Advertisements that create a false 

impression that the mortgage broker or 

lender is a ‘‘counselor’’ for the 

consumer; and 

Æ Foreign-language advertisements in 

which certain information, such as a 

low introductory ‘‘teaser’’ rate, is 

provided in a foreign language, while 

required disclosures are provided only 

in English. 


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44524 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

2 Inside Mortgage Finance Publications, Inc., The 

2007 Mortgage Market Statistical Annual vol. I (IMF 

2007 Mortgage Market), at 4. 

3 Delinquency rates calculated from data from 

First American LoanPerformance. 

4 IMF 2007 Mortgage Market at 4. 

5Estimates are based on data from Mortgage 

Bankers’ Association’s National Delinquency 

Survey (2007) (MBA Nat’l Delinquency Survey). 

6Benjamin J. Keys, Tanmoy K. Mukherjee, Amit 

Seru and Vikram Vig, Did Securitization Lead to 

Lax Screening? Evidence from Suprime Loans at 22, 

available at: http://ssrn.com/abstract=1093137. 

7U.S. Dep’t of Housing & Urban Development and 

U.S. Dep’t of Treasury, Recommendations to Curb 

Predatory Home Mortgage Lending 17 (2000) 

(‘‘While predatory lending can occur in the prime 

market, such practices are for the most part 

effectively deterred by competition among lenders, 

greater homogeneity in loan terms and the prime 

borrowers’ greater familiarity with complex 

C. Requirement To Give Consumers 

Disclosures Early 

A third goal of these rules is to 

provide consumers transaction-specific 

disclosures early enough to use while 

shopping for a mortgage loan. The final 

rule requires creditors to provide 

transaction-specific mortgage loan 

disclosures such as the APR and 

payment schedule for all home-secured, 

closed-end loans no later than three 

business days after application, and 

before the consumer pays any fee except 

a reasonable fee for the review of the 

consumer’s credit history. 

The Board recognizes that these 

disclosures need to be updated to reflect 

the increased complexity of mortgage 

products. In early 2008, the Board began 

testing current TILA mortgage 

disclosures and potential revisions to 

these disclosures through one-on-one 

interviews with consumers. The Board 

expects that this testing will identify 

potential improvements for the Board to 

propose for public comment in a 

separate rulemaking. 

II. Consumer Protection Concerns in the 

Subprime Market 

A. Recent Problems in the Mortgage 

Market 

Subprime mortgage loans are made to 

borrowers who are perceived to have 

high credit risk. These loans’ share of 

total consumer originations, according 

to one estimate, reached about nine 

percent in 2001 and doubled to 20 

percent by 2005, where it stayed in 

2006.2 The resulting increase in the 

supply of mortgage credit likely 

contributed to the rise in the 

homeownership rate from 64 percent in 

1994 to a high of 69 percent in 2005—

though about 68 percent now—and 

expanded consumers’ access to the 

equity in their homes. 

Recently, however, some of these 

benefits have eroded. In the last two 

years, delinquencies and foreclosure 

starts among subprime mortgages have 

increased dramatically and reached 

exceptionally high levels as house price 

growth has slowed or prices have 

declined in some areas. The proportion 

of all subprime mortgages past-due 

ninety days or more (‘‘serious 

delinquency’’) was about 18 percent in 

May 2008, more than triple the mid2005 level.3 Adjustable-rate subprime 

mortgages have performed the worst, 

reaching a serious delinquency rate of 

27 percent in May 2008, five times the 

mid-2005 level. These mortgages have 

seen unusually high levels of early 

payment default, or default after only 

one or two payments or even no 

payment at all. 

The serious delinquency rate has also 

risen for loans in alt-A (near prime) 

securitized pools. According to one 

source, originations of these loans were 

13 percent of consumer mortgage 

originations in 2006.4 Alt-A loans are 

made to borrowers who typically have 

higher credit scores than subprime 

borrowers, but the loans pose more risk 

than prime loans because they involve 

small down payments or reduced 

income documentation, or the terms of 

the loan are nontraditional and may 

increase risk. The rate of serious 

delinquency for these loans has risen to 

over 8 percent (as of April 2008) from 

less than 2 percent only a year earlier. 

In contrast, 1.5 percent of loans in the 

prime-mortgage sector were seriously 

delinquent as of April 2008. 

The consequences of default are 

severe for homeowners, who face the 

possibility of foreclosure, the loss of 

accumulated home equity, higher rates 

for other credit transactions, and 

reduced access to credit. When 

foreclosures are clustered, they can 

injure entire communities by reducing 

property values in surrounding areas. 

Higher delinquencies are in fact 

showing through to foreclosures. 

Lenders initiated over 550,000 

foreclosures in the first quarter of 2008, 

about half of them on subprime 

mortgages. This was significantly higher 

than the quarterly average of 325,000 in 

the first half of the year, and nearly 

twice the quarterly average of 225,000 

for the past six years.5

Rising delinquencies have been 

caused largely by a combination of a 

decline in house price appreciation—

and in some areas slower economic 

growth—and a loosening of 

underwriting standards, particularly in 

the subprime sector. The loosening of 

underwriting standards is discussed in 

more detail in part II.B. The next section 

discusses underlying market 

imperfections that facilitated this 

loosening and made it difficult for 

consumers to avoid injury. 

B. Market Imperfections That Can 

Facilitate Abusive and Unaffordable 

Loans 

The recent sharp increase in serious 

delinquencies has highlighted the roles 

that structural elements of the subprime 

mortgage market may play in increasing 

the likelihood of injury to consumers 

who find themselves in that market. 

Limitations on price and product 

transparency in the subprime market—

often compounded by misleading or 

inaccurate advertising—may make it 

harder for consumers to protect 

themselves from abusive or unaffordable 

loans, even with the best disclosures. 

The injuries consumers in the subprime 

market may suffer as a result are 

magnified when originators’ incentives 

to carefully assess consumers’

repayment ability grow weaker, as can 

happen when originators sell their loans 

to be securitized.6 The fragmentation of 

the originator market can further 

exacerbate the problem by making it 

more difficult for investors to monitor 

originators and for regulators to protect 

consumers. 

Limited Transparency and Limits of 

Disclosure 

Limited transparency in the subprime 

market increases the risk that borrowers 

in that market will receive unaffordable 

or abusive loans. The transparency of 

the subprime market to consumers is 

limited in several respects. First, price 

information for the subprime market is 

not widely and readily available to 

consumers. A consumer reading a 

newspaper, telephoning brokers or 

lenders, or searching the Internet can 

easily obtain current prime interest rate 

quotes for free. In contrast, subprime 

rates, which can vary significantly based 

on the individual borrower’s risk 

profile, are not broadly advertised and 

are usually obtainable only after 

application and paying a fee. Subprime 

rate quotes may not even be reliable if 

the originator engages in a ‘‘bait and 

switch’’ strategy. Price opacity is 

exacerbated because the subprime 

consumer often does not know her own 

credit score. Even if she knows her 

score, the prevailing interest rate for 

someone with that score and other 

credit risk characteristics is not 

generally publicly available. 

Second, products in the subprime 

market tend to be complex, both relative 

to the prime market and in absolute 

terms, as well as less standardized than 

in the prime market.7 As discussed 


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Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 44525 

financial transactions.’’); Howard Lax, Michael 

Manti, Paul Raca and Peter Zorn, Subprime 

Lending: An Investigation of Economic Efficiency, 

15 Housing Policy Debate 533, 570 (2004) 

(Subprime Lending Investigation) (stating that the 

subprime market lacks the ‘‘overall standardization 

of products, underwriting, and delivery systems’’

that is found in the prime market). 

8 Data reported by Wholesale Access Mortgage 

Research and Consulting, Inc., available at http:// 

www.wholesaleaccess.com/. 

9See Anthony Pennington-Cross & Souphala 

Chomsisengphet, Subprime Refinancing: Equity 

Extraction and Mortgage Termination, 35 Real 

Estate Economics 2, 233 (2007) (reporting that 49% 

of subprime refinance loans involve equity 

extraction, compared with 26% of prime refinance 

loans); Marsha J. Courchane, Brian J. Surette, and 

Peter M. Zorn, Subprime Borrowers: Mortgage 

Transitions and Outcomes (Subprime Outcomes), 

29 J. of Real Estate Economics 4, 368–371 (2004) 

(discussing survey evidence that borrowers with 

subprime loans are more likely to have experienced 

major adverse life events (marital disruption; major 

medical problem; major spell of unemployment; 

major decrease of income) and often use refinancing 

for debt consolidation or home equity extraction); 

Subprime Lending Investigation, at 551–552 (citing 

survey evidence that borrowers with subprime 

loans have increased incidence of major medical 

expenses, major unemployment spells, and major 

drops in income). 

10A ‘‘cash out’’ transaction is one in which the 

borrower refinances an existing mortgage, and the 

new mortgage amount is greater than the existing 

mortgage amount, to allow the borrower to extract 

from the home. Figure calculated from First 

American LoanPerformance data. 

11 James M. Lacko and Janis K. Pappalardo, 

Federal Trade Commission, Improving Consumer 

Mortgage Disclosures: An Empirical Assessment of 

Current and Prototype Disclosure Forms at 24–26 

(2007), available at: http://www.ftc.gov/os/2007/06/ 

P025505MortgageDisclosureReport.pdf (Improving 

Mortgage Disclosures) (reporting evidence based on 

qualitative consumer interviews); Subprime 

Lending Investigation at 550 (finding based on 

survey data that ‘‘[p]robably the most significant 

hurdle overcome by subprime borrowers * * * is 

just getting approved for a loan for the first time. 

This impact might well make subprime borrowers 

more willing to accept less favorable terms as they 

become uncertain about the possibility of qualifying 

for a loan at all.’’). 

12Subprime Outcomes at 371–372 (reporting 

survey evidence that relative to prime borrowers, 

subprime borrowers are less knowledgeable about 

the mortgage process, search less for the best rates, 

and feel they have less choice about mortgage terms 

and conditions); Subprime Mortgage Investigation 

at 554 (‘‘Our focus groups suggested that prime and 

subprime borrowers use quite different search 

criteria in looking for a loan. Subprime borrowers 

search primarily for loan approval and low monthly 

payments, while prime borrowers focus on getting 

the lowest available interest rate. These distinctions 

are quantitatively confirmed by our survey.’’). 

13 Jinkook Lee and Jeanne M. Hogarth, Consumer 

Information Search for Home Mortgages: Who, 

What, How Much, and What Else?, Financial 

Services Review 291 (2000) (Consumer Information 

Search) (‘‘In all, there are dozens of features and 

costs disclosed per loan, far in excess of the 

combination of terms, lenders, and information 

sources consumers report using when shopping.’’). 

14Consumer Information Search at 285 (reporting 

survey evidence that most consumers compared 

interest rate or APR, loan type (fixed-rate or ARM), 

and mandatory up-front fees, but only a quarter 

considered the costs of optional products such as 

credit insurance and back-end costs such as late 

fees). There is evidence that borrowers are not 

aware of, or do not understand, terms of this nature 

even after they have obtained a loan. See Improving 

Mortgage Disclosures at 27–30 (discussing 

anecdotal evidence based on consumer interviews 

that borrowers were not aware of, did not 

understand, or misunderstood an important cost or 

feature of their loans that had substantial impact on 

the overall cost, the future payments, or the ability 

to refinance with other lenders); Brian Bucks and 

Karen Pence, Do Homeowners Know Their House 

Values and Mortgage Terms? 18–22 (Board Fin. and 

Econ. Discussion Series Working Paper No. 2006–

3, 2006) (discussing statistical evidence that 

borrowers with ARMs underestimate annual as well 

as life-time caps on the interest rate; the rate of 

underestimation increases for lower-income and 

less-educated borrowers), available at http:// 

www.federalreserve.gov/pubs/feds/2006/200603/ 

200603pap.pdf. 

earlier, subprime originations have 

much more often been ARMs than fixed 

rate mortgages. ARMs require 

consumers to make judgments about the 

future direction of interest rates and 

translate expected rate changes into 

changes in their payment amounts. 

Subprime loans are also far more likely 

to have prepayment penalties. Because 

the annual percentage rate (APR) does 

not reflect the price of the penalty, the 

consumer must both calculate the size 

of the penalty from a formula and assess 

the likelihood of moving or refinancing 

during the penalty period. In these and 

other ways, subprime products tend to 

be complex for consumers. 

Third, the roles and incentives of 

originators are not transparent. One 

source estimates that 60 percent or more 

of mortgages originated in the last 

several years were originated through a 

mortgage broker, often an independent 

entity, who takes loan applications from 

consumers and shops them to 

depository institutions or other 

lenders.8 Anecdotal evidence indicates 

that consumers in both the prime and 

subprime markets often believe, in error, 

that a mortgage broker is obligated to 

find the consumer the best and most 

suitable loan terms available. 

Consumers who rely on brokers often 

are unaware, however, that a broker’s 

interests may diverge from, and conflict 

with, their own interests. In particular, 

consumers are often unaware that a 

creditor pays a broker more to originate 

a loan with a rate higher than the rate 

the consumer qualifies for based on the 

creditor’s underwriting criteria. 

Limited shopping. In this 

environment of limited transparency, 

consumers—particularly those in the 

subprime market—may reasonably 

decide not to shop further among 

originators or among loan options once 

an originator has told them they will 

receive a loan, because further shopping 

can be very costly. Shopping may 

require additional applications and 

application fees, and may delay the 

consumer’s receipt of funds. This delay 

creates a potentially significant cost for 

the many subprime borrowers seeking to 

refinance their obligations to lower their 

debt payments at least temporarily, to 

extract equity in the form of cash, or 

both.9 In recent years, nearly 90 percent 

of subprime ARMs used for refinancings 

were ‘‘cash out.’’ 10

While shopping costs are likely clear, 

the benefits may not be obvious or may 

appear minimal. Without easy access to 

subprime product prices, a consumer 

may have only a limited idea after 

working with one originator whether 

further shopping is likely to produce a 

better deal. Moreover, consumers in the 

subprime market have reported in 

studies that they were turned down by 

several lenders before being approved.11

Once approved, these consumers may 

see little advantage to continuing to 

shop for better terms if they expect to 

be turned down by other originators. 

Further, if a consumer uses a broker 

believing that the broker is shopping for 

the consumer for the best deal, the 

consumer may believe a better deal is 

not obtainable. An unscrupulous 

originator may also seek to discourage a 

consumer from shopping by 

intentionally understating the cost of an 

offered loan. For all of these reasons, 

borrowers in the subprime market may 

not shop beyond the first approval and 

may be willing to accept unfavorable 

terms.12

Limited focus. Consumers considering 

obtaining a typically complex subprime 

mortgage loan may simplify their 

decision by focusing on a few attributes 

of the product or service that seem most 

important.13 A consumer may focus on 

loan attributes that have the most 

obvious and immediate consequence 

such as loan amount, down payment, 

initial monthly payment, initial interest 

rate, and up-front fees (though up-front 

fees may be more obscure when added 

to the loan amount, and ‘‘discount 

points’’ in particular may be difficult for 

consumers to understand). These 

consumers, therefore, may not focus on 

terms that may seem less immediately 

important to them such as future 

increases in payment amounts or 

interest rates, prepayment penalties, and 

negative amortization. They are also not 

likely to focus on underwriting practices 

such as income verification, and on 

features such as escrows for future tax 

and insurance obligations.14 Consumers 

who do not fully understand such terms 

and features, however, are less able to 

appreciate their risks, which can be 

significant. For example, the payment 

may increase sharply and a prepayment 

penalty may hinder the consumer from 


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44526 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

15 Improving Mortgage Disclosures at 74–76 

(finding that borrowers in the subprime market may 

have more difficulty understanding their loan terms 

because their loans are more complex than loans in 

the prime market). 

16U.S. Gen. Accounting Office, GAO 04–280, 

Consumer Protection: Federal and State Agencies 

Face Challenges in Combating Predatory Lending 

97–98 (2004) (stating that the inherent complexity 

of mortgage loans, some borrowers’ lack of financial 

sophistication, education, or infirmities, and 

misleading statements and actions by lenders and 

brokers limit the effectiveness of even clear and 

transparent disclosures). 

17Atif Mian and Amir Sufi, The Consequences of 

Mortgage Credit Expansion: Evidence from the 2007 

Mortgage Default Crisis (May 2008), available at: 

http://ssrn.com/abstract=1072304. 

18Benjamin J. Keys, Tanmoy K. Mukherjee, Amit 

Seru and Vikram Vig, Did Securitization Lead to 

Lax Screening? Evidence from Suprime Loans at 22, 

available at: http://ssrn.com/abstract=1093137. 

19 Data reported by Wholesale Access Mortgage 

Research and Consulting, Inc., available at http:// 

www.wholesaleaccess.com. 

refinancing to avoid the payment 

increase. Thus, consumers may 

unwittingly accept loans that they will 

have difficulty repaying. 

Limits of disclosure. Disclosures 

describing the multiplicity of features of 

a complex loan could help some 

consumers in the subprime market, but 

may not be sufficient to protect them 

against unfair loan terms or lending 

practices. Obtaining widespread 

consumer understanding of the many 

potentially significant features of a 

typical subprime product is a major 

challenge.15 If consumers do not have a 

certain minimum level understanding of 

the market and products, disclosures for 

complex and infrequent transactions 

may not effectively provide that 

minimum understanding. Moreover, 

even if all of a loan’s features are 

disclosed clearly to consumers, they 

may continue to focus on a few features 

that appear most significant. 

Alternatively, disclosing all features 

may ‘‘overload’’ consumers and make it 

more difficult for them to discern which 

features are most important. 

Moreover, consumers may rely more 

on their originators to explain the 

disclosures when the transaction is 

complex; some originators may have 

incentives to misrepresent the 

disclosures so as to obscure the 

transaction’s risks to the consumer; and 

such misrepresentations may be 

particularly effective if the originator is 

face-to-face with the consumer.16

Therefore, while the Board anticipates 

proposing changes to Regulation Z to 

improve mortgage loan disclosures, it is 

unlikely that better disclosures, alone, 

will address adequately the risk of 

abusive or unaffordable loans in the 

subprime market. 

Misaligned Incentives and Obstacles to 

Monitoring 

Not only are consumers in the 

subprime market often unable to protect 

themselves from abusive or unaffordable 

loans, originators may at certain times 

be more likely to extend unaffordable 

loans. The recent sharp rise in serious 

delinquencies on subprime mortgages 

has made clear that originators were not 

adequately assessing repayment ability, 

particularly where mortgages were sold 

to the secondary market and the 

originator retained little of the risk. The 

growth of the secondary market gave 

lenders—and, thus, mortgage 

borrowers—greater access to capital 

markets, lowered transaction costs, and 

allowed risk to be shared more widely. 

This ‘‘originate-to-distribute’’ model, 

however, has also contributed to the 

loosening of underwriting standards, 

particularly during periods of rapid 

house price appreciation, which may 

mask problems by keeping default and 

delinquency rates low until price 

appreciation slows or reverses.17

This potential tendency has several 

related causes. First, when an originator 

sells a mortgage and its servicing rights, 

depending on the terms of the sale, most 

or all of the risks typically are passed on 

to the loan purchaser. Thus, originators 

that sell loans may have less of an 

incentive to undertake careful 

underwriting than if they kept the loans. 

Second, warranties by sellers to 

purchasers and other ‘‘repurchase’’

contractual provisions have little 

meaningful benefit if originators have 

limited assets. Third, fees for some loan 

originators have been tied to loan 

volume, making loan sales—sometimes 

accomplished through aggressive ‘‘push 

marketing’’—a higher priority than loan 

quality for some originators. Fourth, 

investors may not exercise adequate due 

diligence on mortgages in the pools in 

which they are invested, and may 

instead rely heavily on credit-ratings 

firms to determine the quality of the 

investment.18

Fragmentation in the originator 

market can further exacerbate the 

problem. Data reported under the Home 

Mortgage Disclosure Act (HMDA) show 

that independent mortgage companies—

those not related to depository 

institutions or their subsidiaries or 

affiliates—in 2005 and 2006 made 

nearly one-half of first-lien mortgage 

loans reportable as being higher-priced 

but only one-fourth of loans that were 

not reportable as higher-priced. Nor was 

lending by independent mortgage 

companies particularly concentrated: In 

each of 2005 and 2006 around 150 

independent mortgage companies made 

500 or more first-lien mortgage loans on 

owner-occupied dwellings that were 

reportable as higher-priced. In addition, 

as noted earlier, one source suggests that 

60 percent or more of mortgages 

originated in the last several years were 

originated through mortgage brokers.19

This same source estimates the number 

of brokerage companies at over 50,000 

in recent years. 

Thus, a securitized pool of mortgages 

may have been sourced by tens of 

lenders and thousands of brokers. 

Investors have limited ability to directly 

monitor these originators’ activities. 

Further, government oversight of such a 

fragmented market faces significant 

challenges because originators operate 

in different states and under different 

regulatory and supervisory regimes and 

different practices in sharing 

information among regulators. These 

circumstances may inhibit the ability of 

regulators to protect consumers from 

abusive and unaffordable loans. 

A Role for New HOEPA Rules 

As explained above, consumers in the 

subprime market face serious 

constraints on their ability to protect 

themselves from abusive or unaffordable 

loans, even with the best disclosures; 

originators themselves may at times lack 

sufficient market incentives to ensure 

loans they originate are affordable; and 

regulators face limits on their ability to 

oversee a fragmented subprime 

origination market. These circumstances 

warrant imposing a new national legal 

standard on subprime lenders to help 

ensure that consumers receive mortgage 

loans they can afford to repay, and help 

prevent the equity-stripping abuses that 

unaffordable loans facilitate. Adopting 

this standard under authority of HOEPA 

ensures that it is applied uniformly to 

all originators and provides consumers 

an opportunity to redress wrongs 

through civil actions to the extent 

authorized by TILA. As explained in the 

next part, substantial information 

supplied to the Board through several 

public hearings confirms the need for 

new HOEPA rules. 

III. The Board’s HOEPA Hearings 

A. Home Ownership and Equity 

Protection Act (HOEPA) 

The Board has recently held extensive 

public hearings on consumer protection 

issues in the mortgage market, including 

the subprime sector. These hearings 

were held pursuant to the Home 

Ownership and Equity Protection Act 

(HOEPA), which directs the Board to 

hold public hearings periodically on the 

home equity lending market and the 

adequacy of existing law for protecting 


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20HOEPA loans are closed-end, non-purchase 

money mortgages secured by a consumer’s principal 

dwelling (other than a reverse mortgage) where 

either: (a) The APR at consummation will exceed 

the yield on Treasury securities of comparable 

maturity by more than 8 percentage points for firstlien loans, or 10 percentage points for subordinatelien loans; or (b) the total points and fees payable 

by the consumer at or before closing exceed the 

greater of 8 percent of the total loan amount, or 

$547 for 2007 (adjusted annually). 

21Truth in Lending, 66 FR 65604, 65608, Dec. 20, 

2001. 

the interests of consumers, particularly 

low income consumers. HOEPA 

imposes substantive restrictions, and 

special pre-closing disclosures, on 

particularly high-cost refinancings and 

home equity loans (‘‘HOEPA loans’’).20

These restrictions include limitations on 

prepayment penalties and ‘‘balloon 

payment’’ loans, and prohibitions of 

negative amortization and of engaging in 

a pattern or practice of lending based on 

the collateral without regard to 

repayment ability. 

When it enacted HOEPA, Congress 

granted the Board authority, codified in 

TILA Section 129(l), to create 

exemptions to HOEPA’s restrictions and 

to expand its protections. 15 U.S.C. 

1639(l). Under TILA Section 129(l)(1), 

the Board may create exemptions to 

HOEPA’s restrictions as needed to keep 

responsible credit available; and under 

TILA Section 129(l)(2), the Board may 

adopt new or expanded restrictions as 

needed to protect consumers from 

unfairness, deception, or evasion of 

HOEPA. In HOEPA Section 158, 

Congress directed the Board to monitor 

changes in the home equity market 

through regular public hearings. 

Hearings the Board held in 2000 led 

the Board to expand HOEPA’s 

protections in December 2001.21 Those 

rules, which took effect in 2002, 

lowered HOEPA’s rate trigger, expanded 

its fee trigger to include single-premium 

credit insurance, added an anti- 

‘‘flipping’’ restriction, and improved the 

special pre-closing disclosure. 

B. Summary of 2006 Hearings 

In the summer of 2006, the Board held 

four hearings in four cities on three 

broad topics: (1) The impact of the 2002 

HOEPA rule changes on predatory 

lending practices, as well as the effects 

on consumers of state and local 

predatory lending laws; (2) 

nontraditional mortgage products and 

reverse mortgages; and (3) informed 

consumer choice in the subprime 

market. Hearing panelists included 

mortgage lenders and brokers, credit 

ratings agencies, real estate agents, 

consumer advocates, community 

development groups, housing 

counselors, academicians, researchers, 

and state and federal government 

officials. In addition, consumers, 

housing counselors, brokers, and other 

individuals made brief statements at the 

hearings during an ‘‘open mike’’ period. 

In all, 67 individuals testified on panels 

and 54 comment letters were submitted 

to the Board. 

Consumer advocates and some state 

officials stated that HOEPA is generally 

effective in preventing abusive terms in 

loans subject to the HOEPA price 

triggers. They noted, however, that very 

few loans are made with rates or fees at 

or above the HOEPA triggers, and some 

advocated that Congress lower them. 

Consumer advocates and state officials 

also urged regulators and Congress to 

curb abusive practices in the origination 

of loans that do not meet HOEPA’s price 

triggers. 

Consumer advocates identified 

several particular areas of concern. They 

urged the Board to prohibit or restrict 

certain loan features or terms, such as 

prepayment penalties, and underwriting 

practices such as ‘‘stated income’’ or 

‘‘low documentation’’ (‘‘low doc’’) loans 

for which the borrower’s income is not 

documented or verified. They also 

expressed concern about aggressive 

marketing practices such as steering 

borrowers to higher-cost loans by 

emphasizing initial low monthly 

payments based on an introductory rate 

without adequately explaining that the 

consumer will owe considerably higher 

monthly payments after the 

introductory rate expires. 

Some consumer advocates stated that 

brokers and lenders should be held to a 

duty of care such as a duty of good faith 

and fair dealing or a duty to make only 

loans suitable for the borrower. These 

advocates also urged the Board to ban 

‘‘yield spread premiums,’’ payments 

that brokers receive from the lender at 

closing for delivering a loan with an 

interest rate that is higher than the 

lender’s ‘‘buy rate,’’ because they 

provide brokers an incentive to increase 

consumers’ interest rates. They argued 

that such steps would align reality with 

consumers’ perceptions that brokers 

serve their best interests. Consumer 

advocates also expressed concerns that 

brokers, lenders, and others may coerce 

appraisers to misrepresent the value of 

a dwelling; and that servicers may 

charge consumers unwarranted fees and 

in some cases make it difficult for 

consumers who are in default to avoid 

foreclosure. 

Industry panelists and commenters, 

on the other hand, expressed concern 

that state predatory lending laws may 

reduce the availability of credit for some 

subprime borrowers. Most industry 

commenters opposed prohibiting stated 

income loans, prepayment penalties, or 

other loan terms, asserting that this 

approach would harm borrowers more 

than help them. They urged the Board 

and other regulators to focus instead on 

enforcing existing laws to remove ‘‘bad 

actors’’ from the market. Some lenders 

indicated, however, that restrictions on 

certain features or practices might be 

appropriate if the restrictions were clear 

and narrow. Industry commenters also 

stated that subjective suitability 

standards would create uncertainties for 

brokers and lenders and subject them to 

excessive litigation risk. 

C. Summary of June 2007 Hearing 

In light of the information received at 

the 2006 hearings and the rise in 

defaults that began soon after, the Board 

held an additional hearing in June 2007 

to explore how it could use its authority 

under HOEPA to prevent abusive 

lending practices in the subprime 

market while still preserving 

responsible subprime lending. The 

Board focused the hearing on four 

specific areas: Lenders’ determination of 

borrowers’ repayment ability; ‘‘stated 

income’’ and ‘‘low doc’’ lending; the 

lack of escrows in the subprime market 

relative to the prime market; and the 

high frequency of prepayment penalties 

in the subprime market. 

At the hearing, the Board heard from 

16 panelists representing consumers, 

mortgage lenders, mortgage brokers, and 

state government officials, as well as 

from academicians. The Board also 

received almost 100 written comments 

after the hearing from an equally diverse 

group. 

Industry representatives 

acknowledged concerns with recent 

lending practices but urged the Board to 

address most of these concerns through 

supervisory guidance rather than 

regulations under HOEPA. They 

maintained that supervisory guidance, 

unlike regulation, is flexible enough to 

preserve access to responsible credit. 

They also suggested that supervisory 

guidance issued recently regarding 

nontraditional mortgages and subprime 

lending, as well as market selfcorrection, have reduced the need for 

new regulations. Industry 

representatives support improving 

mortgage disclosures to help consumers 

avoid abusive loans. They urged that 

any substantive rules adopted by the 

Board be clearly drawn to limit 

uncertainty and narrowly drawn to 

avoid unduly restricting credit. 

In contrast, consumer advocates, state 

and local officials, and Members of 

Congress urged the Board to adopt 

regulations under HOEPA. They 

acknowledged a proper place for 


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44528 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

22E.g., Foreclosure Problems and Solutions: 

Federal, State, and Local Efforts to Address the 

Foreclosure Crisis in Ohio: Hearing before the 

Subcomm. on Housing and Comm. Oppty. of the H. 

Comm. on Fin. Servs., 110th Cong. (2008); Targeting 

Federal Aid to Neighborhoods Distressed by the 

Subprime Mortgage Crisis: Hearing before the 

Subcomm. on Housing and Comm. Oppty. of the H. 

Comm. on Fin. Servs., 110th Cong. (2008); 

Improving Consumer Protections in Subprime 

Lending: Hearing before the Subcomm. on Int. 

Comm., Trade, and Tourism of the S. Comm. on 

Comm., Sci., and Trans., 110th Cong. (2008); H.R. 

5679, The Foreclosure Prevention and Sound 

Mortgage Servicing Act of 2008: Hearing before the 

Subcomm. on Housing and Comm. Oppty. of the H. 

Comm. on Fin. Servs., 110th Cong. (2008); Restoring 

the American Dream: Solutions to Predatory 

Lending and the Foreclosure Crisis: S. Comm. on 

Banking, Hsg., and Urban Affairs, 110th Cong. 

(2008); Consumer Protection in Financial Services: 

Subprime Lending and Other Financial Activities: 

Hearing before the Subcomm. on Fin. Svcs. and 

Gen. Gov’t of the H. Approp. Comm., 110th Cong. 

(2008); Progress in Administration and Other Efforts 

to Coordinate and Enhance Mortgage Foreclosure 

Prevention: Hearing before the H. Comm. on Fin. 

Servs., 110th Cong. (2007); Legislative Proposals on 

Reforming Mortgage Practices: Hearing before the 

H. Comm. on Fin. Servs., 110th Cong. (2007); 

Legislative and Regulatory Options for Minimizing 

and Mitigating Mortgage Foreclosures: Hearing 

before the H. Comm. on Fin. Servs., 110th Cong. 

(2007); Ending Mortgage Abuse: Safeguarding 

Homebuyers: Hearing before the S. Subcomm. on 

Hous., Transp., and Cmty. Dev. of the S. Comm. on 

Banking, Hous., and Urban Affairs, 110th Cong. 

(2007); Improving Federal Consumer Protection in 

Financial Services: Hearing before the H. Comm. on 

Fin. Servs., 110th Cong. (2007). 

23 Interagency Guidance on Nontraditional 

Mortgage Product Risks, 71 FR 58609, Oct. 4, 2006 

(Nontraditional Mortgage Guidance). 

24Statement on Subprime Mortgage Lending, 72 

FR 37569, Jul. 10, 2007 (Subprime Statement). 

guidance but contended that recent 

problems indicate the need for 

requirements enforceable by borrowers 

through civil actions, which HOEPA 

enables and guidance does not. They 

also expressed concern that less 

responsible, less closely supervised 

lenders are not subject to the guidance 

and that there is limited enforcement of 

existing laws for these entities. 

Consumer advocates and others 

welcomed improved disclosures but 

insisted they would not prevent abusive 

lending. More detailed accounts of the 

testimony and letters are provided 

below in the context of specific issues 

the Board is addressing in these final 

rules. 

D. Congressional Hearings 

Congress has also held a number of 

hearings in the past year about 

consumer protection concerns in the 

mortgage market.22 In these hearings, 

Congress has heard testimony from 

individual consumers, representatives 

of consumer and community groups, 

representatives of financial and 

mortgage industry groups and federal 

and state officials. These hearings have 

focused on rising subprime foreclosure 

rates and the extent to which lending 

practices have contributed to them. 

Consumer and community group 

representatives testified that certain 

lending terms or practices, such as 

hybrid adjustable-rate mortgages, 

prepayment penalties, low or no 

documentation loans, lack of escrows 

for taxes and insurance, and failure to 

consider the consumer’s ability to repay 

have contributed to foreclosures. In 

addition, these witnesses testified that 

consumers often believe that mortgage 

brokers represent their interests and 

shop on their behalf for the best loan 

terms. As a result, they argue that 

consumers do not shop independently 

to ensure that they are getting the best 

terms for which they qualify. They also 

testified that, because originators sell 

most loans into the secondary market 

and do not share the risk of default, 

brokers and lenders have less incentive 

to ensure consumers can afford their 

loans. 

Financial services and mortgage 

industry representatives testified that 

consumers need better disclosures of 

their loan terms, but that substantive 

restrictions on subprime loan terms 

would risk reducing access to credit for 

some borrowers. In addition, these 

witnesses testified that applying a 

fiduciary duty to the subprime market, 

such as requiring that a loan be in the 

borrower’s best interest, would 

introduce subjective standards that 

would significantly increase compliance 

and litigation risk. According to these 

witnesses, some lenders would be less 

willing to offer loans in the subprime 

market, making it harder for some 

consumers to get loans. 

IV. Interagency Supervisory Guidance 

In December 2005, the Board and the 

other federal banking agencies 

responded to concerns about the rapid 

growth of nontraditional mortgages in 

the previous two years by proposing 

supervisory guidance. Nontraditional 

mortgages are mortgages that allow the 

borrower to defer repayment of 

principal and sometimes interest. The 

guidance advised institutions of the 

need to reduce ‘‘risk layering’’ practices 

with respect to these products, such as 

failing to document income or lending 

nearly the full appraised value of the 

home. The proposal, and the final 

guidance issued in September 2006, 

specifically advised lenders that 

layering risks in nontraditional 

mortgage loans to subprime borrowers 

may significantly increase risks to 

borrowers as well as institutions.23

The Board and the other federal 

banking agencies addressed concerns 

about the subprime market more 

broadly in March 2007 with a proposal 

addressing the heightened risks to 

consumers and institutions of ARMs 

with two or three-year ‘‘teaser’’ rates 

followed by substantial increases in the 

rate and payment. The guidance, 

finalized in June 2007, sets out the 

standards institutions should follow to 

ensure borrowers in the subprime 

market obtain loans they can afford to 

repay.24 Among other steps, the 

guidance advises lenders to (1) use the 

fully-indexed rate and fully-amortizing 

payment when qualifying borrowers for 

loans with adjustable rates and 

potentially non-amortizing payments; 

(2) limit stated income and reduced 

documentation loans to cases where 

mitigating factors clearly minimize the 

need for full documentation of income; 

(3) provide that prepayment penalty 

clauses expire a reasonable period 

before reset, typically at least 60 days. 

The Conference of State Bank 

Supervisors (CSBS) and American 

Association of Residential Mortgage 

Regulators (AARMR) issued parallel 

statements for state supervisors to use 

with state-supervised entities, and many 

states have adopted the statements. 

The guidance issued by the federal 

banking agencies has helped to promote 

safety and soundness and protect 

consumers in the subprime market. 

Guidance, however, is not necessarily 

implemented uniformly by all 

originators. Originators who are not 

subject to routine examination and 

supervision may not adhere to guidance 

as closely as originators who are. 

Guidance also does not provide 

individual consumers who have 

suffered harm because of abusive 

lending practices an opportunity for 

redress. The new and expanded 

consumer protections that the Board is 

adopting apply uniformly to all 

creditors and are enforceable by federal 

and state supervisory and enforcement 

agencies and in many cases by 

borrowers. 

V. Legal Authority 

A. The Board’s Authority Under TILA 

Section 129(l)(2) 

The substantive limitations in new 

§§ 226.35 and 226.36 and corresponding 

revisions to §§ 226.32 and 226.34, as 

well as restrictions on misleading and 

deceptive advertisements, are based on 

the Board’s authority under TILA 

Section 129(l)(2), 15 U.S.C. 1639(l)(2). 

That provision gives the Board authority 

to prohibit acts or practices in 

connection with: 


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25H.R. Rep. 103–652, at 162 (1994) (Conf. Rep.). 

26See 15 U.S.C. 45(n); Letter from FTC to the 

Hon. Wendell H. Ford and the Hon. John C. 

Danforth (Dec. 17, 1980). 

27 15 U.S.C. 45(n). 

28Statement of Basis and Purpose and Regulatory 

Analysis, Credit Practices Rule, 42 FR 7740, 7743, 

March 1, 1984 (Credit Practices Rule). 

29Letter from Commissioners of the FTC to the 

Hon. Wendell H. Ford, Chairman, and the Hon. 

John C. Danforth, Ranking Minority Member, 

Consumer Subcomm. of the H. Comm. on 

Commerce, Science, and Transp., n.12 (Dec. 17, 

1980). 

30Credit Practices Rule, 42 FR at 7744. 

31 Id. 

32 Id. 

33Letter from James C. Miller III, Chairman, FTC 

to the Hon. John D. Dingell, Chairman, H. Comm. 

on Energy and Commerce (Oct. 14, 1983) (Dingell 

Letter). 

34 Dingell Letter at 1–2. 

35See, e.g., Kenai Chrysler Ctr., Inc. v. Denison, 

167 P.3d 1240, 1255 (Alaska 2007) (quoting FTC v. 

Sperry & Hutchinson Co., 405 U.S. 233, 244–45 n.5 

(1972)); State v. Moran, 151 N.H. 450, 452, 861 A.2d 

763, 755–56 (N.H. 2004) (concurrently applying the 

FTC’s former test and a test under which an act or 

practice is unfair or deceptive if ‘‘the objectionable 

conduct * * * attain[s] a level of rascality that 

would raise an eyebrow of someone inured to the 

rough and tumble of the world of commerce.’’) 

(citation omitted); Robinson v. Toyota Motor Credit 

Corp., 201 Ill. 2d 403, 417–418, 775 N.E.2d 951, 

961–62 (2002) (quoting 405 U.S. at 244–45 n.5). 

• Mortgage loans that the Board finds 

to be unfair, deceptive, or designed to 

evade the provisions of HOEPA; and 

• Refinancing of mortgage loans that 

the Board finds to be associated with 

abusive lending practices or that are 

otherwise not in the interest of the 

borrower. 

The authority granted to the Board 

under TILA Section 129(l)(2), 15 U.S.C. 

1639(l)(2), is broad. It reaches mortgage 

loans with rates and fees that do not 

meet HOEPA’s rate or fee trigger in 

TILA Section 103(aa), 15 U.S.C. 

1602(aa), as well as types of mortgage 

loans not covered under that section, 

such as home purchase loans. Section 

129(l)(2) also authorizes the Board to 

strengthen the protections in Section 

129(c)–(i) for the loans to which Section 

103(aa) applies these protections 

(HOEPA loans). In TILA Section 129 

(c)–(i), Congress set minimum standards 

for HOEPA loans. The Board is 

authorized to strengthen those standards 

for HOEPA loans when the Board finds 

practices unfair, deceptive, or abusive. 

The Board is also authorized by Section 

129(l)(2) to apply those strengthened 

standards to loans that are not HOEPA 

loans. Moreover, while HOEPA’s 

statutory restrictions apply only to 

creditors and only to loan terms or 

lending practices, Section 129(l)(2) is 

not limited to acts or practices by 

creditors, nor is it limited to loan terms 

or lending practices. See 15 U.S.C. 

1639(l)(2). It authorizes protections 

against unfair or deceptive practices 

when such practices are ‘‘in connection 

with mortgage loans,’’ and it authorizes 

protections against abusive practices ‘‘in 

connection with refinancing of mortgage 

loans.’’ Thus, the Board’s authority is 

not limited to regulating specific 

contractual terms of mortgage loan 

agreements; it extends to regulating 

loan-related practices generally, within 

the standards set forth in the statute. 

HOEPA does not set forth a standard 

for what is unfair or deceptive, but the 

Conference Report for HOEPA indicates 

that, in determining whether a practice 

in connection with mortgage loans is 

unfair or deceptive, the Board should 

look to the standards employed for 

interpreting state unfair and deceptive 

trade practices statutes and the Federal 

Trade Commission Act (FTC Act), 

Section 5(a), 15 U.S.C. 45(a).25

Congress has codified standards 

developed by the Federal Trade 

Commission (FTC) for determining 

whether acts or practices are unfair 

under Section 5(a), 15 U.S.C. 45(a).26

Under the FTC Act, an act or practice 

is unfair when it causes or is likely to 

cause substantial injury to consumers 

which is not reasonably avoidable by 

consumers themselves and not 

outweighed by countervailing benefits 

to consumers or to competition. In 

addition, in determining whether an act 

or practice is unfair, the FTC is 

permitted to consider established public 

policies, but public policy 

considerations may not serve as the 

primary basis for an unfairness 

determination.27

The FTC has interpreted these 

standards to mean that consumer injury 

is the central focus of any inquiry 

regarding unfairness.28 Consumer injury 

may be substantial if it imposes a small 

harm on a large number of consumers, 

or if it raises a significant risk of 

concrete harm.29 The FTC looks to 

whether an act or practice is injurious 

in its net effects.30 The agency has also 

observed that an unfair act or practice 

will almost always reflect a market 

failure or market imperfection that 

prevents the forces of supply and 

demand from maximizing benefits and 

minimizing costs.31 In evaluating 

unfairness, the FTC looks to whether 

consumers’ free market decisions are 

unjustifiably hindered.32

The FTC has also adopted standards 

for determining whether an act or 

practice is deceptive (though these 

standards, unlike unfairness standards, 

have not been incorporated into the FTC 

Act).33 First, there must be a 

representation, omission or practice that 

is likely to mislead the consumer. 

Second, the act or practice is examined 

from the perspective of a consumer 

acting reasonably in the circumstances. 

Third, the representation, omission, or 

practice must be material. That is, it 

must be likely to affect the consumer’s 

conduct or decision with regard to a 

product or service.34

Many states also have adopted 

statutes prohibiting unfair or deceptive 

acts or practices, and these statutes 

employ a variety of standards, many of 

them different from the standards 

currently applied to the FTC Act. A 

number of states follow an unfairness 

standard formerly used by the FTC. 

Under this standard, an act or practice 

is unfair where it offends public policy; 

or is immoral, unethical, oppressive, or 

unscrupulous; and causes substantial 

injury to consumers.35

In adopting final rules under TILA 

Section 129(l)(2)(A), 15 U.S.C. 

1639(l)(2)(A), the Board has considered 

the standards currently applied to the 

FTC Act’s prohibition against unfair or 

deceptive acts or practices, as well as 

the standards applied to similar state 

statutes. 

B. The Board’s Authority Under TILA 

Section 105(a) 

Other aspects of these rules are based 

on the Board’s general authority under 

TILA Section 105(a) to prescribe 

regulations necessary or proper to carry 

out TILA’s purposes 15 U.S.C. 1604(a). 

This section is the basis for the 

requirement to provide early disclosures 

for residential mortgage transactions as 

well as many of the revisions to improve 

advertising disclosures. These rules are 

intended to carry out TILA’s purposes of 

informing consumers about their credit 

terms and helping them shop for credit. 

See TILA Section 102, 15 U.S.C. 1603. 

VI. The Board’s Proposal 

On January 9, 2008, the Board 

published a notice of proposed 

rulemaking in the Federal Register (73 

FR 1672) proposing to amend 

Regulation Z. 

A. Proposals To Prevent Unfairness, 

Deception, and Abuse 

The Board proposed new restrictions 

and requirements for mortgage lending 

and servicing intended to protect 

consumers against unfairness, 

deception, and abuse while preserving 

responsible lending and sustainable 

homeownership. Some of the proposed 

restrictions would apply only to higherpriced mortgage loans, while others 


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would apply to all mortgage loans 

secured by a consumer’s principal 

dwelling. 

Protections Covering Higher-Priced 

Mortgage Loans 

The Board proposed certain 

protections for consumers receiving 

higher-priced mortgage loans. Higherpriced mortgage loans would have been 

loans with an annual percentage rate 

(APR) that exceeds the comparable 

Treasury security by three or more 

percentage points for first-lien loans, or 

five or more percentage points for 

subordinate-lien loans. For such loans, 

the Board proposed to: 

Æ Prohibit creditors from engaging in 

a pattern or practice of extending credit 

without regard to borrowers’ ability to 

repay from sources other than the 

collateral itself; 

Æ Require creditors to verify income 

and assets they rely upon in making 

loans; 

Æ Prohibit prepayment penalties 

unless certain conditions are met; and 

Æ Require creditors to establish 

escrow accounts for taxes and 

insurance, but permit creditors to allow 

borrowers to opt out of escrows 12 

months after loan consummation. 

In addition, the proposal would have 

prohibited creditors from structuring 

closed-end mortgage loans as open-end 

lines of credit for the purpose of evading 

these rules, which do not apply to lines 

of credit. 

Proposed Protections Covering ClosedEnd Loans Secured by Consumer’s 

Principal Dwelling 

In addition, in connection with all 

consumer-purpose, closed-end loans 

secured by a consumer’s principal 

dwelling, the Board proposed to: 

Æ Prohibit creditors from paying a 

mortgage broker more than the 

consumer had agreed in advance that 

the broker would receive; 

Æ Prohibit any creditor or mortgage 

broker from coercing, influencing, or 

otherwise encouraging an appraiser to 

provide a misstated appraisal in 

connection with a mortgage loan; and 

Æ Prohibit mortgage servicers from 

‘‘pyramiding’’ late fees, failing to credit 

payments as of the date of receipt, 

failing to provide loan payoff statements 

upon request within a reasonable time, 

or failing to deliver a fee schedule to a 

consumer upon request. 

B. Proposals To Improve Mortgage 

Advertising 

Another goal of the Board’s proposal 

was to ensure that mortgage loan 

advertisements provide accurate and 

balanced information and do not 

contain misleading or deceptive 

representations. The Board proposed to 

require that advertisements for both 

open-end and closed-end mortgage 

loans provide accurate and balanced 

information, in a clear and conspicuous 

manner, about rates, monthly payments, 

and other loan features. The proposal 

was issued under the Board’s authorities 

to: Adopt regulations to ensure 

consumers are informed about and can 

shop for credit; require that information, 

including the information required for 

advertisements for closed-end credit, be 

disclosed in a clear and conspicuous 

manner; and regulate advertisements of 

open-end home-equity plans secured by 

the consumer’s principal dwelling. See 

TILA Section 105(a), 15 U.S.C. 1604(a); 

Section 122, 15 U.S.C. 1632; Section 

144, 15 U.S.C. 1664; Section 147, 15 

U.S.C. 1665b. 

The Board also proposed, under TILA 

Section 129(l)(2), 15 U.S.C. 1639(l)(2), to 

prohibit the following seven deceptive 

or misleading practices in 

advertisements for closed-end mortgage 

loans: 

Æ Advertising ‘‘fixed’’ rates or 

payments for loans whose rates or 

payments can vary without adequately 

disclosing that the interest rate or 

payment amounts are ‘‘fixed’’ only for a 

limited period of time, rather than for 

the full term of the loan; 

Æ Comparing an actual or 

hypothetical consumer’s rate or 

payment obligations and the rates or 

payments that would apply if the 

consumer obtains the advertised 

product unless the advertisement states 

the rates or payments that will apply 

over the full term of the loan; 

Æ Advertisements that characterize 

the products offered as ‘‘government 

loan programs,’’ ‘‘government-supported 

loans,’’ or otherwise endorsed or 

sponsored by a federal or state 

government entity even though the 

advertised products are not governmentsupported or -sponsored loans; 

Æ Advertisements, such as 

solicitation letters, that display the 

name of the consumer’s current 

mortgage lender, unless the 

advertisement also prominently 

discloses that the advertisement is from 

a mortgage lender not affiliated with the 

consumer’s current lender; 

Æ Advertising claims of debt 

elimination if the product advertised 

would merely replace one debt 

obligation with another; 

Æ Advertisements that create a false 

impression that the mortgage broker or 

lender has a fiduciary relationship with 

the consumer; and 

Æ Foreign-language advertisements in 

which certain information, such as a 

low introductory ‘‘teaser’’ rate, is 

provided in a foreign language, while 

required disclosures are provided only 

in English. 

C. Proposal To Give Consumers 

Disclosures Early 

A third goal of the proposal was to 

provide consumers transaction-specific 

disclosures early enough to use while 

shopping for a mortgage loan. The Board 

proposed to require creditors to provide 

transaction-specific mortgage loan 

disclosures such as the APR and 

payment schedule for all home-secured, 

closed-end loans no later than three 

business days after application, and 

before the consumer pays any fee except 

a reasonable fee for the originator’s 

review of the consumer’s credit history. 

VII. Overview of Comments Received 

The Board received approximately 

4700 comments on the proposal. The 

comments came from community banks, 

independent mortgage companies, large 

bank holding companies, secondary 

market participants, credit unions, state 

and national trade associations for 

financial institutions in the mortgage 

business, mortgage brokers and 

mortgage broker trade associations, 

realtors and realtor trade associations, 

individual consumers, local and 

national community groups, federal and 

state regulators and elected officials, 

appraisers, academics, and other 

interested parties. 

Commenters generally supported the 

Board’s effort to protect consumers from 

unfair practices, particularly in the 

subprime market, while preserving 

responsible lending and sustainable 

homeownership. However, industry 

commenters generally opposed the 

breadth of the proposal; favoring 

narrower and more flexible rules. They 

also expressed concerns about the costs 

of certain proposals, such as the 

requirement to establish escrows for all 

first-lien higher-priced mortgage loans. 

Consumer advocates, federal and state 

regulators (including the Federal 

Deposit Insurance Corporation (FDIC)), 

and elected officials (including 

members of Congress and some state 

attorneys general) supported the 

proposal as addressing some of the 

abuses in the subprime market, but 

argued that additional consumer 

protections are needed. 

Many commenters supported the 

approach of using loan price to identify 

‘‘higher-priced’’ loans. Financial 

institution commenters and their trade 

associations were concerned, however, 

that the proposed price thresholds were 

too low, and could capture many prime 

loans. They contended that broad 


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coverage would reduce credit 

availability because creditors would 

refrain from making covered loans or 

would pass on compliance costs. Many 

industry commenters urged the Board to 

use a different index to define higherpriced mortgage loans than the 

proposed index of Treasury security 

yields, because the spread between 

Treasury yields and mortgage rates can 

change. Consumer advocate commenters 

generally, but not uniformly, favored 

applying the Board’s proposed 

protections to all loans secured by a 

principal dwelling regardless of loan 

price. In the alternative, they favored 

the proposed price thresholds but urged 

the Board also to apply the protections 

to nontraditional mortgage loans. 

Industry commenters generally, but 

not uniformly, supported or did not 

oppose a rule prohibiting lenders from 

engaging in a pattern or practice of 

unaffordable lending. They urged the 

Board, however, to provide a clear and 

specific ‘‘safe harbor’’ and remove the 

presumptions of violations in order to 

avoid unduly constraining credit. In 

contrast, consumer advocate 

commenters and others urged the Board 

to revise the ability to repay rule so that 

it applies on a loan-by-loan basis and 

not only to a pattern or practice of 

disregarding borrowers’ ability to repay. 

These commenters argued that a 

requirement to prove a ‘‘pattern or 

practice’’ would prevent consumers 

from bringing claims and would weaken 

the rule’s power to deter abuse. 

Consumer advocate commenters and 

some federal and state regulators and 

elected officials also maintained that a 

complete ban on prepayment penalties 

is necessary to protect consumers. In 

particular, many of these commenters 

argued that prepayment penalties’

harms to subprime consumers outweigh 

the benefits of any reductions in interest 

rate consumers receive, and that the 

Board’s proposed restrictions on 

prepayment penalties would not 

adequately address the harms. However, 

most banks and their trade associations 

stated that the interest rate benefit 

afforded to consumers with loans 

having prepayment penalty provisions 

lowers credit costs and increases credit 

availability. 

Many community banks and mortgage 

brokers as well as several industry trade 

associations opposed the proposed 

escrow requirement, contending that 

escrow infrastructures would be costly 

and that creditors would either refrain 

from making higher-priced loans or 

would pass costs on to consumers. 

Consumers also expressed concern that 

they would lose interest on their 

escrowed funds and that servicers 

would fail to properly pay tax and 

insurance obligations. Several industry 

trade associations, several large 

creditors and some mortgage brokers, 

consumer and community development 

groups, and state and federal officials, 

however, supported the proposed 

escrow requirement as protecting 

consumers from expensive force-placed 

insurance or default, and possibly 

foreclosure. 

For their part, mortgage brokers and 

their trade associations principally 

addressed the yield spread premium 

proposal, which they strongly opposed. 

They, as well as FTC staff, argued that 

prohibiting creditors from paying 

brokers more than the consumer agreed 

to in writing would put brokers at a 

competitive disadvantage relative to 

retail lenders. They also argued that 

consumers would be confused and 

misled by a broker compensation 

disclosure. Consumer advocates, several 

members of Congress, several state 

attorneys general, and the FDIC 

contended that the proposal would do 

little to protect consumers and urged the 

Board to ban yield spread premiums 

outright. 

Most commenters generally supported 

the Board’s proposed advertising rules, 

although some commenters requested 

clarifications and modifications. 

Commenters were divided about the 

proposal to require early mortgage loan 

disclosures. Many creditors and their 

trade associations opposed the proposal 

because of perceived operational cost 

and compliance difficulties, and 

concerns about the scope of the fee 

restriction and its application to third 

party originators. Consumer groups, 

state regulators and enforcement 

generally supported the proposed rule, 

however, because it would make more 

information available to consumers 

when they are shopping for loans. Some 

of the commenters requested that the 

Board require lenders to redisclose 

before loan consummation to enhance 

the accuracy of information. 

Industry commenters urged the Board 

to adopt all of the proposed restrictions 

in §§ 226.35 and 226.36 under its TILA 

Section 105(a) authority rather than its 

Section 129(l)(2) authority. They argued 

that using Section 129(l)(2) authority 

would impose disproportionately heavy 

penalties on lenders for violations and 

unnecessary costs on consumers. 

Consumer advocates, on the other hand, 

supported using Section 129(l)(2) 

authority and urged the Board use it 

more broadly to adopt the other 

proposed rules concerning early 

disclosures and advertising. 

Public comments with respect to 

these and other provisions of the rule 

are described and discussed in more 

detail below. 

VIII. Definition of ‘‘Higher-Priced 

Mortgage Loan’’—§ 226.35(a) 

A. Overview 

The Board proposed to extend certain 

consumer protections to a subset of 

consumer residential mortgage loans 

referred to as ‘‘higher-priced mortgage 

loans.’’ This part VIII discusses the 

definition of ‘‘higher-priced mortgage 

loan’’ the Board is adopting. A 

discussion of the specific protections 

that apply to these loans follows in part 

IX. The Board is also finalizing the 

proposal to apply certain other 

restrictions to closed-end consumer 

mortgage loans secured by the 

consumer’s principal dwelling without 

regard to loan price. These restrictions 

are discussed separately in part X. 

Under the proposal, higher-priced 

mortgage loans would be defined as 

consumer credit transactions secured by 

the consumer’s principal dwelling for 

which the APR on the loan exceeds the 

yield on comparable Treasury securities 

by at least three percentage points for 

first-lien loans, or five percentage points 

for subordinate-lien loans. The 

proposed definition would include 

home purchase loans, refinancings, and 

home equity loans. The definition 

would exclude home equity lines of 

credit (‘‘HELOCs’’). There would also be 

exclusions for reverse mortgages, 

construction-only loans, and bridge 

loans. 

The Board is adopting a definition of 

‘‘higher-priced mortgage loan’’ that is 

substantially similar to that proposed 

but different in the particulars. The 

changes to the final rule are being made 

in response to commenters’ concerns. 

The final definition, like the proposed 

definition, sets a threshold above a 

measure of market rates to distinguish 

higher-priced mortgage loans from the 

rest of the mortgage market. But the 

measure the Board is adopting is 

different, and therefore so is the 

threshold. Instead of yields on Treasury 

securities, the definition uses average 

offer rates for the lowest-risk prime 

mortgages, termed ‘‘average prime offer 

rates.’’ For the foreseeable future, the 

Board will obtain or, as applicable, 

derive average prime offer rates from the 

Freddie Mac Primary Mortgage Market 

Survey. The threshold is set at 1.5 

percentage points above the average 

prime offer rate on a comparable 

transaction for first-lien loans, and 3.5 

percentage points for subordinate-lien 

loans. The exclusions from ‘‘higherpriced mortgage loans’’ for HELOCs and 


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44532 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

36According to HMDA data from 2005 and 2006, 

more than three-quarters of prime, conventional 

first-lien mortgage loans on owner-occupied 

properties were made by depository institutions or 

their affiliates. For this purpose, a loan for which 

price information was not reported is treated as a 

prime loan. 37According to HMDA data from 2005 and 2006, 

nearly 30 percent of prime, conventional first-lien 

mortgage loans on owner-occupied properties were 

purchased by Fannie Mae or Freddie Mac. This 

figure understates the GSEs’ influence on the prime 

market because it excludes the many loans that 

were underwritten using the GSEs’ standards but 

were not sold to the GSEs. 

certain other types of transactions are 

adopted as proposed. 

The definition of ‘‘higher-priced 

mortgage loans’’ appears in § 226.35(a). 

Such loans are subject to the restrictions 

and requirements in § 226.35(b) 

concerning repayment ability, income 

verification, prepayment penalties, 

escrows, and evasion, except that only 

first-lien higher-priced mortgage loans 

are subject to the escrow requirement. 

B. Public Comment on the Proposal 

Most industry commenters, a national 

consumer advocacy and research 

organization, and others supported the 

approach of using loan price to identify 

loans subject to stricter regulations. A 

large number and wide variety of these 

commenters, however, urged the Board 

to use a prime mortgage market rate 

instead of, or in addition to, Treasury 

yields to avoid arbitrary changes in 

coverage due to changes in the premium 

for mortgages over Treasuries or in the 

relationship between short-term and 

long-term Treasury yields. The precise 

recommendations are discussed in more 

detail in subpart D below. Industry 

commenters were particularly 

concerned that the threshold over the 

chosen index be set high enough to 

exclude the prime market. They 

maintained that the proposed thresholds 

of 300 and 500 basis points over 

Treasury yields would cover a 

significant part of the prime market and 

reduce credit availability. 

Consumer and civil rights group 

commenters generally, but not 

uniformly, opposed limiting protections 

to higher-priced mortgage loans and 

recommended applying these 

protections to all loans secured by a 

principal dwelling. They recommended 

in the alternative that the thresholds be 

adopted at the levels proposed, or even 

lower, and that nontraditional mortgage 

loans, which permit non-amortizing 

payments or negatively amortizing 

payments, be covered regardless of loan 

price. They believe the Nontraditional 

Mortgage Guidance is not adequate to 

protect consumers. 

The proposed exclusion of HELOCs 

drew criticism from several consumer 

and civil rights groups but strong 

support from industry commenters. The 

other proposed exclusions drew limited 

comment. Some industry commenters 

proposed additional exclusions for 

loans with federal guaranties such as 

FHA, VA, and Rural Housing Service. A 

few commenters also proposed 

excluding ‘‘jumbo’’ loans, that is, loans 

in an amount that exceeds the threshold 

of eligibility for purchase by Fannie Mae 

or Freddie Mac. Other proposed 

exclusions are discussed below. 

C. General Approach 

Cover Subprime, Exclude Prime 

The Board stated in connection with 

the proposal a general principle that 

new regulations should be applied as 

broadly as needed to protect consumers 

from actual or potential injury, but not 

so broadly that the costs, including the 

always-present risk of unintended 

consequences, would clearly outweigh 

the benefits. Consistent with this 

principle, the Board believes, as it stated 

in connection with the proposal, that 

the stricter regulations of § 226.35 

should cover the subprime market and 

generally exclude the prime market. 

The Board believes that the practices 

that § 226.35 would prohibit—lending 

without regard to ability to pay from 

verified income and non-collateral 

assets, failure to establish an escrow for 

taxes and insurance, and prepayment 

penalties outside of prescribed limits—

are so clearly injurious on balance to 

consumers within the subprime market 

that they should be categorically barred 

in that market. The reasons for this 

conclusion are detailed below in part IX 

with respect to each practice. Moreover, 

the Board has concluded that, to be 

effective, these prohibitions must cover 

the entire subprime market and not just 

subprime products with particular terms 

or features. Market imperfections 

discussed in part II—the subprime 

market’s lack of transparency and 

potentially inadequate incentives for 

creditors to make only loans that 

consumers can repay—affect consumers 

throughout the subprime market. To be 

sure, risk within the subprime market 

has varied by loan type. For example, 

delinquencies on fixed-rate subprime 

mortgages have been lower in recent 

years than on adjustable-rate subprime 

mortgages. It is not likely to be practical 

or effective, however, to target certain 

types of loans in the subprime market 

for coverage while excluding others. 

Such a rule would be unduly complex, 

likely fail to adapt quickly enough to 

ever-changing products, and encourage 

creditors to steer borrowers to 

uncovered products. 

In the prime market, however, the 

Board believes that a case-by-case 

approach to determining whether the 

§ 226.35 practices are unfair or 

deceptive is more appropriate. By 

nature, loans in the prime market have 

a lower credit risk. Moreover, the prime 

market is more transparent and 

competitive, characteristics that make it 

less likely a creditor can sustain an 

unfair, abusive, or deceptive practice. In 

addition, borrowers in the prime market 

are less likely to be under the degree of 

financial stress that tends to weaken the 

ability of many borrowers in the 

subprime market to protect themselves 

against unfair, abusive, or deceptive 

practices. The final rule applies 

protections against coercion of 

appraisers and unfair servicing practices 

to the prime market because, with 

respect to these particular practices, the 

prime market, too, suffers a lack of 

transparency and these practices do not 

appear to be limited to the subprime 

market. 

With these limited exceptions, at 

present the Board believes that any 

undue risks to consumers in the prime 

market from particular loan terms or 

lending practices are better addressed 

through means other than new 

regulations under HOEPA. Supervisory 

guidance from the federal agencies 

influences a large majority of the prime 

market which, unlike the subprime 

market, has been dominated by federally 

supervised institutions.36 Such 

guidance affords regulators and 

institutions alike more flexibility than a 

regulation, with potentially fewer 

unintended consequences. In addition, 

the standards the Government 

Sponsored Enterprises set for the loans 

they will purchase continue to have 

significant influence within the prime 

market, and these entities are 

accountable for those standards to 

regulators and Congress.37

Use the APR 

The Board also continues to believe—

and few, if any, commenters disagreed—

that the best way to identify the 

subprime market is by loan price rather 

than by borrower characteristics. 

Identifying a class of protected 

borrowers would present operational 

difficulties and other problems. For 

example, it is common to distinguish 

borrowers by credit score, with lowerscoring borrowers generally considered 

to be at higher risk of injury in the 

mortgage market. Defining the protected 

field as lower-scoring consumers would 

fail to protect higher-scoring consumers 

‘‘steered’’ to loans meant for lowerscoring consumers. Moreover, the 

market uses different commercial 

scores, and choosing a particular score 


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Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 44533 

38 IMF 2007 Mortgage Market at 4. 

as the benchmark for a regulation could 

give unfair advantage to the company 

that provides that score. 

The most appropriate measure of loan 

price for this regulation is the APR; few, 

if any, commenters disagreed with this 

point either. The APR corresponds 

closely to credit risk, that is, the risk of 

default as well as the closely related 

risks of serious delinquency and 

foreclosure. Loans with higher APRs 

generally have higher credit risks, 

whatever the source of the risk might 

be—weaker borrower credit histories, 

higher borrower debt-to-income ratios, 

higher loan-to-value ratios, less 

complete income or asset 

documentation, less traditional loan 

terms or payment schedules, or 

combinations of these or other risk 

factors. Because disclosing an APR has 

long been required by TILA, the figure 

is also very familiar and readily 

available to creditors and consumers. 

Therefore, the Board believes it 

appropriate to use a loan’s APR to 

identify loans having a high enough 

credit risk to warrant the protections of 

§ 226.35. 

Two loans with identical risk 

characteristics will likely have different 

APRs if they were originated when 

market rates were different. It is 

important to normalize the APR by an 

index that moves with mortgage market 

rates so that loans with the same risk 

characteristics will be treated the same 

regardless of when the loans were 

originated. The Board proposed to use 

as this index the yields on comparable 

Treasury securities, which HOEPA uses 

currently to identify HOEPA-covered 

loans, see TILA Section 103(aa), 15 

U.S.C. 1602(aa), and § 226.32(a), and 

Regulation C uses to identify mortgage 

loans reportable under HMDA as being 

higher-priced, see 12 CFR 203.4(a)(12). 

For reasons discussed in more detail 

below, the final rule uses instead an 

index that more closely tracks 

movements in mortgage rates than do 

Treasury yields. 

Uncertainty 

As the Board stated in connection 

with the proposal, there are three major 

reasons why it is inherently uncertain 

which APR threshold would achieve the 

twin objectives of covering the subprime 

market and generally excluding the 

prime market. First, there is not a 

uniform definition of the prime or 

subprime market, or of a prime or 

subprime loan. Moreover, the markets 

are separated by a somewhat loosely 

defined segment known as the alt-A 

market, the precise boundaries of which 

are not clear. 

Second, available data sets provide 

only a rough measure of the empirical 

relationship between APR and credit 

risk. A proprietary dataset such as the 

loan-level data on subprime securitized 

mortgages published by First American 

LoanPerformance may contain detailed 

information on loan characteristics, 

including the contract rate, but lack the 

APR or sufficient data to derive the 

APR. Other data must be consulted to 

estimate APRs based on contract rates. 

HMDA data contain the APR for 

mortgage loans reportable as being 

higher-priced (as adjusted by 

comparable Treasury securities), but 

they have little information about credit 

risk. 

Third, data sets can of course show 

only the existing or past distribution of 

loans across market segments, which 

may change in ways that are difficult to 

predict. In particular, the distribution 

could change in response to the Board’s 

imposition of the restrictions in 

§ 226.35, but the likely direction of the 

change is not clear. ‘‘Over compliance’’

could effectively lower the threshold. 

While a loan’s APR can be estimated 

early in the application process, it is 

typically not known to a certainty until 

after the underwriting has been 

completed and the interest rate has been 

locked. Creditors might build in a 

‘‘cushion’’ against this uncertainty by 

voluntarily setting their internal 

thresholds lower than the threshold in 

the regulation. 

Creditors would have a competing 

incentive to avoid the restrictions, 

however, by restructuring the prices of 

potential loans that would have APRs 

just above the threshold to cause the 

loans’ APRs to come under the 

threshold. Different combinations of 

contract rates and points that are 

economically identical for an originator 

produce different APRs. With the 

adoption of § 226.35, an originator may 

have an incentive to achieve a rate-point 

combination that would bring a loan’s 

APR below the threshold (if the 

borrower had the resources or equity to 

pay the points). Moreover, some fees, 

such as late fees and prepayment 

penalties, are not included in the APR. 

Creditors could increase the number or 

amounts of such fees to maintain a 

loan’s effective price while lowering its 

APR below the threshold. It is not clear 

whether the net effect of these 

competing forces of over-compliance 

and circumvention would be to capture 

more, or fewer, loans. 

For all of the above reasons, there is 

inherent uncertainty as to what APR 

threshold would perfectly achieve the 

objectives of covering the subprime 

market and generally excluding the 

prime market. In the face of this 

uncertainty, deciding on an APR 

threshold calls for judgment. As the 

Board stated with the proposal, the 

Board believes it is appropriate to err on 

the side of covering somewhat more 

than the subprime market. 

The Alt-A Market 

If the selected thresholds cover more 

than the subprime market, then they 

likely extend into what has been known 

as the alt-A market. The alt-A market is 

generally understood to be for borrowers 

who typically have higher credit scores 

than subprime borrowers but still pose 

more risk than prime borrowers because 

they make small down payments or do 

not document their incomes, or for other 

reasons. The definition of this market is 

not precise, however. 

The Board judges that the benefits of 

extending § 226.35’s restrictions into 

some part of the alt-A market to ensure 

coverage of the entire subprime market 

outweigh the costs. This market segment 

also saw undue relaxation of 

underwriting standards, one reason that 

its share of residential mortgage 

originations grew sixfold from 2003 to 

2006 (from two percent of originations 

to 13 percent). 38 See part VIII.C for 

further discussion of the relaxation of 

underwriting standards in the alt-A 

market. 

To the extent § 226.35 covers the 

higher-priced end of the alt-A market, 

where risks in that segment are highest, 

the regulation will likely benefit 

consumers more than it would cost 

them. Prohibiting lending without 

regard to repayment ability in this 

market slice would likely reduce the 

risk to consumers from ‘‘payment 

shock’’ on nontraditional loans. 

Applying the income verification 

requirement of §§ 226.32(a)(4)(ii) and 

226.35(b)(1) to the riskier part of the altA market could ameliorate injuries to 

consumers from lending based on 

inflated incomes without necessarily 

depriving consumers of access to credit. 

D. Index for Higher-Priced Mortgage 

Loans 

Under the proposal, higher-priced 

mortgage loans would be defined as 

consumer credit transactions secured by 

the consumer’s principal dwelling for 

which the APR on the loan exceeds the 

yield on comparable Treasury securities 

by at least three percentage points for 

first-lien loans, or five percentage points 

for subordinate-lien loans. The 

proposed definition would include 

home purchase loans, refinancings of 

home purchase loans, and home equity 


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44534 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

loans. The definition would exclude 

home equity lines of credit (‘‘HELOCs’’), 

reverse mortgages, construction-only 

loans, and bridge loans. 

The Board is adopting a definition of 

‘‘higher-priced mortgage loan’’ that is 

substantially similar to that proposed 

but different in the particulars. The final 

definition, like the proposed definition, 

sets a threshold above a measure of 

market rates to distinguish higherpriced mortgage loans from the rest of 

the mortgage market. But the measure 

the Board is adopting is different, and 

therefore so is the threshold. Instead of 

yields on Treasury securities, the final 

definition uses average offer rates for the 

lowest-risk prime mortgages, termed 

‘‘average prime offer rates.’’ For the 

foreseeable future, the Board will obtain 

or, as applicable, derive average prime 

offer rates for a wide variety of types of 

transactions from the Primary Mortgage 

Market Survey (PMMS) conducted by 

Freddie Mac, and publish these rates on 

at least a weekly basis. The Board will 

conduct its own survey if it becomes 

appropriate or necessary to do so. The 

threshold is set at 1.5 percentage points 

above the average prime offer rate on a 

comparable transaction for first-lien 

loans, and 3.5 percentage points for 

subordinate-lien loans. The exclusions 

from ‘‘higher-priced mortgage loans’’ for 

HELOCs and certain other types of 

transactions are adopted as proposed. 

Public Comment 

A large number and wide variety of 

industry commenters, as well as a 

consumer research and advocacy group, 

urged the Board to use a prime mortgage 

market rate instead of, or in addition to, 

Treasury yields. First, they argued the 

tendency of prime mortgage rates at 

certain times to deviate significantly 

from Treasury yields—such as during 

the ‘‘flight to quality’’ seen in recent 

months—would lead to unwarranted 

coverage of the prime market and 

arbitrary swings in coverage. Many of 

these commenters also pointed out that 

changes in the Treasury yield curve (the 

relationship of short-term to long-term 

Treasury yields) can increase or 

decrease coverage even though neither 

borrower risk profiles nor creditor 

practices or products have changed. The 

Board’s proposal to address this second 

problem by matching Treasuries to 

mortgages on the basis of the loan’s 

expected life span drew limited, but 

mostly negative, comment. Although 

one large lender specifically agreed with 

the proposed matching rules, a few 

others stated the rules were too 

complicated. 

The precise recommendations for a 

measure of mortgage market rates 

varied. Several commenters specifically 

recommended using the PMMS. They 

recommended that a threshold be added 

to the PMMS figure because it is, by 

design, at the low end of the range of 

rates that can be found in the prime 

market. Recommendations for 

thresholds for first-lien loans ranged 

from 150 to 300 basis points over the 

PMMS. Some commenters 

recommended approaches that would 

rely on both Treasuries and the PMMS. 

A few recommended the approach of a 

recent North Carolina law, which covers 

a first-lien loan only if its APR exceeds 

two thresholds: 300 basis points over 

the comparable Treasury yield and 175 

basis points over the PMMS rate for the 

30-year fixed-rate loan. A few 

recommended a different way to 

integrate Treasuries and the PMMS. 

Under this approach, the threshold 

would be set at the comparable Treasury 

yield (determined as proposed) plus 200 

basis points (400 for subordinate-lien 

loans), plus the spread between the 

PMMS 30-year FRM rate and the sevenyear Treasury. 

Some commenters offered alternatives 

to the PMMS. A consumer research and 

advocacy group and Freddie Mac 

suggested that the Board could use the 

higher of the Freddie Mac Required Net 

Yield (the yield Freddie Mac expects 

from purchasing a conforming mortgage) 

and the equivalent Fannie Mae yield. 

Fannie Mae offered a similar, but not 

identical, recommendation to use the 

higher of the current coupon yield for 

Fannie Mae Mortgage Backed Securities 

and Freddie Mac participation 

certifications (PC). These yields reflect 

the price at which a governmentsponsored entity (GSE) security can be 

sold in the market. At least one 

commenter suggested that the Board 

could conduct its own survey of 

mortgage market rates. 

Discussion 

Based on these comments and the 

analysis below, the final rule does not 

use Treasury yields as the index for 

higher-priced mortgage loans. Instead, 

the rule uses average offer rates on the 

lowest-risk prime mortgage loans, 

termed ‘‘average prime offer rates.’’ For 

the foreseeable future, the Board will 

obtain or, as applicable, derive these 

rates for a wide variety of types of 

transactions from the PMMS and 

publish them on a weekly basis. 

Drawbacks of using Treasury security 

yields. There are significant advantages 

to using Treasury yields to set the APR 

thresholds. Treasuries are traded in a 

highly liquid market; Treasury yield 

data are published for many different 

maturities and can easily be calculated 

for other maturities; and the integrity of 

published yields is not subject to 

question. For these reasons, Treasuries 

are also commonly used in federal 

statutes, such as HOEPA, for 

benchmarking purposes. 

As recent events have highlighted, 

however, using Treasury yields to set 

the APR threshold in a law regulating 

mortgage loans has two major 

disadvantages. The most significant 

disadvantage is that the spread between 

Treasuries and mortgage rates, even 

prime mortgage rates, changes in the 

short term and in the long term. 

Moreover, the comparable Treasury 

security for a given mortgage loan is 

quite difficult to determine accurately. 

The Treasury-mortgage spread can 

change for at least three different 

reasons. First, credit risk may change on 

mortgages, even for the highest-quality 

borrowers. For example, credit risk 

increases when house prices fall. 

Second, competition for prime 

borrowers can increase, tightening 

spreads, or decrease, allowing lenders to 

charge wider spreads. Third, 

movements in financial markets can 

affect Treasury yields but have no effect 

on lenders’ cost of funds or, therefore, 

on mortgage rates. For example, 

Treasury yields fall disproportionately 

more than mortgage rates during a 

‘‘flight to quality.’’

Recent events illustrate how much the 

Treasury-mortgage spread can swing. 

The spread averaged about 170 basis 

points in 2007, but increased to an 

average of about 220 basis points in the 

first half of 2008. In addition, the spread 

was highly volatile in this period, 

shifting as much as 25 basis points in a 

week. The spread may decrease, but 

predictions of long-term spreads are 

highly uncertain. 

Changes in the Treasury-mortgage 

spread can undermine key objectives of 

the regulation. These changes mean that 

loans with identical credit risk are 

covered in some periods but not in 

others, contrary to the objective of 

consistent and predictable coverage over 

time. Moreover, lenders’ uncertainty as 

to when such changes will occur can 

cause them to set an internal threshold 

below the regulatory threshold. This 

may reduce credit availability directly 

(if a lender’s policy is not to make 

higher-priced mortgage loans) or 

indirectly, by increasing regulatory 

burden. The recent volatility might lead 

lenders to set relatively conservative 

cushions. 

Adverse consequences of volatility in 

the spread between mortgages rates and 

Treasuries could be reduced simply by 

setting the regulatory threshold at a high 

enough level to ensure it excludes all 


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Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 44535 

39Robert B. Avery, Kenneth P. Brevoort, and 

Glenn B. Canner, Higher-Priced Home Lending and 

the 2005 HMDA Data, 92 Fed. Res. Bulletin A123–

66 (Sept. 8, 2006). 

40See http://www.freddiemac.com/dlink/html/ 

PMMS/display/PMMSOutputYr.jsp. 

prime loans. But a threshold high 

enough to accomplish this objective 

would likely fail to meet another, 

equally important objective of covering 

essentially all of the subprime market. 

Instead, the Board is adopting a rate that 

closely follows mortgage market rates, 

which should mute the effects on 

coverage of changes in the spread 

between mortgage rates and Treasury 

yields. 

The second major disadvantage of 

using Treasury yields to set the 

threshold is that the comparable 

Treasury security for a given mortgage 

loan is quite difficult to determine 

accurately. Regulation C determines the 

comparable Treasury security on the 

basis of contractual maturity: A loan is 

matched to a Treasury with the same 

contract term. For example, the 

regulation matches a 30-year mortgage 

loan to a 30-year Treasury security. This 

method does not, however, account for 

the fact that very few loans reach their 

full maturity, and it causes significant 

distortions when the yield curve 

changes shape.39 These distortions can 

bias coverage, sometimes in 

unpredictable ways, and consequently 

might influence the preferences of 

lenders to offer certain loan products in 

certain environments. For example, a 

steep yield curve will create two 

regulatory forces pushing the subprime 

market toward ARMs: A lender could 

avoid coverage on the margins by selling 

ARMs rather than fixed-rate mortgages, 

and the consumer would receive an 

APR that understates the interest rate 

risk from an ARM relative to that from 

a fixed-rate mortgage. (Regulation Z 

requires the APR be calculated as if the 

index does not change; a steep yield 

curve indicates that the index will likely 

rise.) Artificial regulatory incentives to 

increase ARMs production in the 

subprime market could undermine 

consumer protection. 

The Board proposed to reduce 

distortions in coverage resulting from 

changes in the yield curve by matching 

loans to Treasury securities on the basis 

of the loan’s expected life span rather 

than its legal term to maturity. For 

example, the Board proposed to match 

a 30-year fixed-rate mortgage loan to a 

10-year Treasury security on the 

supposition that the mortgage loan will 

prepay (or default) in ten years or less. 

A limitation of this approach is that 

loan life spans change as rates of house 

price appreciation, mortgage rates, and 

macroeconomic factors such as 

unemployment rates change. Loan life 

spans also change as specific loan 

features that influence default or 

prepayment rates change, such as 

prepayment penalties. The challenge of 

adjusting the regulation’s matching 

rules on a timely basis would be 

substantial, and too-frequent 

adjustments would complicate 

creditors’ compliance. Indeed, many 

commenters judged the proposed 

matching rules to be too complicated. 

This matching problem can be reduced, 

if not necessarily eliminated, by using 

mortgage market rates instead of 

Treasury security yields to set the 

threshold. 

A rate from the prime mortgage 

market. To address the principal 

drawbacks of Treasury security yields, 

the Board is adopting a final rule that 

relies instead on a rate that more closely 

tracks rates in the prime mortgage 

market. Section 226.35(a)(2) defines an 

‘‘average prime offer rate’’ as an annual 

percentage rate derived from average 

interest rates, points, and other pricing 

terms offered by a representative sample 

of creditors for mortgage transactions 

that have low-risk pricing 

characteristics. Comparing a 

transaction’s annual percentage rate to 

this average offered annual percentage 

rate, rather than to an average offered 

contract interest rate, should make the 

rule’s coverage more accurate and 

consistent. A transaction is a higherpriced mortgage loan if its APR exceeds 

the average prime offer rate for a 

comparable transaction by 1.5 

percentage points, or 3.5 percentage 

points in the case of a subordinate-lien 

transaction. (The basis for selecting 

these thresholds is explained further in 

part VIII.E) The creditor uses the most 

recently available average prime offer 

rate as of the date the creditor sets the 

transaction’s interest rate for the final 

time before consummation. 

To facilitate compliance, the final rule 

and commentary provide that the Board 

will derive average prime offer rates 

from survey data according to a 

methodology it will make publicly 

available, and publish these rates in a 

table on the Internet on at least a weekly 

basis. This table will indicate how to 

identify a comparable transaction. 

As noted above, the survey the Board 

intends to use for the foreseeable future 

is the PMMS, which contains weekly 

average rates and points offered by a 

representative sample of creditors to 

prime borrowers seeking a first-lien, 

conventional, conforming mortgage and 

who would have at least 20 percent 

equity. The PMMS contains pricing data 

for four types of transactions: ‘‘1-year 

ARM,’’ ‘‘5/1-year ARM,’’ ‘‘30-year 

fixed,’’ and ‘‘15-year fixed.’’ For the two 

types of ARMs, PMMS pricing data are 

based on ARMs that adjust according to 

the yield on one-year Treasury 

securities; the pricing data include the 

margin and the initial rate (if it differs 

from the sum of the index and margin). 

These data are updated every week and 

are published on Freddie Mac’s Web 

site.40

The Freddie Mac PMMS is the most 

viable option for obtaining average 

prime offer rates. This is the only 

publicly available data source that has 

rates for more than one kind of fixedrate mortgage (the 15-year and the 30- 

year) and more than one kind of 

variable-rate mortgage (the 1-year ARM 

and the 5/1 ARM). Having rates on at 

least two fixed-rate products and at least 

two variable-rate products supplies a 

firmer basis for estimating rates for other 

fixed-rate and variable-rate products 

(such as a 20-year fixed or a 3/1 ARM). 

Other publicly available surveys the 

Board considered are less suitable for 

the purposes of this rule. Only one ARM 

rate is collected by the Mortgage 

Bankers Association’s Weekly Mortgage 

Applications Survey and the Federal 

Housing Finance Board’s Monthly 

Survey of Interest Rates and Terms on 

Conventional Single-Family Non-Farm 

Mortgage Loans. Moreover, the FHFB 

Survey has a substantial lag because it 

is monthly and reports rates on closed 

loans. The Board also evaluated two 

non-survey options involving Fannie 

Mae and Freddie Mac. One is the 

Required Net Yield, the prices these 

institutions will pay to purchase loans 

directly. The other is the yield on 

mortgage-backed securities issued by 

Fannie Mae and Freddie Mac. With 

either option, data for ARM yields 

would be difficult to obtain. 

These other data sources, however, 

provide useful benchmarks to evaluate 

the accuracy of the PMMS. The PMMS 

has closely tracked these other indices, 

according to a Board staff analysis. The 

Board will continue to use them 

periodically to help it determine 

whether the PMMS remains an 

appropriate data source for Regulation 

Z. If the PMMS ceases to be available, 

or if circumstances arise that render it 

unsuitable for this rule, the Board will 

consider other alternatives including 

conducting its own survey. 

The Board will use the pricing terms 

from the PMMS, such as interest rate 

and points, to calculate an annual 

percentage rate (consistent with 

Regulation Z, § 226.22) for each of the 

four types of transactions that the 


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44536 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

41One trade association reported that some of its 

members found the proposal would have covered 

up to one-third of prime loans originated between 

November 2007 and January 2008. This and other 

commenters said the effect was particularly 

pronounced with ARMs. Several members of this 

association were reported to have found that more 

than one-half of prime 7/1, 5/1, and 3/1 ARMs 

originated between November 2007 and January 

2008 would have been covered. A different 

association of mortgage lenders indicated that some 

of its members had found that almost 20 percent of 

prime and alt-A loans would be covered under the 

proposal, though the time frame its members used 

was not specified. A major lender reported that the 

proposal would have captured 8–10 percent of its 

portfolio in 2006 and 2007, about twice the portion 

of its portfolio that it was required to report as 

higher-priced under HMDA. The lender represents 

that it did not make subprime loans in this period 

and asserts that its figures are predictive of the 

impact the proposal would have on the prime 

market overall. Another large lender that stated it 

does not make subprime loans believes that about 

10 percent of its current originations would fall 

above the proposed thresholds. One lender, 

however, expressed satisfaction with the proposed 

300 basis points for first-lien loans and said an 

internal analysis of historical data found it would 

not have captured significant numbers of its prime 

loans. But this lender’s analysis found that 

significant numbers of prime subordinate-lien loans 

would have been captured, leading the lender to 

recommend raising the threshold for subordinatelien loans to 600 basis points. 

42The Board noted in the proposal that the 

percentage of the first-lien mortgage market 

Regulation C has captured as higher-priced using a 

threshold of three percentage points has been 

greater than the percentage of the total market 

originations that one industry source has estimated 

to be subprime (25 percent vs. 20 percent in 2005; 

28 percent vs. 20 percent in 2006). For industry 

estimates see IMF 2007 Mortgage Market at 4. 

Regulation C’s coverage of higher-priced loans is 

not thought, however, to have reached the prime 

market in those years. Rather, in both 2005 and 

2006 it reached into the alt-A market, which the 

same source estimated to be 12 percent in 2005 and 

13 percent in 2006. In 2004, Regulation C captured 

a significantly smaller part of the market than an 

industry estimate of the subprime market (11 

percent vs. 19 percent), but that year’s HMDA data 

were somewhat anomalous because of a steep yield 

curve. 

43Annual percentage rates were estimated from 

the contract rates in these data using formulas 

derived from a separate proprietary database of 

subprime loans that collects contract rates, points, 

and annual percentage rates. This separate database, 

which contains data on the loan originations of 

eight subprime mortgage lenders, is maintained by 

the Financial Services Research Program at George 

Washington University. 

PMMS reports. These annual percentage 

rates are the average prime offer rates for 

transactions of that type. The Board will 

derive annual percentage rates for other 

types of transactions from the loan 

pricing terms available in the survey. 

The method of derivation the Board 

expects to use is being published for 

comment in connection with the 

simultaneously proposed revisions to 

Regulation C. When finalized, the 

method will be published on the 

Internet along with the table of annual 

percentage rates. 

E. Threshold for Higher-Priced Mortgage 

Loans 

The Board proposed a threshold of 

three percentage points above the 

comparable Treasury security for firstlien loans, or five percentage points for 

subordinate-lien loans. Since the final 

rule uses a different index, it must also 

use a different threshold. The Board is 

adopting a threshold for first-lien loans 

of 1.5 percentage points above the 

average prime offer rate for a 

comparable transaction, and 3.5 

percentage points for second-lien loans. 

Public Comment 

Industry commenters consistently 

contended that, should the Board use 

Treasury yields as proposed, thresholds 

of 300 and 500 basis points would be 

too low to meet the Board’s stated 

objective of excluding the prime 

market.41 These commenters 

recommended thresholds of 400 basis 

points (600 for subordinate-lien loans) 

or higher, but a few trade associations 

recommended 500 (700) or 600 (800). 

These commenters contended that 

covering any part of the prime market 

would harm consumers because the 

secondary market would not purchase 

loans with rates over the threshold. 

They also stated that many originators 

would seek to avoid originating such 

loans because of a stigma these 

commenters expect will attach to such 

loans, the increased compliance cost 

associated with the proposed 

regulations, and the substantial 

monetary recovery TILA Section 130 

would provide plaintiffs for violations 

of the regulations. 

A trade association for the 

manufactured housing industry 

submitted that the proposed thresholds 

would cover a substantial majority of 

personal property loans used to 

purchase manufactured homes. This 

commenter contended that the reasons 

these loans are priced higher than loans 

secured by real estate (such as the 

smaller loan amounts and the lack of 

real property securing the loan) do not 

support a rule that would cover 

personal property loans 

disproportionately. 

Consumer and civil rights group 

commenters generally, but not 

uniformly, opposed limiting protections 

to higher-rate loans and recommended 

applying these protections to all loans 

secured by a principal dwelling. They 

recommended in the alternative that the 

thresholds be adopted at the levels 

proposed or even lower. They argued it 

was critical to cover all of the subprime 

market and much if not all of the alt-A 

market. 

Discussion 

As discussed above, the Board has 

concluded that the stricter regulations of 

§ 226.35 should cover the subprime 

market and generally exclude the prime 

market; and in the face of uncertainty it 

is appropriate to err on the side of 

covering somewhat more than the 

subprime market. Based on available 

data, it appeared that the thresholds the 

Board proposed would capture all of the 

subprime market and a portion of the 

alt-A market.42 Based also on available 

data, the Board believes that the 

thresholds it is adopting would cover 

all, or virtually all, of the subprime 

market and a portion of the alt-A 

market. The Board considered loan-level 

origination data for the period 2004 to 

2007 for subprime and alt-A securitized 

pools. The proprietary source of these 

data is FirstAmerican Loan 

Performance.43 The Board also 

ascertained from a proprietary database 

of mostly prime loans (McDash 

Analytics) that coverage of the prime 

market during the first three quarters of 

2007 at these thresholds would have 

been very limited. The Board recognizes 

that the recent mortgage market 

disruption began at the end of this 

period, but it is the latest period for 

which data were available. 

The Board is adopting a threshold for 

subordinate-lien loans of 3.5 percentage 

points. This is consistent with the 

Board’s proposal to set the threshold 

over Treasury yields for these loans two 

percentage points above the threshold 

for first-lien loans. With rare exceptions, 

commenters explicitly endorsed, or at 

least did not raise any objection to, this 

approach. The Board recognizes that it 

would be preferable to set a threshold 

for second-lien loans above a measure of 

market rates for second-lien loans, but it 

does not appear that a suitable measure 

of this kind exists. Although data are 

very limited, the Board believes it is 

appropriate to apply the same difference 

of two percentage points to the 

thresholds above average prime offer 

rates. 

As discussed earlier, the Board 

recognizes that there are limitations to 

making judgments about the future 

scope of the rule based on past data. For 

example, when the final rule takes 

effect, the risk premiums for alt-A loans 

compared to the conforming loans in the 

PMMS may be higher than the risk 

premiums for the period 2004–2007. In 

that case, coverage of alt-A loans would 

be higher than an estimate for that 

period would indicate. 

Another important example is prime 

‘‘jumbo’’ loans, or loans extended to 

borrowers with low-risk mortgage 


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Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 44537 

44The specific concern of the commenter is with 

the requirement to escrow, not, apparently, with the 

other requirements for higher-priced loans. As 

discussed in part IX.D, the Board is providing 

creditors two years to comply with the escrow 

requirement for manufactured home loans. 

pricing characteristics, but in amounts 

that exceed the threshold for loans 

eligible for purchase by Freddie Mac or 

Fannie Mae. The PMMS collects pricing 

data only on loans eligible for purchase 

by one of these entities (‘‘conforming 

loans’’). Prime jumbo loans have always 

had somewhat higher rates than prime 

conforming loans, but the spread has 

widened significantly and become much 

more volatile since August 2007. If this 

spread remains wider and more volatile 

when the final rule takes effect, the rule 

will cover a significant share of 

transactions that would be prime jumbo 

loans. While covering prime jumbo 

loans is not the Board’s objective, the 

Board does not believe that it should set 

the threshold at a higher level to avoid 

what may be only temporary coverage of 

these loans relative to the long time 

horizon for this rule. 

A third example is a request from a 

trade association for the manufactured 

housing industry, including lenders 

specializing in this industry, that the 

thresholds be set higher for loans 

secured by dwellings deemed to be 

personal property. This association 

pointed to the higher risk creditors bear 

on these loans compared to loans 

secured by real property, which makes 

their rates systematically higher for 

reasons apart from the risks they pose to 

consumers. It also maintained that such 

loans have not been associated with the 

abusive practices of the subprime 

market.44

Credit risk and liquidity risk can vary 

by many factors, including geography, 

property type, and type of loan. This 

may suggest to some that different 

thresholds should be applied to 

different classes of transactions. This 

approach would make the regulation 

inordinately complicated and subject it 

to frequent revision, which would not 

be in the interest of creditors, investors, 

or consumers. Although the simpler 

approach the Board is adopting—just 

two thresholds, one for first-lien loans 

and another for subordinate-lien loans—

has its disadvantages, the Board believes 

they are outweighed by its benefits of 

simplicity and stability. 

F. The Timing of Setting the Threshold 

The Board proposed to set the 

threshold for a dwelling-secured 

mortgage loan as of the application date. 

Specifically, a creditor would use the 

Treasury yield as of the 15th of the 

month preceding the month in which 

the application is received. The Board 

noted that inconsistency with 

Regulation C, which sets the threshold 

as of the 15th of the month before the 

rate is locked, could increase regulatory 

burden. The Board suggested, however, 

that setting the threshold as of the 

application date might introduce more 

certainty, earlier in the application 

process, to the determination as to 

whether a potential transaction would 

be a higher-priced mortgage loan when 

consummated. 

Very few commenters addressed the 

precise issue. A couple of them 

specifically advocated using the rate 

lock date to select the Treasury yield, as 

in Regulation C, rather than the 

application date. Subsequent outreach 

by the Board indicated that there are 

different views as to which date to use. 

Some parties prefer the rate lock date 

because it is more accurate and 

therefore would minimize coverage of 

loans that are not intended to be 

covered and maximize coverage of loans 

that are intended to be covered. Other 

parties prefer the application date 

because they believe it increases the 

creditor’s ability to predict, when 

underwriting the loan, that the loan is, 

or is not, covered by § 226.35. 

As noted above, the final rule requires 

the creditor to use the rate lock date, the 

date the rate is set for the final time 

before consummation, rather than the 

application date. Using the application 

date might increase the predictability of 

coverage at the time of underwriting. 

Using the rate lock date would increase 

the accuracy of coverage at least 

somewhat. On balance, the Board 

believes it is more important to 

maximize coverage accuracy. 

G. Proposal To Conform Regulation C 

(HMDA) 

Regulation C, which implements 

HMDA, requires creditors to report price 

data on higher-priced mortgage loans. A 

creditor reports the difference between 

a loan’s annual percentage rate and the 

yield on Treasury securities having 

comparable periods of maturity, if that 

difference is at least three percentage 

points for first-lien loans or at least five 

percentage points for subordinate-lien 

loans. 12 CFR 203.4(a)(12). Many 

commenters suggested that the Board 

establish a uniform definition of 

‘‘higher-priced mortgage loan’’ for 

purposes of Regulation C and 

Regulation Z. Having a single definition 

would reduce regulatory burden and 

make the HMDA data a more useful tool 

to evaluate effects of Regulation Z. 

Moreover, the Board adopted Regulation 

C’s requirement to report certain 

mortgage loans as being higher-priced 

with an objective of covering the 

subprime market and exclude the prime 

market, and the definition of ‘‘higherpriced mortgage loan’’ adopted in this 

rule better achieves this objective than 

the definition in Regulation C for the 

reasons discussed in part VIII.D. 

Accordingly, in a separate notice 

published simultaneously with this 

final rule the Board is proposing to 

amend Regulation C to apply the same 

index and threshold adopted in 

§ 226.35(a). 

H. Types of Loans Covered Under 

§ 226.35 

The Board proposed to apply the 

protections of § 226.35 to first-lien, as 

well as subordinate-lien, closed-end 

mortgage loans secured by the 

consumer’s principal dwelling. This 

would include home purchase loans, 

refinancings, and home equity loans. 

The proposed definition would not 

cover loans that do not have primarily 

a consumer purpose, such as loans for 

real estate investment. The proposed 

definition also would not cover 

HELOCs, reverse mortgages, 

construction-only loans, or bridge loans. 

In these respects, the rule is adopted as 

proposed. 

Coverage of Home Purchase Loans, 

Refinancings, and Home Equity Loans 

The statutory protections for HOEPA 

loans are generally limited to closed-end 

refinancings and home equity loans. See 

TILA Section 103(aa), 15 U.S.C. 

1602(aa). The final rule applies the 

protections of § 226.35 to loans of these 

types, which have historically presented 

the greatest risk to consumers. These 

loans are often made to consumers who 

have home equity and, therefore, have 

an existing asset at risk. These loans 

also can be marketed aggressively by 

originators to homeowners who may not 

benefit from them and who, if 

responding to the marketing and not 

shopping independently, may have 

limited information about their options. 

The Board proposed to use its 

authority under TILA Section 129(l)(2), 

15 U.S.C. 1639(l)(2), to apply the 

protections of § 226.35 to home 

purchase loans as well. Commenters did 

not object, and the Board is adopting the 

proposal. Covering only refinancings of 

home purchase loans would fail to 

protect consumers adequately. From 

2003 through the first half of 2007, 42 

percent of the higher-risk ARMs that 

came to dominate the subprime market 

in recent years were extended to 


sroberts on PROD1PC70 with RULES
44538 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

45Figure calculated from First American 

LoanPerformance data. 

46 Interagency Credit Risk Guidance for Home 

Equity Lending, SR 05–11 (May 16, 2005), available 

at http://www.federalreserve.gov/boarddocs/ 

srletters/2005/sr0511a1.pdf.; Addendum to Credit 

Risk Guidance for Home Equity Lending, SR 06–15 

(Sept. 29, 2006), available at http:// 

www.federalreserve.gov/BoardDocs/SRLetters/2006/ 

SR0615a3.pdf. 

consumers to purchase a home.45

Delinquencies on subprime ARMs used 

for home purchase have risen more 

sharply than they have for refinancings. 

Moreover, comments and testimony at 

the Board’s hearings indicate that the 

problems with abusive lending practices 

are not confined to refinancings and 

home equity loans. 

Furthermore, consumers who are 

seeking home purchase loans can face 

unique constraints on their ability to 

make decisions. First-time homebuyers 

are likely unfamiliar with the mortgage 

market. Homebuyers generally are 

primarily focused on acquiring a new 

home, arranging to move into it, and 

making other life plans related to the 

move, such as placing their children in 

new schools. These matters can occupy 

much of the time and attention 

consumers might otherwise devote to 

shopping for a loan and deciding what 

loan to accept. Moreover, even if the 

consumer comes to understand later in 

the application process that an offered 

loan may not be appropriate, the 

consumer may not be able to reject the 

loan without risk of abrogating the sales 

agreement and losing a substantial 

deposit, as well as disrupting moving 

plans. 

Limitation to Loans Secured by 

Principal Dwelling; Exclusion of Loans 

for Investment 

As proposed, § 226.35 protections are 

limited to loans secured by the 

consumer’s principal dwelling. The 

Board’s primary concern is to ensure 

that consumers not lose the homes they 

principally occupy because of unfair, 

abusive, or deceptive lending practices. 

The inevitable costs of new regulation, 

including potential unintended 

consequences, can most clearly be 

justified when people’s principal homes 

are at stake. 

A loan to a consumer to purchase or 

improve a second home would not be 

covered by these protections unless the 

loan was secured by the consumer’s 

principal dwelling. Loans primarily for 

a real estate investment purpose also are 

not covered. This exclusion is 

consistent with TILA’s focus on 

consumer-purpose transactions and its 

exclusion in Section 104 of credit 

primarily for business, commercial, or 

agricultural purposes. See 15 U.S.C. 

1603(1). Real estate investors are 

expected to be more sophisticated than 

ordinary consumers about the real estate 

financing process and to have more 

experience with it, especially if they 

invest in several properties. 

Accordingly, the need to protect 

investors is not clear, and in any event 

is likely not sufficient to justify the 

potential unintended consequences of 

imposing restrictions, with civil liability 

if they are violated, on the financing of 

real estate investment transactions. 

The Board shares concerns that 

individuals who invest in residential 

real estate and do not pay their mortgage 

obligations put tenants at risk of 

eviction in the event of foreclosure. 

Regulating the rights of landlords and 

tenants, however, is traditionally a 

matter for state and local law. The Board 

believes that state and local law could 

better address this particular concern 

than a Board regulation. 

Coverage of Nontraditional Mortgages 

Under the final rule, nontraditional 

mortgage loans, which permit nonamortizing payments or negatively 

amortizing payments, are covered by 

§ 226.35 if their APRs exceed the 

threshold. Several consumer and civil 

rights groups, and others, contended 

that § 226.35 should cover 

nontraditional mortgage loans regardless 

of loan price because of their potential 

for significant payment shock and other 

risks that led the federal banking 

agencies to issue the Nontraditional 

Mortgage Guidance. The Board does not 

believe that the enhanced protections of 

§ 226.35 should be applied on the basis 

of product type, with the limited 

exception of the narrow exemptions for 

HELOCs and other loan types the Board 

is adopting. A rule based on product 

type would need to be reexamined 

frequently as new products were 

developed, which could undermine the 

market by making the rule less 

predictable. Moreover, it is not clear 

what criteria the Board would use to 

decide which products were sufficiently 

risky to warrant categorical coverage. 

The Board believes that other tools such 

as supervisory guidance provide the 

requisite flexibility to address particular 

product types when that becomes 

necessary. 

HELOC Exemption 

The Board proposed to exempt 

HELOCs largely for two reasons. First, 

the Board noted that most originators of 

HELOCs hold them in portfolio rather 

than sell them, which aligns these 

originators’ interests in loan 

performance more closely with their 

borrowers’ interests. Second, unlike 

originations of higher-priced closed-end 

mortgage loans, HELOC originations are 

concentrated in the banking and thrift 

industries, where the federal banking 

agencies can use supervisory authorities 

to protect borrowers. For example, when 

inadequate underwriting of HELOCs 

unduly increased risks to originators 

and consumers several years ago, the 

agencies responded with guidance.46

The Board also pointed to TILA and 

Regulation Z’s special protections for 

borrowers with HELOCs such as 

restrictions on changing plan terms. 

Several national trade associations 

and a few large lenders voiced strong 

support for excluding HELOCs, 

generally for the reasons the Board 

cited. Several consumer and civil rights 

groups disagreed, contending that 

enough HELOCs are securitized to raise 

doubts that the originator’s interests are 

sufficiently aligned with the borrower’s 

interests. They maintained that 

Regulation Z disclosures and limitations 

for HELOCs are not adequate to protect 

consumers, and pointed to specific 

cases in which unaffordable HELOCs 

had been extended. Other commenters, 

such as an association of state 

regulators, agreed that HELOCs should 

be covered. Commenters offered very 

few concrete suggestions, however, for 

how to determine which HELOCs would 

be covered, such as an index and 

threshold. 

The Board is adopting the proposal 

for the reasons stated. The Board 

recognizes, however, that HELOCs 

present a risk of circumvention. 

Creditors may seek to evade limitations 

on closed-end transactions by 

structuring such transactions as openend transactions. In § 226.35(b)(5), 

discussed below in part IX.E, the Board 

prohibits structuring a closed-end loan 

as an open-end transaction for the 

purpose of evading the new rules in 

§ 226.35. 

Other Exemptions Adopted 

The other proposed exclusions drew 

limited comment. A couple of 

commenters expressed support for 

excluding reverse mortgages while a 

couple of commenters opposed it. A few 

large lenders voiced support for 

excluding construction-only loans. A 

few commenters voiced support for the 

exclusion of temporary bridge loans of 

12 months or less, and none of the 

commenters seemed to oppose it. The 

Board is adopting the proposed 

exclusions for reverse mortgages, 

construction-only loans, and temporary 

or bridge loans of 12 months or less. 


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Reverse mortgages. The Board is 

keenly aware of consumer protection 

concerns raised by the expanding 

market for reverse mortgages, which are 

complex and are sometimes marketed 

with other complex financial products. 

Unique aspects of reverse mortgages—

for example, the borrower’s repayment 

ability is based on the value of the 

collateral rather than on income—

suggest that they should be addressed 

separately from this final rule. The 

Board is reviewing this segment of the 

mortgage market in connection with its 

comprehensive review of Regulation Z 

to determine what measures may be 

required to ensure consumers are 

protected. 

Construction-only loans. Section 

226.35 excludes a construction-only 

loan, defined as a loan solely for the 

purpose of financing the initial 

construction of a dwelling, consistent 

with the definition of a ‘‘residential 

mortgage transaction’’ in § 226.2(a)(24). 

A construction-only loan does not 

include the permanent financing that 

replaces a construction loan. 

Construction-only loans do not appear 

to present the same risk of consumer 

abuse as other loans the proposal would 

cover. The permanent financing, or a 

new home-secured loan following 

construction, would be covered by 

proposed § 226.35 depending on its 

APR. Applying § 226.35 to constructiononly loans, which generally have higher 

interest rates than the permanent 

financing, could hinder some borrowers’

access to construction financing without 

meaningfully enhancing consumer 

protection 

Bridge loans. HOEPA now covers 

certain bridge loans with rates or fees 

high enough to make them HOEPA 

loans. TILA Section 129(l)(1) provides 

the Board authority to exempt classes of 

mortgage transactions from HOEPA if 

the Board finds that the exemption is in 

the interest of the borrowing public and 

will apply only to products that 

maintain and strengthen 

homeownership and equity protection. 

15 U.S.C. 1639(l)(2). The Board believes 

a narrow exemption for bridge loans 

from the restrictions of § 226.35, as they 

apply to HOEPA loans, would be in 

borrowers’ interest and support 

homeownership. 

The final rule, like the proposed rule, 

gives as an example of a ‘‘temporary or 

bridge loan’’ a loan to purchase a new 

dwelling where the consumer plans to 

sell a current dwelling within 12 

months. This is not the only potential 

bona fide example of a temporary or 

bridge loan. The Board does expect, 

however, that the temporary or bridge 

loan exemption will be applied 

narrowly and not to evade or 

circumvent the regulation. For example, 

a 12-month loan with a substantial 

balloon payment would not qualify for 

the exemption where it was clearly 

intended to lead a borrower to refinance 

repeatedly into a chain of 12-month 

loans. 

Exemptions Not Adopted 

Industry commenters proposed 

additional exclusions that the Board is 

not adopting. 

Government-guaranteed loans. Some 

commenters proposed excluding loans 

with federal guaranties such as FHA, 

VA, and Rural Housing Service. They 

suggested that the federal regulations 

that govern these loans are sufficient to 

protect consumers, and that new 

regulations under HOEPA were not only 

unnecessary but could cause confusion. 

At least one commenter also suggested 

excluding loans with state or local 

agency guaranties. 

The Board does not believe that 

exempting government-guaranteed loans 

from § 226.35 is appropriate. It is not 

clear what criteria the Board would use 

to decide precisely which government 

programs would be exempted; 

commenters did not offer concrete 

suggestions. Moreover, such exemptions 

could attract to agency programs less 

scrupulous originators seeking to avoid 

HOEPA’s civil liability, with serious 

unintended consequences for 

consumers as well as for the agencies 

and taxpayers. 

Jumbo loans. A few commenters 

proposed excluding non-conforming or 

‘‘jumbo’’ loans, that is, loans that exceed 

the threshold amount for eligibility for 

purchase by Fannie Mae or Freddie 

Mac. They cited a lack of evidence of 

widespread problems with jumbo loan 

performance, and a belief that borrowers 

who can afford jumbo loans are more 

sophisticated consumers and therefore 

better able to protect themselves. 

The Board does not believe excluding 

jumbo loans would be appropriate. The 

request is based on certain assumptions 

about the characteristics of the 

borrowers who take out jumbo loans. In 

fact, jumbo loans are offered in the 

subprime and alt-A markets and not just 

in the prime market. A categorical 

exemption of jumbo loans could 

therefore seriously undermine 

protections for consumers, especially in 

areas with above-average home prices. 

Portfolio loans. A commenter 

proposed excluding loans held in 

portfolio on the basis that a lender will 

take more care with these loans. Among 

other concerns with such an exemption 

is that it often cannot be determined as 

of consummation whether a loan will be 

held in portfolio or sold immediately—

or, if held, for how long before being 

sold. Therefore, such an exception to 

the rule does not appear practicable and 

could present significant opportunities 

for evasion. 

IX. Final Rules for Higher-Priced 

Mortgage Loans and HOEPA Loans 

A. Overview 

This part discusses the new consumer 

protections the Board is applying to 

‘‘higher-priced mortgage loans’’ and 

HOEPA loans. Creditors are prohibited 

from extending credit without regard to 

borrowers’ ability to repay from sources 

other than the collateral itself. The final 

rule differs from the proposed rule in 

that it removes the proposed ‘‘pattern or 

practice’’ phrase and adds a 

presumption of compliance when 

certain underwriting procedures are 

followed. Creditors are also required to 

verify income and assets they rely upon 

to determine repayment ability, and to 

establish escrow accounts for property 

taxes and insurance. In addition, a 

higher-priced mortgage loan may not 

have a prepayment penalty except 

under certain conditions. These 

conditions are substantially narrower 

than those proposed. 

The Board finds that the prohibitions 

in the final rule are necessary to prevent 

practices that the Board finds to be 

unfair, deceptive, associated with 

abusive lending practices, or otherwise 

not in the interest of the borrower. See 

TILA Section 129(l)(2), 15 U.S.C. 

1639(l)(2), and the discussion of this 

statute in part V above. 

The Board is also adopting the 

proposed rule prohibiting a creditor 

from structuring a closed-end mortgage 

loan as an open-end line of credit for the 

purpose of evading the restrictions on 

higher-priced mortgage loans, which do 

not apply to open-end lines of credit. 

This rule is based on the authority of the 

Board under TILA Section 129(l)(2) to 

prohibit practices that would evade 

Board regulations adopted under 

authority of that statute. 15 U.S.C. 

1639(l)(2). 

B. Disregard of Consumer’s Ability To 

Repay—§§ 226.34(a)(4) and 226.35(b)(1) 

TILA Section 129(h), 15 U.S.C. 

1639(h), and Regulation Z § 226.34(a)(4) 

prohibit a pattern or practice of 

extending credit subject to § 226.32 

(HOEPA loans) based on consumers’

collateral without regard to their 

repayment ability. The regulation 

creates a presumption of a violation 

where a creditor has a pattern or 

practice of failing to verify and 

document repayment ability. The Board 


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47 In a typical case of a 2–28 discounted ARM, a 

$200,000 loan with a discounted rate of 7 percent 

for two years (compared to a fully-indexed rate of 

11.5 percent) and a 10 percent maximum rate in the 

third year would start at a payment of $1,531 and 

jump to a payment of $1,939 in the third year, even 

if the index value did not increase. The rate would 

reach the fully-indexed rate in the fourth year (if the 

index value still did not change), and the payment 

would increase to $2,152. The example assumes an 

initial index of 5.5 percent and a margin of 6 

percent; assumes annual payment adjustments after 

the initial discount period; a 3 percent cap on the 

interest rate increase at the end of year 2; and a 2 

percent annual payment adjustment cap on interest 

rate increases thereafter, with a lifetime payment 

adjustment cap of 6 percent (or a maximum rate of 

13 percent). 

48 Delinquency rates calculated from data from 

First American LoanPerformance on mortgages in 

subprime securitized pools. Figures include loans 

on non-owner-occupied properties. 

49Estimates are based on data from MBA Nat’l 

Delinquency Survey. 

50See U.S. Gov’t Accountability Office, GAO–08–

78R, Information on Recent Default and Foreclosure 

Trends for Home Mortgages and Associated 

Economic and Market Developments 5 (2007); 

Fannie Mae, Weekly Economic Commentary (Mar. 

26, 2007). 

51Figures calculated from First American 

LoanPerformance data. 

proposed to revise the prohibition on 

disregarding repayment ability and 

extend it, through proposed 

§ 226.35(b)(1), to higher-priced mortgage 

loans as defined in § 226.35(a). The 

proposed revisions included adding 

several rebuttable presumptions of 

violations for a pattern or practice of 

failing to follow certain underwriting 

procedures, and a safe harbor. 

The final rule removes ‘‘pattern or 

practice’’ and therefore prohibits any 

HOEPA loan or higher-priced mortgage 

loan from being extended based on the 

collateral without regard to repayment 

ability. Verifying repayment ability has 

been made a requirement rather than a 

presumptive requirement. The proposal 

provided that a failure to follow any one 

of several specified underwriting 

procedures would create a presumption 

of a violation. In the final rule, those 

procedures, with modifications, have 

instead been incorporated into a 

presumption of compliance which 

replaces the proposed safe harbor. 

Public Comment 

Mortgage lenders and their trade 

associations that commented generally, 

but not uniformly, support or at least do 

not oppose a rule requiring creditors to 

consider repayment ability. They 

maintain, however, that the rule as 

drafted would unduly constrain credit 

availability because of the combination 

of potentially significant damages under 

TILA Section 130, 15 U.S.C. 1640, and 

a perceived lack of a clear and flexible 

safe harbor. These commenters stated 

that two elements of the rule that the 

Board had intended to help preserve 

credit availability—the ‘‘pattern or 

practice’’ element and a safe harbor for 

a creditor having a reasonable 

expectation of repayment ability for at 

least seven years—would not have the 

intended effect. Many of these 

commenters suggested that the rule 

would unduly constrain credit unless 

the Board removed the presumptions of 

violations and provided a clearer and 

more specific safe harbor. Some of these 

commenters also requested additional 

safe harbors, such as for use of an 

automated underwriting system (AUS) 

of Fannie Mae or Freddie Mac. 

Consumer, civil rights, and 

community development groups, as 

well as some state and local government 

officials, several members of Congress, a 

federal regulator, and others argued that 

‘‘pattern or practice’’ seriously 

weakened the rule and urged its 

removal. They maintain that ‘‘pattern or 

practice’’ would effectively prevent an 

individual borrower from bringing a 

claim or counter-claim based on his or 

her loan, and reduce the rule’s 

deterrence of irresponsible lending. 

These commenters generally support the 

proposed presumptions of violations but 

many of them urged the Board to adopt 

quantitative standards for the proposed 

presumptions for failing to consider 

debt-to-income ratios (DTI) and residual 

income levels. As discussed above, 

these commenters also would apply the 

rule to nontraditional mortgages 

regardless of price, and a few would 

apply the rule to the entire mortgage 

market including the prime market. 

The comments are discussed in more 

detail throughout this section as 

applicable. 

Discussion 

The Board finds that disregarding a 

consumer’s repayment ability when 

extending a higher-priced mortgage loan 

or HOEPA loan, or failing to verify the 

consumer’s income, assets, and 

obligations used to determine 

repayment ability, are unfair practices. 

This section discusses the evidence 

from recent events of a disregard for 

repayment ability and reliance on 

unverified incomes in the subprime 

market; the substantial injuries that 

disregarding repayment ability and 

failing to verify income causes 

consumers; the reasons consumers 

cannot reasonably avoid these injuries; 

and the Board’s basis for concluding 

that the injuries are not outweighed by 

countervailing benefits to consumers or 

competition when repayment ability is 

disregarded or income is not verified. 

Evidence of a recent widespread 

disregard of repayment ability. 

Approximately three-quarters of 

securitized originations in subprime 

pools from 2003 to 2007 were 2–28 or 

3–27 ARMs with a built-in potential for 

significant payment shock at the start of 

the third or fourth year, respectively.47

Originations of these types of mortgages 

during 2005 and 2006 and through early 

2007 have contributed significantly to a 

substantial increase in serious 

delinquencies and foreclosures. The 

proportion of all subprime mortgages 

past-due ninety days or more (‘‘serious 

delinquency’’) was about 13 percent in 

October 2007, more than double the 

mid-2005 level.48 Adjustable-rate 

subprime mortgages reached a serious 

delinquency rate of almost 28 percent in 

May 2008, quintuple the mid-2005 

level. The serious delinquency rate has 

also risen for loans in alt-A (near prime) 

securitized pools to almost 8 percent (as 

of April 2008) from less than 2 percent 

only a year ago. In contrast, 1.5 percent 

of loans in the prime-mortgage sector 

were seriously delinquent as of April 

2008. 

Higher delinquencies have shown 

through to foreclosures. Foreclosures 

were initiated on some 1.5 million U.S. 

homes during 2007, up 53 percent from 

2006, and the rate of foreclosure starts 

looks to be higher yet for 2008. Lenders 

initiated over 550,000 foreclosures in 

the first quarter of 2008, about 274,000 

of them on subprime mortgages. This 

was significantly higher than the 

quarterly average of 440,000 

foreclosures in the second half of 2007 

and 325,000 in the first half, and twice 

the quarterly average of 225,000 for the 

past six years.49

Payment increases on 2–28 and 3–27 

ARMs have not been a major cause of 

the increase in delinquencies and 

foreclosures because most delinquencies 

occurred before the payments were 

adjusted. Rather, a major contributor to 

these delinquencies was lenders’

extension of credit on the basis of 

income stated on applications without 

verification.50 Originators had strong 

incentives to make these ‘‘stated 

income’’ loans, and consumers had 

incentives to accept them. Because the 

loans could be originated more quickly, 

originators, who were paid based on 

volume, could increase their earnings by 

originating more of them. The share of 

‘‘low doc’’ and ‘‘no doc’’ loan 

originations in the securitized subprime 

market rose from 20 percent in 2000, to 

30 percent in 2004, to 40 percent in 

2006.51 The prevalence of stated income 

lending left wide room for the loan 

officer, mortgage broker, or consumer to 

overstate the consumer’s income so the 

consumer could qualify for a larger loan 


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52See Mortgage Asset Research Inst., Inc., Eighth 

Periodic Mortgage Fraud Case Report to the 

Mortgage Bankers Association (2006) (reporting that 

90 of 100 stated income loans sampled used 

inflated income when compared to tax return data); 

Fitch Ratings, Drivers of 2006 Subprime Vintage 

Performance (November 13, 2007) (Fitch 2006 

Subprime Performance) (reporting that stated 

income loans with high combined loan to value 

ratios appear to have become vehicles for fraud). 

53Consumers may also have been led to pay more 

for their loans than they otherwise would. There is 

generally a premium for a stated income loan. An 

originator may not have sufficient incentive to 

disclose the premium on its own initiative because 

collecting and reviewing documents could slow 

down the origination process, reduce the number of 

loans an originator produces in a period, and, 

therefore, reduce the originator’s compensation for 

the period. Consumers who are unaware of this 

premium are effectively deprived of an opportunity 

to shop for a potentially lower-rate loan requiring 

full documentation. 

54 Determined from First American 

LoanPerformance data. See also Fitch 2006 

Subprime Performance (stating that lack of income 

verification, as opposed to lack of employment or 

down payment verification, caused 2006 low 

documentation loans delinquencies to be higher 

than earlier vintages’ low documentation loans). 

55Figure calculated from First American 

LoanPerformance data. 

56Often the lender extended credit knowing that 

the borrower would have no equity after taking into 

account a simultaneous second-lien (‘‘piggyback’’) 

loan. According to Fitch 2006 Subprime 

Performance, first-lien loans in subprime 

securitized pools with simultaneous second liens 

rose from 1.1 percent in 2000 to 6.4 percent in 2003 

to 30 percent in 2006. Moreover, in some cases the 

appraisal the lender relied on overstated borrower 

equity because the lender or broker pressured the 

appraiser to inflate the house value. The prohibition 

against coercing appraisers is discussed below in 

part X.B. 

57Estimates are based on data from MBA Nat’l 

Delinquency Survey. 

58 David Liu and Shumin Li, Alt-A Credit—The 

Other Shoe Drops?, The MarketPulse (First 

American LoanPerformance, Inc., San Francisco, 

Cal.) Dec. 2006. 59Figures calculated from First American 

LoanPerformance data. 

and the loan officer or broker could 

receive a larger commission. There is 

substantial anecdotal evidence that 

borrower incomes were commonly 

inflated.52

Lenders relying on overstated 

incomes to make loans could not 

accurately assess consumers’ repayment 

ability.53 Evidence of this failure is 

found in the somewhat steeper increase 

in the rate of default for low/no doc 

loans originated when underwriting 

standards were declining in 2005 and 

2006 relative to full documentation 

loans.54 Due in large part to creditors’

reliance on inaccurate ‘‘stated incomes,’’

lenders often failed to determine 

reliably that the consumer would be 

able to afford even the initial discounted 

payments. Almost 13 percent of the 2–

28 ARMs originated in 2005 appear to 

have become seriously delinquent 

before their first reset.55 While some of 

these borrowers may have been able to 

make their payments—but stopped 

because their home values declined and 

they lost what little equity they had—

others were not able to afford even their 

initial payments. 

Although payment shock on 2–28 and 

3–27 ARMs did not contribute 

significantly to the substantial increase 

in delinquencies, there is reason to 

believe that creditors did not underwrite 

to a rate and payment that would take 

into account the risk to consumers of a 

payment shock. Creditors also may not 

have factored in the consumer’s 

obligation for the expected property 

taxes and insurance, or the increasingly 

common ‘‘piggyback’’ second-lien loan 

or line of credit a consumer would use 

to finance part or all of the down 

payment. 

By frequently basing lending 

decisions on overstated incomes and 

understated obligations, creditors were 

in effect often extending credit based on 

the value of the collateral, that is, the 

consumer’s house. Moreover, by 

coupling these practices with a practice 

of extending credit to borrowers with 

very limited equity, creditors were often 

extending credit based on an 

expectation that the house’s value 

would appreciate rapidly.56 Creditors 

may have felt that rapid house price 

appreciation justified loosening their 

lending standards, but in some locations 

house price appreciation was fed by 

loosened standards, which permitted 

consumers to take out larger loans and 

bid up house prices. Loosened lending 

standards therefore made it more likely 

that the inevitable readjustment of 

house prices in these locations would be 

severe. 

House price appreciation began to 

slow in 2006 and house price levels 

actually began to decline in many places 

in 2007. Borrowers who could not afford 

their mortgage obligations because their 

repayment ability had not been assessed 

properly found it more difficult to lower 

their payments by refinancing. They 

lacked sufficient equity to meet newly 

tightened lending standards, or they had 

negative equity, that is, they owed more 

than their house was worth. For the 

same reasons, many consumers also 

could not extinguish their mortgage 

obligations by selling their homes. 

Declining house prices led to sharp 

increases in serious delinquency rates in 

both the subprime and alt-A market 

segments, as discussed above.57

Although the focus of § 226.35 is the 

subprime market, it may cover part of 

the alt-A market. Disregard for 

repayment ability was often found in 

the alt-A market as well. Alt-A loans are 

made to borrowers who typically have 

higher credit scores than subprime 

borrowers, but the loans pose more risk 

than prime loans because they involve 

small down payments or reduced 

income documentation, or the terms of 

the loan are nontraditional. According 

to one estimate, loans with 

nontraditional terms that permitted 

borrowers to defer principal (‘‘interestonly’’) or both principal and some 

interest (‘‘option ARM’’) in exchange for 

higher payments later—reached 78 

percent of alt-A originations in 2006.58

The combination of a variable rate with 

a deferral of principal and interest held 

the potential for substantial payment 

shock within five years. Yet rising 

delinquency rates to almost 8 percent in 

2008, from less than 1 percent in 2006, 

could suggest that lenders too often 

assessed repayment ability at a low 

interest rate and payment that did not 

adequately account for near-certain 

payment increases. In addition, these 

loans typically were made based on 

reduced income documentation. For 

example, the share of interest-only 

mortgages with low or no 

documentation in alt-A securitized 

pools increased from around 64 percent 

in 2003 to nearly 80 percent in 2006.59

It is generally accepted that the reduced 

documentation of income led to a high 

degree of income inflation in the alt-A 

market just as it did in the subprime 

market. 

Substantial injury. A borrower who 

cannot afford to make the loan 

payments as well as payments for 

property taxes and homeowners 

insurance because the lender did not 

adequately assess the borrower’s 

repayment ability suffers substantial 

injury. Missing mortgage payments is 

costly: Large late fees are charged and 

the borrower’s credit record is impaired, 

reducing her credit options. If 

refinancing to a loan with a lower 

payment is an option (for example, if 

the borrower can obtain a loan with a 

longer maturity), refinancing can slow 

the rate at which the consumer is able 

to pay down principal and build equity. 

The borrower may have to tap home 

equity to cover the refinancing’s closing 

costs or may have to accept a higher 

interest rate in exchange for the lender 

paying the closing costs. If refinancing 

is not an option, then the borrower and 

household must make sacrifices to keep 

the home such as reducing other 

expenditures or taking additional jobs. If 

keeping the home is not tenable, the 

borrower must sell it or endure 

foreclosure, the costs of which (for 

example, property maintenance costs, 

attorneys fees, and other fees passed on 

to the consumer) will erode any equity 


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60E.g., Zhenguo Lin, et al. Spillover Effects of 

Foreclosures on Neighborhood Property Values, 

Journal of Real Estate Finance and Economics 

Online (Nov. 2007), available at http:// 

www.springerlink.com/content/rk4q0p4475vr3473/ 

fulltext.pdf. 

61E.g., William C. Apgar and Mark Duda. 

Collateral Damage: The Municipal Impact of 

Today’s Mortgage Foreclosure Boom (Minneapolis: 

Homeownership Preservation Foundation 2005). 

the consumer had. The foreclosure will 

mar the consumer’s credit record and 

make it very difficult for the consumer 

to become a homeowner again any time 

soon. Many borrowers end up owing the 

lender more than the house is worth, 

especially if their homes are sold into a 

declining market as is happening today 

in many parts of the country. 

Foreclosures also may force consumers 

to move, which is costly and disruptive. 

In addition to the financial costs of 

unsustainable lending practices, 

borrowers and households can suffer 

serious emotional hardship. 

If foreclosures due to irresponsible 

lending rise rapidly or reach high levels 

in a particular geographic area, then the 

injuries can extend beyond the 

individual borrower and household to 

the larger community. A foreclosure 

cluster in a neighborhood can reduce 

homeowner equity throughout the 

neighborhood by bringing down prices, 

eroding the asset that for many 

households is their largest.60 A 

significant rise in foreclosures can 

create a cycle where foreclosures bring 

down property values, reducing the 

ability and incentive of homeowners, 

particularly those under stress for other 

reasons, to retain their homes. 

Foreclosure clusters also can lower 

municipal tax revenues, reducing a 

locality’s ability to maintain services 

and make capital investments. At the 

same time, revenues may be diverted to 

mitigating hazards that clusters of 

vacant homes can create.61

Lending without regard to repayment 

ability also has other consequences. It 

facilitates an abusive strategy of 

‘‘flipping’’ borrowers in a succession of 

refinancings designed ostensibly to 

lower borrowers’ burdensome payments 

that actually convert borrowers’ equity 

into fees for originators without 

providing borrowers a benefit. 

Moreover, relaxed standards, such as 

those that pervaded the subprime 

market recently, may increase the 

incidence of abusive lending practices 

by attracting less scrupulous originators 

into the market while at the same time 

bringing more vulnerable borrowers into 

the market. The rapid influx of new 

originators that can accompany a 

relaxation of lending standards makes it 

more difficult for regulators and 

investors alike to distinguish 

responsible from irresponsible actors. 

See supra part II. 

Injury not reasonably avoidable. One 

might assume that borrowers could 

avoid unsustainable loans by comparing 

their current and expected incomes to 

their current and expected expenses, 

including the scheduled loan payments 

disclosed under TILA and an estimate of 

property taxes and homeowners 

insurance. There are several reasons, 

however, why consumers, especially in 

the subprime market, accept risky loans 

they will struggle or fail to repay. In 

some cases, originators mislead 

borrowers into entering into 

unaffordable loans by understating the 

payment before closing and disclosing 

the true payment only at closing (‘‘bait 

and switch’’). At the closing table, many 

borrowers may not notice the disclosure 

of the payment amount or have time to 

consider it because borrowers are 

typically provided with many 

documents to sign then. Borrowers who 

consider the disclosure may nonetheless 

feel constrained to close the loan, for a 

number of reasons. They may already 

have paid substantial fees and expect 

that more applications would require 

more fees. They may have signed 

agreements to purchase a new house 

and sell the current house. Or they may 

need to escape an overly burdensome 

payment on a current loan, or urgently 

need the cash that the loan will provide 

for a household emergency. 

Furthermore, many consumers in the 

subprime market will accept loans 

knowing they may have difficulty 

affording the payments because they 

reasonably believe a more affordable 

loan will not be available to them. As 

explained in part II.B, limited 

transparency of prices, products, and 

originator incentives reduces a 

borrower’s expected benefit from 

shopping further for a better option. 

Moreover, taking more time to shop can 

be costly, especially for the borrower in 

a financial pinch. Thus, borrowers often 

make a reasoned decision to accept 

unfavorable terms. 

Furthermore, borrowers’ own 

assessment of their repayment ability 

may be influenced by their belief that a 

lender would not provide credit to a 

consumer who did not have the capacity 

to repay. Borrowers could reasonably 

infer from a lender’s approval of their 

applications that the lender had 

appropriately determined that they 

would be able to repay their loans. 

Borrowers operating under this 

impression may not independently 

assess their repayment ability to the 

extent necessary to protect themselves 

from taking on obligations they cannot 

repay. Borrowers are likely unaware of 

market imperfections that may reduce 

lenders’ incentives to fully assess 

repayment ability. See part II.B. And 

borrowers would not realize that a 

lender was applying loose underwriting 

standards such as assessing repayment 

ability on the basis of a ‘‘teaser’’

payment. In addition, originators may 

sometimes encourage borrowers to be 

excessively optimistic about their ability 

to refinance should they be unable to 

sustain repayment. For example, they 

sometimes offer reassurances that 

interest rates will remain low and house 

prices will increase; borrowers may be 

swayed by such reassurances because 

they believe the sources are experts. 

Stated income and stated asset loans 

can make it even more difficult for a 

consumer to avoid an unsustainable 

loan. With stated income (or stated 

asset) loans, the applicant may not 

realize that the originator is inflating the 

applicant’s income and assets to qualify 

the applicant for the loan. Applicants do 

not necessarily even know that they are 

being considered for stated income or 

stated asset loans. They may give the 

originator documents verifying their 

income and assets that the originator 

keeps out of the loan file because the 

documents do not demonstrate the 

income and assets needed to make the 

loan. Moreover, if a consumer 

knowingly applies for a stated income 

or stated asset loan and correctly states 

her income or assets, the originator can 

write an inflated figure into the 

application form. It is typical for the 

originator to fill out the application for 

the consumer, and the consumer may 

not see the written application until 

closing, when the borrower often is 

provided with numerous documents to 

review and sign and may not review the 

application form with care. The 

consumer who detects the inflated 

numbers at the closing table may not 

realize their importance or may face 

constraints that make it particularly 

difficult to walk away from the table 

without the loan. 

Some consumers may also overstate 

their income or assets with the 

encouragement of a loan originator who 

makes it clear that the consumer’s actual 

income or assets are not high enough to 

qualify them for the loans they seek. 

Such originators may reassure 

applicants that this is a benign and 

common practice. In addition, 

applicants may inflate their incomes 

and assets on their own initiative in 

circumstances where the originator does 

not have reason to know. 

For all of these reasons, borrowers 

cannot reasonably avoid injuries from 

lenders’ disregard of repayment ability. 


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62See, e.g., Ind. Code §§ 24–4.5–6–102, 24–4.5–6–

111(l)(3); Mass. Gen. Laws ch. 93A, ch. 183 §§ 4, 

18(a); W.V. Code § 46A–7–109(3)(a). 

Moreover, other consumers who are not 

parties to irresponsible transactions but 

suffer from their spillover effects have 

no ability to prevent these injuries. 

Injury not outweighed by 

countervailing benefits to consumers or 

to competition. There is no benefit to 

consumers or competition from loans 

that are extended without regard to 

consumers’ ability to make even the 

initial payments. There may be some 

benefit to consumers from loans that are 

underwritten based on the collateral and 

without regard to consumers’ ability to 

sustain their payments past some initial 

period. For example, a consumer who 

has lost her principal source of income 

may benefit from being able to risk her 

home and her equity in the hope that, 

before she exhausts her savings, she will 

obtain a new job that will generate 

sufficient income to support the 

payment obligation. The Board believes, 

however, that this rare benefit is 

outweighed by the substantial costs to 

most borrowers and communities of 

extending higher-risk loans without 

regard to repayment ability. (Adopting 

exceptions to the rule for hardship cases 

would create significant potential 

loopholes and make the rule unduly 

complex. The final rule does, however, 

contain an exemption for temporary or 

‘‘bridge’’ loans of 12 months or less, 

though this exemption is intended to be 

construed narrowly.) 

The Board recognizes as well that 

stated income (or stated asset) lending 

has at least three potential benefits for 

consumers and competition. It may 

speed credit access for consumers who 

need credit on an emergency basis, save 

some consumers from expending 

significant effort to document their 

income, and provide access to credit for 

consumers who cannot document their 

incomes. The first two benefits are 

limited relative to the substantial 

injuries caused by lenders’ relying on 

unverified incomes. The third benefit is 

also limited given that consumers who 

file proper tax returns can use at least 

these documents, if no others are 

available, to verify their incomes. 

Among higher-priced mortgage loans, 

where risks to consumers are already 

elevated, the potential benefits to 

consumers of stated income/stated asset 

lending are outweighed by the potential 

injuries to consumers and competition. 

Final Rule 

HOEPA and § 226.34(a)(4) currently 

prohibit a lender from engaging in a 

pattern or practice of extending HOEPA 

loans based on the consumer’s collateral 

without regard to the consumer’s 

repayment ability, including the 

consumer’s current and expected 

income, current obligations, and 

employment. Section 226.34(a)(4) 

currently provides that a creditor is 

presumed to have violated this 

prohibition if it engages in a pattern or 

practice of failing to verify repayment 

ability. 

The Board proposed to extend this 

prohibition to higher-priced mortgage 

loans, see proposed § 226.35(b)(1), and 

to add several additional rebuttable 

presumptions of violation as well as a 

safe harbor. Under the proposal a 

creditor would have been presumed to 

violate the regulation if it engaged in a 

pattern or practice of failing to consider: 

consumers’ ability to pay the loan based 

on the interest rate specified in the 

regulation (§ 226.34(a)(4)(i)(B)); 

consumers’ ability to make fullyamortizing loan payments that include 

expected property taxes and 

homeowners insurance 

(§ 226.34(a)(4)(i)(C)); the ratio of 

borrowers’ total debt obligations to 

income as of consummation 

(§ 226.34(a)(4)(i)(D)); and borrowers’

residual income (§ 226.34(a)(4)(i)(E)). 

The proposed safe harbor appeared in 

§ 226.34(a)(4)(ii), which provided that a 

creditor does not violate § 226.34(a)(4) if 

the creditor has a reasonable basis to 

believe that consumers will be able to 

make loan payments for at least seven 

years, considering each of the factors 

identified in § 226.34(a)(4)(i) and any 

other factors relevant to determining 

repayment ability. 

The final rule removes the ‘‘pattern or 

practice’’ qualification and therefore 

prohibits a creditor from extending any 

HOEPA loan or higher-priced mortgage 

loan based on the collateral without 

regard to repayment ability. Like the 

proposal, the final rule provides that 

repayment ability is determined 

according to current and reasonably 

expected income, employment, assets 

other than the collateral, current 

obligations, and mortgage-related 

obligations such as expected property 

tax and insurance obligations. See 

§ 226.34(a)(4) and (a)(4)(i); 

§ 226.35(b)(1). The final rule also shifts 

the proposed new presumptions of 

violations to a presumption of 

compliance, with modifications. The 

presumption of compliance is revised to 

specify a finite set of underwriting 

procedures; the reference to ‘‘any other 

factors relevant to determining 

repayment ability’’ has been removed. 

See § 226.34(a)(4)(iii). The presumption 

of violation for failing to verify 

repayment ability currently in 

§ 226.34(a)(4)(i), however, is being 

finalized instead as an explicit 

requirement to verify repayment ability. 

See § 226.34(a)(4)(ii). This section 

discusses the basic prohibition, and 

ensuing sections discuss the removal of 

pattern or practice, the verification 

requirement, and the presumption of 

compliance. 

As discussed above, the Board finds 

extending higher-priced mortgage loans 

or HOEPA loans based on the collateral 

without regard to the consumer’s 

repayment ability to be an unfair 

practice. The final rule prohibits this 

practice. The Board also took into 

account state laws that declare 

extending loans to consumers who 

cannot repay an unfair practice.62

Section 226.34(a)(4) governs the 

process for extending credit; it is not 

intended to dictate which types of credit 

or credit terms are permissible and 

which are not. The rule does not 

prohibit potentially riskier types of 

loans such as loans with balloon 

payments, loans with interest-only 

payments, or ARMs with discounted 

initial rates. With proper underwriting, 

such products may be appropriate for 

certain borrowers in the subprime 

market. The regulation merely prohibits 

a creditor from extending such products 

or any other higher-priced mortgage 

loans without adequately evaluating 

repayment ability. 

The rule is intended to ensure that 

creditors do not assess repayment 

ability using overstated incomes or 

understated payment obligations. The 

rule explicitly requires that the creditor 

verify income and assets using reliable 

third party documents and, therefore, 

prohibits relying merely on an income 

statement from the applicant. See 

§ 226.34(a)(4)(ii). (This requirement is 

discussed in more detail below.) In 

addition, the rule requires assessing not 

just the consumer’s ability to pay loan 

principal and interest, but also the 

consumer’s ability to pay property taxes, 

homeowners insurance, and similar 

mortgage-related expenses. Mortgagerelated expenses, such as homeowner’s 

association dues or condominium or 

cooperative fees, are included because 

failure to pay them could result in a 

consumer’s default on his or her 

mortgage (if, for example, failure to pay 

resulted in a senior lien on the unit that 

constituted a default under the terms of 

the consumer’s mortgage obligations). 

See §§ 226.34(a)(4); 226.34(a)(4)(i). 

As of consummation. The final rule 

provides, as did the proposed rule, that 

the creditor is responsible for assessing 

repayment ability as of consummation. 

Two industry trade associations 

expressed concern over proposed 


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comment 34(a)(4)-2, indicating that, 

while a creditor would be liable only for 

what it knew or should have known as 

of consummation, events after 

consummation may be relevant to 

determining compliance. These 

commenters contend that creditors 

should not be held responsible for 

accurately predicting future events such 

as a borrower’s employment stability or 

house price appreciation. One asserted 

that the rule would lead creditors to 

impose more stringent underwriting 

criteria in geographic areas with 

economies projected to decline. These 

commenters requested that the Board 

clarify in the commentary that postclosing events cannot be used to secondguess a lender’s underwriting decision, 

and one requested that the commentary 

specifically state that a foreclosure does 

not create a presumption of a violation. 

The Board has revised the comment, 

renumbered as 34(a)(4)-5, to delete the 

statement that events after 

consummation may be relevant to 

determining whether a creditor has 

violated § 226.34(a)(4), but events after 

consummation do not, by themselves, 

establish a violation. Postconsummation events such as a sharp 

increase in defaults could be relevant to 

showing a ‘‘pattern or practice’’ of 

disregarding repayment ability, but the 

final rule does not require proof of a 

pattern or practice. The final comment 

retains the proposed statement that a 

violation is not established if borrowers 

default because of significant expenses 

or income losses that occur after 

consummation. The Board believes it is 

clear from the regulation and comment 

that a default does not create a 

presumption of a violation. 

Income, assets, and employment. The 

final rule, like the proposal, provides 

that sources of repayment ability 

include current and reasonably 

expected income, employment, and 

assets other than the collateral. For the 

sake of clarity, new comment 34(a)(4)-2 

indicates that a creditor may base its 

determination of repayment ability on 

current or reasonably expected income, 

on assets other than the collateral, or 

both. A creditor that purported to 

determine repayment ability on the 

basis of information other than income 

or assets would have to clearly 

demonstrate that this information is 

probative of repayment ability. 

The Board is not adopting the 

suggestion from several commenters to 

permit creditors to consider, when 

determining repayment ability, other 

characteristics of the borrower or the 

transaction such as credit score and 

loan-to-value ratio. These other 

characteristics may be critical to 

responsible mortgage underwriting, but 

they are not as probative as income and 

assets of the consumer’s ability to make 

the scheduled payments on a mortgage 

obligation. For example, if a consumer 

has income of $3,000 per month, it is 

very unlikely that the consumer will be 

able to afford a monthly mortgage 

payment of $2,500 per month regardless 

of the consumer’s credit score or loanto-value ratio. Moreover, incorporating 

these other characteristics in the 

regulation would potentially create a 

major loophole for originators to 

discount the importance of income and 

assets to repayment ability. For the same 

reasons, the Board also is not adopting 

the suggestion of some commenters to 

permit a creditor to rely on any factor 

that the creditor finds relevant to 

determine credit or delinquency risk. 

The final rule, like the proposal, 

provides broad flexibility as to the types 

of income, assets, and employment a 

creditor may rely on. Specific references 

to seasonal and irregular employment 

were added to comment 34(a)(4)–6 

(numbered 34(a)(4)–3 in the proposal) in 

response to requests from commenters. 

References to several different types of 

income, such as interest and dividends, 

were also added. These examples are 

merely illustrative, not exhaustive. 

The final rule and commentary also 

follow the proposal in permitting a 

lender to rely on expected income and 

employment, not just current income 

and employment. Expectations for 

improvements in employment or 

income must be reasonable and verified 

with third party documents. The 

commentary gives examples of expected 

bonuses verified with documents 

demonstrating past bonuses, and 

expected employment verified with a 

commitment letter from the future 

employer stating a specified salary. See 

comment 34(a)(4)(ii)–3. In some cases a 

loan may have a likely payment increase 

that would not be affordable at the 

borrower’s income as of consummation. 

A creditor may be able to verify a 

reasonable expectation of an increase in 

the borrower’s income that will make 

the higher payment affordable to the 

borrower. 

Several commenters expressed 

concern over language in proposed 

comment 34(a)(4)–3 indicating that 

creditors are required, not merely 

allowed, to consider information about 

expected changes in income or 

employment that would undermine 

repayment ability. The proposed 

comment gave as an example that a 

creditor must consider information 

indicating that an employed person will 

become unemployed. Some commenters 

contended that it is appropriate to 

permit lenders to consider expected 

income or employment, but 

inappropriate to require that they do so. 

Creditors are concerned that they would 

be liable for accurately assessing a 

borrower’s employment stability, which 

may depend on regional economic 

factors. 

The final comment, renumbered as 

34(a)(4)–5, is revised somewhat to 

address this concern. The revised 

comment indicates that a creditor might 

have knowledge of a likely reduction in 

income or employment and provides the 

following example: a consumer’s 

written application indicates that the 

consumer plans to retire within twelve 

months or transition from full-time to 

part-time employment. As the example 

indicates, the Board does not intend to 

place unrealistic requirements on a 

creditor to speculate or inquire about 

every possible change in a borrower’s 

life circumstances. The sentence ‘‘a 

creditor may have information 

indicating that an employed person will 

become unemployed’’ is deleted as 

duplicative. 

Finally, new comment 34(a)(4)–7 

addresses the concern of several 

commenters that the proposal appeared 

to require them to make inquiries of 

borrowers or consider information about 

them that Regulation B, 12 CFR part 

202, would prohibit, such as a question 

posed solely to a female applicant as to 

whether she is likely to continue her 

employment. The comment explains 

that § 226.34(a)(4) does not require or 

permit the creditor to make inquiries or 

verifications that would be prohibited 

by Regulation B. 

Obligations. The final rule, like the 

proposed rule, requires the creditor to 

consider the consumer’s current 

obligations as well as mortgage-related 

obligations such as expected property 

tax and required insurance. See 

§ 226.34(a)(4)(i). The final rule does not 

contain the proposed rule’s reference to 

‘‘expected obligations.’’ An industry 

trade association suggested the reference 

would stifle communications between a 

lender and a consumer because the 

lender would seek to avoid eliciting 

information about the borrower’s plans 

for future indebtedness, such as an 

intention to take out student loans to 

send children to college. The Board 

agrees that the proposal could stifle 

communications. This risk does not 

have a sufficient offsetting benefit 

because it is by nature speculative 

whether a mortgage borrower will 

undertake other credit obligations in the 

future. 

A reference to simultaneous mortgage 

obligations (proposed comment 

34(a)(4)(i)–2)) has been retained but 


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63Federal rules of civil procedure require that a 

defendant’s motion to dismiss be granted unless the 

plaintiff alleged sufficient facts to make a pattern or 

practice ‘‘plausible.’’ Bell Atlantic v. Twombly, 127 

S. Ct. 1955 (2007). Many states follow the federal 

rules. 

64 45 CFR 1617.3. 

revised. See comment 34(a)(4)–3. 

Several commenters objected to the 

proposed comment. They suggested a 

lender has a limited ability to identify 

the existence of a simultaneous 

obligation with an unaffiliated lender if 

the borrower does not self-report. They 

asked that the requirement be restricted 

to simultaneous obligations with the 

same lender, or that it be limited to 

obligations the creditor knows or has 

reason to know about, or that it have a 

safe harbor for a lender that has 

procedures to prevent consumers from 

obtaining a loan from another creditor 

without the lender’s knowledge. The 

comment has been revised to indicate 

that the regulation makes a creditor 

responsible for considering only those 

simultaneous obligations of which the 

creditor has knowledge. 

Exemptions. The Board is adopting 

the proposed exemptions from the rule 

for bridge loans, construction-only 

loans, reverse mortgages, and HELOCs. 

These exemptions are discussed in part 

VIII.H. A national bank and two trade 

associations with national bank 

members requested an additional 

exemption for national banks that are in 

compliance with OCC regulation 12 CFR 

34.3(b). The OCC regulation prohibits 

national banks from making a mortgage 

loan based predominantly on the bank’s 

realization of the foreclosure or 

liquidation value of the borrower’s 

collateral without regard to the 

borrower’s ability to repay the loan 

according to its terms. Unlike HOEPA, 

however, the OCC regulation does not 

authorize private actions or actions by 

state attorneys general when the 

regulation is violated. Thus, the Board 

is not adopting the requested 

exemption. 

Pattern or Practice 

Based on the comments and 

additional information gathered by the 

Board, the Board is adopting the rule 

without the phrase ‘‘pattern or 

practice.’’ The rule therefore prohibits 

an individual HOEPA loan or higherpriced mortgage loan from being 

extended based on the collateral 

without regard to repayment ability. 

TILA Section 129(l)(2), 15 U.S.C. 

1638(l)(2), confers on the Board 

authority to revise HOEPA’s restrictions 

on HOEPA loans if the Board finds that 

such revisions are necessary to prevent 

unfair or deceptive acts or practices in 

connection with mortgage loans. The 

Board so finds for the reasons discussed 

below. 

Public comment. Consumer advocates 

and others strongly urged the Board to 

remove the pattern or practice element. 

They argued that the burden to prove a 

pattern or practice is so onerous as to 

make it impracticable for an individual 

plaintiff to seek relief, either 

affirmatively or in recoupment. They 

suggested a typical plaintiff does not 

have the resources to obtain information 

about a lender’s loans and loan policies 

sufficient to allege a pattern or practice. 

Moreover, should a plaintiff be able to 

allege a pattern or practice and proceed 

to the discovery stage, one legal aid 

organization commented based on direct 

experience that a creditor may produce 

a mountain of documents that 

overwhelms the plaintiff’s resources and 

makes it impractical to pursue such 

cases. One consumer group argued that 

the proposed rule would not adequately 

deter abuse because, by the time a 

pattern or practice emerged, substantial 

harm would already have been done to 

consumers and investors. This 

commenter also argued that other TILA 

provisions give creditors sufficient 

protection against litigation risk, such as 

the cap on class action damages, the 

right to cure certain errors creditors 

discover on their own, and the defense 

for bona fide errors. 

Several lenders and lender trade 

associations expressed concern that 

‘‘pattern or practice’’ is too vague to 

provide the certainty creditors seek and 

asked for more specific guidance and 

examples. Other industry commenters 

contended that the phrase was likely to 

be interpreted to hold lenders that 

originate large numbers of loans liable 

for errors in assessing repayment ability 

in just a small fraction of their 

originations. For example, one large 

lender pointed out that an error rate of 

0.5 percent in its 400,000 HMDAreportable originations in 2006 would 

have amounted to 2,000 loans. Several 

commenters cited cases decided under 

other statutes holding that a mere 

handful of instances were a pattern or 

practice. To address these concerns, two 

commenters requested that the phrase 

be changed to ‘‘systematic practice’’ and 

that this new phrase be interpreted to 

mean willful or reckless disregard. 

Industry commenters generally 

preferred that ‘‘pattern or practice,’’

whatever its limitations, be retained as 

a form of protection against 

unwarranted litigation. 

Discussion. The Board believes that 

removing ‘‘pattern or practice’’ is 

necessary to ensure a remedy for 

consumers who are given unaffordable 

loans and to deter irresponsible lending, 

which injures not just individual 

borrowers but also their neighbors and 

communities. The Board further 

believes that the presumption of 

compliance the Board is adopting will 

provide more certainty to creditors than 

either ‘‘pattern or practice’’ or the 

proposed safe harbor. The presumption 

will better aid creditors with 

compliance planning, and it will better 

help them mitigate litigation risk. In 

short, the Board believes that removing 

‘‘pattern or practice’’ and providing 

creditors a presumption of compliance 

will be more effective to prevent unfair 

practices, remedy them when they 

occur, and preserve access to credit. 

Imposing the burden to prove 

‘‘pattern or practice’’ on an individual 

borrower would leave many borrowers 

without a remedy under HOEPA for 

loans that were made without regard to 

repayment ability. Borrowers would not 

have a HOEPA remedy for individual, 

unrelated loans made without regard to 

repayment ability, of which there could 

be many in the aggregate. Even if an 

unaffordable loan was part of a pattern 

or practice, the individual borrower and 

his or her attorney would not 

necessarily have that information.63 By 

the time information about a particular 

lender’s pattern or practice of 

unaffordable lending became 

widespread, the lender could have 

caused great injury to many borrowers, 

as well as to their neighbors and 

communities. In addition, imposing a 

‘‘pattern or practice’’ requirement on 

HOEPA loans, but not higher-priced 

mortgage loans, would create an 

anomaly. 

Moreover, a ‘‘pattern or practice’’

claim can be costly to litigate and might 

not be economically feasible except as 

part of a class action, which would not 

assure individual borrowers of adequate 

remedies. Class actions can take years to 

reach a settlement or trial, while the 

individual borrower who is facing 

foreclosure because of an unaffordable 

loan requires a speedy resolution if the 

borrower is to keep the home. Moreover, 

lower-income homeowners are often 

represented by legal aid organizations, 

which are barred from bringing class 

actions if they accept funds from the 

Legal Services Corporation.64

To be sure, many borrowers who 

would be left without a HOEPA remedy 

for an unaffordable loan may have 

remedies under state laws that lack a 

‘‘pattern or practice’’ requirement. In 

some cases, however, state law remedies 

would be inferior or unavailable. 

Moreover, state laws do not assure 

consumers uniform protection because 

these laws vary considerably and 


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44546 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

65By 2004, HOEPA loans reported under HMDA 

were less than one percent of the mortgage market. 

The Board does not believe the market’s contraction 

can be traced to the guidance on pattern or practice. 

66See, e.g., United States v. Balistrieri, 981 F.2d 

916, 929–30 (7th Cir. 1992); United States v. Pelzer 

Realty Co., Inc., 484 F.2d 438, 445 (5th Cir. 1973). 

67Board Policy Statement on Enforcement of the 

Equal Credit Opportunity and Fair Housing Acts, 

Q9. 

generally may not cover federally 

chartered depository institutions (due to 

federal preemption) or state chartered 

depository institutions (due to specific 

exemptions or general ‘‘parity laws’’). 

For these reasons, imposing the 

burden to prove ‘‘pattern or practice’’ on 

an individual borrower would leave 

many borrowers with a lesser remedy, 

or without any remedy, for loans made 

without regard to repayment ability. 

Removing this burden would not only 

improve remedies for individual 

borrowers, it would also increase 

deterrence of irresponsible lending. 

Individual remedies impose a more 

immediate and more certain cost on 

violators than either class actions or 

actions by state or federal agencies, 

which can take years and, in the case of 

the agencies, are subject to resource 

constraints. Increased deterrence of 

irresponsible lending practices should 

benefit not just borrowers who might 

obtain higher-priced mortgage loans but 

also their neighbors and communities 

who would otherwise suffer the 

spillover effects of such practices. 

The Board acknowledges the 

legitimate concerns that lenders have 

expressed over litigation costs. As the 

Board indicated with the proposal, it 

proposed ‘‘pattern or practice’’ out of a 

concern that creating civil liability for 

an originator that fails to assess 

repayment ability on any individual 

loan could inadvertently cause an 

unwarranted reduction in the 

availability of mortgage credit to 

consumers. After further study, 

however, the Board believes that any 

increase in litigation risk would be 

justified by the substantial benefits of a 

rule that provided remedies to 

individual borrowers. While 

unwarranted litigation may well 

increase, the Board believes that several 

factors will mitigate this cost. In 

particular, TILA imposes a one-year 

statute of limitations on affirmative 

claims, after which only recoupment 

and set-off are available; HOEPA limits 

the strict assignee liability of TILA 

Section 131(d), 15 U.S.C. 1641(d) to 

HOEPA loans; many defaults may be 

caused by intervening events such as job 

loss rather than faulty underwriting; and 

plaintiffs (or their counsel) may bear a 

substantial cost to prove a claim of 

faulty underwriting, which would often 

require substantial discovery and expert 

witnesses. Creditors could further 

contain litigation risk by using the 

procedures specified in the regulation 

that earn the creditor a presumption of 

compliance. 

The Board has also considered the 

possibility that the statute’s ‘‘pattern or 

practice’’ element allows creditors an 

appropriate degree of flexibility to 

extend occasional collateral-based 

HOEPA loans to consumers who truly 

need them and clearly understand the 

risks involved. Removing ‘‘pattern or 

practice’’ would eliminate this potential 

consumer benefit. Based on industry 

comments, however, the benefit is more 

theoretical than real. While industry 

commenters may prefer retaining 

‘‘pattern or practice’’ as a barrier to 

individual suits, these commenters 

indicated that ‘‘pattern or practice’’ is 

too vague to be useful for compliance 

planning. Therefore, retaining ‘‘pattern 

or practice’’ would not likely lead a 

creditor to extend legitimate collateralbased loans except, perhaps, a trivial 

number such as one per year. 

The Board reached this conclusion 

only after exploring ways to provide 

more clarity as to the meaning of 

‘‘pattern or practice.’’ Existing comment 

34(a)(4)–2 provides that a pattern or 

practice depends on the totality of the 

circumstances in the particular case; can 

be established without the use of a 

statistical process and on the basis of an 

unwritten lending policy; and cannot be 

established with isolated, random, or 

accidental acts. Although this comment 

has been in effect for several years, its 

effectiveness is impossible to assess 

because the market for HOEPA loans 

shrank to near insignificance soon after 

the comment was adopted.65 On its face, 

however, the guidance removes little of 

the uncertainty surrounding the 

meaning of ‘‘pattern or practice.’’ (There 

is only one reported decision to 

interpret ‘‘pattern or practice’’ under 

HOEPA, Newton v. United Companies 

Financial Corp., 24 F. Supp. 2d 444 

(E.D. Pa. 1998), and it has limited 

precedential value in light of lateradopted comment 34(a)(4)–2.) The 

Board re-proposed the comment but 

commenters provided few concrete 

suggestions for making the rule clearer 

and the suggestions that were offered 

would have left a large degree of 

uncertainty. 

The Board considered other potential 

sources of guidance on ‘‘pattern or 

practice’’ from other statutes and 

regulations. Case law is of inherently 

limited value for such a contextual 

inquiry. Moreover, there are published 

court decisions, some cited by industry 

commenters, that suggest that even a 

few instances could be considered to 

meet this standard.66 The Board also 

consulted informal guidance 

interpreting ‘‘pattern or practice’’ under 

ECOA.67 The Board carefully 

considered how it could adapt this 

guidance to § 226.34(a)(4). Based on its 

efforts, the Board concluded that, while 

additional guidance could reduce some 

uncertainty, it would necessarily leave 

substantial uncertainty. The Board 

further concluded that significantly 

more certainty could be provided 

through the ‘‘presumption of 

compliance’’ the final rule provides for 

following enumerated underwriting 

practices. See § 226.34(a)(4)(iii), 

discussed below. 

Verification of Repayment Ability 

Section 226.34(a)(4) currently 

contains a provision creating a 

rebuttable presumption of a violation 

where a lender engages in a pattern or 

practice of making HOEPA loans 

without verifying and documenting 

repayment ability. The Board proposed 

to retain this presumption and extend it 

to higher-priced mortgage loans. The 

final rule is different in two respects. 

First, as discussed above, the final rule 

does not contain a ‘‘pattern or practice’’

element. Second, it makes verifying 

repayment ability an affirmative 

requirement, rather than making failure 

to verify a presumption of a violation. 

In the final rule, the regulation 

applies the verification requirement to 

current obligations explicitly, see 

§ 226.34(a)(4)(ii)(C); in the proposal, an 

explicit reference to obligations was in 

a staff comment. See proposed comment 

34(a)(4)(i)(A)–2, 73 FR at 1732. The 

requirement to verify income and assets 

in final § 226.34(a)(4)(ii)(A) is 

essentially identical to the requirement 

of proposed § 226.35(b)(2). Under 

§ 226.34(a)(4)(ii)(A), creditors must 

verify assets or income, including 

expected income, relied on in approving 

an extension of credit using third-party 

documents that provide reasonably 

reliable evidence of the income or 

assets. The final rule, like that proposed, 

includes an affirmative defense for a 

creditor that can show that the amounts 

of the consumer’s income or assets 

relied on were not materially greater 

than the amount the creditor could have 

verified at consummation. 

Public comment. Many, but by no 

means all, financial institutions, 

mortgage brokers, and mortgage 

industry trade groups that commented 

support a verification requirement. They 

raised concerns, however, that the 

particular requirement proposed would 


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68By requiring verification the rule also addresses 

the risk that consumers with higher-priced 

mortgage loans who could document income would 

unknowingly pay more for a loan that did not 

require documentation. 

restrict or eliminate access to credit for 

some borrowers, especially the selfemployed, those who earn irregular 

commission- or cash-based incomes, 

and low- and moderate-income 

borrowers. Consumer and community 

groups and government officials 

generally supported the proposed 

verification requirement, with some 

suggesting somewhat stricter 

requirements. Many of these same 

commenters, however, contended the 

proposed affirmative defense would be 

a major loophole and urged its 

elimination. The comments are 

discussed in further detail below as 

applicable. 

Discussion. For the reasons discussed 

above, the Board finds that it is unfair 

not to verify income, assets, and 

obligations used to determine 

repayment ability when extending a 

higher-priced mortgage loan or HOEPA 

loan. The Board is finalizing the rule as 

proposed and incorporating it directly 

into § 226.34(a)(4), where it replaces the 

proposed presumption of a violation for 

a creditor that has a pattern or practice 

of failing to verify repayment ability. 

‘‘Pattern or practice’’ has been removed 

and the presumption has been made a 

requirement. The legal effect of this 

change is that the final rule, unlike the 

proposal, would rarely, if ever, permit a 

creditor to make even isolated ‘‘no 

income, no asset’’ loans (loans made 

without regard to income and assets) in 

the higher-priced mortgage loan market. 

For the reasons explained above, 

however, the Board does not believe this 

legal change will reduce credit 

availability; nor will it affect the 

availability of ‘‘no income, no asset’’

loans in the prime market. 

As discussed above, relying on 

inflated incomes or assets to determine 

repayment ability often amounts to 

disregarding repayment ability, which 

causes consumers injuries they often 

cannot reasonably avoid. By requiring 

verification of income and assets, the 

final rule is intended to limit these 

injuries by reducing the risk that higherpriced mortgage loans will be made on 

the basis of inflated incomes or assets.68

The Board believes the rule is 

sufficiently flexible to keep costs to 

consumers, such as any additional time 

needed to close a loan or costs for 

obtaining documentation, at reasonable 

levels relative to the expected benefits 

of the rule. 

The rule specifically authorizes a 

creditor to rely on W–2 forms, tax 

returns, payroll receipts, and financial 

institution records such as bank 

statements. These kinds of documents 

are sufficiently reliable sources of 

information about borrowers’ income 

and assets that the Board believes it is 

appropriate to provide a safe harbor for 

their use. Moreover, most consumers 

can, or should be able to, produce one 

of these kinds of documents with little 

difficulty. For other consumers, the rule 

is quite flexible. It permits a creditor to 

rely on any third-party document that 

provides reasonably reliable evidence of 

the income or assets relied on to 

determine repayment ability. Examples 

include check-cashing or remittance 

receipts or a written statement from the 

consumer’s employer. See comment 

34(a)(4)(ii)(A)–3. These examples are 

only illustrative, not limiting. The one 

type of document that is excluded is a 

statement only from the consumer. 

Many commenters suggested that the 

Board require creditors to collect the 

‘‘best and most appropriate’’

documentation. The Board believes that 

the costs of such a requirement would 

outweigh the benefits. The vagueness of 

the suggested standard could make 

creditors reluctant to accept 

nontraditional forms of documentation. 

Nor is it clear how creditors would 

verify that a form of documentation that 

might be best or most appropriate was 

not available. 

The commentary has been revised to 

clarify several points. See comments 

34(A)(4)(ii)(A)–3 and –4. Oral 

information from a third party would 

not satisfy the rule, which requires 

documentation. Creditors may, 

however, rely on a letter or an e-mail 

from the third party. Creditors may also 

rely on third party documentation the 

consumer provides directly to the 

creditor. Furthermore, as interpreted by 

the comments, the rule excludes 

documents that are not specific to the 

consumer. It would not be sufficient to 

look at average incomes for the 

consumer’s stated profession in the 

region where the consumer lives or 

average salaries for employees of the 

consumer’s employer. The commentary 

has been revised, however, to indicate 

that creditors may use third party 

information that aggregates individualspecific data about consumers’ income, 

such as a database service used by an 

employer to centralize income 

verification requests, so long as the 

information is reasonably current and 

accurate and identifies the specific 

consumer’s income. 

The rule does not require creditors 

that have extended credit to a consumer 

and wish to extend new credit to the 

same consumer to re-collect documents 

that the creditor previously collected 

from the consumer, if the creditor 

believes the documents would not have 

changed since they were initially 

verified. See comment 34(a)(4)(ii)(A)–5. 

For example, if the creditor has 

collected the consumer’s 2006 tax return 

for a May 2007 loan, and the creditor 

makes another loan to that consumer in 

August 2007, the creditor may rely on 

the 2006 tax return. 

Nor does the rule require a creditor to 

verify amounts of income or assets the 

creditor is not relying on to determine 

repayment ability. For example, if a 

creditor does not rely on a part of the 

consumer’s income, such as an annual 

bonus, in determining repayment 

ability, the creditor would not need to 

verify the consumer’s bonus. A creditor 

may verify an amount of income or 

assets less than that stated in the loan 

file if adequate to determine repayment 

ability. If a creditor does not verify 

sufficient amounts to support a 

determination that the consumer has the 

ability to pay the loan, however, then 

the creditor risks violating the 

regulation. 

Self-employed borrowers. The Board 

has sought to address commenters’

concerns about self-employed 

borrowers. The rule allows for flexibility 

in underwriting standards so that 

creditors may adapt their underwriting 

processes to the needs of self-employed 

borrowers, so long as creditors comply 

with § 226.34(a)(4). For example, the 

rule does not dictate how many years of 

tax returns or other information a 

creditor must review to determine a selfemployed applicant’s repayment ability. 

Nor does the rule dictate which income 

figure on the tax returns the creditor 

must use. The Internal Revenue Code 

may require or permit deductions from 

gross income, such as a deduction for 

capital depreciation, that a creditor 

reasonably would regard as not relevant 

to repayment ability. 

The rule is also flexible as to 

consumers who depend heavily on 

bonuses and commissions. If an 

employed applicant stated that he was 

likely to receive an annual bonus of a 

certain amount from the employer, the 

creditor could verify the statement with 

third-party documents showing a 

consumer’s past annual bonuses. See 

comment 34(a)(4)(ii)–1. Similarly, 

employees who work on commission 

could be asked to produce third-party 

documents showing past commissions. 

The Board is not adopting the 

exemption some commenters requested 

for self-employed borrowers. The 

exemption would give borrowers and 

originators an incentive to declare a 

borrower employed by a third party to 


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44548 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

be self-employed to avoid having to 

verify the borrower’s income. It is not 

clear how a declaration of self-employed 

status could be verified except by 

imposing the very burden the 

exemption would be meant to avoid, 

such as reviewing tax returns. 

The affirmative defense. The Board 

received a number of comments about 

the proposed affirmative defense for a 

creditor that can show that the amounts 

of the consumer’s income or assets the 

creditor relied on were not materially 

greater than what the creditor could 

have documented at consummation. 

The Board’s reference to this defense as 

a ‘‘safe harbor’’ appears to have caused 

some confusion. Many commenters 

interpreted the phrase ‘‘safe harbor’’ to 

mean that the Board was proposing a 

specific way to comply with the rule. 

These commenters either criticized the 

safe harbor as insufficiently specific 

about how to comply (in the case of 

industry commenters) or urged that it be 

eliminated as a major loophole for 

avoiding verifying income and assets (in 

the case of consumer group and other 

commenters). 

The Board intended the provision 

merely as a defense for a lender that did 

not verify income as required where the 

failure did not cause injury. The 

provision would place the burden on 

the lender to prove that its noncompliance was immaterial. A creditor 

that does not verify income has no 

assurance that the defense will be 

available should the loan be challenged 

in court. This creditor takes a 

substantial risk that it will not be able 

to prove through discovery that the 

income was as stated. Therefore, the 

Board expects that the defense will be 

used only in limited circumstances. For 

example, a creditor might be able to use 

the defense when a bona fide 

compliance error, such as an occasional 

failure of reasonable procedures for 

collecting and retaining appropriate 

documents, produces litigation. The 

defense is not likely to be helpful to a 

creditor in the case of compliance 

examinations because there will not be 

an opportunity in that context for the 

creditor to determine the borrower’s 

actual income. With this clarification, 

the Board is adopting the affirmative 

defense as proposed. 

The defense is available only where 

the creditor can show that the amounts 

of income and assets relied on were not 

materially greater than the amounts the 

creditor could have verified. The 

definition of ‘‘material’’ is not based on 

a numerical threshold as some 

commenters suggested. Rather, the 

commentary has been revised to clarify 

that creditors would be required to 

show that, if they had relied on the 

amount of verifiable income or assets, 

their decision to extend credit and the 

terms of the credit would not have been 

different. See comment 34(a)(4)(ii)(B)–2. 

Narrower alternatives. The Board 

sought comment on whether the rule 

should be narrowed to prohibit only 

extending credit where the creditor or 

mortgage broker engaged in, influenced 

the borrower to engage in, or knew of 

income or asset inflation. The vast 

majority of commenters who addressed 

this alternative did not support it, and 

the Board is not adopting it. Placing the 

burden on the borrower or supervisory 

agency to prove the creditor knew the 

income was inflated would undermine 

the rule’s effectiveness. In the case of 

borrower claims or counter-claims, this 

burden would lead to costly discovery 

into factual questions, and this 

discovery would often produce 

conflicting evidence (‘‘he said, she 

said’’) that would require trial before a 

factfinder. A creditor significantly 

increases the risk of income inflation 

when it accepts a mere statement of 

income, and the creditor is in the best 

position to substantially reduce this risk 

at limited cost by simply requiring 

documentation. The Board believes this 

approach is the most effective and 

efficient way to protect not just the 

individual borrower but also the 

neighbors and communities that can 

suffer from spillover effects of 

unaffordable lending. 

Some industry commenters suggested 

adopting an affirmative defense for 

creditors who can show that the 

consumer intentionally misrepresented 

income or assets or committed fraud. 

The Board is not adopting this defense. 

As discussed above, a rule that provided 

creditors with a defense where no 

documentation was present could result 

in litigation that was costly for both 

sides. A defense for cases of consumer 

misrepresentation or fraud where the 

creditor documented the consumer’s 

income or assets would be unnecessary. 

Creditors are allowed to rely on 

documents provided directly by the 

consumer so long as those documents 

provide reasonably reliable evidence of 

the consumer’s income or assets. A 

consumer who provided false 

documentation to the creditor, and who 

wished to bring a claim against the 

creditor, would have to demonstrate 

that the creditor reasonably should not 

have relied on the document. If the only 

fact that made the document unreliable 

was the consumer’s having provided 

false information without the creditor’s 

knowledge, it would not have been 

unreasonable for the creditor to rely on 

that document. 

Obligations. The proposal essentially 

required a creditor to verify repayment 

ability; it provided that a pattern or 

practice of failing to verify repayment 

ability created a presumption of a 

violation. A proposed comment 

indicated that verifying repayment 

ability included verifying obligations. 

See proposed comment 34(a)(4)(i)(A)–2. 

The final rule explicitly includes the 

requirement to verify obligations in the 

regulation. See § 226.34(a)(4)(ii)(C). A 

comment to this provision indicates that 

a credit report may be used to verify 

current obligations. A credit report, 

however, might not reflect certain 

obligations undertaken just before or at 

consummation of the transaction and 

secured by the same dwelling that 

secures the transaction (for example, a 

‘‘piggyback’’ second-lien transaction 

used to finance part of the down 

payment on the house where the firstlien transaction is for home purchase). 

A creditor is responsible for considering 

such obligations of which the creditor 

has knowledge. See comment 34(a)(4)–

3. 

Presumption of Compliance 

The Board proposed to add new, 

rebuttable presumptions of violations to 

§ 226.34(a)(4) and, by incorporation, 

§ 226.35(b)(1). These presumptions 

would have been for engaging in a 

pattern or practice of failing to consider: 

consumers’ ability to pay the loan based 

on the interest rate specified in the 

regulation; consumers’ ability to make 

fully-amortizing loan payments that 

include expected property taxes and 

homeowners insurance; the ratio of 

borrowers’ total debt obligations to 

income as of consummation; and 

borrowers’ residual income. See 

proposed § 226.34(a)(4)(i)(B)–(E). The 

Board also proposed a presumption of 

compliance for a creditor that has a 

reasonable basis to believe that 

consumers will be able to make loan 

payments for at least seven years, 

considering each of the factors 

identified in § 226.34(a)(4)(i) and any 

other factors relevant to determining 

repayment ability. 

The final rule removes the proposed 

presumptions of violation for failing to 

follow certain underwriting practices 

and incorporates these practices, with 

modifications, into a presumption of 

compliance that is substantially revised 

from that proposed. Under 

§ 226.34(a)(4)(iii), a creditor is presumed 

to have complied with § 226.34(a)(4) if 

the creditor satisfies each of three 

requirements: (1) Verifying repayment 

ability; (2) determining the consumer’s 

repayment ability using largest 

scheduled payment of principal and 


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69One large lender contended that balloon loans 

should be exempted from a repayment-ability rule 

because consumers understand their risks. Another 

recommended that balloon loans be exempted from 

the repayment ability rule if the term of the loan 

exceeds seven years for first-lien mortgages or five 

years for subordinate-lien loans. A trade association 

representing community banks urged that balloon 

payments be permitted so long as the creditor has 

a reasonable basis to believe the borrower will make 

the payments for the term of the loan except the 

final, balloon payment. This trade association 

indicated that community banks often structure the 

loans they hold in portfolio as 3- or 5-year balloon 

loans, typically with 15–30 year amortization 

periods, to match the maturity of the loan to the 

maturity of their deposit base. A lender and a 

lender trade association recommended using on 

short-term balloon loans a payment larger than the 

scheduled payment but smaller than the fullyamortizing payment, such as the payment that 

would correspond to an interest rate two percentage 

points higher than the rate specified in the 

presumption of compliance. 

interest in the first seven years 

following consummation and taking 

into account property tax and insurance 

obligations and similar mortgage-related 

expenses; and (3) assessing the 

consumer’s repayment ability using at 

least one of the following measures: a 

ratio of total debt obligations to income, 

or the income the consumer will have 

after paying debt obligations. (The 

procedures for verifying repayment 

ability are required under paragraph 

34(a)(4)(ii); the other procedures are not 

required.) 

Unlike the proposed presumption of 

compliance, the presumption of 

compliance in the final rule is not 

conditioned on a requirement that a 

creditor have a reasonable basis to 

believe that a consumer will be able to 

make loan payments for a specified 

period of years. Comments from 

creditors indicated this proposed 

requirement was not necessary and 

introduced an undue degree of 

compliance uncertainty. The final 

presumption of compliance, therefore, 

replaces this general requirement with 

the three specific procedural 

requirements mentioned in the previous 

paragraph. 

The creditor’s presumption of 

compliance for following these 

procedures is not conclusive. The Board 

believes a conclusive presumption 

could seriously undermine consumer 

protection. A creditor could follow the 

procedures and still disregard 

repayment ability in a particular case or 

potentially in many cases. Therefore, 

the borrower may rebut the presumption 

with evidence that the creditor 

disregarded repayment ability despite 

following these procedures. For 

example, evidence of a very high debtto-income ratio and a very limited 

residual income could be sufficient to 

rebut the presumption, depending on all 

of the facts and circumstances. If a 

creditor fails to follow one of the nonmandatory procedures set forth in 

paragraph 34(a)(4)(iii), then the 

creditor’s compliance is determined 

based on all of the facts and 

circumstances without there being a 

presumption of either compliance or 

violation. See comment 34(a)(4)(iii)–1. 

Largest scheduled payment in seven 

years. When a loan has a fixed rate and 

a fixed payment that fully amortizes the 

loan over its contractual term to 

maturity, there is no ambiguity about 

the rate and payment at which the 

lender should assess repayment ability: 

The lender will use the fixed rate and 

the fixed payment. But when the rate 

and payment can change, as has often 

been true of subprime loans, a lender 

has to choose a rate and payment at 

which to assess repayment ability. The 

Board proposed that a creditor would be 

presumed to have disregarded 

repayment ability if it had engaged in a 

pattern or practice of failing to use the 

fully-indexed rate (or the maximum rate 

in seven years on a step-rate loan) and 

the fully-amortizing payment. 

As discussed, the final rule does not 

contain this proposed presumption of 

violation. Instead, it provides that a 

creditor will have a presumption of 

compliance if, among other things, the 

creditor uses the largest scheduled 

payment of principal and interest in the 

first seven years. This payment could be 

higher, or lower, than the payment 

determined according to the fullyindexed rate and fully-amortizing 

payment. The Board believes that the 

final rule is clearer and simpler than the 

proposal. It incorporates longestablished principles in Regulation Z 

for determining a payment schedule 

when rates or payments can change, 

which should facilitate compliance. See 

comment 34(a)(4)(iii)(B)–1. The final 

rule is also more flexible than the 

proposal. Instead of requiring the 

creditor to use a particular payment, it 

provides the creditor who uses the 

largest scheduled payment in seven 

years a presumption of compliance. The 

creditor has the flexibility to use a lower 

payment, and no presumption of 

violation would attach; though neither 

would a presumption of compliance. 

Instead, compliance would be 

determined based on all of the facts and 

circumstances. 

Two aspects of § 226.34(a)(4) help 

ensure that this approach provides 

consumers effective protection. First, 

the Board is adopting the proposed 

seven-year horizon. That is, under 

§ 226.34(a)(4)(iii)(B) the relevant 

payment for underwriting is the largest 

payment in seven years. Industry 

commenters requested that the rule 

incorporate a time horizon of no more 

than five years. As these commenters 

indicated, most subprime loans, 

including those with fixed rates, have 

paid off (or defaulted) within five years. 

It is possible that prepayment speeds 

will slow, however, as subprime lending 

practices and loan terms undergo 

substantial changes. Moreover, the final 

rule addresses commenters’ concern 

that the proposal seemed to require 

them to project the consumer’s income, 

employment, and other circumstances 

for as long as seven years as a condition 

to obtaining a presumption of 

compliance. Under the final rule, the 

creditor is expected to underwrite based 

on the facts and circumstances that exist 

as of consummation. Section 

226.34(a)(4)(iii)(B) sets out the payment 

to which the creditor should underwrite 

if it seeks to have a presumption of 

compliance. Furthermore, nothing in 

the regulation prohibits, or creates a 

presumption against, loan products that 

are designed to serve consumers who 

legitimately expect to sell or refinance 

sooner than seven years. 

A second aspect of § 226.34(a)(4) that 

is integral to its balance of consumer 

protection and credit availability is its 

exclusion of two nontraditional types of 

loans from the presumption of 

compliance that can pose more risk to 

consumers in the subprime market. 

Under § 226.34(a)(4)(iv), no 

presumption of compliance is available 

for a balloon-payment loan with a term 

shorter than seven years. If the term is 

at least seven years, the creditor that 

underwrites the loan based on the 

regular payments (not the balloon 

payment) may retain the presumption of 

compliance. If the term is less than 

seven years, compliance is determined 

on the basis of all of the facts and 

circumstances. This approach is simpler 

than some of the alternatives 

commenters recommended to address 

balloon-payment loans, and it better 

balances consumer protection and credit 

availability than other alternatives they 

suggested.69 Consumers are statistically 

very likely to prepay (or default) within 

seven years and avoid the balloon 

payment. 

Loans with scheduled payments that 

would increase the principal balance 

(negative amortization) within the first 

seven years are also excluded from the 

presumption of compliance. This 

exclusion will help ensure that the 

presumption is available only for loans 

that leave the consumer sufficient 

equity after seven years to refinance. If 

the payments scheduled for the first 

seven years would cause the balance to 

increase, then compliance is determined 


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70Michael E. Stone, What is Housing 

Affordability? The Case for the Residual Income 

Approach, 17 Housing Policy Debate 179 (Fannie 

Mae 2006) (advocating use of a residual income 

approach but acknowledging that it ‘‘is neither well 

known, particularly in this country, nor widely 

understood, let alone accepted’’). 

on all of the facts and circumstances 

without a presumption of compliance or 

violation. 

‘‘Interest-only’’ loans can have a 

presumption of compliance. With these 

loans, after an initial period of interestonly payments the payment is recast to 

fully amortize the loan over the 

remaining term to maturity. If the period 

of interest-only payments is shorter than 

seven years, the creditor may retain the 

presumption of compliance if it uses the 

fully-amortizing payment that 

commences after the interest-only 

period. If the interest-only period is 

seven years or longer, the creditor may 

retain the presumption of compliance if 

it assesses repayment ability using the 

interest-only payment. Examples have 

been added to the commentary to 

facilitate compliance. See comment 

34(a)(4)(iii)(B)–1. Examples of variablerate loans and a step-rate loan have also 

been added. 

Debt-to-income ratio and residual 

income. The proposal provided that a 

creditor would be presumed to have 

violated the regulation if it engaged in 

a pattern or practice of failing to 

consider the ratio of consumers’ total 

debt obligations to consumers’ income 

or the income consumers will have after 

paying debt obligations. A major 

secondary market participant proposed 

that considering total DTI and residual 

income not be an absolute prerequisite 

because other measures of income, 

assets, or debts may be valid methods to 

assess repayment ability. A credit union 

trade association contended that 

residual income is not a necessary 

underwriting factor if a lender uses DTI. 

Consumer and civil rights groups, 

however, specifically support including 

both DTI and residual income as factors, 

contending that residual income is an 

essential component of an affordability 

analysis for lower-income families. 

Based on the comments and its own 

analysis, the Board is revising the 

proposal to provide that a creditor does 

not have a presumption of compliance 

with respect to a particular transaction 

unless it uses at least one of the 

following: the consumer’s ratio of total 

debt obligations to income, or the 

income the consumer will have after 

paying debt obligations. Thus, the final 

rule permits a creditor to retain a 

presumption of compliance so long as it 

uses at least one of these two measures. 

The Board believes the flexibility 

permitted by the final rule will help 

promote access to responsible credit 

without weakening consumer 

protection. The rule provides creditors 

flexibility to determine whether using 

both a DTI ratio and residual income 

increases a creditor’s ability to predict 

repayment ability. If one of these 

metrics alone holds as much predictive 

power as the two together, as may be 

true of certain underwriting models at 

certain times, then conditioning access 

to a safe harbor on using both metrics 

could reduce access to credit without an 

offsetting increase in consumer 

protection. The Board also took into 

account that, at this time, residual 

income appears not to be as widely used 

or tested as the DTI ratio.70 It is 

appropriate to permit the market to 

develop more experience with residual 

income before considering whether to 

incorporate it as an independent 

requirement of a regulatory presumption 

of compliance. 

The final rule does not contain 

quantitative thresholds for either of the 

two metrics. The Board specifically 

solicited comment on whether it should 

adopt such thresholds. Industry 

commenters did not favor providing a 

presumption of compliance (or a 

presumption of a violation) based on a 

specified debt-to-income ratio. The 

reasons given include: Different 

investors have different guidelines for 

lenders to follow in calculating DTI; 

underwriters following the same 

procedures can calculate different DTIs 

on the same loan; borrowers may want 

or, in some high-cost areas, may need to 

spend more than any specified 

percentage of their income on housing 

and may have sufficient non-collateral 

assets or residual incomes to support 

the loan; and loans with high DTIs have 

not necessarily had high delinquency 

rates. Two trade associations indicated 

they would accept a quantitative safe 

harbor if it were sufficiently flexible. 

Some commenters suggested a standard 

of reasonableness. 

Consumer and civil rights groups, a 

federal banking agency, and others 

requested that the Board set threshold 

levels for both DTI and residual income 

beyond which a loan would be 

considered unaffordable, subject to 

rebuttal by the creditor. They argued 

that quantitative thresholds for these 

factors would improve compliance and 

loan performance. These commenters 

suggested that the regulation should 

expressly recognize that, as residual 

income increases, borrowers can 

support higher DTI levels. They 

provided alternative recommendations: 

mandate the DTI and residual income 

levels found in the guidelines for loans 

guaranteed by the Department of 

Veterans Affairs, 38 CFR 36.4840; 

develop the Board’s own guidelines; or 

impose a threshold of 50 percent DTI 

with sufficient residual income. A 

consumer research and advocacy group, 

however, supported the Board’s 

proposal not to set a quantitative 

threshold. It specifically opposed a 50 

percent threshold as too high for 

sustainable lending. It further 

maintained that any specific DTI 

threshold would not be workable 

because proper underwriting depends 

on too many factors, and the definition 

of ‘‘debt’’ is too easily manipulated. 

The Board is concerned that making 

a specific DTI ratio or residual income 

level either a presumptive violation or 

a safe harbor could limit credit 

availability without providing adequate 

offsetting benefits. The same debt-toincome ratio can have very different 

implications for two consumers’

repayment ability if the income levels of 

the consumers differ significantly. 

Moreover, it is not clear what thresholds 

would be appropriate. Limited data are 

available to the Board to support such 

a determination. Underwriting 

guidelines of the Department of 

Veterans Affairs may be appropriate for 

the limited segment of the mortgage 

market this agency is authorized to 

serve, but they are not necessarily 

appropriate for the large segment of the 

mortgage market this regulation will 

cover. 

Safe Harbors and Exemptions Not 

Adopted 

Commenters requested several safe 

harbors or exemptions that the Board is 

not adopting. Many industry 

commenters sought a safe harbor for any 

loan approved by the automated 

underwriting system (AUS) of Fannie 

Mae or Freddie Mac; some sought a safe 

harbor for an AUS of any federallyregulated institution. The Board is not 

adopting such a safe harbor. 

Commenters did not suggest a clear and 

objective definition of an AUS that 

would distinguish it from other types of 

systems used in underwriting. It would 

not be appropriate to try to resolve this 

concern by limiting a safe harbor to the 

AUS’s of Fannie Mae and Freddie Mac, 

as that would give them an unfair 

advantage in the marketplace. Moreover, 

a safe harbor for an AUS that is a ‘‘black 

box’’ and is not specifically required to 

comply with the regulation could 

undermine the regulation. Some 

industry commenters sought safe 

harbors for transactions that provide the 

consumer a lower rate or payment on 

the grounds that these transactions 

would generally benefit the borrower. 


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The chief example given is a refinance 

(without cash out) that reduces the 

consumer’s current monthly payment 

or, in the case of an ARM, the payment 

expected upon reset. The Board does 

not believe that a safe harbor for such 

a transaction would benefit consumers. 

For example, it could provide an 

incentive to an originator to make an 

unaffordable loan to a consumer and 

then repeatedly refinance the loan with 

new loans offering a slightly lower 

payment each time. 

One state Attorney General submitted 

a comment supporting permitting an 

asset-based loan where the borrower has 

suffered a loss of income but reasonably 

anticipates improving her circumstances 

(e.g., temporary disability or illness, 

unemployment, or salary cut), or the 

borrower seeks a short-term loan 

because she must sell the home due to 

a permanent reduction in income (e.g., 

loss of job, or divorce from co-borrower) 

or some other event (e.g., pending 

foreclosure or occurrence of natural 

disaster). An association of mortgage 

brokers also recommended that 

exceptions be made for such cases. 

The Board is not adopting safe 

harbors or exemptions for such 

‘‘hardship’’ cases. As discussed above, 

the Board recognizes that consumers in 

such situations who fully understood 

the risks involved would benefit from 

having the ability to address their 

situation by taking a large risk with their 

home equity. At the same time, the 

Board is concerned that exceptions for 

such cases could severely undermine 

the rule because it would be difficult, if 

not impossible, to distinguish bona fide 

cases from mere circumvention. For 

some of these cases, such as selling a 

home due to divorce or job loss (or any 

reason) and purchasing a new, 

presumably less expensive home, the 

carve-out for bridge loans may apply. 

C. Prepayment Penalties—§ 226.32(d)(6) 

and (7); § 226.35(b)(2) 

The Board proposed to apply to 

higher-priced mortgage loans the 

prepayment penalty restrictions that 

TILA Section 129(c) applies to HOEPA 

loans. Specifically, HOEPA-covered 

loans may only have a prepayment 

penalty if: The penalty period does not 

exceed five years from loan 

consummation; the penalty does not 

apply if there is a refinancing by the 

same creditor or its affiliate; the 

borrower’s debt-to-income (DTI) ratio at 

consummation does not exceed 50 

percent; and the penalty is not 

prohibited under other applicable law. 

15 U.S.C. 1639(c); see also 12 CFR 

226.32(d)(6) and (7). In addition, the 

Board proposed, for both HOEPA loans 

and higher-priced mortgage loans, to 

require that the penalty period expire at 

least sixty days before the first date, if 

any, on which the periodic payment 

amount may increase under the terms of 

the loan. 

Based on the comments and its own 

analysis, the Board is adopting 

substantially revised rules for 

prepayment penalties. There are two 

components to the final rule. First, the 

final rule prohibits a prepayment 

penalty with a higher-priced mortgage 

loan or HOEPA loan if payments can 

change during the four-year period 

following consummation. Second, for 

all other higher-priced mortgage loans 

and HOEPA loans—loans whose 

payments may not change for four years 

after consummation—the final rule 

limits prepayment penalty periods to a 

maximum of two years following 

consummation, rather than five years as 

proposed. In addition, the final rule 

applies to this second category of loans 

two requirements for HOEPA loans that 

the Board proposed to apply to higherpriced mortgage loans: the penalty must 

be permitted by other applicable law, 

and it must not apply in the case of a 

refinancing by the same creditor or its 

affiliate. 

The Board is not adopting the 

proposed rule requiring a prepayment 

penalty provision to expire at least sixty 

days before the first date on which a 

periodic payment amount may increase 

under the loan’s terms. The final rule 

makes such a rule unnecessary. Under 

the final rule, if the consumer’s payment 

may change during the first four years 

following consummation, a prepayment 

penalty is prohibited outright. If the 

payment is fixed for four years, the final 

rule limits a prepayment penalty period 

to two years, leaving the consumer a 

penalty-free window of at least two 

years before the payment may increase. 

In addition, for the reasons discussed 

below, the Board is not adopting the 

proposed rule prohibiting a prepayment 

penalty where a consumer’s verified DTI 

ratio, as of consummation, exceeds 50 

percent. This restriction, however, will 

continue to apply to HOEPA loans, as 

provided by the statute. 

Under Regulation Z, 12 CFR 

226.23(a)(3), footnote 48, a HOEPA loan 

having a prepayment penalty that does 

not conform to the requirements of 

§ 226.32(d)(7) is a mortgage containing a 

provision prohibited by TILA Section 

129, 15 U.S.C. 1639, and therefore is 

subject to the three-year right of the 

consumer to rescind. Final 

§ 226.35(b)(2), which the Board is 

adopting under the authority of Section 

129(l)(2), 15 U.S.C. 1639(l)(2), applies 

restrictions on prepayment penalties for 

higher-priced mortgage loans that are 

substantially the same as the restrictions 

that § 226.32(d)(6) and (7) apply on 

prepayment penalties for HOEPA loans. 

Accordingly, the Board is revising 

footnote 48 to clarify that a higherpriced mortgage loan (whether or not it 

is a HOEPA loan) having a prepayment 

penalty that does not conform to the 

requirements of § 226.35(b)(2) also is 

subject to a three-year right of 

rescission. (The right of rescission, 

however, does not extend to home 

purchase loans, construction loans, or 

certain refinancings with the same 

creditor.) 

Public Comment 

The Board received public input 

about the advantages and disadvantages 

of prohibiting or restricting prepayment 

penalties in testimony provided at the 

2006 and 2007 hearings the Board 

conducted on mortgage lending, and in 

comment letters associated with these 

hearings. In the official notice of the 

2007 hearing, the Board expressly asked 

for oral and written comment about the 

effects of a prohibition or restriction 

under HOEPA on prepayment penalties 

on consumers and on the type and terms 

of credit offered. 72 FR 30380, 30382 

(May 31, 2007). Most consumer and 

community groups, as well as some 

state and local government officials and 

a trade association for community 

development financial institutions, 

urged the Board to prohibit prepayment 

penalties with subprime loans. By 

contrast, most industry commenters 

opposed prohibiting prepayment 

penalties or restricting them beyond 

requiring that they expire sixty days 

before reset, on the grounds that a 

prohibition or additional restrictions 

would reduce credit availability in the 

subprime market. Some industry 

commenters, however, stated that a 

three-year maximum prepayment 

penalty period would be appropriate. 

In connection with the proposed rule, 

the Board asked for comment about the 

benefits and costs of prepayment 

penalties to consumers who have 

higher-priced mortgage loans, as well as 

about the costs and benefits of the 

specific restrictions proposed. Most 

financial institutions and their trade 

associations stated that consumers 

should be able to choose a loan with a 

prepayment penalty in order to lower 

their interest rate. Many of these 

commenters stated that prepayment 

penalties help creditors to manage 

prepayment risk, which in turn 

increases credit availability and lowers 

credit costs. Industry commenters 

generally opposed the proposed rule 

that would prohibit prepayment 


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71This is a typical contractual formula for 

calculating the penalty. There are other formulas for 

calculating the penalty, such as a percentage of the 

amount prepaid or of the outstanding loan balance 

(potentially reduced by the percentage (for example, 

20 percent) that a borrower, by law or contract, may 

prepay without penalty). As explained further 

below, a consumer may pay a lower rate in 

exchange for having a provision providing for a 

penalty of this magnitude. 

72Figure calculated from First American 

LoanPerformance data. 

73For the reasons set forth in part II.B., 

consumers in the subprime market have had a high 

risk of receiving loans they cannot afford to pay. 

The Board expects that the rule prohibiting 

disregard for repayment ability will reduce this risk 

substantially, but no rule can eliminate it. 

Moreover, its success depends on vigorous 

enforcement by a wide range of agencies and 

jurisdictions. 

penalties in cases where a consumer’s 

DTI ratio exceeds 50 percent. The few 

industry commenters that addressed the 

proposal to require that a prepayment 

penalty not apply in the case of a 

refinancing by the creditor or its affiliate 

opposed the provision. These 

commenters supported, or did not 

oppose, the proposal to require 

prepayment penalties to expire at least 

sixty days before any possible payment 

increase. Several financial institutions, 

an industry trade association, and a 

secondary-market investor 

recommended that the Board set a threeyear maximum penalty period instead of 

a five-year maximum. 

By contrast, many other commenters, 

including most consumer organizations, 

several trade associations for state 

banking authorities, a few local, state, 

and federal government officials, a 

credit union trade association, and a 

real estate agent trade association, 

supported prohibiting prepayment 

penalties for higher-priced mortgage 

loans and HOEPA loans. Many of these 

commenters stated that the cost of 

prepayment penalties to subprime 

borrowers outweigh the benefits of any 

reductions in interest rates or up-front 

fees they may receive. These 

commenters stated that the Board’s 

proposed rule would not address 

adequately the harms that prepayment 

penalties cause consumers. Several 

commenters recommended alternative 

restrictions of prepayment penalties 

with higher-priced mortgage loans and 

HOEPA loans if the Board did not 

prohibit such penalties, including 

limiting a prepayment penalty period to 

two or three years following 

consummation or prohibiting 

prepayment penalties with ARMs. 

Public comments are discussed in 

greater detail throughout this section. 

Discussion 

For the reasons discussed below, the 

Board concludes that the fairness of 

prepayment penalty provisions on 

higher-priced mortgage loans and 

HOEPA loans depends to an important 

extent on the structure of the mortgage 

loan. It has been common in the 

subprime market to structure loans to 

have a short expected life span. This has 

been achieved by building in a 

significant payment increase just a few 

years after consummation. With respect 

to subprime loans designed to have 

shorter life spans, the injuries from 

prepayment provisions are potentially 

the most serious, as well as the most 

difficult for a reasonable consumer to 

avoid. For these loans, therefore, the 

Board concludes that the injuries caused 

by prepayment penalty provisions with 

subprime loans outweigh their benefits. 

With respect to subprime loans 

structured to have longer expected life 

spans, however, the Board concludes 

that the injuries from prepayment 

penalties are closer to being in balance 

with their benefits, warranting 

restrictions but not, at this time, a 

prohibition. 

Background. Prepayment risk is the 

risk that a loan will be repaid before the 

end of the loan term, a major risk of 

mortgage lending. Along with default 

risk, it is the major risk of extending 

mortgage loans. When mortgages 

prepay, cash flow from loan payments 

may not offset origination expenses or 

discounts consumers were provided on 

fees or interest rates. Moreover, 

prepayment when market interest rates 

are declining, which is when borrowers 

are more likely to prepay, forces 

investors to reinvest prepaid funds at a 

lower rate. Furthermore, prepayment by 

subprime borrowers whose credit risk 

declines (for example, their equity or 

their credit score increases) leaves an 

investor holding relatively riskier loans. 

Creditors seek to account for 

prepayment risk when they set loan 

interest rates and fees, and they may 

also seek to address prepayment risk 

with a prepayment penalty. A 

prepayment penalty is a fee that a 

borrower pays if he repays a mortgage 

within a specified period after 

origination. A prepayment penalty can 

amount to several thousand dollars. For 

example, a consumer who obtains a 3–

27 ARM with a thirty-year term for a 

loan in the amount of $200,000 with an 

initial rate of 6 percent would have a 

principal balance of $194,936 at the end 

of the second year following 

consummation. If the consumer pays off 

the loan, a penalty of six months’

interest on the remaining balance—close 

to six monthly payments—will cost the 

consumer about $5,850.71 A penalty of 

this magnitude reduces a borrower’s 

likelihood of prepaying and assures a 

return for the investor if the borrower 

does prepay. 

Substantial injury. Prepayment 

penalty provisions have been very 

common on subprime loans. Almost 

three-quarters of loans in a large dataset 

of securitized subprime loan pools 

originated from 2003 through the first 

half of 2007 had a prepayment penalty 

provision.72 These provisions cause 

many consumers who pay the penalty, 

as well as many consumers who cannot, 

substantial injuries. The risk of injury is 

particularly high for borrowers who 

receive loans structured to have short 

expected life spans because of a 

significant expected payment increase. 

A borrower with a prepayment 

penalty provision who has reason to 

refinance while the provision is in effect 

must choose between paying the penalty 

or foregoing the refinance, either of 

which could be very costly. Paying the 

penalty could exact several thousand 

dollars from the consumer; financing 

the penalty through the refinance loan 

adds interest to that cost. When the 

consumer’s credit score has improved, 

delaying the refinance until the penalty 

expires could mean losing or at least 

postponing an opportunity to lower the 

consumer’s interest rate. Declining to 

pay the penalty also could mean 

foregoing or delaying a ‘‘cash out’’ loan 

that would consolidate several large 

unsecured debts at a lower rate or help 

the consumer meet a major life expense, 

such as for medical care. Borrowers who 

have no ability to pay or finance the 

penalty, however, have no choice but to 

forego or delay any benefits from 

refinancing. 

Prepayment penalty provisions also 

exacerbate injuries from unaffordable or 

abusive loans. In the worst case, where 

a consumer has been placed in a loan 

he cannot afford to pay, delaying a 

refinancing could increase the 

consumer’s odds of defaulting and, 

ultimately, losing the house.73

Borrowers who were steered to loans 

with less favorable terms than they 

qualify for based on their credit risk face 

an ‘‘exit tax’’ for refinancing to improve 

their terms. 

Prepayment penalty provisions can 

cause more injury with loans designed 

to have short expected life spans. With 

these loans, borrowers are particularly 

likely to want to prepay in a short time 

to avoid the expected payment increase. 

Moreover, in recent years, loans 

designed to have short expected life 

spans have been among the most 

difficult for borrowers to afford—even 

before their payment increases. 

Borrowers with 2–28 and 3–27 ARMs 

have been much more likely to become 


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74Figure calculated from McDash Analytics data. 

75Figure calculated from First American 

LoanPerformance data. 

76 Id. 

77 Id. It is not possible to discern from the data 

whether the cash was used only to cover the costs 

of refinancing or also for other purposes. See also 

Subprime Refinancing at 233 (reporting that 49 

percent of subprime refinance loans involve equity 

extraction, compared with 26 percent of prime 

refinance loans); Subprime Outcomes at 368–371 

(discussing survey evidence that borrowers with 

subprime loans are more likely to have experienced 

major adverse life events (marital disruption; major 

medical problem; major spell of unemployment; 

major decrease of income) and often use refinancing 

for debt consolidation or home equity extraction); 

Subprime Lending Investigation at 551–52 (citing 

survey evidence that borrowers with subprime 

loans have increased incidence of major medical 

expenses, major unemployment spells, and major 

drops in income). 

78 Improving Consumer Mortgage Disclosures at 

74 (‘‘[R]espondents had more difficulty recognizing 

and identifying mortgage cost in the complex-loan 

scenario. This implies that borrowers in the 

subprime market may have more difficulty 

understanding their loan terms than borrowers in 

the prime market. The difference in understanding, 

however, would be due largely to differences in the 

complexities of the loans, rather than the 

capabilities of the borrowers.’’). 

79Brian Bucks and Karen Pence, Do Borrowers 

Understand their Mortgage Terms?, Journal of 

Urban Economics (forthcoming 2008). 

80 Id. 

81See generally U.S. Dep’t of Hous. & Urban Dev. 

& U.S. Dep’t of Treasury, Recommendations to Curb 

Continued 

seriously delinquent than borrowers 

with fixed-rate subprime mortgages. In 

part, the difference reflects that 

borrowers receiving 2–28 and 3–27 

ARMs have had lower average credit 

scores and less equity in their homes at 

origination. But the large difference also 

suggests that these shorter-term loans 

were more likely to be marketed and 

underwritten in ways that increase the 

risk of unaffordability. A prepayment 

penalty provision exacerbates this 

injury, especially because borrowers 

with lower credit scores are the most 

likely to have a need to refinance to 

extract cash. 

Injury not reasonably avoidable. In 

the prime market, the injuries 

prepayment penalties cause are readily 

avoidable because lenders do not 

typically offer borrowers mortgages with 

prepayment penalty provisions. Indeed, 

in one large dataset of first-lien prime 

loans originated from 2003 to mid-2007 

just six percent of loans had these 

provisions.74 In a dataset of subprime 

securitized loans originated during the 

same period, however, close to threequarters had a prepayment penalty 

provision.75 Moreover, evidence 

suggests that a large proportion of 

subprime borrowers with prepayment 

penalty provisions have paid the 

penalty. Approximately 55 percent of 

subprime 2–28 ARMs in this same 

dataset originated from 2000 to 2005 

prepaid while the prepayment penalty 

provision was in effect.76 The data do 

not indicate how many consumers 

actually paid a penalty, or how much 

they paid. But the data suggest that a 

significant percentage of borrowers with 

subprime loans have paid prepayment 

penalties, which, as indicated above, 

can amount to several thousand dollars. 

These figures raise a serious question 

as to whether a substantial majority of 

subprime borrowers have knowingly 

and voluntarily taken the very high risk 

of paying a significant penalty. While 

subprime borrowers receive some rate 

reduction for a prepayment penalty 

provision (as discussed at more length 

in the next subsection), they also have 

major incentives to refinance. They 

often have had difficulty meeting their 

regular obligations and experienced 

major life disruptions. Many would 

therefore anticipate refinancing to 

extract equity to consolidate their debts 

or pay a major expense; nearly 90 

percent of subprime ARMs used for 

refinancings in recent years were ‘‘cash 

out.’’ 77 In addition, many subprime 

borrowers would aspire to refinance for 

a lower rate when their credit risk 

declines (for example, their credit score 

improves, or their equity increases). 

Prepayment penalties’ lack of 

transparency also suggests that 

prepayment penalty provisions are often 

not knowingly and voluntarily chosen 

by subprime borrowers whose loans 

have them. In the subprime market, 

information on rates and fees is not easy 

to obtain. See part II.B. Information on 

prepayment penalties, such as how large 

they can be or how many consumers 

actually pay them, is even harder to 

obtain. The lack of transparency is 

exacerbated by originators’ incentives—

largely hidden from consumers—to 

‘‘push’’ loans with prepayment penalty 

provisions and at the same time obscure 

or downplay these provisions. If the 

consumer seeks the lowest monthly 

payment—as the consumer in the 

subprime market often does—then the 

originator has a limited incentive to 

quote the payment for a loan without a 

prepayment penalty provision, which 

will tend to be at least slightly higher. 

Perhaps more importantly, lenders pay 

originators considerably larger 

commissions for loans with prepayment 

penalties, because the penalty assures 

the lender a larger revenue stream to 

cover the commission. The originator 

also has an incentive not to draw the 

consumer’s attention to the prepayment 

penalty provision, in case the consumer 

should prefer a loan without it. 

Although the prepayment penalty 

provision must be disclosed on the postapplication TILA disclosure, the 

consumer may not notice it amidst 

numerous other disclosures or may not 

appreciate its significance. Moreover, an 

unscrupulous originator may not 

disclose the penalty until closing, when 

the consumer’s ability to negotiate terms 

is much reduced. 

Even a consumer offered a genuine 

choice would have difficulty comparing 

the costs of subprime loans with and 

without a penalty, and would likely 

choose to place more weight on the 

more certain and tangible cost of the 

initial monthly payment. There is a 

limit to the number of factors a 

consumer can reasonably be expected to 

consider, so the more complex a loan 

the less likely the consumer is to 

consider the prepayment penalty. For 

example, an FTC staff study found that 

consumers presented with mortgage 

loans with more complex terms were 

more likely to miss or misunderstand 

key terms.78

These concerns are magnified with 

subprime loans structured to have short 

expected life spans, which will have 

variable rates (such as 2–28 and 3–27 

ARMs) or other terms that can increase 

the payment. Adjustable-rate mortgages 

are complicated for consumers even 

without prepayment penalties. A 

Federal Reserve staff study suggests that 

borrowers with ARMs underestimate the 

amount by which their interest rates can 

change.79 The study also suggests that 

the borrowers most likely to make this 

mistake have a statistically higher 

likelihood of receiving subprime 

mortgages (for example, they have lower 

incomes and less education).80 Adding 

a prepayment penalty provision to an 

already-complex ARM product makes it 

less likely the consumer will notice, 

understand, and consider this provision 

when making decisions. Moreover, the 

shorter the period until the likely 

payment increase, the more the 

consumer will have to focus attention 

on the adjustable-rate feature of the loan 

and the less the consumer may be able 

to focus on other features. 

Moreover, subprime mortgage loans 

designed to have short expected life 

spans appear more likely than other 

types of subprime mortgages to create 

incentives for abusive practices. 

Because these loans create a strong 

incentive to refinance in a short time, 

they are likely to be favored by 

originators who seek to ‘‘flip’’ their 

clients through repeated refinancings to 

increase fee revenue; prepayment 

penalties are frequently associated with 

such a strategy.81 Moreover, 2–28 and 


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Predatory Home Mortgage Lending 73 (2000) (‘‘Loan 

flipping generally refers to repeated refinancing of 

a mortgage loan within a short period of time with 

little or no benefit to the borrower.’’), available at 

http://www.huduser.org/publications/pdf/ 

treasrpt.pdf. 

82Figures calculated from First American 

LoanPerformance data about securitized subprime 

pools show that the median FICO score was 627 for 

fixed-rate loans and 612 for short-term hybrid 

ARMs (2–28 and 3–27 ARMS). 

83See Chris Mayer, Tomasz Piskorski, and Alexei 

Tchistyi, The Inefficiency of Refinancing: Why 

Prepayment Penalties Are Good for Risky Borrowers 

(Apr. 28, 2008) (Why Prepayment Penalties Are 

Good), http://www1.gsb.columbia.edu/mygsb/ 

faculty/research/pubfiles/3065/

Inefficiency%20of%20Refinancing%2Epdf; Gregory 

Elliehausen, Michael E. Staten, and Jevgenijs 

Steinbuks, The Effect of Prepayment Penalties on 

the Pricing of Subprime Mortgages, 60 Journal of 

Economics and Business 33 (2008) (Effect of 

Prepayment Penalties); Michael LaCour-Little, 

Prepayment Penalties in Residential Mortgage 

Contracts: A Cost-Benefit Analysis (Jan. 2007) 

(unpublished) (Cost-Benefit Analysis); Richard F. 

DeMong and James E. Burroughs, Prepayment Fees 

Lead to Lower Interest Rates, Equity (Nov./Dec. 

2005), available at http:// 

www.commerce.virginia.edu/faculty_research/

faculty_homepages/DeMong/Prepaymentsand

InterestRates.pdf (Prepayment Fees Lower Rates); 

but see Keith E. Ernst, Center for Responsible 

Lending, Borrowers Gain No Interest Rate Benefit 

from Prepayment Penalties on Subprime Mortgages 

(2005), http://www.responsiblelending.org/pdfs/

rr005-PPP_Interest_Rate-0105.pdf (No Interest Rate 

Benefit). 

84See Effect of Prepayment Penalties 43 (finding 

that the presence of a prepayment penalty reduced 

risk premiums by 18 basis points for hybrid loans 

and 13 basis points for variable-rate loans); 

Prepayment Fees Lower Rates 5 (stating that, for 

first-lien subprime loans with a thirty-year term, the 

presence of a prepayment penalty reduced the APR 

by 29 basis points for adjustable-rate loans and 20 

basis points for interest-only loans). 

85Cost-Benefit Analysis 26 (‘‘For the [2–28] ARM 

product, the total interest rate savings is 

significantly less than the amount of the expected 

prepayment penalty; for the [3–28] ARM product, 

the two values are approximately equal.’’). 

86Effect of Prepayment Penalties 43. See also 

Cost-Benefit Analysis 24 (finding the total estimated 

interest rate savings for fixed-rate loans to be 51 

basis points for retail-originated loans and 33 basis 

points for broker-originated loans). 

87Prepayment Fees Lower Rates 5. See also Why 

Prepayment Penalties Are Good 25 & fig. 4 (finding 

that, depending on the borrower’s FICO score, 

fixed-rate loans with prepayment penalties had 

interest rates that were about 50 basis points (where 

FICO score 680 or higher) to about 70 basis points 

(where FICO score less than 620) lower than 

mortgages without prepayment penalties); but see 

No Interest Rate Benefit (finding, for subprime 

fixed-rate loans, that interest rates for purchase 

loans with a prepayment penalty were between 39 

and 51 basis points higher than for such loans 

without a penalty and that for refinance loans there 

was no statistically significant difference in the 

interest rates paid). 

3–27 ARMs were marketed to borrowers 

with low credit scores as ‘‘credit repair’’

products, obscuring the fact that a 

prepayment penalty provision would 

inhibit or prevent the consumer who 

improved his credit score from 

refinancing at a lower rate. These loans 

were also associated more than other 

loan types with irresponsible 

underwriting and marketing practices 

that contributed to high rates of 

delinquency even before the consumer’s 

payment increased. 

Subprime loans designed to have 

short expected life spans also attracted 

consumers who are more vulnerable to 

abusive prepayment penalties. 

Borrowers with 2–28 and 3–27 ARMs 

had lower credit scores than borrowers 

with any other type of subprime loan.82

These borrowers include consumers 

with the least financial sophistication 

and the fewest financial options. Such 

consumers are less likely to scrutinize a 

loan for a restriction on prepayment or 

negotiate the restriction with an 

originator, who in any event has an 

incentive to downplay its significance. 

Injury not outweighed by 

countervailing benefits to consumers or 

to competition. The Board concludes 

that prepayment penalties’ injuries 

outweigh their benefits in the case of 

higher-priced mortgage loans and 

HOEPA loans designed with planned or 

potential payment increases after just a 

few years. For other types of higherpriced and HOEPA loans, however, the 

Board concludes that the injuries and 

benefits are much closer to being in 

equipoise. Thus, as explained further in 

the next section, the final rule prohibits 

penalties in the first case and limits 

them to two years in the second. 

Prepayment penalties can increase 

market liquidity by permitting creditors 

and investors to price directly and 

efficiently for prepayment risk. This 

liquidity benefit is more significant in 

the subprime market than in the prime 

market. Prepayment in the subprime 

market is motivated by a wider variety 

of reasons than in the prime market, as 

discussed above, and therefore is subject 

to more uncertainty. In principle, 

prepayment penalty provisions allow 

creditors to charge most of the 

prepayment risk only to the consumers 

who actually prepay, rather than 

charging all of the risk in the form of 

higher interest rates or up-front fees for 

all consumers. The extent to which 

creditors have actually passed on lower 

rates and fees to consumers with 

prepayment penalty provisions in their 

loans is debated and, moreover, 

inherently difficult to measure. With 

limited exceptions, however, available 

studies, discussed at more length below, 

have shown consistently that loans with 

prepayment penalties carry lower rates 

or APRs than loans without prepayment 

penalties having similar credit risk 

characteristics.83

Evidence of lower rates or APRs is not 

sufficient to demonstrate that penalties 

provide a net benefit to consumers. 

Some consumers may not have chosen 

the lower rates or APRs voluntarily and 

may have preferred ex ante, had they 

been properly informed, to have no 

prepayment penalty provision and 

somewhat higher rates or fees. 

Borrowers with these provisions who 

hold their loans past the penalty period 

are likely better off because they have 

lower rates and do not incur a 

prepayment penalty; but the benefit 

these borrowers receive may be small 

compared to the injury suffered by the 

many borrowers who pay the penalty, or 

who cannot pay it and are locked into 

an inappropriate or unaffordable loan. It 

does appear, however, that prepayment 

penalty provisions provide some benefit 

to at least some consumers in the form 

of reduced rates and increased credit 

availability. 

In the case of higher-priced mortgage 

loans and HOEPA loans designed to 

have short expected life spans, the 

Board concludes that these potential 

benefits do not outweigh the injuries to 

consumers. Available studies generally 

have found reductions in interest rate or 

APR associated with subprime 2–28 

ARMs and 3–27 ARMs to be minimal, 

ranging from 18 to a maximum of 29 

basis points, with one study finding no 

rate reduction on such loans originated 

by brokers.84 The one available (but 

unpublished) study to compare the rate 

reduction to the cost of the penalty itself 

found a net cost to the consumer with 

2–28 and 3–27 ARMs.85 The minimal 

rate reductions strengthen doubt that 

the high incidence of penalty provisions 

was the product of informed consumer 

choice. Moreover, for the reasons 

discussed above, prepayment penalties 

are likely to cause the most significant, 

and least avoidable, injuries when 

coupled with loans designed to have 

short expected life spans, which have 

proved to be the riskiest loans for 

consumers. On balance, therefore, the 

Board believes these injuries outweigh 

potential benefits. 

For higher-priced mortgage loans and 

HOEPA loans structured to have longer 

expected life spans, however, the Board 

concludes that the injuries and benefits 

are closer to being in balance. Studies 

that analyze both fixed-rate mortgages 

and 2–28 and 3–27 ARMs show a more 

significant reduction of rates and fees 

for fixed-rate mortgages for loans with 

prepayment penalties, ranging from 38 

basis points 86 to 60 basis points.87

Moreover, longer-term ARMs and fixedrate mortgages have had significantly 

lower delinquency rates than 2–28 and 

3–27 ARMs, suggesting these mortgages 

are more likely to be affordable to 

consumers. In addition, mortgages 


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88Figures calculated from First American 

LoanPerformance data. About 90 percent of the 

penalty provisions on the fixed-rate loans applied 

for at least two years. 

89This rule is stricter than HOEPA’s statutory 

provision on prepayment penalties for HOEPA 

loans. This provision permits such penalties under 

certain conditions regardless of a potential payment 

change within the first four years. Section 129(l)(2) 

authorizes the Board, however, to prohibit acts or 

practices it finds to be unfair or deceptive in 

connection with mortgage loans—including HOEPA 

loans. Since HOEPA’s restrictions on prepayment 

penalty provisions were adopted, much has 

changed to make these provisions more injurious to 

consumers and these injuries more difficult to 

avoid. The following risk factors became much 

more common in the subprime market: ARMs with 

payments that reset after just two or three years; 

securitization of subprime loans under terms that 

reduce the originator’s incentive to ensure the 

consumer can afford the loan; and mortgage brokers 

with hidden incentives to ‘‘push’’ penalty 

provisions. 

90As discussed above, the final rule sets forth the 

prepayment penalty rules in two separate sections. 

For HOEPA loans, § 226.32(d)(7) lists conditions 

that must be met for the general penalty prohibition 

in § 226.32(d)(6) not to apply. For higher-priced 

mortgage loans, § 226.35(b)(2) prohibits a penalty 

described in § 226.32(d)(6) unless the conditions in 

§ 226.35(b)(i) and (ii) are met. To ensure consistent 

interpretation of the separate sections, the staff 

commentary to § 226.35(b)(2) cross-references the 

payment-change examples and exclusions in staff 

commentary to § 226.32(d)(7). The examples in staff 

commentary to § 226.32(d)(7)(iv) refer to a 

condition that final § 226.35(b)(2) does not include, 

however—the condition that, at consummation, the 

consumer’s total monthly debt payments may not 

exceed 50 percent of the consumer’s monthly gross 

income. The staff commentary to § 226.35(b)(2) 

clarifies this difference. 

designed to have longer life spans create 

less opportunity for flipping and other 

abuses, and the borrowers offered these 

loans may be less vulnerable to abuse. 

These borrowers have had higher credit 

scores and therefore more options, and 

their preference for a longer-lived loan 

may imply that they have a longer-term 

perspective and a more realistic 

assessment of their situation. In fact, a 

smaller proportion of borrowers with 

subprime fixed-rate mortgages with 

penalty provisions originated between 

2000 and 2005 prepaid in the first two 

years (about 35 percent) than did 

borrowers with subprime 2–28 ARMs 

with penalty provisions (about 55 

percent).88 Therefore, in the case of 

shorter prepayment penalty provisions 

on loans structured to have longer life 

spans, the Board does not conclude at 

this time that the injuries from these 

provisions outweigh the benefits. 

The Final Rule 

For both higher-priced mortgage loans 

and HOEPA loans, the final rule 

prohibits prepayment penalties if 

periodic payments can change during 

the first four years following loan 

consummation. For all other higherpriced mortgage loans and HOEPA 

loans, the final rule limits the 

prepayment penalty period to two years 

after loan consummation and also 

requires that a prepayment penalty not 

apply if the same creditor or its affiliate 

makes the refinance loan. For HOEPA 

loans, the final rule retains the current 

prohibition of prepayment penalties 

where the borrower’s DTI ratio at 

consummation exceeds 50 percent; the 

Board is not adopting this prohibition 

for higher-priced mortgage loans. The 

final rule sets forth the foregoing 

prepayment penalty rules in two 

separate sections: For HOEPA loans, in 

§ 226.32(d)(7), and for higher-priced 

mortgage loans, in § 226.35(b)(3). 

TILA Section 129(c)(2)(C), 15 U.S.C. 

1639(c)(2)(C), limits the maximum 

prepayment penalty period with 

HOEPA loans to five years following 

consummation. The Board proposed to 

apply this HOEPA provision to higherpriced mortgage loans. Commenters 

generally stated that a five-year 

maximum prepayment period was too 

long. Some consumer organizations, an 

association of credit unions, and a 

federal banking regulatory agency 

recommended a two-year limit on 

prepayment penalty periods. A few 

consumer organizations recommended a 

one-year maximum length. Although a 

financial services trade association 

supported a five-year maximum, several 

financial institutions and mortgage 

banking trade associations and a 

government-sponsored enterprise stated 

that three years would be an appropriate 

maximum period for prepayment 

penalties with higher-priced mortgage 

loans. 

As discussed above, the Board 

concludes that the injuries from 

prepayment penalty provisions that 

consumers cannot reasonably avoid 

outweigh these provisions’ benefits with 

respect to higher-priced mortgage loans 

and HOEPA loans structured to have 

short expected life spans. Accordingly, 

the final rule prohibits a prepayment 

penalty provision with a higher-priced 

mortgage loan or a HOEPA loan whose 

payments may change during the first 

four years following consummation.89 A 

four-year discount period is not 

common, but a three-year period was 

common at least until recently. Using a 

three-year period in the regulation, 

however, might simply encourage the 

market to structure loans with discount 

periods of three years and one day. 

Therefore, the Board adopts a four-year 

period in the final rule as a prophylactic 

measure. 

The prohibition applies to loans with 

potential payment changes within four 

years, including potential increases and 

potential declines; the prohibition is not 

limited to loans where the payment can 

increase but not decline. The Board is 

concerned that such a limitation might 

encourage the market to develop 

unconventional repayment schedules 

for HOEPA loans and higher-priced 

mortgage loans that are more difficult 

for consumers to understand, easier for 

originators to misrepresent, or both. The 

final rule also refers specifically to 

periodic payments of principal or 

interest or both, to distinguish such 

payments from other payments, 

including amounts directed to escrow 

accounts. Staff commentary lists 

examples showing whether prepayment 

penalties are permitted or prohibited in 

particular circumstances where the 

amount of the periodic payment can 

change. The commentary also provides 

examples of changes that are not 

deemed payment changes for purposes 

of the rule.90

With respect to loans structured to 

have longer expected life spans, the 

Board concludes that the injuries from 

prepayment penalty provisions that are 

short relative to the expected life span 

are closer to being in balance with their 

benefits. Accordingly, for loans for 

which the payment may not change, or 

may change only after four or more 

years, the Board is not banning 

prepayment penalties. Instead, it is 

seeking to ensure the benefits of penalty 

provisions on these loans are in line 

with the injuries they can cause by 

limiting the potential for injury to two 

years from consummation. 

The Board recognizes that creditors 

may respond by increasing interest 

rates, up-front fees, or both, and that 

some subprime borrowers may pay more 

than they otherwise would, or not be 

able to obtain credit when they would 

prefer. The Board believes these costs 

are justified by the benefits of the rule. 

Based on available studies, the expected 

increase in costs on the types of loans 

for which penalty provisions are 

prohibited is not large. For the 

remaining loan types, reducing the 

allowable penalty period from the 

typical three years to two years should 

not lead to significant cost increases for 

subprime borrowers. Moreover, to the 

extent cost increases come in the form 

of higher rates or fees, they will be 

reflected in the APR, where they may be 

more transparent to consumers than as 

a prepayment penalty. Thus, it is not 

clear that the efficiency of market 

pricing would decline. 

The Board is not adopting the 

suggestion of some commenters that it 

set a maximum penalty amount. A 

restriction of that kind does not appear 

necessary or warranted at this time. 


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91The Board sought comment on whether it 

should revise § 226.20(c) or draft new disclosure 

requirements to reconcile that section with the 

proposed requirement that a prepayment penalty 

provision expire at least sixty days prior to the date 

of the first possible payment increase. This issue is 

also moot. 

92This concern is evident, for example, in a 

settlement agreement that ACC Capital Holdings 

Corporation and several of its subsidiaries, 

including Ameriquest Mortgage Company 

(collectively, the Ameriquest Parties) made in 2006 

with 49 states and the District of Columbia. The 

Ameriquest Parties agreed not to make false, 

misleading, or deceptive representations regarding 

prepayment penalties and specifically agreed not to 

represent that they will waive a prepayment penalty 

at some future date, unless that promise is made in 

writing and included in the terms of a loan 

agreement with a borrower. See, e.g., Iowa ex rel. 

Miller v. Ameriquest Mortgage Co., No. 05771 

EQCE–053090 at 18 (Iowa D. Ct. 2006) (Pls. Pet. 5). 

Sixty-day window. The Board does 

not believe that the proposed 

requirement that a prepayment penalty 

period expire at least sixty days before 

a potential payment increase would 

adequately protect consumers with 

loans where the increase was expected 

shortly. As discussed, these loans, such 

as 2–28 ARMs, will tend to attract 

consumers who have a short planning 

horizon and intend to avoid the 

payment increase by refinancing. If 

provided only a brief penalty-free 

window to refinance before the increase 

(as proposed, a window in months 23 

and 24 for a 2–28 ARM), the consumer 

deciding whether to accept a loan with 

a penalty provision—assuming the 

consumer was provided a genuine 

choice—must predict quite precisely 

when he will want to refinance. If the 

consumer believes he will want to 

refinance in month 18 and that his 

credit score, home equity, and other 

indicators of credit quality will be high 

enough then to enable him to refinance, 

then the consumer probably would be 

better off with a loan without a penalty 

provision. If, however, the consumer 

believes he will not be ready or able to 

refinance until month 23 or 24 (the 

penalty-free window), he probably 

would be better off accepting the 

penalty provision. It is not reasonable to 

expect consumers in the subprime 

market to make such precise 

predictions. Moreover, for transactions 

on which prepayment penalties are 

permitted by the final rule, a sixty-day 

window would be moot because the 

penalty provision may not exceed two 

years and the payment on a loan with 

a penalty provision may not change 

during the first four years following 

consummation.91

Refinance loan from same creditor. 

The Board is adopting with minor 

revisions the proposed requirement that 

a prepayment penalty not apply when a 

creditor refinances a higher-priced 

mortgage loan the creditor or its affiliate 

originated. HOEPA imposes this 

requirement in connection with HOEPA 

loans. 15 U.S.C. 1639(c)(2)(B). 

Some large financial institutions and 

financial institution trade associations 

that commented opposed the proposal. 

A large bank stated that the requirement 

would not prevent loan flipping and 

that mortgage brokers would easily 

circumvent the rule by directing repeat 

customers to a different creditor each 

time. A mortgage bankers’ trade 

association and a large bank stated that 

the requirement would prevent 

customers from returning to the same 

institution with which they have 

existing relationships. Another large 

bank stated that the rule would place 

lenders at a competitive disadvantage 

when trying to refinance the loan of an 

existing customer. 

Requiring that a prepayment penalty 

not apply when a creditor refinances a 

loan it originated will discourage 

originators from seeking to ‘‘flip’’ a 

higher-priced mortgage loan. To prevent 

evasion by creditors who might direct 

borrowers to refinance with an affiliated 

creditor, the same-lender refinance rule 

covers loans by a creditor’s affiliate. 

Although creditors may waive a 

prepayment penalty when they 

refinance a loan that they originated to 

a consumer, consumers who refinance 

with the same creditor may be charged 

a prepayment penalty even if a creditor 

or mortgage broker has told the 

consumer that the prepayment penalty 

would be waived in that circumstance.92

The final rule requires that a 

prepayment penalty not apply where a 

creditor or its affiliate refinances a 

higher-priced mortgage loan that the 

creditor originated to the consumer. The 

final rule is based on TILA Section 

129(c)(2)(B), 15 U.S.C. 1639(c)(2)(B), 

which provides that a HOEPA loan may 

contain a prepayment penalty ‘‘if the 

penalty applies only to a prepayment 

made with amounts obtained by the 

consumer by means other than a 

refinancing by the creditor under the 

mortgage, or an affiliate of that 

creditor.’’ The Board notes that TILA 

Section 129(c)(2)(B), 15 U.S.C. 

1639(c)(2)(B), applies regardless of 

whether the creditor still holds the loan 

at the time of a refinancing by the 

creditor or an affiliate of the creditor. In 

some cases, a creditor’s assignees are the 

‘‘true creditor’’ funding the loan; 

moreover, the rule prevents loan 

transfers designed to evade the 

prohibition. 

TILA Section 129(c)(2)(B) does not 

prohibit a creditor from refinancing a 

loan it or its affiliate originated but 

rather requires that a prepayment 

penalty not apply in the event of a 

refinancing by the creditor or its 

affiliate. To make clear that the 

associated regulation, § 226.32(d)(7)(ii), 

does not prohibit a creditor from 

refinancing a loan that the creditor (or 

an affiliate of the creditor) originated, 

the Board is revising the text of that 

regulation somewhat. Final 

§ 226.32(d)(7)(ii) states that a HOEPA 

loan may provide for a prepayment 

penalty if the prepayment penalty 

provision will not apply if the source of 

the prepayment funds is a refinancing 

by the creditor or an affiliate of the 

creditor. This change clarifies, without 

altering, the meaning of the provision 

and is technical, not substantive, in 

nature. Final § 226.35(b)(2)(ii)(B) applies 

to higher-priced mortgage loans rather 

than to HOEPA loans but mirrors final 

§ 226.32(d)(7)(ii) in all other respects. 

Debt-to-income ratio. Under the 

proposed rule, a higher-priced mortgage 

loan could not include a prepayment 

penalty provision if, at consummation, 

the consumer’s DTI ratio exceeds 50 

percent. Proposed comments would 

have given examples of funds and 

obligations that creditors commonly 

classify as ‘‘debt’’ and ‘‘income’’ and 

stated that creditors may, but need not, 

look to widely accepted governmental 

and non-governmental underwriting 

standards to determine how to classify 

particular funds or obligations as ‘‘debt’’

or ‘‘income.’’

Most banking and financial services 

trade associations and several large 

banks stated that the Board should not 

prohibit prepayment penalties on 

higher-cost loans where a consumer’s 

DTI ratio at consummation exceeds 50 

percent. Several of these commenters 

stated that the proposed rule would 

disadvantage a consumer living on a 

fixed income but with significant assets, 

including many senior citizens. Some of 

these commenters stated that the 

proposed rule would disadvantage 

consumers in areas where housing 

prices are relatively high. Some 

consumer organizations also objected to 

the proposed DTI-ratio requirement, 

stating that the requirement would not 

protect low-income borrowers with a 

DTI ratio equal to or less than 50 

percent but limited residual income. 

The Board is not adopting a specific 

DTI ratio in the rule prohibiting 

disregard of repayment ability. See part 

IX.B. For the same reasons, the Board is 

not adopting the proposed prohibition 

of a prepayment penalty for all higherpriced mortgage loans where a 

consumer’s DTI ratio at consummation 

exceeds 50 percent. The Board is, 

however, leaving the prohibition in 


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93For example, an FTC study based on 

quantitative consumer testing using several fixedrate loan scenarios found that improving a 

disclosure of the prepayment penalty provision 

increased the percentage of participants who could 

tell that they would pay a prepayment penalty if 

they refinanced. Improving Mortgage Disclosures 

109. 

place as it applies to HOEPA loans, as 

this prohibition is statutory, TILA 

Section 129(c)(2)(A)(ii), and its removal 

does not appear warranted at this time. 

This statute provides that for 

purposes of determining whether at 

consummation of a HOEPA loan a 

consumer’s DTI ratio exceeds 50 

percent, the consumer’s income and 

expenses are to be verified by a financial 

statement signed by the consumer, by a 

credit report, and, in the case of 

employment income, by payment 

records or by verification from the 

employer of the consumer (which 

verification may be in the form of a pay 

stub or other payment record supplied 

by the consumer). The Board proposed 

to adopt a stronger standard that would 

require creditors to verify the 

consumer’s income and expenses in 

accordance with verification rules that 

the Board proposed and is adopting in 

final § 226.34(a)(4)(ii), together with 

associated commentary. Although the 

Board requested comment about the 

proposal to revise § 226.32(d)(7)(iii) and 

associated commentary, commenters 

did not discuss this proposal. 

As proposed, the Board is 

strengthening the standards that 

§ 226.32(d)(7)(iii) establishes for 

verifying the consumer’s income and 

expenses when determining whether a 

prepayment penalty is prohibited 

because the consumer’s DTI ratio 

exceeds 50 percent at consummation of 

a HOEPA loan. There are three bases for 

adopting an income verification 

requirement that is stronger than the 

standard TILA Section 129(c)(2)(A)(ii) 

establishes. First, under TILA Section 

129(l)(2), the Board has a broad 

authority to update HOEPA’s 

protections as needed to prevent unfair 

practices. 15 U.S.C. 1639(l)(2)(A). For 

the reasons discussed in part IX.B, the 

Board believes that relying solely on the 

income statement on the application is 

unfair to the consumer, regardless of 

whether the consumer is employed by 

another person, self-employed, or 

unemployed. Second, the Board has a 

broad authority under TILA Section 

129(l)(2) to update HOEPA’s protections 

as needed to prevent their evasion. 15 

U.S.C. 1639(l)(2)(A). A signed financial 

statement declaring all or most of a 

consumer’s income to be selfemployment income or income from 

sources other than employment could 

be used to evade the statute. Third, 

establishing a single standard for 

verifying a consumer’s income and 

obligations for HOEPA loans and 

higher-priced mortgage loans will 

facilitate compliance. 

For the foregoing reasons, for HOEPA 

loans, final § 226.32(d)(7)(iii) requires 

creditors to verify that the consumer’s 

total monthly debt payments do not 

exceed 50 percent of the consumer’s 

monthly gross income using the 

standards set forth in final 

§ 226.34(a)(4)(ii). The Board also is 

revising the commentary associated 

with § 226.32(d)(7)(iii) to cross-reference 

certain commentary associated with 

§ 226.34(a)(4). 

Disclosure. For reasons discussed 

above, the Board does not believe that 

disclosure alone is sufficient to enable 

consumers to avoid injury from a 

prepayment penalty. There is reason to 

believe, however, that disclosures could 

more effectively increase 

transparency.93 The Board will be 

conducting consumer testing to 

determine how to make disclosures 

more effective. As part of this process, 

the Board will consider the 

recommendation from some 

commenters that creditors who provide 

loans with prepayment penalties be 

required to disclose the terms of a loan 

without a prepayment penalty. 

D. Escrows for Taxes and Insurance—

§ 226.35(b)(3) 

The Board proposed in § 226.35(b)(3) 

to require a creditor to establish an 

escrow account for property taxes and 

homeowners insurance on a higherpriced mortgage loan secured by a first 

lien on a principal dwelling. Under the 

proposal, a creditor may allow a 

consumer to cancel the escrow account, 

but no sooner than 12 months after 

consummation. The Board is adopting 

the rule as proposed and adding limited 

exemptions for loans on cooperative 

shares and, in certain cases, 

condominium units. 

The final rule requires escrows for all 

covered loans secured by site-built 

homes for which creditors receive 

applications on or after April 1, 2010, 

and for all covered loans secured by 

manufactured housing for which 

creditors receive applications on or after 

October 1, 2010. 

Public Comments 

Many community banks and mortgage 

brokers as well as several industry trade 

associations opposed the proposed 

escrow requirement. Many of these 

commenters contended that mandating 

escrows is not necessary to protect 

consumers. They argued that consumers 

are adequately protected by the 

proposed requirement to consider a 

consumer’s ability to pay tax and 

insurance obligations under 

§ 226.35(b)(1), and by a disclosure of 

estimated taxes and insurance they 

recommended the Board adopt. 

Commenters also contended that setting 

up an escrow infrastructure would be 

very expensive; creditors will either 

pass on these costs to consumers or 

decline to originate higher-priced 

mortgage loans. 

Individual consumers who 

commented also expressed concern 

about the proposal. Some consumers 

expressed a preference for paying their 

taxes and insurance themselves out of 

fear that servicers may fail to pay these 

obligations fully and on-time. Many 

requested that, if escrows are required, 

creditors be required to pay interest on 

the escrowed funds. 

Several industry trade associations, 

several large creditors and some 

mortgage brokers, however, supported 

the proposed escrow requirement. They 

were joined by the consumer groups, 

community development groups, and 

state and federal officials that 

commented on the issue. Many of these 

commenters argued that failure to 

escrow leaves consumers unable to 

afford the full cost of homeownership 

and would face expensive force-placed 

insurance or default, and possibly 

foreclosure. Commenters supporting the 

proposal differed on whether and under 

what circumstances creditors should be 

permitted to cancel escrows. 

Large creditors without escrow 

systems asked for 12 to 24 months to 

comply if the proposal is adopted. 

Discussion 

As commenters confirmed, it is 

common for creditors to offer escrows in 

the prime market, but not in the 

subprime market. The Board believes 

that this discrepancy is not entirely the 

result of consumers in the subprime 

market making different choices than 

consumers in the prime market. Rather, 

subprime consumers, whether they 

would wish to escrow or not, face a 

market where competitive forces have 

prevented significant numbers of 

creditors from offering escrows at all. In 

such a market, consumers suffer 

significant injury, especially, but not 

only, those who are not experienced 

handling property taxes and insurance 

on their own and are therefore least able 

to avoid these injuries. The Board finds 

that these injuries outweigh the costs to 

consumers of offering them escrows. For 

these reasons, the Board finds that it is 

unfair for a creditor to make a higherpriced mortgage loan without presenting 


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44558 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

94Subprime Mortgage Investigation at 554 (‘‘Our 

focus groups suggested that prime and subprime 

borrowers use quite different search criteria in 

looking for a loan. Subprime borrowers search 

primarily for loan approval and low monthly 

payments, while prime borrowers focus on getting 

the lowest available interest rate. These distinctions 

are quantitatively confirmed by our survey.’’). 

95An industry representative at the Board’s 2007 

hearing indicated that her company’s internal 

analysis showed that escrows clearly improved loan 

performance. Home Ownership and Equity 

Protection Act (HOEPA): Public Hearing, at 66 (June 

14, 2007) (statement of Faith Schwartz, Senior Vice 

President, Option One Mortgage Corp.), available at 

http://federalreserve.gov/events/publichearings/ 

hoepa/2007/20070614/transcript.pdf. Also, the 

Credit Union National Association and California 

and Nevada Credit Union Leagues comment letters 

note that ‘‘[o]verall, loans with escrow accounts are 

likely to perform better than loans without these 

accounts.’’

the consumer a genuine opportunity to 

escrow. In order to ensure that the 

opportunity to escrow is genuine, the 

final rule requires that creditors 

establish escrow accounts for first-lien 

higher-priced mortgage loans for at least 

twelve months. The Board believes that 

consumers, creditors, and investors will 

all benefit from this requirement. 

Lack of escrow opportunities in the 

subprime market. Relative to the prime 

market, few creditors in the subprime 

market offer consumers the opportunity 

to escrow. The Board believes that, 

absent a rule requiring escrows, market 

forces alone are unlikely to drive 

significant numbers of creditors to begin 

to offer escrows in the subprime market. 

Consumers in the subprime market tend 

to shop based on monthly payment 

amounts, rather than on interest rates.94

So creditors who are active in the 

subprime market, and who can quote 

low monthly payments to a prospective 

borrower, have a competitive advantage 

over creditors that quote higher monthly 

payments. A creditor who does not offer 

the opportunity to escrow (and thus 

quotes monthly payments that do not 

include amounts for escrows) can quote 

a lower monthly payment than a 

creditor who does offer an opportunity 

to escrow (and thus quotes a higher 

monthly payment that includes amounts 

for escrow). Consequently, creditors in 

the subprime market who offer escrows 

may be at a competitive disadvantage to 

creditors who do not. 

Creditors who offer escrows could try 

to overcome this competitive 

disadvantage by advertising the 

availability and benefits of escrows to 

subprime consumers. Yet offering 

escrows entails some significant cost to 

the creditor. The creditor must either 

outsource servicing rights to third party 

servicers and lose servicing revenue, or 

make a large initial investment to 

establish an escrow infrastructure inhouse. According to comments from 

some creditors, the cost to set up an 

escrow infrastructure could range 

between one million dollars and $16 

million for a large creditor. While 

escrows improve loan performance 95

and offer creditors assurance that the 

collateral securing the loan is protected, 

those advantages alone have not proven 

sufficient incentive to make escrowing 

widespread in the subprime market. 

Rather, if a creditor is to recoup its costs 

for offering an opportunity to escrow, 

the creditor must convince a significant 

number of subprime consumers that 

they would be better served by 

accepting a higher monthly payment 

with escrows rather than a lower 

monthly payment without escrows. Yet 

consumers’ focus on the lowest monthly 

payments in the subprime market, and 

the lack of familiarity with escrows, 

could make it difficult to convince 

consumers to accept the higher 

payment. In addition, the creditor who 

offered escrows would be vulnerable to 

competitors’ attempts to lure away 

existing borrowers by quoting a lower 

monthly payment without disclosing 

that the payment does not include 

amounts for escrows. Nor could a 

creditor who offered escrows 

necessarily count on consumers who 

wanted to escrow finding the creditor 

on their own. If only a small minority 

of creditors offer escrows, consumers 

would, on average, have to contact 

many creditors in order to find one that 

offers escrows and many consumers 

might reasonably give up the search 

before they were successful. 

Under these conditions, creditors are 

unlikely to offer escrows unless their 

competitors are required to offer 

escrows. The Board believes that 

creditors’ failure to establish a capacity 

to escrow is a collective action problem; 

creditors would likely be better off if 

escrows were widely available in the 

subprime market, but most creditors 

who have not offered escrows lack the 

necessary incentive to invest in the 

requisite systems unless their 

competitors do. This is the context for 

the Board’s finding that it is unfair for 

a creditor to make a higher-priced 

mortgage loan without offering an 

escrow. 

Substantial injury. A creditor’s failure 

to offer escrows can cause consumers 

substantial injury. The lack of escrows 

in the subprime market increases the 

risk that consumers will base borrowing 

decisions on unrealistically low 

assessments of their mortgage-related 

obligations. Brokers and loan officers 

operating in a market where escrows are 

not common generally quote monthly 

payments of only principal and interest. 

These originators have little incentive to 

disclose or emphasize additional 

obligations for taxes and insurance. 

Therefore, many consumers will decide 

whether they can afford the offered loan 

on the basis of misleadingly low 

payment quotes, making it more likely 

that they will obtain mortgages they 

cannot afford. This risk is particularly 

high for first time homebuyers, who lack 

experience with the obligations of 

homeownership. The risk is also 

elevated for homeowners who currently 

have prime loans and contribute to an 

escrow. If their circumstances change 

and they refinance in the subprime 

market, they may not be aware that 

payments quoted to them do not include 

amounts for escrow. For example, 

current homeowners who have 

substantial unsecured consumer debt, 

but who also have equity in their 

homes, can be especially vulnerable to 

‘‘loan flipping’’ because they may find 

a cash-out refinance offer attractive. Yet 

if they assumed, erroneously, that the 

monthly payment quoted to them 

included amounts for escrows, they 

would not be able to evaluate the true 

cost of the loan product being offered. 

The lack of escrows in the subprime 

market also makes it more likely that 

certain consumers will not be able to 

handle their mortgage obligations 

including taxes and insurance. 

Subprime consumers, by definition, are 

those who have experienced some 

difficulty in making timely payments on 

debt obligations. For this reason, some 

consumers may prefer to escrow if 

offered a choice, especially if they know 

from personal experience that they have 

difficulty saving on their own, paying 

their bills on-time, or both. Without an 

escrow, these consumers may be at 

greater risk that a servicer will impose 

costly force-placed homeowners 

insurance or the local government will 

seek to foreclose to collect unpaid taxes. 

Consumers with unpaid property tax or 

insurance bills are particularly 

vulnerable to predatory lending 

practices: originators offering them a 

refinancing with ‘‘cash out’’ to cover 

their tax and insurance obligations can 

take advantage of their urgent 

circumstances. The consumers who 

cannot or will not borrow more (for 

example, because they lack the equity) 

face default and a forced sale or 

foreclosure. 

Injury not reasonably avoidable. 

Consumers cannot reasonably avoid the 

injuries that result from the lack of 

escrows. As described above, originators 

in the subprime market have strong 

incentives to quote only principal and 

interest payment amounts, and much 


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96Congress authorized NFIP through the National 

Flood Insurance Act of 1968 (42 U.S.C. 4001), 

which provides property owners with an 

opportunity to purchase flood insurance protection 

made available by the federal government for 

buildings and their contents. NFIP requires all 

federally regulated private creditors and 

government-sponsored enterprises (GSEs) that 

purchase loans in the secondary market to ensure 

that a building or manufactured home and any 

applicable personal property securing a loan in a 

special flood hazard area are covered by adequate 

flood insurance for the term of the loan. The flood 

insurance requirements do not apply to creditors or 

servicers that are not federally regulated and that 

do not sell loans to Fannie Mae and Freddie Mac 

or other GSEs. 

97Some states require creditors to pay interest to 

consumers for escrowed funds but most states do 

not have such a requirement. 

weaker incentives to inform consumers 

about tax and insurance obligations 

since doing so could put them at a 

competitive disadvantage. Consumers 

may either be left unaware of the 

magnitude of their taxes and insurance 

obligations, or may not realize that 

amounts for taxes and insurance are not 

being escrowed for them if they are 

accustomed to the prime market’s 

practice of escrowing. And, in a market 

where few creditors offer escrows and 

advertise their availability, consumers 

who would prefer to escrow may give 

up trying to find a creditor who offers 

escrows. Given the market they face, 

subprime consumers have little ability 

or incentive to shop for a loan with 

escrows, and thus cannot reasonably 

avoid a loan that does not offer escrows. 

Injury not outweighed by 

countervailing benefit to consumers or 

to competition. The Board recognizes 

that creditors incur costs in initiating 

escrow capabilities and that creditors 

who do not escrow can pass their cost 

savings on to consumers. Creditors that 

offer escrows in-house may incur 

potentially substantial costs in setting 

up or acquiring the necessary systems, 

although they may also gain some 

additional servicing revenue. Creditors 

that outsource servicing of escrow 

accounts to third parties incur some cost 

and forgo servicing revenue. 

In addition, there are some potential 

costs to consumers. Servicers may at 

times collect more funds than needed or 

fail to pay property taxes and insurance 

when due, causing consumers to incur 

penalties and late fees. Congress has 

expressly authorized the Department of 

Housing and Urban Development (HUD) 

to address these problems through 

section 10 of the Real Estate Settlement 

Procedures Act (RESPA), 12 U.S.C. 

2609, which limits amounts that may be 

collected for escrow accounts; requires 

servicers to provide borrowers annual 

statements of the escrow balance and 

payments for property taxes and 

homeowners insurance; and requires a 

mortgage servicer to provide 

information about anticipated activity in 

the escrow accounts for the coming year 

when it starts to service a loan. RESPA 

also provides consumers the means to 

resolve complaints by filing a ‘‘qualified 

written request’’ with the servicer. The 

Board expects that the number of 

qualified written requests may increase 

after the final rule takes effect. 

On the other hand, there is evidence, 

described above, that where escrows are 

used they improve loan performance to 

the advantage of creditors, investors, 

and consumers alike. This appears to be 

an important reason that escrows are 

common in the prime market and often 

required by the creditor. Loans with 

escrows generally perform better than 

loans without because escrows make it 

more likely that consumers will be able 

to pay their obligations. By contrast, 

when consumers are faced with unpaid 

taxes and insurance, they may need to 

tap into their home equity to pay these 

expenses and may become vulnerable to 

predatory lending. In the worst cases, 

consumers may lose their homes to 

foreclosure for failure to pay property 

taxes. For these reasons, the Board finds 

that the benefits from escrows outweigh 

the costs associated with requiring 

them. 

The Final Rule 

The final rule prohibits a creditor 

from extending a first-lien higher-priced 

mortgage loan secured by a principal 

dwelling without escrowing property 

taxes, homeowners insurance, and other 

insurance obligations required by the 

creditor. Creditors have the option to 

allow for cancellation of escrows at the 

consumer’s request, but no earlier than 

12 months after consummation of the 

loan transaction. The Board is adopting 

an exemption for loans secured by 

cooperative shares and a partial 

exemption for loans secured by 

condominium units. The final rule 

defines ‘‘escrow account’’ by reference 

to the definition of ‘‘escrow account’’ in 

RESPA. Moreover, RESPA’s rules for 

administering escrow accounts 

(including how creditors handle 

disclosures, initial escrow deposits, 

cushions, and advances to cover 

shortages) apply. The final rule also 

complements the National Flood 

Insurance Program requirement that 

flood insurance premiums be escrowed 

if the creditor requires escrow for other 

obligations such as hazard insurance.96

The rule is intended to address the 

consumer injuries described above 

caused by the lack of a genuine 

opportunity to escrow in the subprime 

market. The rule assures a genuine 

opportunity to escrow by establishing a 

market that provides widespread 

escrows through a requirement that 

every creditor that originates higherpriced mortgage loans secured by a first 

lien on a principal dwelling establish an 

escrow with each loan. The Board 

proposed to limit the rule to first-lien 

higher-priced mortgage loans because 

creditors in the prime market have 

traditionally required escrow accounts 

on first-lien mortgage loans as a means 

of protecting the lender’s interest in the 

property securing the loan. The final 

rule adopts this approach. A mandatory 

escrow account on a first-lien loan 

ensures that funds are set aside for 

payment of property taxes and 

insurance premiums and eliminates the 

need to require an escrow on second 

lien loans. One commenter asked the 

Board to clarify in the final rule that 

creditors are not obligated to escrow 

payments for optional items that the 

consumer may choose to purchase at its 

discretion, such as an optional debtprotection insurance or earthquake 

insurance. A commentary provision has 

been added to clarify that creditors and 

servicers are not required to escrow 

optional insurance items chosen by the 

consumer and not otherwise required by 

creditor. See comment to 

§ 226.35(b)(4)(i). 

The Board recognizes that escrows 

can impose certain financial costs on 

both creditors and borrowers. Creditors 

are likely to pass on to consumers, 

either in part or entirely, the cost of 

setting up and maintaining escrow 

systems, whether done in-house or 

outsourced. The Board also recognizes 

that prohibiting consumers from 

canceling before 12 months have passed 

will impose costs on individual 

consumers who prefer to pay property 

taxes and insurance premiums on their 

own, and to earn interest on funds that 

otherwise would be escrowed.97 By 

paying property taxes and insurance 

premiums directly, consumers are better 

able to monitor that their payments are 

credited on time, thus limiting the 

likelihood, and related cost, of servicing 

mistakes and abuses. In addition, 

homebuyers do not need as much cash 

at closing when they are not required to 

have an escrow account. 

The Board believes, however, that the 

benefits of the rule outweigh these costs. 

Moreover, the rule preserves some 

degree of consumer choice by 

permitting a creditor to provide the 

consumer an option to cancel an escrow 

account 12 or more months after 

consummation. The Board considered 

alternatives that would avoid requiring 

a creditor to set up an escrow system, 


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or that would require a creditor to offer 

an escrow, but permit consumers to optout of escrows at closing. These 

alternatives would not provide 

consumers sufficient protection from 

the injuries discussed above, as 

explained in more detail below. 

Alternatives to requiring creditors to 

escrow. Some creditors that currently do 

not escrow oppose requiring escrows 

because of the substantial cost to set up 

new systems and maintain them over 

time. They suggested that narrower, less 

costly alternatives would protect 

consumers adequately. Most of these 

suggestions involved disclosure, such 

as: requiring creditors to warn 

consumers that they will be responsible 

for property tax and insurance 

obligations; estimating these obligations 

on the TILA disclosure based on recent 

assessments; and prohibiting creditors 

from advertising monthly payments 

without including estimated amounts 

for property taxes and insurance. 

The Board does not believe that these 

disclosures would adequately protect 

consumers from the injuries discussed 

above. Because many consumers focus 

on monthly payment obligations, 

competition would continue to give 

originators incentives to downplay tax 

and insurance obligations when they 

discuss payment obligations with 

consumers. A disclosure provided at 

origination of the estimated property tax 

and insurance premiums does not assist 

those consumers who need an escrow to 

ensure they save for and pay their 

obligations on time. Moreover, adding a 

disclosure to the many disclosures 

consumers already receive would not be 

sufficient to educate first time 

homebuyers and homeowners whose 

previous loans contained escrows who 

lack any real experience handling their 

own taxes and insurance. Disclosure 

does, however, have an important role 

to play. Under the final rule, an 

advertisement for closed-end credit 

secured by a first lien on a principal 

dwelling that states a monthly payment 

of principal and interest must 

prominently disclose that taxes and 

insurance premiums are not included. 

See § 226.24(f)(3). Moreover, the Board 

plans to explore revising the TILA 

disclosures to add an estimate of 

property tax and insurance premium 

costs to the disclosed monthly payment. 

For similar reasons, merely mandating 

that creditors offer escrows, but not that 

they require them, would not 

sufficiently address the injuries 

associated with the failure to escrow. 

Without a widespread requirement to 

escrow, some creditors could still press 

a competitive advantage in quoting low 

monthly payments that do not include 

amounts for escrows by encouraging 

consumers to decline the offered 

escrow. A rule that required creditors 

merely to offer escrows would impose 

essentially the same costs on creditors 

to establish escrow systems as would 

the requirement to establish escrows, 

but would not alter the competitive 

landscape of the subprime market in a 

way that would make widespread 

escrowing more likely. 

Creditors also suggested that 

consumers would be adequately 

protected by the final rule’s requirement 

that creditors consider a consumer’s 

ability to handle tax and insurance 

obligations in addition to principal and 

interest payments when originating 

loans. See § 226.34(a)(4). While this 

requirement will help ensure that 

consumers can afford their monthly 

payment obligations, it will not 

adequately address the injuries 

discussed above because creditors 

would continue to have incentives to 

downplay tax and insurance obligations 

when they discussed payment 

obligations with consumers. Nor will 

the rule requiring consideration of 

repayment ability sufficiently assist 

consumers in saving on their own. 

Another alternative would be to 

require escrows only for first time 

homebuyers or other classes of 

borrowers (such as previously prime 

borrowers) less likely to have 

experience handling tax and insurance 

obligations on their own. However, 

limiting the escrow requirement to 

borrowers who are unaccustomed to 

paying taxes and insurance on their own 

would only delay injury, rather than 

prevent it. For example, if first time 

homebuyers with higher-priced 

mortgage loans were required to escrow, 

those consumers would not gain the 

experience of paying property taxes and 

insurance on their own and might 

reasonably believe that escrows are 

standard. When those consumers went 

to refinance their loan, however, 

creditors could mislead them by quoting 

payments without amounts for escrow 

and the consumers might not be able to 

handle the tax and insurance obligations 

on their own. 

In addition, requiring escrows only 

for first time homebuyers or other 

classes of borrowers would not save a 

creditor the substantial expense of 

setting up an escrow system unless the 

creditor declined to extend higherpriced mortgage loans to such 

borrowers. The Board believes most 

creditors would not find this option 

practical over the long term. Moreover, 

defining the categories of covered 

borrowers would present practical 

challenges, require regular adjustment 

as the market changed, and complicate 

creditors’ compliance. 

Several commenters recommended 

that the requirement to escrow be 

limited to higher-priced mortgage loans 

with a combined loan-to-value ratio that 

exceeds 80 percent. They contended 

that borrowers with at least 20 percent 

equity have the option to tap this equity 

to finance tax and insurance obligations. 

The suggested exemption could, 

however, have the unintended 

consequence of permitting 

unscrupulous originators to ‘‘strip’’ the 

equity from less experienced borrowers. 

As described above, homeowners with 

existing escrow accounts who want to 

refinance their loans may assume 

erroneously that payment quotes 

include escrows when they do not, or 

they may prefer the security that an 

escrow would provide if offered. 

Cancellation after consummation. 

The final rule permits, but does not 

require, creditors to offer consumers an 

option to cancel their escrows 12 

months after consummation of the loan 

transaction. Based on the operation of 

escrows in the prime market, the Board 

anticipates that creditors will likely 

offer cancellation in exchange for a fee. 

The Board acknowledges concerns 

expressed by individual consumers that 

requiring them to escrow for even a 

relatively short time will increase their 

costs. These costs include the 

opportunity costs of the funds in 

escrow, particularly if the funds do not 

earn interest; a fee to cancel after 12 

months; costs associated with mistakes 

or abuses by escrow agents; and the cost 

of saving for the deposit at 

consummation of two months or more 

of escrow payments that RESPA permits 

a creditor to require. Mindful of these 

costs, the Board considered requiring 

only that creditors offer consumers a 

choice to escrow either on an ‘‘opt in’’

or ‘‘opt out’’ basis. 

As explained above, the Board 

concluded that a requirement merely to 

offer the consumer a choice to escrow 

would not be effective to prevent the 

injuries associated with the lack of 

opportunity to escrow. A requirement to 

offer, not require, escrows would raise 

creditors’ costs but would not eliminate 

their incentive to quote lower payment 

amounts without escrows and 

encourage borrowers to opt-out. 

Requiring creditors to disclose 

information about the benefits of 

escrowing would not adequately 

address this problem. It is likely that 

most consumers would reasonably focus 

their attention more on disclosures 

about the terms of the credit being 

offered, such as the monthly payment 

amount, rather than on information 


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about the benefits of escrowing. An 

originator engaged in loan flipping 

might reassure the consumer that if the 

consumer has any difficulty with the tax 

and insurance obligations the originator 

will refinance the loan. 

For the foregoing reasons, the Board 

does not believe that requiring creditors 

merely to offer escrows with higherpriced mortgage loans, with an opt out 

or opt in before consummation, would 

provide consumers sufficient protection. 

The Board has concluded that requiring 

creditors to impose escrows on 

borrowers with higher-priced mortgage 

loans, with an option to cancel only 

some time after consummation, would 

more effectively address the problems 

created by subprime creditors’ failure to 

offer escrows. This approach imposes 

costs on creditors that will be passed on, 

at least in part, to consumers but the 

Board believes these costs are 

outweighed by the benefits. Moreover, 

to the extent that escrows improve loan 

performance and lead to fewer defaults, 

the benefits of escrows may reduce the 

costs associated with establishing and 

maintaining escrow accounts. 

Twelve months mandatory escrow. 

The final rule sets the mandatory period 

for escrows at 12 months after loan 

origination, at which point creditors 

may allow borrowers to opt out of 

escrow. Some community groups 

commented that escrows should be 

mandatory for a longer period or even 

the life of the loan. Several groups 

commented that borrowers should not 

be allowed to opt out unless they have 

demonstrated a record of timely 

payments. Several commenters noted 

that consumers should be allowed to opt 

out at loan consummation. 

The Board believes that a 12 month 

period appropriately balances consumer 

protection with consumer choice. For 

the reasons already explained, a 

mandatory period of some length is 

necessary to ensure that originators will 

not urge consumers to reduce their 

monthly payment by choosing not to 

escrow immediately at, or shortly after, 

loan consummation. Twelve months 

appears to be a sufficiently long period 

to render such efforts ineffectual, and to 

introduce consumers to the benefits of 

escrowing, as most consumers will 

receive bills for taxes and insurance in 

that period. Moreover, 12 months is a 

relatively short period compared to the 

expected life of the average loan, 

providing consumers an opportunity to 

handle their own taxes and insurance 

obligations after the initial escrow 

requirement expires. 

Although fees to cancel escrow 

accounts are common, a consumer who 

expects to hold the loan for a long 

period may find it worthwhile to pay 

the fee. The final rule neither permits 

nor prohibits creditors from imposing 

escrow cancellation fees and instead 

defers to state law on that issue. 

Similarly, the rule neither requires nor 

prohibits payment of interest on escrow 

accounts since some, but not all, states 

have chosen to address consumer 

concerns about losing the opportunity to 

invest their funds by requiring creditors 

to pay interest on funds in escrow 

accounts. 

Exemptions for Cooperatives; Partial 

Exemption for Condominiums 

In response to comments and the 

Board’s own analysis, the final rule does 

not require escrows for property taxes 

and insurance premiums for first-lien 

higher-priced mortgage loans secured by 

shares in a cooperative if the 

cooperative association pays property 

tax and insurance premiums. The final 

rule requires escrows for property taxes 

for first-lien higher-priced mortgage 

loans secured by condominium units 

but exempts from the escrow 

requirement insurance premiums if the 

condominium’s association maintains 

and pays for insurance through a master 

policy. 

Cooperatives. The final rule exempts 

mortgage loans for cooperatives from the 

escrow requirement if the cooperative 

pays property tax and insurance 

premiums, and passes the costs on to 

individual unit owners based on their 

pro rata ownership share in the 

cooperative. A cooperative association 

typically owns the building, land, and 

improvements, and each unit owner 

holds a cooperative share loan based on 

the appraisal value of the shareholder’s 

unit. Creditors typically require 

cooperative associations to maintain 

insurance coverage under a single 

package policy, commonly called an 

association master policy, for common 

elements, including fixtures, service 

equipment and common personal 

property. Creditors periodically review 

an association master policy to ensure 

adequate coverage. 

At loan origination, creditors inform 

consumers of their monthly cooperative 

association dues, which include, among 

other costs, the consumer’s pro rata 

share for insurance and property taxes. 

When property taxes and insurance 

premiums are included in the monthly 

association dues, they are generally not 

escrowed with the lender. This is 

because the consumer’s payment of the 

monthly association dues acts in a 

manner similar to an escrow itself. In 

this way, the collection of insurance 

premiums and property tax amounts on 

a monthly basis by a cooperative 

association ensures that taxes and 

insurance are paid when due. 

Condominiums. The final rule 

exempts certain higher-priced mortgage 

loans secured by condominium units 

from the requirement to escrow for 

homeowners insurance where the only 

insurance policy required by the 

creditor is the condominium association 

master policy. No exemption is 

provided, however, for escrows for 

property taxes. 

Typically, individual condominium 

units are taxed similarly to single-family 

homes. Generally, each unit owner pays 

the property tax for the unit and each 

unit is assessed its pro rata share of 

property taxes for common areas. 

Condominium owners who do not have 

escrow accounts receive property tax 

bills directly from the taxing 

jurisdiction. The final rule requires 

escrows for property taxes for all higherpriced mortgage loans secured by 

condominium units, regardless of 

whether creditors are required to escrow 

insurance premiums for such loans. 

Homeowners insurance for 

condominiums, on the other hand, can 

vary based on the condominium 

association’s bylaws and other 

governing regulations, as well as 

specific creditor requirements. 

Generally, the condominium association 

insures the building and the common 

area under an association master policy. 

In some cases, the condominium 

association does not insure individual 

units and a separate insurance policy 

must be written for each individual 

unit, just as it would be for a singlefamily home. In other cases, the master 

policy does cover individual unit 

owners’ fixtures and improvements 

other than personal property. When the 

condominium association insures the 

entire structure, including individual 

units, the condominium association 

pays the insurance premium and passes 

the costs on to the individual unit 

owner. Much like the cooperative 

arrangement described above, the 

consumer’s payment of insurance 

premiums through condominium 

association dues acts in a manner 

similar to an escrow account. For this 

reason, the final rule does not require 

creditors to escrow insurance premiums 

for higher-priced mortgage loans 

secured by condominium units if the 

only insurance that the creditor requires 

is an association master policy that 

insures condominium units. 

Manufactured Housing 

The final rule requires escrows for all 

covered loans secured by manufactured 

housing for which creditors receive 

applications on or after October 1, 2010 


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98Manufactured housing creditors are currently 

required by law to escrow for property taxes in 

Texas. Prior to passing state legislation requiring 

escrows on manufactured housing, Texas legislators 

observed that many manufactured housing owners 

were unaware of, and unable to pay, their property 

tax. See Tex. SB 521, 78th Tex. Leg., 2003, effective 

June 18, 2003; bill analysis available through the 

Texas Senate Research Center at http:// 

www.legis.state.tx.us/tlodocs/78R/analysis/pdf/ 

SB00521I.pdf. 

99Regulation Z currently defines a dwelling to 

include manufactured housing. See § 226.2(a)(19). 

Official staff commentary § 226.2(a)(19) states that 

mobile homes, boats and trailers are dwellings if 

they are in fact used as residences; § 226.2(b) 

clarifies that the definition of ‘‘dwelling’’ includes 

any residential structure, whether or not it is real 

property under state law; §§ 226.15(a)(1)–5 and 

226.23(a)(1)–3 make clear that a dwelling may 

include structures that are considered personal 

property under state laws (e.g., mobile home, trailer 

or houseboat) and draws no distinction between 

personal property loans and real property loans. 

100Kevin Jewell, Market Failures Evident in 

Manufactured Housing (Jan. 2003), http:// 

www.consumersunion.org/consumeronline/ 

pastissues/housing/marketfailure.html. 

to allow creditors and servicers 

sufficient time to establish the capacity 

to escrow. Manufactured housing 

industry commenters requested that 

manufactured housing loans be 

exempted from the escrow requirement. 

They argued that manufactured housing 

loans are mostly personal property loans 

taxed in many local jurisdictions like 

other personal property, and that 

creditors and servicers do not require 

and do not offer escrows on 

manufactured housing loans.98 For 

reasons discussed in more detail below, 

the final rule does not exempt from the 

escrow requirement higher-priced 

mortgage loans secured by a first lien on 

manufactured housing used as the 

consumer’s principal dwelling. The 

final rule applies to manufactured 

housing whether or not state law treats 

it as personal or real property.99

A manufactured home owner 

typically pays personal property taxes 

directly to the taxing authority and 

insurance premiums directly to the 

insurer. Manufactured housing industry 

commenters argued that if a taxing 

jurisdiction does not have an automated 

personal property tax system, creditors 

and servicers would have to service 

escrows on manufactured housing loans 

manually at prohibitively high cost, 

especially taking into consideration 

small loan size and low amount of 

property taxes for an average 

manufactured home. 

The Board believes, nonetheless, that 

problems associated with first-lien 

higher-priced mortgage loans secured by 

manufactured housing are similar to 

problems associated with site-built 

home loans discussed above. Large 

segments of manufactured housing 

consumers are low to moderate income 

families who may not enter the market 

with full information about the 

obligations associated with owning 

manufactured housing. Instead, 

consumers are likely to rely on the 

dealer or the manufacturer as their 

source for information, which can leave 

consumers vulnerable. Often, 

consumers obtain financing through the 

dealer, who ties the financing to the sale 

of the home. In addition, commissions 

and yield spread premiums may be paid 

to dealers for placing consumers in high 

cost loans.100

In addition, manufactured homes are 

usually concentrated in developments, 

such as parks, where they represent a 

large percentage of homes. Where 

property tax revenues are the main 

source of funding for local government 

services, a failure by a significant 

number of homeowners to pay property 

taxes could cause a reduction in local 

government services and an attendant 

decline in property values. 

The Board believes that homeowners 

of manufactured housing should be 

afforded the same consumer protections 

as the owners of site-built homes. 

Manufactured homes provide much 

needed affordable housing for millions 

of Americans who, like owners of sitebuilt homes, risk losing their homes for 

failure to pay property taxes. Escrows 

for property taxes and insurance 

premiums on first-lien, higher-priced 

mortgage loans secured by 

manufactured homes that are 

consumers’ principal dwellings are 

necessary to prevent creditors from 

understating the cost of 

homeownership, to inform consumers 

that their manufactured home is subject 

to property tax, and to extend an 

opportunity to consumers to escrow 

funds each month for payment of 

property tax and insurance premiums. 

State Laws 

Several industry commenters asked 

the Board to clarify in the final rule that 

the escrow requirement preempts 

inconsistent state escrow laws. TILA 

generally preempts only inconsistent 

state laws. See TILA Section 111(a)(1), 

15 U.S.C. 1610, § 226.28. Several 

consumers expressed concern that the 

regulation would preempt state laws 

requiring creditors to pay interest on 

escrow accounts under certain 

conditions. The final rule does not 

prevent states from requiring creditors 

to pay interest on escrowed amounts. 

See comment § 226.35(b)(4)(i). 

Effective Date 

Several industry representatives 

commented that the escrow requirement 

would require major system and 

infrastructure changes by creditors that 

do not currently have escrow 

capabilities. They asked for an extended 

compliance deadline of 12 to 24 months 

prior to the effective date of the final 

rule to allow for necessary escrow 

systems and procedures to develop. The 

Board recognizes that creditors and 

servicers will need some time to 

develop in-house escrowing capabilities 

or to outsource escrow servicing to third 

parties. For that reason, the Board agrees 

that an extended compliance period is 

appropriate for most covered loans 

secured by site-built homes. Therefore, 

the final rule is effective for first-lien 

higher-priced mortgage loans for which 

creditors receive applications on or after 

April 1, 2010, except for loans secured 

by manufactured housing. Recognizing 

that there is a limited infrastructure for 

escrowing on manufactured housing 

loans, and that yet additional time is 

needed for creditors and servicers to 

comply with the rule, the final rule is 

effective for all covered loans secured 

by manufactured housing for which 

creditors receive applications on or after 

October 1, 2010. 

E. Evasion Through Spurious Open-End 

Credit—§ 226.35(b)(4) 

The exclusion of HELOCs from 

§ 226.35 is discussed in subpart A. 

above. As noted, the Board recognizes 

that the exclusion of HELOCs could lead 

some creditors to attempt to evade the 

restrictions of § 226.35 by structuring 

credit as open-end instead of closedend. Section 226.34(b) addresses this 

risk as to HOEPA loans by prohibiting 

creditors from structuring a transaction 

that does not meet the definition of 

‘‘open-end credit’’ as a HELOC to evade 

HOEPA. The Board proposed to extend 

this rule to higher-priced mortgage loans 

and is adopting § 226.35(b)(5). Section 

226.35(b)(5) prohibits a creditor from 

structuring a closed-end transaction—

that is, a transaction that does not meet 

the definition of ‘‘open-end credit’’—as 

a HELOC to evade the restrictions of 

§ 226.35. The Board is also adding 

comment 35(b)(5)-1 to provide guidance 

on how to apply the higher-priced 

mortgage loan APR trigger in § 226.35(a) 

to a transaction structured as open-end 

credit in violation of § 226.35. Comment 

35(b)(5)-1 is substantially similar to 

comment 34(b)-1 which applies to 

HOEPA loans. 

Public Comment 

The Board received relatively few 

comments on the proposed anti-evasion 

rule. As discussed in subpart A. above, 

some commenters suggested applying 

§ 226.35 to HELOCs, which would 


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101Creditors could demonstrate compliance with 

the proposed rule by obtaining a copy of the brokerconsumer agreement and ensuring their payment to 

the broker does not exceed the amount stated in the 

agreement. The proposal would provide creditors 

two alternative means to comply, one where the 

creditor complies with a state law that provides 

consumers equivalent protection, and one where a 

creditor can demonstrate that its payments to a 

mortgage broker are not determined by reference to 

the transaction’s interest rate. 

eliminate the need for an anti-evasion 

provision. By contrast, some creditors 

who supported the exclusion of 

HELOCs from § 226.35 noted that the 

presence of the anti-evasion provision 

would address concerns about HELOCs 

being used to evade the rules in 

§ 226.35. However, a few creditors 

expressed concern that the anti-evasion 

proposal was too vague. One commenter 

stated that loans that do not meet the 

definition of open-end credit would be 

subject to the closed-end rules with or 

without the anti-evasion provision, and 

this commenter stated that therefore the 

anti-evasion provision was unnecessary 

and might cause confusion. 

The Board also requested comment on 

whether it should limit an anti-evasion 

rule to HELOCs secured by first-liens, 

where the consumer draws down all or 

most of the entire line of credit 

immediately after the account is 

opened. Commenters did not express 

support for this alternative, and a few 

explicitly opposed it. 

The Final Rule 

The Board is adopting the antievasion provision as proposed. The rule 

is not meant to add new substantive 

requirements for open-end credit, but 

rather to ensure that creditors do not 

structure a loan which does not meet 

the definition of open-end credit as a 

HELOC to evade the requirements of 

§ 226.35. The Board recognizes that 

consumers may prefer HELOCs to 

closed-end home equity loans because 

of the added flexibility HELOCs provide 

them. The Board does not intend to 

limit consumers’ ability to choose 

between these two ways of structuring 

home equity credit. The anti-evasion 

provision is intended to reach cases 

where creditors have structured loans as 

open-end ‘‘revolving’’ credit, even if the 

features and terms or other 

circumstances demonstrate that the 

creditor had no reasonable expectation 

of repeat transactions under a reusable 

line of credit. Although the practice 

violates TILA, the new rule will subject 

creditors to HOEPA’s stricter remedies if 

the credit carries an APR that exceeds 

§ 226.35’s APR trigger for higher-priced 

mortgage loans. 

The Board is also adding comment 

35(b)(5)-1 to provide guidance on how 

to apply the higher-priced mortgage 

loan APR trigger in § 226.35(a) to a 

transaction structured as open-end 

credit in violation of § 226.35. 

Specifically, the comment provides 

guidance on how to determine the 

‘‘amount financed’’ and the ‘‘principal 

loan amount’’ needed to determine the 

loan’s APR. The comment provides that 

the amount of credit that would have 

been extended if the loan had been 

documented as a closed-end loan is a 

factual determination to be made in 

each case. 

X. Final Rules for Mortgage Loans—

§ 226.36 

Section 226.35, discussed above, 

applies certain new protections to 

higher-priced mortgage loans and 

HOEPA loans. In contrast, § 226.36 

applies other new protections to 

mortgage loans generally, though only if 

secured by the consumer’s principal 

dwelling. The final rule prohibits: (1) 

Creditors or mortgage brokers from 

coercing, influencing, or otherwise 

encouraging an appraiser to provide a 

misstated appraisal and (2) servicers 

from engaging in unfair fee and billing 

practices. The final rule neither adopts 

the proposal to require servicers to 

deliver a fee schedule to consumers 

upon request, nor the proposal to 

prohibit creditors from paying a 

mortgage broker more than the 

consumer had agreed in advance that 

the broker would receive. As with 

proposed § 226.35, § 226.36 does not 

apply to HELOCs. 

The Board finds that the prohibitions 

in the final rule are necessary to prevent 

practices that the Board finds to be 

unfair, deceptive, associated with 

abusive lending practices, or otherwise 

not in the interest of the borrower. See 

TILA Section 129(l)(2), 15 U.S.C. 

1639(l)(2), and the discussion of this 

statute in part V.A above. The Board 

also believes that the final rules will 

enhance consumers’ informed use of 

credit. See TILA Sections 105(a), 102(a). 

A. Creditor Payments to Mortgage 

Brokers—§ 226.36(a) 

The Board proposed to prohibit a 

creditor from paying a mortgage broker 

in connection with a covered 

transaction more than the consumer 

agreed in writing, in advance, that the 

broker would receive. The broker would 

also disclose that the consumer 

ultimately would bear the cost of the 

entire compensation even if the creditor 

paid any part of it directly; and that a 

creditor’s payment to a broker could 

influence the broker to offer the 

consumer loan terms or products that 

would not be in the consumer’s interest 

or the most favorable the consumer 

could obtain.101 Proposed commentary 

provided model language for the 

agreement and disclosures. The Board 

stated that it would test this language 

with consumers before determining how 

it would proceed on the proposal. 

The Board tested the proposal with 

several dozen one-on-one interviews 

with a diverse group of consumers. On 

the basis of this testing and other 

information, the Board is withdrawing 

the proposal. The Board will continue to 

explore available options to address 

unfair acts or practices associated with 

originator compensation arrangements 

such as yield spread premiums. The 

Board is particularly concerned with 

arrangements that cause the incentives 

of originators to conflict with those of 

consumers, where the incentives are not 

transparent to consumers who rely on 

the originators for advice. As the Board 

comprehensively reviews Regulation Z, 

it will continue to consider whether 

disclosure or other approaches could be 

effective to address this problem. 

Public Comment 

The Board received over 4700 

comments on the proposal. Mortgage 

brokers, their federal and state trade 

associations, the Federal Trade 

Commission, and several consumer 

groups argued that applying the 

proposed disclosures to mortgage 

brokers but not to creditors’ employees 

who originate mortgages (‘‘loan 

officers’’) would reduce competition in 

the market and harm consumers. They 

contended that disclosing a broker’s 

compensation would cause consumers 

to believe, erroneously, that a loan 

arranged by a broker would cost more 

than a loan originated by a loan officer. 

These commenters stated that many 

brokers would unfairly be forced out of 

business, and consumers would pay 

higher prices, receive poorer service, or 

have fewer options. The FTC, citing its 

published report of consumer testing of 

mortgage broker compensation 

disclosures, contended that focusing 

consumers’ attention on the amount of 

the broker’s compensation could 

confuse consumers and, under some 

circumstances, lead them to select a 

more expensive loan. 

Mortgage brokers and some creditors 

expressed concerns that the proposed 

rule would not be practicable in cases 

where creditors forward applications to 

other creditors and where brokers 

decide to fund an application using a 

warehouse line of credit. 

Consumer advocates, members of 

Congress, the FDIC, and others stated 


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44564 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

102For more details on the consumer testing, see 

Macro’s report, Consumer Testing of Mortgage 

Broker Disclosures, (July 10, 2008), available at 

http://www.federalreserve.gov. 

that the proposal would not address the 

conflict of interest between consumers 

and brokers that rate-based 

compensation of brokers (the yield 

spread premium) can cause. These 

commenters urged that the only 

effective remedy for the conflict is to 

ban this form of compensation. State 

regulators expressed concern that the 

proposed disclosures would not provide 

consumers sufficient information, and 

could give brokers a legal ‘‘shield’’

against claims they acted contrary to 

consumers’ interests. 

Creditors and their trade associations, 

on the other hand, generally supported 

the proposal, although with a number of 

suggested modifications. These 

commenters agreed with the Board that 

yield spread premiums create financial 

incentives for brokers to steer 

consumers to less beneficial products 

and terms. They saw a need for 

regulation to remove or limit these 

incentives. 

Commenters generally did not believe 

the proposed alternatives for 

compliance (where a state law provides 

substantially equivalent protections or 

where a creditor can show that the 

compensation amount is not tied to the 

interest rate) were feasible. Creditors 

and mortgage brokers stated that both 

alternatives were vague and would be 

little used. Consumer advocates 

believed the alternatives would likely 

create loopholes in the rule. 

Comments on specific issues are 

discussed in more detail below as 

appropriate. 

Discussion 

The proposal was intended to limit 

the potential for unfairness, deception, 

and abuse in yield spread premiums 

while preserving the ability of 

consumers to cover their payments to 

brokers through rate increases. Creditor 

payments to brokers based on the 

interest rate give brokers an incentive to 

provide consumers loans with higher 

interest rates. Many consumers are not 

aware of this incentive and may rely on 

the broker as a trusted advisor to help 

them navigate the complexities of the 

mortgage application process. 

The proposal sought to reduce the 

incentive of the broker to increase a 

consumer’s rate and increase the 

consumer’s leverage to negotiate with 

the broker. Under the proposal, creditor 

payments to brokers would be 

conditioned on a broker’s advance 

commitment to a specified 

compensation amount. The proposal 

would require the agreement to be 

entered into before an application was 

submitted by a consumer or prior to the 

payment of any fee, whichever occurred 

earlier. Requiring an agreement before a 

fee or application would help ensure the 

compensation was set as independently 

as possible of loan’s rate and other 

terms, and that the consumer would not 

feel obligated to proceed with the 

transaction. The Board also anticipated 

that the proposal would increase 

transparency and improve competition 

in the market for brokerage services, 

which could lower the price of these 

services, improve the quality of those 

services, or both. 

Reasons for withdrawal. Based on the 

Board’s analysis of the comments, 

consumer testing, and other 

information, the Board is withdrawing 

the proposal. The Board is concerned 

that the proposed agreement and 

disclosures would confuse consumers 

and undermine their decision-making 

rather than improve it. The risks of 

consumer confusion arise from two 

sources. First, an institution can act as 

either creditor or broker depending on 

the transaction; as explained below, this 

could render the proposed disclosures 

inaccurate and misleading in some, 

possibly many, cases of both broker and 

creditor originations. Second, 

consumers who participated in one-onone interviews about the proposed 

agreement and disclosures often 

concluded, erroneously, that brokers are 

categorically more expensive than 

creditors or that brokers would serve 

their best interests notwithstanding the 

conflict resulting from the relationship 

between interest rates and brokers’

compensation. 

Dual roles. Mortgage brokers and 

creditors noted that creditors and 

brokers often play one of two roles. That 

is, an institution that is ordinarily a 

creditor and originates loans in its name 

may determine that it cannot approve an 

application based on its own 

underwriting criteria and present it to 

another creditor for consideration. This 

practice is known as ‘‘brokering out.’’

The institution brokering out an 

application would be a mortgage broker 

under the proposed rule; to receive 

compensation from the creditor, it 

would have to execute the required 

agreement and provide the required 

disclosures. 

The proposal requires a broker to 

enter an agreement and give disclosures 

before the consumer submits an 

application, but an institution often may 

not know whether it will be a broker or 

a creditor for that consumer until it 

receives and evaluates the application. 

An institution that is ordinarily a 

creditor but sometimes a broker would 

have to enter into the agreement and 

give the disclosures for all consumers 

that seek to apply. In many cases, 

however, the institution will originate 

the loan as a creditor and not switch to 

being a broker. In these cases, the 

agreement and disclosures, which 

describe the institution as a broker and 

state its compensation as if it were 

brokering the transaction, would likely 

mislead and confuse the consumer. This 

problem also arises, if less frequently, 

when an institution that ordinarily 

brokers instead acts as creditor on 

occasion. On those occasions, the 

disclosures also would likely be 

misleading and confusing. 

The source of the problem is the 

proposed requirement that the 

agreement be signed and disclosures 

given before the consumer has applied 

for a loan or paid a fee. The Board 

considered permitting post-application 

execution and disclosure by institutions 

that perform dual roles. The proposed 

timing, however, was intended to 

ensure that a consumer would be 

apprised of the broker’s compensation 

and understand the broker’s role before 

becoming, or feeling, committed to 

working with the broker. Accordingly, 

the Board concluded that providing this 

information later in the loan transaction 

would seriously undermine the 

proposal’s objective of empowering the 

consumer to shop and negotiate. 

Consumer testing. Consumer testing 

also suggested that at least some aspects 

of the proposal could confuse and 

mislead consumers. After publishing the 

proposal, a Board contractor, Macro 

International, Inc. (‘‘Macro’’), conducted 

in-depth one-on-one interviews with a 

diverse group of several dozen 

consumers who recently had obtained a 

mortgage loan.102 Macro developed and 

tested a form in which the broker would 

agree to a specified total compensation 

and disclose (i) that any part of the 

compensation paid by the creditor 

would cost the consumer a higher 

interest rate, and (ii) that creditor 

payments to brokers based on the rate 

create a conflict of interest between 

mortgage brokers and consumers. 

Throughout the testing, revisions were 

made to the form in an effort to improve 

comprehension. The testing revealed 

two difficulties with the forms tested. 

First, the form’s statements that the 

consumer would pay the broker through 

a higher rate and that the broker had a 

conflict of interest confused many 

participants. Many participants stated, 

upon reading the disclosure, that if they 

agreed to pay the compensation the 

broker was asking, then the broker 


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would be obliged to find them the 

lowest interest rate and best terms 

available. Many participants reached 

this conclusion despite the clear 

statement in the form tested that brokers 

can increase their compensation by 

increasing the interest rate. 

Second, many first-round participants 

stated or implied after reading the form 

that working through a broker would 

cost them more than working directly 

with a lender, which is not necessarily 

true. A new provision was added to the 

disclosure stating that lenders’

employees are paid the same types of 

rate-based commissions as brokers and 

have the same conflict of interest. Many 

participants, however, continued to 

voice a belief that brokered loans must 

cost more than direct loans. 

The results of testing indicate that 

consumers did not sufficiently 

understand some major aspects of the 

proposed disclosures. On the one hand, 

the disclosures could cause consumers 

to believe that mortgage brokers have 

obligations to them that the law does 

not actually impose. In consumer 

testing, this belief seemingly resulted 

from the disclosure of the fact that the 

consumer would pay the broker a 

commission, and it persisted 

notwithstanding the accompanying 

disclosure of the conflict of interest 

resulting from the rate-commission 

relationship. On the other hand, the 

disclosures could cause consumers to 

believe that retail loans are categorically 

less costly than brokered loans. 

Notwithstanding an explicit statement 

in the tested forms that commissions 

based on interest rates also are paid to 

loan officers, many participants voiced 

the belief that loan officers’

commissions would be lower than 

brokers’ commissions. They offered 

different reasons for this conclusion, 

including for example that the lender 

and not the consumer would pay the 

loan officer’s commission. 

Despite the difficulties with the 

disclosures observed in consumer 

testing, there were also some successes. 

For instance, consumers generally 

appeared to understand the language 

describing the potential conflict of 

interest, as noted above, even though it 

often was ignored because of seemingly 

conflicting information. In addition, 

language intended to convey to 

consumers the importance of shopping 

on their own behalf in the mortgage 

market appeared to be successful. These 

more encouraging results suggest that 

further development of a disclosure 

approach to creditor payments to 

mortgage originators, through additional 

consumer testing, still may have merit. 

Conclusion. The Board considered 

whether it could resolve the problems 

described above by applying the 

proposal to the retail channel. The 

Board concluded, however, that 

substantial additional testing and 

analysis would be required to determine 

whether such an approach would be 

effective. Therefore, the Board is 

withdrawing the proposal. The Board 

will continue to explore available 

options to address potential unfairness 

associated with originator compensation 

arrangements such as yield spread 

premiums. As the Board 

comprehensively reviews Regulation Z, 

it will continue to consider whether 

disclosures or other approaches could 

effectively remedy this potential 

unfairness without imposing 

unintended consequences. 

Definition of Mortgage Broker 

In connection with the proposal 

relating to mortgage broker 

compensation and the proposal 

prohibiting coercion of appraisers, the 

Board proposed to define ‘‘mortgage 

broker’’ as a person, other than a 

creditor’s employee, who for monetary 

gain arranges, negotiates, or otherwise 

obtains an extension of credit for a 

consumer. A person who met this 

definition would be considered a 

mortgage broker even if the credit 

obligation was initially payable to the 

person, unless the person funded the 

transaction from its own resources, from 

deposits, or from a bona fide warehouse 

line of credit. Commenters generally did 

not comment on the proposed 

definition. 

Defining ‘‘mortgage broker’’ is still 

necessary, notwithstanding the Board’s 

withdrawal of the proposed regulation 

of creditor payments to mortgage 

brokers, as mortgage brokers are subject 

to the prohibitions on coercion of 

appraisers, discussed below. The Board 

is adopting the definition of mortgage 

broker with a minor change to clarify 

that the term ‘‘mortgage broker’’ does 

not include a person who arranges, 

negotiates, or otherwise obtains an 

extension of credit for him or herself. 

B. Coercion of Appraisers—§ 226.36(b) 

The Board proposed to prohibit 

creditors and mortgage brokers and their 

affiliates from coercing, influencing, or 

otherwise encouraging appraisers to 

misstate or misrepresent the value of a 

consumer’s principal dwelling. The 

Board also proposed to prohibit a 

creditor from extending credit when it 

knows or has reason to know, at or 

before loan consummation, that an 

appraiser has been encouraged by the 

creditor, a mortgage broker, or an 

affiliate of either, to misstate or 

misrepresent the value of a consumer’s 

principal dwelling, unless the creditor 

acts with reasonable diligence to 

determine that the appraisal was 

accurate or extends credit based on a 

separate appraisal untainted by 

coercion. The Board is adopting the rule 

substantially as proposed. The Board 

has revised some of the proposed 

examples of conduct that violates the 

rule and conduct that does not violate 

the rule and has added commentary 

about when a misstatement of a 

dwelling’s value is material. 

Public Comment 

Consumer and community advocacy 

groups, appraiser trade associations, 

state appraisal boards, individual 

appraisers, some financial institutions 

and banking trade associations, and a 

few other commenters expressed general 

support for the proposed rule to prohibit 

appraiser coercion. Several of these 

commenters stated that the rule would 

enhance enforcement against parties 

that are not subject to the same 

oversight as depository institutions, 

such as independent mortgage 

companies and mortgage brokers. Some 

of the commenters who supported the 

rule also suggested including additional 

practices in the list of examples of 

prohibited conduct. In addition, several 

appraiser trade associations jointly 

recommended that the Board prohibit 

appraisal management companies from 

coercing appraisers. 

On the other hand, community banks, 

consumer banking and mortgage 

banking trade associations, and some 

large financial institutions opposed the 

proposed rule, stating that its adoption 

would lead to nuisance suits by 

borrowers who regret the amount they 

paid for a house and would make 

creditors liable for the actions of 

mortgage brokers and appraisers. 

Several of these commenters stated that 

the Board’s rule would duplicate 

requirements set by existing laws and 

guidance, including federal regulations, 

interagency guidelines, state laws, and 

the Uniform Standards of Professional 

Appraisal Practice (USPAP). Further, 

some of these commenters stated that 

creditors have limited ability to detect 

undue influence and should be held 

liable only if they extend credit 

knowing that a violation of 

§ 226.36(b)(1) had occurred. 

Many commenters discussed 

appraisal-related agreements that Fannie 

Mae and Freddie Mac have entered into 

with the Attorney General of New York 

and the Office of Federal Housing 

Enterprise Oversight (GSE Appraisal 

Agreements), which incorporated a 


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44566 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

103For example, the October Research 

Corporation’s 2007 National Appraisal Survey 

(released in Dec. 2006) found that appraisers 

reported being pressured to restate, adjust, or 

change reported property values by mortgage 

brokers (71 percent), real estate agents (56 percent), 

consumers (35 percent), lenders (33 percent), and 

appraisal management companies (25 percent). 

Home Valuation Code of Conduct. 

These commenters urged the Board to 

coordinate with the parties to the GSE 

Appraisal Agreements to promote 

consistency in the standards that apply 

to the residential appraisal process. 

The comments are discussed in 

greater detail below. 

Discussion 

The Board finds that it is an unfair 

practice for creditors or mortgage 

brokers to coerce, influence, or 

otherwise encourage an appraiser to 

misstate the value of a consumer’s 

principal dwelling. Accordingly, the 

Board is adopting the rule substantially 

as proposed. 

Substantial injury. Encouraging an 

appraiser to overstate or understate the 

value of a consumer’s dwelling causes 

consumers substantial injury. An 

inflated appraisal may cause consumers 

to purchase a home they otherwise 

would not have purchased or to pay 

more for a home than they otherwise 

would have paid. An inflated appraisal 

also may lead consumers to believe that 

they have more home equity than in fact 

they do, and to borrow or make other 

financial decisions based on this 

incorrect information. For example, a 

consumer who purchases a home based 

on an inflated appraisal may 

overestimate his or her ability to 

refinance and therefore may take on a 

riskier loan. A consumer also may take 

out more cash with a refinance or home 

equity loan than he or she would have 

had an appraisal not been inflated. 

Appraiser coercion thus distorts, rather 

than enhances, competition. Though 

perhaps less common than overstated 

appraisals, understated appraisals can 

cause consumers to be denied access to 

credit for which they qualified. 

Inflated or understated appraisals of 

homes concentrated in a neighborhood 

may affect appraisals of neighboring 

homes, because appraisers factor into a 

property valuation the value of 

comparable properties. For the same 

reason, understated appraisals may 

affect appraisals of neighboring 

properties. Therefore, inflating or 

deflating appraised value can harm 

consumers other than those who are 

party to the transaction with the 

misstated appraisal. 

Injury not reasonably avoidable. 

Consumers who are party to a consumer 

credit transaction cannot prevent 

creditors or mortgage brokers from 

influencing appraisers to misstate or 

misrepresent a dwelling’s value. 

Creditors and mortgage brokers directly 

or indirectly select and contract with 

the appraisers that value a dwelling for 

a consumer credit transaction. 

Consumers will not necessarily be 

aware that a creditor or mortgage broker 

is pressuring an appraiser to misstate or 

misrepresent the value of the principal 

dwelling they offer as collateral for a 

loan. Furthermore, consumers who own 

property near a dwelling securing a 

consumer credit transaction but are not 

parties to the transaction are not in a 

position to know that a creditor or 

mortgage broker is coercing an appraiser 

to misstate a dwelling’s value. 

Consumers thus cannot reasonably 

avoid injuries that result from creditors’

or mortgage brokers’ coercing, 

influencing, or encouraging an appraiser 

to misstate or misrepresent the value of 

a consumer’s principal dwelling. 

Injury not outweighed by benefits to 

consumers or to competition. The Board 

finds that the practice of coercing, 

influencing, or otherwise encouraging 

appraisers to misstate or misrepresent 

value does not benefit consumers or 

competition. Acts or practices that 

promote the misrepresentation of the 

market value of a dwelling distort the 

market, and any competitive advantage 

a creditor or mortgage broker obtains 

through influencing an appraiser to 

misstate a dwelling’s value, or that a 

creditor gains by knowingly originating 

loans based on a misstated appraisal, is 

an unfair advantage. 

For the foregoing reasons, the Board 

finds that it is an unfair practice for a 

creditor or mortgage broker to coerce, 

influence, or otherwise encourage an 

appraiser to misstate the value of a 

consumer’s principal dwelling. As 

discussed in part V.A above, the Board 

has broad authority under TILA Section 

129(l)(2) to adopt regulations that 

prohibit, in connection with mortgage 

loans, acts or practices that the Board 

finds to be unfair or deceptive. 15 U.S.C. 

1639(l)(2). Therefore, the Board may 

adopt regulations prohibiting unfair or 

deceptive practices by mortgage brokers 

who are not creditors and unfair or 

deceptive practices that are ancillary to 

the origination process, when such 

practices are ‘‘in connection with 

mortgage loans.’’ Because appraisals 

play an important role in a creditor’s 

decision to extend mortgage credit as 

well as the terms of such credit, the 

Board believes that it fits well within 

the Board’s authority under Section 

129(l)(2) to prohibit creditors and 

mortgage brokers from coercing, 

influencing, or otherwise encouraging 

an appraiser to misstate the value of a 

consumer’s principal dwelling and 

creditors from extending credit based on 

an appraisal when they know that 

prohibited conduct has occurred. 

Therefore, the Board issues the final 

rule prohibiting such acts under TILA 

Section 129(l)(2), 15 U.S.C. 1639(l)(2). 

The Final Rule 

The Board requested comment on the 

potential costs and benefits of its 

proposed appraiser coercion regulation. 

Some securitization trade associations 

and financial institutions stated that 

creditors obtain appraisals for their own 

benefit, to determine whether to extend 

credit and the terms of credit extended. 

The Board recognizes that, because 

appraisals provide evidence of the 

collateral’s sufficiency to avoid losses if 

a borrower defaults on a loan, creditors 

have a disincentive to coerce appraisers 

to misstate value. However, loan 

originators may believe that they stand 

to benefit from coercing an appraiser to 

misstate value, for example, if their 

compensation depends more on volume 

of loans originated than on loan 

performance. Despite the disincentives 

cited by some commenters, there is 

evidence that coercion of appraisers is 

not uncommon, and may even be 

widespread.103

A few large banks and a financial 

services trade association suggested that 

the Board prohibit mortgage brokers 

from ordering appraisals, as the GSE 

Appraisal Agreements do. The Board 

declines to determine that any 

particular procedure for ordering an 

appraisal necessarily promotes false 

reporting of value. As discussed above, 

the Board finds that coercion of 

appraisers by creditors or by mortgage 

brokers is an unfair practice. Therefore, 

the final rule prohibits actions by 

creditors and mortgage brokers that are 

aimed at pressuring appraisers to 

misstate the value of a consumer’s 

principal dwelling. 

In addition, some commenters stated 

that the Board’s rule would be 

redundant given the existence of 

USPAP. USPAP, however, establishes 

uniform rules regarding preparation of 

appraisals and addresses the conduct of 

appraisers, not the conduct of creditors 

or mortgage brokers. The federal 

financial institution regulatory agencies 

have issued to the institutions they 

supervise regulations and guidance that 

set forth standards for the policies and 

procedures institutions should 

implement to enable appraisers to 

exercise independent judgment when 


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104See, e.g., 12 CFR part 208 subpart E and app. 

C, and 12 CFR part 225 subpart G (Board); 12 CFR 

part 34, subparts C and D (Office of the Comptroller 

of the Currency (OCC)); 12 CFR part 323 and 12 

CFR part 365 (FDIC); 12 CFR part 564, 12 CFR 

560.100, and 12 CFR 560.101 (Office of Thrift 

Supervision (OTS)); and 12 CFR 722.5 (National 

Credit Union Administration (NCUA)). Applicable 

federal guidance the Board, OCC, FDIC, OTS, and 

NCUA have issued includes Independent Appraisal 

and Evaluation Functions, dated October 28, 2003, 

and Interagency Appraisal and Evaluation 

Guidelines, dated October 27, 1994. 

105 12 CFR 225.65 (Board); 12 CFR 34.45 (OCC); 

12 CFR 323.5 (FDIC); 12 CFR 564.5 (OTS); and 12 

CFR 722.5 (NCUA). 

106See, e.g., Colo. Rev. Stat. § 6–1–717; Iowa Code 

§ 543D.18A; Ohio Rev. Code Ann. §§ 1322.07(G), 

1345.031(B), 4763.12(E). 

107For example, in 2006, 49 states and the 

District of Columbia (collectively, the Settling 

States) entered into a settlement agreement with 

ACC Capital Holdings Corporation and several of its 

subsidiaries, including Ameriquest Mortgage 

Company (collectively, the Ameriquest Parties). The 

Settling States alleged that the Ameriquest Parties 

had engaged in deceptive or misleading acts that 

resulted in the Ameriquest Parties’ obtaining 

inflated appraisals of homes’ value. See, e,g., Iowa 

ex rel Miller v. Ameriquest Mortgage Co., No. 05771 

EQCE–053090 (Iowa D. Ct. 2006) (Pls. Pet. 5). To 

settle the complaints, the Ameriquest Parties agreed 

to abide by policies designed to ensure appraiser 

independence and accurate valuations. 

108See, e.g., ASB Advisory Opinion No. 19, 

Unacceptable Assignment Conditions in Real 

Property Appraisal Assignments. 

valuing a property.104 For example, 

these regulations prohibit staff and fee 

appraisers from having any direct or 

indirect interest, financial or otherwise, 

in a subject property; fee appraisers also 

may not have any such interest in the 

subject transaction.105 Unlike the 

Board’s rule, however, these federal 

regulations do not apply to all 

institutions. Moreover, these federal 

rules are part of an overarching 

framework of regulation and 

supervision of federally insured 

depository institutions and are not 

necessarily appropriate for application 

to independent mortgage companies and 

mortgage brokers. 

Some state legislatures have 

prohibited coercion of appraisers or 

enacted general laws against mortgage 

fraud that may be used to combat 

appraiser coercion.106 Not every state, 

however, has passed laws equivalent to 

the final rule. Prohibiting creditors and 

mortgage brokers from pressuring 

appraisers to misstate or misrepresent 

the value of a consumer’s principal 

dwelling provides enforcement agencies 

in every state with a specific legal basis 

for an action alleging appraiser 

coercion. Though states are able to take 

enforcement action against certain 

institutions that are believed to engage 

in appraisal abuses,107 some state laws 

are preempted as to other creditors. The 

final rule, adopted under HOEPA, 

applies equally to all creditors. 

In response to the Board’s request for 

comment about the proposed rule’s 

provisions, commenters addressed three 

main topics: (1) The terms used to 

describe prohibited conduct; (2) the 

specific examples of conduct that is 

prohibited and conduct that is not 

prohibited; and (3) the proscription on 

extending credit where a creditor knows 

about prohibited conduct. 

Prohibited conduct. Some 

commenters recommended that the 

Board replace the phrase ‘‘coerce, 

influence, or otherwise encourage’’ with 

‘‘coerce, bribe, or extort.’’ These 

commenters stated that the words 

‘‘influence’’ and ‘‘encourage’’ are vague 

and subjective, whereas the words 

‘‘bribe’’ and ‘‘extort’’ would provide 

bright-line standards for compliance. 

Like the proposed rule, the final rule 

prohibits a creditor or mortgage broker 

from coercing, influencing, or otherwise 

encouraging an appraiser to misstate the 

value of a dwelling. The final rule does 

not limit prohibited conduct to bribery 

or extortion. Creditors and mortgage 

brokers may act in ways that would not 

constitute bribery or extortion but that 

nevertheless improperly influence an 

appraiser’s valuation of a dwelling. 

These actions can visit the same harm 

on consumers as do bribery or extortion, 

and thus they are prohibited by the final 

rule. The Board believes that 

commenters’ concerns about the clarity 

of the terms used in the final rule can 

be addressed through the examples of 

conduct that is prohibited and conduct 

that is not prohibited discussed below. 

Examples of conduct prohibited and 

conduct not prohibited. The proposal 

offered several examples of conduct that 

would violate the rule and conduct that 

would not violate the rule. The Board is 

adopting the proposed examples of 

prohibited conduct and adding two new 

examples of prohibited conduct. The 

Board also is adopting all but one of the 

proposed examples of conduct that is 

not prohibited. 

Some commenters requested that 

additional actions be listed as examples 

that violate the rule, such as: 

Æ Excluding an appraiser from a list 

of ‘‘approved’’ appraisers because the 

appraiser had valued properties at an 

amount that had jeopardized or 

prevented the consummation of loan 

transactions. 

Æ Telling an appraiser a minimum 

acceptable appraised value. 

Æ Providing an appraiser with the 

price stated in a contract of sale. 

Æ Suggesting that an appraiser 

consider additional properties as 

comparable to the subject property, after 

an appraiser has submitted an appraisal 

report. 

Final § 226.36(b)(1) prohibits conduct 

that coerces, influences, or encourages 

an appraiser to misstate or misrepresent 

the value of a consumer’s principal 

dwelling, and the list of examples the 

section provides is illustrative and not 

exhaustive. The Board believes that it is 

not necessary or possible to list all 

conceivable ways in which creditors or 

mortgage brokers could pressure 

appraisers to misstate a principal 

dwelling’s value. However, the Board 

has added two examples to enhance the 

list in § 226.36(b)(1). The final rule does 

not limit the ability of a creditor or 

broker to terminate a relationship with 

an appraiser for legitimate reasons. 

Examples of prohibited conduct. The 

Board is adopting the proposed 

examples of prohibited conduct and 

adding two examples. The first added 

example is a creditor’s or broker’s 

exclusion of an appraiser from 

consideration for future engagement due 

to the appraiser’s failure to report a 

value that meets or exceeds a minimum 

threshold. This example is adapted from 

a statement in the supplementary 

information to the proposed rule. 73 FR 

1701. The second added example is 

telling an appraiser a minimum reported 

value of a consumer’s principal 

dwelling that is needed to approve the 

loan. This example is consistent with 

the position of the Appraisal Standards 

Board (ASB), which develops, interprets 

and amends USPAP, that assignments 

should not be contingent on the 

reporting of a predetermined opinion of 

value.108

The Board is not adopting other 

examples of prohibited conduct 

suggested by commenters. Some 

commenters urged the Board to prohibit 

a creditor or mortgage broker from 

omitting or removing an appraiser’s 

name from a list of approved appraisers, 

where the appraiser has not valued a 

property at the desired amount. The 

Board believes such conduct is 

encompassed in the examples provided 

in § 226.36(b)(1)(i)(B) and (C). 

Some commenters also requested that 

the Board add, as an example of a 

violation, a creditor’s or mortgage 

broker’s provision to an appraiser of the 

contract of sale for the principal 

dwelling. The Board is not adopting the 

example. USPAP Standard Rule 1–5 

requires an appraiser to analyze all 

agreements of sale for a subject 

property, and Standard Rule 2–2 

requires disclosure of information 

contained in such agreements or an 

explanation of why such information is 

unobtainable or irrelevant. 


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109See Interagency Appraisal and Evaluation 

Guidelines, SR 94–55 (FIS) (Oct. 24, 1994) at 9. 

Examples of conduct that is not 

prohibited. The final rule adopts the 

proposed examples of prohibited 

conduct with one change. The Board is 

not adopting proposed 

§ 226.36(b)(1)(ii)(F), which would have 

provided that the rule would not be 

violated when a creditor or mortgage 

broker terminates a relationship with an 

appraiser for violations of applicable 

federal or state law or breaches of 

ethical or professional standards. Some 

commenters noted that there are other 

legitimate reasons for terminating a 

relationship with an appraiser, and they 

requested that the Board include these 

as examples of conduct that is not 

prohibited so that the provision would 

not be read as implicitly prohibiting 

them. The Board believes that it is not 

feasible to list all of the legitimate 

reasons a creditor or broker might 

terminate a relationship with an 

appraiser. Accordingly, the Board is not 

adopting proposed § 226.36(b)(1)(ii)(F). 

Some commenters suggested that the 

Board delete, from the examples of 

conduct that is not prohibited, asking an 

appraiser to consider additional 

information about a consumer’s 

principal dwelling or about comparable 

properties. Although in some cases a 

post-report request that an appraiser 

consider additional information may be 

a subtle form of pressure to change a 

reported value, in other cases such a 

request could reflect a legitimate desire 

to improve an appraisal report. 

Furthermore, federal interagency 

guidance directs institutions to return 

deficient reports to appraisers for 

correction and to replace unreliable 

appraisals or evaluations prior to the 

final credit decision.109 Therefore, the 

Board is not deleting, from the examples 

of conduct that is not prohibited, asking 

an appraiser to consider additional 

information about a consumer’s 

principal dwelling or about comparable 

properties. However, § 226.36(b) 

prohibits creditors and mortgage brokers 

from making such requests in order to 

coerce, influence, or otherwise 

encourage an appraiser to misstate or 

misrepresent the value of a dwelling. 

Extension of credit. As proposed, 

§ 226.36(b)(2) provided that a creditor is 

prohibited from extending credit if the 

creditor knows or has reason to know, 

at or before loan consummation, of a 

violation of § 226.36(b)(1) (for example, 

by an employee of the creditor or a 

mortgage broker), unless the creditor 

acted with reasonable diligence to 

determine that the appraisal does not 

materially misstate the value of the 

consumer’s principal dwelling. The 

proposed comment to § 226.36(b)(2) 

stated that a creditor is deemed to have 

acted with reasonable diligence if the 

creditor extends credit based on an 

appraisal other than the one subject to 

the restriction. 

The Board is adopting the text of 

§ 226.36(b)(2) and the associated 

commentary substantially as proposed. 

Some financial institutions and 

financial institution trade associations 

stated that the phrase ‘‘reason to know’’

is vague and that creditors should be 

held liable for violations only if they 

extend credit when they had actual 

knowledge that a violation of 

§ 226.36(b)(1) exists. The final rule 

prohibits ‘‘a creditor who knows, at or 

before loan consummation, of a 

violation of § 226.36(b)(1) in connection 

with an appraisal’’ from extending 

credit based on that appraisal, unless 

the creditor acts with reasonable 

diligence to determine that the appraisal 

does not materially misstate or 

misrepresent the value of the 

consumer’s principal dwelling. 

Although final § 226.36(b)(2) does not 

include the phrase ‘‘reason to know’’

included in the proposed rule, the final 

rule’s knowledge standard is not 

intended to permit willful disregard of 

violations of § 226.36(b)(1). The Board 

also is adopting new commentary 

regarding how to determine whether a 

misstatement of value is material. 

Many banks asked for guidance on 

how to determine whether an appraisal 

‘‘materially’’ misstates a dwelling’s 

value. In response to these comments, 

the Board is adopting a new comment 

to § 226.36(b)(2) that provides that a 

misrepresentation or misstatement of a 

dwelling’s value is not material if it 

does not affect the credit decision or the 

terms on which credit is extended. The 

Board notes that existing appraisal 

regulations and guidance may direct 

creditors to take certain steps in the 

event the creditor knows about 

problems with an appraisal. For 

example, the Interagency Appraisal and 

Evaluation Guidelines dated Oct. 28, 

1994 direct institutions to return 

deficient reports to appraisers and 

persons performing evaluations for 

correction and to replace unreliable 

appraisals or evaluations prior to 

making a final credit decision. These 

guidelines further state that changes to 

an appraisal’s estimate of value are 

permitted only as a result of a review 

conducted by an appropriately qualified 

state-licensed or -certified appraiser in 

accordance with Standard III of USPAP. 

The final rule does not dictate specific 

due diligence procedures for creditors to 

follow when they suspect a violation of 

§ 226.36(b)(2), however. In addition, the 

Board does not intend for § 226.36(b)(2) 

to create grounds for voiding loan 

agreements where violations are found. 

That is, if a creditor knows of a violation 

of § 226.36(b)(1), and nevertheless 

extends credit in violation of § 226(b)(2), 

while the creditor will have violated 

§ 226.36(b)(2), this violation does not 

necessarily void the consumer’s loan 

agreement with the creditor. Whether 

the loan agreement is void is a matter 

determined by State or other applicable 

law. 

C. Servicing Abuses—§ 226.36(c) 

The Board proposed to prohibit 

certain practices of servicers of closedend consumer credit transactions 

secured by a consumer’s principal 

dwelling. Proposed § 226.36(d) provided 

that no servicer shall: (1) Fail to credit 

a consumer’s periodic payment as of the 

date received; (2) impose a late fee or 

delinquency charge where the late fee or 

delinquency charge is due only to a 

consumer’s failure to include in a 

current payment a late fee or 

delinquency charge imposed on earlier 

payments; (3) fail to provide a current 

schedule of servicing fees and charges 

within a reasonable time of request; or 

(4) fail to provide an accurate payoff 

statement within a reasonable time of 

request. The final rule, redesignated as 

§ 226.36(c), adopts the proposals 

regarding prompt crediting, fee 

pyramiding, and payoff statements, and 

modifies and clarifies the accompanying 

commentary. The Board is not adopting 

the fee schedule proposal, for the 

reasons discussed below. 

Public Comment 

Consumer advocacy groups, federal 

and state regulators and officials, 

consumers, and others strongly 

supported the Board’s proposal to 

address servicing abuses, although some 

urged alternative measures to address 

servicer abuses, including requiring loss 

mitigation. Industry commenters, on the 

other hand, were generally opposed to 

certain aspects of the proposals, 

particularly the fee schedule. Industry 

commenters also urged the Board to 

adopt any such rules under its authority 

in TILA Section 105(a) to adopt 

regulations to carry out the purposes of 

TILA, and not under Section 129(l)(2). 

Commenters also requested several 

clarifications. 

Prompt crediting. Commenters 

generally favored, or did not oppose, the 

prompt crediting rule. In particular, 

consumer advocacy groups, federal and 

state regulators and officials, and others 

supported the rule. However, some 

industry commenters and others 


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110See, e.g., Comment letter of the National 

Consumer Law Center to Docket No. OP–1253 (Aug. 

15, 2006) at 11; Legislative Proposals on Reforming 

Mortgage Practices, Hearing Before the H. Comm. 

On Fin. Servs., 110th Cong. 74 (2007) (Testimony 

of John Taylor, National Community Reinvestment 

Coalition). 

111See, e.g., Paula Fitzgerald Bone, Toward a 

General Model of Consumer Empowerment and 

Welfare in Financial Markets with an Application 

to Mortgage Servicers, 42 Journal of Consumer 

Affairs 165 (Summer 2008); Katherine M. Porter, 

Misbehavior and Mistake in Bankruptcy Mortgage 

Claims, University of Iowa Legal Study Research 

Paper No. 07–29 (Nov. 2007); Kevin McCoy, Hitting 

Home: Homeowners Fight for their Mortgage Rights, 

USA Today (June 25, 2008), available at http:// 

www.usatoday.com/money/industries/banking/ 

2008-06-25-mortgage-services-countrywidelawsuit_N.htm; Mara Der Hovanesian, The 

‘‘Foreclosure Factories’’ Vise, BusinessWeek.com 

(Dec. 25, 2006), available at http:// 

www.businessweek.com/magazine/content/06_52/ 

b4015147.htm?chan=search. 112See, e.g., Workman v. GMAC Mortg. LLC (In 

re Workman), 2007 Bankr. LEXIS 3887 (Bankr. D. 

S.C. Nov. 21, 2007) (servicer held in civil contempt 

for, among other things, failure to promptly credit 

payments made before discharge from bankruptcy 

and charging of unauthorized late and attorneys 

fees); Islam v. Option One Mortgage Corp., 432 F. 

Supp. 2d 181 (D. Mass 2006) (servicer allegedly 

continued to report borrower delinquent even after 

receiving the full payoff amount for the loan); In Re 

Gorshstein, 285 B.R. 118 (S.D.N.Y. 2002) (servicer 

sanctioned for falsely certifying that borrowers were 

delinquent); Rawlings v. Dovenmuehle Mortgage 

Inc., 64 F. Supp. 2d 1156 (M.D. Ala. 1999) (servicer 

failed for over 7 months to correct account error 

despite borrowers’ twice sending copies of canceled 

checks evidencing payments, resulting in 

unwarranted late and other fees); Ronemus v. FTB 

Mortgage Servs., 201 B.R. 458 (1996) (among other 

abuses, servicer failed to promptly credit payments 

and instead paid them into a ‘‘suspense’’ account, 

resulting in unwarranted late fees and unnecessary 

and improper accrual of interest on the note). 

113Consent Order, United States v. Fairbanks 

Capital Corp., Civ. No. 03–12219–DPW (D. Mass 

Nov. 21, 2003, as modified Sept. 4, 2007). See also 

Ocwen Federal Bank FSB, Supervisory Agreement, 

OTS Docket No. 04592 (Apr. 19, 2004) (settlement 

resolving mortgage servicing issues). 

114See, e.g., Jones v. Wells Fargo (In re Jones), 366 

B.R. 584 (E.D. La 2007) (‘‘In this Court’s experience, 

few, if any, lenders make the adjustments necessary 

to properly account for a reorganized debt 

repayment plan. As a result, it is common to see 

late charges, fees, and other expenses assessed to a 

debtor’s loan as a result of post-petition accounting 

mistakes made by lenders.’’). See also Payne v. 

Mortg. Elec. Reg. Sys. (In re Payne), 2008 Bankr. 

LEXIS 1340 (Bankr. Kan. May 6, 2008); Sanchez v. 

Ameriquest (In re Sanchez), 372 B.R. 289 (S.D. Tx. 

2007); Harris v. First Union Mortg. Corp. (In re 

Harris), 2002 Bankr. LEXIS 771 (Bankr. D. Ala. 

2002); In Re Tate, 253 B.R. 653. 

115See, e.g., Maxwell v. Fairbanks Capital Corp. 

(In re Maxwell), 281 B.R. 101, 114 (D. Mass 2002) 

(servicer ‘‘repeatedly fabricated the amount of the 

Debtor’s obligation to it out of thin air’’). 

116See, e.g. Holland v. GMAC Mortg. Corp., 2006 

U.S. Dist. LEXIS 25723 (D. Kan. 2006) (servicer’s 

misapplication of borrower’s payment to the wrong 

account resulted in improper late fees and negative 

credit reports, despite borrower’s proof of canceled 

checks); In re Payne, 2008 Bankr. LEXIS at *30 

(servicer’s failure to properly and timely account for 

payments and failure to distinguish between prepetition and post-petition payments caused its 

accounting system and payment history to 

improperly show borrowers as delinquent in their 

payments). 

requested clarification on certain 

implementation details. Commenters 

also disagreed about whether and how 

to address partial payments. 

Fee pyramiding. Commenters 

generally supported prohibiting late fee 

pyramiding. Several industry 

commenters argued, however, that a 

new rule would be unnecessary because 

servicers are subject to a prohibition on 

pyramiding under other regulations. 

Fee schedule. Most commenters 

opposed the fee schedule proposal. One 

consumer advocate group criticized the 

disclosure’s utility where consumers 

cannot shop for and select servicers. 

Other consumer advocates urged the 

Board to adopt alternative measures 

they argued would be more effective to 

combat fee abuses. Industry commenters 

also objected to the proposal as 

impracticable and unnecessarily 

burdensome. Most industry commenters 

strongly opposed disclosure of third 

party fees, particularly because third 

party fees can vary greatly and may be 

indeterminable in advance. 

Payoff statements. Consumer 

advocates strongly supported the 

proposal to require provision of payoff 

statements within a reasonable time. 

The proposed commentary stated that it 

would be reasonable under normal 

market conditions to provide statements 

within three business days of receipt of 

a consumer’s request. Community banks 

stated that three business days would 

typically be adequate. However, large 

financial institutions and their trade 

associations urged the Board to adopt a 

longer time period in the commentary. 

These commenters also requested other 

clarifications. The comments are 

discussed in more detail throughout this 

section, as applicable. 

Discussion 

As discussed in the preamble to the 

proposed rule, the Board shares 

concerns about abusive servicing 

practices. Consumer advocates raised 

abusive mortgage servicer practices as 

part of the Board’s 2006 and 2007 

hearings as well as in recent 

congressional hearings.110 Servicer 

abuses have also received increasing 

attention both in academia and the 

press.111 In particular, consumer 

advocates have raised concerns that 

some servicers may be charging 

consumers unwarranted or excessive 

fees (such as late fees and other 

‘‘service’’ fees) and may be improperly 

submitting negative credit reports, in 

the normal course of mortgage servicing 

as well as in foreclosures. Some of these 

abusive fees, they contend, result from 

servicers’ failure to promptly credit 

consumers’ accounts, or when servicers 

pyramid late fees. In addition to 

anecdotal evidence of significant 

consumer complaints about servicing 

practices, abusive practices have been 

cited in a variety of court cases.112 In 

2003, the FTC announced a $40 million 

settlement with a large mortgage 

servicer and its affiliates to address 

allegations of abusive behavior.113

Consumer advocates have also raised 

concerns that consumers are sometimes 

unaware of fees charged, or unable to 

understand the basis upon which fees 

are charged. This may occur because 

servicers often do not disclose precise 

fees in advance; some consumers are not 

provided any other notice of fees (such 

as a monthly statement or other afterthe-fact notice); and when consumers 

are provided a statement or other fee 

notice, fees may not be itemized or 

detailed. For example, in a number of 

bankruptcy cases, servicers have 

improperly assessed post-petition fees 

without notifying either the consumer 

or the court.114 Similarly, because 

payoff statements lack transparency (in 

that they do not provide detailed 

accounting information) and because 

consumers are often unaware of the 

exact amount owed, some servicers may 

assess inaccurate or false fees on the 

payoff statement.115

Substantial injury. Consumers subject 

to the servicer practices described above 

suffer substantial injury. For example, 

one state attorney general and several 

consumer advocates stated that failure 

to properly credit payments is one of the 

most common problems consumers 

have with servicers. Servicers that do 

not timely credit, or that misapply, 

payments cause the consumer to incur 

late fees where none should be 

assessed.116 Even where the first late fee 

is properly assessed, servicers may 

apply future payments to the late fee 

first. Doing so results in future 

payments being deemed late even if 

they are, in fact, paid in full within the 

required time period, thus permitting 

the servicer to charge additional late 

fees—a practice commonly referred to as 

‘‘pyramiding’’ of late fees. These 

practices can cause the account to 

appear to be in default, and thus can 

give rise to charging excessive or 

unwarranted fees to consumers, who 

may not even be aware of the default or 

fees if they do not receive statements. 

Once consumers are in default, these 

practices can make it difficult for 

consumers to catch up on payments. 

These practices also may improperly 

trigger negative credit reports, which 

can cause consumers to be denied other 

credit or pay more for such credit, and 


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117See, e.g., In re Maxwell, 281 B.R. 101, 114 (D. 

Mass 2002). 

118See, e.g., In re Jones, 366 B.R. at 587–588 

(consumer in bankruptcy forced to remit improper 

sums demanded on payoff statement or lose loan 

commitment from new lender. ‘‘Although Debtor 

questioned the amounts [servicer] alleged were due, 

he was unable to obtain an accounting from 

[servicer] explaining its calculations or any other 

substantiation for the payoff.’’). 

119 In one survey, J.D. Power found that 

consumers whose loans have been sold have 

customer satisfaction scores 32 points lower than 

those who have remained with the loan originator. 

J.D. Power and Associates Reports: USAA Ranks 

Highest in Customer Satisfaction with Primary 

Mortgage Servicing. Press Release (July 19, 2006), 

available at http://www.jdpower.com/corporate/ 

news/releases/pdf/2006117.pdf. 

require consumers to engage in timeconsuming credit report correction 

efforts. 

In addition, a servicer’s failure to 

provide accurate payoff statements in a 

timely fashion can cause substantial 

injury to consumers. One state attorney 

general commented that its office often 

receives complaints about unreasonable 

delays in the provision of payoff 

statements. Consumers may want to 

refinance a loan to obtain a lower 

interest rate or to avoid default or 

foreclosure, but may be impeded from 

doing so due to inaccurate or untimely 

payoff statements. These consumers 

thus incur additional costs and may be 

subject to financial problems or even 

foreclosure. In addition to the injuries 

caused by delayed payoff statements, 

consumers are injured by inaccurate 

payoff statements. As described above, 

some servicers assess inaccurate or false 

fees on the payoff statement without the 

consumer’s knowledge. Even when the 

consumer requests clarification, a 

servicer may provide an invalid 

accounting of fees or charges.117 Or, a 

servicer may provide the payoff 

statement too late in the refinancing 

process for the consumer to obtain 

clarification without risking losing his 

or her new loan commitment.118

Injury not reasonably avoidable. The 

injuries caused by servicer abuses are 

not reasonably avoidable because 

market competition is not adequate to 

prevent abusive practices, particularly 

when mortgages are securitized and 

servicing rights are sold. Historically, 

under the mortgage loan process, a 

lender would often act as both 

originator and collector—that is, it 

would service its own loans. Although 

some creditors sold servicing rights, 

they remained vested in the customer 

service experience in part due to 

reputation concerns and in part because 

payment streams continued to flow 

directly to them. However, with rise of 

the ‘‘originate to distribute’’ model 

discussed in part II.B above, the original 

creditor has become removed from 

future direct involvement in a 

consumer’s loan, and thus has less 

incentive and ability to detect or deter 

servicing abuses or respond to consumer 

complaints about servicing abuses. 

When loans are securitized, servicers 

contract directly with investors to 

service the loan, and consumers are not 

a party to the servicing contract. 

Today, separate servicing companies 

play a key role: they are chiefly 

responsible for account maintenance, 

including collecting payments, 

remitting amounts due to investors, 

handling interest rate adjustments on 

variable rate loans, and managing 

delinquencies and foreclosures. 

Servicers also act as the primary point 

of contact for consumers after 

origination, because in most cases the 

original creditor has securitized and 

sold the loan shortly after origination. In 

exchange for performing these services, 

servicers generally receive a fixed perloan or monthly fee, float income, and 

ancillary fees—including default 

charges—that consumers must pay. 

Investors are principally concerned 

with maximizing returns on the 

mortgage loans and are generally 

indifferent to the fees the servicer 

charges the consumer so long as the fees 

do not reduce the investor’s return (e.g., 

by prompting an unwarranted 

foreclosure). Consumers are not able to 

choose their servicers. Consumers also 

are not able to change servicers without 

refinancing, which is a time-consuming, 

expensive undertaking. Moreover, if 

interest rates are rising, refinancing may 

only be possible if the consumer accepts 

a loan with a higher interest rate. After 

refinancing, consumers may find their 

loans assigned back to the same servicer 

as before, or to another servicer 

engaging in the same practices. As a 

result, servicers do not have to compete 

in any direct sense for consumers. Thus, 

there may not be sufficient market 

pressure on servicers to ensure 

competitive practices.119

Injury not outweighed by 

countervailing benefits to consumers or 

to competition. The injuries described 

above also are not outweighed by any 

countervailing benefits to consumers or 

competition. Commenters did not cite, 

and the Board is not aware of, any 

benefit to consumers from delayed 

crediting of payments, pyramided fees, 

or delayed issuance of payoff 

statements. 

For these reasons, the Board finds the 

acts and practices prohibited under 

§ 226.36(c) for closed-end consumer 

credit transactions secured by a 

consumer’s principal dwelling to be 

unfair. As described in part V.A above, 

TILA Section 129(l)(2) authorizes 

protections against unfair practices ‘‘in 

connection with mortgage loans’’ that 

the Board finds to be unfair or 

deceptive. 15 U.S.C. 1639(l)(2). 

Therefore, the Board may take action 

against unfair or deceptive practices by 

non-creditors and against unfair or 

deceptive practices outside of the 

origination process, when such 

practices are ‘‘in connection with 

mortgage loans.’’ The Board believes 

that unfair or deceptive servicing 

practices fall squarely within the 

purview of Section 129(l)(2) because 

servicing is an integral part of the life of 

a mortgage loan and as such is ‘‘in 

connection with mortgage loans.’’

Accordingly, the final rule prohibits 

certain unfair or deceptive servicing 

practices under Section 129(l)(2), 15 

U.S.C. 1639(l)(2). 

The Final Rule 

Section 226.36(c) prohibits three 

servicing practices. First, the rule 

prohibits a servicer from failing to credit 

a payment to a consumer’s account as of 

the date received. Second, the rule 

prohibits ‘‘pyramiding’’ of late fees by 

prohibiting a servicer from imposing a 

late fee on a consumer for making a 

payment that constitutes the full 

amount due and is timely, but for a 

previously assessed late fee. Third, the 

rule prohibits a servicer from failing to 

provide, within a reasonable time after 

receiving a request, an accurate 

statement of the amount currently 

required to pay the obligation in full, 

often referred to as a payoff statement. 

Under § 226.36(c)(3), the term 

‘‘servicer’’ and ‘‘servicing’’ are given the 

same meanings as provided in 

Regulation X, 24 CFR 3500.2. As 

described in more detail below, the 

Board is not adopting the proposed rule 

that would prohibit a servicer from 

failing to provide to a consumer, within 

a reasonable time after receiving a 

request, a schedule of all fees and 

charges it imposes in connection with 

mortgage loans it services. 

The Board recognizes that servicers 

will incur additional costs to alter their 

systems to comply with some aspects of 

the final rule. For example, in some 

instances some servicers may incur 

costs in investing in systems to produce 

payoff statements within a shorter 

period of time than their current 

technology affords. As a result, some 

servicers will, directly or indirectly, 

pass those costs on to consumers. The 

Board believes, however, that these 

costs to consumers are outweighed by 


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the consumer benefits provided by the 

rules as adopted. 

Prompt Crediting 

The Board proposed §§ 226.36(d)(1)(i) 

and 226.36(d)(2) to prohibit a servicer 

from failing to credit payments as of the 

date received. The proposed prompt 

crediting rule and accompanying 

commentary are substantially similar to 

the existing provisions requiring prompt 

crediting of payment on open-end 

transactions in § 226.10. The final rule 

adopts, as §§ 226.36(c)(1)(i) and 

226.36(c)(2), the rule substantially as 

proposed, but with revisions to the 

proposed commentary to address the 

questions of partial payments and 

payment cut-off times. Commentary has 

also been added or modified in response 

to commenters’ concerns. 

Commenters generally favored, or did 

not oppose, the prompt crediting rule. 

In particular, consumer advocacy 

groups, federal and state regulators and 

officials, and others supported the rule. 

One state attorney general and several 

consumer advocacy groups stated that 

failure to properly credit payments is 

one of the most common servicing 

problems they see consumers face. 

However, as described in more detail 

below, some industry commenters and 

others requested clarification on certain 

implementation details. Commenters 

also generally disagreed on whether and 

how to address partial payments. 

Method and timing of payments. 

Section 226.36(c)(1)(i) requires a 

servicer to credit a payment to the 

consumer’s loan account as of the date 

of receipt, except when a delay in 

crediting does not result in any charge 

to the consumer or in the reporting of 

negative information to a consumer 

reporting agency, or except as provided 

in § 226.36(c)(2). Many industry 

commenters, as well as the GSEs 

requested clarifications on the timing 

and method of crediting payments, and 

the final staff commentary has been 

revised accordingly. 

For example, final comment 

36(c)(1)(i)–1 makes clear that the rule 

does not require a servicer to physically 

enter the payment on the date received, 

but requires only that it be credited as 

of the date received. The proposed 

comment explained that a servicer does 

not violate the rule if it receives a 

payment on or before its due date and 

enters the payment on its books or in its 

system after the due date if the entry 

does not result in the imposition of a 

late charge, additional interest, or 

similar penalty to the consumer, or in 

the reporting of negative information to 

a consumer reporting agency. Because 

consumers are often afforded a grace 

period before a late fee accrues, the 

Board has revised the comment to 

reference grace periods. The final 

comment thus states that a servicer that 

receives a payment on or before the due 

date (or within any grace period), and 

does not enter the payment on its books 

or in its system until after the payment’s 

due date (or expiration of any grace 

period) does not violate the rule as long 

as the entry does not result in the 

imposition of a late charge, additional 

interest, or similar penalty to the 

consumer, or in the reporting of 

negative information to a consumer 

reporting agency. If a payment is 

received after the due date and any 

grace period, § 226.36(c)(1)(i) does not 

prohibit the assessment of late charges 

or reporting negative information to a 

consumer reporting agency. 

Some industry commenters were 

concerned that the rule would affect 

their monthly interest accrual 

accounting systems. Many closed-end 

mortgage loan agreements require 

calculation of interest based on an 

amortization schedule where payments 

are deemed credited as of the due date, 

whether the payment was actually 

received prior to the scheduled due date 

or within any grace period. Thus, 

making the scheduled payment early 

does not decrease the amount of interest 

the consumer owes, nor does making 

the scheduled payment after the due 

date (but within a grace period) increase 

the interest the consumer owes. 

According to these commenters, this socalled ‘‘monthly interest accrual 

amortization method’’ provides 

certainty to consumers (about payments 

due) and to investors (about expected 

yields). The final rule is not intended to 

prohibit or alter use of this method, so 

long as the servicer recognizes on its 

books or in its system that payments 

have been timely made for purposes of 

determining late fees or triggering 

negative credit reporting. 

The final rule also adopts proposed 

comment 36(d)(2)–1, redesignated as 

36(c)(2)–1, which states that the servicer 

may specify in writing reasonable 

requirements for making payments. One 

commenter expressed concern that late 

fees or negative credit reports may be 

triggered when a timely payment 

requires extensive research, and the 

creditor may inadvertently violate 

§ 226.36(c)(1)(i). Such research might be 

required, for example, when a check 

does not include the account number for 

the mortgage loan and is written by 

someone other than the consumer. 

However, in this scenario, the check 

would typically constitute a payment 

that does not conform to the servicer’s 

reasonable payment requirements. If a 

payment is non-conforming, and the 

servicer nonetheless accepts the 

payment, then § 226.36(c)(2) provides 

that the servicer must credit the account 

within five days of receipt. If the 

servicer chooses not to accept the nonconforming payment, it would not 

violate the rule by returning the check. 

Comment 36(c)(2)–1 provides 

examples of reasonable payment 

requirements. Although the list of 

examples is non-exclusive, at the 

request of several commenters, payment 

coupons have been added to the list of 

examples because they can assist 

servicers in expediting the crediting 

process to consumers’ benefit. 

The Board sought comment on 

whether it should provide a safe harbor 

as to what constitutes a reasonable 

payment requirement, for example, a 

cut-off time of 5 p.m. for receipt of a 

mailed check. Commenters generally 

supported including safe harbors; 

accordingly, new comment 32(c)(2)–2 

provides that it would be reasonable to 

require a cut-off time of 5 p.m. for 

receipt of a mailed check at the location 

specified by the creditor for receipt of 

such check. 

Partial payments. The Board sought 

comment on whether (and if so, how) 

partial payments should be addressed in 

the prompt crediting rule. Consumer 

advocate and industry commenters 

disagreed on whether partial payments 

should be credited, if the consumer’s 

payment covers at least the principal 

and interest due but not amounts due 

for escrows or late or other service fees. 

Consumer groups argued that servicers 

should be required to credit partial 

payments under the rule, when the 

payment would cover at least the 

principal and interest due. They 

expressed concern that servicers 

routinely place such partial payments 

into suspense accounts, triggering the 

accrual of late fees and other default 

fees. On the other hand, most industry 

commenters urged the Board not to 

require crediting of partial payments, 

because doing so would contradict the 

structure of uniform loan documents, 

would violate servicing agreements, 

would be contrary to monthly interest 

accrual accounting methods, and would 

require extensive systems and 

accounting changes. They also argued 

that crediting partial payments could 

cause the consumer’s loan balance to 

increase. After crediting the partial 

payment, the servicer would add the 

remaining payment owed to the 

principal balance; thus, the principal 

balance would be greater than the 

amount scheduled (and the interest 

calculated on that larger principal 

balance that would be due would be 


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120See, e.g., Vikas Bajaj, Contractors Are Kept 

Busy Maintaining Abandoned Homes, N.Y. Times 

(May 26, 2008), available at http:// 

www.nytimes.com/2008/05/27/business/

27home.html?_r=1&scp=1&sq=florida+foreclosure

&st=nyt&oref=slogin. 

greater than the scheduled interest). As 

a result, subsequent regularly scheduled 

payments would no longer cover the 

actual outstanding principal and 

interest due. 

New comment 36(c)(1)(i)–2 makes 

clear that whether a partial payment 

must be credited depends on the 

contract between the parties. 

Specifically, the new comment states 

that payments should be credited based 

on the legal obligation between the 

creditor and consumer. The comment 

also states that the legal obligation is 

determined by applicable state law or 

other law. Thus, if under the terms of 

the legal obligations governing the loan, 

the required monthly payment includes 

principal, interest, and escrow, then 

consistent with those terms, servicers 

would not be required to credit 

payments that include only principal 

and interest payments. Concerns about 

partial payments may be addressed in 

part by the fee pyramiding rule, 

discussed below, which prohibits 

servicers from charging late fees if a 

payment due is short solely by the 

amount of a previously assessed late fee. 

Pyramiding Late Fees 

The Board proposed to adopt a 

parallel approach to the existing 

prohibition on late fee pyramiding 

contained in the ‘‘credit practices rule,’’

under section 5 of the FTC Act, 15 

U.S.C. 45. See, e.g., 12 CFR 227.15 

(Board’s Regulation AA). Proposed 

§ 226.36(c)(1)(ii) would have prohibited 

servicers from imposing any late fee or 

delinquency charge on the consumer in 

connection with a payment, when the 

consumer’s payment was timely and 

made in full but for any previously 

assessed late fees. The proposed 

commentary provided that the 

prohibition should be construed 

consistently with the credit practices 

rule. The final rule adopts the proposal 

and accompanying staff commentary. 

Commenters generally supported 

prohibiting fee pyramiding. Several 

commenters argued, however, that a 

new rule would be unnecessary because 

servicers are subject to a regulation 

prohibiting fee pyramiding, whether 

they are banks (12 CFR 227.15), thrifts 

(12 CFR 535.4), credit unions (12 CFR 

706.4) or other institutions (16 CFR 

444.4). However, the Board believes that 

adopting a fee pyramiding prohibition 

under TILA Section 129(l)(2), 15 U.S.C. 

1639(l)(2), would extend greater 

protections to consumers than currently 

provided by regulation. While fee 

pyramiding is impermissible for all 

entities under either the Board, OTS, or 

FTC rules, state officials are not granted 

authority under the FTC Act to bring 

enforcement actions against institutions. 

By bringing the fee pyramiding rule 

under TILA Section 129(l)(2), state 

attorneys general would be able to 

enforce the rule through TILA, where 

currently they may be limited to 

enforcing the rule solely through state 

statutes (which statutes may not be 

uniform). Accordingly, the antipyramiding rule adopted today would 

provide state attorneys general an 

additional means of enforcement against 

servicers, thus providing an additional 

consumer protection against an unfair 

practice. 

Schedule of Fees and Charges 

Proposed 226.36(d)(1)(iii) would have 

required a servicer to provide to a 

consumer upon request a schedule of all 

specific fees and charges that may be 

imposed in connection with the 

servicing of the consumer’s account, 

including a dollar amount and an 

explanation of each and the 

circumstances under which each fee 

may be imposed. The proposal would 

have required a fee schedule that is 

specific both as to the amount and type 

of each charge, to prevent servicers from 

disguising fees by lumping them 

together or giving them generic names. 

The proposal also would have required 

the disclosure of third party fees 

assessed on consumers by servicers. The 

rule was intended to bring transparency 

to the market, to enhance consumer 

understanding of servicer charges, and 

to make it more difficult for 

unscrupulous servicers to camouflage or 

inflate fees. The Board sought comment 

on the effectiveness of this approach, 

and solicited suggestions on alternative 

methods to achieve the same objective. 

Given servicers’ potential difficulty in 

identifying the specific amount of third 

party charges prior to imposition of 

such charges, the Board also sought 

comment on whether the benefit of 

increasing the transparency of third 

party fees would outweigh the costs 

associated with a servicer’s uncertainty 

as to such fees. 

Most commenters opposed the fee 

schedule proposal. One consumer 

advocate group argued that the 

disclosure would not help because 

consumers cannot shop for and select 

servicers. Other consumer advocates 

urged the Board to adopt alternative 

measures they argued would be more 

effective to prevent servicer abuses. 

Industry commenters also objected to 

the proposal as impracticable and 

unnecessarily burdensome. Some stated 

that they currently provide limited fee 

schedules upon request, but that they 

would incur a substantial time and cost 

burden to reprint schedules or add 

addenda when fees change. Many 

industry commenters strongly opposed 

disclosure of third party fees. These 

commenters argued that fees can vary 

greatly by geography (inter- and intrastate) and over the life of the loan, and 

are not within the servicer’s control, 

particularly when the consumer is in 

default. Moreover, they stated, some 

charges relating to foreclosure or other 

legal actions cannot be determined in 

advance. For example, newspaper 

publication costs will vary depending 

on the newspaper and length of the 

notice required; third party service 

providers may charge varying prices 

based on the cost of labor, materials, 

and scope of work required.120 Industry 

commenters maintained that servicers 

would pass on to consumers the costs of 

the increased burden and risk incurred. 

At a minimum, they argued, the fee 

schedule should be limited to standard 

or common fees, such as nonsufficient 

fund fees or duplicate statement fees. 

The Board has considered the 

concerns raised by commenters and has 

concluded that the transparency benefit 

of the schedule does not sufficiently 

offset the burdens of producing such a 

schedule. Thus, the Board is not 

adopting proposed § 226.36(d)(1)(iii). 

First, the transparency benefit is 

limited. It is not clear that consumers 

would request fee schedules sufficiently 

in advance of being charged any fees so 

as to provide consumers the benefit of 

the notice intended by the proposed 

rule. In addition, any schedules 

provided to consumers may be out of 

date by the time the consumer is 

assessed fees. Many third party fees 

would also be impractical to specify. 

Even if third party fees are simply listed 

as ‘‘actual charge’’ or ‘‘market price,’’

the fee schedules may be too long—

possibly dozens of pages— and detailed 

to be meaningful or useful to 

consumers. The Board considered 

limiting fee schedules to the servicer’s 

own standard fees. However, while such 

schedules might assist consumers who 

are current, they would be of limited 

utility to delinquent consumers, who 

are often subject to substantial third 

party fees. For the foregoing reasons, the 

Board is not adopting proposed 

§ 226.36(d)(1)(iii). 

The Board solicited suggestions on 

alternative methods to address servicer 

charges and fees. Commenters urged the 

Board to consider a variety of 

alternatives to combat abusive servicing 


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practices, including prohibiting 

servicers from imposing fees unless the 

fee is authorized by law, agreed to in the 

note, and bona fide and reasonable; 

prohibiting servicers from misstating the 

amounts consumers owe; and requiring 

servicers to provide monthly statements 

to consumers to permit consumers to 

monitor charges. The Board continues to 

have concerns about transparency and 

abuse of servicer fees. The Board will 

continue to evaluate the issue, and may 

consider whether to propose additional 

rules in this area in connection with its 

comprehensive review of Regulation Z’s 

closed-end mortgage disclosure rules. 

Loan Payoff Statements 

Proposed § 226.36(d)(1)(iv) would 

have prohibited a servicer from failing 

to provide, within a reasonable time 

after receiving a request from the 

consumer or any person acting on behalf 

of the consumer, an accurate statement 

of the full amount required to pay the 

obligation in full as of a specified date, 

often referred to as a payoff statement. 

The proposed commentary stated that 

under normal market conditions, three 

business days would be a reasonable 

time to provide the payoff statements; 

however, a longer time might be 

reasonable when the market is 

experiencing an unusually high volume 

of refinancing requests. 

Consumer advocates strongly 

supported the proposed rule, and most 

community banks stated that three 

business days would be adequate for 

production of payoff statements. 

However, large financial institutions 

and their trade associations urged the 

Board to adopt a longer time period in 

the commentary than three business 

days. Large financial institutions and 

their trade associations also requested 

clarification on requests from third 

parties, citing privacy concerns. Further, 

they urged the Board to refine the rule 

to provide that statements should be 

accurate when issued, because events 

could occur after issuance that would 

make the payoff statement inaccurate. 

The Board is adopting the rule 

substantially as proposed, renumbered 

as § 226.36(c)(1)(iii), with clarifications 

and changes to the commentary. The 

Board has revised the accompanying 

staff commentary to provide that five 

business days would normally be a 

reasonable time to provide the 

statements under most circumstances, 

and to make several other clarifications 

in response to commenters’ concerns. 

Servicers’ delays in providing payoff 

statements can impede consumers from 

refinancing existing loans or otherwise 

clearing title and increase transaction 

costs. Promptly delivered payoff 

statements also help consumers to 

monitor inflated payoff claims. Thus, 

the Board is adopting a rule requiring 

servicers to provide an accurate payoff 

statement within a reasonable time after 

receiving a request. 

As noted above, the proposed 

commentary stated that under normal 

market conditions, three business days 

would be a reasonable time to provide 

the payoff statements. Large financial 

institutions and their trade associations 

encouraged the Board to extend the 

three business day time frame to 

anywhere from five business days to 

fifteen calendar days to provide 

servicers enough time to compile the 

necessary payoff information. While the 

Board notes that the commentary’s time 

frame is a safe harbor and not a 

requirement, the Board is extending the 

time frame from three to five business 

days to address commenters’ concerns. 

Several industry commenters also 

requested special time periods for 

homes in foreclosure or loss mitigation. 

Some argued that emergency 

circumstances (such as imminent 

foreclosure) require swifter servicer 

action; on the contrary, others argued 

that such circumstances are inherently 

complicated and require additional 

servicer time and effort. However, the 

Board believes five business days 

should provide sufficient time to handle 

most payoff requests, including most 

requests where the loan is delinquent, 

in bankruptcy, or the servicer has 

incurred an escrow advance. As 

discussed below, there may be 

circumstances under which a longer 

time period is reasonable; the response 

time would simply not fall under the 

five business day safe harbor. 

The commentary retains the proposal 

that the time frame might be longer in 

some instances. The example has been 

revised, however, from when ‘‘the 

market’’ is experiencing an unusually 

high volume of refinancing requests to 

‘‘the servicer.’’ A particular servicer’s 

experience may not correspond 

perfectly with general market 

conditions. The example is intended to 

recognize that more time may be 

reasonable where a servicer is 

experiencing temporary constraints on 

its ability to respond to payoff requests. 

The example is not intended, however, 

to enable servicers to take an 

unreasonable amount of time to provide 

payoff statements if it is due to a failure 

to devote adequate staffing to handling 

requests. The Board believes that the 

revised commentary balances servicers’

operational needs with consumers’

interests in promptly obtaining a payoff 

statement. 

Under the proposed rule, the servicer 

would be required to respond to the 

request of a person acting on behalf of 

the consumer. Thus, for example, a 

creditor with which a consumer is 

refinancing may request a payoff 

statement. Others who act on the 

consumer’s behalf, such as a non-profit 

homeownership counselor, also may 

wish to obtain a payoff statement for the 

consumer. Some industry commenters 

expressed concern about the privacy 

implications of such a requirement, and 

requested that the Board permit 

additional time to confirm the 

consumer’s permission prior to 

releasing account information. To 

address these concerns, the Board has 

revised the commentary to state that the 

servicer may first take reasonable 

measures to verify the identity of 

persons purporting to act on behalf of 

the consumer and to obtain the 

consumer’s authorization to release 

information to any such persons before 

the ‘‘reasonable time’’ frame begins to 

run. 

Industry commenters also requested 

that, as in the prompt crediting rule, 

servicers be permitted to specify 

reasonable requirements to ensure 

payoff requests may be promptly 

processed. The Board believes clear 

procedures for consumer requests for 

loan payoff statements will benefit 

consumers, as these procedures will 

expedite processing of a consumer’s 

request. Therefore, the Board is adding 

new commentary 226.36(c)(1)(iii)–3 to 

clarify that the servicer may specify 

reasonable requirements for making 

payoff requests, such as requiring 

requests to be in writing and directed to 

a specific address, e-mail address or fax 

number specified by the servicer, or 

orally to a specified telephone number, 

or any other reasonable requirement or 

method. If the consumer does not follow 

these requirements, a longer time frame 

for responding to the request would be 

reasonable. 

Finally, industry commenters 

requested clarification that the 

statement must be accurate when 

issued. They maintained that events 

occurring after issuance of the statement 

cause a statement to become inaccurate, 

such as when a consumer’s previous 

payment is returned for insufficient 

funds after the servicer has issued the 

loan payoff statement. The Board is 

adding new comment 226.36(c)(1)(iii)–4 

to explain that payoff statements must 

be accurate when issued. The payoff 

statement amount should reflect all 

payments due and all fees and charges 

incurred as of the date of issuance. 

However, the Board recognizes that 

events occurring after issuance and 


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outside the servicer’s control, such as a 

returned check and nonsufficient funds 

fee, or an escrow advance, may cause 

the payoff statement to become 

inaccurate. If the statement was accurate 

when it was issued, subsequent events 

that change the payoff amount do not 

result in a violation of the rule. 

D. Coverage—§ 226.36(d) 

The Board proposed to exclude 

HELOCs from § 226.36(d) because most 

originators of HELOCs hold them in 

portfolio rather than sell them, which 

aligns these originators’ interests in loan 

performance more closely with their 

borrowers’ interests, and HELOC 

originations are concentrated in the 

banking and thrift industries, where the 

federal banking agencies can use 

supervisory authorities to protect 

borrowers. As described in more detail 

in part IX.E above, the proposed 

exclusion of HELOCs drew criticism 

from several consumer and civil rights 

groups but strong support from industry 

commenters. For the reasons discussed 

in part VIII.H above, the Board is 

adopting the exclusion as proposed, 

renumbered as § 226.36(d). 

XI. Advertising 

The Board proposed to amend the 

advertising rules for open-end homeequity plans under § 226.16, and for 

closed-end credit under § 226.24, to 

address advertisements for homesecured loans. For open-end homeequity plan advertisements, the two 

most significant proposed changes 

related to the clear and conspicuous 

standard and the advertisement of 

promotional terms. For advertisements 

for closed-end credit secured by a 

dwelling, the three most significant 

proposed changes related to 

strengthening the clear and conspicuous 

standard for advertising disclosures, 

regulating the disclosure of rates and 

payments in advertisements to ensure 

that low promotional or ‘‘teaser’’ rates or 

payments are not given undue 

emphasis, and prohibiting certain acts 

or practices in advertisements as 

provided under Section 129(l)(2) of 

TILA. 

The final rule is substantially similar 

to the proposed rule and adopts, with 

some modifications, each of the 

proposed changes discussed above. The 

most significant changes are: Modifying 

when an advertisement is required to 

disclose certain information about tax 

implications; using the term 

‘‘promotional’’ rather than 

‘‘introductory’’ to describe certain openend credit rates or payments applicable 

for a period less than the term of the 

loan and removing the requirement that 

advertisements with promotional rates 

or payments state the word 

‘‘introductory;’’ excluding radio and 

television advertisements for homeequity plans from the requirements 

regarding promotional rates or 

payments; allowing advertisements for 

closed-end credit to state that payments 

do not include mortgage insurance 

premiums rather than requiring 

advertisements to state the highest and 

lowest payment amounts; and removing 

the prohibition on the use of the term 

‘‘financial advisor’’ by a for-profit 

mortgage broker or mortgage lender. 

Public Comment 

Most commenters were generally 

supportive of the Board’s proposed 

advertising rules. Lenders and their 

trade associations made a number of 

requests for clarification or modification 

of the rules, and a few cautioned that 

requiring too much information be 

disclosed in advertisements could cause 

creditors to avoid advertising specific 

credit terms, thereby depriving 

consumers of useful information. By 

contrast, consumer and community 

groups as well as state and local 

government officials made some 

suggestions for tightening the 

application of the rules. The comments 

are discussed in more detail throughout 

this section as applicable. 

A. Advertising Rules for Open-End 

Home-Equity Plans—§ 226.16 

Overview 

The Board is revising the open-end 

home-equity plan advertising rules in 

§ 226.16. As in the proposal, the two 

most significant changes relate to the 

clear and conspicuous standard and the 

advertisement of promotional terms in 

home-equity plans. Each of these 

proposed changes is summarized below. 

First, as proposed, the Board is 

revising the clear and conspicuous 

standard for home-equity plan 

advertisements, consistent with the 

approach taken in the advertising rules 

for consumer leases under Regulation 

M. See 12 CFR 213.7(b). New 

commentary provisions clarify how the 

clear and conspicuous standard applies 

to advertisements of home-equity plans 

with promotional rates or payments, 

and to Internet, television, and oral 

advertisements of home-equity plans. 

The rule also allows alternative 

disclosures for television and radio 

advertisements for home-equity plans 

by revising the Board’s earlier proposal 

for open-end plans that are not homesecured to apply to home-equity plans 

as well. See 12 CFR 226.16(e) and 72 FR 

32948, 33064 (June 14, 2007). 

Second, the Board is amending the 

regulation and commentary to ensure 

that advertisements adequately disclose 

not only promotional plan terms, but 

also the rates and payments that will 

apply over the term of the plan. The 

changes are modeled after proposed 

amendments to the advertising rules for 

open-end plans that are not homesecured. See 73 FR 28866, 28892 (May 

19, 2008) and 72 FR 32948, 33064 (June 

14, 2007). 

The Board is also implementing 

provisions of the Bankruptcy Abuse 

Prevention and Consumer Protection 

Act of 2005 which requires disclosure of 

the tax implications of certain homeequity plans. See Public Law 109–8, 119 

Stat. 23. Other technical and conforming 

changes are also being made. 

The Board proposed to prohibit 

certain acts or practices connected with 

advertisements for closed-end mortgage 

credit under TILA section 129(l)(2) and 

sought comment on whether it should 

extend any or all of the prohibitions 

contained in proposed § 226.24(i) to 

home-equity plans, or whether there 

were other acts or practices associated 

with advertisements for home-equity 

plans that should be prohibited. The 

final rule does not apply the 

prohibitions contained in § 226.24(i) to 

home-equity plans for the reasons 

discussed below in connection with the 

final rule for closed-end mortgage credit 

advertisements. See discussion of 

§ 226.24(i) below. 

Current Statute and Regulation 

TILA Section 147, implemented by 

the Board in § 226.16(d), governs 

advertisements of open-end homeequity plans secured by the consumer’s 

principal dwelling. 15 U.S.C. 1665b. 

The statute applies to the advertisement 

itself, and therefore, the statutory and 

regulatory requirements apply to any 

person advertising an open-end credit 

plan, whether or not they meet the 

definition of creditor. See comment 

2(a)(2)–2. Under the statute, if an openend credit advertisement sets forth, 

affirmatively or negatively, any of the 

specific terms of the plan, including any 

required periodic payment amount, then 

the advertisement must also clearly and 

conspicuously state: (1) Any loan fee the 

amount of which is determined as a 

percentage of the credit limit and an 

estimate of the aggregate amount of 

other fees for opening the account; (2) 

in any case in which periodic rates may 

be used to compute the finance charge, 

the periodic rates expressed as an 

annual percentage rate; (3) the highest 

annual percentage rate which may be 

imposed under the plan; and (4) any 


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other information the Board may by 

regulation require. 

The specific terms of an open-end 

plan that ‘‘trigger’’ additional 

disclosures, which are commonly 

known as ‘‘triggering terms,’’ are the 

payment terms of the plan, or finance 

charges and other charges required to be 

disclosed under §§ 226.6(a) and 

226.6(b). If an advertisement for a homeequity plan states a triggering term, the 

regulation requires that the 

advertisement also state the terms 

required by the statute. See 12 CFR 

226.16(d)(1); see also comments 16(d)–

1 and –2. 

Authority 

The Board is exercising the following 

authorities in promulgating final rules. 

TILA Section 105(a) authorizes the 

Board to adopt regulations to ensure 

meaningful disclosure of credit terms so 

that consumers will be able to compare 

available credit terms and avoid the 

uninformed use of credit. 15 U.S.C. 

1604(a). TILA Section 122 authorizes 

the Board to require that information, 

including the information required 

under Section 147, be disclosed in a 

clear and conspicuous manner. 15 

U.S.C. 1632. TILA Section 147 also 

requires that information, including any 

other information required by regulation 

by the Board, be clearly and 

conspicuously set forth in such form 

and manner as the Board may by 

regulation require. 15 U.S.C. 1665b. 

Discussion 

Clear and conspicuous standard. The 

Board is adopting as proposed new 

comments 16–2 to –5 to clarify how the 

clear and conspicuous standard applies 

to advertisements for home-equity 

plans. 

Comment 16–1 explains that 

advertisements for open-end credit are 

subject to a clear and conspicuous 

standard set forth in § 226.5(a)(1). The 

Board is not prescribing specific rules 

regarding the format of advertisements. 

However, new comment 16–2 elaborates 

on the requirement that certain 

disclosures about promotional rates or 

payments in advertisements for homeequity plans be prominent and in close 

proximity to the triggering terms in 

order to satisfy the clear and 

conspicuous standard when 

promotional rates or payments are 

advertised and the disclosure 

requirements of new § 226.16(d)(6) 

apply. The disclosures are deemed to 

meet this requirement if they appear 

immediately next to or directly above or 

below the trigger terms, without any 

intervening text or graphical displays. 

Terms required to be disclosed with 

equal prominence to the promotional 

rate or payment are deemed to meet this 

requirement if they appear in the same 

type size as the trigger terms. A more 

detailed discussion of the requirements 

for promotional rates or payments is 

found below. 

The equal prominence and close 

proximity requirements of § 226.16(d)(6) 

apply to all visual text advertisements 

except for television advertisments. 

However, comment 16–2 states that 

electronic advertisements that disclose 

promotional rates or payments in a 

manner that complies with the Board’s 

recently amended rule for electronic 

advertisements under § 226.16(c) are 

deemed to satisfy the clear and 

conspicuous standard. See 72 FR 63462 

(Nov. 9, 2007). Under the rule, if an 

electronic advertisement provides the 

required disclosures in a table or 

schedule, any statement of triggering 

terms elsewhere in the advertisement 

must clearly direct the consumer to the 

location of the table or schedule. For 

example, a triggering term in an 

advertisement on an Internet Web site 

may be accompanied by a link that 

directly takes the consumer to the 

additional information. See comment 

16(c)(1)–2. 

The Board sought comment on 

whether it should amend the rules for 

electronic advertisements for homeequity plans to require that all 

information about rates or payments 

that apply for the term of the plan be 

stated in close proximity to promotional 

rates or payments in a manner that does 

not require the consumer to click a link 

to access the information. The majority 

of commenters who addressed this issue 

urged the Board to adopt comment 16–

2 as proposed. They noted that many 

electronic advertisements on the 

Internet are displayed in small areas, 

such as in banner advertisements or 

next to search engine results, and 

requiring information about the rates or 

payments that apply for the term of the 

plan to be in close proximity to the 

promotional rates or payments would 

not be practical. These commenters also 

suggested that Internet users are 

accustomed to clicking on links in order 

to find further information. Commenters 

also expressed concern about the 

practicality of requiring closely 

proximate disclosures in electronic 

advertisements that may be displayed 

on devices with small screens, such as 

on Internet-enabled cellular phones or 

personal digital assistants, that might 

necessitate scrolling or clicking on links 

in order to view additional information. 

The Board is adopting comment 16–

2 as proposed. The Board agrees that 

requiring disclosures of information 

about rates or payments that apply for 

the term of the plan to be in close 

proximity to promotional rates or 

payments would not be practical for 

many electronic advertisements and that 

the requirements of § 226.16(c) 

adequately ensure that consumers 

viewing electronic advertisements have 

access to important additional 

information about the terms of the 

advertised product. 

The Board is also adopting as 

proposed new comments to interpret the 

clear and conspicuous standards for 

Internet, television, and oral 

advertisements of home-equity plans. 

New comment 16–3 explains that 

disclosures in the context of visual text 

advertisements on the Internet must not 

be obscured by techniques such as 

graphical displays, shading, coloration, 

or other devices, and must comply with 

all other requirements for clear and 

conspicuous disclosures under 

§ 226.16(d). New comment 16–4 

likewise explains that textual 

disclosures in television advertisements 

must not be obscured by techniques 

such as graphical displays, shading, 

coloration, or other devices, must be 

displayed in a manner that allows the 

consumer to read the information, and 

must comply with all other 

requirements for clear and conspicuous 

disclosures under § 226.16(d). The 

Board believes, however, that this rule 

can be applied with some flexibility to 

account for variations in the size of 

television screens. For example, a 

lender would not violate the clear and 

conspicuous standard if the print size 

used was not legible on a handheld or 

portable television. New comment 16–5 

explains that oral advertisements, such 

as by radio or television, must provide 

disclosures at a speed and volume 

sufficient for a consumer to hear and 

comprehend them. In this context, the 

word ‘‘comprehend’’ means that the 

disclosures must be intelligible to 

consumers, not that advertisers must 

ensure that consumers understand the 

meaning of the disclosures. The Board 

is also allowing the use of a toll-free 

telephone number as an alternative to 

certain disclosures in radio and 

television advertisements. 

Section 226.16(d)(2)—Discounted and 

Premium Rates 

If an advertisement for a variable-rate 

home-equity plan states an initial 

annual percentage rate that is not based 

on the index and margin used to make 

later rate adjustments, the advertisement 

must also state the period of time the 

initial rate will be in effect, and a 

reasonably current annual percentage 

rate that would have been in effect using 


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the index and margin. See 12 CFR 

226.16(d)(2). The Board is adopting as 

proposed revisions to this section to 

require that the triggered disclosures be 

stated with equal prominence and in 

close proximity to the statement of the 

initial APR. The Board believes that this 

will enhance consumers’ understanding 

of the cost of credit for the home-equity 

plan being advertised. 

As proposed, new comment 16(d)–6 

provides safe harbors for what 

constitutes a ‘‘reasonably current index 

and margin’’ as used in § 226.16(d)(2) as 

well as § 226.16(d)(6). Under the 

comment, the time period during which 

an index and margin are considered 

reasonably current depends on the 

medium in which the advertisement 

was distributed. For direct mail 

advertisements, a reasonably current 

index and margin is one that was in 

effect within 60 days before mailing. For 

printed advertisements made available 

to the general public and for 

advertisements in electronic form, a 

reasonably current index and margin is 

one that was in effect within 30 days 

before printing, or before the 

advertisement was sent to a consumer’s 

e-mail address, or for advertisements 

made on an Internet Web site, when 

viewed by the public. 

Section 226.16(d)(3)–Balloon Payment 

Existing § 226.16(d)(3) requires that if 

an advertisement for a home-equity plan 

contains a statement about any 

minimum periodic payment, the 

advertisement must also state, if 

applicable, that a balloon payment may 

result. As proposed, the Board is 

revising this section to clarify that only 

statements of the amount of any 

minimum periodic payment trigger the 

required disclosure, and to require that 

the disclosure of a balloon payment be 

equally prominent and in close 

proximity to the statement of a 

minimum periodic payment. Consistent 

with comment 5b(d)(5)(ii)–3, the Board 

is clarifying that the disclosure is 

triggered when an advertisement 

contains a statement of any minimum 

periodic payment amount and a balloon 

payment may result if only minimum 

periodic payments are made, even if a 

balloon payment is uncertain or 

unlikely. Additionally, the Board is 

clarifying that a balloon payment results 

if paying the minimum periodic 

payments would not fully amortize the 

outstanding balance by a specified date 

or time, and the consumer must repay 

the entire outstanding balance at such 

time. 

The final rule, as proposed, 

incorporates the language from existing 

comment 16(d)–7 into the text of 

§ 226.16(d)(3) with technical revisions. 

The comment is revised and 

renumbered as comment 16(d)–9. The 

required disclosures regarding balloon 

payments must be stated with equal 

prominence and in close proximity to 

the minimum periodic payment. The 

Board believes that this will enhance 

consumers’ ability to notice and 

understand the potential financial 

impact of making only minimum 

payments. 

Section 226.16(d)(4)—Tax Implications 

Section 1302 of the Bankruptcy Act 

amends TILA Section 147(b) to require 

additional disclosures for 

advertisements that are disseminated in 

paper form to the public or through the 

Internet, relating to an extension of 

credit secured by a consumer’s principal 

dwelling that may exceed the fair 

market value of the dwelling. Such 

advertisements must include a 

statement that the interest on the 

portion of the credit extension that is 

greater than the fair market value of the 

dwelling is not deductible for Federal 

income tax purposes. 15 U.S.C. 

1665b(b). The statute also requires a 

statement that the consumer should 

consult a tax adviser for further 

information on the tax deductibility of 

the interest. 

The Bankruptcy Act also requires that 

disclosures be provided at the time of 

application in cases where the extension 

of credit may exceed the fair market 

value of the dwelling. See 15 U.S.C. 

1637a(a)(13). The Board intends to 

implement the application disclosure 

portion of the Bankruptcy Act during its 

forthcoming review of closed-end and 

HELOC disclosures under TILA. 

However, the Board requested comment 

on the implementation of both the 

advertising and application disclosures 

under this provision of the Bankruptcy 

Act for open-end credit in its October 

17, 2005, ANPR. 70 FR 60235, 60244 

(Oct. 17, 2005). A majority of comments 

on this issue addressed only the 

application disclosure requirement, but 

some commenters specifically 

addressed the advertising disclosure 

requirement. One industry commenter 

suggested that the advertising disclosure 

requirement apply only in cases where 

the advertised product allows for the 

credit to exceed the fair market value of 

the dwelling. Other industry 

commenters suggested that the 

requirement apply only to 

advertisements for products that are 

intended to exceed the fair market value 

of the dwelling. 

The Board proposed to revise 

§ 226.16(d)(4) and comment 16(d)–3 to 

implement TILA Section 147(b). The 

Board’s proposal applied the new 

requirements to advertisements for 

home-equity plans where the advertised 

extension of credit may, by its terms, 

exceed the fair market value of the 

dwelling. The Board sought comment 

on whether the new requirements 

should instead apply to only 

advertisements that state or imply that 

the creditor provides extensions of 

credit greater than the fair market value 

of the dwelling. Of the few commenters 

who addressed this issue, the majority 

were in favor of the alternative approach 

because many home-equity plans may, 

in some circumstances, allow for 

extensions of credit greater than the fair 

market value of the dwelling and 

advertisers would likely include the 

disclosure in nearly all advertisements. 

The final rule differs from the 

proposed rule and requires that the 

additional tax implication disclosures 

be given only when an advertisement 

states that extensions of credit greater 

than the fair market value of the 

dwelling are available. The rule does 

not apply to advertisements that merely 

imply that extensions of credit greater 

than the fair market value of the 

dwelling may occur. By limiting the 

required disclosures to only those 

advertisements that state that extensions 

of credit greater than the fair market 

value of the dwelling are available, the 

Board believes the rule will provide the 

required disclosures to consumers when 

they are most likely to be receptive to 

the information while avoiding 

overloading consumers with 

information about the tax consequences 

of home-equity plans when it is less 

likely to be meaningful to them. 

Comment 16(d)–3 is revised to 

conform to the final rule and to clarify 

when an advertisement must give the 

disclosures required by § 226.16(d)–4 

for all home-equity plan advertisements 

that refer to tax deductibility and when 

an advertisement must give the new 

disclosures relating to extensions of 

credit greater than the fair market value 

of the consumer’s dwelling. 

Section 226.16(d)(6)—Promotional Rates 

and Payments 

The Board proposed to add 

§ 226.16(d)(6) to address the 

advertisement of promotional (termed 

‘‘introductory’’ in the proposal) rates 

and payments in advertisements for 

home-equity plans. The proposed rule 

provided that if an advertisement for a 

home-equity plan stated a promotional 

rate or payment, the advertisement must 

use the term ‘‘introductory’’ or ‘‘intro’’

in immediate proximity to each mention 

of the promotional rate or payment. The 

proposed rule also provided that such 


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advertisements must disclose the 

following information in a clear and 

conspicuous manner with each listing of 

the promotional rate or payment: The 

period of time during which the 

promotional rate or promotional 

payment will apply; in the case of a 

promotional rate, any annual percentage 

rate that will apply under the plan; and, 

in the case of a promotional payment, 

the amount and time periods of any 

payments that will apply under the 

plan. In variable-rate transactions, 

payments determined based on 

application of an index and margin to 

an assumed balance would be required 

to be disclosed based on a reasonably 

current index and margin. 

The final rule excludes radio and 

television advertisements for homeequity plans from the requirements of 

§ 226.16(d)(6). This modification is 

consistent with the approach the Board 

proposed, and is adopting, for 

§ 226.24(f) which contains similar 

requirements for advertisements for 

closed-end credit that is home-secured. 

See § 226.24(f)(1). As the Board noted in 

the supplementary information to the 

proposal for advertisements for homesecured closed-end loans, the Board 

does not believe it is feasible to apply 

the requirements of this section, notably 

the close proximity and prominence 

requirements, to oral advertisements. 

The Board also sought comment in 

connection with closed-end homesecured loans on whether these or 

different standards should be applied to 

oral advertisements for home-secured 

loans but commenters did not address 

this issue. 

The final rule also differs from the 

proposed rule in using the term 

‘‘promotional’’ rather than 

‘‘introductory’’ to describe the rates and 

payments covered by § 226.16(d)(6). The 

final rule also does not adopt proposed 

§ 226.16(d)(6)(ii) and proposed 

comment 16(d)–5.ii which required that 

advertisements with promotional rates 

or payments state the term 

‘‘introductory’’ or ‘‘intro’’ in immediate 

proximity to each listing of a 

promotional rate or payment. Some 

industry commenters noted that 

consumers might be confused by the use 

of the term ‘‘introductory’’ in cases 

where it applied to a promotional rate 

or payment that was not the initial rate 

or payment. 

The Board received similar comments 

in response to its earlier proposal for 

open-end plans that are not homesecured, and the Board subsequently 

issued a new proposal for those plans 

that would use the term ‘‘promotional’’

rather than ‘‘introductory’’ and require 

that advertisements state the word 

‘‘introductory’’ only for promotional 

rates offered in connection with an 

account opening. 73 FR 28866, 28892 

(May 9, 2008). The Board is adopting 

the term ‘‘promotional’’ rather than 

‘‘introductory’’ in the rule, but the 

Board is not requiring open-end homeequity plans to state the word 

‘‘introductory’’ for promotional rates or 

payments offered in connection with the 

opening of an account. While the term 

‘‘introductory’’ is common in other 

consumer credit contexts, such as credit 

cards, it may not be as meaningful to 

consumers in the context of 

advertisements for home-equity plans 

and may be confusing to some 

consumers in that context. The Board 

believes that the information required to 

be disclosed under § 226.16(d)(6) is 

sufficient to inform consumers that 

advertised promotional terms will not 

apply for the full term of the plan. 

Commenters also expressed confusion 

about the distinction between 

promotional rates under § 226.16(d)(6) 

and discounted and premium rates 

under § 226.16(d)(2). While some 

advertised rates may be covered under 

both § 226.16(d)(2) and § 226.16(d)(6), 

each rule covers some rates that the 

other does not. The definition of a 

promotional rate under § 226.16(d)(6) is 

not limited to initial rates; a rate that is 

not based on the index and margin used 

to make rate adjustments under the plan 

may be a promotional rate even if it is 

not the first rate that applies. At the 

same time, § 226.16(d)(6) applies to a 

rate that is not based on the index and 

margin that will be used to make later 

rate adjustments under the plan only if 

that rate is less than a reasonably 

current annual percentage rate that 

would be in effect under the index and 

margin used to make rate adjustments. 

By contrast, § 226.16(d)(2) applies to an 

initial annual percentage rate that is not 

based on the index and margin used to 

make later rate adjustments regardless of 

whether the later rate would be greater 

or less than the initial rate. 

Section 226.16(d)(6)(i)—Definitions. 

The Board proposed to define the terms 

‘‘introductory rate,’’ ‘‘introductory 

payment,’’ and ‘‘introductory period’’ in 

§ 226.16(d)(6)(i). The final rule uses the 

terms ‘‘promotional rate,’’ ‘‘promotional 

payment,’’ and ‘‘promotional period’’

instead and the definition of 

‘‘promotional payment’’ is clarified to 

refer to the minimum payments under a 

home-equity plan, but the final rule is 

otherwise as proposed. In a variable-rate 

plan, the term ‘‘promotional rate’’

means any annual percentage rate 

applicable to a home-equity plan that is 

not based on the index and margin that 

will be used to make rate adjustments 

under the plan, if that rate is less than 

a reasonably current annual percentage 

rate that would be in effect based on the 

index and margin that will be used to 

make rate adjustments under the plan. 

The term ‘‘promotional payment’’

means, in the case of a variable-rate 

plan, the amount of any minimum 

payment applicable to a home-equity 

plan for a promotional period that is not 

derived from the index and margin that 

will be used to determine the amount of 

any other minimum payments under the 

plan and, given an assumed balance, is 

less than any other minimum payment 

that will be in effect under the plan 

based on a reasonably current 

application of the index and margin that 

will be used to determine the amount of 

such payments. For a non-variable-rate 

plan, the term ‘‘promotional payment’’

means the amount of any minimum 

payment applicable to a home-equity 

plan for a promotional period if that 

payment is less than the amount of any 

other payments required under the plan 

given an assumed balance. The term 

‘‘promotional period’’ means a period of 

time, less than the full term of the loan, 

that the promotional rate or payment 

may be applicable. 

As proposed, comment 16(d)–5.i 

clarifies how the concepts of 

promotional rates and promotional 

payments apply in the context of 

advertisements for variable-rate plans. 

Specifically, the comment provides that 

if the advertised annual percentage rate 

or the advertised payment is based on 

the index and margin that will be used 

to make rate or payment adjustments 

over the term of the loan, then there is 

no promotional rate or promotional 

payment. On the other hand, if the 

advertised annual percentage rate, or the 

advertised payment, is not based on the 

index and margin that will be used to 

make rate or payment adjustments, and 

a reasonably current application of the 

index and margin would result in a 

higher annual percentage rate or, given 

an assumed balance, a higher payment, 

then there is a promotional rate or 

promotional payment. 

The revisions generally assume that a 

single index and margin will be used to 

make rate or payment adjustments 

under the plan. The Board sought 

comment on whether and to what extent 

multiple indexes and margins are used 

in home-equity plans and whether 

additional or different rules are needed 

for such products. Commenters stated 

that multiple indexes and margins 

generally are not used within the same 

plan, but requested clarification on how 

the requirements of § 226.16(d)(6) 

would apply to advertisements that 

contain information about rates or 


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payments based on an index and margin 

available under the plan to certain 

consumers, such as those with certain 

credit scores, but where a different 

margin may be offered to other 

consumers. The definitions of 

promotional rate and promotional 

payment refer to the rates or payments 

under the advertised plan. If rate 

adjustments will be based on only one 

index and margin for each consumer, 

the fact that the advertised rate or 

payment may not be available to all 

borrowers does not make the advertised 

rate or payment a promotional one. 

However, an advertisement for openend credit may state only those terms 

that actually are or will be arranged or 

offered by the creditor. See 12 CFR 

226.16(a). 

One banking industry trade group 

commenter sought an exception from 

the definition of promotional rate and 

promotional payment for initial rates 

that are derived by applying the index 

and margin used to make rate 

adjustments under the loan, but 

calculated in a slightly different manner 

than will be used to make later rate 

adjustments. For example, an initial rate 

may be calculated based on the index in 

effect as of the closing or lock-in date, 

rather than another date which will be 

used to make other rate adjustments 

under the plan such as the 15th day of 

the month preceding the anniversary of 

the closing date. The Board is not 

adopting an exception from the 

definition of promotional rate and 

promotional payment. However, the 

Board believes that an initial rate in the 

example described above would still be 

‘‘based on’’ the index and margin used 

to make other rate adjustments under 

the plan and therefore would not be a 

promotional rate. 

Some industry commenters sought an 

exclusion from the definition of 

promotional rate and promotional 

payment for plans that apply different 

rates or payments to a draw period and 

to a repayment period. For example, 

some plans may provide for interestonly payments during a draw period 

and fully-amortizing payments during a 

repayment period. Consistent with the 

requirements for application disclosures 

under § 226.5b, the Board is not 

adopting exceptions for plans with draw 

periods and repayment periods. If an 

advertisement states a promotional rate 

or payment offered during a draw 

period it must provide the required 

disclosures about the rates or payments 

that apply for the term of the plan. The 

Board believes that such information 

will help consumers understand the full 

cost of the credit over the term of the 

plan. 

Commenters also sought to exclude 

advertisements for plans that permit the 

consumer to repay all or part of the 

balance during the draw period at a 

fixed rate, rather than a variable rate, 

from the promotional rate and payment 

requirements. These commenters 

expressed concern that they did not 

know at the advertising stage whether 

consumers would choose the fixed-rate 

conversion option and that disclosing 

plans that offer the option as though a 

consumer had chosen it could lead to 

confusion. Regulation Z already requires 

fixed-rate conversion options to be 

disclosed in applications for variablerate home-equity plans. See comment 

5b(d)(5)(ii)–2. The Board believes that 

requiring information about fixed-rate 

conversion options to be disclosed in 

advertisements could confuse 

consumers about a feature that is 

optional. New comment 16(d)–5.v states 

that the presence of a fixed-rate 

conversion option does not, by itself, 

make a rate (or payment) a promotional 

one. 

Similarly, some industry commenters 

also sought an exception from the 

definition of promotional rate and 

payment for plans with preferred-rate 

provisions, where the rate will increase 

upon the occurrence of some event. For 

example, the consumer may be given a 

preferred rate for electing to make 

automated payments but that preferredrate would end if the consumer later 

ceases that election. Regulation Z 

already requires preferred-rate 

provisions to be disclosed in 

applications for variable-rate homeequity plans. See comment 

5b(d)(12)(viii)–1. The Board believes 

that requiring information about 

preferred-rate provisions to be disclosed 

at the advertising stage is less likely to 

be meaningful to consumers who are 

usually gathering general rate and 

payment information about multiple 

plans and are less likely to focus on 

disclosures about preferred-rate terms 

and conditions. New comment 16(d)–

5.vi states that the presence of a 

preferred-rate provision does not, by 

itself, make a rate (or payment) a 

promotional one. 

Comment 16(d)–5.iv, renumbered but 

otherwise adopted as proposed, clarifies 

how the concept of promotional 

payments applies in the context of 

advertisements for non-variable-rate 

plans. Specifically, the comment 

provides that if the advertised payment 

is calculated in the same way as other 

payments under the plan based on an 

assumed balance, the fact that the 

minimum payment could increase 

solely if the consumer made an 

additional draw does not make the 

payment a promotional payment. For 

example, if a minimum payment of $500 

results from an assumed $10,000 draw, 

and the minimum payment would 

increase to $1,000 if the consumer made 

an additional $10,000 draw, the 

payment is not a promotional payment. 

Section 226.16(d)(6)(ii)—Stating the 

promotional period and postpromotional rate or payments. Section 

226.16(d)(6)(ii), renumbered and 

modified to exclude radio and television 

advertisements, but otherwise adopted 

as proposed, provides that if an 

advertisement states a promotional rate 

or promotional payment, it must also 

clearly and conspicuously disclose, 

with equal prominence and in close 

proximity to the promotional rate or 

payment, the following, as applicable: 

The period of time during which the 

promotional rate or promotional 

payment will apply; in the case of a 

promotional rate, any annual percentage 

rate that will apply under the plan; and, 

in the case of a promotional payment, 

the amount and time periods of any 

payments that will apply under the 

plan. In variable-rate transactions, 

payments that will be determined based 

on application of an index and margin 

to an assumed balance must be 

disclosed based on a reasonably current 

index and margin. 

Proposed comment 16(d)–5.iii 

provided safe harbors for satisfying the 

closely proximate or equally prominent 

requirements of proposed 

§ 226.16(d)(6)(iii). Specifically, the 

required disclosures would be deemed 

to be closely proximate to the 

promotional rate or payment if they 

were in the same paragraph as the 

promotional rate or payment. 

Information disclosed in a footnote 

would not be deemed to be closely 

proximate to the promotional rate or 

payment. Some commenters noted that 

the safe harbor definition of ‘‘closely 

proximate’’ in this comment (that the 

required disclosures be in the same 

paragraph as the promotional rate or 

payment) differed from the definition of 

‘‘closely proximate’’ in comment 16–2 

(that the required disclosures be 

immediately next to or directly above or 

below the promotional rate or payment). 

The Board is modifying final comment 

16(d)–5.ii, as renumbered, to match the 

definition of ‘‘closely proximate’’ in 

comment 16–2. However, the Board is 

retaining the part of the safe harbor that 

disallows the use of footnotes. 

Consumer testing of account-opening 

and other disclosures undertaken in 

conjunction with the Board’s open-end 

Regulation Z proposal suggests that 

placing information in a footnote makes 

it much less likely that the consumer 


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will notice it. As proposed, the required 

disclosures will be deemed equally 

prominent with the promotional rate or 

payment if they are in the same type 

size as the promotional rate or payment. 

Comment 16(d)–5.iii clarifies that the 

requirement to disclose the amount and 

time periods of any payments that will 

apply under the plan may require the 

disclosure of several payment amounts, 

including any balloon payments. The 

comment provides an example of a 

home-equity plan with several payment 

amounts over the repayment period to 

illustrate the disclosure requirements. 

The comment has been modified from 

the proposal, in response to public 

comment, to add a clarification that the 

final payment need not be disclosed if 

it is not greater than two times the 

amount of any other minimum 

payments under the plan. Comment 

16(d)–6, which is discussed above, 

provides safe harbor definitions for the 

phrase ‘‘reasonably current index and 

margin.’’

Section 226.16(d)(6)(iii)—Envelope 

excluded. Section 226.16(d)(6)(iii), 

renumbered but otherwise adopted as 

proposed, provides that the 

requirements of § 226.16(d)(6)(ii) do not 

apply to envelopes, or to banner 

advertisements and pop-up 

advertisements that are linked to an 

electronic application or solicitation 

provided electronically. In the Board’s 

view, because banner advertisements 

and pop-up advertisements are used to 

direct consumers to more detailed 

advertisements, they are similar to 

envelopes in the direct mail context. 

Section 226.16(e)—Alternative 

Disclosures—Television or Radio 

Advertisements 

The Board is adopting § 226.16(e), as 

renumbered, to allow for alternative 

disclosures of the information required 

for home-equity plans under 

§ 226.16(d)(1), where applicable. The 

supplementary information to the 

proposal referred to these as alternative 

disclosures for oral advertisements, but 

the proposed regulation text did not 

limit the alternative disclosures to oral 

advertisements. The proposed 

regulation text was consistent with the 

Board’s proposal for credit cards and 

other open-end plans. See proposed 

§ 226.16(f) and 72 FR 32948, 33064 

(June 14, 2007). The final rule does not 

limit the alternative disclosures to oral 

advertisements. The final rule does, 

however, limit § 226.16(e)’s application 

to advertisements for home-equity plans 

and redesignates it from § 226.16(f) to 

§ 226.16(e). These changes are meant to 

conform the rule to the existing 

regulation, but the Board notes that its 

proposal for open-end plans that are not 

home-secured, if adopted, would 

expand the rule to allow for alternative 

disclosures for all advertisements for 

open-end credit. In addition, § 226.16(e) 

permits an advertisement to provide 

either a toll-free telephone number or a 

telephone number that allows a 

consumer to reverse the telephone 

charges when calling for information. 

The final rule also adds new 

commentary clarifying the alternative 

disclosure option. This commentary was 

included in the Board’s earlier proposal 

for credit cards and other open-end 

plans, and is substantively the same as 

the commentary for alternative 

disclosures for advertisements for 

closed-end credit under § 226.24(g). See 

72 FR 32948, 33144 (June 14, 2007), and 

comments 24(g)–1 and 24(g)–2. 

The Board’s revision follows the 

general format of the Board’s earlier 

proposal for alternative disclosures for 

television and radio advertisements. If a 

triggering term is stated in the 

advertisement, one option is to state 

clearly and conspicuously each of the 

disclosures required by §§ 226.16(b)(1) 

and (d)(1). Another option is for the 

advertisement to state clearly and 

conspicuously the APR applicable to the 

home-equity plan, and the fact that the 

rate may be increased after 

consummation, and provide a telephone 

number that the consumer may call to 

receive more information. Given the 

space and time constraints on television 

and radio advertisements, the required 

disclosures may go unnoticed by 

consumers or be difficult for them to 

retain. Thus, providing an alternative 

means of disclosure may be more 

effective in many cases given the nature 

of the media. 

This approach is also similar to the 

approach taken in the advertising rules 

for consumer leases under Regulation 

M, which also allows the use of toll-free 

numbers in television and radio 

advertisements. See 12 CFR 

213.7(f)(1)(ii). 

B. Advertising Rules for Closed-End 

Credit—§ 226.24 

Overview 

The Board proposed to amend the 

closed-end credit advertising rules in 

§ 226.24 to address advertisements for 

home-secured loans. The three most 

significant aspects of the proposal 

related to strengthening the clear and 

conspicuous standard for advertising 

disclosures, regulating the disclosure of 

rates and payments in advertisements to 

ensure that low promotional or ‘‘teaser’’

rates or payments are not given undue 

emphasis, and prohibiting certain acts 

or practices in advertisements as 

provided under TILA Section 129(l)(2), 

15 U.S.C. 1639(l)(2). 

The final rule is substantially similar 

to the proposed rule and adopts, with 

some modifications, each of the 

proposed changes discussed above. 

First, the Board is adding a provision 

setting forth the clear and conspicuous 

standard for all closed-end 

advertisements and a number of new 

commentary provisions applicable to 

advertisements for home-secured loans. 

The regulation is being revised to 

include a clear and conspicuous 

standard for advertising disclosures, 

consistent with the approach taken in 

the advertising rules for Regulation M. 

See 12 CFR 213.7(b). New staff 

commentary provisions are added to 

clarify how the clear and conspicuous 

standard applies to rates or payments in 

advertisements for home-secured loans, 

and to Internet, television, and oral 

advertisements of home-secured loans. 

The final rule also adds a provision to 

allow alternative disclosures for 

television and radio advertisements that 

is modeled after a proposed revision to 

the advertising rules for open-end (not 

home-secured) plans. See 72 FR 32948, 

33064 (June 14, 2007). 

Second, the Board is amending the 

regulation and commentary to address 

the advertisement of rates and payments 

for home-secured loans. The revisions 

are designed to ensure that 

advertisements adequately disclose all 

rates or payments that will apply over 

the term of the loan and the time 

periods for which those rates or 

payments will apply. Many 

advertisements for home-secured loans 

emphasize low, promotional ‘‘teaser’’

rates or payments that will apply for a 

limited period of time. Such 

advertisements often do not give 

consumers accurate or balanced 

information about the costs or terms of 

the products offered. 

The revisions also prohibit 

advertisements from disclosing an 

interest rate lower than the rate at which 

interest is accruing. Instead, the only 

rates that may be included in 

advertisements for home-secured loans 

are the APR and one or more simple 

annual rates of interest. Many 

advertisements for home-secured loans 

promote very low rates that do not 

appear to be the rates at which interest 

is accruing. The advertisement of 

interest rates lower than the rate at 

which interest is accruing is likely 

confusing for consumers. Taken 

together, the Board believes that the 

changes regarding the disclosure of rates 

and payments in advertisements for 

home-secured loans will enhance the 


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accuracy of advertising disclosures and 

benefit consumers. 

Third, pursuant to TILA Section 

129(l)(2), 15 U.S.C. 1639(l)(2), the Board 

is prohibiting seven specific acts or 

practices in connection with 

advertisements for home-secured loans 

that the Board finds to be unfair, 

deceptive, associated with abusive 

lending practices, or otherwise not in 

the interest of the borrower. 

Bankruptcy Act changes. The Board is 

also making several changes to clarify 

certain provisions of the closed-end 

advertising rules, including the scope of 

certain triggering terms, and to 

implement provisions of the Bankruptcy 

Abuse Prevention and Consumer 

Protection Act of 2005 requiring 

disclosure of the tax implications of 

home-secured loans. See Public Law 

109–8, 119 Stat. 23. Technical and 

conforming changes to the closed-end 

advertising rules are also made. 

Public Comment 

As discussed above, the Board 

received numerous, mostly positive, 

comments on the proposed revisions. 

Specific comments requesting 

modifications or clarifications to the 

proposed requirements for 

advertisements for closed-end homesecured credit are discussed below as 

applicable. 

Current Statute and Regulation 

TILA Section 144, implemented by 

the Board in § 226.24, governs 

advertisements of credit other than 

open-end plans. 15 U.S.C. 1664. TILA 

Section 144 thus applies to 

advertisements of closed-end credit, 

including advertisements for closed-end 

credit secured by a dwelling (also 

referred to as ‘‘home-secured loans’’). 

The statute applies to the advertisement 

itself, and therefore, the statutory and 

regulatory requirements apply to any 

person advertising closed-end credit, 

whether or not such person meets the 

definition of creditor. See comment 

2(a)(2)–2. Under the statute, if an 

advertisement states the rate of a finance 

charge, the advertisement must state the 

rate of that charge as an APR. In 

addition, closed-end credit 

advertisements that contain certain 

terms must also include additional 

disclosures. The specific terms of 

closed-end credit that ‘‘trigger’’

additional disclosures, which are 

commonly known as ‘‘triggering terms,’’

are (1) the amount of the downpayment, 

if any, (2) the amount of any installment 

payment, (3) the dollar amount of any 

finance charge, and (4) the number of 

installments or the period of repayment. 

If an advertisement for closed-end credit 

states a triggering term, then the 

advertisement must also state any 

downpayment, the terms of repayment, 

and the rate of the finance charge 

expressed as an APR. See 12 CFR 

226.24(c)–(d) (as redesignated from 

§§ 226.24(b)–(c)) and the staff 

commentary thereunder. 

Authority 

The Board is exercising the following 

authorities in promulgating final rules. 

TILA Section 105(a) authorizes the 

Board to adopt regulations to ensure 

meaningful disclosure of credit terms so 

that consumers will be able to compare 

available credit terms and avoid the 

uninformed use of credit. 15 U.S.C. 

1604(a). TILA Section 122 authorizes 

the Board to require that information, 

including the information required 

under Section 144, be disclosed in a 

clear and conspicuous manner. 15 

U.S.C. 1632. TILA Section 129(l)(2) 

authorizes the Board to prohibit acts or 

practices in connection with mortgage 

loans that the Board finds to be unfair 

or deceptive. TILA Section 129(l)(2) also 

authorizes the Board to prohibit acts or 

practices in connection with the 

refinancing of mortgage loans that the 

Board finds to be associated with 

abusive lending practices, or that are 

otherwise not in the interest of the 

borrower. 15 U.S.C. 1639(l)(2). 

Section 226.24(b)—Clear and 

Conspicuous Standard 

As proposed, the Board is adding a 

clear and conspicuous standard in 

§ 226.24(b) that applies to all closed-end 

advertising. This provision 

supplements, rather than replaces, the 

clear and conspicuous standard that 

applies to all closed-end credit 

disclosures under Subpart C of 

Regulation Z and that requires all 

disclosures to be in a reasonably 

understandable form. See 12 CFR 

226.17(a)(1); comment 17(a)(1)–1. The 

new provision provides a framework for 

clarifying how the clear and 

conspicuous standard applies to 

advertisements that are not in writing or 

in a form that the consumer may keep, 

or that emphasize promotional rates or 

payments. 

Existing comment 24–1 explains that 

advertisements for closed-end credit are 

subject to a clear and conspicuous 

standard based on § 226.17(a)(1). The 

comment is renumbered as comment 

24(b)–1 and revised to reference the 

format requirements for advertisements 

of rates or payments for home-secured 

loans. The Board is not prescribing 

specific rules regarding the format of 

advertising disclosures generally. 

However, comment 24(b)–2 elaborates 

on the requirement that certain 

disclosures about rates or payments in 

advertisements for home-secured loans 

be prominent and in close proximity to 

other information about rates or 

payments in the advertisement in order 

to satisfy the clear and conspicuous 

standard and the disclosure 

requirements of § 226.24(f). Terms 

required to be disclosed in close 

proximity to other rate or payment 

information are deemed to meet this 

requirement if they appear immediately 

next to or directly above or below the 

trigger terms, without any intervening 

text or graphical displays. Terms 

required to be disclosed with equal 

prominence to other rate or payment 

information are deemed to meet this 

requirement if they appear in the same 

type size as other rates or payments. The 

requirements for disclosing rates or 

payments are discussed in more detail 

below. 

The equal prominence and close 

proximity requirements of § 226.24(f) 

apply to all visual text advertisements 

except for television advertisements. 

However, comment 24(b)–2 states that 

electronic advertisements that disclose 

rates or payments in a manner that 

complies with the Board’s recently 

amended rule for electronic 

advertisements under § 226.24(e) are 

deemed to satisfy the clear and 

conspicuous standard. See 72 FR 63462 

(Nov. 9, 2007). Under the existing rule 

for electronic advertisements, if an 

electronic advertisement provides the 

required disclosures in a table or 

schedule, any statement of triggering 

terms elsewhere in the advertisement 

must clearly direct the consumer to the 

location of the table or schedule. For 

example, a triggering term in an 

advertisement on an Internet Web site 

may be accompanied by a link that takes 

the consumer directly to the additional 

information. See comment 24(e)–4. 

The Board sought comment on 

whether it should amend the rules for 

electronic advertisements for homesecured loans to require that 

information about rates or payments 

that apply for the term of the loan be 

stated in close proximity to other rates 

or payments in a manner that does not 

require the consumer to click on a link 

to access the information. The Board 

also solicited comment on the costs and 

practical limitations, if any, of imposing 

this close proximity requirement on 

electronic advertisements. The majority 

of commenters who addressed this issue 

urged the Board to adopt comment 

24(b)–2 as proposed. They noted that 

many electronic advertisements on the 

Internet are displayed in small areas, 

such as in banner advertisements or 


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next to search engine results, and 

requiring information about the rates or 

payments that apply for the term of the 

loan in close proximity to all other 

applicable rates or payments would not 

be practical. These commenters also 

suggested that Internet users are 

accustomed to clicking on links in order 

to find further information. Commenters 

also expressed concern about the 

practicality of requiring closely 

proximate disclosures in electronic 

advertisements that may be displayed 

on devices with small screens, such as 

on Internet-enabled cellular telephones 

or personal digital assistants, that might 

necessitate scrolling or clicking on links 

in order to view additional information. 

The Board is adopting comment 

24(b)–2 as proposed. The Board agrees 

that requiring disclosures of information 

about rates or payments that apply for 

the term of the loan to be in close 

proximity to information about all other 

rates or payments would not be 

practical for many electronic 

advertisements, and that the 

requirements of § 226.24(e) adequately 

ensure that consumers viewing 

electronic advertisements have access to 

important additional information about 

the terms of the advertised product. 

The Board is also adopting as 

proposed new comments to interpret the 

clear and conspicuous standards for 

Internet, television, and oral 

advertisements of home-secured loans. 

Comment 24(b)–3 explains that 

disclosures in the context of visual text 

advertisements on the Internet must not 

be obscured by techniques such as 

graphical displays, shading, coloration, 

or other devices, and must comply with 

all other requirements for clear and 

conspicuous disclosures under § 226.24. 

Comment 24(b)–4 likewise explains that 

visual text advertisements on television 

must not be obscured by techniques 

such as graphical displays, shading, 

coloration, or other devices, must be 

displayed in a manner that allows a 

consumer to read the information 

required to be disclosed, and must 

comply with all other requirements for 

clear and conspicuous disclosures 

under § 226.24. The Board believes, 

however, that this rule can be applied 

with some flexibility to account for 

variations in the size of television 

screens. For example, a lender would 

not violate the clear and conspicuous 

standard if the print size used was not 

legible on a handheld or portable 

television. Comment 24(b)–5 explains 

that oral advertisements, such as by 

radio or television, must provide the 

disclosures at a speed and volume 

sufficient for a consumer to hear and 

comprehend them. In this context, the 

word ‘‘comprehend’’ means that the 

disclosures must be intelligible to 

consumers, not that advertisers must 

ensure that consumers understand the 

meaning of the disclosures. Section 

226.24(g) provides an alternative 

method of disclosure for television or 

radio advertisements when triggering 

terms are stated and is discussed more 

fully below. 

Section 226.24(c)—Advertisement of 

Rate of Finance Charge 

Disclosure of simple annual rate or 

periodic rate. If an advertisement states 

a rate of finance charge, it must state the 

rate as an APR. See 12 CFR 226.24(c) (as 

redesignated from § 226.24(b)). An 

advertisement may also state, in 

conjunction with and not more 

conspicuously than the APR, a simple 

annual rate or periodic rate that is 

applied to an unpaid balance. 

As proposed, the Board is 

renumbering § 226.24(b) as § 226.24(c), 

and revising it. The revised rule 

provides that advertisements for homesecured loans shall not state any rate 

other than an APR, except that a simple 

annual rate that is applied to an unpaid 

balance may be stated in conjunction 

with, but not more conspicuously than, 

the APR. Advertisement of a periodic 

rate, other than the simple annual rate 

of interest, or any other rates, is no 

longer permitted in connection with 

home-secured loans. 

Also as proposed, comment 24(b)–2 is 

renumbered as comment 24(c)–2 and 

revised to clarify that a simple annual 

rate or periodic rate is the rate at which 

interest is accruing. A rate lower than 

the rate at which interest is accruing, 

such as an effective rate, payment rate, 

or qualifying rate, is not a simple annual 

rate or periodic rate. The example in 

renumbered comment 24(c)–2 also is 

revised to reference § 226.24(f), which 

contains requirements regarding the 

disclosure of rates and payments in 

advertisements for home-secured loans. 

Buydowns. As proposed, comment 

24(b)–3, which addresses ‘‘buydowns,’’

is renumbered as comment 24(c)–3 and 

revised. A buydown is where a seller or 

creditor offers a reduced interest rate 

and reduced payments to a consumer 

for a limited period of time. Previously, 

this comment provided that the seller or 

creditor, in the case of a buydown, 

could advertise the reduced simple 

interest rate, the limited term to which 

the reduced rate applies, and the simple 

interest rate applicable to the balance of 

the term. The advertisement also could 

show the effect of the buydown 

agreement on the payment schedule for 

the buydown period. The Board is 

revising the comment to explain that 

additional disclosures are required 

when an advertisement includes 

information showing the effect of the 

buydown agreement on the payment 

schedule. Such advertisements must 

provide the disclosures required by 

§ 226.24(d)(2) because showing the 

effect of the buydown agreement on the 

payment schedule is a statement about 

the amount of any payment, and thus is 

a triggering term. See 12 CFR 

226.24(d)(1)(iii). In these circumstances, 

the additional disclosures are necessary 

for consumers to understand the costs of 

the loan and the terms of repayment. 

Consistent with these changes, and as 

proposed, the examples of statements 

about buydowns that an advertisement 

may make without triggering additional 

disclosures are being removed. 

Effective rates. As proposed, the 

Board is deleting what was previously 

comment 24(b)–4. The comment had 

allowed the advertisement of three rates: 

the APR; the rate at which interest is 

accruing; and an interest rate lower than 

the rate at which interest is accruing, 

which may be referred to as an effective 

rate, payment rate, or qualifying rate. 

The staff commentary also contained an 

example of how to disclose the three 

rates. 

The Board proposed to delete this 

staff commentary for the reasons stated 

below. First, the disclosure of three rates 

is unnecessarily confusing for 

consumers and the disclosure of an 

interest rate lower than the rate at which 

interest is accruing does not provide 

meaningful information to consumers 

about the cost of credit. Second, when 

the effective rates commentary was 

adopted in 1982, the Board noted that 

the commentary was designed ‘‘to 

address the advertisement of special 

financing involving ‘effective rates,’

‘payment rates,’ or ‘qualifying rates.’ ’’

See 47 FR 41338, 41342 (Sept. 20, 1982). 

At that time, when interest rates were 

quite high, these terms were used in 

connection with graduated-payment 

mortgages. Today, however, some 

advertisers appear to rely on this 

comment when advertising rates for a 

variety of home-secured loans, such as 

negative amortization loans and option 

ARMs. In these circumstances, the 

advertisement of rates lower than the 

rate at which interest is accruing for 

these products is not helpful to 

consumers, particularly consumers who 

may not fully understand how these 

non-traditional home-secured loans 

work. 

Some industry commenters suggested 

that the advertisement of rates lower 

than the rate at which interest is 

accruing might provide meaningful 

information to some consumers. 


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Specifically, some advertisements for 

negative amortization loans and option 

ARMs quote a payment amount that is 

based on an effective rate. Commenters 

suggested that if the corresponding 

effective rate itself was not advertised, 

consumers might be confused about the 

rate on which the payment was based. 

For the reasons stated above, the Board 

believes that consumers are likely to be 

confused by advertisements that state a 

rate lower than the rate at which interest 

is accruing. The Board is addressing the 

advertisement of payments for homesecured loans in new § 226.24(f), 

discussed below, to require that 

advertisements contain information 

about the payments that apply for the 

term of the loan. 

Discounted variable-rate transactions. 

As proposed, comment 24(b)–5 is being 

renumbered as comment 24(c)–4 and 

revised to explain that an advertisement 

for a discounted variable-rate 

transaction which advertises a reduced 

or discounted simple annual rate must 

show with equal prominence and in 

close proximity to that rate, the limited 

term to which the simple annual rate 

applies and the annual percentage rate 

that will apply after the term of the 

initial rate expires. 

The comment is also being revised to 

explain that additional disclosures are 

required when an advertisement 

includes information showing the effect 

of the discount on the payment 

schedule. Such advertisements must 

provide the disclosures required by 

§ 226.24(d)(2). Showing the effect of the 

discount on the payment schedule is a 

statement about the number of 

payments or the period of repayment, 

and thus is a triggering term. See 12 CFR 

226.24(d)(1)(ii). In these circumstances, 

the additional disclosures are necessary 

for consumers to understand the costs of 

the loan and the terms of repayment. 

Consistent with these changes, the 

examples of statements about 

discounted variable-rate transactions 

that an advertisement may make 

without triggering additional 

disclosures are being removed. 

Section 226.24(d)—Advertisement of 

Terms That Require Additional 

Disclosures 

Required disclosures. As proposed, 

the Board is renumbering § 226.24(c) as 

§ 226.24(d) and revising it. The rule 

clarifies the meaning of the ‘‘terms of 

repayment’’ required to be disclosed. 

Specifically, the terms of repayment 

must reflect ‘‘the repayment obligations 

over the full term of the loan, including 

any balloon payment,’’ not just the 

repayment terms that will apply for a 

limited period of time. This revision is 

consistent with other changes and is 

designed to ensure that advertisements 

for closed-end credit, especially homesecured loans, adequately disclose the 

terms that will apply over the full term 

of the loan, not just for a limited period 

of time. 

Consistent with these changes, and as 

proposed, comment 24(c)(2)–2 is 

renumbered as comment 24(d)(2)–2 and 

revised. As proposed, commentary 

regarding advertisement of loans that 

have a graduated-payment feature is 

being removed from comment 24(d)(2)–

2. 

The Board did not propose to make 

substantive changes to commentary 

regarding advertisements for homesecured loans where payments may vary 

because of the inclusion of mortgage 

insurance premiums. Under the existing 

commentary, the advertisement could 

state the number and timing of 

payments, the amounts of the largest 

and smallest of those payments, and the 

fact that other payments will vary 

between those amounts. Some industry 

commenters noted, however, that 

advertisers can only estimate the 

amounts of mortgage insurance 

premiums at the advertising stage, and 

that the requirement to show the largest 

and smallest of the payments that 

include mortgage insurance premiums 

may not be meaningful to consumers 

because consumers’ actual payment 

amounts may vary from the advertised 

payment amounts. For this reason, the 

commentary is being revised to no 

longer require the advertisement to 

show the amount of the largest and 

smallest payments reflecting mortgage 

insurance premiums. Rather, the 

advertisement may state the number and 

timing of payments, the fact that the 

payments do not include amounts for 

mortgage insurance premiums, and that 

the actual payment obligation will be 

higher. 

In advertisements for home-secured 

loans with one series of low monthly 

payments followed by another series of 

higher monthly payments, comment 

24(d)(2)–2.iii explains that the 

advertisement may state the number and 

time period of each series of payments 

and the amounts of each of those 

payments. However, the amount of the 

series of higher payments must be based 

on the assumption that the consumer 

makes the series of lower payments for 

the maximum allowable period of time. 

For example, if a consumer has the 

option of making interest-only payments 

for two years and an advertisement 

states the amount of the interest-only 

payment, the advertisement must state 

the amount of the series of higher 

payments based on the assumption that 

the consumer makes the interest-only 

payments for the full two years. The 

Board believes that without these 

disclosures consumers may not fully 

understand the cost of the loan or the 

payment terms that may result once the 

higher payments take effect. 

As proposed, the revisions to 

renumbered comment 24(d)(2)–2 apply 

to all closed-end advertisements. The 

Board believes that the terms of 

repayment for any closed-end credit 

product should be disclosed for the full 

term of the loan, not just for a limited 

period of time. The Board also does not 

believe that this change will 

significantly impact advertising 

practices for closed-end credit products 

such as auto loans and installment loans 

that ordinarily have shorter terms than 

home-secured loans. 

As proposed, new comment 24(d)(2)–

3 is added to address the disclosure of 

balloon payments as part of the 

repayment terms. The commentary 

notes that in some transactions, a 

balloon payment will occur when the 

consumer only makes the minimum 

payments specified in an advertisement. 

A balloon payment results if paying the 

minimum payments does not fully 

amortize the outstanding balance by a 

specified date or time, usually the end 

of the term of the loan, and the 

consumer must repay the entire 

outstanding balance at such time. The 

commentary explains that if a balloon 

payment will occur if the consumer 

only makes the minimum payments 

specified in an advertisement, the 

advertisement must state with equal 

prominence and in close proximity to 

the minimum payment statement the 

amount and timing of the balloon 

payment that will result if the consumer 

makes only the minimum payments for 

the maximum period of time that the 

consumer is permitted to make such 

minimum payments. The Board believes 

that disclosure of the balloon payment 

in advertisements that promote such 

minimum payments is necessary to 

inform consumers about the repayment 

terms that will apply over the full term 

of the loan. 

As proposed, comments 24(c)(2)–3 

and –4 are renumbered as comments 

24(d)(2)–4 and –5 without substantive 

change. 

Section 226.24(e)—Catalogs or Other 

Multiple-Page Advertisements; 

Electronic Advertisements 

The Board is renumbering § 226.24(d) 

as § 226.24(e) and making technical 

changes to reflect the renumbering of 

certain sections of the regulation and 

commentary, as proposed. 


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Section 226.24(f)—Disclosure of Rates 

and Payments in Advertisements for 

Credit Secured by a Dwelling 

The Board proposed to add a new 

subsection (f) to § 226.24 to address the 

disclosure of rates and payments in 

advertisements for home-secured loans. 

The primary purpose of these provisions 

is to ensure that advertisements do not 

place undue emphasis on low 

promotional ‘‘teaser’’ rates or payments, 

but adequately disclose the rates and 

payments that the will apply over the 

term of the loan. The final rule is 

adopted as proposed, but adds a number 

of new commentary provisions to clarify 

the rule in response to public comment. 

One banking industry trade group 

commenter sought an exception from 

§§ 226.24(f)(2) and (f)(3)(i)(A) for 

variable-rate loans with initial rates that 

are derived by applying the index and 

margin used to make rate adjustments 

under the loan, but calculated in a 

slightly different manner than will be 

used to make later rate adjustments. For 

example, an initial rate may be 

calculated based on the index in effect 

as of the closing or lock-in date, rather 

than another date which will be used to 

make other rate adjustments under the 

plan such as the 15th day of the month 

preceding the anniversary of the closing 

date. The Board is not adopting an 

exception from §§ 226.24(f)(2) and 

(f)(3)(i)(A). However, the Board believes 

that an initial rate in the example 

described above would still be ‘‘based 

on’’ the index and margin used to make 

other rate adjustments under the plan 

and therefore it would not, by itself, 

trigger the required disclosures in 

§ 226.24(f)(2). Likewise, an 

advertisement need not disclose a 

separate payment amount under 

§ 226.24(f)(3)(i)(A) for payments that are 

based on the same index and margin, if 

even calculated differently. 

Commenters also sought to exclude 

advertisements for variable-rate loans 

that permit the consumer to convert the 

loan into a fixed rate loan. These 

commenters expressed concern that 

creditors do not know at the advertising 

stage whether consumers would choose 

the fixed-rate conversion option and 

that disclosing loans that offer the 

option as though a consumer had 

chosen it could lead to confusion. 

Regulation Z already requires fixed-rate 

conversion options be disclosed before 

consummation. See comment 

19(b)(2)(vii)–3. The Board believes that 

requiring information about fixed-rate 

conversion options be disclosed in 

advertisements could confuse 

consumers about a feature that is 

optional. New comment 24(f)–1.i states 

that the creditor need not assume that 

a fixed-rate conversion option, by itself, 

means that more than one simple 

annual rate of interest will apply under 

§ 226.24(f)(2) and the payments that 

would apply if a consumer opted to 

convert the loan to a fixed rate need not 

be disclosed as separate payments under 

§ 226.24(f)(3)(i)(A). 

Similarly, some industry commenters 

also sought an exception for loans with 

preferred-rate provisions, where the rate 

will increase upon the occurrence of 

some event. For example, the consumer 

may be given a preferred rate for 

electing to make automated payments 

but that preferred-rate would end if the 

consumer later ceases that election. 

Regulation Z already requires preferredrate provisions be disclosed before 

consummation. See comment 

19(b)(2)(vii)–4. The Board believes that 

requiring information about preferredrate provisions to be disclosed at the 

advertising stage is less likely to be 

meaningful to consumers who are 

usually gathering general rate and 

payment information about multiple 

loans and are less likely to focus on 

disclosures about preferred-rate terms 

and conditions. New comment 24(f)–1.ii 

states that the creditor need not assume 

a preferred-rate provision, by itself, 

means that more than one simple 

annual rate of interest will apply under 

§ 226.24(f)(2) and need not disclose as 

separate payments under 

§ 226.24(f)(3)(i)(A) the payments that 

would result upon the occurrence of the 

event that causes a rate increase under 

the preferred-rate provision. 

Also, comment 24(f)–1.iii excludes 

loan programs that offer a rate reduction 

to consumers after the occurrence of a 

specified event, such as the consumer 

making a series of on-time payments. 

Some industry commenters suggested, 

and the Board agrees, that information 

about decreases in rates or payments 

upon the occurrence of a specified event 

need not be disclosed with equal 

prominence and in close proximity to 

information about other rates and 

payments. The advertisement may 

disclose only the initial rate or payment 

and it need not disclose the effect of the 

rate reduction feature. Alternatively, the 

advertisement may also disclose the 

effect of the rate reduction feature, but 

it would then have to comply with the 

requirements of § 226.24(f). 

Section 226.24(f)(1)—Scope. Section 

226.24(f)(1), as proposed, provides that 

the new section applies to any 

advertisement for credit secured by a 

dwelling, other than television or radio 

advertisements, including promotional 

materials accompanying applications. 

The Board does not believe it is feasible 

to apply the requirements of this 

section, notably the close proximity and 

prominence requirements, to oral 

advertisements. The Board sought 

comment on whether these or different 

standards should be applied to oral 

advertisements for home-secured loans 

but commenters did not address this 

issue. 

Section 226.24(f)(2)—Disclosure of 

rates. As proposed, § 226.24(f)(2) 

addresses the disclosure of rates. Under 

the rule, if an advertisement for credit 

secured by a dwelling states a simple 

annual rate of interest and more than 

one simple annual rate of interest will 

apply over the term of the advertised 

loan, the advertisement must disclose 

the following information in a clear and 

conspicuous manner: (a) Each simple 

annual rate of interest that will apply. 

In variable-rate transactions, a rate 

determined by an index and margin 

must be disclosed based on a reasonably 

current index and margin; (b) the period 

of time during which each simple 

annual rate of interest will apply; and 

(c) the annual percentage rate for the 

loan. If the rate is variable, the annual 

percentage rate must comply with the 

accuracy standards in §§ 226.17(c) and 

226.22. 

Comment 24(f)–5, renumbered but 

otherwise as proposed, specifically 

addresses how this requirement applies 

in the context of advertisements for 

variable-rate transactions. For such 

transactions, if the simple annual rate 

that applies at consummation is based 

on the index and margin that will be 

used to make subsequent rate 

adjustments over the term of the loan, 

then there is only one simple annual 

rate and the requirements of 

§ 226.24(f)(2) do not apply. If, however, 

the simple annual rate that applies at 

consummation is not based on the index 

and margin that will be used to make 

subsequent rate adjustments over the 

term of the loan, then there is more than 

one simple annual rate and the 

requirements of § 226.24(f)(2) apply. 

The revisions generally assume that a 

single index and margin will be used to 

make rate or payment adjustments 

under the loan. The Board solicited 

comment on whether and to what extent 

multiple indexes and margins are used 

in home-secured loans and whether 

additional or different rules are needed 

for such products. Commenters stated 

that multiple indexes and margins are 

not used within the same loan, but 

requested clarification on how the 

requirements of § 226.24(f) apply to 

advertisements that contain information 

about rates or payments based on the 

index and margin available under the 

loan to certain consumers, such as those 


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with certain credit scores, but where a 

different margin may be offered to other 

consumers. Section 226.24(f) applies to 

advertisements for variable-rate loans if 

the simple annual rate of interest (or the 

payment) that applies at consummation 

is not based on the index and margin 

used to make subsequent rate (or 

payment) adjustments over the term of 

the loan. See comment §§ 226.24(f)–5 

and 24(f)(3)–2. If a loan’s rate or 

payment adjustments will be based on 

only one index and margin for each 

consumer, the fact that the advertised 

rate or payment may not be available to 

all consumers does trigger the 

requirements of § 226.24(f). However, an 

advertisement for open-end credit may 

state only those terms that actually are 

or will be arranged or offered by the 

creditor. See 12 CFR 226.24(a). 

Finally, as proposed, the rule 

establishes a clear and conspicuous 

standard for the disclosure of rates in 

advertisements for home-secured loans. 

Under this standard, the information 

required to be disclosed by § 226.24(f)(2) 

must be disclosed with equal 

prominence and in close proximity to 

any advertised rate that triggered the 

required disclosures, except that the 

annual percentage rate may be disclosed 

with greater prominence than the other 

information. 

Proposed comment 24(f)–1 provided 

safe harbors for compliance with the 

equal prominence and close proximity 

standards. Specifically, the required 

disclosures would be deemed to be 

closely proximate to the advertised rate 

or payment if they were in the same 

paragraph as the advertised rate or 

payment. Information disclosed in a 

footnote would not be deemed to be 

closely proximate to the advertised rate 

or payment. Some commenters noted 

that the safe harbor definition of 

‘‘closely proximate’’ in this comment 

(that the required disclosures be in the 

same paragraph as the advertised rate or 

payment) differed from the definition of 

‘‘closely proximate’’ in comment 24–2 

(that the required disclosures be 

immediately next to or directly above or 

below the advertised rate or payment). 

The Board is renumbering and 

modifying final comment 24(f)–2 to 

match the definition of ‘‘closely 

proximate’’ in comment 24–2. However, 

the Board is retaining the part of the safe 

harbor that disallows the use of 

footnotes. Consumer testing of accountopening and other disclosures 

undertaken in conjunction with the 

Board’s open-end Regulation Z proposal 

suggests that placing information in a 

footnote makes it much less likely that 

the consumer will notice it. As 

proposed, the required disclosures will 

be deemed equally prominent with the 

advertised rate or payment if they are in 

the same type size as the advertised rate 

or payment. 

Comment 24(f)–3, renumbered but 

otherwise as proposed, provides a crossreference to comment 24(b)–2, which 

provides further guidance on the clear 

and conspicuous standard in this 

context. 

Section 226.24(f)(3)—Disclosure of 

payments. New § 226.24(f)(3) addresses 

the disclosure of payments. As under 

the proposed rule, if an advertisement 

for credit secured by a dwelling states 

the amount of any payment, the 

advertisement must disclose the 

following information in a clear and 

conspicuous manner: (a) The amount of 

each payment that will apply over the 

term of the loan, including any balloon 

payment. In variable-rate transactions, 

payments that will be determined based 

on application of an index and margin 

must be disclosed based on a reasonably 

current index and margin; (b) the period 

of time during which each payment will 

apply; and (c) in an advertisement for 

credit secured by a first lien on a 

dwelling, the fact that the payments do 

not include amounts for taxes and 

insurance premiums, if applicable, and 

that the actual payment obligation will 

be greater. These requirements are in 

addition to the disclosure requirements 

of § 226.24(d). 

As proposed, comment 24(f)(3)–2 

specifically addresses how this 

requirement applies in the context of 

advertisements for variable-rate 

transactions. For such transactions, if 

the payment that applies at 

consummation is based on the index 

and margin that will be used to make 

subsequent payment adjustments over 

the term of the loan, then there is only 

one payment that must be disclosed and 

the requirements of § 226.24(f)(3) do not 

apply. If, however, the payment that 

applies at consummation is not based 

on the index and margin that will be 

used to make subsequent payment 

adjustments over the term of the loan, 

then there is more than one payment 

that must be disclosed and the 

requirements of § 226.24(f)(3) apply. 

As discussed above in regard to 

§ 226.24(f)(2), the revisions in 

§ 226.24(f)(3) generally assume that a 

single index and margin will be used to 

make rate or payment adjustments 

under the loan. If a loan’s rate or 

payment adjustments will be based on 

only one index and margin for each 

consumer, the fact that the advertised 

rate or payment may not be available to 

all consumers does trigger the 

requirements of § 226.24(f). 

The rule adopts the clear and 

conspicuous standard for the disclosure 

of payments in advertisements for 

home-secured loans as proposed. Under 

this standard, the information required 

to be disclosed under § 226.24(f)(3) 

regarding the amounts and time periods 

of payments must be disclosed with 

equal prominence and in close 

proximity to any advertised payment 

that triggered the required disclosures. 

The information required to be 

disclosed under § 226.24(f)(3) regarding 

the fact that taxes and insurance 

premiums are not included in the 

payment must be prominently disclosed 

and in close proximity to the advertised 

payments. The Board believes that 

requiring the disclosure about taxes and 

insurance premiums to be equally 

prominent could distract consumers 

from the key payment and time period 

information. As noted above, comment 

24(f)–2 provides safe harbors for 

compliance with the equal prominence 

and close proximity standards. 

Comment 24(f)–3 provides a crossreference to the comment 24(b)–2, 

which provides further guidance 

regarding the application of the clear 

and conspicuous standard in this 

context. 

Comment 24(f)–4, renumbered but 

otherwise as proposed, clarifies how the 

rules on disclosures of rates and 

payments in advertisements apply to the 

use of comparisons in advertisements. 

This commentary covers both rate and 

payment comparisons, but in practice, 

comparisons in advertisements usually 

focus on payments. 

Comment 24(f)(3)–1, clarifies that the 

requirement to disclose the amounts 

and time periods of all payments that 

will apply over the term of the loan may 

require the disclosure of several 

payment amounts, including any 

balloon payment. The comment 

provides an illustrative example. The 

commentary has been modified from the 

proposal, in response to comment, to 

add a clarification that the final 

scheduled payment in a fully amortizing 

loan need not be disclosed if the final 

scheduled payment is not greater than 

two times the amount of any other 

regularly scheduled payment. 

Comment 24(f)–6, renumbered but 

otherwise as proposed, provides safe 

harbors for what constitutes a 

‘‘reasonably current index and margin’’

as used in § 226.24(f). Under the 

commentary, the time period during 

which an index and margin is 

considered reasonably current depends 

on the medium in which the 

advertisement was distributed. For 

direct mail advertisements, a reasonably 

current index and margin is one that 


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was in effect within 60 days before 

mailing. For printed advertisements 

made available to the general public and 

for advertisements in electronic form, a 

reasonably current index and margin is 

one that was in effect within 30 days 

before printing, or before the 

advertisement was sent to a consumer’s 

e-mail address, or for advertisements 

made on an Internet Web site, when 

viewed by the public. 

Section 226.24(f)(4)—Envelope 

excluded. As proposed, § 226.24(f)(4) 

provides that the requirements of 

§§ 226.24(f)(2) and (3) do not apply to 

envelopes or to banner advertisements 

and pop-up advertisements that are 

linked to an electronic application or 

solicitation provided electronically. In 

the Board’s view, banner advertisements 

and pop-up advertisements are similar 

to envelopes in the direct mail context. 

Section 226.24(g)—Alternative 

Disclosures—Television or Radio 

Advertisements 

The Board proposed to add a new 

§ 226.24(g) to allow alternative 

disclosures to be provided in oral 

television and radio advertisements 

pursuant to its authority under TILA 

§§ 105(a), 122, and 144. The final rule 

is modified from the proposal in that it 

allows alternative disclosures not only 

for information provided orally, but also 

for information provided in visual text 

in television advertisements. Some 

commenters noted a discrepancy 

between the Board’s proposed 

§ 226.24(g), which would not allow the 

alternative disclosures for visual text in 

television advertisements for closed-end 

credit, and proposed § 226.16(f), which 

would allow the alternative disclosures 

for visual text in television 

advertisements for open-end credit, and 

urged the Board to follow the approach 

found in § 226.16(f). The Board believes 

that the same reasoning that applies to 

allowing alternative disclosures in oral 

radio and television advertisements also 

applies to allowing alternative 

disclosures for visual text television 

advertisements and the final rule is 

revised accordingly. With one 

modification, § 226.24(g) follows the 

proposal for allowing alternative 

disclosures in radio and television 

advertisements. One option is to state 

clearly and conspicuously each of the 

disclosures required by § 226.24(d)(2) if 

a triggering term is stated in the 

advertisement. Another option is for the 

advertisement to state clearly and 

conspicuously the APR applicable to the 

loan, and the fact that the rate may be 

increased after consummation, if 

applicable. However, instead of 

disclosing the required information 

about the amount or percentage of the 

downpayment and the terms of 

repayment, the advertisement could 

provide a toll-free telephone number, or 

a telephone number that allows a 

consumer to reverse the phone charges, 

that the consumer may call to receive 

more information. (The language from 

proposed comment 24(g)–1, which 

permitted the use of a telephone number 

that allows a consumer to reverse the 

phone charges, has been incorporated 

into the text of § 226.24(g), and 

proposed comment 24(g)–1 has been 

removed.) Given the space and time 

constraints on television and radio 

advertisements, the required disclosures 

may go unnoticed by consumers or be 

difficult for them to retain. Thus, 

providing an alternative means of 

disclosure is more effective in many 

cases given the nature of television and 

radio media. 

This approach is consistent with the 

approach taken in the proposed 

revisions to the advertising rules for 

open-end plans (other than homesecured plans). See 72 FR 32948, 33064 

(June 14, 2007). This approach is also 

similar, but not identical, to the 

approach taken in the advertising rules 

under Regulation M. See 12 CFR 

213.7(f). Section 213.7(f)(1)(ii) of 

Regulation M permits a leasing 

advertisement made through television 

or radio to direct the consumer to a 

written advertisement in a publication 

of general circulation in a community 

served by the media station. The Board 

has not proposed this option because it 

may not provide sufficient, readilyaccessible information to consumers 

who are shopping for a home-secured 

loan and because advertisers, 

particularly those advertising on a 

regional or national scale, are not likely 

to use this option. 

Section 226.24(h)—Tax Implications 

Section 1302 of the Bankruptcy Act 

amends TILA Section 144(e) to address 

advertisements that are disseminated in 

paper form to the public or through the 

Internet, as opposed to by radio or 

television, and that relate to an 

extension of credit secured by a 

consumer’s principal dwelling that may 

exceed the fair market value of the 

dwelling. Such advertisements must 

include a statement that the interest on 

the portion of the credit extension that 

is greater than the fair market value of 

the dwelling is not tax deductible for 

Federal income tax purposes. 15 U.S.C. 

1664(e). For such advertisements, the 

statute also requires inclusion of a 

statement that the consumer should 

consult a tax adviser for further 

information on the deductibility of the 

interest. 

The Bankruptcy Act also requires that 

disclosures be provided at the time of 

application in cases where the extension 

of credit may exceed the fair market 

value of the dwelling. See 15 U.S.C. 

1638(a)(15). The Board intends to 

implement the application disclosure 

portion of the Bankruptcy Act during its 

forthcoming review of closed-end and 

HELOC disclosures under TILA. 

However, the Board requested comment 

on the implementation of both the 

advertising and application disclosures 

under this provision of the Bankruptcy 

Act for open-end credit in its October 

17, 2005, ANPR. 70 FR 60235, 60244 

(Oct. 17, 2005). A majority of comments 

on this issue addressed only the 

application disclosure requirement, but 

some commenters specifically 

addressed the advertising disclosure 

requirement. One industry commenter 

suggested that the advertising disclosure 

requirement apply only in cases where 

the advertised product allows for the 

credit to exceed the fair market value of 

the dwelling. Other industry 

commenters suggested that the 

requirement apply only to 

advertisements for products that are 

intended to exceed the fair market value 

of the dwelling. 

The Board proposed to add 

§ 226.24(h) and comment 24(h)–1 to 

implement TILA Section 144(e). The 

Board’s proposal applied the new 

requirements to advertisements for 

home-secured loans where the 

advertised extension of credit may, by 

its terms, exceed the fair market value 

of the dwelling. The Board sought 

comment on whether the new 

requirements should instead apply to 

only advertisements that state or imply 

that the creditor provides extensions of 

credit greater than the fair market value 

of the dwelling. Of the few commenters 

who addressed this issue, the majority 

were in favor of the alternative approach 

because many home-secured loans may, 

in some circumstances, allow for 

extensions of credit greater than the fair 

market value of the dwelling and 

advertisers would likely include the 

disclosure in nearly all advertisements. 

The final rule differs from the 

proposed rule and requires that the 

additional tax implication disclosures 

be given only when an advertisement 

states that extensions of credit greater 

than the fair market value of the 

dwelling are available. The rule does 

not apply to advertisements that merely 

imply that extensions of credit greater 

than the fair market value of the 

dwelling may occur. By limiting the 

required disclosures to only those 


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121 15 U.S.C. 41 et seq. 

advertisements that state that extensions 

of credit greater than the fair market 

value of the dwelling are available, the 

Board believes the rule will provide the 

required disclosures to consumers when 

they are most likely to be receptive to 

the information while avoiding 

overloading consumers with 

information about the tax consequences 

of home-secured loans when it is less 

likely to be meaningful to them. 

Accordingly, proposed comment 24(h)–

1 is removed as no longer necessary. 

Section 226.24(i)—Prohibited Acts or 

Practices in Mortgage Advertisements 

The Board proposed to add § 226.24(i) 

to prohibit the following seven acts or 

practices in connection with 

advertisements of closed-end mortgage 

loans: (1) The use of the term ‘‘fixed’’ to 

refer to rates or payments of closed-end 

home loans, unless certain conditions 

are satisfied; (2) comparison 

advertisements between actual and 

hypothetical rates and payments, unless 

certain conditions are satisfied; (3) 

falsely advertising a loan as government 

supported or endorsed; (4) displaying 

the name of the consumer’s current 

lender without disclosing that the 

advertising mortgage lender is not 

affiliated with such current lender; (5) 

claiming debt elimination when one 

debt merely replaces another debt; (6) 

the use of the term ‘‘counselor’’ or 

‘‘financial advisor’’ by for-profit brokers 

or lenders; and (7) foreign language 

advertisements that provide required 

disclosures only in English. 

Pursuant to its authority under TILA 

Section 129(l)(2), 15 U.S.C. 1639(l)(2), 

the Board is adopting § 226.24(i) 

substantially as proposed with 

modifications to § 226.24(i)(2) to clarify 

that the information required to be 

disclosed in comparison advertisements 

is the information required under 

§ 226.24(f), to § 226.24(i)(6) to withdraw 

the prohibition on the use of the term 

‘‘financial advisor,’’ and other 

modifications to clarify the scope and 

intent of the rule. The final rule applies 

only to closed-end mortgage loans. 

Section 129(l)(2) of TILA gives the 

Board the authority to prohibit acts or 

practices in connection with mortgage 

loans that it finds to be unfair or 

deceptive. Section 129(l)(2) of TILA also 

gives the Board the authority to prohibit 

acts or practices in connection with the 

refinancing of mortgage loans that the 

Board finds to be associated with 

abusive lending practices, or that are 

otherwise not in the interest of the 

borrower. 15 U.S.C. 1639(l)(2). Through 

an extensive review of advertising copy 

and other outreach efforts, Board staff 

identified a number of acts or practices 

connected with mortgage and mortgage 

refinancing advertising that appear to be 

inconsistent with the standards set forth 

in Section 129(l)(2) of TILA. 

The Board has sought to craft the 

rules carefully to make compliance with 

the requirements sufficiently clear and 

has provided additional examples in 

commentary to assist compliance with 

this rule. As discussed above, the Board 

is not extending the seven prohibitions 

on misleading advertisements to 

HELOCs because it has not been 

provided with, or found, sufficient 

evidence demonstrating that HELOC 

advertisements contain deceptive 

practices similar to those found in 

advertisements for closed-end mortgage 

loans. However, the Board may 

consider, as part of its larger review of 

HELOC rules, prohibiting certain 

misleading or deceptive practices if 

warranted. The Board notes that closedend mortgage loan advertisements (as 

well as HELOCs) must continue to 

comply with all applicable state and 

federal laws, including Section 5 of the 

FTC Act.121

Public comment. The Board 

specifically sought comment on the 

appropriateness of the seven proposed 

prohibitions; whether the Board should 

prohibit any additional misleading or 

deceptive acts or practices; and whether 

the prohibitions should be extended to 

advertisements for open-end home 

equity lines of credit (HELOCs). 

Consumer and community advocacy 

groups, associations of state regulators, 

federal agencies, and most industry 

commenters supported the Board’s 

efforts to address misleading advertising 

acts and practices. Many creditors and 

their trade associations, however, urged 

the Board to use its authority under 

TILA Section 105(a), 15 U.S.C. 1604(a), 

rather than Section 129(l)(2), 15 U.S.C. 

1639(l)(2), to prohibit certain 

advertising acts or practices for closedend mortgage loans. These commenters 

expressed concern that promulgating 

the prohibitions under Section 129(l)(2) 

may expose creditors to extensive 

private legal action for inadvertent 

technical violations. 

Commenters were divided on whether 

to extend the proposed prohibitions to 

HELOCs. Many community banks 

agreed with the Board that the 

misleading or deceptive acts often 

associated with mortgage and mortgage 

refinancing advertisements do not occur 

in HELOC advertisements. Some 

consumer groups and state regulators, 

however, urged the Board to extend all 

of the prohibitions to HELOCs. One 

large creditor offered specific 

suggestions on how to extend the 

prohibitions to HELOCs, while another 

sought extension of only the prohibition 

on the misleading use of the current 

lender’s name. Few commenters 

suggested that the Board consider any 

additional prohibitions on misleading 

advertising either for closed-end 

mortgage loans or HELOCs. A more 

detailed discussion of the comments is 

provided below. 

Section 226.24(i)(1)—Misleading 

advertising for ‘‘fixed’’ rates, payments 

or loans. Proposed § 226.24(i)(1) 

prohibited the use of the term ‘‘fixed’’

in advertisements for credit secured by 

a dwelling, unless certain conditions are 

satisfied, in three different scenarios: (i) 

Advertisements for variable-rate 

transactions; (ii) advertisements for nonvariable-rate transactions in which the 

interest rate can increase; and (iii) 

advertisements that promote both 

variable-rate transactions and nonvariable-rate transactions. The proposed 

rule prohibited the use of the term 

‘‘fixed’’ in advertisements for variablerate transactions, unless two conditions 

are satisfied. First, the phrase 

‘‘Adjustable-Rate Mortgage’’ or 

‘‘Variable-Rate Mortgage’’ must appear 

in the advertisement before the first use 

of the word ‘‘fixed’’ and be at least as 

conspicuous as every use of the word 

‘‘fixed.’’ Second, each use of the word 

‘‘fixed’’ must be accompanied by an 

equally prominent and closely 

proximate statement of the time period 

for which the rate or payment is fixed 

and the fact that the rate may vary or the 

payment may increase after that period. 

The proposed rule also prohibited the 

use of the term ‘‘fixed’’ to refer to the 

payment in advertisements solely for 

non-variable-rate transactions where the 

payment will increase (for example, 

fixed-rate mortgage transactions with an 

initial lower payment that will 

increase), unless each use of the word 

‘‘fixed’’ to refer to the payment is 

accompanied by an equally prominent 

and closely proximate statement of the 

time period for which the payment is 

fixed and the fact that the payment will 

increase after that period. 

Finally, the proposed rule prohibited 

the use of the term ‘‘fixed’’ in 

advertisements that promote both 

variable-rate transactions and nonvariable-rate transactions, unless certain 

conditions are satisfied. First, the phrase 

‘‘Adjustable-Rate Mortgage,’’ ‘‘VariableRate Mortgage,’’ or ‘‘ARM’’ must appear 

in the advertisement with equal 

prominence as any use of the word 

‘‘fixed.’’ Second, each use of the term 

‘‘fixed’’ to refer to a rate, payment, or to 

the credit transaction, must clearly refer 

solely to transactions for which rates are 


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122There must be a representation, omission or 

practice that is likely to mislead the consumer; the 

act or practice is examined from the perspective of 

a consumer acting reasonably in the circumstances; 

and the representation, omission, or practice must 

be material—that is, it must be likely to affect the 

consumer’s conduct or decision with regard to a 

product or service. 

fixed and, if used to refer to a payment, 

be accompanied by an equally 

prominent and closely proximate 

statement of the time period for which 

the payment is fixed and the fact that 

the payment will increase after that 

period. Third, if the term ‘‘fixed’’ refers 

to the variable-rate transactions, it must 

be accompanied by an equally 

prominent and closely proximate 

statement of a time period for which the 

rate or payment is fixed, and the fact 

that the rate may vary or the payment 

may increase after that period. 

Many creditors and their trade 

associations argued that the proposed 

prohibition contained many formatting 

and language requirements, and 

therefore could easily generate liability 

for technical, inadvertent errors. These 

commenters opposed the possible risk 

of civil liability for violations of this 

proposed rule and instead, urged the 

Board to use its authority under TILA 

Section 105(a), 15 U.S.C. 1604(a). One 

mortgage banking group suggested that 

if the Board promulgated the rule it 

should not prescribe detailed formatting 

rules but rather state that compliance 

with the rules governing trigger terms in 

§ 226.24 satisfies compliance with this 

rule. Another bank commented that 

requiring disclosure after each use of the 

word ‘‘fixed’’ is excessive and suggested 

that the disclosure be required only 

once after the first use of the word. 

In contrast, a number of consumer 

groups, as well as the FDIC and 

associations of state regulators, urged 

the Board to prohibit the use of the 

word ‘‘fixed’’ in advertisements for 

variable-rate mortgages, including ones 

that have a fixed-rate for a specified 

time period. They argued that the word 

‘‘fixed’’ is confusing to consumers when 

used to reference any loan other than 

those that have rates (or payments) fixed 

for their entire term. 

The Board is adopting the prohibition 

on the use of the term ‘‘fixed’’ to refer 

to rates or payments of closed-end 

home-secured loans as proposed with a 

modification to § 226.24(i)(1)(ii) to 

clarify application of the rule to nonvariable-rate transactions. Based on its 

review of advertising copy, the Board 

finds that some advertisements do not 

adequately disclose that the interest rate 

or payment amounts are ‘‘fixed’’ only 

for a limited period of time, rather than 

for the full term of the loan. For 

example, some advertisements reviewed 

prominently refer to a ‘‘30–Year Fixed 

Rate Loan’’ or ‘‘Fixed Pay Rate Loan’’ on 

the first page. A footnote on the last 

page of the advertisements discloses in 

small type that the loan product is a 

payment option ARM in which the fully 

indexed rate and fully amortizing 

payment will be applied after the first 

five years. 

The Board concludes that these types 

of advertisements are associated with 

abusive lending practices and also 

deceptive under the three-part test for 

deception set forth in Part V.A above.122

The use of the word ‘‘fixed’’ in these 

advertisements is likely to mislead 

consumers into believing that the 

advertised product is a fixed-rate 

mortgage with rates and payments that 

will not change during the term of the 

loan. Consumers often shop for loans 

based on whether the term is fixed or 

not. Indeed, some credit counselors 

often encourage consumers to shop only 

for fixed-rate mortgages. Therefore, 

information about a mortgage loan’s 

monthly payment or interest rate is 

important to consumers. As a result, the 

length of time for which the payment or 

interest rate will remain fixed is likely 

to affect a consumer’s decision about 

whether to apply for a loan product. 

The final rule does not, however, 

prohibit use of the word ‘‘fixed’’ in 

advertisements for home-secured loans 

where the use of the term is not 

misleading. Advertisements that refer to 

a rate or payment, or to the credit 

transaction, as ‘‘fixed’’ are appropriate 

when used to denote a fixed-rate 

mortgage in which the rate or payment 

amounts do not change over the full 

term of the loan. Use of the term ‘‘fixed’’

also is appropriate in an advertisement 

where the interest rate or payment may 

increase solely because the loan product 

features a preferred-rate or fixed-rate 

conversion provision (see comment 

24(f)–1 for further guidance), or where 

the final scheduled payment in a fully 

amortizing loan is not greater than twice 

the amount of other regularly scheduled 

payments. The Board does not intend 

that this rule apply to the use of the 

word ‘‘fixed’’ in advertisements for 

home-secured loans that refers to fees or 

settlements costs. 

The final rule does not ban the use of 

the term ‘‘fixed’’ in advertisements for 

variable rate products. The term ‘‘fixed’’

is used in connection with adjustablerate mortgages, or with fixed-rate 

mortgages that include low initial 

payments that will increase. These 

advertisements make clear that the rate 

or payment is only ‘‘fixed’’ for a defined 

period of time, but after that the rate or 

payment may increase. For example, 

one advertisement reviewed 

prominently discloses that the product 

is an ‘‘Adjustable-Rate Mortgage’’ in 

large type, and clearly discloses in 

standard type that the rate is ‘‘fixed’’ for 

the first three, five, or seven years 

depending upon the product selected 

and may increase after that time period. 

Such an advertisement demonstrates 

that there are legitimate and appropriate 

circumstances for using the term 

‘‘fixed’’ in advertisements for variablerate transactions. 

Section 226.24(i)(2)—Misleading 

comparisons in advertisements. 

Proposed § 226.24(i)(2) prohibited any 

advertisement for credit secured by a 

dwelling from making any comparison 

between actual or hypothetical 

payments or rates and the payment or 

simple annual rate that will be available 

under the advertised product for less 

than the term of the loan, unless two 

conditions are satisfied. First, the 

comparison must include with equal 

prominence and in close proximity to 

the ‘‘teaser’’ payment or rate, all 

applicable payments or rates for the 

advertised product that will apply over 

the term of the loan and the period of 

time for which each applicable payment 

or simple annual rate will apply. 

Second, the advertisement must 

include a prominent statement in close 

proximity to the advertised payments 

that such payments do not include 

amounts for taxes and insurance 

premiums, if applicable. In the case of 

advertisements for variable-rate 

transactions where the advertised 

payment or simple annual rate is based 

on the index and margin that will be 

used to make subsequent rate or 

payment adjustments over the term of 

the loan, the comparison must include: 

(a) An equally prominent statement in 

close proximity to the advertised 

payment or rate that the payment or rate 

is subject to adjustment and the time 

period when the first adjustment will 

occur; and (b) a prominent statement in 

close proximity to the advertised 

payment that the payment does not 

include amounts for taxes and insurance 

premiums, if applicable. 

Proposed comment 24(i)–1 clarified 

that a comparison includes a claim 

about the amount that a consumer may 

save under the advertised product. For 

example, a statement such as ‘‘save $600 

per month on a $500,000 loan’’

constitutes an implied comparison 

between the advertised product’s 

payment and a consumer’s current 

payment. 

The Board did not propose to prohibit 

comparisons that take into account the 

consolidation of non-mortgage credit, 

such as auto loans, installment loans, or 


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revolving credit card debt, into a single, 

home-secured loan. However, the Board 

specifically sought comment on whether 

comparisons based on the assumed 

refinancing of non-mortgage debt into a 

new home-secured loan are associated 

with abusive lending practices or 

otherwise not in the interest of the 

borrower and should therefore be 

prohibited as well. 

Creditors and their trade groups, 

consumer and community advocacy 

groups, federal agencies, and 

associations of state regulators largely 

supported the proposed requirement 

that advertisements showing 

comparisons between actual or 

hypothetical rate or payments and the 

advertised rate or payment disclose 

information about the rates or payments 

that would apply for the term of the 

advertised loan and the period of time 

for which such rates or payments would 

be in effect. One mortgage banking trade 

group suggested that the proposed 

revisions to the trigger term 

requirements would sufficiently address 

issues with comparison advertisements 

and that a separate rule was 

unnecessary. Another commenter 

requested an exception for subordinate 

lien loans from the escrow disclosure 

component of the rule noting that the 

monthly payments of subordinate liens 

do not generally include escrows for 

taxes and insurance. 

Commenters were divided on whether 

comparisons between non-mortgage 

debt and mortgage debt should be 

allowed. Industry commenters generally 

supported the Board’s decision to allow 

debt consolidation advertisements that 

compare home-secured debt payments 

to other debt payments. They noted that 

debt consolidation offers consumers 

concrete benefits, such as increased 

cash flow or reduced interest rates, and 

that advertising communicated these 

choices to consumers. One bank 

commenter suggested that the Board 

require additional disclosures to alert 

consumers to the potential 

consequences of such debt 

consolidation, such as closing costs and 

loan duration. On the other hand, 

associations of state regulators urged the 

Board to ban debt consolidation 

comparison advertisements entirely. 

They argued that consumers could be 

misled about the risks and benefits of 

consolidating short-term unsecured debt 

into long-term secured debt. 

One large bank, however, pointed out 

that the interest rates that could be 

disclosed for closed-end home-secured 

debt would be different than the rates 

for other kinds of secured debt in debt 

consolidation comparison 

advertisements. The commenter noted 

that under the proposed revisions to 

§ 226.24(c), advertisements for homesecured loans would be allowed to use 

only the APR, which would include 

finance charges, while advertisements 

for other closed-end loans, such as auto 

loans, would be permitted to promote 

simple annual rates of interest along 

with APRs, and advertisements from 

open-end credit would be able to 

disclose APRs that did not have to 

include any finance charges. 

The Board is adopting the prohibition 

proposed in § 226.24(i)(2) on the 

comparison of actual and hypothetical 

rates in advertisements unless certain 

conditions are satisfied. The final rule is 

modified to clarify that the information 

required to be disclosed in conjunction 

with the advertised rate or payment is 

the information required under 

§§ 226.24(f)(2) and (3). By referencing 

§ 226.24(f), the final rule incorporates, 

without repeating, the requirements of 

that section. By referencing 

§ 226.24(f)(3), the final rule exempts 

subordinate lien loans from the escrow 

disclosure component of the rule. In 

addition, the final rule maintains the 

proposed requirement that 

advertisements making comparisons to a 

variable-rate transaction, where the 

advertised payment or simple annual 

rate is based on the index and margin 

that will be used to make subsequent 

rate or payment adjustments over the 

term of the loan, must include an 

equally prominent statement in close 

proximity to the payment or rate that 

the payment or rate is subject to 

adjustment and the time period when 

the first adjustment will occur. 

Some advertisements for homesecured loans make comparisons 

between actual or hypothetical rate or 

payment obligations and the rates or 

payments that would apply if the 

consumer obtains the advertised 

product. The advertised rates or 

payments used in these comparisons 

frequently are low introductory ‘‘teaser’’

rates or payments that will not apply 

over the full term of the loan, and do not 

include amounts for taxes or insurance 

premiums. In addition, the current rate 

or payment obligations used in these 

comparisons frequently include not 

only the consumer’s mortgage payment, 

but also possible payments for shortterm, non-home secured, or revolving 

credit obligations, such as auto loans, 

installment loans, or credit card debts. 

The Board finds these types of 

comparisons of rates and payments in 

advertisements to be deceptive under 

the three-part test for deception set forth 

in part V.A above. Making comparisons 

in advertisements can mislead a 

consumer if the advertisement compares 

the consumer’s current payments or 

rates to payments or rates available for 

the advertised product that will only be 

in effect for a limited period of time, 

rather than for the term of the loan. 

Similarly, the Board finds that such 

comparisons can be misleading if the 

consumer’s current payments include 

amounts for taxes and insurance 

premiums, but the payments for the 

advertised product do not include those 

amounts. Information about the terms of 

the loan, such as rate and monthly 

payment, are material and likely to 

affect a consumer’s decision about 

whether to apply for the advertised 

mortgage loan. Consumers may compare 

current obligations and the lower 

advertised rates or payments and 

conclude that the advertised loan 

product will offer them a better interest 

rate and/or monthly payment. 

Some industry commenters requested 

that, consistent with § 226.24(f), the rule 

require information about amounts for 

taxes and insurance premiums only for 

advertisements for first-lien loans. By 

incorporating the requirements of 

§ 226.24(f), the final rule excludes 

advertisements for subordinate lien 

loans from the requirement that the 

advertisement include a prominent 

statement in close proximity to the 

advertised payment that the payment 

does not include amounts for taxes and 

insurance premiums, if applicable. 

Monthly payments of subordinate lien 

loans do not generally require escrows 

for taxes and insurance and therefore 

are unable to include such amounts in 

any monthly payment calculation. 

Moreover, subordinate lien loans are 

generally advertised for the purpose of 

replacing or consolidating other 

subordinate lien loans or non-home 

secured obligations rather than homesecured first-lien loans. 

The Board also is not banning debt 

consolidation advertisements or 

requiring additional disclosures about 

the cost or consequences of 

consolidating short term unsecured debt 

into longer term secured debt. The 

Board believes that debt consolidation 

can be beneficial for some consumers. 

Prohibiting the use of comparisons in 

advertisements that are based solely on 

low introductory ‘‘teaser’’ rates or 

payments should address abusive 

practices in advertisements focused on 

debt consolidation. However, additional 

disclosures are unlikely to provide 

consumers with meaningful information 

at the advertising stage or be effective 

against aggressive push marketing 

tactics inherent in many advertisements. 

Last, the Board emphasizes that under 

the final rule, the interest rate stated for 

a home-secured loan must be the APR. 


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The final rule permits, but does not 

require, an interest rate for any secured 

debt to be advertised also as a simple 

annual rate of interest. The Board notes 

that § 226.24(b) allows the simple 

annual interest rate that is applied to an 

unpaid balance to be stated so long as 

it is not advertised more conspicuously 

than the APR. Revisions to § 226.24(c) 

also allow the use of a simple annual 

rate of interest that is applied to an 

unpaid balance to be stated in an 

advertisement for a home-secured loan 

so long as it is not advertised more 

conspicuously than the APR. In 

addition, the Board’s review of 

advertisements shows that many of the 

comparison advertisements compared 

monthly payments rather than interest 

rates, perhaps because comparison of 

monthly payments resonate more for 

consumers than comparison of interest 

rates. 

Section 226.24(i)(3)—

Misrepresentations about government 

endorsement. Proposed § 226.24(i)(3) 

prohibited statements about government 

endorsement unless the advertisement 

is for an FHA loan, VA loan, or similar 

loan program that is, in fact, endorsed 

or sponsored by a federal, state, or local 

government entity. Proposed comment 

24(i)–2 illustrated that a 

misrepresentation about government 

endorsement would include a statement 

that the federal Community 

Reinvestment Act entitles the consumer 

to refinance his or her mortgage at the 

new low rate offered in the 

advertisement because it conveys to the 

consumer a misleading impression that 

the advertised product is endorsed or 

sponsored by the federal government. 

No commenters objected to this 

prohibition. 

The Board is adopting the rule as 

proposed. Some advertisements for 

home-secured loans characterize the 

products offered as ‘‘government loan 

programs,’’ ‘‘government-supported 

loans,’’ or otherwise endorsed or 

sponsored by a federal or state 

government entity, even though the 

advertised products are not governmentsupported loans, such as FHA or VA 

loans, or otherwise endorsed or 

sponsored by any federal, state, or local 

government entity. Such advertisements 

can mislead consumers into believing 

that the government is guaranteeing, 

endorsing, or supporting the advertised 

loan product. Government-endorsed 

loans often offer certain benefits or 

features that may be attractive to many 

consumers and not otherwise available 

through private lenders. As a result, the 

fact that a loan product is associated 

with a government loan program can be 

a material factor in the consumer’s 

decision to apply for that particular loan 

product. For these reasons, the Board 

finds these types of advertisements to be 

deceptive under the three-part test for 

deception set forth in part V.A above. 

Section 226.24(i)(4)—Misleading use 

of the current mortgage lender’s name. 

Proposed § 226.24(i)(4) prohibited any 

advertisement for a home-secured loan, 

such as a letter, that is not sent by or 

on behalf of the consumer’s current 

lender from using the name of the 

consumer’s current lender, unless the 

advertisement also discloses with equal 

prominence: (a) the name of the person 

or creditor making the advertisement; 

and (b) a clear and conspicuous 

statement that the person making the 

advertisement is not associated with, or 

acting on behalf of, the consumer’s 

current lender. 

Many creditors and their trade groups, 

state regulators, and other commenters 

offered strong support for the proposed 

prohibition on the misleading use of a 

consumer’s current mortgage lender’s 

name. State regulators noted that some 

states have similar requirements already 

in place and have a history of 

enforcement in this area. A credit union 

association suggested that the Board ban 

the use of a mortgage lender’s name 

without that lender’s permission 

outright, as is currently done in some 

states, rather than requiring a 

disclosure. A mortgage banking trade 

group and a large creditor suggested that 

the regulation clarify that the envelope 

or other mailing materials are part of 

any advertisement and that the required 

disclosure be closely proximate, as well 

as equally prominent, to the statement 

of the current lender’s name. 

The Board is adopting the rule as 

proposed. Some advertisements for 

home-secured loans prominently 

display the name of the consumer’s 

current mortgage lender, while failing to 

disclose or to disclose adequately the 

fact that the advertisement is by a 

mortgage lender that is not associated 

with the consumer’s current lender. The 

Board finds that such advertisements 

may mislead consumers into believing 

that their current lender is offering the 

loan advertised or that the loan terms 

stated in the advertisement constitute a 

reduction in the consumer’s payment 

amount or rate, rather than an offer to 

refinance the current loan with a 

different creditor. For these reasons, the 

Board finds these types of 

advertisements to be deceptive under 

the three-part test for deception set forth 

in part V.A above. 

Section 226.24(i)(5)—Misleading 

claims of debt elimination. Proposed 

§ 226.24(i)(5) prohibited advertisements 

for credit secured by a dwelling that 

offer to eliminate debt, or waive or 

forgive a consumer’s existing loan terms 

or obligations to another creditor. 

Proposed comment 24(i)–3 provided 

examples of claims that would be 

prohibited. These include the following 

claims: ‘‘Wipe Out Personal Debts!’’, 

‘‘New DEBT-FREE Payment’’, ‘‘Set 

yourself free; get out of debt today’’, 

‘‘Refinance today and wipe your debt 

clean!’’, ‘‘Get yourself out of debt * * * 

Forever!’’, and, in the context of an 

advertisement referring to a consumer’s 

existing obligations to another creditor, 

‘‘Pre-payment Penalty Waiver.’’ The 

proposed comment also clarified that 

this provision does not prohibit an 

advertisement for a home-secured loan 

from claiming that the advertised 

product may reduce debt payments, 

consolidate debts, or shorten the term of 

the debt. 

Most commenters supported the 

Board’s proposal to prohibit misleading 

claims of debt elimination. A number of 

industry commenters also expressed 

support for the proposed commentary 

provision clarifying that advertisements 

could still claim to consolidate or 

reduce debt. However, one bank 

suggested that there were examples of 

non-misleading claims of debt 

elimination, such as ‘‘eliminate high 

interest credit card debt.’’

The Board is modifying the rule to 

clarify that only misleading claims of 

debt elimination are prohibited. Based 

on the advertising copy reviewed, some 

advertisements for home-secured loans 

include statements that promise to 

eliminate, cancel, wipe-out, waive, or 

forgive debt. The Board finds that such 

advertisements can mislead consumers 

into believing that they are entering into 

a debt forgiveness program rather than 

merely replacing one debt obligation 

with another. For these reasons, the 

Board finds these types of 

advertisements to be deceptive under 

the three-part test for deception set forth 

in part V.A above. 

Section 226.24(i)(6)—Misleading use 

of the term ‘‘counselor’’. Proposed 

§ 226.24(i)(6) prohibited advertisements 

for credit secured by a dwelling from 

using the terms ‘‘counselor’’ or 

‘‘financial advisor’’ to refer to a forprofit mortgage broker or creditor, its 

employees, or persons working for the 

broker or creditor that are involved in 

offering, originating or selling 

mortgages. Nothing in the proposed rule 

prohibited advertisements for bona fide 

consumer credit counseling services, 

such as counseling services provided by 

non-profit organizations, or bona fide 

financial advisory services, such as 

services provided by certified financial 

planners. The final rule retains the 


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123See, e.g., Investment Advisors Act of 1940, 14 

U.S.C. 80b–1 et seq.; Securities Exchange Act of 

1934, 15 U.S.C. 78a et seq. 

124 14 U.S.C. 80b–1 et seq. 

125 15 U.S.C. 41 et seq. 

prohibition on the use of the term 

‘‘counselor’’ by for-profit brokers or 

creditors in advertisements for homesecured credit, but does not adopt the 

prohibition on the use of the term 

‘‘financial advisor’’ for the reasons 

stated below. 

A few creditors and financial services 

and securities industry associations 

argued that the proposed prohibition on 

the term ‘‘financial advisor’’ was too 

broad. These commenters noted that 

registered securities broker-dealers and 

other licensed financial professionals, 

who may also be licensed as mortgage 

brokers if required under applicable 

state law, may place advertisements for 

mortgage loans, often in conjunction 

with a range of other financial products. 

One large securities firm noted that its 

financial advisors routinely refer 

customers to its credit corporation 

subsidiary and that these financial 

advisors may place advertisements 

listing themselves as contact persons for 

a range of services and products, 

including residential mortgage loans. 

These commenters suggested that the 

Board provide a clear exception for 

registered securities broker-dealers and 

other investment advisors. 

An association of certified mortgage 

planning specialists suggested a safe 

harbor for the use of the term ‘‘financial 

advisor’’ for those advertisers who have 

earned a title or designation that 

requires an examination or experience, 

adherence to a code of ethics, and 

continuing education. This commenter 

suggested that advertisers that did not 

have fiduciary relationships with 

consumers be required to include a 

disclaimer in their ads so stating. 

The Board is not adopting the 

prohibition on the use of the term 

‘‘financial advisor’’ as proposed in 

§ 226.24(i)(6). The Board recognizes that 

financial advisors play a legitimate role 

in assisting consumers in selecting 

appropriate home-secured loans. The 

prohibition on the term ‘‘financial 

advisor’’ was intended to prevent 

creditors and brokers from falsely 

implying to residential mortgage 

consumers that they are acting in a 

fiduciary capacity when, in fact, they 

are not. However, the Board did not 

intend to prevent the legitimate 

business use of, or otherwise conflict or 

intervene with federal and state laws 

that contemplate the use of, the term 

‘‘financial advisor.’’ 123

For example, securities broker-dealers 

typically are registered by the U.S. 

Securities and Exchange Commission 

and/or licensed by a state regulatory 

agency to provide a range of financial 

advice and services on securities, 

insurance, retirement planning and 

other financial products, including 

residential mortgage loans. These 

registered securities broker-dealers 

currently use the term ‘‘financial 

advisor’’ in advertisements and 

solicitations. There are also other 

financial professionals who must meet 

certain federal or state professional 

standards, certifications or other 

requirements and use the term 

‘‘financial advisor’’ because they are in 

the business of providing financial 

planning and advice. Examples include 

investment advisors, certified public 

accountants, and certified financial 

planners. Many of these professionals 

are obligated to act in the client’s 

interest and disclose conflicts of interest 

(i.e., owe a fiduciary obligation) and 

therefore, the use of the term ‘‘financial 

advisor’’ by such individuals is not 

misleading.124 Because it is not practical 

to distinguish with sufficient clarity the 

legitimate uses of the term ‘‘financial 

advisor’’ in accordance with various 

federal or state laws, from improper use, 

the Board is withdrawing the 

prohibition on the term ‘‘financial 

advisor.’’ However, the Board notes that 

the use of the term ‘‘financial advisor’’

in mortgage advertisements must 

comply with all applicable state and 

federal laws, including the FTC Act.125

The Board is retaining the prohibition 

on the use of the term counselor. The 

Board believes that the exception to this 

prohibition for not-for-profit entities is 

sufficient to capture the legitimate use 

of this term. The use of the term 

counselor outside of this context is 

likely to mislead consumers into 

believing that the lender or broker has 

a fiduciary relationship with the 

consumer and is considering only the 

consumer’s best interest. For these 

reasons, the Board finds these types of 

advertisements to be deceptive under 

the three-part test for deception set forth 

in part V.A above. 

Section 226.24(i)(7)—Misleading 

foreign-language advertisements. 

Proposed § 226.24(i)(7) prohibited 

advertisements for home-secured loans 

from providing information about some 

trigger terms or required disclosures, 

such as an initial rate or payment, only 

in a foreign language, but providing 

information about other trigger terms or 

required disclosures, such as 

information about the fully-indexed rate 

or fully amortizing payment, only in 

English. Advertisements that provide all 

disclosures in both English and a 

foreign language or advertisements that 

provide disclosures entirely in English 

or entirely in a foreign language would 

not be affected by this prohibition. 

Most commenters expressed support 

for the prohibition on advertising 

triggering information in a foreign 

language and then providing 

information about other trigger terms or 

required disclosures in English. 

The Board is adopting the rule as 

proposed. Some advertisements for 

home-secured loans are targeted to nonEnglish speaking consumers. In general, 

this is an appropriate means of 

promoting home ownership or offering 

loans to under-served, immigrant 

communities. Some of these 

advertisements, however, provide 

information about some trigger terms or 

required disclosures, such as a low 

introductory ‘‘teaser’’ rate or payment, 

in a foreign language, but provide 

information about other trigger terms or 

required disclosures, such as the fullyindexed rate or fully amortizing 

payment, only in English. The Board 

finds that this practice can mislead nonEnglish speaking consumers who may 

not be able to comprehend the 

important English-language disclosures. 

For these reasons, the Board finds these 

types of advertisements to be deceptive 

under the three-part test for deception 

set forth in part V.A above. 

XII. Mortgage Loan Disclosures 

A. Early Mortgage Loan Disclosures—

§ 226.19 

Pursuant to its authority under TILA 

Section 105(a), 15 U.S.C. 1604(a), the 

Board proposed to require creditors to 

give consumers transaction-specific, 

early mortgage loan disclosures for 

closed-end loans secured by a 

consumer’s principal dwelling, 

including refinancings, home equity 

loans (other than HELOCs) and reverse 

mortgages. The proposed rule would 

require that creditors deliver this 

disclosure not later than three business 

days after application and before a 

consumer pays a fee to any person, 

other than a fee for obtaining the 

consumer’s credit history. The Board 

also proposed corresponding changes to 

the staff commentary and certain other 

conforming amendments to Regulation 

Z. Providing the mortgage loan 

disclosure early for all mortgage 

transactions, and before consumers have 

paid significant fees, would help 

consumers make informed use of credit 

and better enable them to shop among 

available credit alternatives. 

The Board is adopting § 226.19(a)(1) 

as proposed, with new commentary to 


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address concerns about application of 

the fee restriction to third parties, such 

as mortgage brokers. The early mortgage 

loan disclosure rule is effective for loans 

for which a creditor has received an 

application on or after October 1, 2009. 

Public Comment 

The Board sought comment on 

whether the benefits of requiring the 

early mortgage loan disclosure would 

outweigh operational or other costs, and 

whether further guidance was necessary 

to clarify what fees would be deemed in 

connection with an application. 

Many creditors and their trade 

associations opposed the proposal, 

arguing that the operational cost and 

compliance difficulties (for example, 

system reprogramming, testing, 

procedural changes, and staff training) 

outweigh the benefits of improving 

consumers’ ability to shop among 

alternative loans. They noted that the 

burden may be significant for some 

creditors, such as community banks. 

Citing operational difficulties, many 

industry commenters requested a 

compliance period of up to 18 months 

from the effective date of the final rule. 

They also expressed concern about the 

scope of the fee restriction and its 

application to third party originators. 

Consumer groups, state regulators and 

enforcement agencies that commented 

on proposed § 226.19(a)(1) generally 

supported the proposed rule because it 

would increase the availability of 

information to consumers when they are 

shopping for loans. Some, however, 

argued for greater enforceability and 

redisclosure before consummation of 

the loan transaction to enhance the 

accuracy of the information disclosed. 

Discussion 

TILA Section 128(b)(1), 15 U.S.C. 

1638(b)(1), provides that the closed-end 

credit disclosure (mortgage loan 

disclosure), which includes the APR 

and other material disclosures, must be 

delivered ‘‘before the credit is 

extended.’’ Regulation Z currently 

implements this statutory provision by 

allowing creditors to provide the 

disclosures at any time before 

consummation. TILA Section 128(b)(2) 

and § 226.19 of Regulation Z apply to 

‘‘residential mortgage transactions’’

subject to RESPA and require that ‘‘good 

faith estimates’’ of the mortgage loan 

disclosure be made before the credit is 

extended, or delivered not later than 

three business days after the creditor 

receives the consumer’s written 

application, whichever is earlier. 15 

U.S.C. 1638(b)(2). A residential 

mortgage transaction includes loans to 

finance the acquisition or initial 

construction of a consumer’s dwelling 

but does not include refinance or homeequity loans. The Board proposed to 

amend Regulation Z to implement TILA 

Section 128(b)(1) in a manner that 

would require the disclosures earlier in 

the mortgage transaction, rather than at 

any time before consummation, which 

would result in a requirement similar to 

TILA Section 128(b)(2). 

The final rule is issued pursuant to 

TILA Section 105(a), which mandates 

that the Board prescribe regulations to 

carry out TILA’s purposes. 15 U.S.C. 

1604(a). TILA Section 102(a) provides, 

in pertinent part, that TILA’s purposes 

are to assure a meaningful disclosure of 

credit terms so that the consumer is 

better able to compare various credit 

terms available and avoid the 

uninformed use of credit. 15 U.S.C. 

1601(a). The final rule is intended to 

help consumers make informed use of 

credit and shop among available credit 

alternatives. 

Under current Regulation Z, creditors 

need not deliver a mortgage loan 

disclosure on non-purchase mortgage 

transactions until consummation. As a 

practical matter, consumers commonly 

do not receive disclosures until the 

closing table. By that time consumers 

may not be in a position to make 

meaningful use of the disclosure. Once 

consumers have reached the settlement 

table, it is likely too late for them to use 

the disclosure to shop for mortgages or 

to inform themselves adequately of the 

terms of the loan. Consumers receive at 

settlement a large, often overwhelming, 

number of documents, and may not 

reasonably be able to focus adequate 

attention on the mortgage loan 

disclosure to verify that it reflects what 

they believe to be the loan’s terms. 

Moreover, by the time of loan 

consummation, consumers may feel 

committed to the loan because they are 

accessing equity for an urgent need, may 

be refinancing a loan to obtain a lower 

rate (which may only be available for a 

short time), or may have already paid 

substantial application or other fees. 

The early mortgage loan disclosure 

required by the final rule will provide 

information to consumers about the 

terms of the loan, such as the payment 

schedule, earlier in the shopping 

process. For example, ARMs may have 

a low, initial fixed rate period followed 

by a higher variable rate based on an 

index plus margin. Some fixed rate 

loans also may have a temporary initial 

rate that is discounted. These loans may 

be marketed to consumers on the basis 

of the low initial payment or the low 

initial interest rate. The payment 

schedule will show the increases in 

monthly payments when the rate 

increases. It will also show an APR for 

the full loan term based on the fully 

indexed rate instead of the initial rate. 

Providing this information not later than 

three business days after application, 

and before the consumer has paid a 

substantial fee, will help ensure that 

consumers have a genuine opportunity 

to review the credit terms offered; that 

the terms are consistent with their 

understanding of the transaction; and 

that the credit terms meet their needs 

and are affordable. This information 

will further enable the consumer to 

decide whether to move forward with 

the transaction or continue to shop 

among alternative loan products and 

sources of credit. 

The Board recognizes that the early 

mortgage loan disclosure rule will 

impose additional costs on creditors, 

some of which may be passed on in part 

to consumers. Because early disclosures 

currently are required for home 

purchase loans, some creditors already 

deliver early mortgage loan disclosures 

on non-purchase mortgages. Not all 

creditors, however, follow this practice, 

and they will also incur one-time 

implementation costs to modify their 

systems in addition to ongoing costs to 

originate loans. The Board believes, 

however, that the benefits to consumers 

of receiving early estimates of loan 

terms, such as enhanced shopping and 

competition, offset any additional costs. 

The Final Rule 

For the reasons discussed below, the 

Board is adopting the rule as proposed 

with new staff commentary to address, 

through examples, the application of the 

fee restriction to third parties, such as 

mortgage brokers. The final rule applies 

to all closed-end loans secured by a 

consumer’s principal dwelling (other 

than HELOCs) and requires creditors to 

deliver the early mortgage loan 

disclosure to consumers no later than 

three business days after application 

and before any fee is paid, other than a 

fee for obtaining the consumer’s credit 

history, such as a credit report. 

Third party originators. The Board 

proposed § 226.19(a)(1)(ii) to prohibit a 

creditor or any other person from 

collecting a fee, other than a fee for 

obtaining the consumer’s credit history, 

until the early mortgage loan disclosure 

is received by the consumer. 

Many creditors and their trade 

associations argued that the fee 

restriction would be difficult or 

impossible to apply and monitor in the 

wholesale channel, especially with 

respect to appraisal fees. These 

commenters noted that third parties, 

such as mortgage brokers, submit 

consumer applications to multiple 


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126See, e.g., Nontraditional Mortgage Guidance. 

creditors; they expressed concern that 

under the proposal lenders might have 

to refuse to accept a new application 

where the consumer has already paid a 

fee to a prior creditor but then withdrew 

the first application or had it denied. 

Most creditors also expressed concern 

that the phrase ‘‘any other person’’

would require them to monitor the 

timing of fees paid to brokers, and stated 

that they could not track such 

information accurately. Many creditors 

requested that the Board clarify whether 

creditors would have to refuse 

applications submitted by a broker that 

already had obtained a fee from the 

consumer (other than a fee for obtaining 

the consumer’s credit history) because it 

would be too late for creditors to 

comply with the timing requirement of 

the early mortgage loan disclosure. A 

few commenters urged the Board to 

limit the fee restriction to fees collected 

only by creditors. 

The Board is adopting the proposed 

rule without modification but is adding 

comment 19(a)(1)(ii)–3 to clarify the 

rule’s treatment of applications 

submitted by third parties, such as 

mortgage brokers, and to provide 

examples of compliance with the rule. 

A broker’s submission of a consumer’s 

information (registration) to more than 

one creditor, and the layered 

underwriting and approval process that 

occurs in the wholesale channel, may 

complicate implementation of the fee 

restriction. Generally a broker submits a 

consumer’s written application (the 

trigger for early TILA disclosures under 

§ 226.19(a)(1)(i)) to only one creditor 

based on product offerings, the 

consumer’s choice, and other factors. 

Under the final rule, once the creditor 

receives the consumer’s written 

application, the creditor must provide 

the early mortgage loan disclosure after 

which the creditor and/or the broker 

may collect fees (other than a fee for 

obtaining the consumer’s credit history) 

from the consumer. However, after the 

collection of fees, the creditor may 

engage in further underwriting that 

could result in a denial of the 

consumer’s application. The broker may 

then submit the application to a 

different creditor who must also comply 

with the final rule. 

The Board proposed to regulate the 

collection of fees by ‘‘any other person’’

in § 226.19(a)(1)(ii) to avoid 

circumvention of the fee restriction. 

However, in some circumstances it may 

not be reasonable to expect creditors to 

know whether the consumer paid a fee 

to a broker before receiving the early 

mortgage loan disclosure. Therefore, the 

Board is adding new comment 

19(a)(1)(ii)–3 to illustrate through 

examples when creditors are in 

compliance with § 226.19(a)(1)(ii). The 

new commentary addresses the 

situation where a mortgage broker 

submits a consumer’s written 

application to a new creditor because a 

prior creditor denied the consumer’s 

mortgage application, or the consumer 

withdrew the application, but the 

consumer already paid a fee to the prior 

creditor (aside from a fee for obtaining 

the consumer’s credit history). The 

comment clarifies that in this situation, 

the new creditor or third party complies 

with § 226.19(a)(1)(ii) if it does not 

collect or impose any additional fee 

until after the consumer receives an 

early mortgage loan disclosure from the 

new creditor. 

Many creditors also stated that the 

rule would inappropriately require them 

to monitor the actions of third parties. 

Although the rule does not require 

creditors to take specific action with 

respect to monitoring third parties, 

creditors must comply with this rule 

whether they deal with consumers 

directly or indirectly through third 

parties. Creditors that receive 

applications through a third party may 

choose to require through contractual 

arrangement that the third party include 

with a consumer’s written application a 

certification, for example, that no fee 

has been collected in violation of 

§ 226.19(a)(1). The Board also notes that 

the federal banking agencies have issued 

guidance that addresses, among other 

things, systems and controls that should 

be in place for establishing and 

maintaining relationship with third 

parties.126

The Board recognizes that 

unscrupulous third parties may not 

comply with the fee restriction, 

regardless of contractual obligations. 

The Board may consider, as part of its 

overall review of closed-end 

disclosures, whether it should propose 

rules that would directly prohibit third 

parties from collecting a fee before the 

consumer receives the early mortgage 

loan disclosure, other than a fee for 

obtaining the consumer’s credit history. 

Scope of the fee restriction. 

Regulation Z currently does not prohibit 

creditors from collecting any fee before 

giving consumers the closed-end credit 

disclosures required by § 226.19(a)(1). 

The Board proposed in § 226.19(a)(1)(ii) 

to prohibit the collection of any fee, 

other than a fee for obtaining the 

consumer’s credit history, until after the 

consumer receives the early mortgage 

loan disclosure. Most industry 

commenters urged the Board to broaden 

the fee exception to include, for 

example, rate lock, appraisal and flood 

certification fees. They argued that 

prohibiting these fees could harm 

consumers in a rising interest rate 

environment, delay consumers’ access 

to credit (for example, delay conditional 

approvals, application processing, 

closing and funding of loans), and 

reverse the benefits of automated and 

streamlined mortgage loan processing. 

Some commenters urged alternatively 

that the Board restrict only the 

imposition of nonrefundable fees. In 

contrast, state regulators urged the 

Board to tighten the fee restriction, 

noting that allowing the collection of 

credit report fees will conflict with 

many state laws. 

The Board is adopting the rule 

regarding the fee restriction as 

proposed. Consumers typically pay fees 

to apply for a mortgage loan, such as 

fees for a credit report, a property 

appraisal, or an interest rate lock, as 

well as general ‘‘application’’ fees to 

process the loan. If the fees are 

significant, as they often are for 

appraisals and for extended rate locks, 

consumers may feel constrained from 

shopping for alternative loans because 

they feel financially committed to the 

transaction. This risk is particularly 

high in the subprime market, where 

consumers often are cash-strapped and 

where limited price transparency may 

obscure the benefits of shopping for 

mortgage loans, as discussed in more 

detail in part II. The risk also applies to 

the prime market, where many 

consumers would find a fee of several 

hundred dollars, such as the fee often 

imposed for an appraisal and other 

services, to be costly enough to deter 

them from shopping further among 

alternative loans and sources. Limiting 

the fee restriction to nonrefundable fees 

also would likely undermine the intent 

of the rule. Consumers, especially those 

in the subprime market, may not have 

sufficient cash to pay ‘‘refundable fees’’

to multiple creditors, and therefore 

would be discouraged from shopping or 

otherwise unable to obtain multiple 

early mortgage loan disclosures to 

compare credit terms. 

In addition, the definition of 

‘‘business day’’ under § 226.2(a)(6) is 

being revised for purposes of the 

consumer’s receipt of early mortgage 

loan disclosures under § 226.19(a)(1)(ii). 

Existing § 226.2(a)(6) contains two 

definitions of ‘‘business day.’’ Under the 

standard definition, a business day 

means a day on which the creditor’s 

offices are open to the public for 

carrying on substantially all of its 

business functions. However, for 

purposes of rescission under §§ 226.15 

and 226.23, and for purposes of 


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§ 226.31, a ‘‘business day’’ means all 

calendar days except Sundays and 

specified legal public holidays. The 

definition of ‘‘business day’’ is being 

revised to apply the second definition of 

business day to the consumer’s receipt 

of early mortgage loan disclosures under 

§ 226.19(a)(1)(ii). The Board believes 

that the definition of business day that 

excludes Sundays and legal public 

holidays is more appropriate because 

consumers should not be presumed to 

have received disclosures in the mail on 

a day on which there is no mail 

delivery. 

Under the final rule, creditors may 

presume that the consumer receives the 

early mortgage loan disclosure three 

business days after mailing. For 

example, a creditor that puts the early 

mortgage loan disclosure in the mail on 

a Friday can presume that the consumer 

receives such disclosure the following 

Tuesday, and impose appraisal, ratelock and other application fees after 

midnight on Tuesday (assuming there 

are no intervening legal public 

holidays). The Board does not believe 

that the rule delaying the collection of 

fees will have a significant negative 

impact on the mortgage loan application 

and approval process. Three business 

days sets an appropriate timeframe for 

the consumer to receive and review the 

early mortgage loan disclosure. It is not 

always practical for a creditor to know 

when a consumer will actually receive 

the early mortgage loan disclosure. 

Creditors can choose among many 

different methods to deliver the 

disclosures to consumers, such as by 

overnight delivery service, e-mail or 

regular postal mail. In most instances 

consumers will receive the early 

mortgage loan disclosure within three 

business days, and the Board notes that 

it is common industry practice to 

deliver mortgage disclosures by 

overnight courier. 

The Board contemplated providing a 

longer timeframe for the presumption of 

receipt of the early mortgage loan 

disclosure. Some originators could 

delay hiring an appraiser until after the 

consumer pays an appraisal fee, which 

would delay the appraisal report and 

the processing time for the application. 

Some creditors may refuse to lock-in the 

interest rate until after the consumer 

pays a rate lock fee, or alternatively 

lock-in the interest rate and bear some 

market risk or cost until it can impose 

a rate lock fee on the consumer. The 

Board believes the three business day 

time frame for the fee restriction strikes 

a proper balance between enabling 

consumers to review their credit terms 

before making a financial commitment 

and maintaining the efficiency of 

automated and streamlined loan 

processing. 

Presumption of receipt. Proposed 

§ 226.19(a)(1)(ii) provided that a fee may 

not be imposed until after a consumer 

has received the early mortgage loan 

disclosure and that the consumer is 

presumed to receive the disclosure three 

business days after it is mailed. 

Proposed comment 19(a)(1)(ii)–1 

clarified further that creditors may 

charge a consumer a fee, in all cases, 

after midnight of the third business day 

following mailing the disclosure, and 

for disclosures delivered in person, fees 

may be charged anytime after delivery. 

One commenter addressed the receipt 

of disclosures sent by mail and 

suggested that the Board consider: (1) A 

presumption that disclosures sent by 

overnight courier are received by the 

consumer the next day; and (2) a 

presumption that disclosures delivered 

by electronic communication in 

compliance with applicable 

requirements under the Electronic 

Signatures in Global and National 

Commerce Act (‘‘E–Sign Act’’), 15 

U.S.C. 7001 et seq., are received by the 

consumer immediately. 

The Board considered but is not 

adopting rules for overnight courier and 

other delivery methods. For example, 

overnight courier companies do not 

appear to adhere to one generally 

accepted definition for ‘‘overnight 

delivery’’; it may mean next business 

day or next calendar day. Recognized 

holidays and business hours also affect 

what is considered overnight delivery. 

In light of these variations the Board 

believes it is not feasible to define with 

sufficient clarity what may be 

considered acceptable ‘‘overnight 

delivery’’ or to delineate a presumption 

of receipt for all available methods of 

delivery. 

In addition, although the final rule 

provides a presumption of receipt if the 

early mortgage loan disclosure is 

delivered by mail, it does not prevent 

creditors from choosing any permissible 

method available to deliver the early 

mortgage loan disclosure, such as 

overnight courier or e-mail if in 

compliance with the E–Sign Act. 

Creditors may impose such fees any 

time after the consumer actually 

receives the early mortgage loan 

disclosure. Evidence of receipt by the 

consumer, such as documentation that 

the mortgage loan disclosure was 

delivered by certified mail, overnight 

delivery, or e-mail (if similar 

documentation is available), is sufficient 

to establish compliance with 

§ 226.19(a)(1)(ii). 

Exception to fee restriction. Proposed 

§ 226.19(a)(1)(iii) provided that a fee for 

obtaining the consumer’s credit history 

may be charged before the consumer 

receives the early mortgage loan 

disclosure, provided the fee is ‘‘bona 

fide and reasonable in amount.’’ Many 

creditors and their trade associations 

noted that different pricing schedules 

make it difficult to ascertain the exact 

cost of a credit report and urged the 

Board to allow creditors to charge a flat 

or nominal fee for the credit report. 

The Board is adopting 

§ 226.19(a)(1)(iii) as proposed. The final 

rule recognizes that creditors generally 

cannot provide accurate transactionspecific cost estimates without having 

considered the consumer’s credit 

history. Requiring creditors to bear the 

cost of reviewing credit history with 

little assurance the consumer will apply 

for a loan would be unduly 

burdensome. Some creditors might 

forego obtaining the consumer’s credit 

history; disclosures made without any 

credit risk assessment of the consumer 

are likely to be of little value to the 

consumer. 

The language ‘‘bona fide and 

reasonable in amount,’’ in 

§ 226.19(a)(1)(iii) does not require the 

creditor to charge the consumer the 

actual cost incurred by the creditor for 

that particular credit report, but rather 

contemplates a reasonable and 

justifiable fee. Many creditors enter into 

arrangements where pricing varies 

based on volume of business or other 

legitimate business factors, which 

makes the exact charge imposed on a 

particular consumer difficult to 

determine. The Board believes that a fee 

that bears a reasonable relationship to 

the actual charge incurred by the 

creditor is ‘‘bona fide and reasonable in 

amount.’’

Enhanced civil remedies and 

redisclosure. The Board proposed the 

early mortgage loan disclosure pursuant 

to its authority under TILA Section 

105(a), 15 U.S.C. 1604(a). Consumer 

advocacy groups generally support the 

early mortgage loan disclosure, but 

urged the Board to allow for civil 

enforcement to ensure compliance. 

They argued that without enhanced 

remedies, the disclosures could become 

instruments for ‘‘bait and switch’’

schemes. Specifically, consumer groups 

urged the Board to use its authority 

under TILA Section 129(l)(2), 15 U.S.C. 

1639(l)(2), in addition to Section 105(a), 

and declare that failure to deliver timely 

and accurate early disclosures is an 

unfair and deceptive practice subject to 

enhanced damages under Section 

129(l)(2). Consumer groups also argued 

that the early mortgage loan disclosure 

should be considered a material 

disclosure subject to remedies available 


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under TILA Section 130(a)(4), 15 U.S.C. 

1640(a)(4) and extended rescission 

rights. 

The Board is adopting the final rule 

as proposed, pursuant to its authority 

under TILA Section 105(a), 15 U.S.C. 

1604(a). The early mortgage loan 

disclosure is an early good faith 

estimate of transaction-specific terms, 

such as the APR and payment schedule. 

Although the Board shares commenters’

concerns about bait and switch tactics, 

responsible creditors may not know the 

precise credit terms to disclose, and 

therefore must provide estimates, 

because the disclosure must be provided 

before the underwriting process is 

complete. However, through its review 

of closed-end mortgage disclosures, the 

Board may determine that some 

requirement for accuracy of the early 

disclosures is feasible. 

Consumer groups and others also 

suggested that the Board require 

redisclosure of the early mortgage loan 

disclosure some time period (e.g., at 

least seven days) before consummation 

if there have been material changes. 

They asserted that an inaccurate or 

misleading early disclosure could cause 

consumers to stop shopping based on 

erroneous credit terms. Under current 

§ 226.19(a)(2), redisclosure already is 

required no later than consummation 

and industry practice is to give the 

consumer a final TILA at closing, which 

does not facilitate shopping. The final 

rule does not revise the requirements for 

redisclosure prior to consummation. 

The Board may consider the need for 

additional rules as part of its overall 

review of closed-end mortgage 

disclosures. 

B. Plans To Improve Disclosure 

Most creditors and their trade 

associations, citing the HUD’s current 

RESPA proposal and the 1998 Federal 

Reserve Board and HUD Joint Report to 

the Congress Concerning Reform to 

TILA and RESPA, urged the Board to 

delay the proposed early mortgage loan 

disclosure rule and make it part of 

broader disclosure reform, or at least 

part of the comprehensive review of 

Regulation Z’s closed-end rules that the 

Board is conducting currently. 

The Board believes that better 

information in the mortgage market can 

improve competition and help 

consumers make better decisions. The 

final rule is designed, in part, to prevent 

incomplete or misleading mortgage loan 

advertisements and solicitations, and to 

require creditors to provide mortgage 

disclosures earlier so that consumers 

can get the information they need when 

it is most useful to them. The Board 

recognizes that the content and format 

of these required early mortgage loan 

disclosures may need to be updated to 

reflect the increased complexity of 

mortgage products. The Board is 

reviewing current TILA mortgage 

disclosures and potential revisions to 

these disclosures through consumer 

testing. The Board expects that this 

testing will identify potential 

improvements for the Board to propose 

for public comment in a separate 

rulemaking. In addition, the Board will 

continue to have discussions with HUD 

to improve mortgage disclosures. 

XIII. Mandatory Compliance Dates 

Under TILA Section 105(d), certain of 

the Board’s disclosure regulations are to 

have an effective date of that October 1 

which follows by at least six months the 

date of promulgation. 15 U.S.C. 1604(d). 

However, the Board may, at its 

discretion, lengthen the implementation 

period for creditors to adjust their forms 

to accommodate new requirements, or 

shorten the period where the Board 

finds that such action is necessary to 

prevent unfair or deceptive disclosure 

practices. No similar effective date 

requirement exists for non-disclosure 

regulations. 

The Board requested comment on 

whether six months would be an 

appropriate implementation period, and 

on the length of time necessary for 

creditors to implement the proposed 

rules, as well as whether the Board 

should specify a shorter implementation 

period for certain provisions to prevent 

unfair or deceptive practices. Three 

organizations of state consumer credit 

regulators who jointly commented 

suggested that some of the proposed 

revisions could be enacted quickly 

without any burden to creditors, and 

requested implementation as soon as 

possible. Many industry commenters 

and their trade associations stated that 

although six months is an appropriate 

time period to implement some parts of 

the rule, creditors would need 

additional time to make system 

enhancements and to implement 

compliance training for other parts of 

the rule. For example, they stated that 

extra time is needed to establish systems 

to identify loans at or above the APR 

trigger for higher-priced mortgage loans. 

Most commenters who addressed the 

effective date specifically requested a 

compliance period longer than six 

months for the proposed early mortgage 

loan disclosure requirement and the 

proposed escrow requirement. In light 

of these concerns, the Board believes 

additional compliance time beyond six 

months is appropriate. Therefore, 

compliance with the final rule will be 

mandatory as specified below. 

Early TILA Disclosures 

Pursuant to Section 105(d), the 

requirement to provide consumers with 

transaction-specific mortgage loan 

disclosures under § 226.19 applies to all 

applications received on or after 

October 1, 2009. Although state 

regulators noted that some creditors 

already have systems in place to provide 

early mortgage loan disclosures to 

comply with state law requirements, 

creditors and their trade groups 

generally urged the Board to allow more 

lead time than six months to comply to 

provide sufficient time for system reprogramming, testing, procedural 

changes, and staff training. 

The early mortgage disclosure rule is 

triggered by the date of receipt of a 

consumer’s written application, and 

therefore all written applications 

received by creditors on or after October 

1, 2009 must comply with § 226.19. 

Existing comment 19(a)(1)–3 

(redesignated as comment 19(a)(1)(i)–3) 

states that a written application is 

deemed received when it reaches the 

creditor in any of the ways applications 

are normally transmitted, such as mail, 

hand delivery or through a broker. 

For example, a creditor that receives 

a consumer’s written application for a 

mortgage refinancing on September 30, 

2009, and which is consummated on 

October 29, 2009, does not need to 

deliver an early mortgage loan 

disclosure to the consumer and 

otherwise comply with the fee 

restriction requirements of this rule. A 

creditor that receives a consumer’s 

written application on October 1, 2009 

must deliver to the consumer an early 

mortgage loan disclosure within three 

business days and before the consumer 

pays a fee to any person, other than a 

fee for obtaining the consumer’s credit 

history. The creditor may impose a fee 

on the consumer, such as for an 

appraisal or underwriting, after the 

consumer receives the disclosure. Under 

§ 226.19(a)(1)(ii) the consumer is 

presumed to have received the early 

mortgage loan disclosure three business 

days after it is mailed, and therefore, the 

creditor may impose a fee after midnight 

on the third business day following 

mailing. 

Escrow Rules 

As described in part IX.D, although 

many creditors currently provide for 

escrows, large creditor commenters and 

their trade associations requested that 

this provision be delayed by 12 to 24 

months to allow creditors that currently 

have no escrowing capacity or 

infrastructure to implement the 

necessary systems and processes. 


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Manufactured housing industry 

commenters were particularly 

concerned because, as described in Part 

IX.D, currently a limited infrastructure 

is in place for escrowing on 

manufactured housing loans. 

Accordingly, the requirement to 

establish an escrow account for taxes 

and insurance (§ 226.35(b)(3)) for 

higher-priced mortgage loans is effective 

for such loans for which creditors 

receive applications on or after April 1, 

2010. For higher-priced mortgage loans 

secured by manufactured housing, 

however, compliance is mandatory for 

such loans for which creditors receive 

applications on or after October 1, 2010. 

Advertising Rules and Other Rules 

Adopted Under TILA Section 129(l)(2) 

The final advertising rules are 

effective for advertisements occurring 

on or after October 1, 2009. For 

example, the advertising rules would be 

applicable to radio advertisements 

broadcast on or after October 1, 2009, or 

for solicitations mailed on or after 

October 1, 2009. The servicing rules are 

effective for any loans serviced on or 

after October 1, 2009, whether the 

servicer obtained servicing rights on the 

loan before or after that date. The 

remaining rules are effective for loans 

for which a creditor receives an 

application on or after October 1, 2009. 

Application of Mandatory Compliance 

Dates; Pre-Existing Obligations 

As described above, the final rule is 

prospective in application. Sometimes a 

change in the terms of an existing 

obligation constitutes a refinancing, 

which is a new transaction requiring 

new disclosures. An assumption, where 

the creditor agrees in writing to accept 

a subsequent consumer as a primary 

obligor, is also treated as a new 

transaction. See 12 CFR 226.20(a) and 

(b). A refinancing or assumption is 

covered by a provision of the final rule 

if the transaction occurs on or after that 

provision’s effective date. For example, 

if a creditor receives an application for 

a refinancing on or after October 1, 

2009, and the refinancing is 

consummated on October 15, 2009, the 

provision restricting prepayment 

penalties in § 226.35(b)(2) applies, but 

the escrow requirement in § 226.35(b)(3) 

would not apply because the escrow 

provision is only effective for new 

transactions where the application is 

received on or after April 1, 2010 (or 

October 1, 2010 for manufactured 

housing-secured loans). However, if a 

modification of an existing obligation’s 

terms that does not constitute a 

refinancing under § 226.20(a) occurs on 

October 15, 2009, the restriction on 

prepayment penalties would not apply. 

Nevertheless, the loan servicing rules in 

§ 226.36(c) will apply to loan servicers 

as of October 1, 2009, regardless of 

when the creditor received the 

application or consummated the 

transaction. 

XIV. Paperwork Reduction Act 

In accordance with the Paperwork 

Reduction Act (PRA) of 1995 (44 U.S.C. 

3506; 5 CFR part 1320 app. A.1), the 

Board reviewed the final rule under the 

authority delegated to the Board by the 

Office of Management and Budget 

(OMB). The collection of information 

that is required by this final rulemaking 

is found in 12 CFR part 226. The Board 

may not conduct or sponsor, and an 

organization is not required to respond 

to, this information collection unless the 

information collection displays a 

currently valid OMB control number. 

The OMB control number is 7100–0199. 

This information collection is 

required to provide benefits for 

consumers and is mandatory (15 U.S.C. 

1601 et seq.). The respondents/ 

recordkeepers are creditors and other 

entities subject to Regulation Z, 

including for-profit financial 

institutions and small businesses. Since 

the Board does not collect any 

information, no issue of confidentiality 

normally arises. However, in the event 

the Board were to retain records during 

the course of an examination, the 

information may be protected from 

disclosure under the exemptions (b)(4), 

(6), and (8) of the Freedom of 

Information Act (5 U.S.C. 522(b)). 

TILA and Regulation Z are intended 

to ensure effective disclosure of the 

costs and terms of credit to consumers. 

For open-end credit, creditors are 

required, among other things, to 

disclose information about the initial 

costs and terms and to provide periodic 

statements of account activity, notices of 

changes in terms, and statements of 

rights concerning billing error 

procedures. Regulation Z requires 

specific types of disclosures for credit 

and charge card accounts and homeequity plans. For closed-end loans, such 

as mortgage and installment loans, cost 

disclosures are required to be provided 

prior to consummation. Special 

disclosures are required in connection 

with certain products, such as reverse 

mortgages, certain variable-rate loans, 

and certain mortgages with rates and 

fees above specified thresholds. TILA 

and Regulation Z also contain rules 

concerning credit advertising. Creditors 

are required to retain evidence of 

compliance for 24 months, 12 CFR 

226.25, but Regulation Z does not 

specify the types of records that must be 

retained. 

Under the PRA, the Board accounts 

for the paperwork burden associated 

with Regulation Z for the state member 

banks and other creditors supervised by 

the Board that engage in lending 

covered by Regulation Z and, therefore, 

are respondents under the PRA. 

Appendix I of Regulation Z defines the 

Federal Reserve-regulated institutions 

as: State member banks, branches and 

agencies of foreign banks (other than 

federal branches, federal agencies, and 

insured state branches of foreign banks), 

commercial lending companies owned 

or controlled by foreign banks, and 

organizations operating under section 

25 or 25A of the Federal Reserve Act. 

Other federal agencies account for the 

paperwork burden on other creditors. 

Paperwork burden associated with 

entities that are not creditors will be 

accounted for by other federal agencies. 

To ease the burden and cost of 

complying with Regulation Z 

(particularly for small entities), the 

Board provides model forms, which are 

appended to the regulation. 

As mentioned in the Preamble, on 

January 9, 2008, a notice of proposed 

rulemaking (NPR) was published in the 

Federal Register (73 FR 1672). The 

comment period for this notice expired 

on April 8, 2008. No comments 

specifically addressing the burden 

estimate were received; therefore, the 

burden estimates will remain 

unchanged as published in the NPR. 

The final rule will impose a one-time 

increase in the total annual burden 

under Regulation Z by 46,880 hours 

from 552,398 to 599,278 hours. This 

burden increase will be imposed on all 

Federal Reserve-regulated institutions 

that are deemed to be respondents for 

the purposes of the PRA. Note that these 

burden estimates do not include the 

burden addressing changes to format, 

timing, and content requirements for the 

five main types of open-end credit 

disclosures governed by Regulation Z as 

announced in a separate proposed 

rulemaking (Docket No. R–1286). 

The Board has a continuing interest in 

the public’s opinions of our collections 

of information. At any time, comments 

regarding the burden estimate, or any 

other aspect of this collection of 

information, including suggestions for 

reducing the burden, may be sent to: 

Secretary, Board of Governors of the 

Federal Reserve System, 20th and C 

Streets, NW., Washington, DC 20551; 

and to the Office of Management and 

Budget, Paperwork Reduction Project 

(7100–0199), Washington, DC 20503. 


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127U.S. Small Business Administration, Table of 

Small Business Size Standards Matched to North 

American Industry Classification System Codes, 

available at http://www.sba.gov/idc/groups/public/ 

documents/sba_homepage/serv_sstd_tablepdf.pdf. 128 73 FR 1672, 1720 (Jan. 9, 2008). 

XV. Regulatory Flexibility Analysis 

In accordance with section 4 of the 

Regulatory Flexibility Act (RFA), 5 

U.S.C. 601–612, the Board is publishing 

a final regulatory flexibility analysis for 

the proposed amendments to Regulation 

Z. The RFA requires an agency either to 

provide a final regulatory flexibility 

analysis with a final rule or certify that 

the final rule will not have a significant 

economic impact on a substantial 

number of small entities. An entity is 

considered ‘‘small’’ if it has $165 

million or less in assets for banks and 

other depository institutions; and $6.5 

million or less in revenues for non-bank 

mortgage lenders, mortgage brokers, and 

loan servicers.127

The Board received a large number of 

comments contending that the proposed 

rule would have a significant impact on 

various businesses. In addition, the 

Board received one comment on its 

initial regulatory flexibility analysis. 

Based on public comment, the Board’s 

own analysis, and for the reasons stated 

below, the Board believes that this final 

rule will have a significant economic 

impact on a substantial number of small 

entities. 

1. Statement of the Need for, and 

Objectives of, the Final Rule 

The Board is publishing final rules to 

establish new regulatory protections for 

consumers in the residential mortgage 

market through amendments to 

Regulation Z, which implements TILA 

and HOEPA. As stated more fully above, 

the amendments are intended to protect 

consumers in the mortgage market from 

unfair, abusive, or deceptive lending 

and servicing acts or practices while 

preserving responsible lending and 

sustainable homeownership. Some of 

the restrictions apply to only higherpriced mortgage loans, while others 

apply to all mortgage loans secured by 

a consumer’s principal dwelling. For 

example, for higher-priced mortgage 

loans, the amendments prohibit lending 

based on the collateral without regard to 

consumers’ ability to repay their 

obligations from income, or from other 

sources besides the collateral. In 

addition, the amendments’ goals are to 

ensure that advertisements for mortgage 

credit provide accurate and balanced 

information and do not contain 

misleading or deceptive representations; 

and to provide consumers transactionspecific disclosures early enough to use 

while shopping for a mortgage. 

2. Summary of Issues Raised by 

Comments in Response to the Initial 

Regulatory Flexibility Analysis 

In accordance with section 3(a) of the 

RFA, 5 U.S.C 603(a), the Board prepared 

an initial regulatory flexibility analysis 

(IRFA) in connection with the proposed 

rule, and acknowledged that the 

projected reporting, recordkeeping, and 

other compliance requirements of the 

proposed rule would have a significant 

economic impact on a substantial 

number of small entities. In addition, 

the Board recognized that the precise 

compliance costs would be difficult to 

ascertain because they would depend on 

a number of unknown factors, 

including, among other things, the 

specifications of the current systems 

used by small entities to prepare and 

provide disclosures and/or solicitations 

and to administer and maintain 

accounts, the complexity of the terms of 

credit products that they offer, and the 

range of such product offerings. The 

Board sought information and comment 

on any costs, compliance requirements, 

or changes in operating procedures 

arising from the application of the 

proposed rule to small entities. The 

Board recognizes that businesses often 

pass compliance costs on to consumers 

and that a less costly rule could benefit 

both small business and consumers. 

The Board reviewed comments 

submitted by various entities in order to 

ascertain the economic impact of the 

proposed rule on small entities. A 

number of financial institutions and 

mortgage brokers expressed concern that 

the Board had underestimated the costs 

of compliance. In addition, the Office of 

Advocacy of the U.S. Small Business 

Administration (Advocacy) submitted a 

comment on the Board’s IRFA. 

Executive Order 13272 directs Federal 

agencies to respond in a final rule to 

written comments submitted by 

Advocacy on a proposed rule, unless the 

agency certifies that the public interest 

is not served by doing so. The Board’s 

response to Advocacy’s comment letter 

is below. 

Response to U.S. Small Business 

Administration comment. Advocacy 

supported the consumer protection 

goals in the proposed rule, but 

expressed concern that the Board’s IRFA 

did not adequately assess the impact of 

the proposed rule on small entities as 

required by the RFA. Advocacy urged 

the Board to issue a new proposal 

containing a revised IRFA. For the 

reasons stated below, the Board believes 

that its IRFA complied with the 

requirements of the RFA and the Board 

is proceeding with a final rule. 

Advocacy suggested that the Board 

failed to provide sufficient information 

about the economic impact of the 

proposed rule and that the Board’s 

request for public comment on the costs 

to small entities of the proposed rule 

was not appropriate. Section 3(a) of the 

RFA requires agencies to publish for 

comment an IRFA which shall describe 

the impact of the proposed rule on small 

entities. 5 U.S.C 603(a). In addition, 

section 3(b) requires the IRFA to contain 

certain information including a 

description of the projected reporting, 

recordkeeping and other compliance 

requirements of the proposed rule, 

including an estimate of the classes of 

small entities which will be subject to 

the requirement and the type of 

professional skills necessary for 

preparation of the report or record. 5 

U.S.C. 603(b). 

The Board’s IRFA complied with the 

requirements of the RFA. First, the 

Board described the impact of the 

proposed rule on small entities by 

describing the rule’s proposed 

requirements in detail throughout the 

supplementary information for the 

proposed rule. Second, the Board 

described the projected compliance 

requirements of the rule in its IRFA, 

noting the need for small entities to 

update systems, disclosures and 

underwriting practices.128 The RFA 

does not require the Board to undertake 

an exhaustive economic analysis of the 

proposal’s impact on small entities in 

the IRFA. Instead, the IRFA procedure 

is intended to evoke commentary from 

small businesses about the effect of the 

rule on their activities, and to require 

agencies to consider the effect of a 

regulation on those entities. Cement 

Kiln Recycling Coalition v. EPA, 255 

F.3d 855, 868 (D.C. Cir. 2001). The 

Board described the projected impact of 

the proposed rule and sought comments 

from small entities themselves on the 

effect the proposed rule would have on 

their activities. The Board also notes 

that the final rule does not adopt the 

proposed rule on creditor payments to 

mortgage brokers, reducing the final 

rule’s impact on small mortgage broker 

entities. 

Advocacy also commented that the 

Board failed to provide sufficient 

information about the number of small 

mortgage brokers that may be impacted 

by the rule. Section 3(b)(3) of the RFA 

requires the IRFA to contain a 

description of and, where feasible, an 

estimate of the number of small entities 

to which the proposed rule will apply. 

5 U.S.C. 603(b)(3) (emphasis added). 

The Board provided a description of the 


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129 Id. at 1719. 

130 Id. at 1720. According to the National 

Association of Mortgage Brokers, in 2004 there were 

53,000 mortgage brokerage companies that 

employed an estimated 418,700 people. The Board 

believes that most of these companies are small 

entities. In its comment letter, Advocacy noted that 

the appropriate SBA size standard for mortgage 

brokers is $6.5 million in average annual receipts 

and that, of 15,590 mortgage broker firms in the 

U.S. according to the 2002 Economic Census data, 

15,195 would be classified as small using the $6.5 

million standard. 

131 73 FR 1672, 1719 (Jan. 9, 2008). 

132 Id. at 1720. 

133 Id. at 1717. 

small entities to which the proposed 

rule would apply and provided an 

estimate of the number of small 

depository institutions to which the 

proposed rule would apply.129 The 

Board also provided an estimate of the 

total number of mortgage broker entities 

and estimated that most of these were 

small entities.130 The Board stated that 

it was not aware of a reliable source for 

the total number of small entities likely 

to be affected by the proposal.131 Thus, 

the Board did not find it feasible to 

estimate their number. 

Advocacy also suggested that the 

Board’s IRFA did not sufficiently 

address alternatives to the proposed 

rule. Section 3(c) of the RFA requires 

that an IRFA contain a description of 

any significant alternatives to the 

proposed rule which accomplish the 

stated objectives of applicable statutes 

and which minimize any significant 

economic impact of the proposed rule 

on small entities. 5 U.S.C. 603(c). The 

Board’s IRFA discusses the alternative 

of improved disclosures and requests 

comment on other alternatives. 

Advocacy commented that the Board’s 

IRFA does not discuss the economic 

impact that the disclosure alternative 

would have on small entities. Yet the 

Board’s IRFA discussion of the 

disclosure alternative indicates that the 

Board does not believe that the 

disclosure alternative would accomplish 

the stated objectives of applicable 

statutes.132 Advocacy also suggested 

that the Board did not discuss other 

alternatives such as a later 

implementation date. However, the 

Board specifically discussed and 

requested comment on the effective date 

in another section of the supplementary 

information to the proposed rule.133

Section 5(a) of the RFA permits an 

agency to perform the IRFA analysis 

(among others) in conjunction with or as 

part of any other analysis required by 

any other law if such other analysis 

satisfies the provisions of the RFA. 5 

U.S.C. 605(a). Other alternatives were 

discussed throughout the 

supplementary information to the 

Board’s proposal. 

Other comments. In addition to 

Advocacy’s comment letter, a number of 

industry commenters expressed 

concerns that the rule, as proposed, 

would be costly to implement, would 

not provide enough flexibility, and 

would not adequately respond to the 

needs or nature of their business. Many 

commenters argued that improved 

disclosures could protect consumers 

against unfair acts or practices in 

connection with closed-end mortgage 

loans secured by a consumer’s principal 

dwelling as well as the proposed rule. 

As discussed in part XII, while the 

Board anticipates proposing 

improvements to mortgage loan 

disclosures, the Board believes that 

better disclosures alone would not 

adequately address unfair, abusive or 

deceptive practices in the mortgage 

market, including the subprime market. 

Since improved disclosures alone 

would fail to accomplish the stated 

objectives of TILA Section 129(l)(2), 

which authorizes the Board to prohibit 

unfair or deceptive practices in 

connection with mortgage loans, the 

Board concluded that improved 

disclosures alone do not represent a 

significant alternative to the proposed 

rule, as a result of which the IRFA did 

not discuss the economic impact of 

improved disclosures. 

Many of the issues raised by 

commenters do not apply uniquely to 

small entities and are addressed above 

in other parts of the SUPPLEMENTARY

INFORMATION. The comments that 

expressed specific concerns about the 

effect of the proposed rule on small 

entities are discussed below. 

Defining loans as higher-priced. The 

proposed rule defined higher-priced 

mortgage loans as loans with an APR 

that exceeds the comparable Treasury 

security by three or more percentage 

points for first-lien loans, or five or 

more percentage points for subordinatelien loans. Some small banks, 

community banks and manufactured 

housing representatives expressed 

concerns that, based on the proposed 

definition of higher-priced mortgage 

loans, some prime loans may be 

classified as higher-priced, which could 

have negative impact on their business. 

Many of these commenters proposed 

changing the definition of higher-priced 

mortgage loans, and manufactured 

housing industry representatives 

proposed a separate standard for 

personal property loans on 

manufactured homes. 

As discussed above, the Board is 

adopting a definition of ‘‘higher-priced 

mortgage loan’’ that is similar in 

concept to the definition proposed, but 

different in the particulars. The final 

definition, like the proposed definition, 

sets a threshold above a market rate to 

distinguish higher-priced mortgage 

loans from the rest of the mortgage 

market. Instead of yields on Treasury 

securities, the definition in the final rule 

uses a survey-based estimate of market 

rates for the lowest-risk prime 

mortgages, referred to as the average 

prime offer rate. The Board believes that 

the final rule will more effectively meet 

both goals of covering prime loans and 

excluding prime, though it will cover 

some prime loans under certain market 

conditions. 

Escrows. The proposed rule would 

require creditors to establish escrow 

accounts for taxes and insurance and 

permitted them to allow borrowers to 

opt out of escrows 12 months after loan 

consummation. Several industry 

commenters noted that the compliance 

with the escrow proposal would be 

costly and many small banks and 

community banks commented that they 

do not currently require escrows 

because of this cost. A few small lenders 

commented that the costs of setting up 

escrow accounts are prohibitively 

expensive but did not disclose what 

such costs are. Manufactured housing 

industry commenters were especially 

concerned about the cost of requiring 

escrows for manufactured homes that 

are taxed as personal property because 

there is no unified, systematic process 

for the collection of personal property 

taxes among various government 

entities. 

The final rule is adopted substantially 

as proposed. As discussed above, the 

Board does not believe that alternatives 

to the final rule would achieve HOEPA’s 

objectives. The Board has, however, 

chosen effective dates for the final rule 

that give creditors a longer 

implementation period for establishing 

escrow accounts. Comments on the 

effective dates of the final rule are 

discussed below. 

Broker disclosures. The Board 

proposed to prohibit creditors from 

paying a mortgage broker more than the 

consumer had agreed in advance that 

the broker would receive. A large 

number of mortgage brokers commented 

that the proposal could lead to brokers 

being less competitive in the 

marketplace and may result in some 

small brokers exiting the marketplace. 

The Board tested the proposal in 

several dozen one-on-one interviews 

with a diverse group of consumers. On 

the basis of this testing and other 

information, the Board is withdrawing 

its proposal to prohibit creditors from 

paying a mortgage broker more than the 


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134http://www.namb.org/namb/ 

Industry_Facts.asp?SnID=719224934. 

consumer had agreed in advance that 

the broker would receive. The Board is 

concerned that the proposed agreement 

and disclosures would confuse 

consumers and undermine their 

decision making rather than improve it. 

The Board will continue to explore 

available options to address potentially 

unfair acts or practices associated with 

originator compensation arrangements 

such as yield spread premiums. 

Servicing. The proposed rule 

prohibited mortgage servicers from 

‘‘pyramiding’’ late fees, failing to credit 

payments as of the date of receipt, 

failing to provide loan payoff statements 

upon request within a reasonable time, 

or failing to deliver a fee schedule to a 

consumer upon request. Several 

commenters noted that the fee schedule 

disclosures would be very costly for a 

servicer since fees vary by state, county, 

city, investor and even product. The 

Board has considered the concerns 

raised by commenters and has 

concluded that the transparency benefit 

of the schedule does not sufficiently 

offset the burdens of producing such a 

schedule. Thus, the Board is not 

adopting the proposed fee schedule 

disclosure. 

Early disclosures. The proposed rule 

would require creditors to give 

consumers transaction-specific, early 

mortgage loan disclosures for certain 

closed-end loans secured by a 

consumer’s principal dwelling. The 

proposed rule would require creditors to 

deliver this disclosure within three 

business days of application and before 

a consumer pays a fee to any person, 

other than a fee for obtaining the 

consumer’s credit report. Many 

creditors and their trade associations 

opposed the proposal due to operational 

cost and compliance difficulties (for 

example, system reprogramming, 

testing, procedural changes, and staff 

training). They noted that the burden 

may be significant for some small entity 

creditors, such as community banks. 

The Board is adopting 

§ 226.19(a)(1)(iii) substantially as 

proposed. The Board believes that 

alternatives to the final rule would not 

achieve TILA’s objectives. However, as 

discussed below, the Board has chosen 

an implementation period for the final 

rule that responds to creditors’ concerns 

about the time required to comply with 

the rule. 

Effective date. The Board requested 

comment on whether six months would 

be an appropriate implementation 

period, and on the length of time 

necessary for creditors to implement the 

proposed rules, as well as whether the 

Board should specify a shorter 

implementation period for certain 

provisions in order to prevent unfair or 

deceptive practices. 

Many industry commenters and their 

trade associations stated that six months 

would be an appropriate 

implementation period for some parts of 

the rule, but that they would need 

additional time to implement the 

proposed early mortgage loan disclosure 

requirement and the proposed escrow 

requirement. Commenters requested 

additional time to implement the early 

mortgage loan disclosure rule in order to 

provide sufficient time for system reprogramming, testing, procedural 

changes, and staff training. And, 

although many creditors currently 

provide for escrows, other creditors, 

including many that are small entities, 

currently have no escrowing capacity or 

infrastructure. These commenters 

requested a period of 12 to 24 months 

to implement the necessary systems and 

processes. Manufactured housing 

industry commenters were particularly 

concerned because a limited 

infrastructure is in place for escrowing 

on manufactured housing loans. 

In light of these concerns, the Board 

believes additional compliance time 

beyond six months is appropriate. With 

two exceptions, the final rule is effective 

for loans consummated on or after 

October 1, 2009. The requirement to 

establish an escrow account for taxes 

and insurance for higher-priced 

mortgage loans is effective for loans 

consummated on or after April 1, 2010, 

or, for loans secured by manufactured 

housing, consummated on or after 

October 1, 2010. 

3. Description and Estimate of Small 

Entities To Which the Proposed Rule 

Would Apply 

The final rule applies to all 

institutions and entities that engage in 

closed-end home-secured lending and 

servicing. The Board acknowledged in 

its IRFA the lack of a reliable source for 

the total number of small entities likely 

to be affected by the proposal, since the 

credit provisions of TILA and 

Regulation Z have broad applicability to 

individuals and businesses that 

originate, extend and service even small 

numbers of home-secured credit. 

Through data from Reports of 

Condition and Income (‘‘call reports’’), 

the Board identified approximate 

numbers of small depository institutions 

that would be subject to the proposed 

rules. Based on March 2008 call report 

data, approximately 8,393 small 

institutions would be subject to the final 

rule. Approximately 17,101 depository 

institutions in the United States filed 

call report data, approximately 12,237 of 

which had total domestic assets of $165 

million or less and thus were 

considered small entities for purposes of 

the RFA. Of 4,554 banks, 401 thrifts and 

7,318 credit unions that filed call report 

data and were considered small entities, 

4,259 banks, 377 thrifts, and 3,757 

credit unions, totaling 8,393 

institutions, extended mortgage credit. 

For purposes of this analysis, thrifts 

include savings banks, savings and loan 

entities, co-operative banks and 

industrial banks. 

In its IRFA, the Board recognized that 

it could not identify with certainty the 

number of small nondepository 

institutions that would be subject to the 

proposed rule. Home Mortgage 

Disclosure Act (HMDA) data indicate 

that 2,004 non-depository institutions 

filed HMDA reports in 2006. Based on 

the small volume of lending activity 

reported by these institutions, most are 

likely to be small. 

Certain parts of the final rule would 

apply to mortgage brokers. The Board 

provided an estimate of the number of 

mortgage brokers in its IRFA, citing data 

from the National Association of 

Mortgage Brokers indicating that in 

2004 there were 53,000 mortgage 

brokerage companies.134 The Board 

estimated in the IRFA that most of these 

companies are small entities. A 

comment letter received by the U.S. 

Small Business Administration, citing 

the 2002 Economic Census, stated that 

there were 15,195 small mortgage broker 

entities. 

Certain parts of the final rule would 

also apply to mortgage servicers. As 

noted in IRFA, the Board is not aware, 

however, of a source of data for the 

number of small mortgage servicers. The 

available data are not sufficient for the 

Board to realistically estimate the 

number of mortgage servicers that 

would be subject to the final rule and 

that are small as defined by the U.S. 

Small Business Administration. 

4. Reporting, Recordkeeping, and Other 

Compliance Requirements 

The compliance requirements of the 

final rule are described in the 

SUPPLEMENTARY INFORMATION. Some 

small entities will be required, among 

other things, to modify their 

underwriting practices and homesecured credit disclosures to comply 

with the revised rules. The precise costs 

to small entities of updating their 

systems, disclosures, and underwriting 

practices are difficult to predict. These 

costs will depend on a number of 

unknown factors, including, among 

other things, the specifications of the 


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current systems used by such entities to 

prepare and provide disclosures and/or 

solicitations and to administer and 

maintain accounts, the complexity of 

the terms of credit products that they 

offer, and the range of such product 

offerings. For some small entities, 

certain parts of the rule may require the 

type of professional skills already 

necessary to meet other legal 

requirements. For example, the Board 

believes that final rule’s requirements 

with regard to advertising will require 

the same types of professional skills and 

recordkeeping procedures that are 

needed to comply with existing TILA 

and Regulation Z advertising rules. 

Other parts of the rule may require new 

professional skills and recordkeeping 

procedures for some small entities. For 

example, creditors that do not currently 

offer escrow accounts will need to 

implement that capability. The Board 

believes that costs of the final rule as a 

whole will have a significant economic 

effect on small entities. 

5. Steps Taken To Minimize the 

Economic Impact On Small Entities 

The steps the Board has taken to 

minimize the economic impact and 

compliance burden on small entities, 

including the factual, policy, and legal 

reasons for selecting the alternatives 

adopted and why each one of the other 

significant alternatives was not 

accepted, are described above in the 

SUPPLEMENTARY INFORMATION and in the 

summary of issues raised by the public 

comments in response to the proposal’s 

IRFA. The final rule’s modifications 

from the proposed rule that minimize 

economic impact on small entities are 

summarized below. 

First, the Board has provided a 

different standard for defining higherpriced mortgage loans to more 

accurately correspond to mortgage 

market conditions and exclude from the 

definition some prime loans that might 

have been classified as higher-priced 

under the proposed rule. The Board 

believes that this will decrease the 

economic impact of the final rule on 

small entities by limiting their 

compliance costs for prime loans the 

Board does not intend to cover under 

the higher-priced mortgage loan rules. 

Second, the Board is providing an 

implementation period that responds to 

commenters’ concerns about the time 

needed to comply with the final rule. 

The Board is also providing later 

effective dates for the escrow 

requirement than for the other parts of 

the final rule. As discussed above, the 

Board believes that these effective dates 

will decrease costs for small entities by 

providing them with sufficient time to 

come into compliance with the final 

rule’s requirements. 

The Board also notes that it is 

withdrawing two proposed rules for 

which small entity commenters 

expressed concern about the costs of 

compliance. The Board is withdrawing 

its proposal to prohibit creditors from 

paying a mortgage broker more than the 

consumer had agreed in advance that 

the broker would receive, and its 

proposal to require a servicer to provide 

to a consumer upon request a schedule 

of all specific fees and charges that may 

be imposed in connection with the 

servicing of the consumer’s account. 

The Board believes that these changes 

minimize the significant economic 

impact on small entities while still 

meeting the stated objectives of HOEPA 

and TILA. 

List of Subjects in 12 CFR Part 226 

Advertising, Consumer protection, 

Federal Reserve System, Mortgages, 

Reporting and recordkeeping 

requirements, Truth in lending. 

Authority and Issuance 

■ For the reasons set forth in the 

preamble, the Board amends Regulation 

Z, 12 CFR part 226, as set forth below: 

PART 226—TRUTH IN LENDING 

(REGULATION Z) 

■ 1. The authority citation for part 226 

is amended to read as follows: 

Authority: 12 U.S.C. 3806; 15 U.S.C. 1604, 

1637(c)(5), and 1639(l). 

Subpart A—General 

■ 2. Section 226.1 is amended by 

revising paragraph (d)(5) to read as 

follows: 

§ 226.1 Authority, purpose, coverage, 

organization, enforcement and liability. 

* * * * * 

(d) * * * 

* * * * * 

(5) Subpart E contains special rules 

for mortgage transactions. Section 

226.32 requires certain disclosures and 

provides limitations for loans that have 

rates and fees above specified amounts. 

Section 226.33 requires disclosures, 

including the total annual loan cost rate, 

for reverse mortgage transactions. 

Section 226.34 prohibits specific acts 

and practices in connection with 

mortgage transactions that are subject to 

§ 226.32. Section 226.35 prohibits 

specific acts and practices in connection 

with higher-priced mortgage loans, as 

defined in § 226.35(a). Section 226.36 

prohibits specific acts and practices in 

connection with credit secured by a 

consumer’s principal dwelling. 

* * * * * 

■ 3. Section 226.2 is amended by 

revising paragraph (a)(6) to read as 

follows: 

§ 226.2 Definitions and Rules of 

Construction. 

(a) * * * 

(6) ‘‘Business Day’’ means a day on 

which the creditor’s offices are open to 

the public for carrying on substantially 

all of its business functions. However, 

for purposes of rescission under 

§§ 226.15 and 226.23, and for purposes 

of § 226.19(a)(1)(ii) and § 226.31, the 

term means all calendar days except 

Sundays and the legal public holidays 

specified in 5 U.S.C. 6103(a), such as 

New Year’s Day, the Birthday of Martin 

Luther King, Jr., Washington’s Birthday, 

Memorial Day, Independence Day, 

Labor Day, Columbus Day, Veterans 

Day, Thanksgiving Day, and Christmas 

Day. 

Subpart B—Open-End Credit 

■ 4. Section 226.16 is amended by 

revising paragraphs (d)(2) through 

(d)(4), and adding new paragraphs (d)(6) 

and (e) to read as follows: 

§ 226.16 Advertising. 

* * * * * 

(d) Additional requirements for homeequity plans 

* * * * * 

(2) Discounted and premium rates. If 

an advertisement states an initial annual 

percentage rate that is not based on the 

index and margin used to make later 

rate adjustments in a variable-rate plan, 

the advertisement also shall state with 

equal prominence and in close 

proximity to the initial rate: 

(i) The period of time such initial rate 

will be in effect; and 

(ii) A reasonably current annual 

percentage rate that would have been in 

effect using the index and margin. 

(3) Balloon payment. If an 

advertisement contains a statement of 

any minimum periodic payment and a 

balloon payment may result if only the 

minimum periodic payments are made, 

even if such a payment is uncertain or 

unlikely, the advertisement also shall 

state with equal prominence and in 

close proximity to the minimum 

periodic payment statement that a 

balloon payment may result, if 

applicable.36e A balloon payment 

results if paying the minimum periodic 

payments does not fully amortize the 

outstanding balance by a specified date 


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39 [Reserved.] 

or time, and the consumer is required to 

repay the entire outstanding balance at 

such time. If a balloon payment will 

occur when the consumer makes only 

the minimum payments required under 

the plan, an advertisement for such a 

program which contains any statement 

of any minimum periodic payment shall 

also state with equal prominence and in 

close proximity to the minimum 

periodic payment statement: 

(i) That a balloon payment will result; 

and 

(ii) The amount and timing of the 

balloon payment that will result if the 

consumer makes only the minimum 

payments for the maximum period of 

time that the consumer is permitted to 

make such payments. 

(4) Tax implications. An 

advertisement that states that any 

interest expense incurred under the 

home-equity plan is or may be tax 

deductible may not be misleading in 

this regard. If an advertisement 

distributed in paper form or through the 

Internet (rather than by radio or 

television) is for a home-equity plan 

secured by the consumer’s principal 

dwelling, and the advertisement states 

that the advertised extension of credit 

may exceed the fair market value of the 

dwelling, the advertisement shall 

clearly and conspicuously state that: 

(i) The interest on the portion of the 

credit extension that is greater than the 

fair market value of the dwelling is not 

tax deductible for Federal income tax 

purposes; and 

(ii) The consumer should consult a 

tax adviser for further information 

regarding the deductibility of interest 

and charges. 

* * * * * 

(6) Promotional rates and payments—

(i) Definitions. The following definitions 

apply for purposes of paragraph (d)(6) of 

this section: 

(A) Promotional rate. The term 

‘‘promotional rate’’ means, in a variablerate plan, any annual percentage rate 

that is not based on the index and 

margin that will be used to make rate 

adjustments under the plan, if that rate 

is less than a reasonably current annual 

percentage rate that would be in effect 

under the index and margin that will be 

used to make rate adjustments under the 

plan. 

(B) Promotional payment. The term 

‘‘promotional payment’’ means—

(1) For a variable-rate plan, any 

minimum payment applicable for a 

promotional period that: 

(i) Is not derived by applying the 

index and margin to the outstanding 

balance when such index and margin 

will be used to determine other 

minimum payments under the plan; and 

(ii) Is less than other minimum 

payments under the plan derived by 

applying a reasonably current index and 

margin that will be used to determine 

the amount of such payments, given an 

assumed balance. 

(2) For a plan other than a variablerate plan, any minimum payment 

applicable for a promotional period if 

that payment is less than other 

payments required under the plan given 

an assumed balance. 

(C) Promotional period. A 

‘‘promotional period’’ means a period of 

time, less than the full term of the loan, 

that the promotional rate or promotional 

payment may be applicable. 

(ii) Stating the promotional period 

and post-promotional rate or payments. 

If any annual percentage rate that may 

be applied to a plan is a promotional 

rate, or if any payment applicable to a 

plan is a promotional payment, the 

following must be disclosed in any 

advertisement, other than television or 

radio advertisements, in a clear and 

conspicuous manner with equal 

prominence and in close proximity to 

each listing of the promotional rate or 

payment: 

(A) The period of time during which 

the promotional rate or promotional 

payment will apply; 

(B) In the case of a promotional rate, 

any annual percentage rate that will 

apply under the plan. If such rate is 

variable, the annual percentage rate 

must be disclosed in accordance with 

the accuracy standards in §§ 226.5b, or 

226.16(b)(1)(ii) as applicable; and 

(C) In the case of a promotional 

payment, the amounts and time periods 

of any payments that will apply under 

the plan. In variable-rate transactions, 

payments that will be determined based 

on application of an index and margin 

shall be disclosed based on a reasonably 

current index and margin. 

(iii) Envelope excluded. The 

requirements in paragraph (d)(6)(ii) of 

this section do not apply to an envelope 

in which an application or solicitation 

is mailed, or to a banner advertisement 

or pop-up advertisement linked to an 

application or solicitation provided 

electronically. 

(e) Alternative disclosures—television 

or radio advertisements. An 

advertisement for a home-equity plan 

subject to the requirements of § 226.5b 

made through television or radio stating 

any of the terms requiring additional 

disclosures under paragraph (b) or (d)(1) 

of this section may alternatively comply 

with paragraph (b) or (d)(1) of this 

section by stating the information 

required by paragraph (b)(2) of this 

section or paragraph (d)(1)(ii) of this 

section, as applicable, and listing a tollfree telephone number, or any telephone 

number that allows a consumer to 

reverse the phone charges when calling 

for information, along with a reference 

that such number may be used by 

consumers to obtain additional cost 

information. 

Subpart C—Closed-End Credit 

■ 5. Section 226.17 is amended by 

revising paragraphs (b) and (f) to read as 

follows: 

§ 226.17 General disclosure requirements. 

* * * * * 

(b) Time of disclosures. The creditor 

shall make disclosures before 

consummation of the transaction. In 

certain mortgage transactions, special 

timing requirements are set forth in 

§ 226.19(a). In certain variable-rate 

transactions, special timing 

requirements for variable-rate 

disclosures are set forth in § 226.19(b) 

and § 226.20(c). In certain transactions 

involving mail or telephone orders or a 

series of sales, the timing of the 

disclosures may be delayed in 

accordance with paragraphs (g) and (h) 

of this section. 

* * * * * 

(f) Early disclosures. If disclosures 

required by this subpart are given before 

the date of consummation of a 

transaction and a subsequent event 

makes them inaccurate, the creditor 

shall disclose before consummation 

(except that, for certain mortgage 

transactions, § 226.19(a)(2) permits 

redisclosure no later than 

consummation or settlement, whichever 

is later).39

* * * * * 

■ 6. Section 226.19 is amended by 

revising the heading and paragraph 

(a)(1) to read as follows: 

§ 226.19 Certain mortgage and variablerate transactions. 

(a) Mortgage transactions subject to 

RESPA—(1)(i) Time of disclosures. In a 

mortgage transaction subject to the Real 

Estate Settlement Procedures Act (12 

U.S.C. 2601 et seq.) that is secured by 

the consumer’s principal dwelling, 

other than a home equity line of credit 

subject to § 226.5b, the creditor shall 

make good faith estimates of the 

disclosures required by § 226.18 before 

consummation, or shall deliver or place 

them in the mail not later than three 

business days after the creditor receives 

the consumer’s written application, 

whichever is earlier. 

(ii) Imposition of fees. Except as 

provided in paragraph (a)(1)(iii) of this 


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49 [Reserved.] 

section, neither a creditor nor any other 

person may impose a fee on the 

consumer in connection with the 

consumer’s application for a mortgage 

transaction subject to paragraph (a)(1)(i) 

of this section before the consumer has 

received the disclosures required by 

paragraph (a)(1)(i) of this section. If the 

disclosures are mailed to the consumer, 

the consumer is considered to have 

received them three business days after 

they are mailed. 

(iii) Exception to fee restriction. A 

creditor or other person may impose a 

fee for obtaining the consumer’s credit 

history before the consumer has 

received the disclosures required by 

paragraph (a)(1)(i) of this section, 

provided the fee is bona fide and 

reasonable in amount. 

* * * * * 

■ 7. Section 226.23 is amended by 

revising footnote 48 to paragraph (a)(3) 

to read ‘‘The term ‘material disclosures’

means the required disclosures of the 

annual percentage rate, the finance 

charge, the amount financed, the total of 

payments, the payment schedule, and 

the disclosures and limitations referred 

to in §§ 226.32(c) and (d) and 

226.35(b)(2).’’

■ 8. Section 226.24 is amended by 

redesignating paragraphs (b) through (d) 

as paragraphs (c) through (e), 

respectively, adding new paragraph (b), 

revising newly designated paragraphs 

(c) through (e), removing and reserving 

footnote 49, and adding new paragraphs 

(f) through (i), to read as follows: 

§ 226.24 Advertising. 

* * * * * 

(b) Clear and conspicuous standard. 

Disclosures required by this section 

shall be made clearly and 

conspicuously. 

(c) Advertisement of rate of finance 

charge. If an advertisement states a rate 

of finance charge, it shall state the rate 

as an ‘‘annual percentage rate,’’ using 

that term. If the annual percentage rate 

may be increased after consummation, 

the advertisement shall state that fact. If 

an advertisement is for credit not 

secured by a dwelling, the 

advertisement shall not state any other 

rate, except that a simple annual rate or 

periodic rate that is applied to an 

unpaid balance may be stated in 

conjunction with, but not more 

conspicuously than, the annual 

percentage rate. If an advertisement is 

for credit secured by a dwelling, the 

advertisement shall not state any other 

rate, except that a simple annual rate 

that is applied to an unpaid balance 

may be stated in conjunction with, but 

not more conspicuously than, the 

annual percentage rate. 

(d) Advertisement of terms that 

require additional disclosures—(1) 

Triggering terms. If any of the following 

terms is set forth in an advertisement, 

the advertisement shall meet the 

requirements of paragraph (d)(2) of this 

section: 

(i) The amount or percentage of any 

downpayment. 

(ii) The number of payments or period 

of repayment. 

(iii) The amount of any payment. 

(iv) The amount of any finance 

charge. 

(2) Additional terms. An 

advertisement stating any of the terms 

in paragraph (d)(1) of this section shall 

state the following terms,49 as 

applicable (an example of one or more 

typical extensions of credit with a 

statement of all the terms applicable to 

each may be used): 

(i) The amount or percentage of the 

downpayment. 

(ii) The terms of repayment, which 

reflect the repayment obligations over 

the full term of the loan, including any 

balloon payment. 

(iii) The ‘‘annual percentage rate,’’

using that term, and, if the rate may be 

increased after consummation, that fact. 

(e) Catalogs or other multiple-page 

advertisements; electronic 

advertisements—(1) If a catalog or other 

multiple-page advertisement, or an 

electronic advertisement (such as an 

advertisement appearing on an Internet 

Web site), gives information in a table 

or schedule in sufficient detail to permit 

determination of the disclosures 

required by paragraph (d)(2) of this 

section, it shall be considered a single 

advertisement if—

(i) The table or schedule is clearly and 

conspicuously set forth; and 

(ii) Any statement of the credit terms 

in paragraph (d)(1) of this section 

appearing anywhere else in the catalog 

or advertisement clearly refers to the 

page or location where the table or 

schedule begins. 

(2) A catalog or other multiple-page 

advertisement or an electronic 

advertisement (such as an advertisement 

appearing on an Internet Web site) 

complies with paragraph (d)(2) of this 

section if the table or schedule of terms 

includes all appropriate disclosures for 

a representative scale of amounts up to 

the level of the more commonly sold 

higher-priced property or services 

offered. 

(f) Disclosure of Rates and Payments 

in Advertisements for Credit Secured by 

a Dwelling. 

(1) Scope. The requirements of this 

paragraph apply to any advertisement 

for credit secured by a dwelling, other 

than television or radio advertisements, 

including promotional materials 

accompanying applications. 

(2) Disclosure of rates—(i) In general. 

If an advertisement for credit secured by 

a dwelling states a simple annual rate of 

interest and more than one simple 

annual rate of interest will apply over 

the term of the advertised loan, the 

advertisement shall disclose in a clear 

and conspicuous manner: 

(A) Each simple annual rate of interest 

that will apply. In variable-rate 

transactions, a rate determined by 

adding an index and margin shall be 

disclosed based on a reasonably current 

index and margin; 

(B) The period of time during which 

each simple annual rate of interest will 

apply; and 

(C) The annual percentage rate for the 

loan. If such rate is variable, the annual 

percentage rate shall comply with the 

accuracy standards in §§ 226.17(c) and 

226.22. 

(ii) Clear and conspicuous 

requirement. For purposes of paragraph 

(f)(2)(i) of this section, clearly and 

conspicuously disclosed means that the 

required information in paragraphs 

(f)(2)(i)(A) through (C) shall be disclosed 

with equal prominence and in close 

proximity to any advertised rate that 

triggered the required disclosures. The 

required information in paragraph 

(f)(2)(i)(C) may be disclosed with greater 

prominence than the other information. 

(3) Disclosure of payments—(i) In 

general. In addition to the requirements 

of paragraph (c) of this section, if an 

advertisement for credit secured by a 

dwelling states the amount of any 

payment, the advertisement shall 

disclose in a clear and conspicuous 

manner: 

(A) The amount of each payment that 

will apply over the term of the loan, 

including any balloon payment. In 

variable-rate transactions, payments that 

will be determined based on the 

application of the sum of an index and 

margin shall be disclosed based on a 

reasonably current index and margin; 

(B) The period of time during which 

each payment will apply; and 

(C) In an advertisement for credit 

secured by a first lien on a dwelling, the 

fact that the payments do not include 

amounts for taxes and insurance 

premiums, if applicable, and that the 

actual payment obligation will be 

greater. 

(ii) Clear and conspicuous 

requirement. For purposes of paragraph 

(f)(3)(i) of this section, a clear and 

conspicuous disclosure means that the 


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required information in paragraphs 

(f)(3)(i)(A) and (B) shall be disclosed 

with equal prominence and in close 

proximity to any advertised payment 

that triggered the required disclosures, 

and that the required information in 

paragraph (f)(3)(i)(C) shall be disclosed 

with prominence and in close proximity 

to the advertised payments. 

(4) Envelope excluded. The 

requirements in paragraphs (f)(2) and 

(f)(3) of this section do not apply to an 

envelope in which an application or 

solicitation is mailed, or to a banner 

advertisement or pop-up advertisement 

linked to an application or solicitation 

provided electronically. 

(g) Alternative disclosures—television 

or radio advertisements. An 

advertisement made through television 

or radio stating any of the terms 

requiring additional disclosures under 

paragraph (d)(2) of this section may 

comply with paragraph (d)(2) of this 

section either by: 

(1) Stating clearly and conspicuously 

each of the additional disclosures 

required under paragraph (d)(2) of this 

section; or 

(2) Stating clearly and conspicuously 

the information required by paragraph 

(d)(2)(iii) of this section and listing a 

toll-free telephone number, or any 

telephone number that allows a 

consumer to reverse the phone charges 

when calling for information, along with 

a reference that such number may be 

used by consumers to obtain additional 

cost information. 

(h) Tax implications. If an 

advertisement distributed in paper form 

or through the Internet (rather than by 

radio or television) is for a loan secured 

by the consumer’s principal dwelling, 

and the advertisement states that the 

advertised extension of credit may 

exceed the fair market value of the 

dwelling, the advertisement shall 

clearly and conspicuously state that: 

(1) The interest on the portion of the 

credit extension that is greater than the 

fair market value of the dwelling is not 

tax deductible for Federal income tax 

purposes; and 

(2) The consumer should consult a tax 

adviser for further information regarding 

the deductibility of interest and charges. 

(i) Prohibited acts or practices in 

advertisements for credit secured by a 

dwelling. The following acts or practices 

are prohibited in advertisements for 

credit secured by a dwelling: 

(1) Misleading advertising of ‘‘fixed’’

rates and payments. Using the word 

‘‘fixed’’ to refer to rates, payments, or 

the credit transaction in an 

advertisement for variable-rate 

transactions or other transactions where 

the payment will increase, unless: 

(i) In the case of an advertisement 

solely for one or more variable-rate 

transactions, 

(A) The phrase ‘‘Adjustable-Rate 

Mortgage,’’ ‘‘Variable-Rate Mortgage,’’ or 

‘‘ARM’’ appears in the advertisement 

before the first use of the word ‘‘fixed’’

and is at least as conspicuous as any use 

of the word ‘‘fixed’’ in the 

advertisement; and 

(B) Each use of the word ‘‘fixed’’ to 

refer to a rate or payment is 

accompanied by an equally prominent 

and closely proximate statement of the 

time period for which the rate or 

payment is fixed, and the fact that the 

rate may vary or the payment may 

increase after that period; 

(ii) In the case of an advertisement 

solely for non-variable-rate transactions 

where the payment will increase (e.g., a 

stepped-rate mortgage transaction with 

an initial lower payment), each use of 

the word ‘‘fixed’’ to refer to the payment 

is accompanied by an equally 

prominent and closely proximate 

statement of the time period for which 

the payment is fixed, and the fact that 

the payment will increase after that 

period; or 

(iii) In the case of an advertisement 

for both variable-rate transactions and 

non-variable-rate transactions, 

(A) The phrase ‘‘Adjustable-Rate 

Mortgage,’’ ‘‘Variable-Rate Mortgage,’’ or 

‘‘ARM’’ appears in the advertisement 

with equal prominence as any use of the 

term ‘‘fixed,’’ ‘‘Fixed-Rate Mortgage,’’ or 

similar terms; and 

(B) Each use of the word ‘‘fixed’’ to 

refer to a rate, payment, or the credit 

transaction either refers solely to the 

transactions for which rates are fixed 

and complies with paragraph (i)(1)(ii) of 

this section, if applicable, or, if it refers 

to the variable-rate transactions, is 

accompanied by an equally prominent 

and closely proximate statement of the 

time period for which the rate or 

payment is fixed, and the fact that the 

rate may vary or the payment may 

increase after that period. 

(2) Misleading comparisons in 

advertisements. Making any comparison 

in an advertisement between actual or 

hypothetical credit payments or rates 

and any payment or simple annual rate 

that will be available under the 

advertised product for a period less than 

the full term of the loan, unless: 

(i) In general. The advertisement 

includes a clear and conspicuous 

comparison to the information required 

to be disclosed under sections 

226.24(f)(2) and (3); and 

(ii) Application to variable-rate 

transactions. If the advertisement is for 

a variable-rate transaction, and the 

advertised payment or simple annual 

rate is based on the index and margin 

that will be used to make subsequent 

rate or payment adjustments over the 

term of the loan, the advertisement 

includes an equally prominent 

statement in close proximity to the 

payment or rate that the payment or rate 

is subject to adjustment and the time 

period when the first adjustment will 

occur. 

(3) Misrepresentations about 

government endorsement. Making any 

statement in an advertisement that the 

product offered is a ‘‘government loan 

program’’, ‘‘government-supported 

loan’’, or is otherwise endorsed or 

sponsored by any federal, state, or local 

government entity, unless the 

advertisement is for an FHA loan, VA 

loan, or similar loan program that is, in 

fact, endorsed or sponsored by a federal, 

state, or local government entity. 

(4) Misleading use of the current 

lender’s name. Using the name of the 

consumer’s current lender in an 

advertisement that is not sent by or on 

behalf of the consumer’s current lender, 

unless the advertisement: 

(i) Discloses with equal prominence 

the name of the person or creditor 

making the advertisement; and 

(ii) Includes a clear and conspicuous 

statement that the person making the 

advertisement is not associated with, or 

acting on behalf of, the consumer’s 

current lender. 

(5) Misleading claims of debt 

elimination. Making any misleading 

claim in an advertisement that the 

mortgage product offered will eliminate 

debt or result in a waiver or forgiveness 

of a consumer’s existing loan terms 

with, or obligations to, another creditor. 

(6) Misleading use of the term 

‘‘counselor’’. Using the term 

‘‘counselor’’ in an advertisement to refer 

to a for-profit mortgage broker or 

mortgage creditor, its employees, or 

persons working for the broker or 

creditor that are involved in offering, 

originating or selling mortgages. 

(7) Misleading foreign-language 

advertisements. Providing information 

about some trigger terms or required 

disclosures, such as an initial rate or 

payment, only in a foreign language in 

an advertisement, but providing 

information about other trigger terms or 

required disclosures, such as 

information about the fully-indexed rate 

or fully amortizing payment, only in 

English in the same advertisement. 

Subpart E—Special Rules for Certain 

Home Mortgage Transactions 

■ 9. Section 226.32 is amended by 

revising paragraphs (d)(6) and (d)(7) to 

read as follows: 


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§ 226.32 Requirements for certain closedend home mortgages. 

* * * * * 

(d) * * * 

(6) Prepayment penalties. Except as 

allowed under paragraph (d)(7) of this 

section, a penalty for paying all or part 

of the principal before the date on 

which the principal is due. A 

prepayment penalty includes computing 

a refund of unearned interest by a 

method that is less favorable to the 

consumer than the actuarial method, as 

defined by section 933(d) of the Housing 

and Community Development Act of 

1992, 15 U.S.C. 1615(d). 

(7) Prepayment penalty exception. A 

mortgage transaction subject to this 

section may provide for a prepayment 

penalty (including a refund calculated 

according to the rule of 78s) otherwise 

permitted by law if, under the terms of 

the loan: 

(i) The penalty will not apply after the 

two-year period following 

consummation; 

(ii) The penalty will not apply if the 

source of the prepayment funds is a 

refinancing by the creditor or an affiliate 

of the creditor; 

(iii) At consummation, the consumer’s 

total monthly debt payments (including 

amounts owed under the mortgage) do 

not exceed 50 percent of the consumer’s 

monthly gross income, as verified in 

accordance with § 226.34(a)(4)(ii); and 

(iv) The amount of the periodic 

payment of principal or interest or both 

may not change during the four-year 

period following consummation. 

* * * * * 

■ 10. Section 226.34 is amended by 

revising the heading and paragraph 

(a)(4) to read as follows: 

§ 226.34 Prohibited acts or practices in 

connection with credit subject to § 226.32. 

(a) * * * 

(4) Repayment ability. Extend credit 

subject to § 226.32 to a consumer based 

on the value of the consumer’s collateral 

without regard to the consumer’s 

repayment ability as of consummation, 

including the consumer’s current and 

reasonably expected income, 

employment, assets other than the 

collateral, current obligations, and 

mortgage-related obligations. 

(i) Mortgage-related obligations. For 

purposes of this paragraph (a)(4), 

mortgage-related obligations are 

expected property taxes, premiums for 

mortgage-related insurance required by 

the creditor as set forth in 

§ 226.35(b)(3)(i), and similar expenses. 

(ii) Verification of repayment ability. 

Under this paragraph (a)(4) a creditor 

must verify the consumer’s repayment 

ability as follows: 

(A) A creditor must verify amounts of 

income or assets that it relies on to 

determine repayment ability, including 

expected income or assets, by the 

consumer’s Internal Revenue Service 

Form W–2, tax returns, payroll receipts, 

financial institution records, or other 

third-party documents that provide 

reasonably reliable evidence of the 

consumer’s income or assets. 

(B) Notwithstanding paragraph 

(a)(4)(ii)(A), a creditor has not violated 

paragraph (a)(4)(ii) if the amounts of 

income and assets that the creditor 

relied upon in determining repayment 

ability are not materially greater than 

the amounts of the consumer’s income 

or assets that the creditor could have 

verified pursuant to paragraph 

(a)(4)(ii)(A) at the time the loan was 

consummated. 

(C) A creditor must verify the 

consumer’s current obligations. 

(iii) Presumption of compliance. A 

creditor is presumed to have complied 

with this paragraph (a)(4) with respect 

to a transaction if the creditor: 

(A) Verifies the consumer’s repayment 

ability as provided in paragraph 

(a)(4)(ii); 

(B) Determines the consumer’s 

repayment ability using the largest 

payment of principal and interest 

scheduled in the first seven years 

following consummation and taking 

into account current obligations and 

mortgage-related obligations as defined 

in paragraph (a)(4)(i); and 

(C) Assesses the consumer’s 

repayment ability taking into account at 

least one of the following: The ratio of 

total debt obligations to income, or the 

income the consumer will have after 

paying debt obligations. 

(iv) Exclusions from presumption of 

compliance. Notwithstanding the 

previous paragraph, no presumption of 

compliance is available for a transaction 

for which: 

(A) The regular periodic payments for 

the first seven years would cause the 

principal balance to increase; or 

(B) The term of the loan is less than 

seven years and the regular periodic 

payments when aggregated do not fully 

amortize the outstanding principal 

balance. 

(v) Exemption. This paragraph (a)(4) 

does not apply to temporary or ‘‘bridge’’

loans with terms of twelve months or 

less, such as a loan to purchase a new 

dwelling where the consumer plans to 

sell a current dwelling within twelve 

months. 

* * * * * 

■ 11. New § 226.35 is added to read as 

follows: 

§ 226.35 Prohibited acts or practices in 

connection with higher-priced mortgage 

loans. 

(a) Higher-priced mortgage loans—(1) 

For purposes of this section, a higherpriced mortgage loan is a consumer 

credit transaction secured by the 

consumer’s principal dwelling with an 

annual percentage rate that exceeds the 

average prime offer rate for a 

comparable transaction as of the date 

the interest rate is set by 1.5 or more 

percentage points for loans secured by 

a first lien on a dwelling, or by 3.5 or 

more percentage points for loans 

secured by a subordinate lien on a 

dwelling. 

(2) ‘‘Average prime offer rate’’ means 

an annual percentage rate that is derived 

from average interest rates, points, and 

other loan pricing terms currently 

offered to consumers by a representative 

sample of creditors for mortgage 

transactions that have low-risk pricing 

characteristics. The Board publishes 

average prime offer rates for a broad 

range of types of transactions in a table 

updated at least weekly as well as the 

methodology the Board uses to derive 

these rates. 

(3) Notwithstanding paragraph (a)(1) 

of this section, the term ‘‘higher-priced 

mortgage loan’’ does not include a 

transaction to finance the initial 

construction of a dwelling, a temporary 

or ‘‘bridge’’ loan with a term of twelve 

months or less, such as a loan to 

purchase a new dwelling where the 

consumer plans to sell a current 

dwelling within twelve months, a 

reverse-mortgage transaction subject to 

§ 226.33, or a home equity line of credit 

subject to § 226.5b. 

(b) Rules for higher-priced mortgage 

loans. Higher-priced mortgage loans are 

subject to the following restrictions: 

(1) Repayment ability. A creditor shall 

not extend credit based on the value of 

the consumer’s collateral without regard 

to the consumer’s repayment ability as 

of consummation as provided in 

§ 226.34(a)(4). 

(2) Prepayment penalties. A loan may 

not include a penalty described by 

§ 226.32(d)(6) unless: 

(i) The penalty is otherwise permitted 

by law, including § 226.32(d)(7) if the 

loan is a mortgage transaction described 

in § 226.32(a); and 

(ii) Under the terms of the loan—

(A) The penalty will not apply after 

the two-year period following 

consummation; 

(B) The penalty will not apply if the 

source of the prepayment funds is a 

refinancing by the creditor or an affiliate 

of the creditor; and 

(C) The amount of the periodic 

payment of principal or interest or both 


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may not change during the four-year 

period following consummation. 

(3) Escrows—(i) Failure to escrow for 

property taxes and insurance. Except as 

provided in paragraph (b)(3)(ii) of this 

section, a creditor may not extend a loan 

secured by a first lien on a principal 

dwelling unless an escrow account is 

established before consummation for 

payment of property taxes and 

premiums for mortgage-related 

insurance required by the creditor, such 

as insurance against loss of or damage 

to property, or against liability arising 

out of the ownership or use of the 

property, or insurance protecting the 

creditor against the consumer’s default 

or other credit loss. 

(ii) Exemptions for loans secured by 

shares in a cooperative and for certain 

condominium units—(A) Escrow 

accounts need not be established for 

loans secured by shares in a 

cooperative; and 

(B) Insurance premiums described in 

paragraph (b)(3)(i) of this section need 

not be included in escrow accounts for 

loans secured by condominium units, 

where the condominium association has 

an obligation to the condominium unit 

owners to maintain a master policy 

insuring condominium units. 

(iii) Cancellation. A creditor or 

servicer may permit a consumer to 

cancel the escrow account required in 

paragraph (b)(3)(i) of this section only in 

response to a consumer’s dated written 

request to cancel the escrow account 

that is received no earlier than 365 days 

after consummation. 

(iv) Definition of escrow account. For 

purposes of this section, ‘‘escrow 

account’’ shall have the same meaning 

as in 24 CFR 3500.17(b) as amended. 

(4) Evasion; open-end credit. In 

connection with credit secured by a 

consumer’s principal dwelling that does 

not meet the definition of open-end 

credit in § 226.2(a)(20), a creditor shall 

not structure a home-secured loan as an 

open-end plan to evade the 

requirements of this section. 

■ 12. New § 226.36 is added to read as 

follows: 

§ 226.36 Prohibited acts or practices in 

connection with credit secured by a 

consumer’s principal dwelling. 

(a) Mortgage broker defined. For 

purposes of this section, the term 

‘‘mortgage broker’’ means a person, 

other than an employee of a creditor, 

who for compensation or other 

monetary gain, or in expectation of 

compensation or other monetary gain, 

arranges, negotiates, or otherwise 

obtains an extension of consumer credit 

for another person. The term includes a 

person meeting this definition, even if 

the consumer credit obligation is 

initially payable to such person, unless 

the person provides the funds for the 

transaction at consummation out of the 

person’s own resources, out of deposits 

held by the person, or by drawing on a 

bona fide warehouse line of credit. 

(b) Misrepresentation of value of 

consumer’s dwelling—(1) Coercion of 

appraiser. In connection with a 

consumer credit transaction secured by 

a consumer’s principal dwelling, no 

creditor or mortgage broker, and no 

affiliate of a creditor or mortgage broker 

shall directly or indirectly coerce, 

influence, or otherwise encourage an 

appraiser to misstate or misrepresent the 

value of such dwelling. 

(i) Examples of actions that violate 

this paragraph (b)(1) include: 

(A) Implying to an appraiser that 

current or future retention of the 

appraiser depends on the amount at 

which the appraiser values a consumer’s 

principal dwelling; 

(B) Excluding an appraiser from 

consideration for future engagement 

because the appraiser reports a value of 

a consumer’s principal dwelling that 

does not meet or exceed a minimum 

threshold; 

(C) Telling an appraiser a minimum 

reported value of a consumer’s principal 

dwelling that is needed to approve the 

loan; 

(D) Failing to compensate an 

appraiser because the appraiser does not 

value a consumer’s principal dwelling 

at or above a certain amount; and 

(E) Conditioning an appraiser’s 

compensation on loan consummation. 

(ii) Examples of actions that do not 

violate this paragraph (b)(1) include: 

(A) Asking an appraiser to consider 

additional information about a 

consumer’s principal dwelling or about 

comparable properties; 

(B) Requesting that an appraiser 

provide additional information about 

the basis for a valuation; 

(C) Requesting that an appraiser 

correct factual errors in a valuation; 

(D) Obtaining multiple appraisals of a 

consumer’s principal dwelling, so long 

as the creditor adheres to a policy of 

selecting the most reliable appraisal, 

rather than the appraisal that states the 

highest value; 

(E) Withholding compensation from 

an appraiser for breach of contract or 

substandard performance of services as 

provided by contract; and 

(F) Taking action permitted or 

required by applicable federal or state 

statute, regulation, or agency guidance. 

(2) When extension of credit 

prohibited. In connection with a 

consumer credit transaction secured by 

a consumer’s principal dwelling, a 

creditor who knows, at or before loan 

consummation, of a violation of 

paragraph (b)(1) of this section in 

connection with an appraisal shall not 

extend credit based on such appraisal 

unless the creditor documents that it 

has acted with reasonable diligence to 

determine that the appraisal does not 

materially misstate or misrepresent the 

value of such dwelling. 

(3) Appraiser defined. As used in this 

paragraph (b), an appraiser is a person 

who engages in the business of 

providing assessments of the value of 

dwellings. The term ‘‘appraiser’’

includes persons that employ, refer, or 

manage appraisers and affiliates of such 

persons. 

(c) Servicing practices. (1) In 

connection with a consumer credit 

transaction secured by a consumer’s 

principal dwelling, no servicer shall—

(i) Fail to credit a payment to the 

consumer’s loan account as of the date 

of receipt, except when a delay in 

crediting does not result in any charge 

to the consumer or in the reporting of 

negative information to a consumer 

reporting agency, or except as provided 

in paragraph (c)(2) of this section; 

(ii) Impose on the consumer any late 

fee or delinquency charge in connection 

with a payment, when the only 

delinquency is attributable to late fees 

or delinquency charges assessed on an 

earlier payment, and the payment is 

otherwise a full payment for the 

applicable period and is paid on its due 

date or within any applicable grace 

period; or 

(iii) Fail to provide, within a 

reasonable time after receiving a request 

from the consumer or any person acting 

on behalf of the consumer, an accurate 

statement of the total outstanding 

balance that would be required to satisfy 

the consumer’s obligation in full as of a 

specified date. 

(2) If a servicer specifies in writing 

requirements for the consumer to follow 

in making payments, but accepts a 

payment that does not conform to the 

requirements, the servicer shall credit 

the payment as of 5 days after receipt. 

(3) For purposes of this paragraph (c), 

the terms ‘‘servicer’’ and ‘‘servicing’’

have the same meanings as provided in 

24 CFR 3500.2(b), as amended. 

(d) This section does not apply to a 

home equity line of credit subject to 

§ 226.5b. 

Supplement I to Part 226—Official Staff 

Interpretations 

Subpart A—General 

■ 13. In Supplement I to Part 226, under 

Section 226.1—Authority, Purpose, 

Coverage, Organization, Enforcement 


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and Liability, new headings 1(d) 

Organization and Paragraph 1(d)(5), and 

new paragraph 1(d)(5)–1 are added to 

read as follows: 

Section 226.1—Authority, Purpose, Coverage, 

Organization, Enforcement and Liability 

* * * * * 

1(d) Organization. 

Paragraph 1(d)(5). 

1. Effective dates. The Board’s revisions to 

Regulation Z published on July 30, 2008 (the 

‘‘final rules’’), apply to covered loans 

(including refinance loans and assumptions 

considered new transactions under 226.20), 

for which the creditor receives an application 

on or after October 1, 2009, except for the 

final rules on advertising, escrows, and loan 

servicing. The final rules on escrows in 

§ 226.35(b)(3) are effective for covered loans, 

(including refinancings and assumptions in 

226.20) for which the creditor receives an 

application on or after April 1, 2010; but for 

such loans secured by manufactured housing 

on or after October 1, 2010. The final rules 

applicable to servicers in § 226.36(c) apply to 

all covered loans serviced on or after October 

1, 2009. The final rules on advertising apply 

to advertisements occurring on or after 

October 1, 2009. For example, a radio ad 

occurs on the date it is first broadcast; a 

solicitation occurs on the date it is mailed to 

the consumer. The following examples 

illustrate the application of the effective 

dates for the final rules. 

i. General. A refinancing or assumption as 

defined in 226.20(a) or (b) is a new 

transaction and is covered by a provision of 

the final rule if the creditor receives an 

application for the transaction on or after that 

provision’s effective date. For example, if a 

creditor receives an application for a 

refinance loan covered by 226.35(a) on or 

after October 1, 2009, and the refinance loan 

is consummated on October 15, 2009, the 

provision restricting prepayment penalties in 

§ 226.35(b)(2) applies. However, If the 

transaction were a modification of an existing 

obligation’s terms that does not constitute a 

refinance loan under § 226.20(a), the final 

rules, including for example the restriction 

on prepayment penalties would not apply. 

ii. Escrows. Assume a consumer applies for 

a refinance loan to be secured by a dwelling 

(that is not a manufactured home) on March 

15, 2010, and the loan is consummated on 

April 2, 2010, the escrow rule in 226.35(b)(3) 

does not apply. 

iii. Servicing. Assume that a consumer 

applies for a new loan on August 1, 2009. 

The loan is consummated on September 1, 

2009. The servicing rules in 226.36(c) apply 

to the servicing of that loan as of October 1, 

2009. 

■ 14. In Supplement I to Part 226, under 

Section 226.2—Definitions and Rules of 

Construction, 2(a) Definitions, 2(a)(6) 

Business day, paragraph 2(a)(6)–2 is 

revised, and under 2(a)(24) Residential 

mortgage transaction, paragraphs 

2(a)(24)–1 and 2(a)(24)–5.ii are revised, 

to read as follows: 

Section 226.2—Definitions and Rules of 

Construction 

2(a) Definitions. 

* * * * * 

2(a)(6) Business day. 

* * * * * 

2. Recission rule. A more precise rule for 

what is a business day (all calendar days 

except Sundays and the federal legal 

holidays listed in 5 U.S.C. 6103(a)) applies 

when the right of rescission, the receipt of 

disclosures for certain mortgage transactions 

under section 226.19(a)(1)(ii), or mortgages 

subject to section 226.32 are involved. (See 

also comment 31(c)(1)–1.) Four federal legal 

holidays are identified in 5 U.S.C. 6103(a) by 

a specific date: New Year’s Day, January 1; 

Independence Day, July 4; Veterans Day, 

November 11; and Christmas Day, December 

25. When one of these holidays (July 4, for 

example) falls on a Saturday, federal offices 

and other entities might observe the holiday 

on the preceding Friday (July 3). The 

observed holiday (in the example, July 3) is 

a business day for purposes of rescission, the 

receipt of disclosures for certain mortgage 

transactions under section 226.19(a)(1)(ii), or 

the delivery of disclosures for certain highcost mortgages covered by section 226.32. 

* * * * * 

2(a)(24) Residential mortgage transaction. 

1. Relation to other sections. This term is 

important in five provisions in the 

regulation: 

i. § 226.4(c)(7)—exclusions from the 

finance charge. 

ii. § 226.15(f)—exemption from the right of 

rescission. 

iii. § 226.18(q)—whether or not the 

obligation is assumable. 

iv. § 226.20(b)—disclosure requirements 

for assumptions. 

v. § 226.23(f)—exemption from the right of 

rescission. 

* * * * * 

5. Acquisition. * * * 

* * * * * 

ii. Examples of new transactions involving 

a previously acquired dwelling include the 

financing of a balloon payment due under a 

land sale contract and an extension of credit 

made to a joint owner of property to buy out 

the other joint owner’s interest. In these 

instances, disclosures are not required under 

§ 226.18(q) (assumability policies). However, 

the rescission rules of §§ 226.15 and 226.23 

do apply to these new transactions. 

* * * * * 

Subpart B—Open-End Credit 

■ 15. In Supplement I to Part 226, under 

Section 226.16—Advertising, paragraph 

16–1 is revised, paragraph 16–2 is 

redesignated as paragraph 16–6, and 

new paragraphs 16–2 through 16–5 and 

16–7 are added; under 16(d) Additional 

requirements for home-equity plans, 

paragraph 16(d)–3 is revised, paragraphs 

16(d)–5, 16(d)–6, and 16(d)–7 are 

redesignated as paragraphs 16(d)–7, 

16(d)–8, and 16(d)–9, respectively, new 

paragraphs 16(d)–5 and 16(d)–6 are 

added, and newly designated 

paragraphs 16(d)–7 and 16(d)–9 are 

revised; and new heading 16(e) 

Alternative disclosures—television or 

radio advertisements is added, and new 

paragraphs 16(e)–1 and 16(e)–2 are 

added, to read as follows: 

Section 226.16—Advertising 

1. Clear and conspicuous standard—

general. Section 226.16 is subject to the 

general ‘‘clear and conspicuous’’ standard for 

subpart B (see § 226.5(a)(1)) but prescribes no 

specific rules for the format of the necessary 

disclosures, aside from the format 

requirements related to the disclosure of a 

promotional rate under § 226.16(d)(6). Aside 

from the terms described in § 226.16(d)(6), 

the credit terms need not be printed in a 

certain type size nor need they appear in any 

particular place in the advertisement. 

2. Clear and conspicuous standard—

promotional rates or payments for homeequity plans. For purposes of § 226.16(d)(6), 

a clear and conspicuous disclosure means 

that the required information in 

§ 226.16(d)(6)(ii)(A)–(C) is disclosed with 

equal prominence and in close proximity to 

the promotional rate or payment to which it 

applies. If the information in 

§ 226.16(d)(6)(ii)(A)–(C) is the same type size 

and is located immediately next to or directly 

above or below the promotional rate or 

payment to which it applies, without any 

intervening text or graphical displays, the 

disclosures would be deemed to be equally 

prominent and in close proximity. 

Notwithstanding the above, for electronic 

advertisements that disclose promotional 

rates or payments, compliance with the 

requirements of § 226.16(c) is deemed to 

satisfy the clear and conspicuous standard. 

3. Clear and conspicuous standard—

Internet advertisements for home-equity 

plans. For purposes of this section, a clear 

and conspicuous disclosure for visual text 

advertisements on the Internet for homeequity plans subject to the requirements of 

§ 226.5b means that the required disclosures 

are not obscured by techniques such as 

graphical displays, shading, coloration, or 

other devices and comply with all other 

requirements for clear and conspicuous 

disclosures under § 226.16(d). See also 

comment 16(c)(1)–2. 

4. Clear and conspicuous standard—

televised advertisements for home-equity 

plans. For purposes of this section, including 

alternative disclosures as provided for by 

§ 226.16(e), a clear and conspicuous 

disclosure in the context of visual text 

advertisements on television for home-equity 

plans subject to the requirements of § 226.5b 

means that the required disclosures are not 

obscured by techniques such as graphical 

displays, shading, coloration, or other 

devices, are displayed in a manner that 

allows for a consumer to read the information 

required to be disclosed, and comply with all 

other requirements for clear and conspicuous 

disclosures under § 226.16(d). For example, 

very fine print in a television advertisement 

would not meet the clear and conspicuous 

standard if consumers cannot see and read 

the information required to be disclosed. 


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5. Clear and conspicuous standard—oral 

advertisements for home-equity plans. For 

purposes of this section, including 

alternative disclosures as provided for by 

§ 226.16(e), a clear and conspicuous 

disclosure in the context of an oral 

advertisement for home-equity plans subject 

to the requirements of § 226.5b, whether by 

radio, television, the Internet, or other 

medium, means that the required disclosures 

are given at a speed and volume sufficient for 

a consumer to hear and comprehend them. 

For example, information stated very rapidly 

at a low volume in a radio or television 

advertisement would not meet the clear and 

conspicuous standard if consumers cannot 

hear and comprehend the information 

required to be disclosed. 

6. Expressing the annual percentage rate in 

abbreviated form. * * * 

7. Effective date. For guidance on the 

applicability of the Board’s revisions to 

§ 226.16 published on July 30, 2008, see 

comment 1(d)(5)–1. 

* * * * * 

16(d) Additional requirements for homeequity plans. 

* * * * * 

3. Statements of tax deductibility. An 

advertisement that refers to deductibility for 

tax purposes is not misleading if it includes 

a statement such as ‘‘consult a tax advisor 

regarding the deductibility of interest.’’ An 

advertisement distributed in paper form or 

through the Internet (rather than by radio or 

television) that states that the advertised 

extension of credit may exceed the fair 

market value of the consumer’s dwelling is 

not misleading if it clearly and 

conspicuously states the required 

information in §§ 226.16(d)(4)(i) and (ii). 

* * * * * 

5. Promotional rates and payments in 

advertisements for home-equity plans. 

Section 226.16(d)(6) requires additional 

disclosures for promotional rates or 

payments. 

i. Variable-rate plans. In advertisements for 

variable-rate plans, if the advertised annual 

percentage rate is based on (or the advertised 

payment is derived from) the index and 

margin that will be used to make rate (or 

payment) adjustments over the term of the 

loan, then there is no promotional rate or 

promotional payment. If, however, the 

advertised annual percentage rate is not 

based on (or the advertised payment is not 

derived from) the index and margin that will 

be used to make rate (or payment) 

adjustments, and a reasonably current 

application of the index and margin would 

result in a higher annual percentage rate (or, 

given an assumed balance, a higher payment) 

then there is a promotional rate or 

promotional payment. 

ii. Equal prominence, close proximity. 

Information required to be disclosed in 

§ 226.16(d)(6)(ii) that is immediately next to 

or directly above or below the promotional 

rate or payment (but not in a footnote) is 

deemed to be closely proximate to the listing. 

Information required to be disclosed in 

§ 226.16(d)(6)(ii) that is in the same type size 

as the promotional rate or payment is 

deemed to be equally prominent. 

iii. Amounts and time periods of payments. 

Section 226.16(d)(6)(ii)(C) requires disclosure 

of the amount and time periods of any 

payments that will apply under the plan. 

This section may require disclosure of 

several payment amounts, including any 

balloon payment. For example, if an 

advertisement for a home-equity plan offers 

a $100,000 five-year line of credit and 

assumes that the entire line is drawn 

resulting in a minimum payment of $800 per 

month for the first six months, increasing to 

$1,000 per month after month six, followed 

by a $50,000 balloon payment after five 

years, the advertisement must disclose the 

amount and time period of each of the two 

monthly payment streams, as well as the 

amount and timing of the balloon payment, 

with equal prominence and in close 

proximity to the promotional payment. 

However, if the final payment could not be 

more than twice the amount of other 

minimum payments, the final payment need 

not be disclosed. 

iv. Plans other than variable-rate plans. 

For a plan other than a variable-rate plan, if 

an advertised payment is calculated in the 

same way as other payments based on an 

assumed balance, the fact that the minimum 

payment could increase solely if the 

consumer made an additional draw does not 

make the payment a promotional payment. 

For example, if a payment of $500 results 

from an assumed $10,000 draw, and the 

payment would increase to $1,000 if the 

consumer made an additional $10,000 draw, 

the payment is not a promotional payment. 

v. Conversion option. Some home-equity 

plans permit the consumer to repay all or 

part of the balance during the draw period at 

a fixed rate (rather than a variable rate) and 

over a specified time period. The fixed-rate 

conversion option does not, by itself, make 

the rate or payment that would apply if the 

consumer exercised the fixed-rate conversion 

option a promotional rate or payment. 

vi. Preferred-rate provisions. Some homeequity plans contain a preferred-rate 

provision, where the rate will increase upon 

the occurrence of some event, such as the 

consumer-employee leaving the creditor’s 

employ, the consumer closing an existing 

deposit account with the creditor, or the 

consumer revoking an election to make 

automated payments. A preferred-rate 

provision does not, by itself, make the rate 

or payment under the preferred-rate 

provision a promotional rate or payment. 

6. Reasonably current index and margin. 

For the purposes of this section, an index and 

margin is considered reasonably current if: 

i. For direct mail advertisements, it was in 

effect within 60 days before mailing; 

ii. For advertisements in electronic form it 

was in effect within 30 days before the 

advertisement is sent to a consumer’s e-mail 

address, or in the case of an advertisement 

made on an Internet Web site, when viewed 

by the public; or 

iii. For printed advertisements made 

available to the general public, including 

ones contained in a catalog, magazine, or 

other generally available publication, it was 

in effect within 30 days before printing. 

7. Relation to other sections. 

Advertisements for home-equity plans must 

comply with all provisions in § 226.16 not 

solely the rules in § 226.16(d). If an 

advertisement contains information (such as 

the payment terms) that triggers the duty 

under § 226.16(d) to state the annual 

percentage rate, the additional disclosures in 

§ 226.16(b) must be provided in the 

advertisement. While § 226.16(d) does not 

require a statement of fees to use or maintain 

the plan (such as membership fees and 

transaction charges), such fees must be 

disclosed under § 226.16(b)(1) and (3). 

* * * * * 

9. Balloon payment. See comment 

5b(d)(5)(ii)–3 for information not required to 

be stated in advertisements, and on situations 

in which the balloon payment requirement 

does not apply. 

16(e) Alternative disclosures—television or 

radio advertisements. 

1. Multi-purpose telephone number. When 

an advertised telephone number provides a 

recording, disclosures should be provided 

early in the sequence to ensure that the 

consumer receives the required disclosures. 

For example, in providing several options—

such as providing directions to the 

advertiser’s place of business—the option 

allowing the consumer to request disclosures 

should be provided early in the telephone 

message to ensure that the option to request 

disclosures is not obscured by other 

information. 

2. Statement accompanying telephone 

number. Language must accompany a 

telephone number indicating that disclosures 

are available by calling the telephone 

number, such as ‘‘call 1–800–000–0000 for 

details about credit costs and terms.’’

Subpart C—Closed-End Credit 

■ 16. In Supplement I to Part 226, under 

Section 226.17—General Disclosure 

Requirements, 17(c) Basis of disclosures 

and use of estimates, Paragraph 

17(c)(1), paragraph 17(c)(1)–8 is revised, 

and under 17(f) Early disclosures, 

paragraph 17(f)–4 is revised, to read as 

follows: 

Section 226.17—General Disclosure 

Requirements 

* * * * * 

17(c) Basis of disclosures and use of 

estimates. 

* * * * * 

Paragraph 17(c)(1). 

* * * * * 

8. Basis of disclosures in variable-rate 

transactions. The disclosures for a variablerate transaction must be given for the full 

term of the transaction and must be based on 

the terms in effect at the time of 

consummation. Creditors should base the 

disclosures only on the initial rate and 

should not assume that this rate will 

increase. For example, in a loan with an 

initial rate of 10 percent and a 5 percentage 

points rate cap, creditors should base the 

disclosures on the initial rate and should not 

assume that this rate will increase 5 

percentage points. However, in a variablerate transaction with a seller buydown that 

is reflected in the credit contract, a consumer 


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buydown, or a discounted or premium rate, 

disclosures should not be based solely on the 

initial terms. In those transactions, the 

disclosed annual percentage rate should be a 

composite rate based on the rate in effect 

during the initial period and the rate that is 

the basis of the variable-rate feature for the 

remainder of the term. (See the commentary 

to § 226.17(c) for a discussion of buydown, 

discounted, and premium transactions and 

the commentary to § 226.19(a)(2) for a 

discussion of the redisclosure in certain 

mortgage transactions with a variable-rate 

feature.) 

* * * * * 

17(f) Early disclosures. 

* * * * * 

4. Special rules. In mortgage transactions 

subject to § 226.19, the creditor must 

redisclose if, between the delivery of the 

required early disclosures and 

consummation, the annual percentage rate 

changes by more than a stated tolerance. 

When subsequent events occur after 

consummation, new disclosures are required 

only if there is a refinancing or an 

assumption within the meaning of § 226.20. 

* * * * * 

■ 17. In Supplement I to Part 226, under 

Section 226.19—Certain Residential 

Mortgage and Variable-Rate 

Transactions, the heading is revised, 

heading 19(a)(1) Time of disclosure is 

redesignated as heading 19(a)(1)(i) Time 

of disclosure, paragraphs 19(a)(1)(i)–1 

and 19(a)(1)(i)–5 are revised, new 

heading 19(a)(1)(ii) Imposition of fees 

and new paragraphs 19(a)(1)(ii)–1 

through 19(a)(1)(ii)–3 are added , and 

new heading 19(a)(1)(iii) Exception to 

fee restriction and new paragraph 

19(a)(1)(iii)–1 are added, to read as 

follows: 

Section 226.19—Certain Mortgage and 

Variable-Rate Transactions 

19(a)(1)(i) Time of disclosure. 

1. Coverage. This section requires early 

disclosure of credit terms in mortgage 

transactions that are secured by a consumer’s 

principal dwelling and also subject to the 

Real Estate Settlement Procedures Act 

(RESPA) and its implementing Regulation X, 

administered by the Department of Housing 

and Urban Development (HUD). To be 

covered by § 226.19, a transaction must be a 

federally related mortgage loan under 

RESPA. ‘‘Federally related mortgage loan’’ is 

defined under RESPA (12 U.S.C. 2602) and 

Regulation X (24 CFR 3500.2), and is subject 

to any interpretations by HUD. RESPA 

coverage includes such transactions as loans 

to purchase dwellings, refinancings of loans 

secured by dwellings, and subordinate-lien 

home-equity loans, among others. Although 

RESPA coverage relates to any dwelling, 

§ 226.19(a) applies to such transactions only 

if they are secured by a consumer’s principal 

dwelling. Also, home equity lines of credit 

subject to § 226.5b are not covered by 

§ 226.19(a). For guidance on the applicability 

of the Board’s revisions to § 226.19(a) 

published on July 30, 2008, see comment 

1(d)(5)–1 

* * * * * 

5. Itemization of amount financed. In many 

mortgage transactions, the itemization of the 

amount financed required by § 226.18(c) will 

contain items, such as origination fees or 

points, that also must be disclosed as part of 

the good faith estimates of settlement costs 

required under RESPA. Creditors furnishing 

the RESPA good faith estimates need not give 

consumers any itemization of the amount 

financed, either with the disclosures 

provided within three days after application 

or with the disclosures given at 

consummation or settlement. 

19(a)(1)(ii) Imposition of fees. 

1. Timing of fees. The consumer must 

receive the disclosures required by this 

section before paying or incurring any fee 

imposed by a creditor or other person in 

connection with the consumer’s application 

for a mortgage transaction that is subject to 

§ 226.19(a)(1)(i), except as provided in 

§ 226.19(a)(1)(iii). If the creditor delivers the 

disclosures to the consumer in person, a fee 

may be imposed anytime after delivery. If the 

creditor places the disclosures in the mail, 

the creditor may impose a fee after the 

consumer receives the disclosures or, in all 

cases, after midnight on the third business 

day following mailing of the disclosures. For 

purposes of § 226.19(a)(1)(ii), the term 

‘‘business day’’ means all calendar days 

except Sundays and legal public holidays 

referred to in § 226.2(a)(6). See Comment 

2(a)(6)–2. For example, assuming that there 

are no intervening legal public holidays, a 

creditor that receives the consumer’s written 

application on Monday and mails the early 

mortgage loan disclosure on Tuesday may 

impose a fee on the consumer after midnight 

on Friday. 

2. Fees restricted. A creditor or other 

person may not impose any fee, such as for 

an appraisal, underwriting, or broker 

services, until the consumer has received the 

disclosures required by § 226.19(a)(1)(i). The 

only exception to the fee restriction allows 

the creditor or other person to impose a bona 

fide and reasonable fee for obtaining a 

consumer’s credit history, such as for a credit 

report(s). 

3. Collection of fees. A creditor complies 

with § 226.19(a)(1)(ii) if—

i. The creditor receives a consumer’s 

written application directly from the 

consumer and does not collect any fee, other 

than a fee for obtaining a consumer’s credit 

history, until the consumer receives the early 

mortgage loan disclosure. 

ii. A third party submits a consumer’s 

written application to a creditor and both the 

creditor and third party do not collect any 

fee, other than a fee for obtaining a 

consumer’s credit history, until the consumer 

receives the early mortgage loan disclosure 

from the creditor. 

iii. A third party submits a consumer’s 

written application to a second creditor 

following a prior creditor’s denial of an 

application made by the same consumer (or 

following the consumer’s withdrawal), and, if 

a fee already has been assessed, the new 

creditor or third party does not collect or 

impose any additional fee until the consumer 

receives an early mortgage loan disclosure 

from the new creditor. 

19(a)(1)(iii) Exception to fee restriction. 

1. Requirements. A creditor or other person 

may impose a fee before the consumer 

receives the required disclosures if it is for 

obtaining the consumer’s credit history, such 

as by purchasing a credit report(s) on the 

consumer. The fee also must be bona fide 

and reasonable in amount. For example, a 

creditor may collect a fee for obtaining a 

credit report(s) if it is in the creditor’s 

ordinary course of business to obtain a credit 

report(s). If the criteria in § 226.19(a)(1)(iii) 

are met, the creditor may describe or refer to 

this fee, for example, as an ‘‘application fee.’’

* * * * * 

■ 18. In Supplement I to Part 226, under 

Section 226.24—Advertising, paragraph 

24–1 is revised; heading 24(d) Catalogs 

or other multiple-page advertisements; 

electronic advertisements and 

paragraphs 24(d)–1 through 24(d)–4 are 

redesignated as heading 24(e) Catalogs 

or other multiple-page advertisements; 

electronic advertisements and 

paragraphs 24(e)–1 through 24(e)–4, 

respectively; headings 24(c) 

Advertisements of terms that require 

additional disclosures, Paragraph 

24(c)(1), and Paragraph 24(c)(2) and 

paragraphs 24(c)–1, 24(c)(1)–1 through 

24(c)(1)–4, and 24(c)(2)–1 through 

24(c)(2)–4 are redesignated as headings 

24(d) Advertisements of terms that 

require additional disclosures, 

Paragraph 24(d)(1), and Paragraph 

24(d)(2) and paragraphs 24(d)–1, 

24(d)(1)–1 through 24(d)(1)–4, and 

24(d)(2)–1 through 24(d)(2)–4, 

respectively; heading 24(b) 

Advertisement of rate of finance charge 

and paragraphs 24(b)–1 through 24(b)–

5 are redesignated as heading 24(c) 

Advertisement of rate of finance charge 

and paragraphs 24(c)–1 through 24(c)–5, 

respectively; new heading 24(b) Clear 

and conspicuous standard and new 

paragraphs 24(b)–1 through 24(b)–5 are 

added; newly designated paragraphs 

24(c)–2 and 24(c)–3 are revised, newly 

designated paragraph 24(c)–4 is 

removed, and newly designated 

paragraph 24(c)–5 is further 

redesignated as 24(c)–4 and revised; 

newly designated paragraphs 24(d)–1, 

24(d)(1)–3, and 24(d)(2)–2 are revised, 

newly designated paragraphs 24(d)(2)–3 

and 24(d)(2)–4 are further redesignated 

as 24(d)(2)–4 and 24(d)(2)–5, 

respectively, new paragraph 24(d)(2)–3 

is added, and newly designated 

paragraph 24(d)(2)–5 is revised; newly 

designated paragraph 24(e)–1, 24(e)–2, 

and 24(e)–4 are revised; and new 

headings 24(f) Disclosure of rates and 

payments in advertisements for credit 

secured by a dwelling, 24(f)(3) 

Disclosure of payments, 24(g) 

Alternative disclosures—television or 


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radio advertisements, and 24(i) 

Prohibited acts or practices in 

advertisements for credit secured by a 

dwelling and new paragraphs 24(f)–1 

through 24(f)–6, 24(f)(3)–1, 24(f)(3)–2, 

24(g)–1, 24(g)–2, and 24(i)–1 through 

24(i)–3 are added, to read as follows: 

Section 226.24—Advertising 

1. Effective date. For guidance on the 

applicability of the Board’s changes to 

§ 226.24 published on July 30, 2008, see 

comment 1(d)(5)–1. 

* * * * * 

24(b) Clear and conspicuous standard. 

1. Clear and conspicuous standard—

general. This section is subject to the general 

‘‘clear and conspicuous’’ standard for this 

subpart, see § 226.17(a)(1), but prescribes no 

specific rules for the format of the necessary 

disclosures, other than the format 

requirements related to the advertisement of 

rates and payments as described in comment 

24(b)–2 below. The credit terms need not be 

printed in a certain type size nor need they 

appear in any particular place in the 

advertisement. For example, a merchandise 

tag that is an advertisement under the 

regulation complies with this section if the 

necessary credit terms are on both sides of 

the tag, so long as each side is accessible. 

2. Clear and conspicuous standard—rates 

and payments in advertisements for credit 

secured by a dwelling. For purposes of 

§ 226.24(f), a clear and conspicuous 

disclosure means that the required 

information in §§ 226.24(f)(2)(i) and 

226.24(f)(3)(i)(A) and (B) is disclosed with 

equal prominence and in close proximity to 

the advertised rates or payments triggering 

the required disclosures, and that the 

required information in § 226.24(f)(3)(i)(C) is 

disclosed prominently and in close proximity 

to the advertised rates or payments triggering 

the required disclosures. If the required 

information in §§ 226.24(f)(2)(i) and 

226.24(f)(3)(i)(A) and (B) is the same type 

size as the advertised rates or payments 

triggering the required disclosures, the 

disclosures are deemed to be equally 

prominent. The information in 

§ 226.24(f)(3)(i)(C) must be disclosed 

prominently, but need not be disclosed with 

equal prominence or be the same type size 

as the payments triggering the required 

disclosures. If the required information in 

§§ 226.24(f)(2)(i) and 226.24(f)(3)(i) is located 

immediately next to or directly above or 

below the advertised rates or payments 

triggering the required disclosures, without 

any intervening text or graphical displays, 

the disclosures are deemed to be in close 

proximity. Notwithstanding the above, for 

electronic advertisements that disclose rates 

or payments, compliance with the 

requirements of § 226.24(e) is deemed to 

satisfy the clear and conspicuous standard. 

3. Clear and conspicuous standard—

Internet advertisements for credit secured by 

a dwelling. For purposes of this section, a 

clear and conspicuous disclosure for visual 

text advertisements on the Internet for credit 

secured by a dwelling means that the 

required disclosures are not obscured by 

techniques such as graphical displays, 

shading, coloration, or other devices and 

comply with all other requirements for clear 

and conspicuous disclosures under § 226.24. 

See also comment 24(e)–4. 

4. Clear and conspicuous standard—

televised advertisements for credit secured by 

a dwelling. For purposes of this section, 

including alternative disclosures as provided 

for by § 226.24(g), a clear and conspicuous 

disclosure in the context of visual text 

advertisements on television for credit 

secured by a dwelling means that the 

required disclosures are not obscured by 

techniques such as graphical displays, 

shading, coloration, or other devices, are 

displayed in a manner that allows a 

consumer to read the information required to 

be disclosed, and comply with all other 

requirements for clear and conspicuous 

disclosures under § 226.24. For example, 

very fine print in a television advertisement 

would not meet the clear and conspicuous 

standard if consumers cannot see and read 

the information required to be disclosed. 

5. Clear and conspicuous standard—oral 

advertisements for credit secured by a 

dwelling. For purposes of this section, 

including alternative disclosures as provided 

for by § 226.24(g), a clear and conspicuous 

disclosure in the context of an oral 

advertisement for credit secured by a 

dwelling, whether by radio, television, or 

other medium, means that the required 

disclosures are given at a speed and volume 

sufficient for a consumer to hear and 

comprehend them. For example, information 

stated very rapidly at a low volume in a radio 

or television advertisement would not meet 

the clear and conspicuous standard if 

consumers cannot hear and comprehend the 

information required to be disclosed. 

24(c) Advertisement of rate of finance 

charge. 

* * * * * 

2. Simple or periodic rates. The 

advertisement may not simultaneously state 

any other rate, except that a simple annual 

rate or periodic rate applicable to an unpaid 

balance may appear along with (but not more 

conspicuously than) the annual percentage 

rate. An advertisement for credit secured by 

a dwelling may not state a periodic rate, 

other than a simple annual rate, that is 

applied to an unpaid balance. For example, 

in an advertisement for credit secured by a 

dwelling, a simple annual interest rate may 

be shown in the same type size as the annual 

percentage rate for the advertised credit, 

subject to the requirements of section 

226.24(f). A simple annual rate or periodic 

rate that is applied to an unpaid balance is 

the rate at which interest is accruing; those 

terms do not include a rate lower than the 

rate at which interest is accruing, such as an 

effective rate, payment rate, or qualifying 

rate. 

3. Buydowns. When a third party (such as 

a seller) or a creditor wishes to promote the 

availability of reduced interest rates 

(consumer or seller buydowns), the 

advertised annual percentage rate must be 

determined in accordance with the 

commentary to § 226.17(c) regarding the basis 

of transactional disclosures for buydowns. 

The seller or creditor may advertise the 

reduced simple interest rate, provided the 

advertisement shows the limited term to 

which the reduced rate applies and states the 

simple interest rate applicable to the balance 

of the term. The advertisement may also 

show the effect of the buydown agreement on 

the payment schedule for the buydown 

period, but this will trigger the additional 

disclosures under § 226.24(d)(2). 

4. Discounted variable-rate transactions. 

The advertised annual percentage rate for 

discounted variable-rate transactions must be 

determined in accordance with comment 

17(c)(1)–10 regarding the basis of 

transactional disclosures for such financing. 

i. A creditor or seller may promote the 

availability of the initial rate reduction in 

such transactions by advertising the reduced 

simple annual rate, provided the 

advertisement shows with equal prominence 

and in close proximity the limited term to 

which the reduced rate applies and the 

annual percentage rate that will apply after 

the term of the initial rate reduction expires. 

See § 226.24(f). 

ii. Limits or caps on periodic rate or 

payment adjustments need not be stated. To 

illustrate using the second example in 

comment 17(c)(1)–10, the fact that the rate is 

presumed to be 11 percent in the second year 

and 12 percent for the remaining 28 years 

need not be included in the advertisement. 

iii. The advertisement may also show the 

effect of the discount on the payment 

schedule for the discount period, but this 

will trigger the additional disclosures under 

§ 226.24(d). 

24(d) Advertisement of terms that require 

additional disclosures. 

1. General rule. Under § 226.24(d)(1), 

whenever certain triggering terms appear in 

credit advertisements, the additional credit 

terms enumerated in § 226.24(d)(2) must also 

appear. These provisions apply even if the 

triggering term is not stated explicitly but 

may be readily determined from the 

advertisement. For example, an 

advertisement may state ‘‘80 percent 

financing available,’’ which is in fact 

indicating that a 20 percent downpayment is 

required. 

Paragraph 24(d)(1). 

* * * * * 

3. Payment amount. The dollar amount of 

any payment includes statements such as: 

• ‘‘Payable in installments of $103’’. 

• ‘‘$25 weekly’’. 

• ‘‘$500,000 loan for just $1,650 per 

month’’. 

• ‘‘$1,200 balance payable in 10 equal 

installments’’. 

In the last example, the amount of each 

payment is readily determinable, even 

though not explicitly stated. But statements 

such as ‘‘monthly payments to suit your 

needs’’ or ‘‘regular monthly payments’’ are 

not deemed to be statements of the amount 

of any payment. 

* * * * * 

Paragraph 24(d)(2). 

* * * * * 

2. Disclosure of repayment terms. The 

phrase ‘‘terms of repayment’’ generally has 

the same meaning as the ‘‘payment schedule’’

required to be disclosed under § 226.18(g). 

Section 226.24(d)(2)(ii) provides flexibility to 


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creditors in making this disclosure for 

advertising purposes. Repayment terms may 

be expressed in a variety of ways in addition 

to an exact repayment schedule; this is 

particularly true for advertisements that do 

not contemplate a single specific transaction. 

Repayment terms, however, must reflect the 

consumer’s repayment obligations over the 

full term of the loan, including any balloon 

payment, see comment 24(d)(2)–3, not just 

the repayment terms that will apply for a 

limited period of time. For example: 

i. A creditor may use a unit-cost approach 

in making the required disclosure, such as 

‘‘48 monthly payments of $27.83 per $1,000 

borrowed.’’

ii. In an advertisement for credit secured 

by a dwelling, when any series of payments 

varies because of the inclusion of mortgage 

insurance premiums, a creditor may state the 

number and timing of payments, the fact that 

payments do not include amounts for 

mortgage insurance premiums, and that the 

actual payment obligation will be higher. 

iii. In an advertisement for credit secured 

by a dwelling, when one series of monthly 

payments will apply for a limited period of 

time followed by a series of higher monthly 

payments for the remaining term of the loan, 

the advertisement must state the number and 

time period of each series of payments, and 

the amounts of each of those payments. For 

this purpose, the creditor must assume that 

the consumer makes the lower series of 

payments for the maximum allowable period 

of time. 

3. Balloon payment; disclosure of 

repayment terms. In some transactions, a 

balloon payment will occur when the 

consumer only makes the minimum 

payments specified in an advertisement. A 

balloon payment results if paying the 

minimum payments does not fully amortize 

the outstanding balance by a specified date 

or time, usually the end of the term of the 

loan, and the consumer must repay the entire 

outstanding balance at such time. If a balloon 

payment will occur when the consumer only 

makes the minimum payments specified in 

an advertisement, the advertisement must 

state with equal prominence and in close 

proximity to the minimum payment 

statement the amount and timing of the 

balloon payment that will result if the 

consumer makes only the minimum 

payments for the maximum period of time 

that the consumer is permitted to make such 

payments. 

4. Annual percentage rate. * * * 

5. Use of examples. A creditor may use 

illustrative credit transactions to make the 

necessary disclosures under § 226.24(d)(2). 

That is, where a range of possible 

combinations of credit terms is offered, the 

advertisement may use examples of typical 

transactions, so long as each example 

contains all of the applicable terms required 

by § 226.24(d). The examples must be labeled 

as such and must reflect representative credit 

terms made available by the creditor to 

present and prospective customers. 

24(e) Catalogs or other multiple-page 

advertisements; electronic advertisements. 

1. Definition. The multiple-page 

advertisements to which this section refers 

are advertisements consisting of a series of 

sequentially numbered pages—for example, a 

supplement to a newspaper. A mailing 

consisting of several separate flyers or pieces 

of promotional material in a single envelope 

does not constitute a single multiple-page 

advertisement for purposes of § 226.24(e). 

2. General. Section 226.24(e) permits 

creditors to put credit information together in 

one place in a catalog or other multiple-page 

advertisement or in an electronic 

advertisement (such as an advertisement 

appearing on an Internet Web site). The rule 

applies only if the advertisement contains 

one or more of the triggering terms from 

§ 226.24(d)(1). A list of different annual 

percentage rates applicable to different 

balances, for example, does not trigger 

further disclosures under § 226.24(d)(2) and 

so is not covered by § 226.24(e). 

* * * * * 

4. Electronic advertisement. If an electronic 

advertisement (such as an advertisement 

appearing on an Internet Web site) contains 

the table or schedule permitted under 

§ 226.24(e)(1), any statement of terms set 

forth in § 226.24(d)(1) appearing anywhere 

else in the advertisement must clearly direct 

the consumer to the location where the table 

or schedule begins. For example, a term 

triggering additional disclosures may be 

accompanied by a link that directly takes the 

consumer to the additional information. 

24(f) Disclosure of rates and payments in 

advertisements for credit secured by a 

dwelling. 

1. Applicability. The requirements of 

§ 226.24(f)(2) apply to advertisements for 

loans where more than one simple annual 

rate of interest will apply. The requirements 

of § 226.24(f)(3)(i)(A) require a clear and 

conspicuous disclosure of each payment that 

will apply over the term of the loan. In 

determining whether a payment will apply 

when the consumer may choose to make a 

series of lower monthly payments that will 

apply for a limited period of time, the 

creditor must assume that the consumer 

makes the series of lower payments for the 

maximum allowable period of time. See 

comment 24(d)(2)–2.iii. However, for 

purposes of § 226.24(f), the creditor may, but 

need not, assume that specific events which 

trigger changes to the simple annual rate of 

interest or to the applicable payments will 

occur. For example: 

i. Fixed-rate conversion loans. If a loan 

program permits consumers to convert their 

variable-rate loans to fixed rate loans, the 

creditor need not assume that the fixed-rate 

conversion option, by itself, means that more 

than one simple annual rate of interest will 

apply to the loan under § 226.24(f)(2) and 

need not disclose as a separate payment 

under § 226.24(f)(3)(i)(A) the payment that 

would apply if the consumer exercised the 

fixed-rate conversion option. 

ii. Preferred-rate loans. Some loans contain 

a preferred-rate provision, where the rate will 

increase upon the occurrence of some event, 

such as the consumer-employee leaving the 

creditor’s employ or the consumer closing an 

existing deposit account with the creditor or 

the consumer revoking an election to make 

automated payments. A creditor need not 

assume that the preferred-rate provision, by 

itself, means that more than one simple 

annual rate of interest will apply to the loan 

under § 226.24(f)(2) and the payments that 

would apply upon occurrence of the event 

that triggers the rate increase need not be 

disclosed as a separate payments under 

§ 226.24(f)(3)(i)(A). 

iii. Rate reductions. Some loans contain a 

provision where the rate will decrease upon 

the occurrence of some event, such as if the 

consumer makes a series of payments on 

time. A creditor need not assume that the rate 

reduction provision, by itself, means that 

more than one simple annual rate of interest 

will apply to the loan under § 226.24(f)(2) 

and need not disclose the payments that 

would apply upon occurrence of the event 

that triggers the rate reduction as a separate 

payments under § 226.24(f)(3)(i)(A). 

2. Equal prominence, close proximity. 

Information required to be disclosed under 

§§ 226.24(f)(2)(i) and 226.24(f)(3)(i) that is 

immediately next to or directly above or 

below the simple annual rate or payment 

amount (but not in a footnote) is deemed to 

be closely proximate to the listing. 

Information required to be disclosed under 

§§ 226.24(f)(2)(i) and 226.24(f)(3)(i)(A) and 

(B) that is in the same type size as the simple 

annual rate or payment amount is deemed to 

be equally prominent. 

3. Clear and conspicuous standard. For 

more information about the applicable clear 

and conspicuous standard, see comment 

24(b)–2. 

4. Comparisons in advertisements. When 

making any comparison in an advertisement 

between actual or hypothetical credit 

payments or rates and the payments or rates 

available under the advertised product, the 

advertisement must state all applicable 

payments or rates for the advertised product 

and the time periods for which those 

payments or rates will apply, as required by 

this section. 

5. Application to variable-rate 

transactions—disclosure of rates. In 

advertisements for variable-rate transactions, 

if a simple annual rate that applies at 

consummation is not based on the index and 

margin that will be used to make subsequent 

rate adjustments over the term of the loan, 

the requirements of § 226.24(f)(2)(i) apply. 

6. Reasonably current index and margin. 

For the purposes of this section, an index and 

margin is considered reasonably current if: 

i. For direct mail advertisements, it was in 

effect within 60 days before mailing; 

ii. For advertisements in electronic form it 

was in effect within 30 days before the 

advertisement is sent to a consumer’s e-mail 

address, or in the case of an advertisement 

made on an Internet Web site, when viewed 

by the public; or 

iii. For printed advertisements made 

available to the general public, including 

ones contained in a catalog, magazine, or 

other generally available publication, it was 

in effect within 30 days before printing. 

24(f)(3) Disclosure of payments. 

1. Amounts and time periods of payments. 

Section 226.24(f)(3)(i) requires disclosure of 

the amounts and time periods of all 

payments that will apply over the term of the 

loan. This section may require disclosure of 

several payment amounts, including any 

balloon payment. For example, if an 


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44610 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

advertisement for credit secured by a 

dwelling offers $300,000 of credit with a 30- 

year loan term for a payment of $600 per 

month for the first six months, increasing to 

$1,500 per month after month six, followed 

by a balloon payment of $30,000 at the end 

of the loan term, the advertisement must 

disclose the amount and time periods of each 

of the two monthly payment streams, as well 

as the amount and timing of the balloon 

payment, with equal prominence and in 

close proximity to each other. However, if the 

final scheduled payment of a fully amortizing 

loan is not greater than two times the amount 

of any other regularly scheduled payment, 

the final payment need not be disclosed. 

2. Application to variable-rate 

transactions—disclosure of payments. In 

advertisements for variable-rate transactions, 

if the payment that applies at consummation 

is not based on the index and margin that 

will be used to make subsequent payment 

adjustments over the term of the loan, the 

requirements of § 226.24(f)(3)(i) apply. 

24(g) Alternative disclosures—television or 

radio advertisements. 

1. Multi-purpose telephone number. When 

an advertised telephone number provides a 

recording, disclosures should be provided 

early in the sequence to ensure that the 

consumer receives the required disclosures. 

For example, in providing several options—

such as providing directions to the 

advertiser’s place of business—the option 

allowing the consumer to request disclosures 

should be provided early in the telephone 

message to ensure that the option to request 

disclosures is not obscured by other 

information. 

2. Statement accompanying telephone 

number. Language must accompany a 

telephone number indicating that disclosures 

are available by calling the telephone 

number, such as ‘‘call 1–800–000–0000 for 

details about credit costs and terms.’’

24(i) Prohibited acts or practices in 

advertisements for credit secured by a 

dwelling. 

1. Comparisons in advertisements. The 

requirements of § 226.24(i)(2) apply to all 

advertisements for credit secured by a 

dwelling, including radio and television 

advertisements. A comparison includes a 

claim about the amount a consumer may save 

under the advertised product. For example, 

a statement such as ‘‘save $300 per month on 

a $300,000 loan’’ constitutes an implied 

comparison between the advertised product’s 

payment and a consumer’s current payment. 

2. Misrepresentations about government 

endorsement. A statement that the federal 

Community Reinvestment Act entitles the 

consumer to refinance his or her mortgage at 

the low rate offered in the advertisement is 

prohibited because it conveys a misleading 

impression that the advertised product is 

endorsed or sponsored by the federal 

government. 

3. Misleading claims of debt elimination. 

The prohibition against misleading claims of 

debt elimination or waiver or forgiveness 

does not apply to legitimate statements that 

the advertised product may reduce debt 

payments, consolidate debts, or shorten the 

term of the debt. Examples of misleading 

claims of debt elimination or waiver or 

forgiveness of loan terms with, or obligations 

to, another creditor of debt include: ‘‘WipeOut Personal Debts!’’, ‘‘New DEBT-FREE 

Payment’’, ‘‘Set yourself free; get out of debt 

today’’, ‘‘Refinance today and wipe your debt 

clean!’’, ‘‘Get yourself out of debt * * * 

Forever!’’, and ‘‘Pre-payment Penalty 

Waiver.’’

Subpart E—Special Rules for Certain 

Home Mortgage Transactions 

■ 19. In Supplement I to Part 226, under 

Section 226.32–Requirements for 

Certain Closed-End Home Mortgages, 

32(a) Coverage, new heading Paragraph 

32(a)(2) and new paragraph 32(a)(2)–1 

are added, under 32(d) Limitations, new 

paragraphs 32(d)–1 and 32(d)–2 are 

added, and under 32(d)(7) Prepayment 

penalty exception, Paragraph 

32(d)(7)(iii), paragraphs 32(d)(7)(iii)–1 

and 32(d)(7)(iii)–2 are removed and new 

paragraphs 32(d)(7)(iii)–1 through 

32(d)(7)(iii)–3 are added, and new 

heading Paragraph 32(d)(7)(iv) and new 

paragraphs 32(d)(7)(iv)–1 and 

32(d)(7)(iv)–2 are added, to read as 

follows: 

Section 226.32—Requirements for Certain 

Closed-End Home Mortgages 32(a) Coverage. 

* * * * * 

Paragraph 32(a)(2). 

1. Exemption limited. Section 226.32(a)(2) 

lists certain transactions exempt from the 

provisions of § 226.32. Nevertheless, those 

transactions may be subject to the provisions 

of § 226.35, including any provisions of 

§ 226.32 to which § 226.35 refers. See 12 CFR 

226.35(a). 

* * * * * 

32(d) Limitations. 

1. Additional prohibitions applicable 

under other sections. Section 226.34 sets 

forth certain prohibitions in connection with 

mortgage credit subject to § 226.32, in 

addition to the limitations in § 226.32(d). 

Further, § 226.35(b) prohibits certain 

practices in connection with transactions that 

meet the coverage test in § 226.35(a). Because 

the coverage test in § 226.35(a) is generally 

broader than the coverage test in § 226.32(a), 

most § 226.32 mortgage loans are also subject 

to the prohibitions set forth in § 226.35(b) 

(such as escrows), in addition to the 

limitations in § 226.32(d). 

2. Effective date. For guidance on the 

application of the Board’s revisions 

published on July 30, 2008 to § 226.32, see 

comment 1(d)(5)–1. 

* * * * * 

32(d)(7) Prepayment penalty exception. 

Paragraph 32(d)(7)(iii). 

1. Calculating debt-to-income ratio. ‘‘Debt’’

does not include amounts paid by the 

borrower in cash at closing or amounts from 

the loan proceeds that directly repay an 

existing debt. Creditors may consider 

combined debt-to-income ratios for 

transactions involving joint applicants. For 

more information about obligations and 

inflows that may constitute ‘‘debt’’ or 

‘‘income’’ for purposes of § 226.32(d)(7)(iii), 

see comment 34(a)(4)–6 and comment 

34(a)(4)(iii)(C)–1. 

2. Verification. Creditors shall verify 

income in the manner described in 

§ 226.34(a)(4)(ii) and the related comments. 

Creditors may verify debt with a credit 

report. However, a credit report may not 

reflect certain obligations undertaken just 

before or at consummation of the transaction 

and secured by the same dwelling that 

secures the transaction. Section 226.34(a)(4) 

may require creditors to consider such 

obligations; see comment 34(a)(4)–3 and 

comment 34(a)(4)(ii)(C)–1. 

3. Interaction with Regulation B. Section 

226.32(d)(7)(iii) does not require or permit 

the creditor to make inquiries or verifications 

that would be prohibited by Regulation B, 12 

CFR part 202. 

Paragraph 32(d)(7)(iv). 

1. Payment change. Section 226.32(d)(7) 

sets forth the conditions under which a 

mortgage transaction subject to this section 

may have a prepayment penalty. Section 

226.32(d)(7)(iv) lists as a condition that the 

amount of the periodic payment of principal 

or interest or both may not change during the 

four-year period following consummation. 

The following examples show whether 

prepayment penalties are permitted or 

prohibited under § 226.32(d)(7)(iv) in 

particular circumstances. 

i. Initial payments for a variable-rate 

transaction consummated on January 1, 2010 

are $1,000 per month. Under the loan 

agreement, the first possible date that a 

payment in a different amount may be due 

is January 1, 2014. A prepayment penalty is 

permitted with this mortgage transaction 

provided that the other § 226.32(d)(7) 

conditions are met, that is: provided that the 

prepayment penalty is permitted by other 

applicable law, the penalty expires on or 

before Dec. 31, 2011, the penalty will not 

apply if the source of the prepayment funds 

is a refinancing by the creditor or its affiliate, 

and at consummation the consumer’s total 

monthly debts do not exceed 50 percent of 

the consumer’s monthly gross income, as 

verified. 

ii. Initial payments for a variable-rate 

transaction consummated on January 1, 2010 

are $1,000 per month. Under the loan 

agreement, the first possible date that a 

payment in a different amount may be due 

is December 31, 2013. A prepayment penalty 

is prohibited with this mortgage transaction 

because the payment may change within the 

four-year period following consummation. 

iii. Initial payments for a graduatedpayment transaction consummated on 

January 1, 2010 are $1,000 per month. Under 

the loan agreement, the first possible date 

that a payment in a different amount may be 

due is January 1, 2014. A prepayment penalty 

is permitted with this mortgage transaction 

provided that the other § 226.32(d)(7) 

conditions are met, that is: provided that the 

prepayment penalty is permitted by other 

applicable law, the penalty expires on or 

before December 31, 2011, the penalty will 

not apply if the source of the prepayment 

funds is a refinancing by the creditor or its 

affiliate, and at consummation the 

consumer’s total monthly debts do not 

exceed 50 percent of the consumer’s monthly 

gross income, as verified. 


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iv. Initial payments for a step-rate 

transaction consummated on January 1, 2010 

are $1,000 per month. Under the loan 

agreement, the first possible date that a 

payment in a different amount may be due 

is December 31, 2013. A prepayment penalty 

is prohibited with this mortgage transaction 

because the payment may change within the 

four-year period following consummation. 

2. Payment changes excluded. Payment 

changes due to the following circumstances 

are not considered payment changes for 

purposes of this section: 

i. A change in the amount of a periodic 

payment that is allocated to principal or 

interest that does not change the total amount 

of the periodic payment. 

ii. The borrower’s actual unanticipated late 

payment, delinquency, or default; and 

iii. The borrower’s voluntary payment of 

additional amounts (for example when a 

consumer chooses to make a payment of 

interest and principal on a loan that only 

requires the consumer to pay interest). 

* * * * * 

■ 20. In Supplement I to Part 226, under 

Section 226.34—Prohibited Acts or 

Practices in Connection with Credit 

Secured by a Consumer’s Dwelling; 

Open-end Credit, the heading is revised, 

and under 34(a) Prohibited acts or 

practices for loans subject to § 226.32, 

34(a)(4) Repayment ability, paragraphs 

34(a)(4)–1 through 34(a)(4)–4 are 

removed, and new paragraphs 34(a)(4)–

1 through 34(a)(4)–7, new heading 

34(a)(4)(i) Mortgage-related obligations 

and new paragraph 34(a)(4)(i)–1, new 

heading 34(a)(4)(ii) Verification of 

repayment ability and new paragraphs 

34(a)(4)(ii)–1 through 34(a)(4)(ii)–3, new 

heading Paragraph 34(a)(4)(ii)(A) and 

new paragraphs 34(a)(4)(ii)(A)–1 

through 34(a)(4)(ii)(A)–5, new heading 

Paragraph 34(a)(4)(ii)(B) and new 

paragraphs 34(a)(4)(ii)(B)–1 and 

34(a)(4)(ii)(B)–2, new heading 

Paragraph 34(a)(4)(ii)(C) and new 

paragraph 34(a)(4)(ii)(C)–1, new heading 

34(a)(4)(iii) Presumption of compliance 

and new paragraph 34(a)(4)(iii)–1, new 

heading Paragraph 34(a)(4)(iii)(B) and 

new paragraph 34(a)(4)(iii)(B)–1, new 

heading Paragraph 34(a)(4)(iii)(C) and 

new paragraph 34(a)(4)(iii)(C)–1, and 

new heading 34(a)(4)(iv) Exclusions 

from the presumption of compliance 

and new paragraphs 34(a)(4)(iv)–1 and 

34(a)(4)(iv)–2, are added to read as 

follows: 

Section 226.34—Prohibited Acts or Practices 

in Connection with Credit Subject to § 226.32 

34(a) Prohibited acts or practices for loans 

subject to § 226.32. 

* * * * * 

34(a)(4) Repayment ability. 

1. Application of repayment ability rule. 

The § 226.34(a)(4) prohibition against making 

loans without regard to consumers’

repayment ability applies to mortgage loans 

described in § 226.32(a). In addition, the 

§ 226.34(a)(4) prohibition applies to higherpriced mortgage loans described in 

§ 226.35(a). See 12 CFR 226.35(b)(1). For 

guidance on the application of the Board’s 

revisions to § 226.34(a)(4) published on July 

30, 2008, see comment 1(d)(5)–1. 

2. General prohibition. Section 226.34(a)(4) 

prohibits a creditor from extending credit 

subject to § 226.32 to a consumer based on 

the value of the consumer’s collateral 

without regard to the consumer’s repayment 

ability as of consummation, including the 

consumer’s current and reasonably expected 

income, employment, assets other than the 

collateral, current obligations, and property 

tax and insurance obligations. A creditor may 

base its determination of repayment ability 

on current or reasonably expected income 

from employment or other sources, on assets 

other than the collateral, or both. 

3. Other dwelling-secured obligations. For 

purposes of § 226.34(a)(4), current obligations 

include another credit obligation of which 

the creditor has knowledge undertaken prior 

to or at consummation of the transaction and 

secured by the same dwelling that secures 

the transaction subject to § 226.32 or 

§ 226.35. For example, where a transaction 

subject to § 226.35 is a first-lien transaction 

for the purchase of a home, a creditor must 

consider a ‘‘piggyback’’ second-lien 

transaction of which it has knowledge that is 

used to finance part of the down payment on 

the house. 

4. Discounted introductory rates and nonamortizing or negatively-amortizing 

payments. A credit agreement may determine 

a consumer’s initial payments using a 

temporarily discounted interest rate or 

permit the consumer to make initial 

payments that are non-amortizing or 

negatively amortizing. (Negative amortization 

is permissible for loans covered by 

§ 226.35(a), but not § 226.32). In such cases 

the creditor may determine repayment ability 

using the assumptions provided in 

§ 226.34(a)(4)(iv). 

5. Repayment ability as of consummation. 

Section 226.34(a)(4) prohibits a creditor from 

disregarding repayment ability based on the 

facts and circumstances known to the 

creditor as of consummation. In general, a 

creditor does not violate this provision if a 

consumer defaults because of a significant 

reduction in income (for example, a job loss) 

or a significant obligation (for example, an 

obligation arising from a major medical 

expense) that occurs after consummation. 

However, if a creditor has knowledge as of 

consummation of reductions in income, for 

example, if a consumer’s written application 

states that the consumer plans to retire 

within twelve months without obtaining new 

employment, or states that the consumer will 

transition from full-time to part-time 

employment, the creditor must consider that 

information. 

6. Income, assets, and employment. Any 

current or reasonably expected assets or 

income may be considered by the creditor, 

except the collateral itself. For example, a 

creditor may use information about current 

or expected salary, wages, bonus pay, tips, 

and commissions. Employment may be fulltime, part-time, seasonal, irregular, military, 

or self-employment. Other sources of income 

could include interest or dividends; 

retirement benefits; public assistance; and 

alimony, child support, or separate 

maintenance payments. A creditor may also 

take into account assets such as savings 

accounts or investments that the consumer 

can or will be able to use. 

7. Interaction with Regulation B. Section 

226.34(a)(4) does not require or permit the 

creditor to make inquiries or verifications 

that would be prohibited by Regulation B, 12 

CFR part 202. 

34(a)(4)(i) Mortgage-related obligations. 

1. Mortgage-related obligations. A creditor 

must include in its repayment ability 

analysis the expected property taxes and 

premiums for mortgage-related insurance 

required by the creditor as set forth in 

§ 226.35(b)(3)(i), as well as similar mortgagerelated expenses. Similar mortgage-related 

expenses include homeowners’ association 

dues and condominium or cooperative fees. 

34(a)(4)(ii) Verification of repayment 

ability. 

1. Income and assets relied on. A creditor 

must verify the income and assets the 

creditor relies on to evaluate the consumer’s 

repayment ability. For example, if a 

consumer earns a salary and also states that 

he or she is paid an annual bonus, but the 

creditor only relies on the applicant’s salary 

to evaluate repayment ability, the creditor 

need only verify the salary. 

2. Income and assets—co-applicant. If two 

persons jointly apply for credit and both list 

income or assets on the application, the 

creditor must verify repayment ability with 

respect to both applicants unless the creditor 

relies only on the income or assets of one of 

the applicants in determining repayment 

ability. 

3. Expected income. If a creditor relies on 

expected income, the expectation must be 

reasonable and it must be verified with thirdparty documents that provide reasonably 

reliable evidence of the consumer’s expected 

income. For example, if the creditor relies on 

an expectation that a consumer will receive 

an annual bonus, the creditor may verify the 

basis for that expectation with documents 

that show the consumer’s past annual 

bonuses and the expected bonus must bear a 

reasonable relationship to past bonuses. 

Similarly, if the creditor relies on a 

consumer’s expected salary following the 

consumer’s receipt of an educational degree, 

the creditor may verify that expectation with 

a written statement from an employer 

indicating that the consumer will be 

employed upon graduation at a specified 

salary. 

Paragraph 34(a)(4)(ii)(A). 

1. Internal Revenue Service (IRS) Form W–

2. A creditor may verify a consumer’s income 

using a consumer’s IRS Form W–2 (or any 

subsequent revisions or similar IRS Forms 

used for reporting wages and tax 

withholding). The creditor may also use an 

electronic retrieval service for obtaining the 

consumer’s W–2 information. 

2. Tax returns. A creditor may verify a 

consumer’s income or assets using the 

consumer’s tax return. A creditor may also 

use IRS Form 4506 ‘‘Request for Copy of Tax 

Return,’’ Form 4506–T ‘‘Request for 

Transcript of Tax Return,’’ or Form 8821 


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‘‘Tax Information Authorization’’ (or any 

subsequent revisions or similar IRS Forms 

appropriate for obtaining tax return 

information directly from the IRS) to verify 

the consumer’s income or assets. The creditor 

may also use an electronic retrieval service 

for obtaining tax return information. 

3. Other third-party documents that 

provide reasonably reliable evidence of 

consumer’s income or assets. Creditors may 

verify income and assets using documents 

produced by third parties. Creditors may not 

rely on information provided orally by third 

parties, but may rely on correspondence from 

the third party, such as by letter or e-mail. 

The creditor may rely on any third-party 

document that provides reasonably reliable 

evidence of the consumer’s income or assets. 

For example, creditors may verify the 

consumer’s income using receipts from a 

check-cashing or remittance service, or by 

obtaining a written statement from the 

consumer’s employer that states the 

consumer’s income. 

4. Information specific to the consumer. 

Creditors must verify a consumer’s income or 

assets using information that is specific to the 

individual consumer. Creditors may use 

third-party databases that contain individualspecific data about a consumer’s income or 

assets, such as a third-party database service 

used by the consumer’s employer for the 

purpose of centralizing income verification 

requests, so long as the information is 

reasonably current and accurate. Information 

about average incomes for the consumer’s 

occupation in the consumer’s geographic 

location or information about average 

incomes paid by the consumer’s employer, 

however, would not be specific to the 

individual consumer. 

5. Duplicative collection of documentation. 

A creditor that has made a loan to a 

consumer and is refinancing or extending 

new credit to the same consumer need not 

collect from the consumer a document the 

creditor previously obtained if the creditor 

has no information that would reasonably 

lead the creditor to believe that document 

has changed since it was initially collected. 

For example, if the creditor has obtained the 

consumer’s 2006 tax return to make a home 

purchase loan in May 2007, the creditor may 

rely on the 2006 tax return if the creditor 

makes a home equity loan to the same 

consumer in August 2007. Similarly, if the 

creditor has obtained the consumer’s bank 

statement for May 2007 in making the first 

loan, the creditor may rely on that bank 

statement for that month in making the 

subsequent loan in August 2007. 

Paragraph 34(a)(4)(ii)(B). 

1. No violation if income or assets relied 

on not materially greater than verifiable 

amounts. A creditor that does not verify 

income or assets used to determine 

repayment ability with reasonably reliable 

third-party documents does not violate 

§ 226.34(a)(4)(ii) if the creditor demonstrates 

that the income or assets it relied upon were 

not materially greater than the amounts that 

the creditor would have been able to verify 

pursuant to § 226.34(a)(4)(ii). For example, if 

a creditor determines a consumer’s 

repayment ability by relying on the 

consumer’s annual income of $40,000 but 

fails to obtain documentation of that amount 

before extending the credit, the creditor will 

not have violated this section if the creditor 

later obtains evidence that would satisfy 

§ 226.34(a)(4)(ii)(A), such as tax return 

information, showing that the creditor could 

have documented, at the time the loan was 

consummated, that the consumer had an 

annual income not materially less than 

$40,000. 

2. Materially greater than. Amounts of 

income or assets relied on are not materially 

greater than amounts that could have been 

verified at consummation if relying on the 

verifiable amounts would not have altered a 

reasonable creditor’s decision to extend 

credit or the terms of the credit. 

Paragraph 34(a)(4)(ii)(C). 

1. In general. A credit report may be used 

to verify current obligations. A credit report, 

however, might not reflect an obligation that 

a consumer has listed on an application. The 

creditor is responsible for considering such 

an obligation, but the creditor is not required 

to independently verify the obligation. 

Similarly, a creditor is responsible for 

considering certain obligations undertaken 

just before or at consummation of the 

transaction and secured by the same dwelling 

that secures the transaction (for example, a 

‘‘piggy back’’ loan), of which the creditor 

knows, even if not reflected on a credit 

report. See comment 34(a)(4)–3. 

34(a)(4)(iii) Presumption of compliance. 

1. In general. A creditor is presumed to 

have complied with § 226.34(a)(4) if the 

creditor follows the three underwriting 

procedures specified in paragraph 

34(a)(4)(iii) for verifying repayment ability, 

determining the payment obligation, and 

measuring the relationship of obligations to 

income. The procedures for verifying 

repayment ability are required under 

paragraph 34(a)(4)(ii); the other procedures 

are not required but, if followed along with 

the required procedures, create a 

presumption that the creditor has complied 

with § 226.34(a)(4). The consumer may rebut 

the presumption with evidence that the 

creditor nonetheless disregarded repayment 

ability despite following these procedures. 

For example, evidence of a very high debtto-income ratio and a very limited residual 

income could be sufficient to rebut the 

presumption, depending on all of the facts 

and circumstances. If a creditor fails to 

follow one of the non-required procedures set 

forth in paragraph 34(a)(4)(iii), then the 

creditor’s compliance is determined based on 

all of the facts and circumstances without 

there being a presumption of either 

compliance or violation. 

Paragraph 34(a)(4)(iii)(B). 

1. Determination of payment schedule. To 

retain a presumption of compliance under 

§ 226.34(a)(4)(iii), a creditor must determine 

the consumer’s ability to pay the principal 

and interest obligation based on the 

maximum scheduled payment in the first 

seven years following consummation. In 

general, a creditor should determine a 

payment schedule for purposes of 

§ 226.34(a)(4)(iii)(B) based on the guidance in 

the staff commentary to § 226.17(c)(1). 

Examples of how to determine the maximum 

scheduled payment in the first seven years 

are provided as follows (all payment amounts 

are rounded): 

i. Balloon-payment loan; fixed interest 

rate. A loan in an amount of $100,000 with 

a fixed interest rate of 8.0 percent (no points) 

has a 7-year term but is amortized over 30 

years. The monthly payment scheduled for 7 

years is $733 with a balloon payment of 

remaining principal due at the end of 7 years. 

The creditor will retain the presumption of 

compliance if it assesses repayment ability 

based on the payment of $733. 

ii. Fixed-rate loan with interest-only 

payment for five years. A loan in an amount 

of $100,000 with a fixed interest rate of 8.0 

percent (no points) has a 30-year term. The 

monthly payment of $667 scheduled for the 

first 5 years would cover only the interest 

due. After the fifth year, the scheduled 

payment would increase to $772, an amount 

that fully amortizes the principal balance 

over the remaining 25 years. The creditor 

will retain the presumption of compliance if 

it assesses repayment ability based on the 

payment of $772. 

iii. Fixed-rate loan with interest-only 

payment for seven years. A loan in an 

amount of $100,000 with a fixed interest rate 

of 8.0 percent (no points) has a 30-year term. 

The monthly payment of $667 scheduled for 

the first 7 years would cover only the interest 

due. After the seventh year, the scheduled 

payment would increase to $793, an amount 

that fully amortizes the principal balance 

over the remaining 23 years. The creditor 

will retain the presumption of compliance if 

it assesses repayment ability based on the 

interest-only payment of $667. 

iv. Variable-rate loan with discount for five 

years. A loan in an amount of $100,000 has 

a 30-year term. The loan agreement provides 

for a fixed interest rate of 7.0 percent for an 

initial period of 5 years. Accordingly, the 

payment scheduled for the first 5 years is 

$665. The agreement provides that, after 5 

years, the interest rate will adjust each year 

based on a specified index and margin. As of 

consummation, the sum of the index value 

and margin (the fully-indexed rate) is 8.0 

percent. Accordingly, the payment scheduled 

for the remaining 25 years is $727. The 

creditor will retain the presumption of 

compliance if it assesses repayment ability 

based on the payment of $727. 

v. Variable-rate loan with discount for 

seven years. A loan in an amount of $100,000 

has a 30-year term. The loan agreement 

provides for a fixed interest rate of 7.125 

percent for an initial period of 7 years. 

Accordingly, the payment scheduled for the 

first 7 years is $674. After 7 years, the 

agreement provides that the interest rate will 

adjust each year based on a specified index 

and margin. As of consummation, the sum of 

the index value and margin (the fullyindexed rate) is 8.0 percent. Accordingly, the 

payment scheduled for the remaining years is 

$725. The creditor will retain the 

presumption of compliance if it assesses 

repayment ability based on the payment of 

$674. 

vi. Step-rate loan. A loan in an amount of 

$100,000 has a 30-year term. The agreement 

provides that the interest rate will be 5 

percent for two years, 6 percent for three 

years, and 7 percent thereafter. Accordingly, 


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the payment amounts are $537 for two years, 

$597 for three years, and $654 thereafter. To 

retain the presumption of compliance, the 

creditor must assess repayment ability based 

on the payment of $654. 

Paragraph 34(a)(4)(iii)(C). 

1. ‘‘Income’’ and ‘‘debt’’. To determine 

whether to classify particular inflows or 

obligations as ‘‘income’’ or ‘‘debt,’’ creditors 

may look to widely accepted governmental 

and non-governmental underwriting 

standards, including, for example, those set 

forth in the Federal Housing 

Administration’s handbook on Mortgage 

Credit Analysis for Mortgage Insurance on 

One- to Four-Unit Mortgage Loans. 

34(a)(4)(iv) Exclusions from the 

presumption of compliance. 

1. In general. The exclusions from the 

presumption of compliance should be 

interpreted consistent with staff comments 

32(d)(1)(i)–1 and 32(d)(2)–1. 

2. Renewable balloon loan. If a creditor is 

unconditionally obligated to renew a balloonpayment loan at the consumer’s option (or is 

obligated to renew subject to conditions 

within the consumer’s control), the full term 

resulting from such renewal is the relevant 

term for purposes of the exclusion of certain 

balloon-payment loans. See comment 

17(c)(1)–11 for a discussion of conditions 

within a consumer’s control in connection 

with renewable balloon-payment loans. 

* * * * * 

■ 21. In Supplement I to Part 226, a new 

Section 226.35—Prohibited Acts or 

Practices in Connection with Higherpriced Mortgage Loans is added to read 

as follows: 

Section 226.35—Prohibited Acts or Practices 

in Connection With Higher-priced Mortgage 

Loans 

35(a) Higher-priced mortgage loans. 

Paragraph 35(a)(2). 

1. Average prime offer rate. Average prime 

offer rates are annual percentage rates 

derived from average interest rates, points, 

and other loan pricing terms currently 

offered to consumers by a representative 

sample of creditors for mortgage transactions 

that have low-risk pricing characteristics. 

Other pricing terms include commonly used 

indices, margins, and initial fixed-rate 

periods for variable-rate transactions. 

Relevant pricing characteristics include a 

consumer’s credit history and transaction 

characteristics such as the loan-to-value ratio, 

owner-occupant status, and purpose of the 

transaction. To obtain average prime offer 

rates, the Board uses a survey of creditors 

that both meets the criteria of § 226.35(a)(2) 

and provides pricing terms for at least two 

types of variable-rate transactions and at least 

two types of non-variable-rate transactions. 

An example of such a survey is the Freddie 

Mac Primary Mortgage Market Survey. 

2. Comparable transaction. A higherpriced mortgage loan is a consumer credit 

transaction secured by the consumer’s 

principal dwelling with an annual percentage 

rate that exceeds the average prime offer rate 

for a comparable transaction as of the date 

the interest rate is set by the specified 

margin. The table of average prime offer rates 

published by the Board indicates how to 

identify the comparable transaction. 

3. Rate set. A transaction’s annual 

percentage rate is compared to the average 

prime offer rate as of the date the 

transaction’s interest rate is set (or ‘‘locked’’) 

before consummation. Sometimes a creditor 

sets the interest rate initially and then re-sets 

it at a different level before consummation. 

The creditor should use the last date the 

interest rate is set before consummation. 

4. Board table. The Board publishes on the 

Internet, in table form, average prime offer 

rates for a wide variety of transaction types. 

The Board calculates an annual percentage 

rate, consistent with Regulation Z (see 

§ 226.22 and appendix J), for each transaction 

type for which pricing terms are available 

from a survey. The Board estimates annual 

percentage rates for other types of 

transactions for which direct survey data are 

not available based on the loan pricing terms 

available in the survey and other 

information. The Board publishes on the 

Internet the methodology it uses to arrive at 

these estimates. 

35(b) Rules for higher-priced mortgage 

loans. 

1. Effective date. For guidance on the 

applicability of the rules in § 226.35(b), see 

comment 1(d)(5)–1. 

Paragraph 35(b)(2)(ii)(C). 

1. Payment change. Section 226.35(b)(2) 

provides that a loan subject to this section 

may not have a penalty described by 

§ 226.32(d)(6) unless certain conditions are 

met. Section 226.35(b)(2)(ii)(C) lists as a 

condition that the amount of the periodic 

payment of principal or interest or both may 

not change during the four-year period 

following consummation. For examples 

showing whether a prepayment penalty is 

permitted or prohibited in connection with 

particular payment changes, see comment 

32(d)(7)(iv)–1. Those examples, however, 

include a condition that § 226.35(b)(2) does 

not include: the condition that, at 

consummation, the consumer’s total monthly 

debt payments may not exceed 50 percent of 

the consumer’s monthly gross income. For 

guidance about circumstances in which 

payment changes are not considered payment 

changes for purposes of this section, see 

comment 32(d)(7)(iv)–2. 

2. Negative amortization. Section 

226.32(d)(2) provides that a loan described in 

§ 226.32(a) may not have a payment schedule 

with regular periodic payments that cause 

the principal balance to increase. Therefore, 

the commentary to § 226.32(d)(7)(iv) does not 

include examples of payment changes in 

connection with negative amortization. The 

following examples show whether, under 

§ 226.35(b)(2), prepayment penalties are 

permitted or prohibited in connection with 

particular payment changes, when a loan 

agreement permits negative amortization: 

i. Initial payments for a variable-rate 

transaction consummated on January 1, 2010 

are $1,000 per month and the loan agreement 

permits negative amortization to occur. 

Under the loan agreement, the first date that 

a scheduled payment in a different amount 

may be due is January 1, 2014 and the 

creditor does not have the right to change 

scheduled payments prior to that date even 

if negative amortization occurs. A 

prepayment penalty is permitted with this 

mortgage transaction provided that the other 

§ 226.35(b)(2) conditions are met, that is: 

provided that the prepayment penalty is 

permitted by other applicable law, the 

penalty expires on or before December 31, 

2011, and the penalty will not apply if the 

source of the prepayment funds is a 

refinancing by the creditor or its affiliate. 

ii. Initial payments for a variable-rate 

transaction consummated on January 1, 2010 

are $1,000 per month and the loan agreement 

permits negative amortization to occur. 

Under the loan agreement, the first date that 

a scheduled payment in a different amount 

may be due is January 1, 2014, but the 

creditor has the right to change scheduled 

payments prior to that date if negative 

amortization occurs. A prepayment penalty is 

prohibited with this mortgage transaction 

because the payment may change within the 

four-year period following consummation. 

35(b)(3) Escrows. 

Paragraph 35(b)(3)(i). 

1. Section 226.35(b)(3) applies to principal 

dwellings, including structures that are 

classified as personal property under state 

law. For example, an escrow account must be 

established on a higher-priced mortgage loan 

secured by a first-lien on a mobile home, boat 

or a trailer used as the consumer’s principal 

dwelling. See the commentary under 

§§ 226.2(a)(19), 226.2(a)(24), 226.15 and 

226.23. Section 226.35(b)(3) also applies to 

higher-priced mortgage loans secured by a 

first lien on a condominium or a cooperative 

unit if it is in fact used as principal 

residence. 

2. Administration of escrow accounts. 

Section 226.35(b)(3) requires creditors to 

establish before the consummation of a loan 

secured by a first lien on a principal dwelling 

an escrow account for payment of property 

taxes and premiums for mortgage-related 

insurance required by creditor. Section 6 of 

RESPA, 12 U.S.C. 2605, and Regulation X 

address how escrow accounts must be 

administered. 

3. Optional insurance items. Section 

226.35(b)(3) does not require that escrow 

accounts be established for premiums for 

mortgage-related insurance that the creditor 

does not require in connection with the 

credit transaction, such as an earthquake 

insurance or debt-protection insurance. 

Paragraph 35(b)(3)(ii)(B). 

1. Limited exception. A creditor is required 

to escrow for payment of property taxes for 

all first lien loans secured by condominium 

units regardless of whether the creditors 

escrows insurance premiums for 

condominium unit. 

■ 22. In Supplement I to Part 226, a new 

Section 226.36—Prohibited Acts or 

Practices in Connection with Credit 

Secured by a Consumer’s Principal 

Dwelling is added to read as follows: 

Section 226.36—Prohibited Acts or Practices 

in Connection With Credit Secured by a 

Consumer’s Principal Dwelling 

1. Effective date. For guidance on the 

applicability of the rules in § 226.36, see 

comment 1(d)(5)–1. 


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44614 Federal Register / Vol. 73, No. 147 / Wednesday, July 30, 2008 / Rules and Regulations 

36(a) Mortgage broker defined. 

1. Meaning of mortgage broker. Section 

226.36(a) provides that a mortgage broker is 

any person who for compensation or other 

monetary gain arranges, negotiates, or 

otherwise obtains an extension of consumer 

credit for another person, but is not an 

employee of a creditor. In addition, this 

definition expressly includes any person that 

satisfies this definition but makes use of 

‘‘table funding.’’ Table funding occurs when 

a transaction is consummated with the debt 

obligation initially payable by its terms to 

one person, but another person provides the 

funds for the transaction at consummation 

and receives an immediate assignment of the 

note, loan contract, or other evidence of the 

debt obligation. Although § 226.2(a)(17)(1)(B) 

provides that a person to whom a debt 

obligation is initially payable on its face 

generally is a creditor, § 226.36(a) provides 

that, solely for the purposes of § 226.36, such 

a person is considered a mortgage broker. In 

addition, although consumers themselves 

often arrange, negotiate, or otherwise obtain 

extensions of consumer credit on their own 

behalf, they do not do so for compensation 

or other monetary gain or for another person 

and, therefore, are not mortgage brokers 

under this section. 

36(b) Misrepresentation of value of 

consumer’s principal dwelling. 

36(b)(2) When extension of credit 

prohibited. 

1. Reasonable diligence. A creditor will be 

deemed to have acted with reasonable 

diligence under § 226.36(b)(2) if the creditor 

extends credit based on an appraisal other 

than the one subject to the restriction in 

§ 226.36(b)(2). 

2. Material misstatement or 

misrepresentation. Section 226.36(b)(2) 

prohibits a creditor who knows of a violation 

of § 226.36(b)(1) in connection with an 

appraisal from extending credit based on 

such appraisal, unless the creditor 

documents that it has acted with reasonable 

diligence to determine that the appraisal does 

not materially misstate or misrepresent the 

value of such dwelling. A misstatement or 

misrepresentation of such dwelling’s value is 

not material if it does not affect the credit 

decision or the terms on which credit is 

extended. 

36(c) Servicing practices. 

Paragraph 36(c)(1)(i). 

1. Crediting of payments. Under 

§ 226.36(c)(1)(i), a mortgage servicer must 

credit a payment to a consumer’s loan 

account as of the date of receipt. This does 

not require that a mortgage servicer post the 

payment to the consumer’s loan account on 

a particular date; the servicer is only required 

to credit the payment as of the date of 

receipt. Accordingly, a servicer that receives 

a payment on or before its due date (or 

within any grace period), and does not enter 

the payment on its books or in its system 

until after the payment’s due date (or 

expiration of any grace period), does not 

violate this rule as long as the entry does not 

result in the imposition of a late charge, 

additional interest, or similar penalty to the 

consumer, or in the reporting of negative 

information to a consumer reporting agency. 

2. Payments to be credited. Payments 

should be credited based on the legal 

obligation between the creditor and 

consumer. The legal obligation is determined 

by applicable state or other law. 

3. Date of receipt. The ‘‘date of receipt’’ is 

the date that the payment instrument or other 

means of payment reaches the mortgage 

servicer. For example, payment by check is 

received when the mortgage servicer receives 

it, not when the funds are collected. If the 

consumer elects to have payment made by a 

third-party payor such as a financial 

institution, through a preauthorized payment 

or telephone bill-payment arrangement, 

payment is received when the mortgage 

servicer receives the third-party payor’s 

check or other transfer medium, such as an 

electronic fund transfer. 

Paragraph 36(c)(1)(ii). 

1. Pyramiding of late fees. The prohibition 

on pyramiding of late fees in this subsection 

should be construed consistently with the 

‘‘credit practices rule’’ of Regulation AA, 12 

CFR 227.15. 

Paragraph 36(c)(1)(iii). 

1. Reasonable time. The payoff statement 

must be provided to the consumer, or person 

acting on behalf of the consumer, within a 

reasonable time after the request. For 

example, it would be reasonable under most 

circumstances to provide the statement 

within five business days of receipt of a 

consumer’s request. This time frame might be 

longer, for example, when the servicer is 

experiencing an unusually high volume of 

refinancing requests. 

2. Person acting on behalf of the consumer. 

For purposes of § 226.36(c)(1)(iii), a person 

acting on behalf of the consumer may include 

the consumer’s representative, such as an 

attorney representing the individual, a nonprofit consumer counseling or similar 

organization, or a creditor with which the 

consumer is refinancing and which requires 

the payoff statement to complete the 

refinancing. A servicer may take reasonable 

measures to verify the identity of any person 

acting on behalf of the consumer and to 

obtain the consumer’s authorization to 

release information to any such person before 

the ‘‘reasonable time’’ period begins to run. 

3. Payment requirements. The servicer may 

specify reasonable requirements for making 

payoff requests, such as requiring requests to 

be in writing and directed to a mailing 

address, e-mail address or fax number 

specified by the servicer or orally to a 

telephone number specified by the servicer, 

or any other reasonable requirement or 

method. If the consumer does not follow 

these requirements, a longer time frame for 

responding to the request would be 

reasonable. 

4. Accuracy of payoff statements. Payoff 

statements must be accurate when issued. 

Paragraph 36(c)(2). 

1. Payment requirements. The servicer may 

specify reasonable requirements for making 

payments in writing, such as requiring that 

payments be accompanied by the account 

number or payment coupon; setting a cut-off 

hour for payment to be received, or setting 

different hours for payment by mail and 

payments made in person; specifying that 

only checks or money orders should be sent 

by mail; specifying that payment is to be 

made in U.S. dollars; or specifying one 

particular address for receiving payments, 

such as a post office box. The servicer may 

be prohibited, however, from requiring 

payment solely by preauthorized electronic 

fund transfer. (See section 913 of the 

Electronic Fund Transfer Act, 15 U.S.C. 

1693k.) 

2. Payment requirements—limitations. 

Requirements for making payments must be 

reasonable; it should not be difficult for most 

consumers to make conforming payments. 

For example, it would be reasonable to 

require a cut-off time of 5 p.m. for receipt of 

a mailed check at the location specified by 

the servicer for receipt of such check. 

3. Implied guidelines for payments. In the 

absence of specified requirements for making 

payments, payments may be made at any 

location where the servicer conducts 

business; any time during the servicer’s 

normal business hours; and by cash, money 

order, draft, or other similar instrument in 

properly negotiable form, or by electronic 

fund transfer if the servicer and consumer 

have so agreed. 

By order of the Board of Governors of the 

Federal Reserve System, July 15, 2008. 

Jennifer J. Johnson, 

Secretary of the Board. 

[FR Doc. E8–16500 Filed 7–29–08; 8:45 am] 

BILLING CODE 6210–01–P 


sroberts on PROD1PC70 with RULES