65604 Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations

swine production health plan shall

become effective pending final

determination in the proceeding if the

Administrator determines that such

action is necessary to protect the

public’s health, interest, or safety. Such

cancellation shall become effective

upon oral or written notification,

whichever is earlier, to the swine

production system representative. In the

event of oral notification, written

confirmation shall be given as promptly

as circumstances allow. This

cancellation shall continue in effect

pending the completion of the

proceeding, and any judicial review

thereof, unless otherwise ordered by the

Administrator.

PART 85—PSEUDORABIES

4. The authority citation for part 85

continues to read as follows:

Authority: 21 U.S.C. 111–113, 115, 117,

120, 121, 123–126, 134b, and 134f; 7 CFR

2.22, 2.80, and 371.4.

§ 85.7 [Amended]

5. Section 85.7 is amended as follows:

a. In paragraph (b)(3)(i), by removing

the phrase ‘‘The swine’’ and adding in

its place the phrase ‘‘Unless the swine

are moving interstate in a swine

production system in compliance with

§ 71.19(h) of this chapter, the swine’’.

b. In paragraph (b)(3)(ii), by removing

the phrase ‘‘The swine are accompanied

by a certificate’’ and adding in its place

the phrase ‘‘Unless the swine are

moving interstate in a swine production

system in compliance with § 71.19(h) of

this chapter, the swine are accompanied

by a certificate’’.

c. In paragraph (c)(1), by removing the

phrase ‘‘The swine are accompanied by

a certificate’’ and adding in its place the

phrase ‘‘Unless the swine are moving

interstate in a swine production system

in compliance with § 71.19(h) of this

chapter, the swine are accompanied by

a certificate’’.

6. Section 85.8 is amended by

removing the period at the end of

paragraph (a)(3) and adding in its place

‘‘; or’’; and by adding a new paragraph

(a)(4) to read as follows:

§ 85.8 Interstate movement of swine from

a qualified negative gene-altered vaccinated

herd.

(a) * * *

(4) The swine are moved interstate in

a swine production system in

compliance with § 71.19(h) of this

chapter.

* * * * *

Done in Washington, DC, this 14th day of

December 2001.

Bill Hawks,

Under Secretary for Marketing and Regulatory

Programs.

[FR Doc. 01–31355 Filed 12–19–01; 8:45 am]

BILLING CODE 3410–34–U

FEDERAL RESERVE SYSTEM

12 CFR Part 226

[Regulation Z; Docket No. R–1090]

Truth in Lending

AGENCY: Board of Governors of the

Federal Reserve System.

ACTION: Final rule.

SUMMARY: The Board is adopting

amendments to the provisions of

Regulation Z (Truth in Lending) that

implement the Home Ownership and

Equity Protection Act (HOEPA). HOEPA

was enacted in 1994, in response to

evidence of abusive lending practices in

the home-equity lending market.

HOEPA imposes additional disclosure

requirements and substantive

limitations (for example, restricting

short-term balloon notes) on homeequity loans bearing rates or fees above

a certain percentage or amount. The

Board’s amendments to Regulation Z

broaden the scope of mortgage loans

subject to HOEPA by adjusting the price

triggers used to determine coverage

under the act. The rate-based trigger is

lowered by two percentage points for

first-lien mortgage loans, with no

change for subordinate-lien loans. The

fee-based trigger is revised to include

the cost of optional credit insurance and

similar debt protection products paid at

closing. The amendments restrict

certain acts and practices in connection

with home-secured loans. For example,

creditors may not engage in repeated

refinancings of their HOEPA loans over

a short time period when the

transactions are not in the borrower’s

interest. The amendments also

strengthen HOEPA’s prohibition against

extending credit without regard to

consumers’ repayment ability, and

enhance disclosures received by

consumers before closing for HOEPAcovered loans.

DATES: The rule is effective December

20, 2001; compliance is mandatory as of

October 1, 2002.

FOR FURTHER INFORMATION CONTACT:

Minh-Duc T. Le, Attorney, Daniel G.

Lonergan, Counsel, or Jane E. Ahrens,

Senior Counsel, Division of Consumer

and Community Affairs, at (202) 452–

3667 or 452–2412; for users of

Telecommunications Device for the Deaf

(‘‘TDD’’) only, contact (202) 263–4869.

SUPPLEMENTARY INFORMATION:

I. Background

Since the mid-1990s, the subprime

mortgage market has grown

substantially, providing access to credit

to borrowers with less-than-perfect

credit histories and to other borrowers

who are not served by prime lenders.

With this increase in subprime lending

there has also been an increase in

reports of ‘‘predatory lending.’’ The

term ‘‘predatory lending’’ encompasses

a variety of practices. In general, the

term is used to refer to abusive lending

practices involving fraud, deception, or

unfairness. Some abusive practices are

clearly unlawful, but others involve

loan terms that are legitimate in many

instances and abusive in others, and

thus are difficult to regulate. Loan terms

that may benefit some borrowers, such

as balloon payments, may harm other

borrowers, particularly if they are not

fully aware of the consequences. The

reports of predatory lending have

generally included one or more of the

following: (1) Making unaffordable

loans based on the borrower’s home

equity without regard to the borrower’s

ability to repay the obligation; (2)

inducing a borrower to refinance a loan

repeatedly, even though the refinancing

may not be in the borrower’s interest,

and charging high points and fees each

time the loan is refinanced, which

decreases the consumer’s equity in the

home; and (3) engaging in fraud or

deception to conceal the true nature of

the loan obligation from an

unsuspecting or unsophisticated

borrower—for example, ‘‘packing’’ loans

with credit insurance without a

consumer’s consent.

A. The Home Ownership and Equity

Protection Act

In response to anecdotal evidence

about abusive practices involving homesecured loans with high rates or high

fees, in 1994 the Congress enacted the

Home Ownership and Equity Protection

Act (HOEPA), Pub. L. 103–325, 108 Stat.

2160, as an amendment to the Truth in

Lending Act (TILA), 15 U.S.C. 1601 et

seq. TILA is intended to promote the

informed use of consumer credit by

requiring disclosures about its terms

and cost. TILA requires creditors to

disclose the cost of credit as a dollar

amount (the ‘‘finance charge’’) and as an

annual percentage rate (the ‘‘APR’’).

Uniformity in creditors’ disclosures is

intended to assist consumers in

comparison shopping. TILA requires

additional disclosures for loans secured

by a consumer’s home and permits

Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations 65605

consumers to rescind certain

transactions that involve their principal

dwelling. TILA is implemented by the

Board’s Regulation Z, 12 CFR part 226.

HOEPA identifies a class of high-cost

mortgage loans through rate and fee

triggers, and it provides consumers

entering into these transactions with

special protections. HOEPA applies to

closed-end home-equity loans

(excluding home-purchase loans)

bearing rates or fees above a specified

percentage or amount. A loan is covered

by HOEPA if (1) the APR exceeds the

rate for Treasury securities with a

comparable maturity by more than 10

percentage points, or (2) the points and

fees paid by the consumer exceed the

greater of 8 percent of the loan amount

or $400. The $400 figure set in 1994 is

adjusted annually based on the

Consumer Price Index. The dollar figure

for 2001 is $465 and for 2002 is $480.

66 FR 57849, November 19, 2001.

HOEPA is implemented in § 226.32 of

the Board’s Regulation Z. HOEPA also

amended TILA to require additional

disclosures for reverse mortgages that

are contained in § 226.33 of Regulation

Z. For purposes of this notice of

rulemaking, however, the term

‘‘HOEPA-covered loan’’ or ‘‘HOEPA

loan’’ refers only to mortgages covered

by § 226.32 that meet HOEPA’s rate or

fee-based triggers.

Creditors offering HOEPA-covered

loans must give consumers an

abbreviated disclosure statement at least

three business days before the loan is

closed, in addition to the disclosures

generally required by TILA before or at

closing. The HOEPA disclosure informs

consumers that they are not obligated to

complete the transaction and could lose

their home if they take the loan and fail

to make payments. It includes a few key

items of cost information, including the

APR. In loans where consumers have

three business days after closing to

rescind the loan, the HOEPA disclosure

thus affords consumers a minimum of

six business days to consider accepting

key loan terms before receiving the loan

proceeds.

HOEPA restricts certain loan terms for

high-cost loans because they are

associated with abusive lending

practices. These terms include shortterm balloon notes, prepayment

penalties, non-amortizing payment

schedules, and higher interest rates

upon default. Creditors are prohibited

from engaging in a pattern or practice of

making HOEPA loans based on the

homeowner’s equity without regard to

the borrower’s ability to repay the loan.

Under HOEPA, assignees are generally

subject to all claims and defenses with

respect to a HOEPA loan that a

consumer could assert against the

creditor. HOEPA also authorizes the

Board to prohibit acts or practices in

connection with mortgage lending

under defined criteria.

B. Continued Concerns About Predatory

Lending Practices

Since the enactment of HOEPA in

1994, the volume of home-equity

lending has increased significantly in

the subprime mortgage market. Based on

data reported under the Home Mortgage

Disclosure Act (HMDA), 12 U.S.C. 2801

et seq., the number of nonpurchasemoney loans made by lenders that are

identified as engaging in subprime

lending increased about five-fold—from

138,000 in 1994 to roughly 658,000 in

2000. While such lending benefits

consumers by making credit available, it

also raises concerns that the increase in

the number of subprime loans brings a

corresponding increase in the number of

predatory loans.

In the past two years, various

initiatives to address predatory lending

have been undertaken. The Senate

Banking Committee held hearings in

July 2001 at which consumers and

representatives of industry and

consumer groups testified; the House

Banking Committee held hearings in

May 2000 at which the banking

regulators and others testified; and bills

have been introduced to address

predatory lending. Several states and

municipalities have enacted or are

considering legislation or regulations.

The Department of Housing and Urban

Development and the Department of

Treasury held a number of public

forums on predatory lending and issued

a report in June 2000. The report makes

recommendations to the Congress

regarding legislative action and to the

Board urging the use of its regulatory

authority to address predatory lending

practices. Fannie Mae and Freddie Mac

published guidelines last year to avoid

purchasing loans that are potentially

predatory; they are also making efforts

to develop consumers’ awareness of

their credit options.

The Board has conferred with its

Consumer Advisory Council and Board

staff have met with other industry

representatives and consumer advocates

on the issue of predatory lending. In

2000, the Board held hearings in

Charlotte, Boston, Chicago, and San

Francisco, to consider approaches the

Board might take in exercising its

regulatory authority under HOEPA. The

Board’s hearings focused on expanding

the scope of mortgage loans covered by

HOEPA, prohibiting specific acts or

practices, improving consumer

disclosures, and educating consumers.

Transcripts of the hearings can be

accessed on the Board’s Internet web

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

community.htm. In the notices

announcing the hearings, the Board also

solicited written comment on possible

revisions to Regulation Z’s HOEPA

rules. 65 FR 45547, July 24, 2000. The

Board received approximately 450

comment letters in response to the

notices, two-thirds of which were from

consumers generally encouraging Board

action to curb predatory lending.

C. The Board’s Proposed Rule to Amend

Regulation Z

The Board published a proposed rule

to amend Regulation Z in December

2000. 65 FR 81438, December 26, 2000.

The Board proposed to broaden the

scope of mortgage loans subject to

HOEPA by adjusting the price triggers

used to determine coverage under the

act; to prohibit certain acts and practices

in connection with home-secured loans

covered by HOEPA; to require increased

scrutiny on creditors’ practices to

document and verify income; and to

enhance disclosures received by

consumers before closing for HOEPAcovered loans.

The Board received approximately

200 letters that specifically addressed

the proposed revisions and represented

the views of the mortgage lending

industry, credit insurance industry,

consumer and community development

groups, and government agencies. In

addition, the Board received

approximately 1,100 identical e-mail

comment letters from consumers

generally encouraging the Board to curb

predatory lending.

Most of the creditors and other

commenters involved in mortgage

lending opposed making more loans

subject to HOEPA. They believe that the

coverage of more loans would reduce

competition and the availability of

credit in the range of rates affected

because some lenders, as a matter of

policy, will not make HOEPA loans.

With regard to the new rules that would

apply to HOEPA loans, creditors wanted

more flexibility and compliance

guidance. Consumer representatives and

community development organizations

generally supported the proposal as a

step forward in addressing the problem

of predatory lending but believed

additional steps are needed to ensure

consumers are protected.

II. Summary of Final Rule

With some exceptions, the Board is

adopting the revisions substantially as

proposed to address predatory lending

and unfair practices in the home-equity

market. The revisions are adopted

65606 Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations

pursuant to the Board’s authority to

adjust the APR trigger and add

additional charges to the points and fees

trigger. See 15 U.S.C. 1602(aa).

Revisions are also issued pursuant to

the Board’s authority under HOEPA to

prohibit certain acts or practices (1)

affecting mortgage loans if the Board

finds the act or practice to be unfair,

deceptive, or designed to evade HOEPA,

or (2) affecting refinancings if the Board

finds the act or practice to be associated

with abusive lending or otherwise not in

the interest of the borrower. 15 U.S.C.

1639(l)(2). Revisions are also adopted

pursuant to section 105(a) of TILA to

effectuate the purposes of TILA, to

prevent circumvention or evasion, or to

facilitate compliance. 15 U.S.C. 1604(a).

The amendments (1) extend the scope

of mortgage loans subject to HOEPA’s

protections, (2) restrict certain acts or

practices, (3) strengthen HOEPA’s

prohibition on loans based on

homeowners’ equity without regard to

repayment ability, and (4) enhance

HOEPA disclosures received by

consumers before closing, as follows.

The final rule adjusts the APR trigger

for first-lien mortgage loans, from 10

percentage points to 8 percentage points

above the rate for Treasury securities

having a comparable maturity, the

maximum amount that the Board may

lower the trigger. The APR trigger for

subordinate-lien loans remains at 10

percentage points. The fee-based trigger

is adjusted to include amounts paid at

closing for optional credit life, accident,

health, or loss-of-income insurance, and

other debt-protection products written

in connection with the credit

transaction.

The final rule also addresses some

‘‘loan flipping’’ within the first year of

a HOEPA loan. Except in limited

circumstances, a creditor that has made

a HOEPA loan to a borrower is generally

prohibited for twelve months from

refinancing any HOEPA loan made to

that borrower into another HOEPA loan.

Assignees holding or servicing a HOEPA

loan are subject to similar restrictions.

To prevent the evasion of HOEPA,

which only covers closed-end loans, the

final rule prohibits a creditor from

wrongfully documenting such loans as

open-end credit. For example, a highcost mortgage may not be structured as

a home-secured line of credit if there is

no reasonable expectation that repeat

transactions will occur under a reusable

line of credit. To ensure that lenders do

not accelerate the payment of HOEPA

loans without cause, the final rule

prohibits a creditor from exercising

‘‘due-on-demand’’ or call provisions in

a HOEPA loan, unless the clause is

exercised in connection with a

consumer’s default. A similar rule

applies to home-secured lines of credit

under Regulation Z.

The final rule seeks to strengthen

HOEPA’s prohibition on making loans

based on homeowners’ equity without

regard to repayment ability. It creates a

presumption that a creditor has violated

the statutory prohibition on engaging in

a pattern or practice of making HOEPA

loans without regard to repayment

ability if the creditor generally does not

verify and document consumers’

repayment ability.

The final rule revises the HOEPA

disclosures (given three days before loan

closing) for refinancings, to alert

consumers to the total amount

borrowed, which may be substantially

higher than the loan amount requested

due to the financing of credit insurance,

points, and fees. To enhance consumer

awareness, and deter insurance packing,

the HOEPA disclosure must specify

whether the total amount borrowed

includes the cost of optional insurance.

The staff commentary to Regulation Z

has also been revised to provide

guidance on the new rules and to clarify

existing requirements. Revisions to the

regulation and the staff commentary are

discussed in detail below in the sectionby-section analysis.

III. Section-by-Section Analysis of Final

Rule

Subpart A—General

Section 226.1—Authority, Purpose,

Coverage, Organization, Enforcement

and Liability

Section 226.1(b) on the purpose of the

regulation is revised as proposed to

reflect the addition of prohibited acts

and practices in connection with credit

secured by a consumer’s dwelling.

Section 226.1(d) on the organization of

the regulation is revised to reflect the

restructuring of Subpart E (rules for

certain home mortgage transactions).

Subpart C—Closed-end Credit

Section 226.23—Right of Rescission

23(a) Consumer’s Right to Rescind

The proposed amendment to footnote

48 to § 226.23(a)(3) is unnecessary given

the organization of the final rule, and

thus has not been adopted.

Subpart E—Special Rules for Certain

Home Mortgage Transactions

Section 226.31—General Rules

31(c) Timing of Disclosure

31(c)(1)(i) Change in Terms

Section 226.31(c)(1) requires a threeday waiting period between the time the

consumer is furnished with disclosures

required under § 226.32 and the time

the consumer becomes obligated under

the loan. If the creditor changes any

terms that make the disclosures

inaccurate, new disclosures must be

given and another three-day waiting

period is triggered.

Comment § 226.31(c)(1)(i)–2 is added,

as proposed, to clarify redisclosure

requirements when, after a consumer

receives a HOEPA disclosure and before

consummation, loan terms change that

make the disclosure inaccurate. The

Board’s 2000 hearings revealed that

some creditors offer credit insurance

and other optional products at loan

closing. If the consumer finances the

purchase of such products and as a

result the monthly payment differs from

what was previously disclosed under

§ 226.32, the terms of the extension of

credit have changed; redisclosure is

required and a new three-day waiting

period applies. See discussion below

concerning § 226.32(c)(3) on when

optional items may be included in the

regular payment disclosure.

Section 226.32—Requirements for

Certain Closed-end Home Mortgages

32(a) Coverage

HOEPA disclosures and restrictions

cover home-equity loans that meet one

of the act s two high-cost triggers a rate

trigger and a points and fees trigger.

Under the final rule, both triggers are

revised to cover more loans.

APR trigger—Currently, a loan is

covered by HOEPA if the APR exceeds

by more than 10 percentage points the

rate for Treasury securities with a

comparable maturity. Section 103(aa) of

TILA authorizes the Board to adjust the

APR trigger by 2 percentage points from

the current standard of 10 percentage

points upon a determination that the

increase or decrease is consistent with

the consumer protections against

abusive lending contained in HOEPA

and is warranted by the need for credit.

The Board had proposed to reduce the

rate trigger from 10 to 8 percentage

points above the rate for Treasury

securities with a comparable term for all

loans, the maximum adjustment that the

Board can make. With this change,

based on recent rates for Treasury

securities, home-equity loans with a

term of 10 years would be subject to

HOEPA if they have an APR of

approximately 13 percent or higher.

The Board solicited comment on an

alternative approach that would

differentiate between first- and

subordinate-lien loans in the

application of the APR trigger. Under

the two-tiered alternative, the APR

trigger for first-lien mortgages would be

Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations 65607

reduced to 8 percentage points; the APR

trigger for subordinate-lien loans would

remain at 10 percentage points. The

final rule adopts the two-tiered

alternative approach.

HOEPA provides that the Board may

adjust the APR trigger after consulting

with representatives of consumers and

lenders and determining that the

increase or decrease is consistent with

the purpose of consumer protection in

HOEPA and is warranted by the need

for credit. (The Board may not adjust the

trigger more frequently than once every

two years.) Consistent with this

mandate, the Board has held public

hearings, considered the testimony at

other hearings held by government

agencies and the Congress, analyzed

comment letters, held discussions with

community groups and lenders,

consulted its Consumer Advisory

Council, and reviewed data from

various studies and reports on the

home-equity lending market.

Most of the information the Board

received about predatory lending is

anecdotal, as it was when Congress

passed HOEPA in 1994. The reports of

actual cases (including additional

Congressional testimony by consumers)

are, however, widespread enough to

indicate that the problem warrants

addressing. Homeowners in certain

communities—frequently the elderly,

minorities, and women—continue to be

targeted with offers of high-cost, homesecured credit with onerous loan terms.

The loans, which are typically offered

by nondepository institutions, carry

high up-front fees and may be based

solely on the equity in the consumers’

homes without regard to their ability to

make the scheduled payments. When

homeowners have trouble repaying the

debt, they are often pressured into

refinancing their loans into new

unaffordable, high-fee loans that rarely

provide economic benefit to the

consumers. These refinancings may

occur frequently. The loan balances

increase primarily due to fees that are

financed resulting in reductions in the

consumers’ equity in their homes and,

in some cases, foreclosure may occur.

The loan transactions also may involve

fraud and other deceptive practices.

Creditors have expressed concern that

lowering the HOEPA rate trigger would

adversely affect credit availability for

loans in the range of rates that would be

covered by the lowered trigger. Many

creditors, ranging from community

banks to national lenders, have stated

that they do not offer HOEPA loans due

to their concerns about compliance

burdens, potential liability, reputational

risk, and difficulty in selling these loans

to the secondary market. Some creditors

believe there are insufficient data about

the incidence of predatory lending

occurring in loans immediately below

the existing HOEPA triggers to support

lowering the trigger.

Anecdotal evidence suggests that

subprime borrowers with rates below

the current HOEPA triggers also have

been subject to abusive lending

practices. There are no precise data,

however, on the number of subprime

loans in the market as a whole that

would be affected by lowering the

HOEPA rate trigger. The precise effect

that lowering the APR trigger will have

on creditors’ business strategies is

difficult to predict. It seems likely that

lenders that already make HOEPA loans

and have compliance systems in place

would continue making them under a

revised APR trigger. Some creditors that

choose not to make HOEPA loans may

refrain from making loans in the range

of rates that would be covered by the

lowered threshold. But other creditors

may fill any void left by creditors that

do not make HOEPA loans, either

because they already make HOEPA

loans or because they are willing to do

so in the future. And others may have

the flexibility to avoid HOEPA’s

coverage by lowering rates or fees for

some loans at the margins, consistent

with the risk involved. Data submitted

by a trade association representing

nondepository institution lenders

suggest that there is an active market for

HOEPA loans under the current APR

trigger. There is no evidence that the

impact on credit availability will be

significant if the trigger is lowered.

Accordingly, the Board believes that

lowering the APR trigger to expand

HOEPA’s protections to more loans is

consistent with consumers’ need for

credit, and therefore, warranted.

Moreover, lowering the rate trigger

seeks to ensure that the need for credit

by subprime borrowers will be fulfilled

more often by loans that are subject to

HOEPA’s protections. Borrowers who

have less-than-perfect credit histories

and those who might not be served by

prime lenders have benefited from the

substantial growth in the subprime

market. But a borrower does not benefit

from expanded access to credit if the

credit is offered on unfair terms, the

repayment costs are unaffordable, or the

loan involves predatory practices.

Because consumers who obtain

subprime mortgage loans have, or

perceive they have, fewer options than

other borrowers, they may be more

vulnerable to unscrupulous lenders or

brokers.

The Board has also determined that

lowering the rate trigger is consistent

with the consumer protections against

abusive lending provided by HOEPA.

The Act’s purpose is to protect the most

vulnerable consumers, based on the cost

of the loans, from abusive lending

practices. As noted above, anecdotal

evidence suggests that subprime

borrowers with loans priced below

HOEPA’s current APR trigger have been

subject to predatory practices, such as

unaffordable lending, loan flipping and

insurance packing. These are the very

types of abuses that HOEPA was

intended to prevent. With a lowered

trigger, more consumers with high-cost

loans will receive cost disclosures three

days before closing (instead of at

closing) and will be protected by

HOEPA’s prohibitions against onerous

loan terms, such as non-amortizing

payment schedules, balloon payments

on short-term loans, or interest rates that

increase upon default. A wider range of

high-cost loans will also be subject to

HOEPA’s rule against unaffordable

lending, and to HOEPA’s restrictions on

prepayment penalties. The rules being

adopted by the Board to address loan

flipping will also apply to more loans.

Lastly, more high-cost loans will be

subject to the HOEPA rule that holds

loan purchasers and other assignees

liable for any violation of law by the

original creditor with respect to the

mortgage.

Two-tiered approach—Of the 200

commenters on the proposal, about 40

discussed the two-tiered trigger

approach and were about evenly

divided. Creditors and some consumer

groups favored the two-tiered trigger

approach. Those opposed included

community groups, some creditors, and

others that generally believe that there

should be no distinction drawn between

first-lien and subordinate-lien loans.

Community groups believe that the

maximum number of subprime

mortgage loans should be subject to

HOEPA’s protections. Many suggested

that the two-tiered approach could be

helpful if both triggers were

substantially lower than what the Board

is authorized to adopt. Some creditors

that opposed the tiered-approach

believe that the Board should not issue

a rule that might encourage the making

of loans that would place creditors in a

subordinate lien position. One

institution noted that a subordinate-lien

loan may not be more favorable to a

consumer if it results in a combined

monthly payment on the first and

second mortgages that is higher than the

monthly payment on a consolidated

first-lien mortgage loan. Some

commenters believe that borrowers with

subordinate-lien loans face similar risks

of abusive practices as with first-lien

65608 Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations

loans. A few stated that the tiered

approach would add unnecessary

complexity to both compliance and

enforcement efforts.

Data are not available on the number

of home-equity loans currently subject

to HOEPA, or the number of loans that

would be covered if the APR trigger

were lowered. At the time of the

proposal, data from the Mortgage

Information Corporation (MIC)

compiled by the Office of Thrift

Supervision suggested that lowering the

APR trigger by 2 percentage points

could expand HOEPA’s coverage from

approximately 1 percent to 5 percent of

subprime mortgage loans. Further

analysis of additional MIC data suggests

that these percentages of coverage may

be typical of longer-term, first-lien

mortgages, and that the coverage

percentages are higher for shorter-term

and subordinate-lien loans.

In response to the Board’s request in

the proposal, a few commenters

provided data on the number of loans

they offered in recent years that would

have been affected by a rate trigger of 8

percentage points above a comparable

Treasury security. The most extensive

data were submitted by a trade

association representing nondepository

institution lenders. The association

collected data from the subprime

lending divisions of nine member

institutions. The number of loans

surveyed is about 36 percent of the

number of loans of subprime lenders

recorded under HMDA during the

survey period (mid-year 1995 through

mid-year 2000). The dollar volume for

the loans surveyed is about 20 percent

of the dollar volume of loans reported

by subprime lenders under HMDA.

Overall, the trade association data show

that for these loans, HOEPA’s existing

APR trigger would have covered about

9 percent of the first-lien loans, and that

lowering the APR trigger by 2

percentage points would have resulted

in coverage of nearly 26 percent of the

first-lien loans surveyed. For

subordinate-lien loans, about 47 percent

of the surveyed loans would have been

covered by HOEPA’s APR trigger, and

the data suggest that lowering the APR

trigger by 2 percentage points would

have resulted in coverage of about 75

percent of the subordinate-lien loans.

Most of the evidence of predatory

lending brought to the Board’s attention

to date has involved abuses in

connection with first-lien mortgage

loans. When a consumer seeks a loan to

consolidate debts or finance home

repairs, some creditors require

consumers to borrow additional funds

to pay off the existing first mortgage as

a condition of providing the loan, even

though the existing first mortgage may

have been at a lower rate. This ensures

that the creditor will be the senior lienholder, but it also results in an increase,

perhaps significant, in the points and

fees paid for the new loan (since the

latter are calculated on a much larger

loan amount).

The Board’s final rule lowers the APR

trigger for first lien-mortgages only.

Subordinate-lien loans are already

covered more frequently by HOEPA

because the rates on these loans are

higher than first-lien loans. The data

suggests that coverage under the current

triggers could be significant for

subordinate-lien loans. Moreover, the

evidence of abusive practices has

pertained primarily to first lien

mortgages. Based on these factors, the

Board is adjusting the APR trigger only

for first-lien loans, but retains the ability

to lower the trigger for subordinate-lien

loans at a future date.

32(b) Definition

Points and fees trigger—Currently,

home-equity loans are subject to HOEPA

if the points and fees payable by the

consumer at or before loan closing

exceed the greater of 8 percent of the

total loan amount or $465. (The dollar

trigger is $480 for 2002; 66 FR 57849,

November 19, 2001.) ‘‘Points and fees’’

include all finance charges except for

interest. The trigger also includes some

fees that are not finance charges, such

as closing costs paid to the lender or an

affiliated third party. HOEPA authorizes

the Board to add ‘‘such other charges’’

to the points and fees trigger as the

Board deems appropriate.

The comment letters and testimony at

the hearings raised a number of

concerns about single-premium credit

insurance, such as excessive costs, highpressure sales tactics, consumers’

confusion as to the voluntariness of the

product, and ‘‘insurance packing.’’ The

term ‘‘packing’’ in this case refers to the

practice of automatically including

optional insurance in the loan amount

without the consumer’s request; as a

result, some consumers may perceive

that the insurance is a required part of

the loan, and others may not be aware

that insurance has been included.

In response to the reported abuses, the

Board proposed to include in the fee

trigger premiums paid at closing for

optional credit life, accident, health, or

loss-of-income insurance and other

debt-protection products; such

premiums are typically financed.

Premiums paid for required credit

insurance policies are considered

finance charges and are already

included in the points and fees trigger.

Many commenters expressed views

on this issue. The views were sharply

divided. In general, consumer

representatives, some federal agencies,

state law enforcement officials, and

some others supported the inclusion of

optional credit insurance premiums in

HOEPA’s points and fees trigger,

although they would have preferred an

outright ban on the purchase or

financing of single-premium products.

Consumer representatives were

generally concerned about the cost of

the insurance, its voluntariness, and its

contribution to equity stripping. They

believe that borrowers are often

unaware that insurance has been

included in their loan balance or that

borrowers perceive that the insurance is

required. They also note that these

problems exist notwithstanding the fact

that TILA currently requires creditors to

disclose before consummation that the

insurance is optional in order to exclude

it from the HOEPA fee trigger. (If

creditors fail to disclose that the

insurance is optional, TILA requires that

the cost be treated as a finance charge,

and all finance charges other than

interest are in the current HOEPA fee

trigger.) They state that excessively high

premiums contribute to the problem of

equity stripping. They also note that

consumers pay interest on the financed

premium for the entire loan term even

though insurance coverage typically

expires much earlier.

Most creditors and commenters

representing the credit insurance

industry strongly opposed the inclusion

of optional insurance premiums paid at

closing in the points and fees trigger.

Some creditors questioned the Board’s

use of its authority under HOEPA to

mandate inclusion; they pointed to

legislative history that discusses the

potential inclusion of credit insurance

premiums if there is evidence that credit

insurance premiums are being used to

evade HOEPA. These commenters

believe that a finding of evasion is a

prerequisite to inclusion; they do not

believe the standard has been met

because the proposal merely noted that

the change might prevent such evasions

in the future. They also cited an

exchange in the Congressional Record

between two Senators, when the

Congress was considering HOEPA

legislation, about credit insurance being

treated consistently with other

provisions of TILA. Because premiums

for optional credit insurance are not

automatically included in the

calculation of TILA’s finance charge and

APR, these commenters believe such

premiums should not be included in

HOEPA’s points and fees calculation.

Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations 65609

The commenters’ suggestion that

credit insurance premiums can only be

included in the HOEPA trigger if the

Board finds that creditors are using the

premiums to evade HOEPA is directly

contradicted by the express language of

the statute, which states that the Board

need only make a finding that this

action is ‘‘appropriate.’’ In construing a

statute, the plain meaning of the

statutory text generally governs. When

the plain meaning of the statutory

language is clear, there is no reason to

resort to legislative history. In this case,

if the Congress had intended to make

‘‘evasions’’ the sole standard of

‘‘appropriateness’’ for including

additional charges in the fee trigger, it

would have done so expressly. For

example, such language was used in

section 129(l)(2)(A), which authorizes

the Board to prohibit acts and practices

that the Board finds to be ‘‘unfair,

deceptive, or designed to evade’’ the

provisions of HOEPA.

In light of the unambiguous statutory

text, the Board believes that the

legislative history cited by the

commenters is not dispositive, and that

evasion is merely one example of when

the Board might find that inclusion of

additional charges is ‘‘appropriate.’’ The

Senate floor colloquy, which refers to

HOEPA as being consistent with TILA’s

treatment of insurance premiums,

should not be construed as guidance on

how the Board might, in the future,

adjust HOEPA’s points and fees trigger.

It merely clarified that optional credit

insurance premiums were not

automatically included in the statutory

points and fees trigger, as would have

been the case under an earlier version

of the legislation.

Industry commenters opposed

including optional credit insurance

premiums in HOEPA’s points and fees

trigger when, for purposes of TILA

disclosures generally, the premiums are

not included in the cost of the credit.

The Board believes that HOEPA’s points

and fees trigger is not intended to be the

equivalent of the ‘‘cost of credit,’’ as

measured by TILA’s finance charge and

APR. Indeed, HOEPA expressly

includes certain charges in the points

and fees trigger that are not included in

the finance charge, and authorizes the

Board to include others. The HOEPA

points and fees trigger is intended to be

used to identify transactions with high

costs where consumers may be

vulnerable and thus need the benefit of

HOEPA’s special protections.

Creditors also asserted that, based on

typical premium rates, most mortgage

loans that include single-premium

credit insurance would be considered

high-cost and thus would be covered

under HOEPA’s fee-based trigger. As a

result, they caution that lenders

choosing not to make HOEPA loans

would be foreclosed from offering

single-premium credit insurance

products to their loan customers. They

asserted that the financing of singlepremium insurance provides protection

to cash-poor consumers who are

underinsured, and in some cases offers

less costly coverage compared with

other forms of insurance. In short, these

commenters generally support the

current rule that does not include

insurance premiums for optional credit

insurance in the points and fees trigger.

Alternatively, they recommend a rule

that allows the insurance premiums to

be excluded based on the consumers’

ability to cancel the coverage and obtain

a full refund, where consumers are also

provided with adequate information

about their rights to do so after the loan

closing.

The Board believes that it is

appropriate and consistent with the

purposes of HOEPA to include

premiums paid by consumers at or

before closing for credit insurance (and

other debt-protection products) in

HOEPA’s points and fees trigger. The

coverage is purchased by the consumer

in connection with the mortgage

transaction, and the creditor or the

credit account is the beneficiary. In

addition, creditors receive commissions

which may be significant for selling

credit insurance (and retain the fee

assessed for debt-cancellation coverage).

This oftentimes represents a significant

addition to the cost of the transaction to

the borrower and an increase in benefit

to the creditor. Moreover, when

financed in connection with a subprime

mortgage loan, as is typically the case,

these charges can represent a significant

addition to the loan balance, and thus,

to the cost of the transaction and the

size of the lien on the borrower’s home.

For example, according to insurance

industry commenters, the typical cost of

single-premium credit life insurance for

an individual borrower could amount to

the equivalent of several points. The

total cost of credit insurance in a

particular mortgage transaction,

however, also depends on the number of

borrowers covered, and the types of

coverage purchased. HOEPA is

specifically designed to help borrowers

in high-cost mortgage transactions to

understand the costs of the transaction

and the risk that they may lose their

homes if they do not meet the full

amount of their obligation under the

loan.

Importantly, anecdotal evidence has

revealed that there are sometimes

abuses associated with the sale and

financing of single-premium credit

insurance, which typically occurs in

subprime loans. Some consumers are

not aware that they are purchasing the

insurance, some may believe the

insurance is required, and some may not

understand that the term of insurance

coverage may be shorter than the term

of the loan. These abuses and

misunderstandings can be addressed

somewhat by applying HOEPA’s

protections and remedies, to the extent

that including insurance in the points

and fees test brings these loans under

HOEPA. Moreover, including credit

insurance premiums in HOEPA’s feebased trigger prevents unscrupulous

creditors from evading HOEPA by

packing a loan with such products in

lieu of charging other fees that already

are included under the current HOEPA

trigger.

One likely effect of this adjustment to

the trigger is that significantly more of

the loans that include single-premium

insurance will be covered by HOEPA’s

protections. Data from a trade

association of nondepository lenders

indicate that lowering the APR trigger

for first-lien loans by 2 percentage

points and including optional credit

insurance premiums in the points and

fees tests would increase the percentage

of first-lien mortgage loans covered by

HOEPA, from 26 to 38 percent, for the

firms surveyed. With a lowered APR

trigger, coverage of subordinate-lien

mortgage loans would increase from 47

to 61 percent for the firms surveyed.

When there are abuses such as

coercive or deceptive sales practices,

borrowers will benefit from HOEPA’s

rule requiring disclosures three days

before closing. With the enhanced

HOEPA disclosure of the amount

borrowed, these consumers will receive

advance notice about the additional

amount they must borrow beyond their

original loan request if they purchase

the insurance. As part of that new

disclosure, under the final rule,

creditors must specify whether the

amount borrowed includes the cost of

optional insurance. Moreover, creditors

and assignees will be subject to

HOEPA’s strict liability and remedies

when there are violations of law

concerning the mortgage. See

§ 226.32(c)(5).

As commenters noted, some creditors

choose not to make loans covered by

HOEPA, and if these creditors have been

offering single-premium insurance, they

may decide to cease doing so in order

to remain outside of HOEPA’s coverage.

To the extent that some creditors choose

not to offer single-premium policies,

they can make credit insurance

available through other vehicles such as

65610 Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations

policies that assess and bill monthly

premiums on the outstanding loan

balance.

Industry commenters assert that

single-premium policies are less costly

than monthly premium insurance and

provide greater continuity of coverage

because a borrower’s missed payments

on the monthly-pay product might

result in cancellation of insurance.

Single-premium and monthly-premium

policies have relative advantages and

disadvantages. For example, a five-year

policy with a financed single-premium

may result in smaller monthly payments

because the cost is spread over the full

loan term, which may be ten or twenty

years. But the consumer will also pay

‘‘points’’ (and interest over the life of

the loan) on the additional amount

financed for the coverage. Premiums

assessed monthly, based on the

outstanding loan balance, may result in

a higher monthly expense, but they are

not financed and would only be payable

during the five years that coverage was

in force, so the overall cost to the

consumer could be lower. Regardless of

the relative merits, under the final rule

creditors will continue to have the

ability to decide what types of insurance

products they will make available to

borrowers.

The final rule also provides guidance

in calculating the HOEPA fees trigger. A

mortgage loan is covered by HOEPA if

the ‘‘points and fees’’ exceed 8 percent

of the ‘‘total loan amount.’’ The total

loan amount is based on the ‘‘amount

financed’’ as provided in § 226.18(b).

Comment 32(a)(1)(ii)–1 of the staff

commentary to Regulation Z discusses

the calculation of the total loan amount.

The comment is revised, as proposed, to

illustrate that premiums or other

charges for credit life, accident, health,

loss-of-income, or debt-cancellation

coverage that are financed by the

creditor must be deducted from the

amount financed in calculating the total

loan amount.

Disclosure alternatives—The Board

solicited comment on whether optional

credit insurance premiums should be

excluded from the trigger when

consumers have a right to cancel the

policy and when disclosures about that

right are provided after closing.

Consumer representatives were opposed

to the approach, expressing doubt that

disclosures would be effective. Industry

commenters supported the exclusion as

a reasonable approach to address

concerns about insurance packing.

Upon further analysis, the Board

believes that post-closing disclosures

would be less effective than the HOEPA

disclosures and remedies in deterring

abusive sales practices in connection

with insurance. Moreover, reliance on

the consumer’s exercise of their right to

cancel the insurance would not prevent

abuses but would unfairly require

borrowers to take the initiative in

remedying them.

32(c) Disclosures

Section 129(a) of TILA requires

creditors offering HOEPA loans to

provide abbreviated disclosures to

consumers at least three days before the

loan is closed, in addition to the

disclosures generally required by TILA

at or before closing. The HOEPA

disclosures inform consumers that they

are not obligated to complete the

transaction and could lose their home if

they take the loan and fail to make

payments. The HOEPA disclosures also

include a few key cost disclosures, such

as the APR and the monthly payment

(including the maximum payment for

variable-rate loans and any balloon

payment). Under the final rule these

disclosures have been enhanced

somewhat to further benefit borrowers.

Section 226.32(c) is revised to provide,

in accordance with TILA section 129(a),

that the disclosures must be in a

conspicuous type size.

32(c)(3) Regular Payment; Balloon

Payment

Section 226.32(c)(3) requires creditors

to disclose to consumers the amount of

the regular monthly (or other periodic)

payment, including any balloon

payment. The regulation is revised to

move the disclosure requirement for the

amount of the balloon payment from the

commentary to the regulation, to aid in

compliance. Model Sample H–16,

which illustrates the disclosures

required under § 226.32(c), is revised to

include a model clause on balloon

payments.

Under comment 32(c)(3)–1 of the staff

commentary, creditors are allowed to

include voluntary items in the regular

payment disclosed under § 226.32 only

if the consumer has previously agreed to

such items. The comment is revised for

clarity as proposed.

Testimony at the Board’s 2000 public

hearings and other comments received

suggest that some HOEPA disclosures

provided in advance of closing include

insurance premiums in the monthly

payment, even though consumers may

not agree to purchase optional insurance

until closing. Consequently, the Board

solicited comment on whether

consumers should be required to request

or affirmatively agree to purchase

optional items in writing, to aid in

enforcing the rule.

Some commenters supported having a

rule where consumers would separately

agree to purchase optional products.

These commenters thought the rule

would be useful in preventing

‘‘packing.’’ Other commenters,

representing both consumer and

industry interests, opposed such an

approach. The consumer representatives

preferred creditors to have the duty to

ensure ‘‘voluntariness.’’ Industry

representatives expressed a variety of

concerns. Some believed that such a

rule would be burdensome to creditors

and borrowers alike, necessitating

additional visits to sign the document at

least three days before closing. They

believed a separate affirmation to be

duplicative and unnecessary. Others

believed the rule would have the

unintended effect of making consumers

feel obligated, and ultimately less likely

to reverse an earlier decision prior to or

at closing.

Having carefully considered

commenters’ concerns regarding

burden, and the effectiveness of a

separate written agreement to purchase

optional products to reduce ‘‘packing,’’

the Board is not taking further action to

require a separate written agreement at

this time. To address insurance

‘‘packing,’’ pursuant to its authority

under section 129(l)(2)(B) of TILA, the

Board has instead enhanced the final

rule to require that the disclosure of the

amount borrowed in mortgage

refinancings expressly state whether

optional credit insurance or debtcancellation coverage is included in the

amount financed, as discussed below.

The final rule for disclosing the

‘‘amount borrowed’’ includes a $100

tolerance for minor errors. As discussed

below, if the amount borrowed is

inaccurate by any amount, the regular

payment disclosure will be inaccurate

also. To be meaningful to creditors, any

tolerance for the amount borrowed must

‘‘pass through’’ to the regular payment.

Such an approach is consistent with

TILA’s rule in closed-end transactions

secured by real property or a dwelling,

where the finance charge as well as

other disclosures affected by the finance

charge are considered accurate within

prescribed limits. Pursuant to its

authority under section 129(l)(2)(B) of

TILA, the Board is providing a tolerance

to the regular payment disclosure

required under § 226.32(c)(3), if the

payment disclosed is based on an

amount borrowed that is deemed

accurate and disclosed under

§ 226.32(c)(5).

32(c)(5) Amount Borrowed

Section 226.32(c)(5) is added to

require disclosure of the total amount

the consumer will borrow, as reflected

by the face amount of the note, pursuant

Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations 65611

to the Board’s authority under Section

129(l)(2)(B) of TILA. This disclosure

responds to concerns by consumers and

consumer representatives that

consumers sometimes seek a modest

loan amount such as for medical or

home improvement costs, only to

discover at closing (or after) that the

note amount is substantially higher due

to fees and insurance premiums that are

financed along with the requested loan

amount. The amount borrowed

disclosure is enhanced in the final rule;

when the loan amount includes

premiums or other charges for optional

credit insurance or debt-cancellation

coverage, the disclosure must so specify,

to address insurance ‘‘packing’’ where

consumers may not be aware that

insurance coverage has been added to

the loan balance. Comment 32(c)(5)–1 to

the staff commentary provides guidance

regarding terminology for debtcancellation coverage.

Consumer representatives and some

industry representatives supported the

proposal as aiding consumers’

understanding that additional fees

might be financed. Other industry

representatives opposed the proposal.

Some of these commenters believed

consumers would be confused by an

‘‘amount borrowed’’ in addition to

TILA’s ‘‘amount financed,’’ which does

not include amounts borrowed to cover

loan fees.

Creditors must provide updated

HOEPA disclosures if, after giving the

disclosures required by § 226.32(c) to

the consumer and before

consummation, the creditor changes any

terms that make the disclosure

inaccurate. § 226.31(c)(1). The Board

requested comment on whether it would

be appropriate to provide for a tolerance

for insignificant changes to the amount

borrowed, and if so, what would be a

suitable margin.

Commenters had mixed views on the

desirability for a tolerance. Consumer

groups supported either no tolerance or

a very small tolerance such as $100,

consistent with the existing tolerance

for understated finance charges in

closed-end transactions secured by real

property or a dwelling. § 226.18(d)(1).

Industry commenters wanted a much

larger tolerance such as 1 percent of the

loan amount or 10 percent of the regular

payment.

Pursuant to its authority under

section 129(l)(2)(B) of TILA, the Board

is providing a tolerance for the

disclosure of the amount borrowed.

Under the final rule, the amount

borrowed is accurate if it is not more

than $100 above or below the amount

required to be disclosed.

Counseling

The Board requested comment on

whether a generic disclosure advising

consumers to seek independent advice

might encourage borrowers to seek

credit counseling. Consistent with views

expressed in connection with the

Board’s 2000 hearings, both consumer

and creditor commenters acknowledged

the benefits of pre-loan counseling as a

means to counteract predatory lending.

There was uniform concern, however,

about requiring a referral to counseling

for HOEPA loans because the actual

availability of local counselors may be

uncertain. Based on the comments

received and further analysis, the Board

is not adopting a generic counseling

disclosure at this time.

32(d) Limitations

32(d)(8) Due-on-demand Clause

As proposed, § 226.32(d)(8) is added

to restrict the use of ‘‘due-on-demand’’

clauses or ‘‘call’’ provisions for HOEPA

loans, unless the clause is exercised in

connection with a consumer’s default.

The limitation on the use of these

provisions in HOEPA loans is added

pursuant to the Board’s authority under

section 129(l)(2)(A) to prohibit acts that

are unfair or are designed to evade

HOEPA. The staff commentary to

§ 226.32(d)(8) provides guidance

concerning the exercise of ‘‘due-ondemand’’ clauses when a consumer fails

to meet repayment terms or impairs the

creditor’s security for the loan.

Commenters generally supported the

proposal. A few commenters suggested

that the rule was not needed because

they believe that due-on-demand

clauses were generally not being used

by mortgage lenders. Some industry

commenters asked the Board to limit the

rule’s applicability to the first five years

of a HOEPA loan, to coincide with

HOEPA’s ban on balloon payments. One

commenter sought clarification that the

rule limiting ‘‘due-on demand’’ clauses

would not affect ‘‘due-on-sale’’ clauses.

The final rule is adopted as proposed.

To prevent creditors from forcing

consumers to pay additional points and

fees to refinance their loans or face

possible foreclosure, section 129(e) of

TILA prohibits the use of balloon

payments for HOEPA loans with terms

of less than five years. Although ‘‘dueon-demand’’ and ‘‘call’’ provisions

currently do not appear to be widely

used in HOEPA loans, a creditor could

potentially force the consumer to

refinance by exercising the right to call

the loan and demanding payment of the

entire outstanding balance. Restricting

call provisions in HOEPA loans is

intended to ensure that lenders do not

accelerate the payment of these loans,

without cause, at any time during the

loan term, in order to force consumers

to refinance. When a creditor can

unilaterally terminate the loan without

cause, the consumer may be subject to

unnecessary refinancings, excessive

loan fees, higher interest rates, or

possible foreclosure. Consequently, this

rule prevents creditors from using call

provisions in a manner that would

cause substantial harm to HOEPA

borrowers.

Loans covered by HOEPA are more

likely to involve borrowers who have

less-than-perfect credit histories, or who

might not be served by prime lenders.

As noted earlier, because these

consumers either have or perceive they

have fewer options than other

borrowers, they may be more vulnerable

to unscrupulous lenders or brokers.

Accordingly, HOEPA includes

limitations on certain loan provisions to

protect these borrowers from onerous

loan terms. The Board finds that it is

also appropriate to protect HOEPA

borrowers from the potentially harsh

effects of allowing a creditor to exercise

a ‘‘due-on-demand’’ clause at any time,

unless there is legitimate cause.

The hearing testimony and comments

received by the Board failed to identify

any benefits to using ‘‘due-on-demand’’

clauses in HOEPA loans, other than in

the legitimate cases that are permitted

under the Board’s rule. The rule allows

creditors to exercise such clauses when

the creditor is faced with borrower

misrepresentations or fraud, the

borrower fails to meet repayment terms,

or a borrower’s action (or failure to act)

affects the creditor’s security for the

loan. The rule does not affect creditors’

use of ‘‘due-on-sale’’ clauses.

The limitations on ‘‘due-on-demand’’

clauses adopted by the Board for

HOEPA loans are similar to TILA’s

existing limits on the use of such

clauses for home-equity lines of credit

(HELOCs). See TILA, Section 127A; 12

CFR § 226.5b(f)(2). The rule for HELOCs

is contained in the Home Equity Loan

Consumer Protection Act of 1988 (Pub.

Law No. 100–709, 102 Stat. 4725). The

1988 act recognized that allowing

creditors to unilaterally terminate a

home-equity line (or significantly

change loan terms) is fundamentally

unfair when the consumer’s home is at

stake. Allowing creditors’ unlimited

discretion to call the loan and require

immediate repayment is similarly unfair

with HOEPA loans.

65612 Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations

Section 226.34—Prohibited Acts or

Practices in Connection with Credit

Secured by a Consumer’s Dwelling

Section 129(l) of TILA authorizes the

Board to prohibit acts or practices to

curb abusive lending practices. The act

provides that the Board shall prohibit

practices: (1) In connection with all

mortgage loans if the Board finds the

practice to be unfair, deceptive, or

designed to evade HOEPA; and (2) in

connection with refinancings of

mortgage loans if the Board finds that

the practice is associated with abusive

lending practices or otherwise not in the

interest of the borrower. The Board is

exercising this authority to prohibit

certain acts or practices, as discussed

below. The final rule is intended to curb

unfair or abusive lending practices

without unduly interfering with the

flow of credit, creating unnecessary

creditor burden, or narrowing

consumers’ options in legitimate

transactions. The rule prohibiting ‘‘loan

flipping’’ has been modified to expand

its scope. The rule protecting low-rate

loans has not been adopted due to

concerns about the compliance burden

on the home-equity lending market

generally. Other provisions have been

adopted as proposed.

The final rule creates a new § 226.34,

which contains prohibitions against

certain acts or practices in connection

with credit secured by a consumer’s

dwelling. This section includes the

rules currently contained in § 226.32(e).

34(a) Prohibited Acts or Practices for

Loans Subject to § 226.32

34(a)(1) Home Improvement Contracts

Section 226.32(e)(2) regarding homeimprovement contracts is renumbered

as § 226.34(a)(1) without substantive

change. Comment 32(e)(2)(i)–1 of the

staff commentary is now comment

34(a)(1)(i)–1.

34(a)(2) Notice to Assignee

Section 226.32 (e)(3) regarding

assignee liability for claims and

defenses that consumers may have in

connection with HOEPA loans is

renumbered as § 226.34(a)(2) without

substantive change. Comments 32(e)(3)–

1 and –2 are now comments 34(a)(2)–1

and –2 respectively.

Comment 34(a)(2)–3 is added to

clarify the statutory provision on the

liability of purchasers or other assignees

of HOEPA loans, as proposed. Section

131 of TILA provides that, with limited

exceptions, purchasers or other

assignees of HOEPA loans are subject to

all claims and defenses with respect to

a mortgage that the consumer could

assert against the creditor. The comment

clarifies that the phrase ‘‘all claims and

defenses’’ is not limited to violations of

TILA as amended by HOEPA. This

interpretation is based on the statutory

text and is supported by the legislative

history. See Conference Report, Joint

Statement of Conference Committee, H.

Rep. No. 103–652, at 22 (Aug. 2, 1994).

34(a)(3) Refinancings Within One-year

Period

‘‘Loan flipping’’ generally refers to the

practice by brokers and creditors of

frequently refinancing home-secured

loans to generate additional fee income

even though the refinancing is not in the

borrower’s interest. Loan flipping is

among the more flagrant of lending

abuses. Victims tend to be borrowers

who are having difficulty repaying a

high-cost loan; they are targeted with

promises to refinance the loan on more

affordable terms. The refinancing

typically provides little benefit to the

borrower, as the loan amount increases

mostly to cover fees. Often, there is

minimal or no reduction in the interest

rate. The monthly payment may

increase, making the loan even more

unaffordable. Sometimes the loan is

amortized so that the monthly payment

is reduced, but the loan may still be

unaffordable. As long as there is

sufficient equity to support the

financing of additional fees, the

consumer may be targeted repeatedly,

resulting in equity stripping.

The proposed rule prohibited an

originating creditor (or assignee)

holding a HOEPA loan from refinancing

that loan into another HOEPA loan

within the first twelve months following

origination, unless the new loan was ‘‘in

the borrower’s interest.’’ Pursuant to its

authority under Section 129(l)(2)(A) of

TILA, the Board is adopting a final rule

to address ‘‘loan flipping,’’ as discussed

below.

Consumer representatives generally

supported the proposal, but they

believed the rule was too narrow and

that all creditors and brokers should be

covered. Federal agencies, community

groups, and consumers and their

representatives believe that the

prohibition should be lengthened;

suggestions ranged from 18 months to as

long as four years.

Creditors’ comments mainly focused

on the ‘‘interest of the borrower’’ test.

oth creditors and consumer

representatives sought additional

guidance in this area. Consumer

representatives viewed the standard as

too lenient, while creditors believed that

the standard’s lack of certainty would

subject them to litigation risk. Creditors

also expressed concerns about the

proposal’s coverage of affiliates and

sought clarification about whether an

assignee merely servicing HOEPA loans

is covered by the rule.

The Board is adopting a final rule that

broadens the proposal’s coverage

somewhat. Under the final rule, within

the first twelve months of originating a

HOEPA loan to a borrower, the creditor

is prohibited from refinancing that loan

(whether or not the creditor still holds

the loan) or another HOEPA loan held

by that borrower.

The proposal was narrowly tailored to

curb the more egregious cases of loan

flipping: repeated refinancing by

creditors that hold HOEPA loans in

portfolio. Once a creditor assigned the

loan, the assignee would have been

covered, but the originating creditor

could then have refinanced the HOEPA

loan. Thus, the proposed rule did not

cover loan originators that close loans in

their own name and immediately assign

them to a funding party or sell them in

the secondary market. The hearing

testimony and comments suggest that

some of these originators are the source

of unaffordable loans because they do

not have a vested interest in the

borrower’s ability to repay the loan.

Once they are no longer holding a loan,

they can target the same borrower with

an offer to refinance the loan. The final

rule has been expanded to cover

creditors (including brokers) that

originate HOEPA loans, whether or not

they continue to hold the loan. The loan

flipping rule may deter some

unaffordable lending if the parties

making, holding, or servicing the loan

are not permitted to refinance the loan

within the first year.

Assignees are covered by the rule

because in some instances they are the

‘‘true creditor’’ funding the loan. Even

when they are not acting as the true

creditors, assignees of HOEPA loans are

subject to the refinancing restrictions to

ensure that loans are not transferred for

the purpose of evading the prohibition

and that borrowers are not pressured

into frequent refinancings by the party

holding or servicing their loans. Thus,

the rule has been revised to clarify that

it applies to assignees that are servicing

a HOEPA loan, whether or not they own

the obligation. Assignees will be under

the same restrictions as the original

creditor while holding or servicing the

loan. Comment 34(a)(3)–2 of the staff

commentary is added to provide

examples of how the rule is applied in

specific cases.

Under the proposal, the regulatory

prohibition applicable to creditors

would have applied to their affiliates in

all cases. Industry commenters were

concerned about the compliance

burden—particularly for creditors with

Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations 65613

broad geographic and corporate

structures. The final rule has been

narrowed and would not apply in

routine cases where consumers seek a

refinancing from an affiliate. Under the

final rule, loans made by an affiliate are

prohibited only if the creditor engages

in a pattern or practice of arranging

loans with an affiliate to evade the

flipping prohibition, or engages in other

acts or practices designed to evade the

rule. The final rule also prohibits

creditors from arranging refinancings of

their own loans with unaffiliated

creditors to evade the flipping

prohibition.

As noted above, some commenters

believe that the prohibition should be

lengthened. Although a longer period

might further limit the opportunity for

loan flipping, one year provides an

appropriate balance between the need to

address the clearest cases of abusive

refinancings and the need not to restrict

the free flow of credit in legitimate

transactions. Thus, the final rule retains

the one-year limitation, as proposed.

Borrower’s interest—Under the

proposal, creditors are permitted to

refinance a HOEPA loan within the oneyear period when ‘‘in the borrower’s

interest.’’ The determination of whether

or not a benefit exists would be based

on the totality of the circumstances.

Consumer representatives viewed the

standard as too lenient. They asserted

that the lack of specificity or examples

under the proposal would lead creditors

to liberally construe the ‘‘borrower’s

interest’’ standard to permit any

borrower predicament or any arguable

‘‘improvement’’ in term, payment, or

rate, as sufficient justification for

refinancing within the first year.

Creditors, conversely, believed that the

standard’s lack of certainty would lead

to litigation, inconsistent application,

and borrower and judicial secondguessing of creditors. This, creditors

argued, could ultimately result in a

hesitancy by creditors to extend

refinance credit at all in the first year of

origination of a HOEPA loan.

Commenters offered many suggestions

for more specific guidance, asking the

Board to provide that lowering the

interest rate or the monthly payment, or

eliminating a balloon payment or

variable rate feature, was per se, ‘‘in the

borrower’s interest.’’ Although a list of

acceptable loan purposes would provide

more certainty, it is difficult to identify

circumstances that would be

unequivocally in the borrower’s interest

in all or even most cases. A good reason

in one context may be abusive in other

circumstances. For example, a

homeowner’s equity could still be

stripped through repeated refinancings

that carry high up-front fees even if they

result in incrementally lower APRs.

The Board believes that precisely

defining circumstances that are ‘‘in the

borrower’s interest’’ is not necessary,

given the nature of the loan flipping

prohibition. The prohibition applies for

a relatively short period, and is

intended as a strong deterrent for the

more egregious cases. The ‘‘borrower’s

interest’’ exception must be narrowly

construed to preserve the effectiveness

of the overall prohibition. Moreover, the

probability that a legitimate creditor

would refinance its own HOEPA loans

within twelve months is typically low.

The Board recognizes that this

approach places the primary burden on

the creditor, in light of the totality of the

circumstances, to weigh whether the

loan is in the borrower’s interest. The

standard is intended to give legitimate

creditors some flexibility for

extenuating circumstances, while

creditors that rely on the exception

routinely to ‘‘flip’’ HOEPA loans bear

the risk that a court will find that they

violated HOEPA.

Comment 34(a)(3)–1 of the staff

commentary has been expanded to

provide additional guidance on lenders’

ability to make loans that are in the

borrower’s interest notwithstanding the

loan-flipping prohibition. A mere

statement by the borrower that ‘‘this

loan is in my interest’’ would not meet

the standard. In connection with a

refinancing that provides additional

funds to the borrower, in determining

whether a refinancing is in the

borrower’s interest, consideration

should be given to whether the loan fees

and charges are commensurate with the

amount of new funds advanced, and

whether the real estate-related charges

are bona fide and reasonable in amount

(see generally § 226.4(c)(7)). A

refinancing would be in the borrower’s

interest if needed for a ‘‘bona fide

personal financial emergency’’; this is

the current standard for certain

consumer waivers under TILA. TILA

authorizes the Board to permit

consumers to waive the three-day

rescission period for certain home

equity loans or the three-day waiting

period before closing a HOEPA loan, if

necessary for homeowners to meet a

bona fide personal financial emergency.

See § 226.23(e) and § 226.31(c)(1)(iii).

Comment 31(c)(1)(iii)–1 of the staff

commentary provides that the imminent

sale of the consumer’s home at

foreclosure during the three-day HOEPA

waiting period is an example of a bona

fide personal financial emergency.

Limitations on refinancing low-rate

loans—The December proposal

addressed abuses involving the

refinancing of low-rate loans originated

through mortgage assistance programs

designed to give low-or moderateincome borrowers the opportunity for

homeownership. Some of these

homeowners who have unsecured debts

have been targeted by unscrupulous

lenders who consolidate the debts and

replace the low-cost, first-lien mortgage

with a substantially higher cost loan.

The replacement loans are often

unaffordable, many involve ‘‘loan

flipping,’’ and as a result, homeowners

have lost their homes. In some cases, the

low-rate loan is replaced even though

the first-lien holder may be willing to

subordinate its security interest.

Under the proposal creditors would

have been prohibited, in the first five

years of a zero interest rate or other lowrate loan, from replacing that loan with

any higher-rate loan unless the

refinancing was in the interest of the

borrower. Based on the comments

received and after consultation with the

Consumer Advisory Council and further

analysis, the Board is withdrawing the

proposed provision addressing low-rate

loans.

Unlike the prohibition against loan

flipping, which applies only to HOEPA

creditors, the prohibition against

refinancing low-rate loans, as proposed,

would have applied to all mortgage

refinancing transactions. While

borrowers with low-rate mortgage loans

could benefit from the rule, the benefits

appear to be far outweighed by the

potential compliance burden for all

home-equity lenders. Therefore, the

proposed rule is being withdrawn at this

time for reconsideration. The Board will

consider other approaches that

appropriately protect borrowers with

low-rate loans in order to deter harmful

refinancings and provide adequate

remedies where they occur without

imposing unnecessary documentation

requirements on the market as a whole.

34(a)(4) Repayment Ability

Under section 129(h) of TILA, a

creditor may not engage in a pattern or

practice of making HOEPA loans based

on the equity in the borrower’s home

without regard to the consumer’s

repayment ability, taking into account

the consumer’s current and expected

income, current obligations, and

employment status. As proposed, the

final rule, formerly in § 226.32(e)(1), has

been moved to § 226.34(a)(4) and

revised to parallel the statutory

language. The revision is a clarification

of existing law and is not a new rule.

Currently, compliance with the

prohibition against unaffordable lending

is difficult to enforce because creditors

are not required to document that they

65614 Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations

considered the consumer’s ability to

repay. In addition, there have been

reports of creditors relying on

inaccurate information provided by

unscrupulous loan brokers. To aid in

solving these problems, the Board

proposed under § 226.34(a)(4)(ii) to

require that creditors generally verify

and document consumers’ current or

expected income, current obligations,

and employment to the extent

applicable. If a creditor engages in a

pattern or practice of making loans

without verifying and documenting

consumers’ repayment ability, there

would be a presumption that the

creditor has violated the rule. The Board

adopts the rule as § 226.34(a)(4) with

minor modifications.

Determining repayment ability—

Comment 34(a)(4)–1 of the staff

commentary, formerly comment

32(e)(1)–1, has been modified in light of

the new verification and documentation

requirements discussed below. The

comment has also been modified to

more closely track the statute.

The reference to § 226.32(d)(7) has

been deleted as unnecessary; the

sources of information listed in

§ 226.32(d)(7) with one exception are

listed in comment 34(a)(4)–2 on

verifying and documenting repayment

ability.

Verification and documentation—The

verification and documentation rule

requires creditors to use independent

sources to ascertain borrowers’ ability to

repay loans that are secured by their

homes, and to memorialize and retain

this information. Proposed comment

34(a)(4)(ii)–1 provided examples of

ways to verify and document the

income and obligations of consumers

who are employed, including those who

are self-employed. The final comment,

renumbered 34(a)(4)–4, adopts the

proposed comment with modifications

to accommodate creditworthy borrowers

not employed or without traditional

financial documents.

Most of the commenters supported

the rule and comment. Some

commenters from industry pointed out

that verification and documentation is

basic to the underwriting process and

already required for safety and

soundness purposes. Government

entities at both the federal and state

levels noted that verification and

documentation is necessary for

enforcement of the prohibition against

unaffordable mortgage lending. A few

commenters were concerned that the

rule was not sufficiently flexible in

allowing creditors to make loans to

creditworthy borrowers whose

repayment ability may not be based on

regular employment wages. The final

comment clarifies that creditors can rely

on any reliable source that provides a

reasonable basis for believing there are

sufficient funds to support repayment of

the loan.

Pattern or practice—Section 129(h) of

TILA does not define ‘‘pattern or

practice,’’ nor does the legislative

history provide guidance as to how the

phrase should be applied. The Board

proposed interpretive guidance on the

‘‘pattern or practice’’ requirement. The

proposed comment provided that

determining whether a pattern or

practice exists depends on the totality of

the circumstances. The proposal

referenced statutes relevant to a pattern

or practice determination, specifically,

the Truth in Lending Act, the Equal

Credit Opportunity Act, the Fair

Housing Act, and Title VII of the Civil

Rights Act of 1964 (equal employment

opportunity).

Those that commented on this aspect

of the proposal generally requested

more guidance on what would

constitute a ‘‘pattern or practice.’’

Several requested that the Board set a

specific standard. Industry commenters

generally preferred a narrow standard,

while representatives of consumer and

community groups sought a broader

standard that would be less onerous for

consumers. Comment 34(a)(1)–2 as

adopted provides additional guidance

on the ‘‘pattern or practice’’

requirement, but retains the totality of

the circumstances test. The comment

provides that while a ‘‘pattern or

practice’’ of violations is not established

by isolated, random, or accidental acts,

it can be established without the use of

a statistical process. The comment also

notes that a creditor might act under a

lending policy (whether written or

unwritten) and that action alone could

establish that there is a pattern or

practice of violating the prohibition

against unaffordable lending.

Discounted introductory rates—

Concern was raised about creditors

determining a consumer’s repayment

ability based on low introductory rates

offered under some programs. Proposed

comment 34(a)(4)(i)–3 provided that in

considering consumers repayment

ability in transactions where the

creditor sets a temporary introductory

interest rate and the rate is later

adjusted (whether fixed or later

determined by an index or formula) the

creditor must consider increases in the

consumer’s payments assuming the

maximum possible increases in rates in

the shortest possible time frame. The

comment was not intended to impose a

standard for evaluating a borrower’s

repayment ability that is more stringent

than current industry practice. While

creditors typically do not evaluate a

borrower’s ability to repay a loan based

on a temporary discounted rate, they

also do not evaluate repayment ability

based on the maximum interest rate that

may be charged as a result of rate

adjustments on the loan. Based on the

comments and further analysis, the final

comment treats all discounted and

variable-rate loans the same. Comment

34(a)(4)–3, as adopted, requires

creditors to consider the consumer’s

ability to repay the loan assuming the

non-discounted rate for fixed-rate loans,

or the fully-indexed rate for variable rate

loans, is in effect at consummation.

34(b) Prohibited Acts or Practices for

Dwelling-Secured Loans; Open-end

Credit

HOEPA covers only closed-end

mortgage loans. In the December notice,

the Board proposed a prohibition

against structuring a home-secured loan

as a line of credit to evade HOEPA’s

requirements, if the credit does not meet

the definition of open-end credit in

§ 226.2(a)(20).

Although consumer representatives

supported the Board’s proposal, they

generally believe that HOEPA should

cover open-end credit carrying rates or

fees above HOEPA’s price triggers.

Industry commenters believe there is

little evidence that creditors are using

open-end credit to evade HOEPA.

Moreover, they oppose the rule as

unnecessary because it is already a

violation of TILA to provide disclosures

for an open-end credit plan if the legal

obligation does not meet the criteria for

open-end credit.

Pursuant to the Board’s authority

under section 129(l)(2)(A), as proposed,

§ 226.34(b) explicitly prohibits

structuring a mortgage loan as an openend credit line to evade HOEPA’s

requirements, if the loan does not meet

the TILA definition of open-end credit.

This prohibition responds to cases

reported by consumer advocates at the

Board’s hearings and to enforcement

actions brought by the Federal Trade

Commission, where creditors have

documented loans as open-end

‘‘revolving’’ credit, even if there was no

real expectation of repeat transactions

under a reusable line of credit. Although

the practice would currently violate

TILA, the new rule will subject creditors

and assignees to HOEPA’s stricter

liability rule and remedies if the credit

carries rates and fees that exceed

HOEPA’s price triggers for closed-end

loans.

Where a loan is documented as openend credit but the features and terms or

other circumstances demonstrate that it

does not meet the definition of openVerDate 11<MAY>2000 16:37 Dec 19, 2001 Jkt 197001 PO 00000 Frm 00018 Fmt 4700 Sfmt 4700 E:\FR\FM\20DER1.SGM pfrm07 PsN: 20DER1
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end credit, the loan is subject to the

rules for closed-end credit, including

HOEPA if the rate or fee trigger is met.

In response to comments, comment

34(b)–1 provides guidance on how to

apply HOEPA s triggers to transactions

structured as open-end credit in

violation of § 226.34(b).

Appendix H to Part 226—Closed-End

Model Forms and Clauses

Model Form H–16—Mortgage Sample

illustrates the disclosures required by

§ 226.32(c), which must be provided to

consumers at least three days before

becoming obligated on a mortgage

transaction subject to § 226.32. Model

Form H–16 is amended to illustrate the

additional disclosures required for

refinancings under § 226.32(c)(5). A new

comment App. H–20 clarifies that

although the additional disclosures are

required for refinancings that are subject

to § 226.32, creditors may, at their

option, include these disclosures for any

loan subject to that section. The Sample

also includes an illustration for loans

with balloon payments. Former

comments H–20 through H–23 have

been renumbered H–21 through H–24,

respectively.

IV. Regulatory Flexibility Analysis

The Regulatory Flexibility Act (5

U.S.C. 601 et seq.) requires federal

agencies either to provide a Final

Regulatory Flexibility Analysis with a

final rule or to certify that the final rule

will not have a significant economic

impact on a substantial number of small

entities. Based on available data, the

Board is unable to determine at this

time whether the final rule would have

a significant impact on a substantial

number of small entities. For this

reason, the Board has prepared the

following Final Regulatory Flexibility

Analysis.

(1) Statement of the need for and

objectives of the final rule—The final

rule is adopted to address predatory

lending and unfair practices in homeequity lending. As stated more fully

above, the existing regulations are

amended to broaden the scope of

mortgage loans subject to HOEPA by

adjusting the price triggers used to

determine coverage under the act (both

the interest rate trigger and points and

fees trigger). Certain acts and practices

in connection with home-secured loans

are restricted. For example, creditors

may not engage in repeated refinancings

of HOEPA loans over a short time

period when the transactions are not in

the borrower’s interest. HOEPA’s

prohibition against extending credit

without regard to consumers’ repayment

ability is strengthened, and disclosures

received by consumers before closing

for HOEPA-covered loans are also

enhanced.

(2) Summary of public comment and

statement of changes—Significant

issues raised by the public comments in

response to the Board s proposal and

Initial Regulatory Flexibility Analysis

are described more fully in the

supplementary material provided above.

Section 103(f) of TILA provides that a

person becomes a creditor under TILA

if, during any twelve-month period, the

person originates more than one

HOEPA-covered loan, or one or more

HOEPA-covered loans through a

mortgage broker. In providing

protections to consumers whose

principal dwellings secure high-cost

mortgage loans, HOEPA did not create

different rules for large and small

creditors. Moreover, HOEPA sets forth

specific limitations on the Board’s

authority to exempt mortgage products

or categories of products from certain of

HOEPA’s requirements. See Section

129(l)(1) of TILA. Nevertheless, the

Board has analyzed comments and has

sought to minimize compliance burden

for all creditors by making

modifications to the proposal in the

following ways.

• Tiered APR trigger—The final rule

retains the current APR trigger for

subordinate-lien loans at 10 percentage

points above the rate for Treasury

securities having a comparable maturity.

The proposed across-the-board

reduction of the APR trigger to 8

percentage points for all loans

encompassed subordinate-lien loans

that fall between the 8 and 10

percentage point triggers. The final

revision to the APR trigger reduces the

impact of the rule on creditors that

choose not to extend HOEPA-covered

credit generally, and on those that make

small, short-term home-equity loans in

particular, where fixed origination costs

may significantly impact the APR.

• Safe-harbor for refinancings in the

‘‘borrower’s interest’’—The final rule

provides additional guidance on

creditors ability to refinance a HOEPA

loan into another HOEPA loan that is in

the borrower’s interest notwithstanding

the one-year general prohibition on such

refinancings. Creditors expressed

concern that the proposed

determination for meeting the

standard—the totality of the

circumstances—was too subjective, and

that as a result creditors would refrain

from making refinancings during the

one-year period to avoid litigation risk.

In addition to providing additional

guidance on refinancings that would be

in the borrower s interest, the final rule

permits creditors to make an additional

subordinate-lien HOEPA loan that is not

a refinancing to the same borrower.

• Low-cost loan refinancing—The

proposed prohibition against

refinancing certain low-cost loans is

withdrawn. The relatively low number

of borrowers with low-cost mortgage

loans that would benefit from the rule

appeared to be far outweighed by the

compliance burden for all home-equity

lenders.

• Tolerance for amount borrowed—

The final rule, as proposed, requires

creditors making HOEPA-covered

refinancings to include the face amount

of the note (‘‘amount borrowed’’) in the

HOEPA disclosures provided at least

three days before closing. If any term is

changed between the time the early

HOEPA disclosure is provided to the

consumer and consummation, and the

change makes the disclosure inaccurate,

new disclosures must be provided and

another three-day waiting period begins.

The final rule contains a small tolerance

for changes in the amount actually

borrowed of $100 above or below the

amount disclosed, and to the disclosed

regular payment as it is affected by the

disclosed amount borrowed. This

reduces redisclosure duties for creditors

making insignificant errors and

mitigates the economic impact of the

rule’s overall compliance burdens and

costs.

(3) Description of the small entities to

which the final rule would apply—The

number of lenders, large or small, likely

to be affected by the proposal is

unknown. In the June 2001 Call Report,

4,547 small banks (assets less than $100

million) had first-lien mortgage credit

outstanding, and 3,477 small banks had

junior-lien mortgage loans outstanding.

At the same time there were 228 small

thrifts that report to the Office of Thrift

Supervision which had closed-end first

mortgage credit and/or junior-lien loans

outstanding. The number of banks or

thrifts active in subprime lending or

HOEPA loans cannot be determined

from information in the Call Report.

There is no comprehensive listing of

consumer finance companies, but

informal industry contacts indicate that

there may be about 2,000 such

institutions nationwide. Most of these

companies are small entities, but

apparently many, perhaps most, of the

small institutions do not engage in

mortgage lending, preferring to

concentrate on unsecured lending and

sales finance. An unknown number of

small institutions do engage in mortgage

lending, but there is no comprehensive

listing of these institutions or estimate

of their number.

There also is no comprehensive

listing of mortgage banks or mortgage

65616 Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations

brokers, but informal discussions with

industry sources indicate that there are

more than 1,200 mortgage banking firms

with annual mortgage originations of

less than $100 million that are members

of a national trade association. Some of

these companies are primarily mortgage

servicing companies and generate few or

no new mortgages, but there is also an

unknown number of other mortgage

banks that do not belong to the

association.

The effect of expanding HOEPA

coverage on small entities is unknown.

The precise effect that adjusting the

triggers will have on creditors’ business

strategies is difficult to predict. As

discussed in the supplementary

information provided above, there is an

active market for HOEPA loans under

the current triggers. Some creditors that

choose not to make HOEPA loans may

withdraw from making loans in the

range of rates that would be covered by

the lowered threshold. Others creditors

may fill any void left by creditors that

choose not to make HOEPA loans. And

others may have the flexibility to avoid

HOEPA s coverage by lowering rates or

fees for some loans at the margins,

consistent with the risk involved.

(4) Reporting, recordkeeping, and

compliance requirements—The final

amendments: (1) Extend the protections

of HOEPA to more loans; (2) strengthen

HOEPA’s prohibition on loans based on

homeowners’ equity without regard to

repayment ability; (3) improve

disclosures received by consumers

before closing; and (4) prohibit certain

acts or practices, to address some ‘‘loan

flipping’’ within the first twelve months

of a HOEPA loan by prohibiting a

refinancing into another HOEPA loan to

the same borrower unless the

refinancing is in the borrower’s interest.

HOEPA applies to creditors that make

more than one HOEPA loan in a twelvemonth period. For firms engaged in

subprime lending, HOEPA’s existing

scope of coverage, its prohibition on

loans made without regard to

consumers’ repayment ability, and its

mandatory pre-closing disclosures

already require the professional skills

needed to comply with HOEPA. For

some creditors (or holders or servicers

of HOEPA loans) that seek to refinance

a HOEPA loan with the same borrower

into another HOEPA loan during a oneyear period after origination, some

recordkeeping adjustments may be

necessary. However, the Board believes

the burden will not be significant, since

each of these parties has records that

associate the borrower and the loan date

for purposes of the one-year prohibition.

Also, while the final rule imposes a new

requirement to document and verify

consumers’ repayment ability for

HOEPA loans, the Board believes that

creditors’ existing consideration of

safety and soundness issues and risk

assessment will result in little

additional burden to comply with the

new requirements.

Institutions that originate subprime

mortgages, including small entities, will

have to become aware of new

definitions that expand HOEPA

coverage, and as needed, will have to

comply with the additional disclosures

and other consumer protection

provisions that apply to HOEPA loans.

To comply with the final rule, then,

creditors will need, among other things,

to prepare disclosure forms, make

various operational changes, and train

staff. Professional skills needed to

comply with the final rule may include

clerical, computer systems, personnel

training, as well as legal advice, which

will require internal review and other

actions by programmers and systems

specialists, employee trainers, attorneys,

and senior managers. Significantly,

however, these skills are currently

required to comply with HOEPA’s

existing rules and are not new to

creditors both large and small. Creditors

can reasonably be expected to be able to

rely on current personnel for these

specialized skills and thus not

experience undue compliance burden.

(5) Significant alternatives to the final

rule—As explained above, the final rule

is adopted substantially as proposed to

address predatory lending and unfair

practices in the home-equity market,

and contains several revisions to reflect

suggestions or alternatives

recommended by commenters.

Specifically, the adoption of a ‘‘tiered’’

APR trigger, the inclusion of a tolerance

for insignificant errors in disclosing the

amount borrowed, the additional

guidance for meeting the ‘‘borrower’s

interest’’ standard under the refinancing

restriction, and the withdrawal of the

‘‘low-cost loan’’ refinancing prohibition,

all reflect an effort to incorporate

practical measures to reduce

compliance burdens for creditors. The

supplementary information provided

above discusses other alternatives

suggested by commenters. The rule’s

amendments are issued pursuant to the

Board’s authority under TILA to adjust

the scope of mortgage loans covered by

HOEPA, to prohibit certain acts or

practices affecting mortgage loans or

refinancings, to effectuate the purposes

of TILA, to prevent circumvention or

evasion, or to facilitate compliance. The

amendments are intended to target

unfair or abusive lending practices

without unduly interfering with the

flow of credit, creating unnecessary

credit burden, or narrowing consumers’

options in legitimate credit transactions.

The final rule contains specific

modifications to the proposed rule that

reduce regulatory burden.

V. Paperwork Reduction Act

In accordance with the Paperwork

Reduction Act of 1995 (44 U.S.C. 3506;

5 CFR 1320 Appendix A.1), the Board

reviewed the rule under the authority

delegated to the Board by the Office of

Management and Budget. The Federal

Reserve may not conduct or sponsor,

and an organization is not required to

respond to, this information collection

unless it displays a currently valid OMB

control number. The OMB control

number is 7100–0199.

The collection of information that is

revised by this rulemaking is found in

12 CFR part 226 and in Appendices F,

G, H, J, K, and L. This information is

mandatory (15 U.S.C. 1601 et seq.) to

evidence compliance with the

requirements of Regulation Z and the

Truth in Lending Act (TILA). The

respondents/recordkeepers are all types

of creditors, among which are small

businesses. Under the Paperwork

Reduction Act, the Federal Reserve

accounts for the paperwork burden

associated with Regulation Z only for

state member banks, their subsidiaries,

and subsidiaries of bank holding

companies (not otherwise regulated).

Other agencies account for the

paperwork burden on their respective

constituencies under this regulation.

Institutions are required to retain

records for twenty-four months.

The final rule broadens HOEPA’s

coverage (by lowering the APR trigger

for first-lien loans by 2 percentage

points and adding certain costs to the

fee-based trigger) and revises a

disclosure currently required by

§ 226.32 of Regulation Z. The revised

disclosure covers refinancings subject to

HOEPA and states the total amount of

the borrower’s obligation and whether

optional credit insurance or debtcancellation coverage is included in the

amount borrowed (§ 226.32(c)(5)).

Model Form H–16 illustrates this

revised disclosure. The burden of

revising the disclosure should be

minimal because most institutions use

software that automatically generates

model forms such as Model Form H–16.

The changes to the triggers also should

impose minimal burden because the

changes generally will require only a

one-time reprogramming of systems.

With respect to state member banks,

it is estimated that there are 976

respondent/recordkeepers and an

average frequency of 136,294 responses

per respondent each year for Regulation

Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations 65617

Z. Therefore, the total annual burden

under the regulation for all state

member banks is estimated to be

1,841,118 hours. In the Federal

Reserve’s April 2001 Paperwork

Reduction Act submission to OMB

addressing the electronic disclosures

interim rule, the Federal Reserve stated

its belief that state member banks do not

typically offer the type of loans that

would require HOEPA disclosures and

that these disclosures had a negligible

effect on the paperwork burden for state

member banks. Lowering the APR

trigger by 2 percentage points could,

however, result in higher burden for the

few state member banks that choose to

make these loans. Because little

information is available about the actual

number of loans that will be affected by

the coverage change the Federal Reserve

is not changing its current burden

estimates cited above. The Federal

Reserve will, however, solicit more

burden comments and re-estimate the

burden associated with the HOEPA

requirements in Regulation Z in the next

triennial PRA review (during the fourth

quarter 2002). The Federal Reserve also

estimates the one-time cost burden for

programming systems with the revised

disclosures and updating systems with

the new triggers to be $135,000 per

bank, on average.

Because the records are maintained at

state member banks and the notices are

not provided to the Federal Reserve, no

issue of confidentiality under the

Freedom of Information Act arises;

however, any information obtained by

the Federal Reserve may be protected

from disclosure under exemptions

(b)(4), (6), and (8) of the Freedom of

Information Act (5 U.S.C. 522 (b)(4), (6)

and (8)). The disclosures and

information about error allegations are

confidential between creditors and the

customer.

The Federal Reserve 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.

List of Subjects in 12 CFR Part 226

Advertising, Federal Reserve System,

Mortgages, Reporting and recordkeeping

requirements, Truth in lending.

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

continues to read as follows:

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

and 1637(c)(5).

Subpart A—General

2. Section 226.1 is amended by:

a. Revising paragraph (b); and

b. Revising paragraph (d)(5).

§ 226.1 Authority, purpose, coverage,

organization, enforcement and liability.

* * * * *

(b) Purpose. The purpose of this

regulation is to promote the informed

use of consumer credit by requiring

disclosures about its terms and cost. The

regulation also gives consumers the

right to cancel certain credit

transactions that involve a lien on a

consumer’s principal dwelling,

regulates certain credit card practices,

and provides a means for fair and timely

resolution of credit billing disputes. The

regulation does not govern charges for

consumer credit. The regulation

requires a maximum interest rate to be

stated in variable-rate contracts secured

by the consumer’s dwelling. It also

imposes limitations on home equity

plans that are subject to the

requirements of § 226.5b and mortgages

that are subject to the requirements of

§ 226.32. The regulation prohibits

certain acts or practices in connection

with credit secured by a consumer’s

principal dwelling.

* * * * *

(d) Organization. ***

(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.

* * * * *

Subpart E—Special Rules for Certain

Home Mortgage Transactions

3. Section 226.32 is amended by:

a. Republishing paragraph (a)(1)

introductory text and revising paragraph

(a)(1)(i);

b. Republishing paragraph (b)

introductory text and revising paragraph

(b)(1);

c. Revising paragraph (c) introductory

text, revising paragraph (c)(3), and

adding paragraph (c)(5);

d. Revising paragraph (d) introductory

text and adding paragraph (d)(8); and

e. Removing paragraph (e).

§ 226.32 Requirements for certain closedend home mortgages.

(a) Coverage. (1) Except as provided in

paragraph (a)(2) of this section, the

requirements of this section apply to a

consumer credit transaction that is

secured by the consumer’s principal

dwelling, and in which either:

(i) The annual percentage rate at

consummation will exceed by more

than 8 percentage points for first-lien

loans, or by more than 10 percentage

points for subordinate-lien loans, the

yield on Treasury securities having

comparable periods of maturity to the

loan maturity as of the fifteenth day of

the month immediately preceding the

month in which the application for the

extension of credit is received by the

creditor; or

* * * * *

(b) Definitions. For purposes of this

subpart, the following definitions apply:

(1) For purposes of paragraph (a)(1)(ii)

of this section, points and fees means:

(i) All items required to be disclosed

under § 226.4(a) and 226.4(b), except

interest or the time-price differential;

(ii) All compensation paid to

mortgage brokers;

(iii) All items listed in § 226.4(c)(7)

(other than amounts held for future

payment of taxes) unless the charge is

reasonable, the creditor receives no

direct or indirect compensation in

connection with the charge, and the

charge is not paid to an affiliate of the

creditor; and

(iv) Premiums or other charges for

credit life, accident, health, or loss-ofincome insurance, or debt-cancellation

coverage (whether or not the debtcancellation coverage is insurance

under applicable law) that provides for

cancellation of all or part of the

consumer’s liability in the event of the

loss of life, health, or income or in the

case of accident, written in connection

with the credit transaction.

* * * * *

(c) Disclosures. In addition to other

disclosures required by this part, in a

mortgage subject to this section, the

creditor shall disclose the following in

conspicuous type size:

* * * * *

(3) Regular payment; balloon

payment. The amount of the regular

monthly (or other periodic) payment

and the amount of any balloon payment.

The regular payment disclosed under

this paragraph shall be treated as

accurate if it is based on an amount

borrowed that is deemed accurate and is

65618 Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations

disclosed under paragraph (c)(5) of this

section.

* * * * *

(5) Amount borrowed. For a mortgage

refinancing, the total amount the

consumer will borrow, as reflected by

the face amount of the note; and where

the amount borrowed includes

premiums or other charges for optional

credit insurance or debt-cancellation

coverage, that fact shall be stated,

grouped together with the disclosure of

the amount borrowed. The disclosure of

the amount borrowed shall be treated as

accurate if it is not more than $100

above or below the amount required to

be disclosed.

(d) Limitations. A mortgage

transaction subject to this section shall

not include the following terms:

* * * * *

(8) Due-on-demand clause. A demand

feature that permits the creditor to

terminate the loan in advance of the

original maturity date and to demand

repayment of the entire outstanding

balance, except in the following

circumstances:

(i) There is fraud or material

misrepresentation by the consumer in

connection with the loan;

(ii) The consumer fails to meet the

repayment terms of the agreement for

any outstanding balance; or

(iii) There is any action or inaction by

the consumer that adversely affects the

creditor’s security for the loan, or any

right of the creditor in such security.

* * * * *

4. A new § 226.34 is added to subpart

E to read as follows:

§ 226.34 Prohibited acts or practices in

connection with credit secured by a

consumer’s dwelling.

(a) Prohibited acts or practices for

loans subject to § 226.32. A creditor

extending mortgage credit subject to

§ 226.32 shall not—

(1) Home improvement contracts. Pay

a contractor under a home improvement

contract from the proceeds of a mortgage

covered by § 226.32, other than:

(i) By an instrument payable to the

consumer or jointly to the consumer and

the contractor; or

(ii) At the election of the consumer,

through a third-party escrow agent in

accordance with terms established in a

written agreement signed by the

consumer, the creditor, and the

contractor prior to the disbursement.

(2) Notice to assignee. Sell or

otherwise assign a mortgage subject to

§ 226.32 without furnishing the

following statement to the purchaser or

assignee: ‘‘Notice: This is a mortgage

subject to special rules under the federal

Truth in Lending Act. Purchasers or

assignees of this mortgage could be

liable for all claims and defenses with

respect to the mortgage that the

borrower could assert against the

creditor.’’

(3) Refinancings within one-year

period. Within one year of having

extended credit subject to § 226.32,

refinance any loan subject to § 226.32 to

the same borrower into another loan

subject to § 226.32, unless the

refinancing is in the borrower’s interest.

An assignee holding or servicing an

extension of mortgage credit subject to

§ 226.32, shall not, for the remainder of

the one-year period following the date

of origination of the credit, refinance

any loan subject to § 226.32 to the same

borrower into another loan subject to

§ 226.32, unless the refinancing is in the

borrower’s interest. A creditor (or

assignee) is prohibited from engaging in

acts or practices to evade this provision,

including a pattern or practice of

arranging for the refinancing of its own

loans by affiliated or unaffiliated

creditors, or modifying a loan agreement

(whether or not the existing loan is

satisfied and replaced by the new loan)

and charging a fee.

(4) Repayment ability. Engage in a

pattern or practice of extending credit

subject to § 226.32 to a consumer 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. There is a

presumption that a creditor has violated

this paragraph (a)(4) if the creditor

engages in a pattern or practice of

making loans subject to § 226.32

without verifying and documenting

consumers’ repayment ability.

(b) Prohibited acts or practices for

dwelling-secured loans; open-end credit.

In connection with credit secured by the

consumer’s dwelling that does not meet

the definition in § 226.2(a)(20), a

creditor shall not structure a homesecured loan as an open-end plan to

evade the requirements of § 226.32.

5. Appendix H to Part 226 is amended

by revising Model Form H–16 to read as

follows:

Appendix H to Part 226X—Closed-End

Model Forms and Clauses

* * * * *

BILLING CODE 6210–01–P

Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations 65619

BILLING CODE 6210–01–C

65620 Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations

6. In Supplement I to Part 226, the

following amendments are made:

a. Under Section 226.31—General

Rules, under Paragraph 31(c)(1)(i),

paragraph 2. is added;

b. Under Section 226.32—

Requirements for Certain Closed-End

Home Mortgages, under Paragraph

32(a)(1)(ii), paragraph 1. introductory

text is revised and 1.iv. is added;

c. Under Section 226.32—

Requirements for Certain Closed-End

Home Mortgages, a new heading

Paragraph 32(b)(1)(iv) is added and a

new paragraph 1. is added;

d. Under Section 226.32—

Requirements for Certain Closed-End

Home Mortgages, under Paragraph 32(c)(3),

the heading is revised, paragraph 1. is

revised and paragraph 2. is removed;

and a new heading Paragraph 32(c)(5) is

added and a new paragraph 1. is added.

e. Under Section 226.32—

Requirements for Certain Closed-End

Home Mortgages, a new heading

Paragraph 32(d)(8) is added; a new

heading Paragraph 32(d)(8)(ii) is added

and a new paragraph 1. is added; and a

new heading Paragraph 32(d)(8)(iii) is

added and new paragraphs 1. and 2. are

added.

f. Under Section 226.32—

Requirements for Certain Closed-End

Home Mortgages, 32(e) Prohibited Acts

and Practices is removed;

g. Under subpart E, a new Section

226.34—Prohibited Acts or Practices in

Connection with Credit Secured by a

Consumer’s Dwelling; Open-end Credit

is added; and

h. Under Appendix H—Closed-End

Model Forms and Clauses, paragraphs

20. through 23. are redesignated as

paragraphs 21. through 24., and new

paragraph 20. is added.

The additions and revisions read as

follows:

Supplement I to Part 226 Official Staff

Interpretations

* * * * *

Subpart E—Special Rules for Certain

Home Mortgage Transactions

Section 226.31—General Rules

* * * * *

31(c) Timing of disclosure.

* * * * *

Paragraph 31(c)(1)(i) Change in terms.

* * * * *

2. Sale of optional products at

consummation. If the consumer

finances the purchase of optional

products such as credit insurance and as

a result the monthly payment differs

from what was previously disclosed

under § 226.32, redisclosure is required

and a new three-day waiting period

applies. (See comment 32(c)(3)–1 on

when optional items may be included in

the regular payment disclosure.)

* * * * *

Section 226.32—Requirements for

Certain Closed-End Home Mortgages

32(a) Coverage.

* * * * *

Paragraph 32(a)(1)(ii).

1. Total loan amount. For purposes of

the ‘‘points and fees’’ test, the total loan

amount is calculated by taking the

amount financed, as determined

according to § 226.18(b), and deducting

any cost listed in § 226.32(b)(1)(iii) and

§ 226.32(b)(1)(iv) that is both included

as points and fees under § 226.32(b)(1)

and financed by the creditor. Some

examples follow, each using a $10,000

amount borrowed, a $300 appraisal fee,

and $400 in points. A $500 premium for

optional credit life insurance is used in

one example.

* * * * *

iv. If the consumer finances a $300 fee

for a creditor-conducted appraisal and a

$500 single premium for optional credit

life insurance, and pays $400 in points

at closing, the amount financed under

§ 226.18(b) is $10,400 ($10,000, plus the

$300 appraisal fee that is paid to and

financed by the creditor, plus the $500

insurance premium that is financed by

the creditor, less $400 in prepaid

finance charges). The $300 appraisal fee

paid to the creditor is added to other

points and fees under § 226.32(b)(1)(iii),

and the $500 insurance premium is

added under 226.32(b)(1)(iv). The $300

and $500 costs are deducted from the

amount financed ($10,400) to derive a

total loan amount of $9,600.

* * * * *

32(b) Definitions.

* * * * *

Paragraph 32(b)(1)(iv).

1. Premium amount. In determining

‘‘points and fees’’ for purposes of this

section, premiums paid at or before

closing for credit insurance are included

whether they are paid in cash or

financed, and whether the amount

represents the entire premium for the

coverage or an initial payment.

* * * * *

32(c) Disclosures.

* * * * *

Paragraph 32(c)(3) Regular payment;

balloon payment.

1. General. The regular payment is the

amount due from the borrower at

regular intervals, such as monthly,

bimonthly, quarterly, or annually. There

must be at least two payments, and the

payments must be in an amount and at

such intervals that they fully amortize

the amount owed. In disclosing the

regular payment, creditors may rely on

the rules set forth in § 226.18(g);

however, the amounts for voluntary

items, such as credit life insurance, may

be included in the regular payment

disclosure only if the consumer has

previously agreed to the amounts.

* * * * *

Paragraph 32(c)(5) Amount borrowed.

1. Optional insurance; debtcancellation coverage. This disclosure is

required when the amount borrowed in

a refinancing includes premiums or

other charges for credit life, accident,

health, or loss-of-income insurance, or

debt-cancellation coverage (whether or

not the debt-cancellation coverage is

insurance under applicable law) that

provides for cancellation of all or part

of the consumer’s liability in the event

of the loss of life, health, or income or

in the case of accident. See comment

4(d)(3)–2 and comment app. G and H–

2 regarding terminology for debtcancellation coverage.

32(d) Limitations.

* * * * *

32(d)(8) Due-on-demand clause.

Paragraph 32(d)(8)(ii).

1. Failure to meet repayment terms. A

creditor may terminate a loan and

accelerate the balance when the

consumer fails to meet the repayment

terms provided for in the agreement; a

creditor may do so, however, only if the

consumer actually fails to make

payments. For example, a creditor may

not terminate and accelerate if the

consumer, in error, sends a payment to

the wrong location, such as a branch

rather than the main office of the

creditor. If a consumer files for or is

placed in bankruptcy, the creditor may

terminate and accelerate under this

provision if the consumer fails to meet

the repayment terms of the agreement.

Section 226.32(d)(8)(ii) does not

override any state or other law that

requires a creditor to notify a borrower

of a right to cure, or otherwise places a

duty on the creditor before it can

terminate a loan and accelerate the

balance.

Paragraph 32(d)(8)(iii).

1. Impairment of security. A creditor

may terminate a loan and accelerate the

balance if the consumer’s action or

inaction adversely affects the creditor’s

security for the loan, or any right of the

creditor in that security. Action or

inaction by third parties does not, in

itself, permit the creditor to terminate

and accelerate.

2. Examples. i. A creditor may

terminate and accelerate, for example,

if:

Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations 65621

A. The consumer transfers title to the

property or sells the property without

the permission of the creditor.

B. The consumer fails to maintain

required insurance on the dwelling.

C. The consumer fails to pay taxes on

the property.

D. The consumer permits the filing of

a lien senior to that held by the creditor.

E. The sole consumer obligated on the

credit dies.

F. The property is taken through

eminent domain.

G. A prior lienholder forecloses.

ii. By contrast, the filing of a judgment

against the consumer would permit

termination and acceleration only if the

amount of the judgment and collateral

subject to the judgment is such that the

creditor’s security is adversely affected.

If the consumer commits waste or

otherwise destructively uses or fails to

maintain the property such that the

action adversely affects the security, the

loan may be terminated and the balance

accelerated. Illegal use of the property

by the consumer would permit

termination and acceleration if it

subjects the property to seizure. If one

of two consumers obligated on a loan

dies, the creditor may terminate the loan

and accelerate the balance if the security

is adversely affected. If the consumer

moves out of the dwelling that secures

the loan and that action adversely

affects the security, the creditor may

terminate a loan and accelerate the

balance.

* * * * *

Section 226.34—Prohibited Acts or

Practices in Connection with Credit

Secured by a Consumer s Dwelling;

Open-end Credit

34(a) Prohibited acts or practices for

loans subject to § 226.32.

Paragraph 34(a)(1) Homeimprovement contracts.

Paragraph 34(a)(1)(i).

1. Joint payees. If a creditor pays a

contractor with an instrument jointly

payable to the contractor and the

consumer, the instrument must name as

payee each consumer who is primarily

obligated on the note.

Paragraph 34(a)(2) Notice to Assignee.

1. Subsequent sellers or assignors.

Any person, whether or not the original

creditor, that sells or assigns a mortgage

subject to § 226.32 must furnish the

notice of potential liability to the

purchaser or assignee.

2. Format. While the notice of

potential liability need not be in any

particular format, the notice must be

prominent. Placing it on the face of the

note, such as with a stamp, is one means

of satisfying the prominence

requirement.

3. Assignee liability. Pursuant to

section 131(d) of the act, the act’s

general holder-in-due course protections

do not apply to purchasers and

assignees of loans covered by § 226.32.

For such loans, a purchaser’s or other

assignee’s liability for all claims and

defenses that the consumer could assert

against the creditor is not limited to

violations of the act.

Paragraph 34(a)(3) Refinancings

within one-year period.

1. In the borrower’s interest. The

determination of whether or not a

refinancing covered by § 226.34(a)(3) is

in the borrower’s interest is based on the

totality of the circumstances, at the time

the credit is extended. A written

statement by the borrower that ‘‘this

loan is in my interest’’ alone does not

meet this standard.

i. A refinancing would be in the

borrower’s interest if needed to meet the

borrower’s ‘‘bona fide personal financial

emergency’’ (see generally § 226.23(e)

and § 226.31(c)(1)(iii)).

ii. In connection with a refinancing

that provides additional funds to the

borrower, in determining whether a loan

is in the borrower’s interest

consideration should be given to

whether the loan fees and charges are

commensurate with the amount of new

funds advanced, and whether the real

estate-related charges are bona fide and

reasonable in amount (see generally

§ 226.4(c)(7)).

2. Application of the one-year

refinancing prohibition to creditors and

assignees. The prohibition in

§ 226.34(a)(3) applies where an

extension of credit subject to § 226.32 is

refinanced into another loan subject to

§ 226.32. The prohibition is illustrated

by the following examples. Assume that

Creditor A makes a loan subject to

§ 226.32 on January 15, 2003, secured by

a first lien; this loan is assigned to

Creditor B on February 15, 2003:

i. Creditor A is prohibited from

refinancing the January 2003 loan (or

any other loan subject to § 226.32 to the

same borrower) into a loan subject to

§ 226.32, until January 15, 2004.

Creditor B is restricted until January 15,

2004, or such date prior to January 15,

2004 that Creditor B ceases to hold or

service the loan. During the prohibition

period, Creditors A and B may make a

subordinate lien loan that does not

refinance a loan subject to § 226.32.

Assume that on April 1, 2003, Creditor

A makes but does not assign a secondlien loan subject to § 226.32. In that

case, Creditor A would be prohibited

from refinancing either the first-lien or

second-lien loans (or any other loans to

that borrower subject to § 226.32) into

another loan subject to § 226.32 until

April 1, 2004.

ii. The loan made by Creditor A on

January 15, 2003 (and assigned to

Creditor B) may be refinanced by

Creditor C at any time. If Creditor C

refinances this loan on March 1, 2003

into a new loan subject to § 226.32,

Creditor A is prohibited from

refinancing the loan made by Creditor C

(or any other loan subject to § 226.32 to

the same borrower) into another loan

subject to § 226.32 until January 15,

2004. Creditor C is similarly prohibited

from refinancing any loan subject to

§ 226.32 to that borrower into another

until March 1, 2004. (The limitations of

§ 226.34(a)(3) no longer apply to

Creditor B after Creditor C refinanced

the January 2003 loan and Creditor B

ceased to hold or service the loan.)

Paragraph 34(a)(4) Repayment ability.

1. Income. Any expected income can

be considered by the creditor, except

equity income that would be realized

from collateral. For example, a creditor

may use information about income other

than regular salary or wages such as

gifts, expected retirement payments, or

income from self-employment, such as

housecleaning or childcare.

2. Pattern or practice of extending

credit—repayment ability. Whether a

creditor is engaging or has engaged in a

pattern or practice of violations of this

section depends on the totality of the

circumstances in the particular case.

While a pattern or practice is not

established by isolated, random, or

accidental acts, it can be established

without the use of a statistical process.

In addition, a creditor might act under

a lending policy (whether written or

unwritten) and that action alone could

establish a pattern or practice of making

loans in violation of this section.

3. Discounted introductory rates. In

transactions where the creditor sets an

initial interest rate to be adjusted later

(whether fixed or to be determined by

an index or formula), in determining

repayment ability the creditor must

consider the consumer’s ability to make

loan payments based on the nondiscounted or fully-indexed rate at the

time of consummation.

4. Verifying and documenting income

and obligations. Creditors may verify

and document a consumer’s repayment

ability in various ways. A creditor may

verify and document a consumer’s

income and current obligations through

any reliable source that provides the

creditor with a reasonable basis for

believing that there are sufficient funds

to support the loan. Reliable sources

include, but are not limited to, a credit

report, tax returns, pension statements,

65622 Federal Register / Vol. 66, No. 245 / Thursday, December 20, 2001 / Rules and Regulations

and payment records for employment

income.

Paragraph 34(b) Prohibited acts or

practices for dwelling-secured loans;

open-end credit.

1. Amount of credit extended. Where

a loan is documented as open-end credit

but the features and terms or other

circumstances demonstrate that it does

not meet the definition of open-end

credit, the loan is subject to the rules for

closed-end credit, including § 226.32 if

the rate or fee trigger is met. In applying

the triggers under § 226.32, the ‘‘amount

financed,’’ including the ‘‘principal loan

amount’’ must be determined. In making

the determination, the amount of credit

that would have been extended if the

loan had been documented as a closedend loan is a factual determination to be

made in each case. Factors to be

considered include the amount of

money the consumer originally

requested, the amount of the first

advance or the highest outstanding

balance, or the amount of the credit line.

The full amount of the credit line is

considered only to the extent that it is

reasonable to expect that the consumer

might use the full amount of credit.

* * * * *

Appendix H—Closed-End Model Forms

and Clauses

* * * * *

20. Sample H–16. This sample illustrates

the disclosures required under § 226.32(c).

The sample illustrates the amount borrowed

and the disclosures about optional insurance

that are required for mortgage refinancings

under § 226.32(c)(5). Creditors may, at their

option, include these disclosures for all loans

subject to § 226.32. The sample also includes

disclosures required under § 226.32(c)(3)

when the legal obligation includes a balloon

payment.

* * * * *

By order of the Board of Governors of the

Federal Reserve System, December 14, 2001.

Jennifer J. Johnson,

Secretary of the Board.

[FR Doc. 01–31264 Filed 12–19–01; 8:45 am]

BILLING CODE 6210–01–P

NATIONAL CREDIT UNION

ADMINISTRATION

12 CFR Parts 700, 701, 712, 715, 723,

725, and 790

Definitions; Organization and

Operation of Federal Credit Unions;

Credit Union Service Corporations;

Supervisory Committee Audits and

Verifications; Member Business

Loans; Central Liquidity Facility;

Description of NCUA

AGENCY: National Credit Union

Administration (NCUA).

ACTION: Final rule.

SUMMARY: NCUA is issuing a final rule

to amend various rules to make

technical corrections and add and revise

certain definitions. The Board is adding

a scope section and definitions of ‘‘paidin and unimpaired capital and surplus’’

and ‘‘unimpaired capital and surplus’’

to its rule containing definitions. The

Board also is removing obsolete

references from this rule and updating

the rule concerning changes in officials

of newly chartered or troubled credit

unions. The Board is correcting a

citation in the supervisory committee

rule and making clarifications to the

credit union service organization

(CUSO) rule and the member business

loan rule. In addition, the Board is

updating and clarifying the definition

for ‘‘paid-in and unimpaired capital and

surplus’’ in the Central Liquidity

Facility (CLF) rule. Finally, the Board is

changing a reference in Part 790 from

the ‘‘Office of Community Development

Credit Unions’’ to the ‘‘Office of Credit

Union Development.’’

DATES: This rule is effective January 22,

2002.

FOR FURTHER INFORMATION CONTACT:

Regina Metz, Staff Attorney, Division of

Operations, Office of General Counsel,

at the National Credit Union

Administration, 1775 Duke Street,

Alexandria, Virginia 22314–3428, or

telephone: (703) 518–6561; or Herbert S.

Yolles, Deputy Director, Office of

Examination and Insurance, at the same

address or telephone: (703) 518–6360.

SUPPLEMENTARY INFORMATION:

Background

On June 21, 2001, NCUA issued a

proposed rule on definitions and

technical corrections. 66 FR 33211, June

21, 2001. The proposed rule resulted

from NCUA’s policy of continually

reviewing its regulations to ‘‘update,

clarify and simplify existing regulations

and eliminate redundant and

unnecessary provisions.’’ Interpretive

Rulings and Policy Statement (IRPS) 87–

2, Developing and Reviewing

Government Regulations. The NCUA

Board is issuing the final rule

unchanged from the proposed rule.

The proposed rule replaced obsolete

references in two parts of NCUA’s

regulations related with new references

to prompt corrective action, section 216

of the Federal Credit Union Act. 12 CFR

700.1, 701.14. In the definitions part of

the regulations, the proposed rule added

a scope section and definitions for

‘‘paid-in and unimpaired capital and

surplus’’ and ‘‘unimpaired capital and

surplus.’’ 12 CFR part 700. The

proposed rule conformed definitions of

paid-in and unimpaired capital and

surplus in the CUSO and CLF rules to

the proposed definitions in the

definitions part. 12 CFR 712.2(d); 12

CFR 725.2(o). The proposed rule also

corrected a citation in the supervisory

committee audit rule and clarified the

member business loan rule by changing

a reference from ‘‘federally insured

credit unions’’ to ‘‘federally insured

state-chartered credit unions.’’ 12 CFR

715.2(l), 723.4. The proposed rule also

updated NCUA’s regulations by

changing a reference in Part 790 from

the ‘‘Office of Community Development

Credit Unions’’ to the office’s new

name, the ‘‘Office of Credit Union

Development.’’ The NCUA Board is

adopting all the proposed changes in the

final rule.

Summary of Comments

The NCUA Board requested comment

on all aspects of the proposed rule and

received three comment letters: One

from a national trade association, one

from a state trade association, and one

from a federal credit union (FCU). The

two trade associations supported the

proposal without qualification. The FCU

offered a substantive comment regarding

the definition of ‘‘paid-in and

unimpaired capital and surplus,’’

discussed below. NCUA received no

comment on the other provisions in the

proposed rule. This preamble does not

repeat discussions from the proposal for

those provisions and the NCUA Board

has adopted them as proposed.

‘‘Paid-in and Unimpaired Capital and

Surplus’’ and ‘‘Unimpaired Capital and

Surplus’’

To improve the clarity of NCUA’s

regulations, the Board proposed to

include definitions for ‘‘paid-in and

unimpaired capital and surplus’’ and

‘‘unimpaired capital and surplus’’ in the

general definitions part of the

regulations. The proposed rule defined

‘‘unimpaired capital and surplus’’ as

meaning the same as ‘‘paid-in and

unimpaired capital and surplus’’ and