The primary mortgage market features a variety of loan products and relies, in part, on the process of securitization to provide funds for mortgage lending. Over the years, a number of federal and state laws and regulations were implemented to protect mortgage borrowers. In 2007, the bill was introduced to strengthen consumer protections and included provisions that would have created a safe harbor for loans that met certain requirements. The primary mortgage market has several segments and offers a range of loan products: The prime market serves borrowers with strong credit histories and provides the most attractive interest rates and mortgage terms. The Alt-A market generally serves borrowers whose credit histories are close to prime, but the loans often have one or more higher-risk features, such as limited documentation of income or assets. The subprime market generally serves borrowers with blemished credit and features higher interest rates and fees than the prime market. Finally, the government-insured or -guaranteed market primarily serves borrowers who may have difficulty qualifying for prime mortgages but features interest rates competitive with prime loans in return for payment of insurance premiums or guarantee fees. HUD’s Federal Housing Administration (FHA) and the Department of Veterans Affairs (VA) operate the two main federal programs that insure or guarantee mortgages. Across all of these market segments, two types of loans are common: fixed-rate mortgages, which have interest rates that do not change over the life of the loans and adjustable-rate mortgages (ARM), which have interest rates that change periodically based on changes in a specified index. Other more unique loan products, referred to as nontraditional mortgage products, grew in popularity over the last decade (see table 1). Hybrid ARMs—which are fixed for a given period and then reset to an adjustable rate—also became popular in recent years, especially in the subprime market. In particular, a significant portion of subprime loans originated from 2003 through 2006 were 2/28 or 3/27 hybrid ARMs—that is, they were fixed for the first 2 or 3 years before resetting to often much higher interest rates and correspondingly higher mortgage payments. Other nontraditional mortgage products included interest-only or payment- option loans, which allowed borrowers to defer repayment of principal and possibly part of the interest for the first few years of the loan. A number of loan features also became more common over the past decade. While these features potentially expanded access to mortgage credit, they are often associated with higher default rates. These features included the following: Low and no-documentation loans. Originally intended for borrowers who had difficulty documenting income, such as the self-employed, these loans were made with little or no verification of a borrower’s income or assets. High loan-to-value (LTV) ratios. As homebuyers made smaller down payments, the ratio of loan amount to home value increased. Prepayment penalties. Some loans contained built-in penalties for repaying part or all of a loan in advance of the regular schedule. Many loans were originated with a number of these features, a practice known as risk layering. The secondary mortgage market and the process of securitization play important roles in providing liquidity for mortgage lending. Mortgage lenders originate and then sell their loans to third parties, freeing up funds to originate more loans. Securitization, in this context, is the bundling of mortgage loans into investment products called residential MBS that are bought and sold by investors. The secondary market consists of (1) Ginnie Mae-guaranteed MBS, which are backed by cash flows from federally- insured or -guaranteed mortgages; (2) government-sponsored enterprise (GSE) MBS, which are backed by mortgages that meet the criteria for purchase by Fannie Mae and Freddie Mac; and (3) private label MBS, which are backed by mortgages that do not conform to GSE purchase requirements because they are too large or do not meet GSE underwriting criteria. Investment banks have traditionally bundled most subprime and Alt-A loans into private label MBS, although since 2007, the market has slowed dramatically. The Truth in Lending Act (TILA), which was enacted in 1968, and the Home Ownership and Equity Protection Act of 1994 (HOEPA), which amended TILA in 1994, are among the primary federal laws governing mortgage lending. TILA was designed to provide consumers with accurate information about the cost of credit. Among other things, TILA requires lenders to disclose information about the terms of loans— including the amount financed, the finance charge, and the annual percentage rate (APR)—that can help borrowers understand the overall costs of their loans. Congress enacted HOEPA to amend TILA, in response to concerns about predatory lending. HOEPA regulates and restricts the terms and characteristics of certain kinds of high-cost mortgage loans that exceed certain thresholds in their APRs or fees (often referred to as “rate and fee triggers”). The Board of Governors of the Federal Reserve System (Federal Reserve) implements TILA and HOEPA through Regulation Z, which was amended in 2001 and 2008 with respect to high-cost lending. As a result of the most recent rulemaking in 2008, Regulation Z will restrict mortgage lending in the following ways, as of October 1, 2009: Higher-priced loans: First-lien loans with APRs that equal or exceed an index of average prime offer rates by 1.5 percentage points above an index of average prime offer rates—a category meant to include virtually all loans in the subprime market, but generally exclude loans in the prime market—are called “higher-priced mortgage loans.” Creditors are prohibited from making these loans without regard to the borrower’s ability to repay from income and assets other than the home’s value, and creditors must verify the income and assets they rely upon to determine a borrower’s repayment ability. Also, prepayment penalties are prohibited for these loans if the payment can change in the first 4 years of the loan; for loans where the payment is fixed for at least the first 4 years, prepayment penalties are limited to 2 years. In addition, creditors must establish escrow accounts for this category of loans for property taxes and homeowners’ insurance. High-cost HOEPA loans: First-lien loans with APRs that exceed the yield on Treasury securities of comparable maturity by more than 8 percentage points or with total points and fees that exceed the greater of 8 percent of the loan amount or $583, are called “high-cost HOEPA loans.” For these loans, the law restricts prepayment penalties, prohibits balloon payments (i.e., a large balance due at maturity of the loan term) for loans with terms of less than 5 years, prohibits negative amortization, and contains certain other restrictions on loan terms or payments. General provisions: For all loans, regardless of whether they fall into one of the above categories, Regulation Z includes a number of basic disclosure requirements and prohibits certain activities considered to be unfair, deceptive, misleading, abusive, or otherwise problematic, such as coercing a real estate appraiser to misstate a home’s value, and abusive collection practices by loan servicers. Each federal banking regulator is charged with enforcing TILA and HOEPA with respect to the depository institutions it regulates, and the FTC has responsibility for enforcing the statutes for mortgage brokers and most financial entities other than banks, thrifts, and federal credit unions. The Federal Reserve has concurrent authority to enforce T and HOEPA for non-bank subsidiaries of bank holding companie s. In addition to TILA and HOEPA, some other federal laws govern aspects of mortgage lending. For example, the Real Estate Settlement Procedures Act (RESPA), passed in 1974, seeks to protect consumers from unnecessarily high charges in the settlement of residential mortgages by requiring lenders to disclose details of the costs of settling a loan and by prohibiting kickbacks (payments made in exchange for referring a settlement service) and other costs. HUD has primary rule-writing authority and is responsible for enforcing RESPA. HUD coordinates on RESPA issues, as it deems appropriate, with federal banking regulators and other federal agencies, such as the FTC and the Department of Justice. In addition, the federal banking agencies, under section 8 of the Federal Deposit Insurance Act, examine for and enforce compliance with RESPA’s requirements with respect to the institutions they supervise. Finally, the Federal Deposit Insurance Act and Federal Credit Union Act allow federal banking regulators to use their supervisory and enforcement authorities to ensure that an institution’s conduct with respect to consumer protection laws does not affect its safety and soundness or that of an affiliated institution. In conjunction with enforcing federal statutes, federal banking regulators have issued guidance to their institutions—including federally-regulated banks, thrifts, credit unions, holding companies and their subsidiaries— about nontraditional and subprime lending. In September 2006, banking regulators issued final guidance clarifying how institutions can offer nontraditional mortgage products in a safe and sound manner, and in a way that clearly discloses the risks that borrowers may assume. The guidance provides specific steps institutions should take to help ensure that loan terms and underwriting standards are consistent with prudent lending practices, including considering a borrower’s repayment capacity; ensuring strong risk management standards, including capital levels; and ensuring that consumers have sufficient information to clearly understand loan terms and associated risks. In June 2007, banking regulators issued a final statement on subprime lending, in response to concerns about certain types of loans that could result in payment shock to borrowers.