Confusion rife for borrowers, study finds
If you were confused by the disclosure forms your mortgage lender gave you, you’re far from alone, according to the Federal Trade Commission, which says the industry can do a better job.
A study released Wednesday by the agency found that the required disclosures were ineffective at explaining the costs and risks of home loans.
“Mortgage disclosures designed more than 30 years ago can be confusing even for simple loans, and they do not address the variety and complexity of today’s mortgage products,” FTC Chairman Deborah Platt Majoras said in a statement. .
The issue is timely. In the wake of the housing market’s boom and subsequent slowdown, as well as the meltdown in sub-prime mortgages, many homeowners have said they didn’t understand the terms of the loans they took out.
This has been especially true with increasingly popular but complicated products such as “option ARMs” -- adjustable-rate mortgages that let borrowers choose their payment amount each month and can even increase the total amount they owe on their loan.
The FTC doesn’t have jurisdiction over loan disclosures, but it decided to examine them after many borrowers complained to it of deceptive tactics used to sell them home loans.
The agencies that do oversee mortgage disclosures are the Federal Reserve and the Department of Housing and Urban Development, which respectively monitor the nation’s truth-in-lending law and the law governing real estate settlement procedures. Both agencies agreed that home loan disclosures were too complex and said they were working on solutions.
“Broadly speaking, we are all singing the same song,” said Brian Sullivan, a spokesman for the Department of Housing and Urban Development. “The process of buying and selling a home is second only to rocket science in its complexity.”
In the FTC study, more than 800 recent mortgage customers were each given disclosure forms for a hypothetical loan. About half got forms of the type currently used. The rest got prototype forms designed by the study authors to be understandable.
The study found that when given the disclosures now used:
* Half the borrowers couldn’t correctly identify the loan amount.
* Nine in 10 couldn’t figure out the total upfront cost of the loan.
* Two-thirds did not recognize that they would have to pay a penalty if they paid off the mortgage within two years. And 95% didn’t know how much that penalty would be.
* Three-quarters did not know when substantial charges for credit insurance had been included in the loan.
* One in five couldn’t correctly identify the annual percentage rate, the amount of cash due at closing or the monthly payment -- or whether that payment included charges for property taxes and insurance.
The study’s authors said they chose the best disclosures they could find. In other words, many forms used by lenders were less readable than the ones used in the study. Also, the study looked only at fixed-rate loans. Disclosures for adjustable mortgages might be even more confusing.
The FTC found that the disclosures it designed improved understanding of 17 of 21 key loan terms. However, borrowers were no less confused about balloon payments and why the annual percentage rate varied from the interest rate. (The APR includes costs such as points.)
But because the prototype forms deal only with fixed-rate loans, they aren’t being presented as a replacement for current disclosures, said James M. Lacko, an FTC economist and co-author of the study. “It just offers a starting point for the discussion,” he said. “We are just saying that you can do better.”
That point has wide agreement.
“People are baffled” by mortgage documents, said Alex Pollock at the American Enterprise Institute, a Washington think tank. “Even well-educated people have trouble figuring it out.”
Pollock designed a one-page disclosure form that he says should be made an industry standard.
The form has blanks for the loan amount, the beginning interest rate, the monthly mortgage payment and what the payment would be with taxes and insurance costs included. It also would disclose how high the monthly payment can go on an adjustable loan, whether there is a balloon payment and the size of any prepayment penalty.
But some experts say better disclosure may not be enough.
Initial disclosures sent to consumers are notoriously inaccurate and there’s no penalty for that, said Jeff Lazerson, president of Mortgage Grader, a Web-based mortgage brokerage. It’s not until lenders give final disclosures at closing do they make a concerted effort to provide all the necessary details. By then, he said, it’s too late.
“They can make disclosures more clear all they want, but if there is no penalty if you don’t comply, what does it matter?” he asked. “Until there is a penalty for being late or inaccurate, it’s business as usual.”
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Begin text of infobox
Fuzzy on the details
Percentage of people in a study who could not correctly identify various loan terms using current mortgage disclosure forms
Total upfront cost - 87%
Existence of prepayment penalty -68%
Loan amount - 51%
Monthly payment - 21%
Annual percentage rate - 20%
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Source: Federal Trade Commission
