The mortgage industry in the US is regulated on the federal level by a number of Congressional acts and federal agencies. However, it can get complicated fairly quickly, as each state also has its own laws and regulations. We often get asked about these, and while this article shouldn’t be construed as legal advice in any way, we did want to give LOs and our other readers a quick primer on the legal state of the mortgage industry.
Federal Mortgage Laws
The Truth in Lending Act (TILA), passed in 1968, protects borrowers by requiring lenders and creditors to disclose the terms of a loan. TILA standardizes terms, making it easier to compare between different offers.
The Dodd-Frank Wall Street Reform and Consumer Protection Act, passed in 2010 after the Great Recession, massively overhauled the whole financial services industry. Among many innovations of the Dodd-Frank Act were the elimination of the Office of Thrift Supervision and creation of the Consumer Financial Protection Bureau (CFPB), responsible for consumer protection in the financial sector, including mortgages.
The Code of Federal Regulations (CFR) provides the official texts for various agency regulations, including mortgage regulations. CFR is updated once per year.
State Mortgage Regulations
While the mortgage industry is regulated federally, each state has its own set of laws, too. First, let’s talk about recourse and non-recourse redemption periods, which differ from state to state.
When a lender forecloses on a mortgage, it’s not uncommon for the debt to exceed the amount recovered through the foreclosure sale. In states classified as “non-recourse,” the lender cannot seek a judgment against the debtor to recover the deficiency, whereas in “recourse” states, lenders are allowed to seek a deficiency judgment. Since almost all states allow conditional deficiency judgments, it’s difficult to classify states as strictly recourse or non-recourse.
Another point of difference is the time in which a debtor may redeem a mortgage default. To varying degrees, all states allow debtors to cure defaults before a property is sold through the foreclosure process. Many states, under various conditions, allow debtors to redeem even after the foreclosure sale.
It’s also important to mention how different states deal with fraudulent or abusive lending practices.
Loan flipping is the process of inducing a borrower to repeatedly refinance an existing mortgage, each time charging fees for both the new loan and a prepayment penalty on the old loan. Typically, the fees are financed into the loan. Over time, the borrower becomes hopelessly indebted and often ends in default and foreclosure. Flipping is considered a predatory tactic and thus is banned in many states, including California, Colorado, and Florida. States like Utah, Texas, and Louisiana have no specific laws which ban loan flipping.
Negative amortization is a financial term referring to an increase in the principal balance of a loan caused by a failure to cover the interest due on that loan. Although it can help provide more flexibility to borrowers, it can also increase their exposure to interest rate risk. States like Georgia, Illinois, and Minnesota restrict the use of negative amortization.
A prepayment penalty is a fee that some lenders charge if you pay off all or part of your mortgage early. Typically, a prepayment penalty only applies if you pay off the entire mortgage balance – for example, because you sold your home or are refinancing your mortgage – within a specific number of years (usually three or five years). In some cases, a prepayment penalty could apply if you pay off a large amount of your mortgage all at once. The majority of states allow prepayment penalties, however, there are some exceptions, notably Maine, Massachusetts, and Nevada.
Although the main legal aspects are regulated on the federal level, it’s important to know the intricacies of the state regulations. These are just a few examples, and we all know how complex state by state regulation can get. Would you like us to write more about it? Leave us a note letting us know in the comments!
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