Four years after the passage of the Dodd-Frank Act, the Consumer Financial Protection Bureau (CFPB) has at long last enacted major changes to the way banks close mortgage loans.
The changes went into effect this past October, and while a major improvement for consumers, the reaction to the new rules has not been without controversy.
Why the changes, and what to expect
In the years leading up to the financial crisis, many borrowers agreed to mortgages with complex terms that dictated teaser interest rates, temporary interest only payments that would eventually balloon to much higher payments, and sometimes even negative amortization loans where the payments failed to cover the interest expense alone -- causing the balance to actually rise over time.
In many of these instances, borrowers didn't understand the terms of the loan they were agreeing to because of complex loan agreements and pages of fine print obfuscated the actual terms.
In response, the CFPB spent four years developing the rule changes that went into effect this October. Each of the changes attempts to level the playing field for borrowers, eliminate fine print, and ensure borrowers understand exactly what the loan requires before they sign on the dotted line.
Most of the changes require banks to use new, standardized disclosure forms to educate the borrower about the terms of the loan in an easy to understand way. For example, on page one of the new Loan Estimate form, the loan's terms, projected payments, and closing costs are all presented clearly and prominently. The form also indicates which of the closing costs can be negotiated with third parties, allowing the borrower to shop around for the best price. Also on the first page, the bank must disclose any risky aspects of the loan that wouldn't otherwise be obvious. These include balloon payments and possible increases to the interest rate or payment in the future.
The most controversial of the changes though is not part of any form. It is the requirement that borrowers must have the Closing Disclosure form at least three business days prior to closing. If the borrower doesn't have that form in time, then the deal can't close.
A win for Main Street, despite the complaints from banks
For consumers, these rules are fantastic. Loan terms are clearly presented, easily understood, and delivered with plenty of time for review.
Banks, however, aren't as thrilled. These changes are forcing banks to change their processes and improve their efficiency, which is a serious operational challenge for many thanks to entrenched bureaucracy and poor corporate culture.
Beyond banks, which face more pressure under the timeline rule than anyone else in the mortgage process, the brokers, appraisers, attorneys, and others involved must now hustle to execute their roles on time, every time, if the deal is to close as planned.
There have been some negative consequences for consumers, most of which is driven by banks failing to perform in time to meet the new requirements. For example, many real estate attorneys have raised their prices to devote extra resources to each deal in order to complete the paperwork and document review in time to meet the three-day requirement and close on schedule.
Even with the handful of negative consequences for consumers, the positives far outweigh the downsides, despite the criticisms coming from bank lobbyists. Consumers now have plenty of time to understand their loans, and the pertinent details are presented in a way that can be easily understood by any borrower. That transparency and fairness is a key change to prevent many of the problems that created the financial crisis in the first place.
No sympathy for the devil
Looking at these changes from a high-level perspective, it's difficult to sympathize with the banks. The changes came about because of rushed closing processes than failed to inform borrowers of exactly what they agreeing to at the closing table. There was far too much deception and fraud in the industry; change was needed.
Now, these same banks are struggling to update their processes to allow for a short three-day review period for the borrowers. With every real estate deal, the bank, attorney, real estate agent, and appraiser all know the expected closing date. With that known timeline, all of the professionals involved in the sale should have the competence to get everything done on time. These professionals should be able to anticipate the new three-day requirement, and schedule closing dates accordingly.
In that light, bank complaints about these changes are a tough pill to swallow. The best banks will adapt, get the job done, and attract more customers as a result. The banks that choose to complain instead of improve will fall behind, leave customers unsatisfied, and hurt their reputation in the marketplace.
And, most important, consumers now have much greater protection from fraud, deception, and unfair practices that could stick them with a mortgage they wouldn't otherwise want.