The subprime crisis just won't die.

HSBC (NYSE:HBC) decided last week to hang up a portion of its subprime mortgage business by closing Decision One Mortgage. During the first six months of 2007, HSBC was the nation's third-largest subprime originator, with more than $12 billion in volume. Decision One accounted for $3 billion of these loans.

HSBC is just the latest among the dozens of lenders -- including Countrywide Financial (NYSE:CFC) and E*Trade (NASDAQ:ETFC) -- who have either shut down or reduced their subprime lending practices in the last few months.

Tightening up
HSBC indicated that it plans to tighten lending standards. While that is a good idea, it is a bit like closing the barn door after the horse has escaped.

But there is a very simple first step to ameliorate the continuing morass in the lending industry: Eliminate stated-income loans. The idea behind these loans, which allow borrowers to put an income figure on a mortgage application without documents that back it up, is laughable. Almost all borrowers either have W-2 income from an employer or, if they're self-employed, balance sheets and profit and loss statements from an accountant. The idea that self-employed people have income that can't be verified is bogus. At the very least, banks can look at their tax returns.

The Office of the Comptroller of Currency (OCC) noted that stated-income loans could be "inconsistent with sound residential mortgage lending." The OCC specifically recommended that careful consideration should be given to the "absence of an appropriate assessment and documentation of a consumer's ability to repay the loan." While the OCC's report likely drew howls of derision from the lending and real estate industry, some of its detractors are probably already out of work.

Stated-income loans give borrowers too much incentive to fudge their financials at the expense of the ultimate owner of the mortgage. They've done more harm than good, and now it's time to get rid of these "liar loans" once and for all.

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Fool contributor Buz Livingston, CFP, appreciates your feedback. He doesn't own shares of the companies mentioned in this article. He enjoys kayaking in the Gulf of Mexico and believes people benefit from professional advice. The Motley Fool has a disclosure policy.