CUNA Comment Letter
Proposed Illustrations for Nontraditional Loans
December 4, 2006
Ms. Mary Rupp
Secretary of the Board
National Credit Union Administration
1775 Duke Street
Alexandria, Virginia 22314-3428
Dear Ms. Rupp:
The Credit Union National Association (CUNA) appreciates the opportunity to comment on the proposed illustrations that credit unions and other financial institutions may provide to borrowers who are considering nontraditional loans. These loans include interest only mortgages in which the borrower has the option to pay no principal for a fixed period of time and payment option adjustable-rate mortgages in which the borrower has flexible payment options, including the option to pay less than the interest owed, resulting in negative amortization. CUNA represents approximately 90 percent of our nations 8,700 state and federal credit unions, which serve nearly 87 million members.
Summary of CUNAs Comments
- CUNA urges NCUA and the financial institution regulators to continue to emphasize that these disclosures are voluntary, and this should also be clearly communicated to the examiners who will be reviewing each institutions compliance with the nontraditional loans guidance.
- The regulators should clarify that the use of any of the proposed illustrations will comply with the consumer protection requirements that are outlined in the recent guidance, which will be helpful for financial institutions should the adequacy of these disclosures be challenged.
- Consumer testing of the proposed illustrations should be conducted. This testing could use the disclosures proposed by the agencies, as well as a sample of actual disclosures that credit unions and other institutions may develop for their own use.
- For these types of disclosures, the critical information that needs to be provided is that with regard to payment shock. This refers to the large increase in loan payments that the borrower will likely face in the future. The disclosures should advise borrowers that they should consider not applying for such a loan if they do not understand how these loans are structured and the likelihood that their payments will increase substantially in future years.
- CUNA recently assisted the regulators in the development of the publication entitled, Interest-Only Mortgage Payments and Payment Option ARMS Are They for You. Institutions should be permitted to use this publication in lieu of the proposed illustrations for purposes of complying with the consumer protection provisions of the nontraditional loan guidance.
- With regard to the proposed illustrations, we believe the narrative example provides the information more clearly than the illustration that is provided in chart form, although the chart example may be easier to understand if the lender tailors it to the specific loan products and interest rates that are being offered at that time.
- The typical loan amount of $180,000 that is used in the illustrations should be changed to a baseline amount of $100,000, which will allow borrowers to more easily calculate the payments for their individual loan amounts.
CUNA commends NCUA and the other financial institution regulators for issuing these illustrations, or disclosures, that credit unions and other financial institutions may use for purposes of complying with the recent guidance that the agencies issued with regard to nontraditional loans. Examples or models of disclosures that may be used for purposes of complying with regulatory requirements are generally very useful.
The regulators have noted that these disclosures are entirely voluntary, and we agree that these disclosures should not be mandatory. Although we agree and recognize that the recent guidance on nontraditional loans emphasizes the need for distinct disclosures for nontraditional loans, credit unions and other institutions that offer these types of loans may prefer to tailor this information to take into account specific product offerings and changing market conditions. For this reason, we urge the regulators to continue to emphasize that these disclosures are voluntary, and this should also be clearly communicated to the examiners who will be reviewing each institutions compliance with the nontraditional loans guidance.
We believe the regulators should also clearly state that the use of the proposed illustrations will comply with the consumer protection requirements that are outlined in the recent guidance. This will be helpful for financial institutions should their disclosures be challenged.
Although the regulators have indicated that they have not conducted consumer testing, we believe it would be useful to conduct such testing, either now or in the future. This testing could use the disclosures proposed by the agencies, as well as a sample of actual disclosures that credit unions and other institutions may use that differ from the ones issued by the agencies.
For these disclosures, the critical information that needs to be provided is with regard to payment shock, which refers to the large increase in loan payments that the borrower will likely face in the future. These increases can occur when interest rates increase; when the interest- only time period expires at which time the borrowers must make payments to amortize the loan; and whenever the loan has a negative amortization feature that may result in higher loan payments in order to pay down the higher loan balance. We would support changes to these disclosures that would provide this information in a more clear and easy-to-understand format.
We also believe these disclosures should advise borrowers that these nontraditional loans are very complex and should not be considered if they do not understand how such loans are structured. A disclosure that the likelihood that payments will increase substantially in future years should also be included. Further, not only should this advice be included in the disclosures, but also the lender should be encouraged to offer the borrower a different loan product if it appears the borrower does not understand the features and consequences of the nontraditional loan.
Shortly after issuing the guidance, the agencies released a publication entitled, Interest- Only Mortgage Payments and Payment Option ARMS Are They for You. CUNA was very pleased to participate in the process of reviewing this publication before it was issued and believe this may provide the information that consumers need, as contemplated by the guidance. For this reason, we anticipate that credit unions offering these types of loans may want to provide this publication in lieu of the illustrations or possibly in addition to other helpful information. We also anticipate that credit unions and other institutions may choose to incorporate the publication as a link in connection with an online loan application process, as well as a link within other areas of the website.
With regard to the proposed disclosures themselves, we note that Illustration 1 provides information in a narrative form, Illustration 2 provides similar information in a chart form, while Illustration 3 is a disclosure that may be used for payment option adjustable-rate mortgages, commonly referred to as Option ARM loans, which provides the borrower with payment options each month, including an option that would result in negative amortization.
We believe Illustration 3 provides clear and concise information regarding the impact of making various loan payments under an Option-ARM loan. Although the other two illustrations provide similar information, we believe the language and format used in Illustration 3 would be the preferable approach for purposes of outlining the impact of payments for both the Option ARM and interest-only loans, even if the lender were to use the format of Illustration 1 or 2 with regard to the other information being provided.
We believe that for credit unions and others that choose to use these disclosures, as opposed to developing their own, Illustration 1 provides this information in a clearer manner than Illustration 2. Illustration 2 provides an array of loan balances and payments for a variety of different types of loans and these figures do show that loan payments may increase over time. However, the chart does not provide the information and circumstances as to how loan payments may increase substantially over time. We believe Illustration 1 provides the better approach of explaining the circumstances under which payments may increase, as well as urging borrowers to obtain additional information with regard to the specific loan being considered. The chart form of Illustration 2 may, however, be easier to understand if the lender tailors it to the specific loan products and interest rates that are being offered at that time.
We also believe the typical loan amount of $180,000 should be changed to a baseline amount of $100,000. This will allow borrowers to more easily calculate the loan payment amounts that would apply to their individual loans. For example, a borrower applying for a $200,000 loan can multiply the payments on the chart by two as a means to calculate the actual loan amounts. This process would be very difficult if the typical loan amount remains at $180,000.
We do believe that the portion of the chart in Illustration 2 outlining how the loan balance will increase or decrease after a five-year time period provides very useful information in a clear and concise format. This type of information in this format should be provided to all borrowers who are considering nontraditional loans.
Both Illustrations 1 and 2 could be improved by emphasizing that with regard to interest-only loans, the payments generally increase after the interest-only period because the loan will need to be amortized over the remaining loan period (which is shorter than if the loan had been amortized from the beginning of the period). This is important information because the payments may increase, even if interest rates do not rise during the interest-only period.
Thank you for the opportunity to comment on these proposed illustrations. If you or other Board staff have questions about our comments, please give Senior Vice President and Deputy General Counsel Mary Dunn or me a call at (202) 638-5777.
Senior Assistant General Counsel