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Mortgage Reform for Borrowers

New law requires "lenders to do more," restricts prepayment penalties

Struggling to pay the bills after her husband became sick with colon cancer in 2006, Mamie Jackson, 85, decided to refinance her home in Stone Mountain, Ga. Jackson thought she would lower her monthly payments and pocket some money through the deal.

But that's not how things worked out. After signing the paperwork, Jackson was stunned to learn that her payments would actually be higher than they were under her old loan, rising from about $850 per month to $1,273.

With just $2,500 in Social Security and pension income each month between Jackson and her husband, Daniel, 87, the new payments were nearly impossible to meet. Then, two years later, she got another surprise. Jackson discovered that the new mortgage came with an adjustable interest rate and her payments began to rise even more.

"They should have told us that it was changing to [an] adjustable rate because we couldn't afford that," says Jackson.

Mamie Jackson

Rusell Kaye

Mamie Jackson

Worse yet, the loan included a prepayment penalty during the first two years, essentially locking the Jacksons into the unaffordable mortgage by making it cost prohibitive to refinance yet again.

The Jacksons' situation is far from unique, says Jennifer Staack, a staff attorney with the Senior Citizens Law Project at Atlanta Legal Aid. She is representing the couple in a lawsuit against their lender alleging that the loan was misrepresented.

"These are unsophisticated borrowers," says Staack. "Clearly, the mortgage company could tell by looking at the numbers that the loan was not affordable."

Now under new mortgage reforms, supported by AARP and signed into law in July 2010, an experience like the Jacksons' should be a thing of the past, experts say.

Most important, under the new law, lenders are required to verify a borrower's income and assets to ensure that they will be able to pay off the loan, even after any interest rate adjustment occurs. Traditionally, that often didn't happen. Instead, it was common for lenders to initiate so-called stated income loans, in which they relied on a borrower's testament of their income and did not take steps to verify earnings.

"At one point, people said all you needed was a pulse to get a loan," says Norma P. Garcia, a senior attorney at Consumers Union who's been advocating for mortgage reform since the 1990s. "The law requires lenders to do more to make sure that borrowers will actually be able to repay the loan."

In addition, the recent reforms eliminate incentives to mortgage brokers for steering people toward more expensive loans than they could qualify for. And prepayment penalties will be prohibited in most cases.

"The safety net had a lot of holes in it, and the lenders took advantage of that and consumers were the ones who suffered," Garcia says. "This is long overdue."