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New rules for home mortgages will protect consumers

The Federal Reserve Board has issued a number of new rules for home mortgages that are designed to protect consumers. The rules apply to “subprime” mortgages and to some “Alt-A” mortgages (which are given to buyers whose credit is less than ideal but is better than subprime).

The rules include:

  • Lenders cannot offer a mortgage unless they first verify the borrower’s income.
  • Lenders must assure themselves that the borrower is likely to be able to make the mortgage payments for at least seven years, even if the interest rate adjusts upward during that time.
  • “Prepayment penalties” (essentially a fine that borrowers must pay if they refinance or pay off the mortgage within a certain period) will be prohibited on loans where the interest rate can adjust within the first four years. For other loans, prepayment penalties can be imposed only if the mortgage is refinanced or paid off within the first two years.
  • Lenders’ advertising must include additional information about rates, monthly payments and other features. In addition, certain required disclosures must now be made earlier in the transaction.
  • Lenders cannot advertise a mortgage interest rate as “fixed” if it is fixed for only part of the loan period and can change afterward.
  • Borrowers who want to sue a lender for issuing an improper loan will be able to do so without having to show that the borrower had a regular practice of issuing improper loans to other customers. However, lenders will be able to defend themselves from such claims in court by showing that they followed certain steps in verifying that the borrower could repay the loan.

The new rules will go into effect on October 1, 2009, and will apply only to mortgages issued after that date. In addition, starting in 2010, lenders will be required in all first mortgages to establish an escrow account to pay property taxes and insurance.

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