The Federal Reserve is seeking to tighten the rules on the kind of cheap mortgages that sparked the 2008 housing meltdown, but its proposal could hit Black and Hispanic borrowers hardest — and civil rights advocates are teaming up with big banks to fight it.
The plan by the Fed and other regulators would make offering low-down-payment loans more expensive for banks. It’s part of a sweeping regulatory package designed to strengthen the banks and avoid a repeat of the housing-fueled financial crisis.
But civil rights and housing groups are forming the unlikely alliance with banks because they say the proposal would upend the mortgage market and widen the racial wealth gap.
Lenders argue that they’ve beefed up their defenses enough in the past 15 years, while housing advocates worry that increased costs for banks will translate into fewer home loans, particularly for lower-income borrowers. Even top officials within the agencies have voiced skepticism about the draft rule.
“If we’re asking banks to build and maintain branches in underserved communities, why are we penalizing them for serving those communities?” said David Dworkin, president and CEO of the National Housing Conference, a broad coalition that has worked with the Biden administration on housing issues.
President Joe Biden has made boosting Black and Hispanic homeownership a priority as part of a larger effort to narrow the racial wealth gap. Administration officials have also undertaken efforts to bring down the cost of housing amid a historic supply shortage of some 4 million homes, by some estimates.
Now, civil rights groups and housing industry lobbyists say the independent financial regulators are putting both of those goals in jeopardy. They’re engaging with lawmakers and administration officials about the proposal and gearing up to draft comments to the regulators to oppose it.
“These requirements would have the impact of exacerbating the already too-high homeownership gap,” said Marc Morial, president and CEO of the National Urban League.
About 46 percent of Black Americans and 49 percent of Hispanics own their homes, compared with 75 percent of white Americans. Homeownership is the primary way most Americans build wealth, so that massive disparity has made it difficult to close the gap between the races. And because minorities have less generational wealth to tap for down payments when buying a home, the cycle perpetuates itself.
“The system is building in a structural tax on lending money to the majority of Black and brown prospective homeowners,” Morial said. “I generally support stronger bank regulations, but this is a targeted rule…It’s limited in its application to the type of product that most Black and brown homeowners can afford.”
The housing plan is just one part of a 1,000-page plan to implement international standards by raising capital requirements to ensure that banks are properly cushioned against losses from a host of risks, from market volatility to fraud.
If enacted, the housing component would make it more expensive for banks to originate mortgages, with higher capital charges scaled to how much a borrower puts down — a proposal that actually goes beyond the international standards.
The housing measure has generated doubts even within the agencies. Fed Vice Chair for Supervision Michael Barr said at a late-July meeting when the proposal was released that central bank officials would be closely watching the feedback.
“We want to ensure that the proposal does not unduly affect mortgage lending, including mortgages to underserved borrowers,” Barr said at the time. Fed governor Lisa Cook, the first Black woman to ever sit on the central bank’s board, also questioned staff about the proposal’s treatment of residential mortgages.
In response, Fed staffer Chris Finger acknowledged that the proposal uses down payments as the measure of risk for the bank.
“The motivation for that was that in general, broadly, that is a good indicator of credit risk on a loan,” Finger said. “Now, that said, we’re cognizant that there are other indicators of credit risk on a loan, and certainly when banks underwrite mortgages, they factor in a lot more factors about their borrower.”
“We do want to investigate whether the loan-to-value ratio is in all cases appropriate,” he added. In the document, regulators ask the public how the rule as written would affect homeownership opportunities.
The draft rule would raise mortgage capital requirements 20 percentage points higher than the levels negotiated at the Basel Committee on Banking Supervision, a global body that sets global standards for regulation.
The proposal “goes out of its way to discriminate against first-time homebuyers,” Dworkin said.
“This is not something that is an accident of drafting — this proposal goes to great lengths to say people who make lower down payments should pay more, and what you’re paying for private mortgage insurance doesn’t count,” he said.
For their part, the agencies say the idea was to ensure that big banks don’t face lower requirements than community banks.
The tougher requirements would apply to mortgages that are held directly on bank books, many of which are “jumbo” mortgages for higher-value homes, rather than those that are bundled into tradable assets. It also doesn’t apply to loans guaranteed by the Federal Housing Administration or the Department of Veterans Affairs, which make up a significant portion of loans with smaller down payments. That could soften the impact for many borrowers.
But “our starting point certainly should not be that a [government-backed] loan is good enough for [low and moderate-income] or other historically underserved borrowers,” Republican FDIC board member Jonathan McKernan told POLITICO. “We should want banks competing for those borrowers as well.”
According to data from the Philadelphia Fed, 10 percent of mortgages on the books of big banks started out with a loan-to-value ratio of 90 percent or above, while about 25 percent had an LTV of 80 percent or above.
Banks use loan-to-value ratios — which compare the loan amount to the property’s total value — to measure risk. Typically, the higher the ratio, the riskier the loan. Requiring greater down payments would lower the ratio.
One way banks do serve lower-income borrowers is through so-called special purpose credit programs — and those loans would potentially be hit by the new requirement.
“I’m not sure this will crush mortgage origination — I think that’s a little overblown — but I do have a concern about portfolio lending to higher [loan-to-value] borrowers,” said Jesse Van Tol, president and CEO of the National Community Reinvestment Coalition.
“I’m concerned about loans made under [Community Reinvestment Act] programs, special purpose credit programs — it will have an impact on banks’ ability to do unique and innovative things and not be punished for that by the regulators,” he added.
Bigger banks are a key source of innovation on financing affordable housing, according to industry lobbyists.
“We’re relying on them because they have such resources to wade into the special purpose credit programs,” said Ken Fears, senior policy representative for banks, lending and housing finance at the National Association of Realtors.
Lobbyists warned that the proposal could drive banks further away from mortgage lending. Depository institutions retreated from the mortgage business in the wake of the 2008 financial crisis, leaving more lightly regulated nonbank mortgage originators to fill the void.
“All of the concern about nonbanks taking larger market share — this will only exacerbate that,” said Pete Mills, senior vice president of residential policy at the Mortgage Bankers Association. “If you want a more balanced mortgage market, you need to address some of these issues that are pushing banks out, not push them further away.”