Thursday, March 29, 2007

ARM Disclosures: This Is Only a Test

by Tanta on 3/29/2007 06:57:00 AM

My post yesterday on Sandra Braunstein's remarks on subprime lending brought up the issue of disclosures to consumers. As you may or may not know, there is an existing Regulation Z that requires lenders to provide ARM loan program disclosures to consumers no later than the time of application for an ARM loan. These disclosures are supposed to help the borrower understand the mechanics of the loan. Reg Z does not require specific text, although it does supply example text. It does spell out in some detail what issues must be addressed in the disclosures. Lenders usually choose to have different disclosure documents for different ARM types; a lender using a very long "multipurpose" disclosure risks having its good faith challenged.

Reg Z has been around forever; that's important to remember given the current situation we have of borrowers (not to mention brokers) who clearly don't understand the terms of these loans. The item on the agenda of someone like Braunstein is whether and how Reg Z may need to be supplemented or superceded with new disclosure requirements. Politically speaking, lenders generally lobby against any such changes to the regs, if for no other reason than that they don't want to go to the additional effort and expense of changing all the disclosures they currently use. You may conclude that at least some lenders have other reasons to object, namely that--theoretically, at least--a clearer disclosure of loan terms might lead some borrowers to refuse to accept some of these products.

I will be the first to admit that it's a struggle for someone like me to judge the adequacy of a Reg Z disclosure. Obviously, I can and do review them for accuracy. But there's a big difference between a statement being true and a statement being comprehensible or useful to a non-expert. And experts can quickly lose their ability to appreciate the difficulties of non-experts. In my view, that's one of the biggest problems with regulatory disclosure requirements: the "final sign off" is from some lawyer, not from the sort of non-lawyer non-expert for whom the document is designed.

Furthermore, these documents need to be viewed not just in terms of their intended readers' expertise, but also in the context in which they are provided. Over the years so many different disclosures and documents have accumulated in the "application package" that you cannot really judge the accessibility of a single document without bearing in mind all the other documents for the borrower to absorb.

And, of course, that borrower has only some period of time in which to absorb things. Those who are all in favor of the 12-second approval using high-speed technology are always those who counsel the borrower to take his time, take the docs home over the weekend, consult a friend about them, do some web-surfing, there's no hurry here, make sure you understand this before you cough up a nonrefundable application fee . . . right? I'm not anti-technology or anti-AUS, but I continue to have huge problems with using it at point of application, and selling the speed as an advantage. The assumption that any borrower should be in that much of a hurry to borrow that much money at that complicated a set of loan terms makes my skin crawl.

But perhaps I underestimate the borrower? Well, you tell me. Here's Thornburg Mortgage's 1-Month LIBOR Option ARM disclosure, and here's the corresponding Note. I chose these not just because they're freely available on the web, but also because in my opinion Thornburg's disclosure is as well and clearly written as they tend to come. So this is not a test of the worst disclosures out there.

I would be truly interested in what you all make of these documents. If you read my UberNerd post on neg am, or you've had one of these before, or you're in some part of the mortgage business, please bear in mind that you have more background information than the intended reader of the disclosure. If it only makes sense to an expert, or even just to a more than usually informed non-expert, then it isn't doing what Reg Z intended it to do.