Upcoming house regs put focus on consumer protection bureau

The financial industry and consumer advocates are watching the Consumer Financial Protection Bureau (CFPB) with bated breath as it works on new regulations most believe will define the future of the housing market.

The new agency has been tapped to write rules that would define what constitutes a "qualified mortgage," (QM) a term created by the Dodd-Frank financial reform law aimed at preventing banks from issuing mortgages they do not expect can be repaid. Under the overhaul, if a mortgage meets that definition, it means the lender has a reasonable expectation the borrower will be able to repay the loan. If a mortgage meets this new standard, Dodd-Frank gives lenders some legal protections from borrowers who could sue them in court if they default.

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Given the potential litigation risk, banks are watching very closely how the CFPB carves out that definition, and what sort of protections it would offer lenders to assure them that they are meeting it. With regulators scrambling to get in place dozens of Dodd-Frank provisions, the financial industry sees the QM issue as one of the most important matters on the table.

"It's pretty high up there, because it's ultimately going to define what loans get made," said Joseph Pigg, vice president and senior counsel at the American Bankers Association. "If you're outside of the QM, those loans are not likely to get made."

A fundamental question surrounding the issue is what protection the CFPB will offer lenders: a "safe harbor" or a "rebuttable presumption." Many in the financial industry are pushing hard for the former, which would offer strong protections for lenders who meet the specific criteria. Under a safe harbor, a borrower could challenge in court whether the lender offered a QM in the first place, but if the lender can prove it did what was required by the harbor, it should enjoy smooth sailing.

"Think of a safe harbor as a box," said Brian Gardner of Keefe, Bruyette and Woods. "If the lender is in the box, he can't be touched on QM issues."

The other option facing the bureau is what is called "rebuttable presumption." This option would give borrowers a bit more flexibility to fight in court. While a lender would start any court challenge under the presumption that they properly lent out a QM, borrowers would have the option of raising evidence challenging that assertion. Banks are concerned this approach could expose lenders to more lengthy and costly court battles, but consumer advocates see it as a way to ensure borrowers can make their case in court.

"There's a possibility that the rule doesn't cover every bad practice…so there should be an opportunity for consumers to present evidence," said Christine Hines, consumer and civil justice counsel at Public Citizen. "A safe harbor would just shut the courthouse door to borrowers."

Lenders, on the other hand, contend that the prospect of lengthier court battles with borrowers would make them less likely to issue mortgages in an already-tight credit market. A July survey by the ABA found that 71 percent of mortgage lenders would lend less under a rebuttable presumption reality, while 10 percent said they would leave the mortgage business altogether.

While technical, the issue has not escaped Congress's attention either. In July, a group of 108 House lawmakers, mostly Republican, sent a letter to the CFPB urging it to adopt the safe harbor.

On Thursday, CFPB Director Richard Cordray was pressed by members in both parties on how his agency plans to address the qualified mortgage question.

Testifying before the House Financial Services Committee, Cordray himself acknowledged the weighty challenge the bureau has in getting the rules right to ensure this vital market remains safe for buyers but workable for lenders.

With mortgage lending still tight after the housing bubble burst, Cordray said the CFPB absolutely did not want its rules to make the problem worse.

"If we draw the QM circle too narrowly, we could ourselves be responsible for further causing troubles in the mortgage market," he said. "We do not intend to do that."

However, he refused to be pinned down on where the bureau falls on the safe harbor question, insisting that he could not opine on the matter while the rules are still being written.

"That's kind of like bringing a Supreme Court Justice in here last spring and asking, 'Are you or are you not going to find the Affordable Health Care Act unconstitutional?' It's in the process. It's not resolved," he said following repeated questions on the safe harbor. "I have not taken a position because the bureau has not taken a position."

Rep. Brad Sherman (D-Calif.), who signed on to the safe harbor letter, urged Cordray at the hearing to not take a too conservative an approach on the rules, warning it could limit the number of borrowers that can obtain a mortgage. And just minutes later, Rep. Michael Grimm (R-N.Y.) aired similar concerns, wanting to know whether the CFPB had ruled out a safe harbor.

While Cordray did not answer the million-dollar question, he emphasized that the overall goal on this project is to make sure industry and advocates alike have clear, explicit rules of the road.

"We understand here that if we write rules that are murky, that's going to essentially be an abdication of our responsibility," he said. "We're making real efforts here to draw very bright lines."

With industry and advocates alike watching the bureau closely, they will not have to wait much longer for an answer. That particular provision of Dodd-Frank is slated to take effect on January 21, meaning the bureau would likely have final rules in place before that.

The Federal Reserve, originally tapped with responsibility for writing rules before the CFPB took power in July 2011, issued proposed rules in May of that year.