University of Wisconsin - Extension

Many home owners are choosing to improve rather than move. If you are planning major improvements and will need to finance the work with a loan, shop as carefully for the loan as you do for your contractor, according to a University of Wisconsin-Extension housing specialist.

Their claims can be misleading and the resulting loans can be very costly to borrowers and can even result in the loss of the borrower's home. The U.S. Department of Housing and Urban Development and The Treasury Department have just released a report describing predatory lending entitled, "Curbing Predatory Home Mortgage Lending." It is available on the Internet at http://www.huduser.org/publications/hsgfin/curbing.html.

Predatory lending is part of a new subprime mortgage lending industry. Subprime lenders provide mortgage financing to people who do not qualify for conventional mortgage financing. The industry is an important way for people who haven't established credit or have had credit problems in the past to access credit. Subprime mortgage lending is relatively new, but has increased by nearly 400% in the last five years to $160 billion in 1999.

Subprime lenders in general are not subject to as much federal oversight as are banks and other prime mortgage lenders, so they are freer to engage in predatory practices. Subprime borrowers are often persons who have little experience with lenders or feel they have no choice in lenders, making them more vulnerable to predatory practices.

The HUD/Treasury report outlines the following predatory practices that you should be on guard against:

• Lending when the borrower does not have the ability to repay. This is the practice of making loans based on the equity available in the home and not the borrower's ability to make monthly payments. When the payments aren't made, the lender seizes the house. If you obtain a loan, make sure you see in writing what your monthly payments will be over the course of the loan and consider carefully whether you can comfortably make the payments.
• Loan flipping. This is the practice of offering the borrower needed money by refinancing the first mortgage, usually at a higher interest rate and with substantial fees. The fees are usually included in the loan so the borrower is paying interest on them as well.
• These lenders often offer to refinance again and again using a process that is simple for the borrower but results in higher and higher loan payments.
• Excessive fees and packing. High fees are charged beyond that can be economically justified without the borrower understanding that the fees are added to the amount borrowed.

In addition, lenders sometimes add lump sum insurance premiums for credit life insurance that the borrower has not consciously chosen. The premium is added to the amount borrowed and interest paid on it over the life of the loan. Read the loan document carefully and don't leave any blanks. If you don't understand loan terms, ask questions. If the answers are vague or brushed off, seek another lender. If you believe you need credit life insurance, shop for the least expensive policy and pay for it on an annual basis.

Balloon payment and interest-only loans. Such loans are attractive to borrowers because the monthly payments are comparatively small. This is because the payments are only covering interest. The entire principal is due at the end of the loan term. At that point, the lender will offer to refinance -- usually at a higher interest rate and with additional fees, all of which will be added to the loan amount.

Merrill says home improvement contractors may be part of the predatory lending scheme. The contractors involved usually use aggressive marketing practices, such as door-to-door or telephone solicitation.

The prices offered are usually attractive and the contractor offers to make the deal even better by arranging financing. If you agree, the contractor starts work then brings you loan papers to sign. He or she may threaten to leave the job unfinished if you don't sign immediately. The contractor is paid in full by the lender once the loan papers are signed, so the contractor has little incentive to complete the job to your satisfaction.

To avoid being the victim of predatory lending look for home improvement financing at the institution where you have your existing mortgage or where you have a savings account or checking account. Compare the interest rates and fees from several different lenders and read the fine print. Unless the interest rate on your current mortgage is very high avoid refinancing; ask for a home equity loan or second mortgage instead.

For information on housing issues, contact John Merrill at 1300 Linden Dr., Madison, 53706.