Major paper.Predatory Lending.Common Practices among Predatory Lenders

Predatory Lending
Name
Institution
Predatory Lending
Introduction
The increased competition in the credit markets accounts for the equally increasing availability of credit to borrowers across the social divide around the world. Lenders in the mortgage sector, for instance, introduce a variety of products for customers or borrowers from both the prime and subprime categories in an effort to maximize their profits. The increased availability of credit facilities or products in the market serves to facilitate the ownership of homes, cars, as well as payment of hospital bills, and other expenses by individuals who could not afford such expenditures through their incomes. On the other hand, the increased availability of credit correlates to the rise in fraudulent or predatory activities by the lenders as they seek to attract customers to their variety of credit products. Predatory lending, as it is commonly known, serves to benefit the lender through, unfair, abusive, deceptive or fraudulent practices to convince the borrower to take up credit that is beyond their payment ability. The borrower often ends up with needed cash from the lender, but at exaggerated interest rates and other underlying charges that in most cases are not revealed to by lending institutions or brokers. A high prevalence of predatory lending exists in the mortgage industry owing to the benefits accrued to the lenders in the event of defaulting in payment, which results in foreclosures and the financial institutions assuming ownership of the borrower’s property. Another form of predatory lending, which is on the rise in the United States and other parts of the world is the payday loan. Nevertheless, it is important to analyze the various manifestations of predatory lending in the society, its influences, and both the legal and individual protective measures against such abusive manipulations by the lenders.
Predatory Lending
According to the Truth in Lending Act, predatory lending refers to the act of offering loans to customers against the equity of their property though the customer’s expected income indicates that they will not manage to pay the loan in the scheduled time CITATION Chr14 \l 2057 (Proffitt, 2014). The lender focuses on assuming or acquiring the equity claim on the collateral property against which the customer takes up the loan. Nikitra S. Bailey defines predatory lending as the lenders’ act of imposing exaggerated fees or interests on the loans, and luring clients to expensive credit packages even though they qualify for the more affordable or the cheaper ones CITATION Bai05 \l 2057 (Bailey, 2005). The exaggerated fees and interest rates imposed on credit are usually higher than the recommended risk-based pricing for a particular loan and thus becoming unbearable to the customers who end up with recurring debts. It is no surprise, therefore, that predatory lending accounts for approximately 25 billion U.S dollars in payment or servicing of the fraudulent loans acquired by the customers CITATION Bai05 \l 2057 (Bailey, 2005). The benefits of increased credit availability are thus outweighed by the exorbitant cost of maintenance accosted to the customers.
Increased credit availability breaks the barrier between the customers from the prime and subprime markets as even persons with the latter, which consists of customers with limited credit history, can access loans through the subprime lenders. The economic benefits expected from such increased accessibility of loans and other forms of credit is, however, undermined by the increasing rate of predatory lending and condemns more people to financial constraints, which further widens the gap between the rich and the poor. Predatory lenders tend to take advantage of the low income earners or borrowers with a poor credit history and whose chances of defaulting on payment are significantly high. Most of such borrowers cannot qualify to get loans based on their income and other variables considered for credit allocation by lenders in the prime markets. The unfair terms of credit imposed by predatory lenders in the sub-prime markets target this specific group of people. Among the target group for predatory lending include homeowners with poor credit histories, but with high value equities on their homes and in need of cash, low-income earners, minority groups, women and the elderly. The predatory lenders thrive on the lack of knowledge and information on credit products and the regulatory standards guiding the credit industry.It is a fact that most of the borrowers in the sub-prime market have a high risk of defaulting and as such, the lenders should impose higher interest rates than the recommended market rates depending on the assessment of the risk CITATION Chr14 \l 2057 (Proffitt, 2014). Imposing a high interest rate for a client with a higher degree of defaulting risk is therefore not considered an act of predatory lending. However, the use of fraudulent or deceptive practices to entice the borrower into taking up loans which are beyond their financial capabilities with the knowledge of the existence of a more affordable credit plan constitutes predatory lending.
Predatory Lending Practices
Given that high interest rates imposed on loans awarded to customers with a high risk of defaulting is not considered predatory, it is of utmost importance to familiarize with some of the practices constituting predatory lending. There are several practices or ways through which predatory lenders may generate claim over the equity of the property used as collateral against the loan. The predatory lending practices take precedence even before the borrower’s acquisition of the loan as they often manifest in the loan origination process, which takes the form inadequate disclosure of the intricate details or terms of servicing the loan CITATION Chr14 \l 2057 (Proffitt, 2014). Hence, one of the practices commonly used by predatory lenders in enticing the borrowers to take up a particular form of credit involves is false or inadequate disclosure of the credit details CITATION Cha13 \l 2057 (Brooks, 2013). Under the unethical practice, the predatory lender often leaves out vital information about the loan, such as its suitability to the customer’s financial ability or income, its actual or true cost, or the risks facing the client in agreeing to the terms. The borrower should be given the outlined information about the loan and should only agree to taking up the loan after they have understood all the details of the loan CITATION Chr14 \l 2057 (Proffitt, 2014). False disclosure may also involve the lender’s changing of the initial terms upon releasing the loan to the borrower in what is also referred to as bait-and-switch, which seeks to amplify the returns of the lender at the borrower’s expense.
Secondly, predatory lenders tend to manipulate the risk-based pricing model in charging interest rates to the borrowers. Risk-based pricing refers to the lender’s charging of interest rates on loans based on the borrower’s credit history CITATION Cha13 \l 2057 (Brooks, 2013). It protects the interest of the lenders to charge high interest rates to high risk defaulters but intentionally targeting the high-risk borrowers with high-valued equities on their homes and other properties is unethical and a common practice of predatory lenders. Predatory lenders also impose exaggerated costs of appraisal, closing costs, and costs for document preparation, which are significantly higher than those charged by ethical lenders or reputable financial institutions in the credit market CITATION Cha13 \l 2057 (Brooks, 2013).
Another form of predatory lending practice is what is commonly known as loan packing. Predatory lenders can impose other additional costs such as payments for the insurance cover on the loan in the unfortunate event of the borrower’s demise before completing payment of the loan. Predatory lenders further encourage the borrowers to apply for new loans to refinance existing loans in what is referred to as loan flipping CITATION Cha13 \l 2057 (Brooks, 2013). The practice is widely practiced by lenders specializing in mortgage loans in which they offer loans to borrowers in the guise of refinancing their mortgages. The borrower is usually enticed with the large amounts of money provided in the refinancing loans and encouraged to ask for more whenever they need which leads to a recurring debt and increased financial burden to the borrowers. Additionally, the predatory lenders also encourage unnecessary borrowing exceeding the income of the borrower based on the value or rather the amount of equity of the available property that qualifying as collateral CITATION Chr14 \l 2057 (Proffitt, 2014). It is another technique that entangles the borrower to long-term debts and the risk of losing their homes and other properties in case they default on paying the loan.
Predatory lending tends to target a specific group of borrowers who are in a need of cash but have a poor credit record or history to acquire loans from the prime market lenders CITATION Chr14 \l 2057 (Proffitt, 2014). Most of the people within the target groups would most likely share the same neighborhood and thus making the entire community prey to the predatory lenders. Instead of giving out loans to individuals within the neighborhood based on their personal credit history, predatory lenders exercise what is referred to as reverse redlining, which is imposing higher interest rates to the whole neighborhood irrespective of the financial ability of individuals. It is an unfair practice to people who have good credit history, or have good and steady incomes, but live in such neighborhoods as they will have to pay higher interest rates despite having the ability to repay the acquired loans in the scheduled time. Other forms of predatory lending practices associated with the mortgages include prepayment penalties, negative amortization, and mandatory arbitration CITATION Cha13 \l 2057 (Brooks, 2013). Prepayment penalties refer to the abnormal levies charged by the predatory lenders to borrowers who refinance home loans with loans from other firms that are more affordable. The predatory lender of the initial loan may impose exorbitant charges on the borrower for early payment of the loan which denies the former the opportunity to continue extorting the latter through their expensive credit terms. Predatory lenders also have the tendency of restricting the borrowers from seeking legal assistance by including a mandatory arbitration section in the loan document CITATION Cha13 \l 2057 (Brooks, 2013). The borrower is thus confined under the financial manipulation of the predatory lender.
Effects of Predatory Lending
Among the effect of predatory lending is the fact that it breeds economic injustices in the society. Increased accessibility or availability of loans in the society should enhance financial equality through fair and equal availability credit to all members of the society. Predatory lending, however, prevents the realization of such economic benefits to all the members of the society through its unfair credit terms, which lead to unfair distribution of the economic burdens. Predatory lending to neighborhoods, with the minority groups as the majority, accounts for the low number of homeowners among the African Americans and the Latino families. The home ownership among the two minority groups is below 50%, while the Whites have an impressive 75% rate of home ownership CITATION Bai05 \l 2057 (Bailey, 2005). Foreclosures due to default in payment of predatory loans lead to the loss of home equity by individuals or households living in neighborhoods with poor credit history. The indiscriminate high interest rates charged to such neighborhoods confines households to recurring debts and long term financial burdens which further widen the gap between the rich and the poor.
Competition for the sub-prime markets remains a key facilitator of the increasing in predatory lending in the minority neighborhoods. In seeking to maximize profits from the sub-prime markets, predatory lenders go to the extent of offering incentives or kickbacks to the middlemen responsible for sourcing customers or borrowers for the manipulative credit terms. Consequently, the society continues to suffer expensive financia...