October 1, 2010 By RON LIEBER
One of the most important lessons of the mortgage collapse is that potential borrowers need clear explanations of exactly what kind of commitment they are making.So in the last couple of years, there has been a recurring national conversation around proper disclosures, underwriting standards and fiscal prudence. All have nodded their heads solemnly and pledged to do better.
And where has this gotten us? Consider a postcard that arrived in mailboxes in September, announcing itself with a brash, declarative statement: the best mortgage on the block.
That sounds very 2005, but this is not some fly-by-night operation peddling the loan. It’s ING Direct USA, the people who popularized the online savings account and have since moved into checking, investment accounts and mortgages.
The ING Direct loan is called a 5/1 Orange Mortgage, and as of early September, it came with a 3.25 percent interest rate for the first five years and a projected interest rate of 3.375 percent for the 25 years after that.
Yes, you read that right, under 3.5 percent for the next 30 years.
But that is not right, in any number of ways. First of all, by not using the words “adjustable rate mortgage” or similar terms to describe the loan, ING Direct violated a simple Federal Reserve disclosure rule that was revised in 2008.
And that “projected” interest rate suggesting that today’s record low rates will continue for a generation? It is utter nonsense. But ING Direct seems to have had no choice but to use the numbers that it did, because of another relatively new Federal Reserve rule.
It all sort of makes you wonder: have we accomplished anything over the last several years?
ING Direct is one of the great (and one of the few) success stories in consumer financial services in the United States over the last decade. Since it opened in the United States in 2000, the company — a unit of the Dutch financial services giant ING — has worked with more than seven million customers, and people have more than $90 billion parked there. It is the 17th-largest bank in the country by deposits.
The company grew its savings account business through savvy marketing, but it turns out to be much more complicated to explain mortgages in a handful of snappy sentences. The postcard, for example, notes that the interest rate may increase after the fixed period has ended. But in 2008, the Federal Reserve updated Regulation Z, part of which covers mortgage advertisements, in an effort to ensure clear wording from lenders so that customers would never mistake a variable rate loan for a fixed one.
The rule sets the following requirement for any entities using the word “fixed” when describing in marketing materials the first period of what is ultimately an adjustable-rate mortgage: The pitch must specifically describe that loan as an “ARM,” an “adjustable-rate mortgage” or a “variable-rate mortgage.” Moreover, lenders or others must use one of these terms before the first mention of a fixed-rate period in any advertisement, just so there is no confusion.
ING Direct did not do this. “We acknowledge that the particular mailer you received lacked the specific words ‘Adjustable Rate,’ ” the company said in a statement, a copy of which I’ve posted on our Bucks blog. “Although it did say ‘rate is subject to adjustment’ and ‘interest rate may increase.’ The intent was to provide sufficient compelling information to prompt a customer to call for additional details.”
The company also promised to be more careful in the future, saying that it “will make certain that future mortgage mailers demonstrate transparency that is representative of ING Direct and that our customers have come to expect.”
Here’s the particular problem ING Direct faces in describing its loans. These terms — ARMs and adjustable- or variable-rate loans — are now dirty words among risk-averse consumers, especially those who know the trouble that such loans caused in recent years.
Still, ING Direct’s competitors hold their noses and use the terms in their own mortgage mailings.
Why? Perhaps in part it’s because they also offer fixed-rate mortgages. ING Direct does not offer standard fixed-rate mortgages, so any customer scared off by its mortgages would need to go elsewhere for a loan, possibly another ING unit.
So is that the reason ING Direct seems to bend over backward to avoid using the dirty words?
“I don’t share that premise whatsoever,” said Bill Higgins, ING Direct’s chief lending officer, who added that the bank’s own salespeople often suggest to customers that they would be better off with a different type of mortgage.
Meanwhile, the bank’s loans appear to have held up pretty well so far. Only 2.88 percent of loans originated in 2007 or earlier are more than 90 days past due at the moment, far below the national average.
But then there’s the matter of the “projected interest rate.” Regulation Z requires companies to make a projection and insists that they use current figures to do so. Why use today’s numbers? Well, nobody knows what the rates will be in five or seven years when the interest rate resets on loans like those offered by ING Direct. This rule was changed after some lenders offered teaser rates — say, 1 percent for only a month or so. The Fed’s idea was to give borrowers a sense of the rate they might face.
Now, however, any bank that follows the letter of the law without any further explanation ends up leaving the impression that today’s rock-bottom rates will last forever. They almost certainly will rise once the economy improves.
So why not just say that rates are likely to go up? When I asked about this, Mr. Higgins repeatedly pointed to other banks that used similar information about the projected rates as ING Direct but offered disclosures that were much less prominent. He added that customers had not complained about the issues I’m raising here. So noted.
Then again, ING Direct holds itself to a much higher standard than old-fashioned banks. The president and chairman of ING Direct USA, Arkadi Kuhlmann, stated this plainly in the book he co-wrote, “The Orange Code,” which came out last year.
“Telling the truth is not easy,” he wrote. “The best way, of course, is to say the truth easily and quickly when the first opportunity arises.”
ING Direct had that opportunity with this postcard. And Regulation Z or no, the likely truth is that the rates on its loan will not be 3.375 percent for the 25 years after the fixed-rate period expires. So why not explain just how high the interest rate could rise and what the highest and lowest monthly payments could be on a typical loan?
“I’m not sure what that would add to the advertisement,” Mr. Higgins said.
Here’s what it would add: The loan rate, according to the company, could rise as high as 9.250 percent. So a starting payment of $1,023 on a $235,000 loan could rise by 73 percent, to $1,773. That information does not take up a whole lot of room, even on a postcard.
Given that this sort of explanation would probably reduce the mortgage applications ING Direct receives, it’s no wonder that the bank is not eager to be on the cutting edge of disclosure.
Also, starting early next year, banks will be required to include some of this extra information in disclosure statements that applicants for loans receive later in the process. And ING Direct does let people know on its Web site how high the rate for this loan could go, though it does not do the math that would allow them to realize that their payments could rise so high.
Elizabeth Warren, the Harvard legal scholar, has already made it clear that mortgage disclosures are a priority for the new Consumer Financial Protection Bureau that President Obama has asked her to set up. On the day Mr. Obama announced her new role, Mr. Kuhlmann wrote a blog post saying that the appointment was “a step in the right direction for consumers.”
Perhaps the two of them can begin a joint campaign to make adjustable-rate mortgage lenders present the worst case in every single ad.
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