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Predatory Lending What Is Predatory Lending?: Equity

Predatory lending refers to unfair, deceptive, or abusive loan terms that impose high fees and interest rates on borrowers. Predatory lenders often target vulnerable groups and use aggressive tactics to entice borrowers into loans they cannot reasonably repay. Common predatory loans include subprime mortgages, payday loans, and auto-title loans, which carried high costs and put borrowers at risk of losing their homes or vehicles. Predatory lending disproportionately impacts minority communities and has contributed to the racial wealth gap in the United States.

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100 views

Predatory Lending What Is Predatory Lending?: Equity

Predatory lending refers to unfair, deceptive, or abusive loan terms that impose high fees and interest rates on borrowers. Predatory lenders often target vulnerable groups and use aggressive tactics to entice borrowers into loans they cannot reasonably repay. Common predatory loans include subprime mortgages, payday loans, and auto-title loans, which carried high costs and put borrowers at risk of losing their homes or vehicles. Predatory lending disproportionately impacts minority communities and has contributed to the racial wealth gap in the United States.

Uploaded by

Niño Rey Lopez
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOCX, PDF, TXT or read online on Scribd
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Predatory Lending

What Is Predatory Lending?


Predatory lending typically refers to lending practices that impose unfair,
deceptive, or abusive loan terms on borrowers.1  In many cases, these loans carry
high fees and interest rates, strip the borrower of equity, or place a creditworthy
borrower in a lower credit-rated (and more expensive) loan, all to the benefit of
the lender. Predatory lenders often use aggressive sales tactics and take
advantage of borrowers’ lack of understanding of financial transactions. Through
deceptive or fraudulent actions and a lack of transparency, they entice, induce,
and assist a borrower to take out a loan that they will not reasonably be able to
pay back.

KEY TAKEAWAYS

 Predatory lending is any lending practice that imposes unfair and abusive
loan terms on borrowers, including high interest rates, high fees, and terms
that strip the borrower of equity.
 Predatory lenders often use aggressive sales tactics and deception to get
borrowers to take out loans they can't afford.
 They typically target vulnerable populations, such as those struggling to
meet monthly expenses; people who have recently lost their jobs; and
those who are denied access to a wider range of credit options for illegal
reasons, such as discrimination based on a lack of education or older age.
 Predatory lending disproportionately affects women and African American
and Latinx communities.
How Predatory Lending Works
Predatory lending includes any unscrupulous practices carried out by lenders to
entice, induce, mislead, and assist borrowers toward taking out loans they are
otherwise unable to pay back reasonably or must pay back at a cost that is
extremely high above market. Predatory lenders take advantage of borrowers'
circumstances or ignorance.

A loan shark, for instance, is the archetypal example of a predatory lender—


someone who loans money at an extremely high interest rate and may even
threaten violence to collect on their debts. But a great deal of predatory lending is
carried out by more established institutions such as banks, finance companies,
mortgage brokers, attorneys, or real estate contractors.

Predatory lending puts many borrowers at risk, but it especially targets those with
few credit options or who are vulnerable in other ways—people whose
inadequate income leads to regular and urgent needs for cash to make ends
meet, those with low credit scores, the less educated, or those subject to
discriminatory lending practices because of their race or ethnicity. Predatory
lenders often target communities where few other credit options exist, which
makes it more difficult for borrowers to shop around. They lure customers with
aggressive sales tactics by mail, phone, TV, radio, and even door to door. They
use a variety of unfair and deceptive tactics to profit.

 
Above all, predatory lending benefits the lender and ignores or hinders the
borrower’s ability to repay a debt.

Predatory Lending Tactics to Watch Out For


Predatory lending is designed, above all, to benefit the lender. It ignores or
hinders the borrower’s ability to repay a debt. Lending tactics are often deceptive
and attempt to take advantage of a borrower’s lack of understanding of financial
terms and the rules surrounding loans. The Federal Deposit Insurance
Corporation (FDIC) provides some common examples:2

 Excessive and abusive fees. These are often disguised or downplayed,


because they are not included in the interest rate of a loan. According to
the FDIC, fees totaling more than 5% of the loan amount are not
uncommon. Excessive prepayment penalties are another example.
 Balloon payment. This is one very large payment at the end of a loan's
term, often used by predatory lenders to make your monthly payment look
low. The problem is you may not be able to afford the balloon payment and
will have to refinance, incurring new costs, or default.
 Loan flipping. The lender pressures a borrower to refinance again and
again, generating fees and points for the lender each time. As a result, a
borrower can end up trapped by an escalating debt burden. 
 Asset-based lending and equity stripping. The lender grants a loan
based on your asset (a home or a car, say), rather than on your ability to
repay the loan. When you fall behind on payments, you risk losing your
home or car. Equity-rich, cash-poor older adults on fixed incomes may be
targeted with loans (say, for a house repair) that they will have difficulty
repaying and that will jeopardize their equity in their home.
 Unnecessary add-on products or services, such as single-premium life
insurance for a mortgage.
 Steering. Lenders steer borrowers into expensive subprime loans, even
when their credit history and other factors qualify them for prime loans. 
 Reverse redlining.3  Redlining, the racist housing policy that effectively
blocked Black families from getting mortgages, was outlawed by the Fair
Housing Act of 1968. But redlined neighborhoods, which are still largely
inhabited by African American and Latinx residents,4  are often targeted by
predatory and subprime lenders.

Common Types of Predatory Loans


Subprime mortgages
Classic predatory lending centers around home mortgages. Because home loans
are backed by a borrower’s real property, a predatory lender can profit not only
from loan terms stacked in their favor, but also from the sale of a foreclosed
home, if a borrower defaults. Subprime loans aren’t automatically predatory.
Their higher interest rates, banks would argue, reflect the greater cost of riskier
lending to consumers with flawed credit. But even without deceptive practices, a
subprime loan is riskier for borrowers because of the great financial burden it
represents. And with the explosive growth of subprime loans came the potential
for predatory lending.5  When the housing market crashed and a foreclosure crisis
precipitated the Great Recession, homeowners with subprime mortgages
became vulnerable. Subprime loans came to represent a disproportionate
percentage of residential foreclosures.6

African American and Latinx homeowners were particularly affected. Predatory


mortgage lenders had targeted them aggressively in predominantly minority
neighborhoods, regardless of their income or creditworthiness.7 8  Even after
controlling for credit score and other risk factors such as loan-to-value ratio,
subordinate liens, and debt-to-income ratios, data shows9  that African Americans
and Latinos were more likely to receive subprime loans at higher costs.
Women,1 0  too, were targeted during the housing boom, regardless of their
income or credit rating. African American and Latina women with the highest
incomes were five times more likely than white men of similar incomes to receive
subprime loans.

In 2012, Wells Fargo reached a $175 billion settlement1 1  with the Justice
Department to compensate African American and Latinx borrowers who qualified
for loans and were charged higher fees or rates or were improperly steered into
subprime loans. Other banks also paid settlements. But the damage to families of
color is lasting. Homeowners not only lost their homes, but the chance to recover
their investment when housing prices also climbed back up, contributing yet
again to the racial wealth gap. (In 2019, the typical white family had eight times
the wealth of the typical Black family and five times the wealth of the typical
Latinx family.)1 2

Payday loans
The payday loan industry lends $90 billion annually in small-dollar, high-cost
loans (annualized interest rates can be as high as 400%1 3 ) as a bridge to the next
payday. Payday lenders operate online and through storefronts largely in
financially underserved—and disproportionately African American and Latinx—
neighborhoods.1 4 1 5  Some 12 million Americans make use of payday loans, the
majority of whom are women and people of color, according to Pew Charitable
Trusts studies.1 6  Stagnant wages and a growing wealth gap have been cited as
contributing factors,1 7  along with aggressive lobbying by payday lenders.

Borrowers use payday loans not for one-time emergencies for a couple of weeks,
but to cover ordinary living expenses like rent and groceries—over the course of
months. According to Pew,1 8  80% of payday loans are taken out within two weeks
of a previous payday loan, and the average payday loan customer pays $520 a
year in fees to repeatedly borrow $325 in credit.

With new fees added each time a payday loan is refinanced, the debt can easily


spiral out of control. A 2019 study1 9  found that using payday loans doubles the
rate of personal bankruptcy by worsening the cash flow position of the
household, the researchers concluded. The economic impact of COVID-19, with
no new stimulus payments on the horizon, means that more cash-strapped
consumers could become vulnerable to these predatory loans.

Auto-title loans
These are single-payment loans based on a percentage of your car's value, for
quick cash. They carry high interest rates, but in addition, you have to hand over
the vehicle's title and a spare set of keys as collateral. For the one in five
borrowers2 0 who have their vehicle seized because they're unable to repay the
loan, it's not just a financial loss, but can also threaten access to jobs and child
care for a family.

New forms of predatory lending


New schemes are popping up in the so-called gig economy. For instance, Uber,
the ride-sharing service, agreed to a $20 million settlement with the Federal
Trade Commission (FTC) in 2017,2 1

 in part for auto loans with questionable credit terms that the platform extended to its
drivers. Elsewhere, many fintech firms are launching products called "buy now, pay later." These
products are not always clear about fees and interest rates and may entice consumers to fall into a debt
spiral they will not be able to escape.

Is Anything Being Done About Predatory Lending?


To protect consumers, many states have anti-predatory lending laws. For
instance, payday lending is prohibited in 14 states and Washington,
D.C.2 2  The U.S. Department of Housing and Urban Development (HUD) has also
taken measures to combat predatory lending, as has the Consumer Financial
Protection Bureau (CFPB). In June 2016, for instance, CFPB issued a final rule
establishing stricter regulations for the underwriting of payday and auto-title
loans.2 3  But in July 2020, under new leadership, the CFPB revoked that rule2 4  and
delayed other actions, considerably weakening federal consumer protections
against these predatory lenders.

How to Avoid Predatory Lending


 Educate yourself. Becoming more financially literate helps borrowers
spot red flags and avoid questionable lenders. The FDIC has tips2 5  for
protecting yourself when you take on a mortgage, including instructions for
canceling private mortgage insurance (paid for by you, it's to protect the
lender). HUD gives advice on mortgages.2 6  CFPB has guidance on payday
loans.2 7
 Shop around for your loan before you sign on the dotted
line (although it's understandable that if you've experienced lending
discrimination in the past, you'll just want to get the process over with as
soon as possible). Comparing offers will give you an advantage.
 Consider alternatives. Before taking on a costly payday loan, consider
turning to family and friends, your local religious congregation, or public
assistance programs, which are unlikely to cause the same financial harm.

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