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Fed Backs Down From Plan To Gut Mortgage Regulation

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WASHINGTON -- Following a public outcry from consumer advocates, the Federal Reserve is quietly backing down from a plan to gut the most significant federal remedy for predatory lending.

The central bank has informed several consumer agencies that it will table its proposal to eliminate "rescission," a critical component of consumer-protection law that strips banks of the right to make money on illegal loans. Under current law, if a borrower wins a rescission case in court, the bank loses the right to foreclose on the home and forfeits all income from the loan's fees and interest. Borrowers are still required to repay the original amount the bank extended to them under the loan, but since banks cannot foreclose on the property, that amount can be repaid over time without the borrower facing pressure from a bank that sold them a predatory loan.

Under the controversial Fed proposal, however, the borrower would have been required to pay off the full original loan amount before the bank lost its right to foreclose. Since most victims of predatory lending do not have hundreds of thousands of dollars lying around to hand over to a bank at a moment's notice, the new rule would have severely limited the protections offered by rescission. Even if a judge found a bank guilty of predatory lending, the bank would still be able to foreclose on the wronged borrower.

"It's great if you're a millionaire," Center for Responsible Lending spokeswoman Kathleen Day said of the proposed rule. "Otherwise, it's not very helpful."

The Fed's about-face seems to reveal a central bank increasingly concerned about its public image, if not totally sold on the need for stronger mortgage regulations. Consumer advocates met with staffers from the Fed three times in the months leading up to the new regulatory proposal, warning them that the rescission changes would be disastrous for homeowners. But the Fed pushed through with its plan anyway, proposing the new rule in September, and opening its website for public comment on the regulation.

Consumer advocates were outraged that the central bank would attempt to further deregulate mortgage lending even after the economic disaster precipitated by the subprime mortgage market -- which the Fed, among others, failed to effectively oversee. Margot Saunders, an attorney with the National Consumer Law Center, wrote a comment letter to the central bank on behalf of dozens of public interest groups urging them to abandon the plan, arguing that, "The ... proposal would eviscerate the single most effective tool that homeowners have to stop foreclosures and avoid predatory loans."

But after a torrent of media attention to the rescission rule, and a host of colorful comment letters from concerned citizens, the Fed now appears to be changing its tune -- and drawing as little attention as possible to its reversal in the process.

The Wall Street Journal reported on Jan. 14 that Leonard Chanin, deputy director of the Fed's consumer and community affairs division, told a gathering of the American Bar Association that the central bank will likely abandon its plans to rewrite rescission rules, letting the new Consumer Financial Protection Bureau tackle the issue when it gains formal authority in July.

Despite his affiliation with the central bank, Chanin is widely respected within the financial-reform community, and will be leaving the Fed for the CFPB later this year. The announcement that he will bring the rescission rules with him is viewed by consumer groups as a sign that the CFPB will simply abandon the Fed's effort and leave the existing rescission regulations alone.

The Fed is also engaged in both an internal and inter-agency tug-of-war over new regulations on bank divisions that handle foreclosures, known as mortgage servicers.

Rescission only applies to mortgages that have been refinanced, but inducing a borrower to refinance their home in order to strip equity from them is a key tactic used in predatory lending. Rescission claims are one of the most common challenges to bank wrongdoing in the United States, with thousands of cases currently working their way through the judiciary.