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Texas Community Reinvestment Update 2007
Community Reinvestment Issues and Initiatives
Financial Literacy
Millions of young and adult Americans lack knowledge of basic economics and personal financial concepts according to community reinvestment analysts. The 2005-2006 national biennial financial literacy survey by the Jump$tart Coalition for Personal Literacy revealed that the number of 18-24 year olds filing bankruptcy climbed 96 percent in the past 10 years. Noting the rising tide of bankruptcies in the U.S., Lawrence A. Friedman, Executive Director of United States Trustees reported, "Each year, more than one out of every 70 households enters bankruptcy."
Factors contributing to the inability of Americans to make reasonable financial decisions include continued and complex technological enhancements affecting the financial services industry, creative financing programs involving home-related credit transactions and the increased use of credit cards and credit card loans by young people and adults. Fortunately, the Jump$tart Coalition's 2005-2006 survey results showed that U.S. high school seniors modestly increased their basic financial knowledge since 2004. Jump$tart's 2005-2006 financial literacy survey tested 5775 high school seniors from 37 states. The average score was 52.4 percent or one point higher than the 52.3 percent score from the 2003-2004 average.
Only 40.3 percent of U.S. high school seniors understand that they could lose their health insurance if their parents become unemployed. About 22.7 percent of high school seniors realize that interest savings accounts may be taxable if a person's income is high enough, but only 14.2 percent of the students understood that stocks may have higher average returns compared to savings accounts, savings bonds, and checking accounts over the next 18 years even after they were informed that there has never been an 18-year period when this didn't occur.
Students who had never bounced a check had average scores of 53.4 percent, while those who had bounced a check scored 45.8 percent, nearly eight points lower. Students who were unconcerned if a family did not have enough money to pay its bills had average literacy scores of only 43.2 percent. Students who felt that people who retire without much saved for retirement can live pretty well on Social Security alone had lower average scores of 39.9 percent. On the other hand, those who realized it would be tough to live on Social Security scored an average of 56 percent, some of the highest average survey scores.[57]
How does Texas rank in personal financial literacy? Texas ranked first in the list of states with the lowest average credit score of 651 compared with the national average of 578. Texas also spends the least on adult education literacy at just more than $5.00 per capita compared with the national average of $46.65. Reflecting the lack of appreciation of financial literacy, it may be no surprise that Texas ranked 48th in average household net worth among the 50 states. In fact, one in five Texans has zero net worth.[58]
The 79th Legislature passed two financial literacy bills in June 2005 to require financial literacy in Texas schools to help address this problem. House Bill 492, by Rep. Beverly Woolley of Houston, required school districts and open enrollment charter schools to include personal financial literacy instruction starting with the 2006-07 academic year. The schools will use the curriculum created by the National Endowment for Financial Education (NEFE) that meets standards and learning objectives established by the Texas Education Agency (TEA) and State Board of Education.
Senate Bill 851 by Rep Elliot Shapleigh required a financial literacy pilot program to be implemented and tested in 25 school districts before mandating financial education as a requirement for public school graduation.[59]
On January 1, 2007, the TEA submitted its report Implementation and Effectiveness of the Personal Financial Literacy Pilot Program to the 80th Texas Legislature as required by House Bill 851 of the last regular legislative session. TEA collaborated with the State Securities Board (SSB) and the OCC on two programs: Money Smart, an FDIC program and Financial Literacy 2010, a joint project of the Texas SSB, Investor Protection Trust, the North American Securities Administrators Association and the National Association of Securities Dealers.
Twenty-five school districts participated in the pilot projects, and the Dallas Federal Reserve provided teacher training. The Texas State Bar Bankruptcy division provided additional curriculum materials. Some schools implemented the program in the fall of 2006 and others waited until spring of 2007. As of April 2007, TEA had not completed its pilot implementation evaluation results, but TEA reported that an estimated 500 students completed the fall 2006 semester.
Complying with HB 492, TEA amended the Texas Education Code Chapter 74 to require additional personal financial literacy concepts as part of the economics curriculum for public high school graduation. Key concepts to be covered include: understanding the rights and responsibilities of renting a home and home ownership; managing money to make the transition from renting a home to home ownership and starting a small business. The required economics curriculum will teach students how to become a low-risk borrower; methods of prudent stock market investing; using other investment options; beginning a savings program; retirement planning and giving to charitable organizations. Students also will learn about bankruptcy, insurance, the types of consumer bank accounts and related account benefits, how to balance a checkbook and the types of loans available to consumers.[60]
The Federal Reserve Bank of Dallas and the Texas Council on Economic Education planned a series of workshops, "Making Sense of Personal Finance," for Dallas, El Paso, Houston and San Antonio in the summer of 2007. The workshops covered instruction areas mandated in public financial literacy legislation passed by the 80th Texas Legislature including banking and credit, savings and the principles of investing.
The Texas Cooperative Extension, Texas Credit Union Foundation and the National Endowment for Financial Education (NEFE) launched Project NEFE on March 29, 2007. This statewide initiative will bring the free accredited high school financial planning program and training to Texas schools. A team of Project NEFE trainers traveled across Texas to conduct daylong training sessions in Beaumont, Houston, Midland, San Angelo, San Antonio,Waco and other locations. In 2006, the Texas Credit Union Foundation provided almost 40,000 NEFE curriculum copies to community organizations, credit unions and schools across Texas.[61]
Financial Literacy Organizations in Texas
Financial Literacy Coalition of Central Texas has attracted community volunteers from industry, government, private, public and non-profit sectors. Current initiatives include Earned Income Tax Credit education, employee financial education and programs for first-time homebuyers. Spanish-speaking volunteers provide education outreach to Spanish-speaking audiences.
Texas Saves, a partnership launched in January 2005, provides financial literacy training statewide. The organization involves universities, including the Texas A&M Cooperative Extension, financial services companies, community-based organizations, schools and banks. Part of the America Saves national campaign to foster savings and wealth among Americans, Texas Saves' financial education campaign works in partnership with other groups across the country, including the Consumer Federation of America and education enrichment provider Junior Finance Literacy Academy.
Payday, Predatory and Subprime Lending
Payday, predatory and subprime lenders have increased access to credit for many people, but made financial affairs more difficult for many low-income borrowers according to a Ford Foundation Report.[62] Turmoil in the subprime home loan market continues to grow.
Four types of loans-prime, subprime, predatory and payday-dominate the U.S. and Texas lending markets. Traditional "prime" home loans from banks, generally made to borrowers with high credit scores, often have competitive low-interest rates with a minimum of additional charges and loan fees. Subprime, or "B" and "C" rated, loans have higher interest rates and fees than prime loans and are often made to households with relatively negative credit scores and that lack credit histories altogether.[63]
Subprime home loans and subprime mortgage foreclosures affect homeownership, the single most important wealth-generating mechanism families have in the U.S. These mortgages are at least three or four points higher than home loans in the prime market. Almost 60 percent of middle-class family wealth is tied to home equity. For African-American and Hispanic families that share is greater than 88 percent for both groups.[64] A Lehman Brothers investment bank study in 2006 showed that subprime home loans are contributing to the current foreclosure problem. The analysis projected 30 percent losses over time on subprime loans issued in 2006.[65]
Payday loans in the form of small cash advances based on a personal check held for future deposit are provided by stand-alone companies, check cashing outlets, pawn shops, and through online or telephone loan service providers. Payday lending refers to the practice of making short-term loans. Typically, payday loans only require a driver's license and disclosure of income from a job or government benefits.
According to the Office of Consumer Credit Commissioner, practices such as equity stripping, flipping, packing and aggressive marketing are commonly referred to as predatory lending. Equity stripping occurs when a lender targets a prospective borrower with more home equity than debt. The lender offers the borrower a loan against the borrower's home equity that is more than the borrower can repay, resulting in a higher likelihood of foreclosure by the lender.
Texas' home equity constitutional protections limit the amount of home equity a borrower can use to secure a loan at 80 percent, as long as the homeowner retains some equity. Texas laws also restrict borrowers to one home equity loan per year. Texas Finance Code protections for second mortgages ensure lenders evaluate a borrower's ability to repay. Another practice, flipping, happens when a lender repeatedly refinances a borrower's loans within a year and charges high fees and prepayment penalties. Texas' home equity constitutional provisions limit a borrower to one home equity loan per year, and Texas Finance Code prohibits lenders from including prepayment penalties on loan contracts with interest rates of 12 percent or more for loan refinancing. A third predatory lending practice called packing occurs when a lender includes extra fees for unnecessary copy charges, faxes, insurance and making loans to targeted borrowers with minimal verification of the borrower's ability to repay.
Texas home equity laws limit fees to 3 percent of the loan value. Predatory lenders may also tack on unwarranted credit life or disability insurance to mortgage loans, with the cost of credit running as high as $4,000 on a $28,000 loan. Texas Finance Code prohibits lenders from requiring a contracted prepaid insurance premium installment. A fourth predatory lending practice involves aggressive marketing or advertising of consolidation equity loans to pay off auto, credit card and retail debts. In this instance, the borrower may end up with lower monthly payments over a longer period of 15 to 30 years. Predatory lenders make more money from the long-term debt interest of the new loan and ability to foreclose on borrowers' homes for loan default. To address this practice, Texas home equity laws require lender disclosures to borrowers, and Texas Finance Code provisions require lenders to encourage credit counseling to prospective borrowers.[66]
Forces Fueling Subprime Market Foreclosures
Several forces have combined to fuel the growth of the subprime loan market in the U.S. and Texas, and the recent concern over subsequent foreclosures. One force concerns the writing of high-risk "exploding hybrid" mortgages with low interest front-end teaser rates that quickly escalate. A second force involves the application of non-standard mortgage qualification practices to the underwriting of loans. Lenders that fail to escrow property taxes and hazard insurance and brokers that offer incentives to lure unqualified borrowers into unaffordable subprime loans are also strong forces contributing to the rise in subprime market foreclosures.[67]
By far, the most significant force fueling the subprime loan market is the easy availability of high-risk loans with low interest teaser rate payments in the first two years. These "exploding" hybrid mortgages or "2/28s," include a two-year balloon loan that cannot be repaid in monthly installments. The remaining balance must be paid in one lump sum. The "2/28" is an adjustable rate mortgage (ARM) that starts with a two-year teaser "balloon" component with rate adjustments every six months for the rest of the loan term. Generally, the rate of interest climbs 1.5 to 3 percentage points by the end of the second year.[68]
In March 2007, the Center for Responsible Lending estimated that more than 2.2 percent of American families may lose their homes and almost $165 billion in accumulated home wealth. Nationwide, the number of foreclosure filings in 2006 reached 1.2 million, up 42 percent from 2005.[69] As of December 2006, nearly 14 percent of $1.2 trillion in unpaid subprime mortgages were in default. Before the end of 2007, another 1 million loans will be adjusted to higher interest rates and payments. Analysts forecast 800,000 more mortgages may default in 2008.[70]
According to a report by First American Loan Performance, McAllen, Texas, ranked highest among U.S. metro areas with the largest number of subprime mortgage loans (26.8 percent), followed by Memphis, Tenn., (26.0 percent), Sharon, Pennsylvania (24.0 percent) and Miami, Fla. (23.0 percent).[71] According to the Federal Deposit Insurance Corporation, the number of subprime mortgage loans nationally grew to one in every five mortgages in 2006 and 2007. National legislation has been proposed in the House Financial Services Committee to preserve access to credit, aid stable homeownership and stop abuses in the mortgage lending markets. The legislation's critics claim that existing truth-in-lending laws address these issues, and new laws would add burdensome fees and paperwork for creditable borrowers. Also, critics fear that stricter standards could complicate the home-buying process for young buyers.
According to the Mortgage Foundation, Texas recorded nearly 40,000 foreclosure filings in the first quarter of 2007, which is about half of the 80,000 filed in California and 5,000 less than Florida's 45,000 foreclosure filings for the same period. Fortunately, Central Texas experienced subprime loans in fewer than 10 percent of all outstanding mortgages in 2006.[72]
In response to the rising number of foreclosures statewide, in 2007, the 80th Legislature proposed reforms. House Bill 3762 by Rep. Chavez would establish a fiduciary duty for brokers toward borrowers. For refinancing, a new loan would have to show a net benefit for the borrower forcing brokers to disclose the most efficient loan terms available to the buyer. House Bill 2274 by Rep. Rodriguez and companion Senate Bill 987 by Sen. Lucio would make borrowers attend counseling to qualify for high-risk loans of less than $125,000, which have prepayment penalties and variable interest rates. House Bill 1057 by Rep. Parker would require lenders to disclose verbally and in writing the prepayment penalty fees a borrower would have to pay for early loan payoff. House Bill 716 by Rep. Solomons would grant state regulators more powers including the authority to suspend licenses of mortgage brokers after a criminal indictment. Under current law, the state must wait until all criminal proceedings have finished before revoking or suspending a mortgage broker's license.