Consumer Experiences with Predatory Lending Practices

Article excerpt

This investigation examines how consumers perceive and experience predatory lenders. Findings reveal that industry practices are carried out to the detriment of persons typically defined as "vulnerable," such as elderly, impoverished, and African American consumers. Using a series of personal interviews with a geographically diverse set of respondents, data reveal thematic categories that include the friendly veneer, the rules of engagement, and an aggressive response, which capture the nuances of this exchange relationship from the perspective of these unwitting consumers. The closing section provides implications for scholars and regulators seeking workable solutions to limit additional financial exploitation.

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In her essay on marketing practices, Consumers Union President Rhoda Karpatkin (1999) called for the transformation of exchange relationships between several industries and impoverished consumers in order to advance a "fair and just marketplace." One practice singled out in her treatise was predatory lending by banks and subprime financial institutions. The purpose of this research is to highlight predatory lending practices in the mortgage market. Predatory lending is defined as consumer loans with any or all of the following characteristics: aggressive and deceptive marketing, lack of concern for the borrower's ability to pay, high interest rates and excessive fees, unnecessary provisions that do not benefit the borrower (e.g., balloon payments or single-premium credit life insurance), large prepayment penalties, or faulty underwriting (Carr and Kolluri 2001; U.S. Department of Housing and Urban Development 2006). Such abuses occur with institutions such as consumer finance companies, banks, and mortgage brokers. These lenders cater to low-income, high-risk consumers who may have difficulty obtaining traditional mortgage credit.

The practice of predatory lending is conceptually different from that of subprime lending, defined as lending to borrowers with poor credit histories, payment delinquencies, and in some cases charge-offs and bankruptcies (Carr and Kolipuri 2001). Responsible subprime lending is cited as having positive consumer benefits including expanding credit access. Proponents of the industry have cited an increase in home ownership and borrowing equity as positive contributions (Elliehausen and Staten 2004). However, consumer activists have noted frequent abuses and recommended more vigilance and legislative solutions by policy makers. Along with high rates and added fees, predatory companies have been charged with frequent flipping of loans (i.e., refinancing an existing loan with little additional money advanced to the consumer while charging additional points and fees) that results in "equity stripping" and an increased risk of foreclosure (Consumers Union 1998; Elliehausen and Staten 2004).

These practices are carried out to the detriment of populations typically defined as "vulnerable," such as elderly, poor, and African American consumers (Karpatkin 1999). For example, data released by the Federal Reserve under the Home Mortgage Disclosure Act showed racial and income differences in subprime lending practices. According to the data, African Americans were two to three times more likely than whites to receive higher-priced home loans in 2004 (Avery, Canner, and Cook 2005; Zindler 2005). A joint study by the Department of Housing and Urban Development and the U.S. Department of the Treasury (2000) reported that 51% of the loans made in predominantly African American neighborhoods were made by subprime lenders versus 9% in predominantly white neighborhoods. Calem, Gillen, and Wachter (2004) reported similar results in an analysis of the Philadelphia and Chicago metropolitan markets. Even after accounting for a series of explanatory variables that included credit risk, the authors found a strong geographic concentration of subprime lending in neighborhoods that were primarily African American. …