One of the most sweeping changes in the proposed financial reform bill is the creation of a new consumer watchdog for financial products.
That will be an important aid to Americans taking out a new mortgage, consumer groups say.
Both the Senate version of the bill, passed late Thursday, and the House version passed earlier this year include a consumer protection bureau. The agency would have the ability to write and enforce new rules governing financial products like mortgages.
The House version creates a stand-alone entity; the Senate version includes it within the Federal Reserve. Differences between the two versions will be worked out in a House-Senate conference over the next few weeks.
Here's how the watchdog might operate:
Currently, financial products are overseen by a myriad of agencies, and many blame lax oversight by these regulators for the creation of increasingly risky home loans that landed people deep into debt. Consumer-protection advocates say the new bureau will keep consumers from getting duped by such products.
“The existing regulatory agencies really care more about the safety and soundness of banks,” said Linda Sherry, director of national priorities for Consumer Action, a consumer protection advocacy group. “That’s why it’s so important that something be set down to really help people in the end see these toxic products coming along.”
For example, during the housing bubble, one tactic for people who couldn't afford a home the traditional way was to get an interest-only mortgage, which offered the lure of lower payments on the assumption that the house would be worth more by the time the loan reset to a higher interest rate.
The consumer agency could regulate those types of loans out of existence – or insist on prominent warnings to alert borrowers of the implications of the loan. If granted enough power, the agency could also serve as a resource center for consumers, handling individual complaints and problems.
Bankers are leery of the idea. They argue that limiting financing options is bad for consumers.
“Every one of these types of mortgage vehicles was good for someone,” said Wayne Abernathy, executive vice president of financial institutional policy for the American Bankers Association. For example, loans that allow people to skip payments some months make sense for someone with a fluctuating income, like a performer. “They were only bad when they became used for the wrong people.”
And regulation is not cheap, adds Mr. Abernathy. Banks will have to hire new employees to make sure they're meeting the new rules, which could cause consumer fees to go up, banking services to go down, and eligibility criteria for conducting business with banks to increase (for instance, requiring that the customer provide more business).
The increased expenses of regulation could also put small community banks out of business, since they’re less able to spread costs than large institutions, he says.
Another provision that could have a big impact for consumers is the elimination of bank incentives for higher-interest mortgages. In the past, some banks rewarded mortgage brokers who secured higher interest rates on home loans – even if customers qualified for lower rates. Both versions of financial reform would end that practice.
Financial reform may not extend the same prohibitions for auto loans, where auto dealers are also rewarded for securing higher interest rates by banks, consumer groups say. Only the Senate version would end the practice.
“The auto-finance industry is very centered on how they can get as much out of you on the loan, because the profit margin on a car is very slim for an auto dealer,” said Ms. Sherry. “It’s a large area of consumer finance that has a lot of tricks and traps in it that needs to be regulated at federal level.”
The new bill calls for several small measures that could have a big impact for individuals also, for instance, the creation of a liaison for military families at the new Consumer Protection Bureau, and free access to credit scores.