ABI Bankruptcy Blog Exchange » Items by Angie Littwin

Items by Angie Littwin

Greenspan Admits "Mistake"

Posted: October 23rd, 2008, 5:24pm PDT by Angie Littwin

If you missed Former Fed Chairman Alan Greenspan's incredible admission today, here it is. In a stunning statement, he said that much of his previous faith in free markets had been wrong: "I made a mistake in presuming that the self-interests of organizations, specifically banks and others, were such as that they were best capable of protecting their own shareholders and their equity in the firms.” He further called this mistake "a flaw in the model ... that defines how the world works." Let's hope that policymakers still in office agree.

A Countrywide Settlement

Posted: October 5th, 2008, 11:09pm PDT by Angie Littwin

Bank of America has agreed to settle a deceptive mortgage practices lawsuit on behalf of its relatively new subsidiary, Countrywide Financial, the notoriously aggressive mortgage lender. The attorneys general of Illinois and California negotiated the settlement on behalf of their states and at least nine others. The settlement will cost BOA approximately $3.5 billion in California and $190 million in Illinois. The settlement funds will go towards reducing payments for Countrywide borrowers with subprime and/or adjustable-rate mortgages, waiving prepayment and late fees, paying damages to customers who have already lost their homes, and subsidizing the relocation of those who are now in foreclosure.

A BOA spokesperson said that the bank plans to introduce the program in December. Hopefully more details about who will qualify will be available soon.

Foreclosure Tragedy

Posted: October 3rd, 2008, 12:30pm PDT by Angie Littwin

An excruciatingly sad story about the human costs of the home-mortgage crisis: [www.cnn.com]. A 90-year-old woman, Addie Polk, shot herself inside her foreclosed, Akron, Ohio home. It appears that she will live, although she is still in the hospital. Representative Dennis Kucinich, a member of her state's congressional delegation, told her story on the House floor during today's bailout debate, saying, "This bill does nothing for the Addie Polks of the world." He voted against the bailout, which finally passed in the House this afternoon.

"My Country Has Had Crisis..."

Posted: September 22nd, 2008, 9:07pm PDT by Angie Littwin

If you're like me and seek solace in satire when things go bad, this parody from a blog on The Nation's web site hits the note with perfect pitch. I won't spell out the whole thing here, but it begins,

"Dear American:

I need to ask you to support an urgent secret business relationship with a transfer of funds of great magnitude.

I am Ministry of the Treasury of the Republic of America. My country has had crisis that has caused the need for large transfer of funds of 800 billion dollars US. If you would assist me in this transfer, it would be most profitable to you."

The later statement that "this transactin is 100% safe" seems oddly prescient.

The Right and the Left of It

Posted: September 22nd, 2008, 5:31pm PDT by Angie Littwin

As debate on the bailout continued today, a funny thing happened on the New York Times' op-ed page. William Kristol, the Times' current token-ultraconservative columnist, and Paul Krugman, who might just be the most-read liberal economist in the country, agreed. They agreed that the bailout proposed by Paulson is a terrible one. Even more, they agreed for many of the same reasons, the main issue being Bob Lawless' point that the plan provides for just about no oversight of its implementation.

My views being what they are, I found Krugman's to be a must-read analysis of the current crisis. He breaks down what went wrong in a simple but not overly simplistic fashion and pinpoints exactly where intervention is needed.

Quick update: A few minutes ago, Krugman registered more positive opinion of Senator Dodd's alternative proposal.

Congress is Costing You Thousands of Dollars...?

Posted: September 3rd, 2008, 6:58pm PDT by Angie Littwin

The other day I heard an alarming advertisement on the radio. It began by warning that a new federal law could cost "you" thousands of dollars. It then proceeded to say that, if you want to avoid paying this money, you'd better hurry, hurry, hurry and purchase a home by September 30, when the statute goes into effect. The ad had the tone of a going-out-of-business sale: "Think you have all year to buy a home? Not anymore! Act now while you can still afford to make your dream of home ownership a reality! Offer (or law, in this case) expires on September 30, 2008." (Not an exact quote.) By this point, I was waiting with bated breath to find out how Congress was going to drain potential homeowners of so much money. Didn't it just pass a law designed to help homeowners weather the mortgage meltdown?

Well, it turns out that the thousands of dollars new home buyers will be paying are their own down payments. After some careful listening and some less careful inference based on the September 30 date, I came to the conclusion that the ad was referring to the ban on seller-financed down payments in the Housing and Economic Recovery Act of 2008. The bill was signed into law on June 30 and will go into effect on the October 1 (hence the rush to sell before then). The law's main focus is providing help for current struggling homeowners, but it gets just a little bit proactive about prevention by banning sellers from lending money for down payments. This provision is intended to protect homeowners in the long run. It forces buyers to do a sticker-shock test on whether they can really afford their new homes. And it eliminates some incentives for seller-lenders to overprice houses. When a seller is financing the down payment, there's a temptation to overstate the price because, in the company's role as a lender, it will have the final say over whether the buyer can really afford to spend that much. The only pricing obstacle left to overcome is the buyer, and it's reasonable to think that buyers will be slightly less sensitive to price when they're not paying as much of it right away.

So it's easy to see why real estate developers would be against this provision. But what struck me about the ad is its attempt to pass on this sentiment to buyers, an attempt that borders on misrepresentation. While it's true that the new law "costs" consumers money in the short-term since they'll now have to pay their down payments upfront (or borrow from somebody else, anyway), a borrowed down payment is hardly the same thing as a free one. In the end, buyers who finance their down payments will almost certainly pay more for their houses than those who don't.

By the way, I was in the car when I heard the ad, so I couldn’t write down the details. I remember the advertiser being a company called Portrait Homes, but when l looked it up, all I found was a web site for Pasquinelli & Portrait Homes. Yes, it is a Texas real estate company, but, if it's the same company, its position on the Housing and Economic Recovery Act has certainly changed: the web site features an ad based on the $7,500 tax credit the new law offers certain first-time home buyers. So it sounds like Portrait Homes is treating the changing-of-the-law like a sale after all. Throughout September you'd better buy a home right away before old law expires, but if you happen to stop by on October 1, they may just have a new legislative provision that will still save you money. If any Credit Slips readers out there hear this advertisement, I would greatly appreciate a confirmation about whether or not the company behind this gem is, in fact, Portrait Homes.

56,000 People – and One Guest Blogger – Can’t be Wrong

Posted: August 7th, 2008, 4:06pm PDT by Angie Littwin

When the Federal Reserve asked for comments on its proposal to prohibit credit-card issuers from engaging in “certain unfair or deceptive acts,” it had no idea what it was getting into. The draft rules generated approximately 56,000 comments, most of them from angry consumers. This is an overwhelming response to what is known in legal jargon as a “Notice and Comment Period,” a regulatory tradition that is usually about as exciting as it sounds. While many of these were form letters that people had clipped or copied from advocacy materials, a large percentage were from individuals sharing their own stories. That is a lot of effort on the part of a lot of people.

The New York Times has published a helpful editorial about the proposed rules and the overwhelming response to them. From a Credit Slips perspective though, the most interesting part is that it cites guest blogger Ronald Mann. And the editorial board didn’t just call him up for a quick quote. The editors actually read and digested his article Bankruptcy Reform and the Sweatbox of Credit Card Debt. They even provide a link. In this article Professor Mann argues that the real reason credit-card companies benefit from BAPCPA is that they get more time to collect penalty interest and assorted late fees as distressed borrowers wait longer to file for bankruptcy. What’s so interesting about this framework is that it takes something that people used to characterize as a side effect – the piling on of interest and fees when borrowers default – and places it front and center, arguing that it is now the distressed borrowers, rather than the paying customers, who are at the heart of the credit-card issuers’ business model – and their lobbying efforts.

The paper is quickly becoming a classic in the field. It’s one of those rare articles that takes the same events all of us were looking at and frames them in a completely new way. So it’s especially exciting to see it prominently featured in the mainstream press. The academic debate is shifting from one where we think of defaulting borrowers as something lenders need to protect themselves from to one where we see defaults as something issuers actively solicit and worked to enshrine in law. If this point can penetrate into popular discussion, we’ll be making some real progress.

No Cushion

Posted: August 4th, 2008, 3:09pm PDT by Angie Littwin

This past weekend The Washington Post began an excellent series on the financial issues facing low-income workers. The first installment is based on a poll of 1,350 randomly-selected people who made $27,000 or less in 2007. According to the Post, this covers approximately 40 percent of the American work force.

The results will not come as a surprise to many Credit Slips readers, but they are worth examining because they document the fragility of so many families’ finances outside of a bankruptcy setting. Some of the respondents probably have filed for bankruptcy – the poll does not appear to have asked – but, unlike many of the studies we discuss on this blog, it is not a survey of people in bankruptcy. Yet many of the surveyed families are coping in the same ways that bankruptcy filers do. They are doing things like putting off medical treatment, working additional hours or jobs, and moving to cheaper housing. A full 26 percent said that they had increased their credit card debt in the past year in order to make ends meet.

What is particularly interesting is that the financial profile of the people surveyed looks something like a “before” picture of the “after” families we see in bankruptcy.

Since those participating in the poll had to be employed, many are not currently experiencing the financial crises, such as job loss and medical problems, that seem to define families in bankruptcy. (Of course, they could have family members who are sick, and one-third of people said someone in their family had lost a job in the past year.) But they are extremely ill-equipped to withstand any negative changes to their financial situation, mainly because they have almost no financial cushion to fall back on. Half of the families surveyed have cashed in savings or retirements funds in the past year. About 30 percent of their workplaces don’t provide any health insurance or vacation days (which could be used provide a buffer in many types of emergencies). And 40 percent get no sick days. Most telling are their own opinions on what they could survive. Half said they would only make it a month if they suddenly lost their job, and one third said they would last two weeks or less before being in severe financial trouble.

Reading this article, I started thinking that these families were sitting ducks for bankruptcy. They have nothing to fall back on should the worst happen and few possibilities for creating such a cushion. And over a quarter have already turned to credit-card debt to meet their basic needs. This suggests that changes which would help the wider pool of people who are struggling financially may help some people avoid bankruptcy in the first place.

Obama on Credit Cards and Bankruptcy

Posted: June 9th, 2008, 3:33pm PDT by Angie Littwin

This is quick post about Obama's speech on the economy in Raleigh, N.C. He spent two and a half "paragraphs" of it discussing credit cards and bankruptcy. (The link is to the whole speech. I've also excerpted the relevant passage in the "continue reading" part of this post.) I'm intrigued by his five-star risk rating idea for credit cards because I have a particular interest in meaningful disclosures, ones that can actually help real people make decisions about financial products. But I am a little disappointed by the limited way he discussed bankruptcy reform. Yes, letting people prove medical bankruptcy would be a good start. But as many of us look more closely at the post-BAPCPA data, I'm becoming more convinced that it's the procedural barriers and the expenses they entail keeping people out of bankruptcy, not the means test itself. If that's correct, a small improvement to the substance of the law might not make much of a difference, especially if it were accompanied by additional procedure (i.e., the process by which people would "demonstrate" that they filed because of medical bills).

Here is the relevant text from the speech:

"Finally, we need to help those Americans who find themselves in a debt spiral climb out. Since so many who are struggling to keep up with their mortgages are now shifting their debt to credit cards, we have to make sure that credit cards don’t become the next stage in the housing crisis. To make sure that Americans know what they’re signing up for, I’ll institute a five-star rating system to inform consumers about the level of risk involved in every credit card. And we’ll establish a Credit Card Bill of Rights that will ban unilateral changes to credit card agreements; ban rate hikes on debt you already had; and ban interest charges on late fees. Americans need to pay what they owe, but you should pay what’s fair, not just what fattens profits for some credit card company and they can get away with.

The same principle should apply to our bankruptcy laws. When I first arrived in the Senate, I opposed the credit card industry’s bankruptcy bill that made it harder for working families to climb out of debt. John McCain supported that bill – and he even opposed exempting families who were only in bankruptcy because of medical expenses they couldn’t pay.

When I’m President, we’ll reform our bankruptcy laws so that we give Americans who find themselves in debt a second chance. We’ll make sure that if you can demonstrate that you went bankrupt because of medical expenses, you can relieve that debt and get back on your feet."

Reading Redux

Posted: June 8th, 2008, 10:32pm PDT by Angie Littwin

Last year around this time, I wrote a Credit Slips post about a law-professor friend whose realtor expressed shock and dismay when she and her husband insisted on reading every document she gave them to sign regarding the house they were purchasing. In the post, I somewhat sanctimoniously referred to myself as someone who always reads her contracts. This year, it was my turn, and I have to admit that I did not pass my own test.

I faithfully read every home-purchasing form contract my realtor and lender sent me from the day I made the offer until the day before closing. I even actually managed to do something productive for all my trouble; I switched inspectors because the first one insisted on a rights-waiving contract. But partway through the closing itself, faced with two inches of papers to sign, my resolve wavered. I was tired and hungry, and my mind kept circling around to all the moving-related errands I needed to do in Austin before the end of business hours and my flight out of town the next day. (A word to the wise: Never go to a closing on an empty stomach.) So I took a few shortcuts.

Fortunately, I have a great realtor who has been in the business a long time. She was able to identify all the pages that were state-mandated disclosures. Those, I felt comfortable signing based on an oral description since there was absolutely nothing I could do about them anyway. Then, I started skimming all paragraphs that began with something like, “In the event of default, Lender may….” I’m about to starting teaching Secured Transactions so I already know how terrible things can be once you go into default, and I’m able to count the ways that can happen.

Even with this method, I did find a few unsavory clauses. If I make any changes to the borrower listed on the title – say, if I were to get married and add a husband on the title – and forget to tell my lender, the bank has the right to accelerate the loan, demanding the entire amount immediately. Meanwhile, if the lender sells my loan to an entity I feel uncomfortable with or have never heard of, I have no right to oppose the sale and am entitled to only fifteen days notice. (After finding these provisions, what was I supposed to do? Not sign?) But even so, by the time I got to the final page – which, eerily enough, happened to be the one where I acknowledge that I am bound by the written word of the contracts notwithstanding any oral representations to the contrary – I was a nervous wreck. What if there was there was some terrible clause hidden in all those papers, one that had I found it, would be bad enough to make me halt the entire process? In this case, I hope I’ll never know, because I just couldn’t bring myself to go through the mound of papers again.

As I was leaving, I had an idea that nearly caused me to smack myself on the forehead I felt so dumb. Why hadn’t I asked to receive a copy of the papers ahead of time? There are a variety of ways to address the problem of consumers making the largest purchase of their lives based on forms they usually don’t read, often can’t understand, and couldn’t do much about anyway. But at the very least, it should be standard practice to distribute these forms beforehand, so that people have the option of reading them at their leisure, preferably after a good meal. I know it wouldn’t help everybody, but it probably would lead to a few more informed home buyers. If borrowers received the forms far enough ahead of closing, a sophisticated few might even choose their lender or broker based in part on the contracts. In the meantime, the next time I buy a house, I’ll make sure to eat a hearty breakfast.

The Repo Man Cometh

Posted: May 21st, 2008, 6:17pm PDT by Angie Littwin

Repossession isn’t just for struggling car owners or low-income rent-to-own borrowers anymore. The combination of the recent overextension of credit and the current corresponding crash has resulted in a newly strengthened market for the repo man: boats. And we’re not talking about the poor fisherman who can no longer make the payments because of weakening economy. No, these boats are genuine luxury items – boats with names like “Jersey Dreaming’” or “Toy Box.” According to an article by David Streitfeld of the New York Times, boat repossession is on the rise. Streitfeld follows a repo man in Michigan who says that his usual summer "slump," when boat owners make an effort to catch up on payments so they can enjoy the season, is not occurring this year. A related CNBC video clip documents a boat repo man whose business has increased by 300 percent since 2006.

This is another sign that credit failure is making its way up the class spectrum. (For others, see the April 25 New York Times article on home foreclosures in Greenwich, Connecticut.) The affected people may not be “balance sheet rich” in that their debts probably exceed the value of their assets of this point, but they are – or were – at the very least in the small group of privileged Americans who owned non-home assets valued in the six-figures ranges. This gives their stories a different quality than others about repossession. There is no head of household who can no longer make it to work without a car, no single mother of three who now has to make do without a washing machine. And, unlike with home foreclosures, most boat owners are not being pushed out of their homes, their school districts, and their middle-class American Dream.

But there is still some resonance with these other foreclosure stories. The now-former owner of “Toy Box” says he did borrow beyond his means, but he also described his frustration at the boat loan whose payment structure let him pay down only $14,000 of $125,000 over the course of seven years. He recently lost his home to a mortgage rate readjustment and is filing for bankruptcy. He has another thing in common with his fellow bankruptcy filers of a more modest lifestyle: the desire never to use consumer credit again. In one of his last quotations in the article, he says, “I have no intention of ever buying anything, ever.”

MasterCard’s Machiavellian Twist

Posted: April 21st, 2008, 6:29pm PDT by Angie Littwin

Having just spent the last six months or so giving job talks on a paper about why credit cards issuers should allow consumers to precommit to certain levels of spending and borrowing, I am simultaneously excited and disappointed to see MasterCard's latest offering, the "inControl" card, as reported by Aili McConnon in BusinessWeek. I'm excited because it shows beyond a doubt that allowing consumers to set predetermined limits on their spending and borrowing is technologically feasible and perhaps not even that expensive. (McConnon did not discuss the fee structure for the new product.)

I'm disappointed because of the product itself. Instead of using the technology to help consumers gain the credit control many so desperately seek, MasterCard is using it to allow employers to set limits on employee corporate-account spending. MasterCard is giving employers a diverse set of tools that are incredibly useful. Managers can set limits not only on the amount of spending, but on where and when employees spend, and it even offers the option of sending real-time text messages back to the company whenever employees use the card. These options are almost exact analogues of the ones I proposed: allowing consumers to set their own hard credit limits, to "black out" certain stores they find particularly tempting, and to enable them to receive a receipt stating how much room they have left in their credit limit each time they make a purchase. The card is even called "inControl," when I'd suggested "You're in Charge" as a possible product name.

How handy it would have been for me to point to this card when I gave my job talks. I must have answered the question about whether my ideas were technologically feasible dozens of times since October. On the other hand, maybe not. There are probably few fates worse for a budding credit scholar than to have one's ideas preempted by MasterCard. And yet, MasterCard does plan to market a similar card to parents of college students. Perhaps eventually this could lead to products that would help consumers control their own spending as well.

By the way, for anyone who by some chance happened to miss my posts on Credit Slips for the past six months or so, the reason for my absence is that I've been busy giving all these job talks. I plan to start posting regularly again as of now. The story does have a happy ending though. As of July 1, I will begin as an Assistant Professor at the University of Texas Law School in Austin.

More Subprime Side-effects?

Posted: September 5th, 2007, 8:17pm PDT by Angie Littwin

When credit card borrowers have trouble paying their debts, issuers respond in a number of ways, but one of them is particularly surprising: they often extend more credit. According to the Boston Globe article Credit Card Companies Woo Struggling Mortgage-holders, issuers are extending this strategy to subprime homeowners as well. Globe staffer Robert Gavin reports on a study by Mintel International Group, which claims that as the subprime mortgage market continues to implode, credit card issuers are stepping in to offer more credit to struggling homeowners.

Or at least that’s what the headline says.

The reality seems to be a bit more subtle. I couldn’t obtain a copy of the study itself, so my understanding of it is based entirely on the Globe report. But even a close reading of the article indicates that the tie is not as clear as the headline makes it sound. The study appears to have found a strong correlation between the decline in the subprime housing market and an increase in credit card solicitations to subprime borrowers generally. Direct-mail solicitations to subprime borrowers were 41 percent higher in the first six months of 2007 than they were in the first half of 2006. At the same time, solicitations to the most credit-worthy consumers fell by 13 percent. And the numbers are even starker when you look at June of 2005.

This is indeed fascinating. But it’s not conclusive. These results appear to apply to all subprime borrowers. What the study did not seem to find is that borrowers struggling with subprime mortgages were singled out. As it stands, there’s another event that could explain these findings equally well – the U.S. bankruptcy law that went into effect in October of 2005. It could be the case that issuers are still adjusting their solicitation volume to account for the newly weakened bankruptcy protections available to their defaulting customers. On the other hand, issuers may very well also be hoping to cash in on the subprime mortgage crisis by providing cash for those who can no longer draw on their home equity or by encouraging struggling homeowners to use credit card debt to bridge the gap in their mortgage payments. Only a study specifically focused on subprime homeowners will tell.

"The Best Loan Possible" from Whose Point of View?

Posted: August 27th, 2007, 7:13pm PDT by Angie Littwin

"I want to be sure you are getting the best loan possible," is a line from a Countrywide Financial Service Corporation sales pitch. Since a sales person would be the one saying it, borrowers could be forgiven for thinking that this meant the "best loan" for them. But as Gretchen Morgenson shows in an expose in Sunday's New York Times, it apparently means the "best loan possible" for Countrywide. Relying primarily on anonymous interviews with former employees and documents they provided, Morgenson demonstrates how every aspect of Countrywide's business steers borrowers towards loans that are more profitable for the company and therefore more expensive for the borrower.

Examples abound. Until last September, the software program used in Countrywide's subprime unit excluded borrowers' cash reserves, making them appear less credit worthy and therefore ineligible for the "best" loans (from the borrower's point of view, that is). The commission structure for sales representatives has the same effect. According to one salesperson, the addition of a three-year prepayment penalty clause to the contract means an additional one percent in commission. Higher adjustable rates in adjustable rate mortgages lead to higher commissions as well. And until recently, Countrywide steered clear of Federal Housing Administration loans, which are less risky but less profitable than other mortgages.

From the outside, it seems obvious that the "best loan" for the borrower is not the "best loan" for the lender. This is common knowledge when shopping for ordinary goods and services. Every buyer knows that the worse the deal for her, the better it is for the seller -- and consumers are appropriately suspicious of sellers who have a lot of discretion, like car salespeople. But people don't shop around the same way for loans and don't think of mortgage brokers like used car salesmen. Maybe by the end of the mortgage crisis, we will.

Blaming the Correct Governmental Body

Posted: August 24th, 2007, 4:18pm PDT by Angie Littwin

Bob should be pleased to see that today's New York Times editorial on taxing debt forgiven in foreclosure puts the blame squarely on Congress' shoulders. On Monday, Bob posted about a New York Times news article on the same topic. He argued that the problem was real, but the responsibility lies with Congress, not the I.R.S., on the sensible grounds that Congress has the power to write the rules, whereas the I.R.S. just enforces them. The New York Times editorial page apparently agrees, because today's piece says that it's not the I.R.S.' fault and ends with a call to Congress to provide relief.

I, for one, am going to take this as confirmation that the Times' editorial board is composed of Credit Slips readers.

Leave It to "The Onion"

Posted: August 15th, 2007, 3:11pm PDT by Angie Littwin

After John's thoughtful post on the sub-prime meltdown yesterday, I thought I would respond in a less thoughtful vein: via everyone's favorite satirical newspaper, The Onion. Today, it posted its reaction to the sub-prime mortgage crisis with a "Statshot" ("A look at the numbers that shape our world") entitled "How Are We Paying Off Our Subprime Mortgages?" It is worth a look for some gallows humor on a difficult topic. My favorite response -- provided by 17% of the paper's fictional respondents -- is, "Getting a job at loan office, bringing down company from inside."

Bad Hippo

Posted: July 14th, 2007, 2:38pm PDT by Angie Littwin

The New York Times has a double dose of consumer credit pieces today. If you haven't seen them yet, the first is an editorial about the intersection of bankruptcy law and the rise in home foreclosures. Interestingly, the editorial's primary concern is not with the changes from 2005, but about a 30-year-old provision prohibiting the modification of repayment terms on primary residence mortgages in Chapter 13. The editorial argues that this provision may have been sensible when most mortgages were straight-forward, low-risk loans, but that with the rise of riskier, more complicated mortgage products, courts need more discretion to protect homeowners.

Second is Erik Eckholm’s article, "Enticing Ad, Little Cash and Then a Lot of Regret" about the new wave of mail-order-financed computer companies, such as BlueHippo, Circuit Micro, and Financing Alternatives, where customers make small installment payments through bank-account deductions in exchange for computers that (ideally) arrive by mail. I had heard BlueHippo’s radio ads and wondered about the service. I have my own variation on the motto, "if it seems too good to be true, it probably is," which is that, "if it's a new, heavily advertised financing option aimed at low-income people that seems reasonable at first, it's probably not." So I'd assumed there was something fishy about the service, but I hadn't had a chance to look into it. Fortunately, the New York Times did the investigation for me. It turns out that Better Business Bureaus across the country have been flooded with complaints about these services. Financing Alternatives is currently the Norfolk, Virginia office's number one subject of complaints. The Orange County office has had a similar relationship with Circuit Micro. And attorneys general in Maryland, Illinois, and West Virginia have taken action against BlueHippo.

In theory, a service that enables low-income consumers to buy computers using small payments over time is a good idea. These days, computer competence is a basic prerequisite of upward-mobility. Most higher educational institutions assume (or require) that their students have computers. Obtaining the skills to compete with their middle-class, My Space-entrenched peers is crucial for the younger generation of low-income people. For low-income parents who want their children to do well, finding them a computer is a pressing concern. There are two major problems with these computer sellers, however.

First, the price of computers has fallen dramatically in the last few years, but unsophisticated low-income consumers are unlikely to recognize the depth of this drop. Many are probably unaware of the fact that they can obtain a good new computer for $500 and a working used one for even less. (Don't forget that they are often buying their first computer, so it's harder for them to shop over the internet where the best computer deals are.) It is the lack of this crucial piece of knowledge that can lead them to think that $1,800-$2,000 or more is a good price for a financed computer. If low-end computers still sold for $1,000-$1,500, as they did not that long ago, these would be quite reasonable financing prices. But the market has changed in consumers' favor.

Mainstream retailers should recognize this opportunity and target their low-priced computers to low-income families, offering lay-away plans and perhaps more reasonable financing options of their own. This price drop also means that businesses buy new computers much more frequently than they used to, presenting a great opportunity for business-charity partnerships aimed at getting the older, but still functional, computers into the hands of low-income families. Here, in Boston, virtually every savvy low-income family I’ve worked with has obtained a computer this way. But I suspect that in places without the same non-profit and university infrastructure, much more work needs to be done.

The second problem with these companies is that they don't seem to be delivering the computers. With computer prices dropping faster than low-income people's perceptions of them, someone should be able to make a tidy profit by charging twice the going rate – and delivering a functional product, no scams necessary. But this is not what's happening. The New York Times article focused on a family that received a series of broken computers. Others say they never received any at all. Circuit Micro got in trouble for allegedly deducting $40 fees from the bank accounts of "customers" who had not yet committed to a purchase. And although BlueHippo claims that its delays in shipping computers are due to inconsistent customer payments, the Better Business Bureau has issued a national warning about the company. This really should present a good opportunity for reputable computer sellers, but in the meantime, low-income buyers beware.

The New York Times on Bear Stearns and the Foreclosure Crisis

Posted: June 28th, 2007, 5:05pm PDT by Angie Littwin

It was easy to miss among the multitude of legal news articles about the Supreme Court rulings, but the New York Times issued an excellent editorial today on "Housing and Hedge Funds." The piece picks up where Credit Slips blogger Elizabeth Warren left off on Sunday and is well worth a read. One of the editorial's most interesting points is that the involvement of hedge funds in the mortgage crisis means that struggling homeowners are no longer the only people suffering as a result of bad mortgages. Wall Street is now losing money too. And the negative effects could spread throughout the whole economy. This makes it more likely that Congress will step in and take action, but it also makes the ethics of Congressional intervention more complicated. Congress would no longer be helping only ordinary families working to keep their homes; it would also be bailing out Wall Street firms who squarely shouldered the risk.

Blame the Borrower

Posted: June 25th, 2007, 8:05pm PDT by Angie Littwin

These days, smart opponents of regulating controversial lending practices talk in terms of consumer choice. They portray people like me who often think regulation is a good idea as the ones hurting consumers by limiting their options. So it's a rare occasion to come across someone who is willing to blame the borrower as thoroughly and openly as Kris Frieswick does in her piece "Here Comes the Repo Man" in this week’s Boston Globe Magazine (free registration required).

The article's subtitle: "It's easy to scold sub-prime lenders for the glut of home foreclosures. It's also wrong. Blame the buyers." Her take on current proposals to regulate subprime mortgage lenders and brokers in Massachusetts: "I applaud the licensing and counseling concepts, but legislators must accept that home buyers deserve the bulk of the blame for the foreclosure crisis." And her solution for halting the rise in home foreclosures: "We don't. Time does."

Frieswick's main point appears to be that most borrowers who end up in foreclosure should have known they couldn't afford the house in the first place: "Brokers and lenders sold a boatload of usurious loans, but they couldn’t have moved a single one without the full cooperation of buyers who didn't read or understand the fine print, didn’t do the math, or gambled wrongly that tomorrow would be a better day." She's absolutely right that it takes two to tango all the way to signing a bad loan. But lenders and brokers know that consumers don’t read or understand the fine print, don't always correctly do the math, and systematically overestimate the likelihood that their finances will improve – and the consumers who make these mistakes don’t know that lenders know this.

It's a question of who’s in a better position to prevent the harm. I spent several months last year interviewing low-income women, many of whom were on fixed incomes, about how they use credit cards. Some of those who had gotten in trouble with debt asked me why the companies would have let them borrow more money than they could pay back. They thought that if the company gave them a certain credit limit, that meant they could afford to borrow at that limit. Whether the borrower is rich or poor, I can only imagine how much more persuasive that thinking must be when you have an actual person, in the form of a loan officer or a broker, whose job it is to tell you that you can afford the loan.

Twice, Frieswick asks variations on the question, "How, exactly, did they think this was going to end?" First of all, I'm sure that none of the borrowers thought it was going to end in foreclosure. More specifically, many of them – I would bet – thought that they were going to end up with the house, the picket fence, and the American Dream precisely because their lender or broker told them they would. Consumers are still operating on the assumption that qualifying for the loan is the hard part, that banks refuse to give you loans you can’t afford. But the rules have changed, and the price for not having caught up yet can be your home.

Payday Lending: The New “Laboratory of the States”

Posted: June 12th, 2007, 4:03pm PDT by Angie Littwin

Last week, the Oregon Senate voted to cap interest rates on all consumer loans under $50,000 at 30 percent above the federal reserve discount rate, which is currently at 6.25 percent. The bill is widely expected to pass in the Oregon House of Representatives, and Governor Ted Kulongoski has said he will sign it. Although it technically applies to all consumer loans, the legislation will mainly affect payday and car title lenders, who claim that it will put the vast majority of them out of business in the state. Or, as Bill Graves writes in the The Oregonian, the bill “transforms Oregon from one of the most payday friendly states in the nation to one of the most strictly regulated -- with the exception of 10 states that effectively ban payday lending.”

Consumer groups, some religious leaders, food bank operators, and the Oregon AARP have all pressed for the regulation of payday lenders. While these are groups with which I usually agree on this type of legislation, I do worry about whether and where would-be payday borrowers will obtain cash in emergencies if fewer payday loans are available. Fortunately, with new laws like Oregon’s, it is finally possible to really study this issue again. Until recently, it has been impossible to use what Justice Brandeis famously called “the laboratory of the states” to compare how consumers fare in states with different levels of usury restrictions, because, for the most widely-used types of borrowing, all states effectively had the same usury rate – none.

But a 2001 letter by the Office of the Comptroller of Currency (OCC) gave states the effective ability to regulate interest rates on payday loans. As more and more states take advantage of their new power, those of us who want to find out what happens to consumers under different payday lending regimes can compare consumers in Oregon to those in Texas to those in Massachusetts to those in Delaware. Hopefully, what we’ll learn will allow legislatures to fashion better payday lending policies – and better policies for other types of lending as well.

For nonlawyer Credit Slips readers, here’s a little back story on this complex regulatory framework: Starting in 1978 with the landmark Supreme Court decision Marquette vs. First Omaha Service Corp., and continuing with other decisions, bank lenders – most prominently credit card issuers – have been able to charge the interest rate of the state where they are located instead of being bound by their customers’ state laws. So if my credit card company is in South Dakota (as many are), it can charge me according to the usury laws of South Dakota (which has none), rather than being stuck with the laws of my state, Massachusetts (which are fairly restrictive). That is why credit card issuers can charge as much interest as people will pay, without worrying about state usury laws – and why there’s an oddly high chance your credit card company is located in South Dakota.

Nonbank lenders haven’t had this ability, so states have been able to regulate entities such as pawn shops and rent-to-own stores for the past three decades. When payday lending took off in the 1990s, these lenders tried to play the credit card issuers’ game by affiliating with bank partners, but in 2000 and 2001, the OCC put a stop to that. That is why, even though Oregon’s new law theoretically applies to all lenders, payday and car title lenders are the only ones who are upset about it. The new law will not affect credit cards at all.

A “Small” Exception in Credit Card Arbitration Clauses

Posted: June 3rd, 2007, 10:40pm PDT by Angie Littwin

The other day I took out a store credit card at a department store. I wasn’t happy about it, but it was one of those stores that does not take Visa or MasterCard, and I had planned on paying for my purchase with a debit card. I read the contract, even though the sales person rang up my purchase before handing it to me. (I admit that I take an academic interest in even my own credit transactions.) I was not surprised to find that the contract featured a binding arbitration clause, but I was impressed to see that this clause included an exception for consumer actions in small claims court. Specifically, the issuer agreed not to invoke its right to arbitration if the customer sued it in small claims court.

I did a little research (i.e., I emailed fellow Credit Slips blogger Katie Porter) to see whether I had an anomalous contract or whether small-claims exceptions were common. It turns out that the inclusion of such an exception is considered a best practice in consumer arbitration clauses. In a workshop for the Federal Reserve Board, Alan S. Kaplinsky, whom the Fed describes as a “pioneer in the development of consumer arbitration clauses,” listed a small-claims exception as one of five terms necessary for a “fair” arbitration provision. (The Fed wrote a report about the workshop, available here.)

I agree that a small-claims exception for consumer lawsuits is a positive development, but it is not as consumer-friendly as it looks at first glance. It may be helpful when the consumer is the plaintiff, but the clause does not appear to apply when the consumer is the defendant. Issuers regularly bring actions against their customers, usually to collect on unpaid bills, and mandatory arbitration clauses may be particularly problematic in this context. The current small-claims exception leaves these consumer-defendants with no non-arbitration option.

Before I got my bill or even got my new credit card in the mail, I called up the issuer, paid the balance, and canceled the account. I am not interested in a new credit card at the moment, particularly one for a store where I rarely shop. On the other hand, if the contract had excluded the mandatory arbitration clause altogether, then maybe – just maybe – I would have kept the card for sentimental reasons.

Mutual Finger-Pointing

Posted: May 30th, 2007, 3:03pm PDT by Angie Littwin

As Lisa Lerer wrote in The Politico last week, mortgage lenders and mortgage brokers are fingering each other as the culprit in the recent rise of home foreclosures. In her article Lawmakers Seek to Protect Borrowers, Lerer reports on Mortgage Bank Association Chairman John Robbins’ speech at the National Press Club, where Robbins blamed brokers for steering consumers into risky subprime loans.

The National Association of Mortgage Brokers did not take these charges lying down. The association’s president, Harry Dinham, responded in an email that, “It is truly unfortunate that the president of the Mortgage Bankers Association has attempted to shift blame away from Wall Street, federally chartered banks, state-chartered lenders and underwriters for the subprime situation we find ourselves in today.” The brokers are even going so far as to lobby for more regulation . . . of the mortgage lending industry, naturally. They are seeking national standards for continuing education and criminal background checks for banks and other lenders. Such requirements might improve the quality of brokers as well, but who’s counting?

What’s positive about this inter-industry lobbying squabble is that it means both groups are worried. If lenders and brokers did not think that consumer-protection bills such as those introduced by Senators Charles Schumer and Jack Reed had some chance of passing, they might have shown more restraint in attacking each other.

Finally, here’s a war where consumers benefit no matter who wins.

The American Law & Economics Association Annual Meeting

Posted: May 6th, 2007, 7:12pm PDT by Angie Littwin

This weekend was the annual meeting of the American Law & Economics Association (ALEA). It was a two-day conference at Harvard Law School, with five concurrent panels of three presenters for each time slot. Although the topics ranged from plea bargains to family law to referees in the NBA, there was almost always a bankruptcy or contracts panel taking place. (I knew I was on the right track because the sessions I wanted to see were all in the same room. I got to know Pound 102 quite well.)

I saw too many presentations to recount all of them, so I’ll summarize briefly three papers I think will be of particular interest to Credit Slips readers.

Ed Morrison (Columbia) is continuing his fascinating work on small businesses in bankruptcy. His current finding is that a very small percentage of businesses that exited the market did so through bankruptcy, and he profiled the characteristics of the businesses that did use Chapter 11. Interestingly, though he found variables (such as the presence secured debt) that businesses who used bankruptcy shared at a significant level, many of the other businesses he studied had those same characteristics as well. The result I found most interesting is that states with high rates of small business filings also have high rates of consumer filings. Is this because so many small business owners in bankruptcy file consumer petitions as well? Or because so many small businesses file in Chapters 7 and 13 that the numbers in all three chapters are really describing the same event? Or perhaps it’s because of generally slow economies in those regions. We hope to have more information on those questions after we get the data from the current Consumer Bankruptcy Project.

Douglas Baird (Chicago) also presented a paper on small businesses in bankruptcy. His results provide a nice juxtaposition to Ed Morrison’s. Even though the vast majority of small businesses that exit the market do not use bankruptcy, those that do still make up the overwhelming majority of businesses in Chapter 11. The very smallest businesses, which represented the largest category of filers in the study, are so small that they frequently do not even have secured creditors. Their major creditor is typically the IRS, often because the owners have taken funds from their employee payroll tax accounts, presumably in a desperate attempt to keep the business afloat. That’s an unsettling picture, to say the least.

Michelle White (U.C., San Diego) presented on consumer bankruptcy. She credits the tremendous rise in credit card debt for the correspondingly large rise in consumer bankruptcy filings over the past few decades, although BAPCPA has (temporarily, in my view) dislodged that relationship. (Since BAPCPA, credit card debt continues to soar, while filings are down. Whether they stay down remains to be seen.) She proposed an empirical project that would distinguish between debtors who land in bankruptcy because of difficulties managing credit cards in light of cognitive biases and those who seek bankruptcy through strategic planning.

These descriptions, of course, do not do the authors justice. Michelle White’s paper is available through the ALEA conference site. Ed Morrison and Doug Baird have related papers on SSRN.

Commercial Law Beats Out Crim for Excitement (Who Knew?)

Posted: May 6th, 2007, 5:30pm PDT by Angie Littwin

My colleague, Carissa Byrne Hessick, was a guest blogger on PrawfsBlog last week. Although she wrote several interesting posts in her field of criminal law, she was disappointed that she received by far the most comments on her “non-academic” post about buying a house.

Far from being non-academic, the post and comments comprise a nice mini-debate on the virtues and pitfalls of reading contracts before you sign them. Carissa’s post is about her realtor’s shock when she and her husband (also a law professor) actually read the various agreements she gave them to sign. The reader responses give several accounts of the reasons why people don’t read consumer contracts. The common issue of not understanding them anyway is undoubtedly less relevant for people who read legal blogs than for your average consumer, but even this legally sophisticated crowd had faced obstacles when attempting to read consumer contracts before signing. It’s socially awkward. Because so few people read these contracts, time for reading is rarely built into the process, and you usually have to read while the realtor or sales person sits impatiently and watches you. One person compared those of us who read our contracts to people who cannot order restaurant meals without making a million changes and substitutions. (I *wish* I could make a million changes and substitutions when I read a contract of adhesion.)

Another commenter suggested that people don’t read consumer contracts out of “despair.” As he put it: “When sitting at a 3-hour closing, signing the purchase agreement on a car after negotiating for, what seems like days, what does reading the contract get you? There is little to no chance that anyone with whom you are dealing has authority to make any changes even if you do find ‘problems.’ Even if they do have authority, the only option they often present is that ‘We don't change contracts. But you are free to walk away and, after spending another 3 days negotiating, getting the next company to offer you the same language.’”

The final comment suggested that unrepresented consumers were better off not reading contracts of adhesion because not having a chance to read the contract could sometimes be a legal defense. Hmm… that probably wouldn’t work too well for a lawyer who for studies contracts for a living. I suppose I’ll have to continue my admittedly futile practice of being stared down by landlords and sales people everywhere. How about Credit Slips readers? Do you read your consumer contracts?

Are Mortgages the New Credit Cards?

Posted: April 26th, 2007, 11:52am PDT by Angie Littwin

Today, Harvard’s Joint Center for Housing Studies released two reports on understanding the home mortgage market. One study, entitled “Mortgage Market Channels and Fair Lending: An Analysis of HMDA Data,” explores the dramatic changes in the mortgage market over the course of the past two decades, including the rise of subprime lenders offering risk-based pricing. The other report, “Understanding Mortgage Market Behavior: Creating Good Mortgage Options for All Americans,” analyzes the cognitive and behavioral biases that limit consumers’ ability to compare different types of mortgage products in accordance with their own long-term preferences. For example, the study explains how some consumers will have difficulty evaluating products such as adjustable-rate mortgages because many people face cognitive distortions when comparing short-term and long-term risks. It also documents how, as the number and type of mortgage products have multiplied, choosing a mortgage has become breathtakingly complex.

Both reports have several compelling findings, including some important analysis on racial and ethnic disparities in mortgage types. But what fascinates me is how familiar this all sounds. There is another industry frequently discussed on Credit Slips that has recently expanded into subprime territory, that is accused of playing on cognitive biases to induce customers to take out loans that are ultimately unaffordable, and that features contracts so complex law professors must work to understand them. The good news is that we can use these similarities to cross-pollinate our ideas for improving both systems, adapting for the mortgage context ideas that were developed for credit card borrowing and applying mortgage reform proposals to credit cards. The bad news is that there are now two ways for people to find themselves in unforeseen unmanageable debt.

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