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Does Mandatory Loan Review Affect Mortgage Contract Choice and Performance?

Author

Listed:
  • Itzhak Ben-David
  • Sumit Agarwal
  • Gene Amromin
  • Souphala Chomsisengphet
  • Douglas D. Evanoff

Abstract

We explore the effects of mandatory third-party review of mortgage contracts on the terms, availability, and performance of mortgage credit. Our study is based on a legislative pilot carried out by the State of Illinois in a selected set of zip codes in 2006. Mortgage applicants with low FICO scores were required to attend loan reviews by financial counselors. Applicants with higher FICO scores had to attend counseling only if they chose 'risky mortgages.' We find that low-FICO applicants for whom counselor review was mandatory did not materially change their contract choice. Conversely, applicants who could avoid counseling by choosing less risky mortgages did so. Although ex post default rates among low-FICO borrowers in the pilot program declined by 25%, we find that the educational component of counselor review played only a minor role. Instead, external review presented strong incentives for lenders to impose tighter ex ante screening on low-credit-quality borrowers.

Suggested Citation

  • Itzhak Ben-David & Sumit Agarwal & Gene Amromin & Souphala Chomsisengphet & Douglas D. Evanoff, 2011. "Does Mandatory Loan Review Affect Mortgage Contract Choice and Performance?," NFI Working Papers 2011-WP-12, Indiana State University, Scott College of Business, Networks Financial Institute.
  • Handle: RePEc:nfi:nfiwps:2011-wp-12
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    References listed on IDEAS

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    More about this item

    Keywords

    Financial counseling; screening; subprime crisis; household finance;
    All these keywords.

    JEL classification:

    • D14 - Microeconomics - - Household Behavior - - - Household Saving; Personal Finance
    • D18 - Microeconomics - - Household Behavior - - - Consumer Protection
    • L85 - Industrial Organization - - Industry Studies: Services - - - Real Estate Services
    • R21 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - Household Analysis - - - Housing Demand

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