How do I choose an ethical subprime lender?

The development of the subprime lending market in the United States has led to a boom in American homeownership. By pricing subprime or "non-prime" loans according to risk, subprime lenders have made mortgages available to a large segment of the population who otherwise would never qualify for a conventional prime loan which must conform to the Fannie Mae and Freddie Mac guidelines.

Unfortunately, it has become clear that certain unethical subprime lenders target vulnerable subprime borrowers with abusive or "predatory" practices, such as hidden costs and fees, inordinately high interest rates, "equity stripping," and some prepayment penalties.

Unlike ethical mortgage lenders who make their money by charging interest and lose money in foreclosure, a predatory subprime lender profits through foreclosure. Oftentimes, a predatory lender will pressure a homeowner to refinance the mortgage frequently, charging closing fees each time and rolling the closing costs into the mortgage amount, leaving the homeowner more and more vulnerable to any financial emergency that may occur. When the borrower inevitably defaults, the predatory lender forecloses and sells the property.

If you may be in the market for a subprime mortgage, the following are some tips to help you avoid predatory subprime lenders.

Shop Around

Oftentimes, potential subprime borrowers feel like they are undesirable consumers, and are grateful if anybody offers them a loan. This is not true. If you are in subprime territory (generally, under a FICO score of 600), be cautious, especially with unsolicited loans or anyone trying to steer you to a single lender. Subprime lending is not standard, and different lenders may rank you differently. Shop for a lender and compare costs, which can vary widely from lender to lender.

Read the Fine Print

Read everything carefully and ask questions. Do not sign anything that you do not understand. If you can, before signing have your contract and loan agreement reviewed by a real estate attorney, consult with a real estate professional or ask for help from a housing counselor with an approved agency. If you cannot afford an attorney, take your documents to a HUD-approved housing counseling agency near you.

In particular:

  1. Make sure that all statements on your documents are accurate, and do not let anyone persuade you to make a false statement on your application, such as overstating your income, the source of your down payment, or how long you have been employed. Lying on a mortgage application is fraud, and could result in criminal penalties.
  2. Make sure that the loan is not for an amount greater than you can repay. Do not let anyone convince you to borrow more than you can afford. If you get behind, you risk your home and everything you have put into your property.
  3. Never sign a blank document or a document containing blanks. If someone else inserts information after you have signed, you will be bound by the terms of the contract.

Remember... You May be Eligible for a Mainstream Lending

Even if you think you are a subprime applicant, you should investigate whether you qualify for mainstream lending. Even if you do not qualify with one lender, and you may very well qualify with another. Subprime lending standards are not uniform, and underwriting requirements can differ from one mainstream lender to another. Try lenders that make both prime and subprime loans. Internet sites can also be a good research and shopping resource.

If you are on the edge, you can also try to boost your credit score in the months leading up to your loan application, such as by paying down the balances that you can (See "How do I Improve my FICO Score?").

Request a copy of your credit report and make sure that it is as accurate and timely as possible. If you can possibly qualify for mainstream lending, it is worth the effort.