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Vol. 76

Wednesday,

No. 91

May 11, 2011

Part II

Federal Reserve System

jlentini on DSKJ8SOYB1PROD with PROPOSALS2

12 CFR Part 226
Regulation Z; Truth in Lending; Proposed Rule

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules

FEDERAL RESERVE SYSTEM
12 CFR Part 226
[Regulation Z; Docket No. R–1417]
RIN 7100–AD75

Regulation Z; Truth in Lending
Board of Governors of the
Federal Reserve System.
ACTION: Proposed rule; request for
public comment.
AGENCY:

The Board is publishing for
public comment a proposed rule
amending Regulation Z (Truth in
Lending) to implement amendments to
the Truth in Lending Act (TILA) made
by the Dodd-Frank Wall Street Reform
and Consumer Protection Act (DoddFrank Act or Act). Regulation Z
currently prohibits a creditor from
making a higher-priced mortgage loan
without regard to the consumer’s ability
to repay the loan. The proposal would
implement statutory changes made by
the Dodd-Frank Act that expand the
scope of the ability-to-repay
requirement to cover any consumer
credit transaction secured by a dwelling
(excluding an open-end credit plan,
timeshare plan, reverse mortgage, or
temporary loan). In addition, the
proposal would establish standards for
complying with the ability-to-repay
requirement, including by making a
‘‘qualified mortgage.’’ The proposal also
implements the Act’s limits on
prepayment penalties. Finally, the
proposal would require creditors to
retain evidence of compliance with this
rule for three years after a loan is
consummated. General rulemaking
authority for TILA is scheduled to
transfer to the Consumer Financial
Protection Bureau (CFPB) on July 21,
2011. Accordingly, this rulemaking will
become a proposal of the CFPB and will
not be finalized by the Board.
DATES: Comments on this proposed rule
must be received on or before July 22,
2011. All comment letters will be
transferred to the Consumer Financial
Protection Bureau.
ADDRESSES: You may submit comments,
identified by Docket No. R–1417 and
RIN No. 7100–AD75, by any of the
following methods:
• Agency Web Site: http://
www.federalreserve.gov. Follow the
instructions for submitting comments at
http://www.federalreserve.gov/
generalinfo/foia/ProposedRegs.cfm.
• Federal eRulemaking Portal: http://
www.regulations.gov. Follow the
instructions for submitting comments.
• E-mail:
regs.comments@federalreserve.gov.

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SUMMARY:

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Include the docket number in the
subject line of the message.
• Fax: (202) 452–3819 or (202) 452–
3102.
• Mail: Address to Jennifer J. Johnson,
Secretary, Board of Governors of the
Federal Reserve System, 20th Street and
Constitution Avenue, NW., Washington,
DC 20551.
All public comments will be made
available on the Board’s Web site at
http://www.federalreserve.gov/
generalinfo/foia/ProposedRegs.cfm as
submitted, unless modified for technical
reasons. Accordingly, comments will
not be edited to remove any identifying
or contact information. Public
comments may also be viewed
electronically or in paper in Room MP–
500 of the Board’s Martin Building (20th
and C Streets, NW.) between 9 a.m. and
5 p.m. on weekdays.
FOR FURTHER INFORMATION CONTACT:
Jamie Z. Goodson, Catherine Henderson,
or Priscilla Walton-Fein, Attorneys; Paul
Mondor, Lorna Neill, Nikita M. Pastor,
or Maureen C. Yap, Senior Attorneys; or
Brent Lattin, Counsel; Division of
Consumer and Community Affairs,
Board of Governors of the Federal
Reserve System, Washington, DC 20551,
at (202) 452–2412 or (202) 452–3667.
For users of Telecommunications
Device for the Deaf (TDD) only, contact
(202) 263–4869.
SUPPLEMENTARY INFORMATION:
I. Summary of the Proposed Rule
The Dodd-Frank Wall Street Reform
and Consumer Protection Act (DoddFrank Act or Act) amends the Truth in
Lending Act (TILA) to prohibit creditors
from making mortgage loans without
regard to the consumer’s repayment
ability. Public Law 111–203 § 1411, 124
Stat. 1376, 2142 (to be codified at 15
U.S.C. 1639c). The Act’s underwriting
requirements are substantially similar
but not identical to the ability-to-repay
requirements adopted by the Board for
higher-priced mortgage loans in July
2008 under the Home Ownership and
Equity Protection Act. 73 FR 44522, Jul.
30, 2008 (‘‘2008 HOEPA Final Rule’’).
General rulemaking authority for TILA
is scheduled to transfer to the Consumer
Financial Protection Bureau (CFPB) in
July 2011. Accordingly, this rulemaking
will become a proposal of the CFPB and
will not be finalized by the Board.
Consistent with the Act, the proposal
applies the ability-to-repay
requirements to any consumer credit
transaction secured by a dwelling,
except an open-end credit plan,
timeshare plan, reverse mortgage, or
temporary loan. Thus, unlike the
Board’s 2008 HOEPA Final Rule, the

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proposal is not limited to higher-priced
mortgage loans or loans secured by the
consumer’s principal dwelling. The Act
prohibits a creditor from making a
mortgage loan unless the creditor makes
a reasonable and good faith
determination, based on verified and
documented information, that the
consumer will have a reasonable ability
to repay the loan, including any
mortgage-related obligations (such as
property taxes).
Consistent with the Act, the proposal
provides four options for complying
with the ability-to-repay requirement.
First, a creditor can meet the general
ability-to-repay standard by originating
a mortgage loan for which:
• The creditor considers and verifies
the following eight underwriting factors
in determining repayment ability: (1)
Current or reasonably expected income
or assets; (2) current employment status;
(3) the monthly payment on the
mortgage; (4) the monthly payment on
any simultaneous loan; (5) the monthly
payment for mortgage-related
obligations; (6) current debt obligations;
(7) the monthly debt-to-income ratio, or
residual income; and (8) credit history;
and
• The mortgage payment calculation
is based on the fully indexed rate.
Second, a creditor can refinance a
‘‘non-standard mortgage’’ into a
‘‘standard mortgage.’’ This is based on a
statutory provision that is meant to
provide flexibility for streamlined
refinancings, which are no- or lowdocumentation transactions designed to
quickly refinance a consumer out of a
risky mortgage into a more stable
product. Under this option, the creditor
does not have to verify the consumer’s
income or assets. The proposal defines
a ‘‘standard mortgage’’ as a mortgage
loan that, among other things, does not
contain negative amortization, interestonly payments, or balloon payments;
and has limited points and fees.
Third, a creditor can originate a
‘‘qualified mortgage,’’ which provides
special protection from liability for
creditors who make ‘‘qualified
mortgages.’’ It is unclear whether that
protection is intended to be a safe
harbor or a rebuttable presumption of
compliance with the repayment ability
requirement. Therefore, the Board is
proposing two alternative definitions of
a ‘‘qualified mortgage.’’
Alternative 1 operates as a legal safe
harbor and defines a ‘‘qualified
mortgage’’ as a mortgage for which:
(a) The loan does not contain negative
amortization, interest-only payments, or
balloon payments, or a loan term
exceeding 30 years;

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(b) The total points and fees do not
exceed 3% of the total loan amount;
(c) The borrower’s income or assets
are verified and documented; and
(d) The underwriting of the mortgage
(1) is based on the maximum interest
rate in the first five years, (2) uses a
payment schedule that fully amortizes
the loan over the loan term, and
(3) takes into account any mortgagerelated obligations.
Alternative 2 provides a rebuttable
presumption of compliance and defines
a ‘‘qualified mortgage’’ as including the
criteria listed under Alternative 1 as
well as the following additional
underwriting requirements from the
ability-to-repay standard: (1) The
consumer’s employment status, (2) the
monthly payment for any simultaneous
loan, (3) the consumer’s current debt
obligations, (4) the total debt-to-income
ratio or residual income, and (5) the
consumer’s credit history.
Finally, a small creditor operating
predominantly in rural or underserved
areas can originate a balloon-payment
qualified mortgage. This standard is
evidently meant to accommodate
community banks that originate balloon
loans to hedge against interest rate risk.
Under this option, a small creditor can
make a balloon-payment qualified
mortgage if the loan term is five years
or more, and the payment calculation is
based on the scheduled periodic
payments, excluding the balloon
payment.
The proposal also implements the
Dodd-Frank Act’s limits on prepayment
penalties, lengthens the time creditors
must retain records that evidence
compliance with the ability-to-repay
and prepayment penalty provisions, and
prohibits evasion of the rule by
structuring a closed-end extension of
credit as an open-end plan. The DoddFrank Act contains other consumer
protections for mortgages, which will be
implemented in subsequent
rulemakings.
II. Background
Over the years, concerns have been
raised about creditors originating
mortgage loans without regard to the
consumer’s ability to repay the loan.
Beginning in about 2006, these concerns
were heightened as mortgage
delinquencies and foreclosures rates
increased dramatically, caused in part
by the loosening of underwriting
standards. See 73 FR 44524, Jul. 30,
2008. Following is background
information, including a brief summary
of the legislative and regulatory
responses to this issue, which
culminated in the enactment of the
Dodd-Frank Act on July 21, 2010.

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A. TILA and Regulation Z
In 1968, Congress enacted TILA, 15
U.S.C. 1601 et seq., based on findings
that economic stability would be
enhanced and competition among
consumer credit providers would be
strengthened by the informed use of
credit resulting from consumers’
awareness of the cost of credit. One of
the purposes of TILA is to promote the
informed use of consumer credit by
requiring disclosures about its costs and
terms. TILA requires additional
disclosures for loans secured by
consumers’ homes and permits
consumers to rescind certain
transactions that involve their principal
dwelling. TILA directs the Board to
prescribe regulations to carry out the
purposes of the law, and specifically
authorizes the Board, among other
things, to issue regulations that contain
such additional requirements,
classifications, differentiations, or other
provisions, or that provide for such
adjustments and exceptions for all or
any class of transactions, that in the
Board’s judgment are necessary or
proper to effectuate the purposes of
TILA, facilitate compliance with TILA,
or prevent circumvention or evasion. 15
U.S.C. 1604(a). TILA is implemented by
the Board’s Regulation Z, 12 CFR part
226. An Official Staff Commentary
interprets the requirements of the
regulation and provides guidance to
creditors in applying the rules to
specific transactions. See 12 CFR part
226, Supp. I.
B. The Home Ownership and Equity
Protection Act (HOEPA) and HOEPA
Rules
In response to evidence of abusive
practices in the home-equity lending
market, Congress amended TILA by
enacting the Home Ownership and
Equity Protection Act (HOEPA) in 1994.
Public Law 103–325, 108 Stat. 2160.
HOEPA defines a class of ‘‘high-cost
mortgages,’’ which are generally closedend home-equity loans (excluding
home-purchase loans) with annual
percentage rates (APRs) or total points
and fees exceeding prescribed
thresholds.1 HOEPA created special
substantive protections for high-cost
mortgages, including prohibiting a
creditor from engaging in a pattern or
practice of extending a high-cost
1 Mortgages covered by the HOEPA amendments
have been referred to as ‘‘HOEPA loans,’’ ‘‘Section
32 loans,’’ or ‘‘high-cost mortgages.’’ The DoddFrank Act now refers to these loans as ‘‘high-cost
mortgages.’’ See the Dodd-Frank Act § 1431; TILA
Section 103(aa). For simplicity and consistency,
this proposal will use the term ‘‘high-cost
mortgages’’ to refer to mortgages covered by the
HOEPA amendments.

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mortgage to a consumer based on the
consumer’s collateral without regard to
the consumer’s repayment ability,
including the consumer’s current and
expected income, current obligations,
and employment. TILA Section 129(h);
15 U.S.C. 1639(h). In addition to the
disclosures and limitations specified in
the statute, TILA Section 129, as added
by HOEPA, expanded the Board’s
rulemaking authority. TILA Section
129(l)(2)(A) authorizes the Board to
prohibit acts or practices the Board
finds to be unfair and deceptive in
connection with mortgage loans. 15
U.S.C. 1639(l)(2)(A). TILA Section
129(l)(2)(B) authorizes the Board to
prohibit acts or practices in connection
with the refinancing of mortgage loans
that the board finds to be associated
with abusive lending practices, or that
are otherwise not in the interest of the
borrower. 15 U.S.C. 1639(l)(2)(B).
In addition, HOEPA created three
special remedies for a violation of its
provisions. First, a consumer who
brings a timely action against a creditor
for a violation of rules issued under
TILA Section 129 may be able to recover
special statutory damages equal to the
sum of all finance charges and fees paid
by the consumer (often referred to as
‘‘HOEPA damages’’), unless the creditor
demonstrates that the failure to comply
is not material. TILA Section 130(a); 15
U.S.C. 1640(a). This recovery is in
addition to actual damages; statutory
damages in an individual action or class
action, up to a prescribed threshold; and
court costs and attorney fees that would
be available for violations of other TILA
provisions. Second, if a creditor assigns
a high-cost mortgage to another person,
the consumer may be able to obtain
from the assignee all of the foregoing
damages. TILA Section 131(d); 15 U.S.C.
1641(d). For all other loans, TILA
Section 131(e), 15 U.S.C. 1641(e), limits
the liability of assignees for violations of
Regulation Z to disclosure violations
that are apparent on the face of the
disclosure statement required by TILA.
Finally, a consumer has a right to
rescind a transaction for up to three
years after consummation when the
mortgage contains a provision
prohibited by a rule adopted under the
authority of TILA Section 129(l)(2).
TILA Section 125 and 129(j); 15 U.S.C.
1635 and 1639(j). Any consumer who
has the right to rescind a transaction
may rescind the transaction as against
any assignee. TILA Section 131(c); 15
U.S.C. 1641(c). The right of rescission
does not extend, however, to home
purchase loans, construction loans, or
certain refinancings with the same

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creditor. TILA Section 125(e); 15 U.S.C.
1635(e).
In 1995, the Board implemented the
HOEPA amendments at § 226.31,
226.32, and 226.33 of Regulation Z. 60
FR 15463, March 24, 1995. In particular,
§ 226.32(e)(1) implemented TILA
Section 129(h) to prohibit a creditor
from extending a high-cost mortgage
based on the consumer’s collateral if,
considering the consumer’s current and
expected income, current obligations,
and employment status, the consumer
would be unable to make the scheduled
payments. In 2001, the Board amended
these regulations to expand HOEPA’s
protections to more loans by revising
the APR threshold, and points and fees
definition. 66 FR 65604, Dec. 20, 2001.
In addition, the ability-to-repay
provisions in the regulation were
revised to provide for a presumption of
a violation of the rule if the creditor
engages in a pattern or practice of
making high-cost mortgages without
verifying and documenting the
consumers’ repayment ability.
C. 2006 and 2007 Interagency
Supervisory Guidance
In December 2005, the Board and the
other Federal banking agencies
responded to concerns about the rapid
growth of nontraditional mortgages in
the previous two years by proposing
supervisory guidance. Nontraditional
mortgages are mortgages that allow the
borrower to defer repayment of
principal and sometimes interest. The
guidance advised institutions of the
need to reduce ‘‘risk layering’’ practices
with respect to these products, such as
failing to document income or lending
nearly the full appraised value of the
home. The final guidance issued in
September 2006 specifically advised
lenders that layering risks in
nontraditional mortgage loans to
subprime borrowers may significantly
increase risks to borrowers as well as
institutions. Interagency Guidance on
Nontraditional Mortgage Product Risks,
71 FR 58609, Oct. 4, 2006 (‘‘2006
Nontraditional Mortgage Guidance’’).
The Board and the other Federal
banking agencies addressed concerns
about the subprime market in March
2007 with proposed supervisory
guidance addressing the heightened
risks to consumers and institutions of
adjustable-rate mortgages with two- or
three-year ‘‘teaser’’ rates followed by
substantial increases in the rate and
payment. The guidance, finalized in
June of 2007, set out the standards
institutions should follow to ensure
borrowers in the subprime market
obtain loans they can afford to repay.
Among other steps, the guidance

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advised lenders to (1) use the fullyindexed rate and fully-amortizing
payment when qualifying borrowers for
loans with adjustable rates and
potentially non-amortizing payments;
(2) limit stated income and reduced
documentation loans to cases where
mitigating factors clearly minimize the
need for full documentation of income;
and (3) provide that prepayment penalty
clauses expire a reasonable period
before reset, typically at least 60 days.
Statement on Subprime Mortgage
Lending, 72 FR 37569, Jul. 10, 2007
(‘‘2007 Subprime Mortgage Statement’’).2
The Conference of State Bank
Supervisors (‘‘CSBS’’) and the American
Association of Residential Mortgage
Regulators (‘‘AARMR’’) issued parallel
statements for state supervisors to use
with state-supervised entities, and many
states adopted the statements.
D. 2008 HOEPA Final Rule
In 2006 and 2007, the Board held a
series of national hearings on consumer
protection issues in the mortgage
market. During those hearings,
consumer advocates and government
officials expressed a number of
concerns, and urged the Board to
prohibit or restrict certain underwriting
practices, such as ‘‘stated income’’ or
‘‘low documentation’’ loans, and certain
product features, such as prepayment
penalties. See 73 FR 44527, Jul. 30,
2008. The Board was also urged to adopt
regulations under HOEPA, because,
unlike the Interagency Supervisory
Guidance, the regulations would apply
to all creditors and would be
enforceable by consumers through civil
actions.
In response to these hearings, in July
of 2008, the Board adopted final rules
pursuant to the Board’s authority in
TILA Section 129(l)(2)(A). 73 FR 44522,
Jul. 30, 2008 (‘‘2008 HOEPA Final
Rule’’). The Board’s 2008 HOEPA Final
Rule defined a new class of ‘‘higherpriced mortgage loans,’’ . Under the
2008 HOEPA Final Rule, a higher-priced
mortgage loan is a consumer credit
transaction secured by the consumer’s
principal dwelling with an APR that
exceeds the average prime offer rate
(APOR) for a comparable transaction, as
of the date the interest rate is set, by 1.5
or more percentage points for loans
secured by a first lien on the dwelling,
or by 3.5 or more percentage points for
loans secured by a subordinate lien on
the dwelling. Section 226.35(a)(1). The
definition of a ‘‘higher-priced mortgage
2 The 2006 Nontraditional Mortgage Guidance
and the 2007 Subprime Mortgage Statement will
hereinafter collectively be referred to as the
‘‘Interagency Supervisory Guidance.’’

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loan’’ includes those loans that are
defined as ‘‘high-cost mortgages.’’
Among other things, the Board’s 2008
HOEPA Final Rule revised the abilityto-repay requirements for high-cost
mortgages, and extended these
requirements to higher-priced mortgage
loans. Sections 226.34(a)(4),
226.35(b)(1). Specifically, the rule:
• Prohibits a creditor from extending
a higher-priced mortgage loan based on
the collateral and without regard to the
consumer’s repayment ability.
• Prohibits a creditor from relying on
income or assets to assess repayment
ability unless the creditor verifies such
amounts using third-party documents
that provide reasonably reliable
evidence of the consumer’s income and
assets.
In addition, the Board’s 2008 Final Rule
provides certain restrictions on
prepayment penalties for high-cost
mortgages and higher-priced mortgage
loans. Sections 226.32(d), 226.35(b)(2).
E. The Dodd-Frank Act
In 2007, Congress held hearings
focused on rising subprime foreclosure
rates and the extent to which lending
practices contributed to them. See 73 FR
44528, Jul. 30, 2008. Consumer
advocates testified that certain lending
terms or practices contributed to the
foreclosures, including a failure to
consider the consumer’s ability to repay,
low- or no-documentation loans, hybrid
adjustable-rate mortgages, and
prepayment penalties. Industry
representatives, on the other hand,
testified that adopting substantive
restrictions on subprime loan terms
would risk reducing access to credit for
some borrowers. In response to these
hearings, the House of Representatives
passed the Mortgage Reform and AntiPredatory Lending Act in 2007 and
2009. H.R. 3915, 110th Cong. (2007);
H.R. 1728, 111th Cong. (2009). Both
bills would have amended TILA to
provide consumer protections for
mortgages, including ability-to-repay
requirements, but neither bill was
passed by the Senate.
Then, on July 21, 2010, the DoddFrank Act was signed into law. Public
Law 111–203, 124 Stat. 1376 (2010).
Title XIV of the Dodd-Frank Act
contains the Mortgage Reform and AntiPredatory Lending Act.3 Sections 1411,
3 Although S. Rpt. No. 111–176 generally contains
the legislative history for the Dodd-Frank Act, it
does not contain the legislative history for the
Mortgage Reform and Anti-Predatory Lending Act.
Therefore, the Board has relied on the legislative
history for the 2007 and 2009 House bills for
guidance in interpreting the statute. See H. Rpt. No.
110–441 for H.R. 3915 (2007), and H. Rpt. No. 111–
194 for H.R. 1728 (2009).

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
1412, and 1414 of the Dodd-Frank Act
create new TILA Section 129C, which,
among other things, establishes new
ability-to-repay requirements and new
limits on prepayment penalties. Public
Law 111–203, § 1411, 1412, 1414, 124
Stat. 1376, 2142–53 (to be codified at 15
U.S.C. 1639c). The Dodd-Frank Act
states that Congress created new TILA
Section 129C upon a finding that
‘‘economic stabilization would be
enhanced by the protection, limitation,
and regulation of the terms of
residential mortgage credit and the
practices related to such credit, while
ensuring that responsible, affordable
mortgage credit remains available to
consumers.’’ Dodd-Frank Act Section
1402; TILA Section 129B(a)(1). The
Dodd-Frank Act further states that the
purpose of TILA Section 129C is to
‘‘assure that consumers are offered and
receive residential mortgage loans on
terms that reasonably reflect their ability
to repay the loans.’’ Dodd-Frank Act
Section 1402; TILA Section 129B(a)(2).
Specifically, TILA Section 129C:
• Expands coverage of the ability-torepay requirements to any consumer
credit transaction secured by a dwelling,
except an open-end credit plan,
timeshare plan, reverse mortgage, or
temporary loan.
• Prohibits a creditor from making a
mortgage loan unless the creditor makes
a reasonable and good faith
determination, based on verified and
documented information, that the
consumer has a reasonable ability to
repay the loan according to its terms,
and all applicable taxes, insurance, and
assessments.
• Provides a presumption of
compliance with the ability-to-repay
requirements if the mortgage loan is a
‘‘qualified mortgage,’’ which does not
contain certain risky features and limits
points and fees on the loan.
• Prohibits prepayment penalties
unless the mortgage is a prime, fixedrate qualified mortgage, and the amount
of the prepayment penalty is limited.
The Dodd-Frank Act creates special
remedies for violations of TILA Section
129C. Section 1416 of the Dodd-Frank
Act provides that a consumer who
brings a timely action against a creditor
for a violation of TILA Section 129C(a)
(the ability-to-repay requirements) may
be able to recover special statutory
damages equal to the sum of all finance
charges and fees paid by the consumer
(often referred to as ‘‘HOEPA damages’’),
unless the creditor demonstrates that
the failure to comply is not material.
TILA Section 130(a). This recovery is in
addition to actual damages; statutory
damages in an individual action or class
action, up to a prescribed threshold; and

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court costs and attorney fees that would
be available for violations of other TILA
provisions. In addition, the statute of
limitations for an action for a violation
of TILA Section 129C is three years from
the date of the occurrence of the
violation (as compared to one year for
other TILA violations). TILA Section
130(e). Moreover, Section 1413 of the
Dodd-Frank Act provides that a
consumer may assert a violation of TILA
Section 129C(a) as a defense to
foreclosure by recoupment or set off.
TILA Section 130(k). There is no time
limit on the use of this defense.
F. Other Recent Board Actions
In addition to the 2008 HOEPA Final
Rule, the Board has recently published
several proposed or final rules for
mortgages that are referenced in or
relevant to this proposal.
2009 Closed-End Mortgage Proposal.
In August 2009, the Board issued two
proposals to amend Regulation Z: One
for closed-end mortgages and one for
home equity lines of credit (‘‘HELOCs’’).
For closed-end mortgages, the August
2009 proposal would revise the
disclosure requirements to highlight
potentially risky features, such as
adjustable rates and negative
amortization, and address other issues,
such as the timing of disclosures. See 74
FR 43232, Aug. 26, 2009 (‘‘2009 ClosedEnd Mortgage Proposal’’). For HELOCs,
the August 2009 proposal would revise
the disclosure requirements and address
other issues, such as account
terminations. 74 FR 43428, Aug. 26,
2009 (‘‘2009 HELOC Proposal’’). Public
comments for both proposals were due
by December 24, 2009.
2010 Mortgage Proposal. In
September 2010, the Board issued a
proposal that would revise Regulation Z
with respect to rescission, refinancing,
reverse mortgages, and the refund of
certain fees. See 75 FR 58539, Sept. 24,
2010 (‘‘2010 Mortgage Proposal’’). Public
comments for this proposal were due by
December 23, 2010. On February 1,
2011, the Board issued a press release
stating that it does not expect to finalize
the 2009 Closed-End Mortgage Proposal,
2009 HELOC Proposal, or the 2010
Mortgage Proposal prior to the transfer
of authority for such rulemakings to the
Consumer Financial Protection Bureau
in July 2011.
2010 Loan Originator Compensation
Rule. In September 2010, the Board
adopted a final rule on loan originator
compensation to prohibit compensation
to mortgage brokers and loan officers
(collectively, ‘‘loan originators’’) that is
based on a loan’s interest rate or other
terms. The final rule also prohibits loan
originators from steering consumers to

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loans that are not in the consumers’
interest to increase the loan originator’s
compensation. 75 FR 58509, Sept. 24,
2010 (‘‘2010 Loan Originator
Compensation Rule’’). This rule became
effective April 6, 2011.
2010 MDIA Interim Final Rule. In May
2009, the Board adopted final rules
implementing the amendments to TILA
under the Mortgage Disclosure
Improvement Act of 2008 (‘‘MDIA’’).4
Among other things, the MDIA and the
final rules require early, transactionspecific disclosures for mortgage loans
secured by a dwelling, and requires
waiting periods between the time when
disclosures are given and
consummation of the transaction. These
rules became effective July 30, 2009, as
required by the statute. See 74 FR
23289, May 19, 2009. The MDIA also
requires disclosure of payment
examples if the loan’s interest rate or
payments can change, along with a
statement that there is no guarantee that
the consumer will be able to refinance
the transaction in the future. Under the
statute, these provisions of the MDIA
became effective on January 30, 2011.
On September 24, 2010, the Board
published an interim rule to implement
these requirements. See 75 FR 58470,
Sept. 24, 2010. In particular, the rule
provided definitions for a ‘‘balloon
payment,’’ ‘‘adjustable-rate mortgage,’’
‘‘step-rate mortgage,’’ ‘‘fixed-rate
mortgage,’’ ‘‘interest-only loan,’’
‘‘negative amortization loan,’’ and the
‘‘fully indexed rate.’’ See § 226.18(s)(5)
and (s)(7). Subsequently, the Board
issued an interim rule to make certain
clarifying changes. See 75 FR 81836,
Dec. 29, 2010. The term ‘‘2010 MDIA
Interim Final Rule’’ is used to refer to
the September 2010 final rule as revised
by the December 2010 final rule.
2011 Escrow Proposal and Final Rule.
In March 2011, the Board issued a
proposal to implement Sections 1461
and 1462 of the Dodd-Frank Act, which
create new TILA Section 129D and
provide certain escrow requirements for
higher-priced mortgage loans. See 76 FR
11599, March 2, 2011 (‘‘2011 Escrow
Proposal’’). In particular, the proposal
would revise the definition of a ‘‘higherpriced mortgage loan,’’ and create an
exemption from the escrow requirement
for any loan extended by a creditor that
makes most of its first-lien higher-priced
mortgage loans in counties designated
by the Board as ‘‘rural or underserved,’’
has annual originations of 100 or fewer
4 The MDIA is contained in Sections 2501
through 2503 of the Housing and Economic
Recovery Act of 2008, Public Law 110–289, enacted
on July 30, 2008. The MDIA was later amended by
the Emergency Economic Stabilization Act of 2008,
Public Law 110–343, enacted on October 3, 2008.

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first-lien mortgage loans, and does not
escrow for any mortgage transaction it
services.
In March 2011, the Board also issued
a final rule that implements a provision
of the Dodd-Frank Act that increases the
APR threshold used to determine
whether a mortgage lender is required to
establish an escrow account for property
taxes and insurance for first-lien,
‘‘jumbo’’ mortgage loans. See 76 FR
11319, March 2, 2011 (‘‘2011 Jumbo
Loan Escrow Final Rule’’). Jumbo loans
are loans exceeding the conforming
loan-size limit for purchase by Freddie
Mac, as specified by the legislation.
2011 Risk Retention Proposal. On
March 31, 2011, the Board, the Office of
the Comptroller of the Currency, the
Federal Deposit Insurance Corporation,
the Securities and Exchange
Commission, the U.S. Department of
Housing and Urban Development, and
the Federal Housing Finance Agency
(‘‘Agencies’’) issued a proposal to
implement Section 941 of the DoddFrank Act, which adds a new Section
15G to the Securities Exchange Act of
1934. 15 U.S.C. 78o–11. As required by
the Act, the proposal generally requires
the sponsor of an asset-backed security
to retain not less than five percent of the
credit risk of the assets collateralizing
the security. The Act and the proposal
include a variety of exemptions,
including an exemption for an assetbacked security that is collateralized
exclusively by ‘‘qualified residential
mortgages.’’ The Act requires the
Agencies to define the term ‘‘qualified
residential mortgage’’ taking into
consideration underwriting and product
features that historical loan performance
data indicate result in a lower risk of
default. The Act further provides that
the definition of a ‘‘qualified residential
mortgage’’ can be ‘‘no broader than’’ the
definition of a ‘‘qualified mortgage’’
under TILA Section 129C(b)(2). The
2011 Risk Retention Proposal
implements these provisions of the Act.
Public comments for this proposal are
due by June 10, 2011.
G. Development of This Proposal
In developing this proposal, the Board
reviewed the laws, regulations,
proposals, and legislative history
described above as well as state abilityto-repay laws. The Board also
conducted extensive outreach with
consumer advocates, industry
representatives, and Federal and state
regulators, and examined underwriting
rules and guidelines for the Federal
Housing Administration, the U.S.
Department of Veterans’ Affairs, Fannie
Mae, Freddie Mac, the Home Affordable
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creditors. Finally, the Board conducted
independent analyses regarding the
effect of various underwriting
procedures and loan features on loan
performance.
III. Legal Authority
TILA Section 105(a) mandates that the
Board prescribe regulations to carry out
the purposes of the Act. 15 U.S.C.
1604(a). In addition, TILA, as amended
by the Dodd-Frank Act, specifically
authorizes the Board to:
• Issue regulations that contain such
additional requirements, classifications,
differentiations, or other provisions, or
that provide for such adjustments and
exceptions for all or any class of
transactions, that in the Board’s
judgment are necessary or proper to
effectuate the purposes of TILA,
facilitate compliance with the Act, or
prevent circumvention or evasion. TILA
Section 105(a); 15 U.S.C. 1604(a).
• By regulation, prohibit or condition
terms, acts or practices relating to
residential mortgage loans that the
Board finds to be abusive, unfair,
deceptive, or predatory; necessary or
proper to ensure that responsible,
affordable mortgage credit remains
available to consumers in a manner
consistent with the purposes of the
ability-to-repay requirements; necessary
or proper to effectuate the purposes of
the ability-to-repay requirements, to
prevent circumvention or evasion
thereof, or to facilitate compliance; or
are not in the interest of the borrower.
TILA Section 129B(e); 15 U.S.C.
1639b(e).
• Prescribe regulations that revise,
add to, or subtract from the criteria that
define a qualified mortgage upon a
finding that such regulations are
necessary or proper to ensure that
responsible, affordable mortgage credit
remains available to consumers in a
manner consistent with the purposes of
the ability-to-repay requirements; or
necessary and appropriate to effectuate
the purposes of the ability-to-repay
requirements, to prevent circumvention
or evasion thereof, or to facilitate
compliance. TILA Section
129C(b)(3)(B)(i); 15 U.S.C.
1639c(b)(3)(B)(i).
TILA, as amended by the Dodd-Frank
Act, states that it is the purpose of the
ability-to-repay requirements to assure
that consumers are offered and receive
residential mortgage loans on terms that
reasonably reflect their ability to repay
the loans. TILA Section 129B(a)(2); 15
U.S.C. 1639b(a)(2).

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IV. Discussion of the Proposed Rule
A. Scope of Coverage
Consistent with the Dodd-Frank Act,
the proposal applies to any dwellingsecured consumer credit transaction,
including vacation homes and home
equity loans. The proposal does not
apply to open-end credit plans,
timeshare plans, reverse mortgages, or
temporary loans with terms of 12
months or less. The Act essentially
codifies the ability-to-repay
requirements of the Board’s 2008
HOEPA Final Rule and expands the
scope to the covered transactions
described above.
B. Ability-to-Repay Requirements
Consistent with the Dodd-Frank Act,
the proposal provides that a creditor
may not make a covered mortgage loan
unless the creditor makes a reasonable
and good faith determination, based on
verified and documented information,
that the consumer will have a
reasonable ability to repay the loan,
including any mortgage-related
obligations (such as property taxes).
TILA Section 129C; 15 U.S.C. 1639C.
The Act and the proposal provide four
options for complying with the abilityto-repay requirement. Specifically, a
creditor can:
• Originate a covered transaction
under the general ability-to-repay
standard;
• Refinance a ‘‘non-standard
mortgage’’ into a ‘‘standard mortgage’’;
• Originate a ‘‘qualified mortgage,’’
which provides a presumption of
compliance with the rule; or
• Originate a balloon-payment
qualified mortgage, which provides a
presumption of compliance with the
rule.
Each of these methods is discussed
below, with a description of: (1) Limits
on the loan features or term, (2) limits
on points and fees, (3) underwriting
requirements, and (4) payment
calculations.
General Ability-to-Repay Standard
Limits on loan features, term, and
points and fees. Under the general
ability-to-repay standards, there are no
limits on the loan’s features, term, or
points and fees, but the creditor must
follow certain underwriting
requirements and payment calculations.
Underwriting requirements.
Consistent with the Dodd-Frank Act, the
proposal requires the creditor to
consider and verify the following eight
underwriting factors:
• Current or reasonably expected
income or assets;
• Current employment status;

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• The monthly payment on the
covered transaction;
• The monthly payment on any
simultaneous loan;
• The monthly payment for mortgagerelated obligations;
• Current debt obligations;
• The monthly debt-to-income ratio,
or residual income; and
• Credit history.
The proposal permits the creditor to
consider and verify these underwriting
factors based on widely accepted
underwriting standards.
The proposal is generally consistent
with the Act except in one respect. The
Act does not require the creditor to
consider simultaneous loans that are
home equity lines of credit (‘‘HELOCs’’),
but the Board is using its adjustment
and exception authority and
discretionary regulatory authority to
include HELOCs within the definition
of simultaneous loans. The Board
believes that such inclusion would help
ensure the consumer’s ability to repay
the loan. Data and outreach indicated
that the origination of a simultaneous
HELOC markedly increases the rate of
default. In addition, this approach is
consistent with the Board’s 2008
HOEPA Final Rule.
Payment calculations. Under the
general ability-to-repay standard, the
Dodd-Frank Act does not ban mortgage
features, but instead requires the
creditor to underwrite the mortgage
payment according to certain
assumptions and calculations.
Specifically, consistent with the Act, the
proposal requires creditors to calculate
the mortgage payment using: (1) The
fully indexed rate; and (2) monthly,
substantially equal payments that
amortize the loan amount over the loan
term. In addition, the Board is using its
adjustment and exception authority and
discretionary regulatory authority to
require the creditor to underwrite the
payment based on the introductory
interest rate if it is greater than the fully
indexed rate. Some transactions use a
premium initial rate that is higher than
the fully indexed rate. The Board
believes this approach would help
ensure the consumer’s ability to repay
the loan and prevent circumvention or
evasion.
The Act and proposal also provide
special payment calculations for
interest-only loans, negative
amortization loans, and balloon loans.
In particular, the requirements for
balloon loans depend on whether the
loan is ‘‘higher-priced’’ 5 or not.
5 The Act provides separate underwriting
requirements for balloon loans depending on
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Consistent with the Act, the proposal
requires a creditor to underwrite a
higher-priced loan with a balloon
payment by considering the consumer’s
ability to make the balloon payment
(without refinancing). As a practical
matter, this would mean that a creditor
would not be able to make a higherpriced balloon loan unless the consumer
had substantial documented assets or
income.
The Act permits a creditor to
underwrite a balloon loan that is not
higher-priced in accordance with
regulations prescribed by the Board. The
proposal requires creditors to
underwrite a balloon loan using the
maximum payment scheduled during
the first five years after consummation.
This approach would not capture the
balloon payment for a balloon loan with
a term of five years or more. The Board
believes five years is the appropriate
time horizon in order to ensure
consumers have a reasonable ability to
repay the loan, and to preserve credit
choice and availability. Moreover, the
five year time horizon is consistent with
other provisions in the Act and the
proposal, which require underwriting
based on the first five years after
consummation (for qualified mortgages
and the refinancing of a non-standard
mortgage) or which require a minimum
term of five years (for balloon-payment
qualified mortgages made by certain
creditors).
Refinancing of a Non-Standard Mortgage
The Dodd-Frank Act provides an
exception to the ability-to-repay
standard’s underwriting requirements if:
(1) The same creditor is refinancing a
‘‘hybrid mortgage’’ into a ‘‘standard
mortgage,’’ (2) the consumer’s monthly
payment is reduced through the
refinancing, and (3) the consumer has
not been delinquent on any payment on
the existing hybrid mortgage. This
provision appears to be intended to
provide flexibility for streamlined
refinancings, which are no- or lowdocumentation loans designed to
quickly refinance a consumer in a risky
mortgage into a more stable product.
Streamlined refinancings have
substantially increased in recent years
to accommodate consumers at risk of
default.
Definitions—loan features, term, and
points and fees. Although the Act uses
the term ‘‘hybrid mortgage,’’ the
proposal uses the term ‘‘non-standard
mortgage,’’ defined as (1) an adjustablerate mortgage with an introductory fixed
interest rate for a period of years, (2) an
percent for a first-lien loan or by 3.5 percent for a
subordinate-lien loan.

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interest-only loan, and (3) a negative
amortization loan. The Board believes
that this definition is consistent with
the legislative history, which indicates
that Congress was generally concerned
with loans that provide for ‘‘payment
shock’’ through significantly higher
payments over the life of the loan.
The proposal defines the term
‘‘standard mortgage’’ as a covered
transaction which, among other things,
does not contain negative amortization,
interest-only payments, or balloon
payments; and limits the points and
fees.
Underwriting requirements. If the
conditions described above are met, the
Act states that the creditor may give
concerns about preventing a likely
default a ‘‘higher priority as an
acceptable underwriting practice.’’ The
Board interprets this provision to
provide an exception from the general
ability-to-repay requirements for income
and asset verification. The Board
believes that this approach is consistent
with the statute and would preserve
access to streamlined refinancings.
Payment calculations. The proposal
provides specific payment calculations
for purposes of determining whether the
refinancing reduces the consumer’s
monthly mortgage payment, and for
determining whether the consumer has
the ability to repay the standard
mortgage. The calculation for the nonstandard mortgage would reflect the
highest payment that would occur as of
the date of the expiration of the period
during which introductory-rate
payments, interest-only payments, or
negatively amortizing payments are
permitted. For a standard mortgage, the
calculation would be based on: (1) The
maximum interest rate that may apply
during the first five years after
consummation, and (2) monthly,
substantially equal payments that
amortize the loan amount over the loan
term.
Safe Harbor or Presumption of
Compliance for a Qualified Mortgage
Under the Board’s 2008 HOEPA Final
Rule, a creditor may obtain a
presumption of compliance with the
repayment ability requirement if it
follows the required procedures, such as
verifying the consumer’s income or
assets, and additional optional
procedures, such as assessing the
consumer’s debt-to-income ratio.
However, the 2008 HOEPA Final Rule
makes clear that even if the creditor
follows the required and optional
criteria, the creditor has only obtained
a presumption of compliance with the
repayment ability requirement. The
consumer can still rebut or overcome

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that presumption by showing that,
despite following the required and
optional procedures, the creditor
nonetheless disregarded the consumer’s
ability to repay the loan. For example,
the consumer could present evidence
that although the creditor assessed the
consumer’s debt-to-income ratio, that
ratio was very high with little residual
income. This evidence may be sufficient
to overcome the presumption of
compliance and demonstrate that the
creditor extended credit without regard
to the consumer’s ability to repay the
loan.
The Dodd-Frank Act provides special
protection from liability for creditors
who make ‘‘qualified mortgages,’’ but it
is unclear whether that protection is
intended to be a safe harbor or a
rebuttable presumption of compliance
with the repayment ability requirement.
The Act states that a creditor or assignee
‘‘may presume’’ that a loan has met the
repayment ability requirement if the
loan is a ‘‘qualified mortgage.’’ This
might suggest that originating a
qualified mortgage only provides a
presumption of compliance, which the
consumer can rebut by providing
evidence that the creditor did not, in
fact, make a good faith and reasonable
determination of the consumer’s ability
to repay the loan.
However, the Act does not state that
a creditor that makes a ‘‘qualified
mortgage’’ must comply with all of the
underwriting criteria of the general
ability-to-repay standard. Specifically,
the Act defines a ‘‘qualified mortgage’’ as
a covered transaction for which:
• The loan does not contain negative
amortization, interest-only payments, or
balloon payments;
• The term does not exceed 30 years;
• The points and fees generally do
not exceed three percent of the total
loan amount;
• The income or assets are considered
and verified;
• The total debt-to-income ratio or
residual income complies with any
guideline or regulation prescribed by
the Board; and
• The underwriting: (1) Is based on
the maximum rate during the first five
years, (2) uses a payment schedule that
fully amortizes the loan over the loan
term, and (3) takes into account all
mortgage-related obligations.
The definition of a ‘‘qualified mortgage’’
does not require the creditor to consider
and verify the following underwriting
requirements that are part of the general
ability-to-repay standard: (1) The
consumer’s employment status, (2) the
payment of any simultaneous loans of
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to know, (3) the consumer’s current
obligations, and (4) the consumer’s
credit history. Thus, if the ‘‘qualified
mortgage’’ definition is deemed to be a
safe harbor, the consumer could not
allege the creditor violated the
repayment ability requirement by failing
to consider and verify employment
status, simultaneous loans, current
obligations, or credit history. Under this
approach, originating a ‘‘qualified
mortgage’’ would be an alternative to
complying with the general ability-torepay standard and would operate as a
safe harbor. Thus, if a creditor satisfied
the qualified mortgage criteria, the
consumer could not assert that the
creditor had violated the ability-to-repay
provisions. The consumer could only
show that the creditor did not comply
with one of the qualified mortgage safe
harbor criteria.
There are sound policy reasons for
interpreting a ‘‘qualified mortgage’’ as
providing either a safe harbor or a
presumption of compliance. Interpreting
a ‘‘qualified mortgage’’ as a safe harbor
would provide creditors with an
incentive to make qualified mortgages.
That is, in exchange for limiting loan
fees and features, the creditor’s
regulatory burden and exposure to
liability would be reduced. Consumers
may benefit by being provided with
mortgage loans that do not have certain
risky features or high costs. However,
the drawback to this approach is that a
creditor could not be challenged for
failing to underwrite a loan based on the
consumer’s employment status,
simultaneous loans, current debt
obligations, or credit history, or for
generally not making a reasonable and
good faith determination of the
consumer’s ability to repay the loan.
Interpreting a ‘‘qualified mortgage’’ as
providing a rebuttable presumption of
compliance would better ensure that
creditors consider a consumer’s ability
to repay the loan. Creditors would have
to make individualized determinations
that the consumer had the ability to
repay the loan based on all of the
underwriting factors listed in the
general ability-to-repay standard. This
approach would require the creditor to
comply with all of the ability-to-repay
standards, and preserve the consumer’s
ability to use these standards in a
defense to foreclosure or other legal
action. In addition, a consumer could
assert that, despite complying with the
criteria for a qualified mortgage and the
ability-to-repay standard, the creditor
did not make a reasonable and good
faith determination of the consumer’s
ability to repay the loan. However, the
drawback of this approach is that it
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creditor, and thus, little incentive to
make a ‘‘qualified mortgage,’’ which
limits loan fees and features.
Because of the statutory ambiguity
and these competing concerns, the
Board is proposing two alternative
definitions of a ‘‘qualified mortgage.’’
Alternative 1 defines a ‘‘qualified
mortgage’’ based on the criteria listed in
the Act, and the definition operates as
a legal safe harbor and alternative to
complying with the general ability-torepay standard. Alternative 1 does not
define a ‘‘qualified mortgage’’ to include
a requirement to consider the
consumer’s debt-to-income ratio or
residual income. Because of the
discretion inherent in making these
calculations, such a requirement would
not provide certainty that the loan is a
qualified mortgage.
Alternative 2 defines a ‘‘qualified
mortgage’’ to include the requirements
listed in the Act as well as the other
underwriting requirements that are in
the general ability-to-repay standard
(i.e., employment status, simultaneous
loans, current debt obligations, debt-toincome ratio, and credit history). The
definition provides a presumption of
compliance that could be rebutted by
the consumer.
Limits on points and fees. The DoddFrank Act defines a ‘‘qualified mortgage’’
as a loan for which, among other things,
the total points and fees do not exceed
three percent of the total loan amount.
In addition, the Act requires the Board
to prescribe rules adjusting this
threshold for ‘‘smaller loans’’ and to
‘‘consider the potential impact of such
rules on rural areas and other areas
where home values are lower.’’ If the
threshold were not adjusted for smaller
loans, then creditors might not be able
to recover their fixed costs for
originating the loan. This could deter
some creditors from originating smaller
loans, thus reducing access to credit.
The Board is proposing two
alternatives for implementing the limits
on points and fees for qualified
mortgages. Alternative A is based on
certain tiers of loan amounts (e.g., a
points and fees threshold of 3.5 percent
of the total loan amount for a loan
amount greater than or equal to $60,000
but less than $75,000). Alternative A is
designed to be an easier calculation for
creditors, but may result in some
anomalies (e.g., a points and fees
threshold of $2,250 for a $75,000 loan,
but a points and fees threshold of $2,450
for a $70,000 loan). Alternative B is
designed to remedy these anomalies by
providing a more precise sliding scale,
but may be cumbersome for some
creditors. The proposal solicits
comment on these approaches.

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Definition of ‘‘points and fees.’’
Generally, a qualified mortgage cannot
have points and fees that exceed three
percent of the total loan amount.
Consistent with the Act, the proposal
revises Regulation Z to define ‘‘points
and fees’’ to now include: (1) Certain
mortgage insurance premiums in excess
of the amount payable under Federal
Housing Administration provisions; (2)
all compensation paid directly or
indirectly by a consumer or creditor to
a loan originator; and (3) the
prepayment penalty on the covered
transaction, or on the existing loan if it
is refinanced by the same creditor. The
proposal also provides exceptions to the
calculation of points and fees for: (1)
Any bona fide third party charge not
retained by the creditor, loan originator,
or an affiliate of either, and (2) certain
bona fide discount points.
Underwriting requirements. As
discussed above, it is not clear whether
the Act intends the definition of a
‘‘qualified mortgage’’ to be a somewhat
narrowly-defined safe harbor or a more
broadly-defined presumption of
compliance. For this reason, the Board
is proposing two alternative definitions
with respect to the underwriting
requirements. Under Alternative 1, the
underwriting requirements for a
qualified mortgage are limited to
requiring a creditor to consider and
verify the consumer’s current or
reasonably expected income or assets.
Under Alternative 2, the definition of a
qualified mortgage requires a creditor to
consider and verify all of the
underwriting factors required under the
general ability-to-repay standard,
namely: (1) The currently or reasonably
expected income, (2) the employment
status, (3) the monthly payment on any
simultaneous loan, (4) the current debt
obligations, (5) the monthly debt-toincome ratio or residual income, and (6)
the credit history.
Payment calculations. Consistent with
the Dodd-Frank Act, the proposal
defines a qualified mortgage to require
the creditor to calculate the mortgage
payment using the periodic payment of
principal and interest based on the
maximum interest rate that may apply
during the first five years after
consummation.
Balloon-Payment Qualified Mortgages
Made by Certain Creditors
The Board is exercising the authority
provided under the Dodd-Frank Act to
provide an exception to the definition of
a ‘‘qualified mortgage’’ for a balloonpayment loan made by a creditor that
meets the criteria set forth in the Act.
Based on outreach, it appears that some
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balloon loans as a means of hedging
against interest rate risk, and that the
community banks typically hold these
loans in portfolio. The Board believes
Congress enacted this exception to
ensure access to credit in rural and
underserved areas where consumers
may be able to obtain credit only from
such community banks offering these
balloon-payment loans. This exception
is similar to the exemption from the
escrow requirements provided in
another section of the Dodd-Frank Act.
The proposal provides an exception
for a creditor that meets the following
four criteria, with some alternatives:
(1) Operates in predominantly rural or
underserved areas. The creditor, during
the preceding calendar year, must have
extended more than 50% of its total
covered transactions that provide for
balloon payments in one or more
counties designated by the Board as
‘‘rural’’ or ‘‘underserved.’’
(2) Total annual covered transactions.
Under Alternative 1, the creditor,
together with all affiliates, extended
covered transactions of some dollar
amount or less during the preceding
calendar year. Under Alternative 2, the
creditor, together with all affiliates,
extended some number of covered
transactions or fewer during the
preceding calendar year. The proposal
solicits comment on an appropriate
dollar amount or number of
transactions.
(3) Balloon loans in portfolio. Under
Alternative 1, the creditor must not sell
any balloon-payment loans on or after
the effective date of the final rule. Under
Alternative 2, the creditor must not have
sold any balloon-payment loans during
the preceding and current calendar year.
(4) Asset size. The creditor must meet
an asset size threshold set annually by
the Board, which for calendar year 2011
would be $2 billion.
Limits on loan features. The DoddFrank Act generally provides that a
balloon-payment qualified mortgage
contains the same limits on loan
features and the loan term as a qualified
mortgage, except for allowing the
balloon payment. In addition, the Board
is using its adjustment and exception
authority and discretionary regulatory
authority to add a requirement that the
loan term be five years or longer. The
Board believes that this requirement
would help ensure the consumer’s
ability to repay the loan by providing
more time for the consumer to build
equity.
Points and fees and underwriting
requirements. Consistent with the DoddFrank Act, the proposal requires that a
balloon-payment qualified mortgage
provide for the same limits on points

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and fees and underwriting requirements
as a qualified mortgage.
Payment calculations. Consistent with
the Dodd-Frank Act, the proposal
provides that a creditor may underwrite
a balloon-payment qualified mortgage
using all of the scheduled payments,
except the balloon payment.
Other Protections
Limits on prepayment penalties.
Consistent with the Dodd-Frank Act, the
proposal provides that a covered
transaction may not include a
prepayment penalty unless the
transaction: (1) Has an APR that cannot
increase after consummation (i.e., a
fixed-rate or step-rate mortgage), (2) is a
qualified mortgage, and (3) is not a
higher-priced mortgage loan. The
proposal further provides, consistent
with the Act, that the prepayment
penalty may not exceed three percent of
the outstanding loan balance during the
first year after consummation, two
percent during the second year after
consummation, and one percent during
the third year after consummation.
Prepayment penalties are not permitted
after the end of the third year after
consummation. Finally, pursuant to the
Act, the proposal requires a creditor
offering a consumer a loan with a
prepayment penalty to also offer that
consumer a loan without a prepayment
penalty.
Expansion of record retention rules.
Currently, Regulation Z requires
creditors to retain evidence of
compliance for two years after
disclosures must be made or action
must be taken. The Dodd-Frank Act
extends the statute of limitations for
civil liability for a violation of the
prepayment penalty provisions or
ability-to-repay provisions (including
the qualified mortgage provisions) to
three years after the date of a violation.
The proposal revises Regulation Z to
lengthen the record retention
requirement to three years after
consummation for consistency with the
Dodd-Frank Act.
Prohibition on evasion through openend credit. Currently, Regulation Z
prohibits a creditor from structuring a
closed-end loan as an open-end plan to
evade the requirements for higherpriced mortgage loans. The Board is
using its adjustment and exception
authority and discretionary regulatory
authority to include a similar provision
in this proposal in order to prevent
circumvention or evasion.

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V. Section-by-Section Analysis

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Section 226.25

Record Retention

25(a) General Rule
Currently, § 226.25(a) requires that
creditors retain evidence of compliance
with Regulation Z for two years after
disclosures must be made or action
must be taken. Section 226.25(a) also
clarifies that administrative agencies
responsible for enforcing Regulation Z
may require creditors under their
jurisdictions to retain records for a
longer period, if necessary to carry out
their enforcement responsibilities under
TILA Section 108. 15 U.S.C. 1607.
Under TILA Section 130(e), the statute
of limitations for civil liability for a
violation of TILA is one year after the
date a violation occurs. 15 U.S.C. 1640.
The proposal would implement the
requirement to consider a consumer’s
repayment ability under TILA Section
129C(a), alternative requirements for
‘‘qualified mortgages’’ under TILA
Section 129C(b), and prepayment
penalty requirements under TILA
Section 129C(c) in proposed § 226.43, as
discussed in detail below. Section 1416
of the Dodd-Frank Act extends the
statute of limitations for civil liability
for a violation of TILA Section 129C,
among other provisions, to three years
after the date a violation occurs.
Accordingly, the Board proposes to
revise § 226.25(a) to require that
creditors retain records that evidence
compliance with proposed § 226.43 for
at least three years after consummation.
Although creditors will take action
required under proposed § 226.43
(underwriting covered transactions and
offering consumers the option of a
covered transaction without a
prepayment penalty) before a
transaction is consummated, the Board
believes calculating the record retention
period from the time of consummation
would facilitate compliance by
establishing a clear time period for
record retention. The proposal to extend
the required period for retention of
evidence of compliance with § 226.43
would not affect the record retention
period for other requirements under
Regulation Z. Increasing the period
creditors must retain records evidencing
compliance with § 226.43 from two to
three years would increase creditors’
compliance burden. The Board believes
many creditors will retain such records
for at least three years, even in the
absence of a change to record retention
requirements, due to the extension of
the statute of limitations for civil
liability.
Currently, comment 25(a)–2 clarifies
that in general creditors need retain

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only enough information to reconstruct
the required disclosures or other
records. The Board proposes a new
comment 25(a)–6 that clarifies that if a
creditor must verify and document
information used in underwriting a
transaction subject to proposed § 226.43,
the creditor should retain evidence
sufficient to demonstrate compliance
with the documentation requirements of
§ 226.25(a). Proposed comment 25(a)–6
also clarifies that creditors need not
retain actual paper copies of the
documentation used to underwrite a
transaction, but they should be able to
reproduce those records accurately, for
example, by retaining a reproduction of
a consumer’s Internal Revenue Service
Form W–2 rather than merely the
income information on the form. The
Board also proposes to revise comment
25(a)–2 to remove obsolete references to
particular documentation methods and
to reflect that in some cases creditors
must be able to reproduce (not merely
reconstruct) records.
Proposed comment 25(a)–7 provides
guidance regarding retention of records
evidencing compliance with the
requirement to offer a consumer an
alternative covered transaction without
a prepayment penalty, discussed below
in the section-by-section analyses of
proposed § 226.43(g)(3) through (5).
Proposed comment 25(a)–7 clarifies that
creditors must retain records that
document compliance with that
requirement if a transaction subject to
proposed § 226.43 is consummated with
a prepayment penalty, but need not
retain such records if a covered
transaction is consummated without a
prepayment penalty or a covered
transaction is not consummated. See
proposed § 226.43(g)(6). The Board
believes the requirement to offer a
transaction without a prepayment
penalty under TILA Section 129C(c)(4)
is intended to ensure that consumers
can voluntarily choose an alternative
covered transaction with a prepayment
penalty. The Board therefore believes it
is unnecessary for creditors to document
compliance with the offer requirement
when a consumer does not choose a
transaction with a prepayment penalty,
or if the covered transaction is not
consummated.
As discussed in detail below in the
section-by-section analysis of proposed
§ 226.43(g)(4), if the creditor offers a
covered transaction with a prepayment
penalty through a mortgage broker, the
creditor must present the mortgage
broker an alternative covered
transaction without a prepayment
penalty. Also, the creditor must provide,
by agreement, for the mortgage broker to
present the consumer that transaction or

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an alternative covered transaction
without a prepayment penalty offered
by another creditor that has a lower
interest rate or a lower total dollar
amount of origination points or fees and
discount points. Proposed comment
25(a)–7 clarifies that, to evidence
compliance with proposed
§ 226.43(g)(4), the creditor should retain
a record of (1) the alternative covered
transaction without a prepayment
penalty presented to the mortgage
broker pursuant to proposed
§ 226.43(g)(4)(i), such as a rate sheet,
and (2) the agreement with the mortgage
broker required by proposed
§ 226.34(g)(4)(ii).
Section 226.32 Requirements for
Certain Closed-End Home Mortgages
Introduction
The Board proposes to revise the
definition of ‘‘points and fees’’ in
§ 226.32(b)(1) to incorporate
amendments to this definition under the
Dodd-Frank Act.6 Formerly, the
definition of ‘‘points and fees’’ in both
TILA and Regulation Z applied only for
determining whether a home mortgage
is a ‘‘high-cost mortgage’’ under TILA.
See TILA Section 103(aa)(4), 15 U.S.C.
1602(aa)(4); § 226.32. As discussed
earlier, however, the Dodd-Frank Act
amended TILA to create a new type of
mortgage—a ‘‘qualified mortgage’’—to
which certain limits on the points and
fees that may be charged apply.7 Under
the new TILA amendments, the term
‘‘points and fees’’ for qualified mortgages
has the same meaning as ‘‘points and
fees’’ for high-cost mortgages.
The Board proposes amendments to
the definition of ‘‘points and fees’’ to
implement the limitation on points and
fees for qualified mortgages. The Board
is not currently proposing regulations to
implement the Dodd-Frank Act’s
amendments to TILA’s high-cost
mortgage rules generally.8 For example,
the Board is not proposing at this time
to implement revisions to the points and
fees thresholds for high-cost mortgages
that exclude from the threshold
6 Public Law 111–203, 124 Stat. 1376, Title XIV,
§ 1431.
7 Id. § 1412; TILA Section 129C(b)(2)(A)(vii),
(b)(2)(C)(i); 15 U.S.C. 1639c(b)(2)(A)(vii), (b)(2)(C)(i).
8 Id. § 1431–1433. The Dodd-Frank Act defines a
high-cost mortgage to include a mortgage for which
‘‘the total points and fees payable in connection
with the transaction, other than bona fide third
party charges not retained by the mortgage
originator, creditor, or an affiliate of the creditor or
mortgage originator, exceed—(I) in the case of a
transaction for $20,000 or more, 5 percent of the
total transaction amount; or (II) in the case of a
transaction for less than $20,000, the lesser of 8
percent of the total transaction amount or $1,000 (or
such other dollar amount as the Board shall
prescribe by regulation.’’ Id. § 1431(a); TILA Section
103(aa)(1)(A)(ii); 15 U.S.C. 1602(aa)(1)(A)(ii).

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
calculation ‘‘bona fide third party
charges not retained by the mortgage
originator, creditor, or an affiliate of the
creditor or mortgage originator’’ and that
permit creditors to exclude certain
‘‘bona fide discount points.’’ 9 By
contrast, identical provisions in the
Dodd-Frank Act defining the points and
fees threshold for qualified mortgages
are proposed to be implemented in new
§ 226.43(e)(3), discussed below.10
32(a) Coverage
32(a)(1) Calculation of the ‘‘Total Loan
Amount’’

jlentini on DSKJ8SOYB1PROD with PROPOSALS2

TILA Section 129C(b)(2)(A)(vii)
defines a ‘‘qualified mortgage’’ as a
mortgage for which, among other things,
‘‘the total points and fees [] payable in
connection with the loan do not exceed
3 percent of the total loan amount’’
(emphasis added).11 Therefore, for
purposes of implementing the qualified
mortgage provisions, the Board proposes
to retain existing comment 32(a)(1)(ii)–
1 explaining the meaning of the term
‘‘total loan amount,’’ with the minor
revisions discussed below.
First, the proposal revises the ‘‘total
loan amount’’ calculation under current
comment 32(a)(1)(ii)–1 to account for
charges added to TILA’s definition of
points and fees by the Dodd-Frank Act
(proposed to be implemented under
revisions to § 226.32(b)(1), discussed
below). Under Regulation Z, the ‘‘total
loan amount’’ is calculated to ensure
9 Public Law 111–203, 124 Stat. 1376, Title XIV,
§ 1431(a) and (d); TILA Section 103(aa)(1) and (dd);
15 U.S.C. 1602(aa)(1) and (dd).
10 Public Law 111–203, 124 Stat. 1376, Title XIV,
§ 1412; TILA Section 129C(b)(2)(C); 15 U.S.C.
1639c(b)(2)(C). Thus, if the rule on qualified
mortgages is finalized prior to the rule on high-cost
mortgages, the calculation of the points and fees
threshold for each type of mortgage would be
different, but the baseline definition of ‘‘points and
fees’’ would be the same.
11 Similarly, prior to being revised by the DoddFrank Act, TILA Section 103(aa)(1)(B) defined a
high-cost mortgage to include a mortgage for which
‘‘the total points and fees payable by the consumer
at or before closing will exceed the greater of (i)
eight percent of the total loan amount; or (ii) $400’’
(emphasis added). Regulation Z currently defines a
high-cost mortgage to include a loan for which the
total points and fees payable by the consumer at or
before closing exceed a certain percentage of the
‘‘total loan amount’’ or a dollar amount adjusted
annually for inflation. See § 226.32(a)(1)(ii).
Commentary to § 226.32(a)(1)(ii) explains the term
‘‘total loan amount.’’ See comment 32(a)(1)(ii)–1.
Section 1431 of the Dodd-Frank Act now defines a
high-cost mortgage to include a mortgage for which
the points and fees do not exceed a certain
percentage of the ‘‘total transaction amount,’’ rather
than using the term ‘‘total loan amount.’’ TILA
Section 103(aa)(1)(A)(ii). The Dodd-Frank Act does
not define the term ‘‘total transaction amount.’’
However, as discussed above, the Board is not at
this time proposing to revise the definition of highcost mortgage in § 226.32 to implement Dodd-Frank
Act amendments to TILA’s high-cost mortgage
provisions.

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that the allowable points and fees is a
percentage of the amount of credit
extended to the consumer, without
taking into account the financed points
and fees themselves. Specifically, under
current comment 32(a)(1)(ii)–1, the
‘‘total loan amount’’ is calculated by
‘‘taking the amount financed, as
determined according to § 226.18(b),
and deducting any cost listed in
§ 226.32(b)(1)(iii) and § 226.32(b)(1)(iv)
that is both included as points and fees
under § 226.32(b)(1) and financed by the
creditor.’’ Section 226.32(b)(1)(iii) and
(b)(1)(iv) pertain to ‘‘real estate-related
fees’’ listed in § 226.4(c)(7) and
premiums or other charges for credit
insurance or debt cancellation coverage,
respectively.
The Board proposes to revise this
comment to cross-reference additional
financed points and fees described in
proposed § 226.32(b)(1)(vi) as well. This
addition would require a creditor also to
deduct from the amount financed any
prepayment penalties that are ‘‘incurred
by the consumer if the mortgage loan
refinances a previous loan made or
currently held by the creditor
refinancing the loan or an affiliate of the
creditor’’—to the extent that the
prepayment penalties are financed by
the creditor into the new loan. See
proposed § 226.32(b)(1)(vi),
implementing TILA Section
103(aa)(4)(F). In this way, the three
percent limit on points and fees for
qualified mortgages will be based on the
amount of credit extended to the
borrower without taking into account
the financed points and fees themselves.
The proposal also revises one of the
commentary’s examples of the ‘‘total
loan amount’’ calculation. Specifically,
the Board proposes to revise the
example of a $500 single premium for
optional ‘‘credit life insurance’’ used in
comment 32(b)(1)(i)–1.iv to be a $500
single premium for optional ‘‘credit
unemployment insurance.’’ This change
is proposed because, under the DoddFrank Act, single-premium credit
insurance—including credit life
insurance—is prohibited in covered
transactions except for certain limited
types of credit unemployment
insurance.12 See TILA Section 129C(d);
15 U.S.C. 1639c(d).
Alternative calculation of ‘‘total loan
amount’’ based on the ‘‘principal loan
amount.’’ As noted, currently the ‘‘total
loan amount’’ is calculated by taking the
‘‘amount financed’’ (as determined
under § 226.18(b)) and deducting any
12 Public Law 111–203, 124 Stat. 1376, Title XIV,
§ 1414. The Board is not at this time proposing to
implement the restrictions on single-premium
credit insurance under the Dodd-Frank Act.

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cost listed in § 226.32(b)(1)(iii) and
§ 226.32(b)(1)(iv) that is both included
as points and fees under § 226.32(b)(1)
and financed by the creditor. The Board
requests comment on whether to
streamline the calculation to better
ensure that the ‘‘total loan amount’’
includes all credit extended other than
financed points and fees.
Specifically, the Board solicits
comment on whether to revise the
calculation of ‘‘total loan amount’’ to be
the following: ‘‘principal loan amount’’
(as defined in § 226.18(b) and
accompanying commentary), minus
charges that are points and fees under
§ 226.32(b)(1) and are financed by the
creditor. The purpose of using the
‘‘principal loan amount’’ instead of the
‘‘amount financed’’ would be to
streamline the calculation to facilitate
compliance and to ensure that no
charges other than financed points and
fees are excluded from the ‘‘total loan
amount.’’ In general, the revised
calculation would yield a larger ‘‘total
loan amount’’ to which the percentage
points and fees thresholds would have
to be applied than would the proposed
(and existing) ‘‘total loan amount’’
calculation, because only financed
points and fees and no other financed
amounts would be excluded. Thus,
creditors in some cases would be able to
charge more points and fees on the same
loan than under the proposed (and
existing) rule.
To illustrate, under the proposed (and
current) rule, the ‘‘total loan amount’’ for
a loan with a ‘‘principal loan amount’’ of
$100,000 and a $3,000 upfront mortgage
insurance premium is $97,000. This is
because the ‘‘amount financed,’’ from
which the ‘‘total loan amount’’ is
derived, excludes prepaid finance
charges. The $3,000 upfront mortgage
origination charge meets the definition
of a prepaid finance charge (see
§ 226.2(a)(23)) and thus would be
excluded from the ‘‘principal loan
amount’’ to derive the ‘‘amount
financed.’’ The ‘‘total loan amount’’ is
the ‘‘amount financed’’ ($97,000) minus
any points and fees listed in
§ 226.32(b)(1)(iii) or (b)(1)(iv) that are
financed. In this example, there are no
charges under § 226.32(b)(1)(iii) or
(b)(1)(iv), so the ‘‘total loan amount’’ is
$97,000. The allowable points and fees
under the qualified mortgage test in this
example is three percent of $97,000 or
$2,910.
If the ‘‘total loan amount’’ is derived
simply by subtracting from the
‘‘principal loan amount’’ all points and
fees that are financed, however, a
different result occurs. In the example
above, assume that the allowable
upfront mortgage insurance premium

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for FHA loans is $2,000. Under
proposed § 226.32(b)(1)(i)(B) (discussed
in detail below), only the $1,000
difference between the $3,000 upfront
private mortgage insurance premium
and the $2,000 amount that would be
allowable for an FHA loan must be
counted as points and fees. To
determine the ‘‘total loan amount,’’ the
creditor would subtract $1,000 from the
‘‘principal loan amount’’ ($100,000),
resulting in $99,000. The allowable
points and fees under the qualified
mortgage test in this example is three
percent of $99,000 or $2,970.
The Board requests comment on the
proposed revisions to the comment
explaining how to calculate the ‘‘total
loan amount,’’ including whether
additional guidance is needed.
32(b) Definitions

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32(b)(1)
The proposed rule would revise
existing elements of Regulation Z’s
definition of ‘‘points and fees’’ (see
proposed § 226.32(b)(1)(i)–(iv)) and add
certain items not previously included in
‘‘points and fees’’ but now mandated by
statute to be included (see proposed
§ 226.32(b)(1)(v) and (vi)). These
changes are discussed in turn below.
32(b)(1)(i) Finance Charge
Current § 226.32(b)(1)(i) requires that
‘‘points and fees’’ include ‘‘all items
required to be disclosed under § 226.4(a)
and 226.4(b)’’—the provisions that
define the term ‘‘finance charge’’
—‘‘except interest or the time-price
differential.’’ Proposed § 226.32(b)(1)(i)
would revise the current provision to
include in points and fees ‘‘all items
considered to be a finance charge under
§ 226.4(a) and 226.4(b), except—
• Interest or the time-price
differential; and
• Any premium or charge for any
guarantee or insurance protecting the
creditor against the consumer’s default
or other credit loss to the extent that the
premium or charge is assessed—
Æ in connection with any Federal or
state agency program;
Æ not in excess of the amount payable
under policies in effect at the time of
origination under Section 203(c)(2)(A)
of the National Housing Act (12 U.S.C.
1709(c)(2)(A)) (i.e., for Federal Housing
Administration (FHA) loans), provided
that the premium or charge is required
to be refundable on a pro-rated basis
and the refund is automatically issued
upon notification of the satisfaction of
the underlying mortgage loan; or
Æ payable after the loan closing.
See proposed § 226.32(b)(1)(i)(A)-(C).
The Board proposes to revise the
existing phrase, ‘‘all items required to be

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disclosed under § 226.4(a) and 226.4(b)’’
to read, ‘‘all items considered to be a
finance charge under § 226.4(a) and
226.4(b)’’ in part because § 226.4 itself
does not require disclosure of the
finance charge (see instead, for example,
§ 226.18(d)).
The Board also proposes to revise
comment 32(b)(1)(i)–1. Existing
comment 32(b)(1)(i)–1 states that
§ 226.32(b)(1)(i) includes in the total
‘‘points and fees’’ items defined as
finance charges under § 226.4(a) and
226.4(b). The comment explains that
items excluded from the finance charge
under other provisions of § 226.4 are not
included in the total ‘‘points and fees’’
under § 226.32(b)(1)(i), but may be
included in ‘‘points and fees’’ under
§ 226.32(b)(1)(ii) and 226.32(b)(1)(iii).
The Board proposes to revise this
comment to state that items excluded
from the finance charge under other
provision of § 226.4 may be included in
‘‘points and fee’’ under § 226.32(b)(1)(ii)
through 226.32(b)(1)(vi). This change is
proposed to reflect the additional items
added to the definition of ‘‘points and
fees’’ by the Dodd-Frank Act and to
correct the previous omission of
§ 226.32(b)(1)(iv).
In addition, the Board proposes to
incorporate into this comment an
example of how this rule operates.
Thus, the proposed comment notes that
a fee imposed by the creditor for an
appraisal performed by an employee of
the creditor meets the definition of
‘‘finance charge’’ under § 226.4(a) as
‘‘any charge payable directly or
indirectly by the consumer and imposed
directly or indirectly by the creditor as
an incident to or a condition of the
extension of credit.’’ However,
§ 226.4(c)(7) expressly provides that
appraisal fees are not finance charges.
Therefore, under the general rule
regarding the finance charges that must
be counted as points and fees, a fee
imposed by the creditor for an appraisal
performed by an employee of the
creditor would not be counted in points
and fees. Section 226.32(b)(1)(iii),
however, expressly includes in points
and fees items listed in § 226.4(c)(7)
(including appraisal fees) if the creditor
receives compensation in connection
with the charge. A creditor would
receive compensation for an appraisal
performed by its own employee. Thus,
the appraisal fee in this example must
be included in the calculation of points
and fees. Comment 32(b)(1)(i)–1 is also
proposed to be updated to include
cross-references that correspond to
provisions added to the definition of
‘‘points and fees’’ by the Dodd-Frank Act
(see proposed § 226.32(b)(1)(v) and
(b)(1)(vi)).

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32(b)(1)(i)(B) Mortgage Insurance
Proposed § 226.32(b)(1)(i)(B) adds a
new provision to the current definition
of ‘‘points and fees’’ regarding charges
for mortgage insurance and similar
products. As stated above, under this
provision, points and fees would
include all items considered to be a
finance charge under § 226.4(a) and
226.4(b) except mortgage insurance
premiums or mortgage guarantee
charges or fees to the extent that the
premium or charge is—
• assessed in connection with any
Federal or state agency program;
• not in excess of the amount payable
under FHA mortgage insurance policies
(provided that the premium or charge is
required to be refundable on a pro-rated
basis and the refund is automatically
issued upon notification of the
satisfaction of the underlying mortgage
loan); or
• payable after the loan closing.
This provision implements TILA
Section 103(aa)(1)(C), which specifies
how ‘‘mortgage insurance’’ should be
treated in the statutory definition of
points and fees under TILA Section
103(aa)(4).
Exclusion of government insurance
premiums and guaranty fees. The Board
proposes to incorporate the new
statutory exclusion from points and fees
of ‘‘any premium provided by an agency
of the Federal Government or an agency
of a State,’’ with revisions. TILA Section
103(aa)(1)(C)(i). Specifically, the
proposal excludes ‘‘any premium or
charge for any guaranty or insurance’’
under a Federal or state government
program. See proposed
§ 226.32(b)(1)(i)(B)(1). Proposed
comment 32(b)(1)(i)–2 explains that,
under § 226.32(b)(1)(i)(B)(1) and (3),
upfront mortgage insurance premiums
or guaranty fees in connection with a
Federal or state agency program are not
‘‘points and fees,’’ even though they are
finance charges under § 226.4(a) and (b).
The comment provides the following
example: If a consumer is required to
pay a $2,000 mortgage insurance
premium before or at closing for a loan
insured by the U.S. Federal Housing
Administration, the $2,000 must be
treated as a finance charge but need not
be counted in ‘‘points and fees.’’
The Board interprets the statute to
exclude from points and fees not only
upfront mortgage insurance premiums
under government programs but also
charges for mortgage guaranties under
government programs, which typically
are assessed upfront as well. The
proposed exclusion from points and fees
of both mortgage insurance premiums
and guaranty fees under government

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programs is also supported by the
Board’s authority under TILA Section
105(a) to make adjustments to facilitate
compliance with TILA and to effectuate
the purposes of TILA. 15 U.S.C. 1604(a).
The exclusion is further supported by
the Board’s authority under TILA
Section 129B(e) to condition terms, acts
or practices relating to residential
mortgage loans that the Board finds
necessary or proper to effectuate the
purposes of TILA. 15 U.S.C. 1639b(e).
The purposes of TILA include
‘‘assur[ing] that consumers are offered
and receive residential mortgage loan on
terms that reasonably reflect their ability
to repay the loans.’’ TILA Section
129B(a)(2); 15 U.S.C. 1629b(a)(2).
Representatives of both the U.S.
Department of Veterans Affairs (VA) and
the U.S. Department of Agriculture
(USDA) expressed concerns to Board
staff that the statute, which excludes
only ‘‘premiums’’ under government
programs, could be read to mean that
upfront charges for guaranties offered
under loan programs of these agencies
and any state agencies must be counted
in ‘‘points and fees.’’ The Board
understands that this interpretation of
the statute could disrupt these loan
guaranty programs, jeopardizing an
important home mortgage credit
resource for many consumers.
According to VA representatives, for
example, if VA ‘‘funding fees’’ for the VA
mortgage loan guaranty are included in
points and fees, for example, VA loans
might exceed high-cost mortgage
thresholds and likely would exceed the
points and fees cap for a qualified
mortgage.13 In sum, the Board believes
that the proposal is necessary to ensure
consumer’s access to credit through
state and Federal government programs.
The Board requests comment on the
proposal to exclude from ‘‘points and
fees’’ upfront premiums as well as
charges for any insurance or guaranty
under a Federal or state government
program.
Inclusion of upfront private mortgage
insurance. Proposed
§ 226.32(b)(1)(i)(B)(2) excludes from
points and fees any premium or charge
for any guaranty or insurance protecting
the creditor against the consumer’s
default or other credit loss to the extent
the premium or charge does not exceed
the amount payable under policies in
13 The statute authorizes certain agencies,
including the VA and USDA, to prescribe rules
defining the loans under their programs that are
qualified mortgages; until those rules take effect,
however, it appears that even loans under
government programs will be subject to the general
ability-to-repay requirements and the criteria for
qualified mortgages. See TILA Section
129C(b)(3)(ii).

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effect at the time of origination under
Section 203(c)(2)(A) of the National
Housing Act (12 U.S.C. 1709(c)(2)(A))
(i.e., for Federal Housing
Administration (FHA) loans). Upfront
private mortgage insurance charges may
only be excluded from points and fees,
however, if the premium or charge is
required to be refundable on a pro-rated
basis and the refund is automatically
issued upon notification of the
satisfaction of the underlying mortgage
loan. Proposed § 226.32(b)(1)(i)(B)(3)
excludes from points and fees any
premium or charge for any guarantee or
insurance protecting the creditor against
the consumer’s default or other credit
loss to the extent that the premium or
charge is payable after the loan closing.
Comment 32(b)(1)(i)–3 explains that,
under proposed § 226.32(b)(1)(i)(B)(2)
and (3), upfront private mortgage
insurance premiums are not ‘‘points and
fees,’’ even though they are finance
charges under § 226.4(a) and (b)—but
only to the extent that the premium
amount does not exceed the amount
payable under policies in effect at the
time of origination under Section
203(c)(2)(A) of the National Housing Act
(12 U.S.C. 1709(c)(2)(A)). In addition,
upfront private mortgage insurance
premiums are excluded from ‘‘points
and fees’’ only if they are required to be
refunded on a pro rata basis and the
refund is automatically issued upon
notification of the satisfaction of the
underlying mortgage loan. This
comment provides the following
example: Assume that a $3,000 upfront
private mortgage insurance premium
charged on a covered transaction is
required to be refunded on a pro rata
basis and automatically issued upon
notification of the satisfaction of the
underlying mortgage loan. Assume also
that the maximum upfront premium
allowable under the National Housing
Act is $2,000. In this case, the creditor
could exclude $2,000 from ‘‘points and
fees’’ but would have to include in
points and fees the remaining $1,000,
because this is the amount that exceeds
the allowable premium under the
National Housing Act. However, if the
$3,000 upfront private mortgage
insurance premium were not required to
be refunded on a pro rata basis and
automatically issued upon notification
of the satisfaction of the underlying
mortgage loan, the entire $3,000
premium must be included in ‘‘points
and fees.’’
Proposed comment 32(b)(1)(i)–4
explains that upfront private mortgage
insurance premiums that do not qualify
for an exclusion from ‘‘points and fees’’
under § 226.32(b)(1)(i)(B)(2) must be
included in ‘‘points and fees’’ whether

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paid before or at closing, in cash or
financed, and whether the insurance is
optional or required. This comment
further explains that these charges are
also included whether the amount
represents the entire premium or an
initial payment. This proposed
comment is consistent with existing
comment 32(b)(1)(iv)–1 regarding the
treatment of credit insurance premiums.
TILA’s new mortgage insurance
provision could plausibly be interpreted
to apply to the definition of points and
fees solely for purposes of high-cost
mortgages and not for qualified
mortgages. In this regard, the Board
notes that the statutory provision
mandating a three percent cap on points
and fees for qualified mortgages
specifically cross-references TILA
Section 103(aa)(4) for the definition of
‘‘points and fees’’ applicable to qualified
mortgages. The provision on mortgage
insurance, however, does not appear in
TILA Section 103(aa)(4), but appears
rather as part of the general definition
of a high-cost mortgage. See TILA
Section 103(aa)(1). The Board also notes
that certain provisions in the DoddFrank Act’s high-cost mortgage section
regarding points and fees are repeated in
the qualified mortgage section on points
and fees. For example, both the highcost mortgage provisions and the
qualified mortgage provisions expressly
exclude from points and fees ‘‘bona fide
third party charges not retained by the
mortgage originator, creditor, or an
affiliate of the creditor or mortgage
originator.’’ TILA Sections
103(aa)(1)(A)(ii) (for high-cost
mortgages), 129C(b)(2)(C)(i) (for
qualified mortgages). The mortgage
insurance provision, however, does not
separately appear in the qualified
mortgage section.
Nonetheless, the Board believes that
the better interpretation of the statute is
that the mortgage insurance provision in
TILA Section 103(aa)(1)(C) applies to
the meaning of points and fees for both
high-cost mortgages and qualified
mortgages. The statute’s structure
reasonably supports this view: By its
plain language, the mortgage insurance
provision prescribes how points and
fees should be computed ‘‘for purposes
of paragraph (4)’’—namely, for purposes
of TILA Section 103(aa)(4). The
mortgage insurance provision contains
no caveat limiting its application solely
to the points and fees calculation for
high-cost mortgages. The cross-reference
in the qualified mortgage provisions to
TILA Section 103(aa)(4) appropriately
can be read to include provisions that
expressly prescribe how points and fees
should be calculated under TILA
Section 103(aa)(4), wherever located.

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Applying the mortgage insurance
provision to the meaning of points and
fees for both high-cost mortgages and
qualified mortgages is also supported by
the Board’s authority under TILA
Section 105(a) to make adjustments to
facilitate compliance with TILA 15
U.S.C. 1604(a). The exclusion is further
supported by the Board’s authority
under TILA Section 129B(e) to
condition terms, acts or practices
relating to residential mortgage loans
that the Board finds necessary or proper
to effectuate the purposes of TILA. 15
U.S.C. 1639b(e). The purposes of TILA
include ‘‘assur[ing] that consumers are
offered and receive residential mortgage
loan on terms that reasonably reflect
their ability to repay the loans.’’ TILA
Section 129B(a)(2); 15 U.S.C.
1629b(a)(2).
From a practical standpoint, the
Board is concerned about the increased
risk of confusion and compliance error
if points and fees has two separate
meanings in TILA—one for determining
whether a loan is a high-cost mortgage
and another for determining whether a
loan is a qualified mortgage. The
proposal is intended to facilitate
compliance by applying the mortgage
insurance provision to the meaning of
points and fees for both high-cost
mortgages and qualified mortgages.
In addition, the Board is concerned
that market distortions could result due
to different treatment of mortgage
insurance in calculating points and fees
for high-cost mortgages and qualified
mortgages. As noted, ‘‘points and fees’’
for both high-cost mortgages and
qualified mortgages generally excludes
‘‘bona fide third party charges not
retained by the mortgage originator,
creditor, or an affiliate of the creditor or
mortgage originator.’’ TILA Sections
103(aa)(1)(A)(ii), 129C(b)(2)(C)(i). Under
this general provision standing alone,
premiums for upfront private mortgage
insurance would be excluded from
points and fees. However, as noted, the
statute’s specific provision on mortgage
insurance (TILA Section 103(aa)(1)(C))
requires that any portion of upfront
premiums for private mortgage
insurance that exceeds amounts
allowable for upfront insurance
premiums in FHA mortgage loan
transactions be counted in points and
fees. It further provides that upfront
private mortgage insurance premiums
must be included in points and fees if
they are not required to be refunded on
a pro rata basis and the refund is not
automatically issued upon notification
of the satisfaction of the underlying
mortgage loan.
Narrowly applying the mortgage
insurance provision to the definition of

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points and fees only for high-cost
mortgages would mean that any
premium amount for upfront private
mortgage insurance could be charged on
qualified mortgages; in most cases, none
of that amount would be subject to the
cap on points and fees for qualified
mortgages because it would be excluded
as a ‘‘bona fide third party fee’’ that is
not retained by the creditor, loan
originator, or an affiliate of either. As a
result, consumers of qualified mortgages
could be vulnerable to paying excessive
upfront private mortgage insurance
costs. In the Board’s view, this outcome
would undercut Congress’s clear intent
to ensure that qualified mortgages are
products with limited fees and more
safe features.
32(b)(1)(ii) Loan Originator
Compensation
The Board proposes revisions to
§ 226.32(b)(ii) to reflect statutory
amendments under the Dodd-Frank Act.
Current § 226.32(b)(ii) requires
inclusion in points and fees of ‘‘all
compensation paid to a mortgage
broker.’’ Proposed § 226.32(b)(ii) would
implement a new statutory provision
that requires inclusion in points and
fees of ‘‘all compensation paid directly
or indirectly by a consumer or creditor
to a mortgage originator from any
source, including a mortgage originator
that is also the creditor in a table-funded
transaction.’’ See TILA Section
103(aa)(4)(B), 15 U.S.C. 1602(aa)(4)(B).
Consistent with the statute, the Board
also proposes to exclude from points
and fees compensation paid to certain
persons. See proposed § 226.32(b)(2),
discussed below.
Proposed § 226.32(b)(1)(ii) mirrors the
statutory language, with two exceptions.
First, the statute requires inclusion of
‘‘compensation paid directly or
indirectly by a consumer or creditor to
a mortgage originator from any source.
* * *’’ The proposed rule does not
include the phrase ‘‘from any source’’
because the provision expressly covers
compensation paid ‘‘directly or
indirectly’’ to the loan originator, which
would have the same effect. The Board
requests comment on whether any
reason exists to include the phrase
‘‘from any source’’ to describe loan
originator compensation for purposes of
implementing TILA Section
103(aa)(4)(B).
Second, the proposal uses the term
‘‘loan originator’’ as defined in
§ 226.36(a)(1),14 not the term ‘‘mortgage
14 Section 226.36(a)(1) defines the term ‘‘loan
originator’’ to mean, ‘‘with respect to a particular
transaction, a person who for compensation or other
monetary gain, or in expectation of compensation

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originator’’ under Section 1401 of the
Dodd-Frank Act.15 See TILA Section
103(cc)(2); 15 U.S.C. 1602(cc)(2). The
term ‘‘loan originator’’ is used for
consistency with existing Regulation Z
provisions under § 226.36. The Board
believes that the term ‘‘loan originator,’’
as defined in § 226.36(a)(1), is
appropriately used in proposed
§ 226.32(b)(1)(ii) because the meaning of
‘‘loan originator’’ under § 226.36(a)(1)
and the statutory definition of ‘‘mortgage
originator’’ are consistent in several key
respects, discussed below.
In addition, new § 226.32(b)(2) would
account for the distinctions between the
Dodd-Frank Act’s definition of
‘‘mortgage originator’’ and the definition
of ‘‘loan originator’’ under § 226.36(a)(1).
Proposed § 226.32(b)(2) exempts from
points and fees compensation paid to
certain persons expressly excluded from
the statutory definition of ‘‘mortgage
originator.’’ See section-by-section
analysis of § 226.32(b)(2), below. Use of
the term ‘‘loan originator’’ in proposed
§ 226.32(b)(1)(ii).
Loan originator functions. The DoddFrank Act defines the term ‘‘mortgage
originator’’ to mean ‘‘any person who,
for direct or indirect compensation or
gain, or in the expectation of direct or
indirect compensation or gain—(i) takes
a residential mortgage loan application;
(ii) assists a consumer in obtaining or
applying to obtain a residential
mortgage loan; or (iii) offers or
negotiates terms of a residential
mortgage loan . * * *’’ TILA Section
103(cc)(2)(A). The statute further
defines ‘‘assists a consumer in obtaining
or applying to obtain a residential
mortgage loan’’ to mean, ‘‘among other
things, advising on residential mortgage
loan terms (including rates, fees, and
other costs), preparing residential
mortgage loan packages, or collecting
information on behalf of the consumer
with regard to a residential mortgage
loan.’’
The definition of ‘‘loan originator’’ in
§ 226.36 includes all of the activities
listed in the statute as part of the
definition of ‘‘mortgage originator,’’ with
one exception. Unlike the statutory
definition of ‘‘mortgage originator,’’
however, Regulation Z’s definition of
‘‘loan originator’’ does not include ‘‘any
or other monetary gain, arranges, negotiates, or
otherwise obtains an extension of credit for another
person. The term ‘loan originator’ includes an
employee of the creditor if the employee meets this
definition. The term ‘loan originator’ includes the
creditor only if the creditor does not provide the
funds for the transaction at consummation out of
the creditor’s own resources, including drawing on
a bona fide warehouse line of credit, or out of
deposits held by the creditor.’’ Section 226.36(a)(1).
15 Public Law 111–203, 124 Stat. 1376, Title XIV,
§ 1401.

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
person who represents to the public,
through advertising or other means of
communicating or providing
information (including the use of
business cards, stationery, brochures,
signs, rate lists, or other promotional
items), that such person can or will
provide any of the activities’’ described
above. TILA Section 103(cc)(2)(B); 15
U.S.C. 1602(cc)(2)(B). The Board does
not believe that adding this element of
the definition of ‘‘mortgage originator’’ to
Regulation Z’s definition of ‘‘loan
originator’’ is necessary at this time
because § 226.36 and the proposed
definition of ‘‘points and fees’’ are
concerned solely with loan originators
that receive compensation for
performing defined origination
functions. A person who solely
represents to the public that he is able
to offer or negotiate mortgage terms for
a consumer has not yet received
compensation for that function; thus,
there is no compensation to account for
in calculating ‘‘points and fees’’ for a
particular transaction.
The Board solicits comment on the
proposal not to include in the definition
of ‘‘loan originator’’ a ‘‘person who
represents to the public, through
advertising or other means of
communicating or providing
information (including the use of
business cards, stationery, brochures,
signs, rate lists, or other promotional
items), that such person can or will
provide’’ the services of a loan
originator.
Administrative tasks. The Board also
believes that the definition of ‘‘loan
originator’’ in § 226.32(a)(1) is consistent
with the Dodd-Frank Act’s definition of
‘‘mortgage originator’’ in that both
exclude persons that perform solely
administrative or clerical tasks.
Specifically, the statute excludes any
person who does not perform the tasks
in the paragraph above and ‘‘who
performs purely administrative or
clerical tasks on behalf of a person who
[performs those tasks].’’ TILA Section
103(cc)(2)(B); 15 U.S.C. 1602(cc)(2)(B).
Similarly, Regulation Z’s current
definition of ‘‘loan originator’’ excludes
‘‘managers, administrative staff, and
similar individuals who are employed
by a creditor or loan originator but do
not arrange, negotiate, or otherwise
obtain an extension of credit for a
consumer, and whose compensation is
not based on whether any particular
loan is originated.’’ Comment 36(a)(1)–4.
Seller financing. In addition, the
existing definition of ‘‘loan originator’’
in § 226.36(a)(1) is consistent with the
statutory definition of ‘‘mortgage
originator’’ in that both exclude persons
and entities that provide seller financing

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for properties that they own. See TILA
Section 103(cc)(2)(E); 15 U.S.C.
1602(cc)(2)(E). Under the definition of
‘‘loan originator’’ in § 226.36(a)(1), these
persons would be ‘‘creditors’’—but they
are not ‘‘creditors’’ that use table
funding. As noted below, creditors that
use table funding are ‘‘loan originators’’
under § 226.36. However, all other
‘‘creditors’’ are not ‘‘loan originators.’’
See 75 FR 58509, 58510 (Sept. 24, 2010).
Creditors in table-funded
transactions. Both the existing
definition of ‘‘loan originator’’ in
§ 226.36(a)(1) and the statutory
definition of ‘‘mortgage originator’’
exclude the creditor, except for the
creditor in a table-funded transaction.
See TILA Section 103(cc)(2)(F); 15
U.S.C. 1602(cc)(2)(F); see also comment
36(a)–1.i. Both also include employees
of a creditor, individual brokers and
mortgage brokerage firms, including
entities that close loans in their own
names that are table funded by a third
party.
Secondary market transactions.
Finally, neither the definition of ‘‘loan
originator’’ in § 226.36(a)(1) nor the
statutory definition of ‘‘mortgage
originator’’ includes entities that earn
compensation on the sale of loans by
creditors to secondary market
purchasers—transactions to which
consumers are not a direct party. See
generally TILA Section 103(cc)(2); 15
U.S.C. 1602(cc)(2).
Comments 32(b)(1)(ii)–1, –2, and –3.
Proposed comments 32(b)(1)(ii)–1, –2,
and –3 provide guidance on the types of
loan originator compensation 16
included in ‘‘points and fees.’’ Existing
comment 32(b)(1)(ii)–1 would be
revised to clarify that compensation
paid by either a consumer or a creditor
to a loan originator, as defined in
§ 226.32(a)(1), is included in ‘‘points and
fees.’’ No other substantive changes are
intended.
New comment 32(b)(1)(ii)–2.i would
clarify that, in determining ‘‘points and
fees,’’ loan originator compensation
includes the dollar value of
compensation paid to a loan originator
for a covered transaction, such as a
bonus, commission, yield spread
premium, award of merchandise,
services, trips, or similar prizes, or
hourly pay for the actual number of
hours worked on a particular
transaction. The proposed comment
would further clarify that compensation
paid to a loan originator for a covered
transaction must be included in the
16 Loan originator compensation would, of
course, need to be consistent with the Interagency
Guidance on Sound Incentive Compensation
Policies. 75 FR 36395, June 25, 2010.

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‘‘points and fees’’ calculation for that
transaction whenever paid, whether at
or before closing or anytime after
closing, as long as that compensation
amount can be determined at the time
of closing. Thus, loan originator
compensation for a covered transaction
includes compensation that will be paid
as part of a periodic bonus, commission,
or gift if a portion of the dollar value of
the bonus, commission, or gift can be
attributed to that transaction.
Proposed comment 32(b)(1)(ii)–2.i
then provides three examples of
compensation paid to a loan originator
that must be included in the points and
fees calculation. The first example
assumes that, according to a creditor’s
compensation policies, the creditor
awards its loan officers a bonus every
year based on the number of loan
applications taken by the loan officer
that result in consummated transactions
during that year, and that each
consummated transaction increases the
bonus by $100. In this case, the $100
bonus must be counted in the amount
of loan originator compensation that the
creditor includes in ‘‘points and fees.’’
The second example assumes that,
according to a creditor’s compensation
policies, the creditor awards its loan
officers a bonus every year based on the
dollar value of consummated
transactions originated by the loan
officer during that year. Also assumed is
that, for each transaction of up to
$100,000, the creditor awards its loan
officers a bonus of $100; for each
transaction of more than $100,000 up to
$250,000, the creditor awards its loan
officers $200; and for each transaction of
more than $250,000, the creditor awards
its loan officers $300. In this case, for a
mortgage transaction of $300,000, the
$300 bonus is loan originator
compensation that must be included in
‘‘points and fees.’’
The third example assumes that,
according to a creditor’s compensation
policies, the creditor awards its loan
officers a bonus every year based on the
number of consummated transactions
originated by the loan officer during that
year. Also assumed is that for the first
10 transactions originated by the loan
officer in a given year, no bonus is
awarded; for the next 10 transactions
originated by the loan officer up to 20,
a bonus of $100 per transaction is
awarded; and for each transaction
originated after the first 20, a bonus of
$200 per transaction is awarded. In this
case, for the first 10 transactions
originated by a loan officer during a
given year, no amount of loan originator
compensation need be included in
‘‘points and fees.’’ For any mortgage
transaction made after the first 10, up to

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the 20th transaction, $100 must be
included in ‘‘points and fees.’’ For any
mortgage transaction made after the first
20, $200 must be included in ‘‘points
and fees.’’
Proposed comment 32(b)(1)(ii)–2.ii
clarifies that, in determining ‘‘points and
fees,’’ loan originator compensation
excludes compensation that cannot be
attributed to a transaction at the time of
origination, including, for example:
• Compensation based on the
performance of the loan originator’s
loans.
• Compensation based on the overall
quality of a loan originator’s loan files.
• The base salary of a loan originator
who is also the employee of the creditor,
not accounting for any bonuses,
commissions, pay raises, or other
financial awards based solely on a
particular transaction or the number or
amount of covered transactions
originated by the loan originator.
Proposed comment 32(b)(1)(ii)–3
explains that loan originator
compensation includes amounts the
loan originator retains and is not
dependent on the label or name of any
fee imposed in connection with the
transaction. For example, if a loan
originator imposes a ‘‘processing fee’’
and retains the fee, the fee is loan
originator compensation under
paragraph 32(b)(1)(ii) whether the
originator expends the fee to process the
consumer’s application or uses it for
other expenses, such as overhead. The
proposed comment is consistent with
comment 36(d)(1)–1.ii for loan
originator compensation.
The Board requests comment on the
proposal regarding the types of loan
originator compensation that must be
included in points and fees, including
the appropriateness of specific examples
given in the commentary.
32(b)(1)(iii) Real Estate-Related Fees
Consistent with the statute, the Board
proposes no changes to existing
§ 226.32(b)(1)(iii), which includes in
points and fees ‘‘all items listed in
§ 226.4(c)(7) (other than amounts held
for future payment of taxes) unless the
charge is reasonable, the creditor
receives no direct or indirect
compensation in connection with the
charge, and the charge is not paid to an
affiliate of the creditor.’’ During
outreach, creditor representatives raised
concerns about the inclusion in points
and fees of real estate-related fees paid
to an affiliate of the creditor, such as an
affiliated title company. These fees have
historically been included in points and
fees for high-cost mortgages under both
TILA and Regulation Z, but the points
and fees threshold for qualified

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mortgages is much lower than for the
high-cost mortgage threshold. Thus,
creditors that use affiliated settlement
service providers such as title
companies are concerned that they will
have difficulty making loans that meet
the qualified mortgage points and fees
threshold.
The Board is not proposing an
exemption for fees paid to creditoraffiliated settlement services providers.
The Board notes that Congress appears
to have rejected excluding from points
and fees real estate-related fees where a
creditor would receive indirect
compensation as a result of obtaining
distributions of profits from an affiliated
entity based on the creditor’s ownership
interest in compliance with RESPA.17
The Board requests comment on the
proposal not to exclude from the points
and fees calculation for qualified
mortgages fees paid to creditor-affiliated
settlement services providers. The
Board invites commenters favoring this
exclusion to explain why excluding
these fees from the points and fees
calculation would be consistent with
the purposes of the statute.
Payable at or before closing. The
Dodd-Frank Act removed the phrase
‘‘payable at or before closing’’ from the
high-cost mortgage points and fees test
in TILA Section 103(aa)(1)(B). See TILA
Section 103(aa)(1)(A)(ii). The phrase
‘‘payable at or before closing’’ is also not
in TILA’s provisions on the points and
fees cap for qualified mortgages. See
TILA Section 129C(b)(2)(A)(vii),
(b)(2)(C). Thus, with a few exceptions,
any item listed in the ‘‘points and fees’’
definition under § 226.32(b)(1) must be
counted toward the limits on points and
fees for both high-cost mortgages and
qualified mortgages, even if it is payable
after loan closing. The exceptions are
mortgage insurance premiums and
charges for credit insurance and debt
17 See Mortgage Reform and Anti-Predatory
Lending Act, H. Rep. 111–94, p. 121 (May 4, 2009).
An earlier version of the Dodd-Frank Act would
have amended the statutory provision implemented
by § 226.32(b)(1)(iii) to read as follows (added
language italicized):
* * * [P]oints and fees shall include—
* * *
(C) each of the charges listed in section 106(e)
(except an escrow for future payment of taxes),
unless—
(i) the charge is reasonable;
(ii) the creditor receives no direct or indirect
compensation, except where applied to the charges
set forth in section 106(e)(1) where a creditor may
receive indirect compensation solely as a result of
obtaining distributions of profits from an affiliated
entity based on its ownership interest in compliance
with section 8(c)(4) of the Real Estate Settlement
Procedures Act of 1974; and
(iii) the charge is paid to a third party unaffiliated
with the creditor.
See id.

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cancellation and suspension coverage.
The statute expressly states that these
premiums and charges are included in
points and fees only if payable at or
before closing. See TILA Section
103(aa)(1)(C) (for mortgage insurance)
and TILA Section 103(aa)(4)(D) (for
credit insurance and debt cancellation
and suspension coverage). The statute
does not so limit § 226.4(c)(7) charges,
possibly because these charges could
reasonably be viewed as charges that by
definition are only payable at or before
closing.18
Nonetheless, regarding the mortgage
loan transaction costs that are deemed
points and fees, the Board requests
comment on whether any other types of
fees should be included in points and
fees only if they are ‘‘payable at or before
closing.’’ The Board is concerned that
some fees that occur after closing, such
as fees to modify a loan, might be
deemed to be points and fees. If so,
calculating the points and fees to
determine whether a transaction is a
qualified mortgage may be difficult
because the amount of future fees (e.g.,
loan modification fees) cannot be
known prior to closing. Creditors might
be exposed to excessive litigation risk if
consumers were able at any point
during the life of a mortgage to argue
that the points and fees for the loan
exceed the qualified mortgage limits due
to fees imposed after loan closing.
Creditors therefore might be
discouraged from making qualified
mortgages, which would thwart
Congress’s goal of increasing incentives
for creditors to make more stable,
affordable loans.
32(b)(1)(iv) Credit Insurance and Debt
Cancellation or Suspension Coverage
The Board proposes to revise
§ 226.32(b)(1)(iv) to reflect statutory
changes under the Dodd-Frank Act. See
TILA Section 103(aa)(4)(D). Specifically,
proposed § 226.32(b)(1)(iv) includes in
points and fees ‘‘[p]remiums or other
charges payable at or before closing of
the mortgage loan for any credit life,
credit disability, credit unemployment,
or credit property insurance, or any
other life, accident, health, or loss-of18 Section 226.4(c)(7) implements TILA Section
106(e), which states: ‘‘The following items, when
charged in connection with any extension of credit
secured by an interest in real property, shall not be
included in the computation of the finance charge
with respect to that transaction: (1) Fees or
premiums for title examination, title insurance, or
similar purposes. (2) Fees for preparation of loanrelated documents. (3) Escrows for future payments
of taxes and insurance. (4) Fees for notarizing deeds
and other documents. (5) Appraisal fees, including
fees related to any pest infestation or flood hazard
inspections conducted prior to closing. (6) Credit
reports’’ (emphasis added). 15 U.S.C. 1605(e).

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
income insurance, or any payments
directly or indirectly for any debt
cancellation or suspension agreement or
contract.’’ Except for non-substantive
changes in the ordering of the items
listed, this provision mirrors the
statutory language.
TILA’s new points and fees provision
regarding charges for credit insurance
and debt cancellation and suspension
coverage adds certain types of credit
insurance-related products to the
existing list of credit insurance products
for which payments at or before closing
must be considered points and fees in
existing § 226.32(b)(1)(iv). Accordingly,
proposed revisions to § 226.32(b)(1)(iv)
add to the list of products the following
new items: Credit disability, credit
unemployment, or credit property
insurance and debt suspension
coverage. (Other life, accident, health, or
loss-of-income insurance, or any
payments directly or indirectly for any
debt cancellation or suspension
agreement or contract are included in
the existing provision.) In a separate
provision, however, the Dodd-Frank Act
bans single-premium credit insurance
and debt protection products of all the
types listed above, except for credit
unemployment insurance meeting
certain conditions. See TILA Section
129C(d); 15 U.S.C. 1639c(d). The Board
notes that the practical result of these
combined amendments is that only
single-premium credit unemployment
insurance meeting certain conditions is
permitted; therefore only singlepremium credit unemployment
insurance will be included in points
and fees.19
The proposal revises current comment
32(b)(1)(iv)–1 to clarify that upfront
charges for debt cancellation or
suspension agreements or contracts are
expressly included in points and fees.
Another proposed revision clarifies that
upfront credit insurance premiums and
debt cancellation or suspension charges
must be included in ‘‘points and fees’’
regardless of whether the insurance or
coverage is optional or voluntary. The
proposal adds new comment
32(b)(1)(iv)–2 to clarify that ‘‘credit
property insurance’’ includes insurance
against loss of or damage to personal
property, such as a houseboat or
manufactured home. The comment
states that ‘‘credit property insurance’’ as
used in § 226.32(b)(1)(iv) covers the
creditor’s security interest in the
property. The comment explains that
‘‘credit property insurance’’ does not
19 Public Law 111–203, 124 Stat. 1376, Title XIV,
§ 1414. The Board is not at this time proposing to
implement the restrictions on single-premium
credit insurance under the Dodd-Frank Act.

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include homeowners insurance, which,
unlike ‘‘credit property insurance,’’
typically covers not only the dwelling
but its contents, and designates the
consumer, not the creditor, as the
beneficiary.
The Board requests comment on the
proposal to implement the statutory
provision that includes upfront
premiums and charges for credit
insurance and debt cancellation and
suspension coverage in the definition of
‘‘points and fees.’’
32(b)(1)(v) Prepayment Penalties That
May be Charged on the Loan
Proposed § 226.32(b)(1)(v) includes in
points and fees ‘‘the maximum
prepayment penalty, as defined in
§ 226.43(b)(10), that may be charged or
collected under the terms of the
mortgage loan.’’ This provision
implements TILA Section 103(aa)(4)(E)
and incorporates the statutory language,
with the exception of minor nonsubstantive changes, such as that the
proposed regulatory provision crossreferences proposed § 226.43(b)(10) for
the definition of ‘‘prepayment penalty.’’
See section-by-section analysis of
§ 226.43(b)(10), below.
32(b)(1)(vi) Total Prepayment Penalties
Incurred in a Refinance
Proposed § 226.32(b)(1)(vi) includes
in points and fees ‘‘the total prepayment
penalty, as defined in § 226.43(b)(10),
incurred by the consumer if the
mortgage loan is refinanced by the
current holder of the existing mortgage
loan, a servicer acting on behalf of the
current holder, or an affiliate of either.’’
This provision implements TILA
Section 103(aa)(4)(F), which includes in
points and fees prepayment penalties
incurred by a consumer ‘‘if the mortgage
loan refinances a previous loan made or
currently held by the creditor
refinancing the loan or an affiliate of the
creditor.’’ See 15 U.S.C. 1602(aa)(4)(F).
The Board believes that this statutory
provision is intended in part to curtail
the practice of ‘‘loan flipping,’’ which
involves a creditor refinancing an
existing loan for financial gain due to
prepayment penalties and other fees
that a consumer must pay to refinance
the loan—regardless of whether the
refinance is beneficial to the consumer.
The Board uses the phrases ‘‘current
holder of the existing mortgage loan’’
and ‘‘servicer acting on behalf of the
current holder’’ to describe the parties
that refinance a loan subject to this
provision because, as a practical matter,
these are the entities that would
refinance the loan and directly or
indirectly gain from associated
prepayment penalties. The Board also

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uses the phrase ‘‘an affiliate of the
current holder’’ to describe a third party
that refinances a loan subject to this
provision to be consistent with the
statute, which, as noted, applies to
prepayment penalties incurred in
connection with refinances by ‘‘the
creditor * * * or an affiliate of the
creditor.’’
The proposed regulatory provision
also cross-references proposed
§ 226.43(b)(10) for the definition of
‘‘prepayment penalty.’’ See section-bysection analysis of § 226.43(b)(10),
below.
The Board requests comment on the
proposal to incorporate into the
definition of ‘‘points and fees’’ the
prepayment penalty provisions of TILA
Section 103(aa)(4)(E) and (F) and solicits
comment in particular on whether
additional guidance is needed to
facilitate compliance with these
provisions.
32(b)(2) Exclusion From ‘‘Points and
Fees’’ of Compensation Paid to Certain
Persons
The Board proposes new
§ 226.32(b)(2) to reflect statutory
amendments under the Dodd-Frank Act.
Current § 226.32(b)(2), defining
‘‘affiliate,’’ is proposed to be renumbered as § 226.32(b)(3). Proposed
§ 226.32(b)(2) is intended to exempt
from ‘‘points and fees’’ compensation
paid to certain persons expressly
excluded from the meaning of ‘‘mortgage
originator’’ under the Dodd-Frank Act.
Employees of retailers of
manufactured homes. Specifically,
proposed § 226.32(b)(2)(i) excludes from
‘‘points and fees’’ compensation paid to
‘‘an employee of a retailer of
manufactured homes who does not take
a residential mortgage loan application,
offer or negotiate terms of a residential
mortgage loan, or advise a consumer on
loan terms (including rates, fees, and
other costs) but who, for compensation
or other monetary gain, or in
expectation of compensation or other
monetary gain, assists a consumer in
obtaining or applying to obtain a
residential mortgage loan.’’ This
proposed exemption is necessary to
implement the revised definition of
‘‘points and fees’’ under TILA Section
103(aa)(4)(B) (quoted above), because
the statutory definition of ‘‘mortgage
originator’’ excludes ‘‘an employee of a
retailer of manufactured homes’’ who,
for compensation or other monetary
gain, or in expectation of compensation
or other monetary gain, prepares
residential mortgage loan packages or
collects information on behalf of a

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consumer with regard to a residential
mortgage loan.20
Real estate brokers. Proposed
§ 226.32(b)(2)(ii) excludes from ‘‘points
and fees’’ compensation paid to ‘‘a
person that only performs real estate
brokerage activities and is licensed or
registered in accordance with applicable
state law, unless such person is
compensated by a creditor or loan
originator, as defined in § 226.36(a)(1),
or by any agent of the creditor or loan
originator.’’ This proposed exemption is
necessary to implement the revised
definition of ‘‘points and fees’’ under
TILA Section 103(aa)(4)(B), because the
statutory definition of ‘‘mortgage
originator’’ contains a nearly identical
exclusion.21
Proposed § 226.32(b)(2)(ii) uses the
term ‘‘person’’ rather than the phrase
‘‘person or entity’’ used in the statute
because ‘‘person’’ is defined in
Regulation Z to mean ‘‘a natural person
or an organization, including a
corporation, partnership,
proprietorship, association, cooperative,
estate, trust, or government unit.’’
Section 226.2(a)(22). The proposed
regulation uses the term ‘‘loan
originator’’ as defined in § 226.36(a)(1)
rather than the terms ‘‘mortgage broker,
or other mortgage originator’’ because
the term ‘‘loan originator’’ under
§ 226.36(a)(1) includes a mortgage
broker and is consistent with the
statutory definition of ‘‘mortgage
originator’’ in respects relevant to this
provision. See section-by-section

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20 Specifically,

the statute excludes from the
definition of ‘‘mortgage originator’’ ‘‘any person who
is * * * (ii) an employee of a retailer of
manufactured homes who is not described in clause
(i) [takes a residential mortgage loan application] or
(iii) [offers or negotiates terms of a residential
mortgage loan] of subparagraph (A) and who does
not advise a consumer on loan terms (including
rates, fees, and other costs).’’ TILA Section
103(cc)(2)(A)(i), (cc)(2)(A)(iii) and (cc)(2)(A)(C); 15
U.S.C. 1602(cc)(2)(A) and (C). Thus, an employee of
a retailer of manufactured homes is not considered
a ‘‘mortgage originator’’ even if that person ‘‘for
direct or indirect compensation or gain, or in the
expectation of direct or indirect compensation or
gain * * * assists a consumer in obtaining or
applying for a residential mortgage loan.’’ TILA
Section 103(cc)(2)(A)(ii). The statute further defines
‘‘assists a consumer in obtaining or applying for a
residential mortgage loan’’ to mean ‘‘among other
things, advising on residential mortgage loan terms
(including rates, fees, and other costs), preparing
residential mortgage loan packages, or collecting
information on behalf of the consumer with regard
to a residential mortgage loan.’’ TILA Section
103(cc)(4).
21 The statutory definition of ‘‘mortgage
originator’’ excludes ‘‘a person or entity that only
performs real estate brokerage activities and is
licensed or registered in accordance with applicable
State law, unless such person or entity is
compensated by a lender, a mortgage broker, or
other mortgage originator or by any agent of such
lender, mortgage broker, or other mortgage
originator.’’ TILA Section 103(cc)(2)(D).

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analysis of § 226.32(b)(1)(ii) for a
discussion of consistencies between the
meaning of ‘‘loan originator’’ in
§ 226.36(a)(1) and ‘‘mortgage originator’’
in the Dodd-Frank Act.
The term ‘‘loan originator’’ in
§ 226.36(a)(1) applies only to parties
who arrange, negotiate, or obtain an
extension of mortgage credit for a
consumer in return for compensation or
other monetary gain. Thus, a ‘‘loan
originator’’ would not include a person
engaged only in real estate brokerage
activities. See 75 FR 58509, 58510 (Sept.
24, 2010). However, the exemption for
real estate brokers from the meaning of
‘‘mortgage originator’’ is more precise in
the Dodd-Frank Act. First, for the
compensation of a real estate broker to
be exempt, the broker must be licensed
or registered under state law. In
addition, the Dodd-Frank Act does not
exclude real estate brokers from the
definition of ‘‘mortgage originator’’ if
they are compensated by the ‘‘lender,
mortgage broker, or other mortgage
originator’’ or an agent of any of these
parties.
Servicers. Proposed § 226.32(b)(2)(ii)
excludes from ‘‘points and fees’’
compensation paid to ‘‘a servicer or
servicer employees, agents and
contractors, including but not limited to
those who offer or negotiate terms of a
covered transaction for purposes of
renegotiating, modifying, replacing and
subordinating principal of existing
mortgages where borrowers are behind
in their payments, in default or have a
reasonable likelihood of being in default
or falling behind.’’ This proposed
exemption is necessary to implement
the revised definition of ‘‘points and
fees’’ under TILA Section 103(aa)(4)(B),
because the statutory definition of
‘‘mortgage originator’’ excludes this
compensation. TILA Section
103(cc)(2)(G).
The term ‘‘loan originator’’ (as defined
in § 226.36(a)(1)), which is used in
proposed § 226.32(b)(1)(ii) to describe
the persons whose compensation must
be counted in points and fees, does not
apply to a loan servicer when the
servicer modifies an existing loan on
behalf of the current owner of the loan.
See TILA Section 103(cc)(2)(G); 15
U.S.C. 1602(cc)(2)(G). See also comment
36(a)–1.iii. However, a ‘‘loan originator’’
under existing § 226.36(a)(1) includes a
servicer who refinances a mortgage. See
comment 36(a)–1.iii. A ‘‘refinancing’’
under § 226.36(a)(1) is defined as the
satisfaction and replacement of an
existing obligation subject to TILA by a
new obligation by the same consumer.
See § 226.20(a) and accompanying
commentary.

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By contrast, the exclusion for
servicers under the statutory definition
of ‘‘mortgage originator’’ appears to be
broader than the definition of ‘‘loan
originator’’ under existing § 226.36(a)(1).
First, the exclusion expressly applies to
‘‘a servicer or servicer employees, agents
and contractors.’’ Second, the exclusion
applies not only when these persons
offer or negotiate terms of residential
mortgage loan for purposes of modifying
a loan, but also for purposes of
‘‘replacing and subordinating principal
of existing mortgages where borrowers
are behind in their payments, in default
or have a reasonable likelihood of being
in default or falling behind.’’ TILA
Section 103(cc)(2)(G).
The Board requests comment on the
proposed exemptions from the
definition of ‘‘points and fees’’ for
compensation paid to certain persons
not considered ‘‘mortgage originators’’
under the Dodd-Frank Act.
32(b)(3) Definition of ‘‘Affiliate’’
Current § 226.32(b)(2) defining the
term ‘‘affiliate’’ is re-numbered as
§ 226.32(b)(3) to accommodate the new
proposed § 226.32(b)(2) regarding
compensation for the purposes of points
and fees. No substantive change is
intended.
Section 226.34 Prohibited Acts or
Practices in Connection With Credit
Subject to § 226.32
34(a) Prohibited Acts or Practices for
Loans Subject to § 226.32
34(a)(4) Repayment Ability
Currently, Regulation Z prohibits
creditors making high-cost loans from
extending credit without regard to a
consumer’s ability to repay. See
§ 226.34(a)(4). As discussed in greater
detail in the section-by-section analysis
to § 226.43 below, the Dodd-Frank Act
now requires creditors to consider a
consumer’s ability to repay prior to
making any residential mortgage loan,
as defined in TILA Section 103(cc)(5).
Proposed § 226.43 would implement
this requirement and render
unnecessary § 226.34(a)(4). The Board
therefore proposes to remove
§ 226.34(a)(4) and its accompanying
commentary. For ease of reading, the
Board is not reprinting § 226.34(a)(4)
and its accompanying commentary in
this proposed rule.
Section 226.35 Prohibited Acts or
Practices in Connection With HigherPriced Mortgage Loans
Currently, § 226.35 prohibits certain
acts or practices in connection with
higher-priced mortgage loans. Section
226.35(a) provides the coverage test for

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
higher-priced mortgage loans. Section
226.35(b)(1) contains the ability to repay
requirement for higher-priced mortgage
loans. Section 226.35(b)(2) sets forth
restrictions on prepayment penalties for
higher-priced mortgage loans. Section
226.35(b)(3) contains escrow rules for
higher-priced mortgage loans. Section
226.35(b)(4) prohibits evasion of the
higher-priced mortgage loan protections
by structuring a transaction as open-end
credit.
The proposed changes to Regulation Z
in the 2011 Escrow Proposal and this
proposal would render all of current
§ 226.35 unnecessary. The 2011 Escrow
Proposal would adopt in proposed
§ 226.45(a) the coverage test for higherpriced mortgage loans in 226.35(a);
would revise and adopt in § 226.45(b)
the escrow requirements in
§ 226.35(b)(3); and would adopt in
proposed § 226.45(d) the prohibition of
evasion of the higher-priced mortgage
loan protections by structuring a
transaction as open-end credit, now in
§ 226.35(b)(4). This proposal, as
discussed below, would supersede in
§ 226.43(a)–(f) the ability to repay
requirement in § 226.35(b)(1), and
would supersede in § 226.43(g) the
prepayment penalty rules in
§ 226.34(b)(2). Accordingly, the Board
proposes to remove and reserve § 226.35
and its accompanying commentary. For
ease of reading, the Board is not
reprinting § 226.35 and its
accompanying commentary in this
proposed rule.
Section 226.43 Minimum Standards
for Transactions Secured by a Dwelling
TILA Sections 129C(a), (b), and (c)
establish, for residential mortgage loans:
(1) A requirement to consider a
consumer’s repayment ability; (2)
alternative requirements for ‘‘qualified
mortgages’’; and (3) limits on
prepayment penalties, respectively. The
Board proposes to implement TILA
Section 129C(a) through (c) in new
§ 226.43, as discussed in detail below.
43(a) Scope

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Background
Section 1411 of the Dodd-Frank Act
adds a new TILA Section 129C that
requires creditors to determine a
consumer’s ability to repay a
‘‘residential mortgage loan.’’ Section
1401 of the Act adds a new TILA
Section 103(cc) that defines ‘‘residential
mortgage loan’’ to mean, with some
exceptions, any consumer credit
transaction secured by a mortgage, deed
of trust, or other equivalent consensual
security interest on ‘‘a dwelling or on
residential real property that includes a

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dwelling.’’ TILA Section 103(v) defines
‘‘dwelling’’ to mean a residential
structure or mobile home which
contains one- to four-family housing
units, or individual units of
condominiums or cooperatives. Thus, a
‘‘residential mortgage loan’’ is a
dwelling-secured consumer credit
transaction, which can include: (1) A
home purchase, refinancing, or home
equity loan; (2) a loan secured by a first
lien or a subordinate lien on a dwelling;
(3) a loan secured by a dwelling that is
a principal residence, second home, or
vacation home (other than a timeshare
residence); or (4) a loan secured by a
one-to-four unit residence,
condominium, cooperative, mobile
home, or manufactured home.
However, the term ‘‘residential
mortgage loan’’ does not include an
open-end credit plan or an extension of
credit relating to a timeshare plan, for
purposes of the Act’s repayment ability
and prepayment penalty provisions
under TILA Section 129C, among other
provisions. See TILA Section 103(cc)(5);
see also TILA Section 129C(i)
(providing that timeshare transactions
are not subject to TILA Section 129C).
Further, the repayment ability
provisions of TILA Section 129C(a) do
not apply to reverse mortgages or
temporary or ‘‘bridge’’ loans with a loan
term of 12 months or less, including a
loan to purchase a new dwelling where
the consumer plans to sell another
dwelling within 12 months. See TILA
Section 129C(a)(8). The repayment
ability provisions of TILA Section
129C(a) also do not apply to consumer
credit transactions secured by vacant
land and not by a dwelling.
The scope of the 2008 HOEPA Final
Rule differs from the scope of TILA
Section 129C in three respects. First, as
discussed above, the 2008 HOEPA Final
Rule applies only to loans designated
‘‘higher-priced mortgage loans’’ or ‘‘highcost mortgages’’ based on their APR or
points and fees. Section 226.34(a)(4),
226.35(b)(1). By contrast, TILA Sections
129C(a) through (c) apply regardless of
the residential mortgage loan’s cost.
Second, the 2008 HOEPA Final Rule is
limited to loans secured by the
consumer’s principal dwelling. Section
226.32(a)(1), 226.35(a)(1). Finally, the
2008 HOEPA Final Rule does not
exempt transactions secured by a
consumer’s interest in a timeshare plan.
The Board’s Proposal
Proposed § 226.43(a) describes the
scope of the requirement to determine a
consumer’s ability to repay a residential
mortgage loan. Proposed § 226.43(a)(1)
and (2) provide that the repayment
ability provisions under proposed

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§ 226.43 apply to consumer credit
transactions secured by a dwelling, as
defined in § 226.2(a)(19), except for (1)
a home equity line of credit (HELOC)
subject to § 226.5b, and (2) a mortgage
transaction secured by a consumer’s
interest in a timeshare plan, as defined
in 11 U.S.C. 101(53(D)). The exemptions
under proposed § 226.43(a)(1) and (2)
implement the exclusions from the
definition of ‘‘residential mortgage loan’’
under TILA Section 103(cc)(5).
Proposed § 226.43(a)(3) provides that
the following transactions are exempt
from coverage by proposed § 226.43(c)
through (f): (1) A reverse mortgage
subject to § 226.33; and (2) a temporary
or ‘‘bridge loan’’ with a term of 12
months or less, such as a loan to finance
the purchase of a new dwelling where
the consumer plans to sell a current
dwelling within 12 months or a loan to
finance the initial construction of a
dwelling.
As discussed in detail below,
proposed § 226.43(c) and (d) implement
repayment ability provisions and
special rules for refinancings of ‘‘nonstandard’’ mortgages into ‘‘standard’’
mortgages under TILA Section 129C(a).
TILA Section 129C(a)(8) specifically
provides that reverse mortgages and
temporary or ‘‘bridge’’ loans with a term
of 12 months or less are not subject to
TILA Section 129C(a). The Board also
proposes to apply this exception for
purposes of alternative requirements for
‘‘qualified mortgages’’ and balloonpayment qualified mortgages pursuant
to TILA Section 129C(b). Although TILA
Section 129C(b) does not specifically
exempt reverse mortgages or temporary
or ‘‘bridge’’ loans with a term of 12
months or less from coverage by the
alternative requirements for qualified
mortgages, the Board believes the
alternative requirements for qualified
mortgages are relevant only if a
transaction is subject to the repayment
ability requirements. Accordingly,
proposed § 226.43(a)(3) provides that
reverse mortgages and temporary or
‘‘bridge’’ loans with a term of 12 months
or less are not subject to the alternative
requirements for qualified mortgages
and balloon-payment qualified
mortgages, under proposed § 226.43(e)
or (f). Such transactions nevertheless are
subject to the prepayment penalty
restrictions under proposed § 226.43(g),
discussed in detail below.
‘‘Residential mortgage loan.’’ Proposed
§ 226.43(a) clarifies that requirements
under proposed § 226.43 apply to any
consumer credit transaction secured by
a dwelling, as defined in § 226.2(a)(19),
with certain exceptions discussed
above. Proposed § 226.43(a) does not
use the term ‘‘residential mortgage loan,’’

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for two reasons. First, the usefulness of
the defined term ‘‘residential mortgage
loan’’ is limited, because the coverage of
provisions applicable to ‘‘residential
mortgage loans’’ varies under different
TILA provisions. For example, TILA
Section 103(cc) excludes transactions
secured by a consumer’s interest in a
timeshare transaction from the
definition of ‘‘residential mortgage loan’’
for purposes of some, but not all, TILA
provisions, and the Dodd-Frank Act
provides or authorizes other specific
exemptions from coverage by
requirements for ‘‘residential mortgage
loans.’’ 22 Specifying which transactions
are subject to and exempt from coverage
by proposed § 226.43 in a scope
provision thus would facilitate
compliance better than using the
defined term ‘‘residential mortgage
loan.’’
Second, the term ‘‘residential
mortgage loan’’ could be confused with
the similar term ‘‘residential mortgage
transaction,’’ which means a transaction
in which a mortgage or equivalent
consensual security interest is created or
retained against the consumer’s
dwelling to finance the acquisition or
initial construction of the dwelling. See
15 U.S.C. 1602(w). The term ‘‘residential
mortgage transaction,’’ used in
connection with rescission provisions
under § 226.15 and 226.23, does not
encompass such transactions as
refinance transactions and home equity
loans. Using the similar term
‘‘residential mortgage loan,’’ which
encompasses refinance transactions and
home equity loans, could confuse
creditors subject to proposed § 226.43.
Owner occupancy; consumer credit
transaction. If a transaction is a
dwelling-secured extension of consumer
credit, proposed § 226.43 applies
regardless of whether or not the
consumer occupies the dwelling (unless
an exception from coverage applies
under proposed § 226.43(a)(1)-(3)).
However, TILA and Regulation Z do not
apply to credit extensions that are
primarily for business purposes. 15
U.S.C. 1603(l); § 226.3(a)(1). Current
guidance in comment 3(a)-2 clarifies the
factors to be considered to determine
whether a credit extension is business
or consumer credit. Further, comment
3(a)-3 states that credit extended to
acquire, improve, or maintain rental
22 See, e.g., TILA Section 129C(a)(8) (providing an
exemption from repayment ability requirements for
reverse mortgages and temporary or ‘‘bridge’’ loans
with a term of 12 months or less); TILA Section
129D(d), (e) (authorizing an exemption from escrow
requirements for certain creditors operating
predominantly in rural or underserved areas and
providing an exemption from escrow requirements
for transactions secured by shares in a cooperative).

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property that is not owner-occupied
(that is, in which the owner does not
expect to live for more than fourteen
days during the coming year) is deemed
to be for business purposes. Proposed
comment 43(a)-1 clarifies that § 226.43
does not apply to an extension of credit
primarily for a business, commercial, or
agricultural purpose and crossreferences the existing guidance on
determining the primary purpose of an
extension of credit in commentary on
§ 226.3.
Dwelling. TILA Section 129(cc)
defines ‘‘residential mortgage loan’’ to
mean a consumer credit transaction
secured by a mortgage or equivalent
consensual security interest ‘‘on a
dwelling or on residential real property
that includes a dwelling.’’ Under TILA
and Regulation Z, the term ‘‘dwelling’’
means a residential structure with one
to four units, whether or not the
structure is attached to real property,
and includes a condominium or
cooperative unit, mobile home, and
trailer, if used as a residence. See 15
U.S.C. 1602(v); § 226.2(a)(19). To
facilitate compliance by using
consistent terminology throughout
Regulation Z, the proposal uses the term
‘‘dwelling,’’ as defined in § 226.2(a)(19),
and not the phrase ‘‘residential real
property that includes a dwelling.’’
Proposed comment 43(a)-2 clarifies that,
for purposes of § 226.43, the term
‘‘dwelling’’ includes any real property to
which the residential structure is
attached that also secures the covered
transaction.
Renewable temporary or ‘‘bridge’’
loan. As discussed above, proposed
§ 226.43(a)(3)(ii) provides that a
temporary or ‘‘bridge’’ loan with a term
of 12 months or less, such as a loan to
finance the purchase of a new dwelling
where the consumer plans to sell a
current dwelling within 12 months and
a loan to finance the initial construction
of a dwelling, is excluded from coverage
by § 226.43(c) through (f). Proposed
comment 43(a)-3 clarifies that, where a
temporary or ‘‘bridge loan’’ is renewable,
the loan term does not include any
additional period of time that could
result from a renewal provision.
Proposed comment 43(a)-3 also provides
an example where a construction loan
has an initial loan term of 12 months
but is renewable for another 12-month
loan term. In that example, the loan is
excluded from coverage by § 226.43(c)
through (f), because the initial loan term
is 12 months.
The Board recognizes the risk that
determining coverage by ability-to-repay
requirements for a renewable temporary
or ‘‘bridge’’ loan with an initial loan term
of 12 months or less based only on the

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initial loan term may allow
circumvention of those requirements.
The Board solicits comment on whether
or not renewal loan terms should be
considered under proposed
§ 226.43(a)(3)(ii). In particular, the
Board requests comment on whether the
proposed exclusion should be limited to
certain types of temporary or ‘‘bridge’’
loans, such as loans to finance the
initial construction of a dwelling, or
should not apply for certain types of
temporary or ‘‘bridge’’ loans, such as
balloon-payment loans.
Interaction with RESPA. TILA Section
129C applies to dwelling-secured
consumer credit transactions (other than
those specifically excluded from
coverage), even if they are not ‘‘federally
related mortgage loans’’ subject to the
Real Estate Settlement Procedures Act
(RESPA). See 12 U.S.C. 2602(1); 24 CFR
3500.2(b), 3500.5. Consistent with TILA
Section 129C, proposed § 226.43(a)
applies broadly to consumer credit
transactions secured by a dwelling
(other than transactions excepted from
coverage under § 226.43(a)(1)-(3)).
43(b) Definitions
Section § 226.43(b) provides several
definitions for purposes of
implementing the ability-to-repay,
qualified mortgage, and prepayment
penalty provisions under § 226.43(b)
through (g), which implement TILA
Sections 129C(a) through (c), as added
by Sections 1411, 1412 and 1414 of the
Dodd-Frank Act. These proposed
defined terms are discussed in detail
below.
43(b)(1) Covered Transaction
As discussed above in the section-bysection analysis of the scope provisions
under proposed § 226.43(a), the Board
proposes to apply § 226.43 to consumer
credit transactions secured by a
dwelling, other than (1) a HELOC; (2) a
mortgage transaction secured by a
consumer’s interest in a timeshare plan;
and (3) except for purposes of
prepayment penalty requirements under
proposed § 226.43(g), a reverse mortgage
or a temporary or ‘‘bridge’’ loan with a
loan term of 12 months or less.
Accordingly, proposed § 226.43(b)(1)
defines ‘‘covered transaction’’ to mean a
consumer credit transaction that is
secured by a dwelling, other than a
transaction exempt from coverage under
proposed § 226.43(a), for purposes of
proposed § 226.43.
43(b)(2) Fully Amortizing Payment
TILA Section 129C(a)(3) requires, in
part, that the creditor determine the
consumer’s ability to repay a loan ‘‘using
a payment schedule that fully amortizes

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the loan over the term of the loan.’’ TILA
Section 129C(a)(6)(D) provides that for
purposes of making the repayment
ability determination required under
TILA Section 129C(a), the creditor must
calculate the payment on the mortgage
obligation assuming the loan is repaid
in ‘‘monthly amortizing payments for
principal and interest over the entire
term of the loan.’’ The Board proposes
to use the term ‘‘fully amortizing
payment’’ to refer to periodic amortizing
payments for principal and interest over
the entire term of the loan, for
simplicity.
Accordingly, consistent with statutory
language, and with minor modifications
for clarity, proposed § 226.43(b)(2)
would define ‘‘fully amortizing
payment’’ to mean a periodic payment of
principal and interest that will fully
repay the loan amount (as defined in
proposed § 226.43(b)(5)) over the loan
term (as defined in proposed
§ 226.43(b)(6)). This term appears
primarily in proposed § 226.43(c)(5) and
(d)(5), which provides, respectively, that
(1) the creditor determine the
consumer’s ability to repay the covered
transaction using the fully indexed rate
or introductory rate, whichever is
greater, and monthly, fully amortizing
payments that are substantially equal;
and (2) the creditor can refinance the
consumer from a non-standard to
standard mortgage if, among other
things, the calculation of the payments
for the non-standard and standard
mortgage are based on monthly, fully
amortizing payments that are
substantially equal.
43(b)(3) Fully Indexed Rate
TILA Section 129C(a)(6)(D) requires
that for purposes of making the
repayment ability determination
required under TILA Section 129C(a),
the creditor must calculate the monthly
payment on the mortgage obligation
based on several assumptions, including
that the monthly payment be calculated
using the fully indexed rate at the time
of loan closing, without considering the
introductory rate. See TILA Section
129C(a)(6)(D)(iii). TILA Section
129C(a)(7) defines the term ‘‘fully
indexed rate’’ as ‘‘the index rate
prevailing on a residential mortgage
loan at the time the loan is made plus
the margin that will apply after the
expiration of any introductory interest
rates.’’ The term ‘‘fully indexed rate’’
appears in proposed § 226.43(c)(5),
which implements TILA Section
129C(a)(6)(iii) and provides the payment
calculation rules for covered
transactions. The term also appears in
§ 226.43(d)(5), which provides special
rules for creditors that refinance a

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consumer from a non-standard mortgage
to a standard mortgage. These proposed
provisions are discussed below.
The Board proposes § 226.43(b)(3) to
define the term ‘‘fully indexed rate’’ as
‘‘the interest rate calculated using the
index or formula at the time of
consummation and the maximum
margin that can apply at any time
during the loan term.’’ This proposed
definition is consistent with the
statutory language of TILA Sections
129C(a)(6)(D)(iii) and 129C(a)(7), but
revises certain statutory text to provide
clarity.23 First, for consistency with
current Regulation Z and to facilitate
compliance, the Board proposes to
replace the phrases ‘‘at the time of the
loan closing’’ in TILA Section
129C(a)(6)(D)(iii) and ‘‘at the time the
loan is made’’ in TILA Section
129C(a)(7) with the phrase ‘‘at the time
of consummation’’ for purposes of
identifying the fully indexed rate. The
Board interprets these statutory phrases
to have the same meaning as the phrase
‘‘at the time of consummation.’’ See
current § 226.2(a)(7), defining the term
‘‘consummation’’ for purposes of
Regulation Z requirements as ‘‘the time
that a consumer becomes contractually
obligated on a credit transaction.’’
Second, the Board interprets the
reference to the margin that will apply
‘‘after the expiration of any introductory
interest rates’’ as a reference to the
maximum margin that can apply ‘‘at any
time during the loan term,’’ for
simplicity and consistency with TILA
Section 103(a), discussed above.
Referencing the entire loan term as the
relevant period of time during which
the creditor must identify the maximum
margin that can occur under the loan
makes the phrase ‘‘after the expiration of
any introductory interest rates’’
unnecessary.
Third, the Board clarifies that the
creditor should use the ‘‘maximum’’
margin that can apply when
determining the fully indexed rate.
Accordingly, the creditor would be
required to take into account the largest
margin that could apply under the terms
of the legal obligation. The approach of
using the maximum margin that can
apply at any time during the loan term
is consistent with the statutory language
contained in TILA Section 103(aa), as
amended by Section 1431 of the DoddFrank Act, which defines a high-cost
mortgage. This statutory provision
provides that, for purposes of the
definition of a ‘‘high-cost mortgage,’’ for
23 See

current 12 CFR § 226.17(c)(1) and comment
17(c)(1)–10, and 12 CFR § 226.18(s)(7)(vi), which
identify the index in effect at consummation as the
index value to be used in determining the fully
indexed rate.

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a mortgage with an interest rate that
varies solely in accordance with an
index, the annual percentage rate must
be based on ‘‘the interest rate
determined by adding the index rate in
effect on the date of consummation of
the transaction to the maximum margin
permitted at any time during the loan
agreement.’’ Furthermore, although the
Board is not aware of any loan products
used today that possess more than one
margin that may apply over the loan
term, the Board proposes this
clarification to address the possibility
that creditors may create products that
permit different margins to take effect at
different points throughout the loan
term. The Board solicits comment on
this approach.
The proposed definition of ‘‘fully
indexed rate’’ is also generally
consistent with the definition of fullyindexed rate, as used in the MDIA
Interim Final Rule,24 and with the
Federal banking agencies’ use of the
term ‘‘fully indexed rate’’ in the 2006
Nontraditional Mortgage Guidance and
2007 Subprime Mortgage Statement.
Proposed comment 43(b)(3)–1 notes
that in some adjustable-rate
transactions, creditors may set an initial
interest rate that is not determined by
the index or formula used to make later
interest rate adjustments. This comment
would explain that, typically, this initial
rate charged to consumers is lower than
the rate would be if it were calculated
using the index or formula at
consummation (i.e., a ‘‘discounted rate’’);
in some cases, this initial rate may be
higher (i.e., a ‘‘premium rate’’). The
comment would clarify that when
determining the fully indexed rate
where the initial interest rate is not
determined using the index or formula
for subsequent interest rate adjustments,
the creditor must use the interest rate
that would have applied had the
creditor used such index or formula
plus margin at the time of
consummation. This comment would
further clarify that this means, in
determining the fully indexed rate, the
creditor must not take into account any
discounted or premium rate.
Proposed comment 43(b)(3)–1
provides an illustration of this
principle. This comment first assumes
an adjustable-rate transaction where the
initial interest rate is not based on an
index or formula, and is set at 5% for
the first five years. The loan agreement
provides that future interest rate
24 See the 2010 MDIA Interim Final Rule, 75 FR
58470, 58484, Sept. 24, 2010, which defines fully
indexed rate as ‘‘the interest rate calculated using
the index value and margin’’; see also 75 FR 81836,
Dec. 29, 2010 (revising the MDIA Interim Final
Rule.

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules

adjustments will be calculated based on
the London Interbank Offered Rate
(LIBOR) plus a 3% margin. This
comment explains that if the value of
the LIBOR at consummation is 5%, the
interest rate that would have been
applied at consummation had the
creditor based the initial rate on this
index is 8% (5% plus 3% margin), and
therefore, the fully indexed rate is 8%.
To facilitate compliance, this comment
would direct creditors to commentary
that addresses payment calculations
based on the greater of the fully indexed
rate or ‘‘premium rate’’ for purposes of
the repayment ability determination
under § 226.43(c). See § 226.43(c)(5)(i)
and comment 43(c)(5)(i)–2.
This proposed comment differs from
guidance in current comment 17(c)(1)–
10.i, which provides that in cases where
the initial interest rate is not calculated
using the index or formula for later rate
adjustments, the creditor should
disclose a composite annual percentage
rate that reflects both the initial rate and
the fully indexed rate. The Board
believes the different approach taken in
proposed comment 43(b)(3)–1 is
required by the statutory language
which specifies that, for purposes of
determining the consumer’s repayment
ability, the fully indexed rate must be
determined ‘‘without considering the
introductory rate,’’ and is the rate ‘‘that
will apply after the expiration of any
introductory interest rates.’’ See TILA
Sections 129C(a)(6)(D)(iii) and (7).
Furthermore, the Board believes this
approach is appropriate in the present
case where the purpose of the statute is
to determine whether the consumer can
repay the loan according to its terms,
including any potential increases in
required payments. TILA Section
129B(a)(2); 15 U.S.C 1639b(a)(2).
The Board notes that the choice of
which market index to use for later
interest rate adjustments has become
more germane for both creditors and
consumers due to recent market
developments. For example, in recent
years consumers of adjustable-rate
mortgages that are tied to a LIBOR index
have paid more than they would have
had their loans been tied to the U.S.
Treasury index.25 This divergence in
index values is recent, and has not
occurred historically. Given the
increasing relevance of market indices,
the Board solicits comment on whether
loan products currently exist that base
the interest rate on a specific index at
consummation, but then base
25 See Mark Schweitzer and Guhan Venkatu,
Adjustable-Rate Mortgages and the LIBOR Surprise,
at http://www.clevelandfed.org/research/
commentary/2009/012109.cfm.

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subsequent rate adjustments on a
different index, and whether further
guidance addressing how to calculate
the fully indexed rate for such loan
products is needed.
Proposed comment 43(b)(3)–2 further
clarifies if the contract provides for a
delay in the implementation of changes
in an index value or formula, the
creditor need not use that the index or
formula in effect at consummation, and
provides an illustrative example. This
proposed comment is consistent with
current guidance in Regulation Z
regarding the use of the index value at
the time of consummation where the
contract provides for a delay. See
comments 17(c)(1)–10.i and
18(s)(2)(iii)(C)–1, which addresses the
fully indexed rate for purposes of
disclosure requirements.
Proposed comment 43(b)(3)–3
explains that the creditor must
determine the fully indexed rate
without taking into account any
periodic interest rate adjustment cap
that may limit how quickly the fully
indexed rate may be reached at any time
during the loan term under the terms of
the legal obligation. To illustrate,
assume an adjustable-rate mortgage has
an initial fixed rate of 5% for the first
three years of the loan, after which the
rate will adjust annually to a specified
index plus a margin of 3%. The loan
agreement provides for a 2% annual
interest rate adjustment cap, and a
lifetime maximum interest rate of 10%.
The index value in effect at
consummation is 4.5%. The fully
indexed rate is 7.5% (4.5% plus 3%),
regardless of the 2% annual interest rate
adjustment cap that would limit when
the fully indexed rate would take effect
under the terms of the legal obligation.
The Board notes that guidance
contained in proposed comment
43(b)(3)–3 also differs from guidance
contained in current comment 17(c)(1)–
10.iii, which addresses disclosure of the
annual percentage rate on the TILA.
Comment 17(c)(1)–10.iii states that
when disclosing the annual percentage
rate, creditors should give effect to
periodic interest rate adjustment caps
provided under the terms of the legal
obligation (i.e., to take into account any
caps that would prevent the initial rate
at the time of first adjustment from
changing to the fully-indexed rate).
The Board believes the approach in
proposed comment 43(b)(3)–3 is
consistent with, and required by, the
statutory language that states the fully
indexed rate must be determined
without considering any introductory
rate and by using the margin that will
apply after expiration of any
introductory interest rates. See TILA

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Sections 129C(a)(6)(D)(iii) and (7). In
addition, the Board notes the proposed
definition of fully indexed rate, and its
use in the proposed payment
calculation rules, is designed to assess
whether the consumer has the ability to
repay the loan according to its terms.
TILA Section 129B(a)(2); 15 U.S.C.
1639b(a)(2). This purpose differs from
the principal purpose of disclosure
requirements, which is to help ensure
that consumers avoid the uninformed
use of credit. TILA Section 102(a); 15
U.S.C. 1601(a). The Board believes
disregarding the operation of adjustment
caps in determining the payment for the
covered transaction helps to ensure that
the consumer can reasonably repay the
loan once the interest rate adjusts.
Furthermore, the guidance contained in
proposed comment 43(b)(3)–3 is
consistent with the Federal banking
agencies’ use of the term fully indexed
rate in the 2006 Nontraditional
Mortgage Guidance and 2007 Subprime
Mortgage Statement.
Proposed comment 43(b)(3)–4
clarifies that when determining the fully
indexed rate, a creditor may choose, in
its sole discretion, to take into account
the lifetime maximum interest rate
provided under the terms of the legal
obligation. This comment would
explain, however, that where the
creditor chooses to use the lifetime
maximum interest rate, and the loan
agreement provides a range for the
maximum interest rate, the creditor
must use the highest rate in that range
as the maximum interest rate. To
illustrate, assume an adjustable-rate
mortgage has an initial fixed rate of 5%
for the first three years of the loan, after
which the rate will adjust annually to a
specified index plus a margin of 3%.
The loan agreement provides for a 2%
annual interest rate adjustment cap, and
a lifetime maximum interest rate of 7%.
The index value in effect at
consummation is 4.5%; the fully
indexed rate is 7.5% (4.5% plus 3%).
The creditor can choose to use the
lifetime maximum interest rate of 7%,
instead of the fully indexed rate of
7.5%, for purposes of this section.
The Board notes that the statutory
construct of the payment calculation
rules, and the requirement to calculate
payments based on the fully indexed
rate, apply to all loans that are subject
to the ability-to-repay provisions,
including loans that do not base the
interest rate on an index and therefore,
do not have a fully indexed rate.
Specifically, the statute states that ‘‘[f]or
purposes of making any determination
under this subsection, a creditor shall
calculate the monthly payment amount
for principal and interest on any

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
residential mortgage loan by assuming’’
several factors, including the fully
indexed rate, as defined in the statute
(emphasis added). See TILA Section
129C(a)(6)(D). The statutory definition
of ‘‘residential mortgage loan’’ includes
loans with variable-rate features that are
not based on an index or formula, such
as step-rate mortgages. See TILA Section
103(cc); see also proposed § 226.43(a),
addressing the proposal’s scope, and
proposed § 226.43(b)(1), defining
‘‘covered transaction.’’ However, because
step-rate mortgages do not have a fully
indexed rate, it is unclear what interest
rate the creditor must assume when
calculating payment amounts for
purposes of determining the consumer’s
ability to repay the covered transaction.
As discussed above, the Board
interprets the statutory requirement to
use the ‘‘margin that can apply at any
time after the expiration of any
introductory interest rates’’ to mean that
the creditor must use the ‘‘maximum
margin that can apply at any time
during the loan term’’ when determining
the fully indexed rate. Accordingly,
consistent with this approach, Board
proposes to clarify in proposed
comment 43(b)(3)–5 that where the
interest rate offered in the loan is not
based on, and does not vary with, an
index or formula (i.e., there is no fully
indexed rate), the creditor must use the
maximum interest rate that may apply at
any time during the loan term. Proposed
comment 43(b)(3)–5 provides
illustrative examples for a step-rate and
fixed-rate mortgage. This comment, for
example, would assume a step-rate
mortgage with an interest rate fixed at
6.5% for the first two years of the loan,
7% for the next three years, and 7.5%
thereafter for the remainder of loan
term. This comment would explain that,
for purposes of determining the
consumer’s repayment ability, the
creditor must use 7.5%, which is the
maximum rate that may apply during
the loan term. This comment would also
provide an illustrative example for a
fixed-rate mortgage.
The Board believes this approach is
appropriate because the purpose of
TILA Section 129C is to require
creditors to assess whether the
consumer can repay the loan according
to its terms, including any potential
increases in required payments. TILA
Section 129B(a)(2), 15 U.S.C.
1639b(a)(2). Requiring creditors to use
the maximum interest rate helps to
ensure that consumers can repay the
loan, without needing to refinance, for
example. However, for the reasons
discussed more fully below under
proposed § 226.43(c)(5)(i), which
discusses the general rule for payment

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calculations, the Board is equally
concerned that by requiring creditors to
use the maximum interest rate in a steprate mortgage, the monthly payments
used to determine the consumer’s
repayment ability will be overstated and
may inappropriately restrict credit
availability. For these reasons, the Board
is soliciting comment on this approach,
and whether the Board should exercise
its authority under TILA Sections 105(a)
and 129B(e) to provide an exception for
step-rate mortgages. For example,
should the Board require creditors to
use the maximum interest rate that
occurs in the first 5 or 10 years, or some
other appropriate time horizon?
43(b)(4) Higher-Priced Covered
Transaction
Proposed § 226.43(b)(4) defines
‘‘higher-priced covered transaction’’ to
mean a covered transaction with an
annual percentage rate that exceeds the
average prime offer rate for a
comparable transaction as of the date
the interest rate is set by 1.5 or more
percentage points for a first-lien covered
transaction, or by 3.5 or more
percentage points for a subordinate-lien
covered transaction. The proposed
definition of ‘‘higher-priced covered
transaction’’ replicates the statutory
language used in TILA Section
129C(a)(6)(D)(ii)(I) and (II), which grants
the Board the authority to implement
special payment calculation rules for a
balloon loan that ‘‘has an annual
percentage rate that does not exceed the
average prime offer rate for a
comparable transaction’’ by certain rate
spreads. These rules appear in proposed
§ 226.43(c)(5)(ii)(A), and are discussed
below.
The proposed definition of ‘‘higherpriced covered transaction’’ uses the
term ‘‘average prime offer rate.’’ To
facilitate compliance and maintain
consistency, the term ‘‘average prime
offer rate’’ has the same meaning as in
the Board’s proposed § 226.45(a)(2)(ii).
Proposed § 226.45(a)(2)(ii) defines
‘‘average prime offer rate’’ for purposes
of determining the applicability of
escrow requirements to ‘‘higher-priced
mortgage loans’’ (as defined in proposed
§ 226.45(a)(1)), and states that the
‘‘average prime offer rate’’ means ‘‘an
annual percentage rate that is derived
from average interest rate, points, and
other loan pricing terms currently
offered to consumers by a representative
sample of creditors for mortgage
transactions that have low-risk pricing
characteristics. The Board publishes
average prime offer rates for a broad
range of types of transactions in a table
updated at least weekly as well as the
methodology the Board uses to derive

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these rates.’’ See 2011 Escrow Proposal,
76 FR 11598, Mar. 2, 2011, which
implements new TILA Section 129D for
escrow requirements. As discussed in
the Board’s 2011 Escrow Proposal, the
proposed definition of ‘‘average prime
offer rate’’ is identical to the definition
of ‘‘average prime offer rate’’ in current
§ 226.35(a)(2), which the Board is
proposing to remove, and consistent
with the provisions of the Dodd-Frank
Act, which generally codify the
regulation’s current definition of
‘‘average prime offer rate.’’ See TILA
Sections 129C(b)(2)(B) and 129D(b)(3).
However, the proposed definition of
‘‘higher-priced covered transaction’’
differs from the proposed definition of
‘‘higher-priced mortgage loan’’ included
in the Board’s 2011 Escrow Proposal in
three respects: (1) To reflect statutory
text, the proposed definition of ‘‘higherpriced covered transaction’’ would
provide that the annual percentage rate,
rather than the ‘‘transaction coverage
rate,’’ is the loan pricing metric to be
used to determine whether a transaction
is a higher-priced covered transaction;
(2) consistent with the scope of the
ability-to-repay provisions, ‘‘higherpriced covered transaction’’ would cover
consumer credit transactions secured by
a dwelling, and would not be limited to
transactions secured by the consumer’s
principal dwelling; and (3) consistent
with the statutory authority, the
applicable thresholds in ‘‘higher-priced
covered transaction’’ would not reflect
the special, separate coverage threshold
of 2.5 percentage points above the
average prime offer rate for ‘‘jumbo’’
loans,26 as provided for by the Board’s
2011 Escrow Proposal and 2011 Jumbo
Loan Escrow Final Rule. See 76 FR
11598, 11608–09, Mar. 2, 2011; 76 FR
11319, Mar. 2, 2011.27 As a result of
these differences, proposed commentary
to ‘‘average prime offer rate’’ that
clarifies the meaning of ‘‘comparable
transaction’’ and ‘‘rate set’’ for purposes
of higher-priced mortgage loans uses the
26 A ‘‘jumbo’’ loan includes a loan whose original
principal balance exceeds the current maximum
loan balance for loans eligible for sale to Freddie
Mac as of the date the transaction’s rate is set. See
TILA Section 129D(b)(3)(B), as enacted by Section
1461 of the Dodd-Frank Act; see also Board’s March
2011 Jumbo Loan Escrow Final Rule, 76 FR 11319,
11324 (Mar. 2, 2011), which establishes the ‘‘jumbo’’
threshold in existing § 226.35(a)(1)(v).
27 The Board’s Jumbo Loan Escrow Final Rule
added new § 226.35(a)(1)(v) to provide a separate,
higher rate threshold for determining when the
Board’s escrow requirement applies to higherpriced mortgage loans that are ‘‘jumbo loans.’’ The
Board incorporated the identical provision
regarding the ‘‘jumbo’’ threshold in its 2011 Escrow
Proposal for the reasons stated therein, and in
anticipation of the Board proposing to remove
§ 226.35 in its entirety, as discussed above. See
proposed § 226.45(a)(1).

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terms ‘‘transaction coverage rate,’’ and
refers to the consumer’s principal
dwelling. See proposed comments
45(a)(2)(ii)–2 and –3.28
To reduce the risk of confusion that
may occur by cross-referencing to
proposed commentary in the Board’s
2011 Escrow Proposal that uses different
terminology, the Board proposes
commentary to proposed § 226.43(b)(4)
to clarify the meaning of the terms
‘‘average prime offer rate,’’ ‘‘comparable
transaction’’ and ‘‘rate set,’’ as those
terms are used in the proposed
definition of ‘‘higher-priced covered
transaction.’’
Proposed comment 43(b)(4)–1
explains that the term ‘‘average prime
offer rate’’ generally has the same
meaning as in proposed
§ 226.45(a)(2)(ii), and would crossreference proposed comments
45(a)(2)(ii)–1,–4, and –5, for further
guidance on how to determine the
average prime offer rate and for further
explanation of the Board table. Proposed
comment 43(b)(4)–2 states that the table
of average prime offer rates published
by the Board indicates how to identify
the comparable transaction for a higherpriced covered transaction, as defined.
Proposed comment 43(b)(4)–3 clarifies
that a transaction’s annual percentage
rate is compared to the average prime
offer rate as of the date the transaction’s
interest rate is set (or ‘‘locked’’) before
consummation. This proposed comment
also explains that sometimes a creditor
sets the interest rate initially and then
re-sets it at a different level before
consummation, and clarify that in these
cases, the creditor should use the last
date the interest rate is set before
consummation.
As discussed above, the Board is
proposing to replace the term ‘‘annual
percentage rate’’ with the ‘‘transaction
coverage rate’’ for reasons stated in the
Board’s 2011 Escrow Proposal and 2010
Closed-End Proposal. See the Board’s
2011 Escrow Proposal at 76 FR 11598,
11609, Mar. 2, 2011 and the Board’s
2010 Closed-End Mortgage Proposal at
75 FR 58539, 58660–61, Sept. 24, 2010.
As discussed more fully in these
proposals, the Board recognized that the
use of the annual percentage rate as the
coverage metric for the higher-priced
mortgage loan protections posed a risk
of over inclusive coverage; the
protections were intended to be limited
to the subprime market. Specifically, the
Board recognized that the term annual
percentage rate would include a broader
set of charges, causing the spread
28 2011 Escrow Proposal, 76 FR 11598, 11626–
11627, Mar. 2, 2011.

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between the annual percentage rate and
the average prime offer rate to widen.
Although the purpose differs, the
Board similarly recognizes that the use
of the term annual percentage rate in
‘‘higher-priced covered transaction’’
means that the scope of balloon loans
that may exceed the applicable loan
pricing thresholds will likely be greater.
The Board is concerned that using an
over inclusive metric to compare to the
average prime offer rate may cover some
prime loans and unnecessarily limit
credit access to these loan products,
contrary to statutory intent. For these
reasons and also for consistency, the
Board solicits comment on whether it
should exercise its authority under
Section TILA Sections 105(a) and
129B(e) to similarly replace ‘‘annual
percentage rate’’ with ‘‘transaction
coverage rate’’ as the loan pricing
benchmark for higher-priced covered
transactions. 15 U.S.C. 1604(a).
In addition, the Board notes that
‘‘jumbo’’ loans typically carry a premium
interest rate to reflect the increased
credit risk of such loans.29 These loans
are more likely to exceed the average
prime offer rate coverage threshold and
be considered higher-priced covered
transactions under the thresholds
established by TILA Section
129C(a)(6)(D)(ii). Accordingly, under
this proposal creditors would have to
underwrite such loans using the
scheduled payments, including any
balloon payment, regardless of the loan
term. See proposed
§ 226.43(c)(5)(ii)(A)(2), discussed below.
The Board is concerned that this
approach may unnecessarily restrict
credit access and choice in the ‘‘jumbo’’
balloon loan market. Thus, the Board
also solicits comment on whether it
should exercise its authority under
TILA Sections 105(a) and 129B(e) to
incorporate the special, separate
coverage threshold of 2.5 percentage
points in the proposed definition of
‘‘higher-priced covered transaction’’ to
permit more ‘‘jumbo’’ balloon loans that
have ‘‘prime’’ loan pricing to benefit
from the special payment calculation
rule set forth under proposed
§ 226.43(c)(5)(ii)(A)(1) for balloon loans.
15 U.S.C. 1604(a). See 76 FR 11598,
11608, Mar. 2 2011, which discusses the
proposed ‘‘jumbo’’ threshold in relation
to the proposed escrow requirements.
The Board similarly recognizes that
loans secured by non-principal
dwellings also generally carry a higher
interest rate to reflect increased credit
29 See, e.g., Shane M. Sherland, ‘‘The JumboConforming Spread: A Semiparametric Approach,’’
Finance and Economics Discussion Series,
Divisions of Research & Statistics and Monetary
Affairs, Federal Reserve Board (2008–01).

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risk, regardless of loan size. As
discussed above, the scope of this
proposal extends to any dwellingsecured transaction, not just principal
dwellings, and therefore second homes
(e.g., vacation homes) would be covered.
A non-‘‘jumbo’’ balloon loan for a
vacation home, for example, would be
subject to the same rate threshold that
would apply to a non-‘‘jumbo’’ loan
secured by a principal dwelling. As a
result, balloon loans secured by nonprincipal dwellings would be more
likely to exceed the applicable rate
threshold and be subject to the more
stringent underwriting requirements
discussed above. The Board is
concerned that this approach may
inappropriately restrict credit access in
this market. Accordingly, the Board
solicits comment, and supporting data,
on whether it should exercise its
authority under TILA Sections 105(a)
and 129B(e) to incorporate a special,
separate coverage threshold in the
proposed definition of ‘‘higher-priced
covered transaction’’ for loans secured
by non-principal dwellings, and what
rate threshold would be appropriate for
such loans.
43(b)(5) Loan Amount
TILA Section 129C(a)(6)(D) requires
that when the creditor makes the
repayment ability determination under
TILA Section 129C(a), it must calculate
the monthly payment on the mortgage
obligation based on several
assumptions, including calculating the
monthly payment assuming that ‘‘the
loan proceeds are fully disbursed on the
date of consummation of the loan.’’ See
TILA Section 129C(a)(6)(D)(i). This
proposal replaces the phrase ‘‘loan
proceeds are fully disbursed on the date
of consummation of the loan’’ with the
term ‘‘loan amount’’ for simplicity, and
also to provide clarity.
Proposed § 226.43(b)(5) defines ‘‘loan
amount’’ to mean the principal amount
the consumer will borrow as reflected in
the promissory note or loan contract.
The Board believes that the loan
contract or promissory note would
accurately reflect all loan proceeds to be
disbursed under the loan agreement to
the consumer, including any proceeds
the consumer uses to cover costs of the
transaction. In addition, the term ‘‘loan
amount’’ is generally used by industry
and consumers to refer to the amount
the consumer borrows and is obligated
to repay under the loan agreement. The
proposed term ‘‘loan amount’’ is
consistent with the Board’s 2009
Closed-End Mortgage Proposal, which
proposed to define the term ‘‘loan
amount’’ for purposes of disclosure. See
74 FR 43232, 43333, Aug. 26, 2009.

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The statute further requires that
creditors assume that the loan amount is
‘‘fully disbursed on the date of
consummation of the loan.’’ See TILA
Section 129C(a)(6)(D)(i). The Board
recognizes that some loans do not
disburse the entire loan amount to the
consumer at consummation, but may,
for example, provide for multiple
disbursements up to an amount stated
in the loan agreement. See current
§ 226.17(c)(6), discussing multipleadvance loans and comment 17(c)(6)–2
and –3, discussing construction-topermanent financing loans. In these
cases, the loan amount, as reflected in
the promissory note or loan contract,
does not accurately reflect the amount
disbursed at consummation. Thus, to
reflect the statutory requirement that the
creditor assume the loan amount is fully
disbursed at consummation, the Board
would clarify that creditors must use the
entire loan amount as reflected in the
loan contract or promissory note, even
where the loan amount is not fully
disbursed at consummation. See
proposed comment 43(b)(5)–1. This
comment would provide an illustrative
example. The example assumes the
consumer enters into a loan agreement
where the consumer is obligated to
repay the creditor $200,000 over 15
years, but only $100,000 is disbursed at
consummation and the remaining
$100,000 will be disbursed during the
year following consummation ($25,000
each quarter). This comment would
explain that the creditor must use the
loan amount of $200,000 even though
the loan agreement provides that only
$100,000 will be disbursed to the
consumer at consummation. This
comment would state that generally,
creditors should rely on § 226.17(c)(6)
and associated commentary regarding
treatment of multiple-advance and
construction loans that would be
covered by this proposal (i.e., loans with
a term greater than 12 months). See
proposed § 226.43(a)(3) discussing
scope of coverage and term length. The
Board solicits comment on whether
further guidance regarding treatment of
loans that provide for multiple
disbursements, such as construction-topermanent loans that are treated as as a
single transaction, is needed.
The term ‘‘loan amount’’ appears in
proposed § 226.43(b)(2), which defines
‘‘fully amortizing payment,’’ and in
proposed § 226.43(c)(5)(ii)(B), which
implements the requirement under
TILA Section 129C(a)(6)(D)(i) that the
creditor assume that ‘‘the loan proceeds
are fully disbursed on the date of
consummation of the loan’’ when
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repay a loan. In addition, the term ‘‘loan
amount’’ appears in proposed
§ 226.43(d)(5)(i)(C)(2) which
implements TILA Section 129C(a)(6)(E)
and provides the payment calculation
for a non-standard mortgage with
interest-only payments. The term ‘‘loan
amount’’ also appears in proposed
§ 226.43(e)(2)(iv), which implements the
requirement under TILA Sections
129C(b)(iv) and (v) that the creditor
underwrite the loan using a periodic
payment of principal and interest that
will repay the loan to meet the
definition of a qualified mortgage.
43(b)(6) Loan Term
TILA Section 129C(a)(3) requires that
a creditor determine a consumer’s
repayment ability on a loan ‘‘using a
payment schedule that fully amortizes
the loan over the term of the loan.’’ TILA
Section 129C(a)(6)(D)(ii) also requires
that for purposes of making the
repayment ability determination under
TILA Section 129C(a), the creditor
calculate the monthly payment on the
mortgage obligation assuming that the
loan is repaid ‘‘over the entire term of
the loan with no balloon payment.’’ In
addition, TILA Section 129C(b)(2)(A)(iv)
and (v) require that a creditor
underwrite the loan using ‘‘a payment
schedule that fully amortizes the loan
over the loan term’’ to meet the
definition of a qualified mortgage. The
Dodd-Frank Act does not define the
term ‘‘loan term.’’
This proposal refers to the term of the
loan as the ‘‘loan term,’’ as defined, for
simplicity. Proposed § 226.43(b)(6)
provides that the ‘‘loan term’’ means the
period of time to repay the obligation in
full. This proposed definition is
consistent with the proposed definition
of ‘‘loan term’’ for disclosure purposes in
the Board’s 2009 Closed-End Mortgage
Proposal. See 74 FR 43232, 43333, Aug.
26, 2009. This term primarily appears in
proposed § 226.43(c)(5)(i), which
implements TILA Section
129(a)(6)(D)(ii) and requires creditors to
determine a consumer’s ability to repay
the loan based on fully amortizing
payments. See proposed § 226.43(b)(2),
which defines ‘‘fully amortizing
payments’’ as periodic payments that
will fully repay the loan amount over
the loan term. ‘‘Loan term’’ also is used
in proposed § 226.43(e)(2)(iv), which
implements TILA Section 129C(b)(2)(iv)
and (v) and requires creditors to
underwrite the loan using the periodic
payment of principal and interest that
will repay the loan over the loan term
to meet the definition of a qualified
mortgage.
Proposed comment 43(b)(6)–1
clarifies that the loan term is the period

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of time it takes to repay the loan amount
in full. For example, a loan with an
initial discounted rate that is fixed for
the first two years, and that adjusts
periodically for the next 28 years has a
loan term of 30 years, which is the
amortization period on which the
periodic amortizing payments are based.
43(b)(7) Maximum Loan Amount
Proposed § 226.43(b)(7) defines
‘‘maximum loan amount’’ to mean the
loan amount plus any increase in
principal balance that results from
negative amortization (defined in
current § 226.18(s)(7)(v)), based on the
terms of the legal obligation assuming
that: (1) The consumer makes only the
minimum periodic payments for the
maximum possible time, until the
consumer must begin making fully
amortizing payments; and (2) the
maximum interest rate is reached at the
earliest possible time. The term
‘‘maximum loan amount’’ implements,
in part, TILA Section 129(a)(6)(C),
which states that when making the
payment calculation for loans with
negative amortization, ‘‘a creditor shall
also take into consideration any balance
increase that may accrue from any
negative amortization provision.’’
Loans with negative amortization
typically permit consumers to make
payments that cover only part of the
interest accrued each month, and none
of the principal. The unpaid but accrued
interest is added to the principal
balance, causing negative equity (i.e.,
negative amortization). This accrued but
unpaid interest can be significant if the
loan terms do not provide for any
periodic interest rate adjustment caps,
thereby permitting the accrual interest
rate to quickly escalate to the lifetime
maximum interest rate. As a result of
these loan features, consumers of loans
with negative amortization are more
likely to encounter payment shock once
fully amortizing payments are required.
For these reasons, the Board believes it
is appropriate to interpret the phrase
‘‘any balance increase that may accrue’’
as requiring the creditor to account for
the greatest potential increase in the
principal balance that could occur
under in a loan with negative
amortization. See TILA Section
129(a)(6)(C). The Board also believes
this interpretation is consistent with the
overall statutory construct that requires
creditors to determine whether the
consumer is able to manage payments
that may be required at any time during
the loan term, especially where
payments can escalate significantly in
amount. The proposed definition of
‘‘maximum loan amount’’ is also
consistent with the approach in the

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MDIA Interim Final Rule,30 which
addresses disclosure requirements for
negative amortization loans, and the
2006 Nontraditional Mortgage
Guidance, which provides guidance to
creditors regarding underwriting
negative amortization loans.31
The term ‘‘maximum loan amount’’ is
used in proposed § 226.43(c)(5)(ii)(C),
which implements the statutory
requirements under new TILA Section
129C(a)(6)(C) and (D) regarding payment
calculations for negative amortization
loans. See proposed § 226.43(c)(5)(ii)(C),
which discusses more fully the scope of
loans covered by the term ‘‘negative
amortization loan,’’ as defined in current
§ 226.18(s)(7)(v). The term also appears
in proposed § 226.43(d), which
addresses the exception to the
repayment ability provision for the
refinancing of a non-standard mortgage.
Proposed comment 43(b)(7)–1
clarifies that in determining the
maximum loan amount, the creditor
must assume that the consumer makes
the minimum periodic payment
permitted under the loan agreement for
as long as possible, until the consumer
must begin making fully amortizing
payments, and that the interest rate rises
as quickly as possible after
consummation under the terms of the
legal obligation. The proposed comment
further clarifies that creditors must
assume the consumer makes the
minimum periodic payment until any
negative amortization cap is reached or
until the period permitting minimum
periodic payments expires, whichever
occurs first. This comment would crossreference proposed § 226.43(b)(5) and
§ 226.18(s)(7)(v) for the meaning of the
terms ‘‘loan amount’’ and ‘‘negative
amortization loan,’’ respectively.
Proposed comment 43(b)(7)–2
provides further guidance to creditors
regarding the assumed interest rate to
use when determining the maximum
loan amount. This comment would
explain that when calculating the
maximum loan amount for an
adjustable-rate mortgage that is a
negative amortization loan, the creditor
must assume that the interest rate will
increase as rapidly as possible after
consummation, taking into account any
periodic interest rate adjustment caps
provided in the loan agreement. This
comment would further explain that for
an adjustable-rate mortgage with a
lifetime maximum interest rate but no
periodic interest rate adjustment cap,
30 See 12 CFR 226.18(s)(2)(ii) and comment
18(s)(2)(ii)–2, which discusses assumptions made
for the interest rates in adjustable-rate mortgages
that are negative amortization loans.
31 See 2006 Nontraditional Mortgage Guidance at
58614, n.7.

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the creditor must assume the interest
rate increases to the maximum lifetime
interest rate at the first adjustment.
Proposed comment 43(b)(7)–3
provides examples illustrating the
application of the proposed definition of
‘‘maximum loan amount’’ for a negative
amortization loan that is an adjustablerate mortgage and for a fixed-rate,
graduated payment mortgage. For
example, proposed comment 43(b)(7)–
3.i assumes an adjustable-rate mortgage
in the amount of $200,000 with a 30year loan term. The loan agreement
provides that the consumer can make
minimum monthly payments that cover
only part of the interest accrued each
month until the principal balance
reaches 115% of its original balance
(i.e., a negative amortization cap of
115%) or for the first five years of the
loan (60 monthly payments), whichever
occurs first. The introductory interest
rate at consummation is 1.5%. One
month after consummation, the interest
rate adjusts and will adjust monthly
thereafter based on the specified index
plus a margin of 3.5%. The maximum
lifetime interest rate is 10.5%; there are
no other periodic interest rate
adjustment caps that limit how quickly
the maximum lifetime rate may be
reached. The minimum monthly
payment for the first year is based on
the initial interest rate of 1.5%. After
that, the minimum monthly payment
adjusts annually, but may increase by
no more than 7.5% over the previous
year’s payment. The minimum monthly
payment is $690 in the first year, $740
in the second year, and $798 in the first
part of the third year. See proposed
comment 43(b)(7)–3.i(A).
This comment then states that to
determine the maximum loan amount,
creditors should assume that the interest
rate increases to the maximum lifetime
interest rate of 10.5% at the first
adjustment (i.e., the second month) and
accrues at that rate until the loan is
recast. This proposed comment further
assumes the consumer makes the
minimum monthly payments as
scheduled, which are capped at 7.5%
from year-to-year. This comment would
explain that as a result, the consumer’s
minimum monthly payments are less
than the interest accrued each month,
resulting in negative amortization (i.e.,
the accrued but unpaid interest is added
to the principal balance).
This comment concludes that on the
basis of these assumptions (that the
consumer makes the minimum monthly
payments for as long as possible and
that the maximum interest rate of 10.5%
is reached at the first rate adjustment
(i.e., the second month)), the negative
amortization cap of 115% is reached on

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the due date of the 27th monthly
payment and the loan is recast. The
maximum loan amount as of the due
date of the 27th monthly payment is
$229,243. See proposed comment
43(b)(7)–3.i(B).
43(b)(8) Mortgage-Related Obligations
The Board proposes to use the term
‘‘mortgage-related obligations’’ to refer to
‘‘all applicable taxes, insurance
(including mortgage guarantee
insurance), and assessments’’ for
purposes of TILA Sections 129C(a)(1)
through (3) and (b)(2)(A)(iv) and (v).
TILA Sections 129C(a)(1) and (2) require
that a creditor determine a consumer’s
ability to repay the loan ‘‘according to
[the loan’s] terms, and all applicable
taxes, insurance (including mortgage
guarantee insurance), and assessments.’’
TILA Section 129C(a)(3) further states
that the creditor must consider the
consumer’s debt-to-income ratio after
allowing for ‘‘non-mortgage debt and
mortgage-related obligations.’’ In
addition, TILA Sections
129C(b)(2)(A)(iv) and (v) provide that to
meet the qualified mortgage standard,
the creditor must underwrite the loan
‘‘tak[ing] into account all applicable
taxes, insurance, and assessments[.]’’
The Dodd-Frank Act does not define the
term ‘‘mortgage-related obligations.’’
However, these statutory requirements
are substantially similar to current
§ 226.34(a)(4) of the Board’s 2008
HOEPA Final Rule, which requires the
creditor to consider mortgage-related
obligations when determining the
consumer’s repayment ability on a loan.
Current § 226.34(a)(4)(i) defines
‘‘mortgage-related obligations’’ as
expected property taxes, premiums for
mortgage-related insurance required by
the creditor as set forth in current
§ 226.35(b)(3)(i), and similar expenses,
such as homeowners’ association dues
and condominium or cooperative fees.
See comment 34(a)(4)(i)–1.
Proposed § 226.43(b)(8) defines the
term ‘‘mortgage-related obligations’’ to
mean property taxes; mortgage-related
insurance premiums required by the
creditor as set forth in proposed
§ 226.45(b)(1); homeowner’s association,
condominium, and cooperative fees;
ground rent or leasehold payments; and
special assessments. Proposed
§ 226.43(b)(8) is consistent with TILA
Sections 129C(a)(1)–(3) and
129C(b)(2)(A)(iv) and (v), with
modifications to the statutory language
to provide greater clarity to creditors
regarding what items are included in the
phrase ‘‘taxes, insurance (including
mortgage guarantee insurance), and
assessments.’’ Based on outreach, the
Board believes greater specificity in

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defining the term ‘‘mortgage-related
obligations’’ would address concerns
that some creditors may have difficulty
determining which items should be
included as mortgage-related obligations
when determining the total monthly
debt a consumer will owe in connection
with a loan. The proposed term would
also track the current meaning of the
term mortgage-related obligations in
current § 226.34(a)(4)(i) and comment
34(a)(4)(i)–1, which the Board is
proposing to remove, with several
clarifications.
The Board proposes to define the term
‘‘mortgage-related obligations’’ with
three clarifications. First, consistent
with current underwriting practices, the
proposed definition of ‘‘mortgage-related
obligations’’ would include reference to
ground rent or leasehold payments,
which are payments made to the land
owner or leaseholder for use of the land.
Second, the proposed term would
include reference to ‘‘special
assessments.’’ Proposed comment
43(b)(8)–1 clarifies that special
assessments include, for example,
assessments that are imposed on the
consumer at or before consummation,
such as a one-time homeowners’
association fee that will not be paid by
the consumer in full at or before
consummation. Third, the term
‘‘mortgage-related obligations’’ would
reference proposed § 226.45(b)(1) to
include mortgage-related insurance
premiums required by the creditor, such
as insurance against loss of or damage
to property, or against liability arising
out of the ownership or use of the
property, or insurance protecting the
creditor against the consumer’s default
or other credit loss. Proposed
§ 226.45(b)(1) parallels current
§ 226.35(b)(3)(i), which the Board is
proposing to remove. See 76 FR 11598,
11610, Mar. 2, 2011 for discussion of
proposed § 226.45(b)(1). The Board
solicits comment on how to address any
issues that may arise in connection with
homeowners’ association transfer fees
and costs associated with loans for
energy-efficient improvement.
Proposed comment 43(b)(8)–1 further
clarifies that mortgage-related
obligations include expected property
taxes and premiums for mortgagerelated insurance required by the
creditor as set forth in § 226.45(b)(1),
such as insurance against loss of or
damage to property or against liability
arising out of the ownership or use of
the property, and insurance protecting
the creditor against the consumer’s
default or other credit loss. This
comment would explain that the
creditor need not include premiums for
mortgage-related insurance that it does

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not require, such as earthquake
insurance or credit insurance, or fees for
optional debt suspension and debt
cancellation agreements. To facilitate
compliance, this comment would refer
to commentary associated with
proposed § 226.43(c)(2)(v), which
discusses the requirement to take into
account any mortgage-related
obligations for purposes of the
repayment ability determination
required under proposed § 226.43(b)(2).
The term ‘‘mortgage-related
obligations’’ appears in proposed
§ 226.43(c)(2)(v), which implements
new TILA Sections 129C(a)(1) through
(3) and requires that the creditor
determine a consumer’s ability to repay
a covered transaction, taking into
account mortgage-related obligations.
The term also appears in proposed
§ 226.43(e)(2)(iv), which implements
new TILA Section 129C(b)(2)(A)(iv) and
(v) and requires that the creditor
underwrite a loan taking into account
mortgage-related obligations to meet the
qualified mortgage definition. Proposed
§ 226.43(c) and (e) are discussed in
further detail below.
43(b)(9) Points and Fees
For ease of reference, proposed
§ 226.43(b)(9) states that the term
‘‘points and fees’’ has the same meaning
as in § 226.32(b)(1).
43(b)(10) Prepayment Penalty
TILA Section 129C(c), as added by
Section 1414 of the Dodd-Frank Act,
limits the transactions that may include
a ‘‘prepayment penalty,’’ the period
during which a prepayment penalty
may be imposed, and the maximum
amount of a prepayment penalty. TILA
Section 129C(c) also requires creditors
to offer a consumer a covered
transaction without a prepayment
penalty if they offer the consumer a
covered transaction with a prepayment
penalty. Qualified mortgages are subject
to additional limitations on prepayment
penalties, pursuant to points and fees
limitations under Section 1412 of the
Act. TILA Section 129C(b)(2)(A)(viii)
limits the points and fees that may be
charged for a qualified mortgage to three
percent of the total loan amount. TILA
Section 103(aa)(4)(E) and (F), as added
by Section 1431(c) of the Dodd-Frank
Act, define ‘‘points and fees’’ to include
(1) the maximum prepayment fees and
penalties that may be charged under the
terms of the covered transaction; and (2)
all prepayment fees or penalties that are
incurred by the consumer if the loan
refinances a previous loan made or
currently held by the same creditor or
an affiliate of the creditor.

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TILA establishes certain disclosure
requirements for transactions for which
a penalty is imposed upon prepayment
but does not define the term
‘‘prepayment penalty.’’ TILA Section
128(a)(11) requires that the transactionspecific disclosures for closed-end
consumer credit transactions disclose a
‘‘penalty’’ imposed upon prepayment in
full of a closed-end transaction, without
using the term ‘‘prepayment penalty.’’ 15
U.S.C. 1638(a)(11).32 Current
commentary on § 226.18(k)(1), which
implements TILA Section 128(a)(11),
clarifies that a ‘‘penalty’’ imposed upon
prepayment in full is a charge assessed
solely because of the prepayment of an
obligation and includes, for example,
‘‘interest’’ charges for any period after
prepayment in full is made and a
minimum finance charge.33 See
comment 18(k)–1. The Board’s 2009
Closed-End Mortgage Proposal clarifies
that prepayment penalties include
origination or other charges that a
creditor waives unless the consumer
prepays, but do not include fees
imposed for preparing a payoff
statement, among other clarifications.
See 74 FR 43232, 43413, Aug. 29, 2009.
Also, the Board’s 2010 Mortgage
Proposal clarifies that prepayment
penalties include ‘‘interest’’ charges after
prepayment in full even if the charge
results from the interest accrual
amortization method used on the
transaction. See 75 FR 58539, 58756,
Sept. 24, 2010.
Proposed § 226.43(b)(10) defines
‘‘prepayment penalty’’ as a charge
imposed for paying all or part of a
covered transaction’s principal before
the date on which the principal is due.
Also, proposed § 226.43(b)(10)(i)
provides the following examples of
‘‘prepayment penalties’’ for purposes of
§ 226.43: (1) A charge determined by
treating the loan balance as outstanding
for a period of time after prepayment in
full and applying the interest rate to
such ‘‘balance,’’ even if the charge
results from the interest accrual
amortization method used for other
payments in the transaction; and (2) a
fee, such as a loan closing cost, that is
32 Also, TILA Section 128(a)(12) requires that the
transaction-specific disclosures state that the
consumer should refer to the appropriate contract
document for information regarding certain loan
terms or features, including ‘‘prepayment * * *
penalties.’’ 15 U.S.C. 1638(a)(12). In addition, TILA
Section 129(c) limits the circumstances in which a
high-cost mortgage may include a ‘‘prepayment
penalty.’’ 15 U.S.C. 1639(c).
33 Prepayment penalty disclosure requirements
under § 226.18(k) apply to closed-end mortgage and
non-mortgage transactions. In the 2009 Closed-End
Mortgage Proposal, the Board proposed to establish
a new § 226.38(a)(5) for disclosure of prepayment
penalties specifically for closed-end mortgage
transactions.

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waived unless the consumer prepays the
covered transaction. Proposed comment
43(b)(10)(A)–1 clarifies that ‘‘interest
accrual amortization’’ refers to the
method used to determine the amount
of interest due for each period (for
example, a month) in a transaction’s
term. The proposed comment also
provides an example where a
prepayment penalty of $1,000 is
imposed because a full month’s interest
of $3,000 is charged even though only
$2,000 in interest was earned in the
month during which the consumer
prepaid. Proposed § 226.43(b)(10)(ii)
provides that a prepayment penalty
does not include fees imposed for
preparing and providing documents
when a loan is paid in full, whether or
not the loan is prepaid, such as a loan
payoff statement, a reconveyance
document, or another document
releasing the creditor’s security interest
in the dwelling that secures the loan.
Proposed § 226.43(b)(10) uses
language substantially similar to the
language used in TILA Section 129C(c),
but proposed § 226.43(b)(10) refers to
charges for payment ‘‘before the date on
which the principal is due’’ rather than
‘‘after the loan is consummated,’’ for
clarity. Proposed § 226.43(b)(10)(i) and
(ii) are substantially similar to the
current guidance on prepayment
penalties in comment 18(k)–1 and in
proposed § 226.38(a)(5) under the
Board’s 2009 Closed-End Mortgage
Proposal and 2010 Mortgage Proposal,
discussed above. However, proposed
§ 226.43(b)(10) omits commentary
providing: (1) Examples of prepayment
penalties include a minimum finance
charge because such charges typically
are imposed with open-end, rather than
closed-end, transactions; and (2)
examples of prepayment penalties do
not include loan guarantee fees because
loan guarantee fees are not charges
imposed for paying all or part of a loan’s
principal before the date on which the
principal is due. See comment 18(k)(1)–
1. The term ‘‘prepayment penalty’’
appears in the ‘‘points and fees’’
definition in proposed § 226.32(b)(1)(v)
and (vi) and in the requirements for
prepayment penalties in § 226.43(g).
The Board recognizes that the effect of
including particular types of charges in
the proposed definition of a
‘‘prepayment penalty’’ is to apply the
limitations on prepayment penalties
under TILA Section 129C(c) to those
types of charges, which in turn could
limit the availability of credit. In
particular, if ‘‘prepayment penalty’’ is
defined to include a provision that
requires the consumer to pay ‘‘interest’’
for a period after prepayment in full, or
a provision that waives fees unless the

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consumer prepays, pursuant to TILA
Section 129C(c) a covered transaction
may not include such provisions unless
the transaction: (1) Has an APR that
cannot increase, (2) is a qualified
mortgage, and (3) is not a higher-priced
mortgage loan, as discussed in detail in
the section-by-section analysis of
proposed § 226.43(g). Also, the amount
of the ‘‘interest’’ charged after
prepayment, or the amount of fees
waived unless the consumer prepays,
would be limited. Finally, the creditor
would have to offer an alternative
covered transaction for which ‘‘interest’’
will not be charged after prepayment or
for which fees are waived even if the
consumer prepays (although under the
Board’s proposal the alternative covered
transaction could have a different
interest rate). Thus, the Board solicits
comment on whether or not it is
appropriate to include ‘‘interest’’
charged for a period after prepayment,
or fees waived unless the consumer
prepays, in the definition of
‘‘prepayment penalty’’ under proposed
§ 226.43(b)(10). Specifically, the Board
requests comment on the possible
effects of including those charges on the
availability of particular types of
covered transactions.
43(b)(11) Recast
Proposed § 226.43(b)(11) defines the
term ‘‘recast,’’ which is used in two
paragraphs of proposed § 226.43: (1)
Proposed § 226.43(c)(5)(ii) regarding
certain required payment calculations
that creditors must consider in
determining a consumer’s ability to
repay a covered transaction; and (2)
proposed § 226.43(d) regarding payment
calculations required for refinancings
that are exempt from the ability-to-repay
requirements in § 226.43(c).
Specifically, § 226.43(b)(11) defines
the term ‘‘recast’’ as follows: (1) For an
adjustable-rate mortgage, as defined in
§ 226.18(s)(7)(i),34 the expiration of the
period during which payments based on
the introductory interest rate are
permitted under the terms of the legal
obligation; (2) for an interest-only loan,
as defined in § 226.18(s)(7)(iv),35 the
expiration of the period during which
interest-only payments are permitted
under the terms of the legal obligation;
and (3) for a negative amortization loan,
34 ‘‘The term ‘adjustable-rate mortgage’ means a
transaction secured by real property or a dwelling
for which the annual percentage rate may increase
after consummation.’’ 12 CFR 226.18(s)(7)(i).
35 ‘‘The term ‘interest-only’ means that, under the
terms of the legal obligation, one or more of the
periodic payments may be applied solely to accrued
interest and not to loan principal; an ‘interest-only
loan’ is a loan that permits interest-only payments.’’
12 CFR 226.18(s)(7)(iv).

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as defined in § 226.18(s)(7)(v),36 the
expiration of the period during which
negatively amortizing payments are
permitted under the terms of the legal
obligation.
Proposed comment 43(b)(11)–1
explains that the date on which the
‘‘recast’’ occurs is the due date of the last
monthly payment based on the
introductory fixed rate, the interest-only
payment, or the negatively amortizing
payment, as applicable. Proposed
comment 43(b)(11)–1 also provides an
illustration of this rule for a loan in an
amount of $200,000 with a 30-year loan
term, where the loan agreement
provides for a fixed interest rate and
permits interest-only payments for the
first five years of the loan (60 months).
Under proposed § 226.43(b)(11), the
loan is ‘‘recast’’ on the due date of the
60th monthly payment. Thus, the term
of the loan remaining as of the date the
loan is recast is 25 years (300 months).
The statute uses the term ‘‘reset’’ to
suggest the time at which the terms of
a mortgage loan are adjusted, resulting
in higher required payments. For
example, TILA Section 129C(a)(6)(E)(ii)
states that a creditor that refinances a
loan may, under certain conditions,
‘‘consider if the extension of new credit
would prevent a likely default should
the original mortgage reset and give
such concerns a higher priority as an
acceptable underwriting practice.’’ 15
U.S.C. 1639c(a)(6)(E)(ii). The legislative
history further indicates that, for
adjustable-rate mortgages with low,
fixed introductory rates, Congress
understood the term ‘‘reset’’ to mean the
time at which the low teaser rates
converted to fully indexed rates,
resulting in ‘‘significantly higher
monthly payments for homeowners.’’ 37
Outreach participants indicated that
the term ‘‘recast’’ is typically used to
reference the time at which fully
amortizing payments are required for
interest-only and negative amortization
loans and that the term ‘‘reset’’ is more
frequently used to indicate the time at
which adjustable-rate mortgages with an
introductory fixed rate convert to a
variable rate. For simplicity and clarity,
however, the Board proposes to use the
term ‘‘recast’’ to cover the conversion to
less favorable terms and higher
36 ‘‘[T]he term ‘negative amortization’ means
payment of periodic payments that will result in an
increase in the principal balance under the terms
of the legal obligation; the term ‘negative
amortization loan’ means a loan that permits
payments resulting in negative amortization, other
than a reverse mortgage subject to section 226.33.’’
12 CFR 226.18(s)(7)(v).
37 See U.S. House of Reps., Comm. on Fin.
Services, Report on H.R. 1728, Mortgage Reform
and Anti-Predatory Lending Act, No. 111–94, 52
(May 4, 2009).

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payments not only for interest-only
loans and negative amortization loans
but also for adjustable-rate mortgages.
The Board solicits comment on the
proposed definition of ‘‘recast’’ for
purposes of proposed § 226.43(c) and
(d).
43(b)(12) Simultaneous Loan
The Board proposes to use the term
‘‘simultaneous loan’’ to refer to loans
that are subject to TILA Section
129C(a)(2), which states that ‘‘if a
creditor knows, or has reason to know,
that 1 or more residential mortgage
loans secured by the same dwelling will
be made to the same consumer, the
creditor shall make a reasonable and
good faith determination, based on
verified and documented information,
that the consumer has a reasonable
ability to repay the combined payments
of all loans on the same dwelling
according to the terms of those loans
and all applicable taxes, insurance
(including mortgage guarantee
insurance), and assessments.’’ TILA
Section 129C(a)(2) uses the term
‘‘residential mortgage loan,’’ which is
defined in TILA Section 103(cc)(5) as
excluding home equity lines of credit
(HELOCs) for purposes of TILA Section
129C. See proposed § 226.43(a),
discussing the scope of the ability-torepay provisions. Thus, TILA Section
129C(a)(2) does not require a creditor to
consider a simultaneous HELOC when
determining a consumer’s repayment
ability on the covered transaction.
By contrast, § 226.34(a)(4) of the
Board’s 2008 HOEPA Final Rule
requires the creditor to consider the
consumer’s current obligations when
making its repayment ability
determination. Current comment
34(a)(4)–3 clarifies the meaning of the
term ‘‘current obligations,’’ and provides
that it includes other dwelling-secured
credit obligations undertaken prior to or
at consummation of the transaction
subject to § 226.34(a)(4) of which the
creditor has knowledge. This comment
does not distinguish between closedend and open-end credit transactions for
purposes of ‘‘other dwelling-secured
obligations.’’ Accordingly, under current
comment 34(a)(4)–3 the creditor must
consider in the repayment ability
assessment a HELOC of which it has
knowledge if the HELOC will be
undertaken at or before consummation
and will be secured by the same
dwelling that secures the transaction.
Proposed § 226.43(b)(12) would
define the term ‘‘simultaneous loan’’ to
refer to other loans that are secured by
the same dwelling and made to the same
consumer at or before consummation of
the covered transaction. The term would

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include HELOCs as well as closed-end
mortgages for purposes of TILA Section
129C(a)(2). The Board believes TILA
Section 129C(a)(2) is meant to help
ensure that creditors account for the
increased risk of consumer delinquency
or default on the covered transaction
where more than one loan secured by
the same dwelling is originated
concurrently, and therefore requires
creditors to consider the combined
payments on such loans. The Board
believes this increased risk is present
whether the other mortgage obligation is
a closed-end credit transaction or a
HELOC.
The Board proposes to broaden the
scope of TILA Section 129C(a)(2) to
include HELOCs, and accordingly
proposes to define the term
‘‘simultaneous loan’’ to include HELOCs,
using its authority under TILA Section
105(a). 15 U.S.C. 1604(a). TILA Section
105(a), as amended by Section 1100A of
the Dodd-Frank Act, authorizes the
Board to prescribe regulations to carry
out the purposes of TILA and
Regulation Z, to prevent circumvention
or evasion, or to facilitate compliance.
15 U.S.C. 1604(a). The inclusion of
HELOCs is further supported by the
Board’s authority under TILA Section
129B(e) to condition terms, acts or
practices relating to residential mortgage
loans that the Board finds necessary or
proper to effectuate the purposes of
TILA. 15 U.S.C. 1639b(e). One purpose
of the statute is set forth in TILA Section
129B(a)(2), which states that ‘‘[i]t is the
purpose[] of * * * [S]ection 129C to
assure that consumers are offered and
receive residential mortgage loans on
terms that reasonably reflect their ability
to repay the loans.’’ 15 U.S.C. 1639b. For
the reasons stated below, the Board
believes requiring creditors to consider
simultaneous loans that are HELOCs for
purposes of TILA Section 129C(a)(2)
would help to ensure that consumers
are offered, and receive, loans on terms
that reasonably reflect their ability to
repay.
First, the Board is proposing in
§ 226.43(c)(2)(vi) that the creditor must
consider current debt obligations in
determining a consumer’s ability to
repay a covered transaction. Consistent
with current § 226.34(a)(4), proposed
§ 226.43(c)(2)(vi) would not distinguish
between pre-existing closed-end and
open-end mortgage obligations. The
Board believes consistency requires that
it take the same approach when
determining how to consider mortgage
obligations that come into existence
concurrently with a first-lien loan as is
taken for pre-existing mortgage
obligations, whether the first-lien is a
purchase or non-purchase transaction

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(i.e., refinancing). Including HELOCs in
the proposed definition of
‘‘simultaneous loan’’ for purposes of
TILA Section 129C(a)(2) is also
generally consistent with current
comment 34(a)(4)–3, and the 2006
Nontraditional Mortgage Guidance
regarding simultaneous second-lien
loans.38
Second, data indicate that where a
subordinate loan is originated
concurrently with a first-lien loan to
provide some or all of the downpayment
(i.e., ‘‘piggyback loan’’), the default rate
on the first-lien loan increases
significantly, and in direct correlation to
increasing combined loan-to-value
ratios.39 The data does not distinguish
between ‘‘piggyback loans’’ that are
closed-end or open-end credit
transactions, or between purchase and
non-purchase transactions. However,
empirical evidence demonstrates that
approximately 60% of consumers who
open a HELOC concurrently with a firstlien loan borrow against the line of
credit at the time of origination,40
suggesting that in many cases the
HELOC may be used to provide some,
or all, of the downpayment on the firstlien loan.
The Board recognizes that consumers
have varied reasons for originating a
HELOC concurrently with the first-lien
loan, for example, to reduce overall
closing costs or for the convenience of
having access to an available credit line
in the future. However, the Board
believes concerns relating to HELOCs
originated concurrently for savings or
convenience, and not to provide
payment towards the first-lien home
purchase loan, may be mitigated by the
Board’s proposal to require that a
creditor consider the periodic payment
on the simultaneous loan based on the
actual amount drawn from the credit
line by the consumer. See proposed
§ 226.43(c)(6)(ii), discussing payment
calculation requirements for
simultaneous loans that are HELOCs.
Still, the Board recognizes that in the
case of a non-purchase transaction (e.g.,
38 See 2006 Nontraditional Mortgage Guidance,
71 FR 58609, 58614 (Oct.4, 2006).
39 Kristopher Gerardi, Andreas Lehnert, Shane
Sherlund, and Paul S. Willen, ‘‘Making Sense of the
Subprime Crisis,’’ Brookings Papers on Economic
Activity (Fall 2008), at 40, Table 3.
40 The Board conducted independent analysis
using data obtained from the FRBNY Consumer
Credit Panel to determine the proportion of
piggyback HELOCs taken out in the same month as
the first-lien loan that have a draw at the time of
origination. Data used is extracted from credit
record data in years 2003 through 2010. See
Donghoon Less and Wilbert van der Klaauw, ‘‘An
Introduction to the FRBNY Consumer Credit Panel,’’
Staff Rept. No. 479 (Nov. 2010), at http://
data.newyorkfed.org/research/staff_reports/
sr479.pdf, for further description of the database.

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a refinancing) a simultaneous loan that
is a HELOC is unlikely to be originated
and drawn upon to provide payment
towards the first-lien loan, except
perhaps towards closing costs. The
Board solicits comment on whether it
should narrow the requirement to
consider simultaneous loans that are
HELOCs to apply only to purchase
transactions. See discussion under
proposed § 226.43(c)(6).
Third, in developing this proposal
staff conducted outreach with a variety
of participants that consistently
expressed the view that second-lien
loans significantly impact a consumer’s
performance on the first-lien loan, and
that many second-lien loans are
HELOCs. One industry participant
explained that the vast majority of
‘‘piggyback loans’’ it originated were
HELOCs that were fully drawn at the
time of origination and used to assist in
the first-lien purchase transaction.
Another outreach participant stated that
HELOCs make up approximately 90% of
their simultaneous loan book-ofbusiness. Industry outreach participants
generally indicated that it is a currently
an accepted underwriting practice to
include HELOCs in the repayment
ability assessment on the first-lien loan,
and generally confirmed that the
majority of simultaneous liens
considered during the underwriting
process are HELOCs. Thus, for these
reasons, the Board proposes to use its
authority under TILA Sections 105(a)
and 129B(e) to broaden the scope of
TILA Section 129C(a)(2), and
accordingly proposes to define the term
‘‘simultaneous loan’’ to include HELOCs.
Proposed § 226.43(b)(12) defines a
‘‘simultaneous loan’’ to mean another
covered transaction or home equity line
of credit subject to § 226.5b that will be
secured by the same dwelling and made
to the same consumer at or before
consummation of the covered
transaction. The proposed definition
generally tracks the meaning of ‘‘other
dwelling-secured obligations’’ under
current comment 34(a)(4)–3, as well as
the statutory language of TILA Section
129C(a)(2) with the notable difference
that the proposed term would include
HELOCs, as discussed above. The Board
proposes to replace the term ‘‘residential
mortgage loan’’ with the term ‘‘covered
transaction,’’ as defined in proposed
§ 226.43(b)(1), for clarity. The Board
also proposes to add a reference to the
phrase ‘‘at or before consummation of
the covered transaction’’ to further
clarify that the definition does not
include pre-existing mortgage
obligations. Pre-existing mortgage
obligations would be included as
current debt obligations under proposed

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§ 226.43(c)(2)(vi), which is discussed
below. Last, the Board proposes to not
include the statutory language that ‘‘the
creditor shall make a reasonable and
good faith determination, based on
verified and documented information,
that the consumer has a reasonable
ability to repay the combined payments
of all loans on the same dwelling
according to the terms of those loans
and all applicable taxes, insurance
(including mortgage guarantee
insurance), and assessments,’’ because
these statutory requirements are
addressed in the repayment ability
provisions in proposed § 226.43(c)(2)(iv)
and (v), which are discussed more fully
below.
Proposed comment 43(b)(12)–1
clarifies that the definition of
‘‘simultaneous loan’’ includes any loan
that meets the definition, whether made
by the same creditor or a third-party
creditor, and provides an illustrative
example of this principle. This
proposed comment assumes a consumer
will enter into a legal obligation that is
a covered transaction with Creditor A.
Immediately prior to consummation of
the covered transaction with Creditor A,
the consumer opens a HELOC that is
secured by the same dwelling with
Creditor B. This proposed comment
explains that for purposes of this
section, the loan extended by Creditor B
is a simultaneous loan. To facilitate
compliance, the comment would crossreference to § 226.43(c)(2)(iv) and (c)(6)
and associated commentary for further
discussion of the requirement to
consider the consumer’s payment
obligation on any simultaneous loan for
purposes of determining the consumer’s
ability to repay the covered transaction
subject to this section.
Proposed comment 43(b)(12)–2
further clarifies the meaning of the term
‘‘same consumer, and explains that for
purposes of the definition of
‘‘simultaneous loan,’’ the term ‘‘same
consumer’’ includes any consumer, as
that term is defined in § 226.2(a)(11),
that enters into a loan that is a covered
transaction and also enters into another
loan (e.g., second-lien covered
transaction or HELOC) secured by the
same dwelling. This comment further
explains that where two or more
consumers enter into a legal obligation
that is a covered transaction, but only
one of them enters into another loan
secured by the same dwelling, the ‘‘same
consumer’’ includes the person that has
entered into both legal obligations. This
proposed comment provides the
following illustrative example: Assume
Consumer A and Consumer B will both
enter into a legal obligation that is a
covered transaction with a creditor.

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Immediately prior to consummation of
the covered transaction, Consumer B
opens a HELOC that is secured by the
same dwelling with the same creditor;
Consumer A is not a signatory to the
HELOC. For purposes of the definition
of ‘‘simultaneous loan,’’ Consumer B is
the same consumer and the creditor
must include the HELOC as a
simultaneous loan. The Board believes
this comment reflects statutory intent to
include any loan that could impact the
consumer’s ability to repay the covered
transaction according to its terms (i.e.,
to require the creditor to consider the
combined payment obligations of the
consumer(s) obligated to repay the
covered transaction). See TILA
129C(a)(2).
The term ‘‘simultaneous loan’’ appears
in the following provisions: (1)
Proposed § 226.43(c)(2)(iv), which
implements the requirement under
TILA § 129C(a)(2) that a creditor
consider a consumer’s monthly payment
obligation on a simultaneous loan that
the creditor ‘‘knows or has reason to
know’’ will be made to the consumer; (2)
proposed § 226.43(c)(6), which
addresses the payment calculations for
a simultaneous loan for purposes of
proposed § 226.43(c)(2)(iv); and (3)
proposed Alternative 2—
§ 226.43(e)(2)(v)(C), which requires the
creditor to consider a simultaneous loan
as a condition to meeting the definition
of a qualified mortgage.
43(b)(13) Third-Party Record
TILA Section 129C(a)(1) requires that
creditors determine a consumer’s
repayment ability using ‘‘verified and
documented information,’’and TILA
Section 129C(a)(4) specifically requires
verifying a consumer’s income or assets
relied on to determine repayment ability
using a consumer’s tax return or ‘‘thirdparty documents’’ that provide
reasonably reliable evidence of the
consumer’s income or assets, as
discussed in detail below in the sectionby-section analysis of proposed
§ 226.43(c)(3) and (4). The Board
believes that in general creditors should
rely on reasonably reliable records
prepared by a third party to verify
repayment ability under TILA Section
129C(a), consistent with verification
requirements under the Board’s 2008
HOEPA Final Rule. See
§ 226.34(a)(4)(ii). However, the Board
believes that in some cases a record
prepared by the creditor for a covered
transaction can provide reasonably
reliable evidence of a consumer’s
repayment ability, such as a creditor’s
records regarding a consumer’s savings
account held by the creditor or
employment records for a consumer

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
employed by the creditor. Further, TILA
Section 129C(a)(4) allows creditors to
use a consumer-prepared tax return to
verify the consumer’s income or assets.
Proposed § 226.43(b)(13) therefore
would define the term ‘‘third-party
records’’ to include certain records
prepared by the consumer or creditor,
for consistency and simplicity in
implementing verification requirements
under TILA Sections 129C(a)(1) and (4).
Proposed § 226.43(b)(13) provides that
‘‘third-party record’’ means: (1) A
document or other record prepared or
reviewed by a person other than the
consumer, the creditor, any mortgage
broker, as defined in § 226.36(a)(2), or
any agent of the creditor or mortgage
broker; (2) a copy of a tax return filed
with the Internal Revenue Service or a
state taxing authority; (3) a record the
creditor maintains for an account of the
consumer held by the creditor; or (4) if
the consumer is an employee of the
creditor or the mortgage broker, a
document or other record regarding the
consumer’s employment status or
income. See proposed
§ 226.43(b)(13)(i)–(iv).
Proposed comment 43(b)(13)–1
clarifies that third party records include
records transmitted or viewed
electronically, for example, a credit
report prepared by a consumer reporting
agency and transmitted or viewed
electronically. Proposed comment
43(b)(13)–2 explains that a third-party
record includes a form a creditor
provides to a third party for providing
information, even if the creditor
completes parts of the form unrelated to
the information sought. Proposed
comment 43(b)(13)–2 provides an
example where the creditor gives the
consumer’s employer a form for
verifying the consumer’s employment
status and income and clarifies that the
creditor may fill in the creditor’s name
and other portions of the form unrelated
to the consumer’s employment status or
income. Proposed comment
43(b)(13)(i)–1 clarifies that a third-party
record includes a document or other
record prepared by the consumer, the
creditor, the mortgage broker, or an
agent of the creditor or mortgage broker,
if the record is reviewed by a third
party. For example, a profit-and-loss
statement prepared by a self-employed
consumer and reviewed by a third-party
accountant is a third-party record under
§ 226.43(b)(13)(i). Finally, proposed
comment 43(b)(13)(iii)–1 clarifies that a
third-party record includes a record the
creditor maintains for an account of the
consumer held by the creditor, and
provides the examples of checking
accounts, savings accounts, and
retirement accounts. Proposed comment

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43(b)(13)(iii)–1 also provides the
example of a creditor’s records for an
account related to a consumer’s
outstanding obligations to the creditor,
such as the creditor’s records for a firstlien mortgage to a consumer who
applies for a subordinate-lien home
equity loan.
43(c) Repayment Ability
TILA Section 129C(a)(1) provides that
no creditor may make a residential
mortgage loan unless the creditor makes
a reasonable and good faith
determination that, at the time the loan
is consummated, the consumer has a
reasonable ability to repay the loan
according to its terms and all applicable
taxes, insurance, and assessments. TILA
Section 129C(a)(2) provides that if a
creditor knows or has reason to know
that one or more residential mortgage
loans secured by the dwelling that
secures the covered transaction will be
made to the same consumer, the creditor
must make a reasonable and good faith
determination that the consumer has a
reasonable ability to repay the other
loan(s) and all taxes, insurance, and
assessments applicable to the other
loan(s). TILA Section 129C(a)(3)
provides that to determine the
consumer’s repayment ability creditors
must consider: The consumer’s (1)
credit history; (2) current income and
reasonably expected income; (3) current
obligations; (4) debt-to-income ratio or
the residual income the consumer will
have after paying non-mortgage debt
and mortgage-related obligations; (5)
employment status; and (6) financial
resources other than the consumer’s
equity in the dwelling that secures
repayment of the loan. Further, creditors
must base their determination of the
consumer’s repayment ability on
verified and documented information.
Finally, TILA Section 129C(a)(3)
provides that creditors must use a
payment schedule that fully amortizes
the loan over the loan term in
determining the consumer’s repayment
ability. These TILA provisions are
substantially similar to the repayment
ability requirements under the Board’s
2008 HOEPA Final Rule. See
§ 226.34(a)(4), 226.35(b)(1).
Proposed § 226.43(c) would
implement TILA Section 129C(a)(1)–(3)
and is substantially similar to those
provisions. Specifically, proposed
§ 226.43(c) provides that a creditor:
• Must not make a covered transaction
unless the creditor makes a
reasonable and good faith
determination at or before
consummation that the consumer
will have a reasonable ability, at the

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time of consummation, to repay the
loan according to its terms,
including any mortgage-related
obligations;
• Must make the repayment ability
determination by considering the
consumer’s:
Æ Current or reasonably expected
income or assets other than the
value of the dwelling, or of any real
property to which the dwelling is
attached, that secures the loan;
Æ Employment status, if the creditor
relies on income from the
consumer’s employment in
determining repayment ability;
Æ Monthly payment on the covered
transaction;
Æ Monthly payment on any
simultaneous loan that the creditor
knows or has reason to know will
be made;
Æ Monthly payment for mortgagerelated obligations;
Æ Current debt obligations;
Æ Monthly debt-to-income ratio or
residual income; and
Æ Credit history; and
• Must verify a consumer’s repayment
ability using reasonably reliable
third-party records.
Proposed comment 43(c)–1 clarifies
that, to evaluate a consumer’s
repayment ability, creditors may look to
widely accepted governmental or nongovernmental underwriting standards,
such as the Federal Housing
Administration’s Handbook on
Mortgage Credit Analysis for Mortgage
Insurance on One-to-Four Unit Mortgage
Loans. Proposed comment 43(c)–1
states, for example, that creditors may
use such standards in determining: (1)
Whether to classify particular inflows,
obligations, or property as ‘‘income,’’
‘‘debt,’’ or ‘‘assets’’; (2) factors to consider
in evaluating the income of a selfemployed or seasonally-employed
consumer; and (3) factors to consider in
evaluating the credit history of a
consumer who has obtained few or no
extensions of traditional ‘‘credit,’’ as
defined in § 226.2(a)(14). Proposed
comment 43(c)–1 is consistent with, but
broader than, current commentary on
determining a consumer’s debt-toincome ratio to meet the presumption of
compliance with the repayment ability
requirement of the Board’s 2008 HOEPA
Final Rule. See § 226.34(a)(4)(iii)(C),
226.35(b)(1). Currently, comment
34(a)(4)(iii)(C)–1 states that creditors
may look to widely accepted
underwriting standards to determine
whether to classify particular inflows or
obligations as ‘‘income’’ or ‘‘debt.’’
The Board’s proposed rule provides
flexibility in underwriting standards so

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that creditors may adapt their
underwriting processes to a consumer’s
particular circumstances, such as to the
needs of self-employed consumers and
consumers heavily dependent on
bonuses and commissions, consistent
with the Board’s 2008 HOEPA Final
Rule. See 73 FR 44522, 44547, July 30,
2008. For example, the proposed rule
does not prescribe: How many years of
tax returns or other information a
creditor must consider to determine the
consumer’s repayment ability; which
income figure on tax returns creditors
must use; the elements of credit history
to be considered, such as late payments
or bankruptcies; the way in which to
verify credit history, such as by using a
tri-merge report or records of rental
payments; or a specific maximum debtto-income ratio or the compensating
factors to allow a consumer to exceed
such a ratio. The Board believes such
flexibility is necessary because the rule
would cover such a wide variety of
consumers and mortgage products.
Removal of § 226.34(a)(4) and
226.35(b)(1). Repayment ability
requirements under TILA Section
129C(a) apply to all dwelling-secured
consumer credit transactions, other than
HELOCs, reverse mortgages, temporary
or ‘‘bridge’’ loans with a loan term of 12
months or less, and timeshare
transactions, as discussed in detail
above in the section-by-section analysis
of proposed § 226.43(a). Accordingly,
the Board proposes to implement TILA
Section 129C in a new § 226.43 and
remove requirements to consider
repayment ability for high-cost
mortgages under § 226.34(a)(4) and for
higher-priced mortgage loans under
§ 226.35(b)(1), as discussed in detail
above in the section-by-section analysis
of § 226.34 and 226.35.
43(c)(1) General Requirement
Proposed § 226.43(c)(1) would
implement TILA Section 129C(a)(1) and
provides that no creditor may make a
covered transaction unless the creditor
makes a reasonable and good faith
determination at or before
consummation that the consumer will
have a reasonable ability, at the time of
consummation, to repay the covered
transaction according to its terms,
including any mortgage-related
obligations. Proposed comment
43(c)(1)–1 clarifies that a change in the
consumer’s circumstances after
consummation (for example, a
significant reduction in income due to
a job loss or a significant obligation
arising from a major medical expense)
that is not reflected in the consumer’s
application or the records used to
determine repayment ability is not

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relevant to determining a creditor’s
compliance with the rule. However,
proposed comment 43(c)(1)–1 states
further that if such application or
records state there will be a change in
the consumer’s repayment ability after
consummation (for example, if a
consumer’s application states that the
consumer plans to retire within twelve
months without obtaining new
employment or transition from full-time
to part-time employment), the creditor
must consider that information.
Proposed comment 43(c)(1)–1 is
substantially similar to current
comment 34(a)(4)–5 adopted by the
Board’s 2008 HOEPA Final Rule.
Proposed comment 43(c)(1)–2 clarifies
that proposed § 226.43(c)(1) does not
require or permit the creditor to make
inquiries prohibited by Regulation B, 12
CFR part 202, consistent with current
comment 34(a)(4)–7 adopted by the
Board’s 2008 HOEPA Final Rule.
43(c)(2) Basis for Determination
TILA Section 129C(a)(3) provides that
to determine a consumer’s repayment
ability, creditors must consider a
consumer’s credit history, current and
reasonably expected income, current
obligations, debt-to-income ratio or the
residual income the consumer will have
after paying non-mortgage debt and
mortgage-related obligations,
employment status, and ‘‘financial
resources’’ other than the consumer’s
equity in the dwelling or real property
that secures repayment of the loan.
TILA Section 129C(a)(3) also provides
that creditors must determine
repayment ability using a repayment
schedule that fully amortizes the loan
over the loan term. Proposed
§ 226.43(c)(2) would implement the
requirement to consider specific factors
in determining repayment ability.
Proposed § 226.43(c)(2) is substantially
similar to TILA Section 129C(a)(3),
except for some minor terminology
changes, as discussed below.
43(c)(2)(i) Income or Assets
TILA Section 129C(a)(3) provides that
in making the repayment ability
determination, creditors must consider,
among other factors, a consumer’s
current income, reasonably expected
income, and ‘‘financial resources’’ other
than the consumer’s equity in the
dwelling or real property that secures
loan repayment. Furthermore, under
TILA Section 129C(a)(9), creditors may
consider the seasonality or irregularity
of a consumer’s income in determining
repayment ability.
Proposed § 226.43(c)(2)(i) generally
mirrors TILA Section 129C(a)(3) but
differs in two respects. First, proposed

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§ 226.43(c)(2)(i) uses the term ‘‘assets’’
rather than ‘‘financial resources,’’ to
conform with terminology used in other
provisions under TILA Section 129C(a)
and Regulation Z. See, e.g. TILA Section
129C(a)(4) (requiring that creditors
consider a consumer’s assets in
determining repayment ability);
§ 226.51(a) (requiring consideration of a
consumer’s assets in determining a
consumer’s ability to repay a credit
extension under a credit card account).
The Board believes the terms ‘‘financial
resources’’ and ‘‘assets’’ are synonymous
as used in TILA Section 129C(a), and
the term ‘‘assets’’ is used throughout the
proposal for consistency.
Second, proposed § 226.43(c)(2)(i)
provides that creditors may not look to
the value of the dwelling that secures
the covered transaction, instead of
providing that creditors may not look to
the consumer’s equity in the dwelling.
The Board believes that TILA Section
129C(a)(3) is intended to address the
risk that creditors will consider the
amount that could be obtained through
a foreclosure sale of the dwelling, which
may exceed the amount of the
consumer’s equity in the dwelling. This
approach is consistent with the Board’s
2008 HOEPA Final Rule, which
prohibits a creditor from extending
credit ‘‘based on the value of the
consumer’s collateral.’’ See
§ 226.34(a)(4), 226.35(b)(1). The Board
proposes this adjustment pursuant to its
authority under TILA Section 105(a),
which provides that the Board’s
regulations may contain such additional
requirements, classifications,
differentiations, or other provisions, and
may provide for such adjustments and
exceptions for all or any class of
transactions as in the Board’s judgment
are necessary or proper to effectuate the
purposes of TILA, prevent
circumvention or evasion thereof, or
facilitate compliance therewith. 15
U.S.C. 1604(a). This approach is further
supported by the Board’s authority
under TILA Section 129B(e) to
condition terms, acts or practices
relating to residential mortgage loans
that the Board finds necessary or proper
to effectuate the purposes of TILA. 15
U.S.C. 1639b(e). One of the purposes of
TILA is to ‘‘assure that consumers are
offered and receive residential mortgage
loan on terms that reasonably reflect
their ability to repay the loans.’’ TILA
Section 129B(a)(2); 15 U.S.C.
1629b(a)(2). The Board believes
providing that creditors may not
consider the value of the dwelling is
proper to effectuate the purposes of
TILA Section 129C(a) that creditors
extend credit based on the consumer’s

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repayment ability rather than on the
dwelling’s foreclosure value. See TILA
Section 129B(a)(2).
Proposed comment 43(c)(2)(i)–1
clarifies that creditors may base a
determination of repayment ability on
current or reasonably expected income
from employment or other sources,
assets other than the dwelling that
secures the covered transaction, or both.
Proposed comment 43(c)(2)(i)–2 crossreferences proposed comment 43(a)–2 to
clarify that the value of the dwelling
includes the value of the real property
to which the dwelling is attached, if the
real property also secures the covered
transaction. Proposed comment
43(c)(2)(i)–1 also provides examples of
types of income the creditor may
consider, including salary, wages, selfemployment income, military or reserve
duty income, tips, commissions, and
retirement benefits; and examples of
assets the creditor may consider,
including funds in a savings or checking
account, amounts vested in a retirement
account, stocks, and bonds. The
proposed comment is substantially
similar to comment 34(a)(4)–6 adopted
by the Board’s 2008 HOEPA Final Rule,
but adds additional examples of income
and assets to facilitate compliance.
Proposed comment 43(c)(2)(i)–2 clarifies
that if a creditor bases its determination
of repayment ability entirely or in part
on a consumer’s income, the creditor
need consider only the income
necessary to support a determination
that the consumer can repay the covered
transaction. For example, if a consumer
earns income from a full-time job and a
part-time job and the creditor
reasonably determines that the
consumer’s income from a full-time job
is sufficient to repay the covered
transaction, the creditor need not
consider the consumer’s income from
the part-time job. Further, the creditor
need verify only the income (and assets)
relied on to determine the consumer’s
repayment ability, as discussed below in
the section-by-section analysis of
proposed § 226.43(c)(4). Proposed
comment 43(c)(2)(i)–2 cross-references
proposed comment 43(c)(4)–1, which is
substantially similar to current
comment 34(a)(4)(ii)–1, adopted by the
Board’s 2008 HOEPA Final Rule.
Expected income. TILA Section
129C(a) provides that creditors must
consider a consumer’s current and
reasonably expected income to
determine repayment ability. This is
consistent with current § 226.34(a)(4),
but commentary on § 226.34(a)(4)
clarifies that creditors need consider a
consumer’s reasonably expected income
only if the creditor relies on such
income in determining repayment

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ability. See comments 34(a)(4)(ii)–1, –3.
The Board believes that the requirement
to consider a consumer’s reasonably
expected income under TILA Section
129C(a) should be interpreted consistent
with current § 226.34(a)(4), in light of
the substantial similarity between the
provisions. Accordingly, proposed
§ 226.43(c)(2)(i) provides that creditors
must consider a consumer’s current
income or reasonably expected income.
Proposed comment 43(c)(2)(i)–3 clarifies
that the creditor may rely on the
consumer’s reasonably expected income
either in addition to or instead of
current income.
Proposed comment 43(c)(2)(i)–3
further clarifies that if creditors rely on
expected income, the expectation that
the income will be available for
repayment must be reasonable and
verified with third-party records that
provide reasonably reliable evidence of
the consumer’s expected income.
Proposed comment 43(c)(2)(i)–3 also
gives examples of expected bonuses
verified with documents demonstrating
past bonuses, and expected salary from
a job verified with a written statement
from an employer stating a specified
salary, consistent with current comment
34(a)(4)(ii)–3 adopted by the Board’s
2008 HOEPA Final Rule. As the Board
stated in connection with the 2008
HOEPA Final Rule, in some cases a
covered transaction may have a likely
payment increase that would not be
affordable at the borrower’s income at
the time of consummation. A creditor
may be able to verify a reasonable
expectation of an increase in the
borrower’s income that will make the
higher payment affordable to the
borrower. See 73 FR 44522, 44544, July
30, 2008.
Seasonal or irregular income. TILA
Section 129C(a)(9) provides that
creditors may consider the seasonality
or irregularity of a consumer’s income
in determining repayment ability.
Accordingly, proposed comment
43(c)(2)(i)–4 clarifies that a creditor
reasonably may determine that a
consumer can make periodic loan
payments even if the consumer’s
income, such as self-employment
income, is seasonal or irregular.
Proposed comment 43(c)(2)(i)–4 states,
for example, that if the creditor
determines that the income a consumer
receives a few months each year from
selling crops is sufficient to make
monthly loan payments when divided
equally across 12 months, the creditor
reasonably may determine that the
consumer can repay the loan, even
though the consumer may not receive
income during certain months.
Comment 43(c)(2)(i)–4 is consistent

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with current comment 34(a)(4)–6
adopted by the Board’s 2008 HOEPA
Final Rule but provides an example of
seasonal or irregular income that is not
employment income.
43(c)(2)(ii) Employment Status
TILA Section 129C(a)(3) requires that
creditors consider a consumer’s
employment status in determining the
consumer’s repayment ability, among
other requirements. Proposed
§ 226.43(c)(2)(ii) implements this
requirement and clarifies that creditors
need consider a consumer’s
employment status only if they rely on
income from the consumer’s
employment in determining repayment
ability. Proposed comment 43(c)(2)(ii)–1
states, for example, that if a creditor
relies wholly on a consumer’s
investment income to determine the
consumer’s repayment ability, the
creditor need not verify the consumer’s
employment status. Proposed comment
43(c)(2)(ii)–1 clarifies that employment
may be full-time, part-time, seasonal,
irregular, military, or self-employment.
This comment is consistent with current
comment 34(a)(4)–6 adopted by the
Board’s 2008 HOEPA Final Rule.
Employment status of military
personnel. Creditors in general must
verify information relied on to
determine repayment ability using
reasonably reliable third-party records
but may verify employment status orally
as long as they prepare a record of the
oral information, as discussed below in
the section-by-section analysis of
proposed § 226.43(c)(3)(ii). Proposed
comment 43(c)(2)(ii)–2 clarifies that
creditors also may verify the
employment status of military personnel
using the electronic database
maintained by the Department of
Defense (DoD) to facilitate identification
of consumers covered by credit
protections provided pursuant to 10
U.S.C. 987, also known as the ‘‘Talent
Amendment.’’ 41 The Board solicits
comment on whether additional
flexibility in verifying the employment
status of military personnel is necessary
to facilitate compliance and whether
comment 43(c)(2)(ii)–2 also should state
that creditors may verify the
employment status of a member of the
military using a Leave and Earnings
Statement. Is a Leave and Earnings
Statement as reliable a means of
41 The Talent Amendment is contained in the
John Warner National Defense Authorization Act.
See Public Law 109–364, 120 Stat. 2083, 2266, Oct.
17, 2006; see also 72 FR 50580, 5088, Aug. 31, 2007
(discussing the DoD database in a final rule
implementing the Talent Amendment). Currently,
the DoD database is available at https://
www.dmdc.osd.mil/appj/mla/.

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verifying the employment status of
military personnel as using the
electronic database maintained by the
DoD? Is a Leave and Earnings Statement
equally reliable for determining
employment status for a civilian
employee of the military as for a service
member?
The Board solicits comment on this
approach, and on whether there are
other specific employment situations for
which additional guidance should be
provided.

jlentini on DSKJ8SOYB1PROD with PROPOSALS2

43(c)(2)(iii) Monthly Payment on the
Covered Transaction
Proposed § 226.43(c)(2)(iii) would
implement the requirements under
TILA Section 129C(a)(1) and (3), in part,
by requiring that the creditor consider
the consumer’s monthly payment on the
covered transaction, calculated in
accordance with proposed § 226.43(c)(5)
for purposes of determining the
consumer’s repayment ability on a
covered transaction. See proposed
§ 226.43(c)(5) for a discussion of the
proposed payment calculation
requirements. Proposed comment
43(c)(2)(iii)–1 would clarify that for
purposes of the repayment ability
determination, the creditor must
consider the consumer’s monthly
payment on a covered transaction that is
calculated as required under proposed
§ 226.43(c)(5), taking into account any
mortgage-related obligations. This
comment would also provide a crossreference to proposed § 226.43(b)(8) for
the meaning of the term ‘‘mortgagerelated obligations.’’
43(c)(2)(iv) Simultaneous Loans
Proposed § 226.43(c)(2)(iv) requires
that the creditor consider the
consumer’s monthly payment obligation
on any simultaneous loan that the
creditor knows or has reason to know
will be made to the consumer. Proposed
§ 226.43(c)(2)(iv) also requires that the
consumer’s monthly payment obligation
on the simultaneous loan be calculated
in accordance with proposed
§ 226.43(c)(6), which is discussed
below. Proposed § 226.43(c)(2)(iv)
implements TILA Section 129C(a)(2),
which provides that ‘‘if a creditor
knows, or has reason to know, that 1 or
more residential mortgage loans secured
by the same dwelling will be made to
the same consumer, the creditor shall
make a reasonable and good faith
determination, based on verified and
documented information, that the
consumer has a reasonable ability to
repay the combined payments of all
loans on the same dwelling according to
the terms of those loans and all
applicable taxes, insurance (including

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mortgage guarantee insurance), and
assessments.’’ As discussed under
proposed § 226.43(b)(12), the Board is
proposing to use its authority under
TILA Sections 105(a) and 129B(e) to
broaden the scope of TILA Section
129C(a)(2) to include HELOCs, and
define the term ‘‘simultaneous loan’’
accordingly, for purposes of the
requirements under proposed
§ 226.43(c)(2)(iv) and (c)(6). 15 U.S.C.
1604(a).
Proposed comment 43(c)(2)(iv)–1
clarifies that for purposes of the
repayment ability determination, a
simultaneous loan includes any covered
transaction or HELOC that will be made
to the same consumer at or before
consummation of the covered
transaction and secured by the same
dwelling that secures the covered
transaction. This comment explains that
a HELOC that is a simultaneous loan
that the creditor knows or has reason to
know about must be considered as a
mortgage obligation in determining a
consumer’s ability to repay the covered
transaction, even though the HELOC is
not a covered transaction subject to
§ 226.43. To facilitate compliance, this
comment cross-references proposed
§ 226.43(a), which discusses the scope
of the ability-to-repay provisions,
proposed § 226.43(b)(12) for the
meaning of the term ‘‘simultaneous
loan,’’ and proposed comment
43(b)(12)–2 for further explanation of
the term ‘‘same consumer.’’
Proposed comment 43(c)(2)(iv)–2
provides additional guidance regarding
the standard ‘‘knows or has reason to
know’’ for purposes of proposed
§ 226.43(c)(2)(iv) and explains that, for
example, where a covered transaction is
a home purchase loan, the creditor must
consider the consumer’s periodic
payment obligation for any ‘‘piggyback’’
second-lien loan that the creditor knows
or has reason to know will be used to
finance part of the consumer’s down
payment. This comment would provide
that the creditor complies with this
requirement where, for example, the
creditor follows policies and procedures
that show at or before consummation
that the same consumer has applied for
another credit transaction secured by
the same dwelling.
This proposed comment would
provide the following illustrative
example: Assume a creditor receives an
application for a home purchase loan
where the requested loan amount is less
than the home purchase price. The
creditor’s policies and procedures
require the consumer to state the source
of the downpayment. If the creditor
determines the source of the
downpayment is another extension of

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credit that will be made to the same
consumer at consummation and secured
by the same dwelling, the creditor
knows or has reason to know of the
simultaneous loan and must consider
the simultaneous loan. Alternatively, if
the creditor has information that
suggests the downpayment source is the
consumer’s income or existing assets,
the creditor would be under no further
obligation to determine whether a
simultaneous loan will be extended at
or before consummation of the covered
transaction.
Proposed comment 43(c)(2)(iv)–3
clarifies the scope of timing and the
meaning of the phrase ‘‘at or before
consummation’’ with respect to
simultaneous loans that the creditor
must consider for purposes of proposed
§ 226.43(c)(2)(iv). This comment would
explain that a simultaneous loan
includes a loan that comes into
existence concurrently with the covered
transaction subject to proposed
§ 226.43(c). The comment would further
state that, in all cases, a simultaneous
loan does not include a credit
transaction that occurs after
consummation of the covered
transaction subject to proposed
§ 226.43(c).
Proposed comment 43(c)(2)(iv)–4
provides further guidance regarding
verification of simultaneous loans. This
comment would state that although a
credit report may be used to verify
current obligations, it will not reflect a
simultaneous loan that has not yet been
consummated or has just recently been
consummated. This comment would
explain that if the creditor knows or has
reason to know that there will be a
simultaneous loan extended at or before
consummation, the creditor may verify
the simultaneous loan by obtaining
third-party verification from the thirdparty creditor of the simultaneous loan.
The comment would provide, as an
example, that the creditor may obtain a
copy of the promissory note or other
written verification from the third-party
creditor in accordance with widely
accepted governmental or nongovernmental standards. To facilitate
compliance, the comment would crossreference proposed comments 43(c)(3)–
1 and –2, which discuss verification
using third-party records. Based on
outreach, the Board believes it is
feasible for creditors to obtain copies of
promissory notes or other written
verification from third-party creditors,
but solicits comment on other examples
the Board could provide to facilitate
creditors’ compliance with the proposed
verification requirement with respect to
simultaneous loans.

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The Board notes that proposed
§ 226.43(c)(2)(iv) requires creditors to
consider a simultaneous loan when
assessing the consumer’s ability to repay
a covered transaction, regardless of
whether the simultaneous loan is made
in connection with a purchase or nonpurchase covered transaction (i.e.,
refinancing). As discussed more fully
below under proposed § 226.43(c)(6),
which addresses payment calculation
requirements for simultaneous loans,
the Board recognizes that in the case of
a non-purchase transaction, a
simultaneous loan that is a HELOC is
unlikely to be originated and drawn
upon to provide payment towards the
first-lien loan being refinanced, except
perhaps towards closing costs. The
Board is soliciting comment on whether
it should narrow the requirement to
consider simultaneous loans that are
HELOCs to apply only to purchase
transactions. See discussion under
proposed § 226.43(c)(6) regarding
payment calculations for simultaneous
loans.
43(c)(2)(v) Mortgage-Related Obligations
Proposed § 226.43(c)(2)(v) implements
the requirement under TILA Sections
129C(a)(1)–(3) that the creditor
determine a consumer’s repayment
ability taking into account the
consumer’s monthly payment for any
mortgage-related obligations, based on
verified and documented information as
required under proposed § 226.43(c)(3).
TILA Sections 129C(a)(1) and (2) require
that the creditor determine a consumer’s
repayment ability on a covered
transaction based on verified and
documented information, ‘‘according to
[the loans’s] terms, and all applicable
taxes, insurance (including mortgage
guarantee insurance), and assessments.’’
TILA Section 129C(a)(3) further requires
that a consumer’s debt-to-income ratio
be considered as part of the repayment
ability determination after allowing for
‘‘non-mortgage debt and mortgagerelated obligations.’’ The Dodd-Frank
Act does not define the term ‘‘mortgagerelated obligations.’’ As discussed in
proposed § 226.43(b)(8), the Board
proposes to use the term ‘‘mortgagerelated obligations’’ to refer to ‘‘all
applicable taxes, insurance (including
mortgage guarantee insurance), and
assessments.’’ Proposed § 226.43(b)(8)
would define the term ‘‘mortgage-related
obligations’’ to mean property taxes;
mortgage-related insurance premiums
required by the creditor as set forth in
proposed § 226.45(b)(1); 42 homeowner
association, condominium, and
42 See 2011 Escrow Proposal, 76 FR 11598, 11621,
Mar. 2, 2011.

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cooperative fees; ground rent or
leasehold payments; and special
assessments.
Proposed § 226.43(c)(2)(v) is generally
consistent with the requirement under
current § 226.34(a)(4) of the Board’s
2008 HOEPA Final Rule that the
creditor include mortgage-related
obligations when determining the
consumer’s repayment ability on the
loan, except that § 226.34(a)(4) does not
extend the verification requirement to
mortgage-related obligations. In
contrast, under proposed § 226.43(c)(3)
creditors would need to verify mortgagerelated obligations for purposes of the
repayment ability determination. See
proposed § 226.43(c)(3) and associated
commentary discussing the verification
requirement generally.
Proposed comment 43(c)(2)(v)–1
states that the creditor must include in
its repayment ability assessment the
consumer’s mortgage-related
obligations, such as the expected
property taxes and premiums for
mortgage-related insurance required by
the creditor as set forth in proposed
§ 226.45(b)(1). This comment would
clarify, however, that creditors need not
include mortgage-related insurance
premiums that the creditor does not
require, such as credit insurance or fees
for optional debt suspension and debt
cancellation agreements. This comment
would also explain that mortgagerelated obligations must be included in
the creditor’s determination of
repayment ability regardless of whether
the amounts are included in the
monthly payment or whether there is an
escrow account established. To facilitate
compliance, this comment would crossreference proposed § 226.43(b)(8) for the
meaning of the term ‘‘mortgage-related
obligations.’’
As discussed more fully below under
proposed § 226.43(c)(5), the Dodd-Frank
Act provisions require creditors to
determine the consumer’s ability to
repay based on monthly payments,
taking into account mortgage-related
obligations. However, the Board
recognizes that creditors will need to
convert mortgage-related obligations
that are not monthly to pro rata monthly
amounts to comply with this proposed
requirement. Thus, proposed comment
43(c)(2)(v)–2 clarifies that, in
considering mortgage-related obligations
that are not paid monthly, the creditor
may look to widely accepted
governmental or non-governmental
standards in determining the pro rata
monthly payment amount. The Board
solicits comment on operational
difficulties creditors may encounter
when complying with this ‘‘monthly’’

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requirement, and whether additional
guidance is necessary.
Proposed comment 43(c)(2)(v)–3
explains that estimates of mortgagerelated obligations should be based
upon information that is known to the
creditor at the time the creditor
underwrites the mortgage obligation.
This comment would further explain
that information is known if it is
‘‘reasonably available’’ to the creditor at
the time of underwriting the loan, and
would cross-reference current comment
17(c)(2)(i)–1 for the meaning of
‘‘reasonably available.’’ The Board
believes it is appropriate to permit
creditors to use estimates of mortgagerelated obligations because actual
amounts may be unknown at the time of
underwriting. For example, outreach
participants confirmed that the current
underwriting practice is to use estimates
of property taxes because actual
property tax amounts are typically
unknown until consummation.
Proposed comment 43(c)(2)(v)–3 further
clarifies that for purposes of proposed
§ 226.43(c), the creditor would not need
to project potential changes, such as by
estimating possible increases in taxes
and insurance.
Proposed comment 43(c)(2)(v)–4
states that creditors must make the
repayment ability determination
required under proposed § 226.43(c)
based on information verified from
reasonably reliable records. This
comment would explain that guidance
regarding verification of mortgagerelated obligations can be found in
proposed comments 43(c)(3)–1 and –2,
which discuss verification using thirdparty records. The Board solicits
comment on any special concerns
regarding the requirement to document
certain mortgage-related obligations,
such as for ground rent or leasehold
payments, or special assessments. The
Board also solicits comment on whether
it should provide, by way of example,
that the HUD–1 or 1A, or a successor
form, can serve as verification of certain
mortgage-related obligations reflected
therein (e.g., title insurance), where a
legal obligation exists to complete the
HUD–1 or 1A accurately. See 24 CFR
3500.1 et seq. of Regulation X, which
implements the Real Estate Settlement
Procedures Act (RESPA), 15 U.S.C. 2601
et seq.
43(c)(2)(vi) Current Debt Obligations
TILA Section 129C(a)(1) and (3)
requires creditors to consider and verify
‘‘current obligations’’ as part of the
repayment ability determination. This
new TILA provision is consistent with
the 2008 HOEPA Final Rule, which
prohibits creditors from extending

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credit without regard to a consumer’s
repayment ability, including a
consumer’s current obligations, and
requires creditors to verify the
consumer’s current obligations. Sections
226.34(a)(4) and (a)(4)(ii)(C),
226.35(b)(1). In addition, current
comment 34(a)(4)(iii)(C)–1 provides that
creditors may look to widely accepted
governmental and non-governmental
underwriting standards in defining
‘‘debt,’’ including, for example, those set
forth in the Federal Housing
Administration’s (FHA) handbook on
Mortgage Credit Analysis for Mortgage
Insurance on One- to Four-Unit
Mortgage Loans. Finally, current
comment 34(a)(4)(ii)(C)–1 provides that
a credit report may be used to verify
current obligations. If, however, a credit
report does not reflect an obligation that
a consumer has listed on an application,
then the creditor is responsible for
considering the obligation, but is not
required to verify the existence or
amount of the obligation through
another source. If a creditor nevertheless
verifies an obligation, the creditor must
consider the obligation based on the
information from the verified source.
Proposed § 226.43(c)(2)(vi)
implements TILA Section 129C(a)(1)
and (3) and requires creditors to
consider the consumer’s current debt
obligations as part of the repayment
ability determination. As discussed
below, proposed § 226.43(c)(3)
implements TILA Section 129C(a)(1) by
requiring that a creditor verify a
consumer’s repayment ability, which
would include the consumer’s current
debt obligations.
Proposed comment 43(c)(2)(vi)–1
clarifies that creditors may look to
widely accepted governmental and nongovernmental underwriting standards in
determining how to define ‘‘current debt
obligations’’ and how to verify such
obligations. For example, a creditor
would be required to consider student
loans, automobile loans, revolving debt,
alimony, child support, and existing
mortgages. To verify current debt
obligations as required by § 226.43(c)(3),
a creditor would be permitted, for
instance, look to credit reports, student
loan statements, automobile loan
statements, credit card statements,
alimony or child support court orders,
and existing mortgage statements. This
approach would parallel the 2008
HOEPA Final Rule’s model for
consideration and verification of income
and would preserve flexibility for
creditors. The Board solicits comment
on this approach, and on whether more
specific guidance should be provided.
Proposed comment 43(c)(2)(vi)–2
states that if a credit report reflects a

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current debt obligation that a consumer
has not listed on the application, the
creditor must consider the obligation.
The credit report is deemed a
reasonably reliable third-party record
under § 226.43(b)(3). Consistent with
commentary to the 2008 HOEPA Final
Rule, the proposed comment further
provides that if a credit report does not
reflect a current debt obligation that a
consumer has listed on the application,
the creditor must consider the
obligation. However, the creditor need
not verify the existence or amount of the
obligation through another source, as
discussed in the section-by-section
analysis for § 226.43(c)(3) below. If a
creditor nevertheless verifies an
obligation, the creditor must consider
the obligation based on the information
from the verified source. The Board
solicits comment on the feasibility of
requiring creditors independently to
verify current debt obligations not
reflected in the credit report that a
consumer has listed on the application.
Such a requirement would be consistent
with TILA Section 129C(a)(1), which
requires the repayment ability
determination to be based on verified
information. On the other hand,
requiring creditors to verify these
obligations may result in increased
compliance and litigation costs without
offsetting benefits.
The Board solicits comment on three
additional issues. First, the Board
solicits comment on whether it should
provide additional guidance on
considering debt obligations that are
almost paid off. For example, some
underwriting standards limit the
consideration of current debt obligations
to recurring obligations extending 10
months or more, and recurring
obligations extending less than 12
months if they affect the consumer’s
repayment ability in the months
immediately after consummation.
Requiring creditors to consider debts
that are almost paid off would advance
safe and responsible lending, but may
unduly limit access to credit.
Second, the Board solicits comment
on whether it should provide additional
guidance on considering debt
obligations that are in forbearance or
deferral. For example, some
underwriting standards do not include
consideration of projected obligations
deferred for at least 12 months, in
particular student loans. Many
creditors, however, consider all
projected obligations. Permitting
creditors not to consider debt
obligations that are in forbearance or
deferral may further limit access to
credit, but may also run counter to safe
and responsible lending.

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Finally, the Board solicits comment
on whether it should provide guidance
on consideration and verification of
current debt obligations for joint
applicants. The Board also solicits
comment on whether the guidance
should differ for non-occupant joint
applicants and occupant joint
applicants.
43(c)(2)(vii) Debt-to-Income Ratio or
Residual Income
TILA Section 129C(a)(3) requires
creditors, as part of the repayment
ability determination, to consider the
debt-to-income ratio or the residual
income the consumer will have after
paying mortgage-related obligations and
current debt obligations. This new TILA
provision is consistent with the Board’s
2008 HOEPA Final Rule, in which a
creditor is presumed to have complied
with the repayment ability requirement
if, among other things, the creditor
‘‘assesses the consumer’s repayment
ability taking into account at least one
of the following: The ratio of total debt
obligations to income, or the income the
consumer will have after paying debt
obligations.’’ Section 226.34(a)(4)(iii)(C),
226.35(b)(1). In addition, comment
34(a)(4)(iii)(C)–1 provides that creditors
may look to widely accepted
governmental and non-governmental
underwriting standards in defining
‘‘income’’ and ‘‘debt,’’ including, for
example, those set forth in the Federal
Housing Administration’s (FHA)
handbook on Mortgage Credit Analysis
for Mortgage Insurance on One- to FourUnit Mortgage Loans.
Proposed § 226.43(c)(2)(vii)
implements TILA Section 129C(a)(3)
and requires creditors, as part of the
repayment ability determination, to
consider the consumer’s monthly debtto-income ratio, or residual income.
Proposed comment 43(c)(2)(vii)–1 crossreferences § 226.43(c)(7) regarding the
definitions and calculations for the
monthly debt-to-income ratio and
residual income.
Consistent with the 2008 HOEPA
Final Rule, TILA Section 129C(a)(3)
requires creditors to consider either the
consumer’s debt-to-income ratio or the
consumer’s residual income. As in the
2008 HOEPA Final Rule, the proposal
provides creditors flexibility to
determine whether using a debt-toincome ratio or residual income
increases a creditor’s ability to predict
repayment ability. If one of these
metrics alone holds as much predictive
power as the two together, as may be
true of certain underwriting models at
certain times, then requiring creditors to
use both metrics could reduce access to
credit without an offsetting increase in

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consumer protection. 73 FR 44550, July
30, 2008. Outreach conducted by Board
staff also indicates that residual income
appears not to be as widely used or
tested as the debt-to-income ratio.

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43(c)(2)(viii) Credit History
TILA Section 129C(a)(1) and (3)
requires creditors to consider and verify
credit history as part of the ability-torepay determination. Creditors must
accordingly assess willingness to repay
and not simply ability to repay. By
contrast, the 2008 HOEPA Final Rule
does not require consideration of credit
history.
Proposed § 226.43(c)(2)(vii)
implements TILA Section 129C(a)(3)
and requires creditors to consider the
consumer’s credit history as part of the
repayment ability determination. As
discussed below, proposed
§ 226.43(c)(3) implements TILA Section
129C(a)(1) by requiring that a creditor
verify a consumer’s repayment ability,
which would include the consumer’s
credit history.
Proposed comment 43(c)(2)(viii)–1
clarifies that creditors may look to
widely accepted governmental and nongovernmental underwriting standards to
define and verify ‘‘credit history.’’ For
example, a creditor may consider factors
such as the number and age of credit
lines, payment history, and any
judgments, collections, or bankruptcies.
To verify credit history as required by
§ 226.43(c)(3), a creditor may, for
instance, look to credit reports from
credit bureaus, or other nontraditional
credit references contained in thirdparty documents, such as rental
payment history or public utility
payments. The Board solicits comment
on this approach.
43(c)(3) Verification Using Third-Party
Records
TILA Section 129C(a)(1) requires that
creditors make a reasonable and good
faith determination, based on ‘‘verified
and documented information,’’ that a
consumer has a reasonable ability to
repay the covered transaction. The
Board’s 2008 HOEPA Final Rule
requires that creditors verify the
consumer’s income or assets relied on to
determine repayment ability and the
consumer’s current obligations. See
§ 226.34(a)(4)(ii)(A), (C). Thus, TILA
Section 129C(a)(1) differs from the
Board’s 2008 HOEPA Final Rule by
requiring creditors to verify information
relied on in considering each of the
specific factors required to be
considered under TILA Section
129C(a)(3), which are discussed above
in the section-by-section analysis of
proposed § 226.43(c)(2).

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Proposed § 226.43(c)(3) would
implement the general requirement to
verify a consumer’s repayment ability
under TILA Section 129C(a)(1) and
requires that creditors verify a
consumer’s repayment ability using
reasonably reliable third-party records,
with two exceptions. First, creditors
may orally verify a consumer’s
employment status, if they prepare a
record of the oral employment status
information. See proposed
§ 226.43(c)(3)(i). The Board believes that
creditors in general should use
reasonably reliable third-party records
to verify information they rely on to
determine repayment ability, to
document that independent information
supports their determination. Based on
outreach to several creditors and
secondary market investors, however,
the Board believes that allowing
creditors to verify a consumer’s
employment status orally may increase
the efficiency of the process of verifying
employment status without reducing the
reliability of the information obtained.
Over time, many creditors and
secondary market investors have come
to allow oral verification of employment
status as long as the consumer’s
employment income is verified using
third-party records. The Board is not
aware of a reduction in the reliability of
employment status information as a
result of the shift from written to oral
verification of employment status. Also,
some employers may prefer to orally
verify a consumer’s employment status,
for example, because of efficiency
considerations or concerns about
appearing to commit to continuing to
employ the consumer. Proposed
§ 226.43(c)(3)(ii) does not allow
creditors to orally verify a consumer’s
employment income, however.
The second exception to the
requirement to verify repayment ability
using third-party records applies in
cases where a creditor relies on a
consumer’s credit report to verify a
consumer’s current debt obligations,
and the consumer’s application states a
current debt obligation not shown in the
consumer’s credit report. Under
proposed § 226.43(c)(3)(ii), the creditor
need not independently verify such
current debt obligations. Proposed
§ 226.43(c)(3)(ii) is consistent with
current comment 34(a)(4)(ii)(C)–1
adopted by the Board’s 2008 HOEPA
Final Rule.
Proposed comment 43(c)(3)–1
explains that records used to verify a
consumer’s repayment ability under
proposed § 226.43(c)(1)(ii) must be
specific to the individual consumer.
Records regarding average incomes in
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average incomes paid by the consumer’s
employer, for example, would not be
specific to the individual consumer and
are not sufficient. Proposed comment
43(c)(3)–2 explains that creditors may
obtain third-party records from a thirdparty service provider, as long as the
records are reasonably reliable and
specific to the individual consumer.
Creditors also may obtain third-party
records, for example, payroll statements,
directly from the consumer. Proposed
comments 43(c)(3)–1 and –2 are
consistent with current commentary and
the supplementary information
discussing how creditors may obtain
records relied on to determine
repayment ability under the Board’s
2008 HOEPA Final Rule. See comments
34(a)(4)(ii)(A)–1, –2, and –4; 73 FR
44522, 44547, July 30, 2008 (‘‘Creditors
may [* * *] rely on third party
documentation the consumer provides
directly to the creditor.’’)
The Board solicits comment on
whether any documents or records
prepared by the consumer and not
reviewed by a third party appropriately
can be considered in determining
repayment ability, for example, because
a particular record provides information
not obtainable using third-party records.
In particular, the Board solicits
comment on methods currently used to
ensure that documents prepared by selfemployed consumers (such as a year-todate profit and loss statement for the
period after the period covered by the
consumer’s latest income tax return, or
an operating income statement prepared
by a consumer whose income includes
rental income) are reasonably reliable
for use in determining repayment
ability.
43(c)(4) Verification of Income or Assets
TILA Section 129C(a)(4) requires that
creditors verify amounts of income or
assets relied upon to determine
repayment ability by reviewing the
consumer’s Internal Revenue Service
(IRS) Form W–2, tax returns, payroll
statements, financial institution records,
or other third-party documents that
provide reasonably reliable evidence of
the consumer’s income or assets. TILA
Section 129C(a)(4) provides further that,
to safeguard against fraudulent
reporting, creditors must consider either
(1) IRS transcripts of tax returns or (2)
an alternative method that quickly and
effectively verifies third-party income
documentation, subject to rules
prescribed by the Board. TILA Section
129C(a)(4) is substantially similar to
§ 226.34(a)(4)(ii)(A), adopted by the
Board’s 2008 HOEPA Final Rule.
However, TILA Section 129C(a)(4)(B)
provides for the alternative methods of

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third-party income documentation
(other than use of an IRS tax-return
transcript) to be both ‘‘reasonably
reliable’’ and to ‘‘quickly and effectively’’
verify a consumer’s income. The Board
proposes to adjust the requirement that
such alternative method ‘‘quickly and
effectively’’ verify a consumer’s income.
See TILA Section 129C(a)(4)(B).
Specifically, the Board proposes to
implement TILA Section 129C(a)(4)
without using the phrase ‘‘quickly and
effectively’’ and instead to (1) require
the use of third-party records that are
reasonably reliable; and (2) provide
examples of reasonably reliable records
that creditors can use to efficiently
verify income, as well as assets. See
proposed § 226.43(c)(4).
The Board proposes this approach
pursuant to the Board’s authority under
TILA Section 105(a) to prescribe
regulations that contain such additional
requirements, classifications,
differentiations, or other provisions or
provide for such adjustments and
exceptions for all or any class of
transactions as in the judgment of the
Board are necessary or proper to
effectuate the purposes of TILA, prevent
circumvention or evasion thereof, or to
facilitate compliance therewith. 15
U.S.C. 1604(a). This approach is further
supported by the Board’s authority
under TILA Section 129B(e) to
condition terms, acts or practices
relating to residential mortgage loans
that the Board finds necessary or proper
to effectuate the purposes of TILA. 15
U.S.C. 1639b(e). One of the purposes of
TILA Section 129C is to assure that
consumers are offered and receive
covered transactions on terms that
reasonably reflect their ability to repay
the loan. See TILA Section 129B(a)(2).
The Board believes that considering
reasonably reliable records is an
effective means of verifying a
consumer’s income and helps ensure
that consumers are offered and receive
loans on terms that reasonably reflect
their repayment ability. The Board
believes further that TILA Section
129C(a)(4) is intended to safeguard
against fraudulent reporting, rather than
to speed the process of verifying a
consumer’s income. Indeed, there is a
risk that requiring that creditors use
quick methods to verify the consumer’s
income would undermine the
effectiveness of the ability-to-repay
requirement by sacrificing speed for
thoroughness. The Board believes that,
by contrast, requiring the use of
reasonably reliable records effectuates
the purposes of TILA Section 129C(a)(4)
without suggesting that creditors must
obtain records or complete income

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verification within a specific period of
time. The Board also believes that
providing examples of reasonably
reliable records creditors may use to
efficiently verify income or assets
facilitates compliance by providing
clear guidance to creditors. In addition,
providing examples of such records is
consistent with TILA Section
129C(a)(4)(B), which authorizes the
Board to prescribe the types of records
that can be used to quickly and
effectively verify a consumer’s income.
Proposed § 226.43(c)(4) implements
TILA Section 129C(a)(4) and provides
that a creditor must verify the amounts
of income or assets it relies on to
determine a consumer’s ability to repay
a covered transaction using third-party
records that provide reasonably reliable
evidence of the consumer’s income or
assets. The proposed rule and associated
commentary provide the following
examples of third-party records
creditors may use to verify the
consumer’s income or assets, in
addition to or instead of tax-return
transcripts issued by the IRS: (1) Copies
of tax returns the consumer filed with
the IRS or a state taxing authority; (2)
IRS Form W–2s or similar IRS forms for
reporting wages or tax withholding; (3)
payroll statements, including military
Leave and Earnings Statements; (4)
financial institution records; (5) records
from the consumer’s employer or a third
party that obtained consumer-specific
income information from the
consumer’s employer; (6) records from a
government agency stating the
consumer’s income from benefits or
entitlements, such as a ‘‘proof of
income’’ letter issued by the Social
Security Administration; (7) check
cashing receipts; and (8) receipts from a
consumer’s use of funds transfer
services. See proposed § 226.43(c)(4)(i)–
(viii); proposed comment 43(c)(4)(vi)–1.
Those examples are illustrative, not
exhaustive, and creditors may
determine that other records provide
reasonably reliable evidence of the
income relied upon in determining a
consumer’s repayment ability.
Creditors need consider only the
income or assets relied upon to
determine the consumer’s repayment
ability, as discussed above in the
section-by-section analysis of proposed
§ 226.43(c)(2)(i). See proposed comment
43(c)(2)(i)–2. Accordingly, proposed
comment 43(c)(4)–1 clarifies that
creditors need verify only the income or
assets relied upon to determine the
consumer’s repayment ability. Proposed
comment 43(c)(4)–1 also provides an
example where the creditor need not
verify a consumer’s annual bonus
because the creditor relies on only the

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consumer’s salary to determine the
consumer’s repayment ability. Proposed
comment 43(c)(4)–2 clarifies that, if
multiple consumers apply jointly for a
loan and each lists income or assets on
the application, the creditor need verify
only the income or assets the creditor
relies on to determine repayment
ability. Proposed comment 43(c)(4)–3
clarifies that creditors may verify a
consumer’s income using an IRS taxreturn transcript that summarizes the
information in the consumer’s filed tax
return, another record that provides
reasonably reliable evidence of the
consumer’s income, or both. Proposed
comment 43(c)(4)–3 also clarifies that
creditors may obtain a copy of an IRS
tax-return transcript or filed tax return
from a service provider or the consumer
and need not obtain the copy directly
from the IRS or other taxing authority,
and cross-references guidance on
obtaining records in proposed comment
43(c)(3)–2. Proposed comments
43(c)(4)–1, –2, and –3 are consistent
with current commentary adopted by
the Board’s 2008 HOEPA Final Rule.
See comments 34(a)(4)–7,
34(a)(4)(ii)(A)–1 and –2. Proposed
comment 43(c)(4)(vi)–1 clarifies that an
example of a record from a Federal,
state, or local government agency stating
the consumer’s income from benefits or
entitlements is a ‘‘proof of income letter’’
(also known as a ‘‘budget letter,’’
‘‘benefits letter,’’ or ‘‘proof of award
letter’’) from the Social Security
Administration.
The Board generally solicits comment
on this approach. In addition, the Board
specifically solicits comment on
whether, consistent with the Board’s
2008 HOEPA Final Rule, the Board
should provide an affirmative defense
for a creditor that can show that the
amounts of the consumer’s income or
assets relied upon in determining the
consumer’s repayment ability were not
materially greater than the amounts the
creditor could have verified using thirdparty records at or before
consummation. See § 226.34(a)(4)(ii)(B).
43(c)(5) Payment Calculation
Background
Requirements of TILA Sections
129C(a)(1), (3) and (6)
The Board proposes § 226.43(c)(5) to
implement the payment calculation
requirements of TILA Section 129C(a),
as enacted by Section 1411 of the DoddFrank Act. TILA Section 129C(a)
contains the general requirement that a
creditor determine the consumer’s
‘‘ability to repay the loan, according to
its terms, and all applicable taxes,
insurance (including mortgage

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guarantee insurance), and assessments,’’
based on several considerations,
including ‘‘a payment schedule that
fully amortizes the loan over the term of
the loan.’’ TILA Sections 129C(a)(1) and
(3). The statutory requirement to
consider mortgage-related obligations,
as defined under proposed
§ 226.43(b)(8), is discussed above in the
section-by-section analysis for proposed
§ 226.43(c)(2)(v).
TILA Sections 129C(a)(6)(A)–(D) also
require creditors to make uniform
assumptions when calculating the
payment obligation for purposes of
determining the consumer’s repayment
ability for the covered transaction.
Specifically, TILA Section
129C(a)(6)(D)(i)–(iii) provides that when
calculating the payment obligation that
will be used to determine whether the
consumer can repay the covered
transaction, the creditor must use a fully
amortizing payment schedule and
assume that—
(1) The loan proceeds are fully
disbursed on the date the loan is
consummated;
(2) the loan is repaid in substantially
equal, monthly amortizing payments for
principal and interest over the entire
term of the loan with no balloon
payment; and
(3) the interest rate over the entire
term of the loan is a fixed rate equal to
the fully-indexed rate at the time of the
loan closing, without considering the
introductory rate.
The statute defines the term ‘‘fullyindexed rate’’ in TILA Section
129C(a)(7).
TILA Section 129C(a)(6)(D)(ii)(I) and
(II), however, provides two exceptions
to the second assumption regarding
‘‘substantially equal, monthly payments
over the entire term of the loan with no
balloon payment’’ for loans that require
‘‘more rapid repayment (including
balloon payment).’’ First, this statutory
provision authorizes the Board to
prescribe regulations for calculating the
payment obligation for loans that
require more rapid repayment
(including balloon payment), and which
have an annual percentage rate that does
not exceed a certain rate threshold.
TILA Section 129C(a)(6)(D)(ii)(I).
Second, for loans that ‘‘require more
rapid repayment (including balloon
payment),’’ and which exceed a certain
rate threshold, the statute requires that
the creditor use the loan contract’s
repayment schedule. TILA Section
129C(a)(6)(D)(ii)(II). The statute does not
define the term ‘‘rapid repayment.’’
The statute also provides three
additional clarifications to the
assumptions stated above for loans that
contain certain features. First, for

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variable-rate loans that defer repayment
of any principal or interest, TILA
Section 129C(a)(6)(A) states that for
purposes of the repayment ability
determination a creditor must use ‘‘a
fully amortizing repayment schedule.’’
This provision generally reiterates the
requirement provided under TILA
Section 129C(a)(3) to use a payment
schedule that fully amortizes the loan.
Second, for covered transactions that
permit or require interest-only
payments, the statute requires that the
creditor determine the consumers’
repayment ability using ‘‘the payment
amount required to amortize the loan by
its final maturity.’’ TILA Section
129C(a)(6)(B).
Third, for covered transactions with
negative amortization, the statute
requires the creditor to also take into
account ‘‘any balance increase that may
accrue from any negative amortization
provision’’ when making the repayment
ability determination. TILA Section
129C(a)(6)(C). The statute does not
define the terms ‘‘variable-rate,’’ ‘‘fully
amortizing,’’ ‘‘interest-only,’’ or ‘‘negative
amortization.’’ Proposed § 226.43(c)(5)(i)
and (ii) implement these statutory
provisions, and are discussed in further
detail below.
2008 HOEPA Final Rule
TILA Section 129C(a), as enacted by
Section 1411 of the Dodd-Frank Act,
largely codifies many aspects of the
repayment ability rule under
§ 226.34(a)(4) of the Board’s 2008
HOEPA Final Rule, which the Board is
proposing to remove, and extends such
requirements to the entire mortgage
market regardless of the loan’s interest
rate. Similar to § 226.34(a)(4), the
statutory framework of TILA Section
129C(a) focuses on prescribing the
requirements that govern the
underwriting process and extension of
credit to consumers, rather than
dictating which credit terms may or may
not be permissible. However, there are
differences between TILA Section
129C(a) and the Board’s 2008 HOEPA
Final Rule with respect to payment
calculation requirements.
Current § 226.34(a)(4) does not
address how a creditor must calculate
the payment obligation for a loan that
cannot meet the presumption of
compliance under § 226.34(a)(4)(iii)(B).
For example, § 226.34(a)(4) does not
specify how to calculate the periodic
payment required for a negative
amortization loan or balloon loan with
a term of less than seven years. In
contrast, the Dodd-Frank Act lays out a
specific framework for underwriting any
loan subject to proposed § 226.43(c). In
taking this approach, the statutory

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requirements in TILA Section
129C(a)(6)(D) addressing payment
calculation requirements differ from
§ 226.34(a)(4)(iii) in the following
manner: (1) The statute generally
premises repayment ability on monthly
payment obligations calculated using
the fully indexed rate, with no limit on
the term of the loan that should be
considered for such purpose; (2) the
statute permits underwriting loans with
balloon payments to differ depending
on whether the loan’s annual percentage
rate exceeds the applicable loan pricing
metric, or meets or falls below the
applicable loan pricing metric; and (3)
the statute expressly addresses
underwriting requirements for loans
with interest-only payments or negative
amortization.
Interagency Supervisory Guidance
As discussed above in Part II.C, in
2006 and 2007 the Board and other
Federal banking agencies addressed
concerns regarding the increased risk to
creditors and consumers presented by
loans that permit consumers to defer
repayment of principal and sometimes
interest, and by adjustable-rate
mortgages in the subprime market. The
Interagency Supervisory Guidance
stated that creditors should determine a
consumer’s repayment ability using a
payment amount based on the fully
indexed rate, assuming a fully
amortizing schedule. In addition, the
2006 Nontraditional Mortgage Guidance
addressed specific considerations for
negative amortization and interest-only
loans. State supervisors issued parallel
statements to this guidance, which most
states have adopted. TILA Sections
129C(a)(3) and (6) are generally
consistent with this longstanding
Interagency Supervisory Guidance, and
largely extend the guidance regarding
payment calculation assumptions to all
loan types covered under TILA Section
129C(a), regardless of loan’s interest
rate.
The Board’s Proposal
The Board proposes § 226.43(c)(5) to
implement the payment calculation
requirements of TILA Sections
129C(a)(1), (3) and (6) for purposes of
the repayment ability determination
required under proposed § 226.43(c).
Consistent with these statutory
provisions, proposed § 226.43(c)(5) does
not prohibit the creditor from offering
certain credit terms or loan features, but
rather focuses on the calculation process
the creditor must use to determine
whether the consumer can repay the
loan according to its terms. Under the
proposal, creditors generally would be
required to determine a consumer’s

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ability to repay a covered transaction
using the fully indexed rate or the
introductory rate, whichever is greater,
to calculate monthly, fully amortizing
payments that are substantially equal,
unless a special rule applies. See
proposed § 226.43(c)(5)(i). For clarity
and simplicity, proposed
§ 226.43(c)(5)(i) would use the terms
‘‘fully amortizing payment’’ and ‘‘fully
indexed rate,’’ as discussed above under
proposed § 226.43(b)(2) and (3),
respectively. Proposed comment
43(c)(5)(i)-1 would clarify that the
general rule would apply whether the
covered transaction is an adjustable-,
step-, or fixed-rate mortgage, as those
terms are defined in § 226.18(s)(7)(i),
(ii), and (iii), respectively.
Proposed § 226.43(c)(5)(ii)(A)–(C)
create exceptions to the general rule and
provide special rules for calculating the
payment obligation for balloon-payment
loans, interest-only loans or negative
amortization loans, as follows:
Balloon-payment loans. Consistent
with TILA Section 129C(a)(6)(D)(ii)(I)
and (II) of the Dodd-Frank Act,
proposed § 226.43(c)(5)(ii)(A) provides
special rules for covered transactions
with a balloon payment that would
differ depending on the loan’s rate.
Proposed § 226.43(c)(5)(ii)(A)(1) states
that for covered transactions with a
balloon payment that are not higherpriced covered transactions, the creditor
must determine a consumer’s ability to
repay the loan using the maximum
payment scheduled in the first five
years after consummation. Proposed
§ 226.43(c)(5)(ii)(A)(2) further states that
for covered transactions with balloon
payments that are higher priced covered
transactions, the creditor must
determine the consumer’s ability to
repay according to the loan’s payment
schedule, including any balloon
payment. For clarity, proposed
§ 226.43(c)(5)(ii)(A) would use the term
‘‘higher-priced covered transaction’’ to
refer to a loan that exceeds the
applicable loan rate threshold, and is
defined in proposed § 226.43(b)(4),
discussed above. The term ‘‘balloon
payment’’ has the same meaning as in
current § 226.18(s)(5)(i).
Interest-only loans. Consistent with
TILA Sections 129C(a)(6)(B) and (D) of
the Dodd-Frank Act, proposed
§ 226.43(c)(5)(ii)(B) provides special
rules for interest-only loans. Proposed
§ 226.43(c)(5)(ii)(B) requires that the
creditor determine the consumer’s
ability to repay the interest-only loan
using (1) the fully indexed rate or the
introductory rate, whichever is greater;
and (2) substantially equal, monthly
payments of principal and interest that
will repay the loan amount over the

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term of the loan remaining as of the date
the loan is recast. For clarity, proposed
§ 226.43(c)(5)(ii)(B) would use the terms
‘‘loan amount’’ and ‘‘recast,’’ which are
defined and discussed under proposed
§ 226.43(b)(5) and (11), respectively.
The term ‘‘interest-only loan’’ has the
same meaning as in current
§ 226.18(s)(7)(iv).
Negative amortization loans.
Consistent with TILA Sections
129C(a)(6)(C) and (D) of the Dodd-Frank
Act, proposed § 226.43(c)(5)(ii)(C)
provides special rules for negative
amortization loans. Proposed
§ 226.43(c)(5)(ii)(C) requires that the
creditor determine the consumer’s
ability to repay the negative
amortization loan using (1) the fully
indexed rate or the introductory rate,
whichever is greater; and (2)
substantially equal, monthly payments
of principal and interest that will repay
the maximum loan amount over the
term of the loan remaining as of the date
the loan is recast. Proposed comment
43(c)(5)(ii)(C)–1 clarifies that for
purposes of this proposed rule, the
creditor must first determine the
maximum loan amount and the period
of time that remains in the loan term
after the loan is recast. For clarity,
proposed § 226.43(c)(5)(ii)(C) would use
the terms ‘‘maximum loan amount’’ and
‘‘recast,’’ which are defined and
discussed under proposed § 226.43(b)(7)
and (11), respectively. The term
‘‘negative amortization loan’’ has the
same meaning as in current
§ 226.18(s)(7)(v) and comment
18(s)(7)(v)–1.
Each of these proposed payment
calculation provisions is discussed in
greater detail below.
43(c)(5)(i) General rule
Proposed § 226.43(c)(5)(i) implements
the payment calculation requirements in
TILA Sections 129C(a)(3) and (6)(D)(i)–
(iii), and states the general rule for
calculating the payment obligation on a
covered transaction for purposes of the
ability-to-repay provisions. Consistent
with the statute, proposed
§ 226.43(c)(5)(i) provides that unless an
exception applies under proposed
§ 226.43(c)(5)(ii), a creditor must make
the repayment ability determination
required under proposed
§ 226.43(c)(2)(iii) by using the greater of
the fully indexed rate or any
introductory interest rate, and monthly,
fully amortizing payments that are
substantially equal. That is, under this
proposed general rule the creditor
would calculate the consumer’s
monthly payment amount based on the
loan amount, and amortize that loan
amount in substantially equal payments

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over the loan term, using the fully
indexed rate.
Proposed comment 43(c)(5)(i)–1
would explain that the payment
calculation method set forth in
§ 226.43(c)(5)(i) applies to any covered
transaction that does not have a balloon
payment, or that is not an interest-only
loan or negative amortization loan,
whether it is a fixed-rate, adjustable-rate
or step-rate mortgage. This comment
would further explain that the payment
calculation method set forth in
§ 226.43(c)(5)(ii) applies to any covered
transaction that is a loan with a balloon
payment, interest-only loan, or negative
amortization loan. To facilitate
compliance, this comment would list
the defined terms used in proposed
§ 226.43(c)(5) and provide crossreferences to their definitions.
The fully indexed rate or introductory
rate, whichever is greater. Proposed
§ 226.43(c)(5)(i)(A) implements the
requirement in TILA Section
129C(a)(6)(D)(iii) to use the fully
indexed rate when calculating the
monthly, fully amortizing payment for
purposes of the repayment ability
determination. Proposed
§ 226.43(c)(5)(i)(A) would also provide
that when creditors calculate the
monthly, fully amortizing payment for
adjustable-rate mortgages, they must use
the introductory interest rate if it is
greater than the fully indexed rate (i.e.,
a premium rate). In some adjustable-rate
transactions, creditors may set an initial
interest rate that is not determined by
the index or formula used to make later
interest rate adjustments. Typically, this
initial rate charged to consumers is
lower than the rate would be if it were
determined by using the index plus
margin, or formula (i.e., the fully
indexed rate). However, an initial rate
that is a premium rate is higher than the
rate based on the index or formula. See
proposed comment 43(c)(5)(i)–2. Thus,
requiring creditors to use only the fully
indexed rate would result in creditors
underwriting loans that have a
‘‘premium’’ introductory rate at a rate
lower than the rate on which the
consumer’s initial payments would be
based. The Board believes requiring
creditors to assess the consumer’s
ability to repay on the initial higher
payments better effectuates the statutory
intent and purpose.
The Board proposes to require
creditors to underwrite the loan at the
premium rate if greater than the fully
indexed rate for purposes of the
repayment ability determination using
its authority under TILA Section 105(a).
15 U.S.C. 1604(a). TILA Section 105(a),
as amended by Section 1100A of the
Dodd-Frank Act, authorizes the Board to

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prescribe regulations to carry out the
purposes of TILA and Regulation Z, to
prevent circumvention or evasion, or to
facilitate compliance. 15 U.S.C. 1604(a).
This approach is further supported by
the Board’s authority under TILA
Section 129B(e) to condition terms, acts
or practices relating to residential
mortgage loans that the Board finds
necessary or proper to effectuate the
purposes of TILA. 15 U.S.C. 1639b(e).
The stated purpose of TILA Section
129C is to assure that consumers are
offered and receive residential mortgage
loans on terms that reasonably reflect
their ability to repay the loan. TILA
Section 129B(b), 15 U.S.C. 1639b. For
the reasons discussed above, the Board
believes requiring creditors to
underwrite the loan to the premium rate
for purposes of the repayment ability
determination will help to ensure that
the consumers are offered, and receive,
loans on terms that reasonably reflect
their ability to repay, and to prevent
circumvention or evasion.
Monthly, fully amortizing payments.
For simplicity, proposed
§ 226.43(c)(5)(i) uses the term ‘‘fully
amortizing payment’’ to refer to the
statutory requirements that a creditor
use a payment schedule that repays the
loan assuming that (1) the loan proceeds
are fully disbursed on the date of
consummation of the loan; and (2) the
loan is repaid in amortizing payments
for principal and interest over the entire
term of the loan. See TILA Sections
129C(a)(3) and (6)(D)(i)–(ii). As
discussed above, proposed
§ 226.43(b)(2) defines ‘‘fully amortizing
payment’’ to mean a periodic payment of
principal and interest that will fully
repay the loan amount over the loan
term. The terms ‘‘loan amount’’ and
‘‘loan term’’ are defined in proposed
§ 226.43(b)(5) and (b)(6), respectively,
and discussed above.
The statute also expressly requires
that a creditor use ‘‘monthly amortizing
payments’’ for purposes of the
repayment ability determination. TILA
Section 129C(6)(D)(ii). The Board
recognizes that some loan agreements
require consumers to make periodic
payments with less frequency, for
example quarterly or semi-annually.
Proposed § 226.43(c)(5)(i)(B) does not
dictate the frequency of payment under
the terms of the loan agreement, but
does require creditors to convert the
payment schedule to monthly payments
to determine the consumer’s repayment
ability. Proposed comment 43(c)(5)(i)–3
clarifies that the general payment
calculation rules do not prescribe the
terms or loan features that a creditor
may choose to offer or extend to a
consumer, but establishes the

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calculation method a creditor must use
to determine the consumer’s repayment
ability for a covered transaction. This
comment explains, by way of example,
that the terms of the loan agreement
may require that the consumer repay the
loan in quarterly or bi-weekly scheduled
payments, but for purposes of the
repayment ability determination, the
creditor must convert these scheduled
payments to monthly payments in
accordance with § 226.43(c)(5)(i)(B).
This comment would also explain that
the loan agreement may not require the
consumer to make fully amortizing
payments, but for purposes of the
repayment ability determination the
creditor must convert any nonamortizing payments to fully amortizing
payments.
Substantially equal. Proposed
comment 43(c)(5)(i)–4 provides
additional guidance to creditors for
determining whether monthly, fully
amortizing payments are ‘‘substantially
equal.’’ See TILA Section
129C(a)(6)(D)(ii). This comment would
state that creditors should disregard
minor variations due to paymentschedule irregularities and odd periods,
such as a long or short first or last
payment period. The comment would
explain that monthly payments of
principal and interest that repay the
loan amount over the loan term need
not be equal, but that the monthly
payments should be substantially the
same without significant variation in the
monthly combined payments of both
principal and interest. Proposed
comment 43(c)(5)(i)–4 further explains
that where, for example, no two
monthly payments vary from each other
by more than 1% (excluding odd
periods, such as a long or short first or
last payment period), such monthly
payments would be considered
substantially equal for purposes of this
proposal. The comment would further
provide that, in general, creditors
should determine whether the monthly,
fully amortizing payments are
substantially equal based on guidance
provided in § 226.17(c)(3) (discussing
minor variations), and § 226.17(c)(4)(i)–
(iii) (discussing payment-schedule
irregularities and measuring odd
periods due to a long or short first
period) and associated commentary. The
Board solicits comment on operational
difficulties that arise by ensuring
payment amounts meet the
‘‘substantially equal’’ condition. The
Board also solicits comment on whether
a 1% variance is an appropriate
tolerance threshold.
Examples of payment calculations.
Proposed comment § 226.43(c)(5)(i)–5
provides illustrative examples of how to

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determine the consumer’s repayment
ability based on substantially equal,
monthly, fully amortizing payments as
required under proposed
§ 226.43(c)(5)(i) for a fixed-rate,
adjustable-rate and step-rate mortgage.
For example, proposed comment
43(c)(5)(i)–5.ii provides an illustration
of the payment calculation for an
adjustable-rate mortgage with a five-year
discounted rate. The example first
assumes a loan in an amount of
$200,000 has a 30-year loan term. The
loan agreement provides for a
discounted interest rate of 6% that is
fixed for an initial period of five years,
after which the interest rate will adjust
annually based on a specified index
plus a margin of 3%, subject to a 2%
annual periodic interest rate adjustment
cap. The index value in effect at
consummation is 4.5%; the fully
indexed rate is 7.5% (4.5% plus 3%).
See proposed comment 43(c)(5)(i)–5.ii.
This proposed comment explains that
even though the scheduled monthly
payment required for the first five years
is $1,199, for purposes of
§ 226.43(c)(2)(iii) the creditor must
determine the consumer’s ability to
repay the loan based on a payment of
$1,398, which is the substantially equal,
monthly, fully amortizing payment that
will repay $200,000 over 30 years using
the fully indexed rate of 7.5%.
The Board recognizes that, although
consistent with the statute, the proposed
framework would require creditors to
underwrite certain loans, such as hybrid
ARMs with a discounted rate period of
five or more years (e.g., 5/1, 7/1, and
10/1 ARMs) to a more stringent standard
as compared to the underwriting
standard set forth in proposed
§ 226.43(e)(2)(v) for qualified mortgages.
The Board believes this approach is
consistent with the statute’s intent to
ensure consumers can reasonably repay
their loan, and that in both cases
consumers’ interests are properly
protected. See TILA Section 129B(a)(2),
15 U.S.C. 1639b(a)(2). To meet the
definition of a qualified mortgage, a loan
cannot have certain risky terms or
features, such as provisions that permit
deferral of principal or a term that
exceeds 30 years; no similar restrictions
apply to loans subject to the ability-torepay standard. See proposed
§ 226.43(e)(2)(i) and (ii). As a result, the
risk of potential payment shock is
diminished significantly for qualified
mortgages. For this reason, the Board
believes maintaining the more lenient
statutory underwriting standard for
loans that satisfy the qualified mortgage
criteria will help to ensure that
responsible and affordable credit

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remains available to consumers. See
TILA 129B(a)(2), 15 U.S.C. 1639b(a)(2).
Requests for Comment
Loan amount or outstanding principal
balance. As noted above, proposed
§ 226.43(c)(5)(i) is consistent with the
statutory requirements regarding
payment calculations for purposes of
the repayment ability determination.
The Board believes the intent of these
statutory requirements is to prevent
creditors from assessing the consumer’s
repayment ability based on understated
payment obligations, especially when
risky features can be present on the
loan. However, the Board is concerned
that the statute, as implemented in
proposed § 226.43(c)(5)(i), would
require creditors to determine, in some
cases, a consumer’s repayment ability
using overstated payment amounts
because the creditor must assume that
the consumer repays the loan amount in
substantially equal payments based on
the fully indexed rate, regardless of
when the fully indexed rate can take
effect under the terms of the loan. The
Board is concerned that this approach
may restrict credit availability, even
where consumers are able to
demonstrate that they can repay the
payment obligation once the fully
indexed rate takes effect.
For this reason, the Board solicits
comment on whether it should exercise
its authority under TILA Sections 105(a)
and 129B(e) to provide that the creditor
may calculate the monthly payment
using the fully indexed rate based on
the outstanding principal balance as of
the date the fully indexed rate takes
effect under the loan’s terms, instead of
the loan amount at consummation. 15
U.S.C. 1604(a). Under this approach, the
creditor would determine the
consumer’s repayment ability using the
largest payment that could occur under
the loan’s terms based on the fully
indexed rate, rather than using monthly,
fully amortizing payments that are
substantially equal. For example, for
loans with a significant introductory
rate period of 7 years or longer, it may
be reasonable for the creditor to
underwrite the consumer by applying
the fully indexed rate to the outstanding
principal balance at the end of the 7
year introductory period. To illustrate
this approach (all amounts are
rounded), assume an adjustable-rate
mortgage in the amount of $200,000
with a seven-year discounted rate of
6.5%, after which the interest rate will
adjust annually to the specified index
plus a margin of 3%. The index value
at consummation is 4.5%; the fully
indexed rate is 7.5%. At the end of the
seventh year (after the 84th monthly

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payment is credited), when the fully
indexed rate takes effect, the
outstanding principal balance is
$180,832. Under this approach, the
creditor could underwrite the loan
based on the monthly payment of
principal and interest of $1,377 to repay
the outstanding principal balance of
$180,832, instead of the monthly
payment of $1,398 to repay the loan
amount of $200,000. Such an approach
would seem to be consistent with the
purpose of TILA Section 129B(a)(2),
which is to ensure the consumer can
reasonably repay the loan according to
its terms. 15 U.S.C. 1639b(a)(2).
Step-rate mortgages. The Board also
notes that for purposes of the repayment
ability determination, a step-rate
mortgage would be subject to the
general payment calculation rule under
proposed § 226.43(c)(5)(i), or the special
rules under proposed § 226.43(c)(5)(ii),
if it did not otherwise meet the
definition of a ‘‘qualified mortgage.’’ See
proposed comment 43(c)(5)(i)–1. As
discussed in proposed § 226.43(b)(3),
which defines the term ‘‘fully indexed
rate’’ for purposes of the repayment
ability determination, the proposed
payment calculation requirements
would require creditors to determine a
consumer’s ability to repay a step-rate
mortgage using the maximum rate that
can occur at any time during the loan
term. The Board notes that this
approach is consistent with the
requirement that the creditor give effect
to the largest margin that can apply at
any time during the loan term when
determining the fully indexed rate. See
TILA Section 129C(a)(6)(iii) and (7).
However, the Board notes that by
requiring creditors to use the maximum
rate in a step-rate mortgage, the monthly
payments used to determine the
consumer’s repayment ability will be
higher than the consumer’s actual
maximum payment.
The Board is concerned that this
approach could restrict credit
availability. The Board recognizes that
this concern is also present for
adjustable-rate mortgages, but notes that
a step-rate product differs from an
adjustable-rate mortgage in that future
interest rate adjustments are known in
advance and do not fluctuate over time
in accordance with a market index. The
Board believes this feature of a step-rate
product could mitigate the payment
shock risk to the consumer because the
exact rate and payment increases would
be disclosed to the consumer in
advance, with no potential for the
payment amounts to be greater
depending on market conditions.
On the other hand, the Board
recognizes that a step-rate mortgage that

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does not have a balloon payment, and
is not an interest-only or negative
amortization loan, can meet the
definition of a qualified mortgage if the
other underwriting criteria required are
also met. As a result, step-rate mortgages
that would need to comply with the
payment calculation rules under
proposed § 226.43(c)(5) may be more
likely to be loans that contain a risky
feature. The Board solicits comment,
and supporting data for alternative
approaches, on whether it should
exercise its authority under TILA
Sections 105(a) and 129B(e) to provide
an exception for step-rate mortgages
subject to the payment calculation rules
in proposed § 226.43(c)(5). For example,
should the Board require that creditors
underwrite the step-rate mortgage using
the maximum rate in the first seven
years, ten years, or some other
appropriate time horizon? Should the
Board similarly require that creditors
underwrite an adjustable-rate mortgage
using the maximum interest rate in the
first seven years or some other
appropriate time horizon that reflects a
significant introductory rate period?
Safe harbor to facilitate compliance.
The Board recognizes that under this
proposal, creditors must comply with
multiple assumptions when calculating
the particular payment for purposes of
the repayment ability determination.
For example, creditors would need to
ensure that the monthly payment
amounts are ‘‘substantially equal.’’
Creditors would also need to follow
different payment calculation rules
depending on the type of loan being
underwritten (i.e., balloon-payment loan
vs. a negative amortization loan), as
discussed below under proposed
§ 226.43(c)(5)(ii). The Board is
concerned that the complexity attendant
to the proposed payment calculation
requirements may increase the potential
for unintentional errors to occur,
making compliance difficult, especially
for small creditors that may be unable
to invest in advanced technology or
software needed to ensure payment
calculations are compliant. At the same
time, the Board notes that the intent of
the statutory framework and this
proposal is to ensure consumers are
offered and receive loans on terms that
they can reasonably repay. Thus, the
Board solicits comment on whether it
should exercise its authority under
TILA Sections 105(a) and 129B(e) to
provide a safe harbor for creditors that
use the largest scheduled payment that
can occur during the loan term to
determine the consumer’s ability to
repay to facilitate compliance with the
requirements under proposed

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§ 226.43(c)(5)(i) and (ii). 15 U.S.C.
1604(a).

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43(c)(5)(ii) Special Rules: Balloon,
Interest-Only, and Negative
Amortization Loans
Proposed § 226.43(c)(5)(ii) creates
exceptions to the general rule under
proposed § 226.43(c)(5)(i), and provides
special rules in proposed
§ 226.43(c)(5)(ii)(A)–(C) for loans with a
balloon payment, interest-only loans,
and negative amortization loans,
respectively, for purposes of the
repayment ability determination
required under proposed
§ 226.43(c)(2)(iii). In addition to TILA
Section 129C(a)(6)(D)(i)–(iii), proposed
§ 226.43(c)(5)(ii)(A)–(C) implement
TILA Sections 129C(a)(6)(B) and (C),
and TILA Section 129C(a)(6)(D)(ii)(I)(II). Each of these proposed special rules
is discussed below.
43(c)(5)(i)(A) Balloon Loans
The statute provides an exception to
the requirement that creditors determine
a consumer’s repayment ability using
substantially equal, monthly payments
for loans that require ‘‘more rapid
repayment (including balloon
payment).’’ See TILA Section
129C(a)(6)(D)(ii)(I) and (II). First, the
statute authorizes the Board to prescribe
regulations for calculating the payment
obligation for loans that require more
rapid repayment (including balloon
payment), and which have an annual
percentage rate that does not exceed the
average prime offer rate for a
comparable transaction by 1.5 or more
percentage points for a first-lien
transaction, and by 3.5 or more
percentage points for a subordinate-lien
transaction (i.e., a ‘‘prime’’ loan). See
TILA Section 129C(a)(6)(D)(ii)(I).
Second, for loans that ‘‘require more
rapid repayment (including balloon
payment),’’ and exceed the loan pricing
threshold set forth (i.e., a ‘‘nonprime’’
loan), the statute requires that the
creditor use the loan contract’s
repayment schedule. See TILA Section
129C(a)(6)(D)(ii)(II). The Board
interprets these statutory provisions as
authorizing the Board to prescribe
special payment calculation rules for
‘‘prime’’ balloon loans, as discussed
more fully below.
Scope. The scope of loans covered by
the phrase ‘‘more rapid repayment
(including balloon payment)’’ in TILA
Section 129C(a)(6)(D)(ii) is unclear, and
the statute does not define the term
‘‘rapid repayment.’’ The Board interprets
the use of the term ‘‘including,’’ which
qualifies the phrase ‘‘more rapid
repayment,’’ as meaning that balloon
loans are covered, but that other loan

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types are also intended to be covered.
The Board notes, however, that loans
with a balloon payment actually require
less rapid payment of principal and
interest because the amortization period
used is much longer than the term,
thereby causing the balloon payment of
principal and interest at maturity. Thus,
the reference to the phrase ‘‘including
balloon payment’’ makes it unclear
whether the scope of this provision is
meant to cover loans that permit, for
example, consumers to make initial
payments that are not fully amortizing,
such as loans with negative
amortization, but that later require
larger payments of principal and
interest, or other loan types.
Outreach participants offered various
interpretations of the phrase ‘‘more
rapid repayment (including balloon
payment).’’ Participants suggested that
the loan types that could be covered by
the phrase ‘‘more repaid repayment’’
could range from graduated payment
mortgages and negative amortization
loans (where initial payments do not
cover principal and only some interest,
and therefore higher payments of
principal and interest are required once
the loan recasts to require fully
amortizing payments), to niche-market
balloon-payment loans (where a series
of balloon payments are required
intermittently throughout the loan), to
growth-equity mortgages (where the
loan is paid in full earlier than the term
used to calculate initial payments
required under the payment schedule).
The Board does not believe it is
feasible for the phrase ‘‘more rapid
repayment’’ to cover all these loan types
given that each one has varying terms
and features. Thus, the Board is
proposing to use its authority under
TILA Section 129C(a)(6)(D)(i)(I) only
with respect to balloon loans. The Board
solicits comment on the meaning of the
phrase ‘‘more rapid repayment’’ and
what loan products should be covered
by this phrase. For example, the Board
solicits comment on whether the phrase
‘‘more rapid repayment’’ should include
any loan where the payments of
principal and interest are based on an
amortization period that is shorter than
the term of the loan during which
scheduled payments are permitted. For
example, a loan may amortize the loan
amount over a 30-year period to
determine monthly payment of interest
during the first five years, but fully
amortizing payments begin after five
years, and therefore are amortized over
a period of time that is shorter than the
term of the loan (i.e., 25 years). The
Board further solicits comment on the
specific terms and features of loans that
would result in ‘‘more rapid repayment.’’

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Higher-priced covered transaction.
The Board is proposing
§ 226.43(c)(5)(i)(A)(1) and (2) to provide
special payment calculation rules for a
covered transaction with a balloon
payment that would differ depending on
whether the loan is or is not a higherpriced covered transaction. For
purposes of proposed
§ 226.43(c)(5)(i)(A), the Board would
define ‘‘higher-priced covered
transaction’’ to mean a covered
transaction with an annual percentage
rate that exceeds the average prime offer
rate for a comparable transaction as of
the date the interest rate is set by 1.5 or
more percentage points for a first-lien
covered transaction, or by 3.5 or more
percentage points for a subordinate-lien
covered transaction. See proposed
§ 226.43(b)(4).
As noted above under the proposed
definition of higher-priced covered
transaction, the Board recognizes that
‘‘jumbo’’ loans typically carry a premium
interest rate to reflect the increased
credit risk and cost associated with
lending larger loan amounts to
consumers. Such loans are more likely
to be considered ‘‘higher-priced covered
transactions’’ and as a result, creditors
would need to underwrite such loans
using the loan’s payment schedule,
including any balloon payment. See
proposed § 226.43(c)(5)(i)(A)(2),
discussed below. The Board is
concerned that this would restrict credit
availability for consumers in the
‘‘jumbo’’ balloon market. Accordingly,
the Board is soliciting comment on
whether it should use its authority
under TILA Sections 105(a) and 129B(e)
to incorporate the special, separate
coverage threshold of 2.5 percentage
points for ‘‘jumbo loans’’ to permit more
jumbo loans to benefit from the special
payment calculation rule under
proposed § 226.43(c)(5)(ii)(A)(1), and
also to be consistent with proposed
§ 226.45(a)(1), which implements rate
thresholds for the proposed escrow
account requirement and certain
appraisal-related requirements. See 76
FR 11598, Mar. 2, 2011; 75 FR 66554,
Oct. 28, 2010.
The Board further notes under
proposed § 226.43(b)(4) that premium
interest rates are typically required for
loans secured by non-principal
dwellings, such as vacation homes,
which are covered by this proposal.
Accordingly, the Board also solicits
comment and supporting data on
whether it should exercise its authority
under TILA Sections 105(a) and 129B(e)
to incorporate a special, separate
coverage threshold to address loans
secured by non-principal dwellings, and

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what rate threshold would be
appropriate for such loans.
Proposed comment 43(c)(5)(ii)(A)–1
clarifies that for higher-priced covered
transactions with a balloon payment,
the creditor must consider the
consumer’s ability to repay the loan
based on the payment schedule under
the terms of the legal obligation,
including any required balloon
payment. This comment would explain
that for loans with a balloon payment
that are not higher-priced covered
transactions, the creditor should use the
maximum payment scheduled during
the first five years of the loan following
consummation. To facilitate
compliance, the comment would crossreference to the definition of ‘‘balloon
payment’’ in current § 226.18(s)(5)(i).
43(c)(5)(ii)(A)(1) ‘‘Prime’’ Balloon Loans
Proposed § 226.43(c)(5)(ii)(A)(1)
requires a creditor to determine a
consumer’s ability to repay a loan with
a balloon payment using the maximum
payment scheduled during the first five
years after consummation where the
loan is not a higher-priced covered
transaction (i.e., a ‘‘prime’’ loan). This
proposed rule would apply to ‘‘prime’’
loans with a balloon payment that have
a term of five or more years.
Legal authority. The Board proposes
this approach using its authority under
TILA Section 129C(a)(6)(D)(ii)(I), which
authorizes the Board to prescribe
regulations for ‘‘prime’’ balloon loans. In
addition, TILA Sections 105(a) and
129B(e) authorize the Board to prescribe
regulations that are consistent with the
purposes of TILA. 15 U.S.C. 1604(a); 15
U.S.C. 1639b(e). One of the purposes of
TILA is to ‘‘assure that consumers are
offered and receive residential mortgage
loan on terms that reasonably reflect
their ability to repay the loans.’’ TILA
Section 129B(a)(2); 15 U.S.C.
1629b(a)(2). The Board believes
proposing to require the creditor to use
the largest payment that can occur
during the first five years after
consummation to determine repayment
ability helps to ensure that consumers
are offered and receive loans on terms
that reasonably reflect their ability to
repay the loan, and also facilitates
compliance.
First five years after consummation.
For several reasons, the Board believes
that five years is the appropriate time
horizon for purposes of determining the
consumer’s ability to repay a balloon
loan. First, the Board believes this
approach preserves credit choice for
consumers interested in financing
options that are based on interest rates
more consistent with shorter-term
maturities, and therefore typically less

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expensive than 30-year fixed-rate loans,
but that may offer more stability than
some adjustable-rate loans. Five-year
balloon loans generally offer consumers
a fixed rate for the entire term that is
lower than the prevailing rate for a 30year fixed. Consumers may choose this
type of loan as short-term financing
with the intent to refinance in the near
future into a fully amortizing, longer
term loan once the consumer’s personal
finances, market rate conditions, or
some other set of facts and
circumstances improves. The Board
believes that five years is a sufficient
period of time for consumers to improve
personal finances, for example, and that
there is an increased likelihood that a
consumer may refinance, move or
relocate during such time frame. In
contrast, as discussed in proposed
§ 226.43(f)(1)(iv), balloon loans with
terms less than five years, but with
extended amortization periods, such as
30 or more years, may prevent
consumers from growing equity and
therefore, likely present greater credit
risk.
Second, the Board notes that using the
first five years after consummation to
determine the consumer’s repayment
ability on a ‘‘prime’’ balloon loan is
consistent with other proposed
repayment ability provisions, and
therefore facilitates compliance. For
example, proposed § 226.43(d)(5)(ii) and
(e)(2)(iv) require the creditor to use the
five-year period after consummation for
purposes of the determining whether an
exception applies to the repayment
ability rules for certain refinancings,
and when underwriting the loan to meet
the qualified mortgage standard,
respectively. The Board further notes
that the five-year period under proposed
§ 226.43(e)(2)(iv) implements the
statutory requirement that creditors
underwrite a loan, for purposes of the
qualified mortgage standard, based on
the maximum rate permitted during the
first five years after consummation, and
therefore, reflects the statutory intent
that a five-year period is a reasonable
period of time to repay a loan. See TILA
Section 129(b)(2)(A)(v).
Third, the Board also is proposing to
require that balloon loans made by
creditors in rural or underserved areas
have a minimum five-year term to be
considered qualified mortgages. See
proposed § 226.43(f)(1), discussed
below. The Board believes it is
appropriate for all types of creditors to
use the same loan term when
determining a consumer’s ability to
repay a balloon loan to create a more
level playing field. The Board
recognizes this concern may be
mitigated in part by the proposed asset

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threshold requirement, see proposed
§ 226.43(f)(1)(v)(D), but believes a
consistent approach to underwriting
balloon loans helps to prevent
unintended consequences. For these
reasons, the Board believes this
approach preserves credit availability
and choice of loan products that may
offer more favorable terms to
consumers, and also facilitates
compliance.
In developing the proposed approach
for ‘‘prime’’ balloon loans, the Board
considered several different alternatives.
For example, the Board considered
requiring the creditor to determine
whether the consumer could refinance
the loan before incurring the balloon
payment, using a fully amortizing
payment based on the then prevailing
interest rate for a fixed-rate mortgage
with a 30-year term. The Board also
considered requiring the creditor to use
a fully amortizing payment based on a
rate that would be two times the
contractual rate offered during the first
five years of the loan with the balloon
payment. The Board believes both
approaches are speculative in nature,
and that neither can accurately predict
the interest rate that would be available
to consumers at the time they may want
to refinance. Moreover, the Board
believes both approaches would likely
overstate the consumer’s actual payment
obligation for purposes of the repayment
ability determination where, for
example, the interest rate on a five-year
balloon loan is typically lower than the
rate offered on a 30-year fixed. For these
reasons, the Board did not believe these
approaches were appropriate.
The Board notes that the proposed
five-year horizon for purposes of
determining the consumers repayment
ability for a ‘‘prime’’ balloon loan does
not parallel the time horizon used for
balloon loans under the Board’s antisteering provisions regarding loan
originator compensation. See 75 FR
58509, Sept. 24, 2010. The Board’s antisteering rules prohibit a loan originator
from steering or directing a consumer to
a loan to earn more compensation,
unless the transaction is in the
consumer’s interest. See current
§ 226.36(e). The Board provides a safe
harbor for loan originators if certain
conditions are met, including offering
certain loan options to the consumer.
One such loan option must be a loan
with no risky features; a balloon
payment that occurs in the first 7 years
of the life of the loan is deemed a risky
feature for this purpose. The Board
believes the different approaches are
warranted by the different purposes
served by the respective rules. Although
the anti-steering provisions help to

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
ensure consumers’ are offered certain
loan options for which they likely
qualify, they are primarily intended to
prevent loan originators from offering
loan options with features that may not
benefit the consumer, or that the
consumer may not want or need, but
which yield the loan originator greater
compensation. In contrast, the proposed
repayment ability provisions are meant
to help ensure that the loan offered or
chosen by the consumer has terms that
the consumer can reasonably repay.
The Board solicits comment on
whether the five-year term is an
appropriate time horizon, with
supporting data for any alternative
approaches.
Proposed comment
§ 226.43(c)(5)(ii)(A)(1)–2 provides
further guidance to creditors on
determining whether a balloon payment
occurs in the first five years after
consummation. This comment would
clarify that in considering the
consumer’s repayment ability for a
balloon loan that is not a higher-priced
covered transaction, the creditor must
use the maximum payment scheduled
during the first five years, or first 60
months, of the loan after the date of
consummation. This comment would
provide an illustrative example that
assumes a loan with a balloon payment
due at the end of a five-year loan term
is consummated on August 15, 2011.
The first monthly payment is due on
October 1, 2011. The first five years after
consummation occurs on August 15,
2016, with a balloon payment required
on the due date of the 60th monthly
payment, which is September 1, 2016.
This comment would conclude that in
this example, the creditor does not need
to consider the balloon payment when
determining the consumer’s ability to
repay this loan.
Proposed comment 43(c)(5)(ii)(A)(1)–
3 addresses renewable balloon loans.
This comment recognizes balloon loans
that are not higher-priced covered
transactions which provide an
unconditional obligation to renew a
balloon loan at the consumer’s option or
obligation to renew subject to
conditions within the consumer’s
control. This comment would clarify
that for purposes of the repayment
ability determination, the loan term
does not include the period of time that
could result from a renewal provision.
This comment would provide the
following illustration to provide further
clarification: Assume a 3-year balloon
loan that is not a higher-priced covered
transaction contains an unconditional
obligation to renew for another three
years at the consumer’s option. In this
example, the loan term for the balloon

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loan is 3 years, and not the potential 6
years that could result if the consumer
chooses to renew the loan. Accordingly,
the creditor must underwrite the loan
using the maximum payment scheduled
in the first five years after
consummation, which includes the
balloon payment due at the end of the
3-year loan term. This comment would
cross-reference proposed comment
43(c)(5)(ii)(A).ii, which provides an
example of how to determine the
consumer’s repayment ability for a 3year renewable balloon loan, and
comment 17(c)(1)–11 for a discussion of
renewable balloon payment loans.
The Board recognizes that proposed
comment 43(c)(5)(ii)(A)(1)–3 does not
take the same approach as guidance
contained in comment 17(c)(1)–11
regarding treatment of renewable
balloon loans for disclosure purposes, or
with guidance contained in current
comment 34(a)(4)(iv)–2 of the Board’s
2008 HOEPA Final Rule. Current
comment 17(c)(1)–11 states that
creditors may make the required TILA
disclosures based on a period of time
that accounts for any unconditional
obligation to renew (i.e., the payment
amortization period), assuming the
interest rate in effect at the time of
consummation. Comment 34(a)(4)(iv)–2,
which the Board is proposing to remove,
provides that where the creditor is
unconditionally obligated to renew the
balloon loan, the full term resulting
from such renewal is the relevant term
for purposes of the exclusion of certain
balloon-payment loans from the abilityto-repay presumption of compliance.
Although the proposal differs from
current guidance in Regulation Z, the
Board believes this approach is
appropriate for several reasons. First,
the ability-to-repay provisions in the
Dodd-Frank Act do not address
extending the term of a balloon loan
with an unconditional obligation to
renew provision. Second, permitting
short-term ‘‘prime’’ balloon loans to
benefit from the special payment
calculation rule when a creditor
includes an unconditional obligation to
renew, but retains the right to increase
the interest rate at the time of renewal,
would create a significant loophole in
the balloon payment rules. Such an
approach could frustrate the objective to
ensure consumers obtain mortgages on
affordable terms for a reasonable period
of time because the interest rate could
escalate within a short period of time,
increasing the potential risk of payment
shock to the consumer. This is
particularly the case where no limits
exist on the interest rate that the
creditor can choose to offer to the
consumer at the time of renewal. TILA

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Section 129B(a)(2), 15 U.S.C.
1639b(a)(2), and TILA Section
129C(b)(2)(A)(v). Moreover, the Board
believes it would be speculative to posit
the interest rate at the time of renewal
for purposes of the repayment ability
determination. Third, the guidance
contained in comment 17(c)(1)–11
regarding treatment of renewable
balloon loans is to help ensure
consumers are aware of their loan terms
and avoid the uninformed use of credit,
which differs from the stated purpose of
this proposed provision which is to help
ensure that consumers receive loans on
terms that reasonably reflect their
repayment ability. TILA Section 102(a),
15 U.S.C. 1601(a)(2), and TILA Section
129B(a)(2), 15 U.S.C. 1639b(a)(2).
At the same time, the Board
recognizes that small creditors with
limited capital and reserves may use
these short-term balloon loans with
unconditional obligations to renew to
hedge their market rate risk. Not treating
renewable balloon loans in the same
manner as comment 17(c)(1)–11 could
restrict credit access to ‘‘prime’’ balloon
loans. Accordingly, the Board solicits
comment on whether creditors should
be able to treat the loan term of a
‘‘prime’’ balloon loan with an
unconditional obligation to renew as
extended by the renewal provision for
purposes of proposed
§ 226.43(c)(5)(ii)(A), subject to certain
conditions. Specifically, the Board
solicits comment on how to ensure
consumers can reasonably repay the
loan on its terms at the time of renewal.
The Board further solicits comment on
methods to address the risk of
circumvention and potential payment
shock risk to consumers where creditors
are able to unilaterally increase the
interest rate at the time of renewal. For
example, should the Board permit loan
terms to be extended by renewal
provisions for purposes of proposed
§ 226.43(c)(5)(ii)(A) when the creditor
underwrites the ‘‘prime’’ balloon loan
based on an average fully indexed rate
for a comparable transaction?
Proposed 226.43(c)(5)(ii)(A)(1)–4
would provide several illustrative
examples of how to determine the
maximum payment scheduled during
the first five years after consummation
for loans with a balloon payment that
are not higher-priced covered
transactions. For example, this comment
would illustrate the payment
calculation rule for a balloon payment
loan with a five-year loan term and
fixed interest rate. This comment would
assume that a loan provides for a fixed
interest rate of 6%, which is below the
APOR threshold for a comparable
transaction, and thus the loan is not a

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higher-priced covered transaction. The
comment would further assume that the
loan amount is $200,000, and that the
loan has a five-year loan term but is
amortized over 30 years. The loan is
consummated on March 15, 2011, and
the monthly payment scheduled for the
first five years following consummation
is $1,199, with the first monthly
payment due on May 1, 2011. The first
five years after consummation end on
March 15, 2016. The balloon payment of
$187,308 is required on the due date of
the 60th monthly payment, which is
April 1, 2016 (more than five years after
consummation). See proposed comment
226.43(c)(5)(ii)(A)(1)–4.iii. This
comment explains that for purposes of
§ 226.43(c)(2)(iii), the creditor must
determine the consumer’s ability to
repay the loan based on the monthly
payment of $1,199, and need not
consider the balloon payment of
$187,308 due on April 1, 2016.
43(c)(5)(ii)(A)(2) ‘‘Non-Prime’’ Balloon
Loans
Proposed § 226.43(c)(5)(ii)(A)(2)
implements TILA Section
129C(a)(6)(D)(ii)(II) and provides that for
a higher-priced covered transaction, the
creditor must determine the consumer’s
ability to repay a loan with a balloon
payment using the scheduled payments
required under the terms of the loan,
including any balloon payment. TILA
Section 129C(a)(6)(D)(ii)(II) states that
for loans that require more rapid
repayment (including balloon payment),
and which exceed the loan pricing
threshold set forth, the creditor must
underwrite the loan using the ‘‘[loan]
contract’s repayment schedule.’’ The
Board interprets the statutory
requirement that the creditor use ‘‘the
loan contract’s payment schedule’’ to
mean that the creditor must use all
scheduled payments under the terms of
the loan needed to fully amortize the
loan, consistent with the requirement
under TILA Section 129C(a)(3). Payment
of the balloon payment, either at
maturity or during at any intermittent
period, is necessary to fully amortize the
loan. The proposed rule would apply to
‘‘non-prime’’ loans with a balloon
payment regardless of the length of the
term or any contract provision that
provides for an unconditional guarantee
to renew. The Board is concerned that
this approach could lessen credit choice
for non-prime borrowers, restrict credit
availability and negatively impact
competition for this credit market.
Accordingly, the Board solicits
comment, with supporting data, on the
impact of this approach for low-tomoderate income borrowers. In
addition, under proposed § 226.43(c)(2),

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the creditor would be required to
determine that the consumer has a
reasonable ability to repay the loan,
including the balloon payment, from
current or reasonably expected income
or assets other than the value of the
dwelling. As a result, the creditor would
not be able to consider the consumer’s
ability to refinance the loan in order to
pay, or avoid, the balloon payment. The
Board requests comment on this
approach.
Proposed comment
§ 226.43(c)(5)(ii)(A)(2)–5 provides an
illustrative example of how to
determine the consumer’s repayment
ability based on the loan contract’s
payment schedule, including any
balloon payment, for higher-priced
covered transactions with a balloon
payment. This comment would provide
an illustrative example for a balloon
payment loan with a 10-year loan term;
fixed interest rate. This comment would
assume that the loan is a higher-priced
covered transaction with a fixed interest
rate of 7%. This comment would also
assume that the loan amount is
$200,000 and the loan has a 10-year
loan term, but is amortized over 30
years. This comment would state that
the monthly payment scheduled for the
first ten years is $1,331, with a balloon
payment of $172,956. This comment
would explain that for purposes of
§ 226.43(c)(2)(iii), the creditor must
consider the consumer’s ability to repay
the loan based on the payment schedule
that repays the loan amount, including
the balloon payment of $172,956.
43(c)(5)(i)(B) Interest-Only Loans
For interest-only loans (i.e., loans that
permit interest only payments for any
part of the loan term), proposed
§ 226.43(c)(5)(ii)(B) provides that the
creditor must determine the consumer’s
ability to repay the interest-only loan
using (1) the fully indexed rate or any
introductory rate, whichever is greater;
and (2) substantially equal, monthly
payments of principal and interest that
will repay the loan amount over the
term of the loan remaining as of the date
the loan is recast. The proposed
payment calculation rule for interestonly loans parallels the general rule
proposed in § 226.43(c)(5)(i), except that
proposed § 226.43(c)(5)(ii)(B)(2) requires
a creditor to determine the consumer’s
ability to repay the loan amount over
the term that remains after the loan is
recast, rather than requiring the creditor
to use fully amortizing payments, as
defined under proposed § 226.43(b)(2).
Proposed § 226.43(c)(5)(ii)(B)(2)
implements TILA Section 129C(a)(6)(B),
which requires that the creditor
determine the consumer’s repayment

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ability using ‘‘the payment amount
required to amortize the loan by its final
maturity.’’ For clarity, this proposed rule
uses the term ‘‘recast,’’ which is defined
for interest-only loans as the expiration
of the period during which interest-only
payments are permitted under the terms
of the legal obligation. See proposed
§ 226.43(b)(11). The statute does not
define the term ‘‘interest-only.’’ For
purposes of this proposal, the terms
‘‘interest-only loan’’ and ‘‘interest-only’’
have the same meaning as in
§ 226.18(s)(7)(iv).43
Interest-only loans typically provide a
fixed introductory payment period, such
as five or ten years, during which the
consumer may make payments that pay
only accrued interest, but no principal.
When the interest-only period expires,
the payment amount required under the
terms of the loan is the principal and
interest payment that will repay the
loan amount over the remainder of the
loan term. The Board interprets the
statutory text in TILA Section
129C(a)(6)(B) as requiring the creditor to
determine the consumer’s ability to
repay an interest-only loan using the
monthly principal and interest payment
amount needed to repay the loan
amount once the interest-only payment
period expires, rather than using, for
example, an understated monthly
principal and interest payment that
would amortize the loan over its entire
term, similar to a 30-year fixed
mortgage. The proposed rule would
apply to all interest-only loans,
regardless of the length of the interestonly period. The Board believes this
approach most accurately assesses the
consumer’s ability to repay the loan
once it begins to amortize; this is
consistent with the approach taken for
interest-only loans in the Interagency
Supervisory Guidance.
Proposed comment 43(c)(5)(ii)(B)–1
would clarify that for loans that permit
interest-only payments, the creditor
must use the fully indexed rate or
introductory rate, whichever is greater,
to calculate the substantially equal,
monthly payment of principal and
interest that will repay the loan amount
over the term of the loan remaining as
of the date the loan is recast for
purposes of the repayment ability
determination. This comment would
also clarify that under proposed
§ 226.43(c)(5)(ii)(B), the relevant term of
the loan is the period of time that
remains after the loan is recast to
43 See 12 CFR 226.18(s)(7)(iv), defining ‘‘interest
only’’ to mean that under the terms of the legal
obligation, one or more of the periodic payments
may be applied solely to accrued interest and not
to loan principal, and ‘‘interest-only loan’’ to mean
a loan that permits interest-only payments.

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require payments that will repay the
loan amount. This comment would also
explain that for a loan on which only
interest and no principal has been paid,
the loan amount will be the outstanding
principal balance at the time of the
recast. To facilitate compliance, this
comment would cross-reference to
proposed comments 43(b)(3)–1 through
–5, which provide further guidance on
determining the fully indexed rate on
the transaction, and proposed comment
43(c)(5)(i)–4, which provides further
guidance on the meaning of
‘‘substantially equal.’’ This comment
would also provide cross-references to
defined terms.
Proposed comment 43(c)(5)(ii)(B)–2
would provide illustrative examples for
how to determine the consumer’s
repayment ability based on substantially
equal, monthly payments of principal
and interest for interest-only loans. This
comment would provide the following
illustration of the payment calculation
rule for a fixed-rate mortgage with
interest-only payments for five years: A
loan in an amount of $200,000 has a 30year loan term. The loan agreement
provides for a fixed interest rate of 7%,
and permits interest-only payments for
the first five years. The monthly
payment of $1167 scheduled for the first
five years would cover only the interest
due. The loan is recast on the due date
of the 60th monthly payment, after
which the scheduled monthly payments
increase to $1414, a monthly payment
that repays the loan amount of $200,000
over the 25 years remaining as of the
date the loan is recast (300 months). For
purposes of § 226.43(c)(2)(iii), the
creditor must determine the consumer’s
ability to repay the loan based on a
payment of $1414, which is the
substantially equal, monthly, fully
amortizing payment that would repay
$200,000 over the 25 years remaining as
of the date the loan is recast using the
fixed interest rate of 7%.
43(c)(5)(i)(C) Negative Amortization
Loans
For negative amortization loans,
proposed § 226.43(c)(5)(ii)(C) provides
that a creditor must determine the
consumer’s repayment ability using (1)
the fully indexed rate or any
introductory interest rate, whichever is
greater; and (2) substantially equal,
monthly payments of principal and
interest that will repay the maximum
loan amount over the term of the loan
remaining as of the date the loan is
recast. This proposed payment
calculation rule for negative
amortization loans parallels the general
rule in proposed § 226.43(c)(5)(i), except
that proposed § 226.43(c)(5)(ii)(C)(2)

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requires the creditor to use the monthly
payment amount that repays the
maximum loan amount over the term of
the loan that remains after the loan is
recast, rather than requiring the creditor
to use fully amortizing payments, as
defined under proposed § 226.43(b)(2).
This proposed rule uses the terms
‘‘maximum loan amount’’ and ‘‘recast,’’
which are defined and discussed under
proposed § 226.43(b)(7) and (b)(11),
respectively. Proposed
§ 226.43(c)(5)(ii)(C)(2) implements the
statutory requirement in TILA Section
129C(a)(6)(C) that the creditor consider
‘‘any balance increase that may accrue
from any negative amortization
provision when making the repayment
ability determination.’’ The statute does
not define the term ‘‘negative
amortization.’’
Scope. The Board proposes that the
term ‘‘negative amortization loan’’ have
the same meaning as set forth in current
§ 226.18(s)(7)(v) for purposes of the
repayment ability determination. The
Board recently amended
§ 226.18(s)(7)(v) to clarify that the term
‘‘negative amortization loan’’ covers a
loan, other than a reverse mortgage
subject to current § 226.33, that provides
for a minimum periodic payment that
covers only a portion of the accrued
interest, resulting in negative
amortization. As defined, the term
‘‘negative amortization loan’’ does not
cover other loan types that may have a
negative amortization feature, but which
do not permit the consumer multiple
payment options, such as seasonal
income loans.44 Accordingly, proposed
§ 226.43(c)(5)(ii)(C) covers only loan
products that permit or require
minimum periodic payments, such as
pay option loans and graduated
payment mortgages with negative
amortization.
Negative amortization loans typically
permit borrowers to defer principal and
interest repayment for a fixed period of
time, such as five years, or until the
principal balance increases to the
maximum amount allowed under the
terms of the loan (i.e., the negative
amortization cap). When the
introductory period permitting such
minimum periodic payments expires or
the negative amortization cap is
reached, whichever is earlier, the
payment amount required under the
terms of the loan is the monthly
44 See the 2010 MDIA Interim Final Rule, 75 FR
58470, Sept. 24, 2010, revised by 75 FR 81836,
81840, Dec. 29, 2010, which defines the terms
‘‘negative amortization’’ and ‘‘negative amortization
loan.’’ The term ‘‘negative amortization’’ means
payment of periodic payments that will result in an
increase in the principal balance under the terms
of the legal obligation. See § 226.18(s)(7)(v).

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principal and interest payment that will
repay the loan amount, plus any balance
increase, over the remaining term of the
loan. These loans are also often referred
to as ‘‘pay option’’ loans because they
offer multiple payment options to the
consumer. Similarly, graduated
payment mortgages that have negative
amortization and fall within the
definition of ‘‘negative amortization
loans’’ provide for step payments that
may be less than the interest accrued for
a fixed period of time. The unpaid
interest is added to the principal
balance of the loan. When the
introductory payment period expires,
the payment amount required under the
terms of the loan is the monthly
principal and interest payment that will
repay the loan amount, plus any
principal balance increase, over the
remaining term of the loan. The Board
believes covering both types of loans in
proposed § 226.43(c)(5)(ii)(C) is
consistent with statutory intent to
account for the negative equity that can
occur when a consumer makes
payments that defer some or all
principal or interest for a period of time,
and to address the impact any potential
payment shock may have on the
consumer’s ability to repay the loan. See
TILA Section 129C(a)(6)(C).
In contrast, in a transaction that has
a negative amortization feature, but
which does not provide for minimum
periodic payments that permit deferral
of some or all principal, the consumer
repays the loan with fully amortizing
payments in accordance with the
payment schedule and therefore, the
same potential for payment shock or
negative equity does not exist. For
example, certain loans are designed to
permit borrowers with seasonal income
to make periodic payments that repay
the loan amount for part of the year, and
then to skip payments during certain
months. During those months when no
payments are made, accrued interest
results in an increase in the principal
balance. However, when the monthly
required payments resume, they are
fully amortizing payments that repay
the principal and interest accrued
during that year. See comment 18(s)(7)–
1 discussing negative amortization
loans, and providing an example of a
seasonal income loan that is not covered
by the term. Loans not covered by the
term ‘‘negative amortization loan,’’ but
which may have a negative amortization
feature, would be subject to the payment
calculation requirements under the
proposed general rule for purposes of
determining the consumer’s repayment
ability. See proposed § 226.43(c)(5)(i).
Thus, seasonal income loans and

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graduated payment mortgages that do
not fall within the definition of a
‘‘negative amortization loan’’ would be
covered by the general payment
calculation rule in proposed
§ 226.43(c)(5)(i).
For purposes of determining the
consumer’s ability to repay a negative
amortization loan under proposed
§ 226.43(c)(5)(ii)(C), creditors must
make a two-step payment calculation.
Step one: maximum loan amount.
Proposed § 226.43(c)(5)(ii)(C) requires
that the creditor first determine the
maximum loan amount and period of
time that remains in the loan term after
the loan is recast before determining the
consumer’s repayment ability on the
loan. See proposed comment
43(c)(5)(ii)(C)–1; see also proposed
§ 226.43(b)(11), which defines the term
‘‘recast’’ to mean the expiration of the
period during which negatively
amortizing payments are permitted
under the terms of the legal obligation.
Proposed comment 43(c)(5)(ii)(C)–2
would further clarify that recast for a
negative amortization loan occurs after
the maximum loan amount is reached
(i.e., the negative amortization cap) or
the introductory minimum periodic
payment period expires. See proposed
comment 43(c)(5)(ii)(C)–2.
As discussed above, proposed
§ 226.43(b)(7) defines ‘‘maximum loan
amount’’ as the loan amount plus any
increase in principal balance that results
from negative amortization, as defined
in § 226.18(s)(7)(v), based on the terms
of the legal obligation. Under the
proposal, creditors would make the
following two assumptions when
determining the maximum loan amount:
(1) The consumer makes only the
minimum periodic payments for the
maximum possible time, until the
consumer must begin making fully
amortizing payments; and (2) the
maximum interest rate is reached at the
earliest possible time.
As discussed above under the
proposed definition of ‘‘maximum loan
amount,’’ the Board interprets the
statutory language in TILA Section
129C(a)(6)(C) as requiring creditors to
fully account for any potential increase
in the loan amount that may result
under the loan’s terms where the
consumer makes only the minimum
periodic payments required. The Board
believes the intent of this statutory
provision is to help ensure that the
creditor consider the consumer’s
capacity to absorb the increased
payment amounts that would be needed
to amortize the larger loan amount once
the loan is recast. The Board recognizes
that the approach taken towards
calculating the maximum loan amount

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requires creditors to assume a ‘‘worstcase scenario,’’ but believes this
approach is consistent with statutory
intent to take into account the greatest
potential increase in the principal
balance.
Moreover, the Board believes that
where negative equity occurs in the
loan, it can be more difficult for the
consumer to refinance out of the loan
because no principal has been reduced;
a dropping home value market can
further aggravate this situation. In these
cases, the consumer is more likely to
incur the increased payment obligation
once the loan is recast. Accordingly, the
Board believes it is appropriate to
ensure that the consumer can make
these increased payment amounts
assuming the maximum loan amount,
consistent with the statute. The Board
also notes that calculating the maximum
loan amount based on these
assumptions is consistent with the
approach in the 2010 MDIA Interim
Final Rule,45 which addresses
disclosure requirements for negative
amortization loans, and also the 2006
Nontraditional Mortgage Guidance,
which provides guidance to creditors
regarding underwriting negative
amortization loans.46 Both the 2010
MDIA Interim Final Rule and the 2006
Nontraditional Mortgage Guidance
provide that the loan amount plus any
balance increase should be taken into
account when disclosing terms or
calculating the monthly principal and
interest payment obligation,
respectively.
As discussed above, comment
proposed 43(b)–1 would clarify that in
determining the maximum loan amount,
the creditor must assume that the
consumer makes the minimum periodic
payment until any negative amortization
cap is reached or until the period
permitting minimum periodic payments
expires, whichever occurs first.
Comment 43(b)–2 would provide further
guidance to creditors regarding the
assumed interest rate. Comment 43(b)–
3 would provide examples illustrating
how to calculate the maximum loan
amount for negative amortization loans
for purposes of proposed
§ 226.43(c)(5)(ii)(C).
Step two: payment calculation. Once
the creditor knows the maximum loan
amount and period of time that remains
after the loan is recast, the proposed
payment calculation rule for negative
amortization loans requires the creditor
to use the fully indexed rate or
45 See 12 CFR 226.18(s)(2)(ii) and comment
18(s)(2)(ii)–2.
46 See 2006 Nontraditional Mortgage Guidance at
58614, n.7.

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introductory rate, whichever is greater,
to calculate the substantially equal,
monthly payment amount that will
repay the maximum loan amount over
the term of the loan that remains as of
the date the loan is recast. See proposed
§ 226.43(c)(5)(ii)(C)(1) and (2).
Proposed comment 43(c)(5)(ii)(C)–1
would clarify that creditors must follow
this two-step approach when
determining the consumer’s repayment
ability on a negative amortization loan,
and would also cross-reference to the
following defined terms: ‘‘maximum
loan amount,’’ ‘‘negative amortization
loan,’’ ‘‘fully indexed rate,’’ and ‘‘recast.’’
To facilitate compliance, this comment
would also cross-reference to proposed
comment 43(c)(5)(i)–4 for further
guidance on the ‘‘substantially equal’’
requirement.
Proposed comment 43(c)(5)(ii)(C)–2
would provide further guidance to
creditors regarding the relevant term of
the loan that must be used for purposes
of the repayment ability determination.
This comment would explain that the
relevant term of the loan is the period
of time that remains as of the date the
terms of the legal obligation recast. This
comment would further explain that the
creditor must determine substantially
equal, monthly payments of principal
and interest that will repay the
maximum loan amount based on the
period of time that remains after any
negative amortization cap is triggered or
any period permitting minimum
periodic payments expires, whichever
occurs first.
Proposed comment 43(c)(5)(ii)(C)–3
would provide illustrative examples of
how to determine the consumer’s
repayment ability based on substantially
equal, monthly payments of principal
and interest as required under proposed
§ 226.43(c)(5)(ii)(C) for a negative
amortization loan. For example,
proposed comment 43(c)(5)(ii)(C)–3.ii
would illustrate the payment
calculation rule for a graduated payment
mortgage with a fixed-interest rate that
is a negative amortization loan. This
comment would first assume a loan in
the amount of $200,000 has a 30-year
loan term. Second, the comment
assumes that the loan agreement
provides for a fixed-interest rate of
7.5%, and requires the consumer to
make minimum monthly payments
during the first year, with payments
increasing 12.5% every year (the annual
payment cap) for four years. This
comment would state that the payment
schedule provides for payments of $943
in the first year, $1061 in the second
year, $1194 in the third year, $1343 in
the fourth year, and then requires $1511
for the remaining term of the loan. This

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comment would then explain that
during the first three years of the loan,
the payments are less than the interest
accrued each month, resulting in
negative amortization. Assuming the
minimum payments increase year-toyear up to the 12.5% payment cap, the
consumer will begin making payments
that cover at least all of the interest
accrued at the end of the third year.
Thus, the loan is recast on the due date
of the 36th monthly payment. The
maximum loan amount on that date is
$207,659, and the remaining loan term
is 27 years (324 months). See proposed
comment 43(c)(5)(ii)(C)–3.ii.
This comment would conclude that
for purposes of the repayment ability
determination required in
§ 226.43(c)(2)(iii), the creditor must
determine the consumer’s ability- to
repay the loan based on a monthly
payment of $1497, which is the
substantially equal, monthly payment of
principal and interest that will repay the
maximum loan amount of $207,659 over
the remaining loan term of 27 years
using the fixed interest rate of 7.5%.
The Board recognizes that the
payment calculation requirements,
which are consistent with statutory
requirements, will sometimes require
the creditor to underwrite a graduated
payment mortgage using a monthly
payment that is lower than the largest
payment the consumer would be
required to pay. For example, as
illustrated in proposed comment
43(c)(5)(ii)(C)–3.ii, the creditor would
underwrite the loan using a monthly
payment of $1497 for purposes of the
repayment ability determination, even
though the consumer will need to begin
making monthly payments of $1511
beginning in the fifth year of the loan.
This anomaly occurs because the
creditor must assume substantially
equal payments over the term of the
loan remaining as of the date the loan
is recast. As discussed above in relation
to step-rate mortgages, the Board solicits
comment on whether it should exercise
its authority under TILA Sections 105(a)
and 129B(e) to require the creditor to
use the largest payment scheduled when
determining the consumer’s ability to
repay the loan. 15 U.S.C. 1604(a).
43(c)(6) Payment Calculation for
Simultaneous Loans
As discussed above, proposed
§ 226.43(c)(2)(iv) implements TILA
Section 129C(a)(2) and requires that
when determining the consumer’s
repayment ability on a covered
transaction, the creditor must consider
the consumer’s monthly payment on
any simultaneous loan that the creditor
knows or has reason to know will be

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made, calculated in accordance with
proposed § 226.43(c)(6). Furthermore, as
discussed under proposed
§ 226.43(b)(12), the Board is proposing
to use its authority under TILA Sections
105(a) and 129B(e) to broaden the scope
of TILA Section 129C(a)(2) to include
HELOCs, and define the term
‘‘simultaneous loan’’ accordingly, for
purposes of the requirements under
proposed § 226.43(c)(2)(iv) and (c)(6). 15
U.S.C. 1604(a).
Proposed § 226.43(c)(6) provides the
payment calculation for a simultaneous
loan that is a closed-end covered
transaction or a HELOC. Specifically,
proposed § 226.43(c)(6) requires that the
creditor consider the consumer’s
payment on a simultaneous loan that is:
(1) A covered transaction, by following
proposed § 226.43(c)(5)(i)–(ii); or (2) a
HELOC, by using the periodic payment
required under the terms of the plan
using the amount of credit that will be
drawn at consummation of the covered
transaction. That is, with respect to
simultaneous loans that are covered
transactions (i.e., closed-end loans
subject to proposed § 226.43(c)),
proposed § 226.43(c)(6)(i) requires the
creditor to calculate the payment
obligation consistent with the rules that
apply to covered transactions under
proposed § 226.43(c)(5). Under those
proposed rules, the creditor must make
the repayment ability determination
using the greater of the fully indexed
rate or any introductory rate, to
calculate monthly, fully amortizing
payments that are substantially equal.
Under proposed § 226.43(b)(2), a ‘‘fully
amortizing payment’’ is defined as a
periodic payment of principal and
interest that will repay the loan amount
over the loan term. Thus, in the case of
a simultaneous loan that is a closed-end
credit transaction, the payment is based
on the loan amount. Typically, in
closed-end transactions the consumer is
committed to using the entire loan
amount because there is full
disbursement of funds at
consummation. See proposed comment
43(b)(5)–1, which discusses the
definition of loan amount and clarifies
that the amount disbursed at
consummation is not determinative for
purposes of the payment calculation
rules. See proposed § 226.43(c)(5) for
further discussion of the payment
calculation requirements for covered
transactions.
By contrast, for a simultaneous loan
that is a HELOC, the consumer is
generally not committed to using the
entire credit line at consummation. The
amount of funds drawn on a
simultaneous HELOC may differ greatly
depending, for example, on whether the

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HELOC is used as a ‘‘piggyback loan’’ to
help towards payment on a home
purchase transaction or if the HELOC is
opened for convenience to be drawn
down at a future time. The Board is
concerned that requiring the creditor to
underwrite a simultaneous HELOC
assuming a full draw on the credit line
may unduly restrict credit access,
especially in connection with nonpurchase transactions (i.e.,
refinancings), because it would require
creditors to assess the consumer’s
repayment ability using potentially
overstated payment amounts. Thus, the
Board is proposing under
§ 226.43(c)(6)(ii) that the creditor
calculate the payment for the
simultaneous HELOC based on the
amount of funds to be drawn by the
consumer at consummation of the
covered transaction. As discussed in
further detail below under proposed
comment 43(c)(6)–3, the Board solicits
comment on whether this approach is
appropriate.
Proposed comment 43(c)(6)–1 states
that in determining the consumer’s
repayment ability for a covered
transaction, the creditor must include
consideration of any simultaneous loan
which it knows or has reason to know
will be made at or before consummation
of the covered transaction. To facilitate
compliance, the comment would crossreference to proposed comment
43(c)(2)(iv)–2 for further discussion on
the standard ‘‘knows or has reason to
know,’’ and proposed § 226.43(b)(12) for
the meaning of the term ‘‘simultaneous
loan.’’
Proposed comment 43(c)(6)–2
explains that for a simultaneous loan
that is a covered transaction, as that
term is defined in proposed
§ 226.43(b)(1), the creditor must
determine a consumer’s ability to repay
the monthly payment obligation for a
simultaneous loan as set forth in
§ 226.43(c)(5), taking into account any
mortgage-related obligations. The
comment would provide a crossreference to proposed § 226.43(b)(8) for
the meaning of the term ‘‘mortgagerelated obligations.’’
Proposed comment 43(c)(6)–3 clarifies
that for a simultaneous loan that is a
HELOC, the creditor must consider the
periodic payment required under the
terms of the plan when assessing the
consumer’s ability to repay the covered
transaction secured by the same
dwelling as the simultaneous loan. This
comment would explain that under
proposed § 226.43(c)(6)(ii), the creditor
must determine the periodic payment
required under the terms of the plan by
considering the actual amount of credit
to be drawn by the consumer at or

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before consummation of the covered
transaction. This comment would
clarify that the amount to be drawn is
the amount requested by the consumer;
when the amount requested will be
disbursed, or actual receipt of funds, is
not determinative. This comment would
provide the following example: Where
the creditor’s policies and procedures
require the source of downpayment to
be verified, and the creditor verifies that
a simultaneous loan that is a HELOC
will provide the source of
downpayment for the first-lien covered
transaction, the creditor must consider
the periodic payment on the HELOC by
assuming the amount to be drawn at
consummation is the downpayment
amount. The Board recognizes that
determining the actual amount to be
drawn by the consumer may depend on
a number of variables, and may not be
readily determined prior to
consummation. As discussed more fully
below, the Board is soliciting comment
on the appropriateness of this approach.
Proposed comment 43(c)(6)–3 would
further clarify that, in general, the
creditor should determine the periodic
payment based on guidance in staff
commentary to § 226.5b(d)(5), which
discusses disclosure of payment terms
for HELOCs.
The Board recognizes that consumers
may fully draw on available credit
immediately after closing on the firstlien loan, which could significantly
impact their repayment ability on both
the first-lien and second-lien mortgage
obligations. Although this risk is present
with respect to any credit line available
to a consumer post-consummation,
unlike credit cards, HELOCs are secured
by a consumer’s dwelling. Inability to
repay the first- or second-lien loan
could result in foreclosure and loss of
the home. In addition, outreach revealed
that creditors take varied approaches to
determining the periodic payment they
consider when underwriting a
simultaneous HELOC, with some
participants indicating they assume a
full draw and calculate the periodic
payment based on the fully indexed
rate, and other participants indicating
that a 50% draw is assumed and only
the minimum periodic payment is
considered.
For these reasons, the Board solicits
comment on the appropriateness of the
approach provided under proposed
§ 226.43(c)(6)(ii) and comment 43(c)(6)–
3 regarding the payment calculation for
simultaneous HELOCs, with supporting
data for any alternative approaches.
Specifically, the Board solicits comment
on what amount of credit should be
assumed as drawn by the consumer for
purposes of the payment calculation for

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simultaneous HELOCs. For example,
should the Board require creditors to
assume a full draw (i.e., requested
amount to be used) of the credit line, a
50% draw, or some other amount
instead of the actual amount to be
drawn by the consumer? The Board also
solicits comment on whether it would
facilitate compliance to provide a safe
harbor where creditors assume the full
credit line is drawn at consummation.
In addition, as noted above, proposed
§ 226.43(c)(2)(iv) and (c)(6) do not
distinguish between purchase and nonpurchase covered transactions when
requiring creditors to consider a
periodic payment required on a
simultaneous loan that is a HELOC for
purposes of the repayment ability
determination. The Board recognizes,
however, that concerns regarding
‘‘piggyback loans’’ may not be as acute
with non-purchase transactions (i.e.,
refinancings) where HELOCs generally
are taken against established equity in
the home, and are opened concurrently
with the refinancing of the first-lien
loan for convenience and savings in
closing costs. In addition, the Board
notes that with respect to simultaneous
HELOCs originated in connection with
a refinancing, proposed
§ 226.43(c)(2)(iv) and (c)(6) could be
circumvented, or its value diminished
significantly, where consumers do not
draw on the credit line until after the
covered transaction is consummated.
Moreover, the Board is concerned that
the proposal could encourage creditors
and consumers to simply originate
HELOCs immediately subsequent to the
consummation of a covered transaction
that is a refinancing, resulting in lost
savings and convenience to consumers.
For these reasons, the Board solicits
comment, and supporting data, on
whether the Board should narrow the
requirement under proposed
§ 226.43(c)(2)(iv) and (c)(6) to require
creditors to consider simultaneous
HELOCs only in connection with
purchase transactions.
43(c)(7) Monthly Debt-to-Income Ratio
or Residual Income
As discussed above, proposed
§ 226.43(c)(2)(vii) implements TILA
Section 129C(a)(3) and requires
creditors, as part of the repayment
ability determination, to consider the
consumer’s monthly debt-to-income
ratio or residual income. Proposed
§ 226.43(c)(7) provides the definitions
and calculations for the monthly debtto-income ratio and residual income.
With respect to the definitions,
proposed § 226.43(c)(7)(i)(A) defines the
term ‘‘total monthly debt obligations’’ to
mean the sum of: The payment on the

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covered transaction, as required to be
calculated by § 226.43(c)(2)(iii) and
(c)(5); the monthly payment on any
simultaneous loans, as required to be
calculated by § 226.43(c)(2)(iv) and
(c)(6); the monthly payment amount of
any mortgage-related obligations, as
required to be considered by
§ 226.43(c)(2)(v); and the monthly
payment amount of any current debt
obligations, as required to be considered
by § 226.43(c)(2)(vi). Proposed
§ 226.43(c)(7)(i)(B) defines the term
‘‘total monthly income’’ to mean the sum
of the consumer’s current or reasonably
expected income, including any income
from assets, as required to be considered
by § 226.43(c)(2)(i) and (c)(4).
With respect to the calculations,
proposed § 226.43(c)(7)(ii)(A) requires
the creditor to consider the consumer’s
monthly debt-to-income ratio for
purposes of § 226.43(c)(2)(vii) using the
ratio of the consumer’s total monthly
debt obligations to total monthly
income. Proposed § 226.43(c)(7)(ii)(B)
requires the creditor to consider the
consumer’s remaining income after
subtracting the consumer’s total
monthly debt obligations from the total
monthly income.
Proposed comment 43(c)(7)–1 states
that creditors must calculate the
consumer’s total monthly debt
obligations and total monthly income in
accordance with the requirements in
proposed § 226.43(c)(7). The
commentary explains that creditors may
look to widely accepted governmental
and non-governmental underwriting
standards to determine the appropriate
thresholds for the debt-to-income ratio
or residual income.
Proposed comment 43(c)(7)–2
explains that if a creditor considers both
the consumer’s debt-to-income ratio and
residual income, the creditor may base
its repayment ability determination on
either the consumer’s debt-to-income
ratio or residual income, even if the
ability-to-repay determination would
differ with the basis used. Indeed, the
Board does not wish to create an
incentive for creditors to consider and
verify as few factors as possible in the
repayment ability determination.
Proposed comment 43(c)(7)–3 clarifies
that creditors may consider
compensating factors to mitigate a
higher debt-to-income ratio or lower
residual income. For example, creditors
may consider the consumer’s assets
other than the dwelling securing the
covered transaction, or the consumer’s
residual income as compensating factors
for a higher debt-to-income ratio. The
proposed commentary permits creditors
to look to widely accepted governmental
and non-governmental underwriting

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standards in determining whether and
in what manner to include the
compensating factors. The Board solicits
comment on whether it should provide
more guidance on what compensating
factors creditors may consider, and on
how creditors may include
compensating factors in the repayment
ability determination.
Residual income. Except for one small
creditor and the U.S. Department of
Veterans’ Affairs (VA), the Board is not
aware of any creditors that routinely use
residual income in underwriting, other
than as a compensating factor.47 The VA
underwrites its loans to veterans based
on a residual income table developed in
1997. The table shows the residual
income required for the borrower based
on the loan amount, region of the
country, and family size. The residual
income is calculated by deducting
obligations, including Federal and state
taxes, from effective income. The Board
solicits comment on whether
consideration of residual income should
account for loan amount, region of the
country, and family size. The Board also
solicits comment on whether creditors
should be required to include Federal
and state taxes in the consumer’s
obligations for purposes of calculating
residual income.
Automated underwriting systems. The
Board understands that creditors
routinely rely on automated
underwriting systems. Many of those
systems are proprietary and thus lack
transparency to the individual creditors
using the systems. The Board solicits
comment on providing a safe harbor for
creditors relying on automated
underwriting systems that use monthly
debt-to-income ratios, if the system
developer certifies that the system’s use
of monthly debt-to-income ratios in
determining repayment ability is
empirically derived and statistically
sound. The Board also solicits comment
on other methods to facilitate creditor
reliance on automated underwriting
systems, while ensuring that creditors
can demonstrate compliance with the
rule.

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43(d) Refinancing of Non-Standard
Mortgages
Introduction
Proposed § 226.43(d) exempts
creditors of refinancings under certain
limited circumstances from the
requirement to verify income and assets
47 See also, Michael E. Stone, What is Housing
Affordability? The Case for the Residual Income
Approach, 17 Housing Policy Debate 179 (Fannie
Mae 2006) (advocating use of a residual income
approach but acknowledging that it ‘‘is neither well
known, particularly in this country, nor widely
understood, let alone accepted’’).

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in determining whether a consumer has
the ability to repay a covered
transaction. See proposed
§ 226.43(c)(2)(ii). It also applies a
different payment calculation
requirement to creditors determining
whether a consumer has the ability to
repay these special types of refinanced
loans. See proposed § 226.43(c)(2)(iii),
and (c)(5). Proposed § 226.43(d)
implements TILA Section 129C(a)(6)(E),
which was added to TILA under § 1411
of the Dodd-Frank Act. 15 U.S.C.
1639c(a)(6)(E). As previously noted,
Section 1411 of the Dodd-Frank Act
amends TILA by adding new Section
129C(a), which requires creditors to
determine whether a consumer has a
reasonable ability to repay a home
mortgage loan before making the loan
and sets the parameters for that
determination (detailed above in the
section-by-section analysis of
§ 226.43(c)). 15 U.S.C. 1639c(a). TILA
Section 129C(a)(6)(E) applies special
ability-to-repay provisions to
transactions in which a ‘‘hybrid loan’’ is
refinanced into a ‘‘standard loan’’ and
the following additional conditions are
met:
• The ‘‘creditor’’ for the hybrid loan
and the standard loan is the ‘‘same’’;
• There is a ‘‘reduction’’ in the
consumer’s monthly payment from the
hybrid loan to the standard loan; and
• The consumer ‘‘has not been
delinquent on any payment on the
existing hybrid mortgage.’’
15 U.S.C. 1639c(a)(6)(E).
Specifically, ‘‘in considering any
application for a refinancing,’’ the
creditor may—
• Consider the consumer’s ‘‘good
standing on the existing mortgage.’’
• Consider whether the extension of
new credit would prevent a likely
default should the original mortgage
reset and may give this concern a
‘‘higher priority as an acceptable
underwriting practice.’’
• Offer rate discounts and other
favorable terms to the consumer that
would be available to ‘‘new customers
with high credit ratings based on [the
creditor’s] underwriting practice.’’
TILA Section 129C(a)(6)(E)(i)–(iii); 15
U.S.C. 1639c(a)(6)(E)(i)–(iii).
The Dodd-Frank Act does not define
the terms ‘‘hybrid loan’’ or ‘‘standard
loan.’’ The statute also does not
expressly state that a creditor is exempt
from the statutory ability to repay
requirements in refinancings for which
the above conditions are met. To
determine the meaning of these
provisions, the Board reviewed the
Dodd-Frank Act’s legislative history;
consulted with consumer advocates and

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representatives of both industry and
government-sponsored housing finance
enterprises (GSEs); and examined
underwriting rules and guidelines for
the streamlined refinance programs of
private creditors, GSEs and government
agencies, as well as for the Home
Affordable Modification Program
(HAMP). For additional guidance, the
Board also considered the Dodd-Frank
Act provisions exempting streamlined
refinancings under Federal government
agency programs. See TILA Section
129C(a)(5); 15 U.S.C. 1639c(a)(5).
In the Board’s view, both the statutory
text and additional research support
interpreting TILA Section 129C(a)(6)(E)
to mean that creditors of refinancings
meeting certain conditions should have
greater flexibility to comply with the
general ability-to-repay provisions in
TILA Section 129C(a) (proposed to be
implemented by § 226.43(c)).
Accordingly, the proposal: (1) Clarifies
the conditions that must be met in home
mortgage refinancings to which greater
flexibility applies; and (2) provides an
exemption for creditors of these
refinancings from certain limited
criteria required to be considered as part
of the general repayment ability
determination under TILA Section
129C(a) (see proposed § 226.43(c)).
Under the proposal, loans that can
result in ‘‘payment shock’’ may be
refinanced without the creditor having
to verify the borrower’s income and
assets with written documentation as
prescribed in the general ability-torepay requirements (see the section-bysection analysis of § 226.43(c)(2)(ii) and
(c)(4)), as long as a number of additional
conditions are met. In addition, the
creditor is permitted to calculate the
monthly payment used for determining
the consumer’s ability to repay the new
loan based on assumptions that would
typically result in a lower monthly
payment than those required to be used
under the general ability-to-repay
requirements (see the section-by-section
analysis of § 226.43(c)(2)(iii) and (c)(5)).
As a result, when all of the special
refinancing conditions are met, creditors
may be better able to qualify a consumer
for a new loan than under the general
ability-to-repay requirements.
A central provision of TILA Section
129C(a)(6)(E) permits creditors to give
prevention of a ‘‘likely default should
the original mortgage reset a higher
priority as an acceptable underwriting
practice.’’ TILA Section 129C(a)(6)(E)(ii);
15 U.S.C. 1639c(a)(6)(E)(ii). The Board
believes that the structure of the statute
supports interpreting this provision to
mean that certain ability-to-repay
criteria under TILA Section 129C(a)
should not apply to refinances that meet

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the requisite conditions. The special
refinancing provisions of TILA Section
129C(a)(6)(E) are part of TILA Section
129C(a), entitled ‘‘Ability to Repay,’’ the
paragraph that specifically prescribes
the requirements that creditors must
meet to satisfy the obligation to
determine a consumer’s ability to repay
a home mortgage. In the Board’s view,
the term ‘‘underwriting practice’’ is
reasonably interpreted to refer to the
underwriting rules prescribed in earlier
portions of TILA Section 129C(a)—
namely, those concerning the general
ability to repay underwriting
requirements.
Overall, the Board interprets the
special refinancing provisions of TILA
Section 129C(a)(6)(E) as intended to
allow for the greater flexibility in
underwriting that is characteristic of socalled ‘‘streamlined refinances.’’ The
Board notes in particular that typical
streamlined refinance programs do not
require documentation of income and
assets, although a verbal verification of
employment may be required.48 The
Board’s interpretation is based both on
the statutory text and on the Board’s
research and outreach with concerned
parties.
Regarding the Board’s research and
outreach, the Board understands that
streamlined refinances have been an
important resource for consumers,
particularly in recent years, who faced
impending payment shock, could not
qualify for a typical refinance because of
property value declines, or both. To
address these problems, many lenders
as well as the GSEs and government
agencies developed lending programs to
allow borrowers of loans held by them
to refinance despite high loan-to-value
ratios or other characteristics that might
otherwise impede refinancing.
Representatives of creditors and GSEs in
particular informed the Board that their
streamlined refinance programs are a
significant proportion of their portfolios
and that they view their programs as
valuable to both consumers and loan
holders. Consumers are able to take
advantage of lower rates to obtain a
more affordable loan (and lower
payments) and, in some cases, to avoid
default or even foreclosure. At the same
time, loan holders strengthen their
portfolios by replacing potentially
unaffordable and unstable loans with
affordable, stable products.
48 See id. at 4. See also, e.g., Freddie Mac SingleFamily Seller/Servicer Guide, Vol. 1, Ch. 24:
Refinance Mortgages/24.4: Requirements for
Freddie Mac-owned streamlined refinance
mortgages (Sept. 1, 2010). As of May 1, 2011,
Freddie Mac will no longer purchase Freddie Macowned streamlined refinance mortgages. See
Freddie Mac Bulletin 2011–2 (Jan. 18, 2011).

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Regarding the statutory text, the Board
notes that the refinancing provisions
under TILA Section 129C(a)(6)(E)
include three central elements of typical
streamlined refinance programs.49 First,
the creditor for both the existing
mortgage and the new mortgage must be
the same (see the section-by-section
analysis of § 226.43(d)(1)(i) discussing
the Board’s interpretation of ‘‘same
creditor’’ to mean the current holder of
the loan or the servicer acting on behalf
of the current holder). 15 U.S.C.
1639C(a)(6)(E). Second, the borrower
must have a positive payment history on
the existing mortgage (see the sectionby-section analysis of § 226.43(d)(1)(iv)
and (d)(1)(v) for further discussion).
Third, TILA’s special refinancing
provisions require that the payment on
the new mortgage be lower than the
payment on the existing mortgage—a
common objective of typical
streamlined refinance programs.50
Finally, as noted, TILA Section
129C(a) includes a provision that
specifically addresses how the general
ability-to-repay requirements apply to
streamlined refinances under programs
of government agencies such as the
Federal Housing Administration and
U.S. Department of Veterans’ Affairs.
See TILA Section 129C(a)(5), 15 U.S.C.
1639c(a)(5). In the Board’s view, the
most reasonable interpretation of the
additional section on refinancings under
TILA Section 129C(a)(6)(E) is that it is
intended to cover the remaining market
for streamlined refinances—namely,
those offered under programs of private
creditors and the GSEs.
One difference between the statute
and typical streamlined refinance
programs, however, is that the statute
targets consumers facing ‘‘likely default’’
if the existing mortgage ‘‘reset[s].’’ The
Board understands that, by contrast,
streamlined refinance programs are not
normally limited to borrowers at risk in
this way. For example, they often assist
consumers who are not facing potential
default but who simply wish to take
advantage of lower rates despite a drop
in their home value or wish to switch
from a less stable variable-rate product
to a fixed-rate product.51 However, the
49 During outreach, Fannie Mae provided data to
the Board indicating that for 2010, Fannie Mae,
Freddie Mac and Ginnie Mae refinancings totaled
$925 billion, while non-GSE refinancings totaled
$73 billion. Of the combined GSE refinancings,
$288.6 billion were ‘‘streamlined refinances’’—
approximately one-third of all GSE refinancings.
50 See, e.g., Fannie Mae, ‘‘Home Affordable
Refinance Refi PlusTM Options,’’ p. 1 (Mar. 29,
2010).
51 See, e.g., Fannie Mae, ‘‘Home Affordable
Refinance Refi PlusTM Options,’’ p. 1 (Mar. 29,
2010); Freddie Mac, ‘‘Freddie Mac-owned

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focus of TILA’s new refinancing
provisions is similar to the focus of
HAMP, a government program
specifically aimed at providing
modifications for borrowers at risk of
‘‘imminent default,’’ or in default or
foreclosure.52 Underwriting criteria for a
HAMP modification are considerably
more stringent than for a typical
streamlined refinance; for example,
income verification documentation is
required, in addition to documented
verification of expenses.53 Concerns
about the potential risks posed by loans
to troubled borrowers may explain the
robust underwriting standards for
HAMP modifications.
On balance, the Board believes that
the statutory language is most
appropriately interpreted to be modeled
on the underwriting standards of typical
streamlined refinance programs rather
than the tighter standards of HAMP. The
plain language of the Dodd-Frank Act
indicates that Congress intended to
facilitate opportunities to refinance
loans on which their payments could
become significantly higher and thus
unaffordable. Applying the strict
underwriting standards that are too
stringent could impede refinances that
Congress intended to encourage. In
particular, the statutory language
permitting creditors to give ‘‘likely
default’’ a ‘‘higher priority as an
acceptable underwriting practice’’
indicates that flexibility in these special
refinances should be permitted. In
addition, underwriting standards that go
significantly beyond those used in
existing streamlined refinance programs
could create a risk that these programs
would be unable to meet the TILA
ability-to-repay requirements; thus, an
important refinancing resource for atrisk borrowers would be compromised
and the overall mortgage market
potentially disrupted at a vulnerable
time.
At the same time, the Board
recognizes that borrowers at risk of
default when higher payments are
required might present greater credit
risks to the institutions holding their
loans when those loans are refinanced
without verifying the consumer’s
income and assets. For example, a
consumer may be paying $525 per
month as an interest-only payment on
an existing adjustable-rate loan. When
refinanced at a lower, fixed rate with
fully amortizing payments, however, the
Streamlined Refinance Mortgage,’’ Pub. No. 387, pp.
1–2 (Aug. 2010).
52 See, e.g., Fannie Mae, ‘‘Home Affordable
Modification Program,’’ p. 1, FM 0509 (2009).
53 See, Fannie Mae, ‘‘Making Home AffordableSM
Program, Handbook for Servicers of Non-GSE
Mortgages,’’ Ch. II, § 5, pp. 59–62 (Dec. 2, 2010).

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payment may go up somewhat from the
previous interest-only level—for
example, to $650—because the new
payments now cover both principal and
interest. (For further discussion of how
this scenario is possible under the
proposal, see the section-by-section
analysis of proposed § 226.43(d)(5).) The
new payment of $650 is likely to be
lower than the ‘‘reset’’ payment at the
fully-indexed rate on the existing
mortgage; nonetheless, the creditor
incurs some risk that the consumer may
not be able to afford the new payments.
For this reason, to qualify for the
ability to repay exemptions under
proposed § 226.43(d), a consumer must
meet some requirements that are more
stringent than those of typical
streamlined refinance programs. Under
the proposal, for example, a consumer
may have had only one delinquency of
more than 30 days in the 24 months
immediately preceding the consumer’s
application for a refinance. See
proposed § 226.43(d)(1)(iv). By contrast,
streamlined refinance programs of
which the Board is aware tend to
consider the consumer’s payment
history for only the last 12 months.54 As
another safeguard against risk, the Board
defines the type of loan into which a
consumer may refinance under TILA’s
new refinancing provisions to include
several characteristics designed to
ensure that those loans are stable and
affordable. These include a requirement
that the interest rate be fixed for the first
five years after consummation (see
proposed § 226.43(d)(2)(ii)(D)) and that
the points and fees be capped at three
percent of the total loan amount, subject
to a limited exemption for smaller loans
(see proposed § 226.43(d)(2)(ii)(B))).

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The Board’s Proposal
43(d)(1) Scope
Proposed § 226.43(d)(1) defines the
scope of the provisions regarding the
refinancing of non-standard mortgages
under proposed § 226.43(d).
Specifically, this provision states that
§ 226.43(d) applies to the refinancing of
a ‘‘non-standard mortgage’’ (defined in
proposed § 226.43(d)(2)(i)) into a
‘‘standard mortgage’’ (defined in
proposed § 226.43(d)(2)(ii)) when the
following conditions are met—
• The creditor of the standard
mortgage is the current holder of the
existing non-standard mortgage or the
servicer acting on behalf of the current
holder.
54 See, e.g., Fannie Mae, ‘‘Home Affordable
Refinance Refi PlusTM Options,’’ p. 2 (Mar. 29,
2010); Freddie Mac, ‘‘Freddie Mac-owned
Streamlined Refinance Mortgage,’’ Pub. No. 387, p.
2 (Aug. 2010).

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• The monthly payment for the
standard mortgage is significantly lower
than the monthly payment for the nonstandard mortgage, as calculated under
proposed § 226.43(d)(5).
• The creditor receives the
consumer’s written application for the
standard mortgage before the nonstandard mortgage is ‘‘recast’’ (defined in
proposed § 226.43(b)(11)).
• The consumer has made no more
than one payment more than 30 days
late on the non-standard mortgage
during the 24 months immediately
preceding the creditor’s receipt of the
consumer’s written application for the
standard mortgage.
• The consumer has made no
payments more than 30 days late during
the six months immediately preceding
the creditor’s receipt of the consumer’s
written application for the standard
mortgage.
As discussed further below, proposed
§ 226.43(d)(2)(iii) defines the term
‘‘refinancing’’ to have the same meaning
as in § 226.20(a).
Proposed comment 43(d)(1)–1
clarifies that the requirements for a
‘‘written application,’’ a term that
appears in § 226.43(d)(1)(iii), (d)(1)(iv)
and (d)(1)(v), discussed in detail below,
are found in comment 19(a)(1)(i)–3.
Comment 19(a)(1)(i)–3 states that
creditors may rely on the Real Estate
Settlement Procedures Act (RESPA) and
Regulation X (including any
interpretations issued by HUD) in
deciding whether a ‘‘written
application’’ has been received. This
comment further states that, in general,
Regulation X defines ‘‘application’’ to
mean the submission of a borrower’s
financial information in anticipation of
a credit decision relating to a Federally
related mortgage loan. See 24 CFR
3500.2(b). The comment clarifies that an
application is received when it reaches
the creditor in any of the ways
applications are normally transmitted—
by mail, hand delivery, or through an
intermediary agent or broker. The
comment further clarifies that, if an
application reaches the creditor through
an intermediary agent or broker, the
application is received when it reaches
the creditor, rather than when it reaches
the agent or broker. This comment also
cross-references comment 19(b)–3 for
guidance in determining whether or not
the transaction involves an intermediary
agent or broker.
43(d)(1)(i) Creditor is the Current Holder
or Servicer Acting on Behalf of Current
Holder
Proposed § 226.43(d)(1)(i) requires
that the creditor for the new mortgage
(the ‘‘standard mortgage’’) also be either

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the current holder of the existing ‘‘nonstandard mortgage’’ or the servicer
acting on behalf of the current holder.
This provision implements the statutory
requirement that the existing loan must
be refinanced by ‘‘the creditor into a
standard loan to be made by the same
creditor.’’ TILA Section 129C(a)(6)(E); 15
U.S.C. 1639c(a)(6)(E). The Board
believes that this statutory provision
requires the entity refinancing the loan
to have an existing relationship with the
consumer. The existing relationship is
important because the creditor must be
able to easily access the consumer’s
payment history and potentially other
information about the consumer in lieu
of documenting the consumer’s income
and assets. In addition, the Board reads
the statute to be intended in part to
ensure the safety and soundness of
financial institutions by giving them
greater flexibility to improve the quality
of their loan portfolios through
streamlined refinances.
The Board also believes that this
statutory provision is intended to ensure
that the creditor of the refinancing have
an interest in placing the consumer into
new loan that is affordable and
beneficial. In the Board’s view, the
creditor of the new loan will in most
cases retain an interest in the
consumer’s well-being when the
creditor is also the current holder of the
loan or the servicer acting on the current
holder’s behalf. In cases where a
creditor holds a loan and will hold the
loan after it is refinanced, the creditor
has a direct interest in refinancing the
consumer into a more stable and
affordable product. In addition, the
Board understands that the existing
servicer often will be the entity
conducting the refinance, particularly
for refinances held by GSEs. By also
permitting the creditor on the
refinanced loan to be the servicer acting
on behalf of the holder of the existing
mortgage, the proposal is intended
clearly to cover instances where a loan
that has been sold to a GSE is refinanced
by the existing servicer and continues to
be held by the same GSE.
At the same time, the Board
recognizes that the creditor on the new
mortgage may not necessarily retain an
interest in the new loan if the creditor
immediately sells the loan to a new
holder. The Board requests comment on
whether the proposed rule could be
structured differently to better ensure
that the creditor on a refinancing under
§ 226.43(d) retains an interest in the
performance of the new loan and
whether additional guidance is needed.

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43(d)(1)(ii) Monthly Payment for the
Standard Mortgage is Materially Lower
Than the Monthly Payment for the NonStandard Mortgage
Proposed § 226.43(d)(1)(ii) requires
that the monthly payment on the new
loan (the ‘‘standard mortgage’’) be
‘‘materially lower’’ than the monthly
payment for the existing loan (the ‘‘nonstandard mortgage’’). This provision
implements the statutory requirement
that there be ‘‘a reduction in monthly
payment on the existing hybrid loan’’ in
order for the special provisions to apply
to a refinancing. TILA Section
129C(a)(6)(E); 15 U.S.C. 1639c(a)(6)(E).
Proposed comment 43(d)(1)(ii)–1
provides that the exemptions afforded
under § 226.43(d)(3) (discussed below)
apply to a refinancing only if the
monthly payment for the new loan is
‘‘materially lower’’ than the monthly
payment for an existing non-standard
mortgage and clarifies that the payments
that must be compared must be
calculated based on the requirements
under § 226.43(d)(5) (discussed below).
This comment also explains that
whether the new loan payment is
‘‘materially lower’’ than the nonstandard mortgage payment depends on
the facts and circumstances, but that, in
all cases, a payment reduction of 10
percent or greater would meet the
‘‘materially lower’’ standard.
For several reasons, the Board
interprets the statutory requirement for
a ‘‘reduction in monthly payment’’ to
mean that the new payment must be
‘‘materially lower’’ than the payment
under the existing mortgage and that a
10 percent or greater reduction is a
reasonable safe harbor. First, if the
required reduction could be merely de
minimis—such as a reduction of a few
cents or dollars—the statutory purpose
would not be met. In such cases, the
consumer would not obtain a
meaningful benefit that would prevent
default—in other words, the reduction
would not be ‘‘material.’’ Second, based
on outreach, the Board understands that
a 10 percent reduction in the payment
is a reasonable minimum reduction that
can provide a meaningful benefit to the
consumer.
The Board requests comment on
whether a requirement that the payment
on the standard mortgage must be
‘‘materially lower’’ than the payment on
the non-standard mortgage (as
calculated under § 226.43(d)(5)(ii) and
(d)(5)(i), respectively) and whether a 10
percent reduction or some other
percentage or dollar amount would be a
more appropriate safe harbor for
compliance with this requirement. The
Board also requests comment on

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whether a percentage or dollar amount
reduction would be more appropriate a
rule rather than a safe harbor.
43(d)(1)(iii) Creditor Receives the
Consumer’s Written Application for the
Standard Mortgage Before the NonStandard Mortgage is Recast
Proposed § 226.43(d)(1)(iii) requires
that the creditor for the refinancing
receive the consumer’s written
application for the refinancing before
the existing non-standard mortgage is
‘‘recast.’’ As discussed in the section-bysection analysis of § 226.43(b)(11), the
Board defines the term ‘‘recast’’ to mean,
for an adjustable-rate mortgage, the
expiration of the period during which
payments based on the introductory
fixed rate are permitted; for an interestonly loan, the expiration of the period
during which the interest-only
payments are permitted; and, for a
negative amortization loan, the
expiration of the period during which
negatively amortizing payments are
permitted.
The Board believes that proposed
§ 226.43(d)(1)(iii) is necessary to
implement TILA Section
129C(a)(6)(E)(ii), which permits
creditors of certain refinances to
‘‘consider if the extension of new credit
would prevent a likely default should
the original mortgage reset.’’ 15 U.S.C.
1639c(a)(6)(E)(ii). This statutory
language implies that the special
refinancing provisions apply only where
the original mortgage has not yet ‘‘reset.’’
Congress’s concern appears to be
prevention of default in the event of a
‘‘reset,’’ not loss mitigation on a
mortgage for which a default on the
‘‘reset’’ payment has already occurred.
The Board recognizes that a consumer
may not realize that a loan will be recast
until the recast occurs and that, at that
point, the consumer could not refinance
the loan under the special streamlined
refinancing provisions of proposed
§ 226.43(d). The Board requests
comment on whether to use its legal
authority to make adjustments to TILA
to permit streamlined refinancings even
after a loan is recast.
43(d)(1)(iv) One Payment More Than 30
Days Late During the 24 Months
Immediately Preceding the Creditor’s
Receipt of the Consumer’s Written
Application
Proposed § 226.43(d)(1)(iv) requires
that, during the 24 months immediately
preceding the creditor’s receipt of the
consumer’s written application for the
standard mortgage, the consumer has
made no more than one payment on the
non-standard mortgage more than 30
days late. Together with

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§ 226.43(d)(1)(v) (discussed below),
§ 226.43(d)(1)(iv) implements the
portion of TILA Section 129C(a)(6)(E)
that requires that the borrower not have
been ‘‘delinquent on any payment on the
existing hybrid loan.’’ 15 U.S.C.
1639c(a)(6)(E).
The Board believes that the proposal
is consistent with the statutory
prohibition on ‘‘any’’ delinquencies on
the existing non-standard (‘‘hybrid’’)
mortgage, in addition to being
consistent with the consumer protection
purpose of TILA and industry practices
under many current streamlined
refinance programs. Further, the
proposal is supported by the Board’s
authority under TILA Sections 105(a)
and 129B(e) to adjust provisions of TILA
and condition practices ‘‘to assure that
consumers are offered and receive
residential mortgage loan on terms that
reasonably reflect their ability to repay
the loans and that are understandable
and not unfair, deceptive, or abusive.’’
15 U.S.C. 1604(a); 15 U.S.C. 1639b(e);
TILA Section 129B(a)(2), 15 U.S.C.
1639b(a)(2). The proposal is designed to
further this purpose by facilitating
transactions that help consumers
refinance out of unaffordable loans.
During outreach, the Board learned
that a delinquency of more than 30 days
often can occur at the time of loan setup due to errors in the set-up process
outside of the consumer’s control. The
Board also noted, as discussed above,
that all of the streamlined refinance
programs reviewed by the Board permit
at least one 30- or 31-day delinquency,
although usually during the last 12
months rather than the last 24 months
prior to application for a refinancing.55
Thus the proposal is more stringent than
typical streamlined refinance programs,
but does not prohibit all delinquencies.
24–Month Look-Back Period. The
Board proposes to require a look-back
period for payment history of 24
months, rather than a 12-month period,
for several reasons. First, as noted
earlier, typical streamlined refinance
programs are often aimed at helping
borrowers with no risk of default. The
Board recognizes that borrowers at risk
of default when higher payments are
required might present greater credit
risks to the institutions holding their
loans, even if the institutions refinance
those loans. In the Board’s view, when
income and assets are not required to be
verified, as proposed, the borrower’s
payment history takes on greater
55 See, e.g., Fannie Mae, ‘‘Home Affordable
Refinance Refi PlusTM Options,’’ p. 2 (Mar. 29,
2010); Freddie Mac, ‘‘Freddie Mac-owned
Streamlined Refinance Mortgage,’’ Pub. No. 387, p.
2 (Aug. 2010).

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
importance, especially in dealing with
at-risk borrowers.
Second, the Board sees some merit in
the views expressed during outreach by
GSE and creditor representatives that
borrowers with positive payment
histories tend to be less likely than other
borrowers to sign up for a new loan for
which they cannot afford the monthly
payments. At the same time, the Board
acknowledges that a positive payment
history on payments at low levels due
to temporarily favorable loan terms is no
guaranty that the consumer can afford
the payments on a new loan. The Board
solicits comment on the proposal to
require that the consumer have only one
delinquency during the 24 months prior
to applying for a refinancing,
particularly on whether a longer or
shorter look-back period should be
required.
Delinquency of 30 days or fewer
permitted. Under the proposal, late
payments of 30 days or fewer on the
existing, non-standard mortgage would
not disqualify a consumer from
refinancing the non-standard mortgage
under the streamlined refinance
provisions of proposed § 226.43(d). The
Board believes that allowing
delinquencies of 30 or fewer days is
consistent with the statutory prohibition
on ‘‘any’’ delinquency for several
reasons. First, delinquencies of this
length may occur for many reasons
outside of the consumer’s control, such
as mailing delays, miscommunication
about where the payment should be
sent, or payment crediting errors.
Second, many creditors incorporate a
late fee ‘‘grace period’’ into their
payment arrangements, which permits
consumers to make their monthly
payments for a certain number of days
after the contractual due date without
incurring a late fee. Thus, many
consumers regularly make their
payments after the contractual due date
and may even set up automated
withdrawals for their payments to be
made after the contractual due date in
order to coincide with the consumer’s
pay periods. The Board does not believe
that the statute is reasonably interpreted
to prohibit consumers from obtaining
needed refinances due to payments that
are late but within a late fee grace
period.
In addition, as discussed above, the
Board interprets TILA Section
129C(a)(6)(E) to be intended as a
mechanism for allowing existing
streamlined refinance programs to
continue should the entities offering
them wish to maintain these programs.
The predominant streamlined refinance
programs of which the Board is aware
uniformly measure whether a consumer

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has a positive payment history based on
whether the consumer has made any
payments late by 30 days or more (or,
as in the proposal, more than 30 days).56
Proposed comment 43(d)(1)(iv)–1
provides the following illustration of the
rule under § 226.43(d)(1)(iv): Assume a
consumer applies for a refinancing on
May 1, 2011. Assume also that the
consumer made a non-standard
mortgage payment on August 15, 2009,
that was 45 days late, but made no other
late payments on the non-standard
mortgage between May 1, 2009, and
May 1, 2011. In this example, the
requirement under § 226.43(d)(1)(iv) is
met because the consumer made only
one payment that was over 30 days late
within the 24 months prior to applying
for the refinancing (i.e., 20 and one-half
months prior to application).
Payment due date. Proposed comment
43(d)(1)(iv)–2 clarifies that whether a
payment is more than 30 days late
depends on the contractual due date not
accounting for any grace period. The
comment provides the following
example: The contractual due date for a
non-standard mortgage payment is the
first day of every month, but no late fee
will be charged as long as the payment
is received by the 16th day of the
month. Here, the ‘‘payment due date’’ is
the first day of the month rather than
the 16th day of the month. Thus, a
payment due under the contract on
September 1st that is paid on October
1st is made more than 30 days after the
payment due date.
The Board believes that using the
contractual due date for determining
whether a payment has been made more
than 30 days after the due date will
facilitate compliance and enforcement
by providing clarity. Whereas late fee
‘‘grace periods’’ are often not stated in
writing, the contractual due date is
unambiguous. In addition, using the
contractual due date for determining
whether a loan payment is made on
time is consistent with standard home
mortgage loan contracts.57
The Board requests comment on
whether the delinquencies that creditors
are required to consider under
§ 226.43(d)(1) should be late payments
56 See, e.g., Freddie Mac Single-Family Seller/
Servicer Guide, Vol. 1, Ch. 24: Refinance
Mortgages/24.4: Requirements for Freddie Macowned streamlined refinance mortgages (Sept. 1,
2010) (requiring that the consumer has been current
on the existing mortgage ‘‘for the most recent 90
days and has not been 30 days delinquent more
than once in the most recent 21 months, or if the
Mortgage being refinanced is seasoned for less than
12 months, since the Mortgage Note Date’’).
57 See Fannie Mae/Freddie Mac Uniform
Instrument, Multistate Fixed Rate Note—Single
Family, Form 3200, §§ 3, 6.

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of more than 30 days as proposed, 30
days or more, or some other time period.
43(d)(1)(v) No Payments More Than 30
Days Late During the Six Months
Immediately Preceding the Creditor’s
Receipt of the Consumer’s Written
Application
Proposed § 226.43(d)(1)(v) requires
that the consumer have made no
payments on the non-standard mortgage
more than 30 days late during the six
months immediately preceding the
creditor’s receipt of the consumer’s
written application for the standard
mortgage. This provision is intended to
complement proposed § 226.43(d)(1)(iv),
discussed above, in implementing the
portion of TILA Section 129C(a)(6)(E)
that requires that the borrower not have
been ‘‘delinquent on any payment on the
existing hybrid loan.’’ 15 U.S.C.
1639C(a)(6)(E). The Board believes that,
together with proposed
§ 226.43(d)(1)(iv), this aspect of the
proposal is a reasonable interpretation
of the prohibition on ‘‘any’’
delinquencies on the non-standard
mortgage and is supported by the
Board’s authority under TILA Sections
105(a) and 129B(e) to adjust provisions
of TILA and condition practices ‘‘to
assure that consumers are offered and
receive residential mortgage loan on
terms that reasonably reflect their ability
to repay the loans and that are
understandable and not unfair,
deceptive, or abusive.’’ 15 U.S.C.
1604(a); TILA Section 129B(a)(2), 15
U.S.C. 1639b(a)(2).
The Board believes that a six-month
‘‘clean’’ payment record indicates a
reasonable level of financial stability on
the part of the consumer applying for a
refinancing. This measure of financial
stability is especially important where
income and assets are not required to be
verified. In addition, some outreach
participants indicated that a prohibition
on delinquencies of more than 30 days
for the six months prior to application
for the refinancing was generally
consistent with common industry
practice and would not be unduly
disruptive to existing streamlined
refinance programs with wellperforming loans.
Proposed comment 43(d)(1)(v)–1
provides the following examples of the
proposed rule: Assume a consumer in a
non-standard mortgage applies for a
refinancing on May 1, 2011. If the
consumer made a 45-day late payment
on March 15, 2011, the requirement
under § 226.43(d)(1)(v) is not met
because the consumer made a payment
more than 30 days late just one and onehalf months prior to application.

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The comment further clarifies that if
the number of months between
consummation of the non-standard
mortgage and the consumer’s
application for the standard mortgage is
six or fewer, the consumer may not have
made any payment more than 30 days
late on the non-standard mortgage. The
comment cross-references proposed
comments 43(d)(1)–2 and 43(d)(1)(iv)–2
for an explanation of ‘‘written
application’’ and how to determine the
payment due date, respectively.
43(d)(2) Definitions
Proposed Section 226.43(d)(2) defines
the terms ‘‘non-standard mortgage’’ and
‘‘standard mortgage’’ in proposed
§ 226.43(d). As noted earlier, the statute
does not define the terms ‘‘hybrid loan’’
and ‘‘standard loan’’ used in the special
refinancing provisions of TILA Section
129C(a)(6)(E). Therefore, the Board
proposes definitions that in its view are
consistent with the policy objective
underlying these special provisions:
Facilitating the refinancing of home
mortgages on which consumers risk a
likely default due to impending
payment shock into more stable and
affordable products.

jlentini on DSKJ8SOYB1PROD with PROPOSALS2

43(d)(2)(i) Non-Standard Mortgage
Proposed § 226.43(d)(2)(i) substitutes
the term ‘‘non-standard mortgage’’ for
the statutory term ‘‘hybrid loan’’ and
defines this term to mean a covered
transaction on which the loan has a
fixed ‘‘teaser’’ rate for a period of one
year or longer after consummation,
which then adjusts to a variable rate
plus a margin for the remaining term of
the loan; or the minimum periodic
payments (whether required or optional)
are either interest-only or negatively
amortizing. Specifically, a ‘‘nonstandard mortgage’’ is any ‘‘covered
transaction’’ (defined in proposed
§ 226.43(b)(1)) that is:
• An adjustable-rate mortgage, as
defined in § 226.18(s)(7)(i), with an
introductory fixed interest rate for a
period of one year or longer; 58
• An interest-only loan, as defined in
§ 226.18(s)(7)(iv); 59 or
• A negative amortization loan, as
defined in § 226.18(s)(7)(v).60
58 ‘‘The term ‘adjustable-rate mortgage’ means a
transaction secured by real property or a dwelling
for which the annual percentage rate may increase
after consummation.’’ 12 CFR 226.18(s)(7)(i).
59 ‘‘The term ‘interest-only’ means that, under the
terms of the legal obligation, one or more of the
periodic payments may be applied solely to accrued
interest and not to loan principal; an ‘interest-only
loan’ is a loan that permits interest-only payments.’’
12 CFR 226.18(s)(7)(iv).
60 ‘‘[T]he term ‘negative amortization’ means
payment of periodic payments that will result in an
increase in the principal balance under the terms

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Proposed comment 43(d)(2)(i)(A)–1
explains what it means that a ‘‘nonstandard mortgage’’ includes an
adjustable-rate mortgage with an
introductory fixed interest rate for one
or more years. This comment clarifies
that, for example, a covered transaction
with a fixed introductory rate for the
first two, three or five years and then
converts to a variable rate for the
remaining 28, 27 or 25 years,
respectively, is a ‘‘non-standard
mortgage.’’ By contrast, a covered
transaction with an introductory rate for
six months that then converts to a
variable rate for the remaining 29 and 1⁄2
years is not a ‘‘non-standard mortgage.’’
The Board believes that the proposed
definition of a ‘‘non-standard mortgage’’
is consistent with congressional intent.
First, the legislative history of the DoddFrank Act describes ‘‘hybrid’’ mortgages
as mortgages with a ‘‘blend’’ of fixed-rate
and adjustable-rate characteristics—
generally loans with an initial fixed
period and adjustment periods, such as
‘‘2/23s and 3/27s.’’ 61 The legislative
history also indicates that Congress was
concerned about borrowers being
trapped in mortgages likely to result in
payments that would suddenly become
significantly higher—often referred to as
‘‘payment shock’’—because their home
values had dropped, thereby ‘‘making
refinancing difficult.’’ 62
The Board believes that Congress’s
overriding concern about consumers
being at risk due to payment shock
supports an interpretation of the term
‘‘hybrid loan’’ to encompass both loans
that are ‘‘hybrid’’ in that they start with
a fixed interest rate and convert to a
variable rate, but also loans that are
‘‘hybrid’’ in that borrowers can make
payments that do not pay down
principal for a period of time that then
convert to higher payments covering all
or a portion of principal. By defining
‘‘non-standard mortgage’’ in this way,
the proposal is intended to increase
refinancing options for a wide range of
at-risk consumers while remaining true
to the statutory language and legislative
intent.
The proposed definition of ‘‘nonstandard mortgage’’ does not include
adjustable-rate mortgages whose rate is
fixed for an initial period of less than
one year. In those instances, a consumer
of the legal obligation; the term ‘negative
amortization loan’ means a loan that permits
payments resulting in negative amortization, other
than a reverse mortgage subject to section 226.33.’’
12 CFR 226.18(s)(7)(v).
61 See U.S. House of Reps., Comm. on Fin.
Services, Report on H.R. 1728, Mortgage Reform
and Anti-Predatory Lending Act, No. 111–94, 51
(May 4, 2009).
62 Id. at 51–52.

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arguably does not face ‘‘payment shock’’
because the consumer has paid the fixed
rate for such a short period of time.
Another concern is that allowing
streamlined refinancings under this
provision where the interest rate is fixed
for less than one year could result in
‘‘loan flipping.’’ A creditor, for example,
could make a covered transaction and
then only a few months later refinance
that loan under § 226.43(d) to take
advantage of the exemption from certain
ability-to-repay requirements while still
profiting from the refinancing fees.
The Board recognizes that under this
definition, a consumer could refinance
out of a relatively stable product, such
as an adjustable-rate mortgage with a
fixed interest rate for a period of 10
years, which then adjusts to a variable
rate for the remaining loan term (a ‘‘10/
1 ARM’’). Whether this is the type of
product that the special refinancing
provisions were meant to accommodate
is unclear. The Board solicits comment
on whether adjustable-rate mortgages
with an initial fixed rate should be
considered ‘‘non-standard mortgages’’
regardless of how long the initial fixed
rate applies, or if the proposed initial
fixed-rate period of at least one year
should otherwise be revised.
The proposed definition of ‘‘nonstandard mortgage’’ also does not
include balloon mortgages. As discussed
above, the Board understands
Congress’s intent to be to cover ‘‘hybrid’’
loans, meaning loans on which the
monthly payment will jump because
new monthly payment terms take effect,
making the loan unaffordable for the
remaining loan term. Balloon mortgages
are not clearly ‘‘hybrid’’ in this sense.
The monthly payments on a balloon
mortgage do not necessarily increase or
change from the time of consummation;
rather, the entire outstanding principal
balance becomes due on a particular,
predetermined date. Consumers of
balloon mortgages typically expect that
the entire loan balance will be due at
once at a certain point in time and are
generally aware well in advance that
they will need to repay the loan or
refinance.
However, the Board recognizes that
consumers of balloon mortgages may be
at risk of being unable to pay the
outstanding principal balance when due
and may need refinancing assistance.
Thus the Board solicits comment on
whether to use its legal authority to
include balloon mortgages in the
definition of ‘‘non-standard mortgage’’
for purposes of the special refinancing
provisions of TILA Section
129C(a)(6)(E). The Board also requests
comment generally on the

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appropriateness of the proposed
definition of ‘‘non-standard mortgage.’’
43(d)(2)(ii) Standard Mortgage
Proposed § 226.43(d)(2)(ii) substitutes
the term ‘‘standard mortgage’’ for the
statutory term ‘‘standard loan’’ and
defines this term to mean a covered
transaction (see proposed § 226.43(b)(1))
that has the following five
characteristics, each of which will be
discussed in more detail further below:
• First, the regular periodic payments
may not (1) cause the principal balance
to increase; (2) allow the consumer to
defer repayment of principal; or (3)
result in a balloon payment. In other
words, to qualify as a standard
mortgage, a covered transaction may not
provide for negative amortization
payments, payments of interest only or
of only a portion of the principal
required to pay off the loan amount over
the loan term, or a balloon payment.
• Second, the total points and fees
payable in connection with the
transaction may not exceed three
percent of the total loan amount, with
exceptions for smaller loans specified in
proposed § 226.43(e)(3), discussed in
detail below.
• Third, the loan term may not
exceed 40 years.
• Fourth, the interest rate must be
fixed for the first five years after
consummation.
• Fifth, the proceeds from the loan
may be used solely to pay—(1) the
outstanding principal balance on the
non-standard mortgage; and (2) closing
or settlement charges required to be
disclosed under RESPA. In other words,
the refinance must be what is commonly
referred to as a ‘‘no-cash-out’’
refinancing, in which the consumer
receives no funds from the loan
proceeds for discretionary spending.
In general, the criteria for a ‘‘standard
mortgage’’ is designed to be similar to
the criteria for a ‘‘qualified mortgage’’
under proposed § 226.43(e)(2), which
places certain limits on loan features
and fees. The Board believes that this
approach is appropriate to ensure that
standard mortgages provide product
stability and affordability for
consumers.
Limitations on regular periodic
payments. Under proposed
§ 226.43(d)(2)(ii)(A), to qualify as a
standard mortgage, a covered
transaction must provide for regular
periodic payments that do not result in
negative amortization, deferral of
principal repayment, or a balloon
payment. The Board believes that these
limitations promote the statutory
purpose of facilitating refinances that
place at-risk consumers in more

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sustainable mortgages. These provisions
are also consistent with the definition of
a ‘‘qualified mortgage’’ under proposed
§ 226.43(e)(2)(i). See section-by-section
analysis of § 226.43(e)(2), below.
Proposed comment 43(d)(2)(ii)(A)–1
explains the meaning of ‘‘regular
periodic payments’’ that do not result in
an increase of the principal balance
(negative amortization) or allow the
consumer to defer repayment of
principal (see proposed comment
43(e)(2)(i)–2, discussed below). The
comment explains that the requirement
for ‘‘regular periodic payments’’ means
that the contractual terms of the
standard mortgage must obligate the
consumer to make payments of
principal and interest on a monthly or
other periodic basis that will repay the
loan amount over the loan term. The
comment further explains that, with the
exception of payments resulting from
any interest rate changes after
consummation in an adjustable-rate or
step-rate mortgage, the periodic
payments must be substantially equal.
This comment notes that meaning of
‘‘substantially equal’’ is explained in
proposed comment 43(c)(5)(i)–3
(discussed above in the section-bysection analysis of proposed
§ 226.43(c)(5)). In addition, the
comment clarifies that ‘‘regular periodic
payments’’ do not include a singlepayment transaction and crossreferences similar commentary on the
meaning of ‘‘regular periodic payments’’
for the purposes of a ‘‘qualified
mortgage’’ (proposed comment
43(e)(2)(i)–1).
Proposed comment 43(d)(2)(ii)(A)–1
also cross-references proposed comment
43(e)(2)(i)–2 to explain the prohibition
on payments that ‘‘allow the consumer
to defer repayment of principal.’’
Proposed comment 43(e)(2)(i)-2
describes the meaning of this phrase in
the context of defining the term
‘‘qualified mortgage’’ under proposed
§ 226.43(e); however, the phrase has the
same meaning in the definition of
‘‘standard mortgage’’ under proposed
§ 226.43(d). Specifically, the comment
states that deferral of principal
repayment includes interest-only terms,
under which one or more of the periodic
payments may be applied solely to
accrued interest and not to loan
principal. Deferral of principal
repayment also includes terms under
which part of the periodic payment is
applied to loan principal but is
insufficient to pay off the loan amount
over the loan term, requiring an increase
in later periodic payments (or a balloon
payment) to make up the principal
shortfall of earlier payments. Graduated
payment mortgages, for example, allow

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deferral of principal repayment in this
manner and therefore generally may not
be standard mortgages or qualified
mortgages.
Three percent cap on points and fees.
Proposed § 226.43(d)(2)(ii)(B) prohibits
creditors from charging points and fees
on the mortgage transaction of more
than three percent of the total loan
amount, with certain exceptions for
small loans. Specifically, proposed
§ 226.43(d)(2)(ii)(B) cross-references the
points and fees provisions under
proposed § 226.43(e)(3), thereby
applying the points and fees limitations
for a ‘‘qualified mortgage’’ to a ‘‘standard
mortgage.’’ The points and fees
limitation for a ‘‘qualified mortgage’’ is
discussed in detail in the section-bysection analysis of proposed
§ 226.43(e)(3), below. In sum, under
proposed § 226.43(e)(3)(i), the total
points and fees payable in connection
with a loan may not exceed—
Alternative 1:
• For a loan amount of $75,000 or more,
3 percent of the total loan amount;
• For a loan amount of greater than or
equal to $60,000 but less than
$75,000, 3.5 percent of the total
loan amount;
• For a loan amount of greater than or
equal to $40,000 but less than
$60,000, 4 percent of the total loan
amount;
• For a loan amount of greater than or
equal to $ 20,000 but less than
$40,000, 4.5 percent of the total
loan amount; and
• For a loan amount of less than
$20,000, 5 percent of the total loan
amount.
Alternative 2:
• For a loan amount of $75,000 or more,
3 percent of the total loan amount;
• For a loan amount of greater than or
equal to $20,000 but less than
$75,000, a percent of the total loan
amount not to exceed the amount
produced by the following
formula—
Æ Total loan amount ¥ $20,000 = $Z
Æ $Z × .0036 basis points = Y basis
points
Æ 500 basis points ¥ Y basis points
= X basis points
Æ X basis points × .01 = Allowable
points and fees as a percentage of the
total loan amount.
• For a loan amount of less than
$20,000, 5 percent of the total loan
amount.
For a detailed discussion of the
alternative points and fees thresholds
for qualified mortgages, see the sectionby-section analysis of proposed
§ 226.43(e)(3), below.
In the Board’s view, the proposed
limitation on the points and fees that

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may be charged on a ‘‘standard
mortgage’’ is important for at least three
reasons. First, the limitation prevents
creditors from undermining the purpose
of the provision—placing at-risk
consumers into more affordable loans—
by charging excessive points and fees
for the refinance. Second, the points and
fees cap helps ensure that consumers
attain a net benefit in refinancing their
non-standard mortgage. The higher a
consumer’s upfront costs to refinance a
home mortgage, the longer it will take
for the consumer to recoup those costs
through lower payments on the new
mortgage. By limiting the amount of
points and fees that can be charged in
a refinance covered by § 226.43(d), the
proposal reduces the amount of time it
will take for the consumer to recoup his
transaction costs, thus increasing the
likelihood that the consumer will hold
the loan long enough to in fact recoup
those costs. Third, this provision is
consistent with the exemption from
income verification requirements for
streamlined refinances under Federal
government programs. See TILA Section
129C(a)(5). The Board is not aware of
any reason why points and fees should
be capped for government streamlined
refinances but not for private
streamlined refinances.
The Board requests comment on the
proposal to apply the same limit on the
points and fees that may be charged for
a ‘‘qualified mortgage’’ under § 226.43(e)
to the points and fees that may be
charged on a ‘‘standard mortgage’’ under
§ 226.43(d).
Loan term of no more than 40 years.
Proposed § 226.43(d)(2)(ii)(C) provides
that, to qualify as a standard mortgage
under proposed § 226.43(d), a covered
transaction may not have a loan term of
more than 40 years. The Board believes
that allowing a loan term of up to 40
years is consistent with the statutory
goal of promoting refinances for
borrowers in potential crisis, as well as
with the statutory language that requires
the monthly payment for the standard
mortgage to be lower than the payment
for the non-standard mortgage. The
proposal is intended to ensure that
creditors and consumers have sufficient
options to refinance a 30-year loan, for
example, which is unaffordable for the
consumer in the near term, into a loan
with lower, more affordable payments
over a longer term. This flexibility may
be especially important in higher cost
areas where loan amounts on average
exceed loan amounts in other areas. At
the same time, the Board recognizes that
loans of longer terms cost more over
time for the consumer.
During outreach, the Board heard
concerns from consumer advocates that

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allowing a loan term of 40 years on any
mortgage is detrimental to consumers
and the market as a whole. Consumer
advocates argued that 40-year loans are
expensive and do not save consumers
sufficient money on the monthly
payment to offset this expense. Among
other information, consumer advocates
provided an example of a $300,000 loan
at an 8 percent fixed interest rate. The
difference between the 20 and 30 year
payment is $308.03 a month ($2,509.32
reduced to $2,201.29). The difference
between the 30- and 40-year loan is
$115.36 a month. Consumer advocates
question the advantages of a monthly
payment reduction of $115.36 per
month when the loan costs an
additional $208,783 over the 40 years
more than the 30-year loan.
A more appropriate comparison may
be the total interest paid for the two
types of loans during an equal, shorter
period rather than for the life of each
loan. A shorter period is relevant
because most loans are prepaid well
before the stated end of the term. For
instance, during the first year, the total
interest paid on the 30-year loan would
be $23,909, compared to $23,961 for the
40-year loan. Over the first five years,
total interest paid on the 30-year loan
would be $117,287, compared to
$118,842 on the 40-year loan, which is
a difference of $1,555 more for the 40year loan. Over the first 10 years, total
interest paid on the 30-year loan would
be $227,329, compared to $234,591 on
the 40-year loan, which is a difference
of $7,262 more for the 40-year loan.
While recognizing that a 40-year
mortgage is more expensive than a 30year mortgage over the long term, the
Board is reluctant to foreclose options
for consumers for whom the lower
payment of a 40-year loan might make
the difference between defaulting and
not defaulting. The Board also notes that
prevalent streamlined refinance
programs permit loan terms of up to 40
years and is concerned about disrupting
the current mortgage market at a
vulnerable time.63 The Board requests
comment on the proposal to allow a
standard mortgage to have a loan term
of up to 40 years.
Interest rate is fixed for the first five
years. Proposed § 226.43(d)(2)(ii)(D)
requires that a standard mortgage have
a fixed interest rate for the first five
years (60 months) after consummation.
Proposed comment 43(d)(2)(ii)(D)–1
illustrates this rule for an adjustable-rate
mortgage with an initial fixed interest
63 See, e.g., Fannie Mae, ‘‘Home Affordable
Refinance—New Refinance Options for Existing
Fannie Mae Loans,’’ Announcement 09–04, p. 8
(Mar. 4, 2009) (permitting ‘‘[f]ully-amortizing fixedrate mortgage loans with a term up to 40 years’’).

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rate for the first five years after
consummation. In the example
provided, the adjustable-rate mortgage
consummates on August 15, 2011, and
the first monthly payment is due on
October 1, 2011. The first five years after
consummation occurs on August 15,
2016. The first interest rate adjustment
occurs on the due date of the 60th
monthly payment, which is September
1, 2016. As explained in the comment,
this loan meets the requirement that the
rate be fixed for the first five years after
consummation because the interest rate
is fixed until September 1, 2016—more
than five years after consummation.
This comment also cross-references
proposed comment 43(e)(2)(iv)–3.iii for
guidance regarding step-rate mortgages.
Step-rate mortgages may have a ‘‘fixed’’
interest rate for five years that is not the
same rate for the entire five-year period.
The Board proposes a minimum fiveyear fixed-rate period for standard
mortgages for several reasons. First,
requiring a fixed rate for five years is
consistent with the statutory
requirement for a qualified mortgage,
which requires the creditor to
underwrite the mortgage based on the
maximum interest rate that may apply
during the first five years after
consummation. See TILA Section
129C(b)(2)(A)(v); see also proposed
§ 226.43(e)(2)(iv)(A). The Board
understands that Congress intended
both qualified mortgages and standard
mortgages to be stable loan products,
and therefore believes that the required
five-year fixed-rate period for qualified
mortgages is an appropriate benchmark
for standard mortgages as well. As a
matter of policy, the Board believes that
the safeguard of a fixed rate for five
years after consummation is necessary
to ensure that consumers refinance into
products that are stable for a substantial
period of time. In the Board’s view, a
fixed payment for five years after
consummation is a significant
improvement in the circumstances of a
consumer who may have defaulted
absent the refinance. In effect, the
proposal permits so-called ‘‘5/1 ARMs,’’
where the interest rate is fixed for the
first five years, after which time the rate
becomes variable. In this regard, the
proposal is intended to be generally
consistent with existing streamlined
refinance programs.64 The Board’s
understanding based on outreach is that
5/1 ARMs in existing streamlined
refinance programs have performed
well.
64 See, e.g., id. (permitting ‘‘[f]ully-amortizing
ARM loans with an initial fixed period of five years
or greater with a term up to 40 years’’).

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
Consumer advocates have expressed
the view that a longer fixed-rate period
for standard mortgages is necessary,
preferably at least seven years, arguing
that consumers may hold their loans
longer than five years and be faced with
payment shock sooner than they can
afford. The Board requests comment on
the proposal to require that a standard
mortgage under proposed § 226.43(d)
have an interest rate that is fixed for at
least the first five years after
consummation, including on whether
the rate should be required to be fixed
for a shorter or longer period and data
to support any alternative time period.
In addition, the Board requests
comment on whether a balloon
mortgage of at least five years should be
considered a ‘‘standard mortgage’’ under
the streamlined refinancing provisions
of § 226.43(d). Arguably, a balloon
mortgage with a fixed, monthly payment
for five years would benefit a consumer
who otherwise would have defaulted.
Also, a five-year balloon mortgage may
not be appreciably less risky for the
consumer than a ‘‘5/1 ARM,’’ which is
permitted under the proposal,
depending on the terms of the rate
adjustment scheduled to occur in year
five.
Loan proceeds used for limited
purposes. Proposed § 226.43(d)(2)(ii)(E)
restricts the use of the proceeds of a
standard mortgage to two purposes:
• To pay off the outstanding principal
balance on the non-standard mortgage;
and
• To pay closing or settlement
charges required to be disclosed under
the Real Estate Settlement Procedures
Act, 12 U.S.C. 2601 et seq., which
includes amounts required to be
deposited in an escrow account at or
before consummation.
Proposed comment 43(d)(2)(ii)(E)–1
clarifies that if the proceeds of a covered
transaction are used for other purposes,
such as to pay off other liens or to
provide additional cash to the consumer
for discretionary spending, the
transaction does not meet the definition
of a ‘‘standard mortgage.’’
This proposal is intended to ensure
that the consumer does not incur
additional home mortgage debt as part
of a refinance designed to prevent the
consumer from defaulting on an existing
home mortgage. The Board believes that
permitting the consumer to lose
additional equity in his or her home
under TILA’s special refinancing
provisions would undermine the
financial stability of the consumer, thus
contravening the purposes of the statute.
The Board requests comment, however,
on whether some de minimis amount of

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cash to the consumer should be
permitted, either because this allowance
would be operationally necessary to
cover transaction costs or for other
reasons, such as to reimburse a
consumer for closing costs that were
over-estimated but financed.
43(d)(2)(iii) Refinancing
Proposed § 226.43(d)(2)(iii) defines
the term ‘‘refinancing’’ to have the same
meaning as in § 226.20(a). Section
226.20(a) defines the term ‘‘refinancing’’
generally to mean a transaction in
which an existing obligation is ‘‘satisfied
and replaced by a new obligation
undertaken by the same consumer.’’
Official staff commentary explains that
‘‘[w]hether a refinancing has occurred is
determined by reference to whether the
original obligation has been satisfied or
extinguished and replaced by a new
obligation, based on the parties’ contract
and applicable law.’’ See comment
20(a)–1. However, the following, among
other transaction events, are not
considered ‘‘refinancings’’: (1) A renewal
of a payment obligation with no change
in the original terms; and (2) a reduction
in the annual percentage rate with a
corresponding change in the payment
schedule. See § 226.20(a)(1) and (a)(2),
and comment 20(a)–2.
In the Board’s 2010 Mortgage
Proposal, the Board proposed to revise
the meaning of ‘‘refinancing’’ in § 226.20
to include a broader range of
transactions for which creditors would
be required to give consumers new TILA
disclosures.65 The Board requests
comment on whether the meaning of
‘‘refinancing’’ in § 226.43(d) should be
expanded to include a broader range of
transactions, similar to those covered
under the proposed revisions to
§ 226.20, or otherwise should be defined
differently or explained more fully than
proposed.
43(d)(3) Exemption From Certain
Repayment Ability Requirements
Under specific conditions, proposed
§ 226.43(d)(3) exempts a creditor in a
refinancing from two of the
requirements under proposed
§ 226.43(c) for determining a consumer’s
ability to repay a home mortgage. First,
the creditor is not required to comply
with the income and asset verification
requirements of proposed
§ 226.43(c)(2)(i) and (c)(4). Second, the
creditor is not required to comply with
the payment calculation requirements of
proposed § 226.43(c)(2)(iii) and (c)(5);
the creditor may instead use payment
calculations prescribed in proposed
65 75 FR 58539, 58594–58604, 58697–58699,
58761–58764, Sept. 24, 2010.

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§ 226.43(d)(5)(ii), discussed in more
detail in the section-by-section analysis
of that provision.
For these exemptions to apply, all of
the conditions in proposed
§ 226.43(d)(1)(i)–(v) described above
must be met. See proposed
§ 226.43(d)(3)(i). In addition, the
creditor must consider whether the
standard mortgage will prevent a likely
default by the consumer on the nonstandard mortgage when the nonstandard mortgage is recast. See
proposed § 226.43(d)(3)(ii). This
proposed provision implements TILA
Section 129C(a)(6)(E)(ii), which permits
a creditor to ‘‘consider if the extension
of new credit would prevent a likely
default should the original mortgage
reset and give such concerns a higher
priority as an acceptable underwriting
practice.’’ 15 U.S.C. 1639c(a)(6)(E)(ii). As
clarified in proposed comment
43(d)(3)(i)–1, the Board believes that
this statutory provision requires a
creditor consider whether:
• the consumer is likely to default on
the existing mortgage once new, higher
payments are required; and
• the new mortgage will prevent the
consumer’s default.
Likely default. Proposed comment
43(d)(3)(i)–2 clarifies that, in
considering whether the consumer’s
default on the non-standard mortgage is
‘‘likely,’’ the creditor may look to widely
accepted governmental and nongovernmental standards for analyzing a
consumer’s likelihood of default. The
Board does not intend to constrain
servicers and other relevant parties from
using other methods to determine a
consumer’s likelihood of default,
including those tailored specifically to
that servicer. Outreach participants
informed the Board that servicers and
others use a variety of methods for
determining a consumer’s likelihood of
default, some of which are based on the
particular servicer’s historical
experience with the loans it has
serviced.
The Board has also considered the
meaning of ‘‘imminent default’’ in
HAMP, which, as noted, is a
government program designed to assist
consumers facing ‘‘imminent default’’ or
who are in default or foreclosure. The
Board’s understanding, based on
research and discussions with outreach
participants, is that the requirements for
determining what constitutes ‘‘imminent
default’’ were not precisely defined in
the HAMP rules due to the legitimate
differences in servicer assessments of a
consumer’s likelihood of default. In
addition, a servicer may use more than
one method. For example, Freddie Mac
representatives informed the Board that

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its tool for calculating ‘‘imminent
default’’—the Imminent Default
Indicator or IDI—is one factor among
several that Freddie Mac Seller/
Servicers review in determining a
consumer’s likelihood of default and
that these additional factors may vary
depending on the type of loan and other
characteristics of a particular
transaction or borrower.
The Board heard from consumer
advocates that ‘‘imminent default,’’ as it
has been interpreted by some to date,
may be a standard that is too high for
the refinancing provisions in TILA
Section 129C(a)(6)(E) and could prevent
many consumers from obtaining needed
streamlined refinances. The proposal
therefore uses the exact statutory
wording—‘‘likely default’’—in
implementing the provision permitting
a creditor to prioritize prevention of
default in underwriting a refinancing.
See TILA Section 129C(a)(6)(E)(ii); 15
U.S.C. 1639c(a)(6)(E)(ii). In this way, the
proposal is intended to distinguish the
required standard for a consumer’s
potential default under TILA’s new
refinancing provisions from any
particular meaning that may have been
ascribed to the term ‘‘imminent default’’
in connection with HAMP.
The Board solicits comment on the
proposal to use the term ‘‘likely default’’
in implementing TILA Section
129C(a)(6)(E)(ii) and on whether
additional guidance is needed on how
to meet the requirement that a creditor
must reasonably and in good faith
determine that a standard mortgage will
prevent a likely default should the nonstandard mortgage be recast.
Payment calculation for repayment
ability determination. Proposed
comment 43(d)(3)(ii)–1 explains that, if
the conditions in § 226.43(d)(1) are met
(discussed above), the creditor may
satisfy the payment calculation
requirements for determining a
consumer’s ability to repay the new loan
by applying the calculation prescribed
under § 226.43(d)(5)(ii), rather than the
calculation prescribed under
§ 226.43(c)(2)(iii) and (c)(5).
Specifically, as discussed in more detail
under proposed § 226.43(d)(5)(ii) below,
the creditor must calculate the standard
mortgage payment based on the rate at
consummation of the standard
mortgage. This is the rate that will apply
for the first five years after
consummation; to qualify as a ‘‘standard
mortgage,’’ a mortgage must have an
interest rate that is fixed for at least the
first five years after consummation of
the loan (see proposed
§ 226.43(d)(2)(ii)(D), discussed below).
The comment explains that, as a result,
if the standard mortgage is a ‘‘5/1 ARM’’

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with a fixed rate for the first five years
of payments (60 payments) followed by
a variable rate, the creditor would not be
required to determine the consumer’s
ability to repay the loan based on a
payment that would result once the
variable rate applies. If the loan
consummates on August 15, 2011, and
the first monthly payment is due on
October 1, 2011, five years after
consummation occurs on August 15,
2016, and the first interest rate
adjustment occurs on the due date of the
60th monthly payment, which is
September 1, 2016. Thus, under
proposed § 226.43(d)(3)(ii), to calculate
the payment required for the ability to
repay rule under proposed
§ 226.43(c)(2)(iii), the creditor should
use the payment based on the interest
rate that is fixed for the first five years
after consummation (from August 15,
2011, until August 15, 2016) and is not
required to account for the payment
resulting after the first interest rate
adjustment on September 1, 2016.
The Board proposes this exemption
from the general ability to repay
payment calculation requirements for
three reasons. First, in the Board’s view,
TILA Section 129C(a)(6)(E) is clearly
intended to encourage creditors to
refinance loans on which consumers are
likely to default due to impending
‘‘payment shock.’’ The proposal is
consistent with this policy objective
because underwriting a refinance based
on the payment due prior to the recast
means that more consumers can qualify
for loans to ensure sustained
homeownership. Second, the safeguards
built into the definition of a ‘‘standard
mortgage,’’ discussed under the sectionby-section analysis of proposed
§ 226.43(d)(3)(ii), mitigate risks of not
accounting for the payment due after the
recast in determining a consumer’s
ability to repay. A standard mortgage,
for example, may never have negative
amortization payments, interest-only
payments, or a balloon payment.
Third, the statute in general seeks to
ensure that consumers obtain mortgages
for which the payments are affordable
for a reasonable period of time. Based
on the definition of a ‘‘qualified
mortgage,’’ the Board believes that
Congress considered a reasonable
amount of time to be the first five years
after consummation of a loan.
Specifically, as discussed in more detail
below in the section-by-section analysis
of proposed § 226.43(e)(2)(iv), an
adjustable-rate mortgage is deemed to be
a qualified mortgage only if, among
other factors, the underwriting is based
on the maximum rate permitted under
the loan during the first five years. TILA
Section 129C(b)(2)(A)(v), 15 U.S.C.

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1639c(b)(2)(A)(v). The Board believes
that the same standard is appropriately
applied to determining a consumer’s
ability to repay a ‘‘standard mortgage’’
under § 226.43(d). The statute is
structured to encourage creditors to
make both ‘‘qualified mortgages’’ and
‘‘standard mortgages,’’ consistent with
congressional findings on the
importance of ‘‘ensuring that
responsible, affordable mortgage credit
remains available to consumers.’’ TILA
Section 129B(a)(1). In particular, the
statute affords creditors of both
qualified mortgages and standard
mortgages additional flexibility in
complying with the general ability to
repay underwriting requirements of
TILA Section 129C(a). See TILA Section
129C(a)(6)(E) (for standard mortgages)
and 129C(b) (for qualified mortgages),
15 U.S.C. 1639c(a)(6)(E), (b).
Accordingly, the proposal requires that
standard mortgages have most of the
product features and restrictions
assigned by Congress to qualified
mortgages to ensure product stability
and affordability for consumers.
Finally, the Board believes that this
aspect of the proposal will facilitate
compliance by allowing creditors to use
a single payment calculation for
determining whether: (1) The payment
on the standard mortgage is ‘‘materially
lower’’ than the payment on the nonstandard mortgage; and (2) the
consumer has a reasonable ability to
repay the standard mortgage.
The Board requests comment on the
proposal to exempt creditors of
refinances that meet the conditions
under proposed § 226.43(d)(1) from the
income and asset verification
requirements and the payment
calculation requirements of the general
ability-to-repay rules in proposed
§ 226.43(c). The Board solicits comment
on whether an exemption from other
ability to repay requirements under
proposed § 226.43(c), such as
consideration of credit history under
proposed § 226.43(c)(2)(viii), may also
be appropriate.
43(d)(4) Offer of Rate Discounts and
Other Favorable Terms
Proposed § 226.43(d)(4) provides that
a creditor making a loan under the
special refinancing provisions of
§ 226.43(d) may offer to the consumer
the same or better rate discounts and
other terms that the creditor offers to
any new consumer, consistent with the
creditor’s documented underwriting
practices and to the extent not
prohibited by applicable state or Federal
law. This provision implements TILA
Section 129C(a)(6)(E)(iii), which permits
creditors of refinancings under the

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special conditions of TILA Section
129C(a)(6)(E) to ‘‘offer rate discounts and
other favorable terms’’ to the borrower
‘‘that would be available to new
customers with high credit ratings based
on such underwriting practice.’’ 15
U.S.C. 1639c(a)(6)(E)(iii).
The statutory provision is consistent
with the congressional goal of
facilitating beneficial refinancings for
borrowers facing potential payment
shock; the provision allows creditors to
give their refinancing customers rate
discounts and favorable terms they
might offer to new customers with high
credit ratings. The Board recognizes that
the meaning of ‘‘high credit ratings’’ may
vary by creditor and that the
underwriting practices for these types of
customers may vary also, including the
terms that are offered. Thus the proposal
does not use the term ‘‘high credit
ratings’’ but simply states that the rate
discounts and terms offered to a
consumer of a § 226.43(d) loan may be
the same or better than those offered to
any other consumer.
The proposal does require, however,
that a creditor have ‘‘documented
underwriting practices’’ to support the
creditor’s offer of rate discounts and
loan terms. In this way, the proposal is
intended to promote transparency for
examiners and consumers in
understanding the basis for any special
discounts or terms that the creditor
offers to borrowers refinancing their
home mortgages under proposed
§ 226.43(d). In addition, the Board
recognizes that state or Federal laws
may regulate the rates and terms offered
to consumers depending on various
consumer characteristics or other
factors. For this reason, the Board
proposes that the rates and terms offered
to consumers under § 226.43(d) not be
prohibited by other applicable state or
Federal law.
The Board requests comment on the
proposed interpretation of TILA Section
129C(a)(6)(E)(iii) and whether
additional guidance on the meaning of
proposed § 226.43(d)(4) is needed.
43(d)(5) Payment Calculations
Proposed § 226.43(d)(5) prescribes the
payment calculations that must be used
to determine whether the consumer’s
monthly payment for a standard
mortgage will be ‘‘materially lower’’ than
the monthly payment for the nonstandard mortgage, as required under
proposed § 226.43(d)(1)(ii), discussed
above. Proposed § 226.43(d)(5) thus
complements proposed § 226.43(d)(1)(ii)
in implementing the statutory provision
that requires a ‘‘reduction’’ in the
monthly payment for the existing nonstandard (‘‘hybrid’’) mortgage when

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refinanced into a standard mortgage.
TILA Section 129C(a)(6)(E), 15 U.S.C.
1639c(a)(6)(E). As noted above, the
payment calculation for a standard
mortgage required under proposed
§ 226.43(d)(5)(ii) is also the payment
calculation that a creditor must use to
calculate the monthly payment on the
standard loan in determining whether
the consumer is reasonably able to repay
the mortgage. See proposed
§ 226.43(c)(2)(iii).
43(d)(5)(i) Non-Standard Mortgage
Payment Calculation
Proposed § 226.43(d)(5)(i) requires
that the monthly payment for a nonstandard mortgage be based on
substantially equal, monthly, fully
amortizing payments of principal and
interest that would result once the
mortgage is ‘‘recast,’’ as that term is
defined in § 226.43(b)(11) and discussed
in the section-by-section analysis of that
provision. The Board believes that
comparing the payment on the standard
mortgage to the payment amount on
which the consumer likely would have
defaulted (i.e., the payment resulting on
the existing non-standard mortgage once
the favorable terms cease and a higher
payment results) promotes needed
refinances consistent with congressional
intent.
In the Board’s view, the payment that
the consumer is currently making on the
existing non-standard mortgage may be
an inappropriately low payment to
compare to the standard mortgage
payment. The existing payments may be
interest-only or negatively amortizing;
these temporarily lower payment
amounts would be difficult for creditors
to ‘‘reduce’’ with a refinanced loan that
has a comparable term length and
principal amount. Indeed, the payment
on a new loan with a fixed-rate rate and
fully-amortizing payment, as is required
for the payment calculation of a
standard mortgage under proposed
§ 226.43(d)(5)(ii), for example, is likely
to be higher than the interest-only or
negative amortization payment. As a
result, few refinancings would yield a
lower monthly payment, so many
consumers could not receive the
benefits of refinancing into a more
stable loan product. In addition,
streamlined refinances by GSEs and
private creditors might be severely
hampered, with potentially detrimental
effects on the market.
Thus the proposal requires a creditor
to calculate the monthly payment for a
non-standard mortgage using—
• The fully indexed rate as of a
reasonable period of time before or after
the date on which the creditor receives

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the consumer’s written application for
the standard mortgage;
• The term of the loan remaining as
of the date of the recast, assuming all
scheduled payments have been made up
to the recast date and the payment due
on the recast date is made and credited
as of that date; and
• A remaining loan amount that is—
Æ For an adjustable-rate mortgage
under § 226.43(d)(2)(i)(A), the
outstanding principal balance as of the
date the mortgage is recast, assuming all
scheduled payments have been made up
to the recast date and the payment due
on the recast date is made and credited
as of that date;
Æ For an interest-only loan under
§ 226.43(d)(2)(i)(B), the loan amount,
assuming all scheduled payments have
been made up to the recast date and the
payment due on the recast date is made
and credited as of that date;
Æ For a negative amortization loan
under § 226.43(d)(2)(i)(C), the maximum
loan amount.
Proposed comment 43(d)(5)(i)–1
explains that, to determine whether the
monthly periodic payment for a
standard mortgage is materially lower
than the monthly periodic payment for
the non-standard mortgage under
§ 226.43(d)(1)(ii), the creditor must
consider the monthly payment for the
non-standard mortgage that will result
after the loan is ‘‘recast,’’ as defined in
§ 226.43(b)(11), assuming substantially
equal payments of principal and interest
that amortize the remaining loan
amount over the remaining term as of
the date the mortgage is recast. This
comment notes that guidance regarding
the meaning of ‘‘substantially equal’’ and
‘‘recast’’ is provided comment
43(c)(5)(i)–4 and § 226.43(b)(11),
respectively (discussed above).
Proposed comment 43(d)(5)(i)–2
explains that the term ‘‘fully indexed
rate’’ used in § 226.43(d)(5)(i)(A) for
calculating the payment for a nonstandard mortgage is generally defined
in § 226.43(b)(3) and associated
commentary. The comment explains an
important difference between the ‘‘fully
indexed rate’’ as defined in
§ 226.43(b)(3), however, and the
meaning of ‘‘fully indexed rate’’ in
§ 226.43(d)(5)(i). Specifically, under
§ 226.43(b)(3), the fully indexed rate is
calculated at the time of consummation.
Under § 226.43(d)(5)(i), the fully
indexed rate is calculated within
reasonable period of time before or after
the date on which the creditor receives
the consumer’s written application for
the standard mortgage. Comment
43(d)(5)(i)–2 clarifies that 30 days
would generally be considered a
‘‘reasonable period of time.’’

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Proposed comment 43(d)(5)(i)–3
clarifies that the term ‘‘written
application’’ is explained in comment
19(a)(1)(i)–3. Comment 19(a)(1)(i)–3
states that creditors may rely on RESPA
and Regulation X (including any
interpretations issued by HUD) in
deciding whether a ‘‘written
application’’ has been received. In
general, Regulation X defines
‘‘application’’ to mean the submission of
a borrower’s financial information in
anticipation of a credit decision relating
to a Federally related mortgage loan. See
24 CFR 3500.2(b). As explained in
comment 19(a)(1)(i)–3, an application is
received when it reaches the creditor in
any of the ways applications are
normally transmitted—by mail, hand
delivery, or through an intermediary
agent or broker. If an application
reaches the creditor through an
intermediary agent or broker, the
application is received when it reaches
the creditor, rather than when it reaches
the agent or broker. This comment also
cross-references comment 19(b)–3 for
guidance in determining whether the
transaction involves an intermediary
agent or broker.
Payment calculation for an
adjustable-rate mortgage with an
introductory fixed rate. Proposed
comments 43(d)(5)(i)–4 and –5 explain
the payment calculation for an
adjustable-rate mortgage with an
introductory fixed rate under proposed
§ 226.43(d)(5)(i). Proposed comment
43(d)(5)(i)–4 clarifies that the monthly
periodic payment for an adjustable-rate
mortgage with an introductory fixed
interest rate for a period of one or more
years must be calculated based on
several assumptions. First, the payment
must be based on the outstanding
principal balance as of the date on
which the mortgage is recast, assuming
all scheduled payments have been made
up to that date and the last payment due
under those terms is made and credited
on that date. For example, assume an
adjustable-rate mortgage with a 30-year
loan term. The loan agreement provides
that the payments for the first 24
months are based on a fixed rate, after
which the interest rate will adjust
annually based on a specified index and
margin. The loan is recast on the due
date of the 24th payment. If the 24th
payment is due on September 1, 2013,
the creditor must calculate the
outstanding principal balance as of
September 1, 2013, assuming that all 24
payments under the fixed rate terms
have been made and credited on time.
See comment 43(d)(5)(i)–4.i.
Second, the payment calculation must
be based on substantially equal monthly
payments of principal and interest that

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will fully repay the outstanding
principal balance over the term of the
loan remaining as of the date the loan
is recast. Thus, the comment states, in
the example above, the creditor must
assume a loan term of 28 years (336
payments). See comment 43(d)(5)(i)–
4.ii. Third, the payment must be based
on the fully indexed rate, as defined in
§ 226.43(b)(3), as of the date of the
written application for the standard
mortgage. See comment 43(d)(5)(i)–4.iii.
Proposed comment 43(d)(5)(i)–5
provides an illustration of the payment
calculation for an adjustable-rate
mortgage with an introductory fixed
rate. The example first assumes a loan
in an amount of $200,000 has a 30-year
loan term. The loan agreement provides
for a discounted introductory interest
rate of 5% that is fixed for an initial
period of two years, after which the
interest rate will adjust annually based
on a specified index plus a margin of 3
percentage points. See comment
43(d)(5)(i)–5.i. Second, the example
states that the non-standard mortgage is
consummated on February 15, 2011,
and the first monthly payment is due on
April 1, 2011. The loan is recast on the
due date of the 24th monthly payment,
which is March 1, 2013. See comment
43(d)(5)(i)–5.ii. Finally, the example
assumes that on March 15, 2012, the
creditor receives the consumer’s written
application for a refinancing after the
consumer has made 12 monthly on-time
payments and that, on this date, the
index value is 4.5%. See comment
43(d)(5)(i)–5.iii.
Proposed comment 43(d)(5)(i)–5 then
states that, to calculate the non-standard
mortgage payment that must be
compared to the standard mortgage
payment under § 226.43(d)(1)(ii), the
creditor must use—
• The outstanding principal balance
as of March 1, 2013, assuming all
scheduled payments have been made up
to March 1, 2013, and the last payment
due under the fixed rate terms is made
and credited on March 1, 2013. In this
example, the outstanding principal
balance is $193,948.
• The fully indexed rate of 7.5%,
which is the index value of 4.5% as of
March 15, 2012 (the date on which the
application for a refinancing is received)
plus the margin of 3%.
• The remaining loan term as of
March 1, 2013, the date of the recast,
which is 28 years (336 payments).
See comment 43(d)(5)(i)–5.iv.
The comment concludes by stating
that, based on the assumptions above,
the monthly payment for the nonstandard mortgage for purposes of
determining whether the standard
mortgage monthly payment is lower

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than the non-standard mortgage
monthly payment (see proposed
§ 226.43(d)(1)(ii)) is $1,383. This is the
substantially equal, monthly payment of
principal and interest required to repay
the outstanding principal balance at the
fully-indexed rate over the remaining
term. See comment 43(d)(5)(i)–5.v.
Payment calculation for an interestonly loan. Proposed comments
43(d)(5)(i)–6 and –7 explain the
payment calculation for an interest-only
loan under proposed § 226.43(d)(5)(i).
Proposed comment 43(d)(5)(i)–6
clarifies that the monthly periodic
payment for an interest-only loan must
be calculated based on several
assumptions. First, the payment must be
based on the loan amount, as defined in
§ 226.43(b)(5) (for a loan on which only
interest and no principal has been paid,
the ‘‘loan amount’’ will be the
outstanding principal balance at the
time of the recast), assuming all
scheduled payments are made under the
terms of the legal obligation in effect
before the mortgage is recast. The
comment provides an example of a
mortgage with a 30-year loan term for
which the first 24 months of payments
are interest-only. The comment then
explains that, if the 24th payment is due
on September 1, 2013, the creditor must
calculate the outstanding principal
balance as of September 1, 2013,
assuming that all 24 payments under the
interest-only payment terms have been
made and credited. See comment
43(d)(5)(i)–6.i.
Second, the payment calculation must
be based on substantially equal monthly
payments of principal and interest that
will fully repay the loan amount over
the term of the loan remaining as of the
date the loan is recast. Thus, in the
example above, the creditor must
assume a loan term of 28 years (336
payments). See comment 43(d)(5)(i)–
6.ii. Third, the payment must be based
on the fully indexed rate, as defined in
§ 226.43(b)(3), as of the date of the
written application for the standard
mortgage. See comment 43(d)(5)(i)–6.iii.
Proposed comment 43(d)(5)(i)–7
provides an illustration of the payment
calculation for an interest-only loan.
The example assumes a loan in an
amount of $200,000 that has a 30-year
loan term. The loan agreement provides
for a fixed interest rate of 7%, and
permits interest-only payments for the
first two years (the first 24 payments),
after which time amortizing payments of
principal and interest are required. See
comment 43(d)(5)(i)–7.i. Second, the
example states that the non-standard
mortgage is consummated on February
15, 2011, and the first monthly payment
is due on April 1, 2011. The loan is

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recast on the due date of the 24th
monthly payment, which is March 1,
2013. See comment 43(d)(5)(i)–7.ii.
Finally, the example assumes that on
March 15, 2012, the creditor receives
the consumer’s written application for a
refinancing, after the consumer has
made 12 monthly on-time payments.
See comment 43(d)(5)(i)–7.iii.
Proposed comment 43(d)(5)(i)–7 then
states that, to calculate the non-standard
mortgage payment that must be
compared to the standard mortgage
payment under § 226.43(d)(1)(ii), the
creditor must use—
• The loan amount, which is the
outstanding principal balance as of
March 1, 2013, assuming all scheduled
interest-only payments have been made
and credited up to that date. In this
example, the loan amount is $200,000.
• An interest rate of 7%, which is the
interest rate in effect at the time of
consummation of this fixed-rate nonstandard mortgage.
• The remaining loan term as of
March 1, 2013, the date of the recast,
which is 28 years (336 payments).
The comment concludes by stating
that, based on the assumptions above,
the monthly payment for the nonstandard mortgage for purposes of
determining whether the standard
mortgage monthly payment is lower
than the non-standard mortgage
monthly payment (see § 226.43(d)(1)(ii))
is $1,359. This is the substantially
equal, monthly payment of principal
and interest required to repay the loan
amount at the fully-indexed rate over
the remaining term. See comment
43(d)(5)(i)–7.v.
Payment calculation for a negative
amortization loan. Proposed comments
43(d)(5)(i)–8 and –9 explain the
payment calculation for a negative
amortization loan under proposed
§ 226.43(d)(5)(i)(C). Proposed comment
43(d)(5)(i)–8 clarifies that the monthly
periodic payment for a negative
amortization loan must be calculated
based on several assumptions. First, the
calculation must be based on the
maximum loan amount, as defined in
proposed § 226.43(b)(7); The comment
further states that examples of how to
calculate the maximum loan amount are
provided in proposed comment
43(b)(7)–3 (see the section-by-section
analysis of § 226.43(b)(7), above). See
comment 43(d)(5)(i)–8.i.
Second, the payment calculation must
be based on substantially equal monthly
payments of principal and interest that
will fully repay the maximum loan
amount over the term of the loan
remaining as of the date the loan is
recast. For example, the comment states,
if the loan term is 30 years and the loan

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is recast on the due date of the 60th
monthly payment, the creditor must
assume a loan term of 25 years (300
payments). See comment 43(d)(5)(i)–
8.ii. Third, the payment must be based
on the fully-indexed rate as of the date
of the written application for the
standard mortgage. See comment
43(d)(5)(i)–8.iii.
Proposed comment 43(d)(5)(i)–9
provides an illustration of the payment
calculation for a negative amortization
loan. The example assumes loan in an
amount of $200,000 that has a 30-year
loan term. The loan agreement provides
that the consumer can make minimum
monthly payments that cover only part
of the interest accrued each month until
the date on which the principal balance
increases to the negative amortization
cap of 115% of the loan amount, or for
the first five years of monthly payments
(60 payments), whichever occurs first.
The loan is an adjustable-rate mortgage
that adjusts monthly according to a
specified index plus a margin of 3.5%.
See comment 43(d)(5)(i)–9.i.
The example also states that the nonstandard mortgage is consummated on
February 15, 2011, and the first monthly
payment is due on April 1, 2011.
Further, the example assumes that,
based on the calculation of the
maximum loan amount required under
§ 226.43(b)(7) and associated
commentary, the negative amortization
cap of 115% is reached on July 1, 2013,
the due date of the 28th monthly
payment (i.e., before the 60th payment
is due). See comment 43(d)(5)(i)–9.ii.
Finally, the example assumes that on
March 15, 2012, the creditor receives
the consumer’s written application for a
refinancing, after the consumer has
made 12 monthly on-time payments. On
this date, the index value is 4.5%. See
comment 43(d)(5)(i)–9.iii.
Proposed comment 43(d)(5)(i)–9 then
states that, to calculate the non-standard
mortgage payment that must be
compared to the standard mortgage
payment under § 226.43(d)(1)(ii), the
creditor must use—
• The maximum loan amount of
$229,243 as of July 1, 2013.
• The fully indexed rate of 8%, which
is the index value of 4.5% as of March
15, 2012 (the date on which the creditor
receives the application for a
refinancing) plus the margin of 3.5%.
• The remaining loan term as of July
1, 2013, the date of the recast, which is
27 years and 8 months (332 monthly
payments).
See comment 43(d)(5)(i)–9.iv.
The comment concludes by stating
that, based on the assumptions above,
the monthly payment for the nonstandard mortgage for purposes of

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determining whether the standard
mortgage monthly payment is lower
than the non-standard mortgage
monthly payment (see § 226.43(d)(1)(ii))
is $1,717. This is the substantially
equal, monthly payment of principal
and interest required to repay the
maximum loan amount at the fullyindexed rate over the remaining term.
See comment 43(d)(5)(i)–9.v.
The Board requests comment on the
proposed payment calculation for a nonstandard mortgage and on the
appropriateness and usefulness of the
proposed payment calculation
examples.
43(d)(5)(ii) Standard Mortgage Payment
Calculation
Proposed § 226.43(d)(5)(ii) prescribes
the required calculation for the monthly
payment on a standard mortgage that
must be compared to the monthly
payment on a non-standard mortgage
under proposed § 226.43(d)(1)(ii). The
same payment calculation must also be
used by creditors of refinances under
proposed § 226.43(d) in determining
whether the consumer has a reasonable
ability to repay the standard mortgage,
as required under proposed
§ 226.43(c)(2)(ii).
Specifically, the monthly payment for
a standard mortgage must be based on
substantially equal, monthly, fully
amortizing payments using the
maximum interest rate that may apply
to the standard mortgage within the first
five years after consummation. Proposed
comment 43(d)(5)(ii)–1 clarifies that the
meaning of ‘‘fully amortizing payment’’
is defined in § 226.43(b)(2), discussed
above, and that guidance regarding the
meaning of ‘‘substantially equal’’ may be
found in proposed comment 43(c)(5)(i)–
4, also discussed above. Proposed
comment 43(d)(5)(ii)–1 also explains
that, for a mortgage with a single, fixed
rate for the first five years, the
maximum rate that will apply during
the first five years after consummation
will be the rate at consummation. For a
step-rate mortgage, however, which is a
type of fixed-rate mortgage, the rate that
must be used is the highest rate that will
apply during the first five years after
consummation. For example, if the rate
for the first two years is 4%, the rate for
the second two years is 5%, and the rate
for the next two years is 6%, the rate
that must be used is 6%.
Proposed comment 43(d)(5)(ii)–2
provides an illustration of the payment
calculation for a standard mortgage. The
example assumes a loan in an amount
of $200,000 with a 30-year loan term.
The loan agreement provides for a
discounted interest rate of 6% that is
fixed for an initial period of five years,

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after which time the interest rate will
adjust annually based on a specified
index plus a margin of 3%, subject to a
2% annual interest rate adjustment cap.
The comment states that, based on the
above assumptions, the creditor must
determine whether the standard
mortgage payment is materially lower
than the non-standard mortgage
payment based on a standard mortgage
payment of $1,199. This is the
substantially equal, monthly payment of
principal and interest required to repay
$200,000 over 30 years at an interest
rate of 6%.
The Board requests comment on the
proposed payment calculation for a
standard mortgage.
43(e) Qualified Mortgages

jlentini on DSKJ8SOYB1PROD with PROPOSALS2

Background
The Dodd-Frank Act. TILA Section
129C(a)(1) prohibits a creditor from
making a residential mortgage loan
unless the creditor makes a reasonable
and good faith determination, based on
verified and documented information,
that the consumer has a reasonable
ability to repay the loan. TILA Section
129C(a)(1)–(4) and (6)–(9) provides that
the ability-to-repay determination must
be based on consideration of the
following underwriting factors:
• The consumer’s current income,
expected income the consumer is
reasonably ensured of receiving, and
other financial resources other than the
consumer’s equity in the dwelling or
real property that secures repayment of
the loan;
• The consumer’s employment status;
• The payment of the residential
mortgage loan based on a fully
amortizing payment schedule and the
fully-indexed rate;
• The payment of any simultaneous
liens of which the creditor knows or has
reason to know;
• The payment of all applicable taxes,
insurance (including mortgage
guarantee insurance), and assessments;
• The consumer’s current obligations;
• The consumer’s debt-to-income
ratio or the residual income the
consumer will have after paying
mortgage related obligations and current
debt obligations; and
• The consumer’s credit history.
The ability-to-repay requirements do
not contain any limits on the features,
term, or costs of the loan.
TILA Section 129C(b) provides a
presumption of compliance with the
ability-to-repay requirements if the loan
is a ‘‘qualified mortgage.’’ Specifically,
TILA Section 129C(b)(1) provides that
‘‘[a]ny creditor with respect to any
residential mortgage loan, and any

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assignee of such loan subject to liability
under this title, may presume that the
loan has met the requirements of
subsection (a).’’ With respect to
underwriting requirements, TILA
Section 129C(b)(2) defines a ‘‘qualified
mortgage’’ as any residential mortgage
loan—
• For which the income and financial
resources relied upon to qualify the
obligors on the loan are verified and
documented;
• For which the underwriting of the
residential mortgage loan is based on a
fully amortizing payment schedule and
the maximum interest rate during the
first 5 years, and takes into account all
applicable taxes, insurance, and
assessments; and
• That complies with any guidelines
or regulations established by the Board
relating to ratios of total monthly debt
to monthly income or alternative
measures of ability to pay regular
expenses after payment of total monthly
debt, taking into account the income
levels of the borrower and such other
factors as the Board may determine
relevant and consistent with the
purposes of TILA Section
129C(b)(3)(B)(i).
In addition, the term ‘‘qualified
mortgage’’ contains certain limits on the
features, term, and costs of the loan.
Specifically, TILA Section 129C(b)
provides that a ‘‘qualified mortgage’’ is
any residential mortgage loan—
• For which the regular periodic
payments may not result in an increase
of the principal balance (negative
amortization) or allow the consumer to
defer repayment of principal (interestonly payments);
• The terms of which do not result in
a balloon payment;
• For which the loan term does not
exceed 30 years; and
• For which the points and fees do
not exceed 3 percent of the total loan
amount.
Accordingly, a qualified mortgage
cannot have an increase of the principal
balance, interest-only payments, balloon
payments, a term greater than 30 years,
or points and fees that exceed the
threshold set forth in § 226.43(e)(4).
However, while the term ‘‘qualified
mortgage’’ limits the terms of loans in
ways that the general ability-to-repay
requirements do not, the term ‘‘qualified
mortgage’’ omits certain underwriting
factors. Specifically, the term ‘‘qualified
mortgage’’ does not include the
following underwriting factors that are
part of the ability-to-repay requirements:
• The consumer’s employment status;
• The payment of any simultaneous
liens of which the creditor knows or has
reason to know;

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• The consumer’s current obligations;
and
• The consumer’s credit history.
2008 HOEPA Final Rule. Sections
226.34(a)(4) and 226.35(b)(1) prohibit a
creditor from extending credit that is a
high-cost loan or higher-priced mortgage
loan without regard to the consumer’s
ability to repay. Specifically, for higherpriced mortgage loans and high-cost
mortgages, the creditor must follow
required procedures, such as verifying
the consumer’s income or assets.
Section 226.34(a)(4) and comments
34(a)(4)–2 and –3. The 2008 HOEPA
Final Rule further provides a
presumption of compliance with the
ability-to-repay requirements if the
creditor follows additional optional
procedures regarding underwriting the
loan payment, assessing the debt-toincome ratio or residual income, and
limiting the features of the loan. Section
226.34(a)(4)(iii)–(iv) and comment
34(a)(4)(iii)–1. However, the 2008
HOEPA Final Rule makes clear that
even if the creditor follows the required
and optional criteria, the creditor has
merely obtained a presumption of
compliance with the repayment ability
requirement. Comment 34(a)(4)(iii)–1.
The consumer can still rebut or
overcome that presumption by showing
that, despite following the required and
optional procedures, the creditor
nonetheless disregarded the consumer’s
ability to repay the loan. For example,
the consumer could present evidence
that although the creditor assessed the
creditor’s debt-to-income ratio, the debtto-income ratio was very high with little
residual income. This evidence may be
sufficient to overcome the presumption
of compliance and demonstrate that the
creditor extended credit without regard
to the consumer’s ability to repay the
loan.
Qualified Mortgages and the
Presumption of Compliance
With regard to the ability-to-repay
requirement, the Dodd-Frank Act
provides special protection from
liability for creditors who make
‘‘qualified mortgages.’’ However, it is
unclear whether that protection is
intended to be a safe harbor or a
presumption of compliance with the
ability-to-repay requirement. An
analysis of the statutory construction
and policy implications demonstrate
that there are sound reasons for
adopting either interpretation. For this
reason, the Board is proposing two
alternative definitions of a ‘‘qualified
mortgage’’: One that operates as a safe
harbor and one that operates as a
presumption of compliance.

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
With respect to statutory construction,
on the one hand, the Dodd-Frank Act
states that a creditor or assignee ‘‘may
presume’’ that a loan has met the
repayment ability requirement if the
loan is a qualified mortgage. TILA
Section 129C(b)(1). This suggests that
originating a qualified mortgage
provides a presumption of compliance,
which the consumer can rebut by
providing evidence that the creditor did
not, in fact, make a good faith and
reasonable determination of the
consumer’s ability to repay the loan.
On the other hand, the statutory
structure suggests that the ‘‘qualified
mortgage’’ is an alternative to the general
ability-to-repay standard and thus
would operate as a safe harbor. First,
TILA Section 129C(b)(1) states that a
creditor or assignee may presume that a
loan has ‘‘met the requirements of
subsection (a), if the loan is a qualified
mortgage.’’ TILA Section 129C(a)
contains the ability-to-repay
requirement as well as all of the
underwriting criteria for the general
ability-to-repay standard. Rather than
stating that the presumption of
compliance applies only to TILA
Section 129C(a)(1) for the ability-torepay requirement, it appears Congress
intended creditors who make qualified
mortgages to be presumed to comply
with both the ability-to-repay
requirement and the underwriting
criteria for the general ability-to-repay
standard. Second, TILA Section
129C(b)(2) does not define a ‘‘qualified
mortgage’’ as requiring compliance with
all of the underwriting criteria of the
general ability-to-repay standard.
Therefore, unlike the approach found in
the 2008 HOEPA Final Rule, it appears
that the criteria for a ‘‘qualified
mortgage’’ would be an alternative to the
general ability-to-repay standard, rather
than an addition to that standard.
With respect to the policy
implications, there are sound reasons
for interpreting a qualified mortgage as
providing either a safe harbor or a
presumption of compliance. On the one
hand, interpreting a ‘‘qualified
mortgage’’ as a safe harbor would
provide creditors with an incentive to
make qualified mortgages. That is, in
exchange for limiting loan fees and
features, the creditor’s regulatory
burden and exposure to liability would
be reduced. Consumers may benefit by
being provided with mortgage loans that
do not have certain risky features or
high costs.
However, there are at least two
drawbacks to the ‘‘safe harbor’’
approach. First, the definition of a
‘‘qualified mortgage’’ is not necessarily
consistent with ensuring the consumer’s

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ability to repay the loan. Some of the
key elements in the statutory definition
of a qualified mortgage, while designed
to ensure that qualified mortgages do
not contain risky features, do not
directly address whether a qualified
mortgage is affordable for a particular
borrower. Although the qualified
mortgage limits on loan terms and costs
may, in general, tend to make loans
more affordable (in part because loan
terms would be more transparent to
consumers thus enabling consumers to
more easily determine affordability for
themselves), the limits on loan terms
and costs would not ensure that a given
consumer could necessarily afford a
particular loan. Second, the ‘‘safe
harbor’’ approach would limit the
consumer’s ability to challenge a
creditor’s determination of repayment
ability. That is, creditors could not be
challenged for failing to underwrite the
loan based on the consumer’s
employment status, simultaneous loans,
current debt obligations, or credit
history, or for generally not making a
reasonable and good faith determination
of the consumer’s ability to repay the
loan.
On the other hand, interpreting a
‘‘qualified mortgage’’ as providing a
rebuttable presumption of compliance
would better ensure that creditors
consider a consumer’s ability to repay
the loan. Creditors would have to make
individualized determinations that the
consumer has the ability to repay the
loan based on all of the underwriting
factors listed in the general ability-torepay standard. This approach would
require the creditor to comply with all
of the ability-to-repay standards, and
preserve the consumer’s ability to use
these standards in a defense to
foreclosure or other legal action. In
addition, a consumer could assert that,
despite complying with the criteria for
a qualified mortgage and the ability-torepay standard, the creditor did not
make a reasonable and good faith
determination of the consumer’s ability
to repay the loan.
The drawback of treating a ‘‘qualified
mortgage’’ as providing a presumption of
compliance is that it provides little legal
certainty for the creditor, and thus little
incentive to make a ‘‘qualified
mortgage,’’ which limits loan fees and
features. As stated above, the
underwriting requirements found in the
general repayment ability rule are based
on individualized determinations that
will vary from consumer to consumer.
As such, creditors or assignees may not
be able to make bright-line judgments as
to whether or not a loan complies with
these underwriting requirements. In
many cases sound underwriting

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practices require judgment about the
relative weight of various risk factors
(such as the tradeoff between a
consumer’s credit history and debt-toincome ratio). These decisions are
usually based on complex statistical
default models or lender judgments,
which will differ across originators and
over time. While the Board’s proposal
would allow creditors to look to widely
accepted underwriting standards in
complying with the general ability-torepay standard, those standards may
leave room for the exercise of discretion
and judgment by creditors and loan
originators which could increase
potential compliance and litigation risk,
thus weakening the incentive to make
qualified mortgages (even with a
presumption of compliance for qualified
mortgages). As stated above, a violation
of the ability-to-repay requirement now
provides a consumer with a defense to
foreclosure for an unlimited amount of
time. Dodd-Frank Act Section 1413;
TILA Section 130(k).
The Board’s Proposal
Given the statutory ambiguity and
competing concerns described above,
the Board proposes two alternative
definitions for a qualified mortgage.
Under Alternative 1, a qualified
mortgage would include only the
specific requirements listed in TILA
Section 129C(b)(2), and would provide
creditors with a safe harbor to establish
compliance with the general repayment
ability requirement in proposed
§ 226.43(c)(1). That is, a consumer
would have to show that a loan was not
a qualified mortgage under § 226.43(e)
(e.g., that the loan permits negative
amortization) in order to assert that the
loan violated the repayment ability
requirement under § 226.43(c). Under
Alternative 2, a qualified mortgage
would include the specific requirements
listed in the TILA Section 129C(b)(2), as
well as additional requirements taken
from the proposed general ability-torepay standard in § 226.43(c)(2)–(7).
Because Alternative 2 would require
compliance with the general ability-torepay standard, it would provide a
presumption of compliance with the
ability-to-repay requirement. However,
as discussed more fully below, a
consumer would be able to rebut the
presumption of compliance (even if the
loan was a qualified mortgage) by
demonstrating that the creditor did not
adequately determine the consumer’s
ability to repay the loan.

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jlentini on DSKJ8SOYB1PROD with PROPOSALS2

43(e)(1) In General
ALTERNATIVE 1
Proposed § 226.43(e)(1) would
implement TILA Section 129C(b)(1) and
state that the creditor or assignee
complies with § 226.43(c)(1) if the
covered transaction is a qualified
mortgage, as defined in § 226.43(e)(2).
Proposed § 226.43(e)(2) would
implement TILA Section 129C(b)(2),
and state that a ‘‘qualified mortgage’’ is
a covered transaction—
• That provides for regular periodic
payments that do not—
Æ Result in an increase of the
principal balance (negative
amortization);
Æ Allow the consumer to defer
repayment of principal (i.e., interestonly payments); or
Æ Result in a balloon payment;
• For which the loan term does not
exceed 30 years;
• For which the total points and fees
payable in connection with the loan do
not exceed the threshold set forth in
§ 226.43(e)(3);
• For which the creditor underwrites
the loan using the following method:
Æ The creditor uses a periodic
payment of principal and interest based
on the maximum interest rate that may
apply during the first 5 years after
consummation;
Æ The periodic payments of principal
and interest would fully repay either the
loan amount over the loan term; or the
outstanding principal balance as of the
date the interest rate adjusts to the
maximum interest rate;
Æ The creditor takes into account any
mortgage-related obligations; and
• For which the creditor considers
and verifies the consumer’s current or
reasonably expected income or assets.
Alternative 1 would construe the
statutory text to provide creditors with
bright-line standards as an incentive to
make loans without certain risky
features and high costs. The statutory
definition of a ‘‘qualified mortgage’’
includes only items which would allow
creditors and assignees to easily and
efficiently verify whether or not a loan
is a ‘‘qualified mortgage.’’ By confining
the qualified mortgage definition to
certain loan terms, features, and costs,
and by requiring only that the loan be
underwritten based on certain
straightforward assumptions and using
verified information about the
consumer’s income or assets, creditors
and assignees can obtain a high degree
of certainty that a loan is a qualified
mortgage. Moreover, by clarifying that a
qualified mortgage is a safe harbor for
compliance with the general repayment
ability rule, Alternative 1 would provide

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creditors and assignees with the highest
level of certainty about potential legal
and compliance risks and,
concomitantly, the strongest incentive
to make qualified mortgages.
Accordingly, proposed comment
43(e)(1)–1-Alternative 1 would clarify
that a creditor assignee complies with
§ 226.43(c)(1) if a covered transaction
meets the conditions for a ‘‘qualified
mortgage’’ under § 226.43(e)(2) (or
§ 226.43(f), if applicable). That is, a
creditor or assignee need not
demonstrate compliance with
§ 226.43(c)(2)–(7) if the terms of the loan
comply with § 226.43(e)(2)(i)–(ii) (or
§ 226.43(f), if applicable); the loan’s
points and fees do not exceed the limits
set forth in § 226.43(e)(2)(iii); and the
creditor has complied with the
underwriting criteria described in
§ 226.43(e)(2)(iv)–(v) (or § 226.43(f), if
applicable). The consumer may show
the loan is not a qualified mortgage with
evidence that the terms, points and fees,
or underwriting not comply with
§ 226.43(e)(2) (or § 226.43(f), if
applicable). If a loan is not a qualified
mortgage (for example because the loan
provides for negative amortization),
then the creditor or assignee must
demonstrate that loan complies with all
of the requirements in § 226.43(c) (or
§ 226.43(d), if applicable).
Debt-to-income ratio and residual
income. While consideration of a
consumer’s debt-to-income ratio is
required under the general ability-torepay standard, TILA Section
129C(b)(2)(A)(vi) provides that qualified
mortgages must comply with any
guidelines or regulations established by
the Board for the consumer’s DTI ratio
or residual income. For several reasons,
under Alternative 1 the Board is not
proposing to require creditors to
consider the consumer’s debt-to-income
ratio or residual income to make a
qualified mortgage. First, the debt-toincome ratio and residual income are
based on widely accepted standards,
which, although flexible, do not provide
certainty that a loan is a qualified
mortgage. Congress seems to have
intended to provide incentives to
creditors to make qualified mortgages,
since they have less risky terms and
features. Second, because the definition
of a qualified mortgage under
Alternative 1 would not require
consideration of current debt obligations
or simultaneous loans, it would be
impossible for a creditor to calculate the
debt-to-income ratio or residual income
without adding those requirements as
well. Third, data show that the debt-toincome ratio generally does not have
significant predictive power of loan
performance once the effects of credit

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history, loan type, and loan-to-value
ratio are considered.66 Fourth, although
consideration of the mortgage debt-toincome ratio, the so-called ‘‘front-end
debt-to-income ratio,’’ might help ensure
that consumers receive loans on terms
that reasonably reflect their ability to
repay the loans, Board outreach
indicated that creditors often do not
find that the ‘‘front-end debt-to-income
ratio’’ is a strong predictor of ability to
repay.
Finally, the Board is concerned that
the benefit of including the debt-toincome ratio or residual income in the
definition of ‘‘qualified mortgage’’ may
not outweigh the cost to certain
consumers. In some cases, consumers
may not meet widely accepted debt-toincome ratio standards, but may have
other compensating factors, such as
sufficient residual income or other
resources, to be able to reasonably to
afford mortgage payments. A definition
of ‘‘qualified mortgage’’ that required
creditors to consider the consumer’s
debt-to-income ratio or residual income
could limit the availability of credit to
those consumers. While some creditors
may be willing to take on the potential
compliance costs associated with
considering compensating factors, other
creditors may choose not to extend
qualified mortgages to consumers who
do not meet the creditor’s specific
thresholds.
ALTERNATIVE 2
Under Alternative 2, a qualified
mortgage would include the
requirements in proposed
§ 226.43(e)(2)–Alternative 1, as well as
additional ability-to-repay requirements.
Specifically, proposed § 226.43(e)(2)(v)–
Alternative 2 would require the creditor
(by a cross-reference to the creditor’s
obligations in § 226.43(c)) to consider
the following under the ability-to-repay
requirements: (1) The consumer’s
employment status, (2) any
simultaneous loans, (3) the consumer’s
current debt obligations, and (4) the
consumer’s credit history. Proposed
§ 226.43(e)(1)–Alternative 2 would
implement TILA Section 129C(b)(1),
and state that a creditor or assignee of
a covered transaction is presumed to
have complied with the repayment
ability requirement of § 226.43(c)(1) if
the covered transaction is a qualified
mortgage, as defined in § 226.43(e)(2).
66 See Demyanyk Yuliya & Van Hemert, Otto
Understanding the Subprime Mortgage Crisis, The
Review of Financial Studies (2009); Berkovec,
James A., Canner, Glenn B., Gabriel, Stuart A., and
Hannan, Timothy H., Race, Redlining, and
Residential Mortgage Loan Performance. The
Journal of Real Estate Finance and Economics
(2004).

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As discussed further below, the Board
proposes these revisions to the
definition of a ‘‘qualified mortgage’’
under its authority under TILA Section
129C(b)(3)B)(i). The Board believes this
alternative definition would further the
purpose of TILA Section 129C by
requiring creditors to consider specific
underwriting criteria to ensure a
consumer’s ability to repay a qualified
mortgage. In addition, proposed
§ 226.43(e)(2)(v)–Alternative 2
implements TILA Section 129C(b)(2)(vi)
by requiring creditors to consider the
consumer’s monthly debt-to-income
ratio or residual income, as provided in
proposed § 226.43(c)(2)(vii).
Proposed comment 43(e)(1)–1–
Alternative 2 provides that a creditor or
assignee is presumed to have complied
with the requirement of § 226.43(c)(1) if
the terms of the loan comply with
§ 226.43(e)(2)(i)–(ii) (or § 226.43(f), if
applicable); the loan’s points and fees
do not exceed the limit set forth in
§ 226.43(e)(2)(iii); and the creditor has
complied with the underwriting criteria
described in § 226.43(e)(2)(iv)–(v) (or
§ 226.43(f), if applicable). If the loan is
not a qualified mortgage (for example,
because the loan provides for negative
amortization), then the creditor or
assignee must demonstrate that the loan
complies with all of the requirements of
§ 226.43(c) (or § 226.43(d), if
applicable). However, even if the loan is
a qualified mortgage, the consumer may
rebut the presumption of compliance
with evidence that the loan did not
comply with § 226.43(c)(1). For
example, evidence of a debt-to-income
ratio with no compensating factors, such
as adequate residual income, could be
used to rebut the presumption. The
Board solicits comment on this
approach.
The Board solicits comments on the
two proposed alternative definitions of
a qualified mortgage, or other alternative
definitions. The Board specifically
solicits comment, including supporting
data, on what criteria should be
included in the definition of a qualified
mortgage to ensure that the definition
provides an incentive to creditors to
make qualified mortgages, while also
ensuring that consumers have the ability
to repay qualified mortgages.
43(e)(2) Qualified Mortgage Defined
Proposed § 226.43(e)(2) implements
TILA Section 129C(b)(2) and states that
a ‘‘qualified mortgage’’ is a covered
transaction—
• That provides for regular periodic
payments that do not:
Æ Result in an increase of the
principal balance (i.e., negative
amortization);

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Æ Allow the consumer to defer
repayment of principal (i.e., interestonly payments); or
Æ Result in a balloon payment;
• For which the loan term does not
exceed 30 years;
• For which the total points and fees
payable in connection with the loan do
not exceed the threshold set forth in
§ 226.43(e)(3);
• For which the creditor underwrites
the loan using the following method:
Æ The creditor uses a periodic
payment of principal and interest based
on the maximum interest rate that may
apply during the first 5 years after
consummation;
Æ The periodic payments of principal
and interest would fully repay either the
loan amount over the loan term; or the
outstanding principal balance as of the
date the interest adjusts to the
maximum interest rate;
Æ The creditor takes into account any
mortgage-related obligations; and
• For which the creditor considers
and verifies the consumer’s current or
reasonably expected income or assets.67
43(e)(2)(i) Limits on Periodic Payments
TILA Section 129C(b)(2)(A)(i) states
that the regular periodic payments of a
qualified mortgage may not result in an
increase of the principal balance or
allow the consumer to defer repayment
of principal (except for certain balloonpayment loans, discussed below in the
section-by-section analysis for
§ 226.43(f)). TILA Section
129C(b)(2)(A)(ii) states that the terms of
a qualified mortgage may not include a
balloon payment (except for certain
balloon-payment loans, discussed below
in the section-by-section analysis for
§ 226.43(f)). The statute defines ‘‘balloon
payment’’ as ‘‘a scheduled payment that
is more than twice as large as the
average of earlier scheduled payments.’’
Proposed § 226.43(e)(2)(i) implements
TILA Sections 129C(b)(2)(A)(i) and (ii).
First, the proposed provision requires
that a qualified mortgage provide for
regular periodic payments. Proposed
comment 43(e)(2)(i)–1 clarifies that, for
this reason, a single-payment
transaction, where no payment of
principal or interest is required until
maturity, may not be a qualified
mortgage. Second, proposed
§ 226.43(e)(2)(i) provides that the
regular periodic payments may not
(1) result in an increase of the principal
balance; (2) allow the consumer to defer
repayment of principal, except as
67 As discussed below in this section-by-section
analysis, in certain limited situations, a creditor
may comply with the requirements of § 226.43(f)
instead of certain requirements § 226.43(e).

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provided in § 226.43(f), discussed
below; or (3) result in a balloon
payment, as defined in § 226.18(s)(5)(i),
except as provided in § 226.43(f),
discussed below.
Proposed comment 43(e)(2)(i)–1
explains that, as a consequence of the
foregoing prerequisites, a qualified
mortgage must require the consumer to
make payments of principal and
interest, on a monthly or other periodic
basis, that will fully repay the loan
amount over the loan term. These
periodic payments must be substantially
equal except for the effect that any
interest rate change after consummation
has on the payment amount in the case
of an adjustable-rate or step-rate
mortgage. The proposed comment also
notes that, because § 226.43(e)(2)(i)
requires that a qualified mortgage
provide for regular, periodic payments,
a single-payment transaction may not be
a qualified mortgage. This result would
prevent potential evasion, as a creditor
otherwise could structure a transaction
with a single payment due at maturity
(economically, a near equivalent to a
balloon-payment loan) that technically
would not be a balloon payment as
defined in § 226.18(s)(5)(i) because it is
not more than two times a regular
periodic payment.
Proposed comment 43(e)(2)(i)–2
provides additional guidance on the
requirement in proposed
§ 226.43(e)(2)(i)(B) that a qualified
mortgage may not allow the consumer to
defer repayment of principal. The
comment clarifies that, in addition to
interest-only terms, deferred principal
repayment also occurs if the payment is
applied to both accrued interest and
principal but the consumer makes
periodic payments that are less than the
amount that would be required under a
payment schedule that has substantially
equal payments that fully repay the loan
amount over the loan term. Graduated
payment mortgages, for example, allow
deferral of principal repayment in this
manner and therefore may not be
qualified mortgages.
As noted above, the statute defines
‘‘balloon payment’’ as ‘‘a scheduled
payment that is more than twice as large
as the average of earlier scheduled
payments.’’ Proposed § 226.43(e)(2)(i)(C)
cross-references Regulation Z’s existing
definition of ‘‘balloon payment’’ in
§ 226.18(s)(5)(i). That definition
provides that a balloon payment is ‘‘a
payment that is more than two times a
regular periodic payment.’’ This
definition is substantially similar to the
statutory one, except that it uses as its
benchmark any regular periodic
payment rather than the average of
earlier scheduled payments.

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The Board believes that, because a
qualified mortgage generally must
provide for substantially equal, fully
amortizing payments of principal and
interest, a payment that is greater than
twice any one of a loan’s regular
periodic payments also generally will be
greater than twice the average of its
earlier scheduled payments. Thus, the
Board believes that the difference in
wording between the statutory
definition and the existing regulatory
definition, as a practical matter, does
not yield a significant difference in what
constitutes a ‘‘balloon payment’’ in the
qualified mortgage context.
Accordingly, in the interest of
facilitating compliance by affording
creditors a single definition within
Regulation Z, the Board is proposing to
cross-reference § 226.18(s)(5)(i)’s
definition of ‘‘balloon payment’’ in
§ 226.43(e)(2)(i)(C). The Board proposes
this adjustment to the statutory
definition pursuant to its authority
under TILA Section 105(a) to make such
adjustments for all or any class of
transactions as in the judgment of the
Board are necessary or proper to
facilitate compliance with TILA. 15
U.S.C. 1604(a). The class of transactions
for which this adjustment is proposed is
all covered transactions, i.e., closed-end
consumer credit transactions that are
secured by a dwelling. The Board
solicits comment on the appropriateness
of this proposed adjustment to the
definition of ‘‘balloon payment.’’ This
approach is further supported by the
Board’s authority under TILA Section
129B(e) to condition terms, acts or
practices relating to residential mortgage
loans that the Board finds necessary or
proper to facilitate compliance. 15
U.S.C. 1639b(e).
The Board recognizes that some
balloon-payment loans are renewable at
maturity. Such loans might
appropriately be eligible to be qualified
mortgages, provided the terms for
renewal eliminate the risk of the
consumer facing a large, unaffordable
payment obligation, which underlies the
rationale for generally excluding
balloon-payment loans from the
definition of qualified mortgages. If the
consumer is protected by the terms of
the transaction from that risk, such a
transaction might appropriately be
treated as though it effectively is not a
balloon-payment loan even if it is
technically structured as one.
Accordingly, the Board solicits
comment on whether it should include
an exception providing that,
notwithstanding § 226.43(e)(2)(i)(C), a
qualified mortgage may provide for a
balloon payment if the creditor is
unconditionally obligated to renew the

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loan at the consumer’s option (or is
obligated to renew subject to conditions
within the consumer’s control). The
Board also seeks comment on how such
an exception should be structured to
ensure that the large-payment risk
ordinarily accompanying a balloonpayment loan is fully eliminated by the
renewal terms. For example, the
exception might provide that the
balloon-payment loan must be
renewable on terms that either (1) do
not include a balloon payment; or
(2) obligate the creditor unconditionally
(or subject to conditions within the
consumer’s control) to renew the loan
again upon expiration of each renewed
loan term, and the loan term resulting
from such multiple renewals is at least
equal to the amortization period of the
loan. Finally, the Board recognizes that
such an exception could enable a
creditor to circumvent the prohibition
on qualified mortgages providing for
balloon payments by structuring a
balloon-payment loan as
unconditionally renewable but with
new terms that effectively render the
loan as renewed unaffordable for the
consumer, such as a substantially
greater interest rate. The Board seeks
comment on how such an exception
might be structured to avoid the
potential for such circumvention.
43(e)(2)(ii) Loan Term
TILA Section 129C(b)(2)(A)(viii)
requires that a qualified mortgage must
not provide for a loan term that exceeds
30 years, ‘‘except as such term may be
extended under paragraph (3), such as
in high-cost areas.’’ Under TILA Section
129C(b)(3)(B)(i), the Board is authorized
‘‘to revise, add to, or subtract from the
criteria that define a qualified mortgage
upon a finding that such regulations are
necessary or proper to ensure that
responsible, affordable mortgage credit
remains available to consumers in a
manner consistent with the purposes of
this section, necessary and appropriate
to effectuate the purposes of this section
and section 129B, to prevent
circumvention or evasion thereof, or to
facilitate compliance with such
sections.’’
Proposed § 226.43(e)(2)(ii)
implements the 30-year maximum loan
term without any exception. Based on
information available through outreach
and data analysis, the Board believes
that mortgage loans with terms greater
than 30 years are rare and, when made,
generally are for the convenience of
customers who could qualify for a loan
with a 30-year term but prefer to spread
out their payments further. Therefore,
the Board believes such an exception
generally is not necessary ‘‘to ensure

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that responsible, affordable mortgage
credit remains available to consumers’’
in ‘‘high-cost areas.’’ This belief is in
contrast with the Board’s proposal to
implement TILA Section 129C(a)(6)(E)
concerning refinancing of an existing
hybrid loan into a standard loan, in
proposed § 226.43(d). As discussed in
more detail above, proposed
§ 226.43(d)(2) provides an exemption
from certain repayment ability
requirements when a creditor refinances
a non-standard mortgage into a standard
mortgage. Proposed § 226.43(d)(4)(ii)(C)
permits a standard mortgage to have a
loan term of up to 40 years. The Board
believes that a 40-year loan term may be
necessary to ensure affordable mortgage
credit remains available for a
refinancing that is being extended
specifically to prevent a likely default,
as provided in proposed
§ 226.43(d)(2)(i)(B).
The Board solicits comment on
whether there are any ‘‘high-cost areas’’
in which loan terms in excess of 30
years are necessary to ensure that
responsible, affordable credit is
available and, if so, how they should be
identified for purposes of such an
exception. The Board also seeks
comment on whether any other
exceptions would be appropriate,
consistent with the Board’s authority in
TILA Section 129C(b)(3)(B)(i).
43(e)(2)(iii) Points and Fees
TILA Section 129C(b)(2)(A)(vii)
defines a ‘‘qualified mortgage’’ as a loan
for which, among other things, the total
points and fees payable in connection
with the loan do not exceed three
percent of the total loan amount. TILA
Section 129C(b)(2)(D) requires the Board
to prescribe rules adjusting this
threshold to ‘‘permit lenders that extend
smaller loans to meet the requirements
of the presumption of compliance.’’ The
statute further requires the Board, in
prescribing such rules, to ‘‘consider the
potential impact of such rules on rural
areas and other areas where home
values are lower.’’ Proposed
§ 226.43(e)(2)(iii) implements these
provisions by providing that a qualified
mortgage is a loan for which the total
points and fees payable in connection
with the loan do not exceed the
amounts specified under § 226.43(e)(3).
As discussed in detail in the section-bysection analysis for § 226.43(e)(3), the
Board proposes two alternatives for
calculating the allowable points and
fees for a qualified mortgage. Proposed
§ 226.43(b)(9) defines ‘‘points and fees’’
to have the same meaning as in
§ 226.32(b)(1), addressed above.

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43(e)(2)(iv) Underwriting of the Loan
TILA Sections 129C(b)(2)(A)(iv) and
(v) provide as a condition to meeting the
definition of a qualified mortgage, in
addition to other criteria, that the
underwriting process for a fixed-rate or
adjustable-rate loan be based on ‘‘a
payment schedule that fully amortizes
the loan over the loan term and takes
into account all applicable taxes,
insurance, and assessments.’’ The statute
further states that for an adjustable-rate
loan, the underwriting must be based on
‘‘the maximum rate permitted under the
loan during the first 5 years.’’ See TILA
Section 129C(b)(2)(A)(v). The statute
does not define the terms ‘‘fixed rate,’’
adjustable rate,’’ or ‘‘loan term,’’ and
provides no additional set of
assumptions regarding how to calculate
the payment obligation.
These statutory requirements differ
from the payment calculation
requirements set forth under
§ 226.34(a)(4)(iii) of the Board’s 2008
HOEPA Final Rule. Section
226.34(a)(4)(iii) states that a
presumption of compliance exists where
the creditor underwrites the loan using
the largest payment of principal and
interest scheduled in the first seven
years following consummation. The
existing presumption of compliance
under § 226.34(a)(4)(iii) is available for
all loan types, except for loans with
negative amortization or balloon loans
with a term less than seven years. In
contrast, TILA Section 129C(b)(2)(A)
provides a five-year time horizon for
purposes of underwriting the loan to the
maximum interest rate, and does not
extend the scope of qualified mortgages
to any loan that contains certain risky
features or a loan term exceeding
30 years. For example, loans that permit
deferral of principal or that have a term
greater than 30 years would not meet
the definition of a qualified mortgage.
See proposed § 226.43(e)(2)(i) and (ii).
In addition, loans with a balloon feature
would not meet the definition of a
qualified mortgage regardless of term
length, unless made by a creditor that
satisfies the conditions set forth under
the proposed exception. See proposed
§ 226.43(f)(1).

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The Board’s Proposal
The Board proposes § 226.43(e)(2)(iv)
to implement the underwriting
requirements of TILA Sections
129C(b)(2)(A)(iv) and (v), as enacted by
Section 1412 of the Dodd-Frank Act, for
purposes of determining whether a loan
meets the definition of a qualified
mortgage. Under the proposal, creditors
would be required to underwrite the
consumer for a loan that is a fixed-,

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adjustable-, or step-rate mortgage using
a periodic payment of principal and
interest based on the maximum interest
rate permitted during the first five years
after consummation. The terms
‘‘adjustable-rate mortgage,’’ step-rate
mortgage,’’ and ‘‘fixed-rate mortgage’’
have the meaning as in current
§ 226.18(s)(7)(i)–(iii), respectively.
Specifically, proposed
§ 226.43(e)(2)(iv) provides that meeting
the definition of a qualified mortgage is
contingent, in part, on creditors
underwriting the loan in the following
manner:
(1) First, proposed § 226.43(e)(2)(iv)
requires that the creditor take into
account any mortgage-related
obligations when underwriting the
consumer’s loan.
(2) Second, proposed
§ 226.43(e)(2)(iv)(A) requires creditors to
use the maximum interest rate that may
apply during the first five years after
consummation;
(3) Third, proposed
§ 226.43(e)(2)(iv)(B) requires that the
periodic payments of principal and
interest repay either the outstanding
principal balance over the remaining
term of the loan as of the date the
interest rate adjusts to the maximum
interest rate that can occur during the
first five years after consummation, or
the loan amount over the loan term; and
These three underwriting conditions
under proposed § 226.43(e)(2)(iv) are
discussed below.
43(e)(2)(iv) Mortgage-Related
Obligations
Proposed § 226.43(e)(2)(iv)
implements TILA Section
129C(b)(2)(A)(iv) and (v), in part, and
provides that the creditor underwrite
the loan taking into account any
mortgage-related obligations. As
discussed in proposed § 226.43(b)(8),
the Board proposes to use the term
‘‘mortgage-related obligations’’ to refer to
‘‘all applicable taxes, insurance
(including mortgage guarantee
insurance), and assessments.’’ Proposed
§ 226.43(b)(8) would define the term
‘‘mortgage-related obligations’’ to mean
property taxes; mortgage-related
insurance premiums required by the
creditor as set forth in proposed
§ 226.45(b)(1); homeowner association,
condominium, and cooperative fees;
ground rent or leasehold payments; and
special assessments. Unlike the
requirement under proposed
§ 226.43(c)(5)(v), however, creditors
would not need to verify and document
mortgage-related obligations for
purposes of satisfying this underwriting
condition. Proposed comment
43(e)(2)(iv)–6 provides cross-references

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to proposed § 226.43(b)(8) and
associated commentary to facilitate
compliance.
43(e)(2)(iv)(A) Maximum Interest Rate
During First Five Years
Proposed § 226.43(e)(2)(iv)(A)
implements TILA Sections
129C(b)(2)(A)(iv) and (v), in part, and
provides as a condition to meeting the
definition of a qualified mortgage that
the creditor underwrite the loan using
the maximum interest rate that may
apply during the first five years after
consummation. The statute does not
define the term ‘‘maximum rate.’’ In
addition, the statute does not clarify
whether the phrase ‘‘the maximum rate
permitted under the loan during the first
5 years’’ means the creditor should use
the maximum interest rate that occurs
during the first five years of the loan
beginning with the first periodic
payment due under the loan, or during
the first five years after consummation
of the loan. The distinction between
these two approaches is that the former
would capture the rate reset for a 5⁄1
hybrid ARM that occurs on the due date
of the 60th monthly payment, and the
latter would not.
Maximum interest rate. The Board
interprets the phrase ‘‘maximum rate
permitted’’ as requiring creditors to
underwrite the loan based on the
maximum interest rate that could occur
under the terms of the loan during the
first five years after consummation,
assuming a rising index value. See TILA
Section 129C(b)(2)(A)(v). The plain
meaning of ‘‘maximum’’ is to the greatest
possible degree or amount. For this
reason, the Board believes it is
reasonable to interpret the phrase as
requiring the creditor to use the
maximum rate possible, assuming that
the index value is increasing. See
proposed comment 43(e)(2)(iv)–1. This
interpretation is consistent with current
guidance contained in Regulation Z
regarding disclosure of the maximum
interest rate. See MDIA Interim Rule, 75
FR 58471, Sept. 24, 2010. The Board
further believes this interpretation is
consistent with Congressional intent to
encourage creditors to make loans to
consumers that are less risky and that
afford the consumer a reasonable period
of time to repay (i.e., 5 years) on less
risky terms.
First five years after consummation.
For several reasons, the Board proposes
to interpret the phrase ‘‘during the first
5 years’’ as requiring creditors to
underwrite the loan based on the
maximum interest rate that may apply
during the first five years after
consummation. TILA Section
129C(b)(2)(A)(v). First, a plain reading

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of the statutory language conveys that
the ‘‘first 5 years’’ is the first five years
of the loan once it comes into existence
(i.e., once it is consummated).
Interpreting the phrase to mean the first
five years beginning with the first
periodic payment due under the loan
would require an expansive reading of
the statutory text.
Second, the Board believes the intent
of this underwriting condition is to
ensure that the consumer can afford the
loan’s payments for a reasonable
amount of time. The Board believes that
Congress intended for a reasonable
amount of time to be the first five years
after consummation, and therefore
interprets the statutory text ‘‘maximum
rate permitted during the first five
years’’ accordingly.
Third, the Board believes this
approach is consistent with prior
iterations of this statutory text and the
Board’s 2008 HOEPA Final Rule. As
noted above, the Dodd-Frank Act
codifies many aspects of the repayment
ability requirements contained in
§ 226.34(a)(4) of the Board’s 2008
HOEPA Final Rule. Previous versions of
this statutory text provided that
creditors underwrite the loan using the
maximum interest rate during the first
seven years; 68 this time horizon
parallels § 226.34(a)(4)(iii), which
requires creditors to determine a
consumers repayment ability using the
largest payment in first seven years
‘‘following consummation.’’
Fourth, the Board believes that
interpreting the phrase ‘‘during the first
five years’’ as including the rate
adjustment at the end of the fifth year
would be of limited benefit to
consumers because creditors could
easily structure their product offerings
to avoid application of the rule. For
example, a creditor could move a rate
adjustment that typically occurs on the
due date of the 60th monthly payment
to due date of the first month that falls
outside the specified time horizon,
making any proposal to extend the time
period in order to include the rate
adjustment of diminished value.
Finally, the Board recognizes that the
proposed timing of the five-year period
differs slightly from the approach used
under the 2010 MDIA Interim Final
Rule, but believes this is appropriate
given the different purposes of the rules.
The Board recently amended the 2010
MDIA Interim Final Rule to require that
creditors base their disclosures on the
first five years after the first regular
periodic payment due date rather than
the first five years after consummation.
68 See, e.g., Mortgage Reform and Anti-Predatory
Lending Act, H. Rep. 111–94, p. 39 (2009).

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See 75 FR 81836, Dec. 29, 2010. The
revision clarifies that the disclosure
requirements for 5/1 hybrid ARMs must
include the rate adjustment that occurs
on the due date of the 60th monthly
payment, which typically occurs more
than five years after consummation. The
disclosure requirements under the 2010
MDIA Interim Final Rule, as revised, are
intended to help make consumers aware
of changes to their loan terms that may
occur if they choose to stay in the loan
beyond five years and therefore, helps to
ensure consumers avoid the uninformed
use of credit.
By contrast, consistent with statutory
intent, proposed § 226.43(e)(2)(iv) seeks
to ensure that the loan’s payments are
affordable for a reasonable period of
time. For the reasons stated above, the
Board believes that Congress intended
the first five years after consummation
to be a reasonable period of time to
ensure that the consumer has the ability
to repay the loan according to its terms.
The Board also notes that the 2010
MDIA Interim Final Rule and
226.43(e)(2)(iv) complement, rather than
conflict, with each other. That is,
consistent with Congressional intent,
proposed 226.43(e)(2)(iv) would ensure
that a consumer could repay the loan for
the first five years after consummation.
For those borrowers that want to stay in
the mortgage longer than five years, the
disclosure required under the 2010
MDIA Interim Final Rule provides
information about any potential increase
in payments so that the consumer can
decide whether those payments are
affordable.
For these reasons, the Board believes
it is appropriate to interpret the
statutory text as requiring that the
creditor underwrite the loan using the
maximum interest rate during the first
five years after consummation. The
Board solicits comment on its
interpretation of the phrase ‘‘first five
years’’ and the appropriateness of this
approach.
Proposed comment 43(e)(2)(iv)–1
would provide additional guidance to
creditors on how to determine the
maximum interest rate during the first
five years after consummation. This
comment would explain that creditors
must use the maximum rate that could
apply at any time during the first five
years after consummation, regardless of
whether the maximum rate is reached at
the first or subsequent adjustment
during such five year period. Proposed
comment 43(e)(2)(iv)(A)–2 would clarify
that for a fixed-rate mortgage, creditors
should use the interest rate in effect at
consummation, and provide a crossreference to § 226.18(s)(7)(iii) for the

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meaning of the term ‘‘fixed-rate
mortgage.’’
Proposed comment 43(e)(2)(iv)–3
would provide further guidance to
creditors regarding treatment of periodic
interest rate adjustment caps. This
comment would explain that for an
adjustable-rate mortgage, creditors
should assume the interest rate
increases after consummation as rapidly
as possible, taking into account the
terms of the legal obligation. This
comment would further explain that
creditors should account for any
periodic interest rate adjustment cap
that may limit how quickly the interest
rate can increase under the terms of the
legal obligation. This comment would
also state that where a range for the
maximum interest rate during the first
five years is provided, the highest rate
in that range is the maximum interest
rate for purposes of this section. Finally,
this comment would clarify that where
the terms of the legal obligation are not
based on an index plus a margin, or
formula, the creditor must use the
maximum interest rate that occurs
during the first five years after
consummation.
Proposed comment 43(e)(2)(iv)–3
provides several illustrative examples of
how to determine the maximum interest
rate. For example, this comment would
illustrate how to determine the
maximum interest rate in the first five
years after consummation for an
adjustable-rate mortgage with a
discounted rate for three years. The
example first assumes an adjustable-rate
mortgage that has an initial discounted
rate of 5% that is fixed for the first three
years of the loan, after which the rate
will adjust annually based on a
specified index plus a margin of 3%.
This comment assumes the index value
in effect at consummation is 4.5%. This
comment states that the loan agreement
provides for an annual interest rate
adjustment cap of 2%, and a lifetime
maximum interest rate of 10%. The first
rate adjustment occurs on the due date
of the 36th monthly payment; the rate
can adjust to no more than 7% (5%
initial discounted rate plus 2% annual
interest rate adjustment cap). The
second rate adjustment occurs on the
due date of the 48th monthly payment;
the rate can adjust to no more than 9%
(7% rate plus 2% annual interest rate
adjustment cap). The third rate
adjustment occurs on the due date of the
60th monthly payment, which occurs
more than five years after
consummation. This proposed comment
explains that the maximum interest rate
during the first five years after
consummation is 9% (the rate on the
due date of the 48th monthly payment).

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Proposed comment 43(e)(2)(iv)–4
would further clarify the meaning of the
phrase ‘‘first five years after
consummation.’’ This comment would
reiterate that under proposed
§ 226.43(e)(2)(iv)(A), the creditor must
underwrite the loan using the maximum
interest rate that may apply during the
first five years after consummation of
the loan, and would provide the
following illustrative example: Assume
an adjustable-rate mortgage with an
initial fixed interest rate of 5% for the
first five years after consummation, after
which the interest rate will adjust
annually to the specified index plus a
margin of 6%, subject to a 2% annual
interest rate adjustment cap. The index
value in effect at consummation is
5.5%. The loan consummates on
September 15, 2011, and the first
monthly payment is due on
November 1, 2011. The first five years
after consummation occurs on
September 15, 2016. The first rate
adjustment to no more than 7% (5%
plus 2% annual interest rate adjustment
cap) occurs on the due date of the 60th
monthly payment, which is October 1,
2016 and therefore, the rate adjustment
does not occur during the first five years
after consummation. To meet the
definition of qualified mortgage under
§ 226.43(e)(2), the creditor must
underwrite the loan using a monthly
payment of principal and interest based
on an interest rate of 5%, which is the
maximum interest rate during the first
five years after consummation.
43(e)(2)(iv)(B) Amortizing Payments of
Principal and Interest
Proposed § 226.43(e)(2)(iv)(B)
implements TILA Section
129C(b)(2)(A)(iv) and (v), in part, and
provides as a condition to meeting the
definition of a qualified mortgage that
the creditor underwrite the loan using
periodic payments of principal and
interest that will repay either (1) the
outstanding principal balance over the
remaining term of the loan as of the date
the interest rate adjusts to the maximum
interest rate that occurs during the first
five years after consummation; or (2) the
loan amount over the loan term. See
proposed § 226.43(e)(2)(iv)(B)(1) and (2).
TILA Section 129C(b)(2)(A)(iv) and (v)
state that underwriting should be based
‘‘on a payment schedule that fully
amortizes the loan over the loan term.’’
The Board notes that unlike the
payment calculation assumptions set
forth for purposes of the general abilityto-repay rule under TILA Section
129C(a)(6), the underwriting conditions
for purposes of meeting the definition of
a qualified mortgage do not specify the
loan amount that should be repaid, and

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do not define ‘‘loan term.’’ For
consistency and to facilitate
compliance, the Board proposes to use
the terms ‘‘loan amount’’ and ‘‘loan term’’
in proposed § 226.43(b)(5) and (b)(6),
respectively, for purposes of this
underwriting condition.
However, the Board believes that a
loan that meets the definition of a
qualified mortgage and which has the
benefit of other safeguards, such as
limits on loan features and fees, merits
flexibility in the underwriting process.
Accordingly, the Board proposes to
permit creditors to underwrite the loan
using periodic payments of principal
and interest that will repay either the
outstanding principal balance as of the
date the maximum interest rate takes
effect under the terms of the loan, or the
loan amount as of the date of
consummation. The Board believes
permitting the former approach more
accurately reflects the largest payment
amount that the borrower would need to
make under the terms of the loan during
the first five years after consummation,
where as the latter approach would
actually overstate the payment amounts
required. This approach sets a minimum
standard for qualified mortgages, but
affords creditors to choose either
approach to facilitate compliance.
Proposed comment 43(e)(2)(iv)–5
would provide further clarification to
creditors regarding the loan amount to
be used for purposes of this second
condition. This comment would explain
that for a creditor to meet the definition
of a qualified mortgage under proposed
§ 226.43(e)(2), the creditor must
determine the periodic payment of
principal and interest using the
maximum interest rate permitted during
the first five years after consummation
that repays either (1) the outstanding
principal balance as of the earliest date
the maximum interest rate can take
effect under the terms of the legal
obligation, over the remaining term of
the loan, or (2) the loan amount, as that
term is defined in § 226.43(b)(5), over
the entire loan term, as that term is
defined in § 226.43(b)(6). This comment
would provide illustrative examples for
both approaches.
Proposed comment 43(e)(2)(iv)–7
provides illustrative examples of how to
determine the periodic payment of
principal and interest based on the
maximum interest rate during the first
five years after consummation under
proposed § 226.43(e)(2)(iv). For
example, this comment would illustrate
the payment calculation rule for an
adjustable-rate mortgage with discount
for five years. This comment first
assumes a loan in an amount of
$200,000 that has a 30-year loan term.

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Second, the comment would assume
that the loan agreement provides for a
discounted interest rate of 6% that is
fixed for an initial period of five years,
after which the interest rate will adjust
annually based on a specified index
plus a margin of 3%, subject to a 2%
annual interest rate adjustment cap.
The index value in effect at
consummation is 4.5%. The loan
consummates on March 15, 2011 and
the first regular periodic payment is due
May 1, 2011. Under the terms of the
loan agreement, the first rate adjustment
is on April 1, 2016 (the due date of the
60th monthly payment), which occurs
more than five years after
consummation of the loan. This
proposed comment explains that the
maximum interest rate under the terms
of the loan during the first five years
after consummation is 6%. See
proposed comment 43(e)(2)(iv)–7.iii.
This comment concludes that the
creditor will meet the definition of a
qualified mortgage if it underwrites the
loan using the monthly payment of
principal and interest of $1,199 to repay
the loan amount of $200,000 over the
30-year loan term using the maximum
interest rate during the first five years of
6%.
The Board notes that in the case of an
adjustable-rate mortgage with a fixed
interest rate for the first five years after
consummation, the creditor will use the
fixed initial rate as the maximum
interest rate to calculate the monthly
payment using that will repay the loan
amount, in accordance with
requirements in proposed
§ 226.43(e)(2)(iv). Because the fixed
initial rate does not adjust during the
first five years after consummation, the
outstanding principal balance at the end
of the fifth year is equivalent to the
balance of the loan amount, assuming
the first 60 monthly payments under the
loan are made as scheduled. Thus, there
is no alternative calculation.
43(e)(2)(v)
Income or Assets (ALTERNATIVE 1) or
Underwriting Requirements
(ALTERNATIVE 2)
As discussed above, it is not clear
whether the Act intends the definition
of a ‘‘qualified mortgage’’ to be a
somewhat narrowly-defined safe harbor
or a more broadly-defined presumption
of compliance. Thus, the Board is
proposing two alternative requirements
for the ‘‘qualified mortgage’’ definition.
Under Alternative 1, the underwriting
requirements for a qualified mortgage
would be limited to what is contained
in the statutory definition, namely,
considering and verifying the

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consumer’s current or reasonably
expected income or assets. Under
Alternative 2, the qualified mortgage
definition would require a creditor
consider and verify all of the
underwriting criteria required under the
general ability-to-repay standard,
namely: (1) The consumer’s current or
reasonably expected income, (2) the
consumer’s employment status, (3) the
monthly payment on any simultaneous
loans, (4) the consumer’s current debt
obligations, (5) the consumer’s monthly
debt-to-income ratio or residual income,
and (6) the consumer’s credit history.

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ALTERNATIVE 1
43(e)(2)(v) Income or Assets
Under TILA Section
129C(b)(2)(A)(iii), a condition for a
‘‘qualified mortgage’’ is that the income
and financial resources relied upon to
qualify the obligors on the residential
mortgage loan are verified and
documented. This requirement is
consistent with the repayment ability
requirement to consider and verify a
consumer’s income or assets using
third-party records, under TILA Section
129C(a)(1) and (3), as discussed above in
the section-by-section analysis of
proposed § 226.43(c)(2)(i) and (c)(4).
Proposed § 226.43(e)(2)(v) would
implement TILA Section
129C(b)(2)(A)(iii) and provides that for a
covered transaction to be a ‘‘qualified
mortgage,’’ the creditor must consider
and verify the consumer’s current or
reasonably expected income or assets to
determine the consumer’s repayment
ability, as required by proposed
§ 226.43(c)(2)(i) and (c)(4). The Board
believes creditors must consider and not
merely verify a consumer’s income or
assets for a covered transaction to be a
‘‘qualified mortgage,’’ because TILA
Section 129C(b)(2)(A)(iii) integrates a
requirement to consider the consumer’s
income or assets by referring to
qualifying a consumer for a covered
transaction. Qualifying a consumer for a
covered transaction in general involves
considering whether or not the
consumer’s income or assets are
sufficient for the consumer to meet his
payment obligations under the covered
transaction. In addition, the proposal
uses the term ‘‘assets’’ instead of
‘‘financial resources’’ for consistency
with other provisions in Regulation Z,
as discussed above in the section-bysection analysis of proposed
§ 226.43(c)(2)(i). Under the first
alternative requirement, proposed
comment 43(e)(2)(v)–1 clarifies that
creditors may rely on commentary to
§ 226.43(c)(2)(i), (c)(3) and (c)(4) for
guidance regarding considering and

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verifying the consumer’s income or
assets to satisfy the conditions under
§ 226.43(e)(2)(v) for a ‘‘qualified
mortgage.’’
ALTERNATIVE 2
43(e)(2)(v)(A)–(F) Underwriting
Requirements
Under Alternative 2, proposed
§ 226.43(e)(2)(v) would implement TILA
Section 129C(b)(2)(A)(iii) and require
that creditors consider and verify the
consumer’s current or reasonably
expected income or assets to determine
the consumer’s repayment ability, as
required by proposed § 226.43(c)(2)(i)
and (c)(4). This proposed requirement,
which under Alternative 2 is designated
§ 226.43(e)(2)(v)(A), is discussed in
detail under Alternative 1 above.
In addition, proposed
§ 226.43(e)(2)(v)—Alternative 2 would
require that creditors consider and
verify the following additional
underwriting requirements, which are
also required under the general abilityto-repay standard: The consumer’s
employment status, the consumer’s
monthly payment on any simultaneous
loans, the consumer’s current debt
obligations, and the consumer’s credit
history. Creditors could look to
commentary on the general repayment
ability provisions under proposed
§ 226.43(c)(2)(i), (ii), (iv), and (vi)
through (viii), and (c)(3), (c)(4), (c)(6),
and (c)(7) for guidance regarding
considering and verifying the
consumer’s repayment ability to satisfy
the conditions under § 226.43(e)(2)(v)
for a ‘‘qualified mortgage.’’ See proposed
comment 43(e)(2)(v)–1 (Alternative 2).
The Board proposes these additions
pursuant to its legal authority pursuant
under TILA Section 129C(b)(3)(B)(i).
The Board believes that adding these
requirements may be necessary to better
ensure that the consumers are offered
and receive loans on terms that
reasonably reflect their ability to repay
the loan.
The Board solicits comments on
adding each of these criteria to the
definition of a ‘‘qualified mortgage.’’
Specifically, the Board solicits comment
on whether, for each criterion, the
inclusion of the criterion strikes the
appropriate balance between ensuring
the consumer’s ability to repay the loan
and providing creditors with an
incentive to make a qualified mortgage.
In addition, the Board solicits comment
on whether consideration of
simultaneous loans should be required
for both purchase transactions and nonpurchase transactions (i.e.,
refinancings).

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43(e)(2)(v)(E) Debt-to-Income Ratio or
Residual Income
TILA Section 129C(b)(2)(vi) states that
the term ‘‘qualified mortgage’’ includes
any mortgage loan ‘‘that complies with
any guidelines or regulations
established by the Board relating to
ratios of total monthly debt to monthly
income or alternative measure of ability
to pay regular expenses after payment of
total monthly debt, taking into account
the income levels of the borrower and
such other factors as the Board may
determine relevant and consistent with
the purposes described in paragraph
(3)(B)(i).’’ As stated above, under
proposed § 226.43(e)(2)(v)—Alternative
1, creditors are not required to consider
the consumer’s debt-to-income ratio or
residual income to make a qualified
mortgage. However, under proposed
§ 226.43(e)(2)(v)—Alternative 2, a
‘‘qualified mortgage’’ is a loan for which,
among other things, the creditor
considers the consumer’s monthly debtto-income ratio or residual income, as
required by § 226.43(c)(2)(vii) and (c)(7).
Without determining the consumer’s
debt-to-income ratio, a creditor could
originate a qualified mortgage without
any requirement to consider the effect of
the new loan payment on the
consumer’s overall financial picture.
The consumer could have a very high
total debt-to-income ratio under widely
accepted underwriting standards, and
be predicted to default soon after the
first scheduled mortgage payment.
Accordingly, including the debt-toincome ratio or residual income in the
definition of ‘‘qualified mortgage’’ might
ensure that the consumer has a
reasonable ability to repay the loan.
The Board solicits comment on
whether consideration of the debt-toincome ratio or residual income should
be part of the criteria for a ‘‘qualified
mortgage.’’
Quantitative standards. The Board is
not proposing a quantitative standard
for the debt-to-income ratio or residual
income in the qualified mortgage
definition for several reasons. First, as
explained in the Board’s 2008 HOEPA
Final Rule, the Board is concerned that
setting a specific debt-to-income ratio or
residual income level could limit credit
availability without providing adequate
off-setting benefits. 73 FR 44550, July
30, 2008. For this proposal, the Board
analyzed data from the Applied
Analytics division (formerly McDash
Analytics) of Lender Processing Services
(LPS) for the years 2005–2008 69 and
69 The LPS data include mortgage underwriting
and performance information. The LPS data do not
include detailed information on borrower income

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data from the Survey of Consumer
Finances (the SCF) for the years 2005–
2007.70 Using the LPS data, the Board
found that about 23 percent of all
borrowers exceeded a debt-to-income
ratio of 45 percent, the typical
maximum permitted by creditors and
the secondary market for loans that are
manually underwritten. The data show
that this rate was even higher for
borrowers living in low-income or highcost areas. Using the SCF data, the
Board found that about 44 percent of
borrowers located in low-income areas
and about 31 percent of borrowers
located in high-cost areas exceeded the
45 percent limit.71 If the Board were to
adopt a quantitative standard, the Board
seeks comment on what exceptions may
be necessary for low-income borrowers
or borrowers living in high-cost areas, or
for other cases.
Second, outreach conducted by the
Board revealed a range of underwriting
guidelines for debt-to-income ratios
based on product type, whether
creditors used manual or automated
underwriting, and special
considerations for high- and low-income
borrowers. Setting a quantitative
standard would require the Board to
address the operational issues related to
the calculation of the debt-to-income
ratio or residual income. For example,
the Board would need clearly to define
income and current debt obligations, as
well as compensating factors and the
situations in which creditors may use
compensating factors, In addition, the
debt-to-income ratio is often a floating
metric, since the percentage changes as
new information about income or
current debt obligations becomes
available. A quantitative standard
would require guidelines on the timing
of the debt-to-income ratio calculation,
and what circumstances would
and on other debts the borrower may have in
addition to the mortgage.
70 The SCF is conducted every three years by the
Board, in cooperation with the U.S. Department of
Treasury, to provide detailed information on the
finances of U.S. families. The SCF collects
information on the balance sheet, pension, income,
and other demographic characteristics of U.S.
families. To ensure the representativeness of the
study, respondents are selected randomly using a
scientific sampling methodology that allows a
relatively small number of families to represent all
types of families in the nation. Additional
information on the SCF is available at http://
www.federalreserve.gov/pubs/oss/oss2/
method.html.
71 See also Wardrip, Keith, An Annual Look at the
Housing Affordability Challenges of America’s
Working Households (Center for Housing Policy
2011) (showing that just over 20 percent of working
households, defined as households that report
household members working at least 20 hours per
week, on average, with incomes no higher than 120
percent of the median income in their area, who
own a home spend more than half its income on
housing costs).

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necessitate a re-calculation of the debtto-income ratio. Furthermore, a
quantitative standard may also need to
provide tolerances for mistakes made in
calculating the debt-to-income ratio.
The rule would also need to address the
use of automated underwriting systems
in determining the debt-to-income ratio
or residual income.
Finally, setting a quantitative
standard for residual income could
prove particularly challenging. Except
for one small creditor and the
Department of Veterans’ Affairs, the
Board is not aware of any creditors that
routinely use residual income in
underwriting, other than as a
compensating factor.72 As noted in the
supplementary information to the 2008
HOEPA Final Rule, the residual income
guidelines of the Department of
Veterans’ Affairs may be appropriate for
the limited segment of the mortgage
market this agency is authorized to
serve, but they are not necessarily
appropriate for the large segment of the
mortgage market this regulation will
cover. 73 FR 44550, July 30, 2008.
Moreover, the residual income
guidelines developed by the Department
of Veterans’ Affairs have not been
updated since 1997. It is not clear that
such guidelines would be appropriate or
provide sufficient flexibility for
consumers outside the market served by
the Department of Veterans’ Affairs.
For these reasons, the Board is not
proposing a quantitative standard for
the debt-to-income ratio or residual
income. The Board recognizes, however,
that creditors, and ultimately
consumers, may benefit from a higher
degree of certainty surrounding the
qualified mortgage definition that a
quantitative standard could provide.
Therefore, the Board solicits comment
on whether and how it should prescribe
a quantitative standard for the debt-toincome ratio or residual income for the
qualified mortgage definition.
43(e)(3) Limits on Points and Fees for
Qualified Mortgages
Proposed § 226.43(e)(3) sets forth two
alternative proposals establishing the
points and fees that a creditor may
charge on a qualified mortgage:
Alternative 1
• For a loan amount of $75,000 or
more, 3 percent of the total loan
amount;
72 See also Stone, Michael E., What is Housing
Affordability? The Case for the Residual Income
Approach, 17 Housing Policy Debate 179 (Fannie
Mae 2006) (advocating use of a residual income
approach but acknowledging that it ‘‘is neither well
known, particularly in this country, nor widely
understood, let alone accepted’’).

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• For a loan amount of greater than or
equal to $60,000 but less than $75,000,
3.5 percent of the total loan amount;
• For a loan amount of greater than or
equal to $40,000 but less than $60,000,
4 percent of the total loan amount;
• For a loan amount of greater than or
equal to $20,000 but less than $40,000,
4.5 percent of the total loan amount; and
• For a loan amount of less than
$20,000, 5 percent of the total loan
amount.
Alternative 2
• For a loan amount of $75,000 or
more, 3 percent of the total loan
amount;
• For a loan amount of greater than or
equal to $20,000 but less than $75,000,
a percent of the total loan amount not
to exceed the percentage of the total
loan amount yielded by the following
formula—
Æ Total loan amount¥$20,000 = $Z
Æ $Z × .0036 basis points = Y basis
points
Æ 500 basis points ¥Y basis points =
X basis points
Æ X basis points × .01 = Allowable
points and fees as a percentage of the
total loan amount.
• For a loan amount of less than
$20,000, 5 percent of the total loan
amount.
For both alternatives, Proposed
comment 43(e)(3)(i)–1 cross-references
comment 32(a)(1)(ii)–1 for an
explanation of how to calculate the
‘‘total loan amount’’ under this
provision. Proposed comment
43(e)(3)(i)–2 also clarifies that a creditor
must determine which category the loan
falls into based on the face amount of
the note (the ‘‘loan amount’’), but must
apply the allowable points and fees
percentage to the ‘‘total loan amount,’’
which may be an amount that is
different than the face amount of the
note. Specifically, the comment
explains that a creditor must calculate
the allowable amount of points and fees
for a qualified mortgage as follows:
• First, the creditor must determine
the ‘‘tier’’ into which the loan falls based
on the loan amount. The loan amount is
the principal amount the consumer will
borrow as reflected in the promissory
note or loan contract. See § 226.43(b)(5).
For example, if the loan amount is
$75,000, the loan falls into the tier for
loans of $75,000 or more, to which a
three percent cap on points and fees
applies.
• Second, the creditor must
determine the ‘‘total loan amount’’ based
on the calculation for the ‘‘total loan
amount’’ under comment 32(a)(1)(ii)–1.
If the loan amount is $75,000, for

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example, the ‘‘total loan amount’’ may be
a different amount, such as $73,000.
• Third, the creditor must apply the
percentage cap on points and fees to the
‘‘total loan amount.’’ For example, for a
loan of $75,000 where the ‘‘total loan
amount’’ is $73,000, the allowable
points and fees is three percent of
$73,000 or $2,190.
For a discussion of the Board’s proposed
revisions to the ‘‘total loan amount’’
calculation, see the section-by-section
analysis of § 226.32(a)(1)(ii), above.
Discussion
The Board proposes the two
alternative calculations for the qualified
mortgage points and fees test to
implement TILA Section
129C(b)(2)(A)(vii), which requires that
the points and fees of a qualified
mortgage may not exceed three percent
of the total loan amount. 15 U.S.C.
1639c(b)(2)(A)(vii). Proposed
§ 226.43(e)(3) is also intended to
implement TILA Section 129C(b)(2)(D),
which requires the Board to adjust this
three percent points and fees limit for
‘‘smaller loans’’ and also requires that,
‘‘[i]n prescribing such rules, the Board
* * * consider the potential impact of
such rules on rural areas and other areas
where home values are lower.’’ 15 U.S.C.
1639C(b)(2)(D). The statute does not
define, and the legislative history does
not provide guidance on, the terms
‘‘smaller loan’’ or the phrase ‘‘rural areas
and other areas where home values are
lower.’’
Therefore, to gather information on
how best to implement the statutory
requirement that the Board ‘‘adjust’’ the
points and fees threshold for ‘‘smaller
loans,’’ Board staff consulted with
consumer advocates and numerous
types of creditors, including
representatives of banks and credit
unions in rural areas, as well as
manufactured home loan creditors. In
addition, Board staff also examined
recent data on loan size distributions for
home purchase loans and refinances by
county and based on whether the loan
was a conventional mortgage or a
mortgage secured by manufactured
homes. The Board also considered that
creditors can, to some extent, increase
the interest rate to offset limits on points
and fees. The Board recognizes that loan
pricing is typically a blend of points and
fees and interest rate and that limits on
points and fees tend to drive loan costs
into the rate.
As an initial matter, the Board
considered a few options for
implementing the statutory mandate to
‘‘adjust[] the criteria’’ of the three
percent points and fees cap—namely,
narrowing the charges required to be

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included in the ‘‘points and fees’’
calculation, raising the percentage cap,
or a combination of both. Outreach
participants generally disfavored an
approach that would require different
ways of calculating points and fees
depending on loan size. Industry
representatives in particular raised
concerns about compliance burden and
the increased risk of error resulting from
a more complex rule. The Board
believes that requiring separate ways of
calculating points and fees is
unnecessary to effect the statutory
mandate to ‘‘adjust the criteria’’ for the
qualified mortgage three percent points
and fees threshold. The proposal
therefore simply would set higher
percentage caps on points and fees for
loans of less than $75,000.
Outreach participants had varying
views on appropriate loan size
thresholds for an alternative points and
fees limitation applicable to ‘‘smaller
loans.’’ Industry representatives shared a
concern that loans below a certain size
could not meet the three percent points
and fees cap because the minimum costs
to originate any loan would exceed
three percent of loans of that size. While
recognizing that loan costs can be
covered in part by charging a higher
interest rate, creditors were concerned
that for smaller loans, the needed rate
increase might result in loan becoming
a high-cost mortgage; as a result,
creditors would be reluctant to make
these loans and credit availability
would be compromised. Based on
calculations using loans in their own
portfolios, some creditors indicated that
the point at which minimum loan
origination costs exceed three percent of
the total loan amount is $50,000 to
$75,000. At least one creditor indicated
that, in addition, for loans of $40,000 or
less, the creditor would be unable to
meet a four percent cap on points and
fees. Others suggested $100,000 as the
appropriate ‘‘smaller loan’’ threshold,
while still others recommended that the
Board propose a ‘‘smaller loan’’
threshold of greater than $100,000, such
as at least $150,000. Community bank
representatives in particular raised
concerns that they would be unable to
retain profitability without an
adjustment to the points and fees cap for
loans of less than $100,000. They argued
that the sizes of loans originated by
community banks and other institutions
in less populated areas are ‘‘small’’ on
average, leaving less opportunity for
community banks than larger
institutions to make up any losses on
originations of small loans through
originations of larger loans.
Industry representatives also
generally expressed concerns about

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limiting the availability of credit to lowincome or rural borrowers if the points
and fees cap for qualified mortgages
were too low with respect to ‘‘smaller
loans.’’ If creditors could not meet the
qualified mortgage points and fees cap,
these loans would not meet the
definition of a ‘‘qualified mortgage’’ and
creditors therefore would be less likely
to make these loans.
Consumer advocates generally favored
a narrower exception to the three
percent qualified mortgage points and
fees threshold for ‘‘smaller loans,’’
recommending a ‘‘smaller loan’’ size of
no higher than $50,000 and preferably
lower. They questioned industry
concerns that the three percent
threshold would limit the availability of
credit for borrowers of comparatively
low loan amounts. Instead, they
emphasized the importance of ensuring
that qualified mortgages are affordable
because, depending on the Board’s
interpretation of the statute, these loans
potentially would not be subject to some
or all of the specific repayment ability
requirements in TILA Section 129C(a)
(see proposed § 226.43(c)). (For a
detailed discussion of the Board’s
alternative proposals regarding which of
the general repayment ability
requirements apply to creditors of
qualified mortgages, see the section-bysection analysis of proposed § 226.43(e),
above.) In their view, the three percent
points and fees cap is a centerpiece of
ensuring affordability and should be
relaxed only in very limited
circumstances.
The Board’s Proposal
Based on outreach and the Board’s
research, the Board is issuing two
alternative proposals to implement the
points and fees limitation on qualified
mortgages. The first consists of five
‘‘tiers’’ of loan sizes and corresponding
limits on points and fees. The second
consists of three ‘‘tiers,’’ with the middle
tier of allowable points and fees based
on a formula yielding a greater
allowable percentage of the total loan
amount to be charged in points and fees
for each dollar increase in loan size.
The Board proposes a ‘‘tiered’’
approach, rather than a single ‘‘smaller
loan’’ threshold and a single alternate
points and fees cap for loans at or below
that amount, for several reasons. First,
the Board understands that most
creditors have a minimum cost for
originating a mortgage loan of any size
and that this cost may vary somewhat
by creditor. If a single minimum
origination cost is assumed, that cost
will obviously comprise a different
percentage of a loan depending on its
size. Total points and fees of $2,500 will

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
obviously be a smaller percentage of a
loan of $100,000 (2.5%) than for a loan
of $50,000 (5%), for example. A single
threshold therefore may not be
sufficiently flexible to allow loans of a
full range of sizes to be deemed
qualified mortgages.
In addition, the Board believes that a
rule allowing for incremental increases
in the points and fees cap for several
ranges of loan sizes will help mitigate
market distortions that might otherwise
result. For example, a rule setting a five
percent points and fees cap for all loans
less than $75,000 would create a
significant disparity between the
amount of points and fees that could be
charged on loans of substantially equal
amounts. For a loan of $75,000, for
instance, a creditor could charge up to
$2,250 (3% of $75,000). But for a loan
of $74,000, a creditor could charge as
much as $3,700 (5% of $74,000). As a
result, loans slightly above the threshold
at which a five percent cap applies—for
example, from $75,000 to $85,000—
might be less likely to be made at all.
Finally, the Board is reluctant to
require a single threshold due to
limitations inherent in available data on
origination costs. Various resources that
track points and fees in loan
originations tend to use different
methods for calculating the points and
fees and to date do not include all items
that must be counted as points and fees
under TILA as amended by the DoddFrank Act. See TILA Section 103(aa)(4);
15 U.S.C. 1602(aa)(4). See also sectionby-section analysis of § 226.32, above.
Alternative 1. The five-tiered
approach proposed as Alternative 1 is
intended to facilitate compliance by
setting clear categories based on loan
size to which specific points and fees
thresholds apply. The Board derived the
loan size ranges for each category (with
corresponding points and fees
thresholds of three percent, 3.5 percent,
four percent, 4.5 percent, and five
percent of the ‘‘total loan amount,’’
respectively) based on a calculation that
would generally achieve a ‘‘sliding
scale’’ points and fees cap from three to
five percent for loans from $20,000 to
$75,000. To make the proposal more
straightforward, the Board chose
increments of .5% and rounded the loan
size ranges proposed for each category.
Thus, for example:
• An $80,000 loan would fall into the
category for loans of $75,000 or more, to
which a three percent points and fees
rate cap applies. Assuming that the
‘‘total loan amount’’ for the loan is also
$80,000, the dollar amount of allowable
points and fees for this loan would be
$2,400.

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• A $60,000 loan would fall into the
category for loans of $60,000 but less
than $75,000, to which a 3.5 percent
points and fees rate cap applies.
Assuming that the ‘‘total loan amount’’
for the loan is also $60,000, the dollar
amount of allowable points and fees for
this loan would be $2,100.
• A $40,000 loan would fall into the
category for loans of $40,000 but less
than $60,000, to which a four percent
points and fees rate cap applies.
Assuming that the ‘‘total loan amount’’
for the loan is also $40,000, the dollar
amount of allowable points and fees for
this loan would be $1,600.
• A $20,000 loan would fall into the
category for loans of $20,000 but less
than $40,000, to which a 4.5 percent
points and fees rate cap applies.
Assuming that the ‘‘total loan amount’’
for the loan is also $40,000, the dollar
amount of allowable points and fees for
this loan would be $900.
• A $10,000 loan would fall into the
category for loans of less than $20,000,
to which a five percent points and fees
rate cap applies. Assuming that the
‘‘total loan amount’’ for the loan is also
$10,000, the dollar amount of allowable
points and fees for this loan would be
$500.
Proposed alternative comment
43(e)(3)(i)–3 provides the following
illustration of how to calculate the
allowable points and fees for a $50,000
loan with a $48,000 total loan amount:
A covered transaction with a loan
amount of $50,000 falls into the third
points and fees tier, to which a points
and fees cap of 3.5 percent of the total
loan amount applies. See
§ 226.43(e)(3)(i)(C). If a $48,000 total
loan amount is assumed, the allowable
points and fees for this loan is 3.5
percent of $48,000 or $1,920.
One concern is that this approach
yields anomalous results in some
instances—namely, that a greater dollar
amount of points and fees would be
allowable on some loans than on other
loans of a larger size. For example, the
allowable points and fees that could be
charged on a loan of $40,000 (also
assuming in this example a ‘‘total loan
amount’’ of $40,000) would be $1,600—
four percent of the total loan amount. At
the same time, the allowable points and
fees that could be charged on a loan of
$38,000 (also assuming in this example
a ‘‘total loan amount’’ of $38,000) would
be $1,710—4.5 percent of the total loan
amount. The Board considered and
could revise the first alternative to solve
the anomalies mathematically, but not
without adding significant complexity
to the regulation, which in turn would
increase the risk of compliance errors.
For these reasons, the Board is also

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proposing the alternative discussed
below.
Alternative 2. The Board proposes an
alternative with three tiers that
incorporates a formula designed to
ensure that allowable points and fees as
a dollar amount will increase as the loan
amount increases, thus eliminating the
anomalies resulting from the proposed
five-tier approach. Specifically, as
noted, for a loan amount of $75,000 or
more, allowable points and fees would
be 3 percent of the total loan amount.
For a loan amount of less than $20,000,
allowable points and fees would be 5
percent of the total loan amount. These
two categories correspond with the first
and last tiers of the five-tiered approach
discussed above.
For a loan amount of greater than or
equal to $20,000 but less than $75,000,
however, the allowable points and fees
would be a percentage of the total loan
amount not to exceed the amount
yielded by the following formula—
Æ Total loan amount¥$20,000 = $Z
Æ $Z × .0036 = Y basis points
Æ 500 basis points¥Y basis points =
X basis points
Æ X basis points × .01 = Allowable
points and fees as a percentage of the
total loan amount.
In effect, for every dollar increase in the
total loan amount, the allowable points
and fees would increase by .0036 basis
points. Proposed alternative comment
43(e)(3)(i)–3 provides the following
illustration of how to apply this
formula: Assume a loan amount of
$50,000 with a ‘‘total loan amount’’ of
$48,000. The amount of $20,000 must be
subtracted from $48,000 to yield the
number of dollars to which the .0036
basis points multiple must be applied—
in this case, $28,000. $28,000 must be
multiplied by .0036 basis points—in
this case resulting in 100.8 basis points.
This amount must be subtracted from
the maximum allowable points and fees
on any loan, which, under the proposed
rule, is 500 basis points. (Five percent
of the total loan amount for loans of less
than $20,000 is the maximum allowable
points and fees on any loan. Five
percent expressed in basis points is
500.) Five hundred minus 100.8 equals
399.2 basis points: This is the allowable
points and fees in basis points.
Translating basis points into a
percentage of the total loan amount
requires multiplying 399.2 by .01—
resulting, in this case, in 3.99 percent.
Allowable points and fees for this loan
as a dollar figure is therefore 3.99
percent of $48,000 (i.e., the total loan
amount), or $1,915.20.
The Board recognizes that a formula
is potentially more complex for

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creditors to comply with than the
multiple tiers proposed under the first
alternative. In particular, the Board
requests comment on whether a formula
would be difficult for smaller creditors
to integrate into their lending
operations.
Three to five percent cap. The upper
end of the points and fees cap for
smaller loans is proposed to be five
percent for loans of less than $20,000.
One reason for the maximum cap of five
percent for loans of less than $20,000 is
to achieve general consistency with the
Dodd-Frank Act amendments to the
points and fees thresholds for high-cost
mortgages.73 Specifically, TILA now
defines a high-cost mortgage as one for
which the points and fees equal five
percent of the total transaction amount
if the transaction is $20,000 or more
and, if the transaction is less than
$20,000, the lesser of eight percent of
the total transaction amount or $1,000.
See TILA Section 103(aa)(1)(A)(ii)(I) and
(II); 15 U.S.C. 1602(aa)(1)(A)(ii)(I) and
(II).
The proposal seeks to ensure that if a
loan is a qualified mortgage, it would
not also be a high-cost mortgage based
on the points and fees, and therefore
subject to the more stringent high-cost
mortgage rules of TILA Section 129 (as
amended by the Dodd-Frank Act).74 For
example, five percent of a loan of
$19,999 is $999.95. Thus, for this loan
to meet the points and fees test for
qualified mortgages, the maximum
points and fees that could be charged
would be $999.95. If the maximum
points and fees that could be charged on
this loan under the qualified mortgage
test were $1,000, this loan would also be
a high-cost mortgage.
As discussed earlier, the Board
believes that the statute is designed to
reduce the compliance burden on
creditors when they make qualified
mortgages, in order to encourage
creditors to make loans with stable,
understandable loan features. Creating
points and fees thresholds for small
loans that might result in qualified
mortgages also being high-cost
mortgages would discourage creditors
from making qualified mortgages
because the requirements and
limitations of high-cost loans are
generally more stringent than for other
loans. High-cost mortgages, for example,
are subject to a cap on the late fees that
may be imposed and timing restrictions
regarding when the fee may be imposed,
but other mortgages are not subject to
these and several other rules applicable
73 Public Law 111–203, 124 Stat. 1376, Title XIV,
§ 1431.
74 Id. § 1432, 1433.

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solely to high-cost mortgages. See TILA
Section 129(k); 15 U.S.C. 1639(k). They
also require that the consumer obtain
‘‘pre-loan counseling’’ not required for
other mortgages. See TILA Section
129(u); 15 U.S.C. 1639(u).
Three percent cap for loans of
$75,000 or greater. The Board proposes
a loan size of $75,000 as the point at
which the statutory three percent points
and fees cap begins to apply for several
reasons. First, the Board believes that
Congress intended the exception to the
qualified mortgage points and fees cap
to affect more than a minimal—although
still limited—proportion of homesecured loans. The 2008 Home Mortgage
Disclosure Act 75 (HMDA) data show
that 8.4 percent of first-lien, homepurchase (site-built) mortgages had a
loan amount of $74,000 or less.76 That
percentage significantly drops for loans
of $49,000 or less, to 2.8 percent, with
only .5 percent of all loans at $24,000
or less. The percentage of first-lien,
home-purchase (site-built) mortgages of
$100,000 or less is significantly higher
than 8.4 percent, however—totaling 16
percent of the market.
Similarly, in 2009, the percentage of
first-lien home-purchase (site-built)
mortgages was 9.7 percent, with a
significant drop for loans of $50,000 or
less to 3.3 percent of the total market
and .3 percent for loans of $20,000 or
less.77 Again, however, the percentage
of first-lien home-purchase (site-built)
mortgages jumps substantially—from
9.7 percent to 18.5 percent—for loans of
$100,000 or less. Parallel results
occurred for first-lien refinances
secured by site-built homes.78
Thus, the Board believes that a loan
size of less than $75,000 would capture
a material portion of the first-lien homepurchase (site-built) mortgage market
(close to 10 percent), but would not
undermine the statute by creating an
exception that might be over-broad.79
75 12

U.S.C. 2801 et seq.
The 2008 HMDA Data: The Mortgage
Market during a Turbulent Year, Federal Reserve
Bulletin, vol. 95, p. A201 (April 2010).
77 See HMDA data for 2009 is available at Federal
Financial Institutions Examination Council, http://
www.ffiec.gov.hmda/hmdaproducts.htm.
78 See The 2008 HMDA Data: The Mortgage
Market during a Turbulent Year, Federal Reserve
Bulletin, vol. 95, p. A201 (April 2010); Federal
Financial Institutions Examination Council, http://
www.ffiec.gov/hmda/hmdaproducts.htm
79 The proposed loan size threshold would have
applied to the majority of second-lien homepurchase and refinance loans secured by site-built
homes in 2008 and 2009. In 2008, 78.3 percent of
all second-lien home-purchase (site-built)
mortgages were $74,000 or less and 75.3 percent of
all second-lien refinances (site-built) were $74,000
or less. See The 2008 HMDA Data: The Mortgage
Market during a Turbulent Year, Federal Reserve
Bulletin, vol. 95, p. A201 (April 2010). In 2009, 85.1
percent of all second-lien home-purchase (site76 See

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Second, Board outreach and research
indicate that $2,250—three percent of
$75,000—is within range of average
costs to originate a first-lien home
mortgage. Thus $75,000 appears to be an
appropriate benchmark for applying the
three percent limit, with a higher
percent limit applying to loans below
that amount to afford creditors of these
loans a reasonable opportunity to
recoup their origination costs. The
sliding scale approach to loans below
$75,000 is intended in part to help
ensure that creditors of these loans
would not have to add a significant
amount to the rate to recoup their
origination costs and thus cannot be
classified as high-cost mortgages. In
addition, the Board seeks to limit
compensating rate increases because it
recognizes that increasing the rate is not
necessarily in the consumer’s interest—
for example, a loan with a higher rate
can be costly for a consumer who plans
to stay in the home (and loan) for a long
time. Higher rates also can decrease
credit access because some consumers
may not be able to make the resulting
payments over time, but may have the
cash to pay the costs upfront.
Third, the Board interprets Congress’s
express concern for ‘‘loans in areas
where home values are lower’’ to
encompass not only geographic areas
but also ‘‘areas’’ of mortgage lending
generally—in particular, property types
such as manufactured homes, which
tend to be less expensive than site-built
homes. Regarding property types, the
Board focused on manufactured homes
and found that, in 2009, 74.8 percent of
all first-lien home-purchase loans
secured by manufactured homes were
$75,000 or less, while 61.8 percent of all
first-lien refinances secured by
manufactured homes were $75,000 or
less. Thus the Board believes that the
proposal would appropriately address
Congress’s concern with the ‘‘lower’’
home values typical of manufactured
homes. The Board considers
manufactured homes to be an important
homeownership option for many
consumers and intends through this
proposal to protect manufactured home
loan consumers from excessive costs,
while allowing more of these loans to be
deemed qualified mortgages.
In general, the Board is reluctant to
propose an adjustment to the three
percent qualified mortgage points and
fees cap based on geographic area alone.
Property values shift over time, and in
some cases, properties in what today are
built) and 78.1 percent of all second-lien refinance
(site-built) mortgages were in an amount of $75,000
or less. See Federal Financial Institutions
Examination Council, http://www.ffiec.gov/hmda/
hmdaproducts.htm.

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remote, inexpensive areas may become
more populated and costly over time.
The Board considered imposing an
alternate points and fees threshold for
defined geographic areas such as ‘‘nonMSA’’ areas. However, even within
those areas, origination costs and loan
sizes may vary widely, so the Board
believes that an inadequate basis exists
for such a proposal.
Nevertheless, regarding whether loan
sizes are ‘‘lower’’ on average in some
geographic areas than others, the Board
has conducted preliminary research on
loan size by county. HMDA data
indicate that in 2009, for example, there
were eight counties in which loans
under $75,000 comprised more than 90
percent of all first-lien mortgages made
in those counties, and 1,366 counties in
which loans under $75,000 comprised
more than 90 percent of all second-lien
loans made in those counties.80 The
Board also noted that counties in which
at least 70 percent of second-lien
mortgages made were under $75,000
(2,616 counties) accounted for 91
percent of the entire second-lien
mortgage market for loans of under
$75,000. These data suggest that the
proposal may affect access to credit
differently across the country.
The Board requests comment on the
proposed alternative loan size ranges
and corresponding points and fees caps
for qualified mortgages. The Board
encourages commenters to provide
specific data to support their
recommendations. The Board also
solicits comment on whether the
proposal should index the loan size
ranges for inflation and periodically
change them by regulation. In addition,
the Board requests comment on the
potential impact of the proposal on
access to credit, particularly on how the
impact may vary based on geographic
area.

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43(e)(3)(ii) Exclusions From Points and
Fees for Qualified Mortgages
Proposed § 226.43(e)(3)(ii) excludes
three types of charges from the points
and fees calculation for qualified
mortgages:
• Any bona fide third party charge
not retained by the creditor, loan
originator, or an affiliate of either,
subject to the limitations under
proposed § 226.32(b)(1)(i)(B), which
requires that premiums for private
mortgage insurance be included in
points and fees under certain
circumstances, even if they are not
80 See Federal Financial Institutions Examination
Council, http://www.ffiec.gov/hmda/
hmdaproducts.htm.

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retained by the creditor, loan originator,
or an affiliate of either.
• Up to two bona fide discount points
paid by the consumer in connection
with the covered transaction, but only if
certain conditions are met (discussed
below).
• Up to one bona fide discount point
paid by the consumer in connection
with the covered transaction, but only if
certain conditions are met (discussed
below).
See proposed § 226.43(e)(3)(ii)(A)–(C).
43(e)(3)(ii)(A) Bona Fide Third Party
Charges
Proposed § 226.43(e)(3)(ii)(A)
excludes from ‘‘points and fees’’ for
qualified mortgages ‘‘any bona fide third
party charge not retained by the
creditor, loan originator, or an affiliate
of either, unless the charge is required
to be included in ‘points and fees’ under
§ 226.32(b)(1)(i)(B).’’ This provision
would implement TILA Section
129C(b)(2)(C), which defines ‘‘points
and fees’’ for qualified mortgages to have
the same meaning as ‘‘points and fees’’
for high-cost mortgages (TILA Section
103(aa)(4)), but expressly excludes
‘‘bona fide third party charges not
retained by the mortgage originator,
creditor, or an affiliate of the creditor or
mortgage originator.’’ 15 U.S.C.
1602(aa)(4), 1639c(b)(2)(C). With the
following example, proposed comment
43(e)(3)(ii)–1 clarifies the meaning of
‘‘retained by’’ the loan originator,
creditor, or an affiliate of either: If a
creditor charges a consumer $400 for an
appraisal conducted by a third party not
affiliated with the creditor, pays the
third party appraiser $300 for the
appraisal, and retains $100, the creditor
may exclude $300 of this fee from
‘‘points and fees’’ but must count the
$100 it retains in ‘‘points and fees.’’
Proposed § 226.43(e)(3)(ii)(A) would
also implement TILA Section
103(aa)(1)(C), which requires that
premiums for private mortgage
insurance be included in ‘‘points and
fees’’ as defined in TILA Section
103(aa)(4) under certain circumstances.
15 U.S.C. 1602(aa)(1)(C). Applying
general rules of statutory construction,
the Board believes that the more specific
provision on private mortgage insurance
supersedes the more general provision
permitting any bona fide third party
charge not retained by the creditor,
mortgage originator, or an affiliate of
either to be excluded from ‘‘points and
fees.’’ Thus, comment 43(e)(3)(ii)–2
explains that § 226.32(b)(1)(i)(B)
requires creditors to include in ‘‘points
and fees’’ premiums or charges payable
at or before closing for any private
guaranty or insurance protecting the

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creditor against the consumer’s default
or other credit loss to the extent that the
premium or charge exceeds the amount
payable under policies in effect at the
time of origination under Section
203(c)(2)(A) of the National Housing Act
(12 U.S.C. 1709(c)(2)(A)). These
premiums or charges must also be
included if the premiums or charges are
not required to be refundable on a prorated basis, or the refund is not
automatically issued upon notification
of the satisfaction of the underlying
mortgage loan. The comment clarifies
that, under these circumstances, even if
the premiums and charges are not
retained by the creditor, loan originator,
or an affiliate of either, they must be
included in the ‘‘points and fees’’
calculation for qualified mortgages. The
comment also cross-references
comments 32(b)(1)(i)–3 and –4 for
further discussion of including upfront
private mortgage insurance premiums in
the points and fees calculation.
For a detailed discussion of the
Board’s proposal to apply the DoddFrank Act provisions on mortgage
insurance to the meaning of ‘‘points and
fees’’ for qualified mortgages, see the
section-by-section analysis of proposed
§ 226.32(b)(1)(i) (implementing TILA
Section 103(aa)(1)(C)).
43(e)(3)(ii)(B) and 43(e)(3)(ii)(C) Bona
Fide Discount Points
Proposed § 226.43(e)(3)(ii)(B) and
(e)(3)(ii)(C) permit a creditor to exclude
a limited number of discount points
from the calculation of points and fees
under specific circumstances. These
provisions are proposed to implement
TILA Section 129C(b)(2)(C)(ii), (iii), and
(iv), and mirror the statutory language
with minor clarifying revisions. 15
U.S.C. 1639c(b)(2)(C)(ii), (iii), and (iv).
Exclusion of up to two bona fide
discount points. Specifically, proposed
§ 226.43(e)(3)(ii)(B) permits a creditor to
exclude from points and fees for a
qualified mortgage up to two bona fide
discount points paid by the consumer in
connection with the covered
transaction, provided that the following
conditions are met—
• The interest rate before the rate is
discounted does not exceed the average
prime offer rate, as defined in
§ 226.45(a)(2)(ii),81 by more than one
percent; and
• The average prime offer rate used
for purposes of paragraph
43(e)(3)(ii)(B)(1) is the same average
prime offer rate that applies to a
comparable transaction as of the date
81 See 76 FR 11319, March 2, 2011 (2011 Jumbo
Loan Escrow Final Rule).

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the discounted interest rate for the
covered transaction is set.
Proposed comment 43(e)(3)(ii)–3
provides the following example to
illustrate this rule: Assume a covered
transaction that is a first-lien, purchase
money home mortgage with a fixed
interest rate and a 30-year term. Assume
also that the consumer locks in an
interest rate of 6.00 percent on May 1,
2011, that was discounted from a rate of
6.50 percent because the consumer paid
two discount points. Finally, assume
that the average prime offer rate (APOR)
as of May 1, 2011 for first-lien, purchase
money home mortgages with a fixed
interest rate and a 30-year term is 5.50
percent.
In this example, the creditor may
exclude two discount points from the
‘‘points and fees’’ calculation because
the rate from which the discounted rate
was derived exceeded APOR for a
comparable transaction as of the date
the rate on the covered transaction was
set by only one percent.
Exclusion of up to one bona fide
discount point. Proposed
§ 226.43(e)(3)(ii)(C) permits a creditor to
exclude from points and fees for a
qualified mortgage up to one bona fide
discount point paid by the consumer in
connection with the covered
transaction, provided that the following
conditions are met—
• The interest rate before the discount
does not exceed the average prime offer
rate, as defined in § 226.45(a)(2)(ii),82 by
more than two percent;
• The average prime offer rate used
for purposes of § 226.43(e)(3)(ii)(C)(1) is
the same average prime offer rate that
applies to a comparable transaction as of
the date the discounted interest rate for
the covered transaction is set; and
• Two bona fide discount points have
not been excluded under
§ 226.43(e)(3)(ii)(B) of this section.
Proposed comment 43(e)(3)(ii)–4
provides the following example to
illustrate this rule: Assume a covered
transaction that is a first-lien, purchase
money home mortgage with a fixed
interest rate and a 30-year term. Assume
also that the consumer locks in an
interest rate of 6.00 percent on May 1,
2011, that was discounted from a rate of
7.00 percent because the consumer paid
four discount points. Finally, assume
that the average prime offer rate (APOR)
as of May 1, 2011 for first-lien, purchase
money home mortgages with a fixed
interest rate and a 30-year term is 5.00
percent.
In this example, the creditor may
exclude one discount point from the
‘‘points and fees’’ calculation because
82 See

id.

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the rate from which the discounted rate
was derived (7.00 percent) exceeded
APOR for a comparable transaction as of
the date the rate on the covered
transaction was set (5.00 percent) by
only two percent.
Comparable transaction. Both
proposed exclusions for bona fide
discount points require the creditor to
determine the APOR for a ‘‘comparable
transaction.’’ Comment 43(e)(3)(ii)–5
clarifies that the APOR table published
by the Board indicates how to identify
the comparable transaction.83 This
comment also cross-references proposed
comment 45(a)(2)(ii)–2 contained in the
2011 Escrow Proposal (see also existing
comment 35(a)(2)–2), which makes the
same clarification in a different context.
Currently, the APOR table published by
the Board indicates that one loan
characteristic on which the APOR may
vary is whether the rate is fixed or
adjustable. Another variable is the
length of the loan term. For a fixed-rate
mortgage, the relevant term is the length
of the entire contractual obligation, such
as 30 years. For an adjustable-rate
mortgage, the relevant term is the length
of the initial fixed-rate period. The
examples provided in proposed
comments 43(e)(3)(ii)–3 and –4 are
based on a fixed-rate mortgage with a
30-year term and accordingly refer to
the APOR for a fixed-rate mortgage with
a 30-year term.
Risk-based price adjustments. The
Board is aware that, in setting the
purchase price for specific loans, Fannie
Mae and Freddie Mac make loan-level
price adjustments (LLPAs) to
compensate offset added risks, such as
a high LTV or low credit score, among
many other risk factors.84 Creditors
may, but are not required to, pass the
resulting costs directly through to the
consumer in the form of points. During
outreach, some creditors argued that
these points should not be counted in
points and fees for qualified mortgages
under the exclusion for ‘‘bona fide third
party charges not retained by the loan
originator, creditor, or an affiliate of
either.’’ Proposed § 226.43(e)(3)(ii)(A);
TILA Section 129C(b)(2)(C).
The Board understands creditors’
concerns about exceeding the qualified
mortgage points and fees thresholds due
to LLPAs required by the GSEs. At the
same time, the Board questions whether
an exemption for LLPAs is consistent
with congressional intent in limiting
83 Federal Financial Institutions Examination
Council (FFIEC), ‘‘FFIEC Rate Spread Calculator,’’
http://www.ffiec.gov/ratespread/newcalc.aspx.
84 See e.g., Fannie Mae, ‘‘Loan-Level Price
Adjustment (LLPA) Matrix and Adverse Market
Delivery Charge (AMDC) Information,’’ Selling
Guide (Dec. 23, 2010).

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points and fees for qualified mortgages.
Points charged to meet GSE risk-based
price adjustment requirements are
arguably no different than other points
charged on loans sold to any secondary
market purchaser to compensate that
purchaser for added loan-level risks.
Congress clearly contemplated that
discount points generally should be
included in points and fees for qualified
mortgages; as discussed above, the
Dodd-Frank Act exempts from the
qualified mortgage points and fees
calculation up to only two discount
points, and under limited
circumstances. See TILA Section
129C(b)(2)(C)(ii), (iii), and (iv), proposed
to be implemented in new
§ 226.43(e)(3)(ii)(B) and (e)(3)(ii)(C).
An exclusion for points charged by
creditors in response to secondary
market LLPAs also raises questions
about the appropriate treatment of
points charged by creditors to offset
loan-level risks on mortgage loans that
they hold in portfolio. Under normal
circumstances, these points are retained
by the creditor, so an argument that they
should be excluded from points and fees
under the ‘‘bona fide third party charge’’
exclusion (see above) seems inapt. Yet
requiring that these points be included
in points and fees, when similar charges
on loans sold into the secondary market
are excluded, may create undesirable
market imbalances between loans sold
to the secondary market and loans held
in portfolio.
Creditors may offset risks on their
portfolio loans (or on loans sold into the
secondary market) by charging a higher
rate rather than additional points and
fees; however, the Board recognizes the
limits of this approach to loan-level risk
mitigation due to concerns such as
exceeding high-cost mortgage rate
thresholds. Nonetheless, in practice, an
exclusion from the qualified mortgage
points and fees calculation for all points
charged to offset loan-level risks may
create compliance and enforcement
difficulties. The Board questions
whether meaningful distinctions
between points charged to offset loanlevel risks and other points and fees
charged on a loan can be made clearly
and consistently. In addition, such an
exclusion could be overbroad and
inconsistent with Congress’s intent that
points generally be counted toward the
points and fees threshold for qualified
mortgages.
The Board requests comment on
whether and on what basis the final rule
should exclude from points and fees for
qualified mortgages points charged to
meet risk-based price adjustment
requirements of secondary market
purchasers and points charged to offset

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loan-level risks on mortgages held in
portfolio.

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43(e)(3)(iii) Definition of Loan
Originator
Proposed § 226.43(e)(3)(iii) defines
the term ‘‘loan originator’’ in
§ 226.43(e)(3) to have the same meaning
as in § 226.36(a)(1). For a discussion of
the Board’s proposal to use the term
‘‘loan originator’’ as defined in
§ 226.36(a)(1) rather than the statutory
term ‘‘mortgage originator,’’ see the
section-by-section analysis of proposed
§ 226.32(b)(1)(ii).
43(e)(3)(iv) Definition of Bona Fide
Discount Point
Proposed § 226.43(e)(3)(iv) defines the
term ‘‘bona fide discount point’’ as used
in the exclusions of certain ‘‘bona fide
discount points’’ from ‘‘points and fees’’
for qualified mortgages described above.
This provision is intended to implement
TILA Section 129C(b)(2)(C)(iii), which
defines the term ‘‘bona fide discount
point,’’ as well as TILA Section
129C(b)(2)(C)(iv), which limits the types
of discount points that may be excluded
from ‘‘points and fees’’ to those for
which ‘‘the amount of the interest rate
reduction purchased is reasonably
consistent with established industry
norms and practices for secondary
market transactions.’’ 15 U.S.C.
1639c(b)(2)(C)(iii) and (iv).
Thus, ‘‘bona fide discount point’’ is
proposed to be defined as ‘‘any percent
of the loan amount’’ paid by the
consumer that reduces the interest rate
or time-price differential applicable to
the mortgage loan by an amount based
on a calculation that—
• Is consistent with established
industry practices for determining the
amount of reduction in the interest rate
or time-price differential appropriate for
the amount of discount points paid by
the consumer; and
• Accounts for the amount of
compensation that the creditor can
reasonably expect to receive from
secondary market investors in return for
the mortgage loan.
Consistent with the express statutory
language, the Board’s proposal requires
that the creditor be able to show a
relationship between the amount of
interest rate reduction purchased by a
discount point to the value of the
transaction in the secondary market.
Based on outreach with representatives
of creditors and government-sponsored
enterprises (GSEs) in particular, the
Board understands that the value of a
rate reduction in a particular mortgage
transaction on the secondary market is
based on many complex factors, which
interact in a variety of complex ways.

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These factors may include, among
others:
• The product type, such as whether
the loan is a fixed-rate or adjustable-rate
mortgage, or has a 30-year term or a 15year term.
• How much the mortgage-backed
securities (MBS) market is willing to
pay for a loan at that interest rate and
the liquidity of an MBS with loans at
that rate.
• How much the secondary market is
willing to pay for excess interest on the
loan that is available for capitalization
outside of the MBS market.
• The amount of the guaranty fee
required to be paid by the creditor to the
investor.
The proposal therefore is intended to
facilitate compliance by affording
flexibility, while still requiring, as
mandated by the statute, that the
amount of discount points paid by
consumers for a particular interest rate
reduction be tied to the capital markets.
The Board is concerned that a more
prescriptive interpretation would be
operationally unworkable for most
creditors and would lead to excessive
legal and regulatory risk. In addition,
the Board recognizes that, due to the
variation in inputs described above, a
more prescriptive rule likely would
require continual updating, creating
additional compliance burden and
potential confusion.
Concerns have been raised that small
creditors such as community banks that
often hold loans in portfolio rather than
sell them on the secondary market may
have difficulty complying with this
requirement. The Board requests
comment on whether any exemptions
from the requirement that the interest
rate reduction purchased by a ‘‘bona fide
discount point’’ be tied to secondary
market factors are appropriate.
43(f) Balloon-Payment Qualified
Mortgages Made by Certain Creditors
As discussed above, under this
proposal, a qualified mortgage generally
may not provide for a balloon payment.
TILA Section 129C(b)(2)(E), however,
authorizes the Board to permit qualified
mortgages with balloon payments,
provided the loans meet four
conditions. Those conditions are that (1)
the loan meets all of the criteria for a
qualified mortgage, with certain
exceptions discussed in the more
detailed section-by-section analysis,
below; (2) the creditor makes a
determination that the consumer is able
to make all scheduled payments, except
the balloon payment, out of income or
assets other than the collateral; (3) the
loan is underwritten based on a
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the loan over a period of not more than
30 years and takes into account all
applicable taxes, insurance, and
assessments; and (4) the creditor meets
four prescribed qualifications. Those
four qualifications are that the creditor
(1) operates predominantly in rural or
underserved areas; (2) together with all
affiliates, has total annual residential
mortgage loan originations that do not
exceed a limit set by the Board; (3)
retains the balloon-payment loans in
portfolio; and (4) meets any asset-size
threshold and any other criteria the
Board may establish.
Based on outreach, certain
community banks appear to originate
balloon-payment loans to hedge against
interest rate risk, rather than making
adjustable-rate mortgages. The Board
understands that the community banks
hold these balloon-payment loans in
portfolio virtually without exception
because they are not eligible for sale in
the established secondary market. The
Board believes Congress enacted the
exception in TILA Section 129C(b)(2)(E)
to ensure access to credit in rural and
underserved areas where consumers
may be able to obtain credit only from
such community banks offering these
balloon-payment loans. Accordingly,
proposed § 226.43(f) implements TILA
Section 129C(b)(2)(E) by providing an
exception to the general provision that
a qualified mortgage may not provide
for a balloon payment.
Proposed § 226.43(f)(1) sets forth the
four statutory conditions described
above, as well as an additional
condition that the loan term be five
years or longer, which the Board is
proposing pursuant to its authority to
‘‘revise, add to, or subtract from the
criteria that define a qualified mortgage’’
under TILA Section 129C(b)(3)(B)(i).
Proposed § 226.43(f)(2) provides
definitions of ‘‘rural’’ and ‘‘underserved’’
for use in determining whether the
creditor satisfies the first qualification
that it ‘‘operates predominantly in rural
or underserved areas.’’ These proposed
provisions are discussed in greater
detail below.
43(f)(1) Exception
43(f)(1)(i) Criteria for a Qualified
Mortgage
Proposed § 226.43(f)(1)(i) implements
TILA Section 129C(b)(2)(E)(i) by
providing that a balloon-payment
qualified mortgage must meet all of the
criteria for a qualified mortgage except
those requiring that the loan (1) not
provide for deferral of principal
repayment, (2) not provide for a balloon
payment, and (3) be underwritten based
on a fully amortizing payment schedule

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that takes into account all mortgagerelated obligations and using the
maximum interest rate that may apply
during the first five years after
consummation. Proposed comment
43(f)(1)(i)–1 clarifies that a balloonpayment qualified mortgage under this
exception therefore must provide for
regular periodic payments that do not
result in an increase of the principal
balance as required by
§ 226.43(e)(2)(i)(A), must have a loan
term that does not exceed 30 years as
required by § 226.43(e)(2)(ii), must have
total points and fees that do not exceed
specified thresholds pursuant to
§ 226.43(e)(2)(iii), and must satisfy the
consideration and verification
requirements in § 226.43(e)(2)(v).
Under this provision, in accordance
with the statutory provisions, the
exception would excuse balloonpayment qualified mortgages from the
requirement in proposed
§ 226.43(e)(2)(i)(B) that a qualified
mortgage not allow the consumer to
defer repayment of principal. As noted
above, deferred principal repayment
may occur if the payment is applied to
both accrued interest and principal but
the consumer makes periodic payments
that are less than the amount that would
be required under a payment schedule
that has substantially equal payments
that fully repay the loan amount over
the loan term. The scheduled payments
that fully repay a balloon-payment loan
over the loan term include the balloon
payment itself and, therefore, are not
substantially equal. Thus, balloonpayment loans permit the consumer to
defer repayment of principal. The Board
believes that Congress excused balloonpayment qualified mortgages from the
restriction on principal repayment
deferral for this reason. That rationale,
however, does not necessarily extend to
loans that permit principal repayment
deferral by providing for interest-only
payments. The Board solicits comment
on whether the exception should
provide that balloon-payment qualified
mortgages may permit only principal
repayment deferral resulting from the
use of an amortization period that
exceeds the loan term, as balloonpayment loans commonly do, but may
not permit principal repayment deferral
resulting from interest-only payments.
43(f)(1)(ii) Underwriting Using
Scheduled Payments
Proposed § 226.43(f)(1)(ii) implements
TILA Section 129C(b)(2)(E)(ii) by
providing that, to make a balloonpayment qualified mortgage, a creditor
must determine that the consumer can
make all of the scheduled payments
under the terms of the legal obligation,

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except the balloon payment, from the
consumer’s current or reasonably
expected income or assets other than the
dwelling that secures the loan. Proposed
comment 43(f)(1)(ii)–1 provides the
following example to illustrate the
calculation of the monthly payment on
which this determination must be
based: Assume a loan in an amount of
$200,000 that has a five-year loan term,
but is amortized over 30 years. The loan
agreement provides for a fixed interest
rate of 6%. The loan consummates on
March 15, 2011, and the monthly
payment of principal and interest
scheduled for the first five years is
$1,199, with the first monthly payment
due on May 1, 2011. The balloon
payment of $187,308 is required on the
due date of the 60th monthly payment,
which is April 1, 2016. The loan
remains a qualified mortgage if the
creditor underwrites the loan using the
scheduled principal and interest
payment of $1,199 (plus all mortgagerelated obligations, pursuant to
§ 226.43(f)(1)(iii)(B)).
Proposed comment 43(f)(1)(ii)–2
provides additional clarification on how
a creditor may make the required
determination that the consumer is able
to make all scheduled payments other
than the balloon payment. It states that
a creditor must determine that the
consumer is able to make all scheduled
payments other than the balloon
payment to satisfy § 226.43(f)(1)(ii), but
the creditor is not required to meet the
repayment ability requirements of
§ 226.43(c)(2)–(7) because those
requirements apply only to covered
transactions that are not qualified
mortgages. Nevertheless, a creditor
satisfies § 226.43(f)(1)(ii) if it complies
with the requirements of § 226.43(c)(2)–
(7). A creditor also may make the
determination that the consumer is able
to make the scheduled payments (other
than the balloon payment) by other
means. For example, a creditor need not
determine that the consumer is able to
make the scheduled payments based on
a payment amount that is calculated in
accordance with § 226.43(c)(5)(ii)(A) or
may choose to consider a debt-toincome ratio that is not determined in
accordance with § 226.43(c)(7).
43(f)(1)(iii) Calculation of Scheduled
Payments
TILA Section 129C(b)(2)(E)(iii)
provides that a balloon-payment
qualified mortgage must be
underwritten based on a payment
schedule that fully amortizes the loan
over a period of not more than 30 years
and takes into account all applicable
taxes, insurance, and assessments. To
implement this provision, proposed

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§ 226.43(f)(1)(iii) requires that the
scheduled payments on which the
determination required by
§ 226.43(f)(1)(ii) is based are calculated
using an amortization period that does
not exceed 30 years and include all
mortgage-related obligations. The Board
believes that the underwriting
referenced in TILA Section
129C(b)(2)(E)(iii) corresponds to the
determination of the consumer’s
repayment ability referenced in TILA
Section 129C(b)(2)(E)(ii).
Further, the Board believes that the
statutory reference to ‘‘a payment
schedule that fully amortizes the loan
over a period of not more than 30 years’’
refers to the amortization period used to
determine the scheduled periodic
payments (other than the balloon
payment) under the legal obligation and
not to the actual loan term of the
obligation, which often is considerably
shorter for a balloon-payment loan.
Proposed comment 43(f)(1)(iii)–1
clarifies that balloon payments often
result when the periodic payment
would fully repay the loan amount only
if made over some period that is longer
than the loan term. The Board believes
this type of transaction was the reason
for the statutory exception for certain
balloon-payment loans.
43(f)(1)(iv) Loan Term
As noted above, the Board is
proposing to add a condition for a
balloon-payment qualified mortgage that
is not established by TILA Section
129C(b)(2)(E). Proposed
§ 226.43(f)(1)(iv) provides that a
balloon-payment qualified mortgage
must have a loan term of five years or
longer. The Board makes this proposal
pursuant to TILA Section
129C(b)(3)(B)(i), which authorizes the
Board ‘‘to revise, add to, or subtract from
the criteria that define a qualified
mortgage upon a finding that such
regulations are necessary or proper to
ensure that responsible, affordable
mortgage credit remains available to
consumers in a manner consistent with
the purposes of this section, necessary
and appropriate to effectuate the
purposes of this section and Section
129B, to prevent circumvention or
evasion thereof, or to facilitate
compliance with such sections.’’ The
purpose of TILA Section 129C is to
ensure that consumers are offered and
receive loans on terms that they are
reasonably able to repay. TILA Section
129B(a)(2). The Board believes that a
minimum loan term for balloonpayment loans is necessary and
appropriate both to effectuate the
purposes of TILA Section 129C and to

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
prevent circumvention or evasion
thereof.
The Board believes that the exception
should be structured to prevent balloonpayment loans with very short loan
terms from being qualified mortgages
because such loans would present
certain risks to consumers. A consumer
with a loan term of less than five years,
particularly where the amortization
period is especially long, would face a
balloon payment soon after
consummation, in an amount virtually
equal to the original loan amount. The
consumer would establish little equity
in the property under such terms, and
if the pattern is repeated the consumer
may never make any significant progress
toward owning the home
unencumbered. Thus, the greater the
difference between a balloon-payment
loan’s amortization period and its loan
term, the more likely the consumer
would face this problem. The Board’s
proposal to require a minimum term
therefore complements the 30-year
maximum amortization period
prescribed by TILA Section
129C(b)(2)(E)(iii).
In addition, the Board believes that
some consumers may obtain balloonpayment loans as a temporary solution
when they cannot afford a longer-term,
fully amortizing loan. That is, because
the interest rate is likely to be lower on
a shorter-term obligation, a consumer
may use a balloon-payment loan for
more affordable financing currently,
intending to refinance into a longerterm, fully amortizing loan once either
the consumer’s financial condition has
improved or current market rates have
become more favorable, or both. The
Board believes that the proposed fiveyear minimum loan term would help
ensure that qualified mortgages with
balloon payments provide consumers an
adequate time window in which to
refinance into longer-term loans. Thus,
the Board believes that the purpose of
ensuring that consumers are offered and
receive affordable loan terms would be
served by requiring that balloonpayment qualified mortgages have a
minimum loan term of five years.
The Board notes that the statute
requires underwriting for an adjustablerate qualified mortgage to be based on
the maximum interest rate permitted
during the first five years. TILA Section
129C(b)(2)(A)(v). Therefore, proposed
§ 226.43(f)(1)(iv) reflects the statutory
intent that five years is a reasonable
period to repay a loan.
For the foregoing reasons, the Board
believes that proposed § 226.43(f)(1)(iv),
in limiting the exception for balloonpayment qualified mortgages to covered
transactions with loan terms of at least

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five years and thus ensuring that such
products truly support mortgage
affordability, would effectuate the
purposes of TILA Section 129C and
prevent circumvention or evasion
thereof. The Board solicits comment on
the appropriateness of this proposed
additional condition as well as on the
proposed use of five years as the
minimum loan term.
43(f)(1)(v) Creditor Qualifications
TILA Section 129C(b)(2)(E)(iv)
includes among the conditions for a
balloon-payment qualified mortgage that
the creditor (1) operates predominantly
in rural or underserved areas; (2)
together with all affiliates, has total
annual residential mortgage loan
originations that do not exceed a limit
set by the Board; (3) retains the balloonpayment loans in portfolio; and (4)
meets any asset-size threshold and any
other criteria as the Board may
establish. These four creditor
qualifications are similar to the
conditions for an exemption from the
requirement that an escrow account be
established for certain mortgages set
forth in TILA Section 129D(c), as
enacted by Section 1461 of the DoddFrank Act. The Board proposed to
implement the escrow exemption in the
2011 Escrow Proposal. The provisions
of proposed § 226.43(f)(1)(v), which
implement TILA Section
129C(b)(2)(E)(iv), differ in some respects
from the provisions of proposed
§ 226.45(b)(2)(iii) in the 2011 Escrow
Proposal because of differences in the
rationales underlying the two
exceptions.
Proposed § 226.43(f)(1)(v) implements
TILA Section 129C(b)(2)(E)(iv) by
providing that a balloon-payment loan
may be a qualified mortgage if the
creditor (1) makes most of its balloonpayment loans in counties designated
by the Board as ‘‘rural or underserved,’’
(2) together with all affiliates extended
only limited covered transactions, (3)
has not sold, assigned, or otherwise
transferred ownership of its balloonpayment loans, and (4) has total assets
that do not exceed a threshold
established and published annually by
the Board, based on the year-to-year
change in the average of the Consumer
Price Index for Urban Wage Earners and
Clerical Workers. These qualifications
are discussed in more detail in the
following parts of this section-bysection analysis.
‘‘Operates Predominantly in Rural or
Underserved Areas’’
Under TILA Section
129C(b)(2)(E)(iv)(I), to qualify for the
exception, a creditor must ‘‘operate

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predominantly in rural or underserved
areas.’’ To implement this provision,
proposed § 226.43(f)(1)(v)(A) provides
that, during the preceding calendar year,
a creditor must have made more than
50% of its total balloon-payment loans
in counties designated by the Board as
‘‘rural or underserved.’’ Proposed
comment 43(f)(1)(v)–1.i states that the
Board publishes annually a list of
counties that qualify as ‘‘rural’’ or
‘‘underserved.’’ The Board’s annual
determinations would be based on the
criteria set forth in proposed
§ 226.43(f)(2), discussed below.
‘‘Areas.’’ In determining what is a
rural or underserved area, the Board is
proposing to use counties as the
relevant area. The Board believes that
the county level is the most appropriate
area for this purpose, even though the
sizes of counties can vary. In
determining the relevant area for
consumers who are shopping for
mortgage loans, census tracts would be
too small, while states generally would
be too large. Because a single standard
nationwide would facilitate compliance,
the Board is proposing to use counties
for all geographic areas. The Board seeks
comment on the appropriateness of this
approach.
‘‘Operates predominantly.’’ As noted,
the proposed rule requires a creditor to
have made during the preceding
calendar year more than 50% of its total
balloon-payment loans in ‘‘rural or
underserved’’ counties. The Board
believes that ‘‘predominantly’’ indicates
a portion greater than half, hence the
proposed regulatory requirement of
more than 50%. The Board proposes to
implement ‘‘operates’’ consistently with
the scope of the relevant qualified
mortgage provision. Thus, because the
definition of qualified mortgage
generally excludes balloon-payment
loans, see proposed § 226.43(e)(2)(i)(C),
only those loans would be counted
toward this element of the exception.
The Board solicits comment on the
appropriateness of both of these
proposed approaches to implementing
the phrase, ‘‘operates predominantly.’’
Total Annual Residential Mortgage Loan
Originations
Under TILA Section
129C(b)(2)(E)(iv)(II), to qualify for the
exception, the creditor and all affiliates
together must have total annual
residential mortgage loan originations
that do not exceed a limit set by the
Board. The Board has identified two
primary issues presented in
implementing this provision: (1)
Whether total annual originations
should be measured by number of loans
or by aggregate dollar volume; and (2)

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the appropriate threshold under either
measure.
The Board has only limited
information on which to base the
foregoing determinations. Thrift
Financial Reports provide limited data
concerning thrifts’ balloon-payment
loan originations; other types of
depository institutions do not identify
which of their mortgage originations are
balloon-payment loans. Moreover, the
balloon-payment loans reported by
thrifts include some unknown number
of commercial-purpose loans, which
would not be subject to Regulation Z.
Based on the limited thrift data
available from 2009, the Board estimates
that a threshold of $100 million in
annual aggregate loan amounts
originated would make approximately
two-thirds of all thrifts eligible for the
exception (assuming they also meet the
other qualifications), and those thrifts
are responsible for approximately 10%
of all thrift-originated balloon-payment
loans. Thus, at least among thrifts, the
vast majority of balloon-payment loans
are made by a minority of creditors with
relatively large overall mortgage
origination volumes. It is not clear,
however, that 10% is the correct
percentage of all balloon-payment loans
to be eligible for the exception.
In light of these uncertainties, the
Board is not proposing a specific
threshold. To implement TILA Section
129C(b)(2)(E)(iv)(II), the Board is
proposing two alternative versions of
§ 226.43(f)(1)(v)(B). Alternative 1 would
require that, during the preceding
calendar year, the creditor together with
all affiliates have extended covered
transactions with principal amounts
that in the aggregate total a to-bedetermined dollar amount or less.
Alternative 2 would require that, during
the preceding calendar year, the creditor
together with all affiliates have
extended a to-be-determined number of
covered transactions or fewer. The
Board is soliciting comment on both
which alternative is more appropriate
and the correct dollar amount or
number of loans, as applicable. For
example, should the threshold be 100
loans per year, something greater, or
something less? Alternatively, should
the threshold be $100 million in
aggregate covered-transaction loan
amounts per year, something greater, or
something less? The Board also requests
that commenters explain their rationales
for any suggested thresholds. In
particular, how would a specific
threshold correlate with the size and
scope of activity of creditors that, in the
absence of the exception, would be
likely to cease offering balloon-payment
loans and consequently leave

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consumers in their markets with limited
access to responsible, affordable
mortgage credit? The Board also
requests that commenters share any data
on which their recommendations are
based.
Retention of Balloon-Payment Loans in
Portfolio
Under TILA Section
129C(b)(2)(E)(iv)(III), to qualify for the
exception, the creditor must ‘‘retain[] the
balloon loans in portfolio.’’ Read as
literally as possible, this requirement
would apply to all balloon-payment
loans ever made by the creditor, even
those made prior to the enactment of the
statute. The Board believes, however,
that very few creditors, if any, would be
eligible for the exception under such a
reading. Therefore, the Board is
proposing two alternative versions of
§ 226.43(f)(1)(v)(C) to implement this
provision, both of which would require
that the creditor not have sold, assigned,
or otherwise transferred legal title to the
debt obligation for any balloon-payment
loan. The difference between the two
alternatives lies entirely in the period
during which any such transfer may not
occur.
Alternative 1 would provide that the
creditor must not sell any balloonpayment loan on or after the effective
date of the final rule made pursuant to
this proposal. This approach would
implement the statute’s language
requiring that the creditor ‘‘retain[] the
balloon loans in portfolio.’’ The Board
recognizes, however, that even this
approach may be unduly limited as a
practical matter; once a creditor sold
even one balloon-payment loan after the
effective date, it would become
permanently ineligible for the
exception. By contrast, Alternative 2
would limit the period during which the
creditor must not have sold any balloonpayment loan to the preceding and
current calendar years.
The Board solicits comment on the
relative merits of Alternatives 1 and 2.
The Board also seeks comment on
whether, under either alternative, some
de minimis number of transfers that may
be made without losing eligibility for
the exception, such as two per calendar
year, would be appropriate. Finally, the
Board seeks comment on whether there
are any other situations in which
creditors should be permitted to transfer
balloon-payment loans without
becoming ineligible for the exception,
such as troubled institutions that need
to raise capital by selling assets or
institutions that enter into mergers or
acquisitions.

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Asset-Size Threshold
Under TILA Section
129C(b)(2)(E)(iv)(IV), to qualify for the
exception, a creditor must meet any
asset-size threshold established by the
Board. Accordingly, proposed
§ 226.43(f)(1)(v)(D) requires the creditor
to have total assets as of December 31
of the preceding calendar year that do
not exceed an asset threshold
established and published annually by
the Board. The threshold dollar amount
would be adjusted annually based on
the year-to-year change in the average of
the Consumer Price Index for Urban
Wage Earners and Clerical Workers, not
seasonally adjusted, for each 12-month
period ending in November, with
rounding to the nearest million dollars.
Comment 43(f)(1)(v)–1.iv would be
updated each December to publish the
applicable threshold for the following
calendar year. The comment would
clarify that creditors that had total assets
at or below the threshold on December
31 of the preceding year satisfy this
criterion for purposes of the exception
during the current calendar year.
This proposal would set the threshold
for calendar year 2011 at $2 billion.
Thus, a creditor would satisfy this
element of the test if it had total assets
of $2 billion or less on December 31,
2010. This number is based on the
limited data available to the Board
through Thrift Financial Reports, noted
above, and information from
commercial banks’ Consolidated
Reports of Condition and Income.
Because of the limited information
available on originations of balloonpayment loans, the Board cannot
identify which creditors make more
than 50% of such loans in ‘‘rural’’ or
‘‘underserved’’ counties. The Board can
identify, however, the institutions that
likely conduct the majority of their
overall business in such locations by
reference to their office locations and to
the origins of their deposits. The Board
believes that the locations in which
creditors have offices and from which
they draw their deposits likely correlate
with the locations in which they extend
balloon-payment loans. Of those
institutions that either have over 50% of
their office locations in or derive over
50% of their deposits from ‘‘rural’’ or
‘‘underserved’’ counties (under the
proposed definitions of those terms,
discussed below), none had total assets
as of the end of 2009 greater than $2
billion.
The Board believes that Congress’s
intent in authorizing the Board to
establish an asset-size test is to ensure
that only smaller institutions that serve
areas with otherwise limited credit

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options may qualify for the exception.
At the same time, the Board believes
that the asset-size test should not
exclude creditors that otherwise
probably are the type of community
bank for which the exception is
intended, i.e., those engaged primarily
in serving rural or underserved areas.
Accordingly, the Board is proposing to
set the asset-size threshold at the
highest level currently held by any of
the institutions that appear to meet that
description. The annual adjustment to
the threshold would ensure that
institutions growing at a pace consistent
with inflation continue to be eligible for
the exception. If an institution should
grow substantially beyond the rate of
inflation, however, it would effectively
‘‘outgrow’’ the exception, consistent
with Congress’s intent to restrict the
exception to relatively small creditors.
The Board seeks comment on the
appropriateness of the proposed $2
billion asset-size threshold and of the
proposed annual adjustments thereto.
TILA Section 129C(b)(2)(E)(iv)(IV)
authorizes but does not require an assetsize test. The Board recognizes that the
other qualifications that a creditor must
satisfy, discussed above, likely would be
satisfied only by relatively small
creditors. Thus, there may be no need
for a separate asset-size test, and the
exception may be as readily
implemented with lesser burden to
creditors by omitting such a test.
Moreover, in the parallel provisions of
the 2011 Escrow Proposal, the Board
proposed no asset-size test on the belief
that it would be unnecessary.
Accordingly, the Board seeks comment
on whether an asset-size test is
necessary to this exception. The Board
also seeks comment on what threshold
is appropriate, and why, if an asset-size
test is necessary. The Board requests
that commenters provide any data they
have underlying their recommendations
on these questions.
43(f)(2) ‘‘Rural’’ and ‘‘Underserved’’
Defined
Proposed § 226.43(f)(2) sets out the
criteria for a county to be designated by
the Board as ‘‘rural or underserved’’ for
purposes of proposed
§ 226.43(f)(1)(v)(A), discussed above.
Under that section, a creditor’s balloonpayment loan originations in all
counties designated as ‘‘rural or
underserved’’ during a calendar year are
measured as a percentage of the
creditor’s total balloon-payment loan
originations during that calendar year to
determine whether the creditor may be
eligible for the exemption during the
following calendar year. If the creditor’s
balloon-payment loan originations in

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‘‘rural or underserved’’ counties during a
calendar year exceeded 50% of the
creditor’s total balloon-payment loan
originations in that calendar year, the
creditor would satisfy
§ 226.43(f)(1)(v)(A) for purposes of the
following calendar year.
Proposed § 226.43(f)(2) establishes
separate criteria for both ‘‘rural’’ and
‘‘underserved,’’ thus a county could
qualify for designation by the Board
under either definition. Under proposed
§ 226.43(f)(2)(i), a county is designated
as ‘‘rural’’ during a calendar year if it is
not in a metropolitan statistical area or
a micropolitan statistical area, as those
terms are defined by the U.S. Office of
Management and Budget, and either (1)
it is not adjacent to any metropolitan or
micropolitan area; or (2) it is adjacent to
a metropolitan area with fewer than one
million residents or adjacent to a
micropolitan area, and it contains no
town with 2,500 or more residents.
Under proposed § 226.43(f)(2)(ii), a
county is designated as ‘‘underserved’’
during a calendar year if no more than
two creditors extend covered
transactions five or more times in that
county.
These two definitions, discussed in
more detail below, parallel the
definitions of the same terms as they are
used in proposed § 226.45(b)(2)(iv) as
set forth in the Board’s 2011 Escrow
Proposal. See proposed
§ 226.45(b)(2)(iv), 76 FR 11598, 11621;
March 2, 2011. Both sets of proposed
regulatory definitions are for purposes
of implementing identical statutory
provisions, thus the Board believes
consistent definitions are appropriate.
See TILA Sections 129C(b)(2)(E)(iv)(I)
and 129D(c)(1) (‘‘operates
predominantly in rural or underserved
areas’’).
‘‘Rural’’
The Board is proposing to limit the
definition of ‘‘rural’’ areas to those areas
most likely to have only limited sources
of mortgage credit because of their
remoteness from urban centers and their
resources. The test for ‘‘rural’’ in
proposed § 226.43(f)(2)(i), described
above, is based on the ‘‘urban influence
codes’’ numbered 7, 10, 11, and 12,
maintained by the Economic Research
Service (ERS) of the United States
Department of Agriculture. The ERS
devised the urban influence codes to
reflect such factors as counties’ relative
population sizes, degrees of
‘‘urbanization,’’ access to larger
communities, and commuting
patterns.85 The four codes captured in
85 See http://www.ers.usda.gov/briefing/Rurality/
UrbanInf/.

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the proposed ‘‘rural’’ definition
represent the most remote rural areas,
where ready access to the resources of
larger, more urban communities and
mobility are most limited. Proposed
comment 43(f)(2)–1 states that the Board
classifies a county as ‘‘rural’’ if it is
categorized under ERS urban influence
code 7, 10, 11, or 12. The Board seeks
comment on all aspects of this approach
to designating ‘‘rural’’ counties,
including whether the definition should
be broader or narrower, as well as
whether the designation should be
based on information other than the ERS
urban influence codes.
‘‘Underserved’’
In determining what areas should be
considered ‘‘underserved,’’ the Board
has considered the minimum number of
creditors that must be engaged in
significant mortgage operations in an
area for consumers to have meaningful
access to mortgage credit. The test for
‘‘underserved’’ in proposed
§ 226.43(f)(2)(ii), described above, is
based on the Board’s judgment that,
where no more than two creditors are
significantly active (measured by
extending mortgage credit at least five
times in a year), the unwillingness of
one creditor to offer a balloon-payment
loan would be detrimental to consumers
with otherwise limited credit options.
Thus, proposed § 226.43(f)(2)(ii)
designates a county as ‘‘underserved’’
during a calendar year if no more than
two creditors extend covered
transactions five or more times in that
county. Proposed comment 43(f)(2)–1
states that the Board bases its
determinations of whether counties are
‘‘underserved’’ for purposes of
§ 226.43(f)(1)(v)(A) by reference to data
submitted by mortgage lenders under
the Home Mortgage Disclosure Act
(HMDA).
The Board believes the purpose of the
exception is to permit creditors that rely
on certain balloon-payment loan
products to continue to offer credit to
consumers, rather than leave the
mortgage loan market, if such creditors’
withdrawal would significantly limit
consumers’ ability to obtain mortgage
credit. In light of this rationale, the
Board believes that ‘‘underserved’’
should be implemented in a way that
protects consumers from losing
meaningful access to mortgage credit.
The Board is proposing to do so by
designating as ‘‘underserved’’ only those
areas where the withdrawal of a creditor
from the market could leave no
meaningful competition for consumers’
mortgage business. The Board seeks
comment on the appropriateness of both
the proposed use of two or fewer

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existing competitors to delineate areas
that are ‘‘underserved’’ and the proposed
use of five or more covered transaction
originations to identify competitors with
a significant presence in a market.

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43(g) Prepayment Penalties
Proposed § 226.43(g) would
implement TILA Section 129C(c), which
establishes certain limits on prepayment
penalties for covered transactions.
Specifically, TILA Section 129C(c)
provides that:
• Only a covered transaction that is a
qualified mortgage may contain a
prepayment penalty;
• A qualified mortgage with a
prepayment penalty may not have an
adjustable rate and may not have an
annual percentage rate that exceeds the
threshold for a higher-priced mortgage
loan;
• The prepayment penalty may not
exceed three percent of the outstanding
balance during the first year after
consummation, two percent during the
second year after consummation, and
one percent during the third year after
consummation;
• There can be no prepayment
penalty after the end of the third year
after consummation; and
• A creditor may not offer a consumer
a loan with a prepayment penalty
without offering the consumer a loan
that does not include a prepayment
penalty.86
The Board’s proposal to implement
TILA Section 129C(c) is discussed in
detail below. The Board at this time
does not propose to implement
limitations on prepayment penalties the
Dodd-Frank Act adds under other TILA
provisions, also discussed below.
Limitations for higher-priced
mortgage loans. Currently,
§ 226.35(b)(2) prohibits a prepayment
penalty for higher-priced mortgage
loans, unless certain conditions are met.
In particular, the prepayment penalty
must not apply after the two-year period
following consummation, and the
amount of the periodic payment of
principal and interest or both must not
change during the four-year period
following consummation. New TILA
Section 129C(c), as added by Section
1414 of the Dodd-Frank Act, establishes
limitations on prepayment penalties
that apply to all covered transactions.
Thus, TILA Section 129C(c) renders
superfluous the limitations on
prepayment penalties with higherpriced mortgage loans adopted in the
86 Also,

TILA Section 129C(c)(2) requires weekly
publication of the ‘‘average prime offer rate’’ used
to determine if a transaction is a ‘‘higher-priced
mortgage loan.’’

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Board’s 2008 HOEPA Final Rule. See 15
U.S.C. 1639(c), (l); § 226.35(b)(2). The
Board accordingly proposes to remove
the limitations on prepayment penalties
for higher-priced mortgage loans under
§ 226.35(b)(2) and other requirements
under § 226.35, as discussed in detail
above in the section-by-section analysis
of proposed § 226.35.
Limitations for high-cost mortgages.
Section 1432(a) of the Dodd-Frank Act
prohibits prepayment penalties with
high-cost mortgages by removing TILA
Section 129(c)(2), which had allowed
prepayment penalties with high-cost
mortgages in certain circumstances.
Currently, § 226.32(d)(7) implements
TILA Section 129(c)(2). At this time, the
Board does not propose to remove
§ 226.32(d)(7) because the proposal in
general does not propose to implement
the other revisions to the high-cost
mortgage requirements under Section
1431 of the Act. Nevertheless, under the
proposal, a high-cost mortgage can
include a prepayment penalty only if
the high-cost mortgage meets the
conditions under both current
§ 226.32(d)(7) and proposed
§ 226.43(g)(1). The joint operation of
those two sets of conditions
significantly limits the circumstances in
which a high-cost mortgage may have a
prepayment penalty.87
Scope; reverse mortgages. Proposed
§ 226.43(g) implements TILA Section
129C(c), which applies to a ‘‘residential
mortgage loan,’’ that is, to a consumer
credit transaction secured by a dwelling,
other than an open-end credit plan or a
transaction secured by a consumer’s
interest in a timeshare plan. See TILA
Section 103(cc)(5). In contrast with the
exclusions for open-end credit plans
and transactions secured by timeshares
from coverage by ability-to-repay
requirements, neither the definition of
‘‘residential mortgage loan’’ nor the
prepayment penalty provision excludes
reverse mortgages or temporary or
‘‘bridge’’ loans with a term of 12 months
or less, such as a loan to finance the
purchase of a new dwelling where the
consumer plans to sell a current
dwelling. See TILA Sections 103(cc)(5),
129C(a)(8), 129C(c). Accordingly, the
prepayment penalty requirements in
proposed § 226.43(g) apply to such
transactions. See proposed
§ 226.43(a)(3).
A covered transaction may include a
prepayment penalty only if the
transaction is a qualified mortgage. See
TILA Section 129C(c)(1)(A); see also
87 In particular, the high-cost mortgage cannot be
a higher-priced mortgage loan. See proposed
§ 226.43(g)(1)(ii)(C). Also, the prepayment penalty
must be permitted by applicable law. See
§ 226.32(d)(7); proposed § 226.43(g)(1)(i).

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proposed § 226.43(g)(1)(ii)(B). Among
other limitations, a qualified mortgage
may not have a prepayment penalty if
the transaction provides for an increase
in the principal balance. Reverse
mortgages provide for interest and fees
to be added to the principal balance and
thus could not include a prepayment
penalty. However, the Board has
authority to define a category of
‘‘qualified’’ closed-end reverse mortgages
that can include a prepayment penalty
if certain other conditions are met,
pursuant to authority under TILA
Sections 129C(b)(2)(A)(ix) and
129C(b)(3)(B).88 Section
129C(b)(2)(A)(ix) authorizes the Board
to define a ‘‘qualified’’ reverse mortgage
that ‘‘meets the standards for a qualified
mortgage, as set by the Board in rules
that are consistent with the purposes’’ of
TILA Section 129C(b). Also, TILA
Section 129C(b)(3)(B) authorizes the
Board to prescribe regulations that
revise, add to, or subtract from the
criteria that define a qualified mortgage
upon a finding that such regulations are
(1) necessary or proper to ensure that
responsible, affordable mortgage credit
remains available to consumers in a
manner consistent with the purposes of
Section 129C(b), or (2) necessary and
appropriate to effectuate the purposes of
Sections 129B and 129C, to prevent
circumvention or evasion thereof, or to
facilitate compliance therewith.
The Board does not propose to
exclude ‘‘qualified’’ reverse mortgages
from the coverage of the prepayment
penalty requirements, for two reasons.
First, the Board does not believe that
such exclusion is necessary or proper to
ensure that responsible, affordable
mortgage credit remains available to
consumers. The overwhelming majority
of reverse mortgages to date have been
insured by the Federal Housing
Administration, which does not allow
reverse mortgages to contain
prepayment penalties.89 The Board
believes that most proprietary reverse
mortgages also do not contain
prepayment penalties. Accordingly, the
Board believes that applying
prepayment penalty requirements under
TILA Section 129C(c) to closed-end
reverse mortgages would have little or
no effect on the availability of reverse
88 Open-end credit plans are excluded from the
definition of ‘‘residential mortgage loan,’’ and thus
open-end reverse mortgages are not subject to the
prepayment penalty requirements under TILA
Section 129C(c). TILA Section 103(cc)(5).
89 See Hui Shan, ‘‘Reversing the Trend: The
Recent Expansion of the Reverse Mortgage Market
Finance and Economics Discussion Series,’’ Board
of Governors of the Federal Reserve System, 2009–
42 (2009), available at http://
www.federalreserve.gov/pubs/feds/2009/200942/
200942pap.pdf.; 24 CFR 209(a).

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mortgages. Second, the Board believes
that excluding ‘‘qualified’’ reverse
mortgages from coverage of the
prepayment penalty requirements is not
necessary or appropriate to effectuate
the purposes of TILA Section 129C,
because the Board is unaware of a
reason why such exclusion would
‘‘assure that consumers are offered and
receive residential mortgage loans on
terms that reasonably affect their ability
to repay the loans and that are
understandable and not unfair,
deceptive, or abusive.’’ See TILA Section
129B(a)(2).
Only a qualified mortgage may have a
prepayment penalty, and reverse
mortgages typically do not satisfy the
qualified mortgage conditions. In
particular, a qualified mortgage may not
provide for an increase in the
transaction’s principal balance. See
TILA Section 129C(b)(2)(A)(i). However,
a reverse mortgage provides for interest
and fees to be added to the loan balance,
instead of providing for the consumer to
make payments during the loan term.
Also, creditors do not consider a
consumer’s repayment ability for a
reverse mortgage because the consumer
does not make payments. Thus, because
the proposal does not establish special
conditions for reverse mortgages to be
qualified mortgages, closed-end reverse
mortgages likely may not have
prepayment penalties.90 See TILA
Section 129C(c)(1)(A).
The Board requests comment on
whether special rules should be created
to permit certain reverse mortgages to
have prepayment penalties. In
particular, the Board requests comment
on how applying such conditions would
be consistent with the purposes of the
alternative requirements for qualified
mortgages under TILA Section 129C(b).
The Board also requests comment and
any supporting data on the prepayment
rates for reverse mortgages.
43(g)(1) When Permitted
TILA Section 129C(c)(1)(A) provides
that a covered transaction must not
include a penalty for paying all or part
of the principal balance after
consummation unless the transaction is
a qualified mortgage as defined in TILA
Section 129C(b)(2). TILA Section
129C(c)(1)(B) provides that, for purposes
of TILA Section 129C(c), a qualified
mortgage does not include a covered
transaction that has an adjustable rate or
a covered transaction that has an APR
that exceeds the average prime offer rate
90 Open-end credit plans are excluded from the
definition of ‘‘residential mortgage loan,’’ and thus
open-end reverse mortgages are not subject to the
prepayment penalty requirements under TILA
Section 129C(c). TILA Section 103(cc)(5).

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for a comparable transaction, as of the
date the rate is set, by a specified
number of percentage points. The
applicable APR threshold depends on
whether a first lien or subordinate lien
secures the transaction and whether or
not the transaction’s original principal
obligation exceeds the maximum
principal obligation for a loan eligible
for purchase by Freddie Mac, that is,
whether or not the covered transaction
is a ‘‘jumbo’’ loan. Specifically, the APR
threshold is: (1) 1.5 percentage points
above the average prime offer rate, for a
first-lien, non-‘‘jumbo’’ loan; (2) 2.5
percentage points above the average
prime offer rate, for a first-lien ‘‘jumbo’’
loan; and (3) 3.5 percentage points
above the average prime offer rate, for a
subordinate-lien loan. These thresholds
also are used for purposes of escrow
account requirements for ‘‘higher-priced
mortgage loans,’’ as discussed in the
2011 Escrow Proposal.91 Proposed
§ 226.43(g)(1) would implement TILA
Section 129C(c)(1) and provides that a
covered transaction may not include a
prepayment penalty unless the
prepayment penalty is otherwise
permitted by law, and the transaction:
(1) Has an APR that cannot increase
after consummation; (2) is a qualified
mortgage, as defined in proposed
§ 226.43(e) or (f); and (3) is not a higherpriced mortgage loan, as defined in
proposed § 226.45(a).
43(g)(1)(i) Permitted by Applicable Law
Under proposed § 226.43(g)(1)(i), a
prepayment penalty must be otherwise
permitted by applicable law. The Board
believes that TILA Section 129C(c)
limits, but does not specifically
authorize, including a prepayment
penalty with a covered transaction. That
is, TILA Section 129C(c) does not
override other applicable laws, such as
state laws, that may be more restrictive.
Thus, a prepayment penalty would not
be permitted if otherwise prohibited by
applicable law. This approach is
consistent with prepayment penalty
requirements for high-cost mortgages
and higher-priced mortgage loans. See
§ 226.32(d)(7)(i), 226.35(b)(2)(i).
43(g)(1)(ii) Transaction Conditions
43(g)(1)(ii)(A) APR Cannot Increase
After Consummation
TILA Section 129C(c)(1)(B)(i)
provides that a covered transaction may
not include a prepayment penalty if the
transaction has an ‘‘adjustable rate.’’ The
statute differs from the Board’s 2008
HOEPA Final Rule, in which a high-cost
mortgage or a higher-priced mortgage
91 76 FR 11598, 11608, Mar. 2, 2011 (discussing
proposed new § 226.45(a)).

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loan may not include a prepayment
penalty if the periodic payment of
principal or interest may change during
the first four years after consummation.
See § 226.32(d)(7)(iv), 226.35(b)(2)(C).
TILA Section 129C(c)(1)(B)(i) does not
specify whether the term ‘‘adjustable
rate’’ refers to the transaction’s interest
rate or annual percentage rate. Rules
under Regulation Z for closed-end
transactions generally categorize
transactions based on the possibility of
APR changes rather than interest rate
changes.92 This distinction is relevant
because covered transactions may have
an APR that cannot increase after
consummation even though the interest
rate or payments may increase after
consummation. For example, the APR
for a ‘‘step-rate mortgage’’ without a
variable rate feature does not change
after consummation, because the rates
that will apply and the periods for
which they will apply are known at
consummation. Cf. § 226.18(s)(7)(ii)
(defining ‘‘step-rate mortgage’’ for
purposes of transaction-specific interest
rate and payment disclosures).
The Board proposes to interpret the
prohibition on a prepayment penalty
with a covered transaction that has an
‘‘adjustable rate’’ in TILA Section
129C(c)(1)(B)(i) to apply to covered
transactions for which the APR can
increase after consummation, to
facilitate creditors’ compliance with the
various rate-related requirements under
Regulation Z. Accordingly, to
implement TILA Section
129C(c)(1)(B)(i), proposed
§ 226.43(g)(1)(ii)(A) provides that a
covered transaction cannot include a
prepayment penalty unless the
transaction’s APR cannot increase after
consummation. Thus, under the Board’s
proposal a fixed-rate mortgage or a steprate mortgage may have a prepayment
penalty, but an adjustable-rate mortgage
may not have a prepayment penalty. See
§ 226.18(s)(7)(i)–(iii) (defining ‘‘fixedrate mortgage,’’ ‘‘step-rate mortgage,’’ and
‘‘adjustable-rate mortgage’’). The Board
solicits comment on this approach.
43(g)(1)(ii)(B) Qualified Mortgage
Under TILA Section 129C(c)(1)(A), a
covered transaction may not include a
prepayment penalty unless the
transaction is a qualified mortgage
under TILA Section 129C(b)(2).
Proposed § 226.43(g)(1)(ii)(B) would
implement TILA Section 129C(c)(1)(A)
92 See, e.g., § 226.18(f) (requiring disclosures
regarding APR increases), 226.18(s)(7)(i)–(iii)
(categorizing disclosures for purposes of interest
rate and payment disclosures), 226.36(e)(2)(i)–(ii)
(categorizing transactions for purposes of the safe
harbor for the anti-steering requirement under
§ 226.36(e)(1)).

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and provides that a covered transaction
must not include a prepayment penalty
unless the transaction is a qualified
mortgage under § 226.43(e) or (f). To be
a qualified mortgage, a covered
transaction in general may not have a
balloon payment. However, a covered
transaction with a balloon payment may
be a qualified mortgage if the creditor
originates covered transactions
primarily in ‘‘rural’’ or ‘‘underserved’’
areas, as discussed in detail above in the
section-by-section analysis of
§ 226.43(f). Thus, there are certain
situations in which a consumer could
face a prepayment penalty if she
attempts to refinance out of a balloonpayment qualified mortgage before the
balloon payment is due. The Board
solicits comment on whether it would
be appropriate to use legal authority
under TILA Sections 105(a) and 129B(e)
to provide that a balloon-payment
qualified mortgage may not have a
prepayment penalty in any case.
43(g)(1)(ii)(C) Threshold for a HigherPriced Mortgage Loan
Under TILA Section 129C(c)(1)(B), a
covered transaction may not include a
prepayment penalty unless the
transaction’s APR is below specified
thresholds. Accordingly, to implement
TILA Section 129C(c)(1)(B), proposed
§ 226.43(g)(1)(ii)(C) provides that a
consummated covered transaction must
not include a prepayment penalty
unless the transaction is not a higherpriced mortgage loan, as defined in
proposed § 226.45(a) of the 2011 Escrow
Proposal.
Under the Board’s 2010 Mortgage
Proposal, creditors would determine
whether a transaction is a higher-priced
mortgage loan by comparing the
transaction’s ‘‘transaction coverage rate,’’
rather than APR, to the average prime
offer rate, as discussed in detail in that
proposal.93 Under the 2010 Mortgage
Proposal, the transaction coverage rate
is a transaction-specific rate that is used
solely for coverage determinations and
would not be disclosed to consumers.
The creditor would calculate the
transaction coverage rate based on
Regulation Z’s rules for calculating the
APR, except the creditor would make
the calculation using a modified value
for the prepaid finance charge. In
summary, the Board explained that
using the APR as the coverage metric for
requirements for higher-priced mortgage
loans poses a risk of over-inclusive
coverage beyond the subprime market.94
93 See 74 FR 58539, 58709–58710, Sept. 24, 2010
(proposing revisions to the definition of ‘‘higherpriced mortgage loan’’ under § 226.35(a)).
94 See 74 FR at 58660–58662.

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The Board noted that the average prime
offer rate is based on Freddie Mac’s
Primary Mortgage Market Survey® of the
contract interest rates and points of
loans offered to consumers with lowrisk transaction terms and credit
profiles. APRs, however, are based on a
broader set of charges, including some
third-party charges such as mortgage
insurance premiums. The Board also
recognized that, under the Board’s 2009
Closed-End Mortgage Proposal, the APR
would be based on a finance charge that
includes most third-party fees in
addition to points, origination fees, and
any other fees the creditor retains. Thus,
the 2009 Closed-End Mortgage Proposal
would expand the existing difference
between fees included in the APR and
fees included in the average prime offer
rate.
To address this concern, the Board
proposed in the 2010 Mortgage Proposal
to require creditors to compare the
transaction coverage rate, rather than
the APR, to the average prime offer rate
to determine whether a transaction is
covered by the protections for higherpriced mortgage loans. The Board also
proposed to use the transaction coverage
rate for the definition of a higher-priced
mortgage loan in the 2011 Escrow
Proposal.95 Similarly, under the present
proposal, creditors would determine
whether a transaction is a higher-priced
mortgage loan based on the transaction
coverage rate rather than the APR, for
purposes of the prepayment penalty
restriction. The Board solicits comment
on this approach.
43(g)(2) Limits on Prepayment Penalties
TILA Section 129C(c)(3) provides that
a prepayment penalty may not be
imposed more than three years after the
covered transaction is consummated
and limits the maximum amount of the
prepayment penalty. Specifically, a
prepayment penalty is limited to (1)
three percent of the outstanding
principal balance during the first year
following consummation; (2) two
percent during the second year
following consummation; and (3) one
percent during the third year following
consummation.
Proposed § 226.43(g)(2) would
implement and is substantially similar
to TILA Section 129C(c)(3). However,
under proposed § 226.43(g)(2) the
maximum penalty amount is
determined based on the amount of the
outstanding loan balance prepaid, rather
than the entire outstanding loan
balance, because the requirements
under TILA Section 129C(c) apply if a
95 See 75 FR 11598, 11620, Mar. 2, 2011
(proposing a new § 226.45(a)).

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penalty is imposed for either partial or
full prepayment. Thus, for example, if
the outstanding loan balance is
$100,000 when the consumer prepays
$20,000 eleven months after
consummation, the maximum
prepayment penalty is $600 (three
percent of $20,000), rather than $3,000
(three percent of $100,000). The Board
proposes this adjustment pursuant to
the Board’s authority under TILA
Section 105(a) to issue regulations with
such requirements, classifications,
differentiations, or other provisions, and
that provide for such adjustments and
exceptions for all or any class of
transactions, as in the judgment of the
Board are necessary and proper to
effectuate the purposes of TILA, to
prevent circumvention or evasion
thereof, or to facilitate compliance
therewith. 15 U.S.C. 1604(a). The Board
believes that calculating the maximum
prepayment penalty based on the
amount of the outstanding loan balance
that is prepaid, rather than the entire
outstanding loan balance, would
effectuate the purposes of TILA Section
129C(c) to facilitate partial (and full)
prepayment by limiting the amount of a
prepayment penalty. The Board believes
it would be inconsistent with
congressional intent, for example, for a
consumer that makes several partial
prepayments to pay a percentage of the
outstanding loan balance each time. The
Board also believes that the proposed
adjustment would facilitate compliance,
because determining the maximum
prepayment penalty is simpler if the
calculation is based on the amount of
the outstanding balance prepaid in all
cases, whether the consumer prepays in
full or in part.
Proposed comment 43(g)(2)–1 clarifies
that a covered transaction may include
a prepayment penalty that may be
imposed only during a shorter period or
in a lower amount than provided in
proposed § 226.43(g)(2). Proposed
comment 43(g)(2)–1 provides the
example of a prepayment penalty that a
creditor may impose for two years after
consummation that is limited to two
percent of the amount prepaid.
The Board recognizes that two other
sections of TILA may limit the
maximum amount of the prepayment
penalty. First, TILA Section
129C(b)(2)(A)(vii) indirectly limits the
maximum amount of a prepayment
penalty with a qualified mortgage, by
limiting the maximum ‘‘points and fees’’
for a qualified mortgage, which include
prepayment penalties, to three percent
of the total loan amount. See also
proposed § 226.43(e)(2)(iii), discussed
above. The definition of ‘‘points and
fees’’ includes the maximum

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prepayment penalty that may be
charged, as well as any prepayment
penalty incurred by the consumer if the
loan refinances a previous loan made or
currently held by the same creditor or
an affiliate of the creditor. See TILA
Section 103(aa)(4)(E) and proposed
§ 226.32(b)(1), discussed above. Thus, if
a creditor wants to include the
maximum three percent prepayment
penalty as a term of a qualified
mortgage, it generally would have to
forego any other charges that are
included in the definition of points and
fees.
Second, TILA Section
103(aa)(1)(A)(iii) defines a ‘‘high-cost
mortgage’’ as any loan secured by the
consumer’s principal dwelling in which
the creditor may charge prepayment fees
or penalties more than 36 months after
the closing of the transaction, or in
which the fees or penalties exceed, in
the aggregate, more than two percent of
the amount prepaid. In turn, a high-cost
mortgage may not contain a prepayment
penalty under TILA Section 129(c), as
amended by Section 1432 of the DoddFrank Act. At this time, the Board is not
proposing to implement these
limitations on prepayment penalties.
The Board nevertheless solicits
comment on whether proposed
§ 226.43(g)(2) should incorporate the
limitation of prepayment penalty
amounts to two percent of the amount
prepaid, as provided under TILA
Section 103(aa)(1)(A)(iii), or some other
threshold to account for the limitation
of points and fees, including
prepayment penalties, for ‘‘qualified
mortgages,’’ under TILA Section
129C(b)(2)(A)(vii) and proposed
§ 226.43(e)(2)(iii).
43(g)(3) Alternative Offer Required
Under TILA Section 129C(c)(4), if a
creditor offers a consumer a covered
transaction with a prepayment penalty,
the creditor also must offer the
consumer a covered transaction without
a prepayment penalty. As discussed in
detail below, proposed § 226.43(g)(3)
would implement TILA Section
129C(c)(4) and includes additional
conditions: The alternative covered
transaction without a prepayment
penalty must (1) have an APR that
cannot increase after consummation and
the same type of interest rate as the
covered transaction with a prepayment
penalty (that is, both must be fixed-rate
mortgages or both must be step-rate
mortgages); (2) have the same loan term
as the covered transaction with a
prepayment penalty; (3) satisfy the
periodic payment conditions for
qualified mortgages; and (4) satisfy the
points and fees conditions for qualified

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mortgages. The proposed additional
conditions are intended to ensure that
the alternative covered transactions
offered have substantially similar terms.
Also, proposed § 226.43(g)(3) requires
that the alternative covered transaction
be a transaction for which the consumer
likely qualifies.
The Board proposes these additional
requirements pursuant to the Board’s
authority under TILA Section 105(a) to
prescribe regulations that contain such
additional requirements, classifications,
differentiations, or other provisions, or
provide for such adjustments or
exceptions for all or any class of
transactions, as in the judgment of the
Board are necessary or proper to
effectuate the purposes of TILA, to
prevent circumvention or evasion
thereof, or to facilitate compliance
therewith. 15 U.S.C. 1604(a). The Board
believes that requirements designed to
ensure that the alternative covered
transaction with and without a
prepayment penalty are substantially
similar would effectuate the purposes of
TILA Section 129C(c)(4), by enabling
consumers to focus on a prepayment
penalty’s risks and benefits without
having to consider or evaluate other
differences between the alternative
covered transactions. For example, a
consumer would compare a fixed-rate
mortgage with a prepayment penalty
with a fixed-rate mortgage without a
prepayment penalty, not with a step-rate
mortgage without a prepayment penalty.
Also, the Board believes that requiring
the alternative covered transaction
without a prepayment penalty be one
for which the consumer likely qualifies
would effectuate the purposes of and
prevent circumvention of TILA Section
129C(c)(4), by providing for consumers
to be able to choose between options
that likely are available. Finally,
proposed comment 43(g)(3)–1 crossreferences comment 25(a)–7, discussed
above, for guidance on the requirements
for retaining records as evidence of
compliance with § 226.43(g)(3).
Higher-priced mortgage loans. Under
the proposal, a covered transaction
cannot have a prepayment penalty if the
transaction is a higher-priced mortgage
loan. However, the requirement to offer
an alternative covered transaction
without a prepayment penalty is not
similarly restricted. Although the Board
believes the covered transaction with a
prepayment penalty and the alternative
covered transaction without a
prepayment penalty must be
substantially similar, the Board also
believes a higher-priced mortgage loan
without a prepayment penalty should be
a permissible alternative transaction for
a non-higher-priced mortgage loan with

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a prepayment penalty, for two reasons.
First, the Board believes TILA Section
129C(c)(4) is intended to ensure
consumers have a choice whether or not
to obtain a covered transaction with a
prepayment penalty, not to limit the
pricing of the alternative covered
transaction without a prepayment
penalty that the creditor must offer.
Second, the Board is concerned about
the likely consequences of restricting
the pricing of the required alternative
covered transaction without a
prepayment penalty. If the alternative
covered transaction must not be a
higher-priced mortgage loan, the
creditor may choose not to offer the
consumer a loan at all, or to offer the
consumer only a higher-priced mortgage
loan. For example, assume that the
higher-priced mortgage loan coverage
threshold for a 30-year, non-jumbo,
fixed-rate covered transaction is 6.50
percent, and that the creditor charges
0.25 percentage points more in interest
for a covered transaction without a
prepayment penalty. Assume further
that the creditor would make such a
loan to a consumer in a covered
transaction either (1) with a prepayment
penalty and with a transaction coverage
rate of 6.45 percent (Transaction A); or
(2) without a prepayment penalty and
with a transaction coverage rate of 6.70
percent (Transaction B). However, if
offering Transaction A means the
creditor must offer the consumer an
alternative covered transaction without
a prepayment penalty that is not a
higher-priced mortgage loan, the
creditor may choose not to offer the
consumer a covered transaction at all.
Alternatively, the creditor might elect to
offer the consumer only Transaction B,
which is a higher-priced mortgage loan.
For the foregoing reasons, under
proposed § 226.43(g)(3) if a creditor
offers a covered transaction with a
prepayment penalty, which may not be
a higher-priced mortgage loan, the
creditor may offer the consumer an
alternative covered transaction without
a prepayment penalty that is a higherpriced mortgage loan.
Timing of offer. Proposed
§ 226.43(g)(3) does not require that the
creditor offer an alternative covered
transaction without a prepayment
penalty at or by a particular time. This
is consistent with § 226.36(e)(2) and (3),
which provide a safe harbor for the
anti–steering requirement if a loan
originator presents certain loan options
to the consumer, but do not contain a
timing requirement. The Board
recognizes that there may be costs and
benefits to this approach.
On the one hand, a timing
requirement could ensure that

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consumers can consider an offer of an
alternative covered transaction without
a prepayment penalty before committing
to a transaction, for example, by
requiring that creditors present such an
offer before the consumer pays a non–
refundable fee, other than a fee for
obtaining the consumer’s credit
history.96 Alternatively, consumers
might benefit from being offered an
alternative covered transaction without
a prepayment penalty later in the
lending process, after the creditor has
underwritten the loan and determined
the terms on which it would originate
an alternative covered transaction to the
consumer. On the other hand, timing
requirements might unduly limit
creditors’ flexibility to determine the
terms on which they will offer a
particular consumer an alternative
covered transaction without a
prepayment penalty. In addition, there
may be operational difficulties in
determining exactly when a creditor
offered the alternative covered
transaction (for example, when a
consumer accesses options for covered
loans via the Internet) and how to cure
a violation if the creditor offers the
required alternative after the required
time.
The Board solicits comment on
whether it would be appropriate to
require that creditors offer the
alternative covered transaction without
a prepayment penalty during a specified
time period, for example, before the
consumer pays a non–refundable fee or
at least fifteen calendar days before
consummation. If a timing requirement
is included for purposes of proposed
§ 226.43(g)(3), the Board also solicits
comment on whether a timing
requirement should be included under
the safe harbor for the anti–steering
requirement under § 226.36(e)(2) and
(3), for consistency.
43(g)(3)(i) APR Cannot Increase After
Consummation
Under proposed § 226.43(g)(1)(i), a
covered transaction with an APR that
can increase after consummation may
not have a prepayment penalty.
Proposed § 226.43(g)(3)(i) provides that,
if a creditor offers a covered transaction
with a prepayment penalty, the creditor
must offer an alternative covered
transaction without a prepayment
penalty and with an APR that cannot

increase after consummation, to ensure
consumers are able to choose between
substantially similar alternative
transactions. See proposed
§ 226.43(g)(1)(ii)(A). Proposed
§ 226.43(g)(3)(i) also requires that the
covered transaction with a prepayment
penalty and the alternative covered
transaction without a prepayment
penalty have the same type of interest
rate. For purposes of proposed
§ 226.43(g)(3)(i), the term ‘‘type of
interest rate’’ means whether the
covered transaction is a fixed–rate
mortgage, as defined in
§ 226.18(s)(7)(iii), or a step–rate
mortgage, as defined in
§ 226.18(s)(7)(ii).97 Proposed comment
43(g)(3)(i)-1 clarifies that the covered
transaction with a prepayment penalty
and the alternative covered transaction
without a prepayment penalty must
either both be fixed-rate mortgages or
both be step-rate mortgages.
43(g)(3)(ii) Through (iv) Criteria for a
Qualified Mortgage
As discussed above, proposed
§ 226.43(g)(1)(ii)(A) provides that a
covered transaction with a prepayment
penalty must be a qualified mortgage, as
defined under proposed § 226.43(e)(2)
or (f). The Board also proposes to
require that an alternative covered
transaction offered without a
prepayment penalty must meet three
conditions for qualified mortgages, so
that consumers may choose between
alternative covered transactions that are
substantially similar. Accordingly,
proposed § 226.43(g)(3)(ii) through (iv)
provide that an alternative covered
transaction without a prepayment
penalty must: (1) Have the same loan
term as the covered transaction with a
prepayment penalty; (2) satisfy the
periodic payment conditions in
§ 226.43(e)(2)(i); and (3) satisfy the
points and fees condition under
§ 226.43(e)(2)(iii), based on the
information known to the creditor at the
time the transaction is offered. Proposed
comment 43(g)(3)(iv)-1 provides
guidance for cases where a creditor
offers a consumer an alternative covered
transaction without a prepayment
penalty under proposed § 226.43(g)(3)
and knows only some of the points and
fees that will be charged for the loan.
For example, a creditor may not know
97 Under

96 Under the Board’s 2010 Mortgage Proposal, a
non–refundable fee could be imposed no earlier
than three business days after a consumer receives
the early disclosures that creditors must provide
soon after receiving the consumer’s application
(within three business days). See 75 FR 58539,
58696–58697, Sept. 24, 2010 (proposing a new
§ 226.19(a)(1)(iv)).

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§ 226.18(s)(7)(i)–(iii), a transaction
secured by real property or a dwelling is (1) an
‘‘adjustable-rate mortgage’’ if the APR may increase
after consummation, (2) a ‘‘step-rate mortgage’’ if the
interest rate will change after consummation, and
the rates that will apply and the periods for which
they will apply are known at consummation, or (3)
a ‘‘fixed-rate mortgage,’’ if the transaction is not an
adjustable-rate mortgage or a step-rate mortgage.

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that a consumer intends to buy singlepremium credit unemployment
insurance, which would be included in
the points and fees for the covered
transactions. Proposed comment
43(g)(3)(iv)-1 clarifies that the points
and fees condition is satisfied if the
creditor reasonably believes, based on
the information known to the creditor at
the time the offer is made, that the
amount of points and fees to be charged
for an alternative covered transaction
without a prepayment penalty will be
less than or equal to the amount of
points and fees allowed for a qualified
mortgage under § 226.43(e)(2)(iii).
43(g)(3)(v) Likely Qualifies
Proposed § 226.43(g)(3)(v) provides
that the alternative covered transaction
without a prepayment penalty must be
a transaction for which the creditor has
a good faith belief that the consumer
likely qualifies, as determined based on
the information known to the creditor at
the time the creditor offers the
alternative covered transaction.
Proposed comment 43(g)(3)(v)-1
provides an example where the creditor
has a good faith belief the consumer can
afford monthly payments of up to $800.
The proposed comment clarifies that, if
the creditor offers the consumer a fixedrate mortgage with a prepayment
penalty for which monthly payments
are $700 and an alternative covered
transaction without a prepayment
penalty for which monthly payments
are $900, the requirements of
§ 226.43(g)(3)(v) are not met. Proposed
comment 43(g)(3)(v)-1 also clarifies that,
in making the determination the
consumer likely qualifies for the
alternative covered transaction, the
creditor may rely on information
provided by the consumer, even if the
information subsequently is determined
to be inaccurate. Proposed
§ 226.43(g)(3)(v) and proposed comment
43(g)(3)(v)-1 are substantially similar to
§ 226.36(e)(3)(ii), which provides a safe
harbor for the anti-steering requirements
if, among other things, a loan originator
presents the consumer with loan
options for which the consumer likely
qualifies. See also comment 36(e)(3)-4
(providing guidance on information
used to determine whether or not a
consumer likely qualifies for a
transaction).
43(g)(4) Offer Through a Mortgage
Broker
The requirement to offer an
alternative covered transaction without
a prepayment penalty applies to a
‘‘creditor.’’ See TILA Section 129C(c)(4).
TILA Section 103(f), in relevant part,
defines ‘‘creditor’’ to mean a person who

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both (1) regularly extends consumer
credit which is payable by agreement in
more than four installments or for
which the payment of a finance charge
is or may be required, and (2) is the
person to whom the debt arising from
the consumer credit transaction is
initially payable on the face of the
evidence of indebtedness (or, if there is
no such evidence of indebtedness, by
agreement). 15 U.S.C. 1602(f);
§ 226.2(a)(17). The Board proposes
special rules where a creditor offers a
covered transaction with a prepayment
penalty through a mortgage broker, as
defined in § 226.36(a)(2), to account for
operational differences in offering a
covered transaction through the
wholesale channel versus through the
retail channel.98 As discussed below in
the section-by-section analysis of
proposed § 226.43(g)(5), the Board
proposes special rules for cases where a
creditor in a table-funded transaction
also is a ‘‘loan originator,’’ as defined in
§ 226.36(a)(1), because those creditors
generally present to consumers loan
options offered by multiple persons that
provide table-funding. The Board does
not propose special rules for cases
where the loan originator is the
creditor’s employee, because the Board
believes that in such cases the employee
likely can present alternative covered
transactions with and without a
prepayment penalty to the consumer
without significant operational
difficulties.
The Board believes the requirement to
offer an alternative covered transaction
without a prepayment penalty properly
is applied to creditors and not to
mortgage brokers, because creditors
‘‘offer’’ covered transactions, even if
mortgage brokers present those offers to
consumers. Further, the Board believes
that if Congress had intended to apply
TILA Section 129C(c)(4) to mortgage
brokers, Congress explicitly would have
applied that provision to ‘‘mortgage
originators’’ in addition to creditors.
TILA Section 103(cc), as added by
Section 1401 of the Dodd-Frank Act,
defines ‘‘mortgage originator’’ to mean
any person who, for direct or indirect
compensation or gain, or in the
expectation of direct or indirect
compensation of gain, takes a residential
mortgage loan application, assists a
consumer in obtaining or applying to
obtain a residential mortgage loan, or
offers or negotiates terms of a residential
mortgage loan. 15 U.S.C. 1602(cc). The
98 For ease of discussion, the terms ‘‘mortgage
broker’’ and ‘‘loan originator’’ as used in this
discussion have the same meaning as under the
Board’s requirements for loan originator
compensation. See § 226.36(a)(1), (2).

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term ‘‘mortgage originator’’ is used, for
example, for purposes of the antisteering requirement added to TILA by
Section 1403 of the Dodd-Frank Act. See
TILA Section 129B(c).
The Board also believes that requiring
mortgage brokers to present to
consumers a creditor’s alternative
covered transaction without a
prepayment penalty could confuse
consumers if they are presented with
numerous other loan options. Presenting
a consumer more than four loan options
for each type of transaction in which the
consumer expresses an interest may not
help the consumer to make a
meaningful choice. When compared
with other loan options a mortgage
broker presents to a consumer, a
creditor’s covered transaction without a
prepayment penalty might not have the
lowest interest rate (among transactions
either with or without risky features,
such as a prepayment penalty) or the
lowest total dollar amount of origination
points or fees and discount points, and
thus might not be among the loan
options most important for consumers
to evaluate. Also, the Board is
concerned that creditors may have
operational difficulties in confirming
whether or not a mortgage broker has
presented to the consumer the
alternative covered transaction without
a prepayment penalty.
Accordingly, proposed § 226.43(g)(4)
provides that, if a creditor offers a
covered transaction to a consumer
through a mortgage broker, as defined in
§ 226.36(a)(2), the creditor must present
to the mortgage broker an alternative
covered transaction without a
prepayment penalty that meets the
conditions under § 226.43(g)(3).
Proposed § 226.43(g)(4) also provides
that the creditor must establish, by
agreement, that the mortgage broker
must present the consumer an
alternative covered transaction without
a prepayment penalty that meets the
conditions under § 226.43(g)(3) offered
by (1) the creditor, or (2) another
creditor, if the transaction has a lower
interest rate or a lower total dollar
amount of origination points or fees and
discount points. By providing for the
presentation of a loan option with a
lower interest rate or a lower total dollar
amount of origination points or fees and
discount points than the loan option
offered by the creditor, proposed
§ 226.43(g)(4) facilitates compliance
with proposed § 226.43(g)(3) and with
the safe harbor for the anti-steering
requirement in connection with a single
covered transaction. See

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§ 226.36(e)(3)(i).99 Proposed
§ 226.43(g)(4) does not affect the
conditions that a a loan originator must
meet to take advantage of the safe harbor
for the anti-steering requirement,
however. Thus, if loan originators
choose to use the safe harbor, they must
present the consumer the loan option
with (1) the lowest interest rate overall,
(2) the loan option with the lowest
interest rate without certain risky
features, including a prepayment
penalty, and (3) the loan option with the
lowest total origination points or fees
and discount points. See
§ 226.36(e)(3)(i).
Proposed comment 43(g)(4)–1 clarifies
that the creditor may satisfy the
requirement to present the mortgage
broker such alternative covered
transaction without a prepayment
penalty by providing the mortgage
broker a rate sheet that states the terms
of such an alternative covered
transaction without a prepayment
penalty. Proposed comment 43(g)(4)–2
clarifies that the creditor’s agreement
with the mortgage broker may provide
for the mortgage broker to present both
the creditor’s covered transaction and a
covered transaction offered by another
creditor with a lower interest rate or a
lower total dollar amount of origination
points or fees and discount points.
Proposed comment 43(g)(4)–2 also
cross-references comment 36(e)(3)–3 for
guidance in determining which step-rate
mortgage has a lower interest rate.
Proposed comment 43(g)(4)–3 clarifies
that a creditor’s agreement with a
mortgage broker for purposes of
proposed § 226.43(g)(4) may be part of
another agreement with the mortgage
broker, for example, a compensation
agreement. The proposed comment
clarifies that the creditor thus need not
enter into a separate agreement with the
mortgage broker with respect to each
covered transaction with a prepayment
penalty.
The Board solicits comment on the
approach proposed under § 226.43(g)(4)
for offering an alternative covered
transaction without a prepayment
penalty through a mortgage broker. In
particular, the Board solicits comment
on whether additional guidance is
needed regarding offers of covered
transactions through mortgage brokers
that use the safe harbor for the anti99 Current § 226.36(e) provides that a loan
originator for a dwelling-secured consumer credit
transaction must not direct or ‘‘steer’’ a consumer to
consummate a transaction based on the fact that the
originator will receive greater compensation from
the creditor in that transaction than in other
transactions the originator offered or could have
offered the consumer, unless the consummated
transaction is in the consumer’s interest.

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steering requirement, under
§ 226.36(e)(2) and (3).
43(g)(5) Creditor That Is a Loan
Originator
Proposed § 226.43(g)(5) addresses
cases where a creditor does not provide
the funds for a covered transaction out
of its own resources but rather obtains
funds from another person and,
immediately after consummation,
assigns the note, loan contract, or other
evidence of the debt obligation to the
other person. Such creditors generally
present to consumers loan options
offered by other persons and are loan
originators subject to the anti-steering
requirements under § 226.36(e). See
§ 226.36(a)(1); comment 36(a)(1)–1. Like
other loan originators, such creditors
may use the safe harbor for the antisteering requirements under
§ 226.36(e)(2) and (3). Proposed
§ 226.43(g)(5) provides that, if the
creditor is a loan originator, as defined
in § 226.36(a)(1), and the creditor
presents a consumer a covered
transaction with a prepayment penalty
offered by a person to which the
creditor would assign the covered
transaction after consummation, the
creditor may present the consumer an
alternative covered transaction without
a prepayment penalty offered by (1) the
assignee, or (2) another person, if the
transaction offered by the other person
has a lower interest rate or a lower total
dollar amount of origination points or
fees and discount points. Thus,
proposed § 226.43(g)(5) provides
flexibility with respect to the
presentation of loan options, which
facilitates compliance with proposed
§ 226.43(g)(3) and with the safe harbor
for the anti-steering requirement in
connection with the same covered
transaction. See § 226.36(e)(3)(i). Like
proposed § 226.43(g)(4), however,
proposed § 226.43(g)(5) does not affect
the conditions that a creditor that is a
loan originator must meet to take
advantage of the safe harbor for the antisteering requirement. Accordingly, if
creditors that are loan originators
choose to use the safe harbor, they must
present the consumer the loan option
with (1) the lowest interest rate overall,
(2) the loan option with the lowest
interest rate without certain risky
features, including a prepayment
penalty, and (3) the loan option with the
lowest total origination points or fees
and discount points. See
§ 226.36(e)(3)(i).
Proposed comment 43(g)(5)–1 clarifies
that a loan originator includes any
creditor that satisfies the definition of
the term but makes use of ‘‘tablefunding’’ by a third party. See

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§ 226.36(a)(1), comment 36(a)–1.i, –1.ii.
Proposed comment 43(g)(5)–2 crossreferences guidance in comment
36(e)(3)–3 on determining which steprate mortgage has a lower interest rate.
43(g)(6) Applicability
Proposed § 226.43(g)(6) provides that
proposed § 226.43(g) applies only if a
transaction is consummated with a
prepayment penalty and is not violated
if (1) a covered transaction is
consummated without a prepayment
penalty or (2) the creditor and consumer
do not consummate a covered
transaction. Proposed § 226.43(g)(2)
limits the period during which a
prepayment penalty may be imposed
and the amount of any prepayment
penalty. Those limitations apply only if
a covered transaction with a
prepayment penalty is consummated.
Proposed § 226.43(g)(3) requires
creditors that offer a consumer a
covered transaction with a prepayment
penalty offer the consumer an
alternative covered transaction without
a prepayment penalty, and proposed
§ 226.43(g)(4) and (5) establish
requirements for creditors to comply
with proposed § 226.43(g)(3) if they (1)
offer covered transactions with a
prepayment penalty through a mortgage
broker or (2) are loan originators,
respectively. Where a consumer
consummates a covered transaction
without a prepayment penalty, it is
unnecessary to require that the creditor
offer the consumer an alternative
covered transaction without a
prepayment penalty. Further, if the
creditor does not consummate a covered
transaction with the consumer, the issue
is irrelevant; the purpose of the
requirement to offer an alternative
covered transaction without a
prepayment penalty is for consumers
not to have to accept a covered
transaction with a prepayment penalty.
Accordingly, proposed § 226.43(g)
applies only if the consumer
consummates a covered transaction
with a prepayment penalty. In
particular, proposed comment 25(a)–7
clarifies that, if a creditor offers the
consumer a covered transaction with a
prepayment penalty but a covered
transaction is consummated without a
prepayment penalty or if the creditor
and consumer do not consummate a
covered transaction, the creditor need
not maintain records that document
compliance with the requirement that
the creditor offer an alternative covered
transaction without a prepayment
penalty under proposed § 226.43(g)(2)
through (5), as discussed above in the
section-by-section analysis of proposed
§ 226.25(a).

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43(h) Evasion; Open-End Credit
As discussed above, TILA Section
129C, which addresses the repayment
ability requirements and qualified
mortgages, applies only to residential
mortgage loans. TILA Section 103(cc)(5)
defines ‘‘residential mortgage loans’’ as
excluding open-end credit plans, such
as HELOCs. The Board recognizes that
the exclusion of open-end credit plans
could lead some creditors to attempt to
evade the requirements of TILA Section
129C by structuring credit as open-end
instead of closed-end. Sections
226.34(b) and 226.35(b)(4) address this
risk by prohibiting structuring a
transaction that does not meet the
definition of ‘‘open-end credit’’ as a
HELOC to evade the repayment ability
and other requirements for high-cost
mortgages and higher-priced mortgage
loans. The Board proposes to extend
this approach to new § 226.43, which
would implement TILA Section 129C.
Proposed § 226.43(h) prohibits a
creditor from structuring a transaction
that does not meet the definition of
open-end credit in § 226.2(a)(20) as a
HELOC to evade the requirements of
proposed § 226.43. Proposed comment
43(h)–1 clarifies that where a loan is
documented as open-end credit but the
features and terms or other
circumstances demonstrate that it does
not meet the definition of open-end
credit, the loan is subject to the rules for
closed-end credit, including § 226.43.
The Board proposes this provision using
its authority under TILA Sections 105(a)
and 129B(e) to prevent circumvention or
evasion.
As noted in the SUPPLEMENTARY
INFORMATION to the Board’s 2008 HOEPA
Final Rule, the Board recognizes that
consumers may prefer HELOCs to
closed-end home equity loans because
of the added flexibility HELOCs provide
them. See 73 FR 1697, Jan. 9, 2008. It
is not the Board’s intention to limit
consumers’ ability to choose between
these two ways of structuring home
equity credit. An overly broad antievasion rule could potentially limit
consumer choices by casting doubt on
the validity of legitimate open-end
plans. The Board seeks comment on the
extent to which the proposed antievasion rule could have this
consequence, and solicits suggestions
for a more narrowly tailored rule. For
example, the primary concern would
appear to be with HELOCs that are
substituted for closed-end home
purchase loans and refinancings, which
are usually first-lien loans, rather than
with HELOCs taken for home
improvement or other consumer
purposes. The Board seeks comment on

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
whether it should limit an anti-evasion
rule to HELOCs secured by first liens
where the consumer draws down all or
most of the entire line of credit
immediately after the account is
opened, and whether such a rule would
be effective in preventing evasion.
VI. Paperwork Reduction Act
In accordance with the Paperwork
Reduction Act (PRA) of 1995 (44 U.S.C.
3506; 5 CFR part 1320 Appendix A.1),
the Board reviewed the proposed rule
under the authority delegated to the
Board by the Office of Management and
Budget. The rule contains no collections
of information under the PRA. See 44
U.S.C. 3502(3). Accordingly, there is no
paperwork burden associated with the
rule.

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VII. Initial Regulatory Flexibility
Analysis
In accordance with Section 3(a) of the
Regulatory Flexibility Act (RFA), 5
U.S.C. 601–612, the Board is publishing
an initial regulatory flexibility analysis
for the proposed amendments to
Regulation Z. The RFA requires an
agency either to provide an initial
regulatory flexibility analysis with a
proposed rule or to certify that the
proposed rule will not have a significant
economic impact on a substantial
number of small entities. Under
regulations issued by the Small
Business Administration (SBA), an
entity is considered ‘‘small’’ if it has
$175 million or less in assets for banks
and other depository institutions, and
$7 million or less in revenues for nonbank mortgage lenders and loan
servicers.100
Based on its analysis and for the
reasons stated below, the Board believes
that this proposed rule will have a
significant economic impact on a
substantial number of small entities. A
final regulatory flexibility analysis will
be conducted after consideration of
comments received during the public
comment period. The Board requests
public comment in the following areas.
A. Reasons for the Proposed Rule
Congress enacted TILA based on
findings that economic stability would
be enhanced and competition among
consumer credit providers would be
strengthened by the informed use of
credit resulting from consumers’
awareness of the cost of credit. As a
result, TILA contains procedural and
substantive protections for consumers,
100 13 CFR 121.201; see also SBA, Table of Small
Business Size Standards Matched to North
American Industry Classification System Codes,
available at http://www.sba.gov/sites/default/files/
Size_Standards_Table.pdf.

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and also directs the Board to prescribe
regulations to carry out the purposes of
the statute. TILA is implemented by the
Board’s Regulation Z.
The proposed amendments to
Regulation Z implement certain
amendments to TILA as a result of the
Dodd-Frank Act. Sections 1411 and
1412 of the Dodd-Frank Act amend
TILA to prohibit a creditor from making
any ‘‘residential mortgage loan’’ 101
unless the creditor makes a reasonable
and good faith determination that the
consumer has a reasonable ability to
repay the loan. A creditor complies with
this requirement by: (i) Making a
residential mortgage loan that satisfies
the ability-to-repay provisions, which
include certain underwriting criteria;
(ii) refinancing a ‘‘non-standard
mortgage’’ into a ‘‘standard mortgage’’;
(iii) making a ‘‘qualified mortgage,’’
which is defined by prohibiting certain
terms, limiting certain costs, and using
certain underwriting criteria; or (iv)
making a balloon-payment qualified
mortgage. In addition, Section 1414 of
the Dodd-Frank Act amends TILA to
add new restrictions on prepayment
penalties that may be imposed on
residential mortgage loans.
B. Statement of Objectives and Legal
Basis
The SUPPLEMENTARY INFORMATION
contains the statement of objectives and
legal basis for the proposed rule. In
summary, the proposed amendments to
Regulation Z are designed to: (1) Add
new § 226.43(a)–(f) to require creditors
to determine a consumer’s repayment
ability prior to making any residential
mortgage loan; (2) provide a
presumption of compliance with the
repayment ability requirement or safe
harbor from the repayment ability
requirement for qualified mortgages in
new § 226.43(e); (3) add new § 226.43(g)
regarding prepayment penalty
requirements for residential mortgage
loans; and (4) provide record retention
requirements in § 226.25(a) that
evidence compliance with proposed
§ 226.43.
The legal basis for the proposed rule
is in Sections 105(a), 129B(e) and
129C(b)(3)(B)(i) of TILA. 15 U.S.C.
1604(a), 1639b(e) and 1639c(b)(3)(B)(i).
A more detailed discussion of the
Board’s rulemaking authority is set forth
101 TILA Section 103(cc) generally defines
‘‘residential mortgage loan’’ to mean any consumer
credit transaction secured by a mortgage, deed of
trust, or other equivalent consensual security
interest on ‘‘a dwelling or on residential real
property that includes a dwelling.’’ The term does
not include an open-end credit plan or an extension
of credit relating to a timeshare plan, for purposes
of the repayment ability provisions. See TILA
Section 103(cc)(5).

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27479

in part III of the SUPPLEMENTARY
INFORMATION.

C. Description of Small Entities to
Which the Proposed Rule Would Apply
The proposed regulations would
apply to all institutions and entities that
engage in originating or extending
home-secured credit. The Board is not
aware of a reliable source for the total
number of small entities likely to be
affected by the proposal, and the credit
provisions of TILA and Regulation Z
have broad applicability to individuals
and businesses that originate and extend
even small numbers of home-secured
credit. See § 226.1(c)(1).102 All small
entities that originate or extend closedend loans secured by a dwelling are
potentially subject to at least some
aspects of the proposed rule.
The Board can, however, identify
through data from Reports of Condition
and Income (‘‘Call Reports’’)
approximate numbers of small
depository institutions that would be
subject to the proposed rule. Based on
December 2010 Call Report data,
approximately 8,579 small institutions
would be subject to the proposed rule.
Approximately 15,217 depository
institutions in the United States filed
Call Report data, approximately 10,816
of which had total domestic assets of
$175 million or less and thus were
considered small entities for purposes of
the RFA. Of 3,749 banks, 502 thrifts 103
and 6,565 credit unions that filed Call
Report data and were considered small
entities, 3,621 banks, 477 thrifts, and
4,481 credit unions, totaling 8,579
institutions, originated or extended
mortgage credit.
The Board cannot identify with
certainty the number of small nondepository institutions that would be
subject to the proposed rule. Home
Mortgage Disclosure Act (HMDA) 104
102 Regulation Z generally applies to ‘‘each
individual or business that offers or extends credit
when four conditions are met: (i) The credit is
offered or extended to consumers; (ii) the offering
or extension of credit is done regularly, (iii) the
credit is subject to a finance charge or is payable
by a written agreement in more than four
installments, and (iv) the credit is primarily for
personal, family, or household purposes.’’ Section
226.1(c)(1).
103 For purposes of this analysis, thrifts include
savings banks, savings and loan entities, cooperative banks, and industrial banks.
104 The 8,022 lenders (both depository
institutions and mortgage companies) covered by
HMDA in 2009 accounted for the majority of home
lending in the United States. Under HMDA, lenders
use a ‘‘loan/application register’’ (HMDA/LAR) to
report information annually to their Federal
supervisory agencies for each application and loan
acted on during the calendar year. Only lenders that
have offices (or, for non-depository institutions,
lenders that are deemed to have offices) in

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules

data indicate that 870 non-depository
institutions filed HMDA reports in
2009.105 Based on the small volume of
lending activity reported by these
institutions, most are likely to be small.

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D. Projected Reporting, Recordkeeping,
and Other Compliance Requirements
The compliance requirements of the
proposed rule are described in part V of
the SUPPLEMENTARY INFORMATION. The
effect of the proposed revisions to
Regulation Z on small entities is
unknown. Some small entities would be
required, among other things, to modify
their underwriting practices to account
for the repayment ability analysis for
covered transactions in order to comply
with the revised rule. The precise costs
to small entities of modifying their
underwriting practices are difficult to
predict. These costs will depend on a
number of unknown factors, including,
among other things, the current
practices used by such entities to collect
and analyze consumer income, asset,
and liability information, the
complexity of the terms of credit
products that they offer, and the range
of such product offerings. The proposed
rule would provide small entities the
option of offering only qualified
mortgages, which will enjoy either a
presumption of compliance with respect
to the repayment ability requirement or
a safe harbor from the repayment ability
requirement, thus reducing litigation
risks and costs for small entities.
The proposed rule also requires
creditors to determine a consumer’s
repayment ability using a payment
schedule based on monthly, fullyamortizing payments at the fullyindexed rate or introductory rate,
whichever is greater. Under the
proposed rule, special payment
calculation rules apply to loans with a
balloon payment, interest-only loans,
and negative amortization loans. The
proposed rule may therefore increase
compliance costs for small entities,
particularly for creditors that offer
products that contain balloon payments,
interest-only loans, and negative
amortization loans. The precise costs to
small entities of updating their
processes and systems to account for
these additional calculations are
difficult to predict, but these costs are
mitigated, in some circumstances, by
the proposed presumption of
metropolitan areas are required to report under
HMDA. However, if a lender is required to report,
it must report information on all of its home loan
applications and loans in all locations, including
non-metropolitan areas.
105 The 2009 HMDA Data, available at http://
www.ffiec.gov/hmda/default.htm.

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compliance or safe harbor for qualified
mortgages.
Under the proposed rule, creditors
must retain evidence of compliance
with proposed § 226.43 for three years
after the consummation of a covered
transaction. Currently, § 226.25(a)
requires that creditors retain evidence of
compliance with Regulation Z for two
years after disclosures must be made or
an action must be taken, though
§ 226.25(a) also clarifies that
administrative agencies responsible for
enforcing Regulation Z may require
creditors to retain records for a longer
period if necessary to carry out their
enforcement responsibilities. While
increasing the period creditors must
retain certain records from two to three
years would increase creditors’
compliance burden, the precise costs to
small entities is difficult to predict.
However, the Board believes many
creditors will retain such records for at
least three years, in an abundance of
caution, which would minimize the
overall burden increase. The
compliance burden is also mitigated by
proposed comment 25(a)–6, which
clarifies that creditors need not retain
actual paper copies of the
documentation used to underwrite a
transaction. Furthermore, the proposal
to extend the required retention period
for evidence of compliance with
proposed § 226.43 would not affect the
retention period for other requirements
under Regulation Z.
The Board believes that costs of the
proposed rule as a whole will have a
significant economic effect on small
entities, including small mortgage
creditors. The Board seeks information
and comment on any costs, compliance
requirements, or changes in operating
procedures arising from the application
of the proposed rule to small businesses.
E. Identification of Duplicative,
Overlapping, or Conflicting Federal
Rules Other Federal Rules
The Board has not identified any
Federal rules that conflict with the
proposed revisions to Regulation Z.
F. Identification of Duplicative,
Overlapping, or Conflicting State Laws
State Equivalents to TILA
Many states regulate consumer credit
through statutory disclosure schemes
similar to TILA. Under TILA Section
111, the proposed rule would not
preempt such state laws except to the
extent they are inconsistent with the
proposal’s requirements. 15 U.S.C. 1610.
The Board is also aware that some
states regulate mortgage loans under
ability-to-repay laws that resemble the
proposed rule, and that many states

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regulate only high-cost or high-priced
mortgage loans under ability-to-repay
laws. The proposed rule would not
preempt such state laws except to the
extent they are inconsistent with the
proposal’s requirements. Id.
The Board seeks comment regarding
any state or local statutes or regulations
that would duplicate, overlap, or
conflict with the proposed rule.
G. Discussion of Significant Alternatives
The steps the Board has taken to
minimize the economic impact and
compliance burden on small entities,
including the factual, policy, and legal
reasons for selecting the alternatives
adopted and why each one of the other
significant alternatives was not
accepted, are described above in the
SUPPLEMENTARY INFORMATION. The Board
has provided an exception to the general
provision that a qualified mortgage may
not provide for a balloon payment for
loans that are originated by certain
small creditors and that meet specified
criteria, as the Board understands that
community banks originate balloonpayment loans to hedge against interest
rate risk, rather than making adjustablerate mortgages, and that community
banks hold these balloon-payment loans
in portfolio virtually without exception
because they are not eligible for sale in
the secondary market. The Board
believes that this exception will
decrease the economic impact of the
proposed rules on small entities.
The Board welcomes comments on
any significant alternatives consistent
with the provisions of Sections 1411,
1412, and 1414 of the Dodd-Frank Act
that would minimize the impact of the
proposed regulations on small entities.
List of Subjects in 12 CFR Part 226
Advertising, Consumer protection,
Federal Reserve System, Mortgages,
Reporting and recordkeeping
requirements, Truth in Lending.
Text of Proposed Revisions
Certain conventions have been used
to highlight the proposed revisions.
New language is shown inside bold
arrows, and language that would be
deleted in shown inside bold brackets.
Authority and Issuance
For the reasons set forth in the
preamble, the Board proposes to amend
Regulation Z, 12 CFR part 226, as
follows:
PART 226—TRUTH IN LENDING
(REGULATION Z)
1. The authority citation for part 226
is revised to read as follows:

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
Authority: 12 U.S.C. 3806; 15 U.S.C. 1604,
1637(c)(5), and 1639(l); Sec. 2, Pub. L. 111–
24, 123 Stat. 1734; Pub. L. 111–203, 124 Stat.
1376.

Subpart D—Miscellaneous
2. Section 226.25 is amended by
revising paragraph (a) to read as follows:
§ 226.25

Record retention.

(a) General rule. A creditor shall
retain evidence of compliance with
øthis regulation¿fl§ 226.43 of this
regulation for 3 years after
consummation of a transaction covered
by that section and shall retain evidence
of compliance with all other sections of
this regulationfi (other than advertising
requirements under §§ 226.16 and
226.24) for 2 years after the date
disclosures are required to be made or
action is required to be taken. The
administrative agencies responsible for
enforcing the regulation may require
creditors under their jurisdictions to
retain records for a longer period if
necessary to carry out their enforcement
responsibilities under section 108 of the
act.
*
*
*
*
*
Subpart E—Special Rules for Certain
Home Mortgage Transactions
3. Section 226.32 is amended by
revising paragraph (b) to read as follows:
§ 226.32 Requirements for certain closedend home mortgages.

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*

*
*
*
*
(b) Definitions. For purposes of this
subpart, the following definitions apply:
(1) For purposes of paragraph (a)(1)(ii)
of this section, points and fees means:
(i) All items flconsidered to be a
finance chargefi ørequired to be
disclosed¿ under § 226.4(a) and
226.4(b), except fl—fi øinterest or the
time-price differential¿
fl(A) Interest or the time-price
differential;
(B) Any premium or other charge for
any guaranty or insurance protecting the
creditor against the consumer’s default
or other credit loss to the extent that the
premium or charge is—
(1) Assessed in connection with any
Federal or state agency program;
(2) Not in excess of the amount
payable under policies in effect at the
time of origination under section
203(c)(2)(A) of the National Housing Act
(12 U.S.C. 1709(c)(2)(A)), provided that
the premium or charge is required to be
refundable on a pro rata basis and the
refund is automatically issued upon
notification of the satisfaction of the
underlying mortgage loan; or
(3) Payable after the loan closing.fi

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(ii) All compensation paid øto
mortgage brokers¿ fldirectly or
indirectly by a consumer or creditor to
a loan originator, as defined in
§ 226.36(a)(1), including a loan
originator that is also the creditor in a
table-funded transaction;fi
(iii) All items listed in § 226.4(c)(7)
(other than amounts held for future
payment of taxes) flpayable at or before
closing of the mortgage loan,fi unless—
øthe charge is reasonable, the creditor
receives no direct or indirect
compensation in connection with the
charge, and the charge is not paid to an
affiliate of the creditor; and¿
fl(A) The charge is reasonable;
(B) The creditor receives no direct or
indirect compensation in connection
with the charge; and
(C) The charge is not paid to an
affiliate of the creditor; fi
(iv) flPremiums or other charges
payable at or before closing of the
mortgage loan for any credit life, credit
disability, credit unemployment, or
credit property insurance, or any other
life, accident, health, or loss-of-income
insurance, or any payments directly or
indirectly for any debt cancellation or
suspension agreement or contract.fi
øPremiums or other charges for credit
life, accident, health, or loss-of-income
insurance, or debt-cancellation coverage
(whether or not the debt-cancellation
coverage is insurance under applicable
law) that provides for cancellation of all
or part of the consumer’s liability in the
event of the loss of life, health, or
income or in the case of accident,
written in connection with the credit
transaction.¿
fl(v) The maximum prepayment
penalty, as defined in § 226.43(b)(10),
that may be charged or collected under
the terms of the mortgage loan; and
(vi) The total prepayment penalty, as
defined in § 226.43(b)(10), incurred by
the consumer if the mortgage loan is
refinanced by the current holder of the
existing mortgage loan, a servicer acting
on behalf of the current holder, or an
affiliate of either.
(2) For purposes of paragraph (b)(1)(ii)
of this section, the term points and fees
does not include compensation paid
to—
(i) An employee of a retailer of
manufactured homes who does not take
a residential mortgage loan application,
offer or negotiate terms of a residential
mortgage loan, or advise a consumer on
loan terms (including rates, fees, and
other costs) but who, for compensation
or other monetary gain, or in
expectation of compensation or other
monetary gain, assists a consumer in
obtaining or applying to obtain a
residential mortgage loan;

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27481

(ii) A person that only performs real
estate brokerage activities and is
licensed or registered in accordance
with applicable state law, unless such
person is compensated by a creditor or
loan originator, as defined in
§ 226.36(a)(1), or by any agent of the
creditor or loan originator; or
(iii) A servicer or servicer employees,
agents and contractors, including but
not limited to those who offer or
negotiate terms of a covered transaction
for purposes of renegotiating,
modifying, replacing and subordinating
principal of existing mortgages where
borrowers are behind in their payments,
in default or have a reasonable
likelihood of being in default or falling
behind.
(3)fiø(2)¿ Affiliate means any
company that controls, is controlled by,
or is under common control with
another company, as set forth in the
Bank Holding Company Act of 1956 (12
U.S.C. 1841 et seq.).
*
*
*
*
*
4. Section 226.34, is amended by
removing paragraph (a)(4).
§ 226.34 Prohibited acts or practices in
connection with credit subject to § 226.32.

(a) * * *
[(4) Repayment ability. Extend credit
subject to § 226.32 to a consumer based
on the value of the consumer’s collateral
without regard to the consumer’s
repayment ability as of consummation,
including the consumer’s current and
reasonably expected income,
employment, assets other than the
collateral, current obligations, and
mortgage-related obligations.
(i) Mortgage-related obligations. For
purposes of this paragraph (a)(4),
mortgage-related obligations are
expected property taxes, premiums for
mortgage-related insurance required by
the creditor as set forth in
§ 226.35(b)(3)(i), and similar expenses.
(ii) Verification of repayment ability.
Under this paragraph (a)(4) a creditor
must verify the consumer’s repayment
ability as follows:
(A) A creditor must verify amounts of
income or assets that it relies on to
determine repayment ability, including
expected income or assets, by the
consumer’s Internal Revenue Service
Form W–2, tax returns, payroll receipts,
financial institution records, or other
third-party documents that provide
reasonably reliable evidence of the
consumer’s income or assets.
(B) Notwithstanding paragraph
(a)(4)(ii)(A), a creditor has not violated
paragraph (a)(4)(ii) if the amounts of
income and assets that the creditor
relied upon in determining repayment
ability are not materially greater than

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the amounts of the consumer’s income
or assets that the creditor could have
verified pursuant to paragraph
(a)(4)(ii)(A) at the time the loan was
consummated.
(C) A creditor must verify the
consumer’s current obligations.
(iii) Presumption of compliance. A
creditor is presumed to have complied
with this paragraph (a)(4) with respect
to a transaction if the creditor:
(A) Verifies the consumer’s repayment
ability as provided in paragraph
(a)(4)(ii);
(B) Determines the consumer’s
repayment ability using the largest
payment of principal and interest
scheduled in the first seven years
following consummation and taking
into account current obligations and
mortgage-related obligations as defined
in paragraph (a)(4)(i); and
(C) Assesses the consumer’s
repayment ability taking into account at
least one of the following: The ratio of
total debt obligations to income, or the
income the consumer will have after
paying debt obligations.
(iv) Exclusions from presumption of
compliance. Notwithstanding the
previous paragraph, no presumption of
compliance is available for a transaction
for which:
(A) The regular periodic payments for
the first seven years would cause the
principal balance to increase; or
(B) The term of the loan is less than
seven years and the regular periodic
payments when aggregated do not fully
amortize the outstanding principal
balance.
(v) Exemption. This paragraph (a)(4)
does not apply to temporary or ‘‘bridge’’
loans with terms of twelve months or
less, such as a loan to purchase a new
dwelling where the consumer plans to
sell a current dwelling within twelve
months.¿
*
*
*
*
*
§ 226.35

[Removed and reserved]

5. Section 226.35 is removed and
reserved.
6. Add § 226.43 to read as follows:

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ߤ 226.43 Minimum standards for
transactions secured by a dwelling.

(a) Scope. This section applies to any
consumer credit transaction that is
secured by a dwelling, as defined in
§ 226.2(a)(19), other than:
(1) A home equity line of credit
subject to § 226.5b;
(2) A mortgage transaction secured by
a consumer’s interest in a timeshare
plan, as defined in 11 U.S.C. 101(53(D));
or
(3) For purposes of paragraphs (c)
through (f) of this section—

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(i) A reverse mortgage subject to
§ 226.33; or
(ii) A temporary or ‘‘bridge’’ loan with
a term of 12 months or less, such as a
loan to finance the purchase of a new
dwelling where the consumer plans to
sell a current dwelling within 12
months or a loan to finance the initial
construction of a dwelling.
(b) Definitions. For purposes of this
section:
(1) Covered transaction means a
consumer credit transaction that is
secured by a dwelling, as defined in
§ 226.2(a)(19), other than a transaction
exempt from coverage under paragraph
(a) of this section.
(2) Fully amortizing payment means a
periodic payment of principal and
interest that will fully repay the loan
amount over the loan term.
(3) Fully indexed rate means the
interest rate calculated using the index
or formula at the time of consummation
and the maximum margin that can
apply at any time during the loan term.
(4) Higher-priced covered transaction
means a covered transaction with an
annual percentage rate that exceeds the
average prime offer rate for a
comparable transaction as of the date
the interest rate is set by 1.5 or more
percentage points for a first-lien covered
transaction, or by 3.5 or more
percentage points for a subordinate-lien
covered transaction.
(5) Loan amount means the principal
amount the consumer will borrow as
reflected in the promissory note or loan
contract.
(6) Loan term means the period of
time to repay the obligation in full.
(7) Maximum loan amount means the
loan amount plus any increase in
principal balance that results from
negative amortization, as defined in
§ 226.18(s)(7)(v), based on the terms of
the legal obligation assuming—
(i) The consumer makes only the
minimum periodic payments for the
maximum possible time, until the
consumer must begin making fully
amortizing payments; and
(ii) The maximum interest rate is
reached at the earliest possible time.
(8) Mortgage-related obligations mean
property taxes; mortgage-related
insurance premiums required by the
creditor as set forth in § 226.45(b)(1);
homeowner’s association,
condominium, and cooperative fees;
ground rent or leasehold payments; and
special assessments.
(9) Points and fees has the same
meaning as in § 226.32(b)(1).
(10) Prepayment penalty means a
charge imposed for paying all or part of
a covered transaction’s principal before

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the date on which the principal is due.
For purposes of this section—
(i) The following are examples of
prepayment penalties:
(A) A charge determined by treating
the loan balance as outstanding for a
period of time after prepayment in full
and applying the interest rate to such
‘‘balance,’’ even if the charge results
from the interest accrual amortization
method used for other payments in the
transaction; and
(B) A fee, such as a loan closing cost,
that is waived unless the consumer
prepays the covered transaction.
(ii) A prepayment penalty does not
include fees imposed for preparing and
providing documents when a loan is
paid in full, whether or not the loan is
prepaid, such as a loan payoff
statement, a reconveyance document, or
another document releasing the
creditor’s security interest in the
dwelling that secures the loan.
(11) Recast means—
(i) For an adjustable-rate mortgage, as
defined in § 226.18(s)(7)(i), the
expiration of the period during which
payments based on the introductory
fixed interest rate are permitted under
the terms of the legal obligation;
(ii) For an interest-only loan, as
defined in § 226.18(s)(7)(iv), the
expiration of the period during which
interest-only payments are permitted
under the terms of the legal obligation;
and
(iii) For a negative amortization loan,
as defined in § 226.18(s)(7)(v), the
expiration of the period during which
negatively amortizing payments are
permitted under the terms of the legal
obligation.
(12) Simultaneous loan means
another covered transaction or home
equity line of credit subject to § 226.5b
that will be secured by the same
dwelling and made to the same
consumer at or before consummation of
the covered transaction.
(13) Third-party record means—
(i) A document or other record
prepared or reviewed by a person other
than the consumer, the creditor, or the
mortgage broker, as defined in
§ 226.36(a)(2), or an agent of the creditor
or mortgage broker;
(ii) A copy of a tax return filed with
the Internal Revenue Service or a state
taxing authority;
(iii) A record the creditor maintains
for an account of the consumer held by
the creditor; or
(iv) If the consumer is an employee of
the creditor or the mortgage broker, a
document or other record maintained by
the creditor or mortgage broker
regarding the consumer’s employment
status or employment income.

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(c) Repayment ability—(1) General
requirement. A creditor shall not make
a loan in a covered transaction unless
the creditor makes a reasonable and
good faith determination at or before
consummation that the consumer will
have a reasonable ability, at the time of
consummation, to repay the loan
according to its terms, including any
mortgage-related obligations.
(2) Basis for determination. Except as
provided otherwise in paragraphs (d),
(e), and (f) of this section, in making the
repayment ability determination
required under paragraph (c)(1) of this
section, a creditor must consider the
following:
(i) The consumer’s current or
reasonably expected income or assets,
other than the value of the dwelling that
secures the loan;
(ii) If the creditor relies on income
from the consumer’s employment in
determining repayment ability, the
consumer’s current employment status;
(iii) The consumer’s monthly payment
on the covered transaction, calculated in
accordance with paragraph (c)(5) of this
section;
(iv) The consumer’s monthly payment
on any simultaneous loan that the
creditor knows or has reason to know
will be made, calculated in accordance
with paragraph (c)(6) of this section;
(v) The consumer’s monthly payment
for mortgage-related obligations;
(vi) The consumer’s current debt
obligations;
(vii) The consumer’s monthly debt-toincome ratio, or residual income in
accordance with paragraph (c)(7) of this
section; and
(viii) The consumer’s credit history.
(3) Verification using third-party
records. A creditor must verify a
consumer’s repayment ability using
reasonably reliable third-party records,
except that—
(i) For purposes of paragraph (c)(2)(ii)
of this section, a creditor may verify a
consumer’s employment status orally if
the creditor prepares a record of the
information obtained orally; and
(ii) For purposes of paragraph
(c)(2)(vi) of this section, if a creditor
relies on a consumer’s credit report to
verify a consumer’s current debt
obligations and a consumer’s
application states a current debt
obligation not shown in the consumer’s
credit report, the creditor need not
independently verify such obligation.
(4) Verification of income or assets. A
creditor must verify the amounts of
income or assets it relies on to
determine a consumer’s ability to repay
a covered transaction using third-party
records that provide reasonably reliable
evidence of the consumer’s income or

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assets. A creditor may verify the
consumer’s income using a tax-return
transcript issued by the Internal
Revenue Service (IRS). Examples of
other records the creditor may use to
verify the consumer’s income or assets
include:
(i) Copies of tax returns the consumer
filed with the Internal Revenue Service
or a state taxing authority;
(ii) IRS Form W–2s or similar IRS
forms used for reporting wages or tax
withholding;
(iii) Payroll statements, including
military Leave and Earnings Statements;
(iv) Financial institution records;
(v) Records from the consumer’s
employer or a third-party that obtained
information from the employer;
(vi) Records from a Federal, state, or
local government agency stating the
consumer’s income from benefits or
entitlements;
(vii) Receipts from the consumer’s use
of check cashing services; and
(viii) Receipts from the consumer’s
use of a funds transfer service.
(5) Payment calculation—(i) General
rule. Except as provided in paragraph
(c)(5)(ii) of this section, a creditor must
make the determination required under
paragraph (c)(2)(iii) using—
(A) The fully indexed rate or any
introductory interest rate, whichever is
greater; and
(B) Monthly, fully amortizing
payments that are substantially equal.
(ii) Special rules for loans with a
balloon payment, interest-only loans,
and negative amortization loans. A
creditor must make the determination
required under paragraph (c)(2)(iii) for—
(A) A loan with a balloon payment, as
defined in § 226.18(s)(5)(i), using—
(1) The maximum payment scheduled
during the first five years after
consummation for a loan that is not a
higher-priced covered transaction; or
(2) The maximum payment in the
payment schedule, including any
balloon payment, for a higher-priced
covered transaction;
(B) An interest-only loan, as defined
in § 226.18(s)(7)(iv), using—
(1) The fully indexed rate or any
introductory interest rate, whichever is
greater; and
(2) Substantially equal, monthly
payments of principal and interest that
will repay the loan amount over the
term of the loan remaining as of the date
the loan is recast.
(C) A negative amortization loan, as
defined in § 226.18(s)(7), using—
(1) The fully indexed rate or any
introductory interest rate, whichever is
greater; and
(2) Substantially equal, monthly
payments of principal and interest that

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will repay the maximum loan amount
over the term of the loan remaining as
of the date the loan is recast.
(6) Payment calculation for
simultaneous loans. For purposes of
making the determination required
under paragraph (c)(2)(iv) of this
section, a creditor must consider a
consumer’s payment on a simultaneous
loan that is—
(i) A covered transaction, by following
paragraphs (c)(5)(i)–(ii) of this section;
or
(ii) A home equity line of credit
subject to § 226.5b, by using the
periodic payment required under the
terms of the plan and the amount of
credit drawn at consummation of the
covered transaction.
(7) Monthly debt-to-income ratio or
residual income—(i) Definitions. For
purposes of this paragraph, the
following definitions apply—
(A) Total monthly debt obligations.
The term total monthly debt obligations
means the sum of: the payment on the
covered transaction, as required to be
calculated by paragraphs (c)(2)(iii) and
(c)(5) of this section; simultaneous
loans, as required by paragraphs
(c)(2)(iv) and (c)(6) of this section;
mortgage-related obligations, as required
by paragraph (c)(2)(v) of this section;
and current debt obligations, as required
by paragraph (c)(2)(vi) of this section.
(B) Total monthly income. The term
total monthly income means the sum of
the consumer’s current or reasonably
expected income, including any income
from assets, as required paragraphs
(c)(2)(i) and (c)(4) of this section.
(ii) Calculations. (A) Monthly debt-toincome ratio. For purposes of
considering the consumer’s monthly
debt-to-income ratio under paragraph
(c)(2)(vii) of this section, the creditor
must consider the ratio of the
consumer’s total monthly debt
obligations to total monthly income.
(B) Monthly residual income. For
purposes of considering the consumer’s
monthly residual income under
paragraph (c)(2)(vii) of this section, the
creditor must consider the consumer’s
remaining income after subtracting the
consumer’s total monthly debt
obligations from the total monthly
income.
(d) Refinancing of non-standard
mortgages—(1) Scope. The provisions of
this paragraph (d) apply to the
refinancing of a non-standard mortgage
into a standard mortgage when the
following conditions are met—
(i) The creditor for the standard
mortgage is the current holder of the
existing non-standard mortgage or the
servicer acting on behalf of the current
holder.

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(ii) The monthly payment for the
standard mortgage is materially lower
than the monthly payment for the nonstandard mortgage, as calculated under
paragraph (d)(5) of this section.
(iii) The creditor receives the
consumer’s written application for the
standard mortgage before the nonstandard mortgage is recast.
(iv) The consumer has made no more
than one payment more than 30 days
late on the non-standard mortgage
during the 24 months immediately
preceding the creditor’s receipt of the
consumer’s written application for the
standard mortgage.
(v) The consumer has made no
payments more than 30 days late during
the six months immediately preceding
the creditor’s receipt of the consumer’s
written application for the standard
mortgage.
(2) Definitions. For purposes of this
paragraph (d), the following definitions
apply:
(i) Non-standard mortgage. The term
non-standard mortgage means a covered
transaction that is—
(A) An adjustable-rate mortgage, as
defined in § 226.18(s)(7)(i), with an
introductory fixed interest rate for a
period of one year or longer;
(B) An interest-only loan, as defined
in § 226.18(s)(7)(iv); or
(C) A negative amortization loan, as
defined in § 226.18(s)(7)(v).
(ii) Standard mortgage. The term
standard mortgage means a covered
transaction—
(A) That provides for regular periodic
payments that do not:
(1) Cause the principal balance to
increase;
(2) Allow the consumer to defer
repayment of principal; or
(3) Result in a balloon payment, as
defined in § 226.18(s)(5)(i);
(B) For which the total points and fees
payable in connection with the
transaction do not exceed the amounts
specified in paragraph (e)(3) of this
section;
(C) For which the term does not
exceed 40 years;
(D) For which the interest rate is fixed
for at least the first five years after
consummation; and
(E) For which the proceeds from the
loan are used solely for the following
purposes—
(1) To pay off the outstanding
principal balance on the non-standard
mortgage; and
(2) To pay closing or settlement
charges required to be disclosed under
the Real Estate Settlement Procedures
Act, 12 U.S.C. 2601 et seq.
(iii) Refinancing. The term
refinancing has the same meaning as in
§ 226.20(a).

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(3) Exemption from certain repayment
ability requirements. (i) A creditor is not
required to comply with the income and
asset verification requirements of
paragraphs (c)(2)(i) and (c)(4) of this
section or the payment calculation
requirements under paragraphs
(c)(2)(iii) and (c)(5) of this section if—
(A) The conditions in paragraph (d)(1)
of this section are met; and
(B) The creditor has considered
whether the standard mortgage will
prevent a likely default by the consumer
on the non-standard mortgage at the
time of its recast.
(ii) If the conditions in paragraph
(d)(3)(i) of this section are met, the
creditor shall satisfy the requirements
under paragraphs (c)(2)(iii) and (c)(5) of
this section for the standard mortgage by
using the payment calculation
prescribed under paragraph (d)(5)(ii) of
this section.
(4) Offer of rate discounts and other
favorable terms. A creditor making a
covered transaction under this
paragraph (d) may offer to the consumer
the same or better rate discounts and
terms that the creditor offers to new
consumers, consistent with the
creditor’s documented underwriting
practices and to the extent not
prohibited by applicable state or Federal
law.
(5) Payment calculations. For
purposes of determining whether the
consumer’s monthly payment for a
standard mortgage will be materially
lower than the monthly payment for the
non-standard mortgage, the following
provisions shall be used:
(i) Non-standard mortgage. The
monthly payment for a non-standard
mortgage must be based on substantially
equal, monthly, fully amortizing
payments of principal and interest
using—
(A) The fully indexed rate as of a
reasonable period of time before or after
the date on which the creditor receives
the consumer’s written application for
the standard mortgage;
(B) The term of the loan remaining as
of the date on which the recast occurs,
assuming all scheduled payments have
been made up to the recast date and the
payment due on the recast date is made
and credited as of that date; and
(C) A remaining loan amount that is—
(1) For an adjustable-rate mortgage
under paragraph (d)(2)(i)(A) of this
section, the outstanding principal
balance as of the date of the recast,
assuming all scheduled payments have
been made up to the recast date and the
payment due on the recast date is made
and credited as of that date;
(2) For an interest-only loan under
paragraph (d)(2)(i)(B) of this section, the

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loan amount, assuming all scheduled
payments have been made up to the
recast date and the payment due on the
recast date is made and credited as of
that date;
(3) For a negative amortization loan
under paragraph (d)(2)(i)(C) of this
section, the maximum loan amount.
(ii) Standard mortgage. The monthly
payment for a standard mortgage must
be based on substantially equal,
monthly, fully amortizing payments
based on the maximum interest rate that
may apply during the first five years
after consummation.
(e) Qualified mortgages.
Alternative 1—Paragraph (e)(1)
(1) Safe harbor. A creditor or assignee
of a covered transaction complies with
the repayment ability requirement of
paragraph (c)(1) of this section if the
covered transaction is a qualified
mortgage, as defined in paragraph (e)(2)
of this section.
Alternative 2—Paragraph (e)(1)
(1) Presumption of compliance. A
creditor or assignee of a covered
transaction is presumed to have
complied with the repayment ability
requirements of paragraph (c)(1) of this
section if the covered transaction is a
qualified mortgage, as defined in
paragraph (e)(2) of this section.
(2) Qualified mortgage defined. A
qualified mortgage is a covered
transaction—
(i) That provides for regular periodic
payments that do not—
(A) Result in an increase of the
principal balance;
(B) Allow the consumer to defer
repayment of principal, except as
provided in paragraph (f) of this section;
or
(C) Result in a balloon payment, as
defined in § 226.18(s)(5)(i), except as
provided in paragraph (f) of this section;
(ii) For which the loan term does not
exceed 30 years;
(iii) For which the total points and
fees payable in connection with the loan
do not exceed the amounts specified in
paragraph (e)(3) of this section;
(iv) For which the creditor
underwrites the loan, taking into
account any mortgage-related
obligations, using—
(A) The maximum interest rate that
may apply during the first five years
after consummation; and
(B) Periodic payments of principal
and interest that will repay either—
(1) The outstanding principal balance
over the remaining term of the loan as
of the date the interest rate adjusts to the
maximum interest rate set forth in
paragraph (e)(2)(iv)(A) of this section; or

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(2) The loan amount over the loan
term.
Alternative 1—Paragraph (e)(2)(v)
(v) For which the creditor considers
and verifies the consumer’s current or
reasonably expected income or assets to
determine the consumer’s repayment
ability, as required by paragraphs
(c)(2)(i), (c)(3), and (c)(4) of this section.

jlentini on DSKJ8SOYB1PROD with PROPOSALS2

Alternative 2—Paragraph (e)(2)(v)
(v) For which the creditor considers
and verifies, in accordance with
paragraph (c)(3) of this section, the
following:
(A) The consumer’s current or
reasonably expected income or assets
other than the value of the dwelling that
secures the loan, in accordance with
paragraphs (c)(2)(i) and (c)(4) of this
section;
(B) If the creditor relies on income
from the consumer’s employment in
determining repayment ability, the
consumer’s current employment status,
in accordance with paragraph (c)(2)(ii)
of this section;
(C) The consumer’s monthly payment
on any simultaneous loan that the
creditor knows or has reason to know
will be made, in accordance with
paragraphs (c)(2)(iv) and (c)(6) of this
section;
(D) The consumer’s current debt
obligations, in accordance with
paragraph (c)(2)(vi) of this section;
(E) The consumer’s monthly debt-toincome ratio, or residual income, in
accordance with paragraphs (c)(2)(vii)
and (c)(7) of this section; and
(F) The consumer’s credit history, in
accordance with paragraph (c)(viii) of
this section.
(3) Limits on points and fees for
qualified mortgages.
Alternative 1—Paragraph (e)(3)(i)
(i) A covered transaction is not a
qualified mortgage unless the total
points and fees payable in connection
with the loan do not exceed—
(A) For a loan amount of $75,000 or
more, three percent of the total loan
amount;
(B) For a loan amount of greater than
or equal to $60,000 but less than
$75,000, 3.5 percent of the total loan
amount;
(C) For a loan amount of greater than
or equal to $40,000 but less than
$60,000, four percent of the total loan
amount;
(D) For a loan amount of greater than
or equal to $20,000 but less than
$40,000, 4.5 percent of the total loan
amount; and
(E) For a loan amount of less than
$20,000, five percent of the total loan
amount.

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Alternative 2—Paragraph (e)(3)(i)
(i) A covered transaction is not a
qualified mortgage unless the total
points and fees payable in connection
with the loan do not exceed—
(A) For a loan amount of $75,000 or
more, three percent of the total loan
amount;
(B) For a loan amount of greater than
or equal to $20,000 but less than
$75,000, a percentage of the total loan
amount resulting from the following
formula—
(1) Total loan amount ¥ $20,000 =
$Z;
(2) $Z × .0036 = Y;
(3) 500 ¥ Y = X; and
(4) X × .01 = Allowable points and
fees as a percentage of the total loan
amount; and
(C) For a loan amount of less than
$20,000, five percent of the total loan
amount.
(ii) For purposes of calculating the
total amount of points and fees that are
payable in connection with a covered
transaction under (e)(3)(i), the following
may be excluded:
(A) Any bona fide third party charge
not retained by the creditor, loan
originator, or an affiliate of either,
unless the charge is required to be
included in ‘‘points and fees’’ under
§ 226.32(b)(1)(i)(B).
(B) Up to two bona fide discount
points paid by the consumer in
connection with the transaction,
provided that the following conditions
are met—
(1) The interest rate before the
discount does not exceed the average
prime offer rate, as defined in
§ 226.45(a)(2)(ii), by more than one
percent; and
(2) The average prime offer rate used
for purposes of paragraph (e)(3)(ii)(B)(1)
of this section is the same average prime
offer rate that applies to a comparable
transaction as of the date the discounted
interest rate for the transaction is set.
(C) Up to one bona fide discount point
paid by the consumer in connection
with the transaction, provided that the
following conditions are met—
(1) The interest rate before the
discount does not exceed the average
prime offer rate, as defined in
§ 226.45(a)(2)(ii), by more than two
percent;
(2) The average prime offer rate used
for purposes of paragraph (e)(3)(ii)(C)(1)
of this section is the same average prime
offer rate that applies to a comparable
transaction as of the date the discounted
interest rate for the transaction is set;
and
(3) Two bona fide discount points
have not been excluded under
paragraph (e)(3)(ii)(B) of this section.

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(iii) The term loan originator has the
same meaning as in § 226.36(a)(1).
(iv) The term bona fide discount point
means any percent of the loan amount
of a covered transaction paid by the
consumer that reduces the interest rate
or time-price differential applicable to
the covered transaction based on a
calculation that—
(A) Is consistent with established
industry practices for determining the
amount of reduction in the interest rate
or time-price differential appropriate for
the amount of discount points paid by
the consumer; and
(B) Accounts for the amount of
compensation that the creditor can
reasonably expect to receive from
secondary market investors in return for
the mortgage loan.
(f) Balloon-payment qualified
mortgages made by certain creditors—
(1) Exception. Notwithstanding
paragraph (e)(2)(i)(C) of this section, a
qualified mortgage may provide for a
balloon payment, provided—
(i) The loan satisfies all of the
requirements for a qualified mortgage in
paragraph (e)(2) of this section, other
than paragraphs (e)(2)(i)(B), (e)(2)(i)(C),
and (e)(2)(iv) of this section;
(ii) The creditor determines that the
consumer can make all of the scheduled
payments under the terms of the legal
obligation, except the balloon payment,
from the consumer’s current or
reasonably expected income or assets
other than the dwelling that secures the
loan;
(iii) The scheduled payments on
which the determination required by
paragraph (f)(1)(ii) of this section is
based:
(A) Are calculated using an
amortization period that does not
exceed 30 years; and
(B) Include all mortgage-related
obligations;
(iv) The loan term is five years or
longer; and
(v) The creditor:
(A) During the preceding calendar
year, extended more than 50% of its
total covered transactions that provide
for balloon payments in one or more
counties designated by the Board as
‘‘rural’’ or ‘‘underserved,’’ as defined in
paragraph (f)(2) of this section;
Alternative 1—Paragraph (f)(1)(v)(B)
(B) During the preceding calendar
year, together with all affiliates,
extended covered transactions with loan
amounts that in the aggregate total $___
or less;
Alternative 2—Paragraph (f)(1)(v)(B)
(B) During the preceding calendar
year, together with all affiliates,

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extended ___ or fewer covered
transactions;

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Alternative 1—Paragraph (f)(1)(v)(C)
(C) On or after [effective date of final
rule], has not sold, assigned, or
otherwise transferred legal title to the
debt obligation for any covered
transaction that provides for a balloon
payment; and
Alternative 2—Paragraph (f)(1)(v)(C)
(C) During the preceding and current
calendar year, has not sold, assigned, or
otherwise transferred legal title to the
debt obligation for any covered
transaction that provides for a balloon
payment; and
(D) As of the end of the preceding
calendar year, had total assets that do
not exceed the asset threshold
established and published annually by
the Board, based on the year-to-year
change in the average of the Consumer
Price Index for Urban Wage Earners and
Clerical Workers, not seasonally
adjusted, for each 12-month period
ending in November, with rounding to
the nearest million dollars. (See staff
comment 43(f)(1)(v)–1.iv for the current
threshold.)
(2) ‘‘Rural’’ and ‘‘underserved’’
defined. For purposes of paragraph
(f)(1)(v)(A) of this section—
(i) A county is ‘‘rural’’ during a
calendar year if it is not in a
metropolitan statistical area or a
micropolitan statistical area, as those
terms are defined by the U.S. Office of
Management and Budget, and:
(A) It is not adjacent to any
metropolitan area or micropolitan area;
or
(B) It is adjacent to a metropolitan
area with fewer than one million
residents or adjacent to a micropolitan
area, and it contains no town with 2,500
or more residents.
(ii) A county is ‘‘underserved’’ during
a calendar year if no more than two
creditors extend covered transactions
five or more times in the county.
(g) Prepayment penalties—(1) When
permitted. A covered transaction must
not include a prepayment penalty
unless:
(i) The prepayment penalty is
otherwise permitted by law; and
(ii) The transaction—
(A) Has an annual percentage rate that
cannot increase after consummation;
(B) Is a qualified mortgage under
paragraph (e)(2) or (f) of this section;
and
(C) Is not a higher-priced mortgage
loan, as defined in § 226.45(a).
(2) Limits on prepayment penalties. A
prepayment penalty—
(i) Must not apply after the three-year
period following consummation; and

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(ii) Must not exceed the following
percentages of the amount of the
outstanding loan balance prepaid:
(A) Three percent, if incurred during
the first year following consummation;
(B) Two percent, if incurred during
the second year following
consummation; and
(C) One percent, if incurred during
the third year following consummation.
(3) Alternative offer required. Except
as provided otherwise in paragraph
(g)(4) or (g)(5) of this section, a creditor
must not offer a consumer a covered
transaction with a prepayment penalty
unless the creditor also offers the
consumer an alternative covered
transaction without a prepayment
penalty and the alternative covered
transaction—
(i) Has an annual percentage rate that
cannot increase after consummation and
has the same type of interest rate as the
covered transaction with a prepayment
penalty. For purposes of this paragraph
(g), the term ‘‘type of interest rate’’ refers
to whether a transaction:
(A) Is a fixed-rate mortgage, as defined
in § 226.18(s)(7)(iii); or
(B) Is a step-rate mortgage, as defined
in § 226.18(s)(7)(ii).
(ii) Has the same loan term as the loan
term for the covered transaction with a
prepayment penalty;
(iii) Satisfies the periodic payment
conditions under paragraph (e)(2)(i) of
this section;
(iv) Satisfies the points and fees
conditions under paragraph (e)(2)(iii) of
this section, based on the information
known to the creditor at the time the
transaction is offered; and
(v) Is a transaction for which the
creditor has a good faith belief that the
consumer likely qualifies, based on the
information known to the creditor at the
time the creditor offers the covered
transaction without a prepayment
penalty.
(4) Offer through a mortgage broker. If
the creditor offers a covered transaction
with a prepayment penalty to the
consumer through a mortgage broker, as
defined in § 226.36(a)(2), the creditor
must—
(i) Present the mortgage broker an
alternative covered transaction without
a prepayment penalty that satisfies the
requirements of paragraph (g)(3) of this
section; and
(ii) Establish by agreement that the
mortgage broker must present the
consumer an alternative covered
transaction without a prepayment
penalty that satisfies the requirements of
paragraph (g)(3) of this section, offered
by—
(A) The creditor; or
(B) Another creditor, if the transaction
offered by the other creditor has a lower

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interest rate or a lower total dollar
amount of origination points or fees and
discount points.
(5) Creditor that is a loan originator.
If the creditor is a loan originator, as
defined in § 226.36(a)(1), and the
creditor presents the consumer a
covered transaction offered by a person
to which the creditor would assign the
covered transaction after
consummation, the creditor must
present the consumer an alternative
covered transaction without a
prepayment penalty that satisfies the
requirements of paragraph (g)(3) of this
section, offered by—
(i) The assignee; or
(ii) Another person, if the transaction
offered by the other person has a lower
interest rate or a lower total dollar
amount of origination points or fees and
discount points.
(6) Applicability. This paragraph (g)
applies only if a covered transaction is
consummated with a prepayment
penalty and is not violated if:
(i) A covered transaction is
consummated without a prepayment
penalty; or
(ii) The creditor and consumer do not
consummate a covered transaction.
(h) Evasion; open-end credit. In
connection with credit secured by a
consumer’s dwelling that does not meet
the definition of open-end credit in
§ 226.2(a)(20), a creditor shall not
structure a home-secured loan as an
open-end plan to evade the
requirements of this section.fi
7. In Supplement I to Part 226:
A. Under Section 226.25—Record
Retention, 25(a) General rule, paragraph
2 is revised and paragraphs 6 and 7 are
added.
B. Under Section 226.32—
Requirements for Certain Closed-End
Home Mortgages,
(1) In subheading 32(a) Coverage,
Paragraph 32(a)(1)(ii), paragraph 1 is
revised;
(2) In subheading 32(b) Definitions,
Paragraph 32(b)(1)(i), paragraph 1 is
revised and paragraphs 2, 3, and 4 are
added;
(i) Paragraph 32(b)(1)(ii), paragraph 1
is revised, paragraph 2. is redesignated
as Paragraph 32(b)(1)(iii), paragraph 1,
and revised, and new paragraphs 2 and
3 are added to Paragraph 32(b)(1)(ii);
(ii) Paragraph 32(b)(1)(iv), paragraph
1 is revised and paragraph 2 is added.
C. Under Section 226.34—Prohibited
Acts or Practices in Connection with
Credit Subject to § 226.32, subheading
34(a) Prohibited acts or practices for
loans subject to § 226.32, paragraph
34(a)(4) Repayment ability is removed
and reserved.
D. Section 226.35—Prohibited Acts or
Practices in Connection with Higher-

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Priced Mortgage Loans is removed and
reserved.
E. New entry Section 226.43—
Minimum Standards for Transactions
Secured by a Dwelling is added.
The revisions, removals, and
additions read as follows:
Supplement I to Part 226—Official Staff
Interpretations
*

*

*

*

*

Subpart D—Miscellaneous

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*

*

*

*

*

Section 226.25—Record Retention
25(a) General rule.
*
*
*
*
*
2. Methods of retaining evidence.
Adequate evidence of compliance does
not necessarily mean actual paper
copies of disclosure statements or other
business records. The evidence may be
retained [on microfilm, microfiche, or]
by any [other] method that reproduces
records accurately (including computer
programs). flUnless otherwise
required,fi the creditor need retain only
enough information to reconstruct the
required disclosures or other records.
Thus, for example, the creditor need not
retain each open-end periodic
statement, so long as the specific
information on each statement can be
retrieved.
*
*
*
*
*
fl6. Evidence of compliance with
§ 226.43. Creditors must retain evidence
of compliance with § 226.43 for three
years after the date of consummation of
a consumer credit transaction covered
by that section. (See comment 25(a)–7
for guidance on the retention of
evidence of compliance with the
requirement to offer a consumer a loan
without a prepayment penalty under
§ 226.43(g)(3).) If a creditor must verify
and document information used in
underwriting a transaction subject to
§ 226.43, the creditor should retain
evidence sufficient to demonstrate
compliance with the documentation
requirements of the rule. Although
creditors need not retain actual paper
copies of the documentation used in
underwriting a transaction subject to
§ 226.43, creditors should be able to
reproduce such records accurately. For
example, if the creditor uses a
consumer’s Internal Revenue Service
(IRS) Form W–2 to verify the
consumer’s income, the creditor should
be able to reproduce the IRS Form W–
2 itself, and not merely the income
information that was contained in the
form.
7. Dwelling-secured transactions and
prepayment penalties. If a transaction

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covered by § 226.43 has a prepayment
penalty, the creditor must maintain
records that document that the creditor
complied with requirements for offering
the consumer an alternative transaction
that does not include a prepayment
penalty under § 226.43(g)(3), (4), or (5).
However, the creditor need not maintain
records that document compliance with
those provisions if a transaction is
consummated without a prepayment
penalty or if the creditor and consumer
do not consummate a covered
transaction. See § 226.43(g)(6). If a
creditor offers a transaction with a
prepayment penalty to a consumer
through a mortgage broker, to evidence
compliance with § 226.43(g)(4) the
creditor should retain records of the
alternative covered transaction
presented to the mortgage broker, such
as a rate sheet, and the agreement with
the mortgage broker required by
§ 226.43(g)(4)(ii).fi
*
*
*
*
*
Subpart E—Special Rules for Certain
Home Mortgage Transactions
*

*

*

*

*

Section 226.32—Requirements for
Certain Closed-End Home Mortgages
32(a) Coverage.
*
*
*
*
*
Paragraph 32(a)(1)(ii).
1. Total loan amount. For purposes of
the ‘‘points and fees’’ test, the total loan
amount is calculated by taking the
amount financed, as determined
according to § 226.18(b), and deducting
any cost listed in § 226.32(b)(1)(iii)fl,fi
[and 226.32] (b)(1)(iv)fland (b)(1)(vi)fi
that is both included as points and fees
under § 226.32(b)(1) and financed by the
creditor. Some examples follow, each
using a $10,000 amount borrowed, a
$300 appraisal fee, and $400 in points.
A $500 flsinglefi premium for
optional credit flunemploymentfi
ølife¿ insurance is used in one example.
i. If the consumer finances a $300 fee
for a creditor-conducted appraisal and
pays $400 in points at closing, the
amount financed under § 226.18(b) is
$9,900 ($10,000 plus the $300 appraisal
fee that is paid to and financed by the
creditor, less $400 in prepaid finance
charges). The $300 appraisal fee paid to
the creditor is added to other points and
fees under § 226.32(b)(1)(iii). It is
deducted from the amount financed
($9,900) to derive a total loan amount of
$9,600.
ii. If the consumer pays the $300 fee
for the creditor-conducted appraisal in
cash at closing, the $300 is included in
the points and fees calculation because
it is paid to the creditor. However,

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27487

because the $300 is not financed by the
creditor, the fee is not part of the
amount financed under § 226.18(b). In
this case, the amount financed is the
same as the total loan amount: $9,600
($10,000, less $400 in prepaid finance
charges).
iii. If the consumer finances a $300
fee for an appraisal conducted by
someone other than the creditor or an
affiliate, the $300 fee is not included
with other points and fees under
§ 226.32(b)(1)(iii). flIn this case, the
amount financed is the same as the total
loan amount:fi $9,900 ($10,000 plus
the $300 fee for an independently
conducted appraisal that is financed by
the creditor, less the $400 paid in cash
and deducted as prepaid finance
charges).
iv. If the consumer finances a $300 fee
for a creditor-conducted appraisal and a
$500 single premium for optional credit
flunemploymentfi ølife¿ insurance,
and pays $400 in points at closing, the
amount financed under § 226.18(b) is
$10,400 ($10,000, plus the $300
appraisal fee that is paid to and
financed by the creditor, plus the $500
insurance premium that is financed by
the creditor, less $400 in prepaid
finance charges). The $300 appraisal fee
paid to the creditor is added to other
points and fees under § 226.32(b)(1)(iii),
and the $500 insurance premium is
added under section 226.32(b)(1)(iv).
The $300 and $500 costs are deducted
from the amount financed ($10,400) to
derive a total loan amount of $9,600.
*
*
*
*
*
32(b) Definitions.
Paragraph 32(b)(1)(i)
1. General. Section 226.32(b)(1)(i)
includes in the total ‘‘points and fees’’
items defined as finance charges under
§ 226.4(a) and 226.4(b). Items excluded
from the finance charge under other
provisions of § 226.4 are not excluded in
the total ‘‘points and fees’’ under
§ 226.32(b)(1)(i), but may be included in
‘‘points and fees’’ under § 226.32(b)(1)(ii)
flthrough § 226.32(b)(1)(vi).fiøand
§ 226.32(b)(1)(iv)¿. Interest, including
per diem interest, is excluded from
‘‘points and fees under § 226.32(b)(1).
flTo illustrate: A fee imposed by the
creditor for an appraisal performed by
an employee of the creditor meets the
definition of ‘‘finance charge’’ under
§ 226.4(a) as ‘‘any charge payable
directly or indirectly by the consumer
and imposed directly or indirectly by
the creditor as an incident to or a
condition of the extension of credit.’’
However, § 226.4(c)(7) expressly
provides that appraisal fees are not
finance charges. Therefore, under the
general rule regarding the finance

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charges that must be counted as points
and fees, a fee imposed by the creditor
for an appraisal performed by an
employee of the creditor would not be
counted in points and fees. Section
226.32(b)(1)(iii), however, expressly reincludes in points and fees items listed
in § 226.4(c)(7) (including appraisal
fees) if the creditor receives
compensation in connection with the
charge. A creditor would receive
compensation for an appraisal
performed by its own employee. Thus,
the appraisal fee in this example must
be included in the calculation of points
and fees.
2. Upfront Federal and state mortgage
insurance premiums and guaranty fees.
Under § 226.32(b)(1)(i)(B)(1) and (3),
upfront mortgage insurance premiums
or guaranty fees in connection with a
Federal or state agency program are not
‘‘points and fees,’’ even though they are
finance charges under § 226.4(a) and (b).
For example, if a consumer is required
to pay a $2,000 mortgage insurance
premium before or at closing for a loan
insured by the U.S. Federal Housing
Administration, the $2,000 must be
treated as a finance charge but need not
be counted in ‘‘points and fees.’’
3. Upfront private mortgage insurance
premiums. i. Under
§ 226.32(b)(1)(i)(B)(2) and (3), upfront
private mortgage insurance premiums
are not ‘‘points and fees,’’ even though
they are finance charges under
§ 226.4(a) and (b)—but only to the
extent that the premium amount does
not exceed the amount payable under
policies in effect at the time of
origination under section 203(c)(2)(A) of
the National Housing Act (12 U.S.C.
1709(c)(2)(A)).
ii. In addition, to qualify for the
exclusion from points and fees, upfront
private mortgage insurance premiums
must be required to be refunded on a
pro rata basis and the refund must be
automatically issued upon notification
of the satisfaction of the underlying
mortgage loan.
iii. To illustrate: Assume that a $3,000
upfront private mortgage insurance
premium charged on a covered
transaction is required to be refunded
on a pro rata basis and automatically
issued upon notification of the
satisfaction of the underlying mortgage
loan. Assume also that the maximum
upfront premium allowable under the
National Housing Act is $2,000. In this
case, the creditor could exclude $2,000
from ‘‘points and fees’’ but would have
to include the $1,000 that exceeds the
allowable premium under the National
Housing Act. However, if the $3,000
upfront private mortgage insurance
premium were not required to be

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refunded on a pro rata basis and
automatically issued upon notification
of the satisfaction of the underlying
mortgage loan, the entire $3,000
premium must be included in ‘‘points
and fees.’’
4. Method of paying private mortgage
insurance premiums. Upfront private
mortgage insurance premiums that do
not qualify for an exclusion from ‘‘points
and fees’’ under § 226.32(b)(1)(i)(B)(2)
must be included in ‘‘points and fees’’
for purposes of this section whether
paid before or at closing, in cash or
financed, and whether the insurance is
optional or required. Such charges are
also included whether the amount
represents the entire premium or an
initial payment.fi
Paragraph 32(b)(1)(ii).
1. [Mortgage broker fees]flLoan
originator compensation—generalfi. In
determining ‘‘points and fees’’ for
purposes of this section, compensation
paid by a consumer flor creditorfi to
a flloan originatorfi [mortgage broker
(directly or through the creditor for
delivery to the broker)] is included in
the calculation whether or not the
amount is disclosed as a finance charge.
[Mortgage broker fees that are not paid
by the consumer are not included.]
flLoan originatorfi[Mortgage broker]
fees already included in flpoints and
feesfi calculation as finance charges
under § 226.32(b)(1)(i) need not be
counted again under § 226.32(b)(1)(ii).
fl2. Loan originator compensation—
examples. i. In determining ‘‘points and
fees’’ under this section, loan originator
compensation includes the dollar value
of compensation paid to a loan
originator for a covered transaction,
such as a bonus, commission, yield
spread premium, award of merchandise,
services, trips, or similar prizes, or
hourly pay for the actual number of
hours worked on a particular
transaction. Compensation paid to a
loan originator for a covered transaction
must be included in the ‘‘points and
fees’’ calculation for that loan whenever
paid, whether before, at, or after closing,
as long as that compensation amount
can be determined at the time of closing.
Thus, loan originator compensation for
a covered transaction includes
compensation that will be paid as part
of a periodic bonus, commission, or gift
if a portion of the dollar value of the
bonus, commission, or gift can be
attributed to that loan. The following
examples illustrate the rule:
A. Assume that, according to a
creditor’s compensation policies, the
creditor awards its loan officers a bonus
every year based on the number of loan
applications taken by the loan officer
that result in consummated transactions

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during that year, and that each
consummated transaction increases the
bonus by $100. In this case, the $100
bonus must be counted in the amount
of loan originator compensation that the
creditor includes in ‘‘points and fees.’’
B. Assume that, according to a
creditor’s compensation policies, the
creditor awards its loan officers a yearend bonus equal to a flat dollar amount
for each of the consummated
transactions originated by the loan
officer during that year. Assume also
that the per-transaction dollar amount is
determined at the end of the year, based
on the total dollar value of
consummated transactions originated by
the loan officer. If at the time a mortgage
transaction is consummated the loan
officer has originated total volume that
qualifies the loan officer to receive a
$300 bonus per transaction, the $300
bonus is loan originator compensation
that must be included in ‘‘points and
fees’’ for the transaction.
C. Assume that, according to a
creditor’s compensation policies, the
creditor awards its loan officers a bonus
every year based on the number of
consummated transactions originated by
the loan officer during that year.
Assume also that for the first 10
transactions originated by the loan
officer in a given year, no bonus is
awarded; for the next 10 transactions
originated by the loan officer up to 20,
a bonus of $100 per transaction is
awarded; and for each transaction
originated after the first 20, a bonus of
$200 per transaction is awarded. In this
case, for the first 10 transactions
originated by a loan officer during a
given year, no amount of loan originator
compensation need be included in
‘‘points and fees.’’ For any mortgage
transaction made after the first 10, up to
the 20th transaction, $100 must be
included in ‘‘points and fees.’’ For any
mortgage transaction made after the first
20, $200 must be included in ‘‘points
and fees.’’
ii. In determining ‘‘points and fees’’
under this section, loan originator
compensation excludes compensation
that cannot be attributed to a particular
transaction at the time or origination,
including, for example:
A. Compensation based on the longterm performance of the loan
originator’s loans.
B. Compensation based on the overall
quality of a loan originator’s loan files.
C. The base salary of a loan originator
who is also the employee of the creditor,
not accounting for any bonuses,
commissions, pay raises, or other
financial awards based solely on a
particular transaction or the number or

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amount of covered transactions
originated by the loan originator.
3. Name of fee. Loan originator
compensation includes amounts the
loan originator retains and is not
dependent on the label or name of any
fee imposed in connection with the
transaction. For example, if a loan
originator imposes a ‘‘processing fee’’
and retains the fee, the fee is loan
originator compensation under
§ 226.32(b)(1)(ii) whether the originator
expends the fee to process the
consumer’s application or uses it for
other expenses, such as overhead.
Paragraph 32(b)(1)(iii).
1. Other charges.fi[2. Example.]
Section 32(b)(1)(iii) defines ‘‘points and
fees’’ to include all items listed in
§ 226.4(c)(7), other than amounts held
for the future payment of taxes. An item
listed in § 226.4(c)(7) may be excluded
from the ‘‘points and fees’’ calculation,
however, if the charge is reasonablefl;
fi[,] the creditor receives no direct or
indirect compensation from the
chargefl;fi[,] and the charge is not paid
to an affiliate of the creditor. For
example, a reasonable fee paid by the
consumer to an independent, thirdparty appraiser may be excluded from
the ‘‘points and fees’’ calculation
(assuming no compensation is paid to
the creditorfl or its affiliatefi). flBy
contrast, afi[A] fee paid by the
consumer for an appraisal performed by
the creditor must be included in the
calculation, even though the fee may be
excluded from the finance charge if it is
bona fide and reasonable in amount.
Paragraph 32(b)(1)(iv).
1. flCredit insurance and debt
cancellation or suspension coverage
fi[Premium amount]. In determining
‘‘points and fees’’ for purposes of this
section, premiums paid at or before
closing for credit insurance or flany
debt cancellation or suspension
agreement or contractfi are included
flin ‘‘points and fees’’ if they are paid
at or before closing,fi whether they are
paid in cash or financed, fland whether
the insurance or coverage is optional or
required. Such charges are also
includedfi[and] whether the amount
represents the entire premium or
payment for the coverage or an initial
payment.
fl2. Credit property insurance. Credit
property insurance includes insurance
against loss of or damage to personal
property, such as a houseboat or
manufactured home. Credit property
insurance covers the creditor’s security
interest in the property. Credit property
insurance does not include homeowners
insurance, which, unlike credit property
insurance, typically covers not only the

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dwelling but its contents, and
designates the consumer, not the
creditor, as the beneficiary.fi
*
*
*
*
*
Section 226.34—Prohibited Acts or
Practices in Connection with Credit
Subject to § 226.32
34(a) Prohibited acts or practices for
loans subject to § 226.32.
*
*
*
*
*
34(a)(4) Repayment ability.
fløReserved.¿fi
*
*
*
*
*
Section 226.35 fløReserved.¿fi
*

*

*

*

*

flSection 226.43—Minimum Standards
for Transactions Secured by a Dwelling
1. Record retention. See § 226.25(a)
and comments 25(a)–6 and –7 for
guidance on the required retention of
records as evidence of compliance with
§ 226.43.
43(a) Scope.
1. Consumer credit. In general,
§ 226.43 applies to consumer credit
transactions secured by a dwelling, but
certain dwelling-secured consumer
credit transactions are exempt from
coverage under § 226.43(a)(1)–(3). (See
§ 226.2(a)(12) for the definition of
‘‘consumer credit.’’) Section 226.43 does
not apply to an extension of credit
primarily for a business, commercial, or
agricultural purpose, even if it is
secured by a dwelling. See § 226.3 and
associated commentary for guidance in
determining the primary purpose of an
extension of credit.
2. Real property. ‘‘Dwelling’’ means a
residential structure that contains one to
four units, whether or not the structure
is attached to real property. See
§ 226.2(a)(19). For purposes of § 226.43,
the term ‘‘dwelling’’ includes any real
property to which the residential
structure is attached that also secures
the covered transaction. For example,
for purposes of § 226.43(c)(2)(i), the
value of the dwelling that secures the
covered transaction includes the value
of any real property to which the
residential structure is attached that also
secures the covered transaction.
3. Renewable temporary or ‘‘bridge’’
loan. Under § 226.43(a)(3)(ii), a
temporary or ‘‘bridge’’ loan with a term
of 12 months or less is excluded from
coverage by § 226.43(c) through (f).
Examples of such a loan are a loan to
finance the purchase of a new dwelling
where the consumer plans to sell a
current dwelling within 12 months and
a loan to finance the initial construction
of a dwelling. Where a temporary or
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term does not include any additional
period of time that could result from a
renewal provision. For example, if a
construction loan has an initial loan
term of 12 months but is renewable for
another 12-month loan term, the loan is
excluded from coverage by § 226.43(c)
through (f), because the initial loan term
is 12 months.
43(b) Definitions.
43(b)(3) Fully indexed rate.
1. Discounted and premium
adjustable-rate transactions. In some
adjustable-rate transactions, creditors
may set an initial interest rate that is not
determined by the index or formula
used to make later interest rate
adjustments. Typically, this initial rate
charged to consumers is lower than the
rate would be if it were calculated using
the index or formula at consummation
(i.e., a ‘‘discounted rate’’). In some cases,
this initial rate may be higher (i.e., a
‘‘premium rate’’). For purposes of
determining the fully indexed rate
where the initial interest rate is not
determined using the index or formula
for subsequent interest rate adjustments,
the creditor must use the interest rate
that would have applied had the
creditor used such index or formula
plus margin at the time of
consummation. That is, in determining
the fully indexed rate, the creditor must
not take into account any discounted or
premium rate. To illustrate, assume an
adjustable-rate transaction where the
initial interest rate is not based on an
index or formula, and is set at 5% for
the first five years. The loan agreement
provides that future interest rate
adjustments will be calculated based on
the London Interbank Offered Rate
(LIBOR) plus a 3% margin. If the value
of the LIBOR at consummation is 5%,
the interest rate that would have been
applied at consummation had the
creditor based the initial rate on this
index is 8% (5% plus 3% margin). For
purposes of this section, the fully
indexed rate is 8%. For discussion of
payment calculations based on the
greater of the fully indexed rate or
‘‘premium rate’’ for purposes of the
repayment ability determination under
§ 226.43(c), see § 226.43(c)(5)(i) and
comment 43(c)(5)(i)–2.
2. Index or formula at consummation.
The value of the index or formula in
effect at consummation need not be
used if the contract provides for a delay
in the implementation of changes in an
index value or formula. For example, if
the contract specifies that rate changes
are based on the index value in effect 45
days before the change date, the creditor
may use any index value in effect
during the 45 days before

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consummation in calculating the fully
indexed rate.
3. Interest rate adjustment caps. If the
terms of the legal obligation contain a
periodic interest rate adjustment cap
that would prevent the initial rate, at the
time of the first adjustment, from
changing to the rate determined using
the index or formula at consummation
(i.e., the fully indexed rate), the creditor
must not give any effect to that rate cap
when determining the fully indexed
rate. That is, a creditor must determine
the fully indexed rate without taking
into account any periodic interest rate
adjustment cap that may limit how
quickly the fully indexed rate may be
reached at any time during the loan
term under the terms of the legal
obligation. To illustrate, assume an
adjustable-rate mortgage has an initial
fixed rate of 5% for the first three years
of the loan, after which the rate will
adjust annually to a specified index plus
a margin of 3%. The loan agreement
provides for a 2% annual interest rate
adjustment cap, and a lifetime
maximum interest rate of 10%. The
index value in effect at consummation
is 4.5%; the fully indexed rate is 7.5%
(4.5% plus 3%), regardless of the 2%
annual interest rate adjustment cap that
would limit when the fully indexed rate
would take effect under the terms of the
legal obligation.
4. Lifetime maximum interest rate. A
creditor may choose, in its sole
discretion, to take into account the
lifetime maximum interest rate provided
under the terms of the legal obligation
when determining the fully indexed
rate. If the creditor chooses to use the
lifetime maximum interest rate and the
loan agreement provides a range for the
maximum interest rate, then the creditor
must use the highest rate in that range
as the maximum interest rate for
purposes of this section. To illustrate,
assume an adjustable-rate mortgage has
an initial fixed rate of 5% for the first
three years of the loan, after which the
rate will adjust annually to a specified
index plus a margin of 3%. The loan
agreement provides for a 2% annual
interest rate adjustment cap, and a
lifetime maximum interest rate of 7%.
The index value in effect at
consummation is 4.5%; the fully
indexed rate is 7.5% (4.5% plus 3%).
For purposes of this section, the creditor
can choose to use the lifetime maximum
interest rate of 7%, instead of the fully
indexed rate of 7.5%, for purposes of
this section.
5. Step-rate and fixed-rate mortgages.
Where the interest rate offered under the
terms of the legal obligation is not based
on, and does not vary with, an index or
formula (i.e., there is no fully indexed

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rate), the creditor must use the
maximum interest rate that may apply at
any time during the loan term. To
illustrate:
i. Assume a step-rate mortgage with
an interest rate fixed at 6.5% for the first
two years of the loan, 7% for the next
three years, and 7.5% thereafter for the
remainder of loan term. For purposes of
this section, the creditor must use 7.5%,
which is the maximum rate that may
apply during the loan term. ‘‘Step-rate
mortgage’’ is defined in § 226.18(s)(7)(ii).
ii. Assume a fixed-rate mortgage with
an interest rate at consummation of 7%
that is fixed for the 30-year loan term.
For purposes of this section, the
maximum interest rate that may apply
during the loan term is 7%, which is the
interest rate that is fixed at
consummation. ‘‘Fixed-rate mortgage’’ is
defined in § 226.18(s)(7)(iii).
43(b)(4) Higher-priced covered
transaction.
1. Average prime offer rate. The
average prime offer rate generally has
the same meaning as in
§ 226.45(a)(2)(ii). For further
explanation of the meaning of ‘‘average
prime offer rate,’’ and additional
guidance on determining the average
prime offer rate, see comments
45(a)(2)(ii)–1 and –5. For further
explanation of the Board table, see
comment 45(a)(2)(ii)–4.
2. Comparable transaction. A higherpriced covered transaction is a
consumer credit transaction that is
secured by the consumer’s dwelling
with an annual percentage rate that
exceeds the average prime offer rate for
a comparable transaction as of the date
the interest rate is set by the specified
amount. The table of average prime offer
rates published by the Board indicates
how to identify a comparable
transaction. See comment 45(a)(2)(ii)–2.
3. Rate set. A transaction’s annual
percentage rate is compared to the
average prime offer rate as of the date
the transaction’s interest rate is set (or
‘‘locked’’) before consummation.
Sometimes a creditor sets the interest
rate initially and then re-sets it at a
different level before consummation.
The creditor should use the last date the
interest rate is set before consummation.
43(b)(5) Loan amount.
1. Disbursement of the loan amount.
The definition of ‘‘loan amount’’ requires
the creditor to use the entire loan
amount as reflected in the loan contract
or promissory note, even though the
loan amount may not be fully disbursed
at consummation. For example, assume
the consumer enters into a loan
agreement where the consumer is
obligated to repay the creditor $200,000
over 15 years, but only $100,000 is

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disbursed at consummation and the
remaining $100,000 will be disbursed
during the year following
consummation in a series of advances
($25,000 each quarter). For purposes of
this section, the creditor must use the
loan amount of $200,000, even though
the loan agreement provides that only
$100,000 will be disbursed to the
consumer at consummation. Generally,
creditors should rely on § 226.17(c)(6)
and associated commentary regarding
treatment of multiple-advance and
construction-to-permanent loans as
single or multiple transactions.
43(b)(6) Loan term.
1. General. The loan term is the
period of time it takes to repay the loan
amount in full. For example, a loan with
an initial discounted rate that is fixed
for the first two years, and that adjusts
periodically for the next 28 years has a
loan term of 30 years, which is the
amortization period on which the
periodic amortizing payments are based.
43(b)(7) Maximum loan amount.
1. Calculation of maximum loan
amount. For purposes of
§ 226.43(c)(2)(iii) and (c)(5)(ii)(C), a
creditor must determine the maximum
loan amount for a negative amortization
loan by using the loan amount plus any
increase in principal balance that will
result from negative amortization based
on the terms of the legal obligation. In
determining the maximum loan amount,
a creditor must assume that the
consumer makes the minimum periodic
payment permitted under the loan
agreement for as long as possible, until
the consumer must begin making fully
amortizing payments; and that the
interest rate rises as quickly as possible
after consummation under the terms of
the legal obligation. Thus, creditors
must assume that the consumer makes
the minimum periodic payment until
any negative amortization cap is
reached or until the period permitting
minimum periodic payments expires,
whichever occurs first. ‘‘Loan amount’’
is defined in § 226.43(b)(5); ‘‘negative
amortization loan’’ is defined in
§ 226.18(s)(7)(v).
2. Assumed interest rate. In
calculating the maximum loan amount
for an adjustable-rate mortgage that is a
negative amortization loan, the creditor
must assume that the interest rate will
increase as rapidly as possible after
consummation, taking into account any
periodic interest rate adjustment caps
provided in the loan agreement. For an
adjustable-rate mortgage with a lifetime
maximum interest rate but no periodic
interest rate adjustment cap, the creditor
must assume that the interest rate
increases to the maximum lifetime
interest rate at the first adjustment.

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3. Examples. The following are
examples of how to determine the
maximum loan amount for a negative
amortization loan (all amounts are
rounded):
i. Adjustable-rate mortgage with
negative amortization. A. Assume an
adjustable-rate mortgage in the amount
of $200,000 with a 30-year loan term.
The loan agreement provides that the
consumer can make minimum monthly
payments that cover only part of the
interest accrued each month until the
principal balance reaches 115% of its
original balance (i.e., a negative
amortization cap of 115%) or for the
first five years of the loan (60 monthly
payments), whichever occurs first. The
introductory interest rate at
consummation is 1.5%. One month after
consummation, the interest rate adjusts
and will adjust monthly thereafter based
on the specified index plus a margin of
3.5%. The maximum lifetime interest
rate is 10.5%; there are no other
periodic interest rate adjustment caps
that limit how quickly the maximum
lifetime rate may be reached. The
minimum monthly payment for the first
year is based on the initial interest rate
of 1.5%. After that, the minimum
monthly payment adjusts annually, but
may increase by no more than 7.5%
over the previous year’s payment. The
minimum monthly payment is $690 in
the first year, $742 in the second year,
and $798 in the first part of the third
year.
B. To determine the maximum loan
amount, assume that the initial interest
rate increases to the maximum lifetime
interest rate of 10.5% at the first
adjustment (i.e., the second month) and
accrues at that rate until the loan is
recast. Assume the consumer makes the
minimum monthly payments as
scheduled, which are capped at 7.5%
from year-to-year. As a result, the
consumer’s minimum monthly
payments are less than the interest
accrued each month, resulting in
negative amortization (i.e., the accrued
but unpaid interest is added to the
principal balance). Thus, assuming that
the consumer makes the minimum
monthly payments for as long as
possible and that the maximum interest
rate of 10.5% is reached at the first rate
adjustment (i.e., the second month), the
negative amortization cap of 115% is
reached on the due date of the 27th
monthly payment and the loan is recast.
The maximum loan amount as of the
due date of the 27th monthly payment
is $229,243.
ii. Fixed-rate, graduated payment
mortgage with negative amortization. A
loan in the amount of $200,000 has a 30year loan term. The loan agreement

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provides for a fixed interest rate of
7.5%, and requires the consumer to
make minimum monthly payments
during the first year, with payments
increasing 12.5% every year for four
years. The payment schedule provides
for payments of $943 in the first year,
$1,061 in the second year, $1,194 in the
third year, $1,343 in the fourth year, and
$1,511 for the remaining term of the
loan. During the first three years of the
loan, the payments are less than the
interest accrued each month, resulting
in negative amortization. Assuming that
the consumer makes the minimum
periodic payments for as long as
possible, the maximum loan amount is
$207,659, which is reached at the end
of the third year of the loan (on the due
date of the 36th monthly payment). See
comment 43(c)(5)(ii)(C)–3 providing
examples of how to determine the
consumer’s repayment ability for a
negative amortization loan.
43(b)(8) Mortgage-related obligations.
1. General. Mortgage-related
obligations include expected property
taxes and premiums for mortgagerelated insurance required by the
creditor as set forth in § 226.45(b)(1),
such as insurance against loss of or
damage to property or against liability
arising out of the ownership or use of
the property, and insurance protecting
the creditor against the consumer’s
default or other credit loss. A creditor
need not include premiums for
mortgage-related insurance that it does
not require, such as an earthquake
insurance or credit insurance, or fees for
optional debt suspension and debt
cancellation agreements. Mortgagerelated obligations also include special
assessments that are imposed on the
consumer at or before consummation,
such as a one-time homeowners’
association fee that will not be paid by
the consumer in full at or before
consummation. See commentary to
§ 226.43(c)(2)(v), discussing the
requirement to take into account any
mortgage-related obligations.
43(b)(10) Prepayment penalty.
Paragraph 43(b)(10)(i)(A).
1. Interest accrual amortization
method. A prepayment penalty includes
charges determined by treating the loan
balance as outstanding for a period after
prepayment in full and applying the
interest rate to such balance, even if the
charge results from the interest accrual
amortization method used on the
transaction. ‘‘Interest accrual
amortization’’ refers to the method by
which the amount of interest due for
each period (e.g., month), in a
transaction’s term is determined. For
example, ‘‘monthly interest accrual

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amortization’’ treats each payment as
made on the scheduled, monthly due
date even if it is actually paid early or
late (until the expiration of a grace
period). Thus, under monthly interest
accrual amortization, if the amount of
interest due on May 1 for the preceding
month of April is $3000, the creditor
will require payment of $3000 in
interest whether the payment is made
on April 20, on May 1, or on May 10.
In this example, if the interest charged
for the month of April upon prepayment
in full on April 20 is $3000, the charge
constitutes a prepayment penalty of
$1000 because the amount of interest
actually earned through April 20 is only
$2000.
43(b)(11) Recast.
1. Date of the recast. The term ‘‘recast’’
means, for an adjustable-rate mortgage,
the expiration of the period during
which payments based on the
introductory fixed rate are permitted; for
an interest-only loan, the expiration of
the period during which the interestonly payments are permitted; and, for a
negative amortization loan, the
expiration of the period during which
negatively amortizing payments are
permitted. For adjustable-rate
mortgages, interest-only loans, and
negative amortization loans, the date on
which the ‘‘recast’’ is considered to
occur is the due date of the last monthly
payment based on the introductory
fixed rate, the interest-only payment, or
the negatively amortizing payment,
respectively. To illustrate: A loan in an
amount of $200,000 has a 30-year loan
term. The loan agreement provides for a
fixed interest rate and permits interestonly payments for the first five years of
the loan (60 months). The loan is recast
on the due date of the 60th monthly
payment. Thus, the term of the loan
remaining as of the date the loan is
recast is 25 years (300 months).
43(b)(12) Simultaneous loan.
1. General. Section 226.43(b)(12)
defines a simultaneous loan as another
covered transaction or home equity line
of credit subject to § 226.5b (HELOC)
that will be secured by the same
dwelling and made to the same
consumer at or before consummation of
the covered transaction, whether it is
made by the same creditor or a thirdparty creditor. For example, assume a
consumer will enter into a legal
obligation that is a covered transaction
with Creditor A. Immediately prior to
consummation of the covered
transaction with Creditor A, the
consumer opens a HELOC that is
secured by the same dwelling with
Creditor B. For purposes of this section,
the loan extended by Creditor B is a
simultaneous loan. See commentary to

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§ 226.43(c)(2)(iv) and (c)(6), discussing
the requirement to consider the
consumer’s payment obligation on any
simultaneous loan for purposes of
determining the consumer’s ability to
repay the covered transaction subject to
this section.
2. Same consumer. For purposes of
the definition of ‘‘simultaneous loan,’’
the term ‘‘same consumer’’ includes any
consumer, as that term is defined in
§ 226.2(a)(11), that enters into a loan
that is a covered transaction and also
enters into another loan (e.g., secondlien covered transaction or HELOC)
secured by the same dwelling. Where
two or more consumers enter into a
legal obligation that is a covered
transaction, but only one of them enters
into another loan secured by the same
dwelling, the ‘‘same consumer’’ includes
the person that has entered into both
legal obligations. For example, assume
Consumer A and Consumer B will both
enter into a legal obligation that is a
covered transaction with a creditor.
Immediately prior to consummation of
the covered transaction, Consumer B
opens a HELOC that is secured by the
same dwelling with the same creditor;
Consumer A is not a signatory to the
HELOC. For purposes of this definition,
Consumer B is the same consumer and
the creditor must include the HELOC as
a simultaneous loan.
43(b)(13) Third-party record.
1. Electronic records. Third-party
records include records transmitted
electronically. For example, to verify a
consumer’s credit history using thirdparty records as required by
§ 226.43(c)(2)(viii) and 226.43(c)(3),
creditors may use a credit report
prepared by a consumer reporting
agency and transmitted or viewed
electronically.
2. Forms. A record prepared by a third
party includes a form a creditor gives a
third party for providing information,
even if the creditor completes parts of
the form unrelated to the information
sought. For example, if a creditor gives
a consumer’s employer a form for
verifying the consumer’s employment
status and income, the creditor may fill
in the creditor’s name and other
portions of the form unrelated to the
consumer’s employment status or
income.
Paragraph 43(b)(13)(i).
1. Reviewed record. Under
§ 226.43(b)(13)(i), a third-party record
includes a document or other record
prepared by the consumer, the creditor,
the mortgage broker, or the creditor’s or
mortgage broker’s agent, if the record is
reviewed by a third party. For example,
a profit-and-loss statement prepared by
a self-employed consumer and reviewed

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by a third-party accountant is a thirdparty record under § 226.43(b)(13)(i).
Paragraph 43(b)(13)(iii).
1. Creditor’s records. Section
226.43(b)(13)(iii) provides that thirdparty record includes a record the
creditor maintains for an account of the
consumer held by the creditor.
Examples of such accounts include
checking accounts, savings accounts,
and retirement accounts. Examples of
such accounts also include accounts
related to a consumer’s outstanding
obligations to a creditor. For example, a
third-party record includes the
creditor’s records for a first-lien
mortgage to a consumer who applies for
a subordinate-lien home equity loan.
43(c) Repayment ability.
1. Widely accepted standards. To
evaluate a consumer’s repayment ability
under § 226.43(c), creditors may look to
widely accepted governmental or nongovernmental underwriting standards,
such as the Federal Housing
Administration’s handbook on Mortgage
Credit Analysis for Mortgage Insurance
on One- to Four-Unit Mortgage Loans.
For example, creditors may use such
standards in determining:
i. Whether to classify particular
inflows, obligations, or property as
‘‘income,’’ ‘‘debt,’’ or ‘‘assets’’;
ii. Factors to consider in evaluating
the income of a self-employed or
seasonally employed consumer; and
iii. Factors to consider in evaluating
the credit history of a consumer who
has obtained few or no extensions of
traditional ‘‘credit,’’ as defined in
§ 226.2(a)(14).
43(c)(1) General requirement.
1. Repayment ability at
consummation. Section 226.43(c)(1)
requires the creditor to determine that a
consumer will have a reasonable ability
at the time the loan is consummated to
repay the loan. A change in the
consumer’s circumstances after
consummation (for example, a
significant reduction in income due to
a job loss or a significant obligation
arising from a major medical expense)
that is not reflected in the consumer’s
application or the records used to
determine repayment ability is not
relevant to determining a creditor’s
compliance with the rule. However, if
the application or records state there
will be a change in a consumer’s
repayment ability after consummation
(for example, if a consumer’s
application states that the consumer
plans to retire within 12 months
without obtaining new employment or
that the consumer will transition from
full-time to part-time employment), the
creditor must consider that information.

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2. Interaction with Regulation B.
Section 226.43(c)(1) does not require or
permit the creditor to make inquiries or
verifications that would be prohibited
by Regulation B, 12 CFR part 202.
Paragraph 43(c)(2)(i).
1. Income or assets generally. A
creditor may base its determination of
repayment ability on current or
reasonably expected income from
employment or other sources, assets
other than the dwelling that secures the
covered transaction, or both. The
creditor may consider any type of
current or reasonably expected income,
including, for example, the following:
Salary; wages; self-employment income;
military or reserve duty income; bonus
pay; tips; commissions; interest
payments; dividends; retirement
benefits or entitlements; rental income;
royalty payments; trust income; public
assistance payments; and alimony, child
support, and separate maintenance
payments. The creditor may consider
any of the consumer’s assets, other than
the value of the dwelling that secures
the covered transaction, including, for
example, the following: funds in a
savings or checking account, amounts
vested in a retirement account, stocks,
bonds, certificates of deposit, and
amounts available to the consumer from
a trust fund. (For purposes of
§ 226.43(c)(2)(i), the value of the
dwelling includes the value of the real
property to which the real property is
attached, if the real property also
secures the covered transaction. See
comment 43(a)–2.)
2. Income or assets relied on. If a
creditor bases its determination of
repayment ability entirely or in part on
a consumer’s income, the creditor need
consider only the income necessary to
support a determination that the
consumer can repay the covered
transaction. For example, if a
consumer’s loan application states that
the consumer earns an annual salary
from both a full-time job and a part-time
job and the creditor reasonably
determines that the consumer’s income
from the full-time job is sufficient to
repay the loan, the creditor need not
consider the consumer’s income from
the part-time job. Further, a creditor
need verify only the income (and assets)
relied on to determine the consumer’s
repayment ability. See comment
43(c)(4)–1.
3. Expected income. If a creditor relies
on expected income, either in addition
to or instead of current income, the
expectation that the income will be
available for repayment must be
reasonable and verified with third-party
records that provide reasonably reliable
evidence of the consumer’s expected

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income. For example, if the creditor
relies on an expectation that a consumer
will receive an annual bonus, the
creditor may verify the basis for that
expectation with records that show the
consumer’s past annual bonuses, and
the expected bonus must bear a
reasonable relationship to the past
bonuses. Similarly, if the creditor relies
on a consumer’s expected salary from a
job the consumer has accepted and will
begin after receiving an educational
degree, the creditor may verify that
expectation with a written statement
from an employer indicating that the
consumer will be employed upon
graduation at a specified salary.
4. Seasonal or irregular income. A
creditor reasonably may determine that
a consumer can make periodic loan
payments even if the consumer’s
income, such as self-employment
income, is seasonal or irregular. For
example, assume a consumer receives
income during a few months each year
from the sale of crops. If the creditor
determines that the consumer’s annual
income divided equally across 12
months is sufficient for the consumer to
make monthly loan payments, the
creditor reasonably may determine that
the consumer can repay the loan, even
though the consumer may not receive
income during certain months.
Paragraph 43(c)(2)(ii).
1. Employment status and income.
Employment may be full-time, parttime, seasonal, irregular, military, or
self-employment. Under
§ 226.43(c)(2)(ii), a creditor need verify
a consumer’s current employment status
only if the creditor relies on the
consumer’s employment income in
determining the consumer’s repayment
ability. For example, if a creditor relies
wholly on a consumer’s investment
income to determine repayment ability,
the creditor need not verify or document
employment status. See comment
43(c)(4)–2 for guidance on which
income to consider where multiple
consumers apply jointly for a loan.
2. Military personnel. Creditors may
verify the employment status of military
personnel using the electronic database
maintained by the Department of
Defense to facilitate identification of
consumers covered by credit protections
provided pursuant to 10 U.S.C. 987.
Paragraph 43(c)(2)(iii).
1. General. For purposes of the
repayment ability determination
required under § 226.43(c)(2), a creditor
must consider the consumer’s monthly
payment on a covered transaction that is
calculated as required under
§ 226.43(c)(5), taking into account any
mortgage-related obligations. ‘‘Mortgage-

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related obligations’’ is defined in
§ 226.43(b)(8).
Paragraph 43(c)(2)(iv).
1. Home equity lines of credit. For
purposes of § 226.43(c)(2)(iv), a
simultaneous loan includes any covered
transaction or home equity line of credit
subject to § 226.5b (HELOC) that will be
made to the same consumer at or before
consummation of the covered
transaction and secured by the same
dwelling that secures the covered
transaction. A HELOC that is a
simultaneous loan that the creditor
knows or has reason to know about
must be considered as a mortgage
obligation in determining a consumer’s
ability to repay the covered transaction
even though the HELOC is not a covered
transaction subject to § 226.43. See
§ 226.43(a) discussing the scope of this
section. ‘‘Simultaneous loan’’ is defined
in § 226.43(b)(12). For further
explanation of ‘‘same consumer,’’ see
comment 43(b)(12)–2.
2. Knows or has reason to know. In
determining a consumer’s repayment
ability for a covered transaction under
§ 226.43(c)(2), a creditor must consider
the consumer’s payment obligation on
any simultaneous loan that the creditor
knows or has reason to know will be
made at or before consummation of the
covered transaction. For example, where
a covered transaction is a home
purchase loan, the creditor must
consider the consumer’s periodic
payment obligation for any ‘‘piggyback’’
second-lien loan that the creditor knows
or has reason to know will be used to
finance part of the consumer’s down
payment. The creditor complies with
this requirement where, for example,
the creditor follows policies and
procedures that show at or before
consummation that the same consumer
has applied for another credit
transaction secured by the same
dwelling. To illustrate, assume a
creditor receives an application for a
home purchase loan where the
requested loan amount is less than the
home purchase price. The creditor’s
policies and procedures require the
consumer to state the source of the
downpayment. If the creditor
determines the source of the
downpayment is another extension of
credit that will be made to the same
consumer at or before consummation
and secured by the same dwelling, the
creditor knows or has reason to know of
the simultaneous loan and must
consider the simultaneous loan.
Alternatively, if the creditor has
information that suggests the
downpayment source is the consumer’s
income or existing assets, the creditor
would be under no further obligation to

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determine whether a simultaneous loan
will be extended at or before
consummation of the covered
transaction.
3. Scope of timing. For purposes of
§ 226.43(c)(2)(iv), a simultaneous loan
includes a loan that comes into
existence concurrently with the covered
transaction subject to § 226.43(c). In all
cases, a simultaneous loan does not
include a credit transaction that occurs
after consummation of the covered
transaction that is subject to this
section.
4. Verification of simultaneous loans.
Although a credit report may be used to
verify current obligations, it will not
reflect a simultaneous loan that has not
yet been consummated or has just
recently been consummated. If the
creditor knows or has reason to know
that there will be a simultaneous loan
extended at or before consummation,
the creditor may verify the simultaneous
loan by obtaining third-party
verification from the third-party creditor
of the simultaneous loan. For example,
the creditor may obtain a copy of the
promissory note or other written
verification from the third-party creditor
in accordance with widely accepted
governmental or non-governmental
standards. For further guidance, see
comments 43(c)(3)–1 and –2 discussing
verification using third-party records.
43(c)(2)(v) Mortgage-related
obligations.
1. General. A creditor must include in
its repayment ability assessment the
consumer’s mortgage-related
obligations, such as the expected
property taxes and premiums for
mortgage-related insurance required by
the creditor as set forth in § 226.45(b)(1),
but need not include mortgage-related
insurance premiums that the creditor
does not require, such as credit
insurance or fees for operational debt
suspension and debt cancellation
agreements. Mortgage-related
obligations must be included in the
creditor’s determination of repayment
ability regardless of whether the
amounts are included in the monthly
payment or whether there is an escrow
account established. See § 226.43(b)(8)
defining the term ‘‘mortgage-related
obligations.’’
2. Pro rata amount. In considering
mortgage-related obligations that are not
paid monthly, a creditor may look to
widely accepted governmental or nongovernmental standards in determining
the pro rata monthly payment amount.
3. Estimates. Estimates of mortgagerelated obligations should be based
upon information that is known to the
creditor at the time the creditor
underwrites the mortgage obligation.

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Information is known if it is reasonably
available to the creditor at the time of
underwriting the loan. See comment
17(c)(2)(i)–1 discussing the ‘‘reasonably
available’’ standard. For purposes of this
section, the creditor need not project
potential changes, such as by estimating
possible increases in taxes and
insurance.
4. Verification of mortgage-related
obligations. Creditors must make the
repayment ability determination
required under § 226.43(c) based on
information verified from reasonably
reliable records. For guidance regarding
verification of mortgage-related
obligations see comments 43(c)(3)–1 and
–2, which discuss verification using
third-party records.
Paragraph 43(c)(2)(vi).
1. Consideration and verification of
current debt obligations. In determining
how to define ‘‘current debt obligations’’
and how to verify such obligations,
creditors may look to widely accepted
governmental and non-governmental
underwriting standards. For example, a
creditor must consider student loans,
automobile loans, revolving debt,
alimony, child support, and existing
mortgages. To verify the obligations as
required by § 226.43(c)(3), a creditor
may, for instance, look to credit reports,
student loan statements, automobile
loan statements, credit card statements,
alimony or child support court orders,
and existing mortgage statements.
2. Discrepancies between a credit
report and an application. If a credit
report reflects a current debt obligation
that a consumer has not listed on the
application, the creditor must consider
the obligation. The credit report is
deemed a reasonably reliable third-party
record under § 226.43(c)(3). If a credit
report does not reflect a current debt
obligation that a consumer has listed on
the application, the creditor must
consider the obligation. However, the
creditor need not verify the existence or
amount of the obligation through
another source. If a creditor nevertheless
verifies an obligation, the creditor must
consider the obligation based on the
information from the verified source.
Paragraph 43(c)(2)(vii).
1. Monthly debt-to-income ratio and
residual income. See § 226.43(c)(7)
regarding the definitions and
calculations for the monthly debt-toincome ratio and residual income.
Paragraph 43(c)(2)(viii).
1. Consideration and verification of
credit history. In determining how to
define ‘‘credit history’’ and how to verify
credit history, creditors may look to
widely accepted governmental and nongovernmental underwriting standards.
For example, a creditor may consider

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factors such as the number and age of
credit lines, payment history, and any
judgments, collections, or bankruptcies.
To verify credit history as required by
§ 226.43(c)(3), a creditor may, for
instance, look to credit reports from
credit bureaus, or nontraditional credit
references contained in third-party
documents, such as rental payment
history or public utility payments.
43(c)(3) Verification using third-party
records.
1. Records specific to the individual
consumer. Records used to verify a
consumer’s repayment ability must be
specific to the individual consumer.
Records regarding average incomes in
the consumer’s geographic location or
average incomes paid by the consumer’s
employer, for example, would not be
specific to the individual consumer and
are not sufficient.
2. Obtaining records. To determine
repayment ability, creditors may obtain
records from a third-party service
provider, such as a party the consumer’s
employer uses to respond to income
verification requests, as long as the
records are reasonably reliable and
specific to the individual consumer.
Creditors also may obtain third-party
records directly from the consumer. For
example, creditors using payroll
statements to verify the consumer’s
income (as allowed under
§ 226.43(c)(4)(iii) may obtain the payroll
statements from the consumer.
43(c)(4) Verification of income or
assets.
1. Income or assets relied on. A
creditor need consider, and therefore
need verify, only the income or assets
the creditor relies on to evaluate the
consumer’s repayment ability. See
comment 43(c)(2)(i)–2. For example, if a
consumer’s application states that the
consumer earns a salary and is paid an
annual bonus and the creditor relies on
only the consumer’s salary to evaluate
the consumer’s repayment ability, the
creditor need verify only the salary.
2. Multiple applicants. If multiple
consumers jointly apply for a loan and
each lists income or assets on the
application, the creditor need verify
only the income or assets the creditor
relies on in determining repayment
ability.
3. Tax-return transcript. Under
§ 226.43(c)(4), creditors may verify a
consumer’s income using an Internal
Revenue Service (IRS) tax-return
transcript, which summarizes the
information in a consumer’s filed tax
return, another record that provides
reasonably reliable evidence of the
consumer’s income, or both. Creditors
may obtain a copy of a tax-return
transcript or a filed tax return directly

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from the consumer or from a service
provider and need not obtain the copy
directly from the IRS or other taxing
authority. See comment 43(c)(3)–2.
Paragraph 43(c)(4)(vi).
1. Government benefits. In verifying a
consumer’s income, creditors may use a
written or electronic record from a
government agency of the amount of any
benefit payments or awards, such as a
‘‘proof of income letter’’ issued by the
Social Security Administration (also
known as a ‘‘budget letter,’’ ‘‘benefits
letter,’’ or ‘‘proof of award letter’’).
43(c)(5) Payment calculation.
43(c)(5)(i) General rule.
1. General. For purposes of
§ 226.43(c)(2)(iii), a creditor must
determine the consumer’s ability to
repay the covered transaction using the
payment calculation methods set forth
in § 226.43(c)(5). The payment
calculation methods differ depending
on whether the covered transaction has
a balloon payment, or is an interest-only
or negative amortization loan. The
payment calculation method set forth in
§ 226.43(c)(5)(i) applies to any covered
transaction that does not have a balloon
payment, or that is not an interest-only
or negative amortization loan, whether
it is a fixed-rate, adjustable-rate or steprate mortgage. The terms ‘‘fixed-rate
mortgage,’’ ‘‘adjustable-rate mortgage,’’
‘‘step-rate mortgage,’’ ‘‘interest-only loan’’
and ‘‘negative amortization loan,’’ are
defined in § 226.18(s)(7)(i), (ii), (iii), (iv)
and (v), respectively. For the meaning of
the term ‘‘balloon payment,’’ see
§ 226.18(s)(5)(i). The payment
calculation method set forth in
§ 226.43(c)(5)(ii) applies to any covered
transaction that is a loan with a balloon
payment, interest-only loan, or negative
amortization loan. See commentary to
§ 226.43(c)(5)(i) and (ii), which provides
examples for calculating the monthly
payment for purposes of the repayment
ability determination required under
§ 226.43(c)(2)(iii).
2. Greater of the fully indexed rate or
introductory rate; premium adjustablerate transactions. A creditor must
determine a consumer’s repayment
ability for the covered transaction using
substantially equal, monthly, fully
amortizing payments that are based on
the greater of the fully indexed rate or
any introductory interest rate. In some
adjustable-rate transactions, creditors
may set an initial interest rate that is not
determined by the index or formula
used to make later interest rate
adjustments. Typically, this initial rate
charged to consumers is lower than the
rate would be if it were determined by
using the the index plus margin, or
formula (i.e., fully indexed rate).
However, an initial rate that is a

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premium rate is higher than the rate
based on the index or formula. In such
cases, creditors must calculate the fully
amortizing payment based on the initial
‘‘premium’’ rate. ‘‘Fully indexed rate’’ is
defined in § 226.43(b)(3).
3. Monthly, fully amortizing
payments. Section 226.43(c)(5)(i) does
not prescribe the terms or loan features
that a creditor may choose to offer or
extend to a consumer, but establishes
the calculation method a creditor must
use to determine the consumer’s
repayment ability for a covered
transaction. For example, the terms of
the loan agreement may require that the
consumer repay the loan in quarterly or
bi-weekly scheduled payments, but for
purposes of the repayment ability
determination, the creditor must convert
these scheduled payments to monthly
payments in accordance with
§ 226.43(c)(5)(i)(B). Similarly, the loan
agreement may not require the
consumer to make fully amortizing
payments, but for purposes of the
repayment ability determination the
creditor must convert any nonamortizing payments to fully amortizing
payments.
4. Substantially equal. In determining
whether monthly, fully amortizing
payments are substantially equal,
creditors should disregard minor
variations due to payment-schedule
irregularities and odd periods, such as
a long or short first or last payment
period. That is, monthly payments of
principal and interest that repay the
loan amount over the loan term need
not be equal, but the monthly payments
should be substantially the same
without significant variation in the
monthly combined payments of both
principal and interest. For example,
where no two monthly payments vary
from each other by more than 1%
(excluding odd periods, such as a long
or short first or last payment period),
such monthly payments would be
considered substantially equal for
purposes of this section. In general,
creditors should determine whether the
monthly, fully amortizing payments are
substantially equal based on guidance
provided in § 226.17(c)(3) (discussing
minor variations), and § 226.17(c)(4)(i)–
(iii) (discussing payment-schedule
irregularities and measuring odd
periods due to a long or short first
period) and associated commentary.
5. Examples. The following are
examples of how to determine the
consumer’s repayment ability based on
substantially equal, monthly, fully
amortizing payments as required under
§ 226.43(c)(5)(i) (all amounts are
rounded):

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i. Fixed-rate mortgage. A loan in an
amount of $200,000 has a 30-year loan
term and a fixed interest rate of 7%. For
purposes of § 226.43(c)(2)(iii), the
creditor must determine the consumer’s
ability to repay the loan based on a
payment of $1,331, which is the
substantially equal, monthly, fully
amortizing payment that will repay
$200,000 over 30 years using the fixed
interest rate of 7%.
ii. Adjustable-rate mortgage with
discount for five years. A loan in an
amount of $200,000 has a 30-year loan
term. The loan agreement provides for a
discounted interest rate of 6% that is
fixed for an initial period of five years,
after which the interest rate will adjust
annually based on a specified index
plus a margin of 3%, subject to a 2%
annual periodic interest rate adjustment
cap. The index value in effect at
consummation is 4.5%; the fully
indexed rate is 7.5% (4.5% plus 3%).
Even though the scheduled monthly
payment required for the first five years
is $1,199, for purposes of
§ 226.43(c)(2)(iii) the creditor must
determine the consumer’s ability to
repay the loan based on a payment of
$1,398, which is the substantially equal,
monthly, fully amortizing payment that
will repay $200,000 over 30 years using
the fully indexed rate of 7.5%.
iii. Step-rate mortgage. A loan in an
amount of $200,000 has a 30-year loan
term. The loan agreement provides that
the interest rate will be 6.5% for the first
two years of the loan, 7% for the next
three years of the loan, and 7.5%
thereafter. Accordingly, the scheduled
payment amounts are $1,264 for the first
two years, $1,328 for the next three
years, and $1,388 thereafter for the
remainder of the term. For purposes of
§ 226.43(c)(2)(iii), the creditor must
determine the consumer’s ability to
repay the loan based on a payment of
$1,398, which is the substantially equal,
monthly, fully amortizing payment that
would repay $200,000 over 30 years
using the fully indexed rate of 7.5%.
43(c)(5)(ii) Special rules for loans with
a balloon payment, interest-only loans,
and negative amortization loans.
Paragraph 43(c)(5)(ii)(A).
1. General. For loans with a balloon
payment, the rules differ depending on
whether the loan is a higher-priced
covered transaction, as defined under
§ 226.43(b)(4), or is not a higher-priced
covered transaction because the annual
percentage rate does not exceed the
applicable average prime offer rate
(APOR) for a comparable transaction.
‘‘Average prime offer rate’’ is defined in
§ 226.45(a)(2)(ii); ‘‘higher-priced covered
transaction’’ is defined in § 226.43(b)(4).
For higher-priced covered transactions

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with a balloon payment, the creditor
must consider the consumer’s ability to
repay the loan based on the payment
schedule under the terms of the legal
obligation, including any required
balloon payment. For loans with a
balloon payment that are not higherpriced covered transactions, the creditor
should use the maximum payment
scheduled during the first five years of
the loan following consummation.
‘‘Balloon payment’’ is defined in
§ 226.18(s)(5)(i).
2. First five years after consummation.
Under § 226.43(c)(5)(ii)(A)(1), the
creditor must determine a consumer’s
ability to repay a loan with a balloon
payment that is not a higher-priced
covered transaction using the maximum
payment scheduled during the first five
years (60 months) after consummation.
For example, assume a loan with a
balloon payment due at the end of a
five-year loan term. The loan is
consummated on August 15, 2011, and
the first monthly payment is due on
October 1, 2011. The first five years after
consummation occurs on August 15,
2016. The balloon payment must be
made on the due date of the 60th
monthly payment, which is September
1, 2016. For purposes of determining the
consumer’s ability to repay the loan
under § 226.43(c)(2)(iii), the creditor
need not consider the balloon payment
that is due on September 1, 2016.
3. Renewable balloon loan; loan term.
A balloon loan that is not a higherpriced covered transaction could
provide that a creditor is
unconditionally obligated to renew a
balloon loan at the consumer’s option
(or is obligated to renew subject to
conditions within the consumer’s
control). See comment 17(c)(1)–11
discussing renewable balloon loans. For
purposes of this section, the loan term
does not include any the period of time
that could result from a renewal
provision. To illustrate, assume a 3-year
balloon loan that is not a higher-priced
covered transaction contains an
unconditional obligation to renew for
another three years at the consumer’s
option. In this example, the loan term
for the balloon loan is 3 years, and not
the potential 6 years that could result if
the consumer chooses to renew the loan.
Accordingly, the creditor must
underwrite the loan using the maximum
payment scheduled in the first five
years after consummation, which
includes the balloon payment due at the
end of the 3-year loan term. See
comment 43(c)(5)(ii)(A).ii, which
provides an example of how to
determine the consumer’s repayment
ability for a 3-year renewable balloon
loan.

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4. Examples of loans with a balloon
payment that are not higher-priced
covered transactions. The following are
examples of how to determine the
maximum payment scheduled during
the first five years after consummation
(all amounts are rounded):
i. Balloon payment loan with a threeyear loan term; fixed interest rate. A
loan agreement provides for a fixed
interest rate of 6%, which is below the
APOR threshold for a comparable
transaction, thus the loan is not a
higher-priced covered transaction. The
loan amount is $200,000, and the loan
has a three-year loan term but is
amortized over 30 years. The monthly
payment scheduled for the first three
years following consummation is
$1,199, with a balloon payment of
$193,367 due at the end of the third
year. For purposes of § 226.43(c)(2)(iii),
the creditor must determine the
consumer’s ability to repay the loan
based on the balloon payment of
$193,367.
ii. Renewable balloon payment loan
with a three-year loan term. Assume the
same facts above in 43(c)(5)(ii)(A).i,
except that the loan agreement also
provides that the creditor is
unconditionally obligated to renew the
balloon payment mortgage at the
consumer’s option at the end of the
three-year term for another three years
(the creditor retains the option to
increase the interest rate at the time of
renewal). In determining the maximum
payment scheduled during the first five
years after consummation, the creditor
must use a loan term of three years.
Accordingly, for purposes of
§ 226.43(c)(2)(iii), the creditor must
determine the consumer’s ability to
repay the loan based on the balloon
payment of $193,367.
iii. Balloon payment loan with a fiveyear loan term; fixed interest rate. A
loan provides for a fixed interest rate of
6%, which is below the APOR threshold
for a comparable transaction, and thus,
the loan is not a higher-priced covered
transaction. The loan amount is
$200,000, and the loan has a five-year
loan term but is amortized over 30
years. The loan is consummated on
March 15, 2011, and the monthly
payment scheduled for the first five
years following consummation is
$1,199, with the first monthly payment
due on May 1, 2011. The first five years
after consummation end on March 15,
2016. The balloon payment of $187,308
is required on the due date of the 60th
monthly payment, which is April 1,
2016 (more than five years after
consummation). For purposes of
§ 226.43(c)(2)(iii), the creditor must
determine the consumer’s ability to

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repay the loan based on the monthly
payment of $1,199, and need not
consider the balloon payment of
$187,308 due on April 1, 2016.
5. Example of a higher-priced covered
transaction with a balloon payment.
The following is an example of how to
determine the consumer’s repayment
ability based on the loan’s payment
schedule, including any balloon
payment (all amounts are rounded):
i. Balloon payment loan with a 10year loan term; fixed interest rate. The
loan is a higher-priced covered
transaction with a fixed interest rate of
7%. The loan amount is $200,000 and
the loan has a 10-year loan term, but is
amortized over 30 years. The monthly
payment scheduled for the first ten
years is $1,331, with a balloon payment
of $172,956. For purposes of
§ 226.43(c)(2)(iii), the creditor must
consider the consumer’s ability to repay
the loan based on the payment schedule
that fully repays the loan amount,
including the balloon payment of
$172,956.
Paragraph 43(c)(5)(ii)(B).
1. General. For loans that permit
interest-only payments, the creditor
must use the fully indexed rate or
introductory rate, whichever is greater,
to calculate the substantially equal,
monthly payment of principal and
interest that will repay the loan amount
over the term of the loan remaining as
of the date the loan is recast. For
discussion regarding the fully indexed
rate and the meaning of ‘‘substantially
equal,’’ see comments 43(b)(3)–1
through –5 and 43(c)(5)(i)–4,
respectively. Under § 226.43(c)(5)(ii)(B),
the relevant term of the loan is the
period of time that remains as of the
date the loan is recast to require fully
amortizing payments. For a loan on
which only interest and no principal
has been paid, the loan amount will be
the outstanding principal balance at the
time of the recast. ‘‘Loan amount’’ and
‘‘recast’’ are defined in § 226.43(b)(5) and
(b)(11), respectively. ‘‘Interest-only’’ and
‘‘Interest-only loan’’ are defined in
§ 226.18(s)(7)(iv).
2. Examples. The following are
examples of how to determine the
consumer’s repayment ability based on
substantially equal, monthly payments
of principal and interest under
§ 226.43(c)(5)(ii)(B) (all amounts are
rounded):
i. Fixed-rate mortgage with interestonly payments for five years. A loan in
an amount of $200,000 has a 30-year
loan term. The loan agreement provides
for a fixed interest rate of 7%, and
permits interest-only payments for the
first five years. The monthly payment of
$1167 scheduled for the first five years

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would cover only the interest due. The
loan is recast on the due date of the 60th
monthly payment, after which the
scheduled monthly payments increase
to $1414, a monthly payment that
repays the loan amount of $200,000 over
the 25 years remaining as of the date the
loan is recast (300 months). For
purposes of § 226.43(c)(2)(iii), the
creditor must determine the consumer’s
ability to repay the loan based on a
payment of $1414, which is the
substantially equal, monthly, fully
amortizing payment that would repay
$200,000 over the 25 years remaining as
of the date the loan is recast using the
fixed interest rate of 7%.
ii. Adjustable-rate mortgage with
discount for three years and interestonly payments for five years. A loan in
an amount of $200,000 has a 30-year
loan term, but provides for interest-only
payments for the first five years. The
loan agreement provides for a
discounted interest rate of 5% that is
fixed for an initial period of three years,
after which the interest rate will adjust
each year based on a specified index
plus a margin of 3%, subject to an
annual interest rate adjustment cap of
2%. The index value in effect at
consummation is 4.5%; the fully
indexed rate is 7.5% (4.5% plus 3%).
The monthly payments of $833 for the
first three years and $1250 for the
following two years would cover only
the interest due. The loan is recast on
the due date of the 60th monthly
payment, after which the scheduled
monthly payments increase to $1478, a
monthly payment that will repay the
loan amount of $200,000 over the
remaining 25 years of the loan (300
months). For purposes of
§ 226.43(c)(2)(iii), the creditor must
determine the consumer’s ability to
repay the loan based on a monthly
payment of $1,478, which is the
substantially equal, monthly payment of
principal and interest that would repay
$200,000 over the 25 years remaining as
of the date the loan is recast using the
fully indexed rate of 7.5%.
Paragraph 43(c)(5)(ii)(C).
1. General. For purposes of
determining the consumer’s ability to
repay a negative amortization loan, the
creditor must use substantially equal,
monthly payments of principal and
interest based on the fully indexed rate
or the introductory rate, whichever is
greater, that will repay the maximum
loan amount over the term of the loan
that remains as of the date the loan is
recast. Accordingly, before determining
the substantially equal, monthly
payments the creditor must first
determine the maximum loan amount
and the period of time that remains in

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the loan term after the loan is recast.
‘‘Recast’’ is defined in § 226.43(b)(11).
Second, the creditor must use the fully
indexed rate or introductory rate,
whichever is greater, to calculate the
substantially equal, monthly payment
amount that will repay the maximum
loan amount over the term of the loan
remaining as of the date the loan is
recast. For discussion regarding the
fully indexed rate and the meaning of
‘‘substantially equal,’’ see comments
43(b)(3)–1 through –5 and 43(c)(5)(i)–4,
respectively. For the meaning of the
term ‘‘maximum loan amount’’ and a
discussion of how to determine the
maximum loan amount for purposes of
§ 226.43(c)(5)(ii)(C), see § 226.43(b)(7)
and associated commentary. ‘‘Negative
amortization loan’’ is defined in
§ 226.18(s)(7)(v).
2. Term of loan. Under
§ 226.43(c)(5)(ii)(C), the relevant term of
the loan is the period of time that
remains as of the date the terms of the
legal obligation recast. That is, the
creditor must determine substantially
equal, monthly payments of principal
and interest that will repay the
maximum loan amount based on the
period of time that remains after any
negative amortization cap is triggered or
any period permitting minimum
periodic payments expires, whichever
occurs first.
3. Examples. The following are
examples of how to determine the
consumer’s repayment ability based on
substantially equal, monthly payments
of principal and interest as required
under § 226.43(c)(5)(ii)(C) (all amounts
are rounded):
i. Adjustable-rate mortgage with
negative amortization. A. Assume an
adjustable-rate mortgage in the amount
of $200,000 with a 30-year loan term.
The loan agreement provides that the
consumer can make minimum monthly
payments that cover only part of the
interest accrued each month until the
date on which the principal balance
reaches 115% of its original balance
(i.e., a negative amortization cap of
115%) or for the first five years of the
loan (60 monthly payments), whichever
occurs first. The introductory interest
rate at consummation is 1.5%. One
month after consummation, the interest
rate adjusts and will adjust monthly
thereafter based on the specified index
plus a margin of 3.5%. The index value
in effect at consummation is 4.5%; the
fully indexed rate is 8% (4.5% plus
3.5%). The maximum lifetime interest
rate is 10.5%; there are no other
periodic interest rate adjustment caps
that limit how quickly the maximum
lifetime rate may be reached. The
minimum monthly payment for the first

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year is based on the initial interest rate
of 1.5%. After that, the minimum
monthly payment adjusts annually, but
may increase by no more than 7.5%
over the previous year’s payment. The
minimum monthly payment is $690 in
the first year, $742 in the second year,
and $798 in the first part of the third
year.
B. To determine the maximum loan
amount, assume that the interest rate
increases to the maximum lifetime
interest rate of 10.5% at the first
adjustment (i.e., the second month), and
interest accrues at that rate until the
loan is recast. Assume that the
consumer makes the minimum monthly
payments scheduled, which are capped
at 7.5% from year-to-year, for the
maximum possible time. Because the
consumer’s minimum monthly
payments are less than the interest
accrued each month, negative
amortization occurs (i.e., the accrued
but unpaid interest is added to the
principal balance). Thus, assuming that
the consumer makes the minimum
monthly payments for as long as
possible and that the maximum interest
rate of 10.5% is reached at the first rate
adjustment (i.e., the second month), the
negative amortization cap of 115% is
reached on the due date of the 27th
monthly payment and the loan is recast
as of that date. The maximum loan
amount as of the due date of the 27th
monthly payment is $229,243, and the
remaining term of the loan is 27 years
and nine months (333 months).
C. For purposes of § 226.43(c)(2)(iii),
the creditor must determine the
consumer’s ability to repay the loan
based on a monthly payment of $1,716,
which is the substantially equal,
monthly payment of principal and
interest that will repay the maximum
loan amount of $229,243 over the
remaining loan term of 333 months
using the fully indexed rate of 8%. See
comments 43(b)(7)–1 and –2 discussing
the calculation of the maximum loan
amount, and § 226.43(b)(11) for the
meaning of the term ‘‘recast.’’
ii. Fixed-rate, graduated payment
mortgage. A loan in the amount of
$200,000 has a 30-year loan term. The
loan agreement provides for a fixedinterest rate of 7.5%, and requires the
consumer to make minimum monthly
payments during the first year, with
payments increasing 12.5% every year
for four years (the annual payment cap).
The payment schedule provides for
payments of $943 in the first year,
$1061 in the second year, $1194 in the
third year, $1343 in the fourth year, and
then requires $1511 for the remaining
term of the loan. During the first three
years of the loan, the payments are less

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than the interest accrued each month,
resulting in negative amortization.
Assuming the minimum payments
increase year-to-year up to the 12.5%
payment cap, the consumer will begin
making payments that cover at least all
of the interest accrued at the end of the
third year. Thus, the loan is recast on
the due date of the 36th monthly
payment. The maximum loan amount
on that date is $207,659, and the
remaining loan term is 27 years (324
months). For purposes of
§ 226.43(c)(2)(iii), the creditor must
determine the consumer’s ability to
repay the loan based on a monthly
payment of $1497, which is the
substantially equal, monthly payment of
principal and interest that will repay the
maximum loan amount of $207,659 over
the remaining loan term of 27 years
using the fixed interest rate of 7.5%.
43(c)(6) Payment calculation for
simultaneous loans.
1. Scope. In determining the
consumer’s repayment ability for a
covered transaction under
§ 226.43(c)(2)(iii), creditors must
include consideration of any
simultaneous loan which it knows, or
has reason to know, will be made at or
before consummation of the covered
transaction. For a discussion of the
standard ‘‘knows or has reason to
know,’’ see comment 43(c)(2)(iv)–2. For
the meaning of the term ‘‘simultaneous
loan,’’ see § 226.43(b)(12).
2. Payment calculation—covered
transaction. For a simultaneous loan
that is a covered transaction, as that
term is defined under § 226.43(b)(12), a
creditor must determine a consumer’s
ability to repay the monthly payment
obligation for a simultaneous loan as set
forth in § 226.43(c)(5), taking into
account any mortgage-related
obligations. For the meaning of the term
‘‘mortgage-related obligations,’’ see
§ 226.43(b)(8).
3. Payment calculation—home equity
line of credit. For a simultaneous loan
that is a home equity line of credit
subject to § 226.5b, the creditor must
consider the periodic payment required
under the terms of the plan when
assessing the consumer’s ability to repay
the covered transaction secured by the
same dwelling as the simultaneous loan.
Under § 226.43(c)(6)(ii), a creditor must
determine the periodic payment
required under the terms of the plan by
considering the actual amount of credit
to be drawn by the consumer at
consummation of the covered
transaction. The amount to be drawn is
the amount requested by the consumer;
when the amount requested will be
disbursed, or actual receipt of funds, is
not determinative. For example, where

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the creditor’s policies and procedures
require the source of downpayment to
be verified, and the creditor verifies that
a simultaneous loan that is a HELOC
will provide the source of
downpayment for the first-lien covered
transaction, the creditor must consider
the periodic payment on the HELOC by
assuming the amount drawn is the
downpayment amount. In general, a
creditor should determine the periodic
payment based on guidance in staff
commentary to § 226.5b(d)(5)
(discussing payment terms).
43(c)(7) Monthly debt-to-income ratio
or residual income.
1. Monthly debt-to-income ratio and
monthly residual income. Under
§ 226.43(c)(2)(vii), the creditor must
consider the consumer’s monthly debtto-income ratio, or the consumer’s
monthly residual income, in accordance
with the requirements in § 226.43(c)(7).
To determine the appropriate threshold
for the monthly debt-to-income ratio or
the monthly residual income, the
creditor may look to widely accepted
governmental and non-governmental
underwriting standards.
2. Use of both debt-to-income ratio
and monthly residual income. If a
creditor considers both the consumer’s
monthly debt-to-income ratio and the
residual income, the creditor may base
the ability-to-repay determination on
either the consumer’s debt-to-income
ratio or residual income, even if the
ability-to-repay determination would
differ with the basis used.
3. Compensating factors. The creditor
may consider compensating factors to
mitigate a higher debt-to-income ratio or
lower residual income. For example, the
creditor may consider the consumer’s
assets other than the dwelling securing
the covered transaction or the
consumer’s residual income as a
compensating factor for a higher debt-toincome ratio. In determining whether
and in what manner to consider
compensating factors, creditors may
look to widely accepted governmental
and non-governmental underwriting
standards.
43(d) Refinancing of non-standard
mortgages.
43(d)(1) Scope.
1. Written application. For an
explanation of the requirements for a
‘‘written application’’ in
§ 226.43(d)(1)(iii), (d)(1)(iv) and
(d)(1)(v), see comment 19(a)(1)(i)–3.
Paragraph 43(d)(1)(ii).
1. Materially lower. The exemptions
afforded under § 226.43(d)(3) apply to a
refinancing only if the monthly payment
for the new loan is ‘‘materially lower’’
than the monthly payment for an
existing non-standard mortgage. The

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payments to be compared must be
calculated based on the requirements
under § 226.43(d)(5). Whether the new
loan payment is ‘‘materially lower’’ than
the non-standard mortgage payment
depends on the facts and circumstances.
In all cases, a payment reduction of 10
percent or more meets the ‘‘materially
lower’’ standard.
Paragraph 43(d)(1)(iv).
1. Late payment—24 months prior to
application. Under § 226.43(d)(1)(iv),
the exemptions in § 226.43(d)(3) apply
to a covered transaction only if, during
the 24 months immediately preceding
the creditor’s receipt of the consumer’s
written application for a refinancing, the
consumer has made no more than one
payment on the non-standard mortgage
more than 30 days late. (For an
explanation of ‘‘written application,’’ see
comment 43(d)(1)–1.) For example,
assume a consumer applies for a
refinancing on May 1, 2011. Assume
also that the consumer made a nonstandard mortgage payment on August
15, 2009, that was 45 days late. The
consumer made no other late payments
on the non-standard mortgage between
May 1, 2009, and May 1, 2011. In this
example, the requirement under
§ 226.43(d)(1)(iv) is met because the
consumer made only one payment that
was over 30 days late within the 24
months prior to applying for the
refinancing (i.e., 20 and one-half months
prior to application).
2. Payment due date. Whether a
payment is more than 30 days late is
measured in relation to the contractual
due date not accounting for any grace
period. For example, if the contractual
due date for a non-standard mortgage
payment is the first day of every month,
but no late fee will be charged as long
as the payment is received by the 16th
of the month, the payment due date for
purposes of § 226.43(d)(1)(iv) and
(d)(1)(v) is the first day of the month,
not the 16th day of the month. Thus, a
payment due under the contract on
September 1st that is paid on October
1st is made more than 30 days after the
payment due date.
Paragraph 43(d)(1)(v).
1. Late payment—six months prior to
application. Under § 226.43(d)(1)(v), the
exemptions in § 226.43(d)(3) apply to a
covered transaction only if, during the
six months immediately preceding the
creditor’s receipt of the consumer’s
written application for a refinancing, the
consumer has made no payments on the
non-standard mortgage more than 30
days late. (For an explanation of
‘‘written application’’ and how to
determine the payment due date, see
comments 43(d)(1)–1 and 43(d)(1)(iv)–
2.) For example, assume a consumer

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with a non-standard mortgage applies
for a refinancing on May 1, 2011. If the
consumer made a 45-day late payment
on March 15, 2011, the requirement
under § 226.43(d)(1)(v) is not met
because the consumer made a payment
more than 30 days late just one and onehalf months prior to application. If the
number of months between
consummation of the non-standard
mortgage and the consumer’s
application for the standard mortgage is
six or fewer, the consumer may not have
made any payment more than 30 days
late on the non-standard mortgage.
43(d)(2) Definitions.
43(d)(2)(i) Non-standard mortgage.
Paragraph 43(d)(2)(i)(A).
1. Adjustable-rate mortgage with an
introductory fixed rate. Under
§ 226.43(d)(2)(i)(A), an adjustable-rate
mortgage with an introductory fixed
interest rate for one year or longer is
considered a ‘‘non-standard mortgage.’’
For example, a covered transaction that
has a fixed introductory rate for the first
two, three or five years and then
converts to a variable rate for the
remaining 28, 27 or 25 years,
respectively, is a ‘‘non-standard
mortgage.’’ A covered transaction with
an introductory rate for six months that
then converts to a variable rate for the
remaining 29 and 1⁄2 years is not a ‘‘nonstandard mortgage.’’
43(d)(2)(ii) Standard mortgage.
Paragraph 43(d)(2)(ii)(A).
1. Regular periodic payments. Under
§ 226.43(d)(2)(ii)(A), a ‘‘standard
mortgage’’ must provide for regular
periodic payments that do not result in
an increase of the principal balance
(negative amortization), allow the
consumer to defer repayment of
principal (see comment 43(e)(2)(i)–2), or
result in a balloon payment. Thus, the
terms of the legal obligation must
require the consumer to make payments
of principal and interest on a monthly
or other periodic basis that will repay
the loan amount over the loan term.
Except for payments resulting from any
interest rate changes after
consummation in an adjustable-rate or
step-rate mortgage, the periodic
payments must be substantially equal.
For an explanation of the term
‘‘substantially equal,’’ see comment
43(c)(5)(i)–4. In addition, a singlepayment transaction is not a ‘‘standard
mortgage’’ because it does not require
‘‘regular periodic payments.’’ See also
comment 43(e)(2)(i)–1.
Paragraph 43(d)(2)(ii)(D).
1. First five years after consummation.
A ‘‘standard mortgage’’ must have an
interest rate that is fixed for at least the
first five years (60 months) after
consummation. For example, assume an

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adjustable-rate mortgage that applies the
same fixed interest rate to determine the
first 60 payments of principal and
interest due. The loan consummates on
August 15, 2011, and the first monthly
payment is due on October 1, 2011. The
first five years after consummation
occurs on August 15, 2016. The first
interest rate adjustment occurs on the
due date of the 60th monthly payment,
which is September 1, 2016. This loan
meets the criterion for a ‘‘standard
mortgage’’ under § 226.43(d)(2)(ii)(D)
because the interest rate is fixed until
September 1, 2016, which is more than
five years after consummation. For
guidance regarding step-rate mortgages,
see comment 43(e)(2)(iv)–3.iii.
Paragraph 43(d)(2)(ii)(E).
1. Permissible use of proceeds. To
qualify as a ‘‘standard mortgage,’’ the
mortgage proceeds may be used for only
two purposes: paying off the nonstandard mortgage and paying for
closing costs, including paying escrow
amounts required at or before closing. If
the proceeds of a covered transaction
are used for other purposes, such as to
pay off other liens or to provide
additional cash to the consumer for
discretionary spending, the transaction
does not meet the definition of a
‘‘standard mortgage.’’
43(d)(3) Exemption from certain
repayment ability requirements.
Paragraph 43(d)(3)(i).
1. Two-part determination. To qualify
for the exemptions in § 226.43(d)(3), a
creditor must have considered, first,
whether the consumer is likely to
default on the existing mortgage once
that loan is recast, and second, whether
the new mortgage will prevent the
consumer’s default.
2. Likely default. In considering
whether a consumer is likely to default
on the standard mortgage once it is
recast, a creditor may look to widelyaccepted governmental and nongovernmental standards for analyzing a
consumer’s likelihood of default.
Paragraph 43(d)(3)(ii).
1. Payment calculation for repayment
ability requirements. If the conditions in
§ 226.43(d)(3)(i) are met, the creditor
may meet the payment calculation
requirements for determining a
consumer’s ability to repay the new loan
by applying the calculation prescribed
under § 226.43(d)(5)(ii), rather than the
calculations prescribed under
§ 226.43(c)(2)(iii) and (c)(5). For
example, assume that a ‘‘standard
mortgage’’ is an adjustable-rate mortgage
that has an initial fixed interest rate for
the first five years after consummation.
The loan consummates on August 15,
2011, and the first monthly payment is
due on October 1, 2011. Five years after

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consummation occurs on August 15,
2016. The first interest rate adjustment
occurs on the due date of the 60th
monthly payment, which is September
1, 2016. Under § 226.43(d)(3)(ii), to
calculate the payment required for the
ability-to-repay rule under
§ 226.43(c)(2)(iii), the creditor should
use the payment based on the interest
rate that is fixed for the first five years
after consummation (from August 15,
2011, until August 15, 2016), and is not
required to account for the payment
resulting after the first interest rate
adjustment on September 1, 2016.
43(d)(5) Payment calculations.
43(d)(5)(i) Non-standard mortgage.
1. Payment calculation for a nonstandard mortgage. In determining
whether the monthly periodic payment
for a standard mortgage is materially
lower than the monthly periodic
payment for the non-standard mortgage
under § 226.43(d)(1)(ii), the creditor
must consider the monthly payment for
the non-standard mortgage that will
result after the loan is ‘‘recast,’’ assuming
substantially equal payments of
principal and interest that amortize the
remaining loan amount over the
remaining term as of the date the
mortgage is recast. For guidance
regarding the meaning of ‘‘substantially
equal,’’ see comment 43(c)(5)(i)–4. For
the meaning of ‘‘recast,’’ see
§ 226.43(b)(11) and associated
commentary.
2. Fully indexed rate. The term ‘‘fully
indexed rate’’ in § 226.43(d)(5)(i)(A) for
calculating the payment for a nonstandard mortgage is generally defined
in § 226.43(b)(3) and associated
commentary. Under § 226.43(b)(3) the
fully indexed rate is calculated at the
time of consummation. For purposes of
§ 226.43(d)(5)(i), however, the fully
indexed rate is calculated within a
reasonable period of time before or after
the date the creditor receives the
consumer’s written application for the
standard mortgage. Thirty days is
generally considered ‘‘a reasonable
period of time.’’
3. Written application. For an
explanation of the requirements for a
‘‘written application’’ in
§ 226.43(d)(5)(i), see comment
19(a)(1)(i)–3.
4. Payment calculation for an
adjustable-rate mortgage with an
introductory fixed rate. Under
§ 226.43(d)(5)(i), the monthly periodic
payment for an adjustable-rate mortgage
with an introductory fixed interest rate
for a period of one or more years must
be calculated based on several
assumptions.
i. First, the payment must be based on
the outstanding principal balance as of

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the date on which the mortgage is
recast, assuming all scheduled
payments have been made up to that
date and the last payment due under
those terms is made and credited on that
date. For example, assume an
adjustable-rate mortgage with a 30-year
loan term. The loan agreement provides
that the payments for the first 24
months are based on a fixed rate, after
which the interest rate will adjust
annually based on a specified index and
margin. The loan is recast on the due
date of the 24th payment. If the 24th
payment is due on September 1, 2013,
the creditor must calculate the
outstanding principal balance as of
September 1, 2013, assuming that all 24
payments under the fixed rate terms
have been made and credited timely.
ii. Second, the payment calculation
must be based on substantially equal
monthly payments of principal and
interest that will fully repay the
outstanding principal balance over the
term of the loan remaining as of the date
the loan is recast. Thus, in the example
above, the creditor must assume a loan
term of 28 years (336 payments).
iii. Third, the payment must be based
on the fully indexed rate, as defined in
§ 226.43(b)(3), as of the date of the
written application for the standard
mortgage.
5. Example of payment calculation for
an adjustable-rate mortgage with an
introductory fixed rate. The following
example illustrates the rule described in
comment 43(d)(5)(i)–4:
i. A loan in an amount of $200,000
has a 30-year loan term. The loan
agreement provides for a discounted
introductory interest rate of 5% that is
fixed for an initial period of two years,
after which the interest rate will adjust
annually based on a specified index
plus a margin of 3 percentage points.
ii. The non-standard mortgage
consummates on February 15, 2011, and
the first monthly payment is due on
April 1, 2011. The loan is recast on the
due date of the 24th monthly payment,
which is March 1, 2013.
iii. On March 15, 2012, the creditor
receives the consumer’s written
application for a refinancing after the
consumer has made 12 monthly on-time
payments. On this date, the index value
is 4.5%.
iv. To calculate the non-standard
mortgage payment that must be
compared to the standard mortgage
payment under § 226.43(d)(1)(ii), the
creditor must use—
A. The outstanding principal balance
as of March 1, 2013, assuming all
scheduled payments have been made up
to March 1, 2013, and the last payment
due under the fixed rate terms is made

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and credited on March 1, 2013. In this
example, the outstanding principal
balance is $193,948.
B. The fully indexed rate of 7.5%,
which is the index value of 4.5% as of
March 15, 2012 (the date on which the
application for a refinancing is received)
plus the margin of 3%.
C. The remaining loan term as of
March 1, 2013, the date of the recast,
which is 28 years (336 payments).
v. Based on these assumptions, the
monthly payment for the non-standard
mortgage for purposes of determining
whether the standard mortgage monthly
payment is lower than the non-standard
mortgage monthly payment (see
§ 226.43(d)(1)(ii)) is $1,383. This is the
substantially equal, monthly payment of
principal and interest required to repay
the outstanding principal balance at the
fully-indexed rate over the remaining
term.
6. Payment calculation for an interestonly loan. Under § 226.43(d)(5)(i), the
monthly periodic payment for an
interest-only loan must be calculated
based on several assumptions.
i. First, the payment must be based on
the loan amount, as defined in
§ 226.43(b)(5) (for a loan on which only
interest and no principal has been paid,
the ‘‘loan amount’’ will be the
outstanding principal balance at the
time of the recast), assuming all
scheduled payments are made under the
terms of the legal obligation in effect
before the mortgage is recast. For
example, assume that a mortgage has a
30-year loan term, and provides that the
first 24 months of payments are interestonly. If the 24th payment is due on
September 1, 2013, the creditor must
calculate the outstanding principal
balance as of September 1, 2013,
assuming that all 24 payments under the
interest-only payment terms have been
made and credited timely.
ii. Second, the payment calculation
must be based on substantially equal
monthly payments of principal and
interest that will fully repay the loan
amount over the term of the loan
remaining as of the date the loan is
recast. Thus, in the example above, the
creditor must assume a loan term of 28
years (336 payments).
iii. Third, the payment must be based
on the fully indexed rate, as defined in
§ 226.43(b)(3), as of the date of the
written application for the standard
mortgage.
7. Example of payment calculation for
an interest-only loan. The following
example illustrates the rule described in
comment 43(d)(5)(i)–6:
i. A loan in an amount of $200,000
has a 30-year loan term. The loan
agreement provides for a fixed interest

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rate of 7%, and permits interest-only
payments for the first two years (the first
24 payments), after which time
amortizing payments of principal and
interest are required.
ii. The non-standard mortgage
consummates on February 15, 2011, and
the first monthly payment is due on
April 1, 2011. The loan is recast on the
due date of the 24th monthly payment,
which is March 1, 2013.
iii. On March 15, 2012, the creditor
receives the consumer’s written
application for a refinancing, after the
consumer has made 12 monthly on-time
payments.
iv. To calculate the non-standard
mortgage payment that must be
compared to the standard mortgage
payment under § 226.43(d)(1)(ii), the
creditor must use—
A. The loan amount, which is the
outstanding principal balance as of
March 1, 2013, assuming all scheduled
interest-only payments have been made
and credited up to that date. In this
example, the loan amount is $200,000.
B. An interest rate of 7%, which is the
interest rate in effect at the time of
consummation of this fixed-rate nonstandard mortgage.
C. The remaining loan term as of
March 1, 2013, the date of the recast,
which is 28 years (336 payments).
v. Based on these assumptions, the
monthly payment for the non-standard
mortgage for purposes of determining
whether the standard mortgage monthly
payment is lower than the non-standard
mortgage monthly payment (see
§ 226.43(d)(1)(ii)) is $1,359. This is the
substantially equal, monthly payment of
principal and interest required to repay
the loan amount at the fully-indexed
rate over the remaining term.
8. Payment calculation for a negative
amortization loan. Under
§ 226.43(d)(5)(i), the monthly periodic
payment for a negative amortization
loan must be calculated based on
several assumptions.
i. First, the calculation must be based
on the maximum loan amount, as
defined in § 226.43(b)(7). For examples
of how to calculate the maximum loan
amount, see comment 43(b)(7)–3.
ii. Second, the calculation must be
based on substantially equal monthly
payments of principal and interest that
will fully repay the maximum loan
amount over the term of the loan
remaining as of the date the loan is
recast. For example, if the loan term is
30 years and the loan is recast on the
due date of the 60th monthly payment,
the creditor must assume a loan term of
25 years (300 payments).
iii. Third, the payment must be based
on the fully-indexed rate as of the date

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of the written application for the
standard mortgage.
9. Example of payment calculation for
a negative amortization loan. The
following example illustrates the rule
described in comment 43(d)(5)(i)–8:
i. A loan in an amount of $200,000
has a 30-year loan term. The loan
agreement provides that the consumer
can make minimum monthly payments
that cover only part of the interest
accrued each month until the date on
which the principal balance increases to
the negative amortization cap of 115%
of the loan amount, or for the first five
years of monthly payments (60
payments), whichever occurs first. The
loan is an adjustable-rate mortgage that
adjusts monthly according to a specified
index plus a margin of 3.5%.
ii. The non-standard mortgage
consummates on February 15, 2011, and
the first monthly payment is due on
April 1, 2011. Assume that, based on the
calculation of the maximum loan
amount required under § 226.43(b)(7)
and associated commentary, the
negative amortization cap of 115%
would be reached on July 1, 2013, the
due date of the 28th monthly payment.
iii. On March 15, 2012, the creditor
receives the consumer’s written
application for a refinancing, after the
consumer has made 12 monthly on-time
payments. On this date, the index value
is 4.5%.
iv. To calculate the non-standard
mortgage payment that must be
compared to the standard mortgage
payment under § 226.43(d)(1)(ii), the
creditor must use—
A. The maximum loan amount of
$229,243 as of July 1, 2013.
B. The fully indexed rate of 8%,
which is the index value of 4.5% as of
March 15, 2012 (the date on which the
creditor receives the application for a
refinancing) plus the margin of 3.5%.
C. The remaining loan term as of July
1, 2013, the date of the recast, which is
27 years and eight months (332 monthly
payments).
v. Based on these assumptions, the
monthly payment for the non-standard
mortgage for purposes of determining
whether the standard mortgage monthly
payment is lower than the non-standard
mortgage monthly payment (see
§ 226.43(d)(1)(ii)) is $1,717. This is the
substantially equal, monthly payment of
principal and interest required to repay
the maximum loan amount at the fullyindexed rate over the remaining term.
43(d)(5)(ii) Standard mortgage.
1. Payment calculation for a standard
mortgage. In determining whether the
monthly periodic payment for a
standard mortgage is materially lower
than the monthly periodic payment for

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a non-standard mortgage, the creditor
must consider the monthly payment for
the standard mortgage that will result in
substantially equal, monthly, fully
amortizing payments (as defined in
§ 226.43(b)(2)) using the rate as of
consummation. For guidance regarding
the meaning of ‘‘substantially equal’’ see
comment 43(c)(5)(i)–4. For a mortgage
with a single, fixed rate for the first five
years, the maximum rate that will apply
during the first five years after
consummation will be the rate at
consummation. For a step-rate mortgage,
however, which is a type of fixed-rate
mortgage, the rate that must be used is
the highest rate that will apply during
the first five years after consummation.
For example, if the rate for the first two
years is 4%, the rate for the second two
years is 5%, and the rate for the next
two years is 6%, the rate that must be
used is 6%.
2. Example of payment calculation for
a standard mortgage. The following
example illustrates the rule described in
comment 43(d)(5)(ii)–1: A loan in an
amount of $200,000 has a 30-year loan
term. The loan agreement provides for a
discounted interest rate of 6% that is
fixed for an initial period of five years,
after which time the interest rate will
adjust annually based on a specified
index plus a margin of 3%, subject to a
2% annual interest rate adjustment cap.
The creditor must determine whether
the standard mortgage monthly payment
is materially lower than the nonstandard mortgage monthly payment
(see § 226.43(d)(1)(ii)) based on a
standard mortgage payment of $1,199.
This is the substantially equal, monthly
payment of principal and interest
required to repay $200,000 over 30 years
at an interest rate of 6%.
43(e) Presumption of compliance for
qualified mortgages.
Alternative 1—Paragraph 43(e)(1)–1
43(e)(1) Safe harbor.
1. In general. A creditor or assignee
that satisfies the requirements of
§ 226.43(e)(2) or § 226.43(f), as
applicable, is deemed to have complied
with § 226.43(c)(1). That is, a creditor or
assignee need not demonstrate
compliance with § 226.43(c)(2)–(7) if the
terms of the loan comply with
§ 226.43(e)(2)(i)–(ii) (or, if applicable,
§ 226.43(f)); the loan’s points and fees
do not exceed the limits set forth in
§ 226.43(e)(2)(iii); and the creditor has
complied with the underwriting criteria
described in § 226.43(e)(2)(iv)–(v) (or, if
applicable, § 226.43(f)). The consumer
may show the loan is not a qualified
mortgage with evidence that the terms,
points and fees, or underwriting did not
comply with § 226.43(e)(2)(i)–(v) (or

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§ 226.43(f), if applicable). If a loan is not
a qualified mortgage (for example
because the loan provides for negative
amortization), then the creditor or
assignee must demonstrate that the loan
complies with all of the requirements in
§ 226.43(c) (or, if applicable,
§ 226.43(d)).
Alternative 2—Paragraph 43(e)(1)–1
43(e)(1) Presumption of compliance.
1. In general. Under § 226.43(c)(1), a
creditor must make a reasonable and
good faith determination at or before
consummation that the consumer will
have a reasonable ability, at the time of
consummation, to repay the loan
according to its terms, including any
mortgage-related obligations. Under
§ 226.43(e)(1), a creditor or assignee of
a covered transaction is presumed to
have complied with the repayment
ability requirement of § 226.43(c)(1) if
the terms of the loan comply with
§ 226.43(e)(2)(i)–(ii) (or, if applicable,
§ 226.43(f)); the points and fees do not
exceed the limit set forth in
§ 226.43(e)(2)(iii), and the creditor has
complied with the underwriting criteria
described in § 226.43(e)(2)(iv)–(v) (or, if
applicable, § 226.43(f)). If a loan is not
a qualified mortgage (for example
because the loan provides for negative
amortization), then the creditor or
assignee must demonstrate that the loan
complies with all of the requirements in
§ 226.43(c) (or, if applicable,
§ 226.43(d)). However, even if the loan
is a qualified mortgage, the consumer
may rebut the presumption of
compliance with evidence that the loan
did not comply with § 226.43(c)(1). For
example, evidence of a high debt-toincome ratio with no compensating
factors, such as adequate residual
income, could be sufficient to rebut the
presumption.
43(e)(2) Qualified mortgage defined.
Paragraph 43(e)(2)(i).
1. Regular periodic payments. Under
§ 226.43(e)(2)(i), a qualified mortgage
must provide for regular periodic
payments that may not result in an
increase of the principal balance
(negative amortization), deferral of
principal repayment, or a balloon
payment. Thus, the terms of the legal
obligation must require the consumer to
make payments of principal and
interest, on a monthly or other periodic
basis, that will fully repay the loan
amount over the loan term. The periodic
payments must be substantially equal
except for the effect that any interest
rate change after consummation has on
the payment in the case of an
adjustable-rate or step-rate mortgage. In
addition, because § 226.43(e)(2)(i)
requires that a qualified mortgage

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provide for regular periodic payments, a
single-payment transaction may not be a
qualified mortgage.
2. Deferral of principal repayment.
Under § 226.43(e)(2)(i)(B), a qualified
mortgage’s regular periodic payments
may not allow the consumer to defer
repayment of principal, except as
provided in § 226.43(f). A loan allows
the deferral of principal repayment if
one or more of the periodic payments
may be applied solely to accrued
interest and not to loan principal.
Deferred principal repayment also
occurs if the payment is applied to both
accrued interest and principal but the
consumer is permitted to make periodic
payments that are less than the amount
that would be required under a payment
schedule that has substantially equal
payments that fully repay the loan
amount over the loan term. Graduated
payment mortgages, for example, allow
deferral of principal repayment in this
manner and therefore may not be
qualified mortgages.
Paragraph 43(e)(2)(iv).
1. Maximum interest rate during the
first five years after consummation. For
a qualified mortgage, the creditor must
underwrite the loan using a periodic
payment of principal and interest based
on the maximum interest rate that may
apply during the first five years after
consummation. Creditors must use the
maximum rate that could apply at any
time during the first five years after
consummation, regardless of whether
the maximum rate is reached at the first
or subsequent adjustment during the
five year period.
2. Fixed-rate mortgage. For a fixedrate mortgage, creditors should use the
interest rate in effect at consummation.
‘‘Fixed-rate mortgage’’ is defined in
§ 226.18(s)(7)(iii).
3. Interest rate adjustment caps. For
an adjustable-rate mortgage, creditors
should assume the interest rate
increases after consummation as rapidly
as possible, taking into account the
terms of the legal obligation. That is,
creditors should account for any
periodic interest rate adjustment cap
that may limit how quickly the interest
rate can increase under the terms of the
legal obligation. Where a range for the
maximum interest rate during the first
five years is provided, the highest rate
in that range is the maximum interest
rate for purposes of this section. Where
the terms of the legal obligation are not
based on an index plus margin or
formula, the creditor must use the
maximum interest rate that occurs
during the first five years after
consummation. To illustrate:
i. Adjustable-rate mortgage with
discount for three years. Assume an

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adjustable-rate mortgage has an initial
discounted rate of 5% that is fixed for
the first three years of the loan, after
which the rate will adjust annually
based on a specified index plus a
margin of 3%. The index value in effect
at consummation is 4.5%. The loan
agreement provides for an annual
interest rate adjustment cap of 2%, and
a lifetime maximum interest rate of
10%. The first rate adjustment occurs on
the due date of the 36th monthly
payment; the rate can adjust to no more
than 7% (5% initial discounted rate
plus 2% annual interest rate adjustment
cap). The second rate adjustment occurs
on the due date of the 48th monthly
payment; the rate can adjust to no more
than 9% (7% rate plus 2% annual
interest rate adjustment cap). The third
rate adjustment occurs on the due date
of the 60th monthly payment, which
occurs more than five years after
consummation. The maximum interest
rate during the first five years after
consummation is 9% (the rate on the
due date of the 48th monthly payment).
For further discussion of how to
determine whether a rate adjustment
occurs during the first five years after
consummation, see comment
43(e)(2)(iv)-2.
ii. Adjustable-rate mortgage with
discount for three years. Assume the
same facts above except that the lifetime
maximum interest rate is 8%, which is
less than the maximum interest rate in
the first five years of 9%. The maximum
interest rate during the first five years
after consummation is 8%.
iii. Step-rate mortgage. Assume a
step-rate mortgage with an interest rate
fixed at 6.5% for the first two years, 7%
for the next three years, and then 7.5%
for remainder of the loan term. The
maximum interest rate during the first
five years after consummation is 7%.
4. First five years after consummation.
Under § 226.43(e)(2)(iv)(A), the creditor
must underwrite the loan using the
maximum interest rate that may apply
during the first five years after
consummation. To illustrate, assume an
adjustable-rate mortgage with an initial
fixed interest rate of 5% for the first five
years after consummation, after which
the interest rate will adjust annually to
the specified index plus a margin of 6%,
subject to a 2% annual interest rate
adjustment cap. The index value in
effect at consummation is 5.5%. The
loan consummates on September 15,
2011, and the first monthly payment is
due on November 1, 2011. The first five
years after consummation occurs on
September 15, 2016. The first rate
adjustment to no more than 7% (5%
plus 2% annual interest rate adjustment
cap) occurs on the due date of the 60th

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monthly payment, which is October 1,
2016, and therefore, the rate adjustment
does not occur during the first five years
after consummation. To meet the
definition of qualified mortgage under
§ 226.43(e)(2), the creditor must
underwrite the loan using a monthly
payment of principal and interest based
on an interest rate of 5%, which is the
maximum interest rate during the first
five years after consummation.
5. Loan amount. To meet the
definition of qualified mortgage under
§ 226.43(e)(2), a creditor must determine
the periodic payment of principal and
interest using the maximum interest rate
permitted during the first five years after
consummation that repays either—
i. The outstanding principal balance
as of the earliest date the maximum
interest rate during the first five years
after consummation can take effect
under the terms of the legal obligation,
over the remaining term of the loan. To
illustrate, assume a loan in an amount
of $200,000 has a 30-year loan term. The
loan agreement provides for a
discounted interest rate of 5% that is
fixed for an initial period of three years,
after which the interest rate will adjust
annually based on a specified index
plus a margin of 3%, subject to a 2%
annual interest rate adjustment cap and
a lifetime maximum interest rate of
10%. The index value in effect at
consummation equals 4.5%. Assuming
the interest rate increases after
consummation as quickly as possible,
the rate adjustment to the maximum
interest rate of 9% occurs on the due
date of the 48th monthly payment. The
outstanding principal balance on the
loan at the end of the fourth year (after
the 48th monthly payment is credited)
is $188,218. The creditor will meet the
definition of qualified mortgage if it
underwrites the covered transaction
using the monthly payment of principal
and interest of $1,564 to repay the
outstanding principal balance of
$188,218 over the remaining 26 years of
the loan term (312 months) using the
maximum interest rate during the first
five years of 9%; or
ii. The loan amount, as that term is
defined in § 226.43(b)(5), over the entire
loan term, as that term is defined in
§ 226.43(b)(6). Using the same example
above, the creditor will meet the
definition of qualified mortgage if it
underwrites the covered transaction
using the monthly payment of principal
and interest of $1,609 to repay the loan
amount of $200,000 over the 30-year
loan term using the maximum interest
rate during the first five years of 9%.
6. Mortgage-related obligations.
Section 226.43(e)(2)(iv) requires
creditors to take mortgage-related

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obligations into account when
underwriting the loan. For the meaning
of the term ‘‘mortgage-related
obligations,’’ see § 226.43(b)(8) and
associated commentary.
7. Examples. The following are
examples of how to determine the
periodic payment of principal and
interest based on the maximum interest
rate during the first five years after
consummation for purposes of meeting
the definition of qualified mortgage
under § 226.43(e) (all payment amounts
are rounded):
i. Fixed-rate mortgage. A loan in an
amount of $200,000 has a 30-year loan
term and a fixed interest rate of 7%. The
maximum interest rate during the first
five years after consummation for a
fixed-rate mortgage is the interest rate in
effect at consummation, which is 7%
under this example. The monthly fully
amortizing payment scheduled over the
30 years is $1,331. The creditor will
meet the definition of qualified
mortgage if it underwrites the loan using
the fully amortizing payment of $1,331.
ii. Adjustable-rate mortgage with
discount for three years.
A. A loan in an amount of $200,000
has a 30-year loan term. The loan
agreement provides for a discounted
interest rate of 5% that is fixed for an
initial period of three years, after which
the interest rate will adjust annually
based on a specified index plus a
margin of 3%, subject to a 2% annual
interest rate adjustment cap. The index
value in effect at consummation is
4.5%. The loan consummates on March
15, 2011, and the first regular periodic
payment is due May 1, 2011. The loan
agreement provides that the first rate
adjustment occurs on April 1, 2014 (the
due date of the 36th monthly payment);
the second rate adjustment occurs on
April 1, 2015 (the due date of the 48th
monthly payment); and the third rate
adjustment occurs on April 1, 2016 (the
due date of the 60th monthly payment),
which occurs more than five years after
consummation of the loan. Under this
example, the maximum interest rate
during the first five years after
consummation is 9%, which applies
beginning on April 1, 2015 (the due date
of the 48th monthly payment). The
outstanding principal balance at the end
of the fourth year (after the 48th
payment is credited) is $188,218.
B. The creditor will meet the
definition of a qualified mortgage if it
underwrites the loan using the monthly
payment of principal and interest of
$1,564 to repay the outstanding
principal balance at the end of the
fourth year of $188,218 over the
remaining 26 years of the loan term (312
months), using the maximum interest

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rate during the first five years after
consummation of 9%. Alternatively, the
creditor will meet the definition of a
qualified mortgage if it underwrites the
loan using the monthly payment of
principal and interest of $1,609 to repay
the loan amount of $200,000 over the
30-year loan term, using the maximum
interest rate during the first five years
after consummation of 9%.
iii. Adjustable-rate mortgage with
discount for five years.
A. A loan in an amount of $200,000
has a 30-year loan term. The loan
agreement provides for a discounted
interest rate of 6% that is fixed for an
initial period of five years, after which
the interest rate will adjust annually
based on a specified index plus a
margin of 3%, subject to a 2% annual
interest rate adjustment cap. The index
value in effect at consummation is
4.5%. The loan consummates on March
15, 2011 and the first regular periodic
payment is due May 1, 2011. Under the
terms of the loan agreement, the first
rate adjustment is on April 1, 2016 (the
due date of the 60th monthly payment),
which occurs more than five years after
consummation of the loan. Thus, the
maximum interest rate under the terms
of the loan during the first five years
after consummation is 6%.
B. The creditor will meet the
definition of a qualified mortgage if it
underwrites the loan using the monthly
payment of principal and interest of
$1,199 to repay the loan amount of
$200,000 over the 30-year loan term
using the maximum interest rate during
the first five years of 6%.
iv. Step-rate mortgage. A. A loan in an
amount of $200,000 has a 30-year loan
term. The loan agreement provides that
the interest rate is 6.5% for the first two
years of the loan, 7% for the next three
years, and then 7.5% for remainder of
the loan term. The maximum interest
rate during the first five years after
consummation is 7%, which occurs on
the due date of the 24th monthly
payment. The outstanding principal
balance at the end of the second year
(after the 24th payment is credited) is
$195,379.
B. The creditor will meet the
definition of a qualified mortgage if it
underwrites the loan using a monthly
payment of principal and interest of
$1,328 to repay the outstanding
principal balance of $195,379 over the
remaining 28 years of the loan term (336
months), using the maximum interest
rate during the first five years of 7%.
Alternatively, the creditor will meet the
definition of a qualified mortgage if it
underwrites the loan using a monthly
payment of principal and interest of
$1,331 to repay $200,000 over the 30-

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year loan term using the maximum
interest rate during the first five years of
7%.
Alternative 1—Paragraph 43(e)(2)(v)
Paragraph 43(e)(2)(v).
1. Income or assets. Creditors may
rely on commentary to § 226.43(c)(2)(i),
(c)(3), and (c)(4) for guidance regarding
considering and verifying the
consumer’s income or assets to satisfy
the conditions under § 226.43(e)(2)(v)
for a ‘‘qualified mortgage.’’
Alternative 2—Paragraph 43(e)(2)(v)
Paragraph 43(e)(2)(v).
1. Repayment ability. Creditors may
rely on commentary to § 226.43(c)(2)(i),
(ii), (iv), and (vi) through (viii), (c)(3),
(c)(4), (c)(6), and (c)(7) for guidance
regarding considering and verifying the
consumer’s repayment ability to satisfy
the conditions under § 226.43(e)(2)(v)
for a ‘‘qualified mortgage.’’
43(e)(3) Limits on points and fees for
qualified mortgages.
Paragraph 43(e)(3)(i).
1. Total loan amount. For an
explanation of how to calculate the
‘‘total loan amount’’ under
§ 226.43(e)(3)(i), see comment
32(a)(1)(ii)-1.
2. Calculation of allowable points and
fees. A creditor must determine which
category the loan falls into based on the
face amount of the note (the ‘‘loan
amount’’), but must apply the allowable
points and fees percentage to the ‘‘total
loan amount,’’ which may be different
than the face amount of the note. A
creditor must calculate the allowable
amount of points and fees for a qualified
mortgage as follows:
i. First, the creditor must determine
the ‘‘tier’’ into which the loan falls based
on the loan amount. The loan amount is
the principal amount the consumer will
borrow as reflected in the promissory
note or loan contract. See § 226.43(b)(5).
For example, if the loan amount is
$75,000, the loan falls into the tier for
loans of $75,000 or more, to which a
three percent cap on points and fees
applies.
ii. Second, the creditor must
determine the ‘‘total loan amount’’ based
on the calculation for the ‘‘total loan
amount’’ under comment 32(a)(1)(ii)–1.
If the loan amount is $75,000, for
example, the ‘‘total loan amount’’ may be
a different amount, such as $73,000.
iii. Third, the creditor must apply the
percentage cap on points and fees to the
‘‘total loan amount.’’ For example, for a
loan of $75,000 where the ‘‘total loan
amount’’ is $73,000, the allowable
points and fees is three percent of
$73,000 or $2,190.

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Alternative 1—Comment 43(e)(3)(i)–3
3. Sample determination of allowable
points and fees for a $50,000 loan. A
covered transaction with a loan amount
of $50,000 falls into the third points and
fees tier, to which a points and fees cap
of 3.5 percent of the total loan amount
applies. See § 226.43(e)(3)(i)(C). If a
$48,000 total loan amount is assumed,
the allowable points and fees for this
$50,000 loan is 3.5 percent of $48,000
or $1,920.
Alternative 2—Comment 43(e)(3)(i)–3
3. Sample determination of allowable
points and fees for a $50,000 loan. A
covered transaction with a loan amount
of $50,000 falls into the second points
and fees tier, requiring application of a
formula to derive the allowable points
and fees. See § 226.43(e)(3)(i)(B). If a
$48,000 total loan amount is assumed,
the required formula must be applied as
follows:
i. First, the amount of $20,000 must
be subtracted from $48,000 to yield the
number of dollars to which the .0036
basis points multiple must be applied—
in this case, $28,000.
ii. Second, $28,000 must be
multiplied by .0036—in this case
resulting in 100.8.
iii. Third, 100.8 must be subtracted
from 500. (The maximum allowable
points and fees on any loan is five
percent of the total loan amount for
loans of less than $20,000. Five percent
expressed in basis points is 500). Five
hundred minus 100.8 equals 399.2,
which is the allowable points and fees
in basis points.
iv. Finally, the allowable points and
fees in basis points must be translated
into the appropriate percentage of the
‘‘total loan amount,’’ which is achieved
by multiplying 399.2 by .01. The result
is 3.99 percent. Accordingly, the
allowable points and fees for this
$50,000 loan as a dollar figure is 3.99
percent of $48,000 or $1,915.20.
Paragraph 43(e)(3)(ii).
1. Charges not retained by the
creditor, loan originator, or an affiliate
of either. In general, a creditor is not
required to count in ‘‘points and fees’’
for a qualified mortgage any bona fide
third party charge not retained by the
creditor, loan originator, or an affiliate
of either. For example, if a creditor
charges a consumer $400 for an
appraisal conducted by a third party not
affiliated with the creditor, pays the
third party appraiser $300 for the
appraisal, and retains $100, the creditor
may exclude $300 of this fee but count
the $100 it retains in ‘‘points and fees’’
for a qualified mortgage.
2. Private mortgage insurance. For
qualified mortgages, the exclusion for

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bona fide third party charges not
retained by the creditor, loan originator,
or an affiliate of either is limited by
§ 226.32(b)(1)(i)(B) in the general
definition of ‘‘points and fees.’’ Section
226.32(b)(1)(i)(B) requires inclusion in
‘‘points and fees’’ of premiums or other
charges payable at or before closing for
any private guaranty or insurance
protecting the creditor against the
consumer’s default or other credit loss
to the extent that the premium or charge
exceeds the amount payable under
policies in effect at the time of
origination under section 203(c)(2)(A) of
the National Housing Act (12 U.S.C.
1709(c)(2)(A)). These premiums or
charges must also be included if the
premiums or charges are not required to
be refundable on a pro-rated basis, or
the refund is not required to be
automatically issued upon notification
of the satisfaction of the underlying
mortgage loan. Under these
circumstances, even if the premiums or
other charges are not retained by the
creditor, loan originator, or an affiliate
of either, they must be included in the
‘‘points and fees’’ calculation for
qualified mortgages. See comments
32(b)(1)(i)–3 and –4 for further
discussion of including upfront private
mortgage insurance premiums in the
points and fees calculation.
3. Exclusion of up to two bona fide
discount points. Section
226.43(e)(3)(ii)(B) provides that, under
certain circumstances, up to two ‘‘bona
fide discount points,’’ as defined in
§ 226.43(e)(3)(iii), may be excluded from
the ‘‘points and fees’’ calculation for a
qualified mortgage. The following
example illustrates the rule:
i. Assume a covered transaction that
is a first-lien, purchase money home
mortgage with a fixed interest rate and
a 30-year term. Assume also that the
consumer locks in an interest rate of
6.00 percent on May 1, 2011, that was
discounted from a rate of 6.50 percent
because the consumer paid two
discount points. Finally, assume that
the average prime offer rate (APOR) as
of May 1, 2011 for home mortgages with
a fixed interest rate and a 30-year term
is 5.50 percent.
ii. The creditor may exclude two
discount points from the ‘‘points and
fees’’ calculation because the rate from
which the discounted rate was derived
(6.50 percent) exceeded APOR for a
comparable transaction as of the date
the rate on the covered transaction was
set (5.25 percent) by only one percent.
For the meaning of ‘‘comparable
transaction,’’ refer to comment
43(e)(3)(ii)–5.
4. Exclusion of up to one bona fide
discount point. Section

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226.43(e)(3)(ii)(C) provides that, under
certain circumstances, up to one ‘‘bona
fide discount point,’’ as defined in
§ 226.43(e)(3)(iii), may be excluded from
the ‘‘points and fees’’ calculation for a
qualified mortgage. The following
example illustrates the rule:
i. Assume a covered transaction that
is a first-lien, purchase money home
mortgage with a fixed interest rate and
a 30-year term. Assume also that the
consumer locks in an interest rate of
6.00 percent on May 1, 2011, that was
discounted from a rate of 7.00 percent
because the consumer paid four
discount points. Finally, assume that
the average prime offer rate (APOR) as
of May 1, 2011, for home mortgages
with a fixed interest rate and a 30-year
term is 5.00 percent.
ii. The creditor may exclude one
discount point from the ‘‘points and
fees’’ calculation because the rate from
which the discounted rate was derived
(7.00 percent) exceeded APOR for a
comparable transaction as of the date
the rate on the covered transaction was
set (5.00 percent) by only two percent.
5. Comparable transaction. The table
of average prime offer rates published
by the Board indicates how to identify
the comparable transaction. See
comment 45(a)(2)(ii)-2.
43(f) Balloon-payment qualified
mortgages made by certain creditors.
43(f)(1) Exception.
Paragraph 43(f)(1)(i).
1. Satisfaction of qualified mortgage
requirements. Under § 226.43(f)(1)(i), a
qualified mortgage that provides for a
balloon payment must satisfy all of the
requirements for a qualified mortgage in
§ 226.43(e)(2), other than
§ 226.43(e)(2)(i)(B), (e)(2)(i)(C), and
(e)(2)(iv). Therefore, to satisfy this
condition, a covered transaction with
balloon payment terms must provide for
regular periodic payments that do not
result in an increase of the principal
balance, pursuant to § 226.43(e)(2)(i)(A);
must have a loan term that does not
exceed 30 years, pursuant to
§ 226.43(e)(2)(ii); must have total points
and fees that do not exceed specified
thresholds pursuant to
§ 226.43(e)(2)(iii); and must satisfy the
consideration and verification
requirements in § 226.43(e)(2)(v).
Paragraph 43(f)(1)(ii).
1. Example. Under § 226.43(f)(1)(ii), if
a qualified mortgage provides for a
balloon payment, the creditor must
determine that the consumer is able to
make all scheduled payments under the
legal obligation other than the balloon
payment. For example, assume a loan in
an amount of $200,000 that has a fiveyear loan term, but is amortized over 30
years. The loan agreement provides for

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a fixed interest rate of 6%. The loan
consummates on March 15, 2011, and
the monthly payment of principal and
interest scheduled for the first five years
is $1,199, with the first monthly
payment due on May 1, 2011. The
balloon payment of $187,308 is required
on the due date of the 60th monthly
payment, which is April 1, 2016. The
loan remains a qualified mortgage if the
creditor underwrites the loan using the
scheduled principal and interest
payment of $1,199 (plus all mortgagerelated obligations, pursuant to
§ 226.43(f)(1)(iii)(B)).
2. Creditor’s determination. A creditor
must determine that the consumer is
able to make all scheduled payments
other than the balloon payment to
satisfy § 226.43(f)(1)(ii), but the creditor
is not required to meet the repayment
ability requirements of § 226.43(c)(2)–(7)
because those requirements apply only
to covered transactions that are not
qualified mortgages. Nevertheless, a
creditor satisfies § 226.43(f)(1)(ii) if it
complies with the requirements of
§ 226.43(c)(2)–(7). A creditor also may
make the determination that the
consumer is able to make the scheduled
payments (other than the balloon
payment) by other means. For example,
a creditor need not determine that the
consumer is able to make the scheduled
payments based on a payment amount
that is calculated in accordance with
§ 226.43(c)(5)(ii)(A) or may choose to
consider a debt-to-income ratio that is
not determined in accordance with
§ 226.43(c)(7).
Paragraph 43(f)(1)(iii).
1. Amortization period. Under
§ 226.43(f)(1)(ii), if a qualified mortgage
provides for a balloon payment, the
creditor must determine that the
consumer is able to make all scheduled
payments under the legal obligation
other than the balloon payment. Under
§ 226.43(f)(1)(iii), those scheduled
payments must be determined using an
amortization period that does not
exceed 30 years and must include all
mortgage-related obligations. Balloon
payments often result when the periodic
payment would fully repay the loan
amount only if made over some period
that is longer than the loan term. For
example, a loan term of 10 years with
periodic payments based on an
amortization period of 20 years would
result in a balloon payment being due
at the end of the loan term. Whatever
the loan term, the amortization period
used to determine the scheduled
periodic payments that the consumer
must pay under the terms of the legal
obligation may not exceed 30 years.
Paragraph 43(f)(1)(v).

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Federal Register / Vol. 76, No. 91 / Wednesday, May 11, 2011 / Proposed Rules
1. Creditor qualifications. Under
§ 226.43(f)(1)(v), to make a qualified
mortgage that provides for a balloon
payment, the creditor must satisfy the
following four criteria:
i. During the preceding calendar year,
the creditor extended over 50% of its
total covered transactions with balloon
payment terms in counties that are
‘‘rural’’ or ‘‘underserved,’’ as defined in
§ 226.43(f)(2). Pursuant to that section,
the Board determines annually which
counties in the United States are rural
or underserved and publishes on its
public Web site a list of those counties
to enable creditors to determine whether
they meet this criterion. Thus, for
example, if a creditor originated 90
covered transactions with balloon
payment terms during 2010, the creditor
meets this element of the exception in
2011 if at least 46 of those loans are
secured by properties located in one or
more counties that are on the Board’s
list for 2010.
Alternative 1—Paragraph 43(f)(1)(v)–1.ii
ii. During the preceding calendar year,
the creditor together with all affiliates
extended covered transactions with
principal amounts that in the aggregate
total $____ or less.
Alternative 2—Paragraph 43(f)(1)(v)–1.ii
ii. During the preceding calendar year,
the creditor together with all affiliates
extended ___ or fewer covered
transactions.

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Alternative 1—Paragraph 43(f)(1)(v)–
1.iii
iii. On and after [effective date of final
rule], the creditor has not sold, assigned,
or otherwise transferred legal title to the
debt obligation for any covered
transaction with a balloon-payment
term.
Alternative 2—Paragraph 43(f)(1)(v)–
1.iii
iii. During the preceding or current
calendar year, the creditor has not sold,
assigned, or otherwise transferred legal
title to the debt obligation for any
covered transaction with a balloonpayment term. Thus, for example, if a
creditor sells a covered transaction with
a balloon-payment term on April 1,
2012, the creditor becomes ineligible for
the exception for the remainder of 2012
(but not retroactively for January
through March of 2012) and all of 2013.
If the creditor sells no covered
transactions with balloon-payment
terms during 2013, it then may become
eligible again for the exception
beginning on January 1, 2014 and
remains eligible until and unless it sells
such loans during 2014.

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iv. As of the end of the preceding
calendar year, the creditor had total
assets that do not exceed the current
asset threshold established by the
Board. For calendar year 2011, the asset
threshold is $2,000,000,000. Creditors
that had total assets of $2,000,000,000 or
less on December 31, 2010 satisfy this
criterion for purposes of the exception
during 2011.
43(f)(2) ‘‘Rural’’ and ‘‘underserved’’
defined.
1. Requirements for ‘‘rural or
underserved’’ status. A county is
considered ‘‘rural or underserved’’ for
purposes of § 226.43(f)(1)(v)(A) if it
satisfies either of the two tests in
§ 226.43(f)(2). The Board applies both
tests to each county in the United States
and, if a county satisfies either test,
includes that county on the annual list
of ‘‘rural or underserved’’ counties. The
Board publishes on its public Web site
the applicable list for each calendar year
by the end of that year. A creditor’s
originations of covered transactions
with balloon-payment terms in such
counties during that year are considered
in determining whether the creditor
satisfies the condition in
§ 226.43(f)(1)(v)(A) and therefore will be
eligible for the exception during the
following calendar year. The Board
determines whether each county is
‘‘rural’’ by reference to the currently
applicable Urban Influence Codes
(UICs), established by the United States
Department of Agriculture’s Economic
Research Service (USDA–ERS).
Specifically, the Board classifies a
county as ‘‘rural’’ if the USDA–ERS
categorizes the county under UIC 7, 10,
11, or 12. The Board determines
whether each county is ‘‘underserved’’
by reference to data submitted by
mortgage lenders under the Home
Mortgage Disclosure Act (HMDA).
43(g) Prepayment penalties.
43(g)(2) Limits on prepayment
penalties.
1. Maximum period and amount.
Section 226.43(g)(2) establishes the
maximum period during which a
prepayment penalty may be imposed
and the maximum amount of the
prepayment penalty. A covered
transaction may include a prepayment
penalty that may be imposed during a
shorter period or in a lower amount
than provided under § 226.43(g)(2). For
example, a covered transaction may
include a prepayment penalty that may
be imposed for two years after
consummation and equals two percent
of the amount prepaid in each of those
two years.
43(g)(3) Alternative offer required.
Paragraph 43(g)(3)(i).

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27505

1. Same type of interest rate. Under
§ 226.43(g)(3)(i), if a creditor offers a
consumer a covered transaction with a
prepayment penalty, the creditor must
offer the consumer an alternative
covered transaction without a
prepayment penalty and with an annual
percentage rate that cannot increase
after consummation. Further, the
covered transaction with a prepayment
penalty and the alternative covered
transaction without a prepayment
penalty must both be fixed-rate
mortgages or both be step-rate
mortgages, as defined in
§ 226.18(s)(7)(iii) and (ii), respectively.
Paragraph 43(g)(3)(iv).
1. Points and fees. Whether or not an
alternative covered transaction without
a prepayment penalty satisfies the
points and fees conditions for a
qualified mortgage is determined based
on the information known to the
creditor at the time the creditor offers
the consumer the transaction. At the
time a creditor offers a consumer an
alternative covered transaction without
a prepayment penalty under
§ 226.43(g)(3), the creditor may know
the amount of some, but not all, of the
points and fees that will be charged for
the transaction. For example, a creditor
may not know that a consumer intends
to buy single-premium credit
unemployment insurance, which would
be included in the points and fees for
the covered transaction. The points and
fees condition under § 226.43(g)(3)(ii)(C)
is satisfied if a creditor reasonably
believes, based on information known to
the creditor at the time the offer is
made, that the amount of points and
fees to be charged for an alternative
covered transaction without a
prepayment penalty will be less than or
equal to the amount of points and fees
allowed for a qualified mortgage under
§ 226.43(e)(2)(iii).
Paragraph 43(g)(3)(v).
1. Transactions for which the
consumer likely qualifies. Under
§ 226.43(g)(3)(v), the alternative covered
transaction without a prepayment
penalty the creditor must offer under
§ 226.43(g)(3) must be a transaction for
which the creditor has a good faith
belief the consumer likely qualifies. For
example, assume the creditor has a good
faith belief the consumer can afford
monthly payments of up to $800. If the
creditor offers the consumer a fixed-rate
mortgage with a prepayment penalty for
which monthly payments are $700 and
an alternative covered transaction
without a prepayment penalty for which
monthly payments are $900, the
requirements of § 226.43(g)(3)(v) are not
met. The creditor’s belief that the
consumer likely qualifies for the

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covered transaction without a
prepayment penalty should be based on
the information known to the creditor at
the time the creditor offers the
transaction. In making this
determination, the creditor may rely on
information provided by the consumer,
even if the information subsequently is
determined to be inaccurate.
43(g)(4) Offer through a mortgage
broker.
1. Rate sheet. Under § 226.43(g)(4),
where the creditor offers covered
transactions with a prepayment penalty
to consumers through a mortgage
broker, as defined in § 226.36(a)(2), the
creditor must present the mortgage
broker an alternative covered
transaction that satisfies the
requirements of § 226.43(g)(3). Creditors
may comply with this requirement by
providing a rate sheet to the mortgage
broker that states the terms of such an
alternative covered transaction without
a prepayment penalty.
2. Alternative to creditor’s offer.
Section 226.43(g)(4)(ii) requires that the
creditor provide, by agreement, for the
mortgage broker to present the
consumer an alternative covered
transaction without a prepayment
penalty offered by either (1) the creditor,
or (2) another creditor, if the other
creditor offers a covered transaction

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with a lower interest rate or a lower
total dollar amount of origination points
or fees and discount points. The
agreement may provide for the mortgage
broker to present both the creditor’s
covered transaction and a covered
transaction offered by another creditor
with a lower interest rate or a lower
total dollar amount of origination points
or fees and discount points. See
comment 36(e)(3)–3 for guidance in
determining which step-rate mortgage
has a lower interest rate.
3. Agreement. The creditor’s
agreement with a mortgage broker for
purposes of § 226.43(g)(4) may be part of
another agreement with the mortgage
broker, for example, a compensation
agreement. Thus, the creditor need not
enter into a separate agreement with the
mortgage broker with respect to each
covered transaction with a prepayment
penalty.
43(g)(5) Creditor that is a loan
originator.
1. Loan originator. The definition of
‘‘loan originator’’ in § 226.36(a)(1)
applies for purposes of § 226.43(g)(5).
Thus, a loan originator includes any
creditor that satisfies the definition of
loan originator but makes use of ‘‘tablefunding’’ by a third party. See comment
36(a)–1.i, –1.ii.

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2. Lower interest rate. Under
§ 226.43(g)(5), a creditor that is a loan
originator must present an alternative
covered transaction without a
prepayment penalty that satisfies the
requirements of § 226.43(g)(3) offered by
either the assignee for the covered
transaction or another person, if that
other person offers a transaction with a
lower interest rate or a lower total dollar
amount of origination points or fees or
discount points. See comment 36(e)(3)–
3 for guidance in determining which
step-rate mortgage has a lower interest
rate.
43(h) Evasion; open-end credit.
1. Subject to closed-end credit rules.
Where a loan is documented as openend credit but the features and terms or
other circumstances demonstrate that it
does not meet the definition of openend credit, the loan is subject to the
rules for closed-end credit, including
§ 226.43.fi
*
*
*
*
*
By order of the Board of Governors of the
Federal Reserve System, April 18, 2011.
Jennifer J. Johnson,
Secretary of the Board.
[FR Doc. 2011–9766 Filed 5–10–11; 8:45 am]
BILLING CODE 6210–01–P

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