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FEDERAL RESERVE BANK
OF NEW YORK
Circular No. 10386 "1
October 3, 1990
[
AM ENDM ENTS TO REGULATION Z
Freezing Home Equity Lines of Credit W hen Rate Cap is Reached;
Time of Disclosure of Home Equity Repayment Details
To All Depository Institutions, and Others Concerned,
in the Second Federal Reserve District:
Following is the text of a statement issued by the Board of G overnors of the Federal
Reserve System:
The Federal Reserve Board has issued amendments to its Regulation Z, Truth in Lend
ing, relating to home equity lines of credit. The final rules became effective September 19,
1990 but compliance is not mandatory until October 1, 1991.
One of the amendments allows creditors to continue to freeze the home equity line of
credit if the rate cap is reached, stipulating that this condition is specified in the contract.
The other amendment requires that all repayment phase disclosures be given to consumers
when they receive the application for the line of credit.
Enclosed — for depository institutions in the Second Federal Reserve D istrict and
others who m aintain sets of the regulations of the Board of Governors — is a copy of
the am endm ents, which have been reprinted from the Federal Register of Septem ber 18;
copies will be furnished to others upon request directed to the Circulars Division o f this
Bank (Tel No. 212-720-5215 or 5216). Single copies of these am endm ents, any other
regulatory am endm ent, or the regulations them selves, can be obtained at this Bank
(33 Liberty Street), in the Issues Division area on the first floor. Questions regarding
Regulation Z may be directed to our Com pliance Exam inations D epartm ent
(Tel. No. 212-720-5914).
E. G erald C orrigan ,
President.
Board of Governors of the Federal Reserve System
TRUTH IN LENDING
A M EN D M EN T TO REGULATION Z
(Effective September 19, 1990)
about any "repayment" period (that is,
when advances are no longer made and
the consumer is paying off the amount
12CFR Part 226
borrowed) at the time the repayment
FOR FURTHER INFORMATION CONTACT.
lRegulation Z; Docket No. R-0687]
period begins, rather than at the time of
Leonard Chanin, Senior Attorney, or
application.
Sharon
Bowman.
Staff
Attorney.
Truth in Lending; Home Equity
On March 21,1990, the Board
Division of Consumer and Community
Disclosure and Substantive Rule
Affairs, at (202) 452-3667 or 452-2412; for published a proposed rule to amend the
regulation relating to the rate cap and
a g e n c y : Board of Governors of the
the hearing impaired only, contact
delayed timing issues (55 FR 10465). The
Federal Reserve System.
Earnestine Hill or Dorethea Thompson.
Beard received over 200 comments on
a c t i o n : Final rule.
Telecommunications Device for the
the proposal. Based on a review of the
Deaf, at (202) 452-3544. Board of
s u m m a r y : The Board is revising
comments and further analysis the
Governors of the Federal Reserve
Regulation Z (Truth in Lending) to
Board is revising the regulation.
System. Washington. DC 20551.
require that creditors wishing to freeze
The District Court issued a decision in
SUPPLEMENTARY INFORMATION:
the credit line when the rate cap on a
favor of the Board on May 2,1990, with
home equity line is reached must
regard to other challenged parts of the
expressly provide for this event in their Background
regulation, but in light of the Board’s
agreements. Creditors that currently
The Home Equity Loan Consumer
proposal deferred rendering a decision
include such a provision in their
Protection Act was enacted in
on the rate cap and delayed timing
contracts will not be affected by this
November 1988. On January 23,1989, the issues.
revision. The Board also is removing
Board published for comment a
Amendments to Regulation Z
from the regulation the provision that
proposed rule to implement the statute
(i) Rate Cap Provision
would permit delaying the time for
(54 FR 3063) and on June 9.1989,
providing disclosures about any
adopted a final rule (54 FR 24670).
Under section 137(c)(1) of the act,
repayment phase set forth in an
Compliance with the regulation was
creditors are generally prohibited from
agreement. The rules in question relate
mandatory as of November 7,1989.
unilaterally changing the terms of the
On November 1,1989, Consumers
to the Home Equity Loan Consumer
plan after the account has been opened.
Union filed suit against the Board
Protection Act of 1980, which requires
Section 137(c)(2) sets forth certain
challenging certain aspects of the
creditors to provide consumers with
circumstances in which the creditor may
information for open-end credit plans
regulation. Consumers Union v. Federal
prohibit additional extensions of credit
secured by the consumer’s dwelling, and Reserve Board, No. 89-3008 (U.S.
or reduce the credit limit for a plan.
imposes substantive limitations on these District Court for the District of
Pursuant to the statute, the final
Columbia). Among other issues,
plans. Although the final regulations
regulation issued by the Board in June
Consumers Union challenged the
1989 contains substantive limitations on
implementing the law were adopted in
provision in the regulation permitting
the way home equity plans may be
June 1989 and became effective in
structured. The regulation incorporates
November 1989, in response to litigation, creditors to suspend advances of credit
the exceptions in section 137(c)(2) of the
during any period the rate cap is
the Board in March 1990 published for
act limiting the ability of a creditor to
reached. Consumers Union also
comment a proposal dealing with the
change the terms of a plan after the
challenged the part of the regulation
rate cap provision and the timing of
account has been opened. The
permitting creditors to give disclosures
disclosures for the repayment phase.
FEDERAL RESERVE SYSTEM
d a t e : September 19,1990. but
compliance is optional until October 1,
1991.
EFFECTIVE
PRINTED IN NEW YORK, FROM FEDERAL REGISTER, VOL. 55, NO. 181, pp. 38310-38312
For this Regulation to be complete, retain:
1) Regulation Z pamphlet, revised June 7, 1989.
2) Amendments and corrections (slip sheet dated January 1990).
3) This slip sheet.
[Enc. Cir. No. 10386]
regulation adds an exception under
which a creditor can freeze a line of
credit or reduce the credit limit if the
rate cap is reached. (Under section 105
of the Truth in Lending Act, the Board is
authorized to provide for adjustments
and exceptions for transactions that the
Board believes are necessary or proper
to effectuate the act. prevent
circumvention or evasion, or facilitate
compliance.) As issued,
§ 226.5b(f)(3)(vi||G) permits a creditor to
suspend additional advances or reduce
the credit limit during any period in
which the index value plus margin (the
APR corresponding to the periodic rate)
reaches the maximum APR (lifetime
"cap”) provided for in the agreement.1 If
the index and margin drop below the
cap, credit privileges must be reinstated.
The regulation does not expressly
require that the contract (as opposed to
the disclosures) state that a creditor has
the right to freeze a line of credit if the
rate cap is reached. Creditors are
specifically required to disclose if they
retain the ability to freeze a line when
the rate cap is reached, and this
disclosure duty may be met by including
it in the agreement. As a practical
matter, the Board believes that creditors
who wish to preserve this right do
include the provision in their contracts.
In March 1990, the Board requested
additional comment on whether to
amend the regulation to prohibit lenders
from freezing a line of credit if the rate
cap is reached (as well as a second
issue concerning the timing of
disclosures about the repayment phase).
Nearly all of the more than two hundred
commenters on the proposal argued that
the Board should permit lenders to
freeze the line if the rate cap is reached.
The Board is retaining the provision
that permits lenders to freeze a line of
credit or reduce the credit limit if the
rate cap is reached, but is adopting a
technical amendment requiring creditors
to include this event in their contracts.
Based on a review of the comment '
letters, the Board believes removal of
this provision from the regulation could
cause Consumers to suffer adverse
consequences such as the imposition of
a higher rate cap and the shortening of
the draw period for home equity plans.
The Board believes that if creditors
were prevented from stopping advances
once the rate cap is reached, they would
seek to maintain their spread and limit*
* Section 226.30 of the regulation, which
implements section 1204 of the Competitive Equality
Banking Act of 1987. requires creditors to include a
maximum rate cap in their agreements for all
variable-rate plans secured by a consumer's
dwelling.
interest rate risk by changing the terms
on which the credit is offered. A number
of commenters stated that lenders
would raise their rate cap, for example,
from 18% to 24%, if they were required to
make advances even if the cap were
reached. In such a circumstance—
should the index value and margin rise
to the cap—24%, rather than 18%, would
apply to the entire outstanding balance.
This could lead to the possibility of
consumers facing higher periodic
payments, or payments that pay off less
principal. This could in turn result in
greater debt problems or overextension.
The Board also is mindful of the concern
expressed by commenters that interest
rate arbitrage could occur if lenders
were required to loan funds if the cap is
reached. In such a circumstance, lenders
might be required to permit advances at
beicw-market rates.
The Board believes that consumers
who wish to ensure the ability to borrow
funds without interruption, regardless of
the rate charged, could negotiate a
higher rate cap from the lender before
entering into the plan. It is also worth
recognizing that any inconvenience to
consumers is minimized since the freeze
is temporary and in effect only so long
as the index value and margin reach or
exceed the cap.
The Board also asked for comment on
whether creditors should be required to
state in their contracts that the line may
be frozen if the rate cap is reached. The
Board is amending the regulation to
require that creditors so specify in the
contract if they wish to retain the right
to freeze the line of credit when the rate
cap is reached. Many commenters noted
that to enforce such a provision under
state law, the contract must contain
such a provision. In addition, several
persons commented that to take
advantage of the risk weight
requirements relating to home equity
lines in the risk-based capital guidelines,
their contracts had to contain such a
provision. Finally, creditors are
specifically required to disclose this
condition, and it appears that this duty
is often met by including it in the
agreement. Thus, it appears from the
letters received on the proposal and
other information that lenders already
include such a provision in their
contracts, and creditors would likely not
be required to revise their contracts.
The Board believes amending the
regulation to specify this requirement
will ensure greater consistency with the
legislative history of the act. That
history supports the notion that the
statute does not prohibit lenders from
2
freezing the line of credit if the rate cap
is reached as long as such a provision is
in their contracts. In light of the legal
challenge, requiring contracts to contain
the freeze provision will ensure that this
is a bilateral provision and not a
unilateral change to the terms of the
I plan, which is generally prohibited by
the statute.
The Board is deleting the rate cap
provision in § 226.5b(f)(3)(vi) of the
regulation. Section 226.5b(f)(3)(i) is
amended to provide that a lender may
prohibit additional extensions of credit
or reduce the credit limit when the
maximum annual percentage rate is
reached, as long as that circumstance is
set forth in the initial agreement.
The Board also is adopting a technical
amendment to § 226.9(c)(3) of the
regulation. That section requires
creditors to provide a written notice to
consumers if the creditor prohibits
additional extensions of credit or
reduces the credit limit pursuant to
§ 226.5b(f)(3)(vi). Because the Board is
moving the rate cap provision from
§ 226.5b(f)(3)(vi) to § 226.5b(f)(3)(i),
§ 226.9(c)(3) is amended to reflect that a
notice must be provided if a creditor
freezes a line pursuant to
§ 226.5b(f)(3)(i) or § 226.5b(f)(3)(vi). This
change does not alter any duty the
creditor has under § 226.9(c)(3).
Sections 226.5b(d)(4)(iii) and
226.6(e)(1) require creditors to disclose
the conditions that permit freezing or
reducing the credit limit. Creditors, of
course, must continue to disclose under
those sections that they may freeze or
reduce the credit limit if the maximum
annual percentage rate is reached, if
they retain this right. The amendments
to the regulation do not alter the duty of
creditors to disclose this circumstance.
The Board will propose changes to
comment 5b(d)(4)(iii)—
1 and other
provisions as needed to clarify this duty,
when proposed amendments to the
Official Staff Commentary are issued in
the fall of 1990.
(ii) Delayed Timing Provision
Some home equity plans provide in
the initial agreement for two distinct
phases: A “draw" period during which
advances may be taken and a
“repayment" period during which the
balance is paid off and no new funds are
advanced. Under the regulation,
creditors are required to provide
complete disclosures about both the
draw and the repayment phases of the
plan.
In the supplemental information
accompanying the final rule issued in
June 1989, the Board stated that while
full disclosure about the repayment
phase must be provided, creditors have
a choice with regard to when those
disclosures must be given. Creditors can
either provide the information at the
time the other disclosures are given (that
is, with the application) or defer the bulk
of the disclosures until the repayment
phase begins. A sample form, G-14C,
was provided in the appendix to the
regulation for creditors using the second
alternative. The Board also stated that,
even if a creditor chooses to give the
bulk of the repayment disclosures at
conversion, the basic information about
the repayment phase—such as its length
and how the minimum payment will be
figures—must be provided with the
other application disclosures.
In March 1990, the Board solicited
i
comment on whether the regulation
should be amended to require creditors
to provide all of the disclosures about
the repayment phase with the
application, rather than allowing some
to be delayed until the time of
conversion. The Board is requiring that
all disclosures be given at application,
and eliminating sample form G-14C,
which provides guidance to creditors
that delay giving certain disclosures
about the repayment phase.
The more flexible approach adopted
in the final rule in June 1989 was
premised on the notion that consumers ,
might benefit by receiving disclosures
later, and that creditors also would
benefit by having options about when to
provide the disclosures. The comment
letters clearly show that creditors are
not using this provision, and that
consumers may be harmed by not
receiving information early. Thus, the
policies supporting the original rule are
less persuasive. While consumers might
benefit from receiving additional
information at the later time, there is a
strong argument that consumers need to
know all the repayment terms early
when shopping for a line. The Board
also believes a uniform approach would
better assist consumers in shopping for
a plan and comparing lenders’ products.
Finally, all evidence indicates that no
creditors currently utilize the delayed
timing rule—likely due to the greater
complexity of preparing two disclosure
forms and potential civil liability
concerns. The Board is deleting model
form G-14C from the regulation, since
that is the only provision in the
regulation that relates to providing
information about the repayment phase
later in the plan.
In April 1990 the Board adopted
revisions to the Official Staff
Commentary relating to home equity
lines of credit. In that publication, the
Board deferred providing guidance on
the issue of delayed disclosures for the
repayment phase of a plan though the
issue was raised in the proposed
commentary issued in November 1989.
In light of the Board’s decision on this
issue, there is no need to address the
issue in the Official Staff Commentary.
Effective Date
Section 105(d) of the Truth in Lending
Act provides that amendments to
Regulation Z shall have an effective
date of October 1, and must be
promulgated at least six months before
that date. Except in the case of
complying with the finding of a court or
to prevent an unfair or deceptive
disclosure practice, the statute does not
permit an earlier effective date. Thus, in
the present case the Board believes an
October 1 effective date is required by
the statute. Therefore, the amendments
apply to any home equity plan entered
into on or after October 1.1991.
Creditors wishing to retain the right to
freeze a line of credit if the rate cap is
reached must include such a provision
in their home equity agreements entered
into on or after the effective date. As of
October 1,1991, creditors also must
provide complete disclosures about the
repayment phase with the other § 226.5b
disclosures (given at the time an
application form is provided to the
consumer), and are not permitted to
delay giving disclosures about that
phase.
Economic Impact Statement
The changes to the regulation are
likely to have an insignificant impact on
creditors' costs, including small entities,
since available evidence indicates that
they currently operate in a manner
consistent with the new rule. The
Board's Division of Research and
Statistics has prepared an economic
impact statement on the revisions to
Regulation Z. A copy of the analysis
may be obtained from Publications
Services, Board of Governors of the
Federal Reserve System, Washington,
DC 20551, at (202) 452-3245.
List of Subjects in 12 CFR Part 228
Advertising; Banks; Banking;
Consumer protection; Credit; Federal
reserve system; Finance; Penalties; Rate
limitations; Truth in lending.
3
Text of Proposed Revisions
Pursuant to authority granted in
section 105 of the Truth in Lending Act
(15 U.S.C. 1604 as amended), the Board
is amending Regulation Z, 12 CFR part
226, as follows:
PART 226—[AMENDED]
1. The authority citation for part 226
continues to read:
Authority: Section 105, Truth in Lending
Act, as amended by sec. 605. Pub. L. No. 96221. 94 Stat. 170 (15 U.S.C. 1604 et seq.);
section 1204(c). Competitive Equality Banking
Act. Pub. L. No. 100-86,101 Stat. 552.
2. In § 228.5b, the introductory text to
paragraphs (f). (0(3), and (f)[3)(vi) is
republished and paragraphs (f)(3)(i),
(f)(3)(vi)(E), and (f)(3)(vi)(F) are revised
and paragraph (f)(3)(vi)(G) is removed to
read as follows:
Subpart B—Open-End Credit
§ 226.5b Requirements f o r home equity
plans.
*
*
*
*
*
(f) Limitations on home equity plans.
No creditor may, by contract or
otherwise:
* * * * *
(3)
Change any term, except that a
creditor may:
(i)
Provide in the initial agreement
that it may prohibit additional extensions
of credit or reduce the credit limit during
any period in which the maximum
annual percentage rate is reached. A
creditor also may provide in the initial
agreement that specified changes will
occur if a specified event takes place
(for example, that the annual percentage
rate will increase a specified amount if
the consumer leaves the creditor's
employment).
* * * * *
(vi) Prohibit additional extensions of
credit or reduce the credit limit
applicable to an agreement during any
period in which:
* * * * *
(E) The priority of the creditor’s
security interest is adversely affected by
government action to the extent that the
value of the security interest is less than
120 percent of the credit line; or
(F) The creditor is notified by its
regulatory agency that continued
advances constitute an unsafe and
unsound practice.
* * * * *
3.
In § 226.9, paragraph (c)(3] is
revised to read as follows:
the creditor shall mail
or deliver written notice of the action to
each consumer who will be affected.
§ 226.9 Subsequent disclosure
The notice must be provided not later
requirements.
than three business days after the
*
fr
*
*
*
action is taken and shall contain
specific reasons for the action. If the
(c) Change in terms. * * *
creditor requires the consumer to
(3)
Notice for home equity plans. If a request reinstatement of credit
creditor prohibits additional extensions privileges, the notice also shall state
of credit or reduces the credit limit
that fact
applicable to a home equity plan
♦
*
*
*
*
pursuant to § 226-5b(f)(3)(i) or
§ 226.5b(f)(3)(vi},
4
Appendix G to Part 226 {Amended]
4.
Appendix G to part 226 is amended
by removing G-14C—Home Equity
Sample (Repayment phase disclosed
later].
*
*
*
*
*
By o rd e r o f the Board of G overnors of the
Federal Reserve System . Septem ber 12.1990.
William W. Wiles,
Secretary of the Board.
[FR Doc. 90-21974 Filed 9-17-90; 8:45 am]
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