According to the Federal Reserve, the average wealth of a white household was about six times greater than that of the average African American household and five times greater than the wealth of the average Latino household in 2013. Racial disparities in wealth grew wider than they’d been in decades after the 2008 recession, and led to disinvestment in neighborhoods and unequal opportunities for individuals who were of different races. What’s the culprit for this imbalance and inequality? Limited access to “good homes in high-quality neighborhoods,” according to BYU Sociology professor Jacob Rugh, among others. And the culprit for this limited access? High cost, high risk loans. When borrowing to purchase homes in past years, African American borrowers were two times more likely to receive a subprime loan that white borrowers.
Rugh and researchers like him are honing their interest on the changes made to the federal loan system in the years leading up to the US housing crisis and how this system created higher risk loans for minorities, perpetuating racial residential segregation in urban America. In a recent article co-authored by Dr. Rugh, he and his colleagues shared their analysis of 220 accounts in recent fair lending federal court cases involving discriminatory lending practices. The largest take-away? Loan originators utilized a number of mechanisms to identify and gain the trust of African American and Latino borrowers to place them in higher-cost and higher-risk loans.
The Past vs. Today- Same Issue, Different Way
“Historically,” says Rugh, “[the racial] disparities [in wealth] have been driven by multiple forms of discrimination…including white mob violence against African-Americans trying to move into formerly all-white neighborhoods, municipal segregation ordinances prohibiting residence by blacks on predominantly white blocks, …racially restrictive covenants barring the future sale of a property to non-whites, [and] redlining, or [denying] credit to [individuals in] non-white residential areas.”
Multiple studies have already documented that African American and Latino borrowers were frequently charged more for mortgage loans than similarly-situated white borrowers. What makes Rugh et al’s study unique is that it identifies the specific institutional- and individual-level mechanisms used to perpetuate those actions.
In the 1980s and 1990s, several federal legislative acts were passed to ensure that minorities were not being excluded from loan or housing opportunities. These new lending practices, however, also made loan profits come largely from fees and the gap between the prevailing interest rate index and the rate paid by the borrower. Enticing loan officers to go for quick profits, loan originators began to exploit rather than exclude minorities as they offered these individuals risky, high-cost financial services that only furthered financial and societal disparities between whites and minorities.
Tactics in Unfair Lending
Steering mortgage borrowers toward subprime loans, even if they qualified for prime loans, became common practice for many loan originators. “Put quite simply, loan originators wishing to maximize profits had to convince customers with good credit to accept higher cost, higher risk lending products,” says Rugh et al, whose analysis shows that originators explicitly targeted neighborhoods with large shares of black and Latino residents for those high-cost loans. They sought data sources that were thought to indicate a lack of financial sophistication and a desire for credit in the individuals listed, mailed “live” draft checks of $1,000 to $1,500 to people with medium to low credit scores, and if those checks were cashed, turned them into loans with interest rates as high as 29% and then targeted those individuals for home equity refinance loans.
Perhaps worse, though, or more indicative of motivation based on race, were the methods they used to gain the trust of those potential borrowers. According to Rugh, “qualitative evidence suggests that loan originators often gained the confidence of potential borrowers through the use of trusted co-ethnic intermediaries in community service organizations and churches. Solicitations for high-cost subprime loans in predominantly black communities were promoted through ‘wealth building seminars’ held in churches and community centers at which ‘alternative lending’ was discussed. No such solicitations were made in predominantly white neighbourhoods or churches (Jacobson, 2010). Some loan institutions made marketing materials that directly targeted minority individuals. In one case, a loan officer stated that his office held the attitude that minority customers “weren’t savvy enough to know they were getting a bad loan.”
Making Needed Changes
In 2010, the Dodd-Frank Act was passed, making necessary changes to the federal loan system and prohibiting loan originators from steering borrowers into higher cost loans when they qualify for better mortgages. Racial residential segregation and the “wide gap in social distance between decision-makers at mainstream financial institutions and communities of color,” however, remains an issue today, according to Rugh and others. What can policymakers, lenders, consumer protection groups, and individuals do to discourage such practices? In a 2015 study done by Rugh of the Baltimore housing market, he suggested:
- implementing or advocating the implementation of increased civil rights enforcement by institutionalizing ongoing audits and other cost-effective means to monitor racial disparities and increase transparency in ways that remediate systematic patterns at the level of structure and policies rather than isolated acts of individuals.
- offering only safe, fixed-rate mortgages and down payment ratios that make home ownership, wealth accumulation, and social mobility accessible for borrowers of color.
- owning other assets besides a mortgage, thus reducing your risk.