Senator Eliot Shapleigh - El Paso, Texas

Chairman Burt Solomons meets with the Governor.

Nearly a decade after voters approved home equity loans in Texas, a high-stakes legislative fight is brewing over some of the major consumer safeguards in the law.

The debate could determine whether bankers can continue to charge fees that a State District Court has ruled excessive and whether lenders can continue to take most applications over the phone. Consumer groups say that practice is rife with potential abuse and contributes to mortgage fraud in all types of home loans.

The chairman of the House Financial Institutions Committee, Rep. Burt Solomons, R-Carrollton, has introduced a proposed constitutional amendment to the home equity law.

One housing law expert said it's critical that the Legislature clarify consumer protections in home equity lending that voters approved as a constitutional amendment in 1997.

"Just look at the problems we see now in predatory subprime lending and the collapse of some of the large companies that engage in it," said Robert Doggett, an Austin lawyer who represents the Texas Low-Income Housing Information Service. "A lot of those issues directly relate to this debate. Lenders are at the Capitol to weaken the protections (for consumers) and deterrents to abusive lending practices put into place in 1997."

Bankers and consumer groups are scrambling to put their stamp on Solomons' measure because the issues also are playing out in the courts. Last year, State District Judge Scott Jenkins ruled that the state Finance Commission, which wrote rules interpreting the lending law, illegally allowed lenders to charge higher fees than the Texas Constitution allows.

The Finance Commission's rules rendered "essentially meaningless" a provision that caps lender fees at 3 percent of the loan amount, Jenkins said in a case against the commission brought by the Association of Communities Organized for Reform Now and clients of Texas Rio Grande Legal Aid.

Jenkins also ruled the Finance Commission improperly allowed lenders to take oral applications for loans — a huge problem for large banks such as JPMorgan Chase & Co., whose officials have said they take the bulk of applications in Texas over the phone.

Jenkins' order was stayed pending the appeal of the case, which is being considered by the Austin-based 3rd Court of Appeals.

Solomons' proposed amendment would require lenders to get a written or electronically filed loan application to start the 12-day waiting period for a loan. He said that was the intent of the home equity law, but the Finance Commission ruled oral applications could be taken.

Solomons' measure would uphold the trial court ruling that said applications must be written or electronic. He said last week that lobbyists for megabanks JPMorgan and Citigroup Inc. have threatened to sink his entire measure unless he changes that provision.

Solomons said the lobbyists told him that if applications were limited to written or electronic, "then somehow the entire universe would fall apart because some of the bigger boys and girls that play the game of home equity do it almost entirely by phone."

"I don't want to do them wrong," Solomons said, "but I really don't feel like being threatened either, with them saying the whole bill is dead if we can't discuss it on our terms."

Proposed constitutional amendments require a two-thirds vote from each chamber, making them easier to derail.

Neither of the lobbyists in question returned calls for comment. They are Mark Morris, a lawyer with JPMorgan in Austin, and James Bantham, a senior vice president for Citigroup based in Irving.

In a deposition last year in the Finance Commission case, Jeffrey Johnson, the national operations manager for JPMorgan's retail lending division, said "it is not the practice" of the bank to take written applications.

Johnson said JPMorgan loan officers are paid according to how many loans they are able to close — a common practice — and that there is no confirmation with the applicants about whether the information they have provided is accurate. Nor do applicants ever get a copy of what loan officers take down over the phone.

Texas would become one of only a handful of states with an outright ban on oral applications. But Doggett said requiring written applications, and providing the completed applications to borrowers at closing, would reduce fraud on both sides of the loan.

"One of the classic ways people are getting screwed is that brokers put down anything they want so the loan gets approved," Doggett said. By the same token, he said, borrowers can give a false picture of their finances.

Lenders "are complaining about mortgage fraud, yet they're almost inviting it by their practices," Doggett said.

The Texas Department of Savings and Mortgage Lending has singled out inaccurate applications as a contributor to mortgage fraud.

In a report to the Financial Institutions Committee on March 5, Commissioner Danny Payne said his agency was seeing more instances of applications with falsified income and other financial figures, sometimes with instructions by a broker on how to manipulate the system to win loan approval.

Solomons' measure would, however, reverse the court ruling on fees. Backers of the home equity constitutional amend- ment touted a 3 percent cap on fees as a stout consumer protection.

But Jenkins ruled that the Finance Commission allowed lenders to charge hefty upfront fees on loans by classifying them as interest.

As a result, Jenkins said, a lender could charge a point, or 1 percent of the loan amount, for just about any service: "(A) point to originate the loan, a point to evaluate the loan, a point to maintain the loan, and a point to service the loan, even though none of those points bore any relationship to the monthly interest rate being charged the borrower."

One plaintiff in the case, Valerie Norwood of Austin, in 2002 paid seven points for an adjustable-rate mortgage that started at 8.54 percent, court documents show. The points cost Norwood $4,060 to get a $58,000 home equity loan, and other fees brought her total fees at closing to $10,719.

Solomons' proposal would overturn Jenkins' ruling on origination and loan servicing fees, however. That would give bankers a big victory.

Karen Neely, the general counsel for the Independent Bankers Association of Texas, said Texas law is clear that origination fees are interest and are not part of the 3 percent fee cap on home equity loans.

Legal wrangling over home equity

1997: Voters approve constitutional amendment allowing home equity loans.

2003: Voters approve constitutional amendment permitting home equity lines of credit and giving the Finance Commission the power to write rules interpreting loans and lines of credit.

2004: Finance Commission issues rules on home equity loans and is quickly sued by consumers groups.

2006: State District court invalidates most of the Finance Commission's rules, but the order is stayed pending appeal.

2007: Rep. Burt Solomons introduces House Joint Resolution 72 to resolve conflicts between the constitution and the state court ruling.