19 OCTOBER 2009

Predatory Lending Practice



Predatory Lending Practices Should Be Banned: The Critical Issue Facing by Financial Services Industry Wan Ahmad Marwan bin Yaacob (0713725) Kulliyyah of Economics and Management Sciences, International Islamic University Malaysia.

.Predatory Lending Practice 3 Abstract This paper seeks to highlight the issue of predatory lending that has become one of the most critical policy issue faced by the financial services industries. and violate the Islamic fundamental and laws. The predatory lending is argued as a tool to oppress the consumers. journals. In preparing this paper. it is hoped that government and financial agencies will find the effective measures in order to prevent this kind of practices from spreading in society and teach the public concerning the abusive of predatory lending. Internet papers. books. The focus will be given into the reason why predatory lending should be prohibited from the financial services industry. and discussions were used. newspapers. articles. Last of all. threat violence to society.

Predatory Lending Practice 4 TABLE OF CONTENTS Page Abstract I II Introduction Arguments Argument 1 Oppress the borrower Argument 2 Threat violence to society Argument 3 Islamic perspective Counter-argument III Conclusion References Glossary 7 9 11 13 15 17 3 5 .

so that if the borrower defaults on the loan. such as a car or house. However. loan flipping. those most often cited as predatory lending include making unaffordable loans based on the collateral rather than on the ability of borrower to repay the loan. the lender can repossess or foreclose and profit by selling the repossessed or foreclosed property. or agents of the lender. or that the borrower's ability to pay is greater than it actually is. They claim that predatory lending is not a crime and it is a kind of business that practiced by capitalists in conventional economics. and servicing agent and securitization abuses.Predatory Lending Practice 5 Introduction Predatory lending has become one of the most critical policy issues faced by the financial services industry. 2000) (Fisher. There are many lending practices which have been called abusive and labeled with the term "predatory lending" such as unjustified risk-based pricing. Predatory lending typically occurs on loans backed by some kind of collateral. Lenders may be accused of tricking a borrower into believing that an interest rate is lower than it actually is. The lender. single-premium credit insurance. Even though predatory lending was becoming a global problem. 2005). may get profit from repossession or foreclosure on the collateral. some people looked the other way and did nothing to protect the borrowers. including a borrower to repeatedly refinance a mortgage for no other reason than to generate additional points and fees. The term ³predatory lending´ generally refers to subprime lending practices that are considered to be harmful and abusive to borrowers. failure to present the loan price as negotiable. short-term loans with disproportionally high fees. and engaging in fraud and deception to conceal from unsuspecting or unsophisticated borrowers the true nature and cost of a loan (Gramlich. I strongly agree with the topic that predatory lending practices should be banned because these kind of practices are giving a lot of harmful to . While there is no universal agreement on what practices should be considered predatory.

.Predatory Lending Practice 6 people and the economy rather than a little helping to the society in terms of oppressing the borrowers. threatening the security and safety of society and practicing totally against the Islamic laws and teachings.

a predatory mortgage can have loan fees in excess of 5%. predatory lenders charge different interest rate depending on the types of the loan and some predatory lenders charge about 40% per fortnight with constantly compounding interest. prepayment penalties. bait and switch. most borrowers become trapped by their loans and are unable to pay off the principal and will be dragged on to become debt peon. refinanced mortgage can be packed with excessive fees or unnecessary fees. Besides. Predatory lenders use quite a number of different abusive practices such as insurance packing. 2003) (Legal Match. Stegman and Davis. balloon payment. (2001) explain the situations of predatory lending when they write about the research of predatory mortgage loan in the United States. and loan flipping when putting together a subprime loan and their possible targets are the elderly. Consequently. The abuse of subprime loans in minority neighborhoods is evidenced by the government study in an African-American neighborhood showing over 51% of the refinanced mortgages being subprime. equity stripping. 6). compared to only 9% in predominantly white neighborhoods. low-income. 2001). fraud. These excessive costs are tucked into the loan amount so the lender can easily cover up them.Predatory Lending Practice 7 Argument 1 . and these fees can put thousands of the homeowner's money into the predator's pockets (Carr and Kolluri. predatory lending practices should be banned because these practices are oppressing the borrowers.Oppressing the borrowers Firstly. The borrowers are often subjected to very aggressive sales tactics to push them or force them into refinancing when it is not in their best interest´ (p. 2009). Carr and Kolluri. However. or minority homeowners (Quercia. . A regular mortgage usually will have loan fees below 1% of the total loan amount. Normally.

To make things worse. Important to note. homeowner's insurance. the borrower will be trap in the hand of the predatory lenders. families. or the time frame to get approval for their application is quite long. 2001). they have no choice but would approach the predatory lenders even though they know the risk which will appear later. Finally. Most of them being a person who need money very urgently. life insurance. not just the borrowers themselves and the premium for these items is also added onto the loan amount where the cost is not easily spotted by the borrower. Thus. the lenders extended the insurance to include all family members. This is because. the borrowers who approach the predatory lenders are facing the critical financial situation. and health insurance etc. .Predatory Lending Practice 8 Moreover. either the chances of getting financial aids from legal financial institutions. so. As the result. it is very important to curb this problem now by banning all the predatory lenders whether they are legal or illegal. predatory lenders often add insurance and other unnecessary products to the loan amount. The insurance that they either insist on or coerce the borrower into buying can include regular mortgage insurance such as fire and hazard insurance. the predatory lenders earn large commissions every year on the premiums paid (Carr and Kolluri. normally. and relatives are very limited. disability insurance.

000 from the lender. plus extortionate penalties. the British government estimated about 165. predatory lenders also use violence to warn or force the borrowers to payback their loans. Because the victim is unable to pay the agreed monthly sum. Mister Richardson. 2009). Intense were the threats of violence to him and his family that his wife and daughter took the terrible decision to sell sex (Bahra and Bennett. 2007). hung head of pig outside the borrower¶s home. who runs Operation Shark Bait. Other research from the New Local Government Network puts the figure at 200. steal the items of borrowers worth the loan or in some extreme case. a multi-agency program that includes the police. In Malaysia and Singapore. There are many kinds of violence done by the predatory lenders such as beating the borrowers. a predatory lender threats of violence by forcing a family into prostitution in United Kingdom. due to the constantly oppressed by the predatory lender. predatory lending should be banned because these practices threaten the security and safety of the society. the victims was forced to commit suicide (The Star. 2009). An article published in nation headlines section of The Star (2009) under the title ³Loan sharks who held trader end up in custody´ stated: . For instance.Threaten the security and safety of the society Secondly. destroying their property.000. predatory lenders who are associated with organized crime syndicates also frequently threaten violence toward the borrowers who fail to pay in time.000 people turn to predatory lenders to get loans. Besides charging a very high interest rate. said that it was typical of the cases that investigated by him and his colleagues (Bahra and Bennett. financial investigators and members of his team. The victim had originally borrowed £1. Besides the victims.Predatory Lending Practice 9 Argument 2 . his debt was sold on to another lender who demanded immediate repayment of the whole amount.

Predatory Lending Practice 10 Four loan sharks were nabbed by the police while another escaped after they detained a furniture shop owner and demanded payment for a loan«The victim¶s wife met the suspects and her husband«ramming a police patrol vehicle in the process«adding that the case«attempted murder and Section 385 of the same Code for extortion«a manhunt for the escaped suspect has been launched (p. New Zealand and European countries. these practices also common in most of financial businesses at the global level such as in Japan. . China. the predatory lending practices should be banned globally and the predatory lending laws need to integrate into the legal systems of every country in the world. in order to stop all these problems. Hong Kong. Besides Malaysia and Singapore. 1). So. This article is an example of cases reported in mass media and told us about the danger of predatory lending practices to the public and the effect of these kind of practices to the harmonious and safeness of the society.

However. This would have included charging a fee for the use of money. and he will have (besides) a liberal reward (Al-Hadid 57:11)´. and refrains from usury. After countries legislated to limit the rate of interest on loans. Benevolent loan is a loan extended on a goodwill basis. Thus. Allah has said clearly in Surah Al-Baqarah verse 275. In addition. and the debtor is only required to repay the amount borrowed (Sariff. and prohibits usury´ (Al-Baqarah 2:275). the predatory lending practices have the element of usury in the transaction and it is against the command of Allah in the Surah Al-Baqarah verse 275 and those who charge usury are in the same position as those controlled by the devil's influence. the debtor may. First of all. In the case that the debtor does not pay an extra amount to the creditor. he may keep his past earnings. Usury originally meant the charging of interest on loans. wherein they abide forever. ³God permits commerce. verse 11. usury came to mean the interest above the lawful rate. pay an extra amount beyond the principal amount of the loan (without promising it) as a token of appreciation to the creditor. the word means the charging of unreasonable or relatively high rates of interest. whoever heeds this commandment from his Lord. they incur Hell. and his judgment rests with God. ³Who is he that will loan to Allah a beautiful loan? For (Allah) will increase it manifold to his credit. However. predatory lending practices should be banned based on Islamic perspective.Predatory Lending Practice 11 Islamic Perspective Thirdly. at his or her discretion. This is because they claim that usury is the same as commerce. In common usage today. this transaction . the predatory lending practices also ignore the encouragement of Allah for Muslims to help each other through benevolent loan as stated in Al-Qur¶an: Surah Al-Hadid. As for those who persist in usury. The practices of predatory lending are totally against the Islamic laws and teaching. 2008).

since it is the one type of loan that truly does not compensate the creditor for the time value of money. Some Muslims consider this to be the only type of loan that does not violate the prohibition on riba¶. al-wadiah. alhiwalah etc. al-rahn. alijarah.Predatory Lending Practice 12 is a true interest-free loan. qar al-hasssan (benevolent loan). So. bai¶ bi saman al-ajil. . we should ban all the transactions that include riba¶ and change it by using the Islamic financial transactions that approved by the Islamic scholars and the Shariah councils such as sales of al-amanah. takaful. as a Muslim that obey to the word of Allah.

which are not available to the wider research community for validation or replication. Don't believe it? Just take a look at the annual statistics for financial crimes. 1).´ ( Simply put. Bush to President Barak Obama. in his article at http://www. Nevertheless.Predatory Lending Practice 13 Counter-argument Opponents of this idea maintain that predatory lending practices should not be banned. Moreover. the predatory lending practices are still crimes even though they are not included in the annual statistics for financial crimes until the date.³Guest what? Predatory lending is not a crime´. They put forward this idea because they claim this practice is not a crime. broadly accessible census of subprime lending available to the research and lending communities (Quercia.but no predatory lender will ever be persecuted by the federal government. Not a single case of predatory lending«. he claim: ³«. they also had changed the policy of taking no action on predatory lenders to the policy of helping the consumers and borrowers from being trapped by predatory lenders (Spitzer. after the United States changed the administration from President George W.realtytimes. Stegman and Davis. According to Miller (2008). The Obama administration has altered The Truth in Lending Act (TILA) in order to protect the consumers and borrowers and improve the faith of public to the lending system that applied the concept of fairness and transparency to borrowers and . there is no comprehensive. 2004). This is because the limitation of existing data sets about predatory lending practices. That is why predatory lending is not declaring a crime and not put in the annual statistics for financial crimes. The reason? Predatory lending is not a federal crime. 2008). They have the opinion that the concepts of fairness and transparency applied just to borrowers but not to lenders.

. predatory lenders in some countries are more extreme and dangerous. they also frequently threaten violence to the borrowers and their family in order to force the borrowers pay back the loan. In addition. it is important to do something about this before it gets worse. Besides abuse or threaten unfair to borrowers by charging excessive interest rates. Thus.Predatory Lending Practice 14 lenders.

Predatory Lending Practice 15 Conclusion In conclusion. and caps on different financial services practices are not sufficient in order to address the broader issue of market failure that plagues these communities. mortgage loan documents consist of dozens of provisions written in extremely complex. restrictions. predatory lending is merely the extreme end of a spectrum of abusive. and costly financial services practices that dominate lowerincome and minority communities. there is enormous inertia in taking the definitive action that might impact any type lending service. For example. an issue of global concern. Part of the failure to aggressively address predatory lending is based on a legitimate concern that price controls and blanket prohibitions of individual loan features could negatively impact market segments in unintended ways. Yet. predatory lenders target lowerincome and minority borrowers with limited education and vulnerable elderly consumers . while there is strong consensus to act. Moreover. confusing. and technical legal language. low-cost financial services adapted to their low-income and low-wealth circumstances. there are real limits on the extent of consumer financial education that can help the borrowers whose are the focus of fraudulent professionals. unscrupulous. I firmly believe that predatory lending practices should be banned because the practices threat the consumers and borrowers with extravagant high interest rates. That broader challenge requires positive actions and initiatives. and against the Islamic fundamental. But limitations. use violence to the societies. Lower-income and minority communities need high-quality. Placing caps on certain practices and eliminating certain other behaviors would go a long way to removing some of the most destructive wealth stripping activities from the financial markets. The issue of predatory lending is. Therefore. for good reason. At the same time.

share the data of financial information with the financial institutions and enact the new laws or change the existing laws to prevent these kind of practices from spreading in the economy whether in microeconomics or macroeconomics. understand. and challenge specific requirements in many legal documents that are regularly involved in the mortgage lending process is a highly unreasonable expectation. the government agencies have to play their important roles in order to educate the public. the financial authorities such as Ministry of Finance and central bank should insist the financial institution to create and apply more lenient terms and conditions which will benefit both parties. To expect that financially consumers that are exposed to the risks can reasonably review. So.Predatory Lending Practice 16 specifically because they cannot reasonably protect themselves. . Part of that.

The Holy Qur¶an: Text and Translation. 2009. Surah Al-Baqarah: 275. The impact of local predatory lending laws on the flow of subprime credit. p. Journal of Urban Economics. (August 7. J. A. 2005). P. America and the Flat World.zeromillion. (December 6. 2009 from http://www.M. (2006). R. Gramlich. 24. Find The Right Lawyer Now: Predatory Lending Claim Lawyers. & Pennington. & Bennett. 2009 from http://www. Penguin Books. Issue 2. Legal Match.L. The Times. Retrieved September 24. Volume 60.Predatory Lending Practice 17 References µAbdullah Yusuf Ali. Conference on Predatory Lending. Fisher. G. Community and Consumer Affairs Department. sciencedirect. September 2006. Friedman. (1994).com. (2005). The World Is Flat. Remark at the Federal Bank of Philadelphia. Philadelphia.legalmatch. Loan sharks threats of violence forced family into prostitution. Bahra. Al-Quran. Retrieved August 4. Al-Quran. (December 20. Surah Al-Hadid: 11. Pages 210-228. E. from http://www. What Is a Predatory Lender? Retrieved August 4. (2009). . 2009). Kuala Lumpur: Islamic Book Trust. J. Ho. 2000).

What Is Predatory Lending?. Predatory lending laws. Fiqh for Economists II. Kulliyyah of Economics and Management Sciences. 2009). 2009 from http:www.G. The Star. p. 2008). International Islamic University Malaysia. Miller. Retrieved August 4. Guest What? Predatory Lending Is Not A Crime. W.A & Davis. Centre for Community Capitalism.R. (2003). M. . (May 7.realtytimes.Predatory Lending Practice 18 References Loan sharks who held trader end up in custody.G. ³National Headlines´ section. Thomas. 2009 from http://www. Retrieved from http//www. (July 26. Quercia. Sariff.mortgagenewsdaily. The impact of North Carolina¶s Anti-Predatory Lending Law: A descriptive assessment. (2009). Stegman. Retrieved August 4. S. A. Economics Department. (2009).com/. P. University of North Carolina at Chapel Hill. (2008).com. R. Benevolent loan.httparticles.

.Lender provides unnecessary refinancing of the loan with no apparent benefits to the borrower Balloon payments .Lender makes a loan based on the borrower's home equity.Concealment and fraud by the lender of the loan's terms Prepayment penalties .A loan that charges borrowers for services that a borrower does not need or want.Usury Sales of al-Amanah ± Sales based on trust of the revealed information (cost and profit). Bait and Switch .Lender offers one set of terms when the borrower applies for a loan. but changes them for worse terms at the time of the loan's closing Fraud . Al-Ijarah ± Leasing based on Islamic financing systems. regardless of borrower's ability to repay the loan Insurance Packing .Lender charges exorbitant fees if the borrower pays off the loan earlier or refinances Loan flipping .A loan with an outrageously high payment due at the end of the loan's lifetime Equity Stripping . Riba¶ .Predatory Lending Practice 19 Glossary Market segments ± a group of consumers who respond in a similar way to a given set of marketing efforts.

Predatory Lending Practice 20 Al-Bai¶ Bithaman Ajil . The Truth in Lending Act (TILA) .Deferred Payment Al-Wadiah .assures disclosure of credit terms .Current Account based on Islamic financing systems. Takaful ± Islamic Insurance Al-Rahn ± Mortgage based on Islamic financing systems.Remittance based on Islamic financing systems. Al-Hiwalah .

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