Wealth Stripping: Why It Costs So Much to Be Poor
In their defense, these lenders claim they serve communities that banks do not. To some extent, they have a point. There are far fewer banks in minority neighborhoods than in white ones. But physical proximity is not the only barrier to greater bank usage cited by lower-income and minority consumers. Many alternative financial-services customers do not trust banks, do not feel welcome at them, do not understand the products they offer, and cannot afford the steep fees they charge. For debit cards, the typical overdraft fee of $34 is triggered by transactions that average just $17. And bank fees have been rising since the onset of the current economic crisis. According to a report by the Pew Charitable Trust, the median extended overdraft penalty fee at the nation’s 12 largest banks has increased 32 percent since 2010.
Disappointingly, there are substantial and growing connections between mainstream banks and alternative lenders. One study found that more than 40 percent of the payday-loan industry is financed by the nation’s largest banks. Moreover, some recent bank products mirror those of the most predatory alternative storefront lenders. Many traditional banks have entered the payday-loan arena, for example, with a product called a “checking account advance” loan. Those loans typically are for a ten-day period and carry an annualized interest rate of 365 percent. It’s worth noting that the nation’s largest banks are able to borrow at a practically 0 percent interest rate due to the Federal Reserve’s monetary policy.
Of course, the most damaging and predatory loan product of all was the subprime mortgage that triggered the ongoing foreclosure crisis. The loss of wealth from foreclosures has been unnecessarily compounded by our inability to respond adequately to the crisis and the continued failures of the federal foreclosure-prevention programs. The higher numbers of foreclosures among minority households related to predatory loan products has been extensively documented. Prince George’s County in Maryland is the highest-income majority African-American county in the nation and, ironically, also the foreclosure capital of that state. In a recent study on foreclosures in that community, high-income borrowers in African-American neighborhoods were 42 percent more likely to go into foreclosure than typical borrowers in white neighborhoods. High-income borrowers in Latino communities fared worse: They were about 160 percent more likely to experience a foreclosure.
The reasons for the differences in foreclosure rates between residents in minority and nonminority communities are not known; they are not explained by differences in basic money management or loan or product type, since these variables are controlled for. Some possible causes could be a failure to apply for or receive similar treatment with respect to loan modifications, fewer savings to cushion financial shocks, higher levels of unemployment or underemployment, and higher levels of negative equity for minority households. Gaining a full understanding of these causes is critical.
In addition to this direct loss of wealth, neighboring residents in the communities in which foreclosures have been concentrated have also suffered. Distressed home sales drag down adjacent home prices, and improperly maintained vacant and abandoned properties can cause home prices in a community to collapse. (Not all neighborhoods are treated the same by the mortgage servicers who are responsible for the maintenance of their foreclosed properties: A recent investigation by the National Fair Housing Alliance found that foreclosed properties in communities of color were more than 80 percent more likely than those in white areas to have broken or boarded-up windows and other visible maintenance deficiencies.) Failing to prevent foreclosures and maintain vacant and abandoned properties has contributed to wealth stripping, particularly in minority communities. Research by the Woodstock Institute found that African-American and Latino communities in the Chicago area are likely to experience twice the amount of negative home equity (that is, when the value of a mortgage exceeds the value of a home) as non-Hispanic white communities.
Foreclosures have other harmful impacts on community. One consequence is a decrease in property tax revenue as a result of falling property values, which can harm local schools and other essential social services. Large numbers of foreclosures can also cause a loss in community cohesion and stability as families that have lost their homes relocate out of the neighborhood. And large numbers of foreclosures can lead to increasing crime that accompanies vacant and abandoned properties.
Going forward, there are some changes that must at a minimum be made. First, people should be able to access bankruptcy protection in order to maintain their homes. Right now, the family home is the only asset that cannot be restructured in bankruptcy proceedings—though the outstanding debt on a luxury yacht, vacation home, or investment property can be modified. This serves no legitimate public purpose and disproportionately harms those families and communities most affected by the current foreclosure crisis. It has been estimated that bankruptcy protection could have prevented thousands of foreclosures, and at no cost to the American taxpayer.
Second, credit reports should distinguish whether poor credit repayment behavior is the result of a mainstream or predatory financial product. Such a distinction would permit many subprime mortgage borrowers—whose default was due to deceptive loan products, not their unwillingness to pay—to obtain credit cards or other consumer credit, as well as to secure employment opportunities.
Third, policy-makers and regulators should remain aware that access to a full continuum of affordable and reliable financial products and services is essential, and that vulnerable consumers need to be protected. They need to exercise their authority with both urgency and care—urgency in purging the excessive and exploitative costs of fringe financial products and services, care in maintaining the customer-friendly marketing and operations that alternative-lending customers value. This includes affordable homeownership financial products that will be essential to jump-start the housing market and begin the process of rebuilding the enormous wealth loss resulting from the pre-crisis proliferation of reckless and unsustainable subprime mortgages.
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