Baltimore's lawsuit against Wells Fargo for its subprime mortgages has stirred up frustration among industry players, who say they're increasingly taking heat for offering loans in poorer and minority neighborhoods despite being urged for years to do just that.
"What are you supposed to do?" asked Thomas Shaner, executive director of the Maryland Association of Mortgage Brokers, repeating the sentiment he heard this week.
The city's suit, filed Tuesday, alleges that Wells Fargo targeted black neighborhoods for the higher-cost, looser-standards home loans and is responsible for the resulting high foreclosure rates. The lawsuit was followed Thursday by one in Cleveland, which seeks damages from 21 investment banks and lenders -- including Wells Fargo -- that funded subprime loans. Cleveland officials contend that these institutions helped to create a flood of foreclosures that's eroding tax revenue and increasing the city's costs.
The suits have been met with cheers by homeownership advocates, who say too many borrowers of all races were sold ill-designed and unreasonably expensive loans that lenders and their Wall Street funders should have known would fail. Others fear an unintended chilling effect for the less-affluent urban borrowers who were once snubbed by lenders.
"I'm not saying there aren't villains in all this, ... but you do worry about an overreaction that would deter inner-city lending for the next decade," said John Coffee, a specialist in corporate and securities law at Columbia University Law School. "That could be a long-term harm."
Baltimore argues that its suit isn't intended to discourage lending, only predatory loans. After decades without much access to financing, borrowers in minority neighborhoods were eager for mortgages and therefore at high risk to be taken advantage of, the suit says.
"What we don't want is lenders preying on people who historically have been denied credit," said Sterling Clifford, a spokesman for Mayor Sheila Dixon.
The city alleges that Wells Fargo made subprime loans to 65 percent of its black mortgage customers in Baltimore, but just 15 percent of its white customers in 2006. The bank also charged higher interest rates for lower-value loans -- the sort more common in a majority black neighborhood in the city than in white areas -- and is seeing a foreclosure rate in black neighborhoods nearly four times that in white ones, the lawsuit says.
Wells Fargo reiterated yesterday the statement it made this week that it prices all loans based on credit risk, not race.
"We are committed to serving all customers fairly -- our continued growth depends on it," bank spokeswoman Debora Blume said in the statement.
Banks and savings and loans are directed by the federal Community Reinvestment Act to meet the needs of low- and moderate-income areas in their regions, particularly where lending is concerned. That law doesn't apply to the country's many other mortgage players, but all have felt pressure to lend beyond comfortable suburban neighborhoods.
In 2002, President Bush "issued America's Homeownership Challenge to the real estate and mortgage finance industries to encourage them to join the effort to close the gap that exists between the homeownership rates of minorities and non-minorities," according to an administration press release touting an "Ownership Society."
"Government agencies and the public-interest groups strongly encouraged the lending industry to come up with flexible underwriting and new ways of thinking to maximize home financing opportunities for borrowers with impaired credit, and now, the very programs that they developed are being criticized," said financial-services attorney Larry Platt, a partner with K&L; Gates in Washington.
John Taylor, president and chief executive of the National Community Reinvestment Coalition, which promotes fair and equal access to credit, doesn't think much of such arguments. It's not in borrowers' interests to get bad loans, and that's what happened, he said.
Subprime mortgages, designed for customers with imperfect credit, exploded in number during the housing boom. They carry higher interest rates, because of the higher risk of default. Many also came with terms advocates call questionable, such as high prepayment penalties, no escrow accounts for property taxes and adjustable interest rates.
Taylor said subprime loans were so much more profitable for lenders and brokers than traditional mortgages that they even pushed them on borrowers who qualified for cheaper, standard loans, including homeowners looking to refinance. And, because loans were resold to Wall Street investors, lenders were far less concerned than they should have been about whether borrowers could make the payments, he said.
"Up until about five, six years ago, you really could trust the process, because this kind of malfeasance was the exception -- and it was called fraud," Taylor said.
Patricia McCoy, a law professor at the University of Connecticut, thinks it's likely that more cities will file lawsuits like Baltimore's and Cleveland's.
"The harm that they complain of is very real," said McCoy, who specializes in mortgage lending, banking and consumer protection.
Local banks regulated by the Community Reinvestment Act aren't joining the refrain that Baltimore's suit will chill lending. Charles Martin, an administrative vice president and reinvestment act officer for M&T; Bank, said a responsible lender will "make responsible loans."
M&T; said it offers below-market interest rates for low- and moderate-income borrowers and connects them with nonprofit credit counselors to make sure they understand what they're getting into. The bank hasn't seen a big uptick in foreclosures or delinquencies among those customers since the housing slump began, Martin said.
"If you can increase the amount of people who participate in the economy of the local region, you can actually increase the wealth of the region," Martin said. "But it's also just good business for the bank."
Sun reporter Paul Adams contributed to this article.