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Why Mortgage Disclosures Don't Work


I began my career during the real estate boom of the early 2000s. Finding work as a real estate attorney simply required knowing one or two realtors. The deals were everywhere.

As we now know, that didn't last. One of the major reasons why is that banks were lending money to people who had no business taking out loans or who had provided no documentation demonstrating that the loan could be repaid.

In no small part, this practice led to the utter collapse of the mortgage industry and our nation's economy.

In the wake of the economy's collapse, the Consumer Financial Protection Bureau was formed. Its mission is to protect consumers in ways that other federal regulators have been unable or unwilling to pursue. As part of its mission the CFPB has revamped the disclosure forms that borrowers receive at various points in the loan application process.

These forms are designed to make information about a mortgage easier to access and understand. Truth in Lending disclosures, Good Faith Estimates, and the HUD-1 closing statement have all been revamped.

But do these documents have any real effect? According to a study published in the Yale Law Journal Online, they might not.

The study utilized the 2010 HUD-1 and TILA disclosure forms and eye-tracking technology to determine whether the improved forms truly affected a consumer's ability to understand the features of a loan. Study participants were asked to review documents as if they were borrowers taking out a loan. They were then asked questions related to the information on the forms. The eye-tracker was used to determine which portions of the disclosures were most attractive to the eyes of the test subjects.

Three sets of test subjects were tested. One set was provided with an adjustable rate loan's initial interest rate. The second set was given the initial monthly payment amount. The third set was engaged in conversation by the person administering the test while they were trying to read the forms.

The results of the test were surprising. Subjects in the first two groups could readily recall the initial interest rate or monthly payment, but largely failed to acknowledge that the interest rate and monthly payment could adjust to a higher amount -- most thought it would remain the same or decrease. Based on the eye-tracking results, it appears that instead of reading the entire form, most test subjects scanned the form for numbers that confirmed the information that they already had. This phenomenon is known as confirmation bias.

The study also revealed that, even when using better-designed forms, if the researcher was distracting the subject via conversation, the subject failed to recognize bad loan terms. However, when the better-designed forms were read without distractions, subjects tended to notice that a loan had bad terms.

My take-away from these results is that while a well-designed disclosure form can make it easier to absorb information, consumers remain largely uninformed when it comes to what specific loan terms mean. Additionally, confirmation bias plays upon the power of suggestion. If a mortgage broker tells a borrower that the initial interest rate on an adjustable-rate loan is 4% without providing more information, that number remains fixed in the borrower's head.

The phenomenon is similar to how some people selectively listen to others. When someone makes a conditional statement (e.g. "I can mow your lawn, but I have to go grocery shopping first.") people tend to hear the positive portion but fail to retain the negative portion.

This is a big problem for people who are buying homes. Home loans are huge -- they are likely the most expensive loan product that a person will purchase. Understanding the terms of the loan BEFORE coming to the closing is essential. In order to ensure that you understand the terms of the loan that you are obtaining, it would be wise to have an attorney review the disclosure forms you receive from your mortgage broker.

This study also highlights the importance of having your attorney explain the entirety of your loan package to you at closing. It is in our nature to hear the positives and ignore the negatives. Having another person who is disinterested in your loan review the documents is a good thing. Mortgage brokers and other people who stand to profit from a transaction have a disincentive to provide accurate information about a loan's terms.

While we should expect that the law protects us from predatory lending practices, it is up to the individual to take the necessary precautions to protect himself from less-than-scrupulous lenders.