Mortgage Broker Loan Pricing Leading Up to the Financial Crisis: Were Yield Spread Premiums the Only Problem?

This article examines mortgage broker pricing in New York during the years leading up to the financial crisis. Broker compensation practices in 2005 through 2007, primarily the use of yield spread premiums (YSPs), led the Federal Reserve to promulgate new rules in 2011 that disallowed loan originators who receive compensation directly from the consumer from also receiving compensation from the lender or another party. This consumer testing rule passed because the board found that consumers were not aware of the payments lenders make to originators and how those payments can affect the consumer's total loan cost. Focusing on total costs paid by the borrower, we find that minority borrowers paid more in total fees as a percentage of the loan amount when including or excluding YSPs. Moreover, white borrowers were more successful in substituting YSPs for up-front cash fees, resulting in a reduction in total loan fees compared with minority borrowers. This may reflect information advantages for white borrowers that allow them to more accurately assess the total cost of loans.