HOEPA high-cost mortgage rules: the triggers, the banned terms, the counseling duty

HOEPA draws a price line above which a consumer mortgage becomes “high-cost” — and then strips out the balloon payments, prepayment penalties and default-rate tricks that made such loans dangerous.

The Home Ownership and Equity Protection Act of 1994 was Congress’s first answer to equity-stripping lenders who targeted older and lower-income homeowners with refinances priced far above the market. It amended the Truth in Lending Act and lives in Regulation Z at sections 1026.32 and 1026.34. For its first two decades it covered only refinances and closed-end home equity loans; the Dodd-Frank Act extended it, effective January 10, 2014, to purchase-money mortgages and home equity lines of credit. The statute does not cap what a lender may charge. It defines a threshold and, for loans above it, imposes restrictions strict enough that almost no mainstream lender is willing to make one.

Which loans can be high-cost

HOEPA applies to consumer-purpose credit secured by the borrower’s principal dwelling — purchase, refinance, closed-end home equity and HELOC. It does not apply to:

reverse mortgages (which have their own disclosure regime);
loans to finance the initial construction of a dwelling;
loans originated by a state housing finance agency;
USDA Section 502 direct loans;
second homes, investment property and business-purpose loans, which are outside the principal-dwelling and consumer-purpose requirements. A hard money loan on a rental is never a HOEPA loan; a hard money loan on the house you live in can be.

The three triggers

A covered loan is high-cost if it crosses any one of three lines, measured at consummation:

APR. The annual percentage rate exceeds the average prime offer rate for a comparable transaction by more than 6.5 percentage points on a first lien, or by more than 8.5 points on a subordinate lien (or on a first lien under $50,000 secured by a dwelling that is personal property, such as a manufactured home not on owned land).
Points and fees. Total points and fees exceed 5% of the total loan amount on loans at or above an indexed threshold (roughly $26,000, adjusted each January), or the lesser of 8% or an indexed dollar amount (about $1,300) on smaller loans. Points and fees include origination charges, most third-party fees paid to the lender or an affiliate, mortgage broker compensation, and credit insurance premiums; bona fide discount points may be excluded within limits.
Prepayment penalty. The loan permits a penalty more than 36 months after consummation, or a penalty exceeding 2% of the amount prepaid.

The APR for the test is the higher of the disclosed APR or, for some loans, an APR computed at the fully indexed rate. The test is applied by the lender before closing, and the result controls whether the protections below attach.

What a high-cost loan cannot contain

Once over the line, Regulation Z forbids the terms most associated with predatory lending:

Balloon payments, except on certain short-term bridge loans and loans by small rural creditors;
prepayment penalties of any kind;
negative amortization and payment schedules that advance more than two payments from the proceeds;
an increased interest rate after default;
due-on-demand clauses, except in cases of fraud, default, or action that impairs the collateral;
financing points and fees into the loan, and charging fees to modify, defer or extend it;
late fees above 4% of the past-due payment, and pyramiding of late fees;
fees for payoff statements, other than for expedited delivery after the free options are used;
recommending or encouraging default on an existing loan to be refinanced;
structuring a loan as open-end to evade the rule.

Three affirmative duties go with the prohibitions. The lender must verify the borrower’s ability to repay from documented income and assets (HELOCs follow a parallel standard). It must deliver a special HOEPA disclosure at least three business days before consummation, stating in plain words that the borrower is not required to complete the transaction and could lose the home, with the APR, the regular payment, any balloon payment, and the amount borrowed. And the borrower must receive pre-loan counseling from a HUD-approved counselor, documented by a written certification, before the loan closes — the counselor may not be affiliated with the lender.

Where HOEPA stops

It does not cap rates or fees below the triggers; a loan priced at APOR plus six points is expensive and perfectly lawful under HOEPA (though it is a higher-priced, non-qualified mortgage with its own rules). It does not reach investment-property or business-purpose lending, and it says nothing about the seller, the appraiser or the broker’s conduct beyond the fee count. Many states have their own high-cost and “predatory lending” statutes with lower triggers — North Carolina, New York, New Jersey, Illinois and others — which apply in addition.

Enforcement and what a borrower can recover

A HOEPA violation carries every remedy of TILA plus an enhanced one: the borrower may recover all finance charges and fees paid, in addition to actual and statutory damages and attorney’s fees, in an action filed within three years. A loan that is high-cost without the required disclosures is subject to rescission for up to three years. Uniquely, HOEPA removes the usual protection of the secondary market: anyone who buys a high-cost loan takes it subject to all claims and defenses the borrower could have raised against the original lender, unless the purchaser shows it could not reasonably have known the loan was high-cost. The CFPB, FTC and state attorneys general enforce it, and state regulators police the state analogues.

Spotting one before you sign

Compare the APR on your Loan Estimate with the average prime offer rate for that week; a spread approaching 6.5 points, or origination and broker charges approaching 5% of the loan, means you are at or near a high-cost loan. If the lender has not mentioned counseling or the HOEPA notice, ask whether it ran the test. On a refinance, be alert to a loan officer who suggests skipping your current payment, who adds credit insurance, or whose “discount points” do not actually lower the rate — each is a counted fee or a prohibited act. A HUD-approved counselor costs nothing; our counselor guide explains how to find one, and the foreclosure rescue scams guide covers the refinance pitches that most often turn out to be high-cost loans. The full text is in the CFPB’s Regulation Z.

Key points

Enacted 1994 as an amendment to TILA; expanded by Dodd-Frank to purchase loans and HELOCs from January 10, 2014 (Regulation Z 1026.32 and 1026.34).
Covers consumer-purpose loans secured by the principal dwelling; reverse mortgages, initial construction loans, HFA and USDA 502 direct loans are exempt.
APR trigger: more than 6.5 points over APOR on a first lien, 8.5 on a subordinate lien or small personal-property-secured first lien.
Points-and-fees trigger: over 5% of the total loan amount (indexed threshold near $26,000), or the lesser of 8% or about $1,300 on smaller loans.
Prepayment-penalty trigger: any penalty after 36 months or above 2% of the amount prepaid.
High-cost loans may not have balloons (with narrow exceptions), prepayment penalties, negative amortization, default-rate increases or late fees over 4%.
Special disclosure 3 business days before closing and HUD-approved counseling with written certification are required.
Remedies: all TILA remedies plus all finance charges and fees paid, rescission up to 3 years, and liability of any purchaser of the loan.

How HOEPA applies to you

Frequently asked questions

Is a hard money loan a HOEPA high-cost mortgage?

Only if it is a consumer-purpose loan secured by your principal dwelling, which most hard money loans are not. A loan to buy or renovate a rental is business-purpose and outside HOEPA regardless of price. A hard money refinance of the home you live in, priced at typical hard money rates and points, would usually cross the APR or fee trigger and would then be subject to the full set of restrictions — which is why legitimate lenders decline those.

What counts toward the 5% points and fees test?

Origination fees, discount points (except bona fide points within limits), underwriting and processing fees, mortgage broker compensation, premiums for credit life or similar insurance, and charges for third-party services paid to the lender or its affiliate. Bona fide third-party charges such as an independent appraisal or title insurance are generally excluded, as are interest and most escrow deposits. The calculation follows the qualified mortgage points-and-fees definition.

Do I have to get counseling for a high-cost loan?

Yes. Before a high-cost mortgage can close, the borrower must receive counseling on the advisability of the loan from a HUD-approved housing counselor not affiliated with the lender, and the lender must receive a written certification of that counseling. The counselor must have the Loan Estimate or HOEPA disclosure in hand. The counseling is free or low-cost and cannot be waived.

What happens if a lender made a high-cost loan without following HOEPA?

The borrower may sue within three years for actual damages, TILA statutory damages, all finance charges and fees paid, and attorney’s fees; missing disclosures also extend the right of rescission to three years. Anyone who later bought the loan is generally subject to the same claims. State high-cost laws may add remedies. Document the loan terms and consult a consumer attorney or a HUD-approved counselor.