IN THE MIDST of a hailstorm of negative headlines about its accounting woes, Fannie Mae, the country's largest source of home mortgage money, has quietly begun two significant consumer reforms.
In new guidance to thousands of lenders nationwide at the end of last month, Fannie delivered what could be a knockout punch to the mandatory-arbitration clauses that sometimes are hidden like time bombs in home mortgage documents.
Mandatory arbitration means that a homebuyer or someone refinancing a mortgage who gets into a dispute with a lender after the loan closing must submit to binding arbitration of the matter.
Consumer advocates charge that many borrowers are unaware of the clauses when they shop for or settle on their mortgages, and end up trapped by them later when they find that they have no right to take their lender to court.
"Lenders try to tie the hands" of customers to minimize the likelihood of individual or class action lawsuits, said David Berenbaum, senior vice president of the National Community Reinvestment Coalition.
The arbitration process might be faster and less costly in some cases, but consumer groups say arbitration too often proves just as expensive and protracted as the judicial route while eliminating a consumer's rights to argue before a jury and obtain reasonable compensation.
In Fannie Mae's new instructions to lenders, the company bans the inclusion of mandatory-arbitration language in all mortgages it purchases or guarantees in mortgage-backed securities. The ban covers all loans closing on or after Oct. 31 and is similar to a policy put into effect in August by Freddie Mac, the other big government-chartered private mortgage investor.
Both companies purchase billions of dollars' worth of loans monthly and provide liquidity to the national mortgage marketplace.
Both companies' moves are aimed primarily at "subprime" loans extended to borrowers whose credit histories and scores render them ineligible for standard loan terms.
Those borrowers often are the main victims of predatory lending schemes in which mortgage documents include combinations of toxic terms, such as single-premium credit life insurance on top of bogus fees and charges, balloon payments and heavy penalties for early payoffs.
Mandatory-arbitration clauses make it difficult or impossible for victims of predatory lending to challenge such abusive combinations in court.
Fannie and Freddie primarily invest in standard loans made to homebuyers with adequate credit, but in recent years both have plunged into the subprime field with big splashes.
Subprime mortgages are especially attractive to lenders and investors because they carry high rates, offering the prospect of higher profit margins. Subprime lending is this year's boom segment of the home mortgage market.
In Fannie's new guidance, the company said it recognizes "that arbitration potentially represents a more efficient, streamlined, and less costly process. ... We also recognize, however, that borrowers who would prefer to present their grievances in court may unknowingly agree to mandatory arbitration at the time they sign their mortgage documents."
Fannie Mae said it "does not believe arbitration provisions are inherently abusive" but that "we believe it can be used in an abusive fashion."
Allen Fishbein, the Consumer Federation of America's housing and credit policy director, said the joint bans by Fannie and Freddie "really send an important message to lenders. You can no longer take away people's rights without their knowing it," at least not if the lender expects to sell such loans to the two biggest investors.
"We see this as a critical piece in the battle against predatory lending," Fishbein said.
Fannie Mae announced a second pro-consumer move in its latest guidance, a strong recommendation that lenders whose loans include prepayment penalties waive some or all of those fees when a borrower prepays a Fannie Mae-owned loan because the house is being sold.
Prepayment penalties often require borrowers to fork over substantial sums of money - sometimes six months' worth of interest or more - to the lender when they refinance or otherwise pay off the mortgage before a specified date. Sometimes the penalty is enforced only during the first couple of years, but occasionally it extends to three years or more.
Many lenders impose the penalties as a way to discourage serial refinancings or short-term rate-hopping by borrowers. When homeowners sell their houses before the penalty date, it's usually because of an employment relocation or other important life change, not because they are looking for a better rate on their mortgage.
Ken Harney's e-mail address is email@example.com.