We have a customer who had a home equity loan. With the real estate rates dropping, he wanted a better rate with us. Instead of paying off the original home equity loan; and getting another (so the customer would not have to pay for another title policy) the bank chose not to make a NEW LOAN but to have the customer sign a modification agreement. This agreement changed the interest rate from a fixed 9.25% to Prime plus 2.5% ADJUSTING ANNUALLY; the payment amount was left the same. My question from a compliance standpoint is this allowed? What disclosures, if any, should be provided?

Reg. Z Commentary 226.20(a) comment 3(ii) "Even if it is not accomplished by the cnacellation of the old obligation and substitution of oa new one, a new transaction subject to new disclosures results if the credit either:
A. . . .
B. ADDS A VARIABLE RATE FEATURE TO THE OBLIGATION.
iii. If either of the events in paragraph 20(a)(iii)ii. A. or ii.B. occurs in a transaction secured by a principal dwelling with a term longer than one year, the disclosures required under Section 226.19(b) also must be given at that time. (ARM Disclosures).
I would be very careful about doing this on the Texas Home Equity Loan Product. You state that the payment remains the same. Depending on what the interest rate does, if the payment remains the same, you could potentially end up with negative amortization and/or balloon at the end of the term, which is prohibited by the Texas Constitution. Let me know how you guys end up handling this.

For all of you "non-Texas" bankers out there.......we, in Texas, have to follow some very strick rules concerning home equity lending. In fact, home equity lending in Texas became legal only a few years ago. Lisa's question stems from the fact that it is illegal to refinance or add to an existing home equity loan until the loan has been in existance at least one year. A homeowner cannot have more than one home equity loan at a time and open-end lines are forbidden. That's just the tip of the iceberg when it comes to what we, as banks, can and cannot do with regard to home equity lending in Texas.

In answer to your question, Lisa, I think that if you are creating a change to the loan that the borrower has requested and that is favorable to the borrower (such as a reduced interest rate, a lower payment, a longer term), a modification agreement would be in order, no 12-day waiting period, no state ROR, no HE mandated disclosures. A truth in lending disclosure (though not technically required), is a good idea. You will not find an answer to your question in the law. But since the spirit of the law is to protect the borrower's homestead, it would make sense to structure the loan in such a way as to assist the borrower in repayment.

The above (strictly personal opinion) is based on the assumption that no new money is being added.

If you want to discuss the issue in a Texas-based forum, consider joining the Independent Bankers of Texas (IBAT) listserve.

Let me know if you're interested and I'll send you the link. I think your bank must be a member of IBAT in order for you to participate.

Shirley Wigley
Lubbock, Texas

Regarding the comment about ending up with negative amortization or a balloon payment, it is the opinion of IBAT legal counsel that the loan must be "scheduled" (originally) to be repaid in substantially equal monthly payments. And that balloon payments as a result of subsequent modifications are not illegal. Of course, negative amortization is always a no no.