In a move that could affect thousands of home buyers around the country this year, the Federal Trade Commission has asked an appellate court to order mortgage insurance companies to inform consumers whenever they raise monthly premiums because of negative information contained in credit files.

The FTC, which has regulatory authority over federal credit statutes, asked the U.S. Court of Appeals for the Third Circuit to order Philadelphia-based Radian Guaranty, Inc. to provide mortgage borrowers with "adverse action" notices when their insurance premiums are higher because of derogatory data in national credit bureau files.

Radian, like other mortgage underwriters, provides insurance coverage to lenders who make low downpayment loans to home buyers. Mortgage insurance usually is required whenever a borrower makes less than a 20 percent downpayment on a house. The insurance premiums are paid for by borrowers, but protect lenders from financial losses in the event of a default or foreclosure.

The case that provoked the FTC to file a "friend of the court" brief March 17, involves a Virginia couple whose credit files contained erroneous negative information. Radian Guaranty insured the couple's low-downpayment loan on behalf of their lender and charged a hefty monthly premium of $903.58 on top of the regular principal and interest payments. The reason for the oversized premium -- three times what the couple had expected to be charged -- was the negative data Radian found when it accessed the couple's credit files. The botched information made the couple look like greater risks of default than they were in fact.

Radian was not aware the information was incorrect. Nor did it get in touch with the home loan applicants to tell them what it found. The couple sued Radian in federal district court, arguing that it shirked its responsibilities under the federal Fair Credit Reporting Act. That law requires issuance of adverse action notices whenever credit bureau data raises a borrower's charges or fees.

Mortgage lenders routinely issue such notices when they reject a loan applicant because of credit file data. The notice essentially warns the applicant about the existence of negative data, identifies the source of the data, and lets the consumer know that he or she is entitled to a free copy of the credit report that caused the adverse action.

Mortgage insurance companies generally have refused to provide adverse action notices because they maintain that their customers are lenders, not individual borrowers. Mortgage insurance premiums are paid by borrowers -- typically as a monthly add-on to the regular principal and interest charges -- but the sole beneficiary of the coverage is always the lender.

Although a handful of mortgage insurers have recently begun issuing adverse action notices in limited circumstances, Radian and others have steadfastly refused.

Now the FTC itself has weighed in on the issue. In its brief March 17, the FTC argued that mortgage insurers are covered by the Fair Credit Reporting Act, and must issue notices whenever they charge premiums that are higher than a consumer would pay in the absence of negative credit file data.

The law requires insurers to issue adverse action notices whenever there is "a denial … or an increase in any charge for" coverage, based on consumer credit file information.

"The purpose of the notice," wrote FTC counsel Lawrence DeMille-Wagman, "is to alert the consumer that averse action has been taken, at least in part, as a result of information in his or her (file.) Having received such an alert, the consumer may choose to check the contents of the report to make sure it is both accurate and complete."

In the absence of an adverse action notice, "there often is no reason for the consumer to know that information in the report led to (a higher premium charge), nothing to alert the consumer to check the report, no information on how to check a report," wrote DeMille-Wagman.

If the appellate court rules that Radian must issue adverse action notices, and Radian does not appeal to the Supreme Court, industry legal experts say potentially thousands of home buyers could be alerted to problems in their credit files that are costing them money every month when they pay their mortgage.

"This could be very significant," said Richard F. LeFebvre, president of AAA Credit Bureau Inc. of Flagstaff, Arizona. "People who up until now have had no hint that their mortgage insurance premiums are higher than they should be, suddenly will learn the truth. And if the derogatory information turns out to be erroneous, they should also save money."

Published: March 27, 2006

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Kenneth R. Harney writes an award-winning, nationally-syndicated column on housing and real estate from Washington, D.C. He is also managing director of the National Real Estate Development Center, a professional education company. He is a past member of the Federal Reserve Board's Consumer Advisory Council, a committee that by federal statute reviews all Fed actions on home mortgage, consmer credit and banking industry regulation. He served as a member of the U.S. Department of Housing and Urban Development's Working Group on Computerized Loan Origination (CLO) systems, and is a member of the Editorial Board of the Fannie Mae Foundation's journal, Housing Policy Debate. He is the author of two books on mortgage finance and real estate.