Lenders cash in as buyers despair

The collection agencies call at least 20 times a day. For a little quiet, Diane McLeod stashes her phone in the dishwasher.

But right up until she hit the wall financially, McLeod was a dream customer for lenders. She juggled not one but two mortgages, both with interest rates that rose over time, and a car loan and high cost credit-card debt. Separated and living with her 20-year-old son, she worked two jobs so she could afford her small, two-bedroom ranch house in suburban Philadelphia, the Kia she drove to work, and the handbags and knickknacks she liked.

Then last year, back-to-back medical emergencies helped push her over the edge. She could no longer afford either her home payments or her credit-card bills. Then she lost her job. Now her home is in foreclosure and her credit profile in ruins.

McLeod, 47, readily admits her money problems are largely of her own making. But as surely as it takes two to tango, she had partners in her financial demise. In recent years, those partners, including the financial giants Citigroup, Capital One and GE Capital, were collecting interest payments totaling more than 40 percent of her pretax income and thousands more in fees.

Years of spending more than they earn have left a record number of Americans like McLeod standing at the financial precipice. They have amassed a mountain of debt that grows ever bigger because of high interest rates and fees.

While the circumstances surrounding these downfalls vary, one element is identical: The lucrative lending practices of America's merchants of debt have helped lead millions of Americans — young and old, native and immigrant, affluent and poor — to the brink. More and more, Americans can identify with late 19th- and early 20th-century miners in debt to the company store, with little chance of paying up.

It is not just individuals but the entire economy that is now suffering. Practices that produced record profits for many banks have shaken the nation's financial system to its foundation. As a growing number of Americans default, some banks are recording hundreds of billions of dollars in losses, devastating their shareholders.

To reduce the risk of a domino effect, the Bush administration fashioned an emergency rescue plan last week to shore up Fannie Mae and Freddie Mac, the nation's two largest mortgage-finance companies, if necessary.

Shift in lenders' tactics

To be sure, the increased availability of credit has contributed mightily to the American economy and has allowed consumers to make big-ticket purchases such as homes, cars and college educations.

But behind the big increase in consumer debt is a major shift in the way lenders approach their business. In earlier years, actually being repaid by borrowers was crucial to lenders. Now, because so much consumer debt is packaged into securities and sold to investors, repayment of the loans takes on less importance to those lenders than the fees and charges generated when loans are made.

Lenders have found new ways to squeeze more profit from borrowers. Though prevailing interest rates have fallen to the low single digits in recent years, for example, the rates that credit-card issuers routinely charge even borrowers with good credit records have risen, to 19.1 percent last year from 17.7 percent in 2005 — a difference that adds billions of dollars in interest charges annually to credit-card bills.

Average late fees rose to $35 in 2007 from less than $13 in 1994, and fees charged when customers exceed their credit limits more than doubled to $26 a month from $11, according to CardWeb, an online publisher of information on payment and credit cards.

Mortgage lenders similarly added or raised fees associated with borrowing to buy a home — like $75 e-mail charges, $100 document-preparation costs and $70 courier fees — bringing the average to $700 a mortgage, according to the Department of Housing and Urban Development. These "junk fees" have risen 50 percent in recent years, said Michael Kratzer, president of Feedisclosure.com, a Web site intended to help consumers reduce fees on mortgages.

"Today the focus for lenders is not so much on consumer loans being repaid, but on the loan as a perpetual earning asset," said Julie Williams, chief counsel of the Comptroller of the Currency, in a 2005 speech that received little notice at the time.

Lenders have been eager to expand their reach. They have honed sophisticated marketing tactics, gathering personal financial data to tailor their pitches. They have spent hundreds of millions of dollars on advertising campaigns that make debt sound desirable and risk-free. The ads are aimed at people who urgently need loans to pay for health care and other necessities.

It is not just financial conglomerates that are profiting on consumer-debt loads. Some manufacturers and retailers can generate more income from internal-financing arms that lend to their customers than from their primary businesses.

$20,000 interest a year

Tallying what the lenders have made off McLeod over the years is revealing. In 2007, when she earned $48,000 before taxes, she was charged more than $20,000 in interest on her various loans.

Her first mortgage, originated by EquiFirst, charged her $14,136 a year, and her second, held by CitiFinancial, added $4,000. Capital One, a credit-card company that charged 28 percent interest on her balances, billed $1,400 in annual interest. GE Money Bank levied 27 percent on the $1,500 or so that McLeod owed on an account she had with a local jewelry store, adding more than $400.

Olde City Mortgage, the company that arranged one of McLeod's loans, made $6,000 on a single refinancing, and EquiFirst received $890 in a loan-origination fee.

Such fees and interest rates are a growing burden on Americans.

And recent changes in the bankruptcy laws, supported by financial-services firms, make it all the harder for consumers, especially those with modest incomes, to get out from under their debt by filing for bankruptcy.

But with so many borrowers in trouble, some bankruptcy experts and regulators are beginning to focus on the responsibilities of lenders, like requiring them to make loans only if the loans are suitable to the borrowers applying for them.

The Federal Reserve Board, for instance, recently put into effect rules barring a lender from making a loan without regard to the borrower's ability to repay it.

Henry Hildebrand, a Bankruptcy Court trustee in Nashville, Tenn., since 1982 and one of the nation's busiest, has seen what happens when lenders do not take some responsibility for loans that go bad.

"I look across the table at people who are right out of school and have more debt than they can handle, and they are starting out life in a bankruptcy," he said.

McLeod used debt to keep going until she was fired from her job in March for writing inappropriate e-mail messages. Since then, she has been selling her coveted handbags and other items on eBay to raise money while waiting to be evicted from her home.

Her credit-card debt totals about $34,000, she said. Each month the late fees and over-limit penalties add to her debt. McLeod said she will probably file for bankruptcy.

She does not want another credit card, she said. But she still receives solicitations.

Recently an envelope arrived offering a "prequalified" Salute Visa Gold card issued by Urban Bank Trust. "We think you deserve more credit!" it said in bold type.

A spokeswoman at Urban Bank said the Salute Visa is part of a program "designed to provide access to credit for folks who would not otherwise qualify for credit."

The Salute Visa offered McLeod a $300 credit line. But a closer look at the fine print showed that $150 of that would go, as annual fees, to Urban Bank.