March 15 (Bloomberg) -- New York Senator Hillary Clinton said the federal government should take steps to reduce interest rates and fees for borrowers with weak credit who are losing their homes at record rates as the subprime mortgage market collapses.

``This market is clearly broken and if we don't fix it, it could threaten our entire housing market, which in turn would threaten our entire economy,'' Clinton, a 2008 Democratic presidential candidate, said today at a National Community Reinvestment Coalition conference in Washington.

Clinton said she will reintroduce legislation to add employees and improve technology at the Federal Housing Administration, which provides mortgage insurance to approved lenders. The changes would help the agency develop new mortgage products and serve a larger number of borrowers, Clinton said.

Turmoil in the subprime mortgage market is grabbing the attention of Congress, regulators and consumer groups in the face of a surge in delinquencies and foreclosures. Late payments on U.S. subprime loans reached a four-year high of 13.3 percent in the fourth quarter, while foreclosures on all home loans reached record levels, the Washington-based Mortgage Bankers Association announced this week.

``The market will not address the millions of families trapped in unworkable mortgages hounded by delinquency and facing the grim possibility of foreclosure,'' Clinton said.

Pre-Payment Penalties

Clinton proposed eliminating pre-payment penalties that she said are ``designed to trap borrowers'' by imposing high fees for paying off loans ahead of time. Such penalties apply to 70 percent of subprime loans and less than 5 percent of prime loans, she said.

Lenders should give borrowers who fall behind on their mortgages a ``foreclosure timeout'' to allow them time develop a payment plan, Clinton said.

She also called for independent counseling to help borrowers avoid becoming saddled with high interest rates and penalties.

The FHA has proposed its own legislative changes to give the agency additional authority. Steve O'Halloran, a spokesman for the agency, welcomed Clinton's proposals in an e-mailed statement.

John Taylor, the president of the Washington-based coalition sponsoring the conference, blamed the Federal Reserve for the problems faced by subprime borrowers.

Consumers Not Protected

The central bank had the regulatory authority to protect consumers and go after lenders using deceptive practices ``and simply has chosen not to do it,'' he said.

Fed spokeswoman Susan Stawick declined to comment.

Taylor called for legislation that improves loan underwriting standards and curbs ``unsustainable loans.''

``Once and for all, we need to have legislation that will not allow anybody in the lending industry to be able to push a loan toward a person that any reasonable person would agree they should not have gotten,'' Taylor said.

A House subcommittee is scheduled to hold a hearing on predatory lending in the subprime market on March 27.

To contact the reporter on this story: Alison Vekshin in Washington at avekshin@bloomberg.net.

Last Updated: March 15, 2007 17:44 EDT