Pitfalls to Avoid When
Developing a Risk Assessment for Fair Lending – Part One
It is surprising that very few of our clients actually
prepare a risk assessment for the Fair Lending area. Generally, if there is a risk assessment,
Fair Lending is including in the overall lending compliance risk assessment. We advise our clients that this is a mistake!
Fair lending is definitely going to be
a point of emphasis for examiners and regulators in the near future. We strongly advise that now is the time to
start developing a risk assessment for this important and growingly critical
area.
Why Fair Lending as a
Separate Risk Assessment?
Of course when we speak of this topic, we must first qualify
that there is no one Fair Lending law.
There are of course, a series of laws that come together to create the
umbrella that we call Fair Lending.
These include:
·
Reg. B
ECOA
·
Reg. C
HMDCA
·
Reg. Z Truth
in Lending
·
Reg. BB
CRA
·
Reg. Z Advertising
·
UDAAP
·
Reg. DD
Advertising
·
State Laws
Logically, one could assume that since each of these areas
are covered in the risk assessments of lending and/or operational compliance,
that there is no need to do a separate Fair Lending assessment.
Fair Lending is not like
any Other Area of Compliance
But when they are considered for Fair Lending purposes,
these laws come together like no other set of laws. Then Fair Lending review looks at the impact of practices at a bank to
determine whether a violation has occurred.
Fair Lending is in fact, one of the areas of compliance where you may
have met all of the requirements of a regulation and still have a
violation! Consider a credit scoring
system that requires a minimum disposable income of $1,200 per month. Suppose further that this minimum is applied
equally and fairly to all applicants. In
the case where the minimum disposable income in one neighborhood of a bank’s
assessment area is $900, that whole section would be excluded. Suppose further that the section of the
assessment area that is excluded includes the low-to moderate income
tracts. A serious Fair Lending concern
has been born! This is true even though
there is nothing illegal or generally wrong about the $1,200 minimum.
Moreover, when considering whether or not Fair Lending or
UDAPP concerns exists at a Bank, examiners will consider everything form the
relationship that the Bank has with its community, the marketing of specific
products and the overall impact on protected classes. A “low cost” checking account that is being
marketed to low to moderate income populations as an alternative to check cashing outlets can be a noble
idea. However, if there are fees on the
account that kick in to try to discourage certain behaviors, then what was once
a noble idea can become a UDAAP concern!
Fair Lending
Examinations Will Consider a Banks’ Relationship with its Vendors
It has become increasingly obvious that Examiners will
review a Bank’s oversight of its vendors.
[1] The expectation is that the Bank must be
aware of the reputation of its vendors and must make an effort to determine
that the service being provided is one that complies with all applicable laws
and standards. The CFPB specifically
addressed the issue of indirect auto lending and its Fair Lending implications
earlier this year. [2] It is clear that the findings of Fair Lending
problems and violations of the Equal Credit Opportunity Act will be addressed
not only to the lender with the problem, but also to the financial institution
that is funding the lender.
Over the past 5 years, one of the areas that will continue
to receive close scrutiny is appraisals.
Recent changes in Reg. Z for appraisals on high cost mortgages are a
direct result of the financial crisis that we experienced and the role that
fraudulent appraisals played. While
generally, inflated values of properties were a major concern, the flip side of
bad appraisal practices is a Fair Lending concern. When an appraiser constantly evaluates home
prices at levels that are at the low end of the market, the expectation is that
Banks will conduct research to ensure that these values are reasonable. There should be clearly documented reasons
for the property value conclusion. Moreover,
when review of the appraisal report is performed, the Bank is expected to watch
out terms that have been banned for some time (e.g. “pride of ownership”). You would be surprised how often these terms
work their way back into appraisal reports.
Pictures of the residents in a neighborhood are forbidden in an
appraisal, and yet we see these pictures in appraisal reports from time to
time.
Going forward, Banks will be held accountable for the work
performed for them by third party vendors.
This is an area that should be considered as part of the overall risk
assessment of Fair Lending
Complaints, Social
Media and Fair lending
Another area that examiners will emphasize is the bank’s
overall administration of the complaints process. Most of our clients already have a
complaints log and a policy in place that requires staff to respond to a complaint in a reasonable time. However, the expectation in the near future
will be for banks to compile and categorize complaints and to report the
results of this effort to the Board. Do
the complaints represent a pattern? Are
your customers trying to tell you something about the level of fees being
charged? Maybe there is a branch where
discouragement is happening inadvertently.
The point is the complaints received should be analyzed for patterns and
concerns. In addition, there should be evidence that the patterns noticed are
being discussed with the Board.
As many Banks use social media these days, a whole new
possible area of receiving complaints has opened up. The expectation is that someone at the bank
will review social media for the possibility of serious complaints that must be
answered and included in the aforementioned analysis.
Advertising and Image
in the Community
Many banks are proud of their rich history and want to use
it as a part of marketing. There is
absolutely nothing wrong with doing and that- as long as the bank is sensitive
to the possibility that during its lifetime, the make-up of its assessment area
may have changed significantly. Pictures
and references to turn of the century events in which a bank was involved may
entirely different connotations depending on person or persons viewing the
material. We had clients whose
advertising campaign mad direct references to the fact that they had been in
the community for over 100 years. The
marketing material produced showed various scenes from the community over the
years. Unfortunately since the ad
campaign focused on history it, did not include pictures from the present
day. The community had significantly
changed in racial and social economic make up over the years. The advertising campaign was roundly
criticized by the community and the regulators and the bank narrowly avoided
enforcement action. It is clear that the
intent of the program was not to insult anyone, but nevertheless great insult
was taken!
Fair Lending has
always been an examination area that is subjective. Over the past few years, this area has become
increasingly complex. The regulators have made it clear that this will be an
area of emphasis that has the potential for enforcement action. It is therefore, critical for banks to
perform a risk assessment in this area.
In Part Two of this Blog we will discuss a formula for
developing a risk assessment for community banks.
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