Why IS there an
Equal Credit Opportunity Act (AKA Reg. B)?
As anyone in compliance can attest to, there are Myriad
consumer compliance regulations. For
bankers, these regulations are regarded as anything from a nuisance, to the
very bane of the existence of banks.
However, in point of fact, there are no bank consumer regulations that
were not earned by the misbehavior of banks in the past. Like it or not these regulations exit to prevent
bad behavior and/or to encourage certain practices. We believe that one of the keys to strengthening
a compliance program is to get your staff to understand why regulations exist
and what it is the regulations are designed to accomplish. To further this cause, we have determined that
we will from time to time through the year; address these questions about
various banking regulations. We call
this series “Why is there….”
A Little History
The consumer credit market as we now know it grew up in the
time period from World War II and the 1960’s.
It was during this time that the market for mortgages grew and developed
and became the accepted means for acquiring property, financing businesses, developing
wealth and upward mobility. By the late
1960’s the consumer credit market was booming.
The Equal Credit Opportunity Act (“ECOA”) and regulation B
are not nearly as old as you might think. In fact, the first attempt at regulating
credit access was the Consumer Credit Protection Act of 1968. This legislation was passed to protect
consumer credit rights that up to that point been largely ignored. The 1968 was passed as the result of a
continuing growth in consumer credit its effects on the economy. For example, in the year before the
regulation was passed, consumers were paying fees and interest that equaled the
government’s payments on the national debt!
One of the goals of the Consumer Credit protection Act then was to
protect consumer rights and to preserve the consumer credit industry.
The Civil Rights Movement was occurring at the same time as
the passage of the CCPA and in 1968, the Fair Housing act was passed by Congress. The FHA was designed to assist communities
that that had been excluded from credit markets obtain access to credit. We will discuss the Fair Housing Act in more
detail next month.
One of the things that the CCPA did was to empanel a
commission of congress called the National Commission on Consumer Finance. This commission was directed to hold hearings
about the structure and operation of the consumer credit industry. These hearings were conducted throughout
197. The commission made its report and
disbanded.
Unintended
Consequences
While performing the duties
they were assigned, the members of the National Commission on
Consumer Finance conducted several hearings about the credit approval process
for consumer loans. The stories and anecdotes
from these hearings raised a tremendous public outcry about the behavior of
banks and financial institutions that were in the business of granting
credit. One of the common themes of the
testimonies given was that women and minorities were being left behind when it
came to the growth of the consumer credit market. Public pressure forced additional hearings on
the consumer credit market, and the evidence showed that women in particular and
minorities in general were being given unfair and unequal treatment by
banks.
What was Going
On?
So what was it that bans were doing that was causing a
concern? There were several practices
that had become normal and regular for banks when the applicant for consumer
credit was a woman or a member of a racial minority group.
Women had more difficulty than men in obtaining or
maintaining credit, more frequently were asked embarrassing questions when
applying for credit, and more frequently were required to have cosigners or
extra collateral. [1] When a divorced or single woman applied for
credit she was immediately asked questions about her life choices, sexual
habits, and various other personal information that was both irrelevant to the credit
decision and not asked of men.
Racial minorities had difficulty even obtaining credit
applications let alone credit approvals.
In cases, where members of minority groups attempted to get a loan
applicant, there were either told that the bank was not making consumer loans, or that the area that the person lived was outside
of the lending area of the bank.
For applicants that receive public assistance, child support
of alimony, banks would not consider these as sources of income under the theory
that they were temporary and might disappear.
Despite being subjected to embarrassing or incorrect information,
in the cases where women and minorities persisted and completed a credit
applications, banks would drag out the process for interminable time periods
and would engage in strong efforts to discourage the applicant from going
forward.
In many cases, when a person lived in a neighborhood that
was predominately comprised of minorities, the borrower was told that the collateral
did not have enough value without further explanation.
The ECOA
Though these stories created a great deal of interest, the
CCPA was not amended until 1974 when the first Equal Credit Opportunity Act was
passed. This Act prevented discrimination
in credit on the basis of sex and marital status.
In 1976, the ECOA was
amended to prohibit credit discrimination on the basis of
1.
Race, color, religion, national origin, sex,
marital status or age
2.
When all or part of the applicants income
derives from public assistance
3.
If the applicant had filed a former claim of
discrimination
The 1976 amendment also added the requirement that the
financial institution had to notify the applicant of the reasons for a
decline. Regulation B establishes the
rules that implement the ECOA. . These
include the following:
1.
Limitations on the types of information that can
be requested in a credit application.
2.
Limitations on the characteristics that can be
considered about an applicant.
3.
Rules on when an applicant’s spouse can be
requested to sign a loan applicant
4.
Rules on the time limits for when a credit
decision can be made.
5.
Copy of Appraisals An applicant on a real estate
secured loan now must receive a copy of the appraisal or evaluation used to establish
the value of the collateral
6.
Collection of Government Monitoring Information-
In cases of loan requests for the purchase or refinancing of a primary residence,
government monitoring information (race, sex, and ethnicity) must be
obtained.
What is Regulation
B designed to do?
There are two main goals of the ECOA and its implementing
regulation, Regulation B.
·
Enhanced Credit Opportunities for women and
minorities
·
Greater consumer education
Credit
Opportunities
One of the complaints about consumer banking regulation that
is often raised is that it promotes bad loans.
However, for the inception of these regulations, Congress made clear
that these laws apply only to credit worthy individuals. It has never been the case that Congress or
the regulators want banks to make bad loans.
The problem was and is that people who are truly creditworthy were being
overlooked and excluded based on factors that were outside of their
control.
The law then is designed to prevent discrimination on an illegal
basis. Even today, a great deal of
disagreement over what discrimination might mean. Of course, each and even decision to make or
not make a loan is a form of discrimination.
That is part of the natural process of decision making. Instead here what is prevented is discriminating
on an illegal basis; making the adverse action based on who the applicant is
rather than their credit worthiness.
There are two tests for illegal discrimination. The first is
the effects test. Under this test, if the
overall effect of a credit policy results in an uneven or disproportionate negative
result, it may be in violation of the regulation. Suppose for example, a bank decided that it
would not include temporary work income as income for credit applications. In this case, the decision to do so would be
applied across all lines and to all borrowers.
However, the effect of this decision would impact women and minorities
in greater numbers because temporary workers are way more likely to be women
and minorities in the assessment area of the bank. This would be an effects test violation of
regulation B.
The second test is the intent test. This test is pretty straight forward. This would be cases where a lender intended
to treat applicants differently based on who they are and in fact did so. While this area was largely in evidence in
the 1960’s when these laws were first enacted, the number of cases of
intentional discrimination has significantly reduced over the years.
Borrower Education
The borrower education portion of the ECOA and Reg. B is typified
by the notice requirements. In an effort
to make banks inform the applicant about the decision that was made, the regulations
require a quick and concise decision process.
The notice requirement is designed to let the applicant know the
specific reasons why their credit application was declined so that they can
address the problem. If there are problems with the credit report, then the
borrower needs to know what the problems are and who is reporting them. In this manner the borrower is informed and the
bank is kept “honest” about its decisions.
The reasons that the examiners test adverse actions for
timing and accuracy is that borrowers should have the ability to know exactly
what is wrong and have an opportunity to fix it. This is the reasoning behind requiring a copy
of an appraisal report.
Why are there a Regulation
B and the ECOA?
The development of the consumer credit market brought with
it a series of bad behaviors that directly and negatively impacted the ability
of women and minorities to obtain credit.
These behaviors included asking women to check with their husbands
before getting a loan, denying a single woman credit, discouraging minorities from
applying for credit and outright refusal to grant credit.
The law and regulation are designed to open up credit to all
who are worthy by limiting practices that unfairly exclude groups of people and
by making sure that applicants are fairly informed of the reasons for a
denial.
Embrace your inner compliance officer by knowing
that this regulation is well earned, well intended and provides a good outcome
for people who would otherwise not be able to obtain credit through no fault of
their own.
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