Fair Lending- A
silent Killer? A Two Part Series
Over the last few years, compliance has become the center of
attention for management of community banks.
Currently there is a great deal of attention being placed upon the
upcoming changes to the RESPA-TILA forms while areas such as proper HMDA
reporting, BSA/AML management and flood insurance remain constant areas of
concern for compliance professionals. While
all of these areas continue to receive attention and resources, there are
several areas of compliance that often get overlooked. Chief among these is fair lending
compliance.
One of the reasons that this area is often overlooked is
because fair lending compliance is very difficult to gauge. There is no one fair lending law and
managing compliance in this area requires considering the manner in which
several regulations come together. Fair
lending reviews borrow information from Regulation B (the Equal credit
Opportunity Act), the Community Reinvestment Act (“CRA”), Unfair Deceptive
Abusive Acts or Practices Act (“UDAAP”), the Fair Housing Act, and to some
extent the Home Mortgage Disclosure Act (“HMDA”). The interplay between these regulations are
considered when determining the level of fair lending compliance at a
bank. For many Compliance Officers
reviewing compliance with each if these regulations takes significant time and
resources and there simply isn’t much time left to review for fair
lending.
Another reason fair lending gets overlooked is that often,
its applicability is misunderstood; this is especially true at community banks
that do majority commercial lending. The
thought is that since there are very few consumer loans, the risk of a fair
lending problem, is low. However there
are several reasons why this thinking is dangerous. Fair lending laws apply in commercial
settings and violations can cause significant enforcement actions. In addition, the passage of Dodd Frank will
greatly expand this area for commercial banks. Now is the time to check things out to make
sure that this potentially silent killer is not lurking at your bank.
Fair Lending Laws ALWAYS Apply
Remember the heart of fair lending laws is the Equal Credit
Opportunity Act, which is implemented by Regulation B. This is the one consumer regulation that
does not have an exemption for non-consumer loans. Reg. B applies to all credit! The reasons for this are myriad and are the
results of a long and sordid history of bad behavior. The basic reason for Reg. B’s existence is
to ensure that that credit opportunities are available for all and to ensure
that education about those opportunities is widespread. Regulation B always applies.
Another fair lending component that applies in all
situations is the Community Reinvestment Act (“CRA”). The CRA was designed to encourage banks to
meet the credit needs of the communities in which they operate. All banks are required to by the regulation
to make an effort to make loans that will ultimately benefit the immediate
surrounding area of the bank, called the assessment area. Regardless of whether or not the loans being
made are largely commercial, the expectation is that the majority of loans are
made to people or business within the assessment area and that are being
originated meet some part of the credit needs of the community.
The Unfair, Deceptive Abusive Acts or Practices Act (“UDAAP”)
has also been applied to all banks whether or not they are primarily
commercial. Because this act covers the
practices
of a bank, its reach is expansive.
Moreover, UDAAP has the ability to expand a consumer regulation into the
commercial area. This has happened most
recently in the area of overdrafts.
There have been several enforcement actions at banks that relate
directly to overdraft programs. For many
of these enforcements actions, consumer accounts that were being used for
business purposes were included.
The end result is that whether your bank is largely a commercial
lender or not, fair lending compliance is a necessity.
The fair lending examination procedures of the regulators
all include a section for reviewing consumer and commercial loans. Although the primary focus of the procedures
is on consumer loans, it is clear that commercial loans should be
included:
Where an institution does a substantial amount of lending in
the commercial lending market, most notably small business lending and the
product has not recently been examined or the underwriting standards have
changed since the last examination of the product, the examiner should consider
conducting a risk factor review similar to that performed for residential
lending products[1]
There are several factors that an
examiner will review when performing the commercial loan portfolio fair lending
review, these include:
·
The manner in which loan staff interacts with
clients
·
Pricing Disparity- are people in protected
classless asked to pay higher fees and rates that similarly situated people in
no protected classes?
·
Pricing Exception- are exceptions to pricing
policy being allowed in a fair and equal manner
·
Underwriting Disparity- Do all customers have a
similar underwriting experience or are people in protected classes asked for
more extensive information. Is the
underwriting time period generally the same for all borrowers?
·
Underwriting Exceptions- Are exceptions to
policy made is a fair and equal manner?
·
Assessment Area Diversity- Do the banks products
and services meet the credit needs of the community?
In the past, the amount of
information that could be used for these reviews was limited. Commercial lending is generally an art for in
that each loan is unique and it is difficult to compare the outcomes because
several factors are considered in making a commercial credit decision.
A BIG Change is
Coming!
One of the most significant of the future regulations is
section 1071 of the Dodd Frank Act. This
section amends the equal credit opportunity Act (AKA as Reg. B) to require
banks to gather information about applicants for commercial loans. The information that will be gathered is
very similar to information that is currently required by the Home mortgage
Disclosure Act (HMDA).
The reason that this section of the Act was enacted is
clear.
“The purpose of this section is to facilitate enforcement of
fair lending laws and enable communities, governmental entities, and creditors
to identify business and community development needs and opportunities of
women-owned, minority owned, and small businesses” [2]
Put another way, the purpose of the collection of this
information will be to allow the banks, economists and regulators to more
completely and accurately determine the types of loans that are being requested
by minority and women owned business.
Presumably, the collected data will be used to provide regulators with
tools to craft legislation that will expand fair lending laws and rules to the
commercial lending area
There are some unique features to the requirements of this
law. In particular, the lending staff
member who is doing the underwriting is NOT ALLOWED to ask the questions
required by the law;
Where feasible, no loan underwriter or other officer or
employee of a financial institution, or any affiliate of a financial
institution, involved in making any determination concerning an application for
credit shall have access to any information provided by the applicant pursuant
to a request under subsection (b) in connection with such application.[3]
The idea here is that this information must not be part of any credit decision, and the bank is under an obligation to present evidence that this information has been segregated from the credit decision. Therefore even in cases where there are too few staff members to totally segregate the collection of the information from the loan staff, a protective wall still must be created.
If a financial institution determines that a loan underwriter
or other officer or employee of a financial institution, or any affiliate of a
financial institution, involved in making any determination concerning an
application for credit should have access to any information provided by the
applicant pursuant to a request under subsection (b), the financial institution
shall provide notice to the applicant of the access of the underwriter to such
information, along with notice that the financial institution may not
discriminate on the basis of such information[4]
The time is coming when this information must be collected
and the Bank must make sure that once it is collected, that the information has
no impact on the credit decision.
Not only is fair lending an issue of great importance today,
this is an area that will continue to grow in the compliance firmament. Now is the time to take proactive measures to
develop your fair lending compliance area.
In part two of this blog we will discuss proactive measures for fair
lending.
[1]
FDIC compliance Manual 2014
[2]
Section 1071 of the Dodd-Frank Wall Street Reform and Consumer Protection Act
[3]
Ibid
[4]
Ibid
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