Consumer Compliance Outlook: First Quarter 2012

Fair Lending Webinar Questions and Answers *

On November 2, 2011, the Board of Governors of the Federal Reserve System (Board), on behalf of the Non-Discrimination Working Group of the Financial Fraud Enforcement Task Force, conducted an Outlook Live webinar titled “Fair Lending Issues and Hot Topics.”1 Participants submitted a significant number of questions before and during the session. Because of time constraints, only a limited number of questions were answered during the webcast. This article addresses the most frequently asked questions.

Fair Lending Examinations

  1. What efforts is the Board undertaking to improve the efficiency of the fair lending examination process?

    The Board supervises approximately 800 state member banks, and fair lending is a critical component of the consumer compliance supervision process. We understand that many banks, particularly smaller banks, may find fair lending to be a challenging part of the examination. We have taken several steps to address this concern.

    In 2009, in conjunction with the other federal banking agencies, the Board revised the Interagency Fair Lending Examination Procedures to provide more detailed information regarding current fair lending risk factors and to ensure that our examination procedures kept pace with industry changes. The procedures are available to any bank to aid in its analysis of fair lending risks and to prepare for fair lending examinations.2

    In addition, we have increased our communications with banks during the examination process, particularly with respect to statistical reviews. We often conduct statistical analyses of electronic data we obtain from banks to determine if there are any disparities in lending based on factors protected by the fair lending laws. We find that these reviews are very effective and more efficient for both the examiners and the banks. In most cases, our statistical analyses do not identify concerns. In some cases where we have found problems, some community bankers noted that they had difficulty understanding the statistical analysis. We have taken this concern seriously, and we now take additional steps to communicate with community banks to ensure that they understand the fair lending concerns raised by the analysis and how to respond effectively.

    Finally, we engage in a variety of outreach activities on fair lending, such as regularly participating in conferences sponsored by the industry, consumer advocates, and our Reserve Banks. Our goal is to highlight fair lending risks so that institutions can take steps on their own to effectively manage fair lending compliance.

  2. For nonmortgage loans, what methods does the Board currently use to determine the borrower's race/ethnicity/gender?

    For mortgage loans, we can determine the borrower's race/ethnicity/gender based on the data collected pursuant to the Home Mortgage Disclosure Act (HMDA). For nonmortgage loans, we may determine ethnicity and gender using the U.S. Census Bureau's Spanish surname list and female first name list. For both mortgage and nonmortgage products, we also use census data to identify majority-minority census tracts and to determine whether disparities exist between minority and nonminority areas.

Redlining

  1. What factors does the Board consider in a redlining review? In particular, what statistical analysis is typically conducted?

    The Board considers several factors in a redlining review. With respect to statistical analysis, we typically evaluate whether the bank's lending in majority-minority tracts is similar to that of other lenders in the reasonably expected market area. However, a full review of the lender's practices is necessary to determine whether a problem exists.

    As noted in the procedures, other potential risk factors for redlining include:

    • Irregularly shaped Community Reinvestment Act assessment areas that fail to comply with Regulation BB and that exclude minority areas;
    • Branching strategies and expansion plans that disfavor minority neighborhoods;
    • Marketing strategies that exclude minority geographies; and
    • Complaints about redlining by consumers or community advocates.

Pricing

  1. What factors does the Board consider in a pricing review? In particular, what statistical analysis is typically conducted?

    The Board conducts statistical pricing reviews of mortgage and nonmortgage products and uses a lender-specific approach to statistical modeling. That is, we create a statistical model based on the bank's specific pricing policies. Generally, we rely on the bank's written policies, including rate sheets, and on other information obtained during the examination. Based on a bank's policies, typical fields in a pricing model may include credit score, loan-to-value ratio, loan amount, loan term, product code, and documentation type. We generally examine disparities in the annual percentage rate. Additionally, when the data are available, we may evaluate overages, fees or yield spread premiums, and pricing exceptions.

    As noted in the procedures, potential risk factors for pricing include:

    • Lack of specific guidelines for pricing (including exceptions);
    • Use of risk-based pricing that is not based on objective criteria or applied consistently;
    • Broad pricing discretion, such as through overages, underages, or yield spread premiums;
    • Lack of clear documentation of reasons for pricing decisions (including exceptions);
    • Lack of monitoring for pricing disparities;
    • Financial incentives for loan originators to charge higher prices;
    • Pricing policies or practices that treat applicants differently on a prohibited basis or have a disparate impact;
    • Loan programs that contain only borrowers from a prohibited basis group; and
    • Complaints about pricing by consumers or community advocates.

Underwriting

  1. With the recent tightening of underwriting standards, will the Board be focusing more on underwriting disparities?

    The Board recognizes that many lenders have tightened underwriting standards. We believe that sound underwriting policies promote fair and responsible lending. Concerns have been raised, however, that certain stricter underwriting policies, such as tighter credit standards in specific geographic markets, could have a disproportionate effect on access to credit for minorities. To ensure fair lending compliance, lenders should review underwriting policies for fair lending risk, including both disparate treatment and disparate impact discrimination. To manage disparate impact risk, lenders should pay particular attention to policies that vary by origination channel or geography. They should ensure that the policies serve legitimate business needs and do not have an illegal disparate impact. To manage disparate treatment risk, lenders should ensure that policies are clear and consistently applied. In accordance with the procedures, the Board conducts underwriting analyses when appropriate and evaluates whether lenders' policies may violate fair lending laws. Thus far, we have not identified any fair lending violations related to stricter underwriting standards.

Maternity Leave Discrimination

  1. How can a lender mitigate fair lending risk if a credit applicant is on maternity leave at the time of the application?

    Recently, some lenders have refused to consider a woman's employment status or income while she is on maternity leave.3 Such a policy may violate the Fair Housing Act and Equal Credit Opportunity Act (ECOA) on the basis of sex and the Fair Housing Act on the basis of familial status. The policy may also violate Regulation B, which prohibits using assumptions related to the likelihood that any group of persons will rear children or will, for that reason, receive diminished or interrupted income in the future. The Board had one referral on this issue in 2011.

    A lender may mitigate its fair lending risk by:

    • Not assuming that a woman will not return to work after childbirth;
    • Using underwriting policies that treat applicants on maternity/parental leave and applicants on other types of leave similarly;
    • Consulting with its investors to understand the requirements for considering and verifying the income of an applicant on maternity/parental leave;
    • Reviewing and addressing complaints by consumers who were on maternity/parental leave at the time of the application; and
    • Reviewing recent settlements to learn about problematic practices.

The Dodd-Frank Wall Street Reform and Consumer Protection Act

  1. How did the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) change the HMDA requirements, and how will those changes affect the examination process for mortgage loans?

    Section 1094 of the Dodd-Frank Act amended HMDA to require financial institutions to collect and report the new data for mortgage loans. In addition, the Dodd-Frank Act transferred responsibility for issuing implementing regulations under HMDA from the Board to the Consumer Financial Protection Bureau (CFPB). At this time, the CFPB has not issued rules to implement the changes to HMDA and revise Regulation C. After final rules have been issued and become effective, the Board will use the new data in its fair lending examinations.

    The new data will include the following as well as any other information that the CFPB may require:

    • Origination channel (retail, broker, or other)
    • Applicant's age
    • Applicant's credit score
    • Property value
    • Loan term
    • Term (in months) of any introductory interest rate period
    • Rate spread for all loans
    • Total points and fees payable at origination
    • Term (in months) of any prepayment penalty
    • Negative amortization
    • Loan originator unique identifier, universal loan identifier, and parcel loan number (as the CFPB may determine appropriate)
  2. How did the Dodd-Frank Act change ECOA and how will those changes affect the examination process?

    ECOA has always applied to all types of credit, including business loans. However, the Dodd-Frank Act's changes to ECOA will facilitate a more robust analysis. Specifically, §1071 of the Dodd-Frank Act amended ECOA to require financial institutions to collect and report data for loans to minority-owned and women-owned businesses, and small businesses. In addition, responsibility for issuing implementing regulations under ECOA was transferred from the Board to the CFPB, except with respect to motor vehicle dealers. Both the Board and the CFPB have clarified that although §1071 became effective on the designated transfer date of July 21, 2011, financial institutions and motor vehicle dealers are not subject to the new data collection and reporting requirements until final implementing regulations are issued and become effective.4 At this time, neither the CFPB nor the Board has issued these rules. After final rules are issued and become effective, the Board will use the new data in its fair lending examinations.

    The new data will include the following as well as any other information that the CFPB may require:

    • Application number and date
    • Race, ethnicity, and gender of the principal owner
    • Census tract of the business
    • Gross annual revenue of the business in the last fiscal year
    • Loan type and purpose
    • Type of action taken and date
    • Amount of credit applied for and approved
  3. How did the Dodd-Frank Act change the statute of limitations for ECOA violations?

    Section 1085 of the Dodd-Frank Act amended ECOA to allow actions in federal district court no later than five years after the date of the occurrence of the violation. Previously, the statute of limitations was two years from the date of the occurrence.

    • * The views expressed are those of Board staff and do not necessarily reflect the views of the Board or the other federal agencies that participated in the webinar.
    • 1 An archived version of the webinar is available online.External Site The following federal agencies participated in the webinar: the U.S. Department of Justice, the U.S. Department of Housing and Urban Development, the Consumer Financial Protection Bureau, the Office of the Comptroller of the Currency, the Federal Deposit Insurance Corporation, the National Credit Union Administration, and the Board.
    • 2 The procedures are available online.External Site The appendix to the procedures is available online.External Site
    • 3 See, for example, “HUD Acts Against Pregnancy Discrimination in Home Mortgages.”External Site
    • 4 See April 11, 2011 Letter from CFPB General Counsel Leonard Kennedy External Site and the Board's final rule discussing the timing of the data-collection requirements for motor vehicle dealers. 76 Fed. Reg. 59,237 External Site (Sept. 26, 2011).