2. Fair lending is under increased
scrutiny by regulators.
Are you ready?
In June 2014, LexisNexis® Sheshunoff™ partnered with industry veteran Jerry
Miller for an in-depth Webinar that focused on emerging trends and new issues
in fair-lending and fair-service challenges impacting financial institutions.
In addition to examining how to avoid pitfalls, downgrades and settlements
associated with expanded coverage and scrutiny of fair-lending regulations,
Miller provided the audience an opportunity to raise real-world issues and
concerns they face within their organizations. What follows are a series of
questions submitted after the event that Miller addressed directly, with topics
ranging from pricing discretion to scoring models.
For more information about this event or other Webinars from Miller,
visit www.lexisnexis.com/sheshunoff.
Fair Lending Q&A with Jerry Miller
A LexisNexis®Sheshunoff™ White Paper
Q: Are Regulation B requirements for commercial lending as
strict as those with consumer lending? Additionally, what are
some of the common pitfalls?
As a former Office of the Comptroller of the
Currency (OCC) examiner, I often heard examiners
who said, “I don’t need to know about that
consumer stuff because it doesn’t apply to
commercial lending.” Most certainly, it does. And
one of the common pitfalls that I see happening
is requiring joint signatures on documents for
a commercial small business loan when it’s not
required.
I would also remind people that the Adverse Action Notice Requirements
under Regulation B apply to commercial loans. In fact, in my home state of
Illinois one of the larger settlement cases occurred when an institution failed
to notify, and then follow up with a written notice, a commercial customer
that they had turned down their request for a line of credit. Because this
customer was forced to wait on the institution’s decision, they were unable
Page 2
Former OCC examiner and
regulatory compliance consultant,
Jerry Miller, provides insight, best
practices and troubleshooting tips
for the following topics:
• Regulation B requirements
• Scoring Models
• The use of proxies
• UDAAP
• Loan Purchases
• Discretion of Pricing
• FDIC Fair Lending exams
• Adverse Action concerns
• Privacy Laws
In this document
3. Fair Lending Q&A with Jerry Miller
Page 3
to operate during the time of season when their primary business would see
significant acceleration and the company failed.
This led to the customer’s bankruptcy in a federal court where the business
owner proved without a doubt that they had not been notified and had not
received a written notice of the decision. The court rewarded significant
financial dollars to the company that failed which the bank had to pay out.
Q: What problems can occur regarding Regulation B when
proprietary score models and FICO scores are used to decline a
loan?
Proprietary score models are not necessarily viewed in the same manner
as FICO scores. When I say proprietary, I’m referring to a score card used
within an organization. Those are internal scoring proprietary systems that
measure factors such as residency, retirement, job, etc., and aren’t disclosed.
FICO scores, on the other hand, are provided by the credit bureau and are
generally the ones that are viewed in terms of Regulation B violations.
Q: What recommendations would you have for the use of proxies
for known HMDA data? Additionally, what statistical thresholds
would you use for identifying outliers?
The Federal Reserve System provided a list of proxies for Hispanic names in
2013 that you can find in their consumer affairs portal. And while this is a
wonderful tool, it’s a little more difficult to use for other ethnicities because
we don’t have that kind of resource by name. Majority-minority census tracks,
however, is another methodology for proxies.
Historically, I use 200 basis points or higher
for a proxy group. Higher than that and
I would raise my eyebrows and ask the
question “Why?” In fact, one of the areas
that we’ve seen proxies used recently is
indirect auto lending. When regulators see
differences higher than even 50 basis points in this area, institutions and
scenarios used for control comparisons come under increased scrutiny.
Q: Does UDAAP apply to commercial lending? While consumer is
highlighted in the requirement, there is no formal definition and
it can be confusing.
The Unfair, Deceptive, or Abusive Acts or Practices (UDAAP), is for all
practical purposes a consumer regulation. That said, there are definitely grey
areas regarding small business owners. Specifically, at what point do they
leave consumer protection and enter commercial classification? Is the shift
governed by deposit relationships or fees paid? Is it the hours required to do
their own consumer activity of banking? Ultimately, UDAAP is very subjective.
Evaluating
your institution’s
performance against
others is more
important today
than it’s ever been
before—you do
not want to be an
outlier.
—Jerry Miller
“
“
4. Page 4
Q: Charging a flat fee for loan processing typically results in
the fee being a higher percentage of the loan amount for small
loans versus large loans. Does this situation have fair lending
disparate impact problems? Also, would it matter that the flat
fee is just enough to cover the institution’s loan processing
costs?
If the institution is fully analyzed and the cost to put this loan on the
books—time spent, system charges or your own license costs for software—
is documented, I suggest making that cost the fee. Unfortunately, for
smaller loans, it is expensive if you have a fee for booking a loan. I think
that, in part, is why so much has come out in recent months about
microloans, payday loans and the challenge financial institutions face when
trying to book that type of credit at a reasonable return.
Q: What laws and regulations related to UDAAP apply to the
commercial area?
Regulation B certainly applies to the commercial area, as does the Equal
Credit Opportunity Act. If you’re in commercial real estate and paying for
construction of multi-family housing, beware of Fair
Housing Act requirements. Also, Service Member Civil
Relief applies to both consumer and commercial if it’s
multi-individual housing. I also would encourage you
to be very careful of the Americans with Disabilities
Act, and of course the Fair Credit Reporting Act.
In general, there are a number of tripwires out
there. I would also remind you that HMDA, while not
considered a primary fair lending law, does still apply
because a multi-family is quite often done in the
commercial loan department and accuracy of the data
is incredibly important.
Finally, remember that the lending test for CRA encompasses small business
lending, and folks, that is commercial. If your institution is over the
threshold and in the intermediate retail institution size, you will be judged
on small business lending from a community lending test purpose.
Q: We are a credit union, and we’re going to start doing whole
loans purchases from a smaller credit union. At the same time,
we’re going to process, underwrite and close these loans before
they’re bought. Who should do the HMDA reporting and how
should they be reported?
The first question is fairly straightforward—whoever makes the underwriting
decision gets to report the HMDA data. I would encourage you, the credit
union that asked this question, to make sure you document that in your
letter or agreement of understanding, and that the other credit union is
absolutely clear that the HMDA data belongs on your books.
Fair Lending Q&A with Jerry Miller
When you go
back and look at
the CRA regulation
from 1977, it was a
two-page document.
Today, you could fill
multiple binders with
information about
compliance with this
particular regulation.
—Jerry Miller
“
“
5. Page 5
Now, a word of guidance: if the credit union that is sending these loans to
you has any role in taking applications or performing an initial screening to
turn down potential members that are not going to get a loan, beware—
those informal, adverse actions belong in your HMDA data. As such, you
want to be very clear what role the credit union that is generating these
leads for these loans is in terms of the application process.
Q: Wide discretion of pricing is a hot topic. Would you please
expand on this from a commercial banking viewpoint? What
range would you consider wide discretion? What if pricing was
established at a customer level and sales had the ability to
establish the rate and fee, so long as a target return on equity
was achieved? How would this be viewed?
Pricing discretion is generally where I take greatest pause in the consumer
lending/mortgage lending area, where different rates may occur across
different areas of the market or individuals have the ability to discretionarily
apply a range of rates. That could even include indirect auto lending as an
example, where you get the buy rate. You may have also observed that
certain institutions have moved to a flat buy rate.
Commercial lending, in and of itself, is a completely different stream of
activity in terms of risk analysis of the customer, the type of activity and the
lending risk that’s involved with it. Based upon that, I anticipate that when
going into a commercial loan department, the rates for loans would reflect
the risk, the borrower’s credit worthiness, the collateral position, the type of
loan and whether it’s a short term operating loan versus a long term capital
investment loan over five years. All of those would be factored into the rate.
One caveat—I would not expect small businesses, women-only owned or
minority-owned businesses to be able to lay down similar deals side-by-side
and find a huge rate disparity because it was based on race, gender or worst
case, denials based upon that same principle. Virtually all minorities are
turned down and there is no credit reason for that declination.
Q: Regarding the difference between fair banking and fair
lending–have you noticed the score of FDIC Fair Lending exams
expanding the scope to now include more deposit and fee
assessment areas?
Absolutely. In fact, while the focus of Fair Lending exams is obviously fair
lending, regulators’ awareness of other issues in the fair banking realm is
certainly evident. For instance, a well-known financial institution that serves
higher education (both students and organizations that serve them) recently
offered a debit card whereby students could get money from their grants,
put it in their account, and then pay for tuition or related school costs for
that quarter or semester using their card.
Unfortunately, as students can sometimes do in certain situations, some
bought extra supplies, picked up food, clothing or other various additional
Fair Lending Q&A with Jerry Miller
Data integrity
is critical—you are
judged by the data
you submit.
—Jerry Miller
“ “
6. sundries, or used their card for countless other situations common for college
life not directly related to tuition or standard costs associated with higher
education. The result, in many cases, was an
overdrawn card that accumulated overdraft
fees that the financial institution allowed to
accumulate until the next semester or quarter. At
that point, before any money from grants could
be used to pay tuition or supplies, the student
was responsible for paying off sometimes heavy
overdraft fees.
In this case, the situation became a significant case in the northeast. Not only
was the educational institution directed to disassociate itself with the financial
institution in question, both institutions were penalized. In fact, the latter was
also required to make restitution to those students for the fees that were
charged.
While there are those that would argue that an overdraft line is credit, this
situation was based upon transaction fees, returned checks or other similar
situations, and is a clear indicator of the wider scope of review of fair banking
institutions face from regulators today.
Q: We currently don’t pull credit on business accounts at opening
on the business owners. There is a concern about having multiple
business owners and having to deny due to one of the owner’s
credit. When issuing an Adverse Action, how do we deny the
business without violating one of the owner’s privacy?
Ouch—that is a challenge. The first question underscores the baseline reason
for denial. The applicants who were turned down, but had a high credit score,
have no legal/defensible reason to know that the lower credit score of other
applicants is the primary reason for the denial. As such, only the individuals
whose credit scores were unacceptable should have that noted or be informed.
That said, this is clearly a broader situation where other factors often come into
play. Financial projections, lack of equity, lack of sufficient financial support or
myriad other considerations could easily apply when deciding whether or not
other small business owners receive an Adverse Action Notice and standard
requirements under the Equal Credit Opportunity Act (ECOA) and the Fair Credit
Reporting Act (FCRA) apply.
Q: Do businesses fall under privacy laws?
Unfortunately, the privacy rule is a consumer regulation, and it’s a fine line
in terms of how you protect small business owners, and the privacy of their
financial information. We run into this discussion periodically when we talk
about intrusion, treatment of information related to small business owners and
if they’re protected under Consumer Financial Privacy. Regulation P is fairly
specific—it is “protection of non-public, personal, private financial information.”
and clearly a consumer regulation.
Fair Lending Q&A with Jerry Miller
Page 6
Financial
projections, lack
of equity, lack of
sufficient financial
support or myriad
other considerations
could easily apply
when deciding
whether or not
other small business
owners receive
an Adverse Action
Notice.
—Jerry Miller
“
“
7. Page 7
Looking for more great tools, resources and titles
from LexisNexis® Sheshunoff™ industry veterans?
Federal Fair Lending and Credit
Practices Manual
Loan Policies Manual
Mortgage Lenders Model Compliance Manual:
Policies, Forms, and Checklists
This comprehensive manual, written by David
McF. Stemler, provides timely information
and authoritative guidance on fair lending
and credit practices.
This manual gives you sample lending policies
that will satisfy your regulators. Even if you
already have lending policies in place, this
guide is useful to make sure everything is
complete.
This manual will help your residential
mortgage lending staff understand and
comply with a variety of changing state and
federal regulations.
Even more Sheshunoff™ resources:
• www.lexisnexis.com/sheshunoff
• Email: contentsolution@lexisnexis.com
@sheshunoff
Learn more >> Learn more >>
Learn more >>
Fair Lending Q&A with Jerry Miller
About Jerry Miller:
Jerry Miller brings a wealth of regulatory and private-sector experience and expertise to the clients he
serves in Wipfli’s Regulatory Compliance practice. Continuing the work he did at REGCOM, he provides
proactive compliance services to the financial institutions industry and specializes in assisting management
in responding to enforcement actions. He also serves as a consultant regarding new products, services and
related areas of potential regulatory risk. In addition, he partners with senior management and staff to
design, develop, implement and test policies, procedures and control systems to ensure sound governance
throughout the financial institution. He is a frequent presenter for seminars and Webinars. Jerry is a
graduate of the University of Wisconsin-Platteville and the Southwest Graduate School of Banking and holds
CMC, CRP, CRCM and AMLS certifications.
