Fair Lending: The Latest Threat for Banks in the current Environment

A Thought Leadership Alert from Compliance Coach

As Banks take steps to increase lending or work with delinquent borrowers to avoid foreclosures, they also need to take another good look at their fair lending compliance program. Otherwise, they risk non-compliance with fair lending laws and a host of regulatory enforcement actions and negative publicity that can wipe out not only the Bank’s capital but also goodwill.

In fact, currently all of the Bank regulators are stepping up their scrutiny of Bank fair lending compliance programs in order to prevent any discrimination in loan originations or loan workouts.

So a Bank would be wise to dust off its fair lending program from the bookshelf and take a close, hard look to make sure it is appropriate for the current environment and the Bank’s risk profile.

Under the Equal Credit Opportunity Act (ECOA) and the Fair Housing Act (FHA), the two laws that are the cornerstone of fair lending, it is illegal to discriminate against a loan applicant or borrower based on certain prohibited basis such as race, national origin, sex, marital status, age and other factors.

A Bank is expected to have a written board of directors approved fair lending program. The program is expected to have the following elements:

• A fair lending risk assessment that is appropriate for the Bank's size, complexity and operations
• Written fair lending policies & procedures
• A designated fair lending compliance officer
• Ongoing monitoring to prevent & detect violations
• Board of directors and employee training

Each Bank will be examined for fair lending compliance by its regulator. If a pattern or practice of discrimination is identified, the bank regulator is mandated by law to make a referral to the Department of Justice (DOJ) for ECOA violations and Department of Housing and Urban Development (HUD) for FHA violations. The DOJ or HUD may decide to prosecute or return the referral to the Bank regulator for enforcement action and resolution. The Bank's Community Reinvestment Act (CRA) rating will also be downgraded for fair lending violations. The Bank can also be sued by plaintiff attorneys or community activist groups.

Recent Fair Lending Case
Take the recent case of First Lowndes Bank, a community bank in Alabama. Just a few months ago it had to settle with the DOJ for alleged fair lending violations. The FDIC during a fair lending examination concluded there was a pattern and a practice of charging African-American borrowers higher interest rates than White borrowers and referred the matter to the DOJ. First Lowndes Bank agreed to pay thousands in restitution to the affected borrowers, implement monitoring of pricing variances by loan officers, and agreed to train its board of directors, loan officers and other employees on fair lending requirements to prevent future issues.

Currently there are several other cases pending with Bank regulators and the DOJ.

So what are the three types of illegal discrimination under the fair lending laws and how can Banks fall victim as they try to increase lending or perform loan modifications and workouts?

Overt Discrimination
This is blatant, obvious discrimination against a loan applicant or borrower. It can be a statement made by a Bank employee, whether or not it is acted upon, or it can be a policy or procedure that discriminates on one of the prohibited basis. Here are some examples of overt discrimination:

• A loan officer says to a single female loan applicant that "more likely you will be turned down because you are not married and applying with your husband" but goes ahead and takes the application and forwards it for approval.
• A loan policy that states the Bank will deny a loan applicant automatically if the applicant's credit report shows a fraud alert. If a person places a fraud alert, they are exercising their right under the Consumer Credit Protection Act, which is a prohibited basis under ECOA.

Disparate Treatment

• A loan officer requires the spouse to co-sign loan documents even though the applicant qualified on their own.
• A loan workout specialist provides preferential modification terms to White borrowers and more stringent terms to Hispanic borrowers with language difficulties.

Disparate Impact

• A loan policy that states that the Bank will charge 100 basis points higher to loan applicants that have part-time income. This could disproportionately adversely impact certain borrowers on a prohibited basis.
• A collections practice where the collector waives late fees and negotiates deferred payment terms with borrowers that speak English, but not with non-English speaking borrowers who are automatically assessed late fees.

Fair Lending Risk Management Best Practices – How do you rate?
If you answer Yes, that means you are utilizing the best practice. A No answer indicates a missing best practice at your Bank and a high probability that you are at risk:

1. Do you perform a written, enterprise-wide fair lending risk assessment that is the basis for your program?
2. Does you board of directors annually review and approve a written fair lending risk management program?
3. Is there a fair lending review performed by a person or committee prior to approval of credit policies, loan pricing, underwriting and servicing policies and procedures to make sure it passes the fair lending test?
4. Is there an ongoing fair lending self-assessment, audit or monitoring process to make sure there are no discrimination issues in loan originations or servicing?
5. Does the board, senior management, loan officers, underwriters, collectors, workout personnel and all other appropriate employees receive annual fair lending sensitivity training to prevent discrimination?