Looking For Fair Lending Problems

At PCi's 2000 CRA and Fair Lending Colloquium, fair lending played a starring role. Many of the sessions were specifically dedicated to fair lending concerns, including management of the process and self assessment. Several speakers, including Joan Magagna, Chief of the Housing Section in DOJ's Civil Rights Division, discussed the current fair lending concerns and investigation techniques.

Magagna identified the fair lending areas that are now getting attention from DOJ. Noting that sub-prime lending is growing faster among minorities than among non-minorities, she placed this topic as a high priority. DOJ is currently looking closely at subprime lenders and subprime lending practices. Special concerns include pricing, unfair and deceptive practices, and kickbacks and illegal or hidden fees. To deal with these subprime lending concerns, Magagna advised the audience that DOJ is not limiting its statutory resources to the Fair Housing and Equal Credit Opportunity Acts. Their considerations include the potential use of other laws, including RESPA, HOEPA, and the unfair and deceptive trade practice provisions of the Federal Trade Commission Act. She stated that the agencies are working "in tandem" to get at the issues of predatory lending.

Predatory Lending
This concern raises predatory lending as a leading issue for fair lending cases. Predatory lending cases can involve more than pure fair lending issues, as cases such as Delta Funding and Providian have already shown. Because predatory lending tends to affect minorities most heavily, it is almost inseparable from fair lending issues.

Magagna mentioned the Delta Funding enforcement action as an example of how DOJ may work with a variety of laws and with regulators - including state regulators - having related concerns. Although she did not specifically mention the Providian case, that too is an example of a federal regulatory agency - OCC - working with the state attorney general.

Predatory lending is now a clear theme for any assessment of fair lending. It is likely to be a question asked or studied in any fair lending investigation or examination. It may be the trigger for fair lending concerns, or it may only arise as a related concern. But it is clear from Magagna's words that no fair lending self assessment should be considered complete without a review of predatory lending.

Indirect Lending practices
DOJ is also looking at the extent to which lenders rely on brokers to generate loans and to set terms for credit. Any institution using loan brokers should be vigilant for the possibility of inequities in how the loan brokers treat customers.

Loan brokers may treat customers differently. If this is the case, the results of differing broker pricing may relate to prohibited bases when in the acquiring lender's portfolio. This is precisely what happened in the Longbeach case. Although all of the loans purchased by Longbeach were within the institution's underwriting criteria, there was a pattern of loans to minorities being priced at the high end of the spread. To avoid this kind of discriminatory result, Magagna recommends that lenders not allow variations in spreads and origination fees.

Another problem to avoid in dealing with loan brokers and dealers is making special accommodations - cutting special deals - for "favored" loan originators. Giving underwriting leeway to a third party is simply asking for trouble. The trouble usually results in allowing the third party to discriminate on behalf of the bank. Magagna advises that such accommodations would be quickly identified in a file analysis and would be investigated in the context of any prohibited basis.

Underwriting
How credit decisions are made are one of the two key areas for concerns about discrimination. Prescreening is the other. Underwriting is therefore constantly on the front burner. Specific practices for comparison include the level of assistance given to customers, approval and denial rates by race or ethnicity, consistent or inconsistent application of underwriting standards to all customers, comparing what is written as policy to what is actually considered, and the institution's tolerance for overrides. Magagna points out that allowing overrides enables discrimination to flourish. When a lender decides to override an established - and proven - underwriting decision, the reason is probably personal. It is precisely the personal criteria that the fair lender should avoid.

What Would Make DOJ Happy?
Magagna outlined several key elements for successful management of a fair lender. This begins with a corporate culture that places a high value on fairness and non-discrimination. This fair lending culture should be ingrained in the work force and be part of the institution's business mission.

Second, the institution should have an infrastructure that makes fair lending happen. This includes clear written policies, procedures, and underwriting guidelines.

Policies and procedures aren't all that should be written. Every lending decision should be fully and clearly documented. In particular, Magagna recommends documenting overrides. This documentation should include the explanation of why the override was made. In fact, she stated that the bank should always document the reasons why decisions were made.

Third, monitor the institution's performance. Banks should be looking at their HMDA and CRA data. They should be reviewing any other reports that they generate. The monitoring should identify disparities and any reasons for them. Every lender and compliance manager should know what is in the loan files, including what forms the bank uses, and how the bank uses them. If you or the loan officer cannot explain what the form or document is, you look awfully foolish to the investigator.

Finally, if you find an actual or potential problem, do something about it. Several speakers advised the audience that the first step in self-assessment is to consider what the bank will do in response to finding any problems. Fixing the problem requires serious commitment. This may include providing remedies for any victims, rewriting some loans, and taking other painful forms of corrective action. Don't expect to fix all problems with an affirmative marketing program.

Finding and fixing a problem before DOJ comes in can change the entire situation for the better. Magagna stated that if a bank has found problems and fixed them, "we're going to go on to someone else." The critical element here, however, is fixing the problem to DOJ's satisfaction. In addition, DOJ is looking for corrective action and initiative by the bank. They are much less impressed if the corrective action was required by the regulatory agency.

ACTION STEPS

Review your policies and procedures. Compare them to what you actually see done in the loan files. If there are gaps or inconsistencies, take steps to fix them.
Review all underwriting and credit score overrides on a regular basis - quarterly if you can manage it. Look for any ominous patterns.
Consider your marketing practices - including any way that products are presented and described. Decide whether you can defend them as fair and non-deceptive. If not, start working to establish fair sales practices.
Review small business loan decisions for consistency and fairness. Look for overrides and any other deviation from underwriting criteria.
Review loan files and denials for adequate documentation. If you have to ask the loan officer any questions, the documentation is not adequate.
Look at all of the forms and documents in the loan files. Make sure you know what they are, how they are used, and why they are in the file. Also make sure that you know who is responsible for completing each form.