CRA: The OTS Proposal

When the agencies issued the current version of the CRA regulation, they agreed to revisit the rule in five years. That is about all that they currently agree on. The agencies have not maintained the uniformity that has been a core part of CRA regulations from the beginning. The most recent independent step has been taken by the OTS.

Both the OCC and the FRB decided to make no significant changes to their CRA regulations. The FDIC is still in the rule-making process. At that agency, the most innovative step under consideration is increasing the size cut-off for small and large banks. FDIC has opened the door to consideration of setting the cut-off at $500 million or even $1 billion.

OTS is the only agency to re-evaluate the substantive issues that concern bankers. These issues, the definitions of community investment and the role of the investment test in the rating system, are challenging issues. But no matter how difficult the rulemaking process may be with these issues, they are important to both the examination process and the economic health of communities.

Rural or Urban?
One of the biggest questions for many smaller institutions is whether serving credit needs of non-urban communities counts as much as meeting credit needs in urban communities.

CRA began its life in urban neighborhoods. The concerns that generated what we now know as the Community Reinvestment Act were raised by residents of older urban neighborhoods that were not successful in competing for mortgage money against the growing suburbs. The principles of underwriting then placed a higher value on newness and suburban life styles than on urban environments. As a result, most of the discussion surrounding the enactment of CRA involved discussion of urban problems.

If CRA is directed only at urban problems, many banks have serious compliance problems. There are numerous community banks located in non-urban markets or having a substantial part of the market that is non-urban. Unfortunately, CRA currently measures urban activity more heavily than rural investments and credit programs.

One interpretation of CRA, heavily pushed by most neighborhood advocacy groups, is that only urban investments should count. Enforcing such an interpretation is easier because urban neighborhoods tend to be the only places where low- and moderate-income populations can be measured by census tract. Non-urban areas tend to have less economic segregation and because of this it is more difficult to identify low- or moderate-income population in non-urban areas.

This emphasis on urban over rural can have the effect of dis-investing rural areas by forcing banks serving these markets to direct most or all of its investment and service work into urban areas. In other words, the rating process forces banks to turn down rural investment needs because the investment cannot be sufficiently tied to low- or moderate-income beneficiaries. Instead, the funds of rural depositors are used to fund urban investments while the rural needs go unmet.

No matter how one measures poverty, there is plenty of it in rural areas. Often the rural poor are worse off (but less visible) than in nearby urban areas. The problem is that there isn't a clear way to determine whether credit, investments and services are reaching low- and moderate-income population because the rural census data is less useful than urban census data at supporting these analyses.

OTS proposes to tackle this problem head on. The proposal would revise the definition of community development to include specific recognition of banking activities in non-metropolitan areas by adding to the definition "community services targeted to low- or moderate-income individuals or to individuals in rural areas." The proposal would also add "activities that revitalize or stabilize low- or moderate-income geographies or rural areas."

The effect of the proposed change would be to create a presumption that any community services or activities in rural areas would provide sufficient benefit to low- or moderate-income individuals to qualify for CRA consideration. This presumption is likely to be highly controversial among community and neighborhood advocacy groups. We can expect them to oppose the proposal.

The OTS has requested comment on whether the definition should be expanded. OTS has also requested comment on other ways the definition might be modified and whether there should be other approaches to the problem.

In addition to revising the definitions of community development, the proposal raises the issue of how to define rural? The term would be used for the first time in the CRA regulation and would need some definition. The OTS puts out several approaches which include borrowing definitions from the USDA in its Rural Community Advancement Programs. The OTS proposal specifically uses the term "rural." This merits close attention as there are non-metropolitan areas that might not be classified as rural. If so, they would be excluded from the expanded definition even if there is low- and moderate-income credit and investment need.

Ratings Flexibility
The other key issue that OTS has opened for comment is the ratings structure. OTS wants comment on whether the rating system should have additional flexibility to allow institutions to focus community reinvestment efforts on the types of the activities most needed in the communities they serve.

Flexible rating systems have the strong positive of providing some much-needed room for institutions in different situations. However, the flexibility is likely to carry the price tag of increased attention on process and value judgments related to process. Since that is what the current rule tried to get away from, this idea should be carefully considered before jumping on the band wagon.

In its proposal, OTS identified several alternate approaches to the rating system currently in place. One would be to allow institutions to choose to have heaviest weight given to lending if lending is the greatest need in their market. In effect, the institution could choose the weights for each test before the examination and then conduct business to meet the weights chosen.

Another approach would be to allow flexibility but to place limits on how much could be adjusted. Still another approach would be to maintain a fixed lending test but allow the investment and service test to be adjusted. Under this approach, an institution could emphasize service if investment opportunities were limited and get "investment" credit for the services.

OTS is seeking comments on whether a flexible approach is desirable and what impact such an approach could have on the current tests. Finally, the OTS also asks whether the investment test should be eliminated. For its regulated institutions, the investment test may be more burdensome than for institutions that do not have the lending requirements of thrifts.

Even though only the OTS has published this request for comment, the OTS's action effectively opens the door to specific debate on these issues. Institutions regulated by OTS should definitely participate in the comment process. Other institutions are free to do so. Because the door is opened, and because competition and level playing fields are always a concern, anyone can and should comment.

ACTION STEPS

If your institution serves non-urban markets, comment, even if you aren't regulated by OTS. This is an opportunity to get the issues on the record. Provide examples of good investments that have been rejected by examiners.
Consider what should be included in the definition of rural or whether a term such as non-metropolitan should be used instead.
Identify specific investments or community development loans that your institution decided not to make because they would not obtain CRA consideration. Share these examples in your comments.
Review your last exam report with particular attention to how the ratings were developed. Consider whether your institution could be rated more fairly with flexibility in the rating system.