Eight Critical Fair Lending Questions (and the Ultimate One)
IN PURSUIT OF THE SIMPLE, FAIR LENDING LITMUS TEST
It’s been more than 25 years since I sat in a high school chemistry classroom and experienced the clanking, gurgling, popping and odd smells associated with such a room. I confess I’ve forgotten just about everything except the “litmus test” we used to test the acidity of a solution. It was a simple process. I guess that is one of the reasons I can remember it.
In politics, we rely on a different kind of litmus test to determine if a potential candidate is the right person for the job. Simply stated, the litmus test is a tough question that can determine a verdict. Health care is one example of a common, single-question issue.
In our daily fair lending consulting, we are often asked by clients and prospects alike: “What is a simple litmus test for fair lending compliance?” Wouldn’t life be great if there were one simple question that determined a definitive verdict on every topic? Unfortunately, the multitudes of laws making up fair lending (ECOA, FHA, State Acts, UDAP, CRA, etc.) prevent a single question for one, definitive answer. If it were possible, we would take the 84 pages in the Interagency Fair Lending Exam Procedures and boil it down to one page with one question!
EIGHT CRITICAL FAIR LENDING QUESTIONS (AND THE ULTIMATE ONE)
While there is not a single, magical question, there are a series of questions that can help you understand your current position:
1. CULTURE: Does your financial institution have a strong fair lending compliance culture? Try to get a feel for any compliance culture that has been established and what its impact has been on attitudes, policies, practices and procedures. Do you have a history of consumer complaints? Are there concerns expressed in prior exams? Does everyone receive annual fair-lending training (including the board, senior management, loan officers, underwriters, collectors, service teams, workout personnel and all other appropriate employees)? Written policies and procedures are a great start, but they only gather dust unless you actively coach, teach and train team members.
2. LOAN VOLUME: Are there any specific credit products that represent an appreciable volume of the bank’s lending, or that demonstrate noticeable growth? The greater the lending volume, the larger the number of consumers potentially exposed to discrimination. High loan volume warrants specific attention and focus. Regulators are trained to set exam focal-points based on high volume and growth.
3. OVERT DISCRIMINATION RISK: Are there explicit prohibited-basis identifiers listed in your financial institution’s policies or procedures? Check to make sure there are no institutional statements that reflect attitudes based on prohibited basis prejudices or stereotypes.
4. MARKETING RISK: Does advertising imply that any minority or prohibited-basis customers are less desirable? Review your advertising program to ensure ads reflect (proportionately) the market’s population, and that marketing efforts do not exclude geographic areas with a high percentages of minorities.
5. UNDERWRITING & PRICING RISK: Do you allow loan officers to use discretion in the underwriting or pricing process? Consider whether your senior lenders have the ability to adjust interest rates or terms. Ask yourself: Is there vague or subjective underwriting criteria? For example, what does “good character” really mean? Does every loan officer in the bank define it the same way? Is there guidance on making exceptions (including credit-score overrides)?
6. PRODUCT STEERING RISK: Do you have clear, objective and consistently implemented standards for referring applicants to specific product lines? Special attention needs to be given to products and features that may have potentially negative consequences for applicants. This becomes more complicated for a financial institution with subsidiaries, affiliates or third parties. Are there records that detail policy exceptions or overrides, exception reporting and monitoring processes?
7. REDLINING RISK: Are there lending-exclusion areas with high concentrations of minority residents? Consider whether there were any exclusion patterns identified in your most recent CRA review, and whether your assessment area excludes areas with high concentrations of minority residents.
8. SERVICING RISK: Do you have consistent standards for servicing a loan, providing assistance or invoking remedies? A lender may not express a preference on prohibited factors or indicate that it will treat applicants differently on a prohibited basis.
These eight questions are important, but people need simplicity and they want it now! We live in a 140-character world with abbreviations and sound bites driving every dialogue. So, what is that one question for fair lending? Ultimately, it comes in the form of comparative analysis.
9. DISPARITIES, THE ULTIMATE QUESTION: Do you have disparities among underwriting approvals, pricing or product mix when you compare minorities (prohibited basis characteristics) and the control group (white, male non-Hispanics)? It is impossible to know where to focus your compliance efforts when you haven’t conducted a review to learn where your risks may lie. Do you perform an enterprise-wide fair-lending risk assessment every year? And, if so, how do you compare the numbers?
The bottom line: There are only a few complex issues in life with a single, ultimate question that provides a definitive answer with clarity (like the acidity test and litmus paper). However, it is possible to simplify the Fair Lending compliance process and ask the right questions so you can efficiently and effectively get to the right answers.