Fair Lending 2024: Top 7 Takeaways

What do you need to know about fair lending compliance in 2024? That’s the question we answered in our January webinar. 

With the HMDA submission window open, what better time to look at fair lending? Here are our top 7 takeaways from the webinar.

(Note: Take a peek at our 2024 Regulatory Expectations) 

1. Adverse Action Notices (AANs) are a cornerstone of your Fair Lending Compliance Program

Sorry to break it to you, but your sophisticated underwriting algorithms won’t protect you from Equal Credit Opportunity Act (ECOA) violations. 

The Consumer Financial Protection Bureau (CFPB) issued a circular last year reminding FIs that adverse action notices are necessary for fair lending – even if an algorithm is making the decision instead of a person.  

Within 30 days of denying a loan request, financial institutions must send the applicant an AAN that offers the specific and principal reason for the rejection, describing factors scored by a creditor. 

While the CFPB offers sample AANs for “illustrative purposes,” they caution lenders not to rely on these checklists. A banker’s decision to reject a loan applicant must be specific to the borrower.

2. Denying loans based on immigration status may violate ECOA protections

Lenders know that ECOA allows them to consider immigration status when denying credit. But not if immigration status is a cover for discrimination based on race, ethnicity, or national origin, according to a joint statement from the Department of Justice and CFPB. 

Lenders must avoid blanket policies that deny credit solely based on immigration status. 

They should pay attention to: 

• Denials based on an applicant’s ethnicity compared to other non-citizens 
• The length of time an applicant has had an SSN as a reason for denying a loan 
• Requirements for additional documentation, identification, or in-person applications from non-citizens 

The DOJ and CFPB argue that some FIs incorrectly believe ECOA shields them from discrimination rooted in immigration status. We’ll watch this issue closely in 2024 to see how it plays out in enforcement actions or DOJ lawsuits.

3. Don’t try to outsmart your borrowers

Can borrowers sue a financial institution for predatory and unfair lending practices after signing paperwork releasing them from legal claims? Regulatory agencies think so, and courts typically agree. 

When a New York bank targeted Black and Latino borrowers with low credit scores for adjustable-rate mortgages that triggered interest rate hikes of up to 18% after a single missed payment, the plaintiffs sued and won a jury case for ECOA violations. 

The bank appealed the decision, arguing that some plaintiffs signed paperwork “to release and forever discharge” the bank “from any and all claims.” The CPFB filed an amicus brief with the United States Court of Appeals for the Second Circuit to protect consumers’ rights to challenge discrimination legally. 

While the case is still pending, the courts generally frown on waivers preventing parties from bringing suit. Additionally, it’s just a bad look for a lender. When FIs try to outsmart their consumers, especially vulnerable ones, they invite financial and reputational repercussions.

4. Marketing is critical to your fair lending lifecycle

What happens when the CEO of your mortgage company goes on a podcast and discourages applications from minorities? 

Regulators act. A Chicago-based mortgage company discovered why marketing matters in fair lending. The CEO opined that Chicago’s predominantly Black South Side residents shouldn’t bother to apply for home loans at their company. 

The CFPB filed suit, arguing that the company had violated ECOA in discouraging minority applicants. While the courts sided with the mortgage company on the legal argument that ECOA only applies to applicants, not prospective applicants, the matter is far from finished. 

The DOJ could still bring charges under the Federal Housing Act (FHA), which does not make a distinction in discriminatory practices between prospective and actual applicants. 

Marketing was also central to a lawsuit brought by the DOJ against a Houston developer’s bait-and-switch land sales to Hispanic borrowers. 

The developer sold plots to would-be homeowners but neglected to mention that the area lacked water, sewage, and electricity. The suit cited that the developer had used social media to perpetrate their fraud. 

The developer advertised on channels like TikTok to target Spanish-speaking consumers. In social media ads, national flags from Latin America flew over Spanish music. 

Yet, when eager applicants flooded the developer’s offices, none of the loan documents were available in Spanish, and the developer failed to hire Spanish-speaking loan officers. 

While it’s not a regulatory requirement to employ Spanish-speaking loan officers, examiners will note any mismatch between the banking consumers you target and the services available to applicants from protected classes.

5. Monitor pricing exceptions

FIs grant pricing exceptions for valid business reasons. For example, if a lender in your area offers lower rates on particular loan products, your FI may need to match or beat their price to stay competitive. 

Pricing exceptions are also a high risk for fair lending compliance. Managing exceptions must be a part of your compliance management program to mitigate fair lending risk. 

Financial institutions require a policy for granting exceptions and must document them. Then, you can perform a regression analysis, isolating demographic variables (race, national origin, age, and gender) and comparing the frequency of pricing exceptions made to your control group (white males) and protected classes to ensure those exceptions aren’t leading to fair lending issues.

6. Make sure you’re collecting HMDA/1071 data and reporting it correctly

The frequency of HMDA scrubs depends on your FI’s risk appetite and complexity. Yearly scrubbing may suffice for lenders with fewer home loan originations and applications. On the other hand, larger lenders may be required to scrub their HMDA data every quarter. 

But HMDA (and soon 1071) data collection and reporting goes beyond transmittal hygiene and regular HDMA analytics. Just ask Bank of America. If you want the whole story, read it here. 

The short version: Bank of America loan officers failed to collect HMDA-reportable data for applications taken over the phone. The bank knew it had a problem and didn’t act. It paid a $12 million fine. 

Financial institutions must monitor loan officers to ensure they’re collecting HMDA/1071 data. Too many “information-not-reported" or default “white/non-Hispanic” borrowers (depending on the population of your assessment area) for loan applicants draws regulatory attention. 

Look at individual loan officers’ response rates for demographic data and compare that to the response rates of other loan officers. If your institution takes applications for residential loan products over the phone, monitor these calls for quality control. Lastly, ensure your FI has metrics for an acceptable rate of non-responders.

What’s a reasonable proportion of “information-not-reported" applications? The industry standard is 3%. 

 7. You must manage third-party and indirect fair lending compliance

The recent Interagency Guidance on Third-Party Relationships: Risk Management clarifies that banks are responsible for their vendors’ compliance missteps. 

How can banks and other financial institutions manage fair lending for third parties? 

• Due Diligence. Identify fair lending compliance controls for vendors. What is their current Compliance Management System (CMS), and how well does it perform? 
• Contract Provisions. These can include provisions for remediation should a vendor fail to manage fair lending compliance, termination triggers, and the right to audit. 
• Ongoing Monitoring. Look for any indications of the deterioration of compliance functions for vendors. If a vendor outsources to a third party, has it recently changed vendors? Were there any recent staffing changes? 
• Consumer Complaints. Your vendors should have a robust complaint management system. Track these complaints for signs of fair lending weakness.  

The National Credit Union Administration (NCUA) announced special examinations for credit unions with indirect auto loan portfolios with a large number of first-payment defaults. NCUA is concerned with the disparate impact of dealer discretionary markups, especially when these markups exceed the book value of auto loans. 

Credit unions must ensure that third-party contracts with auto dealers spell out their fair lending policies and conduct analyses to ensure dealer discretion does not violate fair lending laws. 

Even if your credit union does not meet the criteria for special examination, expect that dealer discretionary markups will be a focus of yearly examinations.

Preparing your financial institution for fair lending compliance in 2024

A robust compliance management system is your best defense against potential fair lending violations. Financial institutions must perform fair lending analysis to guard against unintentional discrimination or inconsistent treatment of protected classes.  

You're falling behind if you’re not using statistical analysis to track fair lending internally and compare this data to similarly situated peer institutions.

While a policy or procedure that creates a disparity on a prohibited basis is not itself a violation, fair lending analytics software to systems empowers your institution to tell a compelling compliance story to examiners.

Build a Strong Compliance Culture