Does your loan exceptions process put you at risk for Fair Lending supervisory or enforcement actions? If your exceptions management program isn't well-managed and effectively implemented, you could be at risk. The CFPB's Supervisory Highlights share their recent supervisory observations, and provides clear guidance to financial institutions. Below we review the Supervisory Highlights, compliance management systems, and comment on how the exception management process fits into your Fair Lending compliance.
Is Your Fair Lending Analysis Difficult, Time-Consuming, or Stressful?
Learn how to change that with this free Fair Lending 101 Info Kit!
The Consumer Financial Protection Bureau states that it is committed to supporting a fair and transparent consumer financial marketplace. In an effort to achieve this goal, the CFPB is supervising the lending practices of bank and non-bank lenders. In the fourth edition of Supervisory Highlights (Spring 2014), they share their observations, and emphasizes the value of a well-developed compliance management system (CMS). One critical element of a strong CMS is the exception management process. First, we'll cover some critical components of a strong CMS as defined by the Bureau, and then we'll help you evaluate your exception management process.
A robust CMS lessens risks to consumers and reduces the potential for violations of Federal consumer financial law. These days, every CFPB examination will include some level of CMS review.
In general, the Bureau reminds us that there are four interdependent control components for a successful Compliance Management System:
- Board of Directors and Active Management Oversight: Leadership must help establish clear lines of accountability in the lending process.
- Lending Compliance Program: Your compliance program should include policies, procedures, training, monitoring and corrective action that govern the lending process. Your compliance program should include an exception management program.
- A Consumer Complaint Management Program: Your institution should also have a policy to respond to individual instances and identify major issues and trends that may be evident of broader concerns.
- An Independent Compliance Audit: After your independence compliance audit, review compliance risks and share findings with management to address concerns.
5 Elements of Your Exception Management
In this Spring’s edition, the CFPB shares recent supervisory observations about many aspects of lending compliance. Under the Fair Lending umbrella, they have focused on the concept of exception management, which is referenced in #2 above.
They observed instances in which financial institutions lack adequate policies and procedures for managing the risk when a lender makes exceptions to established credit standards, the report states.
The Bureau acknowledges that exceptions “are appropriate where they are based on a legitimate justification.” However, it is important to provide the right oversight in order to ensure "legitimate justifications" and avoid increasing compliance risk. The following 5 CMS oversight elements to evaluate when reviewing your exception management include:
1. Policies and Procedures:
How are you controlling the exceptions that you are willing to allow? Do you have policies and procedures that clearly define when an exception is permitted (e.g., competitive situation), what thresholds you are willing to compromise (e.g., loan-to-value), whose signature is required for the exception and are their tiers (e.g., management), what type of exception documentation is required in file (e.g. memo/form), what type of monitoring and reporting is required?
Ncontracts VIEWPOINT: We find that many financial institutions do not maintain guidelines that provide the guardrails to ensure that exceptions are managed consistently (e.g., lack of any written policies/procedures). Without these guardrails, the exception management process is open to individual interpretation. For example, when you ask a loan officer, a division manager, an underwriter and the chief lending officer each about the exception process, you can get very different answers. Written policies and procedures help ensure everyone understands the process and approach.
2. File Documentation:
Do you maintain a process to ensure that there is adequate documentation of each independent exception decision? Can the loan file and the associated documentation stand on its own?
Ncontracts VIEWPOINT: We find that many organizations to do not maintain sufficient documentation in order to prove that exceptions were legitimate. Your documentation needs to be sufficient to explain and provide enough detail about the exception. File documentation should allow the loan to stand on its own and provide clarity as to why the exception was approved or denied.
3. Monitoring and Management Reporting:
How are you monitoring and tracking exception activity? Are you tracking the frequency of the exceptions and comparing the trend lines from month-to-month? Do you understand the reason codes for the exceptions? Are you tracking both approvals and denials for requested exceptions?
Ncontracts VIEWPOINT: We find that financial institutions may lack the consistent reporting on exceptions, lack compliance review of the reporting, and does not have external compliance audit to test the exceptions granting process. Exception management is important for both safety and soundness purposes and compliance purposes.
4. Role Specific Training:
Whether it is your loan officers, management, underwriters or pricing personnel, it is important they all understand the policies and procedures, reporting and file documentation process for exception management.
Ncontracts VIEWPOINT: General training from a purchased Learning Management System is not sufficient. Team members involved with the extension of credit must be trained so they can relate their daily role to the compliance management system in which exception management plays a key role.
5. Management Participation:
Ensure that management and/or board oversight of policies, procedures and report review keeps the exception process functioning efficiently.
Ncontracts VIEWPOINT: The best practice financial institutions review their exception reporting on a regular basis; the frequency depends on volume and complexity of the business. Policies and rate sheets are discussed in comparison to the exception reports in order to better understand the drivers of the exceptions.
Making credit and pricing exceptions play an important role for the financial institution. Historically speaking, these exceptions have been carefully managed from a safety and soundness vantage point. Through a few adjustments to existing processes, we find that exceptions can also be successfully managed from a Fair Lending risk management vantage point.
Start making improvements today with our free fair lending compliance demo.
Subscribe to the Nsight Blog
Share this
$200M Fair Lending Settlement Shows Why You Need to Know Your Numbers
4 Fair Lending Best Practices - Proactively Address Risk
