Putting Fair Lending in the Proper Perspective

Between April, 1993 and the end of 1995, the OCC referred 20 fair lending cases to the Department of Justice. In the 2.5 year time period of their report, that is an average of approximately 8 cases per year. Although serious, this is not a "Nightmare on Main Street." Cases identified and referred constitute a very small percentage of examinations performed. Also of some comfort, examiners do not draw conclusions lightly and all cases are reviewed in Washington before any referral takes place.

The industry should be concerned, however, when the OCC identifies cases of this seriousness when the Fair Housing Act has been in effect since 1970 and the ECOA since 1975. The cases referred have involved either overt discrimination or disparate treatment on a prohibited basis. We learn something important by looking at the central issues in the cases referred.

For example, the industry's focus has been on discrimination in mortgage lending. Self-assessment efforts and training programs have been directed toward mortgage lending. Fact: the OCC identified more cases in the consumer loan portfolios than in the mortgage loan portfolios. Eight of the referrals involved mortgage lending while twelve involved consumer loan transactions.

The industry's focus has been on preventing discrimination based on race. Fact: six of the referrals involved race discrimination and one involved national origin. However, seven referrals were based on findings of marital status discrimination, one on sex and marital status, one on sex and familial status, and four on the basis of age discrimination. Thus, the majority of cases (13) involved discrimination based on factors other than race. (Hint: never let anyone say that your bank can't be accused of discrimination because you have no minorities in town!)

What gets banks into trouble? The OCC identified seven banks that treated income differently for married co-applicants than for unmarried co-applicants. Combining income and assets of married applicants while treating income and assets of unmarried co-applicants separately makes it harder for unmarried co-applicants to qualify for the same credit.

On the issue of age discrimination, the largest risk factor is creating a product which favors "senior citizens" without complying with the ECOA and Regulation B rules on treatment of age. Regulation B permits favoring elderly applicants, defined as age 62 or older. The OCC identified two situations in which the bank provided a different age cut-off, such as 50 or 55, to qualify for the favorable terms. The OCC identified a bank which assigned lower credit limits to applicants under the age of 25. It is a violation of ECOA to take age directly into account to set credit terms. It is permissible to take age into account to evaluate pertinent elements of creditworthiness, such as the length of time an applicant will continue to receive benefits based on age.

Finally, in the age arena, the OCC identified a bank that used an unvalidated credit scoring system which took into account the age of the applicants. Regulation B permits consideration of age in credit scoring under two conditions:

the system must be empirically derived and demonstrably and statistically sound. This means it must be based on the creditor's data or an acceptable substitute, developed using recognized statistical methods, and periodically validated.
elderly applicants must be treated at least as favorably as any other age group. This means that applicants age 62 and older must receive a score for age that is as high as or higher than the highest score for any other age group in the system.

The OCC identified several cases in which banks discriminated against female applicants by improperly refusing to consider or excluding consideration of "protected income." In one case, the bank disregarded marital income (alimony, child support) without attempting to verify the income. In another case, the bank disregarded "other income" from single female applicants while counting such income listed by male and married applicants.

Several of the cases involved service and pricing issues. The OCC determined that the banks in question provided less service and less help to minority applicants. In three cases, the OCC found that the bank was charging minority applicants more for loan products than they were charging similarly qualified whites.

The good news is that these are not new issues. There is no "cutting edge" of new forms of discrimination. However, the fact that it is old news yet still happening illustrates the importance of giving active attention to fair lending in your compliance program.

The U.S. Department of Justice officially dropped its investigation against Barnett Banks, Inc. While there is much theorizing about the significance of this, it clearly demonstrates that a bank can successfully defend itself.

A bank's fair lending defense must be based on a thorough understanding of the bank's lending activities and its market. As with CRA, this means the bank must understand the credit needs and lending opportunities in its market, and be able to explain how it is conducting business to serve those credit opportunities.

ACTION STEPS

Review your lending policies and underwriting criteria to consider their impact on the basis of sex, marital status, and age.
Check your training programs and materials to make sure they give appropriate treatment to gender and age discrimination. Give special attention to the Regulation B rules on income consideration.
Meet with your construction lenders and housing project lenders to learn whether the bank is financing any projects that may take age or familial status into account. Familiarize them with the HUD rules under the Fair Housing Act.
Review your HMDA data to look at approvals, denials, and withdrawals by on age, sex, and marital status.
Audit your consumer loan products for discrimination. Include advertising, product design, and bank procedures in this review.
To the extent possible, audit files by gender using customer names to identify the applicant's gender. (You may feel that you are treading on forbidden ground when you do this - but this is what examiners are doing. Deducing this after the loan is made or denied is permissible. Just make sure no one ever asks the customer any prohibited information.)
Compare income listed by applicants with income verified and considered by the loan officer.
If your bank uses credit scoring, review the system to determine what scores are given to the applicant's age. Make sure that the system groups all applicants aged 62 and older into one group and that it receives the highest score possible for age.
Train, train, and train again.