Blog  |  May 6, 2021

5 Steps to Improve Fair Lending and UDAAP Compliance

Earlier in the year, we discussed the anticipated pace and scope of regulatory change in 2021 and predicted an increased regulatory focus on consumer protection laws, in particular fair lending laws and unfair, deceptive or abusive acts or practices (UDAAP). Recent statements from the Consumer Financial Protection Bureau (CFPB) reinforce the immediacy of that warning.

CFPB Sends Clear Message

Recently, the CFPB issued a statement rescinding its 2020 Abusiveness Policy Statement with the express purpose of better protecting consumers. In it, the CFPB said it “intends to exercise its supervisory and enforcement authority consistent with the full scope of its statutory authority under the Dodd-Frank Act as established by Congress.” Expressing a similar sentiment, the CFPB rescinded a series of policy statements related to the COVID-19 pandemic.

Soon after, the CFPB presented its Fair Lending Report to Congress, which said that robust enforcement of fair lending laws is a key part of the Bureau’s effort to “identify and act on opportunities to focus on consumers in underserved communities, while vigorously pursuing racial and economic justice.”

All of this adds up to a renewed mission on the part of the CFPB to better protect consumers. As a result, financial institutions must prepare to face greater scrutiny of their fair lending and UDAAP compliance.

Fair Lending Involves a Complex Patchwork of Laws

Let’s start with fair lending. To meet those obligations, financial institutions must comply with several different laws, each of which deals with a particular aspect of consumer protection:

  • Equal Credit Opportunity Act (ECOA): The Dodd-Frank Act (DFA) gave the CFPB rule-making authority of this 1974 act, which requires those who extend credit to make it “equally available to all creditworthy customers,” regardless of these prohibited bases: race, color, religion, national origin, sex, marital status, age, receipt of public assistance or a prior exercise of rights under the Consumer Credit Protection Act (CCPA).
  • Fair Housing Act (FHA): Enforced by the Department of Housing and Urban Development (HUD), this 1968 law makes it illegal to discriminate based on race, color, national origin, religion, sex, familial status or disability when someone is “renting or buying a home, getting a mortgage, seeking housing assistance, or engaging in other housing-related activities.
  • Home Mortgage Disclosure Act (HMDA): This 1975 law “requires many financial institutions to maintain, report, and publicly disclose loan-level information about mortgages,” in order to “show whether lenders are serving the housing needs of their communities.”
  • Community Reinvestment Act (CRA): Per the Federal Financial Institutions Examination Council (FFIEC), this 1977 law encourages “depository institutions to help meet the credit needs of the communities in which they operate, including low- and moderate-level neighborhoods, consistent with safe and sound banking operations.”

Courts recognize three types of discriminatory activity related to fair lending:

  • Overt discrimination: Openly discriminating on a prohibited basis or even just expressing a discriminatory preference.
  • Disparate treatment: Treating a credit applicant differently based on a prohibited basis, which includes redlining or reverse redlining.
  • Disparate impact: Applying a policy or practice across the board that disproportionally excludes or burdens certain people based on a prohibited basis.

Right now, there’s one other factor further complicating fair lending compliance: the economic fallout from the COVID-19 pandemic. The CFPB’s recent report indicates that its “fair lending work is and will continue to be a critical component of the Bureau and the Federal government’s response to the pandemic and the elimination of racial injustice.”

CFPB Reinvigorates UDAAP

In addition to complying with fair lending laws, financial institutions are also prohibited from engaging in acts or practices deemed unfair, deceptive or abusive. A UDAAP violation can be stacked on top of a fair lending violation, thus increasing the potential civil money penalty assessed against an institution. That fact warrants a close examination of the CFPB’s recent rescission of its 2020 statement on abusiveness.

In 2020, the CFPB said it would only use the abusiveness standard when the harm to consumers outweighed the benefits. In rescinding that policy, the CFPB said there was no reason to apply “the abusiveness standard differently from the normal considerations that guide the Bureau’s general use of its enforcement and supervisory discretion.”

Furthermore, the CFPB will no longer adhere to the 2020 policy of not alleging abusiveness based on the same facts that deem an act unfair or deceptive. According to the rescission, such a policy is counterproductive to the CFPB’s current priority of maximizing its “ability to successfully resolve its contested litigation, as it does not allow the Bureau to assert alternative legal causes of action in a judicial action or administrative proceeding.”

Finally, the CFPB rejected the 2020 idea of not imposing monetary penalties for abusiveness if a good faith effort has been made to comply with the standard. It notes that “declining to enforce the full scope of Congress’ definition of an abusive practice harms both consumers who were taken advantage of and the honest companies that have to compete against those that violate the law.”

Enhance Your Fair Lending and UDAAP Compliance

Navigating the changing philosophies coming out of Washington, D.C. can be frustrating and challenging, but this has become a fact of life for financial institutions. In general, the best way to deal with this reality is by adopting sound policies and implementing practices consistent with those policies. This approach allows you to manage and monitor your compliance no matter which way the wind is blowing.

In response to the current uptick in regulatory interest in consumer protection, here are five specific steps to take right now to decrease your institution’s risk of violating fair lending laws or UDAAP:

1. Review Lending Policies: Thoroughly assess all of your current lending and underwriting policies, looking for anything that could be construed as promoting or allowing discriminatory practices. Make sure that your mortgage underwriting and other lending policies provide a strong written record of your commitment to fair lending—one which is backed up by appropriate secondary review processes that ensure your policies are applied equally to all applicants by all staff.

2. Conduct a Thorough Loan Portfolio Analysis: Your underwriting policies and procedures may promote fair lending, but that won’t matter to examiners if your actual practices show evidence of discrimination against applicants on a prohibited basis. To avoid that scenario, complete a comparative file review of your institution’s HMDA or Reg B data including originated, denied, and withdrawn loan files. Document any areas of concern along with your plan for correcting them, and update all policies and procedures accordingly and communicate that information to all appropriate staff, including senior management.

3. Evaluate HR Measures: Make sure that your compensation policies don’t encourage discriminatory behavior such as steering applicants to products with higher rates or fees that are not in their best interest. Also make sure those policies don’t discourage working with lower income customers. And provide appropriate fair lending and UDAAP training at onboarding (a regulatory best practice) for all new hires and at least annually for all existing employees.

4. Assess Marketing Strategies: Heed this cautionary tale outlined in the CFPB’s Fair Lending Report: a financial institution whose marketing and advertising plan the CFPB alleges “illegally discouraged African American prospective applicants from applying for mortgage loans.” The institution is also accused of “illegal redlining by engaging in acts or practices that discouraged prospective applicants living or seeking credit in African American neighborhoods in the Chicago MSA from applying for mortgage loans.” Review your advertising and marketing strategies to make sure they don’t contribute to discriminatory activity or unfairly target or exclude specific demographics.

5. Appraise Your Complaint Management Program: Every institution should have an appropriate process for gathering, documenting, investigating and responding to consumer complaints. This should include your institution’s definition of a complaint, which can be as simple as “any verbal statement or written correspondence that conveys dissatisfaction with a product or service.” There should also be established channels through which customers can lodge complaints, a process for resolving them in a timely manner and reviewing them for any violation of federal consumer financial laws. In addition, it’s wise to monitor and analyze industry consumer complaint trends because the CFPB uses such patterns to prioritize examinations and enforcement activity.

Increased Scrutiny Equals Increased Enforcement

Examinations informed by this consumer-focused mindset are now underway. Just because there haven’t been press releases announcing significant enforcement actions and civil money penalties doesn’t mean this increased regulatory scrutiny of consumer protection is mere rumor or something to deal with in the future. The CFPB’s own words are evidence enough for financial institutions to take this trend seriously.

Now is the time to review your fair lending and UDAAP compliance and address any weaknesses before the CFPB or a prudential regulator points it out for you—a finding that will come at a definite cost.

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Keith Monson serves as CSI’s chief risk officer. In this role, Monson maintains an enterprise-wide compliance framework for risk assessment and reporting, as well as other key components of CSI’s corporate compliance program. With nearly 25 years of banking experience, he has a wide range of expertise in the compliance arena, having served as chief compliance officer for both large and small financial institutions.

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