Streamline Your Fair Lending Examination with Self-Assessments
The fair lending requirements of the Equal Credit Opportunity Act (ECOA) and the Fair Housing Act covered under the Interagency Fair Lending Examination Procedures (Interagency Procedures) touch nearly all aspects of the mortgage lending process. As a result, an understanding of the examination procedures is vital in establishing a valuable fair lending compliance program.
While making sure you have the right documentation on hand for your examiner is essential, engaging in self-evaluation prior to your exam may streamline, and sometimes even eliminate, portions of it. When you understand what is involved in the full review and the spirit behind the requirements, regular self-assessments can become a valuable part of your internal preparation and compliance processes and help ease the burden of your exam.
Uncovering fair lending discrimination
The Interagency Procedures were originally published in August 2009, as adapted from the Interagency Policy Statement on Fair Lending issued in March 1994. The Consumer Financial Protection Bureau (CFPB) has more recently adopted the Interagency Procedures into its Examination Procedures ECOA Baseline Review Module.
Regulators use these guidelines to help identify evidence of fair lending discrimination, which may fall into the following categories:
- Overt disparate treatment — For example, a lending policy that explicitly uses prohibited basis identifiers to determine borrower creditworthiness or eligibility.
- Comparative disparate treatment — This is often evidenced in disproportionate underwriting denials on a prohibited basis, in pricing inconsistency, or in marketing bias or redlining.
- Disparate impact — This may result from a facially neutral policy such as a minimum loan amount requirement that disproportionally excludes protected groups.
Determining the scope of your exam
The scope and focal points of your exam are generally determined based on an examiner’s review of your institution’s compliance management system, loan products, markets, demographics, and volume of lending for each loan product offered. An examiner may also take into consideration broker activity, loan purchases, and the size and amount of lending centers within an institution. If you have many branches or a large lending center, the examiner may narrow the scope by determining which locations or lending center areas present the highest risk of discrimination.
The Interagency Procedures include the following compliance management system risk factors:
- The strength of the lender’s overall compliance record
- The completeness of ECOA and the Home Mortgage Disclosure Act (HMDA) monitoring information records
- Data and recordkeeping issues that result in unreliable information
- Fair lending supervisory history
- The overall compliance program compared to other similar institutions
- The regularity of updates to the compliance program to incorporate regulation changes
- Strength of fair lending training available and required for employees
According to the procedures, the review of the compliance management system is designed to determine the lender’s “reliability of practices and procedures for continuing fair lending compliance.” Information gathered under the requirements of additional regulations, such as the HMDA Loan Application Register (LAR) or Community Reinvestment Act (CRA) program information, may also be used to determine the scope of the examination and may also be used to identify possible instances of discrimination.
Prepare for information requests
In determining the scope of the examination and evaluating your institution’s fair lending program, the following information may be requested by your examiner.
- Organization charts identifying compliance and HMDA or CRA responsibilities, including job descriptions
- Lists of pending fair lending litigation or administrative proceedings
- Results of self-evaluations or self-tests
- Any written or printed statements describing fair lending policies and/or procedures
- Training materials related to fair lending issues, including records of attendance
- Records detailing policy exceptions or overrides, exception reporting, and monitoring processes
- Demographic information prepared or used by the institution
- Any fair lending complaints received and related responses
- Internal underwriting guidelines
- Description of any credit scoring system in current use or in use during the exam period
- Pricing policies for each loan product
- A description of each form of compensation plan for all lending personnel and managers
- Advertising copies for all loan products and internet website addresses
- The most recent HMDA/LAR, including unreported data, if available, and any existing registers for each non-HMDA loan product
- A description of any application or loan level databases maintained, including a description of all data fields within the database or that can be linked at loan level
- Forms used in the application and credit evaluation process
- Lists of service providers
Prepare loan files for review
In addition to reviewing your institution's compliance management system and lending policies, a fair lending examination may include a number of loan file analyses, including:
- An underwriting comparison of denied and approved loan files
- A comparative file review, statistical analysis, or combination of both for pricing or terms and conditions disparities between groups
- A review of whether applicants were steered toward certain products based on a prohibited basis rather than the applicant’s needs, even if no actual financial harm resulted
- Comparative redlining file analysis to determine whether the lender is excluding certain geographic areas based on racial or demographic characteristics
Performing a self-test or self-evaluation
Portions of the fair lending examination may be streamlined or eliminated if your self-test or evaluation meets certain requirements.
Fair lending examination resources
According to the procedures, a self-test is “a program, practice, or study that is designed and specifically used to assess the institution’s compliance with fair lending laws that creates data not available or derived from loan, application, or other records related to credit transactions.” Use of a tester, or “mystery shopper,” to review instances of disparate treatment during the loan origination process would be considered a self-test.
A self-evaluation differs from a self-test, as it uses existing data readily available in loan or application files and other records used in credit transactions. For example, a comparative loan file review or redlining analysis.
These self-assessments may be performed internally or completed by a third-party vendor. To be considered to streamline your exam, your self-exam or self-evaluation must not have occurred longer than two years prior to the exam, and it must have covered the same “product, prohibited basis, decision center, and stage of the lending process” as the regulator’s fair lending examination. Your sampling sizes must also cover the same amount as the fair lending examiner would request to review.
Explaining and rebutting exam findings
At the conclusion of the examiner’s review, you will receive your initial results, including any instances of overt discrimination uncovered through comparative file review and the scope determination process. Your institution will be given the opportunity to rebut or explain all adverse findings, and any explanations you provide will be made part of the final examination report.
If your lending policies give rise to a disparate impact in treatment of a prohibited group, the examiner will determine whether the policy has a legally sufficient justification, such as:
- The institution’s personnel were unaware of the prohibited basis identity of the applicant
- The difference in treatment was justified by differences in the applicants (applicants not similarly situated)
- The different results stemmed from an inadvertent error
- The apparent disparate treatment on a prohibited basis is a misleading portion of a larger pattern of random inconsistencies (where similarly situated)
- Loan terms and conditions where risks and costs are legitimate considerations in setting prices and other terms and conditions of loan products
Regular self-reviews can help you uncover and remedy lending discrimination — and avoid examination findings. The information uncovered in a self-review can also help inform any examination explanations and rebuttals, should they be necessary.
How we can help
There’s no doubt that having a solid plan in place for self-testing and monitoring can help you get one step ahead for your exam. CliftonLarsonAllen (CLA) helps institutions like yours build and maintain strong and compliant fair lending programs through periodical comparative loan file reviews, data analysis and HMDA integrity checks, as well as conducting lending procedure reviews and internal audits.