Fair lending laws and regulations were designed to ensure that all consumers have an equal opportunity to access credit. An FDIC fair lending examination is conducted to evaluate an institution’s compliance with these laws and regulations.
This blog post will provide an overview of some of what to expect during an FDIC fair lending examination, the relevant fair lending laws, how examiners determine the scope and intensity of the examination and the types of discrimination recognized by the agencies.
Overview of Fair Lending Laws
The Equal Credit Opportunity Act (ECOA) and the Fair Housing Act (FHAct) are the two primary federal laws prohibiting discrimination in lending.
- The ECOA prohibits discrimination in any aspect of a credit transaction. It applies to any extension of credit, including to small businesses, corporations, partnerships, and trusts. The ECOA prohibits discrimination based on race, color, religion, national origin, sex, marital status, age (provided the applicant has the capacity to contract), the applicant’s receipt of income derived from any public assistance program, or the applicant’s exercise, in good faith, of any right under the Consumer Credit Protection Act. Regulation B implements the ECOA. The Dodd–Frank Wall Street Reform and Consumer Protection Act of 2010 further amended the ECOA.
- The FHAct prohibits discrimination in all aspects of “residential real-estate related transactions“. This includes making loans to buy, build, repair, or improve a dwelling; purchasing real estate loans; selling, brokering, or appraising residential real estate; or selling or renting a dwelling. The FHAct prohibits discrimination based on race, color, national origin, religion, sex, familial status (defined as children under the age of 18 living with a parent or legal custodian, pregnant women, and people securing custody of children under 18), or handicap. The Department of Housing and Urban Development’s (HUD) regulations implementing the FHAct are found at 24 CFR Part 100.
Because both the FHAct and the ECOA apply to mortgage lending, lenders may not discriminate in mortgage lending based on any of the prohibited factors in either list. Both laws make it unlawful for a lender to discriminate on a prohibited basis in a residential real-estate-related transaction.
Under one or both of these laws, a lender may not, because of a prohibited factor:
- Fail to provide information or services or provide different information or services regarding any aspect of the lending process, including credit availability, application procedures, or lending standards.
- Discourage or selectively encourage applicants with respect to inquiries about or applications for credit.
- Refuse to extend credit or use different standards in determining whether to extend credit.
- Vary the terms of credit offered, including the amount, interest rate, duration, or type of loan.
- Use different standards to evaluate collateral.
- Treat a borrower differently in servicing a loan or invoking default remedies.
- Use different standards for pooling or packaging a loan in the secondary market.
Types of Lending Discrimination
The courts have recognized three methods of proof of lending discrimination under the ECOA and the FHAct:
- Overt evidence of disparate treatment
- Comparative evidence of disparate treatment
- Evidence of disparate impact
Disparate Treatment exists when a lender treats a credit applicant differently based on one of the prohibited bases. The existence of illegal disparate treatment may be established either by statements revealing that a lender explicitly considered prohibited factors (overt evidence) or by differences in treatment that are not fully explained by legitimate nondiscriminatory factors (comparative evidence). There is overt evidence of discrimination when a lender openly discriminates on a prohibited basis.
Disparate Impact exists when a lender applies a racially or otherwise neutral policy or practice equally to all credit applicants, but the policy or practice disproportionately excludes or burdens certain persons on a prohibited basis. The fact that a policy or practice creates a disparity on a prohibited basis is not alone proof of a violation. When an Agency finds that a lender’s policy or practice has a disparate impact, the next step is to seek to determine whether the policy or practice is justified by “business necessity”.
Attributes Examiners Look for in Assessing Fair Lending Risk
During a fair lending examination, FDIC examiners evaluate fair lending risk. This involves developing an institutional overview to assess an institution’s inherent fair lending risk, which is broad-based and could impact a range of products if controls are not in place. Inherent risk arises from the general conditions or the environment in which the institution operates and could be present based on an institution’s structure, supervisory history, the composition of the loan portfolio, and the credit and market operations. Examiners become familiar with an institution’s:
- Structure and management
- Supervisory history
- Loan portfolio
- Credit and market operations
If an examiner believes that an institution has more than minimal inherent fair lending risk, they will identify the products or product groups to review. They will then identify any discrimination risk factors and assess an institution’s compliance management system (CMS) for fair lending. Understanding the strength of an institution’s CMS is necessary to properly assess whether an institution has sufficiently mitigated applicable discrimination risk factors.
Steps in the Scoping Process and File Selection
The scoping process involves identifying potential focal points for examination. Examiners then select the focal point(s) that will form the scope of the examination, based on:
- Risk factors
- Priorities established in procedures or by their respective agencies
- The record from past examinations
- Other relevant guidance
This phase includes obtaining an overview of an institution’s compliance management system as it relates to fair lending. Examiners may determine that the institution has performed “self-tests” or “self-evaluations” related to specific lending products, which may allow the scoping to be streamlined.
When selecting a sample of files for review, examiners may review data in its entirety or restrict their analysis to a sample, depending on the examination approach used and the quality of the institution’s compliance management system. The Fair Lending Sample Size Tables in the Appendix provide general guidance about appropriate sample sizes.
Generally, the sample size should be based on the number of prohibited basis group and control group originations for each focal point selected during the 12 months preceding the examination and the outcome of the compliance management system analysis. When possible, examiners may request specific loan files in advance and request that the institution have them available for review at the start of the examination. Examiners will tailor their sample and subsequent analysis to the specific factors that the institution considers when determining its pricing, terms, and conditions.
Conclusion
In summary, fair lending laws, including the ECOA and FHAct, ensure equal credit access without discrimination. FDIC examiners assess an institution’s fair lending risk by reviewing its structure, management, loan portfolio, and credit operations. The examination scope is determined by risk factors, priorities, past examination records, and the institution’s compliance management system. Lending discrimination can manifest as overt evidence of disparate treatment, comparative evidence of disparate treatment, and evidence of disparate impact.
