Commercial banks are required under the Community Reinvestment Act (CRA) to serve all segments of the communities in which they operate. This includes making loans to areas and individuals of all income levels, and particularly low and moderate income communities and persons.
Even though there are no firm thresholds in terms of volume, a bank’s activity must be adequate to pass its periodic CRA examinations.
Unlike other fair lending regulations, the CRA focuses on income levels of areas and persons rather than protected class status. Performance with regard to CRA and activities in which an institution engages (or does not engage) does, however, intersect with other fair lending laws and regulations.
With respect to fair lending, the regulatory and enforcement agencies generally recognize (3) forms of discrimination:
- Overt discrimination
- Disparate treatment
- Disparate impact
We have explained all three of these forms of fair lending discrimination in previous posts; and for this discussion, we want to focus only on disparate impact.
Disparate Impact Defined
Disparate impact refers to an otherwise neutral and consistently applied policy that results in an adverse effect on a protected class.
A simple example would be having a minimum loan amount. Assume a bank does not accept home improvement applications unless the loan amount requested is over $50,000. Even if this policy was correctly applied, if more protected class applicants were denied simply for this reason alone than non-protected class applicants, this could be deemed to have a disparate impact.
Managing Risk When Targeting the Affluent Banking Market
Many institutions today find themselves in competition for high income and net worth customers who may be deemed as highly profitable to the institution. Since the number of people fitting this category is somewhat limited, many banks have instituted or are attempting to institute efforts to gain market share among this segment of borrowers. Strategies range from special products and loan pricing to an enhanced blend of services to cater to these customers. Such strategies and policies raise the prospect of fair lending risk with regard to disparate impact.
There are many different approaches that can be taken in order to manage this, with varying degrees of risk. It should be noted, as well, there are other concerns in addition to the disparate impact risks that accompanies embarking on an aggressive strategy.
At the risk of oversimplifying, there are (4) basic conditions or questions that should be asked when assessing alternatives:
1) Stratification
How will these customer be designated as being in the target category and on what is the criteria based?
2) Identification
How will these customer be identified, and what safeguards will protect qualified persons from being overlooked?
3) Justification
Can and how will “business necessity” be determined, and can it be proven if the institution were challenged?
4) Management
How will these programs be managed, and does the institution have a track record of enforcing policy discipline?
These are the basics of what are known. There are still lots of unknowns. All institutions should be able to produce honest and satisfactory answers to these questions before moving forward with these types of programs.
This is a complex issue, and one we will expand on further in future posts.
