By Timothy R. Burniston and Barbara BocciaFair lending enforcement activity never seems to fade away. A couple of years ago, the disparate impact method of proving lending discrimination was on everyone’s radar, with appearances on the Supreme Court docket by the Township of Mount Holly and Texas Department of Housing and Community Affairs. However, the hottest trending topic in fair lending risk right now surrounds the old-fashioned practice of redlining.
Traditionally applied to the practice of avoiding or denying residential mortgage loans to residents of certain geographic areas based on racial or ethnic characteristics of the neighborhood by drawing actual or figurative “red lines” around excluded neighborhoods, the term is now applied to a broader concept—generally to whether lenders are making credit available to consumers in largely minority neighborhoods. Specifically, regulators are investigating whether there is unequal access to credit, or unequal credit terms offered, within a lender’s assessment area, that are adversely influenced by a prohibited basis.
Remember, factors defined as “prohibited basis” under the Equal Credit Opportunity Act include race, color, religion, national origin, gender, marital status, age, source of income or whether a person exercises rights granted under the Consumer Credit Protection Act. There are additional prohibited basis factors under the Fair Housing Act.
Additionally, redlining can also be identified when a bank’s lending level in minority areas is not comparable with lending levels in non-minority areas, especially when factors such as competition, demographics, and economic conditions are considered. Regulators are also concerned with “reverse redlining,” which is the practice of targeting racial and ethnic minority communities with loan products that have disadvantageous or predatory features.
As a practical matter, the prohibition of discrimination on a prohibited basis relates to any aspect of a credit transaction, and can include marketing, pricing, underwriting, servicing, modifications and collections. Relevant geographies considered in redlining might relate to where a credit applicant currently resides, or will reside, or where the residential property to be mortgaged is located.
Consideration of the location of branches, loan officers and mortgage brokers also play into redlining analysis. As discussed below, the reasonably expected market area (REMA) is an additional consideration.
Recent announcements of very costly settlements to resolve redlining allegations support growing attentiveness—and aggressiveness—by regulators and law enforcement in prosecuting redlining cases. In November 2016, Hudson City Savings Bank (en route to merging with M&T Bank) was subject to a record redlining settlement based on a largely statistical investigative approach.
Investigators in the Hudson City case focused on applications as opposed to originations, with particular attention paid to application disparities that had statistical significance based on the predominant race or ethnicity of the area’s residents. Meanwhile, they excluded the inventory of purchased loans from the fair lending analysis. Investigators looked only at data relating to blacks and Hispanics while excluding data relating to the Asian American minorities. And the “peer group” definition used for market participants was more expansive than it usually would have been.
In June 2016, the Consumer Financial Protection Bureau publicly disclosed for the first time that it had used “mystery shoppers” in an investigation when it and the Department of Justice settled a redlining case with BancorpSouth. As part of its investigation, the CFPB sent black and white mystery shoppers to different BancorpSouth branches in the Memphis, Tenn., area to inquire about mortgages, then conducted matched-pair testing to determine whether the bank treated black loan applicants differently from white applicants.
Evolution of REMA
In these and other cases, the DOJ and regulatory agencies have confirmed their reliance on the interagency fair lending examination procedures in describing the regulatory approach in analyzing potential discriminatory redlining. Examiners are guided to identify and delineate the institution’s Community Reinvestment Act assessment area, as well as the “reasonably expected market area” for residential products that may have a racial or minority character that is treated less favorably, or a non-minority character that is treated more favorably.
While the concept of REMA is not new, the focus on REMA as an additional component of a fair lending redlining risk assessment and analysis may be new for some institutions. As noted in the exam procedures, a REMA is the area within which the institution actually marketed and provided credit, and where it could reasonably be expected to have marketed and provided credit. Therefore, a REMA might extend beyond or be otherwise different from a bank’s CRA assessment area.
The REMA determination made by the examiner will likely include an evaluation of the location and services provided at branches, marketing efforts, locations served by brokers or realtors, and the location of the institution’s loan applications, loan originations, as well as deposit customers. It may also include an evaluation of any significant barriers to lending, such as geographic barriers, limited housing stock and low population levels. The bottom line: it’s important to know where you are marketing and lending, and where you are not.
With these aggressive actions and novel approaches, it is more important than ever for lenders to evaluate their branching patterns and services, marketing choices, CRA assessment area delineations, REMA, complaints, application volume, underwriting, pricing and related discretionary practices to make sure they are not susceptible to credible allegations of redlining.
Most importantly, institutions should carefully evaluate, and periodically re-evaluate, their competition to determine exactly which institutions should be included in their peer group. Evaluation of peers should include consideration of common group attributes, as well as all market share participants. Lenders must also implement a robust fair lending compliance management system that includes policies and procedures, as well as internal redlining analyses, to determine if any disparities exist and to mitigate any fair lending risk.
Additionally, special attention should be focused on marketing programs. Any variations in marketing based on geography that could leave the impression that the institution favors some areas over others should be evaluated. Marketing programs for residential loan products need to be evaluated to ensure that any regions or geographies with a higher percentage of minorities have not been excluded, whether from the CRA assessment area or REMA.
One additional item that requires careful review is what may be inherited as part of a merger or acquisition. In one fairly recent settlement, a bank was held responsible for a pattern or practice of redlining in connection with its acquisition of another bank. A due diligence review of regulatory, compliance-related issues should be considered as part of any merger or acquisition decision.
The resurgence in redlining enforcement reinforces the message from the federal bank regulators, CFPB, HUD and DOJ. Lenders should be proactive in identifying responsible lending opportunities that exist in predominantly minority neighborhoods within their lending areas, as redlining has now emerged as the top fair lending risk.
Timothy R. Burniston is an executive vice president and Barbara Boccia, CRCM, is a senior director at Wolters Kluwer.