Lenders have had a year to prepare for a complex, 62-page federal rule requiring them to inform high-risk borrowers when they would be paying higher rates and fees on loans than other customers.
So what have they learned in that time? That they don't have to send out such notices at all.
According to industry analysts and sources, most creditors are bypassing the new risk-based pricing disclosure requirements that go into effect this month and instead will take advantage of an exception that permits them to offer blanket credit-score disclosures to all borrowers.
By providing the credit-score notices en masse, lenders are exempt from issuing the special risk-based pricing notices to select customers. That might involve more expense, but industry officials say lenders seem to consider them preferable to the headache of identifying which customers must receive the adverse rate notice-or taking the risk of alienating consumers through letters telling them they didn't get the lender's best deal.
"I can tell you there's an overwhelming group of institutions who are preferring to comply with the credit-score disclosure notice," rather than the risk-based notices explaining punitive terms, says Felicia Peng, an official with the credit reporting bureau Experian.
"Most [lenders] tell me they will be providing the credit score," adds Nessa Feddis, vice president and senior counsel with the American Bankers Association's government relations division.
Banks, mortgage lenders, credit-card issuers, automobile dealers, utility companies and telecommunications firms are among creditors all subject to the risk-based pricing disclosure rule, which was published in January 2010 to enforce a section of the Fair and Accurate Transactions Act. The rule applies both to new credit offers and when lenders change terms on existing lines.
Guidelines from the Federal Reserve and Federal Trade Commission call for creditors to identify a subset of consumer borrowers whose material rates and terms are less favorable than those in the upper tier. Creditors can choose from a few different methods and proxies to determine who those customers are, but generally it's the bottom 60 percent of borrowers who get higher rates, say experts. The notices themselves will inform the borrower that a credit score or credit report affected their rates, and give consumers the impetus to check for possible credit file errors.
But the two federal agencies also spelled out conditions under which creditors could opt out of risk-based notices, such as when the consumers respond to firm prescreened credit offers.
It's the credit-score disclosure exception, and its relative simplicity, that has captured most lenders' attention. "One of the key challenges is having to do the math and calculations under the risk-based pricing notice," says Craig Focardi, a senior research analyst at TowerGroup. "Some lenders are very attracted to the alternative."
Lenders already have credit scores in hand from underwriting loan applications, and in certain cases are already sending credit-score notices out to consumers under other federal regulations. Mortgage lenders have to share scores with applicants under the FACT Act, and recently enacted Dodd-Frank legislation requires lenders to provide free credit-score disclosures to applicants denied credit.
Besides the credit score that was used, the exception disclosure notice would also have to include a national score distribution chart showing consumers where their number falls in comparison.
Incorporating credit-score disclosures would be a walk in the park for most lenders' back offices, says Peng, since the notices could be handled in the same fashion that creditors currently use to send out adverse-action letters that inform customers when they are denied credit. The mass issuance of credit-score disclosures may raise costs for lenders, especially national credit-card issuers needing to distribute letters to millions of borrowers.
But even that may be preferable to a risk-based pricing disclosure that some consumers may take as a rebuke. "They would be telling the consumer 'you didn't qualify for our best'," says Ed Rice, general counsel for Zoot Enterprises, a provider of decisioning technology to financial services firms. "That's a negative marketing response, and I can't imagine the banks want to be saying that."
The ABA's Feddis says the credit-report disclosure "is more consumer friendly. It's easier and something they're familiar with because of the mortgage [disclosure] requirement."
The credit-score notice clause is raising few complaints from consumer groups, since even the exception provides consumers more decisioning insight. "The rule is driven by two purposes," says Nick Bourke, a director with the PEW Charitable Trusts. "It's to make sure people's credit reports are accurate, and help protect against misleading advertising [of rates]. And the rule as constructed does that pretty well."
As of mid-December, the Federal Reserve had yet to publish the form specifications for risk-based pricing notices, which will also include the newer Dodd-Frank requirements. But little matter. "The banks are going to have to tell the consumer what the credit score is anyway," says Zoot's Rice. "The population of consumer applicants who the bank wouldn't have to mail something to is going to be very small. So if I'm the bank, even a number cruncher, I'd say let's just use the...exception, and be done with it."
