WASHINGTON A Maryland community bank that was recently cited by regulators for lending policies that allegedly favored minorities and women has become proof for some of just how frustrating it is for institutions to comply with fair lending laws.
Pikesville-based Community First Bank, which has just $7 million of assets, was slapped in March with an enforcement action by the Office of the Comptroller of the Currency because its lending practices showed it had inadvertently charged higher loan rates for white men and married couples.
The disparity stemmed from a lending program created by the bank to specifically assist minorities, which capped the institution's compensation at 2.5% of the loan amount for minority and women borrowers. Such a cap was not in place for white borrowers, causing the bank to generally charge them more.
The OCC ordered the bank to refund 64 affected borrowers an average of $1,144 per person an amount far higher than the $300 that most struggling borrowers received through the recent independent foreclosure review settlement.
"In all my years of practice, I've never seen this before," said Frank Bonaventure, a partner at Ober, Kaler, Grimes & Shriver, who represented the bank. "There was no intention to discriminate based on the circumstances surrounding this case."
Though reverse discrimination allegations are rare, the case reinforces bankers' fears of navigating the tangled web of fair lending regulations that they face. New products, discount offers or even policies designed to be consumer-friendly can have a so-called "disparate impact" that disadvantages a legally protected class.
"There are institutions out there that could be engaging in lending practices with no worldly attempt to discriminate or to treat people unfairly," said Michael Mierzewski, a partner at Arnold and Porter LLP. "But unless they're monitoring to make sure their policies and procedures are not having disparate treatment or impact, they could be in for a rude awakening."
The legal theory behind disparate impact has been around for decades, but regulators have begun citing it more frequently in the aftermath of the financial crisis.
Tougher mortgage rules have also heightened bank fears that they could inadvertently commit fair lending violations. For example, the new rules effectively encourage banks to make so-called "qualified mortgages" to ultra-safe borrowers. Many banks have vowed only to make QM loans because they have a legal safe harbor, but worry that could result in denying loans to riskier borrowers that may include minorities or single women.
The broader issue was the centerpiece of an all-day conference last week hosted by law firms about the Consumer Financial Protection Bureau.
"Disparate impact and fair lending is just one piece of what I see as a tremendous legal minefield that's going to impact mortgage lending over the next 20 years," said Thomas Vartanian, a corporate counselor and regulatory advisor at Dechert, during the panel.
Some bankers argue it's safer not to offer any specialized products or discount rates to any consumer.
"You've got to look at the business justification because if you look hard enough, you're going to find some kind of disparity," said Thomas Eck, the associate general counsel specializing in fair lending at Capital One Financial, who also spoke at the panel.
Eck said the gap in disparity that regulators use to cite fair lending is shrinking, making it more difficult for banks to justify that their business in a certain product or region is necessary.
"Even the banks that have the resources and the will to comply with fair lending laws to the best of their ability still face pretty significant challenges," said Eck, a former attorney at the OCC and Bank of America. "And it really goes to ... a lack of clarity with respect to the fair lending rules and really, with respect to disparate impact" from regulators.
Bank regulators have argued that they take a consistent approach toward fair lending laws, which have existed for decades. But bankers and their lawyers adamantly disagree, saying the onslaught of new rules and multi-agency coordination on consumer protection will likely lead to more disparate impact accusations.
The regulators "have been enormously successful in expanding the reach of what constitutes discrimination, at least in terms of allegations and bringing cases with the use of " disparate impact, said Andrew Sandler, chief executive of Treliant Risk Advisors, during the panel. "Because, if you discriminate on the basis of risk and you offer less good pricing or deny credit-impaired borrowers, members of protected classes are disproportionately in that group."
The Justice Department has been one of the few agencies to publicly admit they have ramped up enforcement on disparate impact and other fair lending violations.
"It's been a very, very active time with the Department of Justice's fair lending and enforcement program," said Jon Seward, the agency's deputy of housing and civil enforcement.
Seward noted that in the last 18 months, Justice has settled 9 fair lending cases, significantly higher than the typical two or three cases settled per year.
"We really haven't seen the use of disparate impact in the way that we have seen it until Tom Perez became assistant attorney general of the [Civil Rights Division in the] Justice Department and determined that cases were going to be built around disparate impact," Sandler said. But "just because there are statistical disparities does not necessarily mean that there is discrimination. And the very difficult challenge that the Justice Department, the CFPB and the prudential regulators have ... is to be able to separate the wheat from the chaff."
Most of the Justice Department's recent settlements involved minorities who received higher priced mortgages when compared to white borrowers of similar credit background. But Seward says the cases now being referred to them have less to do with pricing and are instead focused on underwriting issues or potential discrimination with other credit products, including unsecured consumer lending and auto loans.
Seward indicated that though they are receiving fewer referrals from other agencies compared to three years ago, he expects more cases to arise as all of the regulators are working together more closely.
"One of the things that I found to be very significant that occurred over the last three years is there has been an unprecedented level of coordination among regulatory and enforcement agencies," Seward said. "I was looking at my calendar recently and counted about 40 meetings over the last year so we're in regular contact with one another which helps in talking about issues that might be coming down the pike."
In particular, Seward said their partnership with the CFPB would become "more and more significant" since they first struck an agreement to share information and investigations in December. The CFPB has already placed an emphasis on complying with fair lending laws since it began examining larger lenders and nonbanks. But as many companies have yet to hear results of their exams, concerns are surfacing that some banks may not be monitoring their mortgages to the degree of sophistication and holistic view that data-driven agencies like the CFPB have taken.
"The banking regulatory agencies and the Justice Department are also doing much more sophisticated regression modeling," Mierzewski said. "I'm not aware of any client who had a fair lending exam by the CFPB and received a final report back. And I think that's because the CFPB has taken a very conservative approach to fair lending aggression analysis to make sure they got it right."
Bankers frequently demand more clarity from regulators but advisors say in an enforcement heavy environment, the best option is for banks to heavily monitor, test and correct, when necessary, all of their credit products now.
"Bottom line is every institution needs to be sure it has the proper policies and procedures that are clearly defined," said Ed Kramer, the executive vice president of regulatory programs at Wolters Kluwer Financial Services. "Part of that may involve some type of testing and some type of self monitoring ... but you can no longer sit back and wait for the regulatory agencies to come in and do that for you."
As for Community First Bank, attorneys said it was unlikely that the Justice Department would seek any action against the Maryland lender. But that highlights how each agency interprets the fair lending laws differently.
There are some pending legal cases that could ultimately define the use of disparate impact but attorneys say regulators should not wait for the courts to decide.
"'That's what the courts are for' is not a great answer when you're trying to put together an underwriting program at a financial institution that you think will not be subject to all the legal challenges that are out there," Vartanian said. "There's no doubt in my mind that without greater certainty [from the regulators] we're going to have enormous credit problems in the country."
Sandler also cautioned regulators are taking too broad a view in using disparate impact as a basis for enforcement actions.
"When we get to the point and I fear to some degree, we are there now where anything becomes discrimination, then that credibly is undermined," Sandler said. "And it's much more difficult over time to get management at financial institutions, the public, commentators and others really focused on working with you to make sure that real discrimination is being addressed and rooted out."