We are pleased to post a blog written by a guest author. As a former examiner with the FDIC, Tory Haggerty has a lot to share and offers some practical advice on his view of fair lending monitoring and identifying hidden risks. He poses critical questions that every compliance officer should be able to answer. His new company, Tuscan Club University, offers one-of-a-kind comprehensive fair lending training. Furthermore, he recommends that automated tools be used to perform some of the analysis: comparative file review. ComplianceTech offers web-based solutions that automate compliance and fair lending risk analysis for all types of loans.
Of the countless fair lending reviews I’ve conducted as an examiner and consultant over the past dozen years, I’ve noticed that some compliance professionals know a few things about fair lending. They understand why following a rate sheet is important, they may complete secondary reviews of adverse action notices, and they may be involved with reviewing and approving marketing materials.
But many professionals are too narrowly focused, in my view. To truly manage fair lending performance, you must look at it from a holistic view. I call this the “loan lifecycle approach”. This method starts from the first piece of marketing you create and goes all the way through the loan decision, stopping along the way for each risk. Educating compliance and audit professionals on all aspects of the loan lifecycle is key to managing all of your fair lending risk.
Marketing – this is where fair lending starts. What is included in your messaging? Where are you marketing? Do you know what neighborhoods your billboards are located in, or what your marketing department is using for demographics for online targeted marketing? There is so much more to marketing than making sure the “Member FDIC” and “Equal Housing Lender” logos are included.
Applications – the interactions that you decide to include in or exclude from your applicant pool can increase or decrease risk. Do you buy applications or create your own? Any customer-facing employee can potentially discriminate against an applicant, and you should train your people on the right way to handle applications.
Redlining – where are you receiving applications and from whom? Are you penetrating all areas of your market including low- and moderate-income and higher minority areas? Have you ever plotted loans on a map? Redlining cases are the kinds that make the newspapers, and they are never for the right reasons. The larger your institution and the more metro areas you operate in, the higher your redlining risk.
Steering – once you receive an application, your loan officers need to determine what product the applicant will apply for. What options are available? How do they differ? Do you have referral channels? There are lots of things to consider. Are you incentivizing loan officers the right way? How do you even know if you are fair in your process? All of these questions need to be answered for you to really understand your steering risk.
Underwriting – now that you know the product, someone has to underwrite the loan. What criteria are you using? Is it consistent among all applicants? What type of underwriting setup do you have? There are 5 different underwriting models we have discovered, and you could have a combination of more than one. Are underwriters allowed to make exceptions? This is a key step in the process, and it can lead to much less (or more) risk further down the lifecycle.
Pricing – what rate do you quote? Pricing is more than just interest. What about fees, loan terms, or add-on products (also a potential steering risk)? Do you have a rate sheet, and are loan officers actually following it? Many bank executives have looked me in the eye with all of the confidence in the world and told me that loan officers always follow the rate sheet, only to do a pricing review and find disparities all over the place. This is one of the greatest risks, but also one of the easiest to test if you know how to do it.
Policy Exceptions – a loan officer’s best friend, and a compliance officer’s worst nightmare. One loan officer told me they deviate 85% of the time. When you deviate from loan policy (pricing or underwriting) a majority of the time, it’s no longer exceptions. That is your norm. Either you are deviating too much, or you need to rewrite your policy. Pricing concessions should be distinguished from LLPAs and standard adjustments. Every time an underwriter or loan officer makes an exception to policy, you open yourself up to a bit more fair lending risk. When you do it all of the time, the risk can become uncontrollable. You should be limiting deviations, requiring secondary approval, tracking all deviations, and doing periodic monitoring for differences in exception rates by prohibited bases.
Denials – strong underwriting policies and procedures greatly reduce denial risk. How about denial notices? Does someone review them before they go out the door? If so, what are they looking for? Sometimes I’ve been told that “another loan officer reviews the notices before they go to the loan applicant.” Then I find out they are reviewing the loan decision, but there are many other compliance requirements on a denial notice. That is something you can easily build into your program.
Fair Lending Interviews – have you ever sat down with a loan officer and asked how they do their job? This is a super simple and easy tool that examiners use all of the time. They call them fair lending interviews. I’ve done many myself as an examiner. This is a way to see if loan officers are following bank policies and procedures. In a simple 30-minute conversation, you can find more out about how loan officers actually do their jobs and the fair lending risk they pose to your institution that you would ever find opening random loan files.
Comparative File Analysis – have you or a loved one ever tried to perform a comparative file analysis (just imagine the law commercials on TV)? They are not fun. If you do it manually, it’s a ton of work, you will likely uncover other anomalies along the way you now have to track down and explain, and in the end, you may not be able to prove anything. I’ve seen way too many times when compliance professionals start with this review. This should come at the end of the process! Once you have gone through all other options available, and you still cannot explain the data, only then should you perform this analysis. And it becomes much easier if you have automated software. It takes an insurmountable task and makes it much quicker and easier. Ensure you know what you’re doing and have a good game plan before taking on this task.
Training Program – a comprehensive training program for your compliance and audit staff can do wonders to help build a strong overall fair lending program. Pair a strong training program with quality fair lending software and you will be in the best overall position to manage your program, no matter what loan officers throw at you.