Subscribe to our InfoBytes Blog weekly newsletter and other publications for news affecting the financial services industry.
In December, the Government Accountability Office (GAO) issued a report entitled “Financial Technology: Agencies Should Provide Clarification on Lenders’ Use of Alternative Data,” which addresses emerging issues in fintech lending due to rapid growth in loan volume and increasing partnerships between banks and fintech lenders. The report also addresses fintech lenders’ use of alternative data to supplement traditional data used in making credit decisions or to detect fraud. The report notes that many banks and fintech lenders welcome additional guidance to ease the regulatory uncertainty surrounding the use of alternative data, including compliance with fair lending and consumer protection laws. The report’s findings cover the following topics:
- Growth of fintech lending. GAO’s analysis discusses the growth of fintech lending and several possible driving factors, such as financial innovation; consumer and business demand; lower interest rates on outstanding debt; increased investor base; and competitive advantages resulting from differences in regulatory requirements when compared to traditional state- or federally chartered banks.
- Partnerships with federally regulated banks. The report addresses two broad categories of business models: bank partnership and direct lender. GAO reports that the most common structure is the bank partnership model, where fintech lenders evaluate loan applicants through technology-based credit models, which incorporate partner banks’ underwriting criteria and are originated using the bank’s charter as opposed to state lending licenses. The fintech lender may then purchase the loans from the banks and either hold the loan in portfolio, or sell in the secondary market.
- Regulatory concerns. GAO reports that the most significant regulatory challenges facing fintech lenders relate to (i) compliance with varying state regulations; (ii) litigation-related concerns including the “valid when made” doctrine and “true lender” issues; (iii) ability to obtain industrial loan company charters; and (iv) emerging federal initiatives such as the OCC’s special-purpose national bank charter, fragmented coordination among federal regulators, and the CFPB’s “no-action letter” policy.
- Consumer protection issues. The report identifies several consumer protection concerns related to fintech lending, including issues related to transparency in small business lending; data accuracy and privacy, particularly with respect to the use of alternative data in underwriting; and the potential for high-cost loans due to lack of competitive pressure.
- Use of alternative data. The report discusses fintech lenders’ practice of using alternative data, such as on-time rent payments or a borrower’s alma mater and degree, to supplement traditional data when making credit decisions. GAO notes that while there are potential benefits to using alternative data—including expansion of credit access, improved pricing of products, faster credit decisions, and fraud prevention—there are also a number of identified risks, such as fair lending issues, transparency, data reliability, performance during economic downturns, and cybersecurity concerns.
The GAO concludes by recommending the CFPB, Federal Reserve Board, FDIC, and the OCC communicate in writing with fintech lenders and their bank partners about the appropriate use of alternative data in the underwriting process. According to the report, all four agencies indicated their intent to take action to address the recommendations and outlined efforts to monitor the use of alternative data.
On September 14, the CFPB’s Project Catalyst initiative issued its first “no-action” letter to a consumer lending firm that provides an online lending platform that uses alternative data when making lending decisions. As previously discussed in InfoBytes, Project Catalyst explores innovation in the consumer financial services sector and examines the potential challenges facing consumers, entrepreneurs, and investors. With the issuance of the no-action letter—at the lender’s request—the CFPB indicated that it does not, at the present, intend to take enforcement action against the lender under the Equal Credit Opportunity Act. However, the letter does not waive the Bureau’s right to choose to “conduct supervisory activities or engage in an enforcement investigation” should the lender fail to comply with the outlined terms. Further, the letter stipulates that the Bureau has the right to evaluate other matters concerning the lender. According to a press release issued by the Bureau, the lender has agreed to “share certain information with the CFPB regarding the loan applications it receives, how it decides which loans to approve, and how it will mitigate risk to consumers, as well as information on how its model expands access to credit for traditionally underserved populations.”
Earlier this year the CFPB issued a request for information seeking input about the use of alternative data, and it believes the information it will receive under the terms of the no-action letter will help to “further its understanding of how these types of practices impact access to credit generally and for traditionally underserved populations, as well as the application of compliance management systems for these emerging practices.” (See previous InfoBytes summary here.)
- Buckley Webcast: Maintaining privilege in cross-border internal investigations
- Moorari K. Shah to discuss "State regulatory and disclosures" at the Equipment Leasing and Finance Association Legal Forum
- Daniel P. Stipano to discuss "The state of the BSA 2019: What’s working, what’s not, and how to improve it" at the West Coast Anti Money-Laundering Forum
- Buckley Webcast: The future of the Community Reinvestment Act
- Hank Asbill to discuss "Creative character evidence in criminal and civil trials" at the Litigation Counsel of America Spring Conference & Celebration of Fellows
- Buckley Webcast: Amendments to the CFPB's proposed debt collection
- Brandy A. Hood to discuss "Flood NFIP in the age of extreme weather events" at the Mortgage Bankers Association Legal Issues and Regulatory Compliance Conference
- Michelle L. Rogers to discuss "UDAAP compliance" at the Mortgage Bankers Association Legal Issues and Regulatory Compliance Conference
- Kathryn L. Ryan to discuss "Major state law developments" at the Mortgage Bankers Association Legal Issues and Regulatory Compliance Conference
- Jonice Gray Tucker to discuss "Leveraging big data responsibly" at the Mortgage Bankers Association Legal Issues and Regulatory Compliance Conference
- Kathryn L. Ryan to discuss "State examination/enforcement trends" at the Mortgage Bankers Association Legal Issues and Regulatory Compliance Conference
- Benjamin K. Olson to discuss "LO compensation" at the Mortgage Bankers Association Legal Issues and Regulatory Compliance Conference
- APPROVED Webcast: State and SAFE Act licensing requirements for banks
- John C. Redding to discuss "TCPA compliance in the era of mobile" at the Auto Finance Risk Summit
- Buckley Webcast: The next consumer litigation frontier? Assessing the consumer privacy litigation and enforcement landscape in 2019 and beyond
- Buckley Webcast: Data breach litigation and biometric legislation
- Buckley Webcast: Trends in e-discovery technology and case law
- Hank Asbill to discuss "Pay no attention to the man behind the curtain: Addressing prosecutions driven by hidden actors" at the National Association of Criminal Defense Lawyers West Coast White Collar Conference
- Daniel P. Stipano to discuss "Keep off the grass: Mitigating the risks of banking marijuana-related businesses" at the ACAMS AML Risk Management Conference
- Daniel P. Stipano to discuss "Mid-year policy update" at the ACAMS AML Risk Management Conference
- Benjamin W. Hutten to discuss "Requirements for banking inherently high-risk relationships" at the Georgia Bankers Association BSA Experience Program