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FDIC updates Consumer Compliance Examination Manual’s UDAAP provisions
On June 17, the FDIC announced updates to its Consumer Compliance Examination Manual (CEM). The CEM includes supervisory policies and examination procedures for FDIC examination staff when evaluating financial institutions’ compliance with federal consumer protection laws and regulations. The June update modifies Section VII Unfair, Deceptive, or Abusive Acts or Practices to reflect the FDIC’s existing supervisory authority regarding UDAP and UDAAP under Section 5 of the FTC Act, and Sections 1031 and 1036 of the Dodd-Frank Act, respectively. Among other updates, the new Section VII changes language related to the Equal Credit Opportunity Act and Fair Housing Act to add a reference to Dodd-Frank UDAAP provisions. The updated section provides the following:
ECOA prohibits discrimination in any aspect of a credit transaction against persons on the basis of race, color, religion, national origin, sex, marital status, age (provided the applicant has the capacity to contract), the fact that an applicant’s income derives from any public assistance program, and the fact that the applicant has in good faith exercised any right under the Consumer Credit Protection Act. The FHA prohibits creditors involved in residential real estate transactions from discriminating against any person on the basis of race, color, religion, sex, handicap, familial status, or national origin. FTC UDAPs and Dodd-Frank UDAAPs that target or have a disparate impact on consumers in one of these prohibited basis groups may violate the ECOA or the FHA, as well as the FTC Act or the Dodd-Frank Act. Moreover, some state and local laws address discrimination against additional protected classes, e.g., handicap in non-housing transactions, or sexual orientation. Such conduct may also violate the FTC Act or the Dodd-Frank Act.
With respect to the legal standards for “unfair” and “deceptive” under the FTC Act and Dodd-Frank, Section VII notes that these standards are “substantially similar.”
CFPB grants financial services company’s request to end no action letter
On June 8, the CFPB announced an order to end a “no-action letter” (NAL) issued to a consumer lending platform in 2020 in response to the NAL recipient’s request to shorten the term of the letter, which the company noted was necessary in order to be able to keep its underwriting models accurate and up-to-date during a period of significant economic change. As previously covered by InfoBytes, the Bureau first issued a NAL to the company in 2017, as part of the CFPB’s Project Catalyst initiative, relating to the Equal Credit Opportunity Act and the company’s loan underwriting and pricing model. Under the NAL, the company was immunized “from being charged with fair lending law violations with respect to its underwriting algorithm, while the ‘no-action letter’ remained in force.” In November 2020, the Bureau issued a second NAL after the first one expired (covered by InfoBytes here).
CFPB reminds creditors of ECOA adverse action notice requirements
On May 26, the CFPB released Circular 2022-03 to reiterate creditors’ adverse action notice requirements under ECOA. The Circular, among other things, explains that ECOA and Regulation B require companies to explain the specific reasons for denying an application for credit or taking other adverse actions, even if the creditor is relying on credit models using complex algorithms. Specifically, the Circular stated that “[l]aw-abiding financial companies have long used advanced computational methods as part of their credit decision-making processes, and they have been able to provide the rationales for their credit decisions.” While the Bureau recognized that some creditors “make credit decisions based on the outputs from complex algorithms, sometimes called ‘black-box’ models,” it stressed that the adverse action notice requirements of ECOA and Regulation B apply equally to all credit decisions, regardless of the technology used to make them. The Bureau expressed that “the reasoning behind some of these models’ outputs may be unknown to the model’s users, including the model’s developers,” and that “with such models, adverse action notices that meet ECOA’s requirements may not be possible.” The Bureau further explained that, “[c]reditors cannot lawfully use technologies in their decision-making processes if using them means that they are unable to provide these required explanations.” Stated differently, a “creditor cannot justify noncompliance with ECOA and Regulation B’s requirements based on the mere fact that the technology it employs to evaluate applications is too complicated or opaque to understand.”
House Republicans concerned about CFPB UDAAP manual and administrative adjudications
On May 19, nineteen Financial Services Committee Republicans sent a letter to CFPB Director Rohit Chopra expressing concerns about the agency’s new UDAAP supervisory policy and the recent changes to CFPB administrative adjudication procedures. As previously covered by a Buckley Special Alert, the Bureau revised its UDAAP exam manual to highlight the CFPB’s view that its broad authority under UDAAP allows it to address discriminatory conduct in the offering of any financial product or service. With the March announcement, the Bureau made clear its view that any type of discrimination in connection with a consumer financial product or service could be an “unfair” practice — and, therefore, the CFPB can bring discrimination claims related to non-credit financial products. According to the letter, “the CFPB’s new [UDAAP] supervisory policy and the recent changes to CFPB administrative adjudication procedures deviate significantly from past practices.” The letter further argued that “Congress enacted the fair lending laws and delegated their enforcement to the CFPB, clearly defining the limits of CFPB’s jurisdiction.” Additionally, the letter noted that “[e]xtending ECOA’s disparate treatment and disparate impact analysis to non-credit financial products and services ignores these clear limits.” The legislators also contended that “[i]n addition to radically reinterpreting UDAAP, changes to the way the CFPB will supervise for UDAAP will impose significant new responsibilities on supervised entities.”
The letter also expressed concerns regarding changes recently made to the rules governing CFPB administrative adjudications. As previously covered by InfoBytes, in February the Bureau published a procedural rule and request for public comment in the Federal Register to update its Rules of Practice for Adjudication Proceedings. The Bureau indicated that the amendments would provide greater procedural flexibility, providing parties earlier access to relevant information, expanding deposition opportunities, and making various changes related to “timing and deadlines, the content of answers, the scheduling conference, bifurcation of proceedings, the process for deciding dispositive motions, and requirements for issue exhaustion, as well as other technical changes.” According to the letter, this represents a “disturbing” action that is “contrary to [Chopra’s] comments about intending to establish durable jurisprudence made during testimony before the House Financial Services Committee in October 2021,” and “does not abide by typical notice and comment procedures.” The nineteen House Republicans on the Committee stated their view that “it is appropriate for the CFPB to immediately revert back to the previous Rules of Practice and conduct notice and comment rulemaking before [] any new procedures become effective.”
CFPB: ECOA protection extends past application process
On May 9, the CFPB issued an advisory opinion to affirm its interpretation that ECOA bars lenders from discriminating against customers after they have applied for and received credit, not just during the application process. The Bureau’s opinion and analysis interprets ECOA and its implementing rule, Regulation B, as applying to the “approval, denial, renewal, continuation, or revocation of any open-end consumer credit account,” and is consistent with the agency’s joint amicus brief filed last December with the DOJ, Federal Reserve Board, and FTC, which argued that the term “applicant” as used in ECOA/Regulation B, includes both those seeking credit, as well as persons who have sought and have received credit (i.e., current borrowers). (Covered by InfoBytes here.) This has been the agency’s “longstanding position,” the Bureau stressed, noting it was the view of federal agencies prior to the Bureau’s creation as well.
However, “[d]espite this well-established interpretation, the Bureau is aware that some creditors fail to acknowledge that ECOA and Regulation B plainly apply to circumstances that take place after an extension of credit has been granted, including a revocation of credit or an unfavorable change in the terms of a credit arrangement,” the advisory opinion stated, explaining that ECOA prohibits creditors from lowering a borrower’s available line of credit or subjecting a borrower to more aggressive collections practices on a prohibited basis, such as race or national origin. “In addition, the Bureau is aware that some creditors fail to provide applicants with required notifications that include a statement of the specific reasons for the adverse action taken or disclose an applicant’s right to such a statement.” Creditors are required to provide “adverse action notices” when denying a loan, the Bureau wrote, adding that these notices are required when the terms of an existing loan are modified or terminated. “This interpretation of ECOA, therefore, forecloses a potential loophole that could effectively swallow much of the Act. Such a loophole would be plainly inconsistent with ECOA,” the advisory opinion stressed. While the Bureau acknowledged that “a few other district court decisions have interpreted ‘applicant’ to include only persons actively seeking credit,” the agency stressed that the district courts “read ‘applicant’ in isolation instead of reading this statutory term in context, as required by the Supreme Court,” and that “no court of appeals has endorsed these district courts’ narrow reading.”
As previously covered by InfoBytes, the Bureau finalized its Advisory Opinions Policy in 2020. Under the policy, entities seeking to comply with existing regulatory requirements are permitted to request an advisory opinion in the form of an interpretive rule from the Bureau (published in the Federal Register for increased transparency) to address areas of uncertainty.
CFPB delivers 2021 fair lending report to Congress
On May 6, the CFPB issued its annual fair lending report to Congress, which outlines the Bureau’s efforts in 2021 to fulfill its fair lending mandate. Much of the Bureau’s work in 2021 focused on addressing racial injustice and long-term economic consequences of the Covid-19 pandemic. According to the report, the Bureau continued to prioritize promoting fair, equitable, and nondiscriminatory access to credit, with a particular focus on fair lending supervision efforts in areas related to “mortgage origination and pricing, small business lending, student loan origination work, policies and procedures regarding geographic and other exclusions in underwriting, and [] the use of artificial intelligence (AI) and machine learning models.” Fair Lending Director Patrice Alexander Ficklin said that while she is “encouraged by the possibility of utilizing vehicles like special purpose credit programs to expand access to credit,” she remains “skeptical of claims that advanced algorithms are the cure-all for bias in credit underwriting and pricing.” The report addressed enforcement and supervision work, highlighting four fair lending-related enforcement actions taken last year related to (i) illegal redlining practices; (ii) failure to provide accurate denial reasons on adverse-action notices; (iii) UDAAP violations related to the treatment of “gate money” for incarcerated individuals; and (iv) fees and payments associated with immigration bonds. The report also discussed initiatives concerning small business lending and data collection rulemaking, automated valuation models rulemaking, and a final rule amending certain provisions in Regulation X related to Covid-19 protections offered by mortgage servicers. Additionally, the report discussed an interpretive rule concerning ECOA’s prohibition on sex discrimination, stakeholder engagement on matters concerning fair lending compliance and policy decisions, HMDA reporting, and interagency engagement and reporting, among other topics. The report noted that going forward, the Bureau intends to sharpen its focus on digital redlining and algorithmic bias to identify emerging risks as more tech companies influence the financial services marketplace. According to CFPB Director Rohit Chopra, “[w]hile technology holds great promise, it can also reinforce historical biases that have excluded too many Americans from opportunities.”
CFPB’s UDAAP claims to proceed against mortgage lender
On March 31, the U.S. District Court for the District of Columbia mostly denied motions to dismiss filed by a mortgage lender and four executives (collectively, “defendants”) sued by the CFPB for allegedly engaging in unlawful mortgage lending practices. As previously covered by InfoBytes, the Bureau filed a complaint last year against the defendants alleging violations of several federal laws, including TILA and the CFPA. According to the Bureau, (i) unlicensed employees allegedly offered and negotiated mortgage terms; (ii) company policy regularly required consumers to submit documents for verification before receiving a loan estimate; (iii) employees denied consumers credit without issuing an adverse action notice; and (iv) defendants regularly made misrepresentations about, among other things, the availability and cost savings of FHA streamlined refinance loans.
The mortgage lender had argued in its motion to dismiss that neither TILA nor the Secure and Fair Enforcement for Mortgage Licensing Act (SAFE Act) required the lender to ensure that its individual employees were licensed under state law. In denying the motions to dismiss, the court disagreed with the lender’s position stating that in order for a mortgage originator to comply with TILA, it must also comply with Bureau requirements set out in Regulation Z, including a requirement that “obligates loan originator organizations to ensure that individual loan originators working for them are licensed or registered as required by state and federal laws.”
The court also concluded that the individual defendants must face claims for allegedly engaging in unfair or deceptive practices. The Bureau contended that the company’s chief compliance officer had warned the individual defendants that certain unlicensed employees were engaging in activities requiring licensure, and that the company’s owners approved the business model that permitted the underlying practices. According to the court, an individual “engages” in a UDAAP violation if the individual “participated directly in the practices or acts or had authority to control them” and “‘had or should have had knowledge or awareness’ of the misconduct.” The court rejected defendants’ arguments that it was improper to adopt this standard, and stated that “the fact that a separate theory of liability exists for substantially assisting a corporate defendant’s UDAAP violations has no bearing on how courts evaluate whether an individual defendant himself engaged in a UDAAP violation.”
While the court allowed the count to continue to the extent that it was based on allegations of unlicensed employees performing duties that would require licensure, it found that the complaint did not support an inference that the individual defendants knew that the employees were engaging in activities to make it appear that they were licensed. The court provided the Bureau an opportunity to replead the count to provide a stronger basis for such an inference.
FTC imposes “record-setting” fine on auto dealer alleging discriminatory junk fees
On April 1, the FTC and the Illinois Attorney General announced a proposed settlement with an Illinois-based multistate auto dealer group for allegedly adding junk fees for unwanted “add-on” products to consumers’ bills and discriminating against Black consumers. Under the terms of the proposed settlement, the defendants are ordered to pay a $10 million penalty, of which $9.95 million will be used to provide monetary relief to consumers. According to the FTC, this is the highest penalty ever obtained against an auto dealer. The remaining balance of the penalty will be paid to the Illinois Attorney General Court Ordered and Voluntary Compliance Payment Projects Fund.
According to the complaint, which brings claims under the FTC Act, TILA, ECOA, and comparable Illinois laws, eight of the defendant’s dealerships, along with the general manager of two of the Illinois dealerships, allegedly tacked on junk fees for unwanted “add-on” products such as service contracts, GAP insurance, and paint protection to consumers’ purchase contracts at the end of the negotiation process, often without consumers’ consent. In other instances, consumers were told that the add-ons were free or were required to purchase or finance their vehicle. The complaint further alleges that defendants discriminated against Black consumers by charging them higher interest rates or more for add-on products than similarly situated non-Latino white consumers. As result, Black consumers allegedly paid, on average, $190 more in interest and $99 more for add-on products.
FTC Chair Lina M. Khan and Commissioner Rebecca Kelly Slaughter issued a joint statement noting that they “would have also supported a count alleging a violation of the FTC Act’s prohibition on unfair acts or practices.” Khan and Slaughter elaborated on reasons why the FTC “should evaluate under its unfairness authority any discrimination that is found to be based on disparate treatment or have a disparate impact,” pointing out that (i) discrimination based on protected status can cause substantial injury to consumers; (ii) “injuries stemming from disparate treatment or impact are unavoidable because affected consumers cannot change their status or otherwise influence the unfair practices”; and (iii) “injuries stemming from disparate treatment or impact are not outweighed by countervailing benefits to consumers or competition.”
PAVE task force delivers plan on appraisal bias
On March 23, HUD delivered the Interagency Task Force on Property Appraisal and Valuation Equity (PAVE) Action Plan to President Biden. Created in June 2021 to address racial bias in home lending and appraisals and establish actions to root out inequity, PAVE Task Force members include HUD Secretary Marcia L. Fudge and White House Domestic Policy Advisor Susan Rice, the U.S. Attorney General, the Secretaries of Agriculture, Labor, and Veterans Affairs, the Comptroller of the Currency, the Chairmen of the Federal Reserve Board, FDIC, NCUA, Directors of the CFPB and FHFA, and the Executive Director of the Appraisal Subcommittee of the FFIEC.
According to the announcement, the Action Plan to Advance Property Appraisal and Valuation Equity (the Plan) will represent “the most wide-ranging set of reforms ever put forward to advance equity in the home appraisal process.” According to the Task Force’s executive summary, “[o]n average, homes in majority-Black neighborhoods are valued at less than half of those in neighborhoods with few or no Black residents.” The summary also reports that the impact of undervaluation on homebuyers, sellers, and communities can sometimes result in higher down payments for home buyers, often causing sales to fall through, while low valuations in a refinance transaction can reduce the cash-out available and sometimes affect the refinance interest rate and mortgage insurance premiums paid by the homeowner. The Task Force further notes that since the Fair Housing Act was passed more than 50 years ago, “the racial wealth gap is wider than ever: in 2021, the Black homeownership rate reached only 44 percent, while the white homeownership rate reached 74 percent.”
The Plan will focus primarily on actions to substantially reduce racial bias in home appraisals, as well as steps federal agencies can “take using their existing authorities to enhance oversight and accountability of the appraisal industry and empower homeowners and homebuyers to take action when they receive a valuation that is lower than expected.” Among other things, the Plan states that Task Force members will exercise broad oversight and compliance authority to strengthen “guardrails against unlawful discrimination in all stages of residential valuation.” Agencies will also issue guidance on FHA and ECOA’s application to the appraisal industry and update appraisal-specific policies to “ensure that appraisers or regulated institutions’ use of appraisals are directly included in supervisory [FHA] and ECOA compliance requirements, and are considered in every review of relevant existing and future policies and guidance.” Relevant agencies have also committed to addressing potential bias in the use of technology-based valuation tools through a rulemaking related to automated valuation models (AVMs), including the addition of a nondiscrimination quality control standard in the proposed rule. In consultation with Congress, Task Force members will also pursue legislation to modernize the governance structure of the appraisal industry.
In the coming months, the Task Force will assess: (i) the “expanded use of alternatives to traditional appraisals as a means of reducing the prevalence and impact of appraisal bias”; (ii) the use of “range-of-value estimates instead of point estimates as a means of reducing the impact of racial or ethnic bias in appraisals”; (iii) the “potential use of alternatives and modifications to the sales comparison approach that may yield more accurate and equitable home valuation”; and (iv) “public sharing of a subset of historical appraisal data to foster development of unbiased valuation methods.”
CFPB Director Rohit Chopra stated that the Bureau will take an active leadership role in the Appraisal Subcommittee and will work “to implement a dormant authority in federal law to ensure that algorithmic valuations are fair and accurate.”
Acting Comptroller of the Currency Michael J. Hsu also announced that the OCC plans to enhance its supervisory methods for identifying discrimination in property valuations and will take steps to ensure consumers are aware of their rights regarding appraisals. The agency also intends to “support research that may lead to new ways to address the undervaluation of housing in communities of color caused by decades of discrimination.”
Additionally, acting FDIC Chairman Martin J. Gruenberg noted that the agency is committed to taking several concrete actions, including collaborating with Task Force members to exercise authorities “to support a more equitable state appraisal certification and licensing system.”
Special Alert: CFPB revises UDAAP manual to include discriminatory practices
On March 16, the Consumer Financial Protection Bureau announced significant revisions to its Unfair, Deceptive, or Abusive Acts or Practices exam manual, in particular highlighting the CFPB’s view that its broad authority under UDAAP allows it to address discriminatory conduct in the offering of any financial product or service. Congress has enacted several statutes that outlaw discrimination on specified prohibited bases, including the Equal Credit Opportunity Act (ECOA), which generally makes it unlawful to discriminate on a prohibited basis when extending credit and which the CFPB is authorized to enforce. With this announcement, the Bureau made clear its view that any type of discrimination in connection with a consumer financial product or service could be an “unfair” practice — and therefore the CFPB can bring discrimination claims related to non-credit financial products (and other agencies that have UDAP authority may follow in the CFPB’s lead).