In a recent appearance before Congress, Director Cordray noted that the CFPB has started engaging in supervisory activity regarding small business lending. The CFPB's authority with regard to small business loans – which are often seen as commercial credit, instead of consumer credit, and are therefore exempt from the requirements of some consumer financial protection laws and regulations – stems from the Equal Credit Opportunity Act (ECOA) (15 U.S.C. § 1691 et seq.) and Section 1071 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) (15 U.S.C. § 1691o-2). Specifically, the Dodd-Frank Act reads, "[t]he Bureau shall prescribe such rules and issue such guidance as may be necessary to carry out, enforce, and compile data pursuant to [Section 1071] . . . . The Bureau shall issue guidance designed to facilitate compliance with the requirements of this section, including assisting financial institutions in working with applicants to determine whether the applicants are women-owned, minority-owned, or small businesses for purposes of this section."
Section 1071 of Dodd-Frank amended ECOA by adding a provision requiring financial institutions to collect and maintain loan data for women-owned, minority-owned, and small business credit applicants. The Bureau's most recent regulatory agenda indicated that the CFPB is "in the very early stages of starting work to implement section 1071." Regulations under Section 1071 would mandate information collection and reporting. Much as with HMDA reporting, the CFPB will review this information for evidence of disparate impact and redlining, and use it to screen for facial ECOA violations.
It is worth noting that ECOA makes it unlawful to discriminate in any aspect of a credit transaction on the basis of race, color, religion, national origin, sex, marital status, age, source of income, or whether a person exercises rights granted under the Consumer Credit Protection Act. ECOA applies to any extension of credit, including extensions of credit to small businesses, corporations, partnerships, and trusts.
Potential risks for small business lenders under ECOA and the increased data collection requirements provided for in Section 1071 of Dodd-Frank include:
- Disparate Impact: A practice that does not discriminate on its face but produces discriminatory results may violate ECOA. A practice could be found to have a disparate impact (and therefore a discriminatory effect, irrespective of intent) if, for example, applicants sharing a prohibited basis trait are denied credit more frequently than similarly qualified borrowers, or receive less favorable terms or less access to credit than similarly qualified borrowers.
- Redlining: Redlining is the practice of providing unequal access to credit, or unequal terms of credit, because of the race, color, or national origin of the residents of the area in which the credit-seeker resides. Regulatory agencies and courts have uniformly interpreted ECOA as prohibiting institutions from failing to market, declining to underwrite, differentially pricing, and differentially servicing loans in certain geographic areas where such practices either are motivated by an intent to discriminate on a prohibited basis or have the effect of discriminating on a prohibited basis
The CFPB's focus on small business lending is garnering policymaker's attention in recent weeks. Representative Emanuel Cleaver (D-MO) has written to Director Cordray, voicing concerns and used his time with the Director in last week's hearing to focus on the issue. Mr. Cleaver's main area of concern seems to be on the algorithms developed and employed by fintech lenders and the potential for a "disparate impact on small business underwriting decisions."
In response, the CFPB has indicated that it has begun supervisory activity involving small business lenders, particularly with regard to disparate impact issues. In a House Financial Services Committing hearing entitled "The 2016 Semi-Annual Reports of the Bureau of Consumer Financial Protection" on April 5, the Director responded to Representative Cleaver's concerns, stating that "[t]he Bureau has initiated supervisory activity in this area, which we hope will help expand and enhance our knowledge base on small business lending, including the credit process; existing data collection processes; and the nature, extent, and management of fair lending risk."
The CFPB's recent Request for Information (RFI), regarding the use of alternative data and modeling techniques and seeking input on "business lending markets" in addition to consumer lending, points out that "some of the Bureau's authorities relate to small business lending"—those authorities being ECOA and Section 1071. Read more about the RFI and the accompanying field hearing here. Industry participants interested in commenting on the RFI must do so by May 19, 2017.