Adverse action continues to be one of the most challenging areas for Compliance Officers to ensure compliance. Trying to provide timely decisions to comply with regulatory requirements, making sure the accurate reasons are being provided to applicants on notices or for verbal notification, can be a cumbersome and often a frustrating process.
Jack Holzknecht, Founder and Senior Consultant at Compliance Resource, has been training and providing guidance through his blogs, most recently on May 31, 2022, for more than four decades.
However, this topic continues to be an area of concern and one cited in exams for errors that should be easy to spot and rectify. When we consider the regulations impact adverse action requirements it’s no wonder we have confusion that often leads to mistakes in our compliance programs.
Background
Two federal laws — the Equal Credit Opportunity Act (“ECOA” and/or “Reg. B”) and the Fair Credit Reporting Act (“FCRA”) —contain requirements for providing notice of action taken when a consumer submits a loan application to a financial institution (“FI”). In addition, the Home Mortgage Disclosure Act (“HMDA”) requires the reporting of action taken on all real-estate applications utilizing a required reporter’s Loan Application Register (“LAR”).
The two laws for providing notice to consumers serve different purposes under their implementing regulations. Adverse action notices under the ECOA are designed to help consumers and businesses by providing transparency to the credit underwriting process and protecting against potential credit discrimination by requiring creditors to explain the reasons adverse action was taken. The FCRA’s requirements for adverse action notices apply only to consumer transactions and are designed to alert consumers that negative information was the basis for the adverse action. Under the FCRA, the consumer has 60 days from the date of the notice to obtain more details about the negative information so that if it is erroneous, the consumer can correct it. To reduce the compliance burden, a creditor can use a single, combined notice to comply with the adverse action requirements of both laws, and model forms have been published in connection with Regulation B. For purposes of HMDA a FI is required to report what action was taken with a covered loan (i.e., Approved, denied, Approved Not accepted, withdrawn etc.). All three of these laws intersect together to provide information about lending practices and often create issues in our compliance programs if not done correctly and consistently.
To ensure compliance, it is important to understand how the requirements of Regulation B and the FCRA relate to and differ from one another.
Regulation B defines adverse action as:
- A refusal to grant credit in substantially the amount or on substantially the terms requested in an application unless the creditor makes a counteroffer (to grant credit in a different amount or on other terms), and the applicant uses or expressly accepts the credit offered.
- A termination of an account or an unfavorable change in the terms of an account that does not affect all or substantially all of a class of the creditor’s accounts; or
- A refusal to increase the amount of credit available to an applicant who has made an application for an increase
The difference with FCRA, is that it defines adverse action more broadly to include:
- Adverse action as defined in section 701(d)(6) of ECOA,
- A denial or cancellation of an increase in any charge for, or a reduction or other adverse or unfavorable change in the terms of coverage or amount of, any insurance, existing or applied for, in connection with the underwriting of insurance.
- A denial of employment or any other decision for employment purposes that adversely affects any current or prospective employee.
- A denial or cancellation of an increase in any charge for, or any adverse or unfavorable change in the terms of a government license or benefit; or
- An action on an application or transaction initiated by a consumer, or in connection with account review that is adverse to the consumer’s interests.
The FCRA definition specifically includes the ECOA definition but also covers certain noncredit, consumer-initiated transactions and applications, including consumer applications for insurance, employment, a rental, and a government license or benefit. It is important to note that the biggest difference between the two is that FCRA only applies to consumer transactions, unlike Reg. B which does include business.
Under Reg. B a notice is required when action is taken on:
- A completed credit application,
- An incomplete credit application,
- Existing credit account, or
- If an applicant refuses to except a counteroffer on an application for credit.
The defining difference for FCRA notice requirements are triggered when adverse action is taken on a consumer based on:
- adverse action was taken based in whole or in part on information in a consumer reported.
- Consumer credit is denied or a charge for credit increased based on information obtained from third parties other than consumer reporting agencies bearing upon the consumer’s creditworthiness, credit standing, credit capacity, character, general reputation, personal characteristics, or mode of living; or
- Adverse action was taken based on information furnished by a corporate affiliate of the person taking the action.
Reporting Pitfalls
- Approved Not Accepted – most confusion comes from the counteroffer. All applicant conditions have been met, but not all property conditions have been met (such as inspection requirements – termite, etc.). The applicant does not respond, or the loan is not originated. Unless the applicant has met ALL the underwriting and creditworthiness conditions, you cannot have an Application Approved but not Accepted.
- Counteroffers are not actually a HMDA Action Taken Code option. Often, they fall into one of two buckets:
- A loan was originated.
- The application is denied.
- If the applicant agrees to proceed with…the financial institution’s counteroffer, the financial institution reports the action taken…based on the terms of the counteroffer.
- Counteroffers are not actually a HMDA Action Taken Code option. Often, they fall into one of two buckets:
- Withdrawal – The absence of a reply from the applicant is not a withdrawal. An application must be “expressly” withdrawn (i.e., written, or verbal communication from the applicant). Unless the applicant is fully approved (in which case you would report Approved Not Accepted), the creditor must send a denial or Notice of Incompleteness if no communication is received from the applicant.
- Closed for Incompleteness – Creditor conditionally approved the applicant and sends a request letter asking for more information to satisfy applicant conditions. The applicant does not respond within the designated time. “Incomplete” can only be used when a creditor needs more information to satisfy applicant conditions, not for information needed regarding the property. A written Notice of Incompleteness must be sent to report a file is closed for incompleteness.
These are a just a few common issues to beware of when reporting adverse actions and sending notices.
If you would like to learn more about adverse action pitfalls in compliance programs consider joining us on September 15, 2022, for a more in depth look into adverse action.