CFPB Embraces Contentious 'Disparate Impact' Theory for Discriminatory Lending

WASHINGTON — The federal government doubled down on fair-lending enforcement Wednesday when the Consumer Financial Protection Bureau said it planned to pursue actions against lenders even when discrimination was unintentional.

The bureau said institutions whose lending policies have a "disparate impact" — meaning they put certain groups of borrowers at a disadvantage even if that was not the clear intention — should be on notice in addition to those that outwardly discriminate.

In a press release issued Wednesday, the bureau said it will use "all available legal avenues, including disparate impact, to pursue lenders whose practices discriminate against consumers." The agency also issued a compliance bulletin reaffirming its commitment to enforcing the Equal Credit Opportunity Act, which it enforces jointly with the Justice Department, by "recognizing the disparate impact doctrine."

The Justice Department has raised the ire of banks in recent years by claiming violations of fair lending laws when a policy has a disparate impact on a group of borrowers.

"We cannot afford to tolerate practices, intentional or not, that unlawfully price out or cut off segments of the population from the credit markets," CFPB Director Richard Cordray said in the release. "That's why the CFPB is educating consumers about their fair lending rights and pursuing lenders whose practices are discriminatory."

But the bureau said it would afford institutions some flexibility. Similar to the test used in previous fair-lending policies, the CFPB said some practices that have a discriminatory effect "meet a legitimate business need that cannot reasonably be achieved as well by means that are less disparate in their impact."

"But sometimes, they do not," the bureau said in the release.

The consequences of "disparate impact" discrimination, however unintentional, can affect consumers just as significantly as other forms of discrimination, Cordray said Wednesday in a speech to the National Community Reinvestment Coalition conference in Washington.

"Conduct that may seem benign — what the lawyers call 'facially neutral' actions — can create effects that are just as devastating for those marginalized communities," he said.

"An example of this kind of conduct is giving loan officers wide discretion to determine how much to charge borrowers. This can result in an aggregate pattern of African-American or female borrowers paying more than similarly situated white or male borrowers."

The Justice Department in December reached the largest fair lending settlement in history — a $335 million settlement with Countrywide Financial — for similar claims of pricing discrimination. The department's fair lending unit filed eight lending-related lawsuits last year and reached eight settlements, most originating from referrals from other regulators.

But the CFPB, unlike other regulatory agencies, has the unique authority to bring its own cases against lenders in federal court.

Given this authority, the announcement Wednesday did not come as a surprise to industry observers, several of whom said they had long expected CFPB to join the Justice Department in aggressively pursuing fair lending cases.

"I think it does tell us that the CFPB knows that there is discussion going on about disparate impact, and it wants to say very clearly it believes in disparate impact theory, and so that's useful to know," said Jean Noonan, a partner with Hudson Cook LLP, "although I think we all knew that that was their position anyway."

Isaac Boltansky, a policy analyst with Compass Point Research & Trading, said the announcement is one of several recent examples of the CFPB weighing in on current legal issues. In addition to the ECOA compliance bulletin released Wednesday, the bureau over the past month has also filed an amicus brief in a lawsuit related to the Truth in Lending Act, among other moves.

"The bureau is headed by a former AG, therefore I think that they have a natural tendency to want to expand and clarify the existing laws, more so than perhaps other bank regulators in the past," Boltansky said.

But according to others, disparate impact is not a slam-dunk legal theory. Andrew Sandler, a co-chairman of the law firm BuckleySandler, said even though a relevant lending case before the Supreme Court was ultimately withdrawn, the high court had appeared ready to reject use of disparate impact.

"The courts will have many opportunities to address this issue in coming months," said Sandler, who is representing one mortgage lender that announced plans to fight a Justice Department lawsuit earlier this month.

Meanwhile, the CFPB — more so than the Justice Department — may bring disparate impact cases in other credit sectors besides mortgages. The agency said its fair lending compliance bulletin would apply to a range of credit products, including mortgages, credit cards, student loans and auto loans, and would apply to both banks and nonbanks under its jurisdiction.

"Banks have been subject to this for a long time, and the major cases that have been to court …and cases that have been settled are mostly banking cases," said Ron Glancz, a partner with the Venable law firm in Washington. "If in fact anti-discrimination laws are now applied across the board to the entire financial services industry, and the resources devoted across the board, that's a good thing."

The National Fair Housing Alliance also issued a statement praising the bureau for making its policy clear, and said open markets that are free from discrimination are critical to the lending industry.

"Policies and practices that have a disproportionate and discriminatory effect on protected groups create inefficiencies in housing and financial markets by inhibiting the full economic participation of all people," said Shanna Smith, president and chief executive officer of the NFHA. "It is in our best interest to reverse and redress discriminatory practices and policies."

Although the disparate impact theory is not new, industry lawyers said it had never been applied to lending until recently, catching many lenders off guard.

The bureau noted that the Justice Department and several other federal agencies issued a joint policy statement on lending discrimination in 1994, noting that the courts recognized "evidence of disparate treatment" and "evidence of disparate impact" as a method of proving lending discrimination under the Equal Credit Opportunity Act.

"The CFPB, which did not yet exist at that time, concurs with the policy statement," the agency said. The bureau said its standard announced Wednesday will apply to all institutions under CFPB jurisdiction.

CFPB's exam guidelines for ECOA, mortgage origination and mortgage servicing also reference the exam procedures outlined in the interagency policy statement, including those designed to identify evidence of disparate impact.

According to the Federal Reserve's Regulation B, Congress intended to apply an "effects test" — outlined by two Supreme Court employment cases — to be applicable to a creditor's determination of creditworthiness, the bureau said.

"The act and regulation may prohibit a creditor practice that is discriminatory in effect because it has a disproportionately negative impact on a prohibited basis, even though the creditor has no intent to discriminate and the practice appears neutral on its face," the bulletin said, quoting the Fed's commentary on the rule, "unless the creditor practice meets a legitimate business need that cannot reasonably be achieved as well by means that are less disparate in their impact."

As CFPB exercises its supervisory and enforcement authorities, "it will consider evidence of the disparate impact doctrine as one method of proving lending discrimination under the ECOA and Regulation B," the agency said in bulletin.