Types of Discrimination in Lending
In this lesson, we will dive deeper into the three different methods of proof of lending discrimination under ECOA and FHA that regulators and courts have identified. They are the following:
- Overt evidence of disparate treatment
- Comparative evidence of disparate treatment
- Evidence of disparate impact
We will discuss these types of lending discrimination and provide a few examples of recent case studies. Let’s begin with disparate treatment.
The existence of illegal disparate treatment may be established either by statements revealing that a lender explicitly considered prohibited factors (overt evidence) or by differences in treatment that are not fully explained by legitimate nondiscriminatory factors (comparative evidence).
Overt Evidence of Disparate Treatment
Overt Evidence of Disparate Treatment occurs if there is overt evidence of discrimination when a lender openly discriminates on a prohibited basis.
An example of overt evidence of disparate treatment would be if a lender offered a mortgage with a limit of up to 80% LTV for applicants aged 21-30 and 95% LTV for applicants over 30 who had the same qualification criteria. This policy could violate ECOA’s prohibition on discrimination based on age.
There can also be overt evidence of discrimination even when a lender expresses – but does not act on – a discriminatory preference.
Another example of overt evidence of disparate treatment can occur in the following example:
A Hispanic couple enters a bank and asks to apply for a loan. The couple is directed to the loan officer who sits down with them and gives them an application but then proceeds to tell the couple that the bank does not typically approve mortgage loans for Hispanic borrowers. The loan officer shares with the Hispanic couple that the bank usually finds that Hispanic borrowers do not qualify for the type of loan programs they offer at the bank. He proceeds to tell them that they can complete the application and the bank will accept it only because it is required by law – but that it’s highly unlikely they will qualify for a home loan there. This statement violates FHA’s prohibition on statements expressing a discriminatory preference, as well ECOA, which prohibits discouraging applicants on a prohibited basis.
Next, we will move on to comparative evidence of disparate treatment.
Comparative Evidence of Disparate Treatment
Disparate treatment occurs when a lender treats an applicant differently based on one of the prohibited basis. It does not require showing that the treatment was motivated by prejudice or even a conscious intention to discriminate against a person beyond the difference in the treatment itself.
Disparate treatment may more likely occur in the treatment of applicants who are neither clearly well-qualified nor clearly unqualified. Discrimination may more readily affect applicants in this middle group for two reasons:
- The applications are “close cases,” which means that there exists a need for what is called “lender discretion” in the approval process. When this happens, it can open the possibility for comparative evidence if, for instance, there are more Caucasian applicants than Hispanic applicants who are given a loan when the lender uses its “discretion.”
- The assistance provided by the lender to help an applicant complete the application is greater for one applicant over another. The lender may, for example, propose solutions to credit or other problems regarding an application, identify compensating factors, and provide encouragement to the applicant. Lenders are under no obligation to provide such assistance but, to the extent that they do, the assistance must be provided in a nondiscriminatory way.
Comparative Evidence of Disparate Treatment Example
A non-minority couple applies for a home loan. The lender finds adverse information in the couple’s credit report. The lender discusses the credit report with them and determines that the adverse information, which is a judgment against the couple, was incorrect because the judgment had been vacated. The non-minority couple was granted their loan.
A minority couple applies for a similar loan with the same lender. Upon discovering adverse information in the minority couple’s credit report, the lender denies the loan application based on the adverse information without giving the couple an opportunity to discuss the report.
This is an example of disparate treatment of similarly situated applicants that is based on a prohibited factor: race. It shows that the amount of assistance and information the lender provided for the non-minority couple was greater than that of the minority couple. Assistance must be provided equally to all applicants.
If a lender has treated similar applicants differently based on a prohibited factor, the lender must provide an explanation for the difference in treatment. If the lender’s explanation is found to be not credible, the lender may be found to have discriminated.
Redlining and Disparate Treatment
Redlining is a form of illegal disparate treatment. It occurs when a lender provides unequal access to credit, or unequal terms of credit, because of the race, color, national origin or other prohibited characteristic(s) of the residents of the area in which the credit seeker resides or will reside, or in which the residential property to be mortgaged is located.
Redlining may violate both FHA and ECOA.
When a lender applies a racially or otherwise neutral policy or practice equally to all credit applicants, but the policy or practice disproportionately excludes or burdens certain persons on a prohibited basis, the policy or practice is described as having a “disparate impact.”
Disparate Impact Example
An example of disparate impact would be when a lender has an underwriting policy in place that does not extend loans for single-family residences for less than $60,000. This policy has been in effect for 10 years. This minimum loan amount policy is shown to disproportionately exclude potential minority applicants from consideration because of their income levels or the value of the houses in the areas in which they live.
The fact that a policy or practice creates a disparity on a prohibited basis is not alone proof of a violation of FHA or ECOA. However, when an agency finds that a lender’s policy or practice has a disparate impact, the next step for the agency is to seek evidence and determine whether the policy or practice is justified by a “business necessity.” This business justification must be manifest and may not be hypothetical or speculative.
Factors that may be relevant to the justification of the policy could include cost and profitability. Even if a policy or practice that has a disparate impact on a prohibited basis can be justified by business necessity, it still may be found to be in violation if an alternative policy or practice could serve the same purpose with less discriminatory effect.
Evidence of Intent
Evidence of discriminatory intent is not necessary to establish whether a lender’s adoption or implementation of a policy or practice that has a disparate impact is in violation of FHA or ECOA.