The Consumer Financial Protection Bureau’s November “Matched-Pair Testing in Small Business Lending Markets” report gives some hints as to how the new 1071 small business lending data could be used. The Bureau did 100 ‘secret shopper’ tests on different lenders to assess racial discrimination and disparate treatment. The tests included subjective and objective criteria measuring each of four domains:
- The level of encouragement or discouragement to apply for financing;
- Information provided about products and steering to specific products;
- Overall customer service; and
- Business and credit information requested from the applicant.
While the results demonstrate that customers were treated similarly in terms of objective criteria for customer service (e.g., being greeted, thanked for coming in, etc.) and the information requested from the applicant, differences were identified in terms of both the level of encouragement to apply and the extent to which lenders discussed non-requested products.
Black testers were encouraged to apply for products about which they had not inquired, such as credit cards or home equity loans, at a higher rate than White testers with similar profiles. The report also found that although testers were encouraged to apply for loans regardless of race, the objective and subjective measures of the level of encouragement were higher for White testers. Perhaps most concerningly, the report recounts instances in which Black testers were told they would not qualify for products, although the same bank representative encouraged White testers with similar profiles to apply.
The Bureau’s conclusion encourages financial institutions to ensure lending staff adhere to fair lending requirements. It does not specifically require banks to engage in secret shopper testing. It would not be surprising, however, if regulators did focus on the identified areas of disparate impact.
The overall results may present additional insights about the effectiveness of banks’ fair lending programs. The CFPB report showed that testers were treated similarly in areas that are often addressed directly in training and procedures (information required for an application and standard customer service procedures), but that race-based differences existed in areas where staff exercise more discretion, such as the degree of encouragement to apply and the types of products discussed.
This may indicate that discriminatory bias is not originating at the institutional or management level, but rather that disparate treatment emerges in areas where bank representatives exercise more discretion. Because aspects that are more closely managed showed less evidence of discrimination, there is reason to conclude that training and documented procedures are effective in mitigating fair lending risk and, accordingly, that banks can likely reduce risk by augmenting their training and procedures based on the report’s findings. Banks may therefore want to consider whether to add training and procedures on less structured aspects of customer engagement.
Based on the report, it appears that a particular emphasis on product recommendations is appropriate. The Bureau expressed concern that the credit card or HELOC products recommended disproportionately to Black testers may present more risk to a small business owner than a business loan. Steering an applicant who may qualify for a small business loan into a product that is riskier for the applicant may raise UDAAP as well as fair lending concerns. Steering a customer toward a product in which they have not expressed interest may, of course, also result in a loss of business for the bank if it gives the impression that the desired product is not available.
Banks looking to improve fair lending training and procedures may find our Fair Lending Toolkit helpful and, as always, our Hotline team is available to assist with any questions you may have.