Section 1071’s Impact on Fair Lending Laws

The Five Star Institute, in partnership with Treliant, recently held the latest in its Webinar Series, “Section 1071: Small Business Lender Impact & Implications.”

The Five Star Institute Webinar Series aims to broaden the horizons of the mortgage industry, serving as a source for complimentary insights and education about critical industry topics, led by subject-matter experts.

On March 30, 2023, the Consumer Financial Protection Bureau (CFPB) released its final rule amending Regulation B to implement changes to ECOA made by Section 1071 of the Dodd-Frank Act, requiring financial institutions to collect and report data on small business loans.

Congress enacted Section 1071 for the purpose of facilitating enforcement of fair lending laws; and enabling communities, governmental entities, and creditors to identify business and community development needs and opportunities for women-owned, minority-owned, and small businesses.

Panelists in hand for the Webinar discussing Section 1071 included Renee Huffaker, Chief Compliance Officer with Arvest Bank; Daniel Johnson, Sr., Managing Director, Fair & Responsible Banking with Treliant, LLC; and Ellen Rose, Managing Director, Regulatory Compliance, Mortgage, and Operations for Treliant, LLC.

Chief Compliance Officer for Arvest Bank, a $26 billion regional financial institution, Huffaker has more than 25 years of bank regulatory compliance experience, including experience as both a regulator and mid-size bank compliance officer. She holds designations as a CPA and CRCM.

Johnson serves as Managing Director of Fair and Responsible Banking at Treliant. He is an experienced compliance and data science professional with comprehensive financial services experience in regulatory compliance, risk management, internal audit, fair lending, statistical analysis, operations management, enterprise program administration, and compliance training. Prior to joining Treliant, Johnson was Director of Fair Lending for Freddie Mac, where he established and maintained compliance risk management related to fair lending, including oversight of third parties such as sellers and servicers. Johnson has a BBA with legal studies specialization from the University of Central Oklahoma, and an MBA with a data analytics specialization from Southeastern Oklahoma State University.

Rose, Managing Director, Regulatory Compliance, Mortgage, and Operations for Treliant, is a seasoned financial services professional with executive experience in all facets of commercial and residential mortgage banking. She has more than 35 years of industry experience in directing originations, secondary marketing, servicing, support, and vendor activities. Prior to joining Treliant, Rose held a Senior Director position with Newbold Advisors, where she developed and led numerous client engagements spanning compliance, business process engineering, and operational assessments. Previously, she founded and managed Dynamic Global Solutions, assisting clients with capital markets and consulting needs.

During the hour-long event, the panel covered a range of topics regarding the implementation of Section 1071, including who must report, what must be reported, when lenders must begin collecting and reporting the data, and the fair lending implications, among others.

Under the process established by Congress in the Small Business Regulatory Enforcement Fairness Act of 1996 (SBREFA), the CFPB is required to consult with representatives of small entities likely to be affected directly by the regulations the Bureau is considering proposing and to obtain feedback on the impact these rules may have on small entities.

On September 15, 2020, the CFPB released an Outline of Proposals Under Consideration and Alternatives Considered, which described proposal that it was considering implementing Section 1071, along with the relevant law, the regulatory process, and an economic analysis of the potential impacts of the proposals on directly-impacted small entities.

As the panelists explained, Section 1071 will require:

• Data collection and reporting including demographic data;
• A tiered implementation, depending on the number of loans originated in 2022 and 2023;
• Data collected must be shielded by a firewall from underwriters and other persons involved in decisioning the loan;
• Application-level data will be made publicly available annually; and
• A 12-month grace period.

“Realistically while I appreciate the tiered implementation, it may add some complexity because for the those of us in a Tier 1 implementation, we compete against banks and lenders that will be a Tier 2 or 3 implementation,” explained Huffaker. “All of a sudden this is something else we need to add to our customer education process so that our customers understand why we are asking for a lot of additional information that a lot of other lenders are not asking for. This introduces complexity that maybe the Bureau did not necessarily contemplate.”

When discussing the costs of implementation in adhering to Section 1071, Johnson discussed the financial burden that now falls on the shoulders of financial institutions in terms of cybersecurity.

“The firewall is an important component of Section 1071, but it will be interesting to see how the costs involved with shielding that information and that is a big question mark for some of our clients at this point,” said Johnson. “What are the expectations of this, and certainly for the larger banks there is a much higher infrastructure and challenge with that as well as cost.”

Rose addressed the impact of cybersecurity costs on smaller businesses as she discussed the ability to make exceptions to the rule.

“You can make a case by filing an exception, as many small lenders have people that wear multiple hats … they may be involved in scrubbing, and may be involved in collections, and decisioning with a loan,” said Rose. “We do caution everyone that any exceptions may be questioned. It should be viable and very well-documented.”

There are approximately 80 pieces of data that must be collected from clients and inputted under Section 1071. The panel discussed some of the issues that many in the industry brought up in terms of initial Section 1071 compliance.

“There were several aspects of this rule that resonated with both our organization and peers that I interact with … in terms of thinking about this rule, its really a fair lending rule, your strategy in tackling this rule really has to be designed around what you want your data to look like when the reporting begins,” noted Huffaker. “You want your data to be accurate, you want it to be complete, and without evidence of disparate outcomes for applicants or your institution. If that’s what success looks like in this 1071 world, we work backwards from there.”

Huffaker also noted four key points in order to reach those goals, including:

• Standardization in the process that is operationally executed
• Formality in the process of applications and instituting formalized processes
• Flexibility in the data collection process and understanding the uniqueness of small lenders
• Increased compliance efforts

In order for Section 1071 to be successful, the adoption of new technology was a topic of concern among not only the panelists, but attendees who submitted questions for the webinar hosts.

“One of the concerns I am hearing out there is developing a longer-term, sustainable solution,” noted Rose. “It’s important to note that your implementation plans include strategic plans over the long-term.”

The panel also touched upon the topic of Section 1071’s impact on fair lending laws, as businesses must ensure that they include business loans in their fair lending work plan in terms of underwriting and pricing regressions; redlining analyses; comparative file reviews; and exception monitoring. All small business lending units must ensure that they have robust processes and quality control functions for adverse action notices in place.

“There are considerations as far as when minority applicants, for example, may not want to provide this information because they feel it might be used against them,” explained Johnson. “How your loan officers and staff handles that explanation that this is really to ensure fairness, and is not used in the loan decision at all, and how that is explained to your applicants is extremely important.”

Click here to access a recording of the “Section 1071: Small Business Lender Impact & Implications webinar, and click here to access the webinar’s accompanying PowerPoint presentation.