We have now been operating for close to 16 months under the effect of the Ability to Repay and Qualified Mortgage Rules, and the results thus far look like a mixed bag. Some banks (not many) are originating only Qualified Mortgages, either priced to give them a rebuttable presumption or safe harbor status for compliance with the Ability to Repay. Other banks are simply attempting to satisfy the Ability to Repay requirements without worrying about Qualified Mortgage status for their loans.

Meanwhile, the different regulatory agencies are showing signs of coming up to speed on issues of ATR/QM, as well as ancillary questions such as the impact of ATR/QM compliance on Fair Lending. The Fair Lending aspect seems to be gathering some attention.

We have discussed before the fact that choosing to make only loans that qualify for QM status could have Fair Lending implications. For instance, applicants with debt-to-income ratios in excess of 43% might be declined for a loan. A pattern of that type of declined loan could disproportionately impact applicants in protected classes.

The Department of Justice and HUD continue to adhere to a disparate impact theory of discrimination as a basis for liability under the Equal Credit Opportunity Act and the Fair Housing Act. That theory in a nutshell says that a policy which is neutral on its face, but discriminatory in its effect, equates to discrimination, even though unintended, unless the creditor can show a legitimate business need that cannot be achieve as well by policies or procedures that have less disparate of an impact.

The CFPB and the federal bank regulatory agencies issued a QM Fair Lending Statement on October 22, 2013, which basically took the position that "absent other factors" the various agencies did not believe that the practice of only originating QMs would elevate a bank's risk of discriminatory lending. Notably, the Justice Department and HUD did not join in that statement. And, of course, nothing in the QM Fair Lending Statement shed any light on what "other factors" might change the agencies' minds.

The agencies went on to compare the QM-only lending practice to the practice of many banks that do not originate HOEPA or "higher-priced" mortgage loans. They offered the observation that adopting policies that avoided those regulatory troublesome loans had not thus far resulted in any regulatory or legal challenges. The difference that we see is that many loans that once would have triggered HOEPA or higher-priced loan compliance requirements were still made, only at loan prices that avoided the tougher compliance problems. In short, those loans were made. In the case of QM-only loan policies, loans will be (have been?) declined. It remains to be seen what the impact of an increase in loan declines will do to a bank's Fair Lending exam results, but we now have at least one recent example.

We helped a member bank with a recent Fair Lending exam. The bank in question was not making QM-only loans. To the contrary, they were simply underwriting to comply with the ATR Rule.

After an extensive review, the regulator pulled a list of marginal approved loans and marginal declined loans. The bank was put through what is commonly called a "criteria interview" where their underwriting practices were explained. The regulator reviewed the underwriting criteria and asked the bank to confirm its accuracy in writing. Soon thereafter, the regulator provided a set of declined loans, that appeared on their face to have similar or better credit risk features than several of the loans that the bank chose to approve, and they were asked to provide an explanation.

To make a long story short, the bank was able to explain what, on its face, appeared to be a case of discriminatory treatment. (Of course, the declined loans were to persons in protected classes, while the approved loans were to white applicants.)

While the bank did an excellent job of research and fact finding, several points jumped out. First, the regulator was comparing a declined applicant's credit report to an approved applicant's credit report. On their faces, both sets of credit reports contained derogatory information that the bank's criteria stated would justify a decline. However, in the case of the approved applicants, their more recent credit history was immaculate, while the declined applicants had collections, charge-offs and delinquencies being reported up to the month before the application was filed. Fortunately, the bank had stated in its criteria interview that recent good credit received more weight and could justify an exception when approving an applicant with earlier derogatory credit.

Coming out of the "Great Recession" and in light of a renewed emphasis on credit history to satisfy the ATR requirements, it is likely that many loan files contain this sort of credit report information. You need to be able to differentiate between old credit information and newer credit information if you are trying to approve applications today based on what appears to be an applicant's current ability to repay the loan.

Other factors that made a difference were low loan to value ratios, low debt to income ratios, one of two joint applicants with clean credit history, etc.

In the end, the regulator cleared the bank of any question of discrimination. It remains to be seen if other Fair Landing exams will use this decline versus approved loan application approach, but everyone should be on guard against the unintended consequences that may flow from having credit information in the file to comply with the ATR/QM rules. Apparently, the examiners are looking at our practices and policies for establishing an applicant's ability to repay.

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