Jo Ann Barefoot quoted in Bloomberg News
U.S. Banks Surprised by Post-Subprime Crackdown on Redlining
April 24, 2011
Bloomberg News
By Clea Benson
April 25 (Bloomberg) — As credit gets tighter for low- income borrowers, federal regulators and the Obama administration are cracking down on banks for a practice that last made headlines before the rise of subprime lending: redlining, or failing to lend in poor and minority neighborhoods.
Consultants and lawyers retained by banks say the renewed emphasis has caught some institutions by surprise, resulting in negative ratings on regulatory examinations at some banks that previously earned positive scores — even though those lenders say they aren’t doing anything differently.
The percentage of banks earning negative ratings on Community Reinvestment Act exams has risen from 1.45 percent in 2007 to more than 6 percent in the first quarter of this year, according to an analysis by Bloomberg News. The 1977 law requires banks to make loans in all the neighborhoods they serve, not just the wealthy ones.
“The agencies have refocused on redlining because, in the wake of the subprime explosion and then sudden implosion, they are looking at these disadvantaged neighborhoods and not seeing any credit access,” said Jo Ann Barefoot, a former deputy comptroller of the currency who works with banks on compliance issues.
Negative ratings on the exams can prevent banks from opening new branches or completing mergers. In the worst-case scenario, the findings can be referred to the Justice Department for prosecution; recent settlements have resulted in multi-million dollar penalties.
‘Sudden Change’
“Their message to the banks is that they have an important role to play in these neighborhoods,” Barefoot said. “To the banks, it’s coming through as a sudden change in the rules.”
Large banks that do business around the country generally score better on CRA exams than regional or local lenders whose service area is more easily scrutinized. Banks such as Midwest Bank Centre in St. Louis, Community Bank of Oak Park River Forest in Oak Park, Illinois, and First United Security Bank of Thomasville, Alabama have been faulted by regulators for not serving minority or low-income areas.
Those institutions may be the front of the wave. Barefoot, now a senior executive at consulting firm Treliant Risk Advisors, said her company has been working with a number of banks that are in negotiations with regulators about whether their exam results will be sent to federal prosecutors.
“It’s a growing, significant number of pending cases,” she said. “As yet, almost nothing has emerged from the other end of the pipeline, but we do expect some redlining cases this spring or summer.”
Red Ink
The term “redlining” dates from the 1930s, when the Federal Housing Administration drew up maps using red ink to delineate inner-city neighborhoods considered too risky for lending. By the 1960s, those neighborhoods were devastated by a lack of investment.
In response, Congress passed the Fair Housing Act in 1968 and the Equal Credit Opportunity Act in 1974, which banned discrimination in lending and home sales based on race and national origin. Lawmakers followed in 1977 with the Community Reinvestment Act, to ensure banks were actively lending to credit-worthy borrowers in low-income areas.
The Justice Department, under Attorney General Eric Holder, has established a new fair-lending unit with a staff of 20, including a statistician who scrutinizes lending patterns. According the Civil Rights Division’s annual report to Congress, released this month, the unit received a record number of discrimination referrals from banking regulators in 2010.
60 Cases
The unit has 60 open cases or investigations and has five lawsuits in pre-settlement negotiations, Thomas Perez, the assistant ttorney general for the civil rights division, told a conference of community development advocates in Washington this month. Two of the cases in settlement negotiations involve allegations that banks refused to do business in minority neighborhoods.
“We are using every tool in our arsenal to combat lending discrimination,” Perez said.
Some of those cases focus on so-called “reverse redlining” — instances in which banks are making loans to poor and minority orrowers but are charging higher fees or interest rates than they charge similarly qualified white borrowers or residents of wealthy neighborhoods.
Bank consultants and lawyers say regulators are also cracking down on redlining by pressing banks to expand their business into low-income and minority census tracts where they have not previously done business.
Assessment Areas
The Community Reinvestment Act requires banks to delineate an official “assessment area” in which they are rated for lending to low-income borrowers. In addition, a bank’s record of lending to minorities in compliance with the Fair Housing Act and the Equal Credit Opportunity Act is considered as part of the overall CRA rating.
“If the regulators determine that there isn’t sufficient lending going on in minority communities and a bank has delineated an assessment area that excluded those communities, then that’s being used as evidence to support the allegation of redlining,” said Warren W. Traiger, a lawyer at BuckleySandler LLP in New York, who advises banks on fair lending issues.
“We’re also seeing that where there is that allegation, the CRA rating is being downgraded.”
Analysts say some banks are cited even though they previously earned positive scores based on assessment areas that didn’t include nearby poor neighborhoods.
That’s what happened at Community Bank of Oak Park River Forest, a small lender in the suburbs of Chicago with $352 million in assets. The bank received satisfactory ratings on its community reinvestment exams by the Federal Deposit Insurance Corp. on visits in 1999 and 2004, though it did not have any low- and moderate-income census tracts in its official assessment area.
‘Substantial Non-Compliance’.
Then, examiners during a 2008 visit told the bank it needed to expand its services into nearby low-income neighborhoods. The bank did increase its assessment area — and then received the lowest possible rating of “substantial noncompliance” in results the FDIC released this month. The bank was cited, in part, for failing to make enough loans in the new low-income portions of its service area.
Martin J. Noll, the bank’s chairman and chief executive officer, said in a statement that the exam results were an “anomaly” based in the recent change in its assessment area, and that the bank is aggressively expanding its lending efforts in low-income and minority neighborhoods.
“We are very confident that our continued targeted efforts will result in an improved rating in our next CRA exam,” Noll said.
‘Needs to Improve’.
Similarly, Midwest BankCentre received good ratings from the Federal Reserve on its CRA exams going back to 1991. Then, in 2009, it earned a “needs to improve” rating, because it didn’t do enough lending in low-income neighborhoods. In the bank’s 2010 annual report, its chairman, Ronald T. Barnes, said the rating also was based on its choice of assessment area.
Midwest BankCentre, with $1.1 billion in assets, is now in settlement negotiations with the Justice Department, Barnes said. “Midwest BankCentre vigorously disputes the allegations and continues to assert that we do not tolerate any form of discrimination in any of our lending practices,” he said in the annual report.
Adding to the bank’s troubles was a campaign by local community activists who wrote a letter to the Justice Department after scrutinizing data and concluding that the bank had gone five years without making a single loan to an African American. The bank says that claim is false.
First United Security Bank in 2009 settled discrimination charges with the Justice Department, after a referral from the FDIC, in part by agreeing to expand operations in majority African-American census tracts.
“Re-Redlining”
Activists on community development issues say they are stepping up their own pressure on regulators to act on what they see as an increase in discriminatory lending.
“The reports that we’re getting shows what we would call this trend toward re-redlining,” said Kevin Stein, associate director of the California Reinvestment Coalition in San Francisco.
Neighborhoods once awash in subprime credit are now being devastated by foreclosures, and banks are not offering loan modifications, Stein said.
This week, Stein’s organization and six other community- lending advocacy groups plan to publish the results of a study showing that refinancing activity has increased in white neighborhoods in seven U.S. cities while decreasing in minority neighborhoods.
Pendulum Swing
“The pendulum has swung back too far the other way,” Stein said.
Meanwhile, advisers are counseling banks to preemptively expand their activities in low-income and minority areas.
“What every bank should be doing is taking a look at how it has delineated its community and where its loans are and what its racial lending patterns are from the standpoint of a critic who’s got this mindset,” Barefoot said. “They’ve been lulled into assuming verything is fine.”
