Justice opens fire on fair-lending issues.

The Justice Department has extinguished any thinking that smaller banks would somehow be left out of Washington's renewed emphasis on fair-lending-law enforcement.

Two settlements--involving $277 million-assets First National Bank of Vicksburg, Miss., and $18 million-assets Blackpipe

The settlement reached in one of the community bank cases is particularly severe, considering the bank's size. In the words of veteran compliance attorney Robert Chamness, "The Shawmut settlement almost sounds like a love-rest by comparison."

Settlements are a blueprint

ABA Banking Journal contributing editor Jo Ann Barefoot has long been drawing attention to changing federal fair-lending attitudes in this column. Early on she referred to this shift as "a gathering storm." Now that the storm has broken, bankers can look to the terms of the settlements for guidance.

In fact, in announcing the Shawmut settlement last year, Attorney Genera] Janet Reno cited the agreement as a blueprint banks could use in taking proactive steps to prevent or remedy fair-lending-law violations. All three cases alleged violations of the Fair Housing Act and the Equal Credit Opportunity Act. All three also dealt with alleged credit bias on the basis of racial differences. Knowledgeable observers believe additional cases will be filed where charges of bias on the basis of gender--possibly involving discrimination against single female heads of households--and age will also be levelled.

Attorney Chamness, executive vice-president at CFI ProServices, Portland, Ore., worries that Justice's pursuit of banks on this variety of grounds could make even banks that have made an expanded effort to reach out to protected groups susceptible to charges based on a numbers game.

Chamness worries that whether or not a loan portfolio looks fair could depend on which way the customer base is "sliced and diced." A proactive effort targeted to help one group, for example, could make a bank look bad toward another group.

Shawmut: $960,000

The Shawmut settlement was the first such agreement announced by the Justice Department since the agency reached a $1 million settlement with Decatur Federal Savings and Loan, Atlanta, in September 1992.

What's especially notable about the two community bank settlements is how similar they are to the Shawmut case and how much tougher they are in some respects. Note that in all three cases, the banks involved did not admit any guilt in agreeing to the settlements.

The settlement reached with $27 billion-assets Shawmut National Corp. involved alleged discrimination against minorities on the part of its mortgage banking subsidiary. The subsidiary had been the subject of a year-long investigation.

Two notable facts stand out in the case. First is the small size of the monetary settlement relative to the size of the institution. Shawmut Mortgage Co. agreed to create a $960,000 fund to compensate minorities who were unfairly denied loans. Shawmut agreed to add to the fund if it proved insufficient to compensate aggrieved parties. Determining who these parties will be is in Shawmut's own hands, subject to Justice's review and additions. No actual complaints were filed.

Reno said Justice declined to press for civil money penalties in this case because Shawmut had instituted corrective action on its own that had already reduced the gap between denial rates for whites and minorities.

"This should alert other lenders," Reno stated, "that if they closely examine their lending practices and make necessary changes to eliminate discrimination, they will fare better in this department's stepped-up enforcement effort than those who do not." Justice said the settlement amount represented about half the amount it would have asked for if the case had gone to trial.

The second notable point is the timing of most of the nonmonetary points of Shawmut's agreement; they were in place before Justice's investigation began. In brief, they include the following steps:

1. Training lenders and other employees in nondiscriminatory loan processing and underwriting.

2. Adjusting compensation programs to remove bias toward big-dollar mortgages.

3. Conducting random self-testing to make sure lenders and other employees aren't discouraging minorities from applying for loans.

4. Extending marketing efforts into minority communities.

5. Opening a branch in a minority community.

6. Expanding the role of a "second-look" mortgage review program so that all rejected applicants whose incomes are 115% or less of the median for their areas, as well as minority applicants, are reviewed.

First of Vicksburg: $800,000

First National Bank of Vicksburg, Miss., settled with Justice and the Office of the Comptroller of the Currency. The OCC referred the case to Justice on the basis of a recent examination and Home Mortgage Disclosure Act totals.

According to the Justice Department complaint, the case turned on two types of home-improvement loan products offered by the bank. One was a single-payment loan with interest calculated by the simple-interest method. The other was an amortizing loan product with monthly payments. Interest on the latter loans could be calculated by either the simple-interest method or by the add-on method. The add-on method resulted in a much higher interest rate, according to Justice.

Justice states in its brief that the Comptroller's Office found that during 1992 97% of First National's black unsecured home-improvement customers received amortizing loans, all but two calculated by the more-expensive add-on method. By contrast, Justice states, 49% of First National's white unsecured home-improvement loan customers were granted the less-expensive single-payment product.

Justice also states that some customers granted the amortizing product were offered the opportunity to pay off the loans at simple interest rates. However, the agency states that blacks were given this opportunity much less often than were whites.

A notable point about this case, according to attorney Robert Chamness, is that it didn't hinge on credit denials, but on loan terms.

"They were criticized for the loans they did make," says Chamness.

The settlement has several monetary elements. First, the bank must set up a $750,000 fund to compensate about 170 black borrowers who the agencies say were charged higher interest rates than whites on comparable unsecured home-improvement loans. The settlement also calls for the bank to adjust the rates on the loans; to pay $50,000 in civil money penalties; and to set up a $1 million loan fund available to low- and moderate-income borrowers on special terms. The latter must be advertised and the bank is expected under the settlement to make all efforts to have made these unsecured home-improvement loans and second mortgages within two years, The settlement even dictates loan sizes, maturities, and rate-setting methods.

The settlement also features a number of nonmonetary elements, including:

1. The bank must set up a customer assistance program to provide customers and prospective customers with information about loan terms and qualifying standards. The program must also provide training to customers in preparing credit applications.

2. The bank must contract with an outside organization to conduct matched-pair testing of its residential real estate credit operation. It must also institute a loan-review program to ensure compliance with fair-lending laws.

3. The bank must draft a new nondiscriminatory loan policy for the review of the Comptroller's Office.

4. The bank must train every officer, director, and credit employee in fair-lending principles. A full page of the settlement details the minimum curriculum for the training. Every person put through the training--and any new officers, directors, and credit employees who go through it--must attest to their training and understanding of the material.

5. Conduct second reviews of all home-improvement loan applications that would be rejected after the first review.

In its latest CRA examination (November 1993), the Vicksburg bank received a "Needs to Improve" rating. The report makes mention of the differences in home-improvement loan interest rates between white and black borrowers.

However, the Comptroller's Office report also notes extensive activities taken to ascertain community credit needs. While it faulted the bank on its follow-through in many ways, it noted several new products introduced by the bank on its own or in conjunction with federal agencies to better meet community credit needs. "The bank also extends a significant number of loans less than one thousand dollars," the report states.

The report also noted the bank's extensive community development activities, including participation in a community development corporation that won two national awards in 1993.

Compliance expert Lucy Griffin is skeptical about the efficacy of the testing program imposed in the Vicksburg case, which would likely be part of future settlements too. She believes matched-pair testing won't work properly in smaller communities because "loan officers know who the strangers are." Griffin is former head of ABA's Compliance Division and now head of her own firm, Compliance Management Services, Falls Church, Va.

Blackpipe State: $125,000

Blackpipe State Bank is a $18 million-assets bank based in Martin, S.D. Martin is bounded on three sides by Indian reservations. (For more detail, see Briefing, Jan., p. 6.)

Justice filed suit against the bank last November, originally accusing it of discriminating against American Indians in refusing to make loans when collateral was situated on the Pine Ridge and Rosebud reservations; requiring American Indians to meet credit requirements not required of whites; and delineating its CRA community so as to exclude the reservations.

Subsequent information supplied by FDIC, the bank's primary federal regulator, led to the additional charge that the bank assessed American Indians higher rates and fees than it charged whites.

In settling its case, the bank agreed to set up a $125,000 fund to compensate American Indians for the alleged bias. It also had to agree to advertise the existence of the fund to locate past rejected applicants who may qualify for compensation from it.

The bank also had to agree to:

1. Grant loans involving collateral situated on the reservations and evaluate applications for such loans in the same way it evaluates other loans. Loan policies must be revised to ensure this. The types of credit--mortgages, auto loans, and so forth--are not specified in the consent decree.

2. Reduce interest rates and finance charges on present loans to American Indians that are higher than for similar loans made to whites.

3. Expand its services to the reservations.

4. Market its products and services to people on the reservations through advertising, lending seminars, and meetings with representatives of the tribes. The bank must devise a marketing plan to accomplish this and submit it to Justice for review. The consent decree spells out certain newspapers and radio stations which must be included in the bank's advertising plans,

The decree even stipulates a minimum number of newspaper ads and radio spots that the bank must run annually promoting its willingness to lend to American Indians. Any advertising that includes human figures must represent American Indians as well as whites.

5. Offer loans guaranteed by the Bureau of Indian Affairs and the Federal Housing Administration, which may meet the needs of American Indian borrowers.

6. Revise its delineated CRA community, which previously excluded both reservations. The consent decree lists towns in both reservations that must be included.

7. Train its employees in fair-lending issues. Trained employees must attest to their training and understanding in writing.

8. Recruit American Indian employees. The Justice Department complaint had charged that the bank had only had one American Indian employee in its history.

As it turns out, Blackpipe is in the process of being acquired by another bank, which already makes secured loans on the Pine Ridge reservation and participates in government-guaranteed programs.

While some banks have found ways to lend on reservations without running afoul of the tribal court systems, attorney Robert Chamness notes that other banks have historically had trouble realizing their security interests. He suggests banks near reservations who aren't currently making loans there obtain specialized assistance quickly.