|A new direction for CRA (November 2010)|
A new direction for CRA? Clues to the future
Revisions look likely. Here are clues to the outcome
By Robert G. Rowe III
A new turning in the road is coming for the Community Reinvestment Act. Whether the federal regulatory agencies take the input they received at four hearings held this summer or whether Congress takes action on CRA, bankers can expect steps will be taken to update CRA.
When Congress adopted CRA in 1977, it was one in a series of statutes Congress adopted to help meet national credit needs. First came the Fair Housing Act of 1968 and the Equal Credit Opportunity Act of 1974, statutes designed to ensure fair treatment for individuals. Congress found that some lenders were making credit decisions based solely on geography, however, which was contributing to the decline of local neighborhoods.
The first step to address that problem came in the form of the Home Mortgage Disclosure Act (HMDA) in 1975. Taking things one step further, in 1977 Congress adopted CRA, which goes beyond housing, to all credit. Unlike the laws that ensure fair access to credit, the basic premise of CRA—which hasn’t changed in nearly 35 years—is to be sure that depository institutions affirmatively meet credit needs of local communities.
Since 1977, the world has changed. Banking holds a much smaller share of financial markets. The number of banks has decreased substantially. Banks can now operate across state lines. Credit unions have evolved, and can now operate with a community-based charter. Insurance companies now own banks and securities firms offer far more than investments. Technology has changed how we live and bank.
A much-amended rulebook
Let’s consider several significant changes along the way to today—each of which could be significant for where CRA goes.
Our first stop: 1993. Nobody was very happy with CRA. The general consensus: There was way too much emphasis on process and not enough on performance. As a result, in 1995, after an intense review the four federal banking agencies overhauled CRA regulations. They created a two-tier examination process intended to alleviate some of the burdens on smaller institutions, especially since community banks are integrally tied to their local communities. What’s most important about this step—and still relevant—is that the rule-writers recognized that not all banks are the same. Under the 1995 revisions, small banks would be tested on their lending performance.
Larger banks, more complex, would be evaluated on additional factors using a three-part test. Since CRA focuses on credit, the primary assessment would still be lending, but the agencies also decided that larger institutions should be rated on their investments in the local community and the services that they provide those communities. These grafts onto the original CRA are focal points for much discussion about CRA, especially the service element.
The service test was designed to assess bank outreach when providing credit. The question is, as we move forward, is it morphing into something that really is not CRA?
Two other significant elements were added in 1995.
The first was “performance context.” This important factor ensures that because CRA evaluations are qualitative, examiners should consider local conditions and market needs when evaluating whether a depository institution meets local needs.
The second was the concept of the strategic plan, which would let individual institutions—at their option—create their own performance criteria. The strategic plan option has not been widely used. Agencies are considering ways to breathe new life into it today.
Separately, in the late 1990s, the National Credit Union Administration (NCUA) took a brief step into the CRA realm with what many called “CRA-lite.” However, with a change at the helm of NCUA, the requirement was repealed before it took effect. This raises another question: If a credit union is community-based, should it not be subject to CRA elements as other community-based depositories?
CRA was gradually evolving from credit into community development. More and more individuals were investing in mutual funds—driving a decline in bank deposits.
In 2005, there was another major adjustment to the CRA rules. Recognizing the evolution of the industry, the agencies raised the small-bank threshold. Because community groups loudly objected, though, agencies added another tier to the mix for CRA evaluations and created the intermediate small bank. Like other small banks, this new category would be evaluated primarily on lending—but also measured on community development.
Taking a step in the right direction, as ABA believed, the agencies made two important changes to CRA at the same time. First, they specifically provided that efforts that would revitalize or stabilize distressed areas will be considered favorably. Second, they provided that efforts to support recovery in designated disaster areas would also be considered favorably. These changes go to CRA’s very heart.
Shakeup drives CRA review
Whether you think CRA has been successful in reaching new markets, three key factors have featured in the CRA evolution since 1977.
First, housing markets have gone through substantial turmoil. The two major government-sponsored enterprises, Fannie Mae and Freddie Mac, are still wards of the state. Foreclosures have reached historic levels. Many mortgages are underwater. Housing will be front-and-center in the new Congress.
Second, there has been a steady drumbeat suggesting that CRA ratings need to be “refined” to better reflect different levels of performance.
While CRA was not moved to the new Bureau of Consumer Financial Protection, the financial products and services that are the building blocks for CRA performance are likely to be changing as the new Bureau gets running.
Finally, there is the underlying question of safety and soundness. Significantly, studies found that institutions subject to CRA were less likely, or unlikely, to engage in lending that caused the problems.
New CRA coming?
So, multiple factors will be at play:
1. Who will be covered by CRA? Legislation will likely be introduced to expand CRA-like requirements to other financial service providers. To some extent, this builds on the models of states like Massachusetts that already require credit unions, insurance companies, and securities brokerages to meet CRA mandates. Since the current statute is built on a foundation of credit, the underpinning philosophy will have to be adjusted to account for business models not based on credit.
2. There is the question of geography. As technology has changed, it is easier for banks to reach customers outside the neighborhoods where they have branches. Online banking has been steadily increasing (see chart, p. 41). However, it’s important to remember that when the assessment area was last changed in 1995, it was based on the premise that an individual institution is best positioned to determine the markets it can reasonably be expected to serve. ABA believes that should not change. The goal should be to encourage institutions to reach out to the customers that it can serve, and serve well. If there are artificial constraints put on the markets that banks can serve, the simple solution—and not the intended consequence—is for banks to just say “no” to customers outside their market. Since the current assessment area was put in place in 1995, it has seldom been challenged. That suggests that it is working properly.
3. There is the question of ratings. Since qualitative analysis cannot be avoided with CRA, the idea of a finite or strictly graded set of evaluation factors or boxes for examiners to check fundamentally detracts from CRA performance. One-size-fits-all does not work for CRA. The law should not be limited to address the needs of the inner city. It should be sufficiently adaptable to meet the needs of the great variety of communities across the nation. The agencies clearly understood this when they stressed the performance context in the 1995 re-write. Anecdotal evidence suggests that the performance context has diminished over time—and re-invigorating it to what it was intended to serve would help.
In addition, CRA was never designed to be graded on a bell-curve, like a school essay. Instead, if CRA is working properly, all banks should strive for an “Outstanding.” And 100% of banks with an “Outstanding” rating would not be a bad thing. Too much stress on the ratings is the wrong way to go. It’s not the rating that should be our focus but the performance.
Equally important is avoiding a too-detailed system. The qualifications needed for favorable CRA consideration should not be so arcane that they become pointless. For example, recently agencies put in place final rules designed to encourage low-cost education loans for low-income individuals. However, the agencies acknowledged they might need to revisit the question if banks shy away from these loans because the hurdles are too high or too complicated. Across the board, the concept of community development should be any projects that help the community-at-large where a bank is chartered. Steering to particular activities that benefit a small number of communities is wrong.
To that end, we need to ensure that examiners are trained and hear the same message from headquarters.
More fundamental questions ahead
Three key questions will be on the table in coming months:
1. The role that affiliates play. Fundamentally, CRA is an assessment at the charter level. While it may be appropriate to evaluate an affiliate’s performance at the option of the institution, it would not be appropriate to automatically do so.
2. Community involvement in the process. Currently, individual CRA performance ratings are available through public documents, and there are regular invitations from agencies to comment. Nothing suggests that the current level of public involvement is insufficient; there is no need to expand it.
3. Illegal discrimination—plain wrong—will be examined. A lender not playing fair is not going to do well in meeting local needs—period. Still, CRA is meant to provide equal access to credit. It was adopted as a supplement to other statutes designed to combat discrimination. Overloading CRA beyond its initial purpose only dilutes it.
The electronic version of this article available at: http://www.nxtbook.com/nxtbooks/sb/ababj1110/index.php?startid=36
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