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Will “disparate impact” fair-lending theory survive Supreme Court?

Court hears arguments in early December

The controversial application of “disparate impact” theory to fair-lending cases comes up for review at the nation’s highest court. Bankers will watch this case closely, and ABA has already filed a “friend of the court” brief with other groups. The controversial application of “disparate impact” theory to fair-lending cases comes up for review at the nation’s highest court. Bankers will watch this case closely, and ABA has already filed a “friend of the court” brief with other groups.

Editor's Update: In early November there were reports that the case described in this article had settled prior to the Supreme Court hearing the arguments.

On September 23, 2013, the Consumer Financial Protection Bureau published the Home Mortgage Disclosure Act data for 2012, and strongly indicated its intent to use HMDA statistics in bringing fair-lending actions against banks and other financial institutions. Given the current regulatory environment in which high-dollar Department of Justice settlements have become relatively commonplace, together with the CFPB’s self-expressed internal performance goals of identifying and prosecuting lending discrimination, banks have a renewed basis for concern.

Earlier this year, HUD formally published its rule implementing “disparate impact” (as opposed to “disparate treatment”) as the standard for finding illegal discrimination under the Fair Housing Act (FHA).

The difference between “disparate impact” and “disparate treatment” is significant, and the failure to appreciate just how different can be fatal if an organization is caught unawares.

• Under the “disparate treatment” approach, the prosecution must prove that the bank acted with intent to discriminate. In other words, a bank must actually do something or take some action that is discriminatory.

• In contrast, if the “disparate impact” test is applied, the prosecution is relieved from having to prove that the defendant bank did anything intentionally discriminatory.

Under this rule, the prosecution must only show that there was a discriminatory effect based on a prohibited ground. In the words HUD Secretary Shaun Donovan: “As we’ve learned over the years, housing discrimination comes in many forms. Discrimination doesn’t have to be intentional in order to have a damaging effect.” [Emphasis added.]

Ostensibly, HUD’s new rule makes it easier to prosecute lending practices that have a disparate impact, even if the practice is neutral on its face and void of bias or prejudice.

In reality, while the new rule was only recently made “official,” it articulates a standard that has been in place for over 40 years. All of the 11 federal circuit appellate courts have previously addressed the fair-lending and fair-housing laws and have concluded that Congress intended for these laws to prohibit practices that result in disparate impact whether or not there is any finding of intentional discrimination.

But that’s not the whole picture …

Enter the Supreme Court

“Not so fast,” said the U.S. Supreme Court, in June of this year when certiorari was granted in Mount Holly v. Mount Holly Gardens Citizens in Action, Inc., the case that has the potential to reverse the disparate impact standard in fair-lending cases.

Typically, the Supreme Court avoids hearing cases where there is no division of opinion among the federal circuits. Mount Holly is somewhat of an anomaly, leaving enforcement officials shaking their heads.

As it happens, Mount Holly is actually the second disparate impact case undertaken recently by the Supreme Court. The question would have been decided last year had the City of St. Paul not settled the Magner v. Gallagher case some three weeks before it was set to be argued. Mount Holly is currently scheduled to be heard on Dec. 4, 2013. [Editor’s note: The Magner case achieved notoriety due to the intercession of Administration officials. Also, ABA filed a “friend of the court” brief in this case in conjunction with several other business organizations. And a leading law firm produced a white paper for ABA attacking the disparate impact theory.]

Before Magner v. Gallagher became moot, it was widely speculated that the Supreme Court would strike down the disparate impact standard. Why the controversy? Unlike other anti-discrimination laws, such as employment laws, neither the Fair Housing Act nor the Equal Credit Opportunity Act explicitly covers disparate impact. The FHA prohibits discriminatory actions, but it does not prohibit discriminatory effects. And therein lies the problem.

Will the Supreme Court defer to the HUD regulation? Will the Court find that disparate impact goes beyond the plain wording of the statute? Will the Mount Holly case settle before December 4?

Handicapping the odds

The federal government clearly has much invested in the concept of disparate impact and much to lose should a Supreme Court decision come down. Of the Court’s nine Justices,  four, Roberts, Thomas, Scalia, and Alito are widely viewed as conservative, and four others, Kagan, Sotomayor, Breyer, and Ginsburg, are widely viewed as liberal. Justice Kennedy is often viewed as the swing vote.

So the question may well become “What would Justice Kennedy do?”

Appointed by President Reagan, how Justice Kennedy would vote is not easily predictable. More often than not, he votes with the conservative members of the Court and he has been labeled a “strict constructionist” vis a vis statutory interpretation. He and the other conservative justices are also proponents of regulatory deference.

However, Justice Kennedy is a far cry from Justice Scalia. The latter Justice once stated that he was open to an argument that disparate impact in any arena violated the equal protection clause of the Constitution. Court watchers have labeled Justice Kennedy a “libertarian”—but not a liberal.

A look at prior decisions written by Justice Kennedy leads one to believe that he is no fan of the disparate impact standard. In a previous employment law decision, he wrote that a finding of illegal disparate treatment is only proper when an employer has strong evidence that a facially neutral practice with a disparate impact on a protected class is not job-related and consistent with business necessity or if the employer rejected an equally valid, less discriminatory alternative.

Taken in the context of Supreme Court precedence, it is clear that the decision to hear the Mount Holly case was not good news to regulatory agencies charged with enforcing the FHA and ECOA.

A decision in Mount Holly could settle the issue, and even the fair-lending playing field between the regulators and banks. From this writer’s perspective, the odds-on favorite is a timely settlement, preserving the disparate impact status quo.

Mary Neil Price

Mary Neil Price, a member of  the Dickinson Wright PLLC law firm, serves as counsel for mergers and acquisitions of publicly traded banks and bank holding companies. She has experience with regulatory compliance, TARP capital purchase program transactions, formation and capitalization of financial businesses, securities compliance and investor relations, risk management, and more. In addition, Price has supervised legal and compliance departments of a NYSE multi-bank holding company.

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