Tips for Enhancing Effectiveness of Fair Lending File Reviews

While sophisticated statistical methods like regression analysis are pivotal in fair lending risk assessment, thorough physical file reviews remain a critical component of a robust fair lending compliance program. To maximize the effectiveness of your fair lending file reviews and ensure they contribute meaningfully to risk mitigation and regulatory expectations, consider the following key strategies:

1. Risk Trumps Random: Focus Your Review Where It Matters Most
   • While random sampling can provide a general overview, a risk-based approach to file review yields more insightful results. Fair lending examinations themselves are risk-based, focusing on areas where potential violations are most likely. Examiners assess "inherent risk" to determine the scope of their review.
     
     
   • Similarly, your internal file reviews should target specific loan products, lending channels, or policy areas identified as having higher inherent fair lending risks. These risks can arise from factors such as the introduction of new products, significant portfolio growth, the use of third parties, areas where loan officer discretion is involved (like underwriting and pricing), or marketing efforts.
     
     
   • Furthermore, within these higher-risk areas, focus on individual files that present characteristics of marginal transactions – those where the applicant was neither clearly qualified nor unqualified. Fair lending disparities, including differences in the assistance provided during the approval process, are more likely to surface in these "gray areas". Examiners also specifically analyze denied applications and compare them to marginal approvals. By mirroring this approach, your internal reviews can proactively identify potential issues.
     
     
2. Dual Credit Is the Goal: Assessing Risk and Meeting Regulatory Expectations
   • An effective fair lending file review serves two crucial purposes: it helps your institution assess and mitigate fair lending risk, and it provides assurance to regulators that your compliance program is robust. To achieve this "dual credit," it's essential to align your review processes with regulatory guidance.
     
     
   • The Interagency Fair Lending Examination Procedures and the accompanying Appendix provide comprehensive information on scoping, identifying focal points, determining appropriate sample sizes, and conducting transactional analyses. Familiarizing yourself with these documents will ensure your review methodology aligns with regulatory expectations. Examiners themselves use these procedures as a basic framework, adapting them to their agency's priorities and examination philosophy.
     
     
   • Your review should be designed to identify potential overt discrimination, disparate treatment (in underwriting, pricing, steering, and marketing), and even indicators of potential disparate impact. By systematically examining files for these indicators, you can proactively address potential weaknesses and demonstrate a commitment to fair lending compliance. Furthermore, documenting your review process and findings clearly is crucial for both internal risk management and regulatory scrutiny.

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2. Tenacity is Key: Dig Deep and Verify Everything
   • A superficial file review is unlikely to uncover meaningful insights. Persistence in examining file details and a commitment to verification are essential. If any information within a file is unclear or raises questions, don't hesitate to seek thorough explanations. This may involve asking probing questions of relevant personnel to understand the rationale behind specific decisions or actions (and always insist they document!).
     
     
   • Never take information at face value; always verify statements about loan and customer attributes. For instance, if a file notes a "clean credit history," cross-reference this with the actual credit report. Similarly, verify the accuracy of income documentation, appraisal reports, and other critical data points such as existing bank relationships. Bear in mind examiners are instructed to verify the accuracy of data, such as HMDA/LAR data, before conducting their analysis.
     
     
   • Uncovering discrepancies or inconsistencies can reveal potential oversights or even unintended patterns of behavior that may pose fair lending risks. By being tenacious in your review and verification efforts, you can identify these issues early and recommend implementation of corrective measures.
     
     
3. Come Away with Conclusions & Policy Recommendations: Drive Improvement
   • Resist the temptation to shy away from drawing conclusions from your file reviews, even when a degree of subjectivity is involved. The ultimate goal of the review is not just to identify potential issues but to inform actionable steps for risk reduction.
     
     
   • Your review should culminate in clear and well-supported conclusions regarding the level of fair lending risk identified within the reviewed sample. Furthermore, it should generate specific and practical recommendations for how the bank can enhance its policies, procedures, training, or monitoring activities to mitigate these risks. These recommendations might address areas such as clarifying underwriting guidelines, improving documentation practices, enhancing oversight of loan officer discretion, or refining marketing strategies. And lastly, be sure to DOCUMENT your findings.

By proactively developing and implementing policy recommendations based on your file review findings, you contribute directly to strengthening your institution's overall fair lending compliance management system. This demonstrates a commitment to continuous improvement and a proactive approach to preventing discriminatory practices, and in the long run will enhance your institution’s viability.