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FEDERA L RESERVE B A N K O F D A LL A S
DALLAS. TEXAS

75222
Circular No. 80-168
September 8, 1980

REGULATION B - EQUAL CREDIT OPPORTUNITY
Proposed Interpretations
TO ALL BANKS, OTHER CREDITORS,
AND OTHERS CONCERNED IN THE
ELEVENTH FEDERAL RESERVE DISTRICT:
The Board of Governors of the Federal Reserve System has proposed
for public comment two interpretations of Regulation B, which implements the
Equal Credit Opportunity Act. Comment is requested by October 20, 1980.
The first proposed interpretation sets out three basic principles which
are to govern the consideration of a credit applicant's income under Regulation
B and discusses the meaning of the regulatory requirement that a creditor not
discount or exclude from consideration an applicant's income because it derives
from alimony, child support, separate maintenance, part-tim e employment,
retirem ent benefits or public assistance.
The second proposed interpretation deals with a creditor's manner of
selecting and disclosing the reason or reasons for adverse action on a request for
credit. The Board has proposed general principles to be followed in the selection
and disclosure of reasons for adverse action.
The Board has in the case of each proposed interpretation, provided
illustrations of their application and asks for comment whether the illustrative
material is helpful, or whether it adds undesirable complexity to the inter­
pretations.
Although the two interpretations are in response to questions which
have arisen in the application of Regulation B to credit scoring systems, the
Board notes that the basic principles as set forth in the proposed interpretations
are to apply to judgmental systems as well.
Printed on the following pages is the Federal Reserve press release
and material submitted for publication in the Federal Register summarizing the
proposed interpretations. Questions regarding Regulation B and this circular
should be directed to the Consumer Affairs Section of our Bank Supervision and
Regulations Department, Ext. 6171.
Sincerely yours,
Robert H. Boykin
First Vice President

Banks and others are encouraged to use the following incoming W A TS numbers in contacting this Bank:
1-800-442-7140 (intrastate) and 1-800-527-9200 (interstate). For calls placed locally, please use 651 plus the
extension referred to above.

This publication was digitized and made available by the Federal Reserve Bank of Dallas' Historical Library (FedHistory@dal.frb.org)

FEDERALRESERVEpressrelease
For immediate release

August 21, 1980

The Federal Reserve Board today proposed for comment two
interpretations of its Regulation B -- Equal Credit Opportunity -- concerning
consideration of income and disclosure of reasons for adverse action.
The Board asked for comment by October 20, 1980.
The first proposed interpretation deals with the meaning of the
requirement in Regulation B that a creditor not discount or exclude from
consideration an applicant's income because it derives from alimony, child
support, separate maintenance, part-time employment, retirement benefits
or public assistance.
The second proposed interpretation addresses the question of how a
creditor should select and disclose the principal reason or reasons for an
adverse action on a request for extension of credit.
Although the questions raised -- in answer to an earlier request
for comment by the Board -- were in the context of credit scoring, the Board
emphasized that the provisions of Regulation B generally apply equally to
all forms of analysis by creditors of the creditworthiness of consumers,
\»
whether the analysis is carried out judgmentally or through the use of credit
scoring systems. The principles proposed would therefore apply equally to
the use of judgmental analysis and the use of credit scoring systems.
1.

Consideration of income

The Board proposed three basic principles as governing consideration
of income under Regulation B:
a.

If income is considered at all in a credit evaluation system,
the creditor must treat income derived from alimony, child
support, separate maintenance, part-time employment,
retirement benefits or public assistance at least as favorably
as other income.

-2 -

b.

Where consideration of these "protected" incomes
would have no effect on the credit decision, the
creditor need not consider them.

c.

A creditor may consider, on a case-by-case basis,
the likelihood that income of any kind will be
received consistently and in a timely manner
during the term of the credit extension.

The Board proposed that creditors following these rules in good
faith would be considered in compliance with the requirements of Regulation B
concerning consideration of income.
The Board followed the proposal of these basic principals with
several illustrations of their application.

The Board asked for comment

whether the illustrative material is needed and helpful, or whether it adds
undesirable complexity to the interpretation.
These illustrations concern the equal treatment of protected income,
what income is to be considered in making credit decisions and the evaluation
of the reliability of income.
2.

Selection and disclosure of reasons for
adverse action on a request for credit

The Board noted that here, as well as in the consideration of
income, although the questions prompting the proposed interpretation have
arisen in the context of credit scoring, it is the Board's view that the
principles proposed apply equally to credit decisions based on credit scoring
or judgmental systems of evaluation of an applicant's creditworthiness.
The Board proposed the following general principles with respect to
the selection and disclosure of reasons for adverse action:
a.

Regulation B (SectionP202.9(a) (2) and (b)(2))
requiresdisclosure of factors actually scored or
reviewed by the creditor. No factors may be
arbitrarily excluded from the pool of factors for
adverse action subject to disclosure.

-3b.

The optimal disclosure for either a judgmental
or numerical system would identify the minimum
adjustments an applicant would have to make to
qualify for credit. Such disclosure, however, may
be beyond the capabilities of many creditors.
Other than the optimal disclosure there is no one
best method for selecting reasons for adverse
action, nor any absolute number of factors that
should be disclosed.

c.

Whatever method of selecting reasons for adverse
actions is used, the same selection method must
be used for all applications assessed under the
same evaluation procedures and standards of
creditworthiness (although the credit may change
the method from time to time).

The Board provided several proposed illustrations of the application
of these

principles

and here also asked forcomment whether the inclusion of

the illustrations would be helpful or whether they add unnecessary complexity
to the proposed interpretation.
The illustrations concerned disclosure
action is automatic,

of reasons where adverse

relationship of reasons for adverse action to factors

in the applicant's record and selection of reasons for adverse action.
The proposed interpretation also
formin Regulation

B (Section 202.9(b)(2))

addresses the use of the sample
to disclose reasons for adverse

action when the factors considered in making the decision do not correspond
exactly to the reasons stated in the sample form.

In such instances, the

Board said, the sample form would have to be modified.
The proposed interpretations, including proposed illustrative
material, are attached.

# # # # # # # # # # # # #

Proposed Rule
FEDERAL RESERVE SYSTEM
12 CFR Part 202
[Reg. B; Docket No. R-0203]
Equal Credit Opportunity;
Proposed Board Interpretations;
Consideration of Income; Disclosure of
Reasons for Adverse Action.

AGENCY:

Board of Governors of the Federal Reserve System.

ACTION:

Proposed Board interpretations.

SUMMARY: The Board is proposing for public comment two interpretations of
its Regulation B, which implements the Equal Credit Opportunity Act. The
first proposed interpretation discusses the meaning of the regulatory require­
ment that a creditor not "discount or exclude from consideration" an applicant's
income because it derives from alimony, child support, separate maintenance,
part-time employment, retirement benefits, or public assistance. The second
proposed interpretation addresses the issue of how a creditor should select
and disclose the principal reason or reasons for an adverse credit decision.
These interpretations derive from questions that have been raised about the
application of Regulation B to credit scoring systems, but the basic principles
apply as well to judgmental systems.
DATE:

Comments must be received on or before October 20, 1980.

ADDRESS:
Comments (which should refer to Docket No. R-0203) may be mailed
to the Secretary, Board of Governors of the Federal Reserve System, Washington.
D.C. 20551, or may be delivered to Room B-2223 in the Board Building, 20th
Street and Constitution Avenue, N.W., Washington, D.C., between 8:45 a.m.
and 5:15 p.m. on business days.
Comments may be reviewed in Room B-1122 of
the Board Building during those same hours.

FOR FURTHER INFORMATION CONTACT
Stanley D. Mabbitt, Attorney, Division of
Consumer and Community Affairs, Board of Governors of the Federal Reserve
System, Washington, D.C. 20551 (202-452-3867).

-

2

-

SUPPLEMENTARY INFORMATION: Last year the Board received several requests
for clarification of how certain provisions of its Regulation B apply to the
operation of numerical credit scoring systems. _*/ In response to these
requests, the Board asked for public comment (44 Federal Register 23865,
April 23, 1979) on four questions about Regulation B's application to credit
scoring systems:
* May a credit scoring system score the fact that an applicant
has more than one job or multiple sources of income, and may it score secon­
dary income differently from primary income?
* How must a scoring system consider the amount of an applicant's
income derived from part-time employment, pension, or alimony?
* How must a creditor using a scoring system select the specific
reasons for adverse action?
* Under what circumstances may a creditor employing a credit
scoring system use the reasons for adverse action contained in Regulation B's
model statement?
The Board received nearly 300 written comments from members of the
Congress, federal and state agencies, industry, and academics. The comments
expressed a wide diversity of views about how Regulation B's rules should
apply to credit scoring systems. Generally, creditors (retailers, oil com­
panies, banks, and trade associations) claimed that a properly designed
credit scoring system is an accurate, objective mechanism for determining
creditworthiness.
In order to preserve the empirical and statistical char­
acter of such a system, they suggested that a creditor be allowed wide lati­
tude to include in or exclude from a particular system the amount and sources
of an applicant's income depending on whether those factors were related in a
statistically significant way to creditworthiness as established by the
creditor developing the system. They also advocated that wide latitude be
given to determining the most appropriate way for selecting and disclosing
the principal reason or reasons for an adverse credit decision.
Consumer commenters (including several members of the Congress and
a number of individual consumers) generally were concerned that the Board
not reduce or eliminate what they perceived as the basic protections already
afforded by the law. Thus, they were opposed to allowing creditors the degree
of flexibility sought by the industry because of the concern that that flexi­
bility might be used to mask illegally discriminatory practices.

V

Basically, credit scoring is the use of statistical techniques to assign
points or weights to various applicant characteristics (e.g. income, credit
history) or other factors relevant to the transaction (e.g. type of security)
in order to predict the likelihood that the applicant will satisfactorily
repay the credit.
In Regulation B, an empirically and statistically derived
credit scoring system is contrasted with the judgmental evaluation performed
by a credit officer or committee; compare the definition of "a demonstrably
and statistically sound, empirically derived credit system" in § 202 .2 (p)
with the definition of "judgmental system of evaluating applicants" in
S 202 .2 (t).

-

3 -

The multiplicity of viewpoints, lack of consensus, and underlying
technical complexity of the questions raised in the comment process led to
a thorough reconsideration of the issues and the policy options available.
Based upon that review, the Board has decided to issue for public comment two
proposed interpretations.
Both proposed interpretations affirm the Board's
conclusion, based upon an analysis of the comments and the Equal Credit
Opportunity Act, that the rules in Regulation B generally apply uniformly to
all creditors, whether evaluating creditworthiness judgmentally or through a
credit scoring system.
The first proposal (interpretation § 202.601) addresses several
issues concerning consideration of income and income reliability. Three
general principles are stated at the outset in the proposed interpretation,
and the proposal then elaborates on how those principles apply in several
different factual situations where guidance was sought from the Board.
In
issuing the interpretation for comment, the Board is particularly interested
in knowing whether the explanation of how the basic principles apply in dif­
ferent contexts is needed to provide the necessary guidance, or whether the
specificity adds an undesirable degree of complexity or is otherwise unnec­
essary.
The second proposal (interpretation § 202.901) sets forth several
principles governing the selection and disclosure of reasons for adverse action.
The proposal then explains how those principles are applied. Again, the Board
invites comment on whether the additional explanatory material in the proposal
is desirable.
In addition to the interpretation in the second proposal, the
Board is considering the desirability of encouraging or requiring creditors
to indicate to the applicant the type of credit evaluation system used— whether
judgmental or credit scoring— and to describe briefly the method of selecting
the principal reason or reasons for adverse action. These explanations might
further the congressional purpose of educating consumers about why they were
denied credit and how they might improve their creditworthiness. On the
other hand, requiring or even encouraging these additional disclosures,
however brief, would increase compliance costs and burdens.
Therefore the
Board specifically asks for comment on the merits of these possible disclosures.
For these reasons and under the authority granted in § 703(a) of the
Equal Credit Opportunity Act (15 U.S.C. 1691(a)), the Board issues for public
comment the following two proposed interpretations of Regulation B (12 C.F.R.
Part 202):

- 4 -

§ 202.601 Consideration of income.
(a) Introduction. Questions have arisen about the rules in
Regulation B governing consideration of income— particularly as those
rules apply to the operation of a credit scoring system.JV In resolving
those issues, the Board wishes to make clear that the provisions of Regu­
lation B generally apply equally to all forms of credit analysis— whether
performed judgmentally or through the use of a credit scoring system.^/
(b) Basic principles. There are three basic principles that
govern consideration of income under Regulation B. First, the regulation
does not require consideration of income by a credit evaluation system.
But, if income is considered at all by a credit system, a creditor must
treat income relied upon by an applicant that is derived from alimony, child
support, separate maintenance, part-time employment retirement benefits,
or public assistance at least as favorably as income from any other source .£/
Second, where consideration of protected income would have no effect on the
credit decision, the creditor is not required to consider it. Third, a cred­
itor may consider, evaluating the circumstances of each case, the likelihood
that any income relied upon— regardless of its source— will be received con­
sistently and in a timely manner during the term of the credit extension.
If a creditor follows these principles in good faith, it will be acting in
compliance with the income consideration rules in Regulation B. The remainder
of this interpretation explains how these principles apply in different
contexts.

1
J

Section 202.6(b)(5) states in relevant part:
A creditor shall not discount or exclude from considera­
tion the income of an applicant or the spouse of the applicant
because of a prohibited basis or because the income is derived
from part-time employment, or from an annuity, pension, or other
retirement benefit but a creditor may consider the amount and
probable continuance of any income in evaluating an applicant's
creditworthiness. Where an applicant relies on alimony, child
support, or separate maintenance payments in applying for credit,
a creditor shall consider such payments as income to the extent
that they are likely to be consistently made.
Factors that a
creditor may consider in determining the likelihood of consis­
tent payments include, but are not limited to, whether the pay­
ments are received pursuant to a written agreement or court
decree; the length of time that the payments have been received;
the regularity of receipt; the availability of procedures to compel
payment; and the creditworthiness of the payor . . . .

2/

The only differences in evaluation procedures for the two methods of
judging creditworthiness that are sanctioned by the law relate to con­
sideration of age and receipt of public assistance (see § 202 .6 (b)(2 )(ii)
and (iii)) .

3/

For the purpose of this interpretation, income derived from any source
mentioned in § 202.6(b)(5)— alimony, child support, separate maintenance,
part-time employment, retirement benefits, or public assistance— is
referred to as "protected income."

- 5 -

Paragraphs (c)-(e) - Illustration of the Application of General Principles
(c) Equal treatment of protected income. (1) As long as protected
income is treated at least as favorably as the amount of income from any
other source, a creditor using a credit scoring system may comply with the
income consideration rule of Regulation B (i) by scoring the amount of any
protected income as one or more characteristics in the system, (ii) by
adding it to the amount of other income scored, or (iii) by judgmentally
considering it outside of the system. A credit scoring system will not be
deprived of its status as a demonstrably and statistically sound, empirically
derived credit system because it aggregates protected income, which by itself
would not be selected as a predictive characteristic, with other income
Similarly, the fact that a creditor using a credit scoring system might
consider protected income outside the system would not change the status
of the system for Regulation B purposes.
(2) Generally, a creditor may consider the nature and number of
any income sources, as long as protected income is treated at least as
favorably as income from other sources * / A creditor may consider,
*
for example, that an applicant has two sources of income— employment and
investments— and may consider what those sources are.
If the applicant
also relies upon alimony and retirement payments, the creditor could not
consider the alimony and retirement income less favorably than the employ­
ment or investment income because of the type of income or the number of
sources.
Similarly, a creditor could not consider employment income less
favorably than other income because it was derived from several part-time
jobs.
(d) Consideration of protected income. (1) The rule prohibiting
the discounting or exclusion of protected income does not require consider­
ation of that income where its consideration would have no effect on the
credit decision. Thus, if a creditor would approve an application without
considering any income at all, it would not have to consider protected income.
If income is considered but the amount of protected income is not needed for
approval, the protected income need not be considered. Also, if a portion
of any protected income would be sufficient to support approval, then any
portion or type of that income not needed for approval would not have to
be considered.
In each case, the creditor's practice would be permissible
because no adverse action would have been taken.
(2)
Similarly, if a creditor would take adverse action without
considering income at all, then the creditor need not consider the applicant's
income regardless of its source because consideration of income would not
change the result. For example, a creditor might reject an application
because of the applicant's credit history, notwithstanding the amount or
sources of the applicant's income.

4/

Under S 202.6(b)(1) a creditor may never consider that income is derived
from public assistance unless, in a judgmental evaluation, it is con­
sidered under S 202 .6 (b)(2 )Ciii) for the purpose of determining a
pertinent element of creditworthiness.

- 6

-

(3)
If, on the other hand, a creditor considers any portion of
the income relied upon in an application, it would have to consider any
protected income relied upon before it could take adverse action. For example,
if an applicant's employment income were not sufficient to repay the credit,
the creditor would have to consider, at least as favorably as the applicant's
employment income, any alimony, retirement, or public assistance income re­
lied upon by the applicant. In addition, the creditor may not discourage
the applicant from disclosing the existence of protected income if the
applicant chooses to rely on that income.
(e) Considering reliability of income. A creditor may consider
the likelihood that any income relied upon— regardless of its source— will
be received consistently and in a timely manner during the term of the
credit extension. In considering the reliability of any protected income,
a creditor must make its evaluation on an individual basis, taking into
account the circumstances of each case.
(f) Prospective effect. This interpretation shall have prospective
effect only after being promulgated in final form

- 7 -

§ 202.901 Disclosure of reasons for adverse action.

(a) Introduction. The Board has been asked for an interpreta­
tion of § 202.9 of Regulation B regarding the selection and disclosure of
the reasons for adverse action where a credit scoring system is used alone
or in conjunction with a judgmental evaluation .JV Although the issue has
arisen in the context of credit scoring, the Board wishes to make clear that,
as a general principle, the provisions of Regulation B apply equally to both
judgmental and credit scoring systems of credit evaluation.
(b) Basic principles. The reasons for adverse action disclosed under
§§202.9(a)(2) and (b)(2) must relate to those factors actually scored or re­
viewed by the creditor, and no factor or factors may be arbitrarily excluded
from the pool of factors subject to disclosure. While the optimal disclosure
for either a judgmental or numerical system would identify the minimum adjust­
ments that the applicant would have to make in order to be approved for credit,
that disclosure may be beyond the capability of many credit scoring and judg­
mental systems. Moving away from the optimal disclosure, there is no one best
method for selecting the reason for the adverse decision, nor is there an
absolute number of reasons that should be disclosed. Whatever method of selec­
tion is used, the creditor must use the same selection method for all applica­
tions that are evaluated under the same credit evaluation procedures and stan­
dards of creditworthiness, although the creditor may change the method from
time to time.

1/ Section 202.9(a)(2) states in relevant part:
Any notification given to an applicant against
whom adverse action is taken shall be in writing
and shall contain...a statement of specific reasons
for the action taken.
Section 202.9(b)(2) states in relevant part:
A statement of reasons for adverse action shall
be sufficient if it is specific and indicates
the principal reason(s) for the adverse action.
A creditor may formulate its own statement of
reasons in checklist or letter form or may use
all or a portion of the sample form printed
[in this subsection], which, if properly completed,
satisfies the requirements of subsection (a)(2)(i).
Statements that the adverse action was based
on the creditor's internal standards or policies
or that the applicant failed to achieve the
qualifying score on the creditor's credit
scoring system are insufficient.

- 8 Paragraphs (c)-(e) - Illustrations of the Application of General Principles
(c) Disclosure of reasons where adverse action is automatic.
Many credit systems contain features that call for automatic adverse action
on an application because one or more factors in the applicant's record are so
adverse that they cannot be offset by other factors. Examples of automatic
adverse action factors might be the applicant's previous declaration of
bankruptcy or the fact that the applicant is a minor. When an application is
declined because of an automatic adverse action factor, the creditor must dis­
close the specific factor or factors that resulted in the adverse decision.
(d)
Relationship of reasons for adverse action to factors in the
applicant's record. (1) If an application is not automatically declined but is
evaluated and rejected, the question arises as to what information from the
applicant's record must be included in the pool from which the reason for the
adverse decision is selected. Generally, the reason for the adverse decision
must relate to the factors actually scored or evaluated by the creditor, and
no factors may be arbitrarily excluded from the pool.
(2) Thus, in a judgmental system, the reason disclosed must relate
to the factors in the applicant's record actually reviewed by the person or
persons making the decision. If the creditor's policies or procedures limit
the specific factors considered, only those specific factors should be included
in the pool. If the creditor's decision is based exclusively on a credit
scoring system, the reason disclosed must relate to only those factors actually
scored or weighted in the system. The reason may not relate to factors not
processed by the credit scoring system. If the credit evaluation system employs
both judgmental and credit scoring elements, the factors to which the reason
must relate will be determined by whether the adverse action resulted from the
judgmental or numerical assessment of the application. Thus, if the creditor
scores an application in the initial stage of evaluation and the application
is rejected, the reason for adverse action must relate to only those factors
scored or weighted in the system. If the application is approved in the initial
credit scoring stage and is then considered judgmentally and rejected, the
reason disclosed must relate to the factors judgmentally reviewed in the appli­
cant's record.
(e)
Selecting the reason for the adverse decision. (1) The question
arises as to how the reason for adverse action should be selected. In many
circumstances, whether the creditor uses a judgmental or credit scoring system,
an adverse decision results because the combination of factors being considered
indicates that extending credit would be too risky or not sufficiently profit­
able given current economic conditions. Because it is the combination of
factors, when considered together, that led to the adverse action, it is often
difficult and perhaps impossible to infer that any single factor "caused" the
creditor to take the adverse action.
(2)
The optimal disclosure for either a judgmental or numerical
system would identify the minimum adjustments that the applicant would have to
make in order to be approved for credit. It would also include full considera­
tion of all interactions among factors that might follow from any change in an
applicant's characteristics. While the optimal disclosure may be beyond the

-

9 -

capability of many credit scoring and judgmental systems, it is the goal that
creditors should attempt to achieve in developing specific disclosure policies
and procedures.
(3) Moving away from the optimal disclosure, there is no one best
method for selecting the reason for the adverse decision, nor is there an
absolute number of reasons that should be disclosed. Whatever method of selec­
tion is used, the creditor must use the same selection method for all applica­
tions that are evaluated under the same credit evaluation procedures and stand­
ards of creditworthiness, although the creditor may change the method from
time to time.
(4) One acceptable method of selecting the factors would be to
select the factor, holding all others constant, that would require the smal­
lest degree of change (in terms of its contribution to the overall assessment
of the application) in order for the applicant's request to be approved. The
creditor would advise the applicant of the type of change required, though not
necessarily the degree. Specifically, in a credit scoring system, the creditor
would select the factor requiring the smallest degree of change that would
enable the applicant to achieve the minimally acceptable score. No specific
number of factors need be selected; but, if more than one are selected and
disclosed, they should be listed in ascending order, beginning with the factor
that requires the least amount of change. The creditor should also advise the
consumer that, if the factor were changed sufficiently and no other aspects of
the applicant's profile relevant to the credit decision changed, the applicant
would meet the creditor's minimum standards for credit or for further process­
ing of the application (e.g. a credit history check). The implicit assumption
underlying this method is that the factors requiring the least amount of change
are more mutable and, therefore, easier for the applicant to modify than factors
requiring a greater amount of change.
(f)
Use of sample disclosure form. Finally, the question arises as
to the extent to which creditors may use the sample form in § 202.9(b)(2)
to disclose the reasons for an adverse decision when the factors considered
do not correspond exactly to the checklist of reasons on the sample form. If
the sample notice does not clearly and accurately state the reason for the
adverse decision with sufficient specificity, it must be modified. For example
in a system that scores the number of credit references from banks, an applicant
with references from department stores, finance companies, and thrift institu­
tions receives no points for them. Checking "insufficient credit references"
on the adverse action notice is not specific enough. Disclosing "no bank
references" would suffice. Thus, if the sample notice does not provide a clear
and accurate statement of the reason or reasons for the adverse decision, its
use by a creditor does not comply with the regulation.
(g)
Prospective effect. This interpretation shall have prospective
effect only after being promulgated in final form.
*

By o r d e r

*

of

th e

Board

of

*

G overnors,

August

20,

1980

(signed) Theodore E. Allison
Theodore E. Allison
Secretary of the Board
[SEAL]