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FEDERAL RESERVE BANK
OF NEW YORK
[
Circular No. 9388
October 26, 1982
]
EQUAL CREDIT OPPORTUNITY
Final Interpretations and Withdrawal of Proposed Amendments to Regulation B
To All Depository Institutions, and Others Concerned,
in the Second Federal Reserve District:
The follow ing is quoted from the text o f a statement issued by the Board o f Governors o f the
Federal Reserve System:
The Federal Reserve Board has adopted in final form two proposed interpretations of Regulation B
— Equal Credit Opportunity — and withdrew three proposed amendments to the regulation. The
interpretations will become effective April 1, 1983.
The first of the interpretations discusses the use by creditors of judgmental and credit scoring
systems in the treatment of income from alimony, child support, separate maintenance, part-time
employment, retirement benefits or public assistance. The regulation requires that creditors not discount
or exclude such income from consideration.
The second interpretation concerns the selection and disclosure of principal reasons for adverse
actions on applications for credit.
The Board at the same time withdrew, effective October 15, the proposed amendments to the
business credit provisions of Regulation B. The Board proposed last June to withdraw these amend
ments, which were first proposed in 1978. The amendments would have affected only the mechanical
requirements of the regulation and their withdrawal does not affect the substantive provisions of the
regulation prohibiting discrimination in any aspect of a business credit transaction on the basis of sex,
marital status, race and like provisions. The Board said that the costs and burdens associated with the
proposed amendments outweighed their possible benefits, which the Board judged to be slight in view of
the basic requirements of the regulation.
The Board acted after consideration of comment received on its proposals regarding the interpreta
tions and amendments.
Enclosed is a copy o f the text o f the interpretations o f Regulation B , effective April 1, 1983.
The text o f the Board’s N otice withdrawing its proposed am endm ents to the business credit
provisions o f Regulation B, a summary o f which is printed on the reverse side o f this circular, has
been published in the F ederal R egister o f October 15, 1982; a copy o f the full text o f that N otice will
be furnished upon request directed to the Circulars D ivision o f this Bank.
Questions regarding these matters may be directed to our Consumer Affairs and Bank
Regulations Department (Tel. No. 212-791-5914).
A
nthony
M.
Solom on ,
P resident.
(OVER)
Federal Reserve System
12 CFR Part 202
[Reg B; Docket No. R-0185]
EQUAL CREDIT OPPORTUNITY
Withdrawal of Proposed Amendments
AGENCY:
Board of Governors of the Federal Reserve System.
ACTION:
Withdrawal of proposed amendments.
SUMMARY: The Board is withdrawing proposed amendments to the business credit
provisions of Regulation B. The proposed amendments were i n i t i a l l y published
for comment in October 1978; notice of t h e ir proposed withdrawal was published
in June 1982 (47 FR 23741).
The amendments to the business credit rules would
have (1) eliminated the partial exemption that currently exists with respect
to record keeping and adverse action n o t if i c a t io n requirements in certain loan
transactions under $100,000; and (2) subjected business credit to the general
bar in the regulation against asking an applicant's marital status. The pro
posal would also have incorporated o f f i c i a l s t a f f interpretation EC-0009 into
the regulation to make clear that creditors must give business applicants some
notice, oral or written, of action taken on an application within a reasonable
time; the interpretation remains in e f f e c t .
The proposed amendments related only to the mechanical requirements
of the regulation, and t h e i r withdrawal does not affect the substantive provi
sions of the Equal Credit Opportunity Act and Regulation B, which continue to
prohibit discrimination on the basis of sex, marital status, race, etc. in any
aspect of a business cred it transaction.
EFFECTIVE DATE:
October 15, 1982.
FOR FURTHER INFORMATION CONTACT: Claudia J . Yarus, St aff Attorney, Division
of Consumer and Community A f f a i r s , Board of Governors of the Federal Reserve
System, Washington, D.C.
20551 (202-452-3667). Regarding the final regulatory
f l e x i b i l i t y an alys is, contact: Robert Kurtz, Economist, Division of Research
and S t a t i s t i c s , Board of Governors of the Federal Reserve System, Washington,
D.C. 20551 (202-452-2505).
The f u l l text of t h is notice may be obtained from the Board or the Federal
Reserve Banks.
Board of G overnors of the Federal Reserve System
EQUAL CREDIT OPPORTUNITY
INTERPRETATION OF REGULATION B
(effective April 1, 1983 )
FEDERAL RESERVE SYSTEM
f i CFR Part 202
[Reg. B; Docket No. R-0203]
Equal Credit Opportunity; Final Board
Interpretations; Consideration of
Income and Disclosure of Reasons for
Adverse Action
Board of Governors of the
Federal Reserve System.
ACTION: Final Board interpretations.
agency:
The Board adopted two
interpretations of Regulation B, Equal
Credit Opportunity. The first
interpretation discusses how users of
judgmental and credit scoring systems
must treat income derived from alimony,
child support, separate maintenance,
part-time employment, retirement
benefits or public assistance to comply
with the regulation’s requirement that
creditors not “discount or exclude from
consideration” such income. The second
interpretation explains how creditors
should select and disclose the principal
reason or reasons for adverse action.
These interpretations derive from
questions that have been raised about
the application of Regulation B to credit
scoring systems, but the basic principles
apply to judgmental systems as well.
EFFECTIVE DATE: April 1, 1983.
SUMMARY:
FOR FURTHER INFORMATION CONTACT:
Lucy Griffin, Senior Attorney, Division
of Consumer and Community Affairs,
Board of Governors of the Federal
Reserve System, Washington, D.C. 20551
(202-452-2412).
SUPPLEMENTARY INFORMATION: (1)
Introduction. In response to requests for
clarification on how certain provisions
of Regulation B (12 CFR Part 202) apply
to the operation of numerical credit
scoring system,* the Board asked for
* Basically, credit scoring is the UBe o f statistical
techniques to assign points or weights to various
applicant characteristics (e-g., incom e, credit
history) or to identify relationships betw een them in
order to predict the likelihood that the applicant
will satisfactorily repay the credit. In Regulation B.
an em pirically and statistically derived credit
[Enc. Cir. No. 9388]
system.
public comment (44 FR 23865, April 23,
1979) on four questions about Regulation
The Board again received
B’8 application to credit scoring systems: approximately 300 written comments on
these proposals from members of
• May a credit scoring system score
the fact that an applicant has more than Congress, federal and state agencies,
industry, consumers, and academics.
one job or multiple sources of income,
and may it score secondary income
Generally, creditors (retailers, oil
differently from primary income?
companies, financial institutions, and
trade associations) claimed that a
• How must a scoring system
properly designed credit scoring system
consider the amount of an applicant’s
is an accurate, objective mechanism for
income derived from part-time
determining creditworthiness. They
employment, pension, or alimony?
• How must a creditor using a scoring suggested that to preserve the empirical
and statistical character ofsuch a
system select the specific reasons for
system, a creditor should be allowed
adverse action?
wide latitude to include in or exclude
• Under what circumstances may a
from a particular system the amount and
creditor employing a credit scoring
sources of an applicant’s income
system use the reasons for adverse
depending on whether those factors
action contained in Regulation B’s
were related in a statistically significant
model statement?
The Board received almost 300 written way to creditworthiness as established
by the creditor developing the system.
comments from members of Congress,
They also advocated that wide latitude
industry, academics, and others. The
comments expressed a wide diversity of be given to determining the most
appropriate way for selecting and
views about how Regulation B’s rules
disclosing the principal reason or
should apply to credit scoring systems.
reasons for an adverse credit decision.
The multiplicity of viewpoints and the
Consumer commenters (including
underlying technical complexity of the
questions raised in the comment process several members of Congress and a
number of individual consumers)
led to a thorough reconsideration of the
generally
were concerned that the Board
issues and the policy options available.
not reduce or eliminate what they
Based on that review, the Board issued
for public comment (45 FR 56818, August perceived as the basic protections
already afforded by the law. They were
26,1980) two proposed interpretations.
opposed to allowing creditors the degree
One interpretation addressed several
of
flexibility sought by the industry
issues concerning consideration of
because of the beliefthat such flexibility
income and income reliability.The
might be used to mask illegally
second set forth several principles
discriminatory practices.
governing the selection and disclosure of
Based on a review of the comments
adverse action. Both proposed
and a renewed analysis of the issues, in
interpretations affirmed the Board’s
May 1982 the Board stated general
conclusion, based upon an analysis of
endorsement for the two revised
the comments and the Equal Credit
interpretations but issued them for
Opportunity Act, that the rules in
further comment (47 FR 23738, June 1,
Regulation B apply to all creditors,
1982) with respect to any technical
whether they evaluate creditworthiness
problems that creditors might encounter
judgmentally or through a credit scoring
in complying with them.
The Board has received almost 80
scoring s y s ten is contrasted with the judgmental
written comments on these proposals
evaluation perform ed by a credit officer or
committee: com pare the definition o f “ a
from federal and state agencies,
dem onstrably and statistically sound, empirically
industry, and consumers. Consumers
derived credit system " in 1 202.2{p) with the
and creditors supported most of the
definition o f “ judgmental system o f evaluating
changes in the proposed interpretations.
applicants" in f 20Z.2(t).
PRINTED IN NEW YORK, FROM F E D E R A L
R E G IS T E R .
VOL. 47, NO. 200
Consumers observed that the
interpretations maintain fundamental
consumer protections without unduly
burdening creditors. Generally, creditors
requested a delayed effective date of six
months in which to adapt existing credit
scoring systems to the requirements of
the interpretations. Most commenters
requested that the interpretations
describe more than one method for
selecting reasons for adverse action.
The first interpretation (§ 202.601}
addresses several issues concerning
consideration of income and income
reliability. The interpretation clarifies
that Regulation B applies to credit
scoring systems as well as to judgmental
systems. The interpretation also advises
that income need not be fully considered
on an individual basis and should not be
assigned a weight based on aggregate
statistics.
The second interpretation (§ 202.901}
sets forth several principles governing
the selection and disclosure of reasons
for adverse action. The interpretation
advises creditors that the process used
to select specific reasons for adverse
action must identify the factors that
were most significant in the applicant's
failure to achieve a passing score in a
credit scoring system. The interpretation
also advises creditors that the reasons
must be taken from those factors
actually considered for that applicant.
The interpretation has been modified to
include a second acceptable method for
selecting reasons for adverse action,
based on the average scores for all
applicants. The interpretation also
explains that other methods that
produce substantially similar results,
i.e.,selecting those factors for which the
applicant fellfurthest below a norm, are
acceptable. Finally, the interpretation
advises creditors on proper use of the
model form for disclosing reasons for
adverse action.
(2}Regulatory Flexibility Analysis.
The two interpretations adopted by the
Board clarify creditor procedures with
respect to several aspects of Regulation
B, Equal Credit Opportunity, dealing
with treatment of income and selection
and disclosure of reasons for adverse
action. The economic impact of either
interpretation is unlikely to be large.
Since the actions taken are
interpretations rather than regulations
only those creditors who currently use
procedures that are inconsistent with
the interpretations will be forced to
modify their credit processing
procedures. Indications from comments
received by the Board are that most of
these cases will arise from creditors
having taken too narrow an
interpretation of the implications of
Regulation B, particularly with respect
to treatment of protected income. The
interpretations advise creditors how
they can use several different
procedures for which guidance had been
requested by a number of creditors.
Thus, given these assurances, a number
of creditors may modify their credit
screening procedures.
The specific impact of the first
interpretation will be focused on
creditors currently using credit scoring
systems which treat protected income in
a manner that is inconsistent with the
interpretation. These creditors will need
to modify their systems. This will entail
the probable expense of new statistical
analysis, the retraining of those making
loan evaluations, and possibly changes
in application forms. One commenter
stated that this could cost a creditor as
much as $50,000. However, ifsuch
modifications are made as part of
normal periodic updates of credit
systems, these costs may be minimized.
Ifcreditors, particularly those using
credit scoring vendors, were required to
make such changes immediately, costs
might be more substantial. Most
commenters to the Board have
indicated, however, that a six months
delayed effective date should provide
adequate time to modify systems in a
cost efficient way.
The economic impact of the second
interpretation, governing notice of
adverse action, islikely to be more far
reaching. In a 1981 Federal Reserve
Board survey,1over one-half of the
surveyed Financial institutions indicated
a desire to modify the notification of
adverse action. Furthermore, they
indicated that the largest recurring cost
associated with Regulation B was the
cost of providing a written notice of
adverse action. Written comments
received by the Board have also
indicated the need for additional
guidance both as to methods of selecting
reasons for adverse action and for the
design of adverse action forms. The
second interpretation speaks directly to
both these concerns. The interpretation
explicitly sanctions two methods of
selecting reasons for adverse action
which in most cases can be done
mechanically and need not require
1 S u rv e y o f C o m p lia n c e C o s ts a n d B e n e fits o f
C o n s u m e r P ro te c tio n R e g u la tio n s , Federal Reserve
Board. 1981.
2
constant updating. In addition, it
authorizes any other method which
produces substantially similar results.
The information needed to implement
the methods sanctioned by the
interpretation should already be
available to creditors using credit
scoring systems. By clarifying use of the
Board’s sample form, the interpretation
islikely to require some expense by
creditors who will have to design new
forms. Creditors using systems for which
use of the sample form isnot
appropriate will have to design and
distribute new forms and discard old
forms. As a temporary measure
creditors may have to manually modify
old forms before new ones can be
developed.
Smaller creditors are unlikely to suffer
significant costs from either
interpretation. The largest impact is
likely to be feltby creditors with large,
centrally-based, credit scoring systems.
Smaller institutions are much more
likely to use judgmental systems which
can be modified with very little cost.
To offset some of the costs, the
clarifications provided by the
interpretations will probably help both
applicants and creditors. With more
precise instructions on the proper
treatment of protected income, creditors
who may previously have been reluctant
to use income in their credit evaluation
process may now do so. By providing
more explicit guidance as to the
selection of reasons for adverse action,
the interpretations are likley to result in
rejected loan applicants receiving more
useful information.
List of Subjects in 12 CFR Part 202
Banks, banking, Civil rights,
Consumer protection, Credit, Federal
Reserve System, Marital status
discrimination, Minority groups,
Penalties, Religious discrimination, Sex
discrimination, Women.
PART 202— [AMENDED]
Regulatory Text. Pursuant to the
authority granted in § 703(a} of the
Equal Credit Opportunity Act (15 U.S.C.
1691(a}), the Board adopts the following
two interpretations of Regulation B (12
CFR Part 202} to read as follows:
§ 202.601
Consideration of income.
(a) Regulation B prohibits creditors
from discounting or excluding the
income of an applicant (or the spouse of
the applicant) from consideration
because of a prohibited basis or because
the income is derived from alimony,
child support, separate maintenance,
part-time employment, retirement
benefits or public assistance ("protected
income”).1A creditor may consider,
however, the probability of any income
continuing in evaluating an applicant’s
credit worthiness, and may consider the
extent to which alimony, child support
or separate maintenance islikely to be
consistently made. Regulation B applies
equally to all methods of credit
evaluation— whether performed
judgmentally or through the use of a
credit scoring system.2
(b) Creditors need not consider
income at all.However, creditors that
do consider income should consider the
amount of income as required in
§ 202.6(b)(5). A credit scoring system 3
will not be deprived of its status as a
"demonstrably and statistically sound,
empirically derived” credit scoring
system because itaggregates income
(including a type of income which, by
itself, would not be selected as a
predictive characteristic).
(c) Creditors have asked whether
evaluating or deriving a point score for
certain types of income (such as Social
Security and alimony) during the
divelopment of the system constitutes
"consideration” of that income for
purposes of the regulation, enabling the
creditor to discount or exclude such
income based upon these aggregate
statistics. In the Board’s view, the
statute requires that evaluation of
'S ection 202.6(b)(5) states in relevant part:
A creditor shall not discount or exclude from
consideration the incom e o f an applicant or the
spouse o f the applicant because o f a prohibited
basis or because the incom e is derived from parttime employment, or from an annuity, pension, or
other retirement benefit; but a creditor m ay consider
the amount and probable continuance o f any
incom e in evaluating an applicant's
creditworthiness. W here an applicant relies on
alimony, child support, or separate maintenance
payments in applying for credit, a creditor shall
consider such payments as incom e to the extent that
they are likely to be consistently m ade. Factors that
a creditor may consider in determining the
likelihood o f consistent payments include, but are
not limited to, whether the payments are received
pursuant to a written agreement or court decree; the
length o f time that the payments have been
received; the regularity o f receipt; the availability o f
procedures to com pel payment; and the
creditworthiness o f the payor *1 * *
*The only differences in evaluation procedures
for the two methods o f judging creditworthiness
sanctioned by the law relate to consideration o f age
and receipt o f public assistance. (See
$ 202.6(b)(2)(ii) and (iii).)
*For the purposes o f this interpretation, "credit
scoring system " refers to any mechanical method o f
making a credit decision that is developed using
statistical m ethods and empirical data.
protected income be made on an
individual basis, and not based upon
aggregate statistical relationships such
as those underlying credit scoring
models. Thus, creditors may not use
blanket rules which automatically deem
a certain type of protected income to be
unreliable and therefore a predictor of
adverse credit performance. Nor may
the average reliability of a particular
type of protected income be used to
predict the reliability of the same types
of income for an individual applicant.
(d) For creditors that do consider
income, there are several acceptable
methods under § 202.6(b)(5) which
creditors using credit scoring systems
may use for this purpose. First, creditors
can score the amount of all income
stated by the applicant without taking
steps to evaluate the income. This
method could be used in a system which
isbased on the income the applicant
states; the creditor need not actually
verify the amount. Second, based on an
individual evaluation of each
component of the applicant’s income,
the creditor may score reliable income
separately from income that isnot
reliable. Alternatively, the creditor may
include a portion or disregard a portion
of income to the extent that itisnot
reliable, before aggregating and scoring
all reliable income. Third, ifthe creditor
does not evaluate all income
components, any component of
protected income that isnot evaluated
must be treated as reliable. In
considering the separate components of
an applicant’s income, the creditor may
not automatically discount or exclude
from consideration any income of a type
protected by § 202.6(b)(5).
(e) Creditors have asked whether
credit scoring systems may place values
on the number of sources from which
earned income is received without
violating the regulation’s prohibition
against discounting income. Although
creditors may not take into account the
number of sources for any applicant of
income that isnot earned, e.g.,
retirement income, social security, or
alimony, the regulation does not prohibit
consideration of the number of earned
income sources for an individual
applicant. For example, a creditor may
take into account the fact that an
individual applicant has more than one
source ofearned income— a full-time
and a part-time job, or two part-time
jobs. Alternatively, a creditor might
score an individual applicant’s earned
3
income from a secondary source
differently than the applicant’s earned
income from a primary source. Creditors
may not, however, treat as an adverse
factor the fact that an individual
applicant’s only source of earned
income is derived from a part-time job.
§ 202.901 Disclosure of reasons for
adverse action.
(a) The Board has been asked for an
interpretation of § 202.9 ofRegulation B
regarding the selection and disclosure of
the reasons for adverse action 1where a
credit scoring system 2isused, alone or
in conjunction with a judgmental
evaluation. Although the issue has
arisen in the context of credit scoring, as
a general principle the provisions of
Regulation B apply equally to both
judgmental and credit scoring systems
of credit evaluation. The reasons for
adverse action disclosed under § 202.9
(a)(2) and (b)(2) must relate to factors
actually scored or considered by the
creditor. The creditor must disclose the
specific reason or reasons for the
adverse action.
(b) Many credit decision methods
contain features that call for automatic
adverse action because of one or more
negative factors in the applicant’s record
(such as the applicant’s previous bad
credit history with that creditor, a
declaration of bankruptcy, or the fact
that the applicant is a minor) that
cannot be offset by other factors. When
a creditor takes adverse action because
of an automatic factor, the creditor must
disclose that specific factor.
(c) Ifthe creditor does not
automatically reject the application, and
bases the decision on a credit scoring
system, the reasons disclosed must
1Section 202.3(a)(2) states in relevant part:
“ A ny notification given to an applicant against
whom adverse action is taken shall be in writing
and shall contain * * * a statement o f specific
reasons for the action taken.”
Section 202.9(b)(2) states in relevant part:
“ A statemfent o f 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 ow n statement o f reasons
in check list or letter form or may use all or a
portion o f the sample form printed [in this
subsection], which, if properly com pleted, satisfies
the requirements o f 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."
2For the purposes o f this interpretation, “ credit
scoring system ” refers to any m echanical method o f
making a credit decision that is developed using
statistical m ethods and empirical data.
relate only to those factors actually
scored in the system, not to factors that
are not included in the credit scoring
system. Similarly, in a judgmental
system, the reasons disclosed must
relate to the factors in the applicant’s
record actually reviewed by the person
making the decision and must
accurately describe the reasons for
adverse action. Ifthe credit evaluation
system employs both judgmental and
credit scoring components, the reasons
to be disclosed will be determined by
whether the final decision resulted from
the judgmental or the scoring system
assessment of the application. Thus, if
the creditor initially credit scores an
application and takes adverse action as
a result of that scoring, the reasons for
adverse action must relate only to the
factors actually scored in the system. If
the application passes the credit scoring
stage successfully but the creditor then
takes adverse action based on the
judgmental assessment, one or more of
the reasons disclosed must relate to the
factors in the applicant’s record th a t
were reviewed judgmentally.
(d)
The regulation does not require
that any one method be used for
selecting reasons for the adverse credit
decision, nor does itmandate that a
specific number of reasons be disclosed.
However, disclosure of more than four
reasons isnot likely to be helpful to the
applicant. The Board recognizes that
there may be a number of valid methods
(f) Creditors have also asked about
for selection of reasons for denial which proper
use of the sample form set forth
meet the requirements of Regulation B.
in § 202.9(b)(2) when providing reasons
One method, for example, would be to
-foradverse action. The sample form is
identify those factors for which the
may not be appropriate
applicant’s score fell furthest below the iflolruasltlractrievdeitand
ors. Itwas designed to
average score for each of those factors
disclose those factors which creditors
achieved by applicants whose total
most commonly consider. Some of the
score was at or slightly above the
reasons listed on the form could be
minimum passing score.3 Another
misleading when compared to the
method would be to identify those
factors actually scored. In such cases, it
factors for which the applicant’s score
s improper to complete the form by
fell furthest below the average score for isimply
checking the closest identifiable
each of those factors achieved by all
factor listed. For example, a creditor
applicants. These average scores could
considers only bank references (and
be developed periodically during the use that
disregards finance company references
of the system or during the development altogether) should disclose "insufficient
of the system. Any other method that
references” (not “insufficient
produces results substantially similar to bank
credit references”).Similarly, a creditor
either of these methods would be
that considers bank references and
acceptable under the regulation.
other credit references as separate
(e) Creditors may identify reasons for factors should treat the two factors
adverse action by mathematical or
separately in disclosing reasons. The
manual selection. No factor or factors
creditor should either add those other
may be arbitrarily excluded from the
factors to the form or check “other” and
pool of factors subject to disclosure. The include the appropriate explanation. In
creditor must disclose reasons actually
providing reasons for adverse action,
considered (such as “age of
creditors need not describe how or why
automobile”) even if the relationship of
a factor adversely affected an applicant.
that factor to predicting
For example, the notice may say “length
creditworthiness may not be clear to the of residence” rather than “too short a
applicant.
period of residence.”
3 For example, if a scoring system with a
maximum score o f 300 points has a cut-off score o f
200 points, the creditor could use applicants w hose
total scores fall betw een 200 and, for example, 205
points to determine the average score for those
factors.
4
By order of the Board o f Governors o f the
Federal Reserve System, O ctober 8,1982.
William W . W iles,
Secretary of the Board.
|KR Doc. 82-28357 Filed 10-14-82; 8:45 am]
46108
Federal Register / Vol. 47, No. 200 / Friday, October 15, 1982 / Proposed Rules
interpretation EC-0009 into the
regulation to make clear that creditors
must give business applicants some
notice, oral or written, of action taken
on an application within a reasonable
time; the interpretation remains in
effect.
The proposed amendments related
only to the mechanical requirements of
the regulation, and their withdrawal
does not affect the substantive
provisions of the Equal Credit
Opportunity Act and Regulation B,
which continue to prohibit
discrimination on the basis of sex,
marital status, race, etc. in any aspect of
a business credit transaction.
FOR FURTHER INFORMATION CONTACT:
Claudia J. Yarns, Staff Attorney,
Division of Consumer and Community
Affairs, Board of Governors of the
Federal Reserve System, Washington,
D.C. 20551 (202-452-3667). Regarding the
final regulatory flexibility analysis,
contact: Robert Kurtz, Economist,
Division of Research and Statistics,
Board of Governors of the Federal
Reserve System, Washington, D.C 20551
(202-452-2505).
SUPPLEMENTARY INFORMATION: (1)
Regulation B (12 CFR Part
202) prohibits discrimination, in any
aspect of a credit transaction, on the
basis of race, color, religion, national
origin, sex, marital status, age, receipt of
public assistance, or the exercise of
rights under the Consumer Credit
Protection Act. The regulation applies to
all credit transactions, including
business credit.
The regulation sets certain
mechanical requirements that creditors
must follow with regard to applications
that they receive. Sections 202.9 and
202.12(b) of Regulation B provide,
respectively, that a creditor must give
the applicant notice of the action taken
on an application and retain, for 25
months, the records regarding the
application. When the creditor rejects a
credit application itmust give an
‘‘adverse action” notice consisting of a
written statement of reasons (or of the
right to request the reasons) for the
credit denial, together with a short
summary of the applicant’s rights under
the Equal Credit Opportunity Act.
Because of the specialized nature of
the business credit application process,
5 202.3(e) of Regulation B provides a
partial exemption for business credit
transactions from these notification and
record keeping requirements. An
applicant for business credit may
request written notice of reasons for
adverse action, but does not receive the
written notice automatically. The
business applicant may also request to
Introduction.
FED ERA L RESERVE SYSTEM
12 CFR Part 202
[R«g B; Docket No. R-0185]'
Equal Credit Opportunity; Withdrawal
of Proposed Amendments
Board of Governors of the
Federal Reserve System.
agency:
Withdrawal of proposed
amendments.
ACTION:
s u m m a r y : The Board is withdrawing
proposed amendments to the business
credit provisions of Regulation B. The
proposed amendments were initially
published for comment in October 1978;
notice of their proposed withdrawal was
published in June 1982 (47 FR 23741).
The amendments to the business credit
rules would have (1) eliminated the
partial exemption that currently exists
with respect to record keeping and
adverse action notification requirements
in certain loan transactions under
$100,000; and (2) subjected business
credit to the general bar in the
regulation against asking an applicant’s
martial status. The proposal would also
have incorporated official staff
Z
have records of the application retained
for 25 months. Ifthere isno 3uch
request, the creditor may discard its
records of the application 90 days after
itrejects the credit request.
On October 26,1978 the Board
published for comment proposed
changes to these business credit
provisions (43 FR 49987). The proposed
amendments would have applied to
direct loan applications for amounts
under $100,000. Creditors would have
been required in such cases to give
written notification of adverse action to
the applicant and to retain the records
of the application for 25 months.
Another proposal related to marital
status inquiries. Regulation B generally
prohibits creditors from inquiring about
an applicant’s marital status except in
the case of applications for secured
credit. Section 202.3(e)(1) of Regulation
B provides, however, that an application
for business credit is not subject to this
restriction. The proposed amendment
would have eliminated the exemption,
making business credit subject to the
general information bar against marital
status inquiries.
On June 1,1982, the Board published a
notice regarding its planned withdrawal
of the proposed amendments (47 FR
23741). The Board specifically solicited
comment, however, on whether there
have been intervening developments
which suggest that creditors should be
required to give business credit
applicants a written notice of adverse
action for certain direct loans.
Based on a review of the comments
received (which did not raise evidence
of intervening developments) and its
own analysis,, the Board is withdrawing
the proposed amendments. In light of the
costs and burdens that would be
associated with the implementation of
these amendments, their adoption
appears unwarranted. The regulation
already provides that business credit
applicants may receive written notice
and have records retained on request.
The likely benefits of prohibiting inquiry
about an applicant’s marital status also
appear to the Board to be rather limited.
Because most applications for business
credit are for secured credit, under the
regulation creditors would in most cases
continue to be able to inquire about
marital status.
The proposal published by the Board
also would have codified within the text
of the regulation an official staff
interpretation, EC-0009, which was
issued on November 2,1977. That staff
interpretation makes itclear that
creditors must give business applicants
oral or written notice, within a
reasonable time, of action taken on an
Federal Register / Vol. 47, No. 200 / Friday, October 15, 1982 / Proposed Rules
application. The interpretation remains
in effect.
The Board reminds creditors once
again that the proposed amendments
which the Board is withdrawing related
only to the mechanical requirements of
the regulation. The substantive
provisions of the Equal Credit
Opportunity Act and Regulation B
continue to prohibit discrimination on
the basis of sex, marital status, race, etc.
in any aspect of a business credit
transaction.
(2) Final Regulatory F lexibility
Analysis. In October 1978, the Board
proposed amendments to Regulation B
which would eliminate certain business
credit exemptions for direct loan
applications in which the aggregate of
any amount already owed to a creditor
and the amount applied for is less than
$100,000. Adoption of the amendments
would require creditors to give the
business applicant notice of the action it
takes and retain itsrecords regarding
the credit application for 25 months.
When adverse action occurs, creditors
would have to provide written notice
about an applicant’s ECOA rights,
together with a statement of the reasons
or of the right to request the reasons for
denial.
In June 1982, the Board published for
public comment a proposal to withdraw
the proposed amendments. The
comments received by the Board have
been considered in this memo which
discusses the potential economic impact
of the proposed amendments.
Potential Economic Impacts
In 1981, the denial rate at commercial
banks for business credit applicants
desiring to start a new business was
estimated to be approximately 50
percent The denial rate estimated for
existing businesses was 27 percent.1*
Many of the more than two million
denials would have required written
"adverse action” notifications and
record retention for 25 months under theproposed amendments. At the 1981 level
of denials, the aggregate annual
compliance cost of the proposed
amendments to the industry as a whole
1Survey o f Com m ercial Bank Lending to Small
Business. February 1982. Cynthia C lassm an and
Peter Struck. The denial rate is an estim ate o f the
proportion o f written credit applications turned
d ow n by all federally insured com m ercial banks
that had at least Si m illion in com m ercial and
industrial loans in their portfolios on D ecem ber 31,
1980. T hese figures d o not include informal
applications and m ay reflect unusually w eak credit ,
dem and caused by high interest rates. Thus, the
number o f applications subject to the prop osed
am endm ents m ay be much larger. Estimates in the
survey reflect banks' perceptions o f their small
business lending, not the perceptions o f the small
business com m unity.
46109
to a checklist is costly. A significant
could be substantial, although the
level of effort is needed by a creditor to
impact on after-tax profits would likely
be minimal for most individual creditors. compose and produce a detailed report
explaining the denial of credit. Good
While the impact of the proposed
business strategy, however, might
amendments on creditor’s cost per loan
indicate that a creditor make this extra
would be small in most instances, it
could be large enough to affect creditors’ effort and bear the expense when there
decisions on applications for low
is a prospect for future business and
denomination loans. Many relatively
profit. There is the danger that the
small short-term loans currently
denied applicant might be offended by a
available to small business could
short checklist type of response
following a long and personal
become unprofitable. Creditors find it
difficult to provide affordable credit to
negotiating process.
their small business customers during
Potential Impact on Small Entities
periods of high interest rates. The
Small banks are likely to be affected
proposed amendments would aggravate
more than other banks by the
the credit problem of small businesses,
because the cost of compliance would
amendments. Their business loans tend
ultimately be passed on to borrowers as to be exclusively to small business.3
increased cost of credit and reduced
Small banks' loan portfolios contain
credit availability. The amendments
relatively few loans over $100,000, and
could also encourage more creditors to
their average loan size is less than that
prescreen small business applicants in
for other banks.4Therefore, the
order to avoid the compliance costs.
amendments would likely result in a
One-time costs would be incurred by
greater cost per dollar of loan for small
creditors for legal counsel to review,
banks and their customers.
interpret, and advise on implementation
The potential negative impact of the
of the amendments; for the development proposed amendments on cost and
and implementation of a system to
availability of low denomination, short
provide written adverse action
term business loans would affect all
notification; for additional equipment to creditors subject to the ECOA, not only
maintain applicant files; and for the
commercial banks. However, recent
initial retraining of clerks and loan
evidence indicates that the commercial
officers.
bank sector continues to be the major
The efforts to maintain files on denied institutional supplier of credit to small
applications and the time necessary to
business.5
provide written adverse action
Potential Benefits
notification would result in costs
The potential benefits of the proposed
recurring with each additional credit
amendments appear to be limited.
denial. The magnitude and relative
Survey evidence shows that small
importance of these costs per denial
business credit may be more costly and
would vary among creditors, depending
primarily on the filing system technology less accessible to some groups protected
by the ECOA,* but evidence suggesting
employed and decisions about the cost
that the disparity is caused by unlawful
effectiveness of providing all denied
discrimination rather than a legitimate
applicants with written reasons for
evaluation of risk is meager.
adverse action rather than only
Itis unlikely that the proposed
responding to requests for written
amendments would substantially
reasons. In a 1981 Federal Reserve
Survey,1financial institutions reported
improve the detection of unlawful
that the most burdensome recurring cost discrimination. Unlawful discrimination
can be easily masked by the multitude
associated with Regulation B was the
of factors considered in approving or
cost of providing a written adverse
denying business credit. The written
action notice to applicants denied
consumer credit In the case of business - reasons for rejecting a particular
credit, the cost is likely to be even
greater because the process of granting
* Federal M onetary P olicy and Its E ffect on Small
Business. H.R. Report o f the Comm ittee on Small
or denying credit is more complex. A
Business,
Septem ber 1980.
checklist of reasons for business credit
*Survey o f Com m ercial Bank Lending to Small
denial, similar to the checklist given to
Business, February 1982. Cynthia Classman and
consumers, may be inadequate in some
Peter Struck.
cases to provide a business credit
* National Federation o f Independent Businesses,
survey. April 1980. The survey results relating to
applicant meaningful information about
numbers o f loans show that 83 percent o f small
why credit was denied. The alternative
1Survey o f Com pliance Costs and B enefits o f
Consum er P rotection Regulations. Federal Reserve
Board. 1981.
businesses reporting a source for their most recent
loan said that the source was a bank.
* Federal M onetary P olicy and Its E ffect on Small
Business. H.R. Report o f the Committee on Small
Business, Septem ber 1980.
46110
Federal Register / Vol. 47, No. 200 / Friday, October 15, 1982 / Proposed Rules
consumer or business loan can be useful
ta a n examiner looking for unlawful
discrimination, if it is possible for the
exam iner to determine that (1) the
reasons are untruthful or (2) the reasons
are not consistent with a creditor’s
articulated guidelines to loan officers.
The loan officer’s decision on an
application depends on many factors
which are unique to the particular
business under consideration.
Consequently, it would be a very rare
even where the creditor’s reasons for
rejecting a business loan application
were patently false and contestable.
An exam iner would be suspicious if
the exceptions to the articulated
guidelines were less frequent for a
protected group than for other groups.
The guidelines to loan officers are
usually much more flexible for business
loan applications than for consumer
loan applications, because of the greater
need to negotiate in the business credit
market. Therefore, the detection of
differences in frequency of exceptions to
the guidelines granted to various groups
is less likely in the case of business
credit applications.
A comparison for enforcement
purposes of loan rejection rates or loan
terms between members of protected
groups and individuals in other groups
requires information about race, sex,
and other appropriate characteristics of
all individuals whose applications have
been rejected or approved by a creditor.
In order to obtain this information about
applicants for business credit, either
creditors must be required to observe
and record the information or applicants
must be asked to make voluntary
disclosures. The first approach can lead
to inaccuracies, and raises the issue of
invasions of privacy. Both approaches
would involve additional record keeping
requirem ent^ and training expenditures
for creditors. Currently, no provision for
obtaining this information is contained
in the proposed amendments.
List of Subjects in 12 CFR Part 202
Banks, banking, Civil rights,
Consumer protection, Credit, Federal
Reserve System, M arital status
discrimination, Minority groups,
Penalties, Religious discrimination, Sex
discrimination, Women.
(15 U.S.C. 1691)
By order o f the Board o f G overnors o f the
Federal Reserve System, O ctober 8,1982.
William W. Wiles,
Secretary of the Board
[FR Doc. 82-28356 Filed 10-14-82. 8:45 am|
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