Based on the recent CFPB guidance on fair lending and indirect automobile lending, what steps should a smaller regional bank take to lessen our fair lending risks? Do we need to switch to a flat rate of compensation for dealers, or are there other options?

While the CFPB’s Indirect Auto Lending Bulletin does not directly apply to your institution, since you are not supervised by the CFPB, we agree that all financial institutions should be taking the CFPB’s guidance seriously. While the other federal banking regulators have released some helpful materials on discrimination and auto lending, which we discuss below, the CFPB’s bulletin is by far the most specific. The CFPB’s Indirect Auto Lending Bulletin provides lenders with two options for their dealer markup and compensation policies “to ensure that they are operating in compliance with the ECOA and Regulation B”:

(1) retaining current policies but with additional controls and monitoring in place (“imposing controls on dealer markup and compensation policies . . . and also monitoring and addressing the effects of those policies”) or

(2) converting to a flat rate compensation system or any other system that eliminates the dealer’s discretion (“eliminating dealer discretion to mark up buy rates and fairly compensating dealers using another mechanism, such as a flat fee per transaction.”)

Because the CFPB provides two options, it should be possible to comply with Regulation B without switching to a flat rate compensation system — that is, by choosing the first option (adding additional controls and monitoring to your current policies). However, the CFPB notes that “some lenders” need to take the following “additional steps” if they have not switched to a flat rate compensation system:

“sending communications to all participating dealers explaining the ECOA, stating the lender’s expectations with respect to ECOA compliance, and articulating the dealer’s obligation to mark up interest rates in a non-discriminatory manner in instances where such markups are permitted;
“conducting regular analyses of both dealer-specific and portfolio-wide loan pricing data for potential disparities on a prohibited basis resulting from dealer markup and compensation policies;
“commencing prompt corrective action against dealers, including restricting or eliminating their use of dealer markup and compensation policies or excluding dealers from future transactions, when analysis identifies unexplained disparities on a prohibited basis; and
“promptly remunerating affected consumers when unexplained disparities on a prohibited basis are identified either within an individual dealer’s transactions or across the indirect lender’s portfolio.”

Other than the CFPB’s guidance, there are a few other regulatory resources you may want to review. The FDIC’s most recent guidance on indirect auto lending was a 2005 article, which includes a short discussion of fair lending risks. The FDIC article states that banks could be responsible for an auto dealer’s discriminatory practices if “a pattern of discrimination” indicates that the bank should have known about the fair lending violations. Also, the Federal Reserve held a webinar on indirect auto lending and the CFPB guidance; the slides and a recording of the webinar are available online. Though your institution is not regulated by the Federal Reserve, the webinar demonstrates that other regulators view the CFPB guidance as important for all institutions, even if they do not fall under CFPB supervision.