On September 21, the Federal Reserve Board approved an Advance Notice of Proposed Rulemaking (ANPR) on the Community Reinvestment Act (CRA). As an ANPR, this document is not a proposed change to the Federal Reserve’s CRA regulations. However, it offers details about a rule change the Federal Reserve (Fed) is contemplating.
The proposals in its ANPR adhere to the statutory purposes of CRA to rectify redlining experienced by low- and moderate-income (LMI) neighborhoods and communities of color by designing tests that focus on numbers of loans, branches and services in communities. The Fed is also sensitive to addressing issues of racial inequities and asks the public for suggestions as to how a new CRA rule can do that.
Here are major areas of the proposed rule:
Structure of CRA Exams
- Currently, the largest banks have the most detailed exams with separate tests scrutinizing their lending, investments and services. The smaller banks have a retail lending test only.
- The Fed would maintain these distinctions. The smaller banks would have a retail lending test and the large banks would have a retail test (separate subtests for lending and services) and a community development test (separate subtests for financing and services).
- The Fed would maintain exam components that would explicitly scrutinize and rate bank branches and deposit products being offered in LMI communities. This is vitally important because a large body of research has established that retail lending increases in LMI communities as the number of bank branches increase.
Performance measures and their relationship to CRA ratings
- The Fed proposed to improve upon performance measures in CRA exams. For example, the proposed retail lending test would use the percent of home loans to LMI borrowers and to LMI communities. The bank’s percentage would be compared to those of its peers and the percent of the population that is LMI.
- The Fed would establish a presumption of Satisfactory performance if a bank meets the following thresholds: a bank’s percentage of loans is 70% of peers’ or 65% of the portion of the population that is LMI in that local market, or assessment area. In addition, the Fed suggests that it would establish ranges for the thresholds that would correspond to the other possible ratings of Outstanding, Needs-to-Improve and Substantial Noncompliance. However, the Fed has not indicated what the ranges would be, for example, whether Outstanding ratings would require banks to be above 100% of the peer threshold.
- The Fed has reduced the number of possible ratings on the subtests from five to four. NCRC has a strong preference for five ratings because CRA exams need more nuance in ratings, not less, in order for banks to be motivated to improve their performance. The Fed should adopt five ratings and choose rigorous threshold ranges for the five ratings.
- For the community development financing subtest, the Fed will employ the dollar amount of community development divided by deposits as a performance measure. It is also accompanied by qualitative measures of performance called impact scores (a scale of one to three) which gauge how innovative and responsive the community development financing is to local needs.
- NCRC will be analyzing the performance measures and their thresholds in more detail in the coming weeks. In order for CRA to motivate continual improvements in lending, investments and services in LMI communities, rigorous measures must result in more gradations in the ratings and distinctions among bank performance than is revealed by the current ratings.
Assessment Areas – Geographical Areas on CRA exams
- Currently, assessment areas are defined as areas on CRA exams encompassing bank branches. The Fed would continue this practice.
- The Fed also acknowledges that banks are embarking on lending and deposit-taking beyond their bank branch network. It has asked the public about whether additional assessment areas should be created that include geographical areas with concentrations of deposits and/or loans.
- Further, it has asked whether internet banks should have national assessment areas. For retail internet banks, NCRC will oppose a national assessment area and will present past and current research showing how designating local and state assessment areas are feasible for these banks.
Qualifications of Community Development Activity
- The Fed discusses how to sharpen the definition of what would count under a new CRA regulation for community development such as types of affordable housing or economic development.
- The Fed addresses how to qualify un-subsidized rental housing that is affordable to LMI tenants. The Fed asks whether the housing should count if the housing has rents affordable to LMI tenants and is in LMI census tracts. NCRC is hesitant to allow this and will be seeking more certainty that LMI tenants will be residing in the units.
- The Fed also considers how to count community development activity outside of assessment areas. While some allowance for such community development is sensible, safeguards need to be established to make sure assessment area needs are being met. For example, the Fed suggests that low ratios on its measure of community development activities divided by deposits would result in low ratings when banks were not serving their assessment areas.
- The Fed is contemplating the creation of underserved areas that could be areas of high unemployment or poverty or areas with low levels of lending (this was a NCRC idea). Using NCRC’s definition would effectively target several communities of color as we show in a white paper. The Fed would provide credit for community development activities in these areas. In addition, NCRC will be advocating that these areas are part of the retail lending test, which the Fed did not propose in its ANPR.
Minority and Women-Owned Institutions
- The Fed asks whether a bank should get points assisting minority-owned or women-owned institutions anywhere in the country and under what circumstances such assistance can increase a bank’s rating.
- NCRC’s initial reaction is that more permissiveness regarding assisting these institutions in various geographical areas is positive but that the potential to increase a rating for such assistance may result in ratings inflation and motivate banks to make some large-scale investments in other institutions rather than meeting community needs directly as CRA requires.
- The Fed proposes to eliminate the distinctions between full-scope assessment areas and limited-scope areas. Full-scope areas are typically the largest metropolitan areas receiving the most comprehensive reviews, while limited-scope areas, usually smaller metro areas and rural counties, receive a shorter review. Elevating the importance of limited-scope areas would leverage more lending, investing and services for them.
- The Fed proposes a weighted average approach for considering ratings across all assessment areas, which could still favor the larger areas. However, the Fed also proposes that a bank cannot neglect the smaller areas, suggesting that a bank will not receive a higher rating if a certain percentage of assessment areas in a state receive a rating lower than the overall state weighted average rating.
Josh Silver is NCRC’s senior policy advisor.