Bank Regulators Issue Joint Principles for Responsible Small-Dollar Loan Programs
On May 20, 2020, federal financial regulators issued joint guidance to encourage financial institutions to offer responsible small-dollar loans to customers for both consumer and small business purposes. These small-dollar loans are a subset of marketplace loans that serve a specific purpose—typically to help customers with unexpected expenses or temporary cash flow imbalances. This is particularly important in today’s economy in light of the national emergency, mass unemployment and other hardships many are facing. This type of credit also can assist “ghost” borrowers, or those who have little to no credit history, in establishing a pattern of payments, which can lead to additional financial product availability to them.
Through these published principles of lending, regulators are telling banks this is a time to be innovative and serve a niche in the financial service industry. The small-dollar loan programs can include innovative technology or go beyond traditional underwriting standards—they could even be managed by a third party. However the lending program is structured, the guidance makes clear that this type of loan product should be offered to all and provide fair treatment to customers. In addition, the program should comply with applicable regulations, such as fair lending and consumer protection laws.
The guidance provides these core lending principles:
- “Loan products are consistent with safe and sound banking, treat customers fairly, and comply with applicable laws and regulations.
- Financial institutions effectively manage the risks associated with the products they offer, including credit, operational, and compliance.
- Loan products are underwritten based on prudent policies and practices governing the amounts borrowed, frequency of borrowing, and repayment requirements.”
Clear and concise lending policies as well as a robust risk management program around these products will be imperative. Some of the expected risks are:
- Clear disclosures of terms
- Risk profile of customers using the products
- Use of any new technology
- Any alternative underwriting information
- Use of third-party arrangements
Responsible small-dollar loan programs should have a high percentage of customers who repay their loan in accordance with original loan terms as well as having repayment terms, pricing and safeguards that reduce negative customer outcomes. Reasonable practices and controls include:
- Loan structures that are affordable and encourage successful repayment
- Loan pricing in line with state and federal regulation that allows the financial institution to receive a benefit from the product at the same time
- Loan underwriting that uses internal or external data sources, such as deposit account activity, which may allow for the opportunity to offer credit to non-mainstream customers or customers under hardship
- Consideration of Truth in Lending Act; unfair, deceptive or abusive acts or practices; Equal Credit Opportunity Act; and consumer protection laws as the financial institution develops marketing tactics and visuals for the consumers
- Loan servicing processes that assist customers in successful repayment of their credits while avoiding a continuous cycle of debt from the product
In addition, the Federal Deposit Insurance Corporation also announced it has rescinded its 2013 small-dollar lending guidance, which included underwriting requirements that conflicted with the newly released interagency guidance.
As with most topics related to COVID-19, changes are being made rapidly. Please note that this information is current as of the date of publication. If you have questions, please reach out to your BKD Trusted Advisor™ or use the Contact Us form below.