Does the Equal Credit Opportunity Act Protect Potential Borrowers?

Late last week, the CFPB finalized a major regulation implementing Section 1071 of the Dodd-Frank Act. Under this provision, the Equal Credit Opportunity Act (ECOA), which is implemented through Regulation B, was amended to mandate that the CFPB develop a framework for financial institutions to collect data on loans to minority and women-owned businesses. Think of this as extending HMDA protections and oversight to business lending for institutions that make 100 or more small business loans a year.

But even as the regulation is being finalized, a legal challenge is brewing that could sharply limit the applicability of the ECOA. The issue once again comes down to how much deference courts should give to regulators in interpreting federal statutes.

The ECOA prohibits discrimination against applicants for credit, but does not, on its face, extend to activities that have the effect of discouraging people from making applications in the first place. Nevertheless, this language has always been included in Regulation B, which states:

A creditor shall not make any oral or written statement, in advertising or otherwise, to applicants or prospective applicants that would discourage on a prohibited basis a reasonable person from making or pursuing an application. U.S. Code of Federal Regulations, 12 C.F.R. § 1002.4. General rules.

This is one of the basic, and I would argue one of the most important, concepts compliance officers learn. Nevertheless, as the courts become more skeptical of regulatory license when it comes to interpreting statutes, the extent to which the ECOA actually protects potential applicants is being openly questioned.

Specifically, in February a federal district court in Illinois ruled that a mortgage lender could not be penalized by the CFPB for violating the ECOA because his actions occurred before lenders had applied for a loan. In this case, the defendant ran a mortgage company in the Chicago area in which he repeatedly used racially charged language in reference to sections of the city populated primarily by minorities. He was sued by the CFPB claiming that his behavior deterred minorities from applying for loans. See Bureau of Consumer Fin. Prot. v. Townstone Fin., Inc., No. 20-cv-4176, 2023 BL 35566, at *5 (N.D. Ill. Feb. 3, 2023).

In making its ruling, the court concluded that the plain language of the ECOA clearly indicated that the statute just applied to applicants and, by implication, could not be extended through regulation to potential applicants. Crucially, this would mean that Regulation B, and its protections against actively discouraging potential applicants, cannot be enforced. In addition, this case cannot simply be dismissed as an outlier. As early as 2017, the Court of Appeals for the Fifth Circuit ruled that individuals could not sue banks for discouraging persons from applying for loans because this was a regulatory, not a statutory, prohibition. See Alexander v. AmeriPro Funding, Inc., 848 F.3d 698, 707 (5th Cir. 2017).

Now, I want to be abundantly clear: I am not suggesting that anyone engage in the type of activity described in this case or feel free to actively discourage individuals who are applying for credit. However, the issue of when the ECOA applies is, of course, vital to any institution that must comply with its provisions, especially now that it has been expanded to small business loans.

A second issue that I believe will ultimately be decided by the courts is the extent to which financial institutions can be penalized by the CFPB for failing to collect the demographic characteristics of small business borrowers. Even though Section 1071 explicitly provides that a borrower can simply refuse to provide requested demographic information, the CFPB accompanied the release of the final regulation with an enforcement guidance stressing that it would be scrutinizing lender conduct to ensure they are not effectively discouraging borrowers from providing demographic information.

If you’re thinking this is the type of regulation that will spawn a cottage industry of consultants and make it even more expensive to provide small business loans, you are correct. I’ve simply highlighted two potential issues, which are ripe for legal disputes and regulatory actions. There are undoubtedly several more chestnuts tucked away in the more than 800 pages used to introduce this new lending framework. Have fun – the clock is ticking.

Henry Meier is the former General Counsel of the New York Credit Union Association, where he authored the popular New York State of Mind blog. He now provides legal advice to credit unions on a broad range of legal, regulatory and legislative issues. He can be reached at (518) 223-5126 or via email at henrymeieresq@outlook.com.