In the previous 3 articles of this 4-part series I identified and explained three types of fatal flaws in the 2023 CRA rule:
1. The unreliable and sometimes misleading performance ratings based on unrealistic assessment areas mandated in the 2023 rule
2. The elimination of some very important loan types in the Retail Lending Test thereby undermining the effectiveness of the 2023 rule as a measure of community needs and how banks meet those needs
3. The extremely complex and numerous manipulations of data required to arrive at performance ratings under the Retail Lending Test (as well as the Community Development Financing Test).
Because these serious flaws undermine the effectiveness of the 2023 CRA rule as a tool to measure the credit needs of communities and banks’ record of meeting those needs, the repeal of the 2023 CRA rule should be supported by banks and community leaders everywhere. However, at the same time regulators issue an NPR regarding their intentions to repeal the 2023 Rule, regulators should propose several simple changes to the legacy rule that could dramatically impact the effectiveness of the CRA and benefit everyone. What are those simple changes that should have widespread support?
Proposed changes to Improve the Effectiveness of the CRA
Provide an alternative to the Assessment Area Ratio Test to Determine Loan Volume Adequacy
In the last 20 years the advent and the expansion of the secondary markets for residential mortgages and small business loans has resulted in regional, and even local community banks adopting much broader markets for extending those types of loans and funding that activity in the secondary markets. As a result, the Assessment Area Ratio Test is now outdated as a measure of loan volume adequacy because the Ratio is based on a faulty assumption that lending is a zero-sum game whereby any lending outside the community reduces a bank’s ability to lend inside its assessment areas.
In recent years we’ve seen examples where banks had assessment area ratios below 10% because they were using the secondary markets to fund their lending outside their communities. But when we compared those banks’ CRA (HMDA and small business loans) lending relative to their deposits inside their assessment areas with the CRA-related loans to deposits ratios of other depository institutions within the defined community the secondary market lenders consistently were highly ranked for lending inside their communities. This demonstrated that the AA Ratio provided a misleading picture of the adequacy of those banks’ lending inside their defined communities. In our experience, when presented with this evidence examiners accepted the CRA-LTD-Deposits analysis as an acceptable alternative to gauge the adequacy of a bank’s CRA-related lending within a bank’s assessment areas.
As a measure of the adequacy of lending volume, a loans (HMDA, SB and SF)-to-deposits ratio test should be an alternative measure by comparing an institution’s CRA-related lending volume in its Facility-based assessment areas to its deposits (as reported in the annual Summary of Deposits) in those markets and then computing the same ratio for all lenders with depository facilities within the FBAA. The Retail Lending Screen Test adopted in the 2023 CRA works on that principle. We suggest that the Retail Lending Screen Test concept be incorporated into the legacy CRA as an alternative measure of lending volume adequacy when banks engage in extensive lending outside their assessment areas and fall short on the AA Ratio Test.
Community Development loans should be geocoded and the purpose classified and reported
CRA is all about meeting the needs of the community and a very critical form of bank activity regarding those needs is community development lending. As reported under the legacy CRA, community development lending is reported merely as a summary of total CD loans and their values. This means that it’s impossible to measure and identify the CD loan market data as a benchmark for CD lending.
It would be a very simple thing for banks to geocode their CD lending and report the CD “purpose” fulfilled by each CD loan. Banks already geocode all their small business and small farm loans so adding the geocoding of their CD loans is a very minimal burden. And during CRA exams, banks claiming CD loans must specify what CD purpose is fulfilled by each CD loan. So, adding that the CD purpose to the reported data is no real burden.
On the other hand, the benefit of having community development lending captured and reported by tract as well as the CD purpose would be of enormous value when evaluating the needs of communities and what banks are doing to meet those needs. Banks and community groups will find the reported CD lending activity much more meaningful and useful.
The 2023 CRA rule does require large banks to geocode (albeit at the county level not the tract level) and report the CD purpose of CD loan claimed by an institution.
We suggest the agencies incorporate in the NPR regarding the repeal of the 2023 Rule a requirement to geocode all community development loans and identify the CD purpose associated with each CD loan. Once again, everyone will benefit from this critical information. Banks who extend CD loans will get recognition for helping their communities and community leaders will learn more about community needs and how banks are meeting those needs. The added burden of doing so will be negligible.
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