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Simpson Thacher Discusses U.S. Treasury Report on Reforming the Community Reinvestment Act

On April 3, 2018, the U.S. Treasury Department issued a report detailing a number of recommendations for reforming and modernizing the Community Reinvestment Act of 1977 (“CRA”) framework.  The report, which follows through on the commitment made by Treasury in its June 2017 report to the President to review the current CRA framework, includes recommendations for (i) changing the way CRA geographic assessment areas are defined to reflect the changing nature of banking arising from changing technology, customer behavior, and other factors; (ii) improving the CRA performance evaluation criteria to increase the transparency and effectiveness of CRA rating determinations; (iii) harmonizing CRA-related oversight and improving the CRA examination process; and (iv) improving how banks’ CRA performance is incentivized to improve the benefit to communities.

The report reflects Treasury’s assessments of how the CRA could be improved after soliciting input and meeting with close to 100 stakeholders, representing community and consumer advocates, academics and think tanks, financial institutions, trade associations, and law firms.  A number of the recommendations will require specific action by, or significant coordination among, the federal banking agencies charged with administering the CRA, while a small number of recommendations (such as shortening CRA examination cycles for small banks) would require legislative action.

This memorandum provides a high-level summary of Treasury’s key recommendations for reforming and modernizing the CRA included in the Treasury report.

Assessment Areas

In general, Treasury recommends revisiting the historic approach of determining the geographic assessment areas within which a bank’s regulator will evaluate a bank’s record of meeting the credit needs of its community, in order to account for the current range of alternative channels that exist for accepting deposits and providing banking services.

CRA assessment areas are currently defined to include the geographies surrounding a bank’s main office, branches, ATMs, and locations where the bank has originated or purchased a substantial portion of its loans.  However, Treasury has found that this definition directs CRA loans, investments, and services in a manner that may exclude a substantial portion of the communities that the banks are effectively serving.  Instead, Treasury recommends allowing banks to receive credit not only for CRA activity within their branch and deposit-taking footprint, but also for CRA activity in other low- and moderate-income (“LMI”) communities outside of the bank’s physical footprint, and in other areas where the bank accepts deposits and does substantial business.  This expanded approach may improve the application of CRA requirements to banks using alternative delivery channels, including emerging “branchless” banks.

Examination Clarity and Flexibility

In the course of its review of the CRA framework, Treasury found a number of instances of uncertainty, inconsistency, or lack of flexibility in the CRA examination process.  For example, while CRA examination procedures are developed on an interagency basis, each banking agency provides additional guidance to its examiners, and each examiner applies the procedures and guidance differently.  In addition, it is often unclear to banks whether certain investments will qualify for CRA credit in light of retroactively applied policy changes, and vague standards for examination criteria can be subject to inconsistent interpretations.  Accordingly, Treasury issued the following recommendations to improve transparency in the examination process.

Treasury calls for establishing clear criteria for grading CRA loans, investments, and services that incorporate less subjective evaluation techniques.  In addition, Treasury recommends establishing a “measurement” of CRA activity that is reportable in a clear and transparent manner, allowing for better assessment of the impact of CRA activities.

Examination Process

Treasury recommends that the banking agencies standardize the CRA examination schedules (which may, in some cases, require statutory changes), and provide more CRA ratings since the amount of time that it takes to conduct CRA examinations and to publicly disclose performance evaluations has become excessively long.

CRA Performance

A less-than-satisfactory CRA rating has typically resulted in an automatic denial of such applications.  In November 2017, however, the OCC issued new guidance clarifying that while applications from banks with a less-than-satisfactory CRA rating would continue to receive enhanced scrutiny, the CRA rating would not result in an automatic denial of a licensing application.  Instead, the OCC will consider how recently the CRA rating was issued, the severity of the less-than-satisfactory rating, the progress made by the bank in addressing the issues underlying the rating, and the effect that approval of the application would have on the bank’s ability to meet the credit needs of the communities to be served.

Treasury recommends that the Federal Reserve and FDIC adopt principles that are generally aligned with those adopted by the OCC for evaluating various applications from banks with a less-than-satisfactory CRA rating.  In its report, Treasury indicated that regulators use the application process as an incentive to encourage banks with a less-than-satisfactory rating to commit to engaging in additional CRA-eligible activities in LMI communities.

Notably, the Treasury report does not suggest any safe-harbor or similar relief for banks with “Outstanding” CRA ratings, or otherwise recommend updates to the public comment process for licensing applications.  Under current practice, the receipt of any adverse public CRA comment on a merger or other expansionary application will typically delay application processing significantly (and regulators will often consider public comments received even after the close of the comment period), which has been a source of frustration to banks with exemplary CRA ratings.  In 2017, the OCC updated its policy on the review of public comments for licensing filings, clarifying that the OCC will not accept comments after the close of the comment period and will only extend the comment period in extenuating circumstances.  However, the Treasury report does not recommend that the Federal Reserve and FDIC adopt policies similar to those adopted by the OCC for reviewing public comments on application filings.

However, Treasury believes that regulators should make it clear that a community benefits plan, among other strategies, can be an effective tool for banks with less-than-satisfactory ratings to demonstrate how approval of an application would benefit the communities served.

Miscellaneous Items

Nonbanks and CRA.  Although Treasury acknowledges the increasing market share of nonbanks in the market for CRA-eligible loans, Treasury recommends only that regulators continue to monitor the impact of nonbanks on the effectiveness of CRA, calling for more research on the extent to which nonbanks are meeting the credit needs of LMI communities.

This post comes to us from Simpson Thacher & Bartlett LLP. It was originally published as a client memorandum on April 4, 2018, “Treasury Department Issues Recommendations on Reforming the Community Reinvestment Act,” which is available here.

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