Adverse action notice requirements and how lenders can avoid risk

The regulations establishing adverse action notice requirements related to credit score disclosures have remained the same since 2011’s model form update under the Dodd-Frank Wall Street Reform and Consumer Protection Act. Still, errors in the completion of adverse action notices persist at a high level.

The Equal Credit Opportunity Act (ECOA)/Regulation B and the Fair Credit Reporting Act (FCRA)/Regulation V serve the dual purposes of consumer protection and consumer education. Both have specific disclosure requirements when credit cannot be extended to an applicant under the requested terms. While ECOA and Regulation B protect an applicant against unlawful discrimination, FCRA and Regulation V protect the consumer’s credit profile.

Here’s a breakdown of the requirements and how you can better meet compliance:

What is adverse action?

The ECOA defines adverse action as:

• A refusal to grant credit in substantially the amount or on substantially the terms requested in an application unless the creditor makes a counteroffer (to grant credit in a different amount or on other terms) and the applicant uses or expressly accepts the credit offered.
• A termination of an account or an unfavorable change in the terms of an account that does not affect all or substantially all of a class of the creditor’s accounts.
• A refusal to increase the amount of credit available to an applicant who has made an application for an increase.

An adverse action does not include:

• A change in the terms of an account expressly agreed to by an applicant.
• Any action or forbearance relating to an account taken in connection with inactivity, default, or delinquency as to that account.
• A refusal or failure to authorize an account transaction at point of sale or loan, except when the refusal is a termination or an unfavorable change in the terms of an account that does not affect all or substantially all of a class of the creditor’s accounts, or when the refusal is a denial of an application for an increase in the amount of credit available under the account.
• A refusal to extend credit because applicable law prohibits the creditor from extending the credit requested.
• A refusal to extend credit because the creditor does not offer the type of credit or credit plan requested.

The FCRA adopts the same definition for adverse action. However, the FCRA expands the meaning to include:

• A denial or cancellation of, an increase in any charge for, or a reduction or other adverse or unfavorable change in the terms of coverage or amount of, any insurance, existing or applied for, in connection with the underwriting of insurance.
• A denial of employment or any other decision for employment purposes that adversely affects any current or prospective employee.
• A denial or cancellation of, an increase in any charge for, or any other adverse or unfavorable change in the terms of, any license or benefit described in Section 1681b(a)(3)(D) of the FCRA.
• An action taken or determination that is made in connection with an application that was made by, or a transaction that was initiated by, any consumer, or in connection with a review of an account under Section 1681b(a)(3)(F)(ii) of the FCRA, and adverse to the interest of the consumer.

How long does a lender have to notify of adverse action?

An ECOA notice has to be provided to the applicant within 30 days of receipt of a completed application, taking adverse action on an incomplete application or taking adverse action on an existing account, and within 90 days of notifying the applicant of a counteroffer if the applicant does not expressly accept the counteroffer.

If information needed to make a credit decision is not obtained within 30 days, an incomplete letter meeting the requirements within Regulation B or a denial for incompleteness must be provided.

Once enough information is received to make a credit decision, the creditor has 30 days to send a notification of denial. For example, if income verification is returned with an income lower than needed to approve the loan, the creditor has 30 days from receipt of the verification to send an adverse action notice.

What disclosures are required for ECOA?

For consumer applications, the boxes to check under ECOA and Regulation B include:

• A written statement of actual and specific reasons for the adverse action or, if not providing the specific reason within the written notice, a statement that the applicant has a right to receive the specific reason for adverse action if requested within 60 days of the notification.
• The ECOA disclosure notice as contained in §1002.9(b)(1) or a substantially similar notice.
• The name and address of the agency overseeing the institution’s compliance with ECOA/Regulation B.

Errors often come up in listing the specific reasons for denial. In some cases, the consumer not passing the criteria in an internal scoring system is listed as the reason for denial. Because consumers are unaware of what goes into an internal scoring system, the rules state that the underlying reasons why the applicant didn’t meet the requirements need to be listed.

Compliance with the Regulation V disclosure requirements is required when adverse action is taken based on information contained in the applicant’s credit report and is specific to the credit report used in establishing eligibility for credit for personal, family or household purposes.

What disclosures are required for FCRA?

The following disclosures are required under the FCRA adverse action notice requirements and Regulation V:

• A statement that the credit decision was made in whole or in part on information contained in a credit report, and the credit reporting agency was not involved in the credit-making decision and cannot provide information as to the reason for the decision.
• A statement of the applicant’s right to request a free copy of their credit report from the credit reporting agency supplying the credit information.
• A statement that the free copy of the credit report must be requested within 60 days of the notice.
• A statement that the applicant may dispute the accuracy and completeness of the credit report directly with the credit reporting agency.
• A statement that credit information was obtained from an affiliate or from an outside source other than a consumer reporting agency, and that the consumer can make a written request within 60 days after receipt of the notice for disclosure of the nature of the information.
• The applicant’s credit score is used in arriving at the credit determination, and the reasons the score is not higher.
• The name, address and toll-free telephone number of the credit reporting agency furnishing the credit information.

If the reason for taking adverse action is not based upon information contained in a credit report, the adverse action notice should not be marked to state that a credit report was obtained, and the credit score information should not be listed. For example, if the reason for denial is only related to the value of the collateral, the FCRA/Regulation V boxes should not be checked.

The name and address of the credit reporting agency providing the consumer credit report should be included when the denial is based on information from a consumer report. In some cases, the creditor obtains the consumer report from a consumer reporting agency other than TransUnion, Experian or Equifax, and in those cases, the consumer reporting agency that provided the credit report should be listed.

The credit score and the reasons the credit score is not higher must be included on adverse action notices if the credit score was used in the adverse action determination, even if it was not a significant factor in the decision.

Keep in mind that guarantors and co-signers do not receive adverse action notices. Therefore, the credit scores of guarantors or co-signers should not be listed on the applicant’s adverse action notice.

Adverse action notice compliance: Practical tips for lenders

Creditors and regulators are advised to ensure the specific reasons for adverse action are identified on the adverse action notices, even if complex algorithms and artificial intelligence are used within automated underwriting systems and make it difficult for consumers to understand the real reasons for denial.

Ultimately, the creditor is responsible for ensuring that the decision-making process of any automated system is fair and equitable to all. The guidance states that if the creditor is unable to determine the principal reasons of denial because they don’t understand the complex algorithms in play, the system should not be used.

It’s also important to note that applications are often marked withdrawn when, in fact, they should be considered denied according to the ECOA.

When a creditor cannot provide credit under the terms applied for and the applicant does not accept any counteroffer provided, the application is considered denied. A lender’s notes stating that the appraisal came in too low and that the applicant withdrew should generally be considered a denial of the loan amount applied for.

How Wipfli can help

Don’t let adverse action errors put your institution at risk. Wipfli’s financial services support helps lenders build fair, defensible and compliant credit decisioning practices.

Reach out to our financial services team today for support in navigating your review processes.

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