Fintech Federal Charter Could Trigger Community Lending Rules

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By Gregory Roberts

Sept. 28 — A potential national charter for financial technology companies could impose untested new regulations for community investment on marketplace lenders and other nonbank companies.

The regulations would be akin to the requirements placed on banks by the 1977 Community Reinvestment Act (CRA). That law is limited to depository institutions — but the Office of the Comptroller of the Currency (OCC), a bank regulator that is considering creating fintech charters, said the law's principles of providing credit and other services to low- and moderate-income communities could be extended beyond banks.

“The OCC has the ability to condition approvals (of nonbank charters) to require compliance and activities consistent with laws like the CRA,” an agency spokesperson told Bloomberg BNA.

That could deter marketplace lenders from seeking a charter, Andrew Lorentz, a partner at Davis Wright Tremaine, in Washington, told Bloomberg BNA.

“Nobody's going to want to go near it if CRA is a consequence,” he said.

The OCC has not said what nonbank charters would require, or even if it will grant them; a decision is expected by the end of year. Some online lenders, though, are untroubled by the prospect of facing CRA-like rules.

CRA Gets Props

“My reaction is, I think that sounds pretty great,” Kathryn Petralia, a co-founder and head of operations for Kabbage, told Bloomberg BNA. “It's obviously important to continue to invest in communities, particularly communities that have less access to financial products.”

Kabbage is an online balance-sheet lender that focuses on loans to small businesses. Like other online small-business lenders, Kabbage touts its ability to make loans to borrowers who aren't served by banks, in part because the online operators apply computerized underwriting algorithms that look beyond the business owner's FICO score.

That should make it easy for Kabbage to meet any reinvestment obligations, Petralia said. An OCC charter, she said, would benefit Kabbage because the charter would pre-empt the patchwork of state laws governing lenders.

The CRA is designed to encourage banks to make loans and investments and provide retail services in the communities where they operate, and particularly in low- and moderate-income communities. It was passed in reaction to the practice called redlining, under which banks refused to issue home mortgages or provide other services in poor neighborhoods, even as they accepted deposits from residents of those neighborhoods.

“In America, if you're a bank, you can't just decide you're going to loan only to the rich,” president John Taylor, president and CEO of the National Community Reinvestment Coalition (NCRC), a Washington nonprofit with goals similar to those of the CRA, told Bloomberg BNA.

Rules Are Fuzzy

The law does not establish specific quotas or benchmarks for banks to meet, and regulators are charged with protecting the “safety and soundness” of the institutions they oversee. But a CRA review is part of their supervision, and if a bank fails to pass muster, it can be barred from mergers and acquisitions and from opening or closing branches.

The CRA also provides leverage to community groups, who can file letters of comment on a bank's record of compliance. The NCRC reached an agreement in March with KeyBank on a $16.5 billion community development plan and in May with Huntington Banchares Inc. on a $16.1 billion plan, each over five years.

“We definitely support including CRA-like requirements if the OCC decides to grant fintechs a charter,” Dory Rand, president of the Woodstock Institute, a Chicago nonprofit that promotes economic security for low-income and minority communities, told Bloomberg BNA.

“For the fintechs, obviously they don’t provide the same range of services as banks, but if they're doing lending, they can also do investments that benefit communities,” Rand said. “The OCC could tailor its requirements to the type of institution it is and the type of products it offers.”

A key factor in applying the CRA to a conventional bank is defining the community it serves, which is typically a function of where the bank operates brick-and-mortar branches. For internet banks with no branches, regulators have approved “strategic plans” for CRA compliance, with the banks proposing geographic coverage areas they will address.

New Approach Recommended

The OCC would need to make a similar adjustments for online lenders if it grants them charters, Taylor said.

“Wherever those millennials are sitting with a bunch of computers, that’s where their CRA area is if the CRA applies to them, which is ridiculous,” he said. “It's time for the regulators to modernize, to have the evaluative system under CRA to mirror how the industry operates.”

A bigger issue may be the legal basis for the OCC's extension of the CRA to a nonbank, Richard Eckman, a partner with Pepper Hamilton LLC in Wilmington, Del., told Bloomberg BNA.

“It seems like a stretch,” Eckman said. “It's certainly new public policy. It's certainly not something that Congress has ever dealt with.

“I suppose you are getting a government benefit and it comes at a cost,” Eckman said. “And that cost is, to be blunt about it, you have to provide low-cost loans or make investments in your local community: One of the costs of getting the charter would be that requirement. Whether they have the authority to do that, I think, is an interesting question.”

Another question, Eckman said, is what the penalty would be for failing to satisfy any CRA-like requirements OCC might specify for fintech companies.

“Are they going to pull your charter because you don't achieve whatever CRA goals they set?” he asked. “That would be pretty harsh.

“If they can pull your charter because some examiner doesn't think you've met your CRA obligations, I'm not sure people are going to risk capital and invest in that business.”

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