Federal Regulators Issue Joint Statement on the Use of Alternative Data in Credit Underwriting

On December 3, 2019, the FRB, CFPB, FDIC, NCUA and OCC (the “regulators”) issued a joint statement concerning the use of alternative data in credit underwriting (the “Statement”). The statement is directed to both depository and non-depository financial institutions (collectively “institutions”). The alternative data covered by the Statement is the type of information not typically found in the consumer’s credit report or that is usually provided by consumers as part of a credit application. It is information that may be derived from a variety of sources, including, from bank account data, social network websites, and other sources.

The overall tone of the Statement is positive and shows that the regulators are cautious to not show disfavor to the use of alternative data. In the Statement the regulators acknowledge that the use of alternative data may improve the speed and accuracy of credit decisions, increase credit availability to a broader range of consumers and small businesses and reduce cost of credit. For example, the Statement favorably discusses the use of cash flow data to evaluate the creditworthiness of customers and small businesses, particularly when used from reliable sources such as bank records that ensure accuracy. It also acknowledges the use of alternative data for “Second Look” programs, i.e., the reevaluation of applicants are denied credit under traditional credit criteria, may increase credit opportunities for more borrowers.

While acknowledging the potential benefits of alternative data, the Statement reiterates that the use of alternative data may increase consumer protection risk. It maintains that the use of alternative data in credit underwriting must be consistent with consumer protection laws, including fair lending laws, e.g., Equal Credit Opportunity Act (“ECOA”), Unfair, Deceptive, or Abusive Acts or Practices (“UDAAP”), and the Fair Credit Reporting Act (“FCRA”).

The Statement reminds institutions that before they begin using alternative data they must ensure they have a robust compliance management program in place that rigorously assesses the relevant consumer protection laws. Such compliance management program should include appropriate, testing, monitoring, controls and proactive redress when compliance issues are detected.

Takeaways

Alternative data can bring efficiencies to various points in the credit life cycle, including to credit marketing, underwriting, fraud detection, pricing and servicing. Institutions interested in leveraging alternative data to reach a broader range of customers and to create process efficiencies must ensure that they (i) thoroughly vet the type of alternative data used, (ii) understand the criteria employed to gather the information, and (iii) that they have compliance systems in place to ensure consumer protection. Institutions intending to use alternative data in their credit production or servicing are encouraged to engage their regulators prior to deploying such system into the production lines.

If you have any question regarding the Statement or on compliant use of alternative data, please contact Solomon Maman.

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