🔒Reporting discrimination: New, but delayed, reporting requirements seek to identify bias in small business loan approvals and denials

In an effort to identify and eliminate discrimination in small business lending, Central Massachusetts banks and other lenders are preparing for new federal reporting requirements for business loan applications, while monitoring the outcome of the ongoing lawsuits surrounding the rule.

“Minority-owned companies have a history of being turned down by the larger financial institutions,” said Darrell Byers, CEO of Interise, a Boston company aiming to help minority and women-owned businesses grow.

The new rule from the Consumer Financial Protection Bureau requires lenders who make at least 100 business loans a year to collect the race, gender, and other demographic information of applicants, similar to data collected on people applying for mortgages. By collecting the data, the thinking goes areas of discrimination could be identified and addressed.

While generally supportive of the new rule, the lending industry is concerned about the onus the new requirements put on banks as well as small business loan applicants, who may be intimidated by the amount of data they need to provide.

“If I’m applying for a loan and you’re asking for a lot of information from me, I might be resistant at first because I’ve never been asked that before,” said Tom Herald, Central Massachusetts regional director for the Small Business Development Center at Clark University in Worcester. “There’s always going to be a thought in the back of my mind like, 'What are you going to do with that data?'”

Legal issue delaying rollout

For all covered financial institutions, the CFPB compliance dates for the rule have been delayed due to legal challenges in Texas and Kentucky. Both district courts have issued preliminary injunctions against the data collection rule pending the outcome of a separate U.S. Supreme Court case regarding the CFPB’s appeal against a ruling that declared its funding unconstitutional.

Banks are updating software and training staff in anticipation of the rule’s implementation, said Tom Callahan, executive director of the Partnership for Financial Equity, a coalition of Mass. financial institutions and community groups.

“The banks that we work with most closely have been moving towards implementation, and understanding that, while it is an additional administrative burden, there are also some larger goals that the government is trying to get out of this disclosure act, in terms of reducing discriminatory lending,” he said.

In Worcester County, 21% of small businesses are located in areas with more than 50% minority population, but only 12% of loans went to businesses in those same areas, according to data from the Woodstock Institute for the Partnership for Financial Equity in Chicago. In Massachusetts, 7.9% of loans went to businesses in low-income census tracts.

Callahan said researchers are only able to analyze the distribution of loans based on where businesses are located. However, under the new rule, organizations would be able to analyze how many loans are given to women-owned or minority-owned businesses.

In Worcester County, the Auburn-based community bank Webster Five Cents Savings Bank made loans averaging more than $43,000 to businesses in low-income areas, compared to the $10,000 average loaned by credit card banks like Customers Bank in Pennsylvania, according to the data.

Businesses owned by members of marginalized communities have a harder time obtaining loans for two main reasons: their lack of financial history or the inheritance of high credit scores, considered as indicators of financial reliability and success, said Byers.

For small business owners unable to secure bank loans capital, microloans averaging $25,000 are available through the Small Business Association and Economic Development Administration lenders, such as the North Central Massachusetts Chamber of Commerce.

“We’re a little bit more flexible, and we exist to help make these smaller loans that may be a little bit more riskier to a bank,” said Roy Nascimento, chamber president and CEO. “We’re willing to take another look at a prospective borrower and see if there’s an opportunity for the loan to create some jobs or help revitalize a community.”

As an alternative lender, the chamber requires borrowers to demonstrate they have been rejected by traditional lending sources before it can assist them.

Concerns over the new law

Enterprise Bank, a commercial trust institution based in Lowell, averaged loans more than $53,000 to small businesses in Worcester County's low-income areas last year. Regarding the new loan data reporting rule, Enterprise said in a 2022 comment letter the requirement for additional data submission imposes an undue burden by diverting compliance resources solely to data collection and reporting.

“Community banks are already being stretched to their capacity in terms of cost and resources with respect to the recent flurry of increased regulatory compliance requirements,” Laura Feeney, compliance director and Community Reinvestment Act officer at Enterprise, wrote in the comment letter.

Under the new rule, lenders would be required to report 81 data fields about each business loan applicant, compared to the current 13 data points specified in the Dodd-Frank Act, according to the Massachusetts Bankers Association.

“Our members oppose discrimination in any form, and support enforcement of fair lending laws,” MBA officials wrote in a statement to WBJ. “We are also worried that the data received could put small businesses’ privacy at risk.”

MBA is concerned the publication of the collected data could expose sensitive personal and business information, potentially violating small business owners’ privacy, raising fraud risks, and leading to the uncontrolled aggregation, sale, and use of their information.

Data points associated with personal private information may not be comfortable for business owners to share with lenders or third-party agencies, said Herald from the Small Business Development Center.

Safeguarding personal information will be a big responsibility for banks and all involved in the data collection process and will require programs to ensure to both consumers and banks the reported data is protected, he said.

“It's an evolution, and that’s inevitable,” Herald said. “If this is the new path of requirements for adding new partners, that could be a great thing because we're getting governments, businesses, banks and a community working together.”

The new regulation could reveal which institutions are providing loans to minority-owned businesses, enabling these borrowers to seek financing from those specific lenders, Byers said.

“It is an opportunity to change the dynamic for some lending institutions, and a chance for lending institutions to start really having an impact on a minority of small businesses,” Byers said.

If the rule is enacted, Callahan said his coalition intends to provide a one-page handout to banks and their small business customers, clarifying that the collection of demographic information is to gather aggregate data to address discriminatory lending practices rather than for individuals used by the bank.