- HELOC Plans: Compliance and Fair Lending Risks When Property Values Change
- December 20, 2013 | Author: Timothy Spencer
- Law Firm: Weltman, Weinberg & Reis Co., L.P.A. - Brooklyn Heights Office
The manner in which a creditor responds in regard to a consumer’s Home Equity Line of Credit (“HELOC”) following a change in valuation—positive or negative—of the property securing the HELOC may create certain risks for the creditor. Once a change in valuation occurs on the property and the creditor voluntary moves to change the consumer’s HELOC in a way that disadvantages the consumer, the creditor consequently exposes itself to a variety of risks of which the creditor must be aware in order to avoid violating a number of applicable regulations. The following is a useful, albeit concise, guide for creditors that have and continue to issue HELOCs in the wake of the recent financial crisis.
Under Section 1026.40 of Regulation Z, a creditor may reduce the credit limit on a HELOC or prohibit further extensions of credit on the HELOC under certain circumstances, and a creditor that does so is subject to significant compliance requirements. Section 1026.40(f)(3)(vi)(A) provides that, “[n]o creditor may...prohibit additional extensions of credit or reduce the credit limit applicable to [a HELOC account]” unless “the value of the dwelling that secures the [HELOC] declines significantly below the dwelling’s appraised value for purposes of the [HELOC].”1 While the regulation itself does not define “significantly below,”Official Staff Commentary provides that a 50 percent reduction in the difference between the initial credit limit and the available equity is a safe harbor in construing “significantly below.”2 Creditors should use the property’s appraised value at origination against the current appraised value.3 A creditor that acts negatively on a HELOC in response to a change in valuation of a property that qualifies as significant below the property’s HELOC appraised value must then take specific steps to ensure compliance with applicable financial regulations.
A creditor should retain documentation relied upon in making a determination to take action on the HELOC. While a creditor is not required to obtain an appraisal before reducing or freezing a HELOC4, a significant decline must occur before a suspension can occur, and a creditor’s best response to a disputing consumer may be to provide the documentation relied upon by the creditor in making the reduction or freeze. Still, though, a number of class actions have been filed challenging the use of certain methods for determining a significant decline5, and a creditor must arm itself with proper documentation to supports its decision on a HELOC in the event a disgruntled consumer seeks redress for the action. Negative action taken by a creditor on a HELOC mandates certain actions in the area of notice and, if eventually applicable, automatic reversal in certain circumstances.
Creditors are required to give notice to the consumer when a change negatively impacts the consumer’s HELOC; the creditor is also required, in some situations, to provide automatic reversal of the negative change. When a creditor reduces the credit limit or prohibits further extensions on a HELOC, the creditor is required to provide the consumer notice to the consumer within three business days; the notice must specify the reasons for the action.6 If applicable, the creditor must also provide notice to the consumer that the HELOC privileges will be reinstated only upon written demand after the actions or situation giving rise to the suspension of those privileges is cured.7 If no such provision exists within the HELOC agreement, the creditor must make this change automatically when the situation giving rise to the privilege suspension is cured; no notice of the automatic change is needed in that scenario.8 In addition to Regulation Z, creditors must also be mindful of obligations existing under the Equal Credit Opportunity Act (“ECOA”) and the Fair Credit Reporting Act (“FCRA”).
A creditor that takes an adverse action specific to a consumer’s HELOC is subject to both the ECOA’s and FCRA’s provisions relating to adverse action. Under the ECOA, any action that is an “unfavorable change in the terms of an account that does not affect all or substantially all of a class of the creditor’s account” amounts to an adverse action. The ECOA specifically excludes “a change in the terms of an account expressly agreed to by an applicant.”9 Thus, any suspension or reduction of privileges in a HELOC provided for in the HELOC agreement is outside the ECOA’s purview. When the HELOC agreement does not so provide, and negative action on the consumer’s HELOC is subject to the creditor’s discretion, the creditor must be sensitive to any disparate impact that may result from the creditor’s policy decisions as well as be extremely careful that its personnel and its policies are not making business decisions pertaining to the consumer’s HELOC on any unlawful basis—that is, on that basis of race, gender, or another prohibited basis.
The FCRA requires a creditor to provide notice to the consumer when any adverse action is taken on a consumer’s account or when the consumer is denied for credit or a charge is increased based upon the consumer’s credit information. When a creditor opts to reduce the credit limit or prohibit additional extension of credit on a HELOC, and that decision was based upon information received form a third party, the creditor must provide an FCRA notice to the consumer. A creditor may provide both FCRA notice and ECOA notice in the same form notice.
In both declining and inclining times in the housing market, financial regulations place upon creditors issuing HELOCs certain responsibilities. A creditor taking negative action on a HELOC in response to the decline in a securing property’s value must ensure proper notice is given to the consumer, and the creditor must maintain proper procedures for initiating negative action on a HELOC account only when appropriate. Furthermore, if the agreement does not provide otherwise, a creditor must maintain proper procedures for automatically reversing the negative action taken on a HELOC account in such a situation once the event giving rise to the negative action is cured. Effective and responsive policies, along with diligent auditing functions to ensure compliance, should allow for a creditor to remain compliant with multiple financial regulations governing this area.
112 C.F.R. § 1026.40(f)(3)(vi)(A).
3Dolores Collazo, HELOC Plans: Compliance and Fair Lending Risks When Property Values Change, http://www.philadelphiafed.org/bank-resources/publications/consumer-compliance-outlook/2013/third-quarter/heloc-plans-compliance-and-fair-lending-risks-when-property-values-change.cfm (last visited November 22, 2013).
4Dolores, Supra note 3. See also 76 FR 79768.
5Most notably, automated valuation models (AVMs.).
612 C.F.R. § 1026.9(c)(1)(iii).
7Dolores, Supra note 3.
912 C.F.R. § 1002.2(c)(2)(i).