CFPB Affirms Lenders Using AI Must Provide Accurate and Specific Reasons For Adverse Action

Regulatory Developments

CFPB Affirms Lenders Using AI Must Provide Accurate and Specific Reasons For Adverse Action
On September 19, the CFPB issued a Consumer Financial Protection Circular affirming that adverse action notices provided by creditors to consumers must disclose accurate and specific reasons for the adverse action – even if the creditor uses AI, complex algorithms, or black-box credit models in making its decision – and even if consumers may be surprised, upset, or angered to learn their credit applications were graded on data that may not intuitively relate to their finances. CFPB sample adverse action forms and checklists provided in Regulation B, implementing the Equal Credit Opportunity Act (ECOA), should not be considered exhaustive and do not automatically satisfy a creditor’s obligations under ECOA if those sample forms or checklists do not reflect the principal reason(s) for the adverse action.  Similarly, providing broad-bucket or vague reasons would violate Regulation B. This circular echoes a 2022 circular by the CFPB confirming that ECOA requires creditors to explain the specific reasons for taking adverse actions and a 2022 advisory opinion that consumer financial protection law requires creditors to provide adverse action notices to consumers when changes are made to existing credit.

“Technology marketed as artificial intelligence is expanding the data used for lending decisions, and also growing the list of potential reasons for why credit is denied…Creditors must be able to specifically explain their reasons for denial. There is no special exemption for artificial intelligence.”

– Director Rohit Chopra, CFPB

CFPB Updates Small Business Lending Rule FAQ 
 On September 14, the CFPB updated its FAQ on the small business lending rule. Changes include additional examples and content to clarify:

• The meanings of the terms “refinancing” and “merchant cash advance”;
• Circumstances under which a letter of credit may be a covered credit transaction;
• Application of the trade credit exclusion when proceeds are used to purchase goods or services from a retailer;
• A guarantor’s revenue is not considered in determining if an applicant is a small business;
• The meaning of firewalls and related compliance considerations; and
• Record retention requirements.

CFPB Announces Annual Adjustments to TILA Thresholds for 2024 in Final Rule
On September 18, the CFPB issued a final rule, effective January 1, 2024, amending the official interpretations for Regulation Z, which implements TILA, to adjust the dollar amounts of various thresholds that impact open-end consumer credit plans, HOEPA loans, and qualified mortgages. 

FinCEN Publishes Notice and Proposed Rule Related to Corporate Transparency Act Beneficial Ownership Information System
Information gathered and maintained by the U.S. Treasury Department’s Financial Crimes Enforcement Network (FinCEN) under the CTA in the Beneficial Ownership Information System (the BOI System) will be exempt from notification and record access requirements (meaning, an individual will not have a right to be notified in response to a request if FinCEN’s BOI System contains information about the person or obtain access to the information), and individuals will not be permitted to contest the contents of the records if, for example, an individual believes that inaccurate information about him or her has been provided by a reporting company. 

Check out Goodwin’s client alert on the topic here. 

Upcoming CTA CLE Program: Goodwin is pleased to offer a CLE webinar in connection with this update. Join partners Samantha Kirby, Bill Stern, and Alex Callen on September 27 at 4 pm EST (1 pm PST) as they share necessary information around compliance with FinCEN’s Beneficial Ownership Reporting Rule under the Corporate Transparency Act (CTA). 

To register, please click here.

Fintech Flash: Why Your Consumer Complaint Response Function Is Vital to Your Business
If you’re offering a financial product or service to consumers, such as a deposit account, loan, credit card, or payment service, you need a strong consumer complaint response function. This is true whether you’re an established financial institution or just starting out.

A consumer complaint response function — often aptly described as the proverbial canary in the coal mine — is a foundational piece of your compliance management system (CMS) that controls how you receive, respond to, and otherwise use complaints to enhance your business’s compliance. Learn more about this topic in a Goodwin’s latest Fintech Flash.

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Litigation and Enforcement Updates

SEC Marketing Rule Enforcement Actions Emphasize Need for Policies and Procedures Regarding the Use of Hypothetical Performance
On September 11, the SEC announced that it has settled with nine SEC-registered investment advisers (Advisers) with over alleged violations of Rule 206(4)-1 under the Investment Advisers Act (the Marketing Rule) and the corresponding provisions of the books and records requirements in Rule 204-2(a)(11) under the Act as a result of their use of hypothetical model or backtested performance returns on their public websites in the absence of required policies and procedures. These enforcement actions follow the first SEC enforcement action under the Marketing Rule on August 24, 2023 that also focused on the lack of required policies and procedures regarding the use of hypothetical performance.   

The Marketing Rule requires that advisers have policies and procedures reasonably designed to ensure that hypothetical performance, among other things, is relevant to the likely financial situation and investment objectives of the intended audience. The SEC alleged that the Advisers violated this requirement by not having such policies and procedures in place.  Additionally, Rule 202-4(a)(11) under the Investment Advisers Act requires, among other things, that advisers maintain a copy of all advertisements that they disseminate directly or indirectly.  The SEC charged two Advisers with violating Rule 202(a)(11) because the Advisers were unable to produce all advertisements that they published on their websites upon request from the SEC. 

Read more about this development in a recent client alert.

U.S. Chamber of Commerce Wins Summary Judgment in Challenge to CFPB’s Update to Its Examination Manual
On September 8, the United States District Court of the Eastern District of Texas granted plaintiff U.S. Chamber of Commerce’s (the Chamber) motion for summary judgment invalidating the CFPB Exam Manual changes from March 2022 that stated that discriminatory conduct may be a UDAAP violation.

As discussed by Goodwin previously, the Chamber sued the CFPB in September 2022 challenging the CFPB’s update to its Examination Manual as outside the scope of its statutory authority. The Chamber moved for summary judgment on November 29, 2022. The CFPB likewise moved to dismiss or, in the alternative, for partial summary judgment, on December 23, 2022, arguing that the Chamber lacked standing and also that the update to the Examination Manual was not a final agency action such that review under the Administrative Procedures Act was not appropriate, among other things. Read more about this update in Goodwin’s Consumer Finance Insights blog post.

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On October 24, Goodwin's Fintech group and co-host J.P. Morgan will be hosting a luncheon reception at TAO Asian Bistro during the Money 20/20 conference. If you would like to attend, please reach out to events@goodwinlaw.com.

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