FEDERAL RESERVE BANKOF NEW YORK

Circular No. 8909August 29, 1980

PROPOSED INTERPRETATIONS OF REGULATION B —Consideration of Income in Determining Creditworthiness

—Disclosure of Reasons for Adverse Action on Request for Credit

To A ll Member Banks, and Others Concerned, in the Second Federal Reserve District:

The Board of Governors of the Federal Reserve System has invited public comment on two pro­posed interpretations of its Regulation B, “Equal Credit Opportunity,’’ regarding a creditor’s con­sideration of income in determining a credit applicant’s creditworthiness, and the disclosure of reasons for adverse action by a creditor on a request for credit. The Board of Governors asked for comment by October 20, 1980.

The following is quoted from a press statement issued by the Board regarding the proposed inter­pretations:

The first proposed interpretation deals with the meaning of the requirement in Regulation B that a creditor not discount or exclude from consideration an applicant’s income because it derives from alimony, child support, separate maintenance, part-time employment, retirement benefits or public assistance.

The second proposed interpretation addresses the question of how a creditor should select and disclose the principal reason or reasons for an adverse action on a request for extension of credit.

Although the questions raised — in answer to an earlier request for comment by the Board — were in the context of credit scoring, the Board emphasized that the provisions of Regulation B generally apply equally to all forms of analysis by creditors of the creditworthiness of consumers, whether the analysis is carried out judgmentally or through the use of credit scoring systems. The principles proposed would therefore apply equally to the use of judgmental analysis and the use of credit scoring systems.

1. C o n s id e ra tio n o f in co m e

The Board proposed three basic principles as governing consideration of income under Regulation B:

a. If income is considered at all in a credit evaluation system, the creditor must treat income derived from alimony, child support, separate maintenance, part-time employment, retirement benefits or public assistance at least as favorably as other income.

b. Where consideration of these “ protected” incomes would have no effect on the credit decision, the creditor need not consider them.

c. A creditor may consider, on a case-by-case basis, the likelihood that income of any kind will be received consistently and in a timely manner during the term of the credit extension.

The Board proposed that creditors following these rules in good faith would be considered in com­pliance with the requirements of Regulation B concerning consideration of income.

The Board followed the proposal of these basic principles with several illustrations of their applica­tion. The Board asked for comment whether the illustrative material is needed and helpful, or whether it adds undesirable complexity to the interpretation.

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These illustrations concern the equal treatment of protected income, what income is to be considered in making credit decisions and the evaluation of the reliability of income.

2. S e le c tio n a n d d isc lo su re o f re a so n s f o r a d v e rse a c tio n on a re q u e s t f o r c red it

The Board noted that here, as well as in the consideration of income, although the questions prompt­ing the proposed interpretation have arisen in the context of credit scoring, it is the Board’s view that the principles proposed apply equally to credit decisions based on credit scoring or judgmental systems of evaluation of an applicant’s creditworthiness.

The Board proposed the following general principles with respect to the selection and disclosure of reasons for adverse action:

a. Regulation B (Sections 202.9(a)(2) and (b)(2)) requires disclosure of factors actually scored or reviewed by the creditor. No factors may be arbitrarily excluded from the pool of factors for adverse action subject to disclosure.

b. The optimal disclosure for either a judgmental or numerical system would identify the minimum adjustments an applicant would have to make to qualify for credit. Such disclosure, however, may be beyond the capabilities of many creditors. Other than the optimal disclosure there is no one best method for selecting reasons for adverse action, nor any absolute number of factors that should be disclosed.

c. Whatever method of selecting reasons for adverse actions is used, the same selection method must be used for all applications assessed under the same evaluation procedures and standards of credit- worthiness (although the creditor may change the method from time to time).

The Board provided several proposed illustrations of the application of these principles and here also asked for comment whether the inclusion of the illustrations would be helpful or whether they add unnecessary complexity to the proposed interpretation.

The illustrations concern disclosure of reasons where adverse action is automatic, relationship of reasons for adverse action to factors in the applicant’s record and selection of reasons for adverse action.

The proposed interpretation also addresses the use of the sample form in Regulation B (Section 202.9(b)(2)) to disclose reasons for adverse action when the factors considered in making the decision do not correspond exactly to the reasons stated in the sample form. In such instances, the Board said, the sample form would have to be modified.

Printed below is the text of the Board’s notice regarding the proposed interpretations of Regula­tion B. Comments should be submitted by October 20, and may be sent to our Regulations Division.

An th o n y M. So l o m o n ,President.

FEDERAL RESERVE SYSTEM

12 CFR Part 202[Reg. B; Docket No. R-0203]

Equal Credit Opportunity; Proposed Board Interpretations; Consideration of Income; Disclosure of Reasons for Adverse ActionAGENCY: B oard o f G overnors o f the F ederal R eserve S ystem .ACTION: P rop osed B oard in terpretations

SUMMARY: T he B oard is proposing for public com m en t tw o in terpretations o f its R egu lation B, w h ich im p lem en ts the Equal C redit O pportunity A ct. T he first p ro p o sed in terpretation d is c u sse s the m ean in g o f the regulatory requirem ent that a cred itor not ‘‘d isco u n t or ex c lu d e from co n sid era tio n ” an a p p lica n t’s in co m e b e c a u se it d er iv es from alim ony.

ch ild support, sep arate m ain ten an ce , part-tim e em p loym en t, retirem ent b en efits , or public a ss is ta n c e . T he seco n d p rop osed in terpretation a d d resse s the is su e o f h o w a creditor sh ou ld s e le c t and d isc lo se the principal rea so n or rea so n s for an a d v erse credit d ec is io n . T h ese in terpretations derive from q u estio n s that h a v e b een ra ised about the ap p lica tion o f R egu lation B to cred it scoring sy stem s, but the b a sic p rin cip les app ly a s w e ll to judgm ental sy stem s.d a t e : C om m ents m ust be rece iv ed on or b efore O ctob er 20 ,1980 .ADDRESS: C om m ents (w h ich shou ld refer to D o ck et N o. R -0203) m ay be m a iled to the Secretary, B oard o f G overnors o f the F ederal R eserv e System , W ash in gton , D.C. 20551, or m ay be d e liv ered to R oom B -2223 in the B oard B uilding, 20th S treet and

C onstitu tion A v en u e, N .W ., W ash ington ,D .C., b e tw e e n 8:45 a.m . an d 5:15 p.m. on b u sin e ss d a y s. C om m ents m ay be r e v ie w ed in R oom B -1122 o f the Board B uild ing during th o se sam e hours.

FOR FURTHER INFORMATION CONTACT:Stanley D. Mabbitt, Attorney. Division of Consumer and Community Affairs, Board of Governors of the Federal Reserve System, Washington, D.C. 20651 (202-452-3867).

SUPPLEMENTARY INFORMATION: Last year the B oard rece iv ed sev era l req u ests for clar ifica tion o f h o w certain p ro v is io n s o f its R egu lation B apply to the operation o f num erical cred it scoring s y s te m s .1 In

'Basically, credit scoring is the use of statisticaltechniques to assign points or weights to various applicant characteristics (e.g. income, credit history)

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resp o n se to th ese req u ests, the B oard a sk ed for public com m ent (44 FR 23865, A pril 23 ,1979) on four q u estio n s about R egulation B’s ap p lica tion to credit scoring system s:• M ay a cred it scoring sy stem score the

fact that an ap p lican t h a s m ore than on e job or m ultip le so u rces o f incom e, and m ay it score seco n d a ry in com e differently from prim ary incom e?

• How must a scoring system consider the amount of an applicant’s income derived from part-time employment, pension, or alimony?

• H o w m ust a cred itor using a scoring sy stem se le c t the sp ec ific rea so n s for a d v erse action?

• Under what circumstances may a creditor employing a credit scoring system use the reasons for adverse action contained in Regulation B’s model statement?T he B oard rece iv ed n early 300 w ritten

com m en ts from m em bers o f the C ongress, fed era l and sta te ag en cies , industry, and aca d em ics. T he com m en ts ex p ressed a w id e d iversity o f v ie w s about h o w R egulation B ’s ru les shou ld app ly to cred it scoring sy stem s. G enerally , cred itors (retailers, oil co m p an ies, banks, and trade a sso c ia tio n s) c la im ed that a properly d esig n ed cred it scoring sy stem is an accurate, ob jec tiv e m ech an ism for determ ining cred itw orth in ess. In order to p reserve the em pirical and s ta tis tica l character o f su ch a sy stem , th ey su g g ested that a cred itor b e a llo w ed w id e la titude to in clu d e in or ex c lu d e from a particular sy stem the am ount and so u rces o f an ap p lican t’s in com e depend ing on w h eth er th o se factors w ere re la ted in a s ta tis t ic a lly sign ifican t w a y to cred itw orth in ess a s e sta b lish ed b y the creditor d ev elo p in g the system . T h ey a lso a d v o ca ted that w id e la titude by g iven to determ ining the m ost appropriate w a y for se lec tin g and d isc lo sin g the principal rea so n or rea so n s for an a d v erse cred it d ec is io n .

Consumer commenters (including several members of the Congress and a number of individual consumers) generally were concerned that the Board not reduce or eliminate what they perceived as the basic protections already afforded by the law. Thus, they were opposed to allowing creditors the

F o o tn o tes continued from last page or other factors relevant to the transaction (e.g. type of security) in order to predict the likelihood that the applicant will satisfactorily repay the credit. In Regulation B, an empirically and statistically derived credit scoring system is contrasted with the Judgmental evaluation performed by a credit officer or committee; compare the definition of “a demonstrably and statistically sound, empirically derived credit system” in { 202.2(p) with the definition of "judgmental system of evaluating applicants” in { 202.2(t).

d egree o f f lex ib ility sought b y the industry b ec a u se o f the con cern that that f lex ib ility m ight b e u sed to m ask illeg a lly d iscrim inatory p ractices.

The multiplicity of viewpoints, lade of consensus, and underlying technical complexity of the questions raised in the comment process led to a through reconsideration of the issues and the policy options available. Based upon that review the Board has decided to issue for public comment two proposed interpretations. Both proposed interpretations affirm the Board’s conclusion, based upon an analysis of the comments and the Equal Credit Opportunity Act, that the rules in Regulation B generally apply uniformly to all creditors, whether evaluating creditworthiness judgmentally or through a credit scoring system.

T he first p rop osa l (Interpretation § 202.601) a d d resse s sev era l is su e s concern ing con sid era tio n o f in co m e and in com e reliab ility . T hree g en era l p rin cip les are sta ted at the o u tset in the p ro p o sed interpretation , and the p rop osa l then e la b o ra tes on h o w th o se pricip les apply in sev era l d ifferent factu al situ ation w h ere g u id an ce w a s sought from the Board. In issu in g the in terpretation for com m ent, the B oard is particu larly in terested in k n ow n in g w h eth er the ex p la n a tio n o f h o w the b a s ic p rin cip les app ly in d ifferent co n tex ts is n e e d e d to p rovide the n e c e ssa r y gu id an ce, or w h eth er the sp ec ific ity a d d s an u n d esirab le d egree o f co m p lex ity or is o th erw ise u n n ecessa ry .

T he se c o n d p rop osa l (Interpretation § 202.901) se ts forth sev era l princip les govern ing the se lec tio n and d isc lo su re o f rea so n s for a d v erse action . T he p rop osa l then ex p la in s h o w th o se p rin cip les are applied . A gain , the B oard in v ites com m ent on w h eth er the ad d ition a l ex p la n a to ry m ateria l in the p rop osa l is d esirab le . In ad d ition to the in terpretation in the seco n d proposa l, the B oard is co n sid erin g the d esirab ility o f en couraging or requiring cred itors to in d ica te to the ap p lican t the typ e o f credit ev a lu a tio n sy s tem u sed — w h eth er judgm ental or cred it scoring— and to d escr ib e b r iefly the m ethod o f se lec tin g the principal rea so n or rea so n s for a d v erse action . T h ese ex p la n a tio n s m ight further the co n g ress io n a l purpose o f ed u catin g con su m ers about w h y th ey w ere d en ied credit and h o w th ey m ight im prove their cred itw orth in ess . O n d ie other hand, requiring or e v en en couraging th e se ad d ition a l d isc lo su res , h o w ev er brief, w o u ld in crea se co m p lia n ce c o sts and burdens. T herefore, the B oard sp ec ifica lly a sk s for com m en t on the m erits o f th ese p o ss ib le d isc lo su res .

For these reasons and under the

authority granted in § 703(a) o f the Equal C redit O pportunity A ct (15 U .S .C . 1691(a)), the B oard is su e s for pu b lic com m ent the fo llo w in g tw o p ro p o sed in terp retation s o f R egu lation B (12 CFR Part 202):

§ *32.601 Consideration of Income.(a) Introduction. Questions have

arisen about the rules in Regulation B governing consideration of income— particularly as those rules apply to the operation of a credit scoring system. 2 In resolving those issues, the Board wishes to make clear that the provisions of Regulation B generally apply equally to all forms of credit analysis—whether performed judgmentally or through the use of a credit scoring system. * 2 3

(b) Basic principles. There are three basic principles that govern consideration of income under Regulation B. First, the regulation does not require consideration of income by a credit evaluation system. But, if income is considered at all by a credit system, a creditor must treat income relied upon by an applicant that is derived from alimony, child support, separate maintence, part-time employment, retirement benefits, or public assistance at least as favorably as income from any other source. 4 5 Second, where consideration of protected income would have no effect on the credit decision, the creditor is not required to consider it. Third, a creditor may consider, evaluating the circumstances of each case, the likelihood that any income relied upon—regardless of its source—will be received consistently and in a timely manner during the term

2 Section 202.8(b)(5) states in relevant part;A creditor shall not discount or exclude from

consideration the income of an applicant or the spouse of the applicant because of a prohibited basis or because the income is derived from part- time employment, or from an annuity, pension, or other retirement benefit; but a creditor may consider the amount and probably continuance of any income in evaluating an applicant's creditworthiness. Where an applicant relies on alimony, child support, or separate maintanance payments in applying for credit, a creditor shall consider such payments as income to the extent that they are likely to be consistently made. Factors that a creditor may consider in determining the likelihood of consistent payments include, but are not limited to, whether the payments are received pursuant to a written agreement or court decree; the length of time that the payments have been received; the regularity of receipt; the availability of procedures to compel payment; and the creditworthiness of the payor.. . .

2The only differences in evaluation procedures for the two methods of judging creditworthiness that are sanctioned by the law relate to consideration of age and receipt of public assistance (seeS 2O2.0(b)(2)(ii) and (iii)).

‘ For the purpose of this interpretation, income derived from any source mentioned in5 ?02.8(b)(5)—alimony, child support, separate maintenance, part-time employment, retirement benefits, or public assistance—is referred to as "protected income.”

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o f the cred it ex ten s io n . If a cred itor fo llo w s th ese p rin cip les in go o d faith , it w ill be actin g in com p lian ce w ith the in co m e con sid era tio n ru les in R egu lation B. T h e rem ainder o f th is in terpretation ex p la in s h o w th ese princip les app ly in different co n tex ts .

Paragraphs (c)-(e)—Illustration of the Application of General Principles

(c) Equal treatment of protected income. (1) A s long as p rotected in com e is treated at lea st a s favorab ly a s the am ount o f incom e from a n y other source, a creditor using a cred it scoring sy stem m ay com ply w ith the incom e co n sid era tio n rule o f R egu lation B (i) by scoring the am ount o f an y p rotected in com e as on e or m ore ch aracter istics in the system , (ii) by adding it to the am ount o f other in com e scored , or (iii) b y judgm entally co n sid erin g it o u tsid e o f the system . A cred it scoring sy stem w ill not be deprived o f its sta tu s as a d em on strab ly and sta tis t ica lly sound, em pirica lly derived credit sy s tem b eca u se it aggregates p rotected incom e, w h ich by itse lf w o u ld n ot be se lec ted as a p red ictive characteristic , w ith other incom e. S im ilarly, the fact that a cred itor using a credit scoring sy stem m ight co n sid er p rotected in com e ou tsid e the sy stem w o u ld not change the sta tu s o f the sy stem for R egu lation B purposes.

(2) G enerally , a cred itor m ay co n sid er the nature and num ber o f an y incom e sou rces, a s long as p rotected in com e is treated at le a s t as favorab ly as incom e from other sources.* A cred itor m ay co n sid er, for exam p le, that an ap p lican t h a s tw o so u rces o f in com e— em p loym en t an d in v estm en ts— and m ay co n sid er w h a t th o se so u rces are. If the ap p lican t a lso re lie s upon a lim o n y and retirem ent p aym en ts, the cred itor cou ld not co n sid er the a lim on y an d retirem ent in co m e le s s favorab ly than the em p loym en t or in v estm en t in com e b e c a u se o f the type o f in com e or the num ber o f sou rces. Sim ilarly, a creditor co u ld not co n sid er em p loym en t in com e le s s favorab ly than other incom e b ec a u se it w a s d erived from sev era l part-tim e jobs.

(d) Consideration of protected income. (1 ) The rule prohibiting the discounting or exclusion of protected income does not require consideration of that income where its consideration would have no effect on the credit decision. Thus, if a creditor would approve an application without considering any income at all, it would not have to consider protected income. If income is considered but the

‘ Under § 202.6(b)(1) a creditor may never consider that income is derived from public assistance unless, in a judgmental evaluation, it is considered under 5 202.6(b)(2)(iii) for the purpose of determining a pertinent element o f creditworthiness.

am ount o f p rotected in com e is n ot n ee d e d for approval, the p rotected in co m e n eed n ot be co n sid ered . A lso , if a portion o f an y p rotected in com e w o u ld b e su ffic ien t to support approval, then an y portion or type o f that in co m e not n ee d e d for approval w o u ld not h a v e to be co n sid ered . In each ca se , the cred itor’s practice w o u ld b e p erm issib le b e c a u se no a d v erse a ctio n w o u ld h a v e b een taken.

(2) Sim ilarly, if a cred itor w o u ld take a d v erse actio n w ith ou t co n sid erin g in com e at all, then the cred itor n eed not co n sid er the ap p lica n t’s in com e regard less o f its sou rce b eca u se co n sid era tio n o f in com e w o u ld not ch an ge the r e su lt For ex a m p le , a cred itor m ight reject an a p p lica tion b ec a u se o f the a p p lica n t’s cred it h istory, n o tw ith sta n d in g the am ount or so u rces o f the ap p lica n t’s in com e.

(3) If, on the other hand, a cred itor co n sid ers a n y portion o f the in com e relied upon in an ap p lica tion , it w o u ld h a v e to co n sid er an y p rotected in com e re lied upon b efore it co u ld take a d v erse action . For ex a m p le , if an ap p lica n t’s em p loym en t in com e w ere n ot su ffic ien t to repay the credit, the cred itor w o u ld h a v e to con sid er, at lea s t a s favorab ly a s the ap p lica n t’s em p loym en t incom e, any alim ony, retirem ent, or public a ss is ta n c e in com e relied upon by the app licant. In add ition , the cred itor m ay n ot d iscou rage the ap p lican t from d isc lo s in g the e x is te n c e o f p rotected in com e if the ap p lican t c h o o se s to rely on that incom e.

(e) Considering reliability of income.A creditor m ay co n sid er the lik e lih o o d that a n y in co m e re lied upon— regard less o f its source— w ill be rece iv ed co n s is te n tly and in a tim ely m anner during the term o f the cred it ex ten s io n .In co n sid erin g the re lia b ility o f an y p ro tected incom e, a cred itor m ust m ake its ev a lu a tio n on an in d iv id u a l b a sis , taking into acco u n t the c ircu m sta n ces o f ea ch ca se .

(f) Prospective effect. T his in terpretation sh a ll h a v e p ro sp ectiv e effec t o n ly after b ein g prom ulgated in fina l form.

§ 202.901 Disclosure of reasons for adverse action.

(a) Introduction. T he B oard h a s b een a sk ed for an in terpretation o f § 202.9 o f R egulation B regarding the se lec tio n and d isc lo su re o f the rea so n s for a d v erse a ctio n w h ere a cred it scoring sy s tem is u sed a lo n e or in co n ju n ction w ith a judgm ental evaluation.® A lthough the

‘ Section 202J)(a)(2) states in relevant part: Any notification given to applicant against whom adverse action is taken shall be in writing and shall contain . . . a statement o f specific reasons f o r theaction taken.

issue has arisen in the context of credit scoring, the Board wishes to make clear that, as a general principle, the provisions of Regulation B apply equally to both judgmental and credit scoring systems of credit evaluation.

(b) Basic principles. The reasons for adverse action disclosed under§ § 202.9(a)(2) and (b)(2) m ust rela te to th ose fa c to rs actu a lly sco red or r e v ie w ed by the creditor, and n o factor or factors m ay be arbitrarily ex c lu d ed from the p oo l o f factors su b ject to d isc losu re . W h ile the optim al d isc losu re for either a judgm ental or num erical sy stem w o u ld id en tify the m inim um ad ju stm en ts that the app licant w o u ld h a v e to m ake in order to be approved for cred it, that d isc lo su re m ay be b ey o n d the ca p a b ility o f m any cred it scoring and judgm ental sy stem s. M oving a w a y from the optim al d isc losu re , there is no on e b est m ethod for se lec tin g the rea so n for the a d v erse d ec is io n , nor is there an a b so lu te num ber o f rea so n s that sh ou ld be d isc lo sed . W h a tev er m ethod o f se lec tio n is u sed , the cred itor m ust u se the sa m e se lec tio n m ethod for all ap p lica tio n s that are ev a lu a ted under the sa m e credit ev a lu a tio n p rocedures and stan d ard s o f cred itw orth in ess, although the creditor m ay ch an ge the m ethod from tim e to tim e.

Paragraphs (c)-(e)—Illustrations of the Application of General Principles

(c) Disclosure of reasons where adverse action is automatic. Many credit systems contain features that call for automatic adverse action on an application because one or more factors in the applicant’s record are so adverse that they cannot be offset by other factors. Examples of automatic adverse action factors might be the applicant’s previous declaration of bankruptcy or the fact that the applicant is a minor. When an application is declined because of an automatic adverse action factor, the creditor must disclose the specific factor or factors that resulted in the adverse decision.

(d) Relationship o f reasons for adverse action to factors in the applicant’s record. (1 ) If an application is not automatically declined but is evaluated and rejected, the question arises as to what information from the

Section 202.9(b)(2) states in relevant part A statement of reasons for adverse action shall be sufficient if it is specific and indicates the principal reason(s) for the adverse action. A creditor may formulate its own statement of reasons in checklist or letter form or may use all or a portion of the sample form printed [in this subsection), which, if properly completed, satisfies the requirements of subsection (a)(2)(i). Statements that the adverse action was based on the creditor's internal standards or policies or that the applicant failed to achieve the qualifying score on the creditor's credit scoring system are insufficient

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ap p lica n t’s record m ust be included in the p oo l from w h ich the reason for the a d v erse d ec is io n is se lec ted . G enerally , the rea so n for the a d v erse d ec is io n m ust relate to the factors a ctu a lly scored or ev a lu a ted b y the creditor, and no factors m ay be arbitrarily ex c lu d ed from the pool.

(2) T hus, in a judgm ental sy stem , the rea so n d isc lo se d m ust relate to the factors in the a p p lica n t’s record actu a lly rev ie w ed by the p erson or p erson s m aking the d ec is io n . If the cred itor’s p o lic ie s or procedure lim it the sp ec ific factors con sid ered , on ly th o se sp ec ific factors sh ou ld b e included in the pool. If the cred itor’s d ec is io n is b a sed e x c lu s iv e ly on a credit scoring system , the rea so n d is c lo se d m ust rela te to on ly th o se factors actu a lly sco red or w eig h ted in the system . T he rea so n m ay n ot re la te to factors not p ro cessed by the cred it scoring system . If the credit ev a lu a tio n sy stem em p lo y s both judgm ental and cred it scoring e lem en ts, the factors to w h ich the rea so n m ust re la te w ill be d eterm ined by w h eth er the a d v erse actio n resu lted from the judgm ental or num erical a sse ssm e n t o f the ap p lica tion . Thus, if the cred itor sco res an ap p lica tion in the in itia l stage o f ev a lu a tio n and the ap p lica tion is rejected , the rea so n for a d v erse action m ust rela te to on ly th o se factors scored or w e ig h ted in the sy stem . If the ap p lica tion is approved in the in itia l cred it scoring stage and is then co n sid ered judgm entally and rejected , the rea so n d isc lo se d m ust relate to the factors judgm entally r e v ie w ed in the a p p lica n t’s record.

(e) Selecting the reason for the adverse decision. (1) T he q u estion a r ises a s to h o w the reason for a d v erse action shou ld be se lec ted . In m any circum stan ces, w h eth er the creditor u se s a judgm ental or cred it scoring system , an a d v erse d ec is io n resu lts b ec a u se the com b in ation o f factors b ein g con sid ered in d ica te s that ex ten d in g credit w o u ld be to o risky or n ot su ffic ien tly profitab le g iv en current eco n o m ic con d ition s. B eca u se it is the com b in ation o f factors,

w h e n co n sid ered together, that led to the a d v erse action , it is o ften d ifficult and perhaps im p o ssib le to infer that an y sin g le factor “c a u se d ” the cred itor to take the a d v erse action .

(2) T he optim al d isc lo su re for either a judgm ental or num erical sy s tem w o u ld id en tify the m inim um adjustm ents that the a p p lican t w o u ld h a v e to m ake in order to b e approved for credit. It w o u ld a lso in c lu d e full con sid era tio n o f all in teraction s am ong factors that m ight fo llo w from a n y ch an ge in an ap p lica n t’s ch aracter istics. W h ile the optim al d isc lo su re m ay b e b ey o n d the ca p a b ility o f m an y cred it scoring and judgm ental sy stem s, it is the go a l that cred itors sh ou ld attem pt to a ch iev e in d ev elo p in g sp ec ific d isc lo su re p o lic ie s and procedures.

(3) M oving a w a y from the optim al d isc losu re , there is no on e b est m ethod for se lec tin g the reason for the a d v erse d ecis io n , nor is there an ab so lu te num ber o f rea so n s that shou ld be d isc lo sed . W h a tev er m ethod o f se lec tio n is u sed , the cred itor m ust u se the sam e se lec tio n m ethod for all a p p lica tion s that are ev a lu a ted under the sa m e credit ev a lu a tio n procedures and stan d ard s o f cred itw orth in ess , although the creditor m ay ch an ge the m ethod from tim e to tim e.

(4) O n e a ccep ta b le m eth od o f se lec tin g the factors w o u ld b e to se le c t the factor, h o ld ing a ll o thers con stan t, that w o u ld require the sm a lles t d egree o f ch an ge (in term s o f its contribution to the o vera ll a sse ssm e n t o f the a p p lica tion ) in order for the a p p lica n t’s req u est to b e approved . T he creditor w o u ld a d v ise the ap p lican t o f the type o f ch an ge required, though not n e c e ssa r ily the d egree. S p ec ifica lly , in a cred it scoring sy stem , the cred itor w o u ld se le c t the factor requiring the sm a lles t degree o f ch an ge that w o u ld en a b le the a p p lican t to a c h iev e the m in im ally a ccep ta b le score. N o sp ec ific num ber o f factors n eed b e se lected ; but, if m ore than o n e are se le c te d and d isc lo sed , th ey sh ou ld b e lis ted in a scen d in g order, b egin n in g w ith the factor that requires

the le a s t am ount o f change. T he creditor sh ou ld a lso a d v ise the con su m er that, if the factor w ere ch an ged su ffic ien tly and no other a sp ec ts o f the a p p lica n t’s profile re lev a n t to the credit d ec is io n changed , the a p p lican t w o u ld m eet the cred itor’s m inim um stan d ard s for credit or for further p ro cess in g o f the a p p lica tion (e.g. a cred it h istory check). T he im plicit assu m p tion underlying this m eth od is that the factors requiring the le a s t am ount o f change are m ore m utable and, therefore, ea s ier for the ap p lican t to m od ify than factors requiring a greater am ount o f change.

(f) Use of sample disclosure form. F inally , the q u estio n a r ises as to the ex ten t to w h ich cred itors m ay u se the sam p le form in § 202.9(b)(2) to d isc lo se the rea so n for an a d v erse d ec is io n w h en the factors con sid ered do not correspond ex a c tly to the ch eck list o f rea so n s on the sam p le form. If the sam p le n o tice d o es not c lear ly and accu rate ly sta te the rea so n s for the a d v erse d ec is io n w ith su ffic ien t sp ecific ity , it m ust b e m odified . For exam p le, in a sy stem that sco res the num ber o f credit referen ces from banks, an ap p lican t w ith referen ces from departm ent stores, fin an ce co m p an ies, and thrift in stitu tion s r e ce iv es no p oin ts for them . C hecking “in su ffic ien t credit referen ces” on the' a d v erse action n o tice is not sp ec ific enough. D isc lo sin g “no bank re feren ces” w o u ld su ffice. T hus, if the sam p le n otice d o es not p rovide a c lear and accurate sta tem en t o f the reason or rea so n s for the a d verse d ecis io n , its u se b y a creditor d o es not com ply w ith the regulation .

(g) Prospective effect. This in terpretation sh a ll h a v e p ro sp ectiv e effect on ly after b ein g prom ulgated in fina l form.* * * * *

By order of the Board of Governors, August 20,1980.Theodore E. Allison,Secretary of the Board.[FR Doc. 80-28019 F iled 8-25-80, 8:45 am ]

BILL!NO CODE 6210-01-M

R e p r in t e d from FEDERAL REGISTER, V O L . 4 5 , N O . 167 - T U E S D A Y , A U G U S T 2 6 , 19 80

- 5 -Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis