The use of alternative data by lenders could expand access to credit to more than 40 million consumers. Likewise, banks and credit unions are using alternative data to fight fraud and provide faster access to funds. However, regulatory uncertainty surrounds the use of alternative data in making lending decisions, according to the U.S. House Committee on Financial Services’ Task Force on Financial Technology.
On top of that, cybersecurity concerns and discriminatory lending are raising red flags when it comes to alt-data usage. “We don’t want over-regulation to stifle innovation,” said Rep. Stephen F. Lynch (D-Mass.), chairman of the task force. “Alternative data has allowed lenders to have a more holistic view of the consumers they serve.”
Despite the potential benefits of alternative data, its use in financial services can pose risks and lack “transparency” for the consumer, Lynch said. For instance, some lenders may not lend to consumers based on whom they associate with on social media.
“The lender has got to be able to explain it — there needs to be transparency with lending,” said Chi Chi Wu, an attorney with National Consumer Law Center who testified before the task force today.
It’s up to lenders to decide what data gets what weight, Wu said. “But if all this data is going into a big black box, and the machine is deciding what’s more important or not, [lenders have] got to be able to put it on a piece of paper and explain to the consumer what [data] was more important — and that the law requires [that explanation],” she added.
Moreover, as personal and sensitive data is collected and aggregated among various providers, it is unclear how the information is protected in transit and secured while stored on private servers, the task force noted during the hearing, referencing Equifax‘s 2017 data breach.
To that end, the U.S. Government Accountability Office (GAO) and Financial Technology Task Force have recommended that regulators including the Consumer Financial Protection Bureau, the Federal Reserve, the Federal Deposit Insurance Corp., and the Office of Comptroller of the Currency communicate in writing to fintech lenders and banks on the appropriate use of alt-data. The GAO and task force also urged regulators to provide clearer guidance to lenders about how to integrate alternative data into the underwriting process, including issues to consider when selecting types of alternative data to use.
Click here to watch the full hearing entitled, “Examining the Use of Alternative Data in Underwriting and Credit Scoring to Expand Access to Credit.”