Regulators urge ‘responsible’ use of alternative data

With lenders increasingly relying on nontraditional data to hone underwriting, five banking regulators have urged that lenders maintain “robust” compliance management programs that include “testing, monitoring and controls” to ensure consumer protection risks are addressed, according to a joint statement released this week. 

The regulators — Federal Reserve, Consumer Financial Protection Bureau, Federal Deposit Insurance Corp., National Credit Union Administration, and Office of the Comptroller of the Currency — acknowledged in their statement that alternative data can open the door to unbanked and under-banked consumers, enabling lenders to extend beyond their typical customer base without assuming too much risk.

Yet, the regulators noted that the use of alternative data raises questions around how lenders can leverage new technology in a way that is consistent with consumer protection laws including fair lending laws, prohibitions against unfair, deceptive, or abusive acts or practices, and the Fair Credit Reporting Act.

The use of cash flow data is one example of alternative data that may increase compliance risks. While cash flow data allows lenders to better evaluate borrowers’ ability to repay loans, it is vital for lenders to ensure that the use of cash flow data is properly explained and disclosed to borrowers to mitigate the risk of violating the Equal Credit Opportunity Act and the Fair Credit Reporting Act.

As another example, some lenders choose to use alternative data only for those consumers who would, otherwise, be denied credit. The regulators referred to this use of alternative data as a “second look” program, which may provide more credit opportunities. Yet, the “second look” approach must also comply with applicable consumer protection laws, the regulators said. 

To that end, the agencies are encouraging lenders to put tools and practices in place to ensure that use of alternative data complies with consumer protection and fair lending legislation. 

The agencies have opened the floor to feedback, providing contact information at the end of the joint statement. 

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