MLO Mentor is an ongoing series covering compliance best practices for mortgage loan originators (MLOs). This article gives an overview of the separate disclosures required under Fair Credit Reporting Act (FCRA). Enroll in firsttuesday’s 8-Hour NMLS CE to renew your California MLO license and learn more about fraud and abuse prevention in your practice.

The Credit Score Disclosure and the Notice to Home Loan Applicant

Any person who makes or arranges loans and who uses a consumer credit score in connection with an application initiated or sought by a consumer for a closed-end loan or the establishment of an open-end loan for a consumer purpose that is secured by one-to-four units of residential real property is required to make disclosures about the credit score use to the consumer. [15 USC §1681g(g)(1)]

Let’s break that down.

“Any person who makes or arranges a loan” refers to mortgage brokers and other loan originators, such as the lender or mortgage banker. However, the FCRA also clarifies that only one such disclosure needs to be provided per loan transaction. Thus, the first loan originator who has contact with the consumer is responsible for providing the notice. For mortgage brokers, good practice is to have the applicant acknowledge receipt of the form with a signature, and include that signed form in the loan file. [15 USC §1681g(g)(1)(E)(v)]

A “consumer credit score” is a numerical value devised from a modeling system which predicts the likelihood of credit behavior. This score is based on the consumer’s credit information. Scores generated by automated underwriting systems, or any other model which uses other elements of the underwriting process (such as debt-to-income ratios, length of employment, assets, etc.) are not considered “credit scores” for the purpose of this disclosure requirement. [15 USC §1681g(f)(2)(A)]

“…in connection with an application initiated or sought by a consumer” indicates that the application can be an actual application submitted, or just an inquiry. Thus, if a consumer submits a request for a preapproval or a prequalification in connection with a residential mortgage loan, and the loan originator or loan broker or lender runs the consumer’s credit to determine possible loan programs, these disclosures are triggered.

“…for a closed end loan or the establishment of an open end loan…” This requirement applies to both purchase and refinance transactions, and loans of all lien positions.

“…for a consumer purpose…” This disclosure requirement only applies if the consumer will use the loan primarily for personal, family or household purposes. This requirement does not apply if, for instance, the borrower seeks a loan to finance their small business, even if the loan is secured by the borrower’s primary residence.

The Notice to Home Loan Applicant must be provided in it’s entirety.

The notice must also include the name, address, and telephone number of each consumer reporting agency providing a credit score that was used. [15 USC §1681g(g)(1)(D)]

The credit score disclosure

Additionally, the loan originator must disclose:

  • the credit score(s) used;
  • the range of possible credit scores under the model used;
  • the date the credit score was created;
  • the name of the person or entity that provided the credit score; and
  • up to four key factors that adversely affected the credit score. [15 USC §1681g(g)(1)(A)]

Key factors include all relevant elements or reasons which adversely affect the credit score, listed in order of their impact on the credit score. If the number of inquiries is one of the key factors, up to five key factors may be listed. Key factors may be taken from the consumer credit reports furnishing the credit score used. [15 USC §1681g(f)(2)(B); 15 USC §1681g(f)(9)]

Editor’s note — The key factors mentioned here are strictly related to the credit score only. Note that providing key factors which adversely affect the credit score are NOT the same as providing information about why an adverse action was taken on the loan. In other words, this credit score disclosure is required whenever credit is used, not just upon adverse action.

The FCRA does require an adverse action notice, but that notice does not require the loan originator to provide a list of reasons for the adverse action. However, the adverse action notice required under the ECOA DOES require a specific list of reasons.

The risk-based pricing notice

The risk-based pricing notice is required when the lender offers credit to a consumer that is materially less favorable than credit offered to other consumers, based on the consumer’s credit report. To determine whether credit is “materially less favorable”, the lender is to measure the cost of the loan offered attributed to factors such as the type of credit product, the term of the credit, the interest rates, points, etc. [12 CFR §1022.72(a); 12 CFR §1022.71(o)]

There are three different ways to determine which consumers are to receive the risk-based pricing notice:

  • direct comparison;
  • the credit score proxy method; or
  • a tiered pricing method. [12 CFR §1022.72(b)]

Direct comparison requires the lender to compare the terms being offered to the consumer against the most favorable terms offered to past consumers for the same product. Direct comparison is often unfeasible.

The credit score proxy method requires the lender to approximate a credit score “cutoff”, above which the lender’s past borrowers have received the most favorable loan terms. The lender then provides all applicants whose credit scores are below the cutoff score with the risk-based pricing notice. [12 CFR §1022.72(b)(1)]

The tiered pricing method sets pricing based on a number of discrete tiers chosen by the lender. The risk-based pricing notice is provided to those who are not in the top tiers. The total number of tiers determines which tiers receive the notice. For example, the regulations indicate that if there are four or fewer tiers, all but the top tier receive the risk-based pricing notice. [12 CFR §1022.72(b)(2)]

The risk-based pricing notice is to contain:

  • a statement of the consumer’s credit history and the type of information included in that history;
  • a statement that the consumer is encouraged to verify the accuracy of the information contained in the consumer report and has the right to dispute any inaccurate information in the report;
  • the identity of each consumer reporting agency that furnished a consumer report used in the credit decision;
  • a statement that federal law gives the consumer the right to obtain a copy of a consumer report from the consumer reporting agency or agencies identified in the notice without charge for 60 days after receipt of the notice;
  • a statement informing the consumer how to obtain a consumer report from the consumer reporting agency or agencies identified in the notice and providing contact information (including a toll-free telephone number, where applicable) specified by the consumer reporting agency or agencies;
  • a statement directing consumers to the Consumer Financial Protection Bureau (CFPB) website to obtain more information about consumer reports;
  • if the consumer’s credit score was used in setting the material terms of credit:
    • a statement that a credit score is a number that takes into account information in a consumer report, that the consumer‘s credit score was used to set the terms of credit offered and that a credit score can change over time to reflect changes in the consumer‘s credit history;
    • the credit score used by the person in making the credit decision;
    • the range of possible credit scores under the model used to generate the credit score;
    • all of the key factors that adversely affected the credit score; and
    • the date on which the credit score was created;
  • the name of the consumer reporting agency or other person that provided the credit score;
  • a statement that the terms offered, such as the annual percentage rate (APR), have been set based on information from a consumer report; and
  • a statement that the terms offered may be less favorable than the terms offered to consumers with better credit histories. [12 CFR §1022.73(a)(1)]

The alternative: the credit exception notice

Mortgage lenders have an alternative to the risk-based pricing notice, when it is required: the credit exception notice. The credit exception notice is acceptable if the loan requested is secured by a one-to-four unit residential property. [12 CFR §1022.74(d)(1)(i)]

The notice must contain:

  • a statement that a consumer report is a record of the consumer’s credit history and includes information about whether the consumer pays his or her obligations on time and how much the consumer owes to creditors;
  • a statement that a credit score is a number that takes into account information in a consumer report and that a credit score can change over time to reflect changes in the consumer’s credit history;
  • a statement that the consumer’s credit score can affect whether the consumer can obtain credit and what the cost of that credit will be;
  • the credit score disclosure and the Notice to Home Loan Applicant;
  • the distribution of credit scores among consumers who are scored under the same scoring model that is used to generate the consumer’s credit score using the same scale as that of the credit score that is provided to the consumer;
  • a statement that the consumer is encouraged to verify the accuracy of the information contained in the consumer report and has the right to dispute any inaccurate information in the report;
  • a statement that federal law gives the consumer the right to obtain copies of his or her consumer reports directly from the consumer reporting agencies, including a free report from each of the nationwide consumer reporting agencies once during any 12-month period;
  • contact information for the centralized source from which consumers may obtain their free annual consumer reports; and
  • a statement directing consumers to the CFPB website to obtain more information about consumer reports. [12 CFR §1022.74(d)(1)(ii)]

The distribution of credit scores required is to be presented with clear and readily understandable graphics, or a clear and readily understandable statement informing the consumer how his or her credit score compares to the scores of other consumers. The regulations suggest a bar graph form containing a minimum of six bars that illustrates the percentage of consumers with credit scores within the range of scores reflected in each bar. Consumer reporting agencies selling credit scores can provide this information with the consumer credit report. As long as the graphic or statement contains all the information described in this paragraph, the lender may use the consumer reporting agency’s report to comply with this requirement. [12 CFR §1022.74(d)(1)(ii)(E)]

The credit score exception notice is to be provided in writing, and segregated from other disclosures or information provided to the consumer. [12 CFR §1022.74(d)(2)]

And that concludes our discussion on the Fair Credit Reporting Act and its associated disclosures. Next week, we’ll discuss the purpose and function of the Mortgage Assistance Relief Services (MARS) rule and it’s disclosure requirements.