The Community Reinvestment Act was created to end the practice of “redlining” and require banks to extend credit in the communities where they accepted deposits. The law does not require banks to abandon prudent lending practices and only applies to federally regulated and insured financial institutions. Compliance is evaluated through ratings and taken into consideration in approval processes. Claims that the CRA caused the 2007-08 housing and mortgage crash are unfounded as the “toxic loans” were issued by institutions not subject to the CRA.
Passed by the United States Congress and signed by President Jimmy Carter in 1977, and frequently revised since then, the Community Reinvestment Act was designed to eliminate the practice of “redlining” in home loans and thereby extend the so-called Homeownership Dream. to all Americans. The law and the regulations promulgated under it essentially required banks to extend credit in the communities where they accepted deposits. While some have blamed the Community Investment Act for the collapse of America’s real estate and mortgage industries in the first decade of the 21st century, credible experts provide evidence that such allegations are unfounded.
While civil rights advances made during the first 75 years of the 20th century accomplished much in establishing an equal opportunity environment in the United States, many members of minority groups were victims of unfair lending practices and therefore are not been able to buy houses. When legislation banned lenders from discriminating on the basis of race, they began to discriminate on the basis of geography, refusing to lend money for residences within areas deemed unsafe, which were often areas of minority concentration. This practice has been called “redlining” because such areas were originally outlined in red on maps.
The Community Reinvestment Act was enacted to end the practice of redlining. Most of banks’ profits come from lending money on deposit, and before the CRA, banks accepted deposits within a community and lent most of the money out to other areas. Proponents of the CRA argued that if a community had sufficient resources for a bank to open a branch and accept deposits, it was worthy to reinvest some of those resources in the form of mortgages and other loans. The CRA, however, only applies to federally regulated and insured financial institutions, such as savings banks and commercial banks. Many mortgage lending companies, therefore, fell outside the regulatory umbrella of the CRA.
To become more CRA compliant, given the financial realities that existed in many communities, some banks changed their lending standards. Many people living in minority neighborhoods paid as much rent as they paid for monthly mortgage payments, or more, yet they didn’t have the savings built up to pay a traditional down payment on a house. Therefore, down payment requirements were reduced and, in some cases, loans of a higher value (LTV) were granted. The risks associated with such changes have sometimes prompted banks to charge higher interest rates for their loans.
One of the key components of the CRA is that while it requires FDIC-insured banks to extend credit within the communities in which they operate, the law notably does not expect banks to abandon prudent lending practices. Intra-community lending was not intended to borrow from borrowers who were not creditworthy. This is why the law and regulations do not provide specific guidelines, targets or standards. Instead, it required that ratings be assigned on a case-by-case basis, to avoid situations where a bank, simply to meet some performance goal, would issue loans to community customers who weren’t creditworthy.
The Community Reinvestment Act has been controversial since it was first introduced in Congress. While there was no doubt that the credit available to many minority members was insufficient to help them grow, and was in fact unequal to that available to their white counterparts, critics opposed the passage of the CRA because it would have imposed burdensome regulations on banks and encouraged them to make bad loans. It was to overcome these objections that Congress and the agencies charged with enforcing the CRA purposely avoided specifying concrete goals or requirements.
Community reinvestment law enforcement is not traditional. Failure to comply will not result in penalties or fines and no bank officer can be jailed. The various government law enforcement agencies periodically evaluate a bank’s activities and it receives a rating from “A” to “D” for its CRA compliance. When a bank asks banking regulatory agencies for permission to expand through an acquisition, merger, or construction of a new branch, its CRA rating is taken into consideration in the approval process.
Despite claims that the Community Reinvestment Act was the underlying cause of the 2007-08 housing and mortgage crash, the “toxic loans” that are acknowledged to have been instrumental in that crash were, in large part, issued by institutions not subject to CRA; likewise, those institutions were far more involved in the securitization of those loans than the CRA-linked banks.
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