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FEB 25, 2013 12:20pm ET

Lenders Casting a Worried Eye on New Discrimination Rule

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The release of a long-awaited federal rule on housing discrimination is bad news for lenders who fear being targeted in fair-lending suits, according to lawyers who represent the defendants in those cases.

The 83-page rule, which was issued by the Department of Housing and Urban Development, will likely make it easier for borrowers to win disputes over allegations of racial discrimination. Moreover, it could reduce the likelihood that the Supreme Court would side with banks in fair-lending cases, lawyers told American Banker.

The HUD rule codifies the longstanding view of federal agencies that fair-lending cases may be brought when lending policies have a "disparate impact" on minority groups, even if there is no evidence of any intent to discriminate. It is being hailed by housing advocates, who argue that discrimination claims should be subject to a lower standard of proof than the one favored by banks.

"We're happy that the rule's out, and believe it's consistent with 40 years of policy," says Dory Rand, president of the Woodstock Institute, a nonprofit advocacy group.

Financial institutions argue that it is unfair to level charges of discrimination merely because statistics show that a particular lending practice has an uneven impact. But fair-lending advocates say that approach is necessary because lenders rarely state explicitly they're seeking to discriminate against minorities.

"This will ensure the continued strength of one of the most important tools for exposing and ending housing discrimination," HUD secretary Shaun Donovan said in a news release.

Lawyers who represent banks and other lenders took a dimmer view of HUD's action.

"It's as extreme as it could be in adopting the disparate impact approach," says Paul Hancock, a partner at K&L Gates.

The HUD rule establishes a three-part test for determining whether a lending policy has a discriminatory effect, with some of the burden of proof falling on the plaintiff and some falling on the defendant.

This three-part approach is well established in the court system, but some of the details of HUD's test are raising red flags among lawyers who frequently defend banks.

"There's concern that each element of the three-part test has some language that could make it easier to proceed with a disparate impact case, and harder to defend," Joseph Barloon, a partner at Skadden Arps, told American Banker.

HUD released its rule more than a year after the agency stopped accepting public comments on the issue, sparking widespread speculation that the Obama administration was seeking to avoid an election-year fight over a hot-button political issue.

The rule also comes at a time when the Supreme Court has been mulling whether to rule on the applicability of disparate impact theory in the fair lending context.

In 2011, the high court agreed to hear a case involving the city of St. Paul, Minn., that might have resolved the issue. But St. Paul officials scuttled their appeal after the Justice Department agreed not to join another lawsuit against the city. Congressional Republicans are now accusing the Justice Department of entering into an inappropriate quid pro quo with the city of St. Paul.

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