Rural Summer 1998 RESEARCH REPORT Volume 9, Issue 8 Published by the Illinois Institute for Rural Affairs Stipes Hall 518 Western Illinois University 1 University Circle Macomb, IL 61455-1390 309/298-2237 http://iira.org The Community Reinvestment Act: Forging Partnerships Between Banks and Nonprofit Social Service Providers by Christopher D. Merrett and Teresa Miller1

Successful rural community development efforts that promote could help promote rural community development efforts affordable housing projects, community health clinics, (Fishbein 1993). The CRA, with its roots in the civil rights community day care programs, or transportation for the campaigns of the 1950s and the antipoverty movement of the elderly require many elements. Essential components for 1960s, was designed to encourage partnerships among low- success include strong leadership, an adequate volunteer income communities, lending institutions, and nonprofit base, technical assistance, and access to financial support. community development organizations to ensure fair access to In many cases, worthy projects are delayed or derailed financial credit (Rhine 1997). This report briefly examines the because of insufficient resources. Low-income neighborhoods development of the CRA, discusses a survey of rural nonprofit in rural and inner city communities are particularly social service providers and their relationship with local disadvantaged by insufficient financial support for community lending institutions, and suggests ways that nonprofit development (HAC 1993; Logan and Molotch 1987). organizations (NPOs) and local banks can forge mutually beneficial partnerships to promote local community development. Community developers optimistically suggest that recent changes to the 1977 Community Reinvestment Act (CRA)

Overview of the Community Reinvestment Act

Since the 1930s, the federal government has encouraged of their household cash flow. The result was an increase in banks and other lending institutions to engage in fair lending low-interest mortgages and an expansion of private home practices and to make loans to people and organizations ownership (Jackson 1985). within their local communities (Jackson 1985). The federal government expanded access to credit by guaranteeing However, critics pointed out that many residents in low- loans to low and moderate income home buyers, thereby income rural and inner city neighborhoods were not able to indemnifying private lenders if borrowers defaulted on their take advantage of expanded access to credit. A specific loan payments. During the 1930s and 1940s, the government objection was that guaranteed loans were disproportionately also amortized loans, provided for standardized mortgage going to those in newer suburban communities to the detriment payments, and allowed long-term repayment schedules to of rural and inner city areas (Harvey 1973). The federal assist moderate income home owners in better management government responded by prohibiting discrimination by housing

1The authors are Assistant Professor of Geography in the Illinois Institute for Rural Affairs and graduate student, Department of Economics, Western Illinois University respectively. Layout by JoAnn Kennedy. Special thanks to the Federal Reserve Bank of Chicago and the Federal Deposit Insurance Corporation for their financial support.

1 programs receiving federal funds. The Department of Housing Bank regulators often gave banks high ratings even if they and Urban Development and the Equal Credit Opportunity Act had extended disproportionately little credit to low-income both prohibited lending discrimination. communities. As long as banks followed the appropriate processes, outcomes unfavorable to low-income and minority Despite this progress, many community developers protested loan applicants were not a problem (Immergluck 1997; that lending institutions were still not doing enough to help the Squires 1992). poor and minority populations (Piven and Cloward 1993). During the 1970s, community groups urged policymakers to Finally, in April 1995, the CRA was redesigned as an address poverty and substandard housing in low-income outcome-based evaluation system (Federal Reserve Bank of communities. In 1975, the Home Mortgage Disclosure Act Cleveland 1996; Ludwig 1997). Large banks with assets of (HMDA) was created, requiring federally regulated financial over $250 million or those affiliated with a holding company institutions to report the number and amounts of mortgage with assets exceeding $1 billion are evaluated under lending, loans by census tract in metropolitan areas. The data service, and investment tests (Tholin 1996). Lending tests confirmed discriminatory practices and provided a basis for review how equitably loan applications were considered by making measurable change (Squires 1992). the bank in question. Variables examined include the ethnicity and geographic location of loan applicants. Bank examiners In 1977, an Urban Aid Bill that contained the CRA became are particularly concerned that loan officers are extending federal law. William Proxmire (D-WI), Senate Banking credit within the immediate community. Committee Chair, sponsored the CRA “to reaffirm that banks and thrift institutions are indeed chartered to serve the The service tests examine banks according to their hours of convenience and needs of their communities...and needs operation, distribution of bank branches between low and high does not just mean drive-in teller windows and Christmas income areas, and various levels of specialty services (such Club accounts. It means loans” ("Senate Extends Urban Aid, as access to ATMs and bank-by-phone) offered in Housing Programs" 1977, 1194). The legislation was designed communities with different socioeconomic characteristics to ensure that federally regulated financial institutions are (Tholin 1996). The purpose is to examine the extent to which examined on their ability to meet the credit needs in their low-income communities lack services found in higher income community service areas. In particular, it encouraged lending areas. Investment tests consider whether banks give monetary regardless of the ethnicity or income level of local residents. grants; in-kind contributions such as technical assistance; The CRA authorized the Comptroller of the Currency, the Board property; and donations for activities by community of Governors of the Federal Reserve System, the Federal development corporations (CDCs) and NPOs servicing low- Deposit Insurance Corporation, and the Federal Home Loan and moderate-income populations in home ownership, Bank Board to monitor financial institutions to evaluate the rehabilitation, and construction (Federal Reserve Bank of extent to which they meet local credit needs (HAC 1993). Chicago n.d.).

Many financial institutions claimed that the CRA forced them Regulators rate a bank’s performance on each of the three to accept risky loans while increasing administration costs tests as substantially noncompliant, needs to improve, low because of excessive reporting criteria (Squires 1992). Bank satisfactory, satisfactory, high, or outstanding. The test regulatory agencies are required to evaluate a financial scores are summed for an overall bank performance rating. institution’s loan portfolio when it applies to open or close A public file must be maintained by each financial institution branches; relocate operations; develop a new bank charter; containing all public comment relating to their CRA performance acquire or merge with other banks; or expand into deposit and any response from the institution. The file contains the insurance business, stocks and bonds, or foreign markets CRA performance evaluation rating; branch information such (HAC 1993; Squires 1992). The underlying threat is that as addresses, services offered, and related costs; and a map failure to comply with the CRA could result in delays or denial detailing the service area and census tract information (HAC 1993). of an application. However, federal banking agencies rarely acted on this threat. The first action against a bank based on Most relevant to this report, banks can receive CRA credit for a substandard CRA rating occurred in 1989, 12 years after making loans to community development organizations “that implementation of the act (Squires 1992). do not qualify as mortgage, small business, small farm, or consumer loans” (Tholin 1996, 70). Banks can garner CRA The CRA was intended as a general regulation requiring credit by providing loans or in-kind financial and technical financial institutions to invest locally but it “failed to establish services to an array of community development projects [local] reinvestment as a serious goal” (Squires 1992, 280). such as affordable housing; subsidized day care, pre-school As a result, unfair lending practices were not eradicated. and education; health care facilities; cultural centers; and

2 other social services operated by NPOs. This flexibility in the provide affordable housing (HAC 1993). Banks repossess CRA is an important element in ensuring that community houses when a person defaults on their loan. The SICH was development through partnerships becomes a real possibility. able to convince local banks to sell these repossessed homes to the SICH at prices below market value. In exchange, For example, the Southern Illinois Coalition for the Homeless the banks received credit from the CRA and the satisfaction (SICH) worked with local banks in Grayville and Albion to that they helped provide affordable housing in their community (HAC 1993).

Survey Results: Potential for Partnerships Between Banks and Nonprofit Organizations

The point is that banks and NPOs have complementary goals organizations offer two or more services. For example, some that could be met through mutually beneficial partnerships. churches and religious organizations stated that they provided Banks have to meet CRA requirements that promote lending (religious) education and also offered shelter and nutrition equity and community service, and community development assistance to the needy. A message contained in Table 1 is organizations need help funding their various social service that many NPOs in rural communities and small towns activities. In order to examine the extent to which these provide an array of important social services. organizations have been working together and the potential for their increased cooperation to promote community development, a survey of nonprofit community development organizations was conducted during the winter of 1998. Table 1. Social Services Provided by Nonprofit Organizations

The list of NPOs to be surveyed was derived from an IRS Number of database available for public access. The IRS maintains a NPOs file of all organizations that have official tax-exempt, nonprofit Social Services Provided Providing Service status as defined by section 501©3 of the IRS tax code. The IRS divides NPOs into 22 categories according to primary Education and Training 166 mission. NPOs from 13 of these categories were selected Hunger Relief and Nutrition Assistance 152 because of their relevance to community development (e.g., Services for Senior Citizens 151 housing activities or religious organizations). NPOs such as Poverty/Income Assistance 118 golf clubs, professional business organizations, or political action committees were not included because of their tenuous Affordable Housing 104 connection to social service provision. Community Development 100 Counseling 99 This report focuses on the role of nonprofit social service Transportation 98 providers in small towns and rural communities; therefore, NPOs in urban counties were not contacted.2 Also, cities with Disaster Relief 92 populations exceeding 30,000 were excluded from the Health Care/Hospice 87 remaining counties. This resulted in a survey population of Legal Aid 26 2,565 nonprofit social service providers. Two surveys and a Unemployment Assistance 18 reminder postcard were mailed to each address; this strategy prompted 749 secular and religious NPOs to answer the Other 126 survey, for a 29.2 percent response rate. N = 749

The 749 responding NPOs provide a broad spectrum of Source: IIRA Survey, 1998. services to their communities (Table 1). The total number of social services offered exceeds 749 because many

2Urban counties excluded from the survey were Champaign, Cook, DuPage, Kane, Lake, Macon, Madison, Peoria, Rock Island, St. Clair, Sangamon, Will, and Winnebago.

3 Important questions are: “How successfully are these social Table 3.Relationships Between Nonprofit Organizations and services being delivered?” “Are there significant obstacles Lending Institutions that NPOs face in their pursuit of community development?” In a second set of questions, the NPOs were asked to identify Percent of significant obstacles they confront in delivering social services NPOs with to those in their local community. Respondents were presented Type of Relationship Relationship with several possible hindering factors and were asked to Savings/checking account only or no relationship 55.2 rank these obstacles on a scale of 1 through 5 (Table 2). A ranking of 1 meant that the factor was not perceived to be a Bank employees on NPO board of directors 16.8 significant impediment, while a 5 identified a very important Bank employees volunteer with NPO 16.4 obstacle to social service provision. Results suggest that Bank provides technical assistance 10.9 NPOs confront significant challenges in recruiting volunteers Bank provides financial assistance 3.6 and obtaining financial support. Insufficient funding from private, public, and corporate sources is seen by many nonprofit social N = 749 service providers as an obstacle to community development. Source: IIRA Survey, 1998. One possible solution might reside with the CRA in that banks can receive credit for working with NPOs. The survey investigates the extent to which lending institutions and NPOs have already forged working relationships to promote no assistance from lending institutions. On the other hand, community development. Furthermore, it examines the survey results showed that 378 of the 749 NPOs had potential that may exist for expanding this relationship. approached a lending institution for assistance during the Survey results suggest that while many NPOs have a formal past two years. Of those, 140 asked for monetary donations relationship with a bank or other lending institution, a majority and 136 requested loans. Information on how the lending of respondents did not (Table 3). Over 55 percent either had institutions responded to these requests was not included in no formal relationship with a bank or only used the savings or the results. checking account services. Less than 4 percent of those Nonprofit social service providers were also asked if they surveyed received financial assistance from local lending would consider working with a lending institution in the future institutions. In other words, a majority of the NPOs received to enhance the operation of their organization. Fully 75 percent, or 563 of the 749 NPOs, responded that they would be willing to approach a lending institution for monetary Table 2. Ranking of Obstacles Confronted by Nonprofit Social donations, loans, volunteers, or technical assistance. These Service Providers results show that there is great potential for banks and NPOs to work together to promote community development.

(1 = not important; A question to be explored is why this potential has remained Obstacles to Social Service Delivery 5 = very important) untapped. Part of the explanation likely resides in the less stringent and more ambiguous CRA compliance guidelines Lack of volunteers 3.44 for small banks found in rural communities. Performance Lack of private donations 3.33 indicators for small banks include examining the loan-to- Increased clientele/demands for service 3.24 deposit ratio in the context of the bank’s size and assessing community credit needs (Tholin 1996). However, what counts Declining local economy 2.86 as a community credit need is not as clearly defined here as Lack of corporate support 2.81 in the investment test given to larger urban banks. Small rural Lack of government funding 2.81 banks (assets less than $250 million) are also evaluated Rural areas neglected by state 2.77 according to the percentage of loans and lending activity in the community service area; the bank’s lending activities for Lack of local government support 2.61 different income groups, multiple-sized farms, and businesses; Depopulation of rural areas 2.39 geographical loan distribution; and bank action in response to N = 749 public comment on their CRA performance (Immergluck 1997; Squires 1992). Source: IIRA Survey, 1998.

4 Rural areas face additional disadvantages. These include Finally, while CRA requirements for small banks are quite limited mortgage data available at the census tract level general, they can be voluntarily evaluated under the more because of less stringent reporting standards in rural areas, stringent “three-pronged” test that examines lending, service, lower deposit amounts and ratios, and a tendency for rural and investment practices (Tholin 1996). This can be an lenders to invest more in government notes which create a opportunity for small town lenders to take a proactive stance leakage of local dollars (Hogwood and Shabecoff 1992). But and develop novel lending practices specific to their service these shortcomings can be offset by factors unique to rural area. In addition, there is a silver lining to the dark cloud of bankers. For example, rural lenders can redirect surplus bank mergers in rural areas (Drabenstott and Meeker 1997). credit capacity to meet local credit needs. They can build on As smaller banks are acquired by larger institutions, they will their traditional role as community leaders and their inherent increasingly come under the scrutiny of CRA examiners. So, opportunities to contact a higher percentage of clients (HAC while some local control may be lost through mergers, the 1993). Rural lenders often know the community more intimately CRA could force the larger banks to pay closer attention to the and, in fact, have less fear of facing organized community credit needs of people living in smaller communities. groups that might be leveraging the CRA (Hogwood and Shabecoff 1992).

Conclusions

While positive legislative changes to the CRA have been However, recent changes to the act give it the potential to be made, areas for improvement remain. Currently there are no an effective community development tool in rural areas as standard techniques to measure local credit demand. Improved well. In the view of many, the CRA has enhanced the prospect data collection and analysis are necessary, particularly in for rural banks to contribute to community development rural areas that were neglected when the CRA was first (Tholin 1996) and to capitalize on the willingness of bankers implemented. The CRA should be extended to include all in small communities to volunteer time and money to support banks and most nonbank financial service providers such as local activities. The CRA has the potential to promote thrifts, credit unions, and insurance companies to ensure development because it provides a mechanism to increase better access to credit and community development funds local social capital. In order for banks to earn CRA credit, they (Squires 1992). Finally, increased voluntary compliance by are required to work with NPOs on community development small banks would extend equitable lending practices to projects such as affordable housing. Partnerships of this sort smaller communities (Immergluck 1997). This last point contribute to the social capital of a community as people from might be the most important strategy that community different socioeconomic strata cooperate to achieve a broader developers can promote. public good—a better community for all residents.

The CRA was originally passed to encourage home ownership and small businesses in urban communities (Tholin 1996).

5 References

Drabenstott, M., and L. Meeker. 1997. Financing rural America: A conference summary. Kansas City: Federal Reserve Bank of Kansas City.

Federal Reserve Bank of Chicago. n.d. A banker’s quick reference guide to CRA. Chicago: Federal Reserve Bank of Chicago.

Federal Reserve Bank of Cleveland. 1996. Regulators explain new CRA rules. Community Reinvestment Forum (Spring): 2-3.

Fishbein, A. 1993. The Community Reinvestment Act after fifteen years: It works, but strengthened federal enforcement is needed. Fordham Urban Law Journal 20 (2): 293-310.

Harvey, D. 1973. Social justice and the city. Baltimore: Johns Hopkins University Press.

Hogwood, A. W. Jr., and A. Shabecoff. 1992. Lending for community economic development: A guide for small town and rural lenders. Washington, DC: The Community Information Exchange.

Housing Assistance Council (HAC). 1993. A guide to the Community Reinvestment Act for housing in rural America. Washington, DC: Housing Assistance Council.

Immergluck, D.. 1997. Is CRA reform for real? Analyzing the ratings of large banks opting for evaluation under the new CRA regulations. Chicago: Woodstock Institute.

Jackson, K. T. 1985. Crabgrass frontier: The suburbanization of the United States. New York: Oxford University Press.

Logan, J. R., and H. L. Molotch. 1987. Urban fortunes: The political economy of place. Berkeley: University of California Press.

Ludwig, E. A. 1997, July 15. Remarks before the Director’s Roundtable. San Francisco. http://www.lightlink.com/cdb-1/ 0804.html

Piven, F. F., and R. A. Cloward. 1993. Regulating the poor: The functions of public welfare. New York: Vintage Press.

Rhine, S. 1997. Closing the lending gap: Nontraditional mortgage lending through partnership. Profitwise 8(3): 1-5.

Senate extends urban aid, housing programs. 1977, June. Congressional Quarterly 11: 1193-95.

Squires, G. D. (Ed.). 1992. From redlining to reinvestment: Community responses to urban disinvestment. Philadelphia: Temple University Press.

Survey of Rural Nonprofit Social Service Providers. 1998. Survey conducted by the Illinois Institute for Rural Affairs (IIRA) of nonprofit social service providers in rural Illinois. Survey funded by the Federal Reserve Bank of Chicago and the Federal Deposit Insurance Corporation.

Tholin, K. (Ed.). 1996. Tools for promoting community reinvestment using data to analyze lending patterns in your community. Chicago: Woodstock Institute.

The Rural Research Report is a series published by the Illinois Institute for Rural Affairs to provide brief updates on research projects conducted by the Institute. Rural Research Reports are distributed to public officials, libraries, and professional associations involved with specific policy issues.

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