The Bank of Jim Crow

Melissa Marquez has seen Charter One Credit in action. The neighborhood credit union she manages in Rochester, New York, has a large minority membership. Two years ago, the lender was running credit reports on nearly the entire credit union, Marquez says. "They seemed to be doing a lot of business here."

Marquez didn't realize the implications until she spoke with a young single mother. The woman excitedly told Marquez that she had saved almost $4,000 to buy a house. Her mortgage was ready to go.

Marquez was pleased when the woman told her the loan was through Charter One. "I said, 'I'm so glad you're getting it from a bank, not a finance company or a mortgage company, because those can be terrible deals,'" Marquez remembers. A few days later, at Marquez's suggestion, the woman brought in paperwork from the loan she had just signed. Marquez's heart skipped. "I saw the mortgage wasn't with Charter One, it was with Charter One Credit," she says. "I made the assumption that it was a bank; it couldn't be bad. I was wrong. The interest rate was 12.7 percent." Even worse, the contract included a penalty if the woman refinanced the loan or paid it off early.

Saddled with huge interest fees on her modest house, the woman ended up in bankruptcy. "She was only 26, 27 years old," Marquez says. "If she had taken the time to establish a positive payment history, we could have given her a rate of 7.5 percent. Instead, she was stuck with that."

After hearing similar stories, Rochester activists questioned Charter One about its subprime lender. The bank told them not to worry, says activist Ruhi Maker. The division was pulling out of the Rochester market.

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The Federal Home Loan Mortgage Corporation -- a.k.a. Freddie Mac -- estimates that 30 percent of subprime loans go to borrowers who should get prime rates. Freddie's sister company, Fannie Mae, puts that number at 50 percent. Moreover, even customers with credit problems don't always receive rates equal to their risk. Experts believe that about one in four mortgages include broker fees paid through an extra point or two on the interest rate. The broker gets a higher commission -- and the customer pays for it through the nose in monthly payments.

The practice may seem unfair, but it has long been considered legal. So have other extras that some subprime loans include, like penalties for prepayment, high origination fees, and costly insurance.

Activists find the extras troubling in light of statistics that show subprime loans going disproportionately to minority customers. A National Community Reinvestment Coalition study found that, in 1999, more than 66 percent of all loans made in minority census tracts were subprime. In white neighborhoods, that total was just 18 percent.

In Greater Cleveland, blacks account for 15 percent of all households, but they receive 30 percent of all subprime loans and just 5 percent of prime loans. Josh Silver, the coalition's vice president of research and policy, worries that minority customers with good credit are a big part of the subprime market. "You can't tell me that two-thirds of minority buyers are not qualified for prime loans."

Silver's case is almost impossible to prove. Researchers have no way to gauge whether a lender has matched the interest rate and risk level. Lenders must record interest rates and broker premiums, but regulators do not consider such numbers public record.

Elizabeth Erickson, an associate professor of economics at the University of Akron, says that weakens any assertions about unfair practices. "Whether or not a spread is risk-based, that you can't tell. It's hard to say what is based on risk and what is discrimination."

Yet lack of data hasn't subdued suspicions -- or stopped critics from taking on banks with subprime divisions. Equity One was a year old in 1998 when it drew its first challenge. Charter One was seeking a merger with Albank Financial Corporation in Albany, New York, but it needed approval from federal regulators. Inner City Press, a Bronx watchdog group, filed a 25-page challenge to the merger, focusing on the banks' treatment of minorities and commitment to the Community Reinvestment Act, or CRA.

The CRA was passed in 1977 to stop redlining, says Ruth Clevenger, community affairs officer for the Fourth Federal Reserve District in Cleveland. At the time, she says, "banks were literally drawing red lines around certain neighborhoods and saying they wouldn't lend there, regardless of the credit worthiness of individuals in those neighborhoods."

The act requires banks to lend in their entire service area, not just in wealthy or white neighborhoods. If banks cannot earn a satisfactory CRA rating, they cannot buy or be bought -- a huge liability in today's rapidly shifting industry.

Yet the law does not require banks to meet certain levels or dollar figures, Clevenger says. Activists use it to force banks into putting greater emphasis on poor neighborhoods, but such discussion is largely limited to the months preceding a CRA evaluation, which happens every two years, and the time allowed for public comment before a merger.