A blog on using the power of Disruptive Business Models to build successful businesses...and other stuff. by Joe Agliozzo

Tuesday, August 07, 2007

Community Reinvestment Act (CRA)

Most financial institutions that makes loans to consumers are required to meet a set of federal laws collectively known as the Community Reinvestment Act (CRA).

"The CRA was enacted in 1977 to prevent redlining and to encourage banks and thrifts to help meet the credit needs of all segments of their communities, including low- and moderate-income neighborhoods." (from the Office of the Comptroller of the Currency - one of the chief enforcement bodies of the CRA)

Most financial institutions satisfy their CRA requirements in two ways: (1) lending to lower income customers or in lower income communities and (2) buying tax credits wherein the proceeds of the tax credit sale go to fund affordable housing.

A few (mostly larger) institutions will directly invest in affordable housing and other initiatives that support low and moderate income communities (venture capital targeted at businesses in low income communities is one example).

The interesting disconnect in this market comes from the fact that most of the tax credit deals only go to larger institutions because it is just easier to sell the deals (and more deals) to these larger customers. Often the smaller financial institutions get shut out and have a lack of CRA qualifying deals to pick from.

The other interesting issue is that the institutions have to meet geographic requirements (invest/lend in their service areas). There can often be an asymmetrical information problem because the institution is not made aware of all the deals in their service area and the entity raising capital doesn't know of all the potential investors/financial institutions who can "get credit" for investing in their deals.

To date, there is no central clearing house for this information, nor is there anyway for smaller institutions to band together to go after the "bigger" opportunities, or to directly invest in affordable housing and earn CRA credit (without making a direct loan on a property, which they may consider too risky).