The recent final rule (the “Rule”) implementing the Fair Debt Collection Practices Act (“FDCPA”) only directly governs parties defined as “debt collectors” by the FDCPA, principally meaning those who collect delinquent debt for others.[1]  However, this Rule from the Consumer Financial Protection Bureau, accompanied by a 560-page Preamble, will also likely influence the collection activities of “creditors” — i.e., those collectors that fall outside that “debt collector” definition — in various ways.[2]  The Rule also will affect how creditors should work with the debt collectors they hire.  In this Alert, we focus specifically on these different impacts of the Rule on creditors.  The Rule will take effect one year from the date it is published in the Federal Register.

Influence on the UDAAP / UDAP Analysis for Creditors

While creditors are not subject to the FDCPA, their collection activities are subject to similar prohibitions on unfair, deceptive and abusive acts and practices under the federal “UDAAP” law and various state “UDAP” laws.  Indeed, the Rule now delineates numerous practices that, if undertaken by “debt collectors,” would be considered “unfair” (see 12 CFR § 1006.22), “deceptive” (id. § 1006.18) or “abusive” (id. § 1006.14) under the FDCPA.

As we noted in our Alert on the proposed rule in 2019, the proposed version would have made this connection between the FDCPA and UDAAP more explicit.  In particular, the Bureau proposed to invoke its authority to issue UDAAP rules by prohibiting, under that law, some of the same practices by debt collectors that it also proposed to ban under the FDCPA.

After an outcry by creditors, who argued that reliance on UDAAP would lead courts and regulators viewing creditors on the same plane as debt collectors, the Bureau deleted references to UDAAP in its final Rule and now relies solely on the FDCPA.  The Bureau also further assured creditors by noting in several sections of the Rule’s Preamble that the law distinguishes “debt collector” activities from the collection activities of “creditors,” at least when the creditors also originated the debt:

  • The FDCPA itself, according to the Bureau, “recognizes that creditor communications are less sensitive than debt collector communications.”[3] In other words, while consumers may view a creditor communication about a non-delinquent debt as ordinary, hearing from a collector hired by a creditor to pursue a delinquent debt is not.
  • The same goes for the risk that a communication intended for the consumer might be received by a third party not authorized to receive it, according to the Bureau: “a consumer who is indifferent to the disclosure of creditor communications [to a third party] may not be indifferent to the disclosure of debt collection communications.”[4]

But the Bureau only went so far to reassure creditors worried about the Rule’s standards surfacing in a UDAAP action.  The agency simply refused to comment on that possibility, stating flatly that the Rule:

is not intended to address whether activities performed by entities that are not subject to the FDCPA may violate other laws, including the prohibitions against unfair, deceptive, or abusive practices in Dodd-Frank Act section 1031.

For the same reasons, the Bureau declines to clarify whether any particular actions taken by a [creditor] would constitute an unfair, deceptive, or abusive practice under Dodd-Frank Act section 1031.[5]

Creditors, therefore, are largely left to their own devices in assessing how the Rule’s conduct prohibitions may impact the analysis of whether particular collection activities may be considered “unfair,” “deceptive,” or “abusive” under UDAAP and UDAP law.  Careful consideration is warranted, particularly with respect to the statutory definition of “unfair” in Dodd-Frank Act § 1031.

State Debt Collection Laws

Some state “mini-FDCPA” laws, including California’s Rosenthal Act, define “debt collector” much more broadly than the federal FDCPA, to include creditors engaged in collection activity.  California, moreover, requires creditors to comply with many substantive provisions of the federal FDCPA itself.  Although there is no reference in the Rosenthal Act to “rules promulgated under” the federal FDCPA, California plaintiffs’ attorneys will likely argue that the new rules define the scope of permissible behavior by creditors and debt collectors alike.  Creditors also should monitor whether states move toward adding such language, thereby making the Rule’s prohibitions directly applicable to them in such states.

Creditor Interactions with Debt Collectors Under the Rule

The Rule also has important implications for how creditors “hand off” accounts to debt collection agencies.  In particular, the rule provides creditors with a safe-harbor mechanism to protect their debt collectors’ ability to engage consumers by e-mail.  The mechanism, however, calls for costly processes that do not now exist at most creditors.  Specifically, before outreach by the debt collector, the creditor would have to send the consumer a detailed notice, with rights to “opt-out” of receiving e-mails from the debt collector.  Moreover, the safe-harbor is generally available only for e-mail addresses on a domain that is available to the general public, which presumably would require creditors to “scrub” e-mail addresses prior to hand-off.  See 12 CFR §1006.6(d)(4)(ii).

There is no similar safe harbor for a creditor’s transfer of a telephone number that the debt collector may use to text a consumer.  12 CFR §1006.6(d)(5).  Nonetheless, the Rule leaves open the possibility of creditors and debt collectors working together to adopt a procedure similar to the safe harbor for e-mail.  The Rule also leaves open another important question:  whether E-SIGN consent given to a creditor is transferrable to a debt collector that it hires.

Validation Rules Coming in December

In the Rule’s Preamble, the CFPB explained that it intends to issue follow-on regulations to govern the obligation of debt collectors to deliver “debt validation notices” to borrowers.  At least as proposed, the Bureau’s model debt validation notice would impose important obligations on creditors to provide accurate account information for their debt collectors to disclose.  The Bureau expects to finalize these additional regulations in December.

A Future CFPB Rule on Collections by Creditors?

Not long before the Trump Administration installed its own leaders atop the CFPB, President Obama’s CFPB Director, Richard Cordray, had outlined plans to propose a separate collections rule to govern “creditors that collect their own debts.”  Whether plans for such a proposal are back “on” in light of last week’s presidential election is another issue for creditors to monitor in the coming months.

[1]         The definition of “debt collector” includes “third-party” collectors, i.e., those who collect delinquent debts “owed or due another,” as well as a narrow range of actors who operate a “business the principal purpose of which is the collection of any debts.”  See FDCPA § 803(6).  The definition does not include those who own the debt they collect, even if they purchased that debt in default.  See Henson v. Santander Consumer USA, 137 S. Ct. 1718 (2017).

[2]         In the Preamble discussion of the Rule, the CFPB uses the term “first-party debt collectors” to refer to these collectors who fall outside the FDCPA’s “debt collector” definition.

[3]         Preamble to the Rule, at 179.

[4]         Preamble to the Rule, at 172.

[5]         Preamble to the Rule, at 32-33.

On October 27, the North American Securities Administrators Association[1] held its 2020 symposium on Fintech and Cybersecurity. A key theme of the symposium was the impact that the pandemic has had on fintech, cybersecurity, and regulating the financial markets  –  given that regulators and securities industry professionals are largely working from home. The panelists also discussed new technological innovations that are likely to impact both the fintech industry and cybersecurity.

Continue Reading 2020 NASAA Fintech and Cyber Security Symposium – A Download of Key Comments

On October 27, 2020, the Office of the Comptroller of the Currency (OCC) issued its final rule setting the test for determining who the ‘true lender’ is in a loan transaction, including in the context of a lending partnership between a federally-chartered bank and a non-bank third party. The final rule adopts the two-pronged test set forth in the OCC’s proposed ‘true lender’ rule issued in July of this year – a bank is the ‘true lender’ if, as of the date of origination, the bank (1) is “named as the lender in the loan agreement,” or (2) “funds the loan.”  The rule further clarified that if one bank funds the loan but another bank is named as the lender in the loan agreement, the bank identified in the loan agreement will be considered the ‘true lender’ of the loan. That clarification is consistent with the fundamental rule of the Truth-in-Lending Act, which always makes the party on the loan agreement the “creditor” on that loan.

The OCC’s final ‘true lender’ rule, along with its recent ‘valid-when-made’ rule, is another step towards streamlining regulations for national banks, while also paving a clearer path for fintech and other non-bank entities to partner with national banks to facilitate consumer loans. Over the years, these partnerships have been troubled because of uncertainty about who the true lender is. Typically, the partner bank makes and funds the loan pursuant to its underwriting guidelines and then sells all or part of the loan to the third party, which often services the loan. Critically, the third party relies on the originating bank’s federal preemption rights, particularly to extent the interest rate would exceed applicable state usury laws. The OCC’s final rule is aimed at providing clarity for entities currently engaged in or seeking to enter into these lending partnership arrangements.

Not surprisingly, the OCC’s final rule was met with swift and harsh criticism from consumer advocates who continue to argue that it will foster predatory lending through ‘rent-a-bank schemes’ and other lending partnership arrangements.  Anticipating this backlash, the OCC made clear in its final rule that the bank, as a true lender of a loan, retains the compliance obligations associated with origination. Instead, the OCC states that it is “providing the legal certainty for banks to partner confidently with other market participants and meet the credit needs of their customers.”

The OCC’s stated goals of increasing access to credit and fostering innovation in the lending market are not likely to stave off legal challenges to its final rule. Shortly after the OCC issued its final ‘valid-when-made’ rule, the attorneys general for California, New York and Illinois filed suit in the Northern District of California to block the rule. We should anticipate similar challenges to the ‘true lender’ rule to be filed in the near term.

It is notable that the Federal Deposit Insurance Corporation (“FDIC”), which acted in step with the OCC by issuing its own ‘valid-when-made’ rule for state-chartered, federally insured banks, has yet to propose its own version of a ‘true lender’ rule for those banks.

The rule will take effect after 60 days of publication in the Federal Register.

 

Announcements Mark Out a Clearer Path, but MSAs and Gifts Still Require Careful Review

Last week, the Consumer Financial Protection Bureau (“CFPB” or “Bureau”) announced significant changes to how it will view the legality of Marketing and Services Agreements (“MSAs”) under the Real Estate Settlement Procedures Act (“RESPA”).  Most strikingly, the Bureau formally rescinded its controversial Compliance Bulletin 2015-05:  RESPA Compliance and Marketing Services Agreements (Oct. 8, 2015) (“2015 MSA Bulletin”).  MSAs historically have been used as a way for settlement service providers to gain access to additional potential customers via paid advertising and marketing services.  But the 2015 Bulletin, issued after a string of Bureau RESPA enforcement actions, expressed the view that virtually all MSAs should be scrutinized and pose a high risk of violating RESPA’s prohibitions on paid referrals and/or the splitting of unearned fees.[1]

In addition to rescinding the prior guidance, the Bureau last week also released a slew of new “Frequently Asked Questions” (“FAQs”) on the legality of MSAs, gifts and promotional activities, and other RESPA matters.  In all, the Bureau’s actions last week on MSAs in particular amount to a further repudiation of aggressive RESPA interpretations that the agency advanced during the last decade.

The Bureau believes that its new FAQs provide “clearer rules of the road,” and the framework may indeed breathe new life specifically into the practice of entering into MSAs.  But even under the new rules, any analysis of whether an MSA, a gift or a promotional activity violates RESPA will continue to require careful analysis and monitoring, based on numerous factors deemed relevant in the FAQs.

Below, we first highlight the Bureau’s prior stance on MSAs, now apparently disavowed with the rescinding of the 2015 MSA Bulletin, which had caused many firms to abandon MSAs.  We then describe the takeaways on the new framework for MSAs, and how it will apply.  We also include a section addressing the new FAQs on Gifts and Promotional Activity.

A.  MSAs

1.  Prior CFPB Approach

The 2015 MSA Bulletin all but banned MSAs outright.[2]  The CFPB stated that “many MSAs are designed to evade RESPA’s prohibition on the payment and acceptance of kickbacks and referral fees.”  The Bureau expressed “grave concerns” about the use of MSAs and described  “the substantial risks posed by entering into” MSAs.  Further, the Bureau said that it was unaware of evidence “suggesting the use of those agreements benefits either consumers or industry.”  The Bulletin provided virtually no guidance on how an MSA could be legally structured, and signaled the Bureau’s intent to “continue actively scrutinizing the use of such agreements and related arrangements.”

The Bulletin capped off a string of CFPB enforcement actions implying that it was very difficult to operate an MSA legally.  Beginning with the agency’s highly controversial Consent Order against Lighthouse Title,[3] the CFPB effectively took the position that certain types of agreements themselves violated RESPA.  As the Bureau put it in Lighthouse Title, “[e]ntering a contract is [itself] a ‘thing of value’ within the meaning of § 8, even if the fees paid under that contract are fair market value for the goods or services provided.”

This meant that even if the only actual compensation paid under an MSA equaled the fair market value of non-referral services actually provided, such as general advertising services, the MSA could violate RESPA if any uncompensated referrals were made.  The Bureau’s position appeared to contradict RESPA’s so-called § 8(c)(2) safe harbor, which permits compensation reasonably related to the fair market value of goods actually furnished or services actually performed.  (RESPA § 8(c)(2).)

In 2016 and again in 2018, a federal appeals court flatly rejected the Bureau’s position, albeit in a RESPA case involving a non-MSA agreement.  The court held that that the § 8(c)(2) safe harbor allows referrals “so long as” the referred party pays the other party “no more than reasonable market value” for non-referral “services actually provided.”  CFPB v. PHH Corp., 839 F.3d 1, 40-49 (D.C. Cir. 2016), reinstated in relevant part, 881 F.3d 75, 83 (2018) (en banc).  Last week’s actions by the Bureau, including its decision to rescind the 2015 MSA Bulletin, represent a similar rejection of the Bureau’s prior position, but in regard to MSAs specifically.

2. Takeaways on the New Framework

In line with the appeals court decision, the CFPB’s new FAQs clarify that a settlement service provider may pay another firm pursuant to an MSA for marketing services (1) that are actually performed, if (2) the amount of compensation paid is “reasonably related to the fair market value of” only those services.

MSAs will continue to require careful analysis, however, because the FAQs also state that “[w]hether a particular activity is” an illegal referral under RESPA § 8(a) or a permissible “marketing service is a fact-specific question,” and then describe numerous factors that should be considered in making a legal determination.  We have attempted to summarize the now-relevant factors for consideration below:

  1. Whether the marketing activity “is generally targeted at a wide audience.”
    • Such activity, the FAQs explain, is not a referral. For example, “placing advertisements for a settlement service provider in widely circulated media (e.g., a newspaper, a trade publication, or a website) is a” permissible marketing service.  Another example would be a real estate agent merely “deciding on and coordinating direct mail campaigns and media advertising for” a mortgage lender.
    • The FAQs contrast such “generally targeted” activity with an action that is directed to a particular person, which is a referral if it affirmatively influences the person to select the provider. For example, “referrals include a settlement service provider directly handing clients the contact information of another settlement service provider that happens to result in the client using that other” provider.
  1. How is the MSA implemented in practice?
    • The FAQs emphasize repeatedly that counsel and compliance officers cannot simply sign-off on a legal MSA contract and move on, because the MSA can violate RESPA in how it is “implemented” as well as by how it is structured.
    • Put another way, an MSA can violate RESPA either in “form or and substance,” including by agreements that are “indicated by a course of conduct.”
    • For example, an MSA can violate RESPA if in implementation it provides “payments based on the number of referrals received,” even if the contract describes the compensation formula differently.
  1. Whether the marketing services are performed by another settlement service provider — as opposed to a firm that does only advertising and marketing.
    • MSAs with other real estate settlement service providers for marketing services will continue to require additional scrutiny. The CFPB will examine whether the provider’s marketing services are “actual, necessary, and distinct from the primary” settlement service that it performs.
  1. Whether payments under the MSA are reasonably related only to the market value of the permissible marketing services.
    • As the FAQs put it, “the value of the referral, e., any additional business that might be provided by the referral, cannot be taken into consideration when determining” the reasonableness of the payment.
    • For example, an agreement to pay for permissible marketing services may nonetheless run afoul of the law if “the payment is in excess of the reasonable market value for the services performed.”

3. Going Forward on MSAs

The Bureau summed up the new status quo well in its press release announcing last week’s changes, explaining the:

“rescission of the [2015 MSA] Bulletin does not mean that MSAs are per se or presumptively legal.  Whether a particular MSA violates RESPA Section 8 will depend on specific facts and circumstances, including the details of how the MSA is structured and implemented.  MSAs remain subject to scrutiny, and we remain committed to vigorous enforcement of RESPA Section 8.”

In addition to the Bureau’s commitment to enforcement, parties must be aware of private litigation over arrangements governed by RESPA, such as the ongoing Zillow lawsuit concerning a “co-marketing program” among real-estate agents and mortgage lenders litigation, which we have previously described.  There now are clearer paths ahead for MSAs, if they are carefully reviewed at inception and in operation.

B.  New FAQs on Gifts and Promotional Activity

Together with the new MSA materials, the Bureau also published FAQs on how RESPA applies to gifts and promotional activities (the “Gift FAQs”), including with respect to what RESPA’s regulation does allow settlement service providers to offer in that arena:  “normal promotional and educational activities.”  See 12 CFR § 1024.14(g)(vi).

The Gift FAQs reiterate the government’s prior position that because “gifts or promotions generally are things of value,” an agreement to provide such items for a referral can violate RESPA.  Notably, the Bureau also declined to acknowledge any de minimis exception for gifts, stating that there “is no exception to RESPA Section 8 solely based on the value of the gift or promotion.”

Regarding the “normal promotional and educational activities” that RESPA does permit, the Gift FAQ’s elaborated some on the two, negative requirements for such activities, specifically that the offering of an item or activity cannot either:  (1) be conditioned on the referral of business; or (2) defray expenses that otherwise would be incurred by a person in a position to refer business.  The Bureau observed that the “not conditioned on” requirement will generally turn on how broadly or narrowly the item or activity is offered.  The broader the offering, the more likely it will be found to be “not conditioned” on referrals.  An example would be offering a promotional item to “the general public or all settlement service providers offering similar services in a given locality.”  The Bureau contrasted that scenario with one where an item or activity is “targeted narrowly towards prior, ongoing, or future referral sources.”

The commentary on the “defray expenses” requirement is more straightforward, with the question always turning on whether the recipient would otherwise have incurred the expense.  If the offering is a continuing education course, for example, then the answer could turn on whether the course was mandatory for the participant.  The Gift FAQs further elaborate with several examples of other offerings by settlement service providers that either are, or are not, allowed under the “normal promotional and educational activities” provision.

[1]           “RESPA” as used here refers to two separate but related prohibitions in the law’s Section 8.  First, one person may not agree to give a “thing of value” to another for referrals incident to real estate settlement service business.  (RESPA § 8(a).)  A “referral” means any “action directed to a person which has the effect of affirmatively influencing the selection” of a settlement service provider; a referral also occurs when any “person paying for a settlement service… is required to use… a particular provider….”  (12 CFR § 1024.14(f).)  The second RESPA prohibition forbids parties from splitting a settlement service charge for which no or only nominal services are performed, i.e., splitting an “unearned fee.”  (RESPA § 8(b).

[2]           MSAs.  In a typical MSA, a settlement service provider seeking to increase demand for its services — a lender, for example — will pay to have its services marketed or promoted by another party, such as a real estate brokerage.  In this example, the brokerage may be able to advertise the lender’s servicers to potential mortgage borrowers that the lender itself could not reach directly.  The lender may pay the brokerage a monthly fee for these advertising services, for example.

[3]           In the Matter of: Lighthouse Title, Consent Order, 2014-CFPB-0015 (Sept. 30, 2014).

On July 22, 2020, the Office of the Comptroller of Currency (“OCC”) proposed a new rule in the federal register, concerning when a bank or savings association is a “true lender,” when the loan is sold or assigned to different entities. The comment period for the OCC’s proposed rule ended on September 3, 2020, with mixed results.

In its proposed rule, the OCC interpreted the National Bank Act, Federal Reserve Act, Home Owners’ Loan Act and propounded a test to determine when a bank makes a loan and may be considered the true lender in a loan transaction. The OCC stated that “a bank makes a loan when, as of the date of origination, it (1) is named as lender in the loan agreement or (2) funds the loan.” The OCC further considers a true lender to “[have] a predominant economic interest in the loan,” as the original funder, even if it is not “the named lender in the loan agreement as of the date of origination.” The OCC reasons that such an interpretation would provide regulatory clarity and certainty that would enable banks and their partners to lend a manner consistent with their business objectives. The OCC contends that identifying the true lender would enable the OCC to directly supervise lending activities of banking entities and clear up any confusion as to which legal framework applies when a loan is originated as part of a lending relationship between a bank and a third party.

The proposed rule was met with a mix of comments. For instance, the New York Department of Financial Services (NYDFS), an ardent critic of the OCC’s recent attempts at streamlining the application of national banking regulations, submitted a critical comment letter stating that the proposed rule would “gut state usury laws and state licensing requirements with respect to unregulated lenders.” Similarly, 24 state attorneys general, including from New York and California, submitted a joint letter urging that the OCC rescind its proposed rule as it would only perpetuate “rent-a-bank” schemes where non-bank lenders use national banks as the delivery vehicle to charge interest at rates the non-banks could not charge on their own. Supporters of the proposed rule contend that such a bright-line rule would clarify when a bank is a true lender in a loan at the time of origination, eliminating confusion and promoting uniformity in banking operations. Supporters also believe the rule would encourage banks to obtain assistance from fintech or other non-bank entities to offer bank loans to a wider array of consumers or small businesses.

Ultimately, the reaction to the OCC’s proposed rule is a preview to the litigation that will likely commence if this rule becomes, much like the litigation surrounding the OCC’s similar clarification of the “valid-when-made” principle. For previous coverage about the litigation surrounding the “valid-when-made” principle, click here and here.

McGuireWoods boasts a nationally recognized fintech practice with lawyers in offices across the country, including offices in the most active fintech hubs. Our clients benefit from lawyers with a keen understanding of a broad array of emerging technologies and deep experience serving the financial sector. We are well equipped to handle shifting legal, commercial and technical challenges. The firm’s decades of experience representing financial institutions, including each of the top 10 U.S. banks ranked by assets, provide us with the deep industry insight and broad capabilities to help companies thrive.

California’s financial services regulator soon will likely have a new name and a significantly expanded mission after state lawmakers passed legislation on August 31, 2020 that would revamp the agency in the image of the U.S. Consumer Financial Protection Bureau, signaling an increased focus on fintech in particular.

In a last-minute push before adjourning for the year, the California legislature sent the California Consumer Financial Protection Law (“CCFPL”) to Governor Gavin Newsom for his approval, which is expected.  The CCFPL would change the name of the state’s current financial services regulator, the Department of Business Oversight (“DBO”), to the Department of Financial Protection and Innovation (“DFPI”). The reorganization of the California regulator under the CCFPL includes greatly expanded jurisdiction, rule-making authority, and enforcement resources to prosecute unfair, abusive, or deceptive acts or practices (“UDAAP”). The bill would take effect on January 1, 2021.

Focus on Fintech:

The legislation would fold the DBO’s existing licensing and prudential regulatory functions over state-chartered banks, mortgage lenders and others into the DFPI, which would then have authority over all “covered persons.”  The law defines that term to mean persons engaged in offering or providing consumer financial products or services, affiliates that act as service providers, and any service provider that engages in offering or providing its own consumer financial product or service. As in Title X of the Dodd-Frank Act, which created the CFPB, a “service provider” is any person that provides a material service to a covered person in connection with the covered person’s offering or providing of a consumer financial product or service.

The new statute, importantly, exempts virtually all entities operating under a license issued by the DBO / DFPI, such as finance lenders licensed under Division 9 of the Financial Code, residential mortgage lenders licensed under Division 20 of the Financial Code, and depository institutions. However, the CCFPL would apply to a great number of entities not previously subject to oversight by a primary regulator, including debt collectors, consumer reporting agencies, and certain fintech companies.

Expanded Enforcement and Rulemaking Authority:

The Legislature intends that the DFPI will have broad authority to protect vulnerable California consumers from abuse and protect California businesses from having to compete with unscrupulous providers. The Legislature also emphasizes that technological innovation, while offering great promise, poses risks to consumers and challenges to law enforcement.

California’s new law gives the DFPI the same UDAAP authority that Dodd-Frank Title X gives the CFPB: the authority to bring enforcement actions and write rules defining UDAAPs. Importantly, the CCFPL not only gives the new DFPI the authority to prevent unfair and deceptive practices (consistent with Business and Professions Code § 17200), but the DFPI will have the authority to declare an act “abusive.”  Such abusive practices are those that materially interfere with a consumer’s ability to understand the terms or conditions of a consumer financial product or service; or that take unreasonable advantage regarding: (i) a consumer’s lack of understanding of the material risks, costs, or conditions of the product or service; (ii) the consumer’s inability to protect the consumer’s own interests in selecting a product or service; or (iii) the consumer’s reasonable reliance on a covered person to act in the consumer’s interests.

The arrangement signals that the DFPI will have a sharper consumer protection focus on financial products and services offered by previously less-regulated nonbank players in the industry, namely fintech companies. On the other hand, in recognition of the importance of the industry’s innovative focus, the legislation would requires the DFPI to establish a “Financial Technology Innovation Office.”

Registration and Resources:

 The DFPI also would be authorized to require any “covered person” to file a registration, pay a fee, file annual or other special reports with the agency, and submit background checks for principals, officers and other key personnel. The registration fees will help fund the DFPI’s operations, as supplemented by additional moneys provided to the agency by the Governor’s 2020-21 Budget.

An Example for Other States:

The CCFPL’s passage comes at a time when many other states are also bolstering their consumer financial protection capabilities, particularly as federal oversight has relaxed.

Pennsylvania, New Jersey and New York have all formed versions of “mini-CFPBs” within existing state agencies in recent years.  And as we have covered previously, New York Governor  Andrew Cuomo has also been working on plans to institute licensing requirements for debt collectors and equip his financial services regulator with abusiveness enforcement authority.

The DFPI would likely overshadow these other efforts in size and scope, creating an agency that merges expanded statutory authority with increased funding and additional dedicated resources to exercise it, such as the power to hire in-house counsel to prosecute enforcement actions and defend the agency in court.

What’s Next

Governor Newsom has until September 30, 2020 to sign the CCFPL, which he is expected to do. After that, the CCFPL would as noted become effective on January 1, 2021.

On July 31, 2020, Varo Money Inc. announced that it was granted a national bank charter by the U.S. Office of the Comptroller of the Currency (OCC).  The charter will allow Varo, a mobile banking fintech, to launch a national bank and offer a range of financial services and products that are backed by the Federal Deposit Insurance Corp (FDIC).

The announcement marks a historic moment for fintech companies, as Varo will become the first fintech company to obtain a national bank charter with the OCC.

A national banking charter has a strong appeal to fintech companies.  With a charter, a fintech can lower its funding costs, gain access to Federal Reserve payments systems, and operate more uniformly on a nationwide basis with federal preemption of many state laws, including state licensing requirements. Since most fintech companies comply with a patchwork of state licensing requirements and regulations, or opt to partner with state or federal banks who hold banking charters, a national bank charter would better enable a fintech company to chart its own course with more regulatory clarity.

While Varo may be the first fintech company to obtain a national banking charter, it won’t be the last. Social Finance Inc. submitted an application in early July. Relatedly, Square Inc. has received conditional approval from the FDIC to launch an industrial loan company.

While the national bank charter market warms for fintech companies willing to offer deposits, the same has not been true for the OCC’s special purpose national fintech charter.  The special purpose charter, initially proposed in 2016, would have permitted non-depository fintech companies to operate under a federal charter overseen by the OCC. However, the program faced criticism and lawsuits from state regulators, which continue to plague the special purpose charter. Click here for our prior coverage of the litigation.

It did not take long for the Office of the Comptroller of the Currency’s (“OCC”) May 29 Final Rule codifying the valid-when-made principal to face challenges in court. On July 29, the attorneys general for New York, California and Illinois filed suit in the Northern District of California to block the rule, which extended the National Bank Act’s (“NBA”) preemption of state usury laws to any assignee or transferee of a loan originated by a national bank. The OCC issued the rule to reinforce the long-standing doctrine that the terms of a loan as originated by a bank remain valid even after that loan is sold or transferred to a non-bank entity (“Valid-When-Made” doctrine), after that principle was called into question by the Second Circuit’s decision in Madden v. Midland Funding LLC, 786 F.3d 246 (2d Cir. 2015). The OCC’s codification of the Valid-When-Made doctrine was an attempt to create legal certainty in the lending industry and has the potential to increase access by permitting non-banks, including fintechs, to acquire loans without worrying that the loan terms will be subject to more restrictive state usury laws.

In their complaint for declaratory and injunctive relief, New York, California and Illinois describe the OCC’s rule as “federal overreach,” arguing that it is “arbitrary and capricious” and beyond the OCC’s powers. They further argue that the rule will foster predatory lending by permitting non-banks to partner with national banks to avoid state interest rate caps.  More specifically, the states argue that the OCC’s oversight is limited to national banks, and thus it does not have authority to extend federal preemption to other entities. They argue that the OCC’s Final Rule does not meet the preemption standard set forth in the Dodd-Frank Act – that only state laws that “prevent or significantly interfere with the exercise by a national bank of its powers” are preempted – because the OCC failed to undertake the required evidence-based, case-by-case analysis in making its preemption determination. 12 U.S.C. § 25b(b)(1)(B). New York, California and Illinois claim that the OCC’s Final Rule harms both the states’ fiscal interests and their quasi-sovereign interests in protecting consumers and promoting fair lending marketplaces. In light of these arguments, New York, California and Illinois ask the court to find that the OCC’s promulgation of the rule violated the Administrative Procedure Act, and ask the court to set aside the OCC’s Final Rule.

By all appearances, the OCC intends to vigorously fight the suit. The acting head of the OCC, Brian Brooks, has argued that there is no merit to the criticisms of the rule as facilitating predatory lending. He defended the Final Rule, explaining that it creates certainty for banks and makes “more credit available to people.”

The case will proceed before District Judge Jacqueline Scott Corley, as the State of California declined to proceed before the Magistrate. Look-out for developments on this case as it proceeds.

On July 23, 2020, the New York Department of Financial Services (“DFS”) filed its appellate brief asking the Second Circuit Court of Appeals to uphold the lower court’s decision to block the Office of Comptroller of the Currency’s (“OCC”)’s special purpose national bank charter (“fintech charter”).

The DFS initially challenged the OCC’s fintech charter in September 2018 in the Southern District of New York (“SDNY”), weeks after the OCC unveiled the charter for certain non-depository fintech companies under the National Bank Act (“NBA”), allowing them to operate as “special purpose national banks” overseen by the OCC without the burdens of state-by-state regulation and licensing. The DFS argued that the NBA only gives the OCC the authority to provide banking charters to depository institutions, not non-depository institutions, like fintech companies. It is worth nothing that there are some fintech companies that do permit customers to “deposit” funds, so the DFS’s argument here may be over-inclusive. Regardless, the DFS argued that an OCC charter for fintech companies would undermine its authority over the approximately 600 such institutions in New York, shrinking the number of fee-paying companies within its jurisdiction. SDNY Judge Marrero agreed, denying the OCC’s motion to dismiss and entering final judgment in favor of the DFS. The order set aside the OCC’s regulations with respect to any fintech charter applications.

The OCC appealed that decision, and filed its opening appellate brief earlier this year, focusing its argument that the DFS lacks standing because its injuries were only hypothetical as the OCC has not received or taken any steps toward approving a fintech charter application in New York. The OCC also noted that the NBA is ambiguous as to whether the “business-of-banking” requires deposit taking.

In response, the DFS’s appellate brief focuses on the specific nature of the “business-of-banking” within the NBA historically, the OCC’s practice over the years, and the preemptive impact of a broad reading of the OCC’s jurisdiction. The DFS’s brief includes an analysis of the founder’s understanding that banks are depository institutions combined with the OCC’s otherwise limited practice in extending its reach under the NBA. The DFS points out that the OCC fails to invoke a single instance in which a court found an institution that does not take deposits, among its other activities, to be a bank under the NBA’s business-of-banking clause. The DFS further emphasizes the imminent injury to DFS’s regulatory and pecuniary interests if the lower court’s decision were overturned.

SDNY Judge Marrero’s decision and the OCC’s appeal come at a time when other courts have reached different conclusions on the general issue of standing. For instance, Judge Friedrich of the U.S. District Court of the District of Columbia twice struck down the Conference of State Bank Supervisors’ (“CSBS”) similar challenge to the OCC’s fintech charter because CSBS lacked standing and the claims were deemed unripe because no company had applied for the OCC’s fintech charter. Notwithstanding the uncertainty for non-depository fintech firms, the OCC, under the leadership of the acting Comptroller of the Currency Brian Brooks, continues to lend its support for expanding and updating its rules on banking under a modern financial system, emphasizing how the business-of-banking has changed in recent years. We can expect that any such modernization of OCC regulations will presumably also include similar expansion of the OCC’s application of the NBA’s charter.

The case is Lacewell v. Office of the Comptroller of the Currency, case number 19-4271, in the U.S. Court of Appeals for the Second Circuit. Click here and here for our prior coverage of this lawsuit.

 

This week’s U.S. Supreme Court opinion in Seila Law v. CFPB reached its most widely expected conclusion, ultimately allowing the CFPB to continue to operate. But the opinion also raises questions about previously initiated CFPB enforcement actions, and arguably raises constitutional issues about the many other federal agencies whose leaders are insulated from removal by the President.

Download this new McGuireWoods white paper, which addresses those open questions and issues, and the future implications of Seila Law.