As previously reported, unable to agree on long-term reforms for the National Flood Insurance Program (NFIP), at the end of last year Congress extended the NFIP through September 30, 2020, which is the end of the current federal government fiscal year. With that date looming, in a letter to majority and minority leaders in the U.S. Senate and U.S. House of Representatives, industry trade groups urge that Congress further extend the NFIP. While the trade groups note that the NFIP “should undergo a number of significant reforms designed to create long-term stability for policyholders,” they also state that “allowing the program to lapse would be devastating to the policyholders across the nation who have already been impacted by COVID-19 and are facing an increasing number of severe flooding events.” The trade groups ask Congress to extend the NFIP before September 30 “to provide some continuity and certainty to the millions of policyholders who rely on a functioning NFIP.”

Almost five years after entering into an administrative consent order with Encore Capital Group, Inc., Midland Funding, LLC, Midland Credit Management, Inc., and Asset Acceptance Capital Corp. (collectively, “Defendants”) to resolve claims relating to the Defendants’ debt collection practices, the CFPB, on September 8, 2020, filed a five count complaint (the “Complaint”) in a California federal district court against the alleging that the Defendants’ collection and other practices violated the FDCPA, the CFPA, and the terms of the consent order.

With respect to the FDCPA, the Complaint alleges that the Defendants violated § 1692(e), which prohibits the use of any false, deceptive, or misleading representation or means in connection with the collection of a debt. With regard to the CFPA, the Complaint alleges that Defendants: (1) committed deceptive acts and practices; (2) committed unfair acts and practices; (3) violated the 2015 consent order; and (4) violated the FDCPA.

As factual support for its claims, the Complaint alleges, among other things, that the Defendants:

  • filed hundreds of lawsuits without possessing original, account-level documentation;
  • failed to provide, in more than 750,000 instances, certain required disclosures;
  • failed to provide certain disclosures to consumers within 30 days of consumers’ requests;
  • sued consumers on time-barred debts in more than 100 instances;
  • sent more than 425,000 collection letters in connection with time-barred debts without including required disclosures;
  • failed to disclose certain fees; and
  • failed to process payments by accepted means so as to avoid the assessment of fees to consumers.

The Complaint seeks injunctive relief as well as consumer redress, disgorgement of profits, civil monetary penalties, and “damages or other monetary relief.”

The two lawsuits filed in federal district court in California by state attorneys general challenging the OCC and FDIC “Madden fix” final rules will both be heard by Judge Jeffrey S. White.  Judge White was appointed to the federal bench in 2002 by President George W. Bush.

When the lawsuits were filed, the lawsuit against the OCC was assigned to Judge White and the lawsuit against the FDIC was assigned to a different judge.  The California AG, one of the plaintiff AGs in both lawsuits, filed an administrative motion with Judge White to consider whether the two cases should be considered “related” under civil local rules.

The OCC filed a response in which it indicated that it was not taking a position on the motion but sought to advise the court “of important factual and legal differences between the two  actions.”  Those differences were that the lawsuits involve different defendants with primary regulatory responsibility over different institutions, challenges to rulemakings issued pursuant to separate statutes, and two distinct rulemakings based on separate administrative records.

On September 11, Judge White entered an order relating the two cases and the lawsuit against the FDIC was reassigned to him.

 

 

Last week the CFPB and New York Attorney General filed a lawsuit against five debt collection companies and four individuals who own and manage the companies. The complaint alleges the defendants used deceptive, harassing, and otherwise improper methods to induce consumers to make payments to them in violation of the Fair Debt Collection Practices Act (FDCPA) and the Consumer Financial Protection Act (CFPA). The CFPB and Attorney General allege the defendants collected revenues from consumers ranging from “approximately $10 million in 2015 to over $23 million in 2018.” The complaint seeks the refund of monies paid by consumers, disgorgement of ill-gotten revenues, civil money penalties, and injunctive relief.

The defendants are alleged to have:

  • “threatened consumers with legal action, including wage garnishment or attachment of property, or arrest and imprisonment, if they did not make payments,” though consumers are not subject to arrest for failure to pay debts and the companies never filed debt-collection lawsuits.
  • contacted and disclosed the existence of the debt, either “expressly or implicitly,” to consumers’ “family members, grandparents, … in-laws, ex-spouses, employers, work colleagues, landlords, Facebook friends, and other known associates.” The Bureau alleges the defendants used this tactic as “a form of repossession, telling collectors: ‘If I buy a car and I don’t pay for it . . . they take the car. If I don’t pay for my house, they take the house . . . . [W]e’re taking [their] pride . . . .’”
  • falsely claimed that consumers owe more than they do, in order to convince consumers “that paying the amount they actually owe represents a substantial discount.”
  • harassed consumers and/or third parties to coerce payment, using “insulting and belittling language” and “intimidating behavior,” placing “multiple calls every day over periods lasting a month or longer,” and continuing to call consumers at work “despite being told the consumer’s workplace prohibits the consumer from receiving such communications.”
  • failed to provide the legally required notices informing consumers of their right to know how much they owed and of their ability to dispute the amount or existence of the debt.

The CFPB has released the Summer 2020 edition of its Supervisory Highlights.  The report discusses the Bureau’s examinations in the areas of consumer reporting, debt collection, deposits, fair lending, mortgage servicing, and payday lending that were completed between September 2019 and December 2019.

Key findings are described below.

Consumer reporting.  CFPB examiners found:

  • One or more lenders violated the FCRA by obtaining credit reports without a permissible purpose as a result of the lender’s employees having obtained credit reports without first establishing that the lender had a permissible purpose to do so.  The CFPB notes that while consumer consent to obtain a credit report is not required where a lender has another permissible purpose, one or more mortgage lenders decided to require their employees to obtain consumer consent before obtaining credit reports “as an additional precaution to ensure that the lender had a permissible purpose to obtain the consumers’ reports.”
  • Third party debt collection furnishers of information about cable, satellite, and telecommunications accouns violated the FCRA requirement for furnishers of information about delinquent accounts to report the date of first delinquency to the consumer reporting companies (CRC) within 90 days.  The date of first delinquency is “the month and year of commencement of the delinquency on the account that immediately preceded the action.”  The CFPB found the furnishers were incorrectly reporting, as the date of first delinquency, the date that the consumer’s service was disconnected even though service was not disconnected until several months after the first missed payment that commenced the delinquency.  In addition, one or more furnishers were found to have incorrectly provided the charge-off date as the date of first delinquency, which was often several months after the delinquency commenced.
  • One or more furnishers violated the FCRA requirement to conduct a reasonable investigation of direct and indirect disputes.  CFPB examiners found that for both direct and indirect disputes, the furnishers failed to review underlying account information and documentation, account history notes, or dispute-related correspondence provided by the consumer.  The CFPB notes that inadequate staffing and high daily dispute resolution requirements contributed to the furnishers’ failures.

Debt collection.  CFPB examiners found that one or more debt collectors engaged in the following violations:

  • Violations of the FDCPA prohibitions regarding threatening actions that cannot legally be taken or are not intended to be taken and using false representations to collect a debt by (1) falsely threatened consumers with lawsuits that the collectors could not legally file or did not intend to file, (2) made false representations regarding the litigation process and a consumer’s obligations in the event of litigation, and (3) made implied representations to consumers that debts would be reported to CRCs if not paid by a certain date when the collectors did not report the debts.
  • Violations of the FDCPA prohibitions regarding making false representations that a debt collector operates or is employed by a CRC by falsely representing or implying to consumers that that they operated or were employed by CRCs.

Deposits.  CFPB examiners found that one or more financial institutions had engaged in the following violations:

  • Violations of  the EFTA provision that prohibits the use of agreements that contain a waiver of a consumer’s EFTA rights by requiring consumers to (1) sign deposit agreements stating that consumers would cooperate with the institution’s investigation of any errors alleged by the consumer, including by providing affidavits and notifying law enforcement authorities, and (2) sign stop payment request forms and deposit agreements in which the consumer agreed to indemnify and hold the institutions harmless for various claims and expenses arising from honoring the stop payment request, including not holding the institution liable if it was unable to stop the payment due to inadvertence, accident, or oversight.  The CFPB deemed such requirements to be provisions that waived consumer rights in violation of the EFTA because they required consumers to do more than what the EFTA and Regulation E allow to assert their rights.
  • Violations of Regulation E requirements regarding qualifying notices of EFTA errors.  CFPB examiners found that although the EFTA and Regulation E provide that a qualifying notice is one that is received within 60 days after the institution sends the statement on which the alleged error is first reflected, the institutions required that error notices relating to ACH transactions had to be received within 60 days from the transaction date.
  • Violations of the EFTA/Regulation E requirement that an institution investigating an alleged error must provide to consumers the investigation determination, an explanation for the determination when it determines there was no error or a different error occurred, and notice of the consumer’s right to request the documents relied on by the institution to make its determination when it determines no error or a different error occurred.  CFPB examiners found that the institutions failed to provide an explanation for their determinations and/or provided inaccurate or irrelevant responses and did not provide consumers with notice of their right to request documents relied on by the institutions.
  • Violations of the Regulation DD requirement that deposit account advertisements not mislead, be inaccurate, or misrepresent the deposit account terms by failing to provide advertised bonuses to consumers.  The CFPB attributed the violations to quality control and monitoring procedures that did not appropriately ensure that all eligible consumers received the bonus.

Fair lending.  CFPB examiners found:

  • One or more bank or nonbank mortgage lenders violated the ECOA/Regulation B prohibition against using advertising that discourages prospective applicants on a prohibited basis. CFPB examiners found the lenders had “intentionally redlin[ed] majority-minority neighborhoods in two Metropolitan Statistical Areas (MSAs) by engaging in acts or practices directed at prospective applicants that may have discouraged reasonable people from applying for credit.”  Those acts or practices consisted of: (1) prominently featuring a white model in ads run on a weekly basis for two years in a publication with wide circulation in the MSAs, (2) featuring almost exclusively white models in marketing materials intended to be distributed to consumers by the lenders’ retail loan originators, and (3) including headshots of the lenders’ mortgage professionals who appeared to be white in almost all of the lenders’ open house marketing materials.  The CFPB states that (1) a statistical analysis of HMDA and U.S. census data provided evidence of the lenders’ intent to discourage prospective applicants from majority-minority neighborhoods, (2) general and refined peer analysis showed the lenders received significantly fewer applications from majority-minority neighborhoods and high-minority neighborhoods relative to other peer lenders in the MSAs, and (3) the lender’s direct marketing campaign that focused on majority-white areas in the MSAs was additional evidence of the lenders’ intent to discourage prospective applicants on a prohibited basis.  (The CFPB indicates that the lenders have implemented outreach and marketing programs focused on increasing their visibility among consumers living in or seeking credit in majority-minority census tracts in the MSAs.)
  • One or more lenders violated the ECOA prohibition against discrimination against an applicant because the applicant’s income is based entirely or in part on the receipt of public assistance.  CFPB examiners found that the lenders had a policy or practice of excluding certain forms of public assistance without considering the applicant’s actual circumstances in determining a borrower’s eligibility for mortgage modification programs.  (The CFPB indicates that borrowers who were denied mortgage modifications or otherwise harmed by this practice were provided with “financial remuneration and an appropriate mortgage modification.”)

Mortgage servicing.  CFPB examiners found that one or more servicers had engaged in the following violations:

  • Violations of the Regulation Z requirement to provide periodic statements to certain consumers in bankruptcy.  CFPB examiners attributed the violations to system limitations, and in some cases, a failure to reconcile accounting records of bankruptcy costs maintained by third parties with the servicers’ systems of record.
  • Violations of the Regulation X provision that prohibits a servicer from assessing a premium charge or fee for force-placed insurance unless the servicer has a reasonable basis to believe the borrower failed to maintain required hazard insurance.  CFPB examiners found that servicers had charged borrowers for force-placed insurance who had provided the servicers with proof of required hazard insurance.  Other servicers were found to have charged borrowers for forced-placed insurance where the servicers had received a bill for the borrowers’ hazard insurance but did not assign the bill to the proper account.  CFPB examiners attributed these violations to inadequate procedures and staffing and weak service provider oversight.
  • Violations of the Regulation X requirement to cancel force-placed insurance and refund premiums for any period where a consumer provides evidence of overlapping coverage within 15 days of receiving such evidence.  CFPB examiners attributed these violations to failure to process proof of insurance and inadequate staffing.
  • One or more servicers violated Regulation X requirements regarding the treatment of escrow account shortages and deficiencies.  CFPB examiners found that for borrowers with either shortages or deficiencies equal to or greater than one month’s escrow payment, the servicers had included a lump sum repayment option in the borrowers’ annual account statements, which servicers cannot not require under Regulation X in that scenario.
  • Various violations after servicing transfers, including: failing to provide an accurate effective date for the transfer of servicing in the notice of servicing transfer; failing to exercise reasonable diligence to obtain documents and information necessary to complete a loss mitigation application; failing to credit a periodic payment as of the date of receipt; and when acting as a debt collector, failing to provide a validation notice in accordance with the FDCPA’s timing requirements.  The CFPB noted that its examiners’ conclusion that servicers had failed to exercise reasonable diligence was based on the servicers’ request for consumers to submit a new application when an application was virtually complete at the time of servicing transfer.  The CFPB attributed the post-transfer violations to errors during the onboarding process and inadequate policies and procedures.
  • Violations of the Regulation Z requirement for a new owner to send a mortgage transfer disclosure after acquiring a loan.

Payday lending.  CFPB examiners found that one or more lenders engaged in the following violations:

  • Violations of the Dodd-Frank UDAAP prohibition of deceptive practices by:
    • representing on websites and in mailed advertisements that consumers could apply for loans online.  CFPP examiners found that although consumers could enter some information online, the lenders required them to visit a storefront location to re-enter information and complete the loan application process
    • falsely representing on proprietary websites, on social media, and in other advertising that they would not conduct a credit check when, in fact, the lenders used consumer reports in determining whether to extend credit
    • sending collection letters that falsely threatened lien placement or asset seizure if consumers did not make payments where the lenders did not take such actions and certain assets may have been exempt from lien or seizure under state law
    • sending collection letters that falsely threatened to charge late fees if consumers did not make payments when the lenders did not charge late fees
  • Violations of the Regulation Z advertising requirement to include certain additional information when certain “trigger terms” appear in an advertisement.
  • Violations of the Regulation Z requirement for an advertisement that states specific credit terms to state terms that actually are or will be arranged or offered by the creditor.  CFPB examiners found that the lenders had advertised that a new customer’s first loan would be free but were not actually prepared to offer the advertised terms.  Instead, the lenders offered consumers one free week for loans with a term longer than one week, with such loans carrying “considerable APRs.”

 

 

On September 4, 2020, the Department of Housing and Urban Development (“HUD”) issued a final rule revising its 2013 Fair Housing Act (“FHA”) disparate impact standards (“2013 Rule”) to reflect the U.S. Supreme Court’s 2015 decision in Texas Department of Housing and Community Affairs v. Inclusive Communities Project, Inc., which held that disparate impact claims are cognizable under the FHA.  The final rule also establishes a uniform standard for determining when a housing policy or practice with a discriminatory effect violates the FHA and clarifies that application of the disparate impact standard is not intended to affect state laws governing insurance.  The final rule largely adopts the proposed disparate impact rule HUD issued in 2019, with several clarifications and certain substantive changes.  In the preamble to the final rule, HUD noted that the agency received an unprecedented 45,758 comments on the proposed rule.

On October 7, 2020, from 12:00 p.m. to 1:00 p.m. ET, Ballard Spahr will hold a webinar on the final rule.  To register, click here.

HUD’s final rule codifies a new burden-shifting framework for analyzing disparate impact claims to reflect the Inclusive Communities decision, and requires a plaintiff to sufficiently plead facts to support five elements at the pleading stage that “a specific, identifiable policy or practice” has a discriminatory effect on a protected class group under the FHA.  Those five elements include that :

  1. the challenged policy or practice is arbitrary, artificial, and unnecessary to achieve a valid interest or legitimate objective;
  2. the challenged policy or practice has a disproportionately adverse effect (i.e., disparate impact) on members of a protected class;
  3. there is a robust causal link between the challenged policy or practice and disparate impact on members of a protected class, meaning the specific policy or practice is the direct cause of the discriminatory effect;
  4. the alleged disparity caused by the policy or practice is significant; and
  5. there is a direct link between the injury asserted and the disparate impact alleged.

These elements are designed to harmonize the existing burden-shifting test with the safeguards against “abusive” disparate impact claims discussed in Inclusive Communities.

To establish that a policy or practice has a discriminatory effect, the plaintiff must prove by a preponderance of the evidence each of the elements in (ii) through (v) above.  The defendant may then rebut the plaintiff’s allegation under (i) above that the challenged policy or practice is arbitrary, artificial, and unnecessary by producing evidence showing that the challenged policy or practice advances a valid interest(s) and therefore is not arbitrary, artificial, and unnecessary.

If a defendant successfully does so, the plaintiff must then prove by a preponderance of evidence either that the interest(s) advanced by the defendant are not valid or that a less discriminatory policy or practice exists that would serve the defendant’s identified interest in an equally effective manner without imposing materially greater costs on, or creating other material burdens for, the defendant.  In the preamble to the final rule,  HUD states that what is considered “valid” is a fact-specific inquiry, and the agency cites to profit as an example of a valid business interest that was expressly recognized by the Supreme Court in Inclusive Communities.  However, “an interest that is intentionally discriminatory, non-substantial or otherwise illegitimate would necessarily not be ‘valid.’”

The final rule also clarifies which defenses are available to defendants at each stage of litigation.

At the pleading stage, a defendant can argue that the plaintiff has failed to sufficiently plead facts to support an element of a prima facie case, including by showing that its policy or practice is reasonably necessary to comply with a third-party requirement (such as a federal, state or local law or a binding or controlling court, arbitral, administrative order or opinion or regulatory, administrative or government guidance or requirement).  In the preamble to the final rule, HUD stated its belief that this is an appropriate defense at the pleading stage where the defendant can show, as a matter of law, that the plaintiff’s case should not proceed when considered in light of law or binding authority that limits the defendant’s discretion in a manner demonstrating that such discretion could not have been the direct cause of the disparity.

Following the pleading stage, the defendant may establish that the plaintiff has failed to meet the burden of proof to establish a discriminatory effects claim by demonstrating any of the following:

  • The policy or practice is intended to predict an outcome, the prediction represents a valid interest, and the outcome predicted by the policy or practice does not or would not have a disparate impact on protected classes compared to similarly situated individuals not part of the protected class, with respect to the allegations under paragraph (b).  To illustrate this defense, HUD uses an example where a plaintiff alleges that a lender rejects members of a protected class at higher rates than non-members.  The logical conclusion of such a claim would be that members of the protected class who were approved, having been required to meet an unnecessarily restrictive standard, would default at a lower rate than individuals outside the protected class.  Therefore, if the defendant shows that default risk assessment leads to less loans being made to members of a protected class, but similar members of the protected class who did receive loans actually default more or just as often as similarly-situated individuals outside the protected class, then the defendant could show that the predictive model was not overly restrictive.
    • HUD’s final rule provides that this is not an adequate defense, however, if the plaintiff demonstrates that an alternative, less discriminatory policy or practice would result in the same outcome of the policy or practice, without imposing materially greater costs on, or creating other material burdens for the defendant.
    • In the preamble to the final rule, HUD states that this defense is intended to be an alternative to the algorithm defense it eliminated from the proposed rule.  In our view, this defense seems just as useful and perhaps easier for a defendant to prove.
  • The plaintiff has failed to establish that the defendant’s policy or practice has a discriminatory effect; or
  • The defendant’s policy or practice is reasonably necessary to comply with a third-party requirement (such as a federal, state or local law or a binding or controlling court, arbitral, administrative order or opinion or regulatory, administrative or government guidance or requirement).

As noted above, HUD did not adopt in the final rule the proposed defense for reliance on a “sound algorithmic model.” HUD stated that this aspect of the proposed rule was “unnecessarily broad,” and the agency expects there will be further developments in the laws governing emerging technologies of algorithms, artificial intelligence, machine learning and similar concepts, so it would be “premature at this time to directly address algorithms.”  Therefore, HUD removed that defense option at the pleading stage for defendants.  As a practical matter, this means that disparate impact cases based on the use of scoring models will be based on the general burden-shifting framework set forth above, which ultimately would require a plaintiff to show that a model’s predictive ability could be met by a less discriminatory alternative.

In cases where FHA liability is based solely on the disparate impact theory, HUD’s final rule specifies that “remedies should be concentrated on eliminating or reforming the discriminatory practice.”  The rule also states that HUD will only pursue civil money penalties in disparate impact cases where the defendant has been determined to have violated the FHA within the past five years.

The final rule becomes effective 30 days from the date of publication in the Federal Register.

As expected, criticism from consumer advocacy groups was swift.  For example, the National Fair Housing Alliance’s September 4, 2020 press release condemned the final rule for its “evisceration” of the disparate impact theory as a civil rights legal tool and stated that it was the “worst possible time” for HUD to issue the final rule during the concurrent COVID-19 pandemic, economic crisis and social unrest concerning racial inequalities.  In its press release issued on the same date, the National Community Reinvestment Coalition took aim at the final rule as an attack by the Trump Administration on the Fair Housing Act, noting that the rule places an “impossible burden” on plaintiffs in disparate impact cases before discovery can even begin. In their public statements, both organizations emphasized that HUD’s pleading and burden of proof requirements in the final rule will make it significantly more difficult for plaintiffs to challenge discriminatory lending policies and practices going forward.

We believe it is likely that these groups or others may mount a legal challenge to the final rule under the Administrative Procedure Act.  Any legal challenge may face obstacles based on the Inclusive Communities decision itself, which is incorporated into HUD’s final rule, and prior Supreme Court precedent.  We will discuss these issues during our upcoming webinar.

On September 3, 2020, the California Department of Business Oversight (DBO) announced that it has launched a formal investigation into whether Wheels Financial Group, LLC d/b/a LoanMart, formerly one of California’s largest state-licensed auto title lenders, “is evading California’s newly-enacted interest rate caps through its recent partnership with an out-of-state bank.”  Coupled with the California legislature’s passage of AB-1864, which will give the DBO (to be renamed the Department of Financial Protection and Innovation) new supervisory authority over certain previously unregulated providers of consumer financial services, the DBO’s announcement is an unsurprising but nonetheless threatening development for bank/nonbank partnerships in California and throughout the country.

In 2019, California enacted AB-539, the Fair Access to Credit Act (FACA), which, effective January 1, 2020, limits the interest rate that can be charged on loans of $2,500 to $10,000 by lenders licensed under the California Financing Law (CFL) to 36% plus the federal funds rate.  According to the DBO’s press release, until the FACA became effective, LoanMart was making state-licensed auto title loans at rates above 100 percent.  Thereafter, “using its existing lending operations and personnel, LoanMart commenced ‘marketing’ and ‘servicing’ auto title loans purportedly made by CCBank, a small Utah-chartered bank operating out of Provo, Utah.”  The DOB indicated that such loans have interest rates greater than 90 percent.

The DBO’s press release stated that it issued a subpoena to LoanMart requesting financial information, emails, and other documents “relating to the genesis and parameters” of its arrangement with CCBank.  The DBO indicated that it “is investigating whether LoanMart’s role in the arrangement is so extensive as to require compliance with California’s lending laws.  In particular, the DBO seeks to learn whether LoanMart’s arrangement with CCBank is a direct effort to evade the [FACA], an effort which the DBO contends would violate state law.”

Because CCBank is a state-chartered FDIC-insured bank located in Utah, Section 27(a) of the Federal Deposit Insurance Act authorizes CCBank to charge interest on its loans, including loans to California residents, at a rate allowed by Utah law regardless of any California law imposing a lower interest rate limit.  The DBO’s focus in the investigation appears to be whether LoanMart, rather than CCBank, should be considered the “true lender” on the auto title loans marketed and serviced by LoanMart, and as a result, whether CCBank’s federal authority to charge interest as allowed by Utah law should be disregarded and the FACA rate cap should apply to such loans.

It seems likely that LoanMart was targeted by the DBO because it is currently licensed as a lender under the CFL, made auto title loans pursuant to that license before the FACA’s effective date, and entered into the arrangement with CCBank after the FACA’s effective date.  However, the DBO’s investigation of LoanMart also raises the specter of “true lender” scrutiny by the DBO of other bank/nonbank partnerships where the nonbank entity is not currently licensed as a lender or broker, especially where the rates charged exceed those permitted under the FACA.  Under AB-1864, it appears nonbank entities that market and service loans in partnerships with banks would be considered “covered persons” subject to the renamed DBO’s oversight.

Should the DBO bring a “true lender” challenge against LoanMart’s arrangement with CCBank, it would not be the first state authority to do so.  In the past, “true lender” attacks have been launched or threatened by state authorities against high-rate bank/nonbank lending programs in DC, Maryland, New York, North Carolina, Ohio, Pennsylvania and West Virginia.  In 2017,  the Colorado Attorney General filed lawsuits against fintechs Avant and Marlette Funding and their partner banks WebBank and Cross River Bank that included a “true lender” challenge to the interest rates charged under the defendants’ loan programs, even though the annual percentage rates were limited to 36%.  Those lawsuits were recently dismissed under the terms of a settlement that established a “safe harbor” that permits each defendant bank and its partner fintechs to continue their programs offering closed-end consumer loans to Colorado residents.

While several states oppose the preemption of state usury laws in the context of bank/nonbank partnerships, federal banking regulators have taken a different stance.  Thus, both the OCC and FDIC have adopted regulations rejecting the Second Circuit’s Madden decision.  A number of states have challenged these regulations.  Additionally, the OCC recently issued a proposed rule that would establish a bright line test providing that a national bank or federal savings association is properly regarded as the “true lender” when, as of the date of origination, the bank or savings association is named as the lender in a loan agreement or funds the loan.  (We have submitted a comment letter to the OCC in support of the proposal.)  If adopted, this rule also will almost certainly  be challenged.  The FDIC has not yet proposed a similar rule.  However, since Section 27(a) of the Federal Deposit Insurance Act is based on the federal usury law applicable to national banks, we are hopeful that the FDIC will soon propose a similar rule.

Bank/nonbank partnerships constitute an increasingly important vehicle for making credit available to nonprime and prime borrowers alike.  We will continue to follow and report on developments in this area.

On September 29, 2020, from 3:00 p.m. to 4:30 p.m. ET, Ballard Spahr will hold a webinar on AB-1864 and other bills recently enacted in California that significantly impact consumer financial services.  To register, click here.

 

We are joined by Prentiss Cox, a University of Minnesota Law School Professor who formerly worked in the MN AG’s office and served on the CFPB’s Consumer Advisory Board.  After discussing whether the CFPB’s structure should change in the wake of SCOTUS’s Seila Law decision, we look at the different approaches of the CFPB’s past and current leadership to the use of its authorities, the merits and drawbacks of such approaches, and the skill sets of possible candidates to serve as the next Director in a Biden Administration.

Click here to listen to the podcast.

As part of California’s recent triad of consumer financial services legislation, including AB-1864, which creates the Department of Financial Protection and Innovation and the California Financial Protection Law, and AB-376, which includes a new Student Loan Borrower Bill of Rights.  California is also on the cusp of enacting a law requiring licensure of persons who are engaged in the business of collecting, on behalf of themselves or others, debts arising from consumer credit transactions with consumers who reside in California.  This could include debt buyers, first-party and third-party collectors.  The bill, SB 908 has been approved by both chambers and is awaiting the Governor’s signature.  The Governor has until September 30th to sign or veto these bills, and it is expected that he will sign it into law.

On September 29, 2020, from 3:00 p.m. to 4:30 p.m. ET, Ballard Spahr will hold a webinar on the three bills.  To register, click here.

The bill authorizes the Department of Business Oversight (“DBO”), soon to be known as the Department of Financial Protection and Innovation, to begin adopting regulations pertaining to the new licensing requirement on January 1, 2021.  The licensing requirement would be enforced beginning on January 1, 2022.  Any collector that submits an application before that date would be permitted to operate pending the approval or denial of their application. Separate licenses are not required for branch offices or for affiliates.  To obtain a license, applicants will be required sign the application under penalty of perjury, pay an application fee, and undergo a criminal background check.

The bill exempts depository institutions; persons licensed under the state’s Financing Law, Residential Mortgage Lending Act, or Real Estate Law; persons subject to the Rental-Purchase Act; a trustee performing acts in connection with a nonjudicial foreclosure; and debt collection regulated by the Student Loan Servicing Act.

Additionally, the bill amends the Rosenthal Fair Debt Collection Practices Act to require a debt collector to include its license number in at least 12-point type in written or digital collection communications and it amends the Fair Debt Buying Practices Act to require a debt buyer to include its license number in written statements to debtors when attempting to collect consumer debts.

The bill also creates the Debt Collection Advisory Committee.  This committee will be comprised of seven members, appointed by the commissioner of the DBO. The committee will advise the commissioner of the DBO on matters related to debt collection.

The DBO has the authority to enforce the provisions of this bill through investigations, suspension of licenses, promulgating regulations necessary to enforce the licensing and regulatory provisions of the bill, and issues orders and claims for relief.

If signed by Governor Newsom, debt collectors must obtain licenses by January 1, 2022 to compliantly engage in collections in California.

The requirements of SB 908 and AB-1864 overlap, as AB-1864 authorizes the DBO (which will be renamed as the DFPI upon the enactment of AB-1864) to promulgate regulations related to the registration of covered persons, as well as to issue rules related to the accurate disclosure of consumer financial products or services.  Thus, it appears that under AB-1864, the DBO would have the authority to require debt collectors to register, in a way that would be similar to licensure, as well as the authority to require debt collectors and debt buyers to disclose their license numbers in communications to consumers.

SB 908 does not provide authority for the DBO to issue regulations regarding debt collection practices generally.  However, AB-1864 would give the renamed DBO authority over “covered persons” relating to unlawful, unfair, deceptive, or abusive acts and practices and authority “to prescribe rules applicable to any covered person or service provider identifying as unlawful, unfair, deceptive, or abusive acts or practices in connection with any transaction with a consumer for a consumer financial product or service, or the offering of a consumer financial product or service.”  Since “covered persons” under AB-1864 would include entities involved in debt collection, including licensed debt collectors, this UDAAP authority could be used by the renamed DBO to issue a regulation that identifies certain debt collection practices as unfair, deceptive, or abusive.

 

Ballard Spahr LLP has submitted a comment letter to the OCC in support of its proposed rule, “National Banks and Federal Savings Associations as Lenders” (the “Proposed Rule”). As detailed in our letter, we applaud the Proposed Rule, which would establish a clear and logical bright line confirming and clarifying that a bank (or savings association) is properly regarded as the “true lender” when, as of the date of origination, the bank is named as the lender in a loan agreement or funds the loan. The Proposed Rule, coupled with the OCC’s recently adopted Madden-fix (valid-when-made) rule, would eliminate confusion, uncertainty and legal risk for banks and their counterparties as they work together to make credit more readily available nationwide, a particularly urgent need as we face the economic crisis caused by COVID-19.

As the OCC points out in its notice of proposed rulemaking for the Proposed Rule (the “NPR”), the financial system is most efficient when banks work effectively with other market participants to meet customers’ credit needs: for example, in securitizations and other arrangements where sales of loans to third parties allow banks to manage risk and maintain liquidity; in Bank-Agent Programs (described below) involving fintechs or other third parties that engage in marketing, operational and other support roles; and in private label credit card programs and other programs where banks partner with retailers and other entities to make credit more broadly available. The Proposed Rule, if adopted, would significantly benefit all parties involved in these arrangements, including their ultimate beneficiaries – the borrowers – by removing risks created by those who would undermine the ultimate goals of the National Bank Act.

Our letter draws on Ballard Spahr’s two-plus decades of experience in representing banks and savings associations (“Banks”) in establishing lending programs (“Bank-Agent Programs”) where a Bank obtains substantial assistance from a fintech or other non-Bank company (an “Agent”) to offer Bank loans to consumers or small businesses. The Firm also has defended Banks and Agents in numerous class action and government enforcement proceedings arising from Bank-Agent programs, in particular challenges based on the assertion that the Agent, and not the Bank, is the “true lender” and, accordingly, the home-state interest exportation right provided to Banks under federal law is inapplicable. The Proposed Rule effectively finds these challenges incompatible with the federal laws governing the interest charges Banks are permitted to impose (the “Federal Interest Statutes”).

As our comment letter explains, in a typical Bank-Agent Program, an Agent may serve as marketing and servicing agent to a Bank that charges interest on its loans nationwide at the rates allowed by federal banking law and the law of the state where the Bank is located. After origination, the Bank sells the loans (or an interest in the loans) to the Agent or an institutional investor identified by the Agent. A small but growing number of cases have addressed whether the “true lender” in a Bank-Agent Program is the Bank or its Agent. The better reasoned cases have determined the Bank is the “true lender”, given it is the named lender in the loan agreements, and have accordingly declined to recharacterize the Agent as the “true lender”. Decisions willing to recharacterize the Agent as the “true lender” fail to justify the particular line they have chosen for when the Agent is deemed the “true lender” or to tie their test to any pre-existing legal doctrines. Instead, these decisions have applied widely diverging, fact-intensive tests in an effort to demonstrate that the Agent should be recharacterized as the true lender based on factors such as the level of the Agent’s economic interest arising out of the Bank-Agent Program. The Proposed Rule would provide a bright-line standard confirming and clarifying that the Bank in a Bank-Agent Program (and in any other type of arrangement involving other market participants) is the “true lender” when, as of the date of origination, the Bank is named as the lender in the loan agreement or funds the loan.

Some attacks on Bank-Agent Programs, securitizations and other Bank-counterparty programs also have challenged the validity of the original interest rate after a loan is sold. The OCC’s Madden-fix rule, adopted to address these challenges, clarified that an interest rate permissible at the outset remains valid after a loan sale. However, as noted in the NPR, the OCC recognized that even after it adopted the Madden-fix rule, “uncertainty remains regarding how to determine if a loan is, in fact, made by a bank as opposed to by its relationship partner”, and in the Proposed Rule provides a clear test to determine when a Bank makes a loan.

Three virtually identical Federal Interest Statutes govern interest that may be charged by Banks: Section 85 of the National Bank Act (“NBA”), 12 U.S.C. § 85 (“Section 85”) which governs the interest charges of national banks; Section 4(g) of the Home Owners’ Loan Act (HOLA), 12 U.S.C. § 1463(g) (“Section 4(g)”), which governs the interest charges of federal and state savings associations; and Section 27(a) of the Federal Deposit Insurance Act (the “FDIA”), 12 U.S.C. § 1831d(a) (“Section 27(a)”), which governs the interest charges of state-chartered FDIC-insured banks.  In our comment letter, we argue that the Proposed Rule and the Madden-fix rule properly effectuate the policies underlying the Federal Interest Statutes. The ability of Banks to sell loans (or interests in loans) serves important economic and safety and soundness goals by affording Banks access to alternative sources of liquidity, helping them manage lending concentrations and improving their financial performance ratios. The threat that a counterparty might be recharacterized as a “true lender” based on the level of its economic interest would interfere with loan sales in Bank-Agent Programs, securitizations and other funding arrangements. The recharacterization threat also diminishes both the opportunity for innovation in lending products and the availability of credit, especially for consumers with risker credit profiles. Bank-Agent Programs give Banks access to cutting-edge technology to better and more efficiently serve customer needs and promote broader access to consumer credit and financial inclusion, but the chilling effect on Bank-Agent Programs caused by the recharacterization threat, if allowed to continue, could deprive Banks and their customers of all these benefits.

The OCC clearly has the authority to adopt the Proposed Rule. Under 12 U.S.C. § 93a, the OCC is generally “authorized to prescribe rules and regulations to carry out the responsibilities of the office.” And, Congress has charged the OCC “with assuring the safety and soundness of, and compliance with laws and regulations, fair access to financial services, and fair treatment of customers by, the institutions and other persons subject to its jurisdiction.” 12 U.S.C. § 1 (emphasis added). Further, to the extent clarification of Congressional language is necessary, as appears to be the case in this instance given several courts’ opinions reflecting confusion in interpreting the effect of the Federal Interest Statutes on Bank–counterparty arrangements, the Supreme Court has long recognized that judicial deference is warranted to the informed views of agencies such as the OCC. As the Supreme Court instructed in Smiley v. Citibank (South Dakota), N.A., 517 U.S. 735, (1996):

It is our practice to defer to the reasonable judgments of agencies with regard to the meaning of ambiguous terms in statutes that they are charged with administering. See Chevron U. S. A. Inc. v. Natural Resources Defense Council, Inc., 467 U. S. 837, 842845 (1984). As we observed only last Term, that practice extends to the judgments of the Comptroller of the Currency with regard to the meaning of the banking laws. “The Comptroller of the Currency,” we said, “is charged with the enforcement of banking laws to an extent that warrants the invocation of [the rule of deference] with respect to his deliberative conclusions as to the meaning of these laws.” NationsBank of N.C., N.A. v. Variable Annuity Life Ins. Co., 513 U. S. 251, 256-257 (1995) (citations and internal quotation marks omitted).

Significantly, the Supreme Court in Smiley, relying upon Marquette Nat’l Bank of Minneapolis v. First of Omaha Service Corp., 439 U.S. 299 (1978), accorded deference to the OCC with respect to the very statutory provision (Section 85 of the National Bank Act) at issue under the Proposed Rule.

The OCC’s proposed bright-line standard for determining when a bank should be regarded as the “true lender” supports the certainty needed to ensure the effectiveness, and the safety and soundness, of the national banking system. It also would enhance the ability of banks readily to offer credit nationwide on the interest terms allowed by the laws of their home states, serving the public purpose of making credit as widely available as possible on reasonable terms, and subject to the oversight of the OCC to ensure fairness and compliance with applicable laws.

Although the FDIC recently issued a Madden-fix (valid-when-made) rule that reaches the same results under the FDIA as does the OCC’s Madden-fix rule, the FDIC has not proposed a companion “true lender’ rule. We urge the FDIC to propose and adopt a true lender rule that mirrors the OCC’s Proposed Rule. This would help effectuate the policy of Section 27 of the FDIA to keep state banks on an equal footing with national banks in terms of nationwide lending rights.

While we believe that adoption of the Proposed Rule would greatly advance the availability of credit and efficient Bank operations, our letter also notes one potentially problematic aspect of the Proposed Rule.  In the preamble, the OCC warned that it will be vigilant in addressing unfair, deceptive and abusive acts and practices (“UDAAP”).  While we fully support the OCC’s commitment to prevent UDAAP violations through its supervisory and enforcement powers, we have some concern that the language of one factor the OCC proposes to evaluate could be mistakenly read to indicate the OCC would impose a limitation on aggregate interest charges in Bank-Agent Programs and other Bank programs involving third parties.  The preamble to the Proposed Rule states:

[T]he OCC evaluates the following as part of its routine supervision of a bank’s lending relationships with third parties:

* * *

Are the bank’s overall returns on the loans reasonably related to the bank’s risks and costs of the loans (e.g., the total credit costs on short term loans, such as 12- to 36- month loans, are not substantial in relation to, or do not exceed, the principal amount of the loan)?

Id. at 44227.

As explained more fully in our letter, we believe these references to overall returns and their relationship to the principal amount of the loan may imply that the OCC might take actions that would infringe on a role Congress has delegated to the CFPB, and would be misguided from a policy perspective. Not only is there no substantive basis to conclude that interest charges in excess of original principal balances evidence UDAAP problems, but an OCC rule to such effect would usurp the exclusive authority of the CFPB to adopt UDAAP rules. Further, such a rule would conflict with the Federal Interest Statutes, which uniformly provide that a Bank may charge and collect interest at the rates authorized by the law of the Bank’s home state. The OCC has no power or authority to impose its own limits on interest charges – even the CFPB is explicitly denied the right to establish usury limits. See 12 U.S.C. § 5517(o).

Accordingly, in our letter, we express our hope that, in its preamble to the final rule it adopts, the OCC will clarify that the interest on loans is not limited to the original principal amount of the loan, and that the OCC would not adopt limits on interest rates.