A bipartisan group of five House members introduced a bill (H.R. 4439) last month that is intended to address the so-called “true lender” issue, which creates risk with respect to some loans made by banks with substantial marketing and servicing assistance from nonbank third parties, and then sold shortly after origination. These loans have been challenged by regulators and others on the theory that the nonbank marketing and servicing agent is the “true lender,” and therefore the loan is subject to state licensing and usury laws.

This bill is a welcome accompaniment to the “Madden fix” bills that have been introduced in the House and Senate to eliminate the uncertainties created by the Second Circuit’s decision in Madden v, Midland Funding.  (The House bill was passed by the House Financial Services Committee last month.)  In Madden, the Second Circuit ruled that a nonbank that purchases loans from a national bank could not charge the same rate of interest on the loan that Section 85 of the National Bank Act allows the national bank to charge.

Both “Madden fix” bills would amend Section 85, as well as the provisions in the Home Owners’ Loan Act, the Federal Credit Union Act, and the Federal Deposit Insurance Act that provide rate exportation authority to, respectively, federal savings associations, federal credit unions, and state-chartered banks, to provide that a loan that is made at a valid interest rate remains valid with respect to such rate when the loan is subsequently transferred to a third party and can be enforced by such third party even if the rate would not be permitted under state law.  (The same “Madden fix” provision is in the Appropriations Bill (H.R. 3354) passed by the House in September 2017.)

As we have previously observed, the enactment of legislation reaffirming the valid-when-made doctrine, like the adoption of the OCC’s proposal to create a fintech charter, would help some companies avoid Madden’s negative impact.  However, it would not help nonbank companies deal with the risk of a court or enforcement authority concluding that the nonbank company, rather than its bank partner, is the “true lender.”  Treating a nonbank as the “true lender” would subject the nonbank to usury, licensing, and other limits to which its bank partner would not otherwise be subject.

The “true lender” bill would amend the Bank Service Company Act to add language providing that the geographic location of a service provider for an insured depository institution “or the existence of an economic relationship between an insured depository institution and another person shall not affect the determination of the location of such institution under other applicable law.”  The bill would amend the Home Owners’ Loan Act to add similar language regarding service providers to and persons having economic relationships with federal savings associations.

It would also amend Section 85 of the National Bank Act to add language providing that a loan or other debt is made by a national bank and subject to the bank’s rate exportation authority where the national bank “is the party to which the debt is owed according to the terms of the [loan or other debt], regardless of any later assignment.  The existence of a service or economic relationship between a [national bank] and another person shall not affect the application of [the national bank’s rate exportation authority] to the rate of interest rate upon the [loan, note or other evidence of debt] or the identity of the [national bank] as the lender under the agreement.”  The bill would add similar language to the provisions in the Home Owners’ Loan Act and Federal Deposit Insurance Act that provide rate exportation authority to, respectively, federal savings associations and state-chartered banks.

While we might have preferred to see additional language in the bill’s findings that makes it even clearer how the bill is intended to apply (such as citations to cases that are examples of the analysis the bill seeks to correct or a direct statement that the lender’s identity should not be determined by who holds the predominant economic interest), the bill is certainly a very positive development as drafted.

A bill to provide a “Madden fix” and three other bills relevant to mortgage lenders were included among the more than 20 bills approved by the House Financial Services Committee on November 15, 2017.   With the exception of H.R. 3221, “Securing Access to Affordable Mortgages Act,” the bills received strong bipartisan support.

The “Madden fix” bill is H.R. 3299, “Protecting Consumers’ Access to Credit Act of 2017.”  In Madden, the Second Circuit ruled that a nonbank that purchases loans from a national bank could not charge the same rate of interest on the loan that Section 85 of the National Bank Act allows the national bank to charge.  The bill would add the following language to Section 85 of the National Bank Act: “A loan that is valid when made as to its maximum rate of interest in accordance with this section shall remain valid with respect to such rate regardless of whether the loan is subsequently sold, assigned, or otherwise transferred to a third party, and may be enforced by such third party notwithstanding any State law to the contrary.”

The bill would add the same language (with the word “section” changed to “subsection” when appropriate) to the provisions in the Home Owners’ Loan Act, the Federal Credit Union Act, and the Federal Deposit Insurance Act that provide rate exportation authority to, respectively, federal and state savings associations, federal credit unions, and state-chartered banks.  The bill was approved by a vote of 42-17.  (A bill with identical language was introduced in July 2017 by Democratic Senator Mark Warner.)

Adoption of a “Madden fix” would eliminate the uncertainties created by the Second Circuit’s Madden decision.  However, it would not address a second source of uncertainty for banks that lend with assistance from third parties—the argument that the bank is not the “true lender” and accordingly cannot exercise the usury authority provided to banks by federal law.  As we have previously urged, the OCC and its sister agencies should adopt rules providing that loans funded by their supervised financial institutions in their own names as creditor are fully subject to federal banking laws (and not state usury laws).  The OCC and FDIC have previously emphasized that their supervised entities must manage and supervise the lending process in accordance with regulatory guidance and will be subject to regulatory consequences if and to the extent that loan programs are unsafe or unsound or fail to comply with applicable law.

The other approved bills relevant to mortgage lenders are:

  • H.R. 3221, “Securing Access to Affordable Mortgages Act.” The bill would amend the Truth in Lending Act (TILA) and the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 to exempt a mortgage loan of $250,000 or less from the higher-priced mortgage loan and general property appraisal requirements if the loan appears on the creditor’s balance sheet for at least three years.  The bill would also exempt mortgage lenders and others involved in real estate transactions from incurring penalties for failing to report appraiser misconduct.  The bill was approved by a vote of 32-26.
  • H.R. 1153, “Mortgage Choice Act of 2017.” The bill would amend TILA by revising the definition of “points and fees” to exclude escrowed insurance and fees or premiums for title examination, title insurance, or similar purposes, whether or not the title-related charges are paid to an affiliate of the creditor.  The bill would direct the CFPB to issue implementing regulations within 90 days of the bill’s enactment. The bill was approved by a vote of 46-13.
  • H.R. 3978, “TRID Improvement Act of 2017.”  The bill would amend RESPA to require that the amount of title insurance premiums reflect discounts required by state law or title company rate filings. The amendment would override the TRID rule approach to the disclosure of the lender’s and the owner’s title insurance premiums if there is a discount offered on the lender’s policy when issued simultaneously with an owner’s policy.  In such cases, instead of requiring the disclosure of the actual owner’s policy premium and the actual discounted lender’s policy premium, the TRID rule currently requires the disclosure of the full, non-discounted amount of the premium for the lender’s policy, and an amount for the owner’s policy equal to the full amount of the owner’s policy premium, plus the amount for the discounted lender’s policy premium, less the full amount of the lender’s policy premium.  The bill was approved by a vote of 53-5.

The Minnesota Attorney General announced that she has filed a lawsuit in state court against two pension advance companies.

According to the AG’s press release, the companies often solicited borrowers through their own websites or websites of “lead generators” who marketed “pension loans” or “loans that can fit your needs.”  The press release states that the transactions required military veterans and senior citizens to assign portions of their monthly pension payments for up to ten years in exchange for much smaller cash amounts (usually less than $5,000) on which the AG claimed the companies typically charged annual percentage rates of 200 percent.

The lawsuit is reported to allege that the companies violated Minnesota lending laws by making loans to Minnesota borrowers without being licensed as a lender and sought to evade Minnesota law by falsely characterizing the transactions as pension “purchase agreements” rather than loans.

In February 2017, the CFPB and the New York Attorney General filed a lawsuit in which they alleged that a litigation settlement advance product offered by the defendant was a usurious loan that was deceptively marketed as an assignment.  In August 2015, the CFPB and the New York Department of Financial Services filed a lawsuit against two pension advance companies in which the CFPB and NYDFS made similar allegations regarding the advances made by the companies.

The Minnesota AG’s lawsuit and the CFPB/NY lawsuits not only indicate that pension advance companies and litigation funding companies have become targets of regulatory enforcement actions, but also suggest that merchant cash advance providers and other finance companies whose products are structured as purchases rather than loans could face heightened scrutiny from state and federal regulators.

 

The Minnesota Supreme Court recently ruled that two for-profit postsecondary education schools had charged usurious interest rates on student loans and could not charge rates greater than 8% without obtaining a lending license.

Minnesota’s general usury law caps interest rates at 8% for written contracts but allows a lender to charge up to 18% on a “consumer credit sale pursuant to an open end credit plan.”  In State of Minnesota v. Minnesota School of Business, et al., the Minnesota Attorney General sought to enjoin the schools from making private student loans that typically had interest rates between 12% and 18%, alleging that the loans were subject to the 8% cap.  The schools did not pay out money to the student and instead credited the loan amount against the student’s outstanding tuition balance.  The credit was not available to the student for any other purpose.  The student repaid the loan through monthly payments pursuant to a schedule that had a fixed date by which the entire loan and accrued interest had to be paid in full, and no additional funds were available if the student paid off the loan early.

At issue was whether the loans qualified as a “consumer credit sale pursuant to an open end credit plan” on which Minnesota allowed up to 18 percent interest to be charged.  (The decision states that the parties agreed that the loans “were consumer credit sales.”)   Although the Supreme Court found that the definition of “open end credit plan” under Minnesota law only incorporated the Truth in Lending Act and Regulation Z definition of “open-end credit plan” in effect in 1971 and not as subsequently amended to expressly require revolving credit, it found that revolving credit was nevertheless an essential part of the 1971 definition.

Reversing the Minnesota Court of Appeals, the Supreme Court concluded that the loans were not made pursuant to an open-end plan.   It found that the repayment schedule on the schools’ loans, which provided for a fixed end date, was consistent with a closed-end plan and also observed that the schools had required students to sign a form containing an acknowledgment that a loan was not an “extension of credit under an open-end consumer credit plan.”  According to the Supreme Court, the schools had “structured their loans to give themselves the benefit of open-end credit plans, charging interest in excess of 8 percent-without providing their students the benefit of revolving credit.”

Having found that the schools had charged usurious interest rates, the Supreme Court concluded that to charge rates higher than 8 percent on loans that were not made pursuant to an open-end credit plan, the schools needed to obtain a Minnesota lending license.

The opinion states that the schools did not contest “that they were [engaged] in the business of making loans” for purposes of the lending license statute.  Thus, it appears that the schools did not attempt to argue that, in extending credit to students to finance tuition, they were not acting as lenders making “loans” subject to Minnesota’s general usury law but instead were acting as sellers of goods or services extending credit to buyers to which the time-price doctrine applies.  Sellers making closed-end credit sales should consult with counsel as to how they can avoid the 8 percent rate cap by taking advantage of the time-price doctrine under Minnesota law.