Bank-fintech partnerships win key battle, but war is far from over

WASHINGTON — Fintechs can more comfortably avoid state interest rate caps by partnering with banks after two recent court rulings — at least for now.

The Federal Deposit Insurance Corp. and the Office of the Comptroller of the Currency each scored big victories in U.S. District Court for the Northern District of California on Feb. 8, when Judge Jeffrey S. White dismissed complaints filed against the agencies by attorneys general in states led by California, Illinois and New York.

The FDIC and OCC, led by Trump administration appointees when the lawsuits began in 2020, had issued rules to ensure banks and fintechs could continue to partner and do business. across state lines after the 2015 court ruling Madden v. Midlands Funding has restricted such activity. Under a typical arrangement, a bank funds a loan on behalf of its fintech partner that can then be rolled out to other states that may have tighter interest rate controls.

But states, with the support of many consumer activists, could appeal the judge’s rulings. And it’s possible the agencies, now led by Democratic appointees who have pledged to make consumer protection a priority, could change course.

“It’s a big win for the banking model in the near term, but I don’t think the war is over,” said Scott Pearson, head of financial services practice at Manatt.

The Office of the Comptroller of the Currency and the Federal Deposit Insurance Corp. under the Trump administration had passed rules that encouraged bank-fintech partnerships, but the agencies’ acting leaders — the OCC’s Michael Chu (left) and the FDIC’s Martin Gruenberg, both Democrats — could take positions different policies.

Bloomberg News

The AGs argued the FDIC and OCC violated the Administrative Procedure Act when they promulgated separate rules for affirm the legal principle of “good when made” — a doctrine that the terms of a legally contracted loan may continue after a transfer to a third party in a separate jurisdiction.

In similarly structured lawsuits, state attorneys general argued that the two agencies violated the APA by issuing rules that would “facilitate predatory lending through sham partnerships” rent-a-bank “designed to evade state law,” according to the lawsuit filed against the FDIC in August 2020. The APA, which governs the federal rule-making process, prohibits agencies from introducing “arbitrary” rules or “capricious”.

In either case, White found the states’ arguments unconvincing, judging that the “valid when made” rules issued by the OCC and FDIC were “neither arbitrary nor capricious.”

The financial services industry applauded the rulings last week, although legal analysts warned it could still take months or years for the issue to be resolved. exporting interest rates in bank-fintech partnerships be firmly installed.

Still, analysts say the decision marks a significant victory as banks and non-bank fintech firms increasingly look to partnerships to bolster their competitiveness. The secondary lending market for banks has been subject to significant legal uncertainty since the Madden judgment called into question the “good when made” principle.

“Absent these partnerships, fintechs would be subject to interest rate caps in each of the 50 states,” said Jaret Seiberg, policy analyst at Cowen Washington Research Group. “This is important because it can be difficult to determine which state cap applies because consumers may be located in one state but reside in a different state.”

Some attorneys and consumer advocates remain concerned that current regulations make it far too easy for banks to export expensive loans to non-banks to deploy in states that would otherwise prohibit them through credit caps. interest rates and other usury laws.

“This is a blow to people who care about state usury laws,” said Christopher Petersen, a law professor at the University of Utah’s SJ Quinney College of Law and former special adviser to the CFPB. . “From a consumer protection perspective, this is a bad development for consumers who hope their elected leaders will protect them from debt collectors who buy predatory loans from out-of-state banks.”

State attorneys general have not yet announced whether they will appeal the Feb. 8 ruling, which would likely send the case to the United States Court of Appeals for the 9th Circuit. Analysts believe an appeal is likely, raising the odds that the case could one day make it to the US Supreme Court docket.

“The rulings are an important — and very positive — outcome for these partnerships and for banks in general,” said Karen Solomon, senior counsel at law firm Covington & Burling. “That said, I think it’s likely that state attorneys general will appeal the cases to the 9th Circuit. And, if the 9th Circuit’s decision is different from the The 2nd Circuit is in the Madden casethe case could ultimately end up in the Supreme Court.

“Thus, we might be a long way from finally resolving the underlying problem,” Solomon said.

Branch bank management has also upended political parties since the ‘good when made’ rules were introduced, meaning regulators themselves could alter their legal positions or change current regulations in the coming months. . “I think you’ll see a call, and you might also see the FDIC and the OCC now, under new leadership, go back to the drawing board and reverse their own rule,” Pearson said.

Even without appeal, Lauren Saunders of the National Consumer Law Center noted that court rulings in favor of the FDIC and OCC “would not prevent states from bringing real lender challenges to bank leasing programs.” . She pointed to a lawsuit filed by the District of Columbia last year, which resulted in a $2 million settlement against consumer subprime lender OppFi in December.

“We urge the OCC and FDIC, which are under new management, to review the rules, crack down on predatory rent-a-bank lending, and stop banks from selling questionable written-off debt to debt buyers,” Saunders said.

It remains to be seen whether regulators will adjust their position on “good when done” under Democratic leadership. The FDIC recently went under control of interim president Martin Gruenbergwhile the OCC has been led by Acting Comptroller Michael Hsu since May 2021. Both are Democrats who replaced Republicans.

Hsu told reporters shortly after taking office that the OCC’s “good when done” rulemaking was “not under review.” But in a statement released by the OCC following the judge’s decision last week, Hsu issued a more cautious note.

“This legal certainty must be used for the benefit of consumers and must not be abused. I want to reiterate that predatory lending has no place in the federal banking system,” Hsu said. “The OCC is committed to strong supervision that expands financial inclusion and ensures that banks are not used as a vehicle for ‘rent-a-charter’ arrangements.”

Solomon, a former senior OCC official, said the national banking regulator was unlikely to reverse its fundamental stance on the issue, even under more progressive Democratic leadership.

“If there is an appeal, I wouldn’t expect a material change in the OCC’s approach to litigation,” Solomon said. “The dispute concerns the scope of a national bank’s power to charge interest under Section 85 – an original provision of the National Bank Act in 1864. The OCC has taken a fairly consistent view of this power over time.”

But Ellen Harnick, executive vice president of the Center for Responsible Lending, said more needs to be done to ensure safeguards are in place for states to protect their residents from potentially predatory bank leasing arrangements.

“It is very clear, and the courts have been clear, that what is needed is to look behind the appearances, behind the facial presentation of an arrangement, to see what is really going on – to follow the money and see who’s really behind the loan,” Harnick said. . “There is no reasonable basis for blowing up the state’s ability to protect its own residents, just because an online lender has chosen to partner with a bank.”

Kate Berry contributed to this article.

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