Friday, October 19, 2018

New technologies can foster financial inclusion, says Fed’s Brainard

By Andrew A. Turner, J.D.

Developing technological infrastructure, such as faster payment systems, along with the potential for more transparent and simpler product offerings provide building blocks that may “be combined in ways that move the needle on financial inclusion,” according to Federal Reserve Board Governor Lael Brainard. She spoke at a conference, “FinTech, Financial Inclusion—and the Potential to Transform Financial Services,” hosted by the Federal Reserve Bank of Boston with the Aspen Institute.

While new technologies are lowering transaction costs by automating the customer interface and underwriting processes, it remains unclear “how much of this fintech lending is making a significant dent in financial inclusion, as opposed to serving prime and near-prime consumers in the United States,” Brainard observed. Account access and credit are unlikely to provide a complete solution as continued progress on financial inclusion is likely to require solutions that address the needs of underserved households and small businesses, in her view. In particular, families' financial resilience in the face of unpredictability in income and expenses, is a critical concern that needs to be considered.

“New platforms like faster payment systems have the potential to combine with other technological improvements, like cheap access to cloud computing and an open-source approach to artificial intelligence, to create more full-stack approaches to financial inclusion,” Brainard argued. Financial innovation, noted by the Fed Governor, includes machine-learning tools and data aggregation to offer credit to consumers lacking traditional credit histories, apps using faster payments and cheap accounts, and products using behavioral economics-based “nudges” to help consumers grow their savings.

However, Brainard cautioned that many of these products create consumer data security and privacy issues to resolve, which could have implications for pricing of services. Another challenge is reaching communities that lack infrastructure for digital service delivery. Access to technology, she contended, is “increasingly essential to households and small businesses in underserved low- and

The challenge as regulators, she concluded, “is to ensure trust in financial products and services by maintaining the focus on consumer protection, while supporting responsible innovation that provides social benefits.”

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Thursday, October 18, 2018

Prudential escapes 'systemically important' designation

By Richard A. Roth, J.D.

The Financial Stability Oversight Council has determined that Prudential Financial, Inc., will no longer be supervised by the Federal Reserve Board as a systemically important financial institution. The Sept. 19, 2013, decision that financial distress at the company could pose a threat to U.S. financial stability no longer is warranted, the FSOC said.
 
The Dodd-Frank Act authorizes the FSOC to consider whether nonbank financial companies are SIFIs that should be supervised by the Fed and subject to enhanced prudential standards. A company can be designated a SIFI if:
 
  1. material financial distress at the company could pose a threat to U.S. financial stability; or
  2. the “nature, scope, scale, concentration, interconnectedness, or mix of activities” of the company could pose such a threat.
 
Prudential’s SIFI designation was based on the first criterion. In explaining the rescission of that designation, the FSOC said it had been concerned principally about the exposure of creditors, investors, and other market participant to the company and the domino effects on asset values if the company were to need to liquidate assets quickly.
 
What changed since 2013? The FSOC’s explanation is redacted in ways that conceal some of the council’s reasoning. However, the explanation noted that, compared to 2013:
 
  1. The company’s capital market exposures have not significantly changed.
  2. The company’s exposure to the institutional insurance market does not contribute to a threat to financial stability.
  3. There was no significant risk that a forced liquidation of assets by Prudential would disrupt the asset markets or threaten companies with comparable holdings.
  4. The market effect on the company of a downward shock has decreased since 2013 due to the company’s leverage ratio and increased holdings of highly liquid assets.
 
The FSOC added that the New Jersey insurance regulatory agency has more authority to oversee Prudential than it had in 2013.
 
The explanation did note, however, that Prudential still qualifies as a company that is predominantly engaged in financial activities. More than 85 percent of both the assets and revenue of the company and its subsidiaries are related to activities that are financial in nature. As a result, the company will remain eligible for a SIFI designation should it pose a systemic risk in the future.
 
Watt’s concurrence. In agreeing with the FSOC’s decision, Federal Housing Finance Agency Director Melvin L. Watt expressed his concern that the company never was evaluated under the second of the two standards. Congress intended that both criteria should be given equal weight, he said. Prudential qualified for “de-designation” under the second standard as well as the first.
 
Company statement. Prudential’s press release said the company believes that it never qualified for the SIFI designation. The company’s “sustainable business model, capital strength and comprehensive risk management” meant the company never posed a systemic threat, the company said.

For more information about the Financial Stability Oversight Council, subscribe to the Banking and Finance Law Daily.

Wednesday, October 17, 2018

Payday lenders seek summary judgment in ‘Operation Choke Point’ suit against banking regulators

By J. Preston Carter, J.D., LL.M.

Payday lenders have filed a motion for summary judgment in their lawsuit targeting what it characterizes as efforts by the Federal Reserve Board, Office of the Comptroller of the Currency, and Federal Deposit Insurance Corporation to pressure banks to end banking relationships with payday lenders due to risk to the banks’ reputations, referred to as "Operation Choke Point" (Advance America, Cash Advance Centers, Inc. v. Federal Deposit Insurance Corporation, Oct. 12, 2018).
The payday lenders allege that the regulators have threatened banks with longer and more intrusive examinations, reduced ratings, and other punitive actions in efforts to coerce them into dropping payday lenders as customers. This has been done without regard to the legality of the lenders’ business practices. The motion includes documents released as part of the motion for summary judgment in the lawsuit.
Summary judgment is appropriate if the movant "shows that there is no genuine dispute as to any material fact." The motion asserted that the undisputed facts show beyond any genuine dispute that the payday lenders have standing to sue; the agencies violated the payday lenders’ Due Process rights; and the payday lenders are entitled to declaratory and injunctive relief.
According to the motion filed in the U.S. District Court for the District of Columbia along with a statement of undisputed facts, the agencies have violated the payday lender’s due process rights under the StigmaPlus Theory and the "reputation plus" theories. According to the motion, "where a person’s good name, reputation, honor, or integrity is at stake because of what the government is doing to him," "notice and an opportunity to be heard are essential." Additionally, the motion stated that the defendants violated the payday lenders’ due process rights under the "reputation plus" theory where defamation in the course of the termination of employment is" actionable under the Due Process Clause.
Injunctive relief requested. The motion asks for injunctive relief by closing off both of the mechanisms "through which Defendants have stigmatized Plaintiffs and harmed their background legal rights." According to the payday lenders, the court should "end Defendants’ campaign of direct coercion by enjoining them, and their employees and agents, from applying informal pressure on banks to terminate their relationships with payday lenders" or otherwise depriving them of access to the banking system.
The motion further states that the court should end the agencies’ attempts to raise the cost of doing business with payday lenders by requiring them to issue a public clarification that payday lending is not a disfavored, "high risk" business, and that having a payday-lender or a third-party that processes payments for payday lenders as a customer "does not, standing alone, necessitate any kind of heightened monitoring or enhanced due diligence obligations."
Documents released. Chairman of the House Financial Institutions and Consumer Credit Subcommittee Blaine Luetkemeyer (R-Mo), in response to the document released with the motion, issued a statement that he is "appalled by the blatant intimidation and bias employed by unelected bureaucrats to play partisan politics with the livelihood of our citizens. No matter your ideological leanings, the American government should not be able to destroy all that you have worked for."
Luetkemeyer, a frequent critic of the Justice Department’s "Operation Choke Point," sponsored legislation that would end the Obama-era program. H.R. 2706, The Financial Institution Customer Protection Act of 2017, would require federal banking agencies to provide banks or credit unions written justification of any request to terminate or restrict a customer’s account, except in instances of national security. The bill would also require the federal banking agencies to issue an annual report to Congress that describes the number of customer accounts the agency requested or caused to be closed and the legal authority on which the agency relied. The bill was passed by the house on Dec. 11, 2017.
For more information about the regulation of payday lenders, subscribe to the Banking and Finance Law Daily.

Monday, October 15, 2018

Bipartisan letter demands answers amid reports Facebook sought bank info

By Lisa M. Goolik, J.D.

Amid reports that Facebook has been asking large banks for detailed financial information about their customers, Sens. Bob Menendez (D-NJ) and John Kennedy (R-La), both members of the Senate Committee on Banking, Housing, and Urban Affairs, sent a letter to Facebook’s chief executive officer, Mark Zuckerberg, expressing their concerns over data security and demanding to know what Facebook plans to do with the data.

Citing Facebook’s troubles with Cambridge Analytica, the senators wrote that they were concerned Facebook would not properly secure the data. “Data privacy and cybersecurity are more important than ever, and we believe that you owe it to the American people to properly secure the data you currently possess, before you obtain data from a third party.”

In addition, if reports are true that Facebook asked banks “for information about where its users are shopping with their debit and credit cards outside of purchases they make using Facebook Messenger,” but Facebook does not intend to use the information for ad-sharing, the senators asked what purpose does the information serve. “This raises the question as to what exactly you plan to do with the data,” they wrote.

Specifically, the senators requested that Zuckerberg respond to the following questions by Oct. 19, 2018:
  1. Information about potential data sharing deals Facebook has entered into or plans to enter into with a financial institution. 
  2. What if any extra security measures your Facebook plans to implement to ensure that any shared information is scrubbed of personally identifiable information? 
  3. What steps you plan to take to ensure that users may opt out of having their data shared?
  4. What, if any, additional data privacy measures do you plan to implement prior to acquiring consumer banking data?
For more information about privacy concerns, subscribe to the Banking and Finance Law Daily.

Friday, October 12, 2018

OCC decides where bank is ‘located,’ Utah Supreme Court says

By Katalina M. Bianco, J.D.

The National Bank Act’s use of "located" is ambiguous, and that ambiguity allows the Office of the Comptroller of the Currency to settle on a reasonable interpretation of the word, according to the Utah Supreme Court. As a result, whether a national bank has the authority to act as a trustee to foreclose on property in Utah depends on the OCC’s regulation, not on Utah state law. The Court added that its earlier decision in the same case, that "located" was unambiguous and Utah law on trustees controlled the issue, was "clearly erroneous" (Bank of America v. Sundquist, Oct. 5, 2018, Pearce, J.).
 
The home in question is located in Utah. When the homeowner fell behind in her payments, the trustee under the deed of trust, ReconTrust Company, N.A., foreclosed and sold the property by auction to Fannie Mae.
 
However, the homeowner refused to move out. Fannie Mae secured an order evicting her, but the Utah Supreme Court reversed that order after deciding, on interlocutory appeal, that ReconTrust did not have the authority under Utah law to act as a trustee under a deed of trust (Federal National Mortgage Assn. v. Sundquist).
 
Laws and regulations. The genesis of the issue is the interaction between two laws: the NBA, which governs national banks like ReconTrust; and Utah law on the authority of trustees. Under Utah law, only certain persons, such as attorneys and title insurance companies, can serve as trustees under deeds of trust. However, the NBA says that a national bank may be authorized to act as a fiduciary if the law of the state where the bank is located allows companies that compete with the bank to do so (12 U.S.C. §92a).
 
ReconTrust claimed that, under the OCC’s regulation implementing the NBA, it was located in Texas and that Texas law allowed it to be a trustee under a deed of trust that applied to property in Utah.
 
The Utah Supreme Court rejected that argument. Under the common meaning of "located," ReconTrust was located in Utah when it was foreclosing on property in Utah, the Court said. That meant it had only the authority that Utah law granted competitors, such as state banks, and those competitors could not act as trustees under deeds of trust.
 
Fannie Mae then quitclaimed its interest in the property to Bank of America. When the trial court judge entered a final judgment in favor of the homeowner, the bank appealed.
 
Law of the case doesn’t apply. The Court first had to consider whether the law of the case doctrine prevented it from reconsidering its earlier decision. Relying on an exception to the doctrine, the Court decided there was no bar.
 
The law of the case doctrine generally means that once an issue in a case has been decided it will not be reopened. However, there are several exceptions. Among those is when a court becomes convinced that the prior decision was clearly wrong and would result in "a manifest injustice." Better briefing than was available in the interlocutory appeal, and that was focused specifically on the statutory interpretation issue, showed that the manifest injustice exception applied, the Court said.
 
Interpretation of "located." The Court then turned to an analysis under Chevron, U.S.A., Inc. v. Natural Resources Defense Council, 467 U.S. 837 (1984). Under Chevron, courts are to defer to a regulatory agency’s reasonable interpretation of an ambiguous term in a statute that Congress has empowered the agency to implement. The OCC was empowered to implement the NBA and interpret the word "located," the Court said.
 
The Court then backed away from its earlier decision that the meaning of "located" in the NBA was unambiguous. While it was logical to conclude that a national bank was located in the state where it was selling foreclosed property, "there is nothing in the plain language [of the NBA] that mandates that result."
 
The Court affirmed its belief that mortgage foreclosures are a traditional subject of state law and that only a clear statement by Congress should change the balance between state and federal law. However, the NBA made that clear statement, the Court said. The NBA provision that allows national banks to exercise the powers that state law gives their competitors "expresses a federal intent to clomp into an area of traditional state concern."
 
The OCC’s regulation interpreting "located" was reasonable, the Court then said. According to the OCC, a bank acts as a fiduciary in the state in which it:
  • accepts the appointment;
  • executes the documents that create the fiduciary relationship; and
  • makes discretionary decisions about the trust assets (12 C.F.R. §9.7(d).

Contrary to the homeowner’s argument, there was no reason the regulation needed to focus on trust deeds, the Court said. It could deal with fiduciary powers more broadly. If the regulation gave an advantage to national banks over state banks, that was within the OCC’s authority.
 
The regulation applied to trustees under deeds of trust, not just under fiduciary trusts, the Court continued. After all, the NBA referred to acting as a trustee or in "any other fiduciary capacity."
 
The result. Because of the 2013 decision on the effect of the OCC’s regulation, the trial court judge had never considered where ReconTrust carried out the three acts the regulation described. The Supreme Court reversed the decision that quieted title in the homeowner and instructed the judge to consider those factors and decide where, under the regulation, ReconTrust was located.
 
The case is No. 20170014.
 
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Thursday, October 4, 2018

Agency heads tout progress in implementing banking reform act

By Richard A. Roth, J.D.
 
The leaders of the three banking regulatory agencies—the Federal Reserve Board, Office of the Comptroller of the Currency, and Federal Deposit Insurance Corporation—were consistent in their Senate Banking Committee hearing testimony on progress being made toward implementing the Economic Growth, Regulatory Relief, and Consumer Protection Act. They described their cooperation in moving quickly to put into place the Act’s provisions that are intended to reduce the capital, lending, and Volcker Rule regulatory burdens on banks, while paying less attention to the Act’s consumer protection and mortgage lending provisions.
 
Predictably, the Banking Committee’s leadership offered contrasting opening statements. Chairman Mike Crapo (R-Idaho) praised the Act and urged the agencies to avoid unnecessary delays and quickly propose required regulation amendments. On the other hand, he also warned the agency heads against relying too much on guidance, rather than rule-making, to make changes. Anything that qualifies as a rule must be submitted to Congress even if it has not gone through a notice-and-comment process, he said.
 
Committee Ranking Member Sherrod Brown (D-Ohio), who voted against the bipartisan bill, took the opportunity to once again criticize it. According to Brown, Congressional efforts to help banks are misdirected, since the industry is reporting record profits while many middle- and working-class families have not recovered from the financial crisis that began 10 years earlier.
 
Brown also pointedly reminded the agency chiefs that their agencies had failed to anticipate the causes of the financial crisis. In fact, the OCC actively fought against state efforts to bring about more responsible industry behavior, he charged. “But here we are today, talking about how Washington can do more to help the nation’s banks.”
 
Interagency statement. All three of the agency leaders referred to the joint Interagency Statement that described how regulators would administer provisions of the Act. According to FDIC Chairman Jelena McWilliams, “Simply put, the statement made clear that we will not enforce existing regulations in a manner inconsistent with the Act.”
 
(An argument could be made that the interagency statement falls well within the definition of a rule that Crapo cited in his opening statement: “the whole or a part of an agency statement of general or particular applicability and future effect designed to implement, interpret, or prescribe law or policy or describing the organization, procedure, or practice requirements of an agency.” If so, he presumably would say it should have been submitted to Congress.)
 
Fed actions. Testifying for the Fed, Vice Chairman for Supervision Randal K. Quarles emphasized the Fed’s desire to supervise and regulate institutions according to the risk they pose. The Act enhances the Fed’s ability to do that, he said.
 
Quarles listed several regulatory changes the Fed has made:
  1. The Small Bank Holding Company Policy Statement eligibility threshold was increased to $3 billion from the prior $1 billion. This will make it easier for small BHCs to acquire small banks.
  2. The eligibility threshold for the 18-month examination cycle was raised to $3 billion, as opposed to the previous $1 billion, so that more small banks will avoid annual examinations.
  3. Fed-supervised banks and BHCs with less than $100 billion in assets will no longer be required to perform company-run stress tests required by the Dodd-Frank Act or comply with many living will, liquidity, capital planning, or other financial stability-related requirements.
Quarles also said the Fed is, alone or with the other agencies, working on changes in the leverage ratio requirements that will benefit community banks.
 
OCC actions. Comptroller of the Currency Joseph M. Otting said the OCC has made “steady and significant progress” in implementing the EGRRCPA since the interagency statement was issued. He noted that, just as the Fed, the OCC will not require banks with less than $100 billion in assets to carry out company-run stress tests while regulation amendments are in progress.
 
Otting also pointed to recent OCC proposals that would allow some small savings association to operate with national bank powers; reduce the risk weight for some high volatility commercial real estate loans; and allow some municipal bonds to be treated as high quality liquid assets for liquidity coverage ratio purposes.
 
As with Fed-supervised financial institutions, well-managed and well-capitalized national banks with less than $3 billion in assets now are eligible for an 18-month examination cycle.
 
FDIC actions. Williams’s testimony took a section-by-section approach to changes required by the Act. In addition to the regulation amendments addressed by Otting and Quarles, and amendments under discussion with the other agencies, she mentioned statutory changes that loosen the Volcker Rule; expand eligibility for the 18-month examination cycle; and change HVCRE and HQLA requirements.
 
NCUA actions. Unlike the other agency leaders, National Credit Union Administration Chairman J. Mark McWatters discussed EGRRCPA provisions that affect consumer lending. These include Act sections that:
  • allow some exemptions for the appraisal requirement for loans of less than $400,000 affecting rural properties;
  • exclude all loans secured by one- to four-family residences from being considered member business loans; and
  • provide partial data reporting exemptions from the Home Mortgage Disclosure Act.
McWatters also took the opportunity to advocate additional Federal Credit Union Act changes. Perhaps the most important of these would enhance credit unions’ ability to include underserved areas in their fields of membership or that would allow “web-based communities” to be seen as having common bonds.
 
In addition, the NCUA chairman asked that his agency be given the authority to examine and enforce laws against credit unions’ third-party vendors. Credit unions’ increased reliance on financial technologies makes this authority crucial, he said.
 
For more information about financial reform initiatives, subscribe to the Banking and Finance Law Daily.

Wednesday, October 3, 2018

House subcommittee examines technological innovation opportunities in financial industry

By J. Preston Carter, J.D., LL.M.

The rapid pace of technological expansion in financial technology (FinTech) has brought both new opportunities and challenges for the regulatory structure. The House of Representatives Financial Services Subcommittee on Financial Institutions and Consumer Credit has held a hearing to examine new opportunities for technological innovation to develop new products and services consumers across the financial lobe need. The hearing, entitled "Examining Opportunities for Financial Markets in the Digital Era," heard witness testimony examining the current regulatory landscape, including the need to amend or modernize the regulatory framework to use FinTech to deliver new products and services to consumers. Subcommittee Chair Blaine Luetkemeyer (R-Mo) stated that "We can’t address innovation and growth without addressing the security of" consumer data.
The hearing also expanded on the recommendations of a Treasury Department report examining innovations in financial technology that was issued in July 2018. The report identified prospective "improvements to the regulatory landscape" to enable U.S. firms to adopt competitive technologies, safeguard consumer data, and operate with greater regulatory efficiency. The report made over 80 recommendations, including setting a national data security and breach notification standard. The recommendations are designed to: embrace the efficient and responsible use of consumer financial data and competitive technologies; streamline the regulatory environment to foster innovation and avoid fragmentation; modernize regulations for an array of financial products and activities; and facilitate experimentation to promote innovation.
Regulatory structure needs updating. Testifying at the hearing, Aaron Cutler, a partner at Hogan Lovells LLP, discussed the Treasury report. Cutler urged Congress to address the recommendations in the Treasury's report, stating that many of the FinTech products on the market provide consumers with "greater access, choice, and empowerment for financial planning and decision making." According to Cutler, the United States will miss out on opportunities to realize the benefits from innovative FinTech development "if it fails to take measures to improve its current regulatory structure."
Scott B. Astrada, Director of Federal Advocacy for the Center for Responsible Lending, testified about opportunities and challenges posed by FinTech in the financial services marketplace, the current regulatory and consumer protection landscape, and "the need to ensure that emerging products and players best serve consumers rather than trapping them in unaffordable or abusive debt." Astrada stressed that innovation of product delivery is distinct from innovation of product. According to Astrada, the products that are being utilized and offered as expanding access to credit and financial growth through financial technology are still the same products and services, like loans and mortgages, that have always been offered. He urged Congress to "ask the question ‘is this a traditional product or service in new packaging?’ and use that as a baseline in determining how ensure that appropriate consumer protections are applied."
Dion Harrison, Director of Bank Products at Elevate, a provider of tech-enabled credit products for non-prime consumers, testified about his experience in this emerging sector. According to Harrison, in order to build a safer, more inclusive financial system, the industry should focus on three guiding principles:
  • regulation should be pro-consumer and enable innovation;
  • encourage partnerships between banks and FinTech companies; and
  • embrace diversity.
Harrison expressed confidence that the opportunity and promise of FinTech will continue. He stated that FinTech companies are delivering safer, more transparent, and more convenient financial services and products to meet consumers' demands for simple solutions that address common yet complex financial situations of American families." According to Harrison, FinTech could "empower smaller community banks without expertise in underwriting the non-prime consumer to reach a broader consumer base and help non-prime consumers gain more control over their financial circumstances." Harrison concluded that the industry should "continue to be regulated in a manner in which spurring innovation is the guiding principle, and consumer protection remains the top priority."
T. Michael Price, President and Chief Financial Officer of First Commonwealth Financial Corporation, testified on behalf of the Pennsylvania Bankers Association, stating that new technologies are "quickly changing the ways all businesses connect with their customers." Price stated that using FinTech "can lower costs, making financial services more affordable for consumers across the country. It provides added convenience and efficiency, giving customers the ability to manage their finances day or night from the palm of their hand. Technology can also lower the fixed costs for providing credit to small businesses, leading to greater capital access that spurs economic growth." Price stated that innovation in financial services has the ability to benefit consumers across the country and drive growth in our economy.
Price said that banks have always embraced innovation, but warned that technology is not a replacement for a community presence. "We must not lose sight of the tremendous value community banks offer to their local communities. Additionally, Price stated that banks must ensure "that the benefits of innovation are delivered responsibly so that customers receive consistent treatment regardless of their provider."
Stuart Rubinstein, President of Fidelity Wealth Technologies, focused his testimony on financial data aggregation services and ways to make data sharing safer and more secure. Rubinstein stated that the cybersecurity environment has significantly changed over time and asserted his company’s responsibility "to protect the very sensitive personal financial data and assets of our more than 30 million customers from misuse, theft, and fraud." According to Rubinstein, current data aggregation practices make this challenging, because they rely on consumers providing their financial institution log-in credentials to third parties.
Rubinstein discussed ideas for creating better data sharing solutions and continuing challenges. He noted that the Treasury report recommends that Congress enact a federal data breach notification law that would preempt state data breach laws "In order to reduce the complexity of complying with 50 unique state data breach notification laws."
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