By J. Preston Carter, J.D., LL.M.
Whether Bitcoin will “significantly alter the way money changes hands around the world” will depend on interactions between factions in the virtual currency world and financial regulators, according to a paper by David Wessel, Director, and Peter Olson, Research Analyst, at the Hutchins Center on Fiscal & Monetary Policy at the Brookings Institution. Their paper, part of the Hutchins Center Explains series, is titled “How Blockchain could change the financial system (part 1 and part 2).”
Blockchain. The authors contend that Bitcoin and its underlying technology, blockchain, have the potential to challenge the dominance of the big players in payment systems and significantly reduce the cost of financial transactions and the speed with which they are completed. They quote a recent essay by Bank of England economists as saying, “The key innovation of digital currencies is the ‘distributed ledger’ which allows a payment system to operate in an entirely decentralized way, without intermediaries such as banks.” This distributed ledger, blockchain, avoids the centralized ledger of central banking systems.
Virtual currency factions. The authors highlight two factions in the virtual currency world. R3CEV, a blockchain consortium made up of more than 40 of the world’s largest banks, thinks the new technology could make transactions between banks much less costly than under the current system. Its Managing Director, Charley Cooper, says that his firm is willing and eager to work with regulators, but there’s no one person to talk to: “In the U.S. it’s incredibly difficult because it’s unlike many other countries where the regulators fall under a single umbrella.”
Barry Silbert, founder and CEO of the Digital Currency Group, a company that invests in and builds Bitcoin-related companies, warns regulators that innovators “are not going to sit back and wait” for the regulators to act before moving.
Regulators. The authors quote Jeffrey Stehm, now of Promontory Financial, as saying when he was a senior staffer at the Federal Reserve Board that most regulators “don’t wake up in the morning and want to be resisters to new things and don’t want to be resisters to technology, but on the other hand they have a mandate from the governments, whether it’s state or federal, to do certain things.”
The paper also cites Sayee Srinivasan, of the Commodity Futures Trading Commission, as suggesting that entrepreneurs “take the path of least resistance [meaning, use cases where legality isn’t a question] because if you are going to be waiting for regulators to change things, it just takes a lot of time because writing rules is a very, very difficult, challenging, risky, painful process and that’s not in our DNA to go and quickly change rules....”
For more information about Bitcoin regulation, subscribe to the Banking and Finance Law Daily.
Wednesday, March 9, 2016
Tuesday, March 8, 2016
Fed proposes single-party credit exposure limits for large holding companies
By Richard A. Roth
The Federal Reserve Board is again proposing rules that would restrict large domestic and foreign bank holding companies’ credit exposures to single counterparties. The proposal offers different restrictions on U.S. and foreign BHCs and would establish stricter limits as the systemic importance of the BHC and the counterparty increases. According to the Fed, only BHCs with total consolidated assets of $50 billion or more would be affected. Comments on the proposal to add a new Subpart H to Reg. YY—Enhanced Prudential Standards (12 CFR Part 252) are due by June 3, 2016.
The proposal would implement Dodd-Frank Act Section 165(e), the Fed says. Rules for U.S. BHCs originally were proposed in December 2011, with proposed rules for foreign BHCs coming in December 2012. The new proposals offer more differentiation among BHCs and counterparties.
Covered companies and exposures. The proposal divides U.S. BHCs into two categories:
major covered companies—BHCs that are global systemically important banking organizations; and
covered companies—BHCs with less than $250 billion in total consolidated assets and less than $10 billion in on-balance-sheet foreign exposures, and BHCs that exceed either threshold but are not G-SIBs.
Counterparties also are divided into two categories:
Proposed U.S. BHC limits. The proposal would establish three separate limits for U.S. BHCs:
The limits for foreign BHCs would be comparable to those for U.S. BHCs. They are, however, a bit more complex due to the need to account for intermediate holding companies. Under the proposal:
The Federal Reserve Board is again proposing rules that would restrict large domestic and foreign bank holding companies’ credit exposures to single counterparties. The proposal offers different restrictions on U.S. and foreign BHCs and would establish stricter limits as the systemic importance of the BHC and the counterparty increases. According to the Fed, only BHCs with total consolidated assets of $50 billion or more would be affected. Comments on the proposal to add a new Subpart H to Reg. YY—Enhanced Prudential Standards (12 CFR Part 252) are due by June 3, 2016.
The proposal would implement Dodd-Frank Act Section 165(e), the Fed says. Rules for U.S. BHCs originally were proposed in December 2011, with proposed rules for foreign BHCs coming in December 2012. The new proposals offer more differentiation among BHCs and counterparties.
Covered companies and exposures. The proposal divides U.S. BHCs into two categories:
major covered companies—BHCs that are global systemically important banking organizations; and
covered companies—BHCs with less than $250 billion in total consolidated assets and less than $10 billion in on-balance-sheet foreign exposures, and BHCs that exceed either threshold but are not G-SIBs.
Counterparties also are divided into two categories:
- major counterparties—G-SIBs or nonbank financial companies that have been designated as systemically important financial institutions; and
- other counterparties—counterparties that do not reach the threshold for being “major.”
Proposed U.S. BHC limits. The proposal would establish three separate limits for U.S. BHCs:
- A covered company with less than $250 billion in total consolidated assets and less than $10 billion in on-balance-sheet foreign exposures would have a credit exposure limit of 25 percent of its total regulatory capital plus its allowance for loan and lease losses to any counterparty.
- A covered company with more than $250 billion in total consolidated assets or more than $10 billion in on-balance-sheet foreign exposures would have a credit exposure limit of 25 percent of its tier 1 capital to any counterparty.
- A major covered company would have a credit exposure limit of 15 percent of its tier 1 capital to any major counterparty, and of 25 percent of its tier 1 capital to any other counterparty.
The limits for foreign BHCs would be comparable to those for U.S. BHCs. They are, however, a bit more complex due to the need to account for intermediate holding companies. Under the proposal:
- A U.S. intermediate holding company with less than $250 billion in total consolidated assets and less than $10 billion in on-balance-sheet foreign exposures would have a credit exposure limit of 25 percent of the intermediate company’s total regulatory capital plus its ALLL not included in tier 2 capital to any counterparty.
- The combined U.S. operations of a foreign BHC with less than $250 billion in total consolidated assets and less than $10 billion in on-balance-sheet foreign exposures would have a credit exposure limit of 25 percent of its total regulatory capital to any counterparty.
- A U.S. intermediate holding company with $250 billion or more in total consolidated assets or more than $10 billion in on-balance-sheet foreign exposures would have a credit exposure limit of 25 percent of the intermediate company’s tier 1 capital to any counterparty.
- The combined U.S. operations of a foreign BHC with $250 billion or more in total consolidated assets or $10 billion or more in on-balance-sheet foreign exposures would have a credit exposure limit of 25 percent of the BHC’s worldwide tier 1 capital to any counterparty.
- A major U.S. intermediate holding company, or the combined U.S. operations of a foreign BHC, would have a credit exposure limit of 15 percent of tier 1 capital to any major counterparty. The limit on exposure to any other counterparty would be 25 percent of tier 1 capital.
Monday, March 7, 2016
Massachusetts warns banks, consumers against increased ATM fraud
By Stephanie K. Mann, J.D.
Automated teller machine card skimming fraud is increasing, and banks need to ramp up their detection and prevention efforts in response, according to the Massachusetts Division of Banks. A letter from Commissioner David J. Cotney is warning ATM operators to increase their security at their ATMs and to enhance their security programs.
Skimming is the use of a physical device that is somehow attached to an ATM, enabling a criminal to record the information on a card’s magnetic strip or to intercept information being transmitted over the ATM’s telephone or Internet connection. Alternatively, criminals may be able to capture the information wirelessly. The intercepted information can be combined with a PIN that was captured using a hidden camera to allow criminals to carry out fraudulent transactions.
The state regulator is encouraging ATM operators to increase their monitoring, both by enhancing physical security and watching more closely for unusual transaction activity. Physical and technological controls and incident response plans all should be tested regularly. ATM security considerations should be part of financial institution risk assessments, the division also says.
Warning to consumers. Additionally, the Division advised consumers to examine nearby objects that might conceal a camera and to check the card slot for a plastic sheath before using an ATM. Consumers should leave an ATM if they notice someone is watching and to immediately report any suspicions to the machine operator or a nearby law enforcement officer.
The Division further cautioned consumers not to respond to unsolicited requests for bank account numbers or PINs for debit or ATM cards. Consumers should additionally monitor accounts for unauthorized transactions and immediately contact their financial institution if fraud is suspected.
For more information about ATM fraud, subscribe to the Banking and Finance Law Daily.
Automated teller machine card skimming fraud is increasing, and banks need to ramp up their detection and prevention efforts in response, according to the Massachusetts Division of Banks. A letter from Commissioner David J. Cotney is warning ATM operators to increase their security at their ATMs and to enhance their security programs.
Skimming is the use of a physical device that is somehow attached to an ATM, enabling a criminal to record the information on a card’s magnetic strip or to intercept information being transmitted over the ATM’s telephone or Internet connection. Alternatively, criminals may be able to capture the information wirelessly. The intercepted information can be combined with a PIN that was captured using a hidden camera to allow criminals to carry out fraudulent transactions.
The state regulator is encouraging ATM operators to increase their monitoring, both by enhancing physical security and watching more closely for unusual transaction activity. Physical and technological controls and incident response plans all should be tested regularly. ATM security considerations should be part of financial institution risk assessments, the division also says.
Warning to consumers. Additionally, the Division advised consumers to examine nearby objects that might conceal a camera and to check the card slot for a plastic sheath before using an ATM. Consumers should leave an ATM if they notice someone is watching and to immediately report any suspicions to the machine operator or a nearby law enforcement officer.
The Division further cautioned consumers not to respond to unsolicited requests for bank account numbers or PINs for debit or ATM cards. Consumers should additionally monitor accounts for unauthorized transactions and immediately contact their financial institution if fraud is suspected.
For more information about ATM fraud, subscribe to the Banking and Finance Law Daily.
Friday, March 4, 2016
Sorry, Snoopy, MetLife's SIFI designation can't be shed
By Lisa M. Goolik, J.D.
In case you missed it, the Financial Stability Oversight Council voted this week not to rescind MetLife’s designation as a non-bank systemically important financial institution (SIFI). The SIFI designation subjects the insurance company to the enhanced prudential standards and supervision by the Federal Reserve Board.
Although the March 2, 2016, meeting readout provides few details of the Council’s discussion, the FSOC noted that, as a general matter, if a company has addressed the key factors in the Council’s basis for its designation, the Council will rescind the designation. MetLife was previously notified of the Council's review and invited to submit information regarding any change that the company deemed relevant to its SIFI designation.
The FSOC provided MetLife and its lead state insurance regulator with a notice explaining the primary bases for the Council’s decision. The notice addresses also the material factors raised by the company in its submission to the Council contesting the determination during the annual reevaluation.
MetLife is currently challenging the designation in the U.S. District Court for the District of Columbia.
For more information about the FSOC and MetLife's SIFI designation, subscribe to the Banking and Finance Law Daily.
In case you missed it, the Financial Stability Oversight Council voted this week not to rescind MetLife’s designation as a non-bank systemically important financial institution (SIFI). The SIFI designation subjects the insurance company to the enhanced prudential standards and supervision by the Federal Reserve Board.
Although the March 2, 2016, meeting readout provides few details of the Council’s discussion, the FSOC noted that, as a general matter, if a company has addressed the key factors in the Council’s basis for its designation, the Council will rescind the designation. MetLife was previously notified of the Council's review and invited to submit information regarding any change that the company deemed relevant to its SIFI designation.
The FSOC provided MetLife and its lead state insurance regulator with a notice explaining the primary bases for the Council’s decision. The notice addresses also the material factors raised by the company in its submission to the Council contesting the determination during the annual reevaluation.
MetLife is currently challenging the designation in the U.S. District Court for the District of Columbia.
For more information about the FSOC and MetLife's SIFI designation, subscribe to the Banking and Finance Law Daily.
Thursday, March 3, 2016
CFPB takes down digital payment processor for deceptive practices
By Katalina M. Bianco, J.D.
The Consumer Financial Protection Bureau has ordered Iowa-based online payment company, Dwolla, Inc, to pay a $100,000 civil money penalty for allegedly deceiving consumers about its data security practices. The bureau also ordered the company to “fix its security practices.” This is the bureau’s first data security enforcement action.
“Consumers entrust digital payment companies with significant amounts of sensitive personal information,” said CFPB Director Richard Cordray. “With data breaches becoming commonplace and more consumers using these online payment systems, the risk to consumers is growing. It is crucial that companies put systems in place to protect this information and accurately inform consumers about their data security practices.”
According to the CFPB, since December 2009, Dwolla has collected and stored consumers’ sensitive personal information and provided a platform for financial transactions. As of May 2015, it had more than 650,000 users and had transferred as much as $5 million per day. For each account, Dwolla collects personal information—including the consumer’s name, address, date of birth, telephone number, Social Security number, bank account and routing numbers, a password, and a unique 4-digit PIN.
Consent Order. According to the bureau’s consent order, Dwolla violated Sections 1031(a) and 1036(a)(1) of the Consumer Financial Protection Act (12 U.S.C. §§ 5563, 5565) by engaging in deceptive acts and practices relating to false representations about its data security practices. The bureau charged that Dwolla falsely claimed its security practices “exceed” or “surpass” industry standards while failing to employ “reasonable and appropriate measures’ to protect consumers’ data. Further, Dwolla claimed that “its information is securely encrypted and stored” while failing to encrypt the data and releasing applications to the public before testing whether they were secure. However, the CFPB charged that the company’s security practices “fell far short of its claims.”
Under the order, in addition to paying $100,000 to the CFPB’s Civil Penalty Fund, Dwolla is required to: (1) stop misrepresenting its data security practices; and (2) properly train employees on company data security policies and procedures and on how to protect consumers’ personal information.
Stipulation. Without admitting or denying any wrongdoing, Dwolla stipulated to the facts described in Section IV of the order and consented to the issuance of the order.
For more information about CFPB enforcement actions, subscribe to the Banking and Finance Law Daily.
The Consumer Financial Protection Bureau has ordered Iowa-based online payment company, Dwolla, Inc, to pay a $100,000 civil money penalty for allegedly deceiving consumers about its data security practices. The bureau also ordered the company to “fix its security practices.” This is the bureau’s first data security enforcement action.
“Consumers entrust digital payment companies with significant amounts of sensitive personal information,” said CFPB Director Richard Cordray. “With data breaches becoming commonplace and more consumers using these online payment systems, the risk to consumers is growing. It is crucial that companies put systems in place to protect this information and accurately inform consumers about their data security practices.”
According to the CFPB, since December 2009, Dwolla has collected and stored consumers’ sensitive personal information and provided a platform for financial transactions. As of May 2015, it had more than 650,000 users and had transferred as much as $5 million per day. For each account, Dwolla collects personal information—including the consumer’s name, address, date of birth, telephone number, Social Security number, bank account and routing numbers, a password, and a unique 4-digit PIN.
Consent Order. According to the bureau’s consent order, Dwolla violated Sections 1031(a) and 1036(a)(1) of the Consumer Financial Protection Act (12 U.S.C. §§ 5563, 5565) by engaging in deceptive acts and practices relating to false representations about its data security practices. The bureau charged that Dwolla falsely claimed its security practices “exceed” or “surpass” industry standards while failing to employ “reasonable and appropriate measures’ to protect consumers’ data. Further, Dwolla claimed that “its information is securely encrypted and stored” while failing to encrypt the data and releasing applications to the public before testing whether they were secure. However, the CFPB charged that the company’s security practices “fell far short of its claims.”
Under the order, in addition to paying $100,000 to the CFPB’s Civil Penalty Fund, Dwolla is required to: (1) stop misrepresenting its data security practices; and (2) properly train employees on company data security policies and procedures and on how to protect consumers’ personal information.
Stipulation. Without admitting or denying any wrongdoing, Dwolla stipulated to the facts described in Section IV of the order and consented to the issuance of the order.
For more information about CFPB enforcement actions, subscribe to the Banking and Finance Law Daily.
Philly Fed examines cost of Dodd-Frank on small banks
By John M. Pachkowski, J.D.
James DiSalvo and Ryan Johnston of the Federal Reserve Bank of Philadelphia have examined the effects that regulatory changes since the Great Recession have had on small banks—those with assets below $10 billion.
Their analysis, “How Dodd-Frank Affects Small Bank Costs,” appeared in the debut issue of Philadelphia Fed’s Economic Insights and examines three specific areas: the qualified mortgage rule adopted by the Consumer Financial Protection Bureau; regulations implementing the Basel III Capital Accord; and Dodd-Frank’s Durbin Amendment. DiSalvo and Johnston also examined the compliance costs that affect small banks.
Qualified mortgages. Although the CFPB’s qualified mortgage rule was “designed to force banks to maintain higher lending standards for home mortgages” by imposing “rigorous standards of proof that a loan is not high risk,” DiSalvo and Johnston noted that small banks gained a “key benefit” in that they are protected against lawsuits by borrowers and against attempts by borrowers to avoid foreclosure.
As for the effect the qualified mortgage rule has had on small banks’ mortgage lending, the authors found that the qualified mortgage rule “affects a significant share of mortgage lending by small banks, and by some measures, the effect appears to be greatest for the smallest banks.”
Capital requirements. DiSalvo and Johnston found that the changes made by Basel III Capital Accord, especially to risk weighting on commercial real estate (CRE), affected small banks since they invest relatively heavily in commercial real estate. They concluded that the new capital requirements “potentially affect a modest, but certainly not insignificant, portion of small banks’ CRE portfolios.”
Durbin Amendment. The Durbin Amendment of Dodd–Frank requires regulators to impose a ceiling on the interchange fees that covered banks charge for debit card transactions. It was noted by the authors that there was substantial evidence that the ceiling did lower interchange fees collected by banks with assets above $10 billion, from around 44 cents to about 22 cents per transaction’ but no such decline for small banks. DiSalvo and Johnston also found no evidence to support the claim that competitive forces have effectively imposed the interchange fee ceiling on small banks. However, they did caution that “it is possible that longer-term competitive effects might yet put small banks at a disadvantage.”
Compliance costs. Finally, DiSalvo and Johnston touched upon compliance costs affecting small banks. They noted that “reports of the costs of regulatory compliance have been largely anecdotal,” but “the magnitude of the rise in regulatory costs due to Dodd–Frank and the accompanying regulatory changes since the Great Recession is an empirical question that will require more time and analysis to determine.”
For more information about Dodd-Frank, subscribe to the Banking and Finance Law Daily.
James DiSalvo and Ryan Johnston of the Federal Reserve Bank of Philadelphia have examined the effects that regulatory changes since the Great Recession have had on small banks—those with assets below $10 billion.
Their analysis, “How Dodd-Frank Affects Small Bank Costs,” appeared in the debut issue of Philadelphia Fed’s Economic Insights and examines three specific areas: the qualified mortgage rule adopted by the Consumer Financial Protection Bureau; regulations implementing the Basel III Capital Accord; and Dodd-Frank’s Durbin Amendment. DiSalvo and Johnston also examined the compliance costs that affect small banks.
Qualified mortgages. Although the CFPB’s qualified mortgage rule was “designed to force banks to maintain higher lending standards for home mortgages” by imposing “rigorous standards of proof that a loan is not high risk,” DiSalvo and Johnston noted that small banks gained a “key benefit” in that they are protected against lawsuits by borrowers and against attempts by borrowers to avoid foreclosure.
As for the effect the qualified mortgage rule has had on small banks’ mortgage lending, the authors found that the qualified mortgage rule “affects a significant share of mortgage lending by small banks, and by some measures, the effect appears to be greatest for the smallest banks.”
Capital requirements. DiSalvo and Johnston found that the changes made by Basel III Capital Accord, especially to risk weighting on commercial real estate (CRE), affected small banks since they invest relatively heavily in commercial real estate. They concluded that the new capital requirements “potentially affect a modest, but certainly not insignificant, portion of small banks’ CRE portfolios.”
Durbin Amendment. The Durbin Amendment of Dodd–Frank requires regulators to impose a ceiling on the interchange fees that covered banks charge for debit card transactions. It was noted by the authors that there was substantial evidence that the ceiling did lower interchange fees collected by banks with assets above $10 billion, from around 44 cents to about 22 cents per transaction’ but no such decline for small banks. DiSalvo and Johnston also found no evidence to support the claim that competitive forces have effectively imposed the interchange fee ceiling on small banks. However, they did caution that “it is possible that longer-term competitive effects might yet put small banks at a disadvantage.”
Compliance costs. Finally, DiSalvo and Johnston touched upon compliance costs affecting small banks. They noted that “reports of the costs of regulatory compliance have been largely anecdotal,” but “the magnitude of the rise in regulatory costs due to Dodd–Frank and the accompanying regulatory changes since the Great Recession is an empirical question that will require more time and analysis to determine.”
For more information about Dodd-Frank, subscribe to the Banking and Finance Law Daily.
Tuesday, March 1, 2016
Connecticut Supreme Court rejects MERS’ constitutional challenges to fee system
By Thomas G. Wolfe, J.D.
Recently, the Supreme Court of Connecticut addressed federal and state constitutional challenges by MERSCORP Holdings, Inc., and Mortgage Electronic Registration Systems, Inc. (collectively MERS) to Connecticut’s statutory system for recording fees, under which a nominee operating a national electronic database to monitor residential mortgage loans is required to pay fees approximately three times higher than other conventional mortgagees. However, Connecticut’s high court rejected the constitutional challenges asserted by MERS and upheld the constitutionality of the pertinent Connecticut laws.
As observed by the court in MERSCORP Holdings, Inc. v. Malloy, MERS operates a national electronic registration system that tracks any changes in the ownership and servicing rights of MERS-registered loans between MERS members—including in-state and out-of-state mortgage lenders, servicers, and public finance institutions. Designed to save time and costs associated with the recording of subsequent mortgage assignments in public land records, the recording of a mortgage with MERS as a mortgage nominee “essentially creates a placeholder” for the electronic MERS system in the public land records, which allows the electronic MERS system and public records systems to operate together. MERS remains as the mortgagee of record in the public records “until the mortgage either is released or assigned to a nonmember of MERS.”
In 2013, Connecticut amended its statutes governing recording fees for real estate records. Notably, the parties to the litigation agreed that the Connecticut legislature “crafted the statutory language with MERS specifically in mind.” Although the 2013 statutory amendments do not refer to MERS by name, the parties agreed that MERS was the only entity that qualified as “a nominee of a mortgagee” under the statutory language.
The court recognized that the “net effect of the amendments … is to collect from a nominee of a mortgagee, namely, MERS, substantially more for the filing of deeds, assignments, and other documents in the land records than from any other filer.” In addition, the court observed that the 2013 amendments also shifted how the recording fees on MERS-related transactions were to be allocated. Indeed, the parties agreed that the Connecticut legislature’s amendments were adopted “at least in part as a revenue enhancing measure to help balance the state budget.” At the same time, the parties also agreed that “the recording fees at issue will be collected from the borrowers at closing and not paid by MERS itself.”
As a result of the increased recording fees directed toward mortgage nominees, MERS brought an action against Connecticut’s governor, attorney general, treasurer, state librarian, and state public records administrator. MERS sought injunctive and declaratory relief, alleging that Connecticut’s two-tiered statutory recording fee system violated provisions of the federal and state constitutions as well as civil rights laws.
MERS contended that the recording fees constituted “user fees” because they were “paid in exchange for a discrete service of benefit” to the filer in the system. In contrast the Connecticut state defendants contended that the recording fees were more aligned with taxes because “the statute was enacted primarily to raise revenues for the state and its municipalities.” Ultimately, the court viewed the recording fees as a “hybrid” of taxes and user fees and conducted its analysis of the constitutional issues accordingly.
In rejecting MERS’ challenges and upholding the constitutionality of the Connecticut laws governing recording fees for a nominee operating a national electronic database to track mortgage loans, Connecticut’s high court determined that: (i) even though nominees such as MERS are charged higher recording fees than other mortgagees under the statutory scheme, this did not violate the equal protection guarantees of the state and federal constitutions because the distinctions set forth in the Connecticut laws were “rationally related to legitimate public interests”; and (ii) the Connecticut laws did not violate the dormant commerce clause of the U.S. Constitution because they were not discriminatory on their face, did not place an undue burden on the secondary mortgage market, and did not result in a “tangible detriment” to the MERS business model.
For more information about significant developments in mortgage law, subscribe to the Banking and Finance Law Daily.
Recently, the Supreme Court of Connecticut addressed federal and state constitutional challenges by MERSCORP Holdings, Inc., and Mortgage Electronic Registration Systems, Inc. (collectively MERS) to Connecticut’s statutory system for recording fees, under which a nominee operating a national electronic database to monitor residential mortgage loans is required to pay fees approximately three times higher than other conventional mortgagees. However, Connecticut’s high court rejected the constitutional challenges asserted by MERS and upheld the constitutionality of the pertinent Connecticut laws.
As observed by the court in MERSCORP Holdings, Inc. v. Malloy, MERS operates a national electronic registration system that tracks any changes in the ownership and servicing rights of MERS-registered loans between MERS members—including in-state and out-of-state mortgage lenders, servicers, and public finance institutions. Designed to save time and costs associated with the recording of subsequent mortgage assignments in public land records, the recording of a mortgage with MERS as a mortgage nominee “essentially creates a placeholder” for the electronic MERS system in the public land records, which allows the electronic MERS system and public records systems to operate together. MERS remains as the mortgagee of record in the public records “until the mortgage either is released or assigned to a nonmember of MERS.”
In 2013, Connecticut amended its statutes governing recording fees for real estate records. Notably, the parties to the litigation agreed that the Connecticut legislature “crafted the statutory language with MERS specifically in mind.” Although the 2013 statutory amendments do not refer to MERS by name, the parties agreed that MERS was the only entity that qualified as “a nominee of a mortgagee” under the statutory language.
The court recognized that the “net effect of the amendments … is to collect from a nominee of a mortgagee, namely, MERS, substantially more for the filing of deeds, assignments, and other documents in the land records than from any other filer.” In addition, the court observed that the 2013 amendments also shifted how the recording fees on MERS-related transactions were to be allocated. Indeed, the parties agreed that the Connecticut legislature’s amendments were adopted “at least in part as a revenue enhancing measure to help balance the state budget.” At the same time, the parties also agreed that “the recording fees at issue will be collected from the borrowers at closing and not paid by MERS itself.”
As a result of the increased recording fees directed toward mortgage nominees, MERS brought an action against Connecticut’s governor, attorney general, treasurer, state librarian, and state public records administrator. MERS sought injunctive and declaratory relief, alleging that Connecticut’s two-tiered statutory recording fee system violated provisions of the federal and state constitutions as well as civil rights laws.
MERS contended that the recording fees constituted “user fees” because they were “paid in exchange for a discrete service of benefit” to the filer in the system. In contrast the Connecticut state defendants contended that the recording fees were more aligned with taxes because “the statute was enacted primarily to raise revenues for the state and its municipalities.” Ultimately, the court viewed the recording fees as a “hybrid” of taxes and user fees and conducted its analysis of the constitutional issues accordingly.
In rejecting MERS’ challenges and upholding the constitutionality of the Connecticut laws governing recording fees for a nominee operating a national electronic database to track mortgage loans, Connecticut’s high court determined that: (i) even though nominees such as MERS are charged higher recording fees than other mortgagees under the statutory scheme, this did not violate the equal protection guarantees of the state and federal constitutions because the distinctions set forth in the Connecticut laws were “rationally related to legitimate public interests”; and (ii) the Connecticut laws did not violate the dormant commerce clause of the U.S. Constitution because they were not discriminatory on their face, did not place an undue burden on the secondary mortgage market, and did not result in a “tangible detriment” to the MERS business model.
For more information about significant developments in mortgage law, subscribe to the Banking and Finance Law Daily.
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