Ballard Spahr
Legal Alert

Mortgage Banking Update - August 1, 2024

August 1, 2024

August 1 – Read the newsletter below for the latest Mortgage Banking and Consumer Finance industry news, written by Ballard Spahr attorneys. In this issue, we discuss the continuing fallout from the U.S. Supreme Court’s overturning of the Chevron doctrine, including several injunctions against federal agency regulations across the country, as well as the CFPB’s annual Fair Lending Report, a FinCEN proposal aimed at strengthening anti-money laundering programs, and much more.

 

Podcast Episode: Interest Rate Exportation Under Attack – Part II

The 1978 landmark opinion in Marquette National Bank v. First of Omaha Service Corp held that under the National Bank Act, a national bank has the right to export the interest rate authorized by the state where the bank is located to borrowers located elsewhere. Section 521 of the Depository Institutions Deregulation and Monetary Control Act of 1980 (DIDMCA) conferred equivalent rate exportation powers on state-chartered, FDIC-insured banks.

These interest rate exportation powers (which also extend to certain fees), coupled with technological advances in recent years and the advent of “bank-model” and “banking as a service” (BaaS) programs, have created a robust, competitive smorgasbord of credit products for consumers.

However, rate exportation, and the programs it enables, increasingly are subject to challenges from a variety of sources.

In this two-part episode, which repurposes portions of a recent webinar, we describe the nature of these attacks, the defenses being deployed by the industry, and who is winning these contests so far, and address what the future may hold for rate exportation.

We start Part II with a discussion of states that have adopted, or are considering, “true lender” statutes that aim to recharacterize fintechs and other bank service providers as lenders, thus defeating the originating bank’s ability to export rates and fees. We then discuss “true lender” enforcement actions and efforts by state attorneys general, and “true lender” litigation developments including cases where arbitration clauses have been upheld, causing arbitration to be ordered in putative class actions. Next, we talk about attacks on the “valid when made” doctrine (which provides that a loan that was non-usurious when it was made doesn’t become usurious after it is transferred to a third party), and “valid when made” regulations adopted by both the OCC and FDIC. We proceed with some tips on how prevailing industry plaintiffs who seek to overturn statutes inimical to rate exportation might recover attorney’s fees. We then conclude with a review of recent Supreme Court cases whose outcomes have the potential to affect rate exportation powers and related regulations.

Alan Kaplinsky, Senior Counsel in Ballard Spahr’s Consumer Financial Services Group, moderates the episode, joined by John Culhane, Joseph Schuster, and Ronald Vaske, Partners in the Group, and Mindy Harris and Kristen Larson, Of Counsel in the Group.

To listen to this episode, click here.

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Podcast Episode: Buy Now, Pay Later – Evolution, Regulation, and What You Need to Know About the CFPB Interpretive Rule Effective July 30

“Buy Now, Pay Later” (BNPL) products emerged relatively recently as a new approach enabling consumers to enjoy the ability to make a purchase and then pay for it over time. This episode, during which we explore the evolution of BNPL products and important recent developments in BNPL regulation, is hosted by Alan Kaplinsky, former practice leader and current Senior Counsel in Ballard Spahr’s Consumer Financial Services Group, and features Ballard Spahr Partners Michael Guerrero and Joseph Schuster.

We first discuss the structure and mechanics of BNPL products, and the benefits they afford to consumers, merchants, and creditors. Next, we turn to a discussion of regulators’ reactions to BNPL, specifically the activities of the CFPB leading up to its new interpretive rule, effective July 30, which equates BNPL products with credit cards and characterizes BNPL providers as card issuers or creditors, thus subjecting them to the constraints and requirements of the Truth in Lending Act (TILA) and Regulation Z.

We then explore the CFPB’s BNPL interpretive rule in detail, including an analysis of the concerns raised by the CFPB in connection with BNPL offerings; the CFPB’s introduction of the “digital user account” concept and other theories to bring BNPL into the purview of TILA and Regulation Z; and the complexities and uncertainties now faced by BNPL providers as they struggle to comply.

We conclude with a look at the possibilities of a legal challenge to the CFPB’s BNPL interpretive rule, given recent Supreme Court decisions, and state law considerations for BNPL providers.

To listen to his episode, click here.

Our blog about the CFPB’s BNPL interpretive rule may be found here.

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CFPB Issues Proposed Rule Amending Mortgage Servicing Rules

The CFPB recently issued its long-awaited proposed rule amending the mortgage servicing rules under Regulation X, with a focus on streamlining and expanding the loss mitigation procedures and foreclosure protections. The amendments have been touted as a means to streamline the loss mitigation process, with a nod to the laudable approach taken by industry during the COVID-19 pandemic. However, in doing so, the CFPB has also significantly expanded borrower protections during the loss mitigation process, and left many concerning questions based on the proposed language.

The proposed rule also amends aspects of the early intervention requirements, and error resolution requirements. Also of particular note, the proposed rule includes language access requirements, including requirements to provide translated versions of certain communications.

Comments to the proposal are due on September 9, 2024. The proposed effective date for most of the provisions is 12 months after publication of the final rule in the Federal Register. The proposed effective date for the language access requirements is 18 months after publication of the final rule.

Below we provide a deep dive into the proposed changes, including some initial thoughts on topics of concern or uncertainty.

New Definitions

The proposed rule deletes the definition of a “loss mitigation application” from § 1024.31. The concept of a loss mitigation application is replaced by the term “loss mitigation review cycle”, which is defined as follows:

Loss mitigation review cycle means a continuous period of time beginning when the borrower makes a request for loss mitigation assistance, provided the request is made more than 37 days before a foreclosure sale, and ending when the loan is brought current or the procedural safeguards in § 1024.41(f)(2)(i) or (ii) are met. A loss mitigation review cycle continues while a borrower is in a temporary or trial loss mitigation period, such as a forbearance or modification trial payment plan, and the loan has not yet been brought current.

The term “request for loss mitigation assistance” is also newly defined as follows:

Request for loss mitigation assistance means any oral or written communication, occurring through any usual and customary channel for mortgage servicing communications, whereby a borrower asks a servicer for mortgage relief. A request for loss mitigation assistance should be construed broadly and includes, but is not limited to, any communication whereby: (1) A borrower expresses an interest in pursuing a loss mitigation option; (2) A borrower indicates that they have experienced a hardship and asks the servicer for assistance with making payments, retaining their home, or avoiding foreclosure; or (3) In response to a servicer’s unsolicited offer of a loss mitigation option, a borrower expresses an interest in pursuing either the loss mitigation option offered or any other loss mitigation option.

{NOTE: The proposed rule leaves considerable uncertainty around the potential channels through which a borrower could make a “request for loss mitigation assistance”. Because such a request triggers the foreclosure protections and fee restrictions discussed below, this issue is of critical importance.}

Loss Mitigation and Foreclosure Protection Changes

Most notably, the proposed rule dramatically changes the loss mitigation procedures and foreclosure protections in § 1024.41. In general, the proposed changes dispense with the application-based procedural framework for loss mitigation and foreclosure protections. It is replaced with a framework that simply applies foreclosure protections upon any “request for loss mitigation assistance”, and then leaves it to the servicer to review the borrower for loss mitigation options sequentially or simultaneously.

  • Removal of Loss Mitigation Acknowledgement Notices – The entirety of § 1024.41(b) is deleted from the regulation, and denoted as [RESERVED]. Under the existing regulation, this subsection contains the provisions for: (1) defining what constitutes a “complete loss mitigation application” under the rule; (2) the requirement to promptly review an application to determine if it is complete; and (3) the 5-day loss mitigation application acknowledgement letter requirement.
  • Loss Mitigation Evaluation and Notice – § 1024.41(c) is revised to provide that, if a servicer receives a “request for loss mitigation assistance” (as opposed to a “complete loss mitigation application” under the current regulation) more than 37 days before a scheduled foreclosure sale, and makes a determination to offer or deny any loss mitigation assistance (the 30-day evaluation time frame is deleted), the servicer must promptly provide the borrower with a notice in writing stating that determination, which shall include:
    • The amount of time the borrower has to accept or reject an offer of a loss mitigation option, if applicable;
    • A notification, if applicable, that the borrower has the right to appeal the loss mitigation determination as well as the amount of time the borrower has to file such an appeal and any requirements for making an appeal;
    • The specific reason or reasons for the servicer’s determination to offer or deny each such loss mitigation option (currently, determination reasons are only required for denials of loan modifications);
      • We note that revised commentary language for this provision clarifies that the reasons listed must identify the relevant investor or guarantor and the specific applicable requirement that is the basis for the offer or denial.
    • The key borrower-provided inputs, if any, that served as the basis for the determination;

{NOTE: We note that the requirement to provide “key borrower-provided inputs” for any offer or denial is highly vague, and potentially impracticable. In addition, disclosing such information (such as credit scores) may raise privacy concerns.}

    • A telephone number, mailing address, and website, where the borrower can access a list of the non-borrower provided inputs, if any, used by the servicer in making the loss mitigation determination;

{NOTE: We note that the requirement to maintain a borrower-facing web portal detailing the account-specific inputs used in a loss mitigation determination will be a significant operational lift for industry.}

    • A list of all other loss mitigation options that may remain available to the borrower, if any, including a clear statement describing the next steps the borrower must take to be reviewed for those loss mitigation options or, if applicable, a statement that the servicer has reviewed the borrower for all available loss mitigation options and none remain;
    • A list of any loss mitigation options that the servicer previously offered to the borrower that remain available but that the borrower did not accept;
    • A telephone number where the borrower can obtain a list of all loss mitigation options that may be available from the owner or assignee of the borrower’s loan, pursuant to § 1024.39(b)(2)(ii), and a Web site to access a list of all loss mitigation options that may be available from the owner or assignee of the borrower’s mortgage loan, pursuant to § 1024.39(b)(2)(ii);
    • The name of the owner or assignee of the borrower’s mortgage loan;
    • If there is a loss mitigation offer, a statement informing the borrower whether the offered option will still be available if the borrower requests to be reviewed for other loss mitigation options prior to accepting or rejecting the offer; and
    • If there is a loss mitigation offer of a forbearance, a statement informing the borrower of the specific payment terms and duration of the forbearance.
  • Missing Documents or Information Not in the Borrower’s Control – The process regarding missing information or documents not in the borrower’s control are amended in several ways. Except as provided below, for a request for loss mitigation assistance received more than 37 days before a foreclosure sale, servicers generally must not deny the request solely because the servicer lacks required documents or information not in the borrower’s control.
    • However, If the servicer has regularly taken steps to obtain required documents or information from the third party source, but the servicer has been unable to obtain the documents or information for at least 90 days and the servicer, in accordance with applicable requirements established by the investor on the loan, is unable to determine which loss mitigation options, if any, it will offer the borrower without such documents or information, the servicer may deny the request for assistance and provide the borrower with a written notice that states:
      • That the servicer has not received documents or information not in the borrower’s control that the servicer requires to determine which loss mitigation options, if any, it will offer to the borrower on behalf of the owner or assignee of the mortgage;
      • Of the specific documents or information that the servicer lacks;
      • That the servicer has requested such documents or information;
      • That, if the servicer receives the documents or information within 14 days of providing the written notice to the borrower, the servicer will complete its evaluation of the borrower for all available loss mitigation options promptly upon receiving the documents or information; and
      • The information required in § 1024.41(c)(1)(vi) to (ix) from the standard Loss Mitigation Evaluation Notice detailed above (i.e., the information regarding other options available, other options previously offered that remain available, a telephone number and website where the borrower can access a list of the options available, and the name of the investor).
  • Unsolicited Loss Mitigation Offers – The proposed rule includes detail on what must be included in an unsolicited loss mitigation offer (i.e., an offer that is not based on a request for loss mitigation assistance or an application, but solely on information in the servicer’s possession/in the loan file). If such an offer is made, the servicer must provide a written notice of that determination, that includes:
    • The amount of amount of time the borrower has to accept or reject an offer of a loss mitigation program (per § 1024.41(e) discussed below); and
    • The information required in § 1024.41(c)(1)(vi) to (ix) from the standard Loss Mitigation Evaluation Notice detailed above (i.e., the information regarding other options available, other options previously offered that remain available, a telephone number and website where the borrower can access a list of the options available, and the name of the investor).
  • Borrower Response Timeframes – The proposed rule amends the borrower response timeframes in §1024.41(e) for consistency with the new review process. Accordingly, if a request for loss mitigation assistance (as opposed to a complete loss mitigation application) is received 90 days or more before a sale, the borrower has 14 days to accept or reject an offer. The current 7-day response timeframe similarly applies if a request for loss mitigation assistance is received less than 90 days before a foreclosure sale, but more than 37 days before a foreclosure sale.
  • Foreclosure Protections – Most notably under the proposed rule, the foreclosure hold protections in § 1024.41 are no longer tied to receipt of a complete loss mitigation application. Instead, a protected “loss mitigation review cycle” begins if the borrower makes a request for loss mitigation assistance more than 37 days before a foreclosure sale. Once the loss mitigation review cycle begins, the servicer cannot make the first notice or filing for foreclosure, or advance the foreclosure process (e.g., scheduling a sale, mediation, or arbitration), unless one of the following procedural safeguards is met:
    • No Remaining Loss Mitigation Options – The servicer has (1) reviewed the borrower for loss mitigation and no available loss mitigation options remain, (2) sent all required evaluation notices under § 1024.41(c), if applicable, and (3) the borrower has either not requested an appeal within the applicable timeframe, or all appeals have been denied.
    • Unresponsive Borrower – The servicer has regularly taken steps to identify and obtain any information and documents necessary from the borrower to determine which loss mitigation options, if any, it will offer to the borrower, and if the servicer has made a loss mitigation determination, has regularly taken steps to reach the borrower regarding that determination, but the borrower has not communicated with the servicer for at least 90 days.
      • “Communication” – For purposes of this requirement, a “communication” is any communication by phone, in writing, electronically, about the mortgage loan obligation. “Communication” also includes making a payment on the mortgage loan obligation.

{NOTE: We note that the means by which a borrower can “communicate” and remain “responsive” for purposes of a loss mitigation review cycle are incredibly broad, and are sure to enable abuse. Under this language, a borrower could simply call the servicer every 89 days and ask for the updated principal balance, to extend the foreclosure and fee restrictions, without ever moving toward enabling a loss mitigation review.}

      • Regular Contact – The commentary also clarifies that to satisfy this safeguard for unresponsive borrowers, the servicer must regularly communicate the status of the loss mitigation review to the borrower, which includes requesting documentation and information that the servicer requires from the borrower and communicating available options.

{NOTE: We note that the proposed rule leaves considerable uncertainty regarding what must be done to satisfy the criteria of having “regularly taken steps to identify and obtain information and documents necessary” from the borrower. Greater specificity on this point is necessary.}

  • Fee Protections – Notably, during a loss mitigation review cycle, no fees can accrue on the borrower’s account other than amounts scheduled or calculated as if the borrower made all contractual payments on time and in full under the terms of the loan agreement. Notably, this would constitute a broad restriction on any fee, charges, costs or interest. For example, this would prevent servicers from assessing delinquency-related third party costs to borrowers.

{NOTE: This restriction constitutes a significant impairment of a creditor’s contractual rights to maintain and secure collateral, and pass along the associated costs to consumers. In combination with the above provisions, this is tantamount to a borrower-forced forbearance on the loan, for an undefined period of time.}

  • Appeals – The proposed rule also significantly expands the appeal rights of a borrower. Regardless of when a request for loss mitigation assistance is received (the rule currently grants appeal rights only if a servicer receives a complete application 90 days or more before a scheduled sale), a servicer shall permit a borrower to appeal the “determination regarding any loss mitigation option available to the borrower” (the current rule only permits the appeal of a denial of a loan modification).
    • Regarding the timeframe for an appeal, the proposed rule retains the 14-day timeframe after the servicer provides the loss mitigation determination. However, language is added clarifying that a compliant appeal request, that also meets the criteria for a written notice of error under § 1024.35, must be treated as both a loss mitigation appeal under § 1024.41(h) and a notice of error under § 1024.35.
    • Similarly, regarding the appeal determination steps, the proposed rule states that if an appeal also qualifies as a notice of error, the servicer may not make the appeal determination until it has either corrected the error or conducted a reasonable investigation and determined that no error has occurred. Otherwise, the 30-day appeal determination timeframe remains in place.
  • Duplicative Requests – The existing provision in § 1024.41(i) covering duplicative loss mitigation requests, is amended in an unclear manner. Under the proposed rule, it merely states that a servicer “must comply with the requirements of this section for a borrower’s request for loss mitigation assistance during the same loss mitigation review cycle, unless the procedural safeguards in paragraph (f)(2)(i) and (ii) have been met” (i.e., all options have been reviewed and appeal rights have been exhausted, or the borrower is unresponsive). The revised provision does not mention any different treatment for a subsequent loss mitigation review cycle, despite the subsection retaining the title “Duplicative requests”.

{NOTE: This provision currently protects servicers from repeat attempts to invoke foreclosure holds, even after a servicer has met the requirements to evaluate a loss mitigation application during a continuous delinquency. It is not clear from the drafting of the proposed rule, whether similar protections continue to apply. If this protection has in fact been removed, borrowers will be able to easily abuse the process to prolong the foreclosure and fee protections.}

  • Servicing Transfers – The provisions governing the treatment of pending loss mitigation in the context of servicing transfers is amended to simplify the requirements, in light of the new, streamlined loss mitigation evaluation process (i.e., there are no longer rigid time frames for issuing acknowledgment letters, or evaluation notices).

Early Intervention

The proposed rule makes various noteworthy changes to the early intervention requirements in § 1024.39.

Investor-Specific Written Early Intervention Notices

  • The written early intervention notice includes the following additional information requirements:
    • A telephone number and website where the borrower can access a list of all loss mitigation options that may be available from the particular investor for the borrower’s loan;
    • The name of the investor for the borrower’s loan, along with a brief description of each type of loss mitigation option that is generally available from the investor for the borrower’s loan; and
    • A statement informing the borrower how to make a request for loss mitigation assistance (the previous requirement was to include either application instructions or a statement informing the borrower how to obtain more information about loss mitigation options).
  • The relevant model clause language in Appendix MS-4 is adjusted to cover this revised content, deleting Model Clauses MS-4(A) and (B).

Altered Requirements for Borrowers on a Forbearance Plan

  • A new partial exemption, from both the live contact and written notice early intervention requirements, applies while a borrower is performing under a forbearance plan.
  • Particular contact and notice requirements are added for borrowers in a forbearance plan that is approaching its scheduled end date. Specifically, from 30 to 45 days prior to the end of a scheduled forbearance, the servicer must:
    • Establish or make good faith efforts to establish live contact with the borrower. During the live contact, the servicer must inform the borrower of the following:
      • The date the borrower’s current forbearance is scheduled to end; and
      • The availability of loss mitigation options, if appropriate, as set forth in the existing live content provision in § 1024.39(a).
    • Send the borrower a written notice including the following information:
      • The date the borrower’s current forbearance is scheduled to end; and
      • The other content required in the general written early intervention notice provisions found in § 1024.39(b)(2)(i)-(v) of this section
    • After a forbearance ends for any reason, a servicer that enjoyed the partial exemption while the borrower was performing under the forbearance plan must resume compliance with the standard live contact and written notice early intervention requirements after the next payment due date following the forbearance end date.

Finally, as a housekeeping measure, the specific live contact content requirements related to COVID-19 related hardships (which expired on October 1, 2022) have been removed.

Language Access Requirements

While specific regulatory language was not included in the body of the proposed regulation or commentary, the CFPB, in the preamble, proposes certain language access requirements. These proposed requirements include the following:

  • Servicers must provide Spanish-language translations of certain written communications to all borrowers.
    • These communications would include: (1) written early intervention notices under § 1024.39(b), (2) the § 1024.39(e)(2) proposed written notices for borrowers whose forbearances will end soon; and (3) written loss mitigation notices under § 1024.41.
  • Upon request, servicers must make certain written and oral communications available in multiple languages (determined by the servicer) and to provide those translated or interpreted communications.
    • The written communications subject to this requirement would be the same as those listed above.
    • In addition, this requirement would apply to the following oral communications: (1) live contact communications required under § 1024.39(a) and § 1024.39(e); and (2) oral communications made in compliance with a servicer’s continuity of contact requirements under § 1024.40.
  • Servicers must include five brief translated statements (in languages other than English or Spanish, that are used most frequently by the servicer’s borrowers) in certain written communications notifying borrowers of the availability of the translations and interpretations, and how they can be requested.
  • Upon borrower request, the servicer must provide translation or interpretation services of certain written and oral communications in languages the servicer knows or should have known were used in marketing to the borrower for that mortgage loan.

{NOTE: It is not clear in what circumstances a servicer “should have known” that a borrower was marketed to in a particular language prior to origination. This requirement seems impracticable.}

Credit Reporting

The proposed rule includes a request for comment on whether regulatory changes should be made with respect to credit reporting for borrowers undergoing a loss mitigation review. The preamble states that the CFPB is considering solutions that could include adding to or amending CFPB regulations to ensure servicers report accurate information or amending furnisher guidance to improve or enhance the guidance provided to furnishers on how to report tradeline data.

In that aim, the CFPB requests comments on the following issues:

  • What servicer practices may result in the furnishing of inaccurate or inconsistent information about mortgages undergoing loss mitigation review?
  • What protocols or practices do servicers currently use to ensure that mortgages are being reported accurately and consistently? Are there specific protocols or practices for ensuring loans in forbearance or borrowers affected by a natural disaster are reported accurately and consistently?
  • Would it be helpful to have a special code that would be used to flag all mortgages undergoing loss mitigation review in tradeline data?
  • What steps should the CFPB take to ensure servicers furnish accurate and consistent tradeline data?

Continuity of Contact

The proposed rule makes minor, related changes to the continuity of contact rules in § 1024.40. These changes primarily align the enumerated duties of the contact personnel with the revised loss mitigation requirements.

Error Resolution Amendments

The proposed rule makes minor, related changes to the error resolution procedures found in 12 CFR § 1024.35. The proposal clarifies the scope of the requirement to include: (1) advancing the foreclosure process, in violation of the foreclosure protections in § 1024.41; and (2) failing to make an accurate loss mitigation determination on a borrower’s mortgage loan. We note that these changes have no practical effect on the scope of the rule, as scope provisions in § 1024.35(b) still include the catch-all provision of “Any other error relating to the servicing of a borrower’s mortgage loan”.

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As detailed above, these proposed amendments will create significant operational hurdles for the industry, and leave many concerning questions unanswered. It is critical that industry make its voice heard during the comment period.

Reid F. Herlihy

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CFPB Releases Mortgage Servicing Report on Borrower Experiences During the COVID-19 Pandemic

The complexity of loss mitigation programs designed to assist distressed mortgage borrowers during the COVID-19 pandemic may have been too daunting for many borrowers to seek help, the CFPB said, in a report released last week.

“Many respondents faced challenges accessing these programs even among those who reported communicating with their servicer,” the CFPB said. “Our findings suggest that the complexity of processes for receiving help with payment difficulties may have created barriers to accessing loss mitigation for some borrowers, and these barriers may have been relatively higher for distressed borrowers.”

The agency used data from the 2020 American Survey of Mortgage Borrowers to analyze distressed borrower experiences. The bureau analyzed a sample of 1,740 respondents, covering the time period of October 2020 to February 2021.

The report highlighted the following primary findings:

  • Respondents most commonly reported difficulty accessing loss mitigation programs. Respondents stated they did not think they qualified for certain options, or did not know how to apply for programs.
  • More than 1 in 5 distressed borrowers reported speaking a language other than English at home.
  • Around 1 in 15 reported both speaking a language other than English at home, and speaking English less than very well.
  • Among distressed respondents who enrolled in forbearance plans, more than one-third were unsure of what would happen at the end of the forbearance plan, and how they would repay suspended payments.

In analyzing problems reported by distressed borrowers, the CFPB reported that:

  • 47.9% said they did not think they qualified for any program.
  • 46.1% said they did not know how or where to apply for programs.
  • 24.5% reported that the application process was too much trouble.
  • Various other problems were reported at lower percentages.
  • For distressed borrowers with limited English proficiency, the report stated:
  • More than 41% of respondents stated that the application process for programs was too much trouble.
  • These borrowers were more likely to experience challenges described as “lender/servicer was unable or unwilling to help me,” “not knowing how to apply for programs,” “turned down for the programs I applied to,” “did not think I qualified for any program,” and “did not feel comfortable talking with the lender/servicer representative.”
  • The report also analyzed the experiences of borrowers in two categories: (1) those who had direct discussions with their servicers about concerns or difficulties, and (2) those who had concerns or difficulties but did not have any direct discussion with their servicers. This section of the report offered inconsistent results in terms of borrower satisfaction. However, the report did conclude that borrowers who directly communicated with their servicers about payment difficulties received more loss mitigation offers than those who did not.
  • On the topic of forbearances, the CFPB reported generally positive feedback on borrower satisfaction, but noted certain areas for improvement. The findings included:
  • Almost 60% of the borrowers who received forbearances said they were very satisfied with the process.
  • More than one-third of the respondents who received forbearance were unclear about what would happen at the end of the period and how to repay suspended payments when the period ended.
  • Overall, the CFPB said the results show that many distressed borrowers had trouble applying for loss mitigation programs during COVID-19. However, those who did succeed, and those who communicated directly with their servicers, were more likely to be satisfied with the results.
  • We note that the timing of this report indicates it is intended as further justification for the CFPB’s proposed rule (which was just issued on July 10th) to amend the Regulation X mortgage servicing rules. The Bureau’s stated purpose for the proposed rule is to streamline and improve the loss mitigation process, in light of lessons learned during the COVID-19 pandemic.

Reid F. Herlihy

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7th Circuit Holds ECOA Protections Apply to Prospective Applicants

In a major win for the CFPB, in CFPB v Touchstone Financial, a panel of the U.S. Court of Appeals for the Seventh Circuit (7th Circuit) recently held that the Regulation B provision prohibiting discrimination under the Equal Credit Opportunity Act (ECOA) against prospective applicants is consistent with the statute. In so holding, the Seventh Circuit reversed the decision of the district court, which had granted Townstone’s motion to dismiss the CFPB’s complaint on the grounds that the ECOA applies to applicants and not to prospective applicants. While the ECOA refers only to applicants, Regulation B includes prospective applicants and, in particular, prohibits acts or practices directed at prospective applicants that could discourage a reasonable person, on a prohibited basis, from applying for credit.

Background

After the ruling of the district court, the CFPB appealed to the Seventh Circuit. In its brief, the CFPB argued that the court should apply the Chevron framework and defer to its interpretation of the ECOA in Regulation B that the statute applies to not only applicants, but also prospective applicants, even though the ECOA only refers to applicants. At the time, under the Chevron framework, named after the U.S. Supreme Court’s 1984 decision in Chevron, U.S.A., Inc. v. Nat. Res. Def. Council, Inc., a court would typically use a two-step analysis to determine if it must defer to an agency’s interpretation. In step one, the court would look at whether the statute directly addresses the precise question before the court. If the statute adopted by Congress was clear on the issue before the court, the court had to follow the Congressional intent. However, if the statute was ambiguous on, or simply did not address, the issue before the court, the court would proceed to step two. In step two, the court had to defer to the agency’s interpretation as long as it was reasonable, even though the court would have reached a different interpretation. The CFPB’s reliance on Chevron was interesting, given that at time the U.S. Supreme Court had agreed to hear the case Loper Bright Enterprises, et al. v. Raimondo, in which the petitioners directly challenged the continued viability of the Chevron framework.

The Supreme Court later agreed to hear a second case, Relentless Inc. v. Department of Commerce, based on the same law at the center of the Loper Bright case, with the petitioners also challenging the Chevron framework. As previously reported, in June 2024 the Supreme Court overturned the Chevron framework, eliminating the deference concept under the framework, but leaving intact the deference framework under the Court’s ruling in the 1944 case Skidmore v. Swift & Co., under which the deference an agency receives depends on how persuasive its interpretation is. In making that assessment, a court looks at the thoroughness of the agency’s investigation of the issues, the validity of its reasoning, the consistency of its interpretation over time, and “other persuasive powers” of the agency. The Loper Bright ruling represents a sea change in how courts will assess federal agency rulemaking. On August 6, 2024, we will hold a 90 minute webinar roundtable featuring three administrative law professors who are among the country’s leading experts on the Chevron framework. To register, click here.

In its response to the CFPB’s brief, Townstone focused on the fact that the ECOA refers only to applicants and not prospective applicants. Among other points, Townstone argued that:

  • Under step one of the Chevron framework, the ECOA unambiguously bars discrimination only against “applicants” with respect to any aspect of a “credit transaction.” The ECOA definition of “applicant” is limited to an identifiable person who requests credit from a creditor. Adding “prospective” to “applicant,” as the CFPB does in its anti-discouragement rule, obliterates this limitation.
  • While the ECOA does not define “discrimination,” Regulation B defines “discriminate against an applicant” as “treat[ing] an applicant less favorably than other applicants.” Thus, to discriminate on a prohibited basis, a creditor must treat an applicant differently than other applicants because of the applicant’s race or other protected characteristics. “Discourage” is a far broader term that is much less susceptible to an objective definition than “discrimination.” Discrimination under section 1691(a) turns on the actions of the creditor and is fact-based and objective. Discouragement, under the rule, turns entirely on the listener’s subjective reaction.
  • Congress did not authorize the anti-discouragement rule by amending the ECOA in 1991 to add a referral provision that states specified agencies shall “refer [a] matter to the Attorney General whenever the agency has reason to believe that 1 or more creditors has engaged in a pattern or practice of discouraging or denying applications for credit in violation of section 1691(a) of this title.” This provision should be read to require referrals to the Attorney General only when an agency believes that creditors are engaging in a pattern or practice of turning away individuals who are requesting credit because of their race or other prohibited basis.
  • Extending the ECOA to prohibit the discouragement of prospective applicants is not a permissible interpretation of the statute because it fundamentally changes the ECOA’s core liability provision, section 1691(a), under which a creditor is liable only by taking a specific action—discrimination—against a known individual—an applicant—with whom the creditor knows it is dealing in a credit transaction. The anti-discouragement rule changes this dynamic entirely by imposing liability on creditors simply for making public statements that, based on the listener’s subjective reaction, would discourage them from seeking credit from anyone.

As we previously reported, amicus briefs were filed supporting both the position of Townstone and the position of the CFPB. Oral arguments before a three judge panel of the 7th Circuit occurred in December 2023.

During the oral argument, the CFPB attorney focused on the ECOA delegation of authority provision, which provides:

“The Bureau shall prescribe regulations to carry out the purposes of this subchapter. These regulations may contain but are not limited to such classifications, differentiation, or other provision, and may provide for such adjustments and exceptions for any class of transactions, as in the judgment of the Bureau are necessary or proper to effectuate the purposes of this subchapter, to prevent circumvention or evasion thereof, or to facilitate or substantiate compliance therewith.”

The attorney argued that through this provision Congress empowered the CFPB to address any loophole in the ECOA. Chief Judge Sykes disagreed that the provision conveyed broad authority on the CFPB regarding the scope of ECOA, noting that the prevention of circumvention or evasion language is tethered to language that precedes it. Chief Judge Sykes appeared to believe the provision gave the CFPB the power to make adjustments and exceptions to a class of transactions to prevent the circumvention or evasion of the statutory non-discrimination provision, but did not give the CFPB the power to expand the statutory non-discrimination provision.

Judge Rovner asked the attorney for Townstone that if the anti-discouragement provision in Regulation B is held to apply to only applicants, wouldn’t that permit lenders to place “Whites Only” signs at the entrance to their offices. The attorney responded that such conduct would be prohibited by the Fair Housing Act and the Illinois Human Rights Act, and considered the CFPB assertion to be a fanciful hypothetical. Judge Rovner nonetheless raised a concern of the result in a non-mortgage credit situation, in which the Fair Housing Act does not apply. The attorney for Townstone countered that if there is a loophole in the ECOA regarding prospective applicants, then it is for Congress to fix the loophole.

Judge Ripple did not ask any questions during the oral argument, which complicated the assessment of how the Seventh Circuit would rule.

The Ruling

The decision of the Seventh Circuit three judge panel was unanimous, and written by Judge Rovner. The opinion only addresses the overruling of the Chevron framework in a footnote, noting that “[w]e approach this case as presenting a question of statutory interpretation subject to our de novo review.”

The opinion provides that “[a]n analysis of the text of the ECOA as a whole makes clear that the text prohibits not only outright discrimination against applicants for credit, but also the discouragement of prospective applicants for credit.” Supporting this position, the court points to the ECOA provision that grants the CFPB “with the authority to issue regulations “necessary or proper to effectuate the purposes of this title” or “to prevent circumvention or evasion thereof.”“

The court then makes the following points in support of its ruling:

  • “In endowing the Board with authority to prevent “circumvention or evasion,” Congress indicated that the ECOA must be construed broadly to effectuate its purpose of ending discrimination in credit applications.”
  • “When Congress amended its civil liability provision so that the regulatory agencies responsible for enforcing the ECOA would be required to refer a case to the Attorney General whenever the agency believed a creditor “has engaged in a pattern or practice of discouraging … applications for credit in violation of section 1691(a) of this title,” 15 U.S.C. § 1691e(g), Congress thus confirmed that discouraging an application for credit is a violation of the ECOA.”
  • “Reading the statutory language as a whole, including the strong congressional direction that the cognizant agencies and the Department of Justice prevent “circumvention and evasion,” makes clear that the prohibition against discouragement must include the discouragement of prospective applicants. The term “applicant” cannot be read in a crabbed fashion that frustrates the obvious statutorily articulated purpose of the statute.”
  • “Indeed, the ECOA’s scope of prohibition prohibits discrimination “with respect to any aspect of a credit transaction.” 15 U.S.C. § 1691(a) (emphasis added). Congress well understood that “any aspect of a credit transaction” had to include actions taken by a creditor before an applicant ultimately submits his or her credit application.”

The court remanded the case to the district court. In so doing the court made clear that it did not “express an opinion on the underlying merits of the CFPB’s claim.” It left such analysis to the district court.

Our Take

Respectfully, we disagree with the court’s decision. The ECOA defines “applicant” as follows: “The term “applicant” means any person who applies to a creditor directly for an extension, renewal, or continuation of credit, or applies to a creditor indirectly by use of an existing credit plan for an amount exceeding a previously established credit limit.” 15 U.S.C. § 1691a(b). Regulation B sets forth the following definition: “Applicant means any person who requests or who has received an extension of credit from a creditor, and includes any person who is or may become contractually liable regarding an extension of credit.” 1002.2(e). The express inclusion of any person who requests credit in the Regulation B definition appears to be a fair interpretation of the ECOA definition of “applicant.” A person who is requesting credit would appear to be an applicant for credit.

At the time the ECOA was enacted in 1974 there apparently was a disturbing practice at some consumer financial services providers that did not want to extend credit to a protected class member because of their protected class status. When the member visited an office of a consumer financial services provider to request credit, apparently in various cases the representative would say something to the effect that they were going to be denied, so it was best that they not proceed with an application to avoid the embarrassment of being denied. That is discouraging an applicant in a discriminatory manner—the individual was at the office of the consumer financial services provider to request credit, and they were discouraged from doing so because of their protected class status, which is a prohibited basis of discrimination. Apparently a continued concern regarding the discouraging of applicants led Congress to amend ECOA in 1991 to require specified agencies to refer a case to the Attorney General whenever the agency believed a creditor “has engaged in a pattern or practice of discouraging … applications for credit,”

The discouragement language in the ECOA must be read in the context of the underlying concern. Congress wanted to prohibit creditors, because of a prohibited basis, from discouraging parties who were requesting credit from proceeding with an application. The goal of Congress can be interpreted by limiting the application of the ECOA to applicants, which appear to include persons requesting credit. There is no need to expand the ECOA beyond its intended scope by determining that it applies to prospective applicants to reach such conduct.

As the court observed, the ECOA authorizes the CFPB to adopt regulations that “are necessary or proper to effectuate the purposes of this subchapter, to prevent circumvention or evasion thereof . . . .” However, that provision does not grant the CFPB authority to stretch the reach of the ECOA beyond its statutory bounds, and its statutory bounds limit its reach to applicants. An important factor here is if the ECOA applies to prospective applicants, exactly who is a prospective applicant? Additionally, exactly what conduct rises to the level of discouraging this undefined prospective applicant from seeking credit? The answers are not found in the ECOA, in the court’s opinion or in Regulation B. When a court seeks to interpret a statute that will result in concepts that are not defined by the statute they are interpreting, and places regulated entities in unchartered waters, perhaps the court should consider that Congress never intended to set sail into those waters.

A significant factor that the court did not focus on, even though argued by Townstone in its brief and in oral arguments, is the very different language of a sister statute, the Fair Housing Act. As noted by Townstone, section 3604 of the Fair Housing provides:

“As made applicable by section 3603 of this title and except as exempted by sections 3603(b) and 3607 of this title, it shall be unlawful—

. . .

(c)To make, print, or publish, or cause to be made, printed, or published any notice, statement, or advertisement, with respect to the sale or rental of a dwelling that indicates any preference, limitation, or discrimination based on race, color, religion, sex, handicap, familial status, or national origin, or an intention to make any such preference, limitation, or discrimination.”

Thus, when Congress seeks to prohibit discriminatory advertising or statements, it knows how to do so.

Additionally, section 3605 of the Fair Housing Act provides as follows:

(a) In general

It shall be unlawful for any person or other entity whose business includes engaging in residential real estate-related transactions to discriminate against any person in making available such a transaction, or in the terms or conditions of such a transaction, because of race, color, religion, sex, handicap, familial status, or national origin.

(b) “Residential real estate-related transaction” defined

As used in this section, the term “residential real estate-related transaction” means any of the following:

(1) The making or purchasing of loans or providing other financial assistance—

(A) for purchasing, constructing, improving, repairing, or maintaining a dwelling; or

(B) secured by residential real estate.

(2) The selling, brokering, or appraising of residential real property.” (Emphasis added.)

This language is very different from the language in ECOA, as it prohibits discriminating against any person “in making available” a residential mortgage loan or other covered service. This also demonstrates that when Congress seeks to reach pre-application activity, it knows how to do so.

The fact that Congress used very different language in the ECOA that focuses on applicants means that Congress intended the ECOA solely to apply to applicants, and not to pre-application activity.

We are sensitive to the issue that interpreting the ECOA solely to apply to applicants could allow inappropriate behavior in the pre-application stage, particularly for credit not also covered by the Fair Housing Act, which does reach pre-application activity. However, as noted by Townstone, if there is a gap in the coverage of the ECOA with regard to pre-application activity, that is a policy matter that is the purview of Congress, and not the purview of a federal agency or federal court to address by expanding the statute beyond the boundaries set by Congress.

What Happens Next

Townstone now must choose its path forward. It could accept the court’s opinion and turn its attention to addressing the merits of the CFPB’s claim in the district court. We understand that Townstone believes it has evidence that can refute the CFPB’s claims regarding the discouragement of prospective applicants. Townstone could opt to seek an en banc rehearing before the entire Seventh Circuit. The Seventh Circuit has discretion in whether to grant such a request, and such requests often are not granted. Townstone also could seek review at the Supreme Court, which also has discretion regarding whether it would accept the case.

If Townstone seeks Supreme Court review, and the Supreme Court accepts the case, that likely would be a bad omen for the CFPB. As noted above, based on the Court’s decision in Loper Bright, the CFPB will not receive Chevron deference, and would have to argue for Skidmore deference. The CFPB may experience a strong headwind in trying to persuade the conservative majority of the Court that it should interpret the ECOA to apply to prospective applicants.

The opinion of the Seventh Circuit panel is dated July 11, 2024. Townstone has 45 days from then to request a rehearing en banc before the entire Seventh Circuit, and 60 days from then to request Supreme Court review of the panel’s decision.

Richard J. Andreano, Jr.

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Texas District Court Preliminarily Enjoins FTC’s Noncompete Ban for Named Plaintiffs

As we previously reported, here, the Federal Trade Commission (FTC) issued a final rule on April 23, 2024, that would prevent most employers from enforcing noncompete agreements against workers, effective September 4, 2024. As a result of a preliminary injunction entered against the Rule by a Texas federal court, employers are in limbo as to whether the rule will impact their businesses.

The same day the FTC issued its Rule, a tax consulting firm based in Texas, Ryan LLC, sued the FTC in U.S. District Court for the Northern District of Texas challenging the FTC’s authority to issue such a rule. The U.S. Chamber of Commerce and others intervened as plaintiffs. A related lawsuit was filed in the Eastern District of Texas federal court the next day, but that lawsuit was stayed based on the earlier filing in the Northern District.

On the eve of Independence Day, July 3, 2024, Judge Ada Brown of the Northern District of Texas issued a stay and a preliminary injunction against the FTC, halting implementation of the rule. The Judge wrote in her order that the plaintiffs “are likely to succeed on the merits that the FTC lacks statutory authority to promulgate the noncompete rule, and that the rule is arbitrary and capricious.” Judge Brown declined to issue a nationwide preliminary injunction, limiting the order to the named plaintiffs, but stated that such injunctive relief “serves the public interest.”

The judge further agreed with the plaintiffs that compliance with the rule would cause them to suffer non-recoverable costs, including increased risk that departing workers may take the company’s intellectual property and proprietary methods to its competitors, which cannot be effectively mitigated by trade secret laws and non-disclosure agreements. Further, companies would have to expend significant time and resources to counteract the rule and update all existing agreements.

Judge Brown expects to issue a final decision on the merits of the lawsuit by August 30, 2024, which, based on the reasoning in her preliminary injunction, is expected to permanently enjoin the FTC from implementing the rule, at least as it pertains to the named plaintiffs. In a similar lawsuit against the FTC, pending in the U.S. District Court for the Eastern District of Pennsylvania, the court’s decision regarding the request for a preliminary injunction against the Rule is expected by July 23, 2024.

Notably, Judge Brown’s order comes just days after the U.S. Supreme Court’s opinion in Loper Bright Enterprises v. Raimondo, striking down the 40-year old precedent of Chevron deference under which courts deferred to agency interpretations of ambiguous statutory language. The Supreme Court ruling expands the courts’ authority to independently interpret statutes without deference to the administrative agencies that enforce them. Given that Judge Brown’s final ruling likely hinges on her interpretation of the FTC’s statutory authority to issue the rule, Loper Bright would seem to support a permanent injunction against the rule.

With the September 4, 2024, nationwide effective date for the rule approaching, employers are currently left with uncertainty as to the potential impact the rule will have on them, as well as the possibility that the Pennsylvania court could rule differently than the Texas court. In the meantime, Ballard Spahr’s Labor and Employment Group will continue providing real time guidance to employers on their use of noncompetes and other restrictive covenants to protect legitimate, proprietary business interests.

Cecilia Nieto & Brian D. Pedrow

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CFPB: Confidentiality Agreements Can’t Deter Whistleblowers From Reporting Alleged Violations

The CFPB warned on July 24, 2024, that confidentiality agreements that employees of a company are required to sign likely violate federal law if those agreements imply that employees could face retaliation from their employer or co-workers if they report what they perceive as unlawful behavior or wrongdoing at the company.

“If, due to a confidentiality agreement, an employee perceives that they could suffer adverse consequences for cooperating in such circumstances, then the CFPB’s ability to carry out its statutory functions to protect consumers is compromised,” the Bureau said, in a circular.

The CFPB added, “Confidentiality agreements that limit the ability of employees to communicate with government enforcement agencies or speak freely with investigators undermine the CFPB’s ability to enforce the law.”

The CFPB said that Section 1057 of the Consumer Financial Protection Act “(a) provides that “[n]o covered person or service provider shall terminate or in any other way discriminate against, or cause to be terminated or discriminated against, any covered employee or any authorized representative of covered employees” for: (1) providing or being about to provide information to the employer, the CFPB, or any other state, local, or federal government authority or law enforcement agency relating to a violation of, or any act or omission that the employee reasonably believes to be a violation of, a law subject to the CFPB’s jurisdiction or prescribed by the CFPB; (2) testifying or intending to testify about such a potential violation; (3) objecting to or refusing to participate in any activity, policy, practice, or assigned task that the employee reasonably believes to be such a violation; or (4) filing any lawsuit or instituting any other proceeding under any federal consumer financial law.”

CFPB Director Rohit Chopra said, “The law enforcement community uncovers serious wrongdoing by financial firms through whistleblower tips. Companies should not censor or muzzle employees through nondisclosure agreements that deter whistleblowers from coming forward to law enforcement.”

The Bureau said that employers may require confidentiality agreements for legitimate purposes, such as to ensure the protection of a company’s confidential information and its trade secrets. However, depending on how they are worded, and the context in which an employee is required to sign or warned about violations of confidentiality, such agreements might lead an employee to reasonably believe that they could be sued or subject to an adverse employment action if they disclosed suspected violations of federal consumer financial law to government investigators. Such confidentiality agreements violate federal law, the CFPB said.

We disagree with the CFPB’s expansive reading of Section 1057(a). The plain text of that provision clearly focuses not on actions taken at the inception of the employment relationship, and not on actions that are uniformly taken with all employees in the routine course of their employment, but rather on adverse actions that are taken on or after the point in time when an employer knows that a specific employee is or will imminently become a whistleblower.

Nonetheless, in light of the Bureau’s focus on and warning regarding “overly broad” confidentiality agreements that could be viewed as having a chilling effect on employees or former employees reporting legitimate concerns, financial institutions should review their confidentiality agreements to ensure that they have appropriate language advising employees that nothing in those agreements prohibits or restricts their rights to report concerns to government enforcement agencies, such as the CFPB, the SEC and the DOJ, as well as state and local agencies. Ballard Spahr’s Consumer Financial Services Group, as well as its Labor & Employment Group regularly work with our clients to review and update their confidentiality and other restrictive covenants agreements for compliance and enforceability.

John L. Culhane, Jr. & Jay Zweig

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U.S. Supreme Court Deals Blow to Agency In-House Enforcement Powers

The U.S. Supreme Court’s 6-3 decision in Securities and Exchange Commission v. Jarkesy, et al. significantly curtails the SEC’s enforcement powers by ruling that the agency’s administrative adjudication of securities fraud cases seeking civil penalties violates the Seventh Amendment right to a jury trial.

This landmark ruling deals a major blow to the SEC’s ability to bring enforcement actions in its in-house administrative forum rather than federal court. It also could be a major blow to other agencies that rely on in-house administrative forums.

The case arises from the SEC’s enforcement action against George Jarkesy and his firm, Patriot28, LLC. The SEC alleged that Jarkesy and Patriot28 engaged in fraudulent activities, including misrepresenting investment strategies, lying about the identity of Patriot28’s auditor and prime broker, and inflating the value of Patriot28’s funds to collect larger management fees. Relying on the authority granted by Dodd-Frank, the SEC opted to adjudicate the matter in-house, leading to, among other sanctions, a $300,000 civil penalty.

The Dodd-Frank Act’s expansion of the SEC’s administrative enforcement powers was a significant change from the agency’s prior practice. Historically, the SEC could impose civil penalties only through federal court actions, where defendants had the right to a jury trial. By allowing the SEC to impose these penalties in-house, without a jury, Congress granted the agency a powerful new tool to police securities fraud.

The Court also stressed that the SEC was seeking civil penalties, a traditional legal remedy akin to punitive damages. The Court explained that civil penalties are designed to punish and deter misconduct, not to compensate victims or restore the status quo, placing them squarely on the legal side of the legal-equitable divide. And because civil penalties were “a type of remedy at common law that could only be enforced in courts of law,” the Court concluded that the SEC’s action implicated the Seventh Amendment jury trial right.

Underscoring that “Congress cannot conjure away the Seventh Amendment by mandating that traditional legal claims be taken to an administrative tribunal,” the Court held fast to the line between private rights requiring a jury trial and genuine public rights subject to agency adjudication.

At the same time, the Court’s opinion leaves open several key questions. The Court did not define the precise contours of which agency enforcement actions will require a jury trial going forward, and the “public rights” doctrine remains murky. The ruling also does not impact the SEC’s ability to pursue other remedies administratively, such as cease-and-desist orders or bars from the securities industry. However, losing the powerful tool of civil penalties in its in-house forum is still a significant blow to the agency.

More broadly, the decision may open the door to further constitutional challenges to agency enforcement proceedings, not just at the SEC. Many agencies beyond the SEC have relied on the public rights doctrine to adjudicate civil penalties without juries, and those procedures could now be ripe for attack under the Seventh Amendment

In the coming weeks, we will be researching and blogging about the extent to which the reasoning of the Jarkesy opinion applies to other federal agencies (CFPB, FTC, FCC, federal banking agencies ) that regulate, supervise and/or enforce federal consumer financial services laws against banks and other consumer financial services providers. In doing that research, we will also determine whether these other agencies might be vulnerable to using ALJs on the following two other grounds upon which certiorari was granted, but which the Supreme Court did not reach — namely:

  1. Whether statutory provisions that authorized the SEC to choose to enforce the securities laws through an agency adjudication instead of filing a district court action violate the nondelegation doctrine.
  2. Whether Congress violated Article II of the Constitution by granting for-cause removal protection to ALJs in agencies whose heads can only be removed by the President for cause.

In the meantime, we would expect the other agencies to tread very carefully in their use of ALJs.

James V. Masella III, Brad Gershel, Alan S. Kaplinsky & Brian Turetsky

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CSBS to Release Enhancements to Nationwide Multistate Licensing System & Registry (NMLS)

The Conference of State Bank Supervisors (CSBS) will release the first phase of major enhancements to the Nationwide Multistate Licensing System & Registry (NMLS) on July 20.

The updates are intended to address certain issues industry users have raised, including allowing users to create a username and password without having to contact the NMLS Call Center, and allowing users who have multiple NMLS accounts to access their accounts using one username and password.

Other enhancements include:

  • A new login process, including a newly designed screen.
  • A new built-in survey that allows NMLS users to provide feedback anytime.
  • A new method that makes it easier for companies to create an NMLS account on behalf of an individual employee.

Industry members are well aware that CSBS has been talking about NMLS modernization for many years, dating back to their first attempt at a system overhaul, dubbed “NMLS 2.0”, which never came to fruition. These enhancements certainly are welcome and hopefully are just the precursor to the more substantial enhancements that industry members and regulators alike have identified as needed.

John D. Socknat

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FHA Finalizes Enhancements to Its 203(k) Rehabilitation Mortgage Loan Program

The Federal Housing Administration (FHA) recently finalized enhancements to its 203(k) rehabilitation mortgage loan program in Mortgagee Letter 2024-13. This action follows the FHA proposing enhancements to the program last Fall in a draft Mortgagee Letter. Lenders must implement the enhancements for FHA case numbers assigned on or after November 4, 2024.

The 203(k) rehabilitation loan program provides for FHA insured mortgage loans that consumers may use to purchase a home or refinance an existing loan, and that include funds to pay for the repair or rehabilitation of the home. In the Mortgage Letter, the Department of Housing and Urban Development (HUD) states that it:

“[I]s committed to ensuring that its programs are as effective as possible for increasing the supply of affordable housing in the United States, particularly in underserved communities. An important means of expanding available supply is through the restoration and modernization of existing homes. As the country’s housing stock ages, property renovation is important to preserving the quality and affordability of Single Family Properties.”

The use of the 203(k) program has declined in recent years, and the enhancements are intended to expand the ability of consumers to use the program for home repair and rehabilitation purposes. Addressing this issue, the Mortgage Letter provides:

“To support the Biden-Harris Administration goals of increasing the stock of affordable housing and expanding homeownership opportunities, FHA is making improvements to the Section 203(k) program to make it easier for Mortgagees to originate, and for Borrowers to complete, needed or desired rehabilitation of their homes.”

There are two 203(k) programs. The Standard Program provides funds for remodeling or repair of homes, with a $5,000 minimum repair cost, and the use of an FHA-approved Consultant is required. The Limited Program provides funds for minor remodeling and non-structural repairs (such as energy-efficient improvements), and the use of an FHA-approved Consultant is permitted but not required. Both Programs were modified by the enhancements.

Among the enhancements to the programs are the following:

  • Increasing the maximum total rehabilitation costs under the Limited Program from $35,000 to $75,000. FHA had proposed a limit of $50,000, with a limit of $75,000 for high-cost areas. Additionally, FHA will evaluate the limit on an annual basis.
  • Permitting the inclusion of the approved Consultant’s fee in the mortgage amount under the Limited Program (this is already permitted under the Standard Program).
  • To account for longer repair and rehabilitation timeframes common for more complex projects, increasing the allowable rehabilitation period from six to twelve months under the Standard Program, and from six to nine months under the Limited Program. FHA had proposed increasing the rehabilitation period under the Standard Program and Limited Program to ten months and seven months, respectively.
  • Increasing the permissible mortgage payment reserve period under the Standard Program, which is a reserve to provide for mortgage loan payments during the period that the property cannot be occupied because of the rehabilitation, from six to twelve months of mortgage payments. FHA had proposed increasing the reserve period to 10 months.
  • Updating the Consultant fee schedule to provide for higher maximum fee amounts.
  • Modifying one of the factors that determine whether a repair is considered a “major” repair that is not permitted under the Limited Program to increase the period that the repair prevents the borrower from occupying the property from more than 15 days to more than 30 days.

To allow the borrower to make payments to a supplier or manufacturer, FHA had proposed to increase the allowable initial draw amount under the Standard Program to include up to 75% of material costs, instead of the current 50% limit. This proposal was not adopted.

When applications for approval as an FHA 203(k) Consultant are approved, the approval will now be valid for two years, and the Consultant will be provided with a recertification due date. Additionally, with regard to the Limited Program, when using an FHA approved 203(k) Consultant, the lender will be required to select a Consultant that is active on the FHA 203(k) Consultant Roster for the state in which the property is located, and the lender must not use a Consultant who has demonstrated previous poor performance based on reviews conducted by the lender. Similar requirements already exist for Consultants under the Standard Program.

In an announcement of the enhancements, HUD Acting Secretary Adrianne Todman stated “HUD has programs not only to help families purchase a house, but to help them repair their homes.” “Today, we are modernizing and expanding this program, helping both homebuyers and homeowners fix up their homes. This is one more action the HUD and the Biden-Harris Administration is taking to improve our country’s housing supply.”

Richard J. Andreano, Jr.

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Federal Agencies Finalize Reconsideration of Value Guidance

A group of federal agencies have finalized reconsideration of value (ROV) guidance for residential real estate valuations. The agencies are the Comptroller of the Currency (OCC), Consumer Financial Protection Bureau (CFPB), Federal Deposit Insurance Corporation (FDIC), Federal Reserve Board (Board) and National Credit Union Administration (NCUA). The guidance will be effective upon publication in the Federal Register. We previously reported on the proposed guidance.

Background

In the preamble to the ROV guidance, the agencies advise that for “purposes of the final guidance, an ROV is a request from the financial institution to the appraiser or other preparer of the valuation report to reassess the report based upon potential deficiencies or other information that may affect the value conclusion.”

The agencies note that they had received questions and comments from financial institutions and other industry stakeholders on ROVs. In particular, stakeholders highlighted the uncertainty in the industry on how ROVs intersect with appraisal independence requirements and compliance with federal consumer protection laws, including those related to nondiscrimination. Nevertheless, the agencies acknowledge that, prior to the efforts to adopt the joint ROV guidance, they had not, collectively, issued guidance specific to ROV processes.

The agencies advise that the guidance is intended to (1) highlight risks associated with deficient residential real estate valuations, (2) describe how financial institutions may incorporate ROV processes and controls into risk management functions, and (3) provide examples of ROV policies and procedures that institutions may choose to implement. The agencies determined that there is no one-size-fits-all approach and that it is important to maintain a high-level, principles-based approach for the guidance to help ensure the guidance will be useful and relevant for a diverse range of institutions and circumstances. Addressing the focus of the guidance, the agencies state that the considerations and principles included in the guidance are targeted towards single 1-to-4 family residential transactions and, thus, are best suited for those types of transactions.

The agencies note that they considered the comments recommending the development of model forms, model policies, checklists, and other standardized documents. The agencies agree such documents may have utility and will consider future development of model forms.

The agencies received comments supporting the use of automated valuation models with ROVs, and also discouraging reliance solely on automatic review tools in an ROV. The agencies decided to neither promote nor discourage the use of a particular method or tool as part of an ROV process.

With regard to complaints received by lenders about appraisal bias, the agencies state that the “final guidance does not state that ROVs are the sole tool to address bias complaints, nor does the final guidance direct institutions to use a specific tool to address bias complaints.” Nevertheless, the agencies made a clarifying edit to the final guidance to provide that, if an ROV request includes allegations of discrimination, an institution may consider, in addition to processing the ROV, referring the allegations through a separate process that the institution may have to respond to discrimination complaints.

With regard to appraiser independence requirements, the agencies state that they considered the comments received on the subject and:

“reiterate that institutions are responsible for maintaining standards of independence for all real estate lending activity, including ROVs, as required by the agencies’ appraisal regulations and, as applicable, USPAP. For small institutions or branches, an institution may be able to demonstrate clearly that it has prudent safeguards in place when absolute lines of independence cannot be achieved, due to, for example, limited staff.”

Guidance

Deficiencies in Collateral Valuations. The guidance provides that “[c]ollateral valuations may be deficient due to prohibited discrimination; errors or omissions; or valuation methods, assumptions, data sources, or conclusions that are otherwise unreasonable, unsupported, unrealistic, or inappropriate.” (Footnote omitted.) The guidance addresses the potential for deficiencies in valuations to present various challenges for consumers and financial institutions.

Use of Third Parties. The guidance provides that a financial institution’s use of third parties in the valuation review process does not diminish its responsibility to comply with applicable laws and regulations. Whether valuation review activities and the resolution of deficiencies are performed internally or via a third party, (1) financial institutions supervised by the Board, FDIC, NCUA, and OCC are required to operate in a safe and sound manner and in compliance with applicable laws and regulations, including those designed to protect consumers, and (2) the CFPB expects financial institutions to oversee their business relationships with service providers in a manner that ensures compliance with federal consumer protection laws.

ROV Requests. With regard to ROV requests, the guidance provides:

  • An ROV request made by the financial institution to the appraiser or other preparer of the valuation report encompasses a request to reassess the report based upon deficiencies or information that may affect the value conclusion.
  • A financial institution may initiate a request for an ROV because of the financial institution’s valuation review activities or after consideration of information received from a consumer through a complaint, or request to the loan officer or other lender representative.
  • Regardless of how the request for an ROV is initiated, a consumer inquiry or complaint could be resolved through a financial institution’s independent valuation review or other processes to ensure credible appraisals and evaluations.
  • An ROV request may include consideration of comparable properties not previously identified, property characteristics, or other information about the property that may have been incorrectly reported or not previously considered, which may affect the value conclusion. To resolve deficiencies, including those related to potential discrimination, financial institutions can communicate relevant information to the original preparer of the valuation and, when appropriate, request an ROV.

Complaint Resolution Process. With regard to the relationship of ROVs to an institution’s complaint resolution process, the guidance provides:

  • Financial institutions can capture consumer feedback regarding potential valuation deficiencies through existing complaint resolution processes.
  • The complaint resolution process may capture complaints and inquiries about the financial institution’s products and services offered across all lines of business, including those offered by third parties, as well as complaints from various channels (such as letters, phone calls, in person, transmittal from regulators, third-party valuation service providers, emails, and social media).
  • Depending on the nature and volume, appraisal and other valuation-based complaints and inquiries can be an important indicator of potential risks and risk management weaknesses.
  • Appropriate policies, procedures, and control systems can adequately address the monitoring, escalating, and resolving of complaints including a determination of the merits of the complaint and whether a financial institution should initiate an ROV.

Examples of Policies, Procedures, and Control Systems. The guidance provides that “[f]inancial institutions may consider developing risk-based ROV-related policies, procedures, control systems, and complaint resolution processes that identify, address, and mitigate the risk of deficient valuations, including valuations that involve prohibited discrimination . . . .” (Emphasis added.) One has to wonder if the “may” in practice will be interpreted by the agencies as a “must.” A footnote to the quoted sentence provides that risk-based ROV-related policies, procedures, control systems, and complaint processes may necessarily vary according to the size and complexity of the financial institution, and that smaller financial institutions that choose to implement the guidance may have policies and procedures that differ from those at larger and midsize institutions.

The guidance also sets forth the following specific examples for the development of policies, procedures and control systems:

  • Consider ROVs as a possible resolution for consumer complaints or inquiries related to residential property valuations. If a complaint or inquiry includes allegations of discrimination, the institution may consider, in addition to processing the ROV, separately initiating the process the institution may have to respond to allegations of discrimination.
  • Consider whether any information or other process requirements related to a consumer’s request for a financial institution to initiate an ROV create unreasonable barriers or discourage consumers from requesting the institution initiate an ROV.
  • Establish a process that provides for the identification, management, analysis, escalation, and resolution of valuation-related complaints or inquiries across all relevant lines of business, from various channels and sources (such as letters, phone calls, in person, regulators, third-party service providers, emails, and social media).
  • Establish a process to inform consumers how to raise concerns about the valuation early enough in the underwriting process for any errors or issues to be resolved before a final credit decision is made. This may include educating consumers on the type of information they may provide when communicating with the financial institution about potential valuation deficiencies.
  • Identify stakeholders and clearly outline each business unit’s roles and responsibilities for processing an ROV request (e.g., loan origination, processing, underwriting, collateral valuation, compliance,
  • Establish risk-based ROV systems that route the request to the appropriate business unit (e.g., requests that include concerns or inquiries that allege discrimination could be routed to the appropriate compliance, legal, and appraisal review staff that have the requisite skills and authority to research and resolve the request).
  • Establish standardized processes to increase the consistency of consideration of requests for ROVs:
    • Use clear, plain language in notices to consumers of how they may request the ROV;
    • Use clear, plain language in ROV policies that provide a consistent process for the consumer, appraiser, and internal stakeholders;
    • Establish guidelines for the information the financial institution may need to initiate the ROV process;
    • Establish timelines in the complaint or ROV processes for when milestones need to be achieved;
    • Establish guidelines for when a second appraisal could be ordered and who assumes the cost; and
    • Establish protocols for communicating the status of the complaint or ROV and the lender’s determination to consumers.
  • Ensure relevant lending and valuation-related staff, inclusive of third parties (e.g., appraisal management companies, fee-appraisers, mortgage brokers, and mortgage servicers) are trained to identify deficiencies (including practices that may result in discrimination) through the valuation review process.

Further Comments Invited

In connection with the Paperwork Reduction Act, the FDIC, Fed, NCUA, and OCC advise they determined that certain aspects of the final guidance constitute a collection of information, as the required policies and procedures create a recordkeeping requirement. The noted agencies continue to invite comments on:

  • Whether the collections of information are necessary for the proper performance of the agencies’ functions, including whether the information has practical utility;
  • The accuracy of the estimate of the burden of the information collections, including the validity of the methodology and assumptions used;
  • Ways to enhance the quality, utility, and clarity of the information to be collected;
  • Ways to minimize the burden of the information collections on respondents, including through the use of automated collection techniques or other forms of information technology; and
  • Estimates of capital or start-up costs and costs of operation, maintenance, and purchase of services to provide information.

Richard J. Andreano, Jr.

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CFPB Issues 2023 Annual Fair Lending Report

On June 26, 2024, the Consumer Financial Protection Bureau released its annual Fair Lending Report for the calendar year 2023. The reporting period ran through December 31, 2023, so any subsequent fair lending developments are not included.

The first section of the Report covers the CFPB’s fair lending enforcement and supervision activities in 2023. Driven by what it calls its “risk-based prioritization process,” the CFPB focused its supervision on (a) mortgage origination, specifically, redlining, appraisals, and Home Mortgage Disclosure Act (HMDA) data integrity; (b) credit card marketing and the use of alternative data in digital marketing; and (c) the use of automated systems and models in credit card originations. The Report discusses the two CFPB enforcement actions arising out of the Equal Credit Opportunity Act (ECOA) and HMDA. The Report also discloses that the CFPB referred 18 matters to the Department of Justice (DOJ) in 2023, whereas the FDIC, NCUA, FRB and OCC combined referred an additional 15 matters to the DOJ, for a total of 33 referrals. This is a dramatic increase from 2022 when the Bureau referred only five ECOA matters to the DOJ, and all agencies with enforcement authority under section 704 of ECOA made only 23 such referrals.

The Report covers the CFPB’s rulemaking related to fair lending, including its Section 1071 data collection rule for small business lenders. The Bureau issued the final rule on March 30, 2023 but then extended compliance dates due to challenges in litigation. The Report also mentions the interagency automated valuation models (AVMs) rulemaking. The CFPB, along with the Federal Reserve Board (FRB), Office of the Comptroller of the Currency (OCC), Federal Deposit Insurance Corporation (FDIC), National Credit Union Administration (NCUA), and Federal Housing Finance Agency (FHFA), had issued a proposed rule to implement quality control standards for AVMs on June 1, 2023. Though not mentioned because it occurred after the end of the reporting period, these agencies began approving their nearly identical final rule on June 20, 2024.

The Report states that “[a]ppraisal bias is a key fair lending priority of the CFPB” and discusses the Federal Financial Institutions Examination Council (FFIEC) Appraisal Subcommittee (ASC), which includes designees from the CFPB, FDIC, Department of Housing and Urban Development (HUD), FRB, OCC, NCUA, and FHFA. The ASC held three public hearings on appraisal bias in 2023, and the fourth hearing occurred in January of 2024. We reported on the hearing and related matters here. The Bureau also filed a joint statement of interest with the DOJ in a case before a federal district court to explain how the Fair Housing Act and ECOA could be applied to lenders relying on discriminatory home appraisals.

The CFPB also mentions an amicus brief that it filed in the Second Circuit urging the court to affirm a judgment for plaintiffs in a reverse redlining matter and a statement of interest filed in federal district court in which it argued that “ECOA covers every aspect of a credit transaction, not just the loan terms in the four corners of the contract.” The report does not mention the Townstone Financial matter in which the CFPB has appealed the district court’s order granting Townstone’s motion to dismiss on the grounds that the ECOA applies only to applicants, not prospective applicants. On December 8, 2023, oral arguments on that appeal were held before a three-judge panel of the Seventh Circuit Court of Appeals.

Notably, the CFPB discusses, throughout the report, the importance of avoiding discrimination on the basis of receipt of public assistance, suggesting that this will continue to be an area of emphasis for the Bureau. The final section of the Report looks forward to how the CFPB will combat “digital discrimination” by focusing on (i) data that proxies for prohibited bases, (ii) fraud screens that “evade or circumvent” fair lending laws, and (iii) less than robust fair lending testing of models, including the failure to search for less discriminatory alternatives, something CFPB exam teams may review using automated debiasing methodologies.

Under Director Chopra’s leadership, the CFPB has promised to aggressively address credit discrimination, and the Report evidences that the Bureau has continued—and will continue—to push the fair lending envelope to achieve this goal.

In related news, it is being reported that Patrice Ficklin, who has led the Bureau’s fair lending office since its inception, has announced that she will be leaving the CFPB to rejoin Fannie Mae as vice president for fair lending risk.

Richard J. Andreano, Jr., John L. Culhane, Jr. & John A. Kimble

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FFIEC Announces Release of 2023 HMDA Data Snapshot

The Federal Financial Institutions Examination Council (FFIEC) recently announced the release of the Snapshot National Loan-Level Dataset based on Home Mortgage Disclosure Act (HMDA) data from 2023. The CFPB also addressed the release of the dataset. Previously, we reported on the release by the CFPB of the HMDA Modified Loan Application Data for 2023, which did not include any analysis of the data.

The FFIEC advises that the Snapshot National Loan-Level Dataset contains the national HMDA datasets as of May 1, 2024, and that key observations from the Snapshot include the following:

  • The number of reporting institutions increased by about 14.6 % from 4,460 in 2022 to 5,113 in 2023. Previously, the number of reporting institutions increased about 2.63% from 4,338 in 2021 to 4,460 in 2022.
    • This likely reflects that for 2023 the CFPB reinstituted the HMDA reporting trigger of 25 originated covered loans in each of the prior two calendar years, based on a prior court decision that invalidated the change in the threshold from 25 to 100 covered loans in each of the prior two calendar years that was made in an April 2020 CFPB rule. The relatively modest increase would appear to call into question whether the 25 loan threshold is appropriate.
  • The 2023 data include information on 10 million home loan applications, that include 7.70 million closed-end credit applications and 2.1 million open-end credit applications. This is a significant decrease from the 14.3 million and 23.3 million home loan applications reported in the 2022 and 2021 data, respectively. The significant decrease in application volume likely reflects the higher interest rate environment in 2022 and 2023, particularly when compared to the very low interest rate environment of 2021.
    • The FFIEC notes that 266,000 applications were reported by financial institutions making use of Economic Growth, Regulatory Relief, and Consumer Protection Act’s partial exemptions from HMDA data reporting requirements, and that the institutions did not indicate whether the applications were for closed-end credit or open-end credit. We previously reported on the partial exemptions available to smaller mortgage loan volume depository institutions and credit unions that basically exempt such institutions from having to report the new HMDA data categories added by a HMDA rule adopted by the CFPB in October 2015.
  • The share of first lien, one- to four-family, site-built, owner-occupied, home-purchase loans originated by independent mortgage companies, which are not depository institutions, increased from 60.2% in 2022 to 68.8% in 2023. The 2023 percentage is also higher than the 63.9% independent mortgage company share for 2021.
  • The share of closed-end, first lien, one- to four-family, site-built, owner-occupied, home-purchase loans made to:
    • Black or African American borrowers rose from 8.1% in 2022 to 8.2% in 2023 (and the share was 7.9% for 2021).
    • Hispanic-White borrowers increased from 9.1% in 2022 to 9.9% 2023 (and the share was 9.2% in 2021).
    • Asian borrowers increased from 7.6% in 2022 to 7.7% in 2023 (and the share was 7.1% in 2021).
  • In 2022 the denial rates for closed-end, first lien, one- to four-family, site-built, owner-occupied, conventional, home purchase loans were:
    • 16.6% for Black or African American applicants, compared to 16.4% for 2022.
    • 12.0% for Hispanic-White applicants, compared to 11.1% for 2022.
    • 9.0% for Asian applicants, compared to 9.2% for 2022.
    • 5.8% for non-Hispanic-White applicants, which is the same as the denial rate for 2022.

The FFIEC announced the release of other data products, including the HMDA Dynamic National Loan-Level Dataset that is updated on a weekly basis to reflect late submissions and resubmissions, and Aggregate and Disclosure Reports that provide summary information on individual financial institutions and geographies. Additionally, the FFIEC advises that the HMDA Data Browser allows users to create custom tables and download datasets that can be further analyzed.

Richard J. Andreano, Jr.

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HUD Enters Conciliation Agreement with the Appraisal Foundation to Curb Discrimination in the Industry

The U.S. Department of Housing and Urban Development (HUD) announced that it has entered into an historic Conciliation Agreement (Agreement) with The Appraisal Foundation (TAF), an organization responsible for setting standards and qualifications for real estate appraisers and providing voluntary guidance for appraisers. This Agreement resolves a Secretary-initiated complaint against TAF alleging discriminatory barriers preventing qualified Black people and other persons of color from entering the appraisal profession on the basis of race in violation of the Fair Housing Act. The agreement also creates responsibilities for the Appraiser Qualifications Board (AQB), an independent board that creates guidelines and the Appraiser Qualifications Criteria, which directly affect who may become an appraiser.

Appraisal bias has been a significant issue in recent years. For example, in 2022, the National Community Reinvestment Coalition (NCRC) filed two complaints against appraisers with HUD asserting different treatment based on race in violation of the Fair Housing Act. One complaint asserts different service levels based on race, and the other asserts different home valuations based on race, with White individuals receiving better service or home valuations than Black individuals. A related topic of ongoing conversation among HUD, CFPB and other members of the Interagency Task Force on Property Appraisal and Valuation Equity (PAVE), has been the barriers to entry for prospective appraisers, especially for Black people and other persons of color. This concern has been noted in multiple public hearings and statements from the CFPB, which we have discussed.

In its announcement, HUD referenced the Bureau of Labor Statistics’ 2023 data, which showed the property appraisers and assessors’ occupation was 94.7% White and 0.6% Black, ranking as the least racially diverse of 800 occupations surveyed. HUD also referenced data from a 2021 study conducted by Fannie Mae, which showed that 12.5% of appraisals for home purchases in majority-Black neighborhoods and 15.4% in majority-Latino neighborhoods result in a value below the contract price, compared to only 7.4 percent of appraisals in predominantly white neighborhoods.

Although HUD did not make a formal finding, the conciliation agreement provides for the Appraisal Foundation to, among other things, implement the following policies:

  • Offer inclusive and affordable appraiser training. The Appraisal Foundation should coordinate with the AQB to ensure that mentors looking to work with prospective appraisers complete a course on valuation bias and fair housing laws. The AQB has already begun offering Practical Applications of Real Estate Appraisal (PAREA) programs, its technology-based training for aspiring appraisers to obtain experience credit towards fulfilling the experience qualification criteria. The Appraisal Foundation and AQB have agreed to implement plans to market PAREA and the PAREA scholarship fund to diverse communities, including through the use of online channels and providing information to historically Black colleges and universities (HBCUs). PAREA program providers will be required to report to the AQB the number of qualified applicants and whether all applicants were able to be accommodated. Of note, the agreement provides, “If, at any time, a PAREA program provider has been determined by a federal court to have violated any fair housing laws and/or regulations, by final judgment from which appeal is unavailable, it will lose its AQB approval to be a PAREA provider until it puts into place mechanisms designed to prevent future violations of fair housing laws and/or regulations.” The Appraisal Foundation will also provide a survey on its website where prospective appraisers can indicate their reasons for deciding not to pursue PAREA.
  • Coordinate with regulators. The Appraisal Foundation has agreed to prominently display the “Equal Housing Opportunity” logo on its website, and the website will also include online information related to the process of becoming an appraiser and PAREA. The agreement also provides that the Appraisal Foundation will meet with each state and territory appraiser regulatory agency that has not yet fully approved PAREA to explain the importance of using technology to open doors to the appraiser profession, and recommend that each adopt licensing criteria that provide 100% credit towards the experience requirement for a Licensed Appraiser and Certified Residential Appraiser.
  • Provide funding for training and outreach to diverse communities. Under the agreement, the Appraisal Foundation will establish a Pathways to Success Scholarship Fund administered by a third-party to be approved by HUD, which will be used to provide scholarship assistance to aspiring appraisers. The scholarship will be used for attendance at any AQB-approved PAREA program. The Appraisal Foundation will contribute a minimum of $560,000 per year (of either its own funds or funds raised or received from others) to the Scholarship for a total of two years, and a minimum of $100,000 in the third year of the agreement. The Appraisal Foundation agreed to annually report to HUD the zip codes of the scholarship awardees, the amounts of scholarships for each, the approved PAREA program the scholarship is used to fund, and whether the awardee successfully completed the PAREA program.

Other terms of the agreement include certain reports be made to HUD regarding the effectiveness of marketing PAREA, and coordination between the Appraisal Foundation and housing groups in order to ensure the policies reflect the concerns of the industry.

In her comments, HUD Acting Secretary Adrianne Todman said, “Today’s historic agreement will help build a class of appraisers based on what they know instead of who they know.”

Loran Kilson

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FHA Updates Default Taxonomy Regarding Third-Party Originator Fraud

The Federal Housing Administration (FHA) recently finalized in Mortgage Letter 2024-14, dated July 10, 2024, a revision to its Defect Taxonomy to clarify that fraud or material misrepresentation involving a sponsored Third-Party Originator (TPO) is a Tier 1 severity defect in connection with loans insured under the Title II program. Previously, we reported on the proposed clarification, in connection with which FHA provided an entire one week comment period. The clarification made by the Mortgage Letter became effective upon issuance.

FHA’s Defect Taxonomy is set forth in Appendix 8 to HUD Handbook 4000.1. There are four Tiers of defects that FHA may assign to a finding with regard to an FHA insured loan, with Tier 1 being the most severe and being deemed unacceptable and requiring a lender response. The Defect Taxonomy provides that findings of fraud or materially misrepresented information can fall into one of two severity tiers:

  • Tier 1 (indicating that the Mortgagee knew or should have known), or
  • Tier 4 (indicating that the Mortgagee did not know and could not have known).

The Defect Taxonomy further states that FHA determines if the Mortgagee knew or should have known based on whether:

  • An employee of the Mortgagee was involved, and/or
  • Red flags in the loan file that should have been questioned by the underwriting Mortgagee.

FHA explains its rationale for the change in the Mortgagee Letter:

“Mortgagees are responsible for the actions of their sponsored TPOs under 24 CFR § 202.8(a)(3) and Handbook 4000.1 Section I.A.5.a.v. To better align the Defect Taxonomy with these existing requirements and mitigate risk to the MMIF, FHA is updating the Defect Taxonomy to include fraud or material misrepresentation involving a sponsored TPO as one of the “knew or should have known” conditions used by FHA to determine whether a Tier 1 severity classification is appropriate.”

With the clarification, the Defect Taxonomy now provides that FHA determines if the Mortgagee knew or should have known based on whether:

  • an employee of the Mortgagee or sponsored Third-Party Originator was involved and/or
  • red flags in the loan file should have been questioned by the underwriting Mortgagee.

Based on the clarification, FHA will seek life-of-loan indemnification from Mortgagees when there is evidence of fraud or material misrepresentation involving a sponsored TPO, regardless of whether FHA identifies specific red flags that should have been questioned at underwriting.

Richard J. Andreano, Jr.

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VA Announces System Enhancement for Temporary Variance Allowing Veterans to Pay Broker Commissions

As previously reported, in connection with its guaranteed home loan program, in June 2024 the Department of Veterans Affairs (VA) adopted a temporary local variance allowing veterans to pay the commission of the real estate broker or agent assisting them (a “buyer-broker”) in the purchase of a home. In Circular 26-24-15, the VA announced an enhancement made to the Issue Guaranty screen in VA’s WebLGY system related to veteran-paid buyer-broker charges.

The VA released the enhancement on July 16, 2024, to collect the amount of veteran-paid buyer-broker charges. The VA advises that lenders are expected to indicate if the veteran paid any buyer-broker charges, and, if so, they must indicate the total amount paid in the applicable fields when requesting the Loan Guaranty Certificate (LGC) on VA-guaranteed purchase loans. The recent changes apply to buyer-broker charges paid by veterans on purchase contracts executed on or after August 10, 2024.

Richard J. Andreano, Jr.

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FinCEN Issues Proposed Rulemaking Aimed at Strengthening and Modernizing AML Programs Across Multiple Industries

On July 3, the Financial Crimes Enforcement Network (FinCEN) published a notice of proposed rulemaking (NPRM) as part of a broader initiative to “strengthen, modernize, and improve” financial institutions’ anti-money laundering and countering the financing of terrorism (AML/CFT) programs. In addition, the NPRM seeks to promote effectiveness, efficiency, innovation, and flexibility with respect to AML/CFT programs; support the establishment, implementation, and maintenance of risk-based AML/CFT programs; and strengthen the cooperation between financial institutions (FIs) and the government.

This NPRM implements Section 6101 of the Anti-Money Laundering Act of 2020. It also follows up on FinCEN’s September 2020 advanced notice of proposed rulemaking soliciting public comment on what it described then as “a wide range of questions pertaining to potential regulatory amendments under the Bank Secrecy Act (‘BSA’) . . . . to re-examine the BSA regulatory framework and the broader AML regime[,]” to which FinCEN received 111 comments.

As we will discuss, the NPRM focuses on the need for all FIs to implement a risk assessment as part of an effective, risk-based, and reasonably designed AML/CFT program. The NPRM also focuses on how consideration of FinCEN’s AML/CFT Priorities must be a part of any risk assessment. However, in regards to addressing certain important issues, such providing comfort to FIs to pursue technological innovation, reducing the “de-risking” of certain FI customers and meaningful government feedback on BSA reporting, the NPRM provides nothing concrete.

FinCEN has published a five-page FAQ sheet which summarizes the NPRM. We have created a 35-page PDF, here, which sets forth the proposed regulations themselves for all covered FIs.

The NPRM has a 60-day comment period, closing on September 3, 2024. Particularly in light of the Supreme Court’s recent overruling of Chevron deference, giving the courts the power to interpret statutes without deferring to the agency’s interpretation, this rulemaking, once finalized, presumably will be the target of litigation challenging FinCEN’s interpretation of the AML Act.

Broad Application

The NPRM broadly applies to any “financial institution” as defined in 31 C.F.R. § 1010.100(t) and (ff). As defined, a “financial institution” includes

  • banks;
  • casinos and card clubs;
  • money service businesses (MSBs);
  • brokers or dealers in securities;
  • mutual funds;
  • insurance companies;
  • futures commission merchants and introducing brokers in commodities;
  • dealers in precious metal, stones, or jewels;
  • operators of credit card systems;
  • loan or finance companies (defined by FinCEN at this time to include mortgage brokers and originators); and
  • housing government sponsored enterprises.

Proposed Changes

1.         AML/CFT Program Purpose Statement

The NPRM adds a new policy statement describing the purpose of an AML/CFT program. The policy statement purports to not impose any new obligations and its stated intent is to summarize the “overarching goals” of having an effective, risk-based, and reasonably designed AML/CFT program. The NPRM proposes the following policy statement:

The purpose of this section is to ensure that a financial institution implements an effective, risk-based, and reasonably designed AML/CFT program to identify, manage, and mitigate illicit finance activity risks that: complies with the Bank Secrecy Act and the requirements and prohibitions of this chapter; focuses attention and resources in a manner consistent with the risk profile of the financial institution; may include consideration and evaluation of innovative approaches to meet its AML/CFT compliance obligations; provides highly useful reports or records to relevant government authorities; protects the financial system of the United States from criminal abuse; and safeguards the national security of the United States, including by preventing the flow of illicit funds in the financial system.

Consistent with the AML Act, the NPRM’s proposed statement of purpose emphasizes that which has been understood as a practical matter for years: a BSA/AML compliance program is integrally related to an institution’s terrorist financing and sanctions compliance program; in fact, they are essentially one and the same because the nomenclature now refers to an “AML/CFT program.” Indeed, Section 6101 of the AML Act required the inclusion of a reference to “CFT” in connection with the program rules. The NPRM accordingly replaces the terms “anti-money laundering program” and “compliance program” with a new term in the general definition section, “AML/CFT program.” Policies and procedures should be updated to reflect the new term.

The distinction, to the extent it continues to exist, between BSA compliance and sanctions compliance continues to evaporate, and FIs must organize and coordinate their compliance operations accordingly. Protecting national security is recognized as an explicit BSA goal, as well.

2.         Risk Assessment Process: AML/CFT Priorities

The NPRM makes several changes to the overall risk assessment process. First, the NPRM codifies the requirement that all FIs must have a risk assessment as part of an effective, risk-based, and reasonably designed AML/CFT program. The risk assessment serves as the basis of the overall AML/CFT program and must include certain components. FinCEN acknowledges that a risk assessment is already common practice among many types of FIs (and an existing expectation by many regulators and examiners); however, the NPRM now explicitly expresses a risk assessment as a requirement. As we describe below, the risk assessment must identify, evaluate, and document the proposed components, which include the AML/CFT Priorities, institution-specific risks, and a review of all reports filed pursuant to 31 C.F.R. Chapter X.

The first required component of the risk assessment is the inclusion of the AML/CFT Priorities. Section 6101 of the AML Act requires FIs to review and incorporate the AML/CFT priorities set by FinCEN. The NPRM indicates that inclusion of the AML/CFT priorities ensures that FIs understand risk exposure in areas that are of importance at a national level.

In June 2021, FinCEN issued the initial iteration of AML/CFT priorities; as we blogged at the time, the collective Priorities were so broad and so numerous that it was difficult to imagine a crime or suspicious activity that was not somehow captured by one or more of the eight Priorities. Likewise, the NPRM provides very little detail on the expectations of how FIs should consider the AML/CFT priorities in the risk assessment. The NPRM provides that FinCEN anticipates that some FIs may determine that their business models and risk profiles have limited exposure to the some of the threats identified in the Priorities, but have greater exposure to other threats; alternatively, some FIs may determine that their AML/CFT programs already take into account some or all of the Priorities.

Although the NPRM states that a FI has flexibility in documenting the results, a risk assessment is now under greater examiner scrutiny. Per the AML Act, FinCEN must update the AML/CFT priorities every four years, and the risk assessment must incorporate the most up-to-date priorities. Finally, the NPRM proposes “AML/CFT Priorities” as a defined term.

3.         Risk Assessment Process: Business Activities

Next, the risk assessment also must include the risks unique to the FI based on its business activities, including products, services, distribution channels, customers, intermediaries, and geographic locations. The NPRM notes that these factors are generally consistent with current risk assessment processes but specifically calls out “distribution channels” and “intermediaries” as potentially new concepts for certain FIs. A distribution channel refers to the methods and tools used to open accounts (e.g., opening an account online). An intermediary refers to non-customer third-party relationships that allow financial activities by, at, or through a FI. This may include a broker, agent, or supplier that facilitates the introduction or processing of financial transactions, financial products and services, and customer-related financial activities. Risk posed by third-party relationships has been a topic of great scrutiny by bank regulators in the last several years, as we have blogged here, here, here and here.

The NPRM indicates that a FI may use other sources for determining risks posed to the institution, such as information gleaned from the Section 314(a) or Section (b) information-sharing programs, payment transactions with other FIs that have been flagged or returned due to AML/CFT concerns, feedback from regulators or law enforcement, or any other internal information. Importantly, the NPRM indicates that any “exercise of discretion or judgment” with the analysis performed in connection with the risk assessment process should be documented and subject to oversight and governance.

Although the NPRM uses the word “may” when stating that FIs “may” use such information to craft their risk assessments, the implication or at least predictable result is that many examiners will expect that FIs “shall” use such information, thereby increasing burdens. The NPRM explicitly notes that “internal information [relevant to a risk assessment] may include, for example, the locations from which its customers access the financial institution’s product, services and distribution channels, such as the customer internet protocol (IP) addresses or device logins and related geolocation information.” Thus, information obtained by the marketing and business components of the FI can be relevant to the risk assessment created by the compliance component.

Thus, information obtained by the marketing and business components of the FI can be relevant to the risk assessment created by the compliance component.

4.         Risk Assessment Process: BSA Reports

The last required component of a risk assessment is the review of any reports filed by FIs pursuant to 31 C.F.R. Chapter X. This may include Suspicious Activity Reports (“SARs”), Currency Transaction Reports (CTRs), Forms 8300, and any other relevant BSA reports. According to the NPRM, reviewing of reports may assist the FI in understanding patterns or trends to incorporate into the risk assessment. Presumably, SARs will remain the primary driver of risk assessments.

Further, the NPRM indicates that those FIs that are not subject to SAR filing requirements should consider suspicious activity that their AML/CFT programs have identified (including any voluntarily-filed SAR). Interestingly, FinCEN indicates that this component may aid in minimizing “defensive” filings and instead focus on generating highly useful reports. Many FIs file defensive SAR filings to take advantage of the safe harbor afforded by the regulations. However, given the examiner scrutiny of risk assessments, it does not seem likely that there will be any less defensive SAR filings.

FIs must update risk assessments on a periodic basis, but at a minimum, when any material change to the FI’s risk profile occurs. For example, the introduction of new products, services, or customer types is a material change.

5.         Program Requirements

An effective, risk-based AML/CFT program must also include internal policies, procedures, and controls that are commensurate with the FI’s risks to ensure ongoing compliance with the BSA; a designated and qualified individual responsible for day-to-day compliance (the NPRM emphasizes that the designated AML/CFT officer must be qualified); ongoing employee training for “appropriate” personnel; independent and periodic testing by a “qualified” party; and other components of a risk-based program that are specific to the type of FI (e.g., customer due diligence). The ultimate goal is to “reasonably manage and mitigate” risks (emphasis added).

Although not a new requirement to some FIs, the NPRM requires documentation of the AML/CFT program. Likewise, the AML/CFT program must be approved and overseen by a board of directors or equivalent governing body. An equivalent governing body may be a sole proprietor, owner(s), general partner, trustee, senior officer(s), or other persons having similar functions as a board of directors. This is a new requirement for money services businesses and casinos. In addition, the NPRM contains new oversight requirements, such as governance mechanisms, escalation and reporting lines, to ensure the board or equivalent body properly oversees the AML/CFT program.

6.         Flexibility, Innovation, De-Risking and Government Feedback

The AML Act requires the Secretary of the Treasury, when setting forth the minimum standards for AML/CFT compliance programs, to take into account the following two factors, among others:

“Financial institutions are spending private compliance funds for a public and private benefit, including protecting the United States financial system from illicit finance risks.”

“The extension of financial services to the underbanked and the facilitation of financial transactions, including remittances, coming from the United States and abroad in ways that simultaneously prevent criminal persons from abusing formal or informal financial services networks are key policy goals of the United States.”

Likewise, the AML Act stated that one of its purposes was “to encourage technological innovation and the adoption of new technology by financial institutions to more effectively counter money laundering and the financing of terrorism.”

Arguably, these Congressional mandates could be interpreted as requiring the Department of Treasury and FinCEN to empower FIs to innovate, reduce costs and avoid “de-risking” the underbanked by taking specific steps. Such as providing safe harbors to FIs, curbing FI examiner demands or standards, or other related regulations. The NPRM does none of these things, at least not in a concrete fashion. Although the NPRM touts additional flexibility, acknowledges the spending of private compliance funds for public benefits, and purports to encourage technological innovation and discourage the problematic phenomenon of “de-risking” types of FI customers (the NPRM states that it furthers the Department of Treasury’s de-risking strategy to support financial inclusion), the NPRM ultimately falls back on the vague position that it accomplishes all of these goals by generally providing FIs “flexibility” to pursue their AML/CFT programs on a “risk basis.”

This provides nothing new, and certainly no specific guidance or additional concrete tools to FIs or their front-line examiners. Although flexibility is certainly a value, the NPRM is unlikely to provide additional comfort to FIs that they can attempt to implement new technologies or avoid de-risking certain customers without incurring the potential displeasure of their examiners. Indeed, and as already noted, the NPRM provides an example of potential “flexibility” in technological innovation: if the FI’s marketing or relationship management team uses an internet or app-based data for commercial purposes, it would be reasonable for the FI to consider using similar technology in managing risk. This example, in fact, implies an additional expectation.

In regards to enhanced feedback by law enforcement to FIs – another goal of the AML Act – the NPRM acknowledges the importance of such feedback, and lists prior efforts by FinCEN to engage with industry groups, but ultimately does not propose concrete regulations specifically addressing feedback from government. Rather, the NPRM generally suggests that FinCEN will continue its outreach programs, and that the focus on the AML/CFT Priorities will facilitate such efforts.

7.         Other Changes

The NPRM seeks to combine the program rules for banks with a Federal functional regulator and for banks lacking one. The NPRM, however, does not address the scenario that individual Federal functional regulators may issue additional and potentially conflicting regulations in light of the NPRM (for example, the OCC’s regulations for SAR filings differ slightly from FinCEN’s).

The NPRM also removes the existing language for casinos and MSBs which state that such FIs which have “automated data processing systems” should integrate them with their compliance procedures, because consideration of such systems in implicit in the risk-based approach contemplated by the NPRM.

Impact

The NPRM contains a very lengthy and detailed section regarding estimated costs and compliance burdens. We note here only at a high level that, once again, it appears that FinCEN is significantly underestimating the potential costs of the proposed action.

For example, FinCEN estimates in Table 3 that the NPRM will affect 298,277 FIs:

Later, in Table 8, set forth below, FinCEN estimates total costs. Using the year of substantive change, and using 298,277 as a divisor for the total of $1,060,805,134 in “high” costs for covered FIs, this apparently means that FinCEN posits a “high” average cost of $3,556 per FI in the year of substantive change.

Although this math is not entirely clear, it appears to be consistent with Table 11, also set forth below, which breaks out the estimated totals for different scenarios.

Likewise, the NPRM later states that FinCEN estimates that costs for all covered FIs to make substantive program updates requiring maximal board oversight would be approximately $3,500.

Regardless, these estimates appear to be extremely low, and the methodology dubious. The NPRM itself notes that “certain other expenses may accrue to certain types of covered financial institutions in the event that non-routine updates to technological infrastructure is required[,]” and that “FinCEN has not included an estimated technological component but is requesting comment in the event that such costs are expected to be broadly relevant or unavoidable for a substantial number of affected financial institutions.”

NPRM’s Questions

The NPRM poses a complicated series of questions for comment – 59 questions, in total. The specifics of the questions are beyond the scope of this blog, other than to catalogue the subjects of the questions: the purpose statement; the incorporation of the AML/CFT priorities; the risk assessment process; what it means for a program to be “effective, risk-based, and reasonably designed;” metrics for law enforcement feedback to FIs; de-risking and financial inclusion; how the proposed rule might require changes to FIs’ AML/CFT operations outside of the United States; innovation; board approval and oversight; technical updates and implementation; and the burden and cost estimates.

As noted, given the demise of Chevron, how FinCEN responds to the many comments it presumably will receive to the NPRM will take on even greater importance. One area ripe of comment are the estimated cost burdens, described above, particularly because FIs may argue that compliance costs experienced by industry – particularly critical costs involving technology – is an area in which FinCEN lacks direct knowledge or expertise.

If you would like to remain updated on these issues, please click here to subscribe to Money Laundering Watch. Please click here to find out about Ballard Spahr’s Anti-Money Laundering Team.

Peter D. Hardy & Kaley Schafer

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CFPB Issues Semi-Annual Regulatory Agenda; Registry of Supervised Non-Banks to Be Finalized This Month

The CFPB soon plans to issue a final rule that would require certain supervised nonbank entities to register with it and provide information about their use of certain terms and conditions in standard-form contracts for consumer financial products or services that seek to waive or limit consumer rights or legal protections (“Covered Terms”).

In January 2023, the Bureau issued a proposed rule that would establish a publicly accessible registry that would identify registrants. In addition, under the proposed rule the CFPB would also publish information about registrants and the Covered Terms they use, except where prohibited by applicable law.

On June 4, 2024, the CFPB issued a Consumer Financial Protection Circular 2024-03 (“Circular”) warning that the use of unlawful or unenforceable terms and conditions in contracts for consumer financial products or services may violate the prohibition on deceptive acts or practices in the Consumer Financial Protection Act.

Many followers of the Bureau’s activities thought that the Bureau would abandon the Registry once it published the Circular. No dice!

We have previously blogged about the Circular and explained how almost every consumer financial services contract in use (including government forms used by FHA, VA, the Department of Education for federal student loans, Fannie Mae and Freddie Mac Uniform Mortgage instruments) will need to be revised in order to comply with the Circular.

The Registry will make matters much worse for supervised non-banks. We expect a legal challenge to this rule shortly after it is finalized.

The CFPB also listed several other final rules it expects to issue:

Overdraft Programs. The CFPB said that in January 2025, it plans to issue a final rule governing overdraft programs at large financial institutions. “While the nature of overdraft services, including how accounts can be overdrawn and how financial institutions determine whether to advance funds to pay the overdrawn amount, has significantly changed since 1969, the special rules remain largely unchanged,” it said. The Bureau issued a proposed rule on Jan. 17, 2024. The final rule could be affected by the presidential election. Many Democrats have voiced their support for the rule, while Republicans have opposed it. If a Republican wins the 2024 presidential election, and if the Republicans control both houses of Congress, the final rule may never see the light of day.

Personal Financial Data Rights. The CFPB said it plans to issue a final rule in October governing the types of information that covered entities must make available to consumers upon request. The CFPB noted that Section 1033 of the Consumer Financial Protection Act directs the CFPB to issue the rule. The agency issued a proposed rule in October, 2023.

PACE Financing. The Bureau said it will issue in May, 2025, a final rule related to Property Assessed Clean Energy (PACE) financing. The rule, required by the Economic Growth, Regulatory Relief, and Consumer Protection Act (EGRRCPA), would implement statutory requirements that subject PACE financing to the Truth in Lending Act’s ability-to-repay requirements. The CFPB proposed the rule in May, 2023.

NSF Fees. The Bureau also expects to issue a final rule governing nonsufficient fund fees, even though it noted that some financial institutions have stopped charging such fees. It issued a proposed rule in January that preliminarily identified the assessment of NSF fees in certain circumstances to be an abusive act or practice. The Bureau is expected to issue a final rule in October.

The CFPB also provided details about proposed rules it may issue:

FCRA. The Bureau may issue a proposal to regulate the activities of data brokers as covered by the Fair Credit Reporting Act. (The Bureau previously issued a proposed rule that would eliminate the medical debt exemption in Regulation V, prohibit credit bureaus from including medical debt in reports provided to creditors, and prevent lenders from both taking medical devices as collateral and from repossessing them in the event of default).

Financial Data Collection. The CFPB, Federal Reserve Board, Office of the Comptroller of the Currency, Securities and Exchange Commission, Federal Deposit Insurance Corp., Federal Housing Finance Agency and National Credit Union Administration are coordinating efforts on a proposed rule establishing data standards for the collection of information reported to each agency by financial entities under their jurisdiction and the data collected from the agencies on behalf of the Financial Stability Oversight Council, as required by the Financial Data Transparency

Other Contract Terms. The Bureau is considering whether to issue a proposed rule regarding the inclusion or enforcement of certain provisions in contracts for consumer financial products or services. Before Dodd-Frank, the Federal Reserve Board (the Board) adopted and enforced Regulation AA, which made it unlawful for banks to include or enforce in their contracts (a) confessions of judgment; (b) waivers of exemptions, or limitations on exemptions, protecting real or personal property from execution (unless the property was subject to a security interest executed in connection with the obligation); assignments of wages (unless revocable at will, part of a payroll deduction or preauthorized payment plan, or applicable to wages already earned); and provisions granting a nonpossessory security interest in household goods (other than a purchase-money security interest). With the establishment of the CFPB, Dodd-Frank removed the Federal Reserve Board’s authority for issuing Regulation AA and the Board subsequently revoked the rule (although the financial institution regulatory agencies indicated that they would still deem the inclusion of these provisions to be an unfair practice).

We will continue to monitor and report on these regulatory developments and on any related litigation.

John L. Culhane, Jr., Brian Turetsky, Reid F. Herlihy, Ronald K. Vaske & Alan S. Kaplinsky

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Congress Struggling With Post-Chevron World

Republicans on Capitol Hill have introduced legislation that would require a review of all federal court decisions, laws, regulations and legal cases that used the Chevron Deference Doctrine as the basis for decisions.

The introduction of those bills reflects Congress’s effort to adjust to the post-Chevron world. In that regard, some GOP members of Congress are pressing for a review of cases in which the Chevron Deference Doctrine was used. While they may not be questioning those decisions from a legality perspective, they are questioning them from a public policy perspective.

In the Senate, Sen. Tom Cotton, R-Ark., has introduced S. 4641, legislation that would require the Government Accountability Office to submit a report to Congress identifying where federal courts have used the Chevron Deference Doctrine to reach a decision in favor of deference. The bill also would require federal agencies to conduct a review of cases where the agency was a party and was accorded Chevron deference.

“Overturning Chevron was a victory for Americans and the Constitution. Congress should make laws, not unelected bureaucrats,” Cotton said. “My legislation will make sure the verdicts that used Chevron to justify government overreach are reviewed.”

In the House, Rep. Mark Green, R-Wis., is taking a different approach. His legislation, H.R. 8889, would force agencies to sunset rules that were upheld using the Chevron Deference Doctrine if Congress has not enacted legislation codifying the rules. The Government Accountability Office would be required to compile a list of executive actions that have been upheld by Chevron deference. The actions would begin sunsetting every 30 days on a rolling basis unless they are upheld by congressional action.

“Chevron Deference not only usurps Congress’ lawmaking authority, but gives unelected and unaccountable bureaucrats in Washington enormous control over the lives of Americans,” Green said. “My legislation seeks to right this imbalance and restore Congress and the judiciary to their rightful places in our Constitutional system.”

On the other side of the issue, Congressional Progressive Caucus Chair Rep. Pramila Jayapal, D-Wash., is pressing Congress to pass her bill, H.R. 1507, which simply would codify the Chevron Deference Doctrine. Jayapal said that the bill makes it clear that “judges are not policy experts and that it is entirely appropriate for knowledgeable regulatory agencies to respond effectively to protect Americans.”

Other members of Congress are focusing on how Congress can be as specific as possible in legislation so as not to risk judicial review. The House Administration Committee has scheduled a July 23 hearing on “Congress in a Post-Chevron World.”

“As Chairman of the Committee on House Administration, I’m focused on strengthening the Legislative Branch’s capabilities,” Committee Chairman Rep. Brian Steil, R-Wis., said, immediately following the Supreme Court decision. “With Chevron being overturned, we will now begin a robust discussion regarding how the People’s House can play a prominent role in bringing common sense back to the regulations coming out of Washington.”

On the Senate side, Sen. Eric Schmitt, R-Mo., has formed a working group of Republican senators to discuss the impact of the decision and how Congress can more effectively legislate on issues that, in the past, would have been left up to administrative agencies.

Notably, the senators have sent letters to 101 federal agencies, asking how the regulatory decisions will be handled following the Loper decision.

Alan S. Kaplinsky, Richard J. Andreano, Jr. & John L. Culhane, Jr.

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Fifth Circuit Orders CFPB to File a Response to Petition for Rehearing En Banc in CFSA Case

We recently reported that, upon remand from the Supreme Court (after it ruled that the CFPB’s funding mechanism is Constitutional), the plaintiff-trade groups filed a petition for rehearing en banc in the Fifth Circuit in the CFSA v. CFPB case. In the petition, they requested the Fifth Circuit en banc to rehear other claims in their case attacking the remnants of the CFPB’s payday lending regulation which had earlier been rejected by the same Fifth Circuit panel of judges who held that the CFPB was unconstitutionally funded. Yesterday, the Fifth Circuit issued an order requiring the CFPB to respond to the petition by July 29. (The CFPB has filed an unopposed motion to extend the opposition response date until August 5.) This is an ominous development for the CFPB.

Alan S. Kaplinsky

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OCC to Review Its Preemption Interpretations in Light of Supreme Court Opinion and State Debanking Laws

On July 17, Acting Comptroller of the Currency Michael Hsu delivered prepared remarks before the Exchequer Club entitled “Size, Complexity, and Polarization in Banking.”

These were his first public remarks about the Supreme Court’s recent opinion in Cantero v. Bank of America. In that case, the Court reversed a Second Circuit opinion which had held that because of preemption a national bank need not comply with a New York law which requires the payment of 2% interest on residential mortgage escrow accounts. The Court remanded the case to the Second Circuit for it to determine whether the New York law is preempted under the Dodd-Frank preemption standard, posing this question to the Second Circuit: “Does the New York State law prevent or significantly interfere with the exercise of the national bank’s powers?” That is the preemption standard articulated by the Court in the Barnett Bank case.

Shortly after the enactment of Dodd-Frank on July 21, 2010, the OCC launched a rulemaking which purported to implement the preemption standard set forth in Dodd-Frank. The result of that rulemaking was a final regulation that, like the prior set of regulations, preempted categories of state laws. That regulation was heavily criticized by the Treasury, lawmakers and others for not faithfully applying the Barnett Bank preemption standard of whether the various state laws prevent or significantly interfere with the exercise of national bank powers.

Acting Comptroller Hsu announced that, in response to the Cantero opinion, the OCC will be taking a fresh look at its preemption regulations and will conduct the nuanced analysis mandated by the Court: He stated as follows:

“…[W]e are reviewing the agency’s 2020 interpretation of preemption [OCC Interpretive Letter No. 1173] under the Dodd-Frank Act to determine whether updates are needed in light of the recent Cantero decision. We need to develop a more nuanced and balanced approach to Barnett. Updating that interpretation could be a helpful step toward that.

The combination of vigorously defending core preemption, while being more precise in defining and applying the Barnett standard, will sharpen the OCC’s preemption powers. Doing so will allow us to meet the challenges of increasing polarization consistent with our rich history and deep roots.”

The mention of “increasing polarization” is a reference to the proliferation of state laws that prohibit banks from denying services to a person or company based on certain factors. This is often colloquially referred to as “debanking” a person or company. We recently blogged about one such law, a Florida law that, under the guise of identifying “unsafe and unsound” practices, prohibits federal and out-of-state financial institutions from “denying or canceling financial services to a person, or otherwise discriminating against a person in making available such services or in the terms or conditions of such services,” on the basis of a person’s:

  1. Political opinions, speech, or affiliations;
  2. Religious beliefs, religious exercise, or religious affiliations;
  3. Any factor if it is not a quantitative, impartial, and risk-based standard, including any such factor related to the person’s business sector ….

The Acting Comptroller castigated states for enacting these types of laws:

This trend seems to reflect the rise of polarization writ large. To varying degrees the culture wars, identity politics, and weaponization of finance are pushing toward greater and greater fragmentation of the U.S. financial system. Increasingly, banks are being asked by states to pick a side in service of performative politics rather than deliberative policy.

The OCC is a bulwark against this. Just as the advent of national banking was able to unify a fragmented banking system in the late 1800s, it can help ensure that parochial overreach today does not splinter our banking system.

We welcome the OCC’s decision to weigh in on what the First, Second and Ninth Circuits should do with respect to their mandate from the Supreme Court to determine whether state laws mandating the payment of interest on residential mortgage escrow accounts are preempted. Hopefully, the OCC will issue a new interpretive letter that will debunk the notion that the preemption determination needs to be made on a bank-by-bank basis or that a preemption determination for a particular bank could change in the future. We also hope that the OCC expands the scope of the interpretive letter to cover all the categories of state laws that are addressed in the OCC’s existing preemption regulations, While the immediate need is for OCC guidance with respect to the New York, California and Rhode Island laws requiring the payment of interest on residential mortgage escrow accounts, the need is for much broader guidance with respect to whether many other state laws are preempted. We also hope that the OCC converts its new interpretive letter into a full-blown regulation established after notice and comment rulemaking pursuant to the Administrative Procedure Act.

While under Dodd-Frank and the Supreme Court Court’s recent opinion in Loper Bright Enterprises, neither the OCC’s new interpretive letter or regulations will be entitled to Chevron deference, a well-reasoned, thorough and practical OCC preemption determination may be given some strong consideration by the courts.

Given the Cantero decision and the demise of the Chevron standard, national banks are moving closer to parity with state chartered banks when it comes to the preemption analysis of state laws. State banks have long been required to comply with many state laws that national banks have been able to eschew, but as a result of these recent decisions, national banks are beginning to conduct analyses similar to the reviews of state banks.

Finally, we want to address another important topic that was not mentioned by the Acting Comptroller in his remarks. By and large, national banks over the years have reasonably relied on the presumed validity of the OCC’s categorical preemption of certain state laws. To protect banks from being exposed to any liability to any government agency or individual for relying on those regulations, even if there is a subsequent determination by the OCC or any court that there is no preemption, we recommend that the Acting Comptroller support, and that Congress enact, a further amendment to the National Bank Act to protect those reliance interests. That amendment could be patterned after similar protective statutes that are part of many federal consumer financial services statutes. For example, Section 130 (f) of the Truth-in-Lending Act states:

“Good faith compliance with rule, regulation, or interpretation of Bureau or with interpretation or approval of duly authorized official or employee of Federal Reserve System. No provision of this section, section 1607(b) of this title, section 1607(c) of this title, section 1607(e) of this title, or section 1611 of this title imposing any liability shall apply to any act done or omitted in good faith in conformity with any rule, regulation, or interpretation thereof by the Bureau or in conformity with any interpretation or approval by an official or employee of the Federal Reserve System duly authorized by the Bureau to issue such interpretations or approvals under such procedures as the Bureau may prescribe therefor, notwithstanding that after such act or omission has occurred, such rule, regulation, interpretation, or approval is amended, rescinded, or determined by judicial or other authority to be invalid for any reason.”

The Equal Credit Opportunity Act (ECOA) —Section 706(e), 15 U.S.C. 1691e(e)., the Electronic Funds Transfer Act (EFTA) — Section 916(d), 15 U.S.C. 1693m(d), the Fair Debt Collection Practices Act (FDCPA) – Section 813(e), 15 U.S.C. 1692k(e) and the Real Estate Settlement Procedures Act (RESPA) – Section 19(b), 12 U.S.C. 2617(b) contain similar provisions.

Alan S. Kaplinsky, Richard J. Andreano, Jr., John L. Culhane, Jr., Joseph J. Schuster & Ronald K. Vaske

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NCUA Board Votes to Maintain 18% Interest Rate Ceiling on Most Loans

The NCUA board on July 18 voted to maintain its interest rate ceiling on most loans at 18% from Sept. 11, 2024 through March 10, 2026.

The only exception to that rate cap is loans modeled after the agency’s Payday Alternative Loan program; the interest rate on those loans will remain capped at 28%.

“Lowering the rate ceiling below the current temporary 18% maximum would threaten the safety and soundness of individual credit unions due to the anticipated adverse effect upon liquidity, capital, earnings, and growth,” agency staff told the board, in a memo.

The Federal Credit Union Act limits the interest rate that credit unions may charge on loans to 15%. However, that cap may be set higher if the NCUA consults with Congress, the Treasury Department and the appropriate congressional committees. The law sets two other conditions that must be met before the interest rate may be increased: money market interest rates must have risen over the preceding six-month period and the prevailing interest rate levels must threaten the safety and soundness of individual credit unions as evidenced by adverse trends in liquidity, capital, earnings, and growth.

“In the current rate environment, an 18-percent interest rate ceiling provides federal credit unions with sufficient ability to manage liquidity, capital, earnings, and growth, protects member access to safe and affordable credit, and does not require federal credit unions to incur any additional workload or costs associated with a change to the rate ceiling,” the agency staff said, in the memo.

The NCUA board last voted to set the ceiling at 18% effective from March 11, 2023, to September 10, 2024. In December, 1980, the NCUA board voted to increase the loan interest rate ceiling to 21%. In May, 1987, the board reduced the cap to 18% and has voted 23 times to maintain that cap.

This development is not only important to federal credit unions, but it is also important to state-chartered credit unions, banks and other lenders whose states contain statutes giving those entities usury parity with federal credit unions.

Ronald K. Vaske, Kaley Schafer & Loran Kilson

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Witnesses Call on Congress to Establish Regulatory Office in Wake of Loper

Congress must adjust to the demise of the Chevron Deference Doctrine by drastically improving its regulatory expertise, witnesses told a House Committee on July 23.

“Congress must reclaim its lawmaking and rule-writing authority from the executive branch by marshaling appropriate resources and full-time personnel to perform regulatory oversight, including cost-benefit analysis and disclosures often neglected by the executive branch, sometimes in violation of law,” Clyde Wayne Crews Jr., a fellow in regulatory studies at the Competitiveness Enterprise Institute, told the House Administration Committee at a hearing on the impact of the Supreme Court’s Loper decision.

While other witnesses said that the decision will provide federal judges with more power, Crews emphasized that Congress must step up and write laws with much more specificity or risk having them interpreted by courts without the guidance of agencies.

Crews noted that policymakers have long called for the establishment of a Congressional Office of Regulatory Analysis.

Kevin Kosar, a senior fellow at the American Enterprise Institute agreed that an office he referred to as the Congressional Regulation Office is essential in the post-Loper world.

“Congress must invest in its capacity if it wants to have any chance of ensuring the executive branch is faithfully executing the law when it issues regulations,” he said, adding that the new office should be modeled after the Congressional Budget Office.

Satya Thallam, senior vice president of government affairs at Americans for Responsible Innovation and a senior fellow at the Foundation for American Innovation, said while Congress could beef up its regulatory oversight it also could simply enshrine the Chevron Deference Doctrine in law.

“Nothing in the decision prohibits Congress from delegating vast swaths of authority to the Executive Branch—it just has to say so explicitly,” she said.

Indeed, Rep. Pramila Jayapal, D-Wash., has introduced H.R. 1507, which would make the Chevron Deference Doctrine federal law.

Josh Chafetz, a professor of law and politics at the Georgetown University Law School said Congress could pass legislation making it clear that an agency must follow Congress’s directives.

“Indeed, if Congress were so inclined, rather than inserting these Chevron clauses into individual regulatory statutes, it could pass…Chevron writ large,” he said. “In other words, it could pass a single statute saying something like, ‘In any circumstances in which the application of any act is ambiguous, the agency statutorily charged with administering that act shall interpret the act consistently with the act’s purpose and the agency’s mission.’”

Daniel JT McKenna, John L. Culhane, Jr., Alan S. Kaplinsky & Burt M. Rublin

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Banking Regulators Ask Fifth Circuit to Lift Injunction Blocking CRA Rules

Federal banking regulators are asking the Fifth Circuit Court of Appeals to lift a Texas court injunction barring implementation of new Community Reinvestment Act (CRA) rules.

In asking the court to lift the injunction, the FDIC, OCC and Federal Reserve Board contend that U.S. District Judge Matthew Kacsmaryk erred by finding that only the geographic area around a bank’s physical facilities should be taken into account when assessing the financial institution’s record of meeting community needs under the CRA.

In February, groups including the U.S. Chamber of Commerce, the Independent Community Bankers of America and the American Bankers Association sued, contending that the rules did not follow the statute and that they would impose tremendous costs on financial institutions.

In asking that the injunction be lifted, the regulators said, among other things, that the banking industry has changed tremendously since the last time the CRA rules were rewritten.

“Since the last comprehensive update to the regulations in 1995, a subset of banks, such as primarily online banks, are now conducting substantial shares of their retail lending away from these physical facilities, creating a lack of parity in how institutions with different business models are evaluated,” the regulators argued.

They said that Judge Kacsmaryk had “grafted” an exclusion into the language of the law when he issued his injunction in March. “Such rewriting of the statute is impermissible,” the agencies argued.

Although we believe the retail lending test and retail lending assessment areas were unnecessary additions to the Final Rule, the decision of the District Court was surprising. The Act states that “[i]n connection with its examination of a financial institution, the appropriate Federal financial supervisory agency shall—(1) assess the institution’s record of meeting the credit needs of its entire community, including low- and moderate-income neighborhoods, consistent with the safe and sound operation of such institution…” The Act itself does not define a bank’s “entire community” and, given technological changes that have reduced reliance on brick and mortar branch offices, it is not unreasonable for the regulators to consider how an institution’s “entire community” is measured.

We would have preferred to see assessment areas determined not only where banks maintained offices, branches, and deposit-taking remote service facilities, but also, for institutions that source significant deposits from locations where they do not have facilities, where they source those deposits. The rule, as written, allows a bank to take deposits over the internet from a community, but not make loans in that community. We continue to think that is a mistake, but think the Act, as written, permits regulators to reconsider how an institution’s entire community is defined.

Scott A. Coleman

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Federal Banking Agencies Issue NPRM Consistent With FinCEN’s AML/CFT Modernization Proposal

The federal banking agencies, including the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation, the National Credit Union Administration, and the Office of the Comptroller of the Currency (collectively the Agencies), issued a notice of proposed rulemaking (Agencies’ NPRM) to modernize financial institutions’ anti-money laundering and countering terrorist financing (AML/CFT) programs. The Agencies’ NPRM is consistent with FinCEN’s recent AML/CFT modernization proposal (FinCEN’s NPRM), on which we blogged here.

The Agencies’ NPRM does not substantively depart from FinCEN’s NPRM and requires the same program requirements. Although the Anti-Money Laundering Act (AML Act) did not require the Agencies to amend their regulations, the Agencies’ goal is to maintain consistent program requirements. The NPRM states that financial institutions will not be subject to any additional burdens in complying with differing standards between FinCEN and the Agencies.

The NPRM

The Agencies’ NPRM includes two notable changes to the Agencies’ regulations (both of which were included in FinCEN’s NPRM): (1) the addition of Customer Due Diligence requirements for covered financial institutions, which were historically located only in FinCEN’s regulations; and (2) the requirement that the duty to establish, maintain, and enforce an AML/CFT program remain the responsibility of, and be performed, by persons physically located in the United States who are subject to oversight and supervision by FinCEN and the Agencies.

Other than these notable changes, the NPRM provides additional color on each program requirement, some of which has existed in Agency guidance.

In terms of adopting the AML/CFT Priorities, the NPRM highlights that financial institutions will have flexibility over the manner in which the priorities are integrated into their risk assessments and the method of assessing the risks of each priority.

The NPRM indicates that the addition of the term “effective” in the overall requirement to “establish, implement, and maintain an effective, risk-based, and reasonably designed BSA compliance program” is a clarifying amendment, as the Agencies evaluate the effectiveness of the overall program and not just its design.

The NPRM notes that a “qualified” compliance officer should have the requisite training, skills, expertise, and experience commensurate with the financial institution’s risks. Thus, a compliance officer at a less-complex financial institution may not necessarily have the experience and training as a compliance officer at a more complex financial institution. Additional job duties or conflicting responsibilities that adversely impact the compliance officer’s ability to effectively coordinate day-to-day compliance would also not meet the program requirement. The NPRM also clarifies that board approval alone of the AML/CFT program is not sufficient to meet program requirements.

The Agencies’ NPRM has not yet been published in the Federal Register, so the 60-day period for public comment has not yet begun to run.

The Interagency Statement

In conjunction with announcing the Agencies’ NPRM, the Agencies and FinCEN issued an Interagency Statement. The Interagency Statement reiterates the key points of the NPRM. It also highlights the focus on fostering innovative approaches and cross-references 2018 interagency guidance on the issue. Moreover, the Interagency Statement notes that both FinCEN and the Agencies will “continue to explore various regulatory processes to encourage and facilitate financial institutions’ use of technology or innovative approaches to meet BSA compliance obligations.” The intent is to build upon existing partnerships with the private sector, including through the Bank Secrecy Act Advisory Group Subcommittee on Innovation and Technology.

The Agencies reiterate their commitment to fully implementing the examination and supervision measures of the AML Act, including by providing additional guidance and examination procedures, as well as training for bank examiners. The Interagency Statement lists other future efforts to fully implement the AML Act, such as enhancing feedback loops between law enforcement and financial institutions on BSA reporting, and streamlining BSA reporting requirements. Finally, the Interagency Statement notes that FinCEN, in consultation with the Agencies, will issue a proposed rule to revise the Customer Due Diligence rule for financial institutions in order to align it with the Corporate Transparency Act.

If you would like to remain updated on these issues, please click here to subscribe to Money Laundering Watch. Please click here to find out about Ballard Spahr’s Anti-Money Laundering Team.

Kaley Schafer

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New Florida Law Prohibits Banks From Considering Customers’ Political, Religious Beliefs

A Florida law that prohibits federal and state depository institutions conducting business in the state from denying services based on religion or political beliefs and activities went into effect on July 1.

State law already prohibited state-chartered financial institutions from denying services based on those issues.

The legislation, HB 989, was passed by the Florida Legislature earlier this year and was signed by Gov. Ron DeSantis in May. “We are not going to allow big banks to discriminate based on someone’s political or religious beliefs, and we will continue to fight back against indoctrination in education and the workplace,” DeSantis said, as he signed the bill.

The law creates a new “unsafe and unsound practice” that prohibits federal and out-of-state financial institutions from “denying or canceling financial services to a person, or otherwise discriminating against a person in making available such services or in the terms or conditions of such services,” on the basis of a person’s:

  • Political opinions, speech, or affiliations;
  • Religious beliefs, religious exercise, or religious affiliations;
  • “Any factor if it is not a quantitative, impartial, and risk-based standard, including any such factor related to the person’s business sector;”

It also prohibits the “use of any rating, scoring, analysis, tabulation, or action that considers a social credit score based on factors, including, but not limited to, a person’s: political opinions; religious beliefs; lawful ownership of a firearm; engagement in the lawful manufacture, distribution, sale, or use of firearms; engagement in the exploration, production, utilization, transportation, sale, or manufacture of fossil fuel-based energy, timber, mining, or agriculture; support of a state or federal government in combatting illegal immigration, drug trafficking, or human trafficking.”

Notably, the law also creates a process for customers who suspect there has been a violation to file a complaint with the Florida Office of Financial Regulation (OFR). The customer must file that complaint within 30 days and the office is required to notify the financial institution, which then has 90 days to respond. The OFR is required to start its investigation within 90 days of receiving the complaint and to create a report of its findings within 30 days after the completion of its investigation. OFR is required to send a report to the customer and financial institution within 45 days after the completion of the investigation.

If OFR finds a violation, the office is required to notify the state Department of Financial Services, as well as the Florida Attorney General. A financial institution may be fined if it is found to have violated the law and it may be deemed to have violated the Florida Deceptive and Unfair Trade Practices Act, which also provides for sanctions and penalties.

It is unclear if the law applies to an out-of-state financial institution with customers in Florida but with no physical presence in the state. It also is not clear whether any customer may file a complaint or if the customer must be a Florida resident.

But there are fines and penalties for noncompliance and a financial institution violating the law may also be deemed to have violated the Florida Deceptive and Unfair Trade Practices Act, which also provides for sanctions and penalties, plus, if the Attorney General successfully sues the institution, the recovery of attorney’s fees and costs as well.

Florida state officials said that financial institutions that are not clear about the applicability of the law must file a petition for a declaratory statement with the state Office of Financial Regulation.

Several states have enacted laws intended to prevent financial institutions from discriminating against people engaged in certain activities. For instance, a 2021 Texas law prohibited municipalities from conducting business with financial institutions that discriminated against gun-related businesses.

Joseph J. Schuster, John L. Culhane, Jr., Alan S. Kaplinsky, Ronald K. Vaske & Michael R. Guerrero

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Three Members of Congress and U.S. Treasury Express Concerns That Florida Law Prohibiting Banks From Considering Customers’ Business Sectors or Political or Religious Beliefs Conflicts With Federal AML/CFT Requirements

As we previously blogged, a Florida law (Fla. Stat. § 655.0323, entitled “Unsafe and unsound practices”) which became effective July 1, 2024 prohibits federal and state depository institutions conducting business in the state from denying services based on religion or political beliefs and activities. Every year, financial institutions must attest to their compliance with the Florida law. When he signed the bill into law, Governor Ron DeSantis said, “We are not going to allow big banks to discriminate based on someone’s political or religious beliefs, and we will continue to fight back against indoctrination in education and the workplace.”

As we will discuss, the Florida law also prohibits a financial institution acting on the basis of “any factor if it is not a quantitative, impartial, and risk-based standard, including any such factor related to the person’s business sector[.]” This prohibition in particular creates a clear challenge for implementing an anti-money laundering/countering the financing of terrorism (AML/CFT) compliance program, which inherently involves subjective judgments and an assessment of the risk presented by a customer based on its line of business. The problematic implications of the Florida law did not go unnoticed by the U.S. Congress or the U.S. Department of the Treasury (Treasury).

The Florida Law

The Florida law creates a new “unsafe and unsound practice” that prohibits federal and out-of-state financial institutions from “denying or canceling financial services to a person, or otherwise discriminating against a person in making available such services or in the terms or conditions of such services” on the basis of a person’s political opinions, speech, or affiliations; religious beliefs, religious exercise, or religious affiliations.

Most problematic for the purposes of an effective AML/CFT compliance program, the law also prohibits a financial institution acting on the basis of “any factor if it is not a quantitative, impartial, and risk-based standard, including any such factor related to the person’s business sector[.]” Although the Bank Secrecy Act requires an AML/CFT program to be “risk-based,” it is difficult to discern how the Florida law requirements for a “quantitative” and “impartial” standard will play out, because decisions regarding AML/CFT risks necessarily occur in a gray zone based on the particular circumstances, subjective judgment, the expectations of federal regulators, and a financial institution’s risk appetite. Notably, a customer’s business sector is always a critical factor in any AML/CFT program.

The law further prohibits the use of “any rating, scoring, analysis, tabulation, or action that considers a social credit score based on factors,” including, but not limited to a person’s: political opinions or affiliations; religious beliefs; lawful ownership of a firearm; engagement in the lawful manufacture, distribution, sale, or use of firearms; engagement in the exploration, production, utilization, transportation, sale, or manufacture of fossil fuel-based energy, timber, mining, or agriculture; support of a state or federal government in combatting illegal immigration, drug trafficking, or human trafficking; and any related advocacy of the foregoing.

The law also creates a process for customers who suspect there has been a violation to file a complaint with the Florida Office of Financial Regulation (OFR). The customer must file that complaint within 30 days and the OFR is required to notify the financial institution, which then has 90 days to respond. The OFR is required to start its investigation within 90 days of receiving the complaint and to create a report of its findings within 30 days after the completion of its investigation. OFR is required to send a report to the customer and financial institution within 45 days after the completion of the investigation. If OFR finds a violation, the office is required to notify the state Department of Financial Services, as well as the Florida Attorney General.

A financial institution may be fined if it is found to have violated the law and it may be deemed to have violated the Florida Deceptive and Unfair Trade Practices Act, which also provides for sanctions and penalties. The law also creates a process for customers who suspect there has been a violation to file a complaint with the Florida Office of Financial Regulation (OFR). The defined complaint process seems to indicate that financial institutions will share with the OFR action taken in conjunction with the decision to file a Suspicious Activity Report (“SAR”), even though any such sharing would violate federal law. For example, a national bank regulated by the Office of the Comptroller of the Currency (OCC) is subject to regulations which prohibit banks from disclosing a SAR or the decision to file or not file a SAR to anyone outside of the bank, other than the OCC, FinCEN, or any Federal, State, or local law enforcement agency. The OFR is a state regulator and is not a “law enforcement agency.”

Historically, when financial institutions “de-risk” – i.e., reject or close accounts – customers due to AML/CFT concerns, they can rely on their customer agreements, which typically grant the financial institution total discretion. It is very difficult for a customer to successfully challenge being de-risked. Further, the decision-making process is confidential, and can involve the decision to file a SAR, as noted above. Financial institutions also often de-risk certain customers because they fear consequences from their federal regulator if they do not. The Florida law undermines these banking AML/CFT de-risking practices.

The Concerns

On July 8, 2024, U.S. Congressmen Josh Gottheimer (D-NJ), Blaine Luetkemeyer (R-MO), and Brad Sherman (D-CA) wrote Treasury, the Office of the Comptroller of the Currency and the Financial Crimes Enforcement Network to express their concerns regarding “the ongoing challenges to the federal anti-money laundering and terrorist framework and to urge you to continue defending these critical components of the financial system.” The Congressmen stated that recently enacted state laws, like the Florida law, may create conflicts for financial institutions that must comply with federal AML/CFT laws and jeopardize the confidentiality of SARs.

They expressed:

Weakening these confidentiality practices could expose banks’ processes for detecting suspicious activity and financial crimes. Even more concerningly (sic), these disclosures could tip off suspects to the fact that they are under investigation or guide bad actors — including terrorists, financial criminals, and hackers — on how to change their behavior to avoid detection. We cannot allow state laws to supersede well-trodden federal norms regarding SAR secrecy and potentially endanger our national security or economic stability.

On July 18, 2024, Brian Nelson, Treasury’s Undersecretary for Terrorism and Financial Intelligence, responded to the Congressmen’s letter indicating that the Treasury shares the concerns that Florida’s law could undermine financial institutions’ compliance with anti-money laundering and countering the financing of terrorism laws and national security requirements.

He stated:

Bad actors seek to exploit weaknesses in our financial system, and our ability to stop them depends on assessments of risk-based factors including the services sought by a customer, the locations where the customer transacts business, and the particular bank’s ability to manage risks effectively. By prohibiting the consideration of any factor that is not “quantitative,” these state laws could prevent banks from considering these types of qualitative factors and discourage their efforts to appropriately identify and address risks.

. . . . For example, it is unclear whether the prohibition [in Florida’s law] on considering a customer’s “affiliations” allows banks to assess a customer’s association with a designated terrorist group—a fact clearly relevant to risk-based assessments under the BSA and U.S. sanctions laws. Similarly, because the law prohibits banks from considering factors “related to the person’s business sector,” some institutions may believe they should disregard whether certain sectors—such as the international trade in goods critical to Russia’s war effort or the manufacture and sale of fentanyl precursor chemicals—are significantly higher-risk than others. Finally, by generally requiring state regulators to issue investigative reports following complaints of account closures or restrictions directly to the individuals who submitted them, state laws risk disclosing sensitive information regarding suspicious activity reports (SARs), which must be kept confidential under federal law. Even a redacted investigative report may implicitly reveal that a SAR has been filed, potentially tipping off terrorists, criminals, and others who would do our country harm.

Other Issues

Fines and penalties for noncompliance apply and a financial institution violating the law may also be deemed to have violated the Florida Deceptive and Unfair Trade Practices Act, which also provides for sanctions and penalties. Plus, if the Attorney General successfully sues the institution, the law provides for the recovery of attorney’s fees and costs as well. Florida state officials said that financial institutions that are not clear about the applicability of the law must file a petition for a declaratory statement with the state Office of Financial Regulation. The Florida law also will encourage de-risked customers – including those who were appropriately de-risked – to pursue lawsuits.

There are many thorny issues on the horizon. It is unclear if the law applies to an out-of-state financial institution with customers in Florida but with no physical presence in the state. It also is not clear whether any customer may file a complaint, or if the customer must be a Florida resident. Presumably, national banks will need to complete a federal preemption analysis with respect to the Florida law. We have helped clients navigate these types of issues and conduct state law preemption analyses.

If you would like to remain updated on these issues, please click here to subscribe to Money Laundering Watch. Please click here to find out about Ballard Spahr’s Anti-Money Laundering Team.

Kristen E. Larson & Peter D. Hardy

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Join Us at the 2024 HR Legal Summit – Register Today!

Please join us for the 12th Annual HR Legal Summit, co-sponsored by Ballard Spahr and SEPA SHRM. This year’s HR Legal Summit will be held on Thursday, September 19, 2024 from 8:00 AM – 4:30 PM. The Summit is relevant for HR professionals, employment attorneys, and anyone who wants to ensure they remain current on legal developments impacting Human Resources.

The Summit will include:

  • Keynote session on How Ted Lasso’s Leadership Style Can Help You Build Psychological Safety, led by Jeff Harry, an international speaker and recent SHRM National presenter, who shows audiences how major issues in the workplace can be solved through play.
  • Two Plenary Sessions and four concurrent Break-Out Sessions led by Ballard Spahr labor and employment attorneys on the latest and greatest employment law issues facing HR, including:
    • Plenary Sessions
    • Break-Out Sessions
      • I, Robot: Artificial Intelligence & the Workplace (Michele Solari)
      • #$%&! Civility, Bullying & Respect in the Workplace (Lou Chodoff)
      • Charting the Course: The Future of Diversity, Equity, & Inclusion After the Harvard/UNC Decision (Elliot Griffin)
      • Regulate or De-Regulate? The HR Regulatory Environment & Impact of Loper Bright (Shannon Farmer)
  • Sponsor and Exhibitor Hall full of companies with tools and resources to help you and your organization!
  • Tons of prizes and giveaways for attendees, including a SHRM Certification course, offered by our Platinum Sponsor, Villanova!

Don’t miss the chance to earn SHRM/HRCI recertification credits or CLE credits … and most importantly to connect with other HR professionals.

Early bird registration deadline for the HR Legal Summit is now through August 18, 2024. Seats are limited so register today!

Click Here to Register for the 2024 Summit

Click Here to See the 2024 Summit Schedule

Click Here to See Session Descriptions

Click Here to See Exhibitor and Sponsor Opportunities

Brian D. Pedrow

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Looking Ahead

The Demise of the Chevron Deference Doctrine and the Impact on the Consumer Finance Industry

A Ballard Spahr Webinar | August 6, 2024, 2:00 PM – 3:30 PM ET

Speakers: Alan S. Kaplinsky, Richard J. Andreano, Jr., John L. Culhane, Jr.

Have State-Chartered, FDIC-Insured Banks Finally Achieved Interstate Usury Parity with National Banks?

A Ballard Spahr Webinar | August 8, 2024, 1:30 PM – 2:45 PM ET

Speakers: Alan S. Kaplinsky, Joseph Schuster, Ronald K. Vaske, Mindy Harris, Kristen Larson, Burt M. Rublin

The CFPB’s Use of Interpretive Rules to Expand Regulatory Requirements for Buy-Now, Pay-Later and Earned Wage Access Products

A Ballard Spahr Webinar | August 13, 2024, 1:30 PM – 3:00 PM ET

Speakers: Alan S. Kaplinsky, John L. Culhane, Jr., Michael R. Guerrero, Joseph Schuster, John Kimble

CFPB’s Proposed Mortgage Servicing Rule Amendments – Understanding the Impact on Loss Mitigation, Foreclosure, and Language Access

A Ballard Spahr Webinar | August 14, 2024, 2:00 PM – 3:00 PM ET

Speakers: Reid F. Herlihy, Richard J. Andreano, Jr., Matthew A. Morr

MBA Human Resources Symposium 2024

September 18-19, 2024 | MBA Headquarters, Washington, D.C.

Agenda

Fair Labor Standards Act and 2024: New Rules, New Headaches

September 18, 2024 – 9:15 AM ET

Speaker: Meredith S. Dante

The Loan Originator Compensation and Other Regulatory and Legal Developments

September 18, 2024 – 1:00 PM ET

Speaker: Richard J. Andreano, Jr.

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