BSCR Firm News/Blogs Feed

Litigation is not late in challenging new CFPB Rule capping credit card late fees.

04 Apr 2024

ABSTRACT: The banking industry and financial services business groups did not wait long to file litigation challenging a recent rule enacted by the Consumer Financial Protection Bureau looking to limit the fees credit card issuers can charge for late payments.

We have our eyes on recent litigation arising out of the Northern District of Texas. On March 7, 2024, a lawsuit challenging a new rule issued by the Consumer Financial Protection Bureau (“CFPB”) on March 5th, 2024, was filed by the American Bankers Association and other financial services business groups (collectively the “ABA”). The TILA has a statutory requirement that fees, such as late fees, be reasonable and proportional to the omission or violation to which the fee relates, and the CFPB determined current late fees exceeded the reasonable and proportional statutory limit.

Summary of the New Rule

The CFPB issued a final rule amending Regulation Z of the Truth in Lending Act (“TILA”). The new rule caps fees for large credit card issuers, allowing a charge of no more than $8 when a consumer makes a late payment on their credit card. The prior version of Regulation Z capped late payment fees at $30.00 for first time offenses and $41.00 for each subsequent violation. The Final Rule also removes a provision which automatically adjusted the ceiling for late fees to keep pace with inflation. If the rule becomes effective, it will apply to approximately 95% of all credit cards issued in the United States.

The final rule does allow banks to seek to charge a higher fee if they can demonstrate a higher cost in collecting penalties after late payment occurs, but the credit card companies cannot include the cost of collection efforts in making that demonstration.

Litigation Commenced Immediately

The banking industry and business groups did not wait long to challenge the CFPB's Final Rule. On March 7th, 2024, the Chamber of Commerce of the United States of America, The American Bankers Association, and other business groups filed litigation in the Northern District of Texas challenging the CFPB's Final Rule. The ABA alleges that the CFPB's final rule is not only unlawful, but also that the Rule violates the appropriations clause of the United States Constitution and exceeds the CFPB's statutory authority. The ABA has asked the Texas District Court to vacate the Final Rule.

History of the TILA and Regulation Z

Congress enacted the credit card Accountability Responsibility and Disclosure Act in 2009. The Card Act includes a series of provisions governing credit card terms and conditions, including penalties or for late fees requiring the same to be reasonable and proportional. Congress delegated to the CFPB the duty to establish standards for assessing whether the amount of any penalty fee is reasonable and proportional. In setting those standards, the CFPB is charged with considering, among other things, the deterrent effect of a late fee, the conduct of the cardholder, and the cost card issuers incur because of late payments. The ABA argues the provisions of the Card Act demonstrate Congress's recognition that for penalty fees to be effective, they must be sufficient to deter late payments, account for the conduct of late payments by consumers, and compensate card issuers for the costs incurred from late payments. The ABA contends of the Final Rule does not satisfy the charge of Congress in delegating the authority to the CFPB to enforce the Card Act. The ABA also argues that the new Rule will harm credit card users who pay their bills on time because of an increase likely to occur in the minimum payments, annual fees, or APRs or for credit card issuers to offer fewer rewards to all customers.

Challenges to the CFPB’s New Rule

The ABA argues the CFPB exercised flawed statutory interpretation and rule-making authority in issuing the Final Rule. Specifically, the ABA argues the CFPB adopted a new standard linked solely to the issuers costs and ignored other requirements. Congress charged the CFPB with considering and making new rules. The ABA also argues that CFPB's flawed statutory interpretation is particularly evidenced in the context of cardholders who are repeatedly late in making their payments. The Final Rule does not allow a higher fee for subsequent late payments and thus has no additional deterrent effect on repeat late payers as opposed to persons who are only late on a single instance.

The ABA also argues that the CFPB improperly relied on non-public data in issuing the Final Rule.

The ABA and other business groups also reiterate a challenge to the CFPB's funding structure, which has been challenged in other litigation. See our prior blog entries on the challenge to the CFPB’s funding structure for additional information.

In addition to the legal challenge brought by the ABA, it is likely that the legislature will seek to repeal the CFPB's new Rule, and Tim Scott, Senator of South Carolina, has already vowed to pursue legislative repeal of the same.

Baker Sterchi attorneys will continue to monitor the litigation arising out of the CFPB's Final Rule. Contact our Financial Services Practice Group for more information.

Lenders Beware of Potential Litigation Stemming from Credit Decisions Based on AI

20 Feb 2024

ABSTRACT: Artificial Intelligence and Machine Learning are inevitable, and in many ways, beneficial. But lenders are cautioned to implement best practices in order to ensure credit decisions are made fairly and equitably, with or without the use of AI.

AI and Fair Lending Regulations

Last fall, the Consumer Financial Protection Bureau (“CFPB”) cautioned lenders that the use of artificial intelligence (“AI”) does not excuse fair lending regulations. Amid reports of error and potential biases among artificial intelligence systems used to evaluate loan applications, and an uptick in cases in other industries involving the use of AI, a new litigation trend in lending and mortgage servicing could see a rise in 2024.

From Chatbots to Credit Evaluations

AI has permeated almost every industry, and banking is no exception. No doubt those reading this post have likely encountered “chatbots” during online banking sessions or when attempting to contact their financial institution for general customer service inquiries. AI and machine learning can be used by lenders to communicate and resolve customer issues, and it can also be used in the credit application and approval process to evaluate risk and assess various factors such as credit history, income, and spending habits in order to predict loan performance.

Fiction Versus Facts

Under the Equal Credit Opportunity Act (“ECOA”), lenders are prohibited from discriminating on the basis of factors such as race, color, religion, national origin, sex, marital status, age, and receipt of public assistance. When those loans involve the purchase of a home, the Fair Housing Act (“FHA”) also comes into play. Both statutes provide for a private right of action by aggrieved applicants. Additionally, AI “hallucinations,” where fiction is presented as fact, are cited as a substantial risk among surveyed lenders.

AI Risks in Credit Decisions

The CFPB, through Director Chopra, has made it clear that “Creditors must be able to specifically explain their reasons for [loan] denial. There is no special exemption for artificial intelligence.” Furthermore, the explanation cannot just be a blanket response, but instead must provide more detail. For example, the CFPB Bulletin provides that ‘if a creditor decides to lower the limit on a consumer’s credit line based on behavioral spending data, the explanation would likely need to provide more details about the specific negative behaviors that led to the reduction beyond a general reason like ‘purchasing history.’” Thus, lenders must have a comprehensible and above-board explanation for why a loan is denied. Relying on AI or machine earning to simply check a box is insufficient.

Potential AI Litigation in Lending

A warning from the CFPB is one thing, but is litigation on the horizon? Perhaps. While not in the lending sphere, cases began to crop up in late 2023 by class plaintiffs against health insurance providers for negative consequences they allege were the result of use of flawed AI in evaluating physician determinations of “medically necessary” care and denying claims. In a case currently pending before the United States District Court in Minnesota, the plaintiffs claim a 90% error rate in evaluating medical necessity of treatment, which they claim has had a particularly detrimental effect on seniors in need of care. While this case is still in its infancy, it could be a signal of things to come.

Mitigating AI Risks in the Financial Services Sector

AI and machine learning is inevitable, but it is key that lenders implement best practices to avoid liability. Continuous monitoring and diligent testing of behaviors and outcomes of models, creating audit trails, and having human decision-making or appeal processes may help to ensure credit decisions are compliant.

Conclusion

Baker Sterchi will continue to monitor both regulatory and litigation updates pertaining to the use of AI and machine learning in lending and servicing.

The United States Supreme Court affirmed the Third Circuit in Finding Waiver of Sovereign Immunity by the Fair Credit Reporting Act (FCRA)

13 Feb 2024

ABSTRACT: The Supreme Court affirmed a Third Circuit Court of Appeals decision finding Congress has explicitly permitted consumer claims for damages against the Federal Government under the Fair Credit Reporting Act (“FCRA”).

We have an update to our prior blog post (below) regarding Department of Agriculture Rural Development Rural Housing Service v. Reginald Kirtz.

On Thursday, February 8, 2024, the United States Supreme Court, in a 9-0 decision written by Justice Gorsuch, found the Fair Credit Reporting Act (“FCRA”) unequivocally and unambiguously waives the Federal Government’s sovereign immunity from claims for private damages.

The Supreme Court, in determining Congress had chosen to waive sovereign immunity, applied the “clear statement” rule, which permits suit against the government only when the language of the statute is unmistakably clear in authorizing suit. The Supreme Court has found there are two ways in which Congress can waive sovereign immunity when enacting statutes. First, when a statute expressly states that it is stripping immunity from a sovereign entity. Second, when a statute creates a cause of action, and then explicitly authorizes suit against a government on that claim.

The Supreme Court affirmed the Third Circuit in finding that the plain text of the FCRA operates as a waiver of sovereign immunity, and authorizes litigation against Federal governmental agencies. Specifically, the Supreme Court found (1) the FCRA requires “persons” who furnish information to consumer reporting agencies to investigate consumer complaints and make any necessary corrections; (2) the Act authorizes consumer suits for money damages against “any person” who willfully or negligently fails to comply with the FCRA’s directives, and (3) “person” is defined to any governmental agency under the Act.

As such, FCRA allows consumers to sue government agencies who willfully or negligently supply false information about them to credit reporting agencies.

The Supreme Court’s decision does not address the merits of Kirtz’s claim. The litigation will return to the District Court where Mr. Kirtz alleges that (1) the USDA furnished information to TransUnion, (2) the agency had notice that the information it supplied was false, (3) the false information from the USDA impaired Kirtz’s ability to access affordable credit, and (4) the USDA failed to correct its mistake – either willfully or negligently.

The United States Government is the country’s largest lender. A 2021 study cited by the Consumer Financial Protection Bureau found that more than one-third of consumers surveyed were able to identify one or more errors in their credit reports. Future FCRA litigation may include claims against governmental agencies that fail to comply with FCRA’s directives.

PRIOR BLOG POST regarding Department of Agriculture Rural Development Rural Housing Service v. Reginald Kirtz, published September 25, 2023:

The Scales Tilt Away from the Federal Government – Third Circuit Joins the Seventh Circuit in Finding Waiver of Sovereign Immunity by the Fair Credit Reporting Act (FCRA)

By: Gregorio Silva

ABSTRACT: The Third Circuit Court of Appeals found a waiver of sovereign immunity under the Fair Credit Reporting Act (“FCRA”) and reversed a District Court’s dismissal in favor of the United States Department of Agriculture Rural Development Rural Housing Service. Now two Circuits (the Third and Seventh), plus the District of Columbia, have found that the FCRA unequivocally and unambiguously waives the federal government’s sovereign immunity from private damages claims.

We have our eyes on Department of Agriculture Rural Development Rural Housing Service v. Reginald Kirtz, where the Supreme Court will resolve a Circuit Split regarding whether the Fair Credit Reporting Act (“FCRA”) unequivocally and unambiguously waives the federal government’s sovereign immunity from private damages. The Third and Seventh Circuits, plus the District of Columbia, have found the FCRA unequivocally and unambiguously waives the government’s sovereign immunity, while the Fourth and Ninth Circuits have found no waiver of sovereign immunity under the FCRA. The Supreme Court granted certiorari on June 20, 2023, and hearing on the matter is set for November 6, 2023.

The Third Circuit Court of Appeals reversed a District Court’s dismissal of litigation brought by Reginald Kirtz against the United States Department of Agriculture Rural Development Rural Housing Service (“USDA”). Kirtz filed suit against the USDA, Transunion, and the servicer of his student loans alleging violations of RCRA §1681. Specifically, Kirtz alleged that a Transunion credit report erroneously stated that his payments on a USDA loan were past due, when the loan had been fully paid; Kirtz also alleged that he sent a dispute letter to Transunion who notified the USDA of the issue, but that the USDA failed to make a good-faith effort to investigate or correct the disputed information as required by the FCRA.

The USDA sought dismissal of Kirtz’s litigation on the grounds that the FCRA does not include a waiver of sovereign immunity by the U.S. Government from civil liability and damages by a private plaintiff. Kirtz’s position was that the FCRA’s definition of “person” includes any government or governmental subdivision or agency, and 1996 amendments to the FCRA provided for civil liability against any person who failed to investigate a disputed deficiency on their credit report. The District Court found, relying on opinions from the Fourth and Ninth Circuits as persuasive authority, that the FCRA did not include an unequivocal waiver of sovereign immunity, and dismissed Kirtz’s claims.

The court of appeals found that the plain text of the statute operates as a waiver of sovereign immunity, emphasizing the fact that the applicable subchapter expressly incorporates the definition of person used in the FCRA that includes the government and governmental agencies; the court also stressed that other statutory schemes expressly preserve the U.S. Government’s sovereign immunity against civil suits, and there was no such express reservation included in the FCRA.

Background of the Fair Credit Reporting Act

Congress enacted the FCRA in 1970, to promote efficiency in the Nation’s banking systems and to protect consumer privacy. As originally enacted, the FCRA imposed duties almost exclusively on “consumer reporting agencies,” those entities engaged in “assembling or evaluating consumer credit information … for the purposes of furnishing consumer reports to third parties.” Two separate single provisions imposed duties or liability on a “person,” which included “any individual, partnership, corporation, trust, estate, cooperative, association, government or governmental subdivision or agency or other entity.” Section 606 limited the conditions under which a “person” could procure or cause to be prepared a consumer report, and Section 619 imposed criminal penalties when a “person” obtained consumer information under false pretenses.

In 1996 Congress amended the FCRA to expand its regulatory focus beyond consumer reporting agencies, to include persons who furnish information to those agencies. A provision of the 1996 enactment required a “person” to conduct an investigation upon receipt of notice of a dispute regarding the completeness or accuracy of any information provided by the person to the consumer reporting agency. The 1996 amendments included expanding the remedial provisions to apply to any “person” and not just any “consumer reporting agency or user of information” and added a provision allowing for statutory damages in addition to actual damages applicable to “persons.”

Question Presented to Supreme Court

Whether the civil-liability provisions of the Fair Credit Reporting Act, 15 U.S.C. 1681 et seq., unequivocally and unambiguously waive the sovereign immunity of the United States.

The USDA’s Position Before the Supreme Court

The USDA will contend that waivers of sovereign immunity must be unequivocal and unambiguous, and the FCRA does not include such an express waiver. The USDA premises its contention on the argument that the 1970 enactment plainly did not waive the sovereign immunity of the United States, which appears beyond legal dispute. Further, the USDA will contend that the 1970 enactment did not really intend for the United States to be deemed a “person,” despite the inclusion of government and governmental agencies within the definition, because the criminal penalties for obtaining consumer information under false pretenses would never apply to the U.S. Government. Against that background, the USDA will contend that the 1996 enactment cannot have silently subjected to the United States to civil liability.

The USDA will also contend that other Acts’ expressly including a waiver of sovereign immunity directly in the text of the Act evidences no intent of Congress to waive sovereign immunity through the FCRA. Finally, the USDA will take the position that any ambiguity regarding a plausible application of sovereign immunity expressly precludes finding waiver of the same.

What to Expect

The Supreme Court will decide what is truly the law of the land in the upcoming session. The United States Government is the country’s largest employer and largest lender. Future FCRA litigation may include claims against governmental agencies. The uncertainty of financial litigation could be exacerbated as student loan pauses come to an end and loan servicers begin to report repayments and failures.

Check back for an update on our thoughts after oral arguments and after an opinion is rendered.

The Financial Services Community and Tech Industry Waits to See if 2024 Brings CFPB Scrutiny to $1.7 Trillion Worth of Digital Payments

12 Jan 2024

ABSTRACT: The public comment period has closed on a proposed rule from the Consumer Financial Protection Bureau that would treat Big Tech firms and other nonbank payment operators more like banks regarding the CFPB’s supervisory authority.

On January 8, 2024 the public comment period for a proposed rule published by the Consumer Financial Protection Bureau on November 7, 2023 closed. The proposed rule seeks to extend CFPB supervisory jurisdiction to “larger participants” of the Fintech industry; specifically, the CFPB proposes greater regulatory authority of the big players in the digital wallet and peer-to-peer money transfer space. It is estimated that the proposed rule would result in oversight of nearly 13 billion transactions covering more than $1.7 trillion in transfer.

The Dodd-Frank Act grants the CFPB supervisory authority over “larger participant[s] or a market for other consumer financial products or services.” The CFPB currently asserts supervisory authority over five markets: consumer reporting, international money transfers, automobile financing, consumer debt collection, and student loan servicing. The proposed rule would extend the CFPB’s supervisory to a sixth market, the market for “general-use consumer payment applications” i.e. payment apps and digital wallets. The CFPB’s supervisory authority casts a wide net, and would allow the CFPB to examine the entire entity, not just the payment application portion of a company, for compliance with federal laws. A company like Meta could have its entire operations scrutinized by the CFPB if “Meta Pay” fell within the definition of a “larger participant” in the app payment industry.

The proposed rule would use a two-part test to evaluate whether a company would qualify as a “larger participant” in the app payment market. The first part of the test is a volume threshold, whether the company does more than five million transactions annually. The second part of the test would exclude small entities, as defined by the Small Business Administration. The CFPB did consider a ten million transaction volume threshold, but determined that the lower volume was better suited to protect consumer interests.

The rule would apply to two types of payment functions: funds transfers and a wallet functionality. The rule relies on currently defined terms, but would cover either receiving funds for the purpose of transmitting them or accepting and transmitting payment instructions through an app under the funds transfers function. The wallet functionality provision would apply to any app that both (1) stores account or payment credentials, including in encrypted or tokenized form, and (2) transmits, routs, or otherwise processes such stored account or payment credentials to facilitate a consumer payment.

The CFPB estimates that the proposed rule would cover 88% of known transactions in the nonbank market for general-use payment apps. The proposed rule would go into effect thirty days after it becomes a final rule, with the CFPB notifying impacted entities of their stats as a larger participant. The proposed rule would allow a company disputing its status as a “larger participant” forty-five days to provide evidence that they do not qualify under the two-part test discussed above.

The proposed rule would not apply to banks or other depository institutions. However, the proposed rule might apply to vendors retained by depository institutions to manage and/or operate their apps.

Baker Sterchi attorneys will continue to monitor the CFPB’s proposed rule. Contact our Financial Services Practice Group for more information.

The Supreme Court will resolve a Circuit split regarding when the statute of limitations begins to run under the Administrative Procedure Act

30 Oct 2023

ABSTRACT: The Supreme Court will resolve a Circuit Split regarding whether the statute of limitations begins to run at the time of an administrative agency’s action or at the time the injury first occurs under the Administrative Procedural Act. Resolution of this question could cause ripples across every sector of the economy and legal landscape.

The United States Supreme Court granted a Writ of Certiorari filed by Corner Post, Inc., seeking review of an Eighth Circuit’s affirmation of a dismissal finding the action time-barred by the six-year statute of limitations under the Administrative Procedural Act (APA), teeing up the resolution of a Circuit Split regarding the statute of limitations under the APA. The Eighth Circuit joined with the Fourth, Fifth, and Ninth Circuits in holding that an APA claim “first accrues” when the administrative agency issues a rule, regardless of when a party alleges they suffered injury from the rule. The Sixth Circuit holds that a plaintiff’s claim “accrues” when the rule causes plaintiff to suffer a legal wrong or be adversely affected or aggrieved. The statute of limitations begins to run when the injury accrues, and the Sixth Circuit’s rule allows for a much longer trail of possible litigation following an administrative agency’s action.

In the underlying litigation, the North Dakota Retail Association and the North Dakota Petroleum Marketers Association (collectively the “Merchants”) sued the Board of Governors of the Federal Reserve System (the “Board”) alleging that fees relating to debit card transactions violated the Durbin Amendment’s [1] requirements that the Board regulate debit card fees so that they are “reasonable and proportional to the cost incurred by the issuer with respect to the transaction.” The Merchants challenged a rule adopted by the Board in 2011; specifically, the Board set a debit card interchange-fee cap at 21 cents per transaction plus an ad valorem component of .05% of the transaction’s value. Recent data from the Board shows that big banks’ average costs for processing debit-card transactions range between 3.6 and 5 cents per transaction. The merchants argued the 16-18 cent profit per transaction constituted a violation of the reasonable and proportional requirement of the Durbin Amendment.

Corner Post became a named Plaintiff when the Board sought dismissal pursuant to the statute of limitations, and the Merchants argued that injury accrued when Corner Post started operations in 2018. The district court dismissed the case finding the claims were barred by the statute of limitations, which began to run when the Board adopted the rule, and the Eighth Circuit affirmed the decision.

Corner Post and the Merchants contend that starting the clock on a statute of limitations period when the administrative agency enacts a rule, conflicts with Supreme Court precedent stating that a limitations period commences when the plaintiff has a complete and present cause of action. Their argument is that a plaintiff who has not been harmed does not have a complete and present cause of action. As such, the majority rule starts the statute of limitations even for plaintiffs who cannot state a claim challenging the agency action. The Board of Governors takes the position that a challenge to an administrative agency action accrues when the regulation becomes final, and therefore subject to judicial review, without regard to the circumstances of any individual plaintiff. The Board argues the APA’s allowance of a challenge to an administrative agency rule is a waiver of the Government’s sovereign immunity, and therefore must be strictly construed to limit claims. The Board also argues the certainty that results from a limitations period running from a “definitely ascertained time” accomplishes the practical consideration of limiting the length of time for possible litigation. The Board contends allowing a newly formed entity to have a new limitations period would result in the statute of limitations provisions of the APA serving no purpose.

Amicus Briefs Submitted to Supreme Court

A number of Amicus Briefs have been filed in support of Corner Post’s position. The National Federation of Independent Business Small Business Legal Center argues that the Eighth Circuit’s decision creates detriment for small businesses. The Cato Institute also supports Corner Post, arguing the decision deprives persons newly injured by old agency action of access to the federal courts in clear contravention of the pertinent statutory text, and thus allows unlawful agency action to evade judicial correction.

What to Expect

The Supreme Court will resolve this Circuit Split regarding when the statute of limitations regarding a challenge to an agency action under the APA first accrues. If the Court finds in favor of Corner Post, new challenges to old agency acts may flood courts, creating a long trail of litigation for administrative agencies.

At Baker Sterchi, we understand that this issue impacts everyone. We are closely following the situation to better serve our current and prospective clients in related matters. Check back in November for an update.

[1] The Durbin Amendment is a part of the Dood-Frank Wall Street Reform and Consumer Protection Act that limits transaction fees imposed upon merchants by debit card issuers.

* Kaleb McKinnon, Law Clerk, assisted in the research and drafting of this post. McKinnon is a 3L student at Drake University Law School.

After Years of Mortgage Escrow Limbo, National Banks Will Soon Learn Their Fate

24 Oct 2023

ABSTRACT: Federally chartered banks may soon be required to comply with state consumer protection laws that require banks to pay at least 2% interest on mortgage escrow accounts. The Supreme Court will decide the issue during its upcoming term in Cantero v. Bank of America.

The Second Circuit recently ruled—in favor of Bank of America—that the National Bank Act preempts state laws that require financial institutions to pay interest on mortgage escrow accounts. Currently, only 13 states have such laws, but states may decide to expand their authority if the Supreme Court rules to broaden state power over federally chartered banks.

Background

Financial institutions in America have long been governed by the “dual banking” system. This concept traces back to the Supreme Court’s 1819 decision in McCulloh v. Maryland, where it held that Maryland’s taxation of the national bank was unconstitutional. In 1864, Congress passed the National Bank Act (“NBA”) which allowed banks to be formed under a federal or state charter and subject to federal or state law, respectively. However, after the national banking crisis in 2008-2009, Congress passed the Dodd-Frank Act which now demands national banks to comply with state consumer financial laws under certain circumstances.

As readers may know, to ensure timely payment of property taxes and insurance premiums, many mortgage lenders require borrowers to regularly deposit money into escrow accounts. Many times, these accounts have positive balances for extended periods of time. To prevent lenders from effectively receiving an interest-free loan from the customer, states have required lenders to pay a minimum interest rate on mortgage escrow accounts. These required interest payments are, in fact, consumer protection laws.

In August 2010 and May 2016 respectively, petitioner Alex Cantero and petitioners Saul Hymes and Ilana Harwayne-Gidansky obtained mortgages on New York homes from Bank of America, a federally chartered national bank. Petitioners’ mortgages required them to deposit money into escrow accounts. Relevant here, New York law provides “mortgage investment institutions” that maintain escrow accounts must pay at least two percent interest on those accounts. Contrary to state law, Bank of America paid no interest to petitioners on their escrow balances. Cantero and others filed a putative class action and the district court found in favor of the class.

Bank of America appealed to the Second Circuit, and it reversed in favor of the federally chartered bank, ruling that the NBA preempts state laws that require financial institutions to pay interest on mortgage escrow accounts. Cantero v. Bank of Am., N.A., 49 F.4th 121.

This decision created a split of authority over the issue. Just last year, a Ninth Circuit case ruled in favor of borrowers, dictating that state law controlled. Kivett v. Flagstar Bank, FSB, 2022 U.S. App. LEXIS 13347.

Issue Before the Supreme Court

The issue in Cantero is whether the National Bank Act [12 U.S.C. § 21 et seq.] preempts a New York law that imposes a 2% interest payment on escrow accounts for residential mortgage borrowers. The Second Circuit ruled that the National Bank Act preempts the New York law because the “interest on escrow account” rule significantly interferes with incidental national bank powers.

In Barnett Bank of Marion County, N. A. v. Nelson, 517 U.S. 25 (1996), the Supreme Court held that a federal statute that permits national banks to sell insurance in small towns pre-empts a state statute that forbids them to do so. A state law that prohibits national banks from engaging in conduct that the NBA expressly authorizes created an obvious and substantial practical impediment to national banks’ exercise of their powers. The Court explained that “normally Congress would not want States to forbid, or to impair significantly, the exercise of a power that Congress explicitly granted.” The Court emphasized, however, that States have “power to regulation national banks, where doing so would not prevent or significantly interfere with the national bank’s exercise of its power.”

After Barnett Bank, Congress clarified the standard for NBA preemption of state consumer financial laws, through the Dodd-Frank Act. As relevant here, the National Bank Act says that a state consumer financial law is preempted only if:

(A) application of a State consumer financial law would have a discriminatory effect on national banks, in comparison with the effect of the law on a bank chartered by that State;

(B) in accordance with the legal standard for preemption in the decision of [this Court] in [Barnett Bank], the State consumer financial law prevents or significantly interferes with the exercise by the national bank of its powers. . .; or

The Court will ultimately have to decide how to interpret the “prevents or significantly interferes with” standard and how its 1996 decision in Barnett Bank should be applied to this case and future state law preemption cases.

Conclusion

Cantero will provide federally charted banks with clarity. If decided in favor of borrowers, Cantero will demand federally chartered banks to pay interest on mortgage escrow accounts, if applicable state law so requires. To date, Kansas, Missouri, Illinois, and Arkansas have no such laws. However, it will be interesting to see if state legislators decide to broaden consumer protection laws in light of a potentially favorable Supreme Court decision.

Unraveling the CFPB's UDAAP Update: Legal Analysis and Implications for Regulatory Authority

18 Sep 2023

ABSTRACT: In a recent opinion from the United States District Court for the Eastern District of Texas, the Court examined the Consumer Financial Protection Bureau’s Unfair, Deceptive, or Abusive Acts or Practices portion of its Supervision and Examination Manual.

The Consumer Financial Protection Bureau (CFPB) has found itself entangled in a complex legal dispute stemming from its March 2022 update to the Unfair, Deceptive, or Abusive Acts or Practices (UDAAP) portion of its Supervision and Examination Manual. This blog post will provide an in-depth legal analysis of the situation and explore its broader implications for regulatory agencies and their authority.

Background: The crux of the controversy lies in the CFPB's directive to its examiners. This directive instructs them to meticulously scrutinize companies for any signs of discrimination against unspecified protected classes and for how well these companies evaluate statistical disparities in their business practices. In response to this directive, plaintiffs have filed a lawsuit seeking relief, arguing that the CFPB's examination directive must be invalidated for several reasons. These reasons include alleged violations of the Appropriations Clause of the Constitution, exceeding the agency's statutory authority, and violations of the Administrative Procedure Act (APA).

Sovereign Immunity: At the outset, the defendants sought to dismiss the case on grounds of sovereign immunity, contending that none of the plaintiffs' claims, whether related to the APA or not, met the requirement of "final agency action" as stipulated by 5 U.S.C. § 704. However, the court took a nuanced approach, asserting that the waiver of sovereign immunity under 5 U.S.C. § 702 applied to certain claims. This was particularly relevant for claims that sought injunctions and declaratory judgments related to unconstitutional funding and acts that exceeded statutory authority.

Article III Standing: Plaintiffs effectively established that they had the necessary standing to bring this case. They provided declarations that demonstrated their members were incurring costs directly attributable to the new UDAAP provisions. Defendants contended that the use of pseudonyms and common nouns in describing affected members hindered the identification of those suffering harm. However, the court rejected this argument, highlighting that plaintiffs had provided specific evidence of harm incurred by identifiable members.

Appropriations Clause: Perhaps notably, the defendants conceded that if the court were to address the merits of the Appropriations Clause claim, it should rule in favor of the plaintiffs. This concession is grounded in a binding decision from the Fifth Circuit Court of Appeals. The challenge related to the CFPB's unique funding structure, which has long been a subject of debate.

Statutory Authority: The court ruled in favor of the plaintiffs on their claim that the CFPB had overstepped its statutory authority by including discrimination within the purview of UDAAP without clear and explicit congressional authorization. The court emphasized that Congress had not provided the agency with the unequivocal delegation of authority necessary to support such a sweeping interpretation.

Remedy: Concerning the remedy, the court issued a declaratory judgment, stating that pursuing any examination or enforcement action based on the challenged UDAAP interpretation would be unlawful. The court also granted an injunction against such actions. In line with established precedent, the court ordered the vacatur of the agency action.

Conclusion: The legal battle surrounding the CFPB's March 2022 manual update underscores the intricate constitutional and statutory questions that can arise in the context of regulatory agencies. This case serves as a significant reminder of the importance of clarity in agency authority and the need for agencies to conduct thorough legal assessments of their directives. The court's decision not only addresses the specific concerns raised by the plaintiffs but also reinforces the checks and balances in place to ensure that regulatory agencies operate within the confines of their designated authority. As regulatory agencies continue to shape various industries, this case highlights the pivotal role of the judiciary in defining the limits of their power.

Lenders Beware: New Restrictions in Effect regarding Force-placed Insurance in Missouri

30 Aug 2023

ABSTRACT: Lenders servicing loans related to Missouri properties should be on notice of the new statute governing force-placed insurance, in effect as of August 28, 2023.

Earlier this week, Mo. Rev. Stat. § 379.1850 went into effect. The new statute regulates lender-placed insurance with respect to mortgaged homes in Missouri. The statue does not apply to mortgage transactions involving extension of credit for business, commercial, or agricultural purposes, nor does it restrict the voluntary acceptance of lender-offered insurance or instances where the lender-placed insurance does not result in a charge to the mortgagor’s account.

The Act defines “lender-placed insurance” as insurance secured by the lender/servicer when the mortgagor does not have valid or sufficient insurance on a mortgaged real property, and will include “insurance purchased unilaterally by the lender or servicer, who is the named insured, subsequent to the date of the credit transaction, providing coverage against loss, expense, or damage to collateralized property as a result of fire, theft, collision, or other risks of loss” that impairs such lender/servicer’s interest or adversely impacts the collateral, where such purchase is a result of a mortgagor’s failure to obtain required insurance under a mortgage agreement.

It is crucial for lenders to be aware of their own requirements under these new provisions. For instance, if lender-based insurance is placed on the mortgagor’s account, the earliest effective date is the first date of the lapse in the mortgagor's insurance. Additionally, no charges may be assessed against the mortgagor prior to the effective date of the lender-placed policy or following expiration of the term. Furthermore, lenders should consider that the lender-placed insurance premiums “should be based upon the replacement cost value of the property.” A copy of the certificate of insurance or policy must be mailed or delivered in person to the last known address of the mortgagor.

Insurers and insurance producers will also be prohibited from engaging in the following conduct: compensating lenders for issuing lender-placed insurance products, sharing premiums or risks with lenders, making payments dependent on profitability or loss ratios in connection with lender-placed insurance, or providing free or below-cost services or outsourcing in an effort to inflate the price of their product.

The Director of the Department of Commerce and Insurance will enforce these new provisions and any violations could result in monetary penalties, suspension, or revocation of the insurer’s license. Therefore, lenders and mortgage servicers are advised to pay close attention to these new requirements in Missouri.

Update: The Aftermath of the Fifth Circuit CFPB Holding

11 Aug 2023

ABSTRACT: Over the past several weeks, last year’s Fifth Circuit Opinion holding the CFPB’s self-funding structure unconstitutional, and subsequent limbo during the appeal to the Supreme Court, has prompted briefing from various state executives and has impacted state cases and enforcement actions.

As the Fifth Circuit Opinion (discussed in Baker Sterchi’s previous blog here) holding the self-funding mechanism of the CFPB unconstitutional makes its way through the Supreme Court, the impact of this litigation is seen across the country. To recap, the Fifth Circuit case involved a CFPB-issued payday lending rule that prohibited lenders from attempting to withdraw funds after 2 failed payment attempts without further authorization from the borrower. The Fifth Circuit struck down the rule, finding that because the CFPB receives direct funding from the Federal Reserve instead of having funds allotted by Congress, the CFPB’s funding structure violates the appropriations clause and is therefore unconstitutional. Since then, the legality of other CFPB rules has come into question.

On Monday, the United States District Court for the Southern District of New York issued a ruling staying a case brought by the CFPB against Credit Acceptance Corporation for alleged predatory lending practices, pending any “major development” in the pending Supreme Court case. The Court reasoned that “any potential harm to the public caused by delaying this action is outweighed by the benefit to consumers in proceeding in a streamlined fashion.” Similarly, last week the Texas District Court granted (in part) a preliminary injunction, stopping the CFPB from enforcing a rule that requires demographic data for small business borrowers, pending a decision from the Supreme Court. The injunctive relief was limited to the parties in that action; the Court declined to issue a nationwide injunction.

These two recent decisions follow amicus briefing submitted in July by 26 states, including Kansas and Missouri, to the Supreme Court advocating for the Fifth Circuit decision to be upheld. The states’ briefing echoes arguments we have seen about lack of accountability and the importance of the appropriations clause for the separation of powers. More specific to the states, though, the briefing included argument that it was Congress’ intent for the CFPB to work directly with the States, reasoning that Congress “took special care to preserve state authority over areas that might otherwise fall under the CFPB’s jurisdiction.” Moreover, “the states bring special expertise in the consumer protection field that respondents, as regulated parties, do not share,” they argued. The States requested the opportunity to present oral argument in this matter based on the substantial role they play in protecting consumers, supervising “approximately 3,981 banks with more than $7.15 trillion in combined assets, representing 79% of all U.S. banks.”

The CFPB knows what is potentially at stake – in its petition for Supreme Court review, the CFPB noted that the Fifth Circuit’s decision “calls into question virtually every action the CFPB has taken in the 12 years since it was created.”

Argument is set for October 3, 2023, on this case. Baker Sterchi will monitor the hearing and subsequent ruling, which will have a major impact on pending litigation and enforcement actions for some time to come.

* Kaleb McKinnon, 2023 Summer Law Clerk, assisted in the research and drafting of this post. McKinnon is a rising 3L student at Drake University Law School.

Western District refuses to dismiss coverage dispute after material change in circumstances.

05 Apr 2023

ABSTRACT: The Western District of Missouri has refused to dismiss a coverage dispute brought by Scottsdale Insurance Co. seeking a declaratory judgment absolving it of any duty to pay out on a $57 million FCRA judgment.

A pending declaratory relief action brought by Scottsdale Insurance Co. (“Scottsdale”) in the Western District of Missouri has the potential to send tremors throughout the financial and insurance industries. The litigation relates to a coverage dispute regarding a $57 million arbitration award arising from alleged violations of the Fair Credit Reporting Act.

Scottsdale filed its declaratory relief action on May 4, 2022 against American Detective Services, Inc. (“ADS”) and James Smith (“Smith”), after Smith obtained more than $54 million during arbitration relating to the withdrawal of job offers allegedly resulting from ADS’ background check on Smith and similarly situated class members. Scottsdale alleged that the high arbitration award and subsequent $57 million judgment was the result of collusion, that it was prejudiced by lack of notice and opportunity to mitigate damages, and has requested that the Court enter a declaratory judgment that Scottsdale owes no duty to indemnify and that there is no coverage under the applicable policy. ADS moved to dismiss.

Prior to the Court’s ruling on ADS’ motion to dismiss, ADS’ counsel filed a related equitable garnishment action in Missouri State Court on June 7, 2022, and sought dismissal on the basis that a parallel state action raised the same issues presented in the declaratory relief action. While the Motion to Dismiss was pending, the garnishment action was removed and remanded, with the remand order stayed pending an appeal before the Eighth Circuit under the Class Action Fairness Act.

On February 21, 2023, the Western District Denied the Motion to Dismiss without prejudice, stating that the Motion cannot be granted pending the outcome of the Eighth Circuit’s appellate case. The Court reasoned that a reversal of the remand order would erase the basis for dismissal, i.e. a parallel state court action regarding the same parties and same justiciable issue. The Western District also found that if the Eighth Circuit affirmed the remand Order the factors the court must consider (particularly judicial economy related to the progress achieved in the federal declaratory relief action) will be so substantially different that the arguments presented in the moving papers will not adequately address the issue before the court. As such, the Court issued an Order denying the motion to dismiss.

The Eighth Circuit has not rendered a decision in Scottsdale’s appeal. However, ADS renewed its efforts to dismiss the declaratory relief action, in a separate Motion filed this month, contending that the Eighth Circuit’s failure to issue a decision operates as a denial under the Class Action Fairness Act.

Baker Sterchi will continue to monitor these actions and provide the community with insight and guidance as the matter develops.