Iowa Banking Law Blog

Reform of Financial Services Regulation, Long Rumored, Now Questioned

The U.S. Treasury today has begun the long anticipated review of the regulation of financial services in the United States. The U.S. Treasury will be seeking comment and pose a series of questions to determine whether the current system of regulation is working. The agency apparently intends to conduct an in depth inquiry as to whether the federal oversight can be streamlined with the obvious implication that the number of regulatory agencies needs to be reduced. For example, should the Office of Thrift Supervision and the Office of the Comptroller of Currency be combined? What role should the Federal Reserve have in the bank regulation? Should the FDIC serve as both insurer and regulator? No industry is immune from revisiting its regulation. Banking, insurance, securities and commodities are all at issue. These questions should ignite a spirited and vested debate.  A monumental proposal for a changing of the guard may be on the horizon.

The formal notice and request for public comment from the Department of Treasury is available here: Review by the Treasury Department of the Regulatory Structure Associated with Financial Institutions.

Court Holds State Licensing Laws Not Preempted By Federal Law

In State Farm Bank, F.S.B. v. John B. Reardon, a case out of the Southern District of Ohio, a federal judge ruled that a thrift's independent contractors are subject to state licensing laws.  State Farm Bank ("SFB") used independent contractors to sell insurance and commercial retail bank products.  It sought to have these agents market mortgages.  In 2004, State Farm Bank was issued a formal opinion from OTS counsel stating that federal law preempts state laws relating to the banking activities of SFB's independent contractors.  SFB notified the Ohio Superintendent of this opinion, but the Superintendent maintained that state law requiring mortgage broker licenses was not preempted.

The court concluded that "while the OTS may have the authority to extend federal preemption to agents of federal depository institutions, it has failed to comply with the Administrative Procedures Act in its efforts to do so."  It held that the OTS could only extend preemption to independent third parties through a formal regulation issued after publication and public hearing.  The letter signed by OTS counsel was insufficient.  The court went on to state that the "mortgage foreclosure crisis" underscores the need to follow the Administrative Procedure Act and that the OTS's proposal would create a situation in which certain mortgage brokers are not licensed by state or federal law.  In sum, the court stated that the OTS may have the authority to preempt the state licensing statutes at issue, but did not take the necessary Administrative steps necessary to effect such preemption.   

The court distinguished Watters v. Wachovia on the basis that Watters dealt with operating subsidiaries of national banks.  While these subsidiaries are supervised and regulated by the OCC to the same extent as the parent bank, wholly independent contractors are not. 

This case is contrary to a 2006 case out of Connecticut with very similar facts.  In State Farm Bank, F.S.B. v. Burke, the court held that OTS regulations preempted state licensing laws.  That court declined to address the argument that the Opinion Letter had not followed the Administrative Procedure Act.  State Farm Bank appealed the decision. 

The facts in these two cases exemplify the delicate nature of many Opinion Letters -- is it an interpretation of existing laws and regulations or is it an improper change in the law?  Also, the Ohio case shows that the preemption tug-of-war is far from over.   

For more information on this case contact Jeffrey Andersen.

When Federal and State Law Collide in Garnishment Procedures

The Agencies have issued a proposed guidance concerning garnishment orders received by financial institutions.

Generally, federal law protects certain federal benefits – such as Social Security, Supplemental Security income, Veterans’ benefits, Federal Civil Service retirement benefits, and Federal Railroad retirement benefits – from inclusion in garnishment orders.  Unfortunately, however, when garnishment orders are sought in state court by creditors and debt collectors, either some orders may not provide that certain funds are exempt from garnishment due to federal law or the customer’s account is a commingled mixture of exempt and non-exempt funds.  Financial institutions, in an effort to comply with the state court order, typically put a freeze on the account until the issue can be resolved but because these exempt federal benefits are sometimes the only source of income for individuals, even a temporary freeze on the account can wreak havoc on an individual’s financial security. 

The proposed guidance is intended to solicit comments regarding how to comply with both federal and state laws.  The proposed guidance also proposes best practices, such as promptly notifying the customer of a garnishment order, determining whether accounts contain only exempt funds, notifying the creditor that the account may contain exempt funds, minimizing the cost to the customer by refraining from charging certain fees, and lifting the freeze as soon as permissible.

Comments can be made via the Federal Reserve’s website or by email, fax, or snail mail.

For further information contact Mary Zambreno.

Regulators Issue Statement on Avoiding Losses Associated with Securitized Mortgages

The federal banking regulators (the FDIC, Federal Reserve, OCC, OTS, and NCUA), along with the Conference of State Bank Supervisors (CSBS) issued a statement encouraging regulated institutions that service mortgage loans to employ certain "loss mitigation techniques" that would preserve homeownership.  The statement is a follow-up to the April 2007 Statement on Working with Mortgage Borrowers and the July 2007 Statement on Subprime Mortgage Lending.  Unlike these previous statements, which urged prudent workout arrangements, the new statement is focused on mortgage loans that have been transferred into securitization trusts. 

The regulators state that when faced with an increased risk of default, servicers of loans should: contact the borrower and assess their ability to repay, assess whether default is reasonably foreseeable, and explore, where appropriate, a loss mitigation strategy that avoids foreclosure, such as loan modifications, payment deferral, conversion into fixed rate, and capitalization of delinquent amounts.

In considering loss mitigation techniques, the statement urges services to consider the borrower's income, debt, and housing related expenses.  Servicers are also urged to refer borrowers to government programs, non-profits, and counseling services that could assist the borrower.  The statement claims that "loss mitigation techniques" that preserve homeownership are less costly than foreclosure. 

This guidance was issued as political pressure to address the mortgage industry mounts.  Presidential candidates have increasingly integrated mortgage and foreclosure issues into their agendas.  President Bush threw his hat in the ring last week by announcing that his administration would put forth proposals to prevent some expected defaults over the next two years.

Unfortunately, this regulatory statement may not stem the congressional tide to over-regulate the industry.

Agencies Issue Proposed Illustrations on Subprime Mortage Lending

          The federal agencies this week issued proposed illustrations contemplated by last month's jointly issued Statement on Subprime Mortgage Lending (Subprime Statement).  Triggered by the agencies' concerns over subprime mortgage lending practices for certain adjustable-rate mortgage (ARM) products, the illustrations aim to improve communications between lenders and consumers by providing examples of the types of communications anticipated by July's Subprime Statement. 

          The Subprime Statement encourages lenders to provide consumers clear, balanced, and timely information to help consumers more effectively weigh the costs and benefits of certain ARM products.  The illustrations both:

• explain some important features and hazards identified in the Subprime Statement (such as payment shock), and
• provide a chart of potential implications of payment shock in a specific, easy-to-understand fashion.

          Use of the illustrations is completely voluntary.  Institutions are free to tailor the illustrations to reflect their product offerings, current market conditions, and a consumer's particular loan requirements.  Whether institutions choose to use the illustrations or not, they should review their statements to consumers regarding subprime lending to ensure that they are clear, balanced, and full explain the terms and risks of such loans.

         The agencies seek public comment on the proposed illustrations.  Comments are due 60 days from the Federal Register publication.  The proposed illustrations are available here on the OTS website.

          For more information on ensuring that your institution is making the necessary disclosures, contact Megan Erickson of Dickinson, Mackaman, Tyler & Hagen, P.C. at 515-244-2600. 

OTS Issues Notice of Proposed Rulemaking on Unfair and Deceptive Practices

On August 3, 2007, the Office of Thrift Supervision (OTS) issued an Advance Notice of Proposed Rulemaking seeking comments not only about defining unfair and deceptive practices but also about whether the OTS should expand current prohibitions against unfair or deceptive acts.  The OTS seeks comment on various issues, including:

• Should the OTS consider further rulemaking on unfair and deceptive practices that would cover products and services in addition to consumer credit? 
• Should the rulemaking cover non-savings institution entities that are related to a savings institution? 
• What principles should OTS consider in defining an act or pratice as unfair and deceptive? 
• Is the FTC guidance on unfair and deceptive practices appropriate for the OTS?
• Should the OTS expand its advertising regulation?

The OTS's proposal does not commit the agency to any particular course of action, if merely seeks comment on the most effective course of action.  Nonetheless, it is a strong indication that the OTS intends to strengthen its unfair and deceptive practices regualtions.  Many analysts think that, at the very least, any OTS rule or guideline will address issues related to unfair mortgages due to the increasing delinquency and foreclosure rates on home loans.

As a bit of background, the Federal Trade Commission Act shields depository institutions from FTC enforcement, leaving unfair and deceptive practices to the Federal Reserve, OTS, and NCUA to deal with.  In June, Rep. Barney Frank threatened the Federal Reserve, stating that if it does not use its rulemaking authority to address unfair and deceptive pratices, and subprime lending specifically, then Congress may take away the Federal Reserve's rulemaking authority on the issue and give it back to the FTC. 

By taking this step, the OTS has put further pressure on the Federal Reserve to take action.  To date, the Federal Reserve has expressed a preference for using its supervisory authority on a case-by-case basis, as opposed to writing proscriptive regulations.  (link to article on Federal Reserve Governor Kroszner's statements in House hearing). 

The full text of the proposed rulemaking can be found here:  http://www.ots.treas.gov/docs/7/73373.pdf

For further information contact Mary A. Zambreno and Jeffrey J. Andersen of Dickinson, Mackaman, Tyler & Hagen, P.C.