The Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation (FDIC) have successfully defended their respective valid-when-made rules. On February 8, 2022, Judge Jeffry S. White, U.S. District Court for the Northern District of California, granted summary judgment in favor of the Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation (FDIC) against claims by States that the agencies’ promulgation of valid-when-made rules. violated the Administrative Procedures Act (APA).
These decisions mark at least the third time that courts have affirmed these rules. The prior favorable outcomes regarding the OCC and FDIC Final Rules include Peterson v. Chase Card Funding, LLC, No. 19-cv-741, 2020 WL 5628935, *6-*7 (W.D.N.Y. Sep. 21, 2020) (noting Madden’s “materially different facts” and “de-fer[ring] to the OCC’s reasoned judgment that enforcing New York’s usury laws against the Chase defendants would significantly interfere with JPMCB’s exercise of its NBA powers”), and Rent-Rite Super Kegs West Ltd. v. World Business Lend-ers, LLC (In re Rent-Rite Super Kegs West Ltd), No. 1:19-cv-01552-RBJ, 623 B.R. 335, 340-41 (D. Colo. Aug. 12, 2020) (holding interest on promissory notes remains valid on assignment to non-bank “[i]n accordance with this new OCC rule” despite the judge being “convinced by” “compelling counterargument to the valid-when-made rule”). Moreover, in Cohen v. Capital One Fundings, LLC, 489 F. Supp. 3d 33, 49 (E.D.N.Y. Sep. 28, 2020), the court echoed these decisions. The court concluded applying state usury limits to defendants’ collection of receivables would significantly interfere with the defendant-national-bank’s NBA powers without expressly “consider[ing] the applicability of the ‘valid when made’ doctrine.”
The most recent rulings by Judge White (discussed in detail below) bode well for increased certainty in the consumer debt industry in the post-Madden era.Brief Background
Loans originated by nationally chartered and federally insured state-chartered banks are subject only to the usury limits of a bank’s home state. Federal law expressly authorizes such banks to apply the interest rates allowed in the bank’s home state to borrowers in other states, regardless of the usury limits that otherwise apply to loans in the borrower’s home state. In other words, the interest rate cap of the borrower’s state is preempted by federal law.
Some borrowers and states have asserted that loans made by these banks become usurious when sold or assigned to non-bank third parties. They argue that the preemption ends when the regulated bank sells or transfers the loan to a non-regulated entity. If such arguments gain traction, they would significantly erode the stability and value of the securitized consumer debt market, which regulated banks use to disperse risk and increase capital.
In Madden, the Second Circuit concluded that after a regulated bank sold its loans to a non-bank third party—retaining no interest in the loan—federal law no longer operated to preempt the interest rate cap applicable in the borrower’s state. While the facts of Madden were distinct from many third-party loan assignations in which the originating bank retains an interest in the loan or retains ownership of the account, the decision injected enormous uncertainty into the consumer debt market.
To remedy this uncertainty, the OCC and the FDIC each promulgated a rule through notice-and-comment rulemaking affirming that the interest rate on a loan is not subject to change when the loan is sold, assigned, or otherwise transferred to a non-bank third party. After the OCC and FDIC Final Rules were published, several states challenged them as promulgated in violation of the APA.Summary Judgment in California v. OCC
California, Illinois, and New York challenged the OCC’s Final Rule on four grounds. First, they asserted that the Final Rule was a “preemption determination” that failed to comply with the procedures of 12 U.S.C. § 25b. Second, they contended that the Second Circuit’s construction in Madden of the unambiguous terms of the National Bank Act’s (NBA) Section 85 foreclosed the OCC’s contrary interpretation of the same terms. Third, they argued that the Final Rule unreasonably interpreted NBA Section 85. Fourth, the Final Rule was arbitrary and capricious under State Farm.
The district court rejected all of these arguments, granting the OCC’s cross-motion for summary judgment and denying the States’ motion.
Challenge 1: The Final Rule is invalid because the OCC did not comply with 12 U.S.C. § 25b, which includes “procedures that must be followed, including consultation with the [CFPB],” which is required for the OCC to make a “preemption determination.”
The States asserted that the “‘sole legal effect’ of the Final Rule” was to preempt the application of state interest caps to non-banks that purchase national bank loans. As a preemption determination, the Final Rule triggered § 25b’s procedural requirements. The OCC, which conceded it did not comply with § 25b, countered that it was not making a preemption determination but merely “interpreting the substantive scope of Section 85.”
The district court concurred with the OCC, noting that the agency did not decide the preemption of a particular State consumer financial law. It also distinguished Cuomo v. Clearing House Ass’n, LLC, 557, U.S. 519 (2009) (invalidating OCC regulation purporting to prohibit states from prosecuting enforcement actions brought under otherwise valid state statutes), on which the States relied. While the Cuomo regulation and the Final Rule are both located in a regulatory section entitled “Preemption,” the Final Rule differed from its Cuomo counterpart because it “does not explicitly define and limit action that is reserved to the Federal Government and that is forbidden to the states.”
Because the Final Rule merely interpreted the substance of Section 85, the OCC was not required to comply with 12 U.S.C. § 25b.
Challenge 2: The Final Rule is invalid because Madden implicitly construed the unambiguous terms of Section 85 and thus left no room for agency discretion.
The district court concluded that Madden “did not clearly hold that the terms of Section 85 were unambiguous.” Instead, Madden merely distinguished prior cases on the basis that national banks in those cases did not completely divest their interests in the accounts at issue, whereas the national bank in Madden had divested itself completely. Thus, Madden does not foreclose the OCC’s interpretation of Section 85.
Challenge 3: The Final Rule is an unreasonable agency interpretation of Section 85.
A corollary of the district court’s conclusion that the OCC was not required to comply with § 25b is that Chevron deference, rather than Skidmore deference required by § 25b(5)(A), applied to the States’ unreasonable-interpretation argument.
Chevron Step One
The first step of a Chevron analysis requires the district court to determine whether Congress has directly spoken to the precise question at issue. An agency, of course, may not adopt or interpret a regulation at odds with plain statutory language.
The States asserted that the Final Rule governs the conduct of non-banks, and therefore, exceeds the OCC’s statutory grant of authority to regulate banks. The district court’s rejection of this argument echoed its rejection of the States’ § 25b process argument—that the regulation has an effect on non-banks does not make it a regulation of non-banks. The district court also noted that “the Final Rule does not purport to regulate changes to the interest rate or to regulate the transferee’s conduct once that transaction is consummated.”
Rejecting the States’ framing of the question (as “to which entities does Section 85 apply?”), the district court instead asked, “what happens to the interest rate initially set on a loan originated by a national bank if that loan is subsequently transferred?” Because Section 85 does not address what happens to a national bank’s interest rate “once it has been incorporated into a contract, let alone a contract that is subsequently transferred,” the OCC could permissibly regulate that space.
Chevron Step Two
Under Chevron’s “generous” step two, the district court must defer to the OCC’s interpretation of Section 85 so long as the interpretation is not “arbitrary, capricious, or manifestly contrary to the statute.” The district court pointed to national banks’ enumerated powers beyond the power to lend money, including the power to make contracts, to sell or transfer loans, and “all such incidental powers as shall be necessary to carry on the business of banking.”
The district court placed its greatest weight on the use of loan transfers as a “risk management tool” to assure the “safety and soundness” of national banks. Rejecting an argument (made by amici supporting the States) that the more than 5,200 federally insured depositories already provided a robust market to disperse risk without transferring loans to non-bank assignees, the district court concluded the OCC was reasonable to determine that “a larger market for transfer would serve to promote” national banks’ safety and soundness.
Finally, while the district court found persuasive the argument that the valid-when-made principle could not have “informed Congress when it drafted the NBA because it is a modern invention,” it concluded that the OCC’s simultaneous reliance on the “principle that an assignee steps into the shoes of an assignor” nonetheless rendered the Final Rule reasonable. The court rejected the contention that the Final Rule transfers “the privilege of preemption” rather than merely a valid contractual interest rate.
Challenge 4: The Final Rule is arbitrary and capricious under State Farm.
Under State Farm, the Final Rule would be arbitrary and capricious if the agency “entirely failed to consider an important aspect of the problem”—here, according to the States, the impact of “rent-a-bank” schemes and the true-lender doctrine. However, the district court noted that the OCC discussed rent-a-bank schemes and true-lender principles in responding to critical comments made during the rule-making process and that the administrative record included evidence of “uncertainty for those within the industry” adequate to support the Final Rule.Summary Judgment in California v. FDIC
In the FDIC case, California, Illinois, Minnesota, New Jersey, New York, North Carolina, Massachusetts, and the District of Columbia alleged that the FDIC exceeded its statutory authority under Section 27 of the Federal Deposit Insurance Act (FDIA) in promulgating its Final Rule and that the Final Rule was arbitrary and capricious under State Farm. Incorporating by reference its analysis from its summary judgment order in California v. OCC, the district court rejected both arguments.
Challenge 1: The Final Rule is an unreasonable agency interpretation of Section 27.
Chevron Step One
Noting that the NDIA’s Section 27 was modeled on the NBA’s Section 85 and thus the two statutes have been “construed in pari materia,” the district court rejected the States’ arguments that the Final Rule impermissibly regulates non-banks by way of its indirect effect on them “for reasons set forth in the OCC Order.” The court also reiterated its conclusion that the Final Rule only permits the transfer of a valid contractual interest rate and not “the privilege of preemption.” Furthermore, because Section 27 does not address the “timing gap and transfer gap” that the FDIC sought to address with the Final Rule, the agency could permissibly regulate the issue under Chevron step one.
Chevron Step Two
In finding the regulation reasonable, the district court again pointed to the Final Rule’s utility as a risk management tool, as well as its protection of “parties’ expectations and reliance interests at the time when a loan is made.” The court again noted the States’ arguments regarding the history of the valid-when-made rule were persuasive, but that the FDIC’s reliance on the “stand-in-the-shoes” principle was still reasonable, even if its historical arguments were unpersuasive.
Challenge 2: The Final Rule is arbitrary and capricious under State Farm.
The district court’s State Farm analysis echoed its analysis of the same question in California v. OCC, noting that the FDIC explicitly addressed concerns about rent-a-bank schemes and true-lender issues in responding to critical comments received during the rule-making process. Likewise, it concluded the administrative record contained adequate evidence to sustain the agency’s Final Rule.Conclusion
The district court’s decisions represent another substantial brick in the wall protecting national- and federally insured state-charted banks’ ability to provide consumers with appropriate consumer loans while effectively managing risks. While a legislative solution remains the best solution to Madden, this favorable outcome—supported during litigation by both Republican and Democratic administrations—further mitigates the uncertainty that Madden created.
The OCC promulgated a final rule entitled Permissible Interest on Loans That Are Sold, Assigned, or Otherwise Transferred, 85 Fed. Reg. 33,530 (June 2, 2020) (“OCC’s Final Rule” or “Final Rule”). The FDIC issued a similar rule: Federal Interest Rate Authority Rule, 85 Fed. Reg. 44,146 (July 22, 2020) (“FDIC’s Final Rule” or “Final Rule”).
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