Insights

One of the key provisions of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Act”) is re-setting of the preemption standards that apply to national banks and federal thrifts. Over the last decade, the Office of the Comptroller of the Currency, which oversees national banks, took increasingly aggressive action to establish broad preemption standards for national banks. Congress, in enacting amendments to the National Bank Act in the Act, has pushed back significantly against the OCC and what state laws a national bank can preempt. The result promises to be years of litigation to unravel precisely what state laws the National Bank Act preempts and – more importantly – what it does not.

First, the good news. Title X – the title of the Act that includes the preemption standards – explicitly does not alter or otherwise affect a national bank’s authority under 12 U.S.C. Section 85 to export interest and interest fees. The Act, Sec. 1044(a), adding Sec. 5136C(f). This is a key preservation of the status quo for national banks, because it allows them to continue to rely on the law of the state in which they are located to export interest and interest fees into all other states. Second, Title X makes very clear that it does not alter or affect the applicability of any regulation, order, guidance, or interpretation prescribed, issued, and established by the Comptroller of the OCC or the Director of the Office of Thrift Supervision regarding the applicability of state law under federal banking law to any contract entered into on or before the date of enactment of the Act, by national banks, Federal savings associations, or their subsidiaries. The Act, Section 1043. This means that the Act does not retroactively apply to loans entered into under the current, more aggressive, preemption standards, and provides a clear date on which national banks and federal thrifts must comply with the new “Preemption Standard.”

The Act also streamlines the preemption landscape, clarifying that the Preemption Standard applies to both national banks and federal thrifts. The Act, Secs. 312, 1046. Title X also abolishes the ability of a mere subsidiary or affiliate of a national bank to rely on preemption, thus overturning the holding of Watters v. Wachovia Bank, 550 U.S. 1 (2007). Sec. 1044, adding Sec. 5136C(e).

The Act amends the National Bank Act to establish a Preemption Standard that preempts state consumer financial laws, defined as state laws that do not directly or indirectly discriminate against national banks and that (1) directly and specifically regulate the manner, content, or terms and conditions of any financial transaction (as may be authorized for national banks to engage in), or (2) any account related to a financial transaction, with respect to a consumer. The Act, Sec. 1044(a), adding Sec. 5136C(b), (a)(2).

The new Preemption Standard preempts state laws as they apply to national banks in three circumstances.

1. Application of a state consumer financial law has a discriminatory effect on national banks, in comparison with the effect of the law on a state-chartered bank;

2. Other Federal law preempts the state consumer financial law; or

3. In accordance with the legal standard for preemption in the decision of the Supreme Court of the United States in Barnett Bank of Marion County, N. A. v. Nelson, Florida Insurance Commissioner, et al., 517 U.S. 25 (1996), the state consumer financial law prevents or significantly interferes with the exercise by the national bank of its powers.

The Act, Sec. 1044(a), adding Sec. 5136C(b).

The third circumstance is of greatest interest to national banks, as it is the only circumstance in which the Comptroller has the ability to make preemption determinations. The Act, Sec. 1044(a), adding Sec. 5136C(b)(1)(B). The Act permits the Comptroller to make a preemption determination under this circumstance only on a case-by-case basis. The Act, Sec. 1044(a), adding Sec. 5136C(b)(1)(B). “Case-by-case basis” means a determination concerning the impact of a particular state consumer financial law on any national bank subject to that law, or the law of any other state with substantively equivalent terms. The Act, Sec. 1044(a), adding Sec. 5136C(b)(3)(A). When making a “case-by-case basis” determination that a state consumer financial law of another state has substantively equivalent terms as one that the Comptroller seeks to preempt, the Comptroller must first consult with the Bureau of Consumer Financial Protection and must take the views of the Bureau into account when making the determination. The Act, Sec. 1044(a), adding Sec. 5136C(b)(3)(B). This requirement seems intended to make sure the Comptroller does not overstate the laws that may fall within its preemption determination.

In Barnett, Florida enacted a law to ban the sale of most kinds of insurance in Florida by all banks except small banks located in sparsely-populated cities. A national bank bought an insurance agency that sold insurance in such sparsely-populated cities, and sued the Florida Insurance Commission to enjoin enforcement of the ban. The U.S. Supreme Court sided with the national bank in finding that law inapplicable to a national bank under preemption principles. The Supreme Court first noted that courts have historically interpreted grants of both enumerated and incidental powers to national banks as grants of authority that preempt contrary state law. Courts have reasoned that Congress does not want the states to forbid, or to impair significantly, the exercise of a power that Congress explicitly granted. However, the Barnett court noted that prior decisions by the Supreme Court did not deprive states of the power to regulate national banks, where doing so does not “prevent or significantly interfere with the national bank’s exercise of its powers.” Thus, a national bank cannot preempt a state law that only interferes with a national bank’s exercise of its powers in an insignificant way. The Act thus codifies Barnett, but seems to require a more robust development of the facts by both the Comptroller and the courts that justify the finding of preemption.

After Barnett, more than 500 court decisions have weighed whether specific state laws “prevent or significantly interfere with” a national bank’s powers to warrant a finding of preemption. For example, since Barnett, courts have found that the National Bank Act preempts state law requirements that a “convenience check” include specific disclosure language and state law restrictions on the amount of non-interest fees a national bank can charge. It remains to be seen whether courts – in the post-Title X world – will find that state laws like these impose a significant impairment on national banks.

In addition to permitting the Comptroller to make “case-by-case basis” preemption determinations, the Act allows a court to declare preempted state consumer financial laws that prevent or significantly interfere with a national bank’s exercise of its powers. The Act, Section 1044(a), adding Sec. 5136C(b)(1)(B). However, Title X prevents courts from interpreting or applying regulations or orders of the Comptroller prescribed under this circumstance so as to invalidate, or otherwise declare inapplicable to a national bank, the provision of the state consumer financial law, unless substantial evidence, made on the record of the proceeding, supports the specific finding regarding the preemption of such provision in accordance with the legal standard of the Barnett decision. The Act, Section 1044(a), adding Sec. 5136C(c), (b)(1)(B). Thus, the Act requires the court to engage in its own preemption determination, even where the Comptroller has made its “case-by-case basis” preemption determination. This requirement on courts appears to overturn the deference accorded to federal agencies engaged in notice and comment rulemaking. The U.S. Supreme Court’s decision in Chevron U.S.A., Inc. v. Natural Resources Defense Council, Inc., 467 U.S. 837 (1984) allowed courts to defer to regulations promulgated by an agency if the agency has a rational basis for such regulation—the Act seems to negate this finding for preemption of state consumer financial law determinations. Also, the Act does not define “substantial evidence”—without guidance, it remains to be seen what will constitute “substantial evidence.”

The Act gives further guidance to courts asked to opine on preemption questions. First, Title X does not occupy the field in any area of state law, which deprives courts of the ability to rely on a field preemption theory to preempt state laws. The Act, Section 1044(a), adding Sec. 5136C(b)(4). Next, a court reviewing any determinations made by the Comptroller regarding preemption of a state consumer financial law by Title X or 12 U.S.C. Section 371 (regarding the ability of national banks to originate, arrange or purchase real estate-secured loans) must assess the validity of the Comptroller’s determinations, depending upon the thoroughness evident in the consideration of the agency, the validity of the reasoning of the agency, the consistency with other valid determinations made by the agency, and other factors that the court finds persuasive and relevant to its decision. The Act, Section 1044(a), adding Sec. 5136C(b)(5)(A).

The Act also calls for periodic reviews and reports to Congress of the Preemption Standards, as well as publication of a list of the Comptroller’s preemption determinations. The Act, Section 1044(a), adding Sec. 5136C(d), (g).

With regard to visitorial powers, the Act codifies the decision of the Supreme Court of the United States in Cuomo v. Clearing House Assn., L.L.C. (129 S. Ct. 2710 (2009), and provides that no provision of this title that relates to visitorial powers or otherwise limits or restricts the visitorial authority to which any national bank is subject limits or restricts the authority of any attorney general of any state to bring an action against a national bank in a court of appropriate jurisdiction to enforce an applicable law and to seek relief as authorized by such law. The Act, Sec. 1047(a), adding 5136C(i)(1). This means that state attorneys general may enforce against national banks any state laws the new Preemption Standard does not preempt.

With the enactment of the new Preemption Standard, the lending environment for federally-chartered depository institutions has shifted dramatically. After years of not having to worry about state law, these institutions must now pay closer attention to the developments at the state level to ensure that they do not run afoul of the myriad requirements that may apply to them. Only time and litigation will reveal the precise impact these shifts will have on the bottom line.

Catherine M. Brennan is a partner in the Maryland office of Hudson Cook, LLP. Basis Points readers can reach Cathy at 410-865-5405 or by email at cbrennan@hudco.com.