Insights

A federal district court in South Dakota has issued a fascinating decision that addresses when the Federal Reserve Board has authority to issue rules that impose limitations not found in the Truth in Lending Act. Here is what happened…

The Credit Card Accountability Responsibility and Disclosure Act of 2009 amended TILA to limit the amount of fees a card issuer could charge. The law provides that if a creditor charges fees that exceed 25% of the initial credit limit during the first year of the account, the creditor may not add any of the fees to the account balance.

The point of the law was to restrict the fees on so-called “harvester” accounts. These accounts were marketed to consumers who had bad credit as a way to begin developing a positive credit record. The accounts typically had low credit limits and large initial and annual fees relative to the credit limit. The initial fees were added to the balance of the account and paid over time. Sometimes, the consumer could not request an additional advance on the account until the initial fee balance was paid in full. So, as an example, a consumer might open an account with a credit limit of $200, an initial fee of $100, and an annual fee of $25. The $125 in fees would be added to the account balance on day one. The consumer could not access the account for additional advances until the $125 fee balance, plus periodic interest, was paid in full. But, if the consumer made regular payments, the creditor would report those payments to a credit bureau.

In 2010, the Federal Reserve Board issued a regulation - 12 CFR 226.52 - to implement the statute. The regulation provided that if a creditor charges any fees to the account during the first year after the account is opened (other than late fees, overlimit fees, and NSF fees), the sum of those fees may not exceed 25% of the initial credit limit.

First Premier Bank looked at the new law and recognized that it could still charge fees in excess of 25% of the credit limit so long as it collected the fees before the account was opened. So, it launched a new product that did just that. In response, the FRB revised Section 226.52 to prohibit a creditor from charging more than 25% of the credit line “prior to opening the account and during the first year.” The FRB relied on its authority under Section 105(a) of TILA to restrict fees that are not limited by TILA. Section 105 provides that the FRB may issue regulations that “may contain such classifications, differentiations, or other provisions, and may provide for such adjustments and exceptions for any class of transactions, as in the judgment of the Board are necessary or proper to effectuate the purposes of this title, to prevent circumvention or evasion thereof, or to facilitate compliance therewith.” The FRB felt that the purpose of the fee restrictions on harvester accounts was to limit the fees that a consumer must pay to have access to the account. In its judgment, the new rule was necessary to preserve the statutory relationship between the costs and benefits of opening a credit card account. That rule was scheduled to go into effect on October 1, 2011.

First Premier sued the FRB, asking the court for a declaratory judgment that the FRB does not have authority to restrict fees on these accounts that are not restricted by the Act itself. First Premier also asked the court to issue a preliminary injunction to postpone the effective date of the rule while the case was pending.

The court granted the request for a preliminary injunction. The court reviewed four issues: whether First Premier was likely to succeed on the merits, whether First Premier would be irreparably harmed without the injunction, the balance between the harm First Premier was likely to suffer without the injunction and the harm the government might suffer if the injunction were issued, and the public interest.

The court found that First Premier was likely to prevail on the merits of its argument because the language limiting fees in the Credit CARD Act was unambiguous. The court determined that the Credit CARD Act only limits the fees a creditor can charge to the account balance during the first year. It does not limit fees, including fees imposed before opening an account, so long as those fees are not added to the account balance.

The FRB argued that Section 105 of TILA gives the Board the authority to issue rules that impose limitations not found in the Credit CARD Act if, in the Board’s view, those additional restrictions are necessary or proper to effectuate the purposes of the limitation on fees in the Act. In the view of the Board, the purpose of the statutory limitation was to limit fees on harvester accounts, and First Premier’s program was nothing more than an attempt to evade the application of the Act. The court found that the FRB did not have authority to expand TILA’s limitation on credit card fees when the statute itself was clear and unambiguous.

The court then found that First Premier would suffer irreparable harm if the rule became effective because it would lose goodwill with its customers, have to drastically reduce its workforce, and lose millions of dollars in profits that would be unrecoverable because of the sovereign immunity of the Consumer Financial Protection Bureau, the successor agency to the FRB for rulemaking under TILA. The court found that the CFPB would not suffer any harm if its rule was delayed. As for the public interest, the court found that the public interest in maintaining high levels of employment in South Dakota, combined with the public’s interest in having access to credit cards, swung the matter in favor of issuing the preliminary injunction.

Southern Division First Premier Bank v. The United States Consumer Financial Protection Bureau, 2011 U.S. Dist. LEXIS 107783 (D.S.D. September 23, 2011).

Timothy P. Meredith is a partner in the Maryland office of Hudson Cook, LLP. Tim can be reached at 410-865-5404 or by email at tmeredith@hudco.com.