Financial Services Law

With Cert Denial, Fed’s Interchange Rules Will Stand

Why it matters

With the U.S. Supreme Court’s denial of certiorari, the Board of Governors of the Federal Reserve Board’s interchange rules will stand. The justices declined to hear an appeal from retailers without comment, leaving the D.C. Circuit Court of Appeals opinion in NACS v. Board of Governors of the Federal Reserve System intact. As required by the Durbin Amendment, the Fed adopted rules in 2011 capping fees on debit interchange and establishing antiexclusivity requirements for payment card networks. Trade groups like the National Retail Federation challenged the rule, and a federal district court struck them down. Last March, a unanimous three-judge panel of the D.C. Circuit reversed, finding the rules reasonable. Now that the Supreme Court has refused to hear the case, the rules will stand, reflecting the Court’s reliance on the Fed to have examined the issue and come to a conclusion as to the amount of interchange the agency believes is fair. Retailers will therefore continue to pay the interchange rates set by the Fed unless the agency reassesses the existing fees.

Detailed discussion

In October 2011, the Board of Governors of the Federal Reserve Board issued regulations at the direction of the Dodd-Frank Wall Street Reform and Consumer Protection Act’s Durbin Amendment with two primary changes. First, the Fed established the imposition of a cap on the per-transaction fees banks receive when consumers use a debit card (21 cents plus 0.5 percent of a transaction’s value), and second, the Fed required that at least two networks owned and operated by different companies be able to process transactions on each debit card.

Trade groups, including the National Association of Convenience Stores and the National Retail Federation, filed suit, arguing that both of the rules defied the intent of the Durbin Amendment. Issuers should be forced to route each debit transaction on multiple unaffiliated networks, the plaintiffs argued, and the fee cap should not have included the ability to recover for costs like fraud losses, transaction-monitoring costs, and “fixed” authorization, clearance, and settlement costs.

A federal court judge in Washington, D.C., agreed, granting summary judgment for the plaintiffs and writing that “the Board completely misunderstood the Durbin Amendment’s statutory directive and interpreted the law in ways that were clearly foreclosed by Congress.”

But last March, a three-judge panel of the D.C. Circuit reversed, unanimously finding that the Board’s rule was reasonable.

In part due to evidence presented by the Board that network competition had already increased as a result of the rule change, the court rejected the contention that the rule failed to serve the intent of the Durbin Amendment. “Given that the Board’s rule advances the Durbin Amendment’s purpose, we decline to second-guess its reasoned decision to reject an alternative option that might have further advanced the purpose,” the panel wrote.

The retailers then sought review with the U.S. Supreme Court, filing a petition for certiorari characterizing the federal appellate panel’s decision as “a significant legal error” with “multi-billion dollar consequences for millions of parties every year.” The groups did not appeal the ruling on the antiexclusivity requirements but argued that the Board “disregard[ed] Congress’s will” when it upheld the interchange fee rule.

On January 20, the Court denied the cert petition, letting the D.C. Circuit’s opinion stand and leaving the interchange fees set by the Fed pursuant to the Durbin Amendment in place.

To read the D.C. Circuit Court of Appeals decision in NACS v. Board of Governors, click here.

To read the Order List denying cert, click here.

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Financial Industry Backs Cybersecurity, Data Breach Notification Legislation

Why it matters

The financial industry has thrown its support behind data breach notification legislation as well as passage of a law that would encourage businesses to share cyberthreat information. Data security issues have been a hot topic in Washington, D.C., following President Barack Obama’s introduction of multiple bills and discussion of cybersecurity during his 2015 State of the Union address. Banks and financial service companies – including the American Bankers Association (ABA) and the Credit Union National Association (CUNA) – joined the conversation, sending a letter to federal lawmakers urging the passage of a data breach bill, emphasizing the need for federal preemption of the current patchwork of 47 state laws. The groups also endorsed the idea that other entities – like retailers – be held to the same level of data security standards as financial institutions. A second letter followed from the U.S. Chamber of Commerce, joined by the ABA and 33 other organizations from a host of industries, asking that legislators enact a cybersecurity information-sharing bill, which would create a safe harbor for companies that follow the standards set by the law. Although data security and privacy issues are top of mind in the nation’s capital these days, the successful passage of either law remains unclear.

Detailed discussion

On January 12, the President addressed the Federal Trade Commission (FTC) and presented three proposed pieces of legislation relating to data security and privacy: the Student Digital Privacy Act (which would prohibit the sale of sensitive student data for noneducation purposes), the Consumer Privacy Bill of Rights (which would set out “basic baseline protections across industries,” the President said), and the Personal Data Notification & Protection Act.

The data breach bill would beef up criminal penalties for hackers generally, require that companies notify consumers of a breach within 30 days, and importantly, establish nationwide, uniform consumer data breach notification rules that would preempt the various state laws currently in effect.

Although not referencing the President’s Personal Data Notification & Protection Act proposal by name, seven industry groups – the ABA, CUNA, the Consumer Bankers Association, the Financial Services Roundtable, the Independent Community Bankers of America, the National Association of Federal Credit Unions, and The Clearing House – sent a letter to federal lawmakers urging passage of a national data breach law.

“We share your concerns about protecting consumers and strongly believe that the following set of principles should serve as a guide,” the groups wrote. Strong national standards “with effective enforcement provisions” must be applicable to “any party with access to important consumer financial information,” according to the letter, along with recognition of the preexisting requirements already placed on banks and credit unions, such as the Gramm-Leach-Bliley Act (GLBA).

Inconsistent state laws and regulations should be preempted by the federal legislation, according to the letter, and the public should be informed of a breach “where it occurred as soon as reasonably possible to allow consumers to protect themselves from fraud.”

“Too often, banks and credit unions bear a disproportionate burden in covering the costs of breaches occurring beyond the premises,” the groups explained. “All parties must share in protecting consumers. Therefore, the costs of a data breach should ultimately be borne by the entity that incurs the breach.”

Those in the financial industry are already required by law to develop and maintain data security protections, protect consumer financial information, and provide notice to consumers when a breach occurs that leaves them at risk. “The same cannot be said for other industries, like retailers, that routinely handle this same information and increasingly store it for their own purposes,” according to the letter.

After visiting the FTC, President Obama continued his focus on data security and privacy with a visit to the National Cybersecurity Communications Integration Center (NCCIC) at the Department of Homeland Security, where he spoke about a legislative proposal intended to encourage business to share cyberthreat information with the NCCIC.

Pursuant to the bill, companies that share such information and take “measures to protect any personal information that must be shared” would be granted “targeted liability protection,” the President promised.

Again, the ABA, this time joined by the U.S. Chamber of Commerce and dozens of other organizations covering a wide variety of industries (ranging from the Agricultural Retailers Association to the National Association of Chemical Distributors), requested that lawmakers “quickly pass a cybersecurity information-sharing bill.”

“Recent cyber incidents underscore the need for legislation to help businesses improve their awareness of cyber threats and to enhance their protection and response capabilities,” the 35 groups wrote. “Above all, we need Congress to send a bill to the President that gives businesses legal certainty that they have safe harbor against frivolous lawsuits when voluntarily sharing and receiving threat indicators and countermeasures in real time and taking actions to mitigate cyberattacks.”

Any legislation must also “offer protections related to public disclosure, regulatory, and antitrust matters in order to increase the timely exchange of information among public and private entities,” the letter added.

“Congressional action cannot come soon enough,” the groups concluded.

To read the Personal Data Notification & Protection Act, click here.

To read the letter from the ABA, CBA, CUNA, FSR, ICBA, NAFCU, and The Clearing House, click here.

To read the proposal for sharing cyberthreats, click here.

To read the letter from the ABA, the U.S. Chamber of Commerce, and other organizations, click here.

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FTC Takes First Action Against Car Title Lenders

Why it matters

In the agency’s first action against a title lender, the Federal Trade Commission (FTC) recently reached a deal with a pair of car title lenders accused of deceptive advertising. The Commission alleged that the defendants failed to disclose important loan conditions or that the finance charge would increase after an introductory 30-day offer ended. “This type of loan is risky for consumers because if they fail to pay, they could lose their car – an asset many of them can’t live without,” Jessica Rich, director of the FTC’s Bureau of Consumer Protection, said in a statement about the case. “Without proper disclosures, consumers can’t know what they’re getting, so when we see deceptive marketing of these loans we’re going to take action to stop it.” The Bureau of Consumer Financial Protection (CFPB) reportedly is considering whether to include vehicle title loans within the scope of its coming payday loan rules, and this FTC action signals that the FTC also continues to be active in this space. The action also reminds lenders that advertising and marketing materials alone can trigger regulatory action, and a review of marketing and advertising material to ensure appropriate disclosures for any loan products would be time well spent.

Detailed discussion

First American Title Lending of Georgia and Finance Select both offered car title loans. In print advertising and online, the companies promised a zero percent interest rate for a 30-day car title loan.

The agency characterized car title loans as “a high cost, short-term loan,” secured with the consumer’s car title. A typical APR can reach 300 percent and the loans often have short repayment periods of 30 days. But the Commission noted that title loans can morph into longer-term installment loans if a consumer does not repay the loan within 30 days. According to the FTC, the average length of such loans is about nine months, so a $1,000 loan could yield $2,000 in fees.

The agency did not challenge the fees charged by the car title lenders. Instead, the FTC said the ads failed to include important details about the loans, including that the finance charge would increase after the introductory period ended and that certain conditions needed to be met in order to qualify for the loan.

Specifically, Georgia-based First American neglected to mention in its billboards, newspaper ads, and Internet claims for “zero” interest that borrowers had to be new customers, repay the loan within 30 days, and pay with a money order or certified funds (not a personal check or cash), the FTC said. The company, which operated at more than 30 locations, also failed to disclose that borrowers that failed to meet the conditions were required to pay a finance charge from the beginning of the loan and did not inform consumers of the amount of the finance charge after the introductory period ended.

As for Finance Select, the Commission charged that the company – with five locations in Georgia and two in Alabama – not only did not state the finance charge at the end of the 30-day period but also left out the conditions for qualification for its zero percent offer, such as that loans had to be repaid in full in 30 days (or a finance charge would be added for the initial 30 days of the loan).

In administrative complaints, the FTC charged both companies with violations of Section 5 of the Federal Trade Commission Act. First American also ran afoul of the Truth in Lending Act (TILA) and Regulation Z, the agency alleged.

Pursuant to the proposed settlements, both defendants would be prohibited from failing to disclose all the qualifying terms associated with obtaining a loan at an advertised rate, failing to disclose what the finance charge would be after an introductory period ends, and misrepresenting any material terms of any loan agreements.

First American’s deal features additional requirements, including a ban on stating the amount of any down payment, number of payments or periods of repayment, or the amount of any payment or finance charge unless all the terms required by TILA and Regulation Z are clearly and conspicuously disclosed.

The proposed settlements are open for public comment until March 3.

To read the complaint and proposed consent order in In the Matter of First American Title Lending of Georgia, click here.

To read the complaint and proposed consent order in In the Matter of Finance Select, click here.

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CFPB Proposes Eased Mortgage Restrictions on Smaller Financial Institutions

Why it matters

Seeking to reassure smaller financial institutions struggling to cope with regulatory changes in the mortgage industry, the Consumer Financial Protection Bureau (CFPB) proposed changes intended to facilitate lending by small creditors. “Responsible lending by community banks and credit unions did not cause the financial crisis, and our mortgage rules reflect the fact that small institutions play a vital role in many communities,” CFPB Director Richard Cordray said in a press release. The proposed measures would broaden the definition of “small creditor” and “rural” under the Bureau’s mortgage rules, add a grace period for lenders to continue to operate as a small creditor under certain circumstances, and briefly extend the exemption allowing eligible small creditors to make balloon-payment qualified mortgages.

Detailed discussion

In 2013, the CFPB unveiled several new mortgage rules, most of which took effect in January 2014. One particularly troubling rule for smaller institution is the Ability-to-Repay rule. The CFPB’s new requirement mandated that lenders must make a reasonable and good faith determination that a borrower has the ability to repay his or her loan. Within the rule, the Bureau also established a category of loans presumed to comply with the Ability-to-Repay requirements known as qualified mortgages, or QMs.

Small creditors – a defined term under the rules – were granted certain leeway. After a year of implementation, and following a public comment period regarding the origination limit for small credit status, the CFPB proposed some tweaks to the rules.

In the most significant change, the proposal would expand two definitions under the mortgage rules. What constitutes a “small creditor” is changed, both pushing the loan origination limit from 500 first-lien mortgage loans to 2,000, and, most significantly, changing the way this number is calculated so as to exclude loans held in portfolio by the creditor and its affiliates. What constitutes “rural” is broadened to include any areas not defined as urban by the Census Bureau.

Mortgage affiliates would be included in the calculation of small creditor status, although the asset limit (of less than $2 billion in total assets as of the end of the preceding calendar year) would not be adjusted.

The CFPB proposal would add three-month grace periods for a bank’s status as a small creditor or rural or underserved creditor. If a small creditor exceeded the origination limit or asset-size limit in the preceding calendar year, it would still be allowed to operate under certain circumstances as a small creditor with respect to mortgage transactions with applications received prior to April 1 of the current calendar year. Creditors that no longer operated in rural or underserved areas during the prior calendar year would receive the same grace period.

Currently, the time period used to determine whether a creditor qualifies for rural or underserved creditor status by operating predominantly in rural or underserved areas is any of the three preceding calendar years. The Bureau’s proposed changes would narrow this to just the preceding calendar year.

Finally, the proposal would briefly extend the exemption that allows eligible small creditors to make balloon-payment QMs regardless of where they operate, from its currently scheduled January 10, 2016, expiration date to applications received before April 1, 2016, “giving creditors more time to understand how any changes will affect their status, and to adjust their business practices.”

To read the proposed rule changes, click here.

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Saving to Win Big: Prize-Linked Savings Accounts Are the Newest Promotional Trend

Authors: Jesse M. Brody | Suemyra A. Shah

It’s a lottery where you can’t lose, but is it legal? A growing promotional trend being utilized by financial institutions such as banks and credit unions is the offering of prize-linked savings (PLS) products, which provide consumers with the chance to win prizes in exchange for the consumer making one or more deposits into a savings account. For example, Save to Win, the largest PLS program, which currently operates in four states, gives each depositor an entry into a cash prize raffle for each $25 deposit into a savings account, up to 10 entries per month. While financial institutions and credit unions have historically been prohibited from running raffle- or lottery-type promotions under state lottery laws and federal banking regulations, Congress and a number of states have recently amended previously prohibitive laws to legalize such promotions in the limited context of PLS accounts, in order to incentivize people to save more.

In an economic climate marked by record-low interest rates, incentives to save are all the more valuable and the opportunity to win a cash prize could prove to be a deciding factor in how consumers decide to spend their income. In Michigan and Nebraska alone, more than 42,000 individuals have opened PLS savings accounts, which have resulted in savings of over $72 million. In states where PLS products have been legalized, PLS promotions are increasingly being viewed as an attractive alternative for consumers who would otherwise spend their money playing state lotteries in search of a chance to win cash prizes. Further, PLS products have been shown to appeal to consumer groups who have historically struggled to save, such as the asset-poor and low-to-moderate income groups.

Under state lottery and gambling laws, a sweepstakes in which consumers are required to pay a sum of money or purchase a product to receive an entry is illegal unless a “free” way to enter is also equally offered that doesn’t require mandatory consideration (commonly referred to as a free alternative method of entry). However, PLS promotions can arguably be distinguished from traditional product purchase sweepstakes, since the money that one “pays” in order to receive an entry into the prize drawing is deposited into one’s own savings account, resulting in no real surrendering of consideration or net loss to the entrant (and arguably a net gain, since the individual who participates will receive interest on the deposit from the financial institution).

Legally, one of the most significant developments to bolster the growth of PLS products is the recent passage of the federal American Savings Promotion Act (the Act), which was unanimously passed in both the House of Representatives and the Senate and is awaiting signature by President Obama. Under federal banking laws, banks and federally chartered financial institutions are prohibited from engaging in lotteries (although credit unions are exempt). The Act narrowly amends federal laws to legalize the use of PLS products by banks and federally chartered financial institutions by exempting such products from the definition of a lottery.

Even if the Act ultimately passes on a federal level, financial institutions interested in PLS promotions still need to address state law regulation. Also, given that credit unions have been exempt from the aforementioned federal banking laws applicable to lotteries, a handful of states have passed laws legalizing PLS products and have seen such products explode in popularity. On a statewide level, although not legal yet in California, ten states currently authorize credit unions to offer PLS products: Connecticut, Indiana, Maine, Maryland, Michigan, Nebraska, New York (effective September 23, 2015), North Carolina, Rhode Island and Washington.

The elements of each state law vary, but generally financial institutions offering PLS products require the chance to win a prize to be dependent on an individual’s deposit of a minimum sum of money as specified under the terms and conditions of the promotion or the submission of an entry where no deposit or purchase is required. Further, state laws also require financial institutions engaging in PLS product promotions to include the promotion terms and conditions in any advertising materials and to post such terms and conditions in financial institution locations where consumers may enter the promotion.

Launching a PLS promotion can be an effective way to entice customers who are put off by current low interest rates to save more and thus increase deposits. However, while PLS promotions and similar contests and sweepstakes are frequently a cost-efficient way to create a great deal of buzz, they are hardly trouble-free, and a myriad of traps await the unwary sponsor. Promotional campaigns incorporating sweepstakes elements such as prize and chance require complex regulatory compliance on a federal and state-by-state basis, and significant legal exposure awaits the sloppy and uninformed promoter. Involving experienced legal counsel early in the planning process, developing a good set of forms and standard procedures and clearing each promotion, and engaging competent, reliable agencies to execute the promotion will help your financial institution operate successful PLS promotions while minimizing the potential risk of liability.

This article was previously published in Credit Union Journal on Feb. 6, 2015.

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