Federal Banking Regulator Finalizes Rule on State Usury Laws
Legal Sidebar
Federal Banking Regulator Finalizes Rule on
State Usury Laws
July 9, 2020
On May 29, the Office of the Comptroller of the Currency (OCC) finalized a rule concerning federal
banking regulation and state usury law that has pitted the financial industry against consumer advocacy
groups. The OCC’s rule addresses the scope of a federal law empowering national banks to “export” the
maximum interest rates of their “home” states when lending to borrowers in other states with stricter
usury laws. The finalized proposal—which abrogates a 2015 decision from the U.S. Court of Appeals for
the Second Circuit—extends this “exportation power” to non-banks when they purchase loans originated
by banks.
Industry groups have hailed the measure as providing regulatory certainty to banks, financial technology
(“FinTech”) firms, and the roughly $563 bil ion market for securitized consumer debt. In contrast,
consumer organizations have criticized the rule for enabling predatory lending and exceeding the scope of
the OCC’s legal authority. But the agency is unlikely to have the final word: the rule wil probably be
chal enged in court. This Legal Sidebar discusses the dispute’s background, the issues that may play a
role in any litigation chal enging the OCC’s rule, and the rule’s implications if sustained.
Legal Background
To protect consumers, many states have adopted usury laws capping the interest rates that lenders can
charge borrowers. There is significant variation among state interest-rate limits: some states have adopted
strict usury laws, some have enacted more permissive rules, and others have eliminated usury laws
altogether. But federal preemption of state law has diminished the relevance of these differences when it
comes to bank lending. Section 85 of the National Bank Act (NBA) al ows federal y chartered banks to
“export” the maximum interest rates of their “home” states, meaning they can charge those rates when
lending to borrowers in other states with stricter usury laws. Accordingly, a national bank headquartered
in South Dakota—which has no interest-rate limits—need not abide by New York usury law when it lends
to New York borrowers. Predictably, this regime has made more permissive states attractive destinations
for banks’ credit-card operations. And these shifts have reduced the sway of states that favor stricter limits
on high-cost lending.
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The “exportation power” is firmly established when a bank originates loans and holds them on its balance
sheet. But Section 85’s scope is complicated by the fact that banks routinely sel loans to manage risk and
boost their liquidity. Often, the buyers of these loans are non-bank entities like debt purchasers or
securitization trusts, which would lack the exportation power if they originated the loans themselves.
These transactions natural y raise the question: can non-banks—which lack the exportation power when
they make loans—benefit from that power when they purchase loans from banks? Or do the usury limits
for a loan shift from those of the bank’s state to those of the borrower’s state when a bank sel s a loan to a
non-bank?
The issue has sparked controversy. Some commentators argue that non-banks can benefit from the
exportation power in these circumstances because banks’ power to sel loans includes the power to assign
a loan’s original terms. Industry groups separately contend that this conclusion follows from the general
standard for evaluating NBA preemption. Under this standard—the Barnett Bank test—federal law
preempts state laws that “significantly interfere” with national banks’ powers. Applying this test, the
financial industry has argued that the usury law governing a bank-originated loan “travels with” the loan
when it is sold, because a contrary rule would “significantly interfere” with banks’ power to sell loans.
Final y, others have argued that non-banks can benefit from the exportation power because of a putative
common law rule known as the “valid when made” doctrine. Proponents of this argument contend that, at
common law, a loan that was non-usurious—and therefore “valid”—when originated could not later
become usurious. The financial lobby argues that Congress incorporated this common law doctrine into
the NBA when it enacted Section 85.
Others have rejected these arguments. Some critics of the financial industry argue that banks cannot
assign the exportation power because it is a privilege attached to bank charters, not a contractual right.
These commentators contend that the law of assignments al ows banks to transfer the rights they possess
under their debt contracts, but not extraneous rights they possess because of their charters. (The analogy:
while car owners can sel their cars and any rights attached to them, they cannot assign the privileges
attached to their driver’s licenses.) Others have rejected the financial industry’s reliance on Barnett Bank.
These observers contend that denying non-banks the exportation power would only “marginal y” affect
the prices banks can obtain in secondary loan markets. And under this line of reasoning, such minor
effects do not rise to the level of “significant interference” with banks’ powers. Final y, others have
chal enged the historical pedigree of the “valid when made” doctrine. Skeptics of this doctrine contend
that the 19th-century case law does not stand for the proposition that a non-usurious loan can never
become usurious. Accordingly, these commentators argue that such a principle is a modern invention that
was not incorporated into the NBA.
The Madden Decision
The OCC was not writing on a blank slate when it considered these arguments. In 2015, the U.S. Court of
Appeals for the Second Circuit rejected the maximalist view of the exportation power in Madden v.
Midland Funding, LLC. There, the court held that a non-bank debt purchaser could not benefit from the
exportation power of a national bank from which it had purchased credit-card debt. As a result, the usury
law of the borrower’s state—not the more permissive law of the bank’s state—governed that debt. In
reaching this conclusion, the Second Circuit rejected the defendant-debt purchaser’s reliance on Barnett
Bank. The court reasoned that the usury law of the borrower’s state would not “significantly interfere”
with bank powers because it would not prevent banks from sel ing their loans, even if it “might” decrease
the profitability of those sales.
Madden immediately proved contentious. After the Second Circuit issued the decision, several industry
groups supported an unsuccessful petition for rehearing, arguing that the ruling would seriously disrupt
credit markets. And after the defendant-debt purchaser petitioned the Supreme Court for a writ of
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certiorari, the OCC and the Office of the Solicitor General filed an amicus brief arguing that Madden was
wrongly decided. However, the Supreme Court denied the petition, leaving the Second Circuit’s decision
undisturbed.
Madden has also attracted congressional interest. In June 2017, the House of Representatives passed the
Financial CHOICE Act, a broad regulatory reform bil that included a provision abrogating Madden and
codifying the “valid when made” principle. The House also passed a narrower bil limited to this so-cal ed
“Madden-fix” in February 2018. But neither bil became law, and similar legislation has not been
introduced in the 116th Congress.
The OCC’s Rule
The OCC’s finalized proposal is the latest episode in the Madden saga. The rule straightforwardly
abrogates the Second Circuit’s decision, providing that “[i]nterest on a loan that is permissible under
[Section 85 of the NBA] shal not be affected by the sale, assignment, or other transfer of the loan.” The
rule also includes an identical provision for loans originated by federal savings associations, which have
the same exportation power as national banks. The OCC explained that it issued the rule to address
regulatory uncertainty created by the Madden decision. And the agency identified several bases for its
interpretation of the exportation power, including banks’ powers to sel loans and make contracts, the
“valid when made” doctrine, and Section 85’s purpose to “facilitate[] national banks’ ability to operate
lending programs on a nationwide basis.” Notably, the OCC did not invoke the Barnett Bank test to
justify the rule.
Looking Forward: Possible Litigation
The OCC’s rule wil likely be chal enged in court. During the rulemaking process, consumer groups and
many state attorneys general vigorously objected to the OCC’s proposal. Some commenters argued that
the OCC lacks the statutory authority to extend the exportation power to non-banks for the reasons
discussed above. The rule’s critics also contended that the OCC is bound by Madden under
administrative-law principles. Under the relevant case law, a judicial determination that a statute is
unambiguous prohibits administrative agencies from adopting a contrary interpretation. And some
observers read Madden as holding that Section 85 unambiguously limits the exportation power to banks,
precluding the OCC from implementing a different reading of the statute. An assessment of this argument
may require a close parsing of the Second Circuit’s reasoning in Madden, which focused principal y on
the Barnett Bank test rather than Section 85’s semantic content.
Other commenters attacked elements of the OCC’s rulemaking process. Some critics al eged that the
OCC failed to support its proposal with sufficient factual findings and adequately consider the rule’s
implications for predatory “rent-a-bank” schemes. Opponents of the rule also argued that the OCC flouted
a provision in the Dodd-Frank Act imposing enhanced requirements on the agency’s preemption rules.
The relevant provision—Section 1044—places substantive limits on the OCC’s power to issue rules
preempting “State consumer financial laws.” Section 1044 also imposes certain procedural requirements
on the OCC’s “preemption determinations” that the agency does not appear to have complied with in
issuing its Madden rule.
However, the OCC has argued that the rule is not subject to Section 1044’s requirements for two reasons.
First, the agency claims that its Madden rule is not a “preemption determination” because it concerns
Section 85’s scope, rather than the “distinct” question of whether Section 85 preempts state law. Second,
the OCC argues that rules concerning Section 85 are exempt from Dodd-Frank’s requirements because of
a provision in Section 1044 disavowing an intent to alter national banks’ exportation power. This dispute
over Dodd-Frank wil likely be hashed out in court.
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The Rule’s Implications
Commentators disagree about the implications of the OCC’s rule. As discussed, supporters of the
agency’s efforts have criticized Madden for threatening to disrupt secondary loan markets and the market
for securitized consumer debt. Recent class-action usury lawsuits targeting the credit-card securitization
programs of two national banks arguably underscore these concerns. Other supporters of the rule have
criticized Madden’s effects on primary credit markets. These commentators argue that a narrow
construction of the exportation power reduces credit availability for high-risk borrowers. And there is
some evidence supporting this view: according to one empirical study, Madden reduced the flow of credit
to borrowers in the Second Circuit with low FICO scores.
In contrast, critics of the OCC’s rule have contested the claim that Madden creates significant uncertainty.
These commentators argue that the Second Circuit’s decision affects only the narrow market for
securitized credit-card debt. Opponents of the rule also contend that restricting the exportation power’s
scope would merely limit the types of credit-card debt that can be sold, rather than eliminating the market
for all credit-card debt. Final y, there is a large literature arguing that limits on high-cost credit can be
welfare-enhancing, especial y where borrowers underappreciate the costs of debt because of imperfect
rationality or incomplete information. These considerations arguably serve as a rejoinder to the claim that
Madden has limited credit availability. And this general view of consumer behavior has led supporters of
stricter usury laws to criticize the OCC’s rule for facilitating predatory lending.
The scope of the exportation power is likely to remain a hot topic in banking regulation and
consumer protection. The Federal Deposit Insurance Corporation (FDIC) is reviewing comments
on a proposal for federal y insured state banks that largely mirrors the OCC’s rule for national
banks. If the FDIC finalizes the proposal, its rule may also face legal chal enges that raise some
of the same issues facing the OCC. Whether these measures wil generate a resurgence of
congressional interest in the exportation power or usury law more general y remains to be seen.
Author Information
Jay B. Sykes
Legislative Attorney
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