On April 26, 2017, the Conference of State Bank Supervisors (“CSBS”), the trade association that represents state banking regulators, initiated a lawsuit against the Office of the Comptroller of the Currency (“OCC”) in the U.S. District Court for the District of Columbia. The lawsuit seeks declaratory and injunctive relief to prevent the OCC from moving forward with its proposal for granting special-purpose national bank charters to fintech companies.
The OCC Proposal. On December 2, 2016, the OCC announced its intention to consider granting fintech firms special-purpose national bank charters. Fintech companies receiving such a charter would be under the jurisdiction and regulatory scrutiny of the OCC, and would thus be treated similarly to banks from a regulatory perspective—from the initial charter application process to the ongoing supervisory and examination regime. The OCC argued in its proposal that the special-purpose charter framework would “help ensure that these companies operate in a safe and sound manner so that they can effectively serve the needs of customers, businesses, and communities,” “help promote consistency in the application of law and regulation across the country and ensure that consumers are treated fairly,” and “encourage them to explore new ways to promote fair access and financial inclusion and innovate responsibly.”
Although the regulatory standards the OCC would apply to fintech firms seeking such a charter would be rigorous, the potential benefits of a national bank charter seem significant enough to encourage many fintech companies to apply. Those benefits chiefly include being regulated by a single regulator and, because the National Bank Act (“NBA”) preempts the application of most state laws to national banks, being able to conduct operations uniformly across state lines.
The Draft Licensing Manual Supplement. Building on its proposal, the OCC, in March 2017, released a draft licensing manual supplement (the “Supplement”) explaining the licensing process, as well as the factors it would consider in determining whether to grant a special purpose charter to fintech companies. In addition to describing how the chartering standards set forth in existing OCC regulations and policies would be applied to fintech companies, the Supplement also notes aspects of the chartering process that may be unique to fintech applications. For example, the OCC reiterates that, pursuant to OCC regulation, fintech charter recipients must engage in activities that are “part of, or incidental to, the business of banking,” or engage in at least one of three core banking activities: taking deposits, paying checks, or lending money. But the Supplement also recognizes that many fintech companies may engage in a variety of “new” activities that have not yet determined to be either a “core banking activity,” or “part of, or incidental to, the business of banking.” Therefore, fintech applicants should be prepared to discuss the permissibility of the proposed activities with the OCC, and potentially provide a legal analysis supporting its view.
The Feedback. The OCC’s proposal generated support from a variety of interested parties. The fintech industry generally viewed the OCC’s fintech proposal positively, arguing that the current regulatory framework hinders innovation, and that a special-purpose fintech charter would lead to a reduction in regulatory complexity and allow for easier nationwide operation. The Marketplace Lending Association (“MLA”)—a trade association of fintech lending companies—supported the proposed charter framework, noting that the charter “would allow certain [marketplace lending platforms] to operate on a nationwide basis in a highly rigorous regulatory environment—leveling the playing field with traditional financial institutions, making room for competition and innovative financial products, and promoting safety and soundness.” The MLA also noted the potential benefits for fintech firms of having a single federal regulator, and argued that, under the current state-by-state model, fintech firms are “subject to a patchwork of state laws that can be challenging to navigate and have the unintended consequences of increasing cost, complexity, and limiting market reach. “
The proposal has also been met with fierce opposition from numerous groups, including state banking regulators, chief among them, the New York Department of Financial Services (“NYDFS”). NYDFS argued in a letter to the OCC that the “imposition of an entirely new federal regulatory scheme on an already fully functional and deeply rooted state regulatory landscape will invite serious risk of regulatory confusion and uncertainty, stifle small business innovation, create institutions that are too big to fail, imperil crucially important state-based consumer protection laws and increase the risks presented by nonbank entities.” However, one could expect many fintech businesses to counter that, rather than “stifl[ing] small business innovation,” regulatory certainty encourages innovation, and that following one set of rules—even if those rules are strict—is easier and cheaper from a compliance perspective than keeping up with different rules across 50 states.
The CSBS Lawsuit. The lawsuit filed by the CSBS represents one of the most direct challenges to the proposed special-purpose charter system to date. In a press release accompanying the lawsuit, CSBS President and CEO John Ryan stated that the OCC’s action represents an “unprecedented, unlawful expansion of the chartering authority given to it by Congress,” and “ignores Congress, seeks to preempt state consumer protection laws, harms markets and innovation, and puts taxpayers at risk of inevitable fintech failures.”
The CSBS’ complaint advances two central arguments: (1) that the NBA provides no authority to the OCC to issue national bank charters to fintech firms; and (2) that the OCC violated the Administrative Procedure Act (“APA”) by proceeding with its proposal (which the CSBS refers to in the complaint as the “Nonbank Charter Decision”) without undertaking a formal rulemaking process.
OCC lacks authority. According to Count I of the complaint, if the OCC implements the special-purpose nonbank charter for fintech companies, it will exceed the limitations set forth in the NBA. The CSBS asserts that the NBA empowers the OCC only to charter entities that (1) carry on the “business of banking” (which the CSBS argues—based on legislative history, case law, and the language of other federal banking statutes—requires an entity to receive deposits), or (2) engage in activities to fulfill a special purpose expressly authorized by Congress (for example, credit card banks). Because these fintech companies will not accept deposits and Congress has not specifically authorized the chartering of fintech firms, the CSBS argues that granting fintech charters would exceed the OCC’s authority under the NBA.
In Count II, the CSBS argues that the OCC also exceeded its authority under the NBA in promulgating the 2003 regulation allowing the OCC to grant bank charters to entities that do not accept deposits. In its proposal, the OCC cited this specific regulation, 12 C.F.R. § 5.20(e)(1), as authority for issuing special-purpose fintech charters. That regulation provides that a charter may be issued to a special purpose bank that limits its activities to fiduciary activities, paying checks, or lending money. But, the CSBS argues, because the NBA limits the OCC to charter only entities that carry on the “business of banking” or pursue a special purpose expressly authorized by Congress, the OCC exceeded its statutory authority in promulgating the regulation. Finally, as a result of exceeding its statutory authority, the CSBS alleges in Count V that the OCC’s proposal violates the Tenth Amendment of the U.S. Constitution, which leaves to the states all powers not delegated to the federal government, including “the police powers necessary to regulate financial services and protect consumers and the public interest from unsound and abusive financial practices.”
OCC violated APA. The CSBS asserts, in Count III, that the OCC has implemented a new “rule” of general application without complying with the formal rulemaking process required under the APA, and, in Count IV, that, in making a decision to issue special purpose fintech charters, the OCC acted in an arbitrary and capricious manner and without engaging in “reasoned decision making,” in violation of the APA. Specifically, the CSBS argues that the OCC failed to (1) consider “the effect of its actions on the states’ authority to regulate traditional areas of state concern,” (2) consider “the many significant concerns arising from the Nonbank Charter Decision,” (3) conduct an adequate cost-benefit analysis, and (4) offer “a reasoned explanation for its decision.”
If you have any questions regarding the OCC’s proposal to issue special-purpose fintech charters, its draft licensing manual supplement for fintech charter applicants, this specific lawsuit, or any other fintech or financial regulatory issues, please do not hesitate to contact Reed Smith’s global financial regulatory team.