Home Banking What’s the fate of bank-nonbank partnerships after ‘true lender’ vote?

What’s the fate of bank-nonbank partnerships after ‘true lender’ vote?


WASHINGTON — The Senate’s rejection of a Trump-era rule making it easier for banks to sell loans to third parties spells considerable uncertainty for fintech firms, even as the Biden administration likely prepares to remake the standard.

The chamber’s passage of a Congressional Review Act resolution striking down the Office of the Comptroller of the Currency’s “true lender” regulation all but guarantees the rule’s demise. The resolution now moves to the Democrat-controlled House, where it is expected to pass.

The Senate’s vote late Tuesday was hailed by some as a victory for states’ rights and consumer protection. The rule designates national banks as the “true lender” when they sell loans to nonbanks, even if the parties are in different states. Critics charged it allows predatory lenders to evade their state interest caps and disadvantages state-chartered banks.

But some analysts say blocking the rule will put the OCC and the industry in a tough position as banks seek legal clarity about engaging in loan transactions with tech savvy nonbanks.

“I think it means continued uncertainty that will resonate particularly for bank partnerships with fintech companies,” said Karen Solomon, an attorney at Covington and former general counsel of the OCC.

The OCC’s rule introduced a simple test to determine when a bank is the “true lender” in a fintech partnership, focusing on whether the bank is named the originator in a loan agreement and whether the bank funds the loan.

When a bank is named the “true lender” in a fintech partnership, it is responsible for ensuring a loan’s compliance with federal law, and state interest rate caps generally do not apply. Consumer groups have blasted the rule, saying such a measure would make it far too easy for predatory lenders to operate in states across the U.S.

Cynthia Lummis of Wyoming, left, and Susan Collins of Maine, right, were among three Senate Republicans voting with Democrats to overturn the OCC’s true lender rule. The “valid-when-made rule will continue to provide legal clarity to federal and state banks,” Lummis said on the Senate floor Tuesday night.

Cynthia Lummis of Wyoming, left, and Susan Collins of Maine, right, were among three Senate Republicans voting with Democrats to overturn the OCC’s true lender rule. The “valid-when-made rule will continue to provide legal clarity to federal and state banks,” Lummis said on the Senate floor Tuesday night.

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The secondary loan market is increasingly made up of fintech firms with state licenses attempting to operate on a national scale. Bankers believed they were on solid ground selling debts to such firms across state lines until a 2015 court decision in Madden v. Midland Funding suggested such deals are subject to state usury caps.

Regulators have attempted to provide legal clarity to market, first with rules certifying that loans are “valid when made” by a bank, and then with the OCC’s true lender rule.

Some observers worry that the Congressional Review Act measure will make it hard for the OCC to rewrite the rule in a way that provides stronger consumer protections. Under the law, once a rule is invalidated by Congress, the resolution prohibits regulators from issuing any future rule found to be “substantially the same” as what was struck down.

“The agency is going to have to figure out whether there’s any room for guidance or regulation in this area if Congress does pass the resolution of disapproval, and I’m not sure that there is,” Solomon said.

That lack of flexibility is a core reason why a coalition of bank and fintech advocates urged Congress not to throw out the rule earlier this month.

James Ballentine, executive vice president of congressional relations at the American Bankers Association, said in a statement Wednesday that “by employing the blunt instrument of the Congressional Review Act to reject this rule,” lawmakers were “effectively preventing any similar, improved rule from ever being promulgated.”

Jaret Seiberg, an analyst with Cowen Washington Research Group, agreed in a note that reversing the “true lender” rule could tie the hands of the Biden administration.

“Use of the Congressional Review Act will complicate a future Comptroller of the Currency’s efforts to advance a new True Lender Rule,” he said. “This is because the law requires Congress to approve any replacement for a rule that it used the CRA to overturn.”

But opponents of the “true lender” rule — including consumer advocates and state regulators — loudly applauded the Senate disapproval of the Trump-era rule.

“This is a significant victory for consumers but also, when you think about the industry in the financial services system, this is a really important victory of the rule of law,” said Margaret Liu, executive vice president of the Conference of State Bank Supervisors.

Other analysts say that banks and their fintech partners are exaggerating the amount of legal uncertainty around loan partnerships.

“This is only happening with a handful of banks that choose to make high-cost loans, in states where they are illegal, through these partnerships with fintech companies,” said Chris Odinet, a professor of law at the University of Iowa. “I mean, this is not a widespread stability-in-the-marketplace problem, and it’s really disingenuous to argue that it is.”

Notably, the Senate vote was somewhat bipartisan — a 52-47 margin with three Republicans voting with the Democrats: Susan Collins of Maine, Cynthia Lummis of Wyoming and Marco Rubio of Florida.

The outcome was an “important reminder” that historically, banking issues haven’t always been fiercely partisan, according to Karen Petrou, managing partner at Federal Financial Analytics. She said the bipartisan vote reflects a diverse coalition of interests that opposed the rule, including consumer advocates and states’ rights supporters.

“Many people mistook this as a purely Democratic initiative because of all the consumer advocacy, but this was actually a broad coalition with deep roots also in the GOP,” she said.

With the OCC’s new Biden-appointed comptroller, Michael Hsu, starting this week, the agency was already expected to revisit the “true lender” rule with or without a congressional reversal. Therefore, the Senate’s vote Tuesday shouldn’t have caught the industry off guard, Petrou said.

In the meantime, markets can take solace in the fact that another policy addressing the 2015 Madden decision — the “valid-when-made” rules — still stands. Those rules, finalized last year by the OCC and the Federal Deposit Insurance Corp., clarified that the interest rate of a loan could not be altered in the event the loan was sold or transferred, even if the buyer resided in a state with a lower rate cap.

The OCC declined to comment for this story.

Speaking on the Senate floor Tuesday night, Lummis pointed explicitly to the “valid when made” rule as she urged her colleagues to overturn the OCC’s rule. “Until this is fixed, the current, valid-when-made rule will continue to provide legal clarity to federal and state banks,” she said.

But other analysts said that the designation of a loan’s “true lender” is an essential component of making the “valid-when-made” doctrine work in the first place.

“The valid-when-made rules — both the OCC’s and the FDIC’s — make it clear that if the loan in question was valid at the time of origination, then the originator can transfer that loan subject to essentially the same interest rate terms,” Solomon said. “But the problem is, if you don’t know who the lender actually was, then you’ve introduced uncertainty into the transaction on a square before the originator transfers.”

“In other words, if the originator isn’t clearly the true lender, then you have some uncertainty about what the purchaser of that loan is getting, even with valid-when-made regulations in place,” she added.