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FDIC Issues Final Rule to Fix Madden and Affirm the ‘Valid When Made’ Doctrine

FDICThe Federal Deposit Insurance Corporation (FDIC) recently issued its Final Rule clarifying the “Permissible Interest on Transferred Loans.”

The FDIC’s Final Rule follows the issuance of a similar Final Rule by the Office of the Comptroller of the Currency (OCC) on almost the same subjects, as we previously reported.

A copy of the Federal Register Notice is available at:  Link to Notice. 

Effective Date:

The FDIC states that its Final Rule applies to all insured state-chartered banks and insured branches of foreign banks (State Banks), and will take effect 30 days after publication in the Federal Register, which is expected imminently.

The Final Rule:

The FDIC summarizes that its Final Rule and related regulations provide that:

  • “[W]hether interest on a loan is permissible under [federal law] is determined at the time the loan is made”; and
  • “[I]nterest on a loan permissible under [federal law] is not affected by a change in State law, a change in the relevant commercial paper rate, or the sale, assignment, or other transfer of the loan.”

Background:

As you may recall, at least in states that did not opt out pursuant to 12 U.S.C. 1831d note, federal law in part allows State Banks to charge interest at the “most favored lender” rate — i.e., the maximum rate permitted to any state-chartered or licensed lending institution in the state where the bank is located.

In addition, federal law also provides that the laws of a host state apply to branches of interstate State Banks to the same extent such state laws apply to a branch of an interstate national bank.  As the FDIC summarized, “[i]f laws of the host State are inapplicable to a branch of an interstate national bank, they are equally inapplicable to a branch of an interstate State bank.”

However, as we reported in our prior update, the U.S. Court of Appeals for the Second Circuit in Madden v. Midland Funding, LLC, 786 F.3d 246 (2nd Cir. 2015), essentially held that loans that are completely legal when made by a bank subsequently become illegal if the bank sells or assigns them to a non-bank purchaser or assignee.

According to the Second Circuit, the federal banking laws only preempt state usury laws as long as the loan remains in the hands of a bank, but not if the loan is subsequently sold or assigned to an entity that is not a bank or a person collecting interest for a bank.

This meant that the loan purchaser defendant in the Madden case, which was not a bank or a person collecting interest for a bank, violated the federal Fair Debt Collection Practices Act by charging illegal interest on the loans it purchased from banks.

The Supreme Court of the United States subsequently denied the defendant’s petition for a writ of certiorari in June of 2016.  This essentially allowed the Madden ruling to stay in effect.

Under the FDIC’s Final Rule, interest on a loan permissible under federal law does not become impermissible due to “the sale, assignment, or other transfer of the loan.”

Some Points of Note:

In its discussion of the Final Rule, the FDIC states that:

  • Its Final Rule does “not exempt State banks or non-banks from State laws and regulations.”
  • Its Final Rule “does not purport to allow State Banks to assign the ability to preempt State law interest rate limits” under federal law.  Rather, its Final Rule merely allows State Banks “to assign loans at their contractual interest rates.  This is not the same as assigning the authority to preempt State law interest rate limits.  For example, the proposed rule would not authorize a [non-bank] assignee to renegotiate the interest rate of a loan to an amount exceeding the contractual rate, even though the assigning bank may have been able to charge interest at such a rate.”
  • Its Final Rule is not intended to address whether and when a State Bank “is a real party in interest with respect to a loan or has an economic interest in the loan under state law, e.g., which entity is the true lender.”
  • If a State opted out pursuant to 12 U.S.C. 1831d note, State Banks “making loans in that State could not charge interest at a rate exceeding the limit set by the State’s laws, even if the law of the State where the State bank is located would permit a higher rate.”
  • “[T]he sale, assignment, or transfer of a partial interest in a loan would fall within the scope of proposed section 331.4(e), and the loan’s interest rate terms would continue to be enforceable following such a transaction, and has made a clarifying change to the regulatory text to ensure there is no ambiguity.”
  • “[A]ll price terms (including fees) on State Banks’ loans under [federal law] remain valid upon sale, transfer, or assignment,” and “fees that are permitted under the law of the State where the State Bank is located would remain enforceable following the sale, transfer, or assignment of a State Bank’s loan.”

Photo: Andriy Blokhin – stock.adobe.com

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Ralph Wutscher's practice focuses primarily on representing consumer and commercial financial services companies, including depository and non-depository mortgage lenders and servicers, as well as mortgage loan investors, financial asset buyers and sellers, loss mitigation companies, third-party debt collectors, and other financial services providers. He represents the lending and financial services industry as a litigator, and as regulatory compliance counsel. For more information, see https://mauricewutscher.com/attorneys/ralph-t-wutscher/

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