The $900 Million Back Office Error

I love this story -- a bank erroneously sends money to a bunch of lenders who are angry with the bank and the debtor for other reasons. The bank discovers the computer error and asks for its money back. The angry lenders refuse to give back what was clearly an erroneous deposit. There is litigation. And the court says to the lenders who received the erroneous deposit: You can keep the money.  

I remember telling my students in Contracts about it when the news was first reported, and the matter had not been to court yet. I told them that this was an easy case and that the lenders would have to give the money back.  If memory serves, I told them something along the lines of: "If a bank erroneously deposits money in your account, you don't get to keep it. You have to give back what is not yours. Finders are not automatically keepers." I was wrong, to put it mildly.

Elisabeth de Fontenay has a delightful piece on this that is coming out soon in the Capital Markets Law Journal (here). Among other things, Elisabeth asks the deeper question of why it is that lenders and borrowers these days seem to be asserting what look to be highly opportunistic claims on a much more frequent basis than in the past. It used to be -- or so the veteran lawyers in this business tell me --  that reputation and norms constrained these repeat players from misbehaving. Not these days.

Of course, there is more to the story, like why the judge (Jesse Furman) ruled the way he did. Turns out that there was a wormy precedent directing him and he was not willing to turn the usual judicial cartwheels to produce the "fair" outcome. Or maybe, in terms of weighing bad behavior on the two sides, he found shenanigans on both sides and decided to just follow precedent? Or maybe Judge Furman hates the big banks? I'm kidding (I think very highly of Judge Furman), but he has decided a number of big commercial cases recently that have caused drama (e.g., here (Windstream) and here (Cash America)).

The abstract for Elisabeth's paper is here:

The Citibank case dealt with a $900 million payment sent in error to the lenders of Revlon, Inc., in the midst of a fraught dispute over the loan restructuring. Surprising most market participants, the court ruled that the lenders who refused to return the funds to the administrative agent were entitled to keep the money. The case (currently on appeal) attracted commentary primarily due to the sheer size of the payment error, and the corresponding risks posed by “back-office” functions at financial institutions. But Citibank also highlights the widening gap in leveraged finance between the wishes and expectations of market participants and the actual outcomes they achieve under either (1) common-law default rules or (2) heavily negotiated contracts. In particular, the case raises questions such as (1) whether New York law remains an appropriate default choice for financing transactions; (2) whether the common-law of contracts does or should continue to have relevance for financing transactions among sophisticated parties; and (3) whether parties truly can contract for their desired outcomes when opportunistic behavior is prevalent in the market.

For more, Matt Levine of Bloomberg has a hilarious piece, here. It talks about the back office disaster in India and how this goof actually happened (as an aside, the firm involved on the Indian side is a highly respected one -- this was no fly by night operation).  Matt also talks about the wonderfully named Banque Worms case.  One could not make this stuff up even if one wanted to.

I'm hoping that my favorite business law podcaster, Andrew Jennings (here), will do an episode on this soon.

Professionals Fees and Purdue Pharma LP

Featuring two Slipsters – here.

NRA Bankruptcy Petition Dismissed

The NRA's bankruptcy petition was dismissed as filed in bad faith. I'm predicting that the court's opinion will be in the next edition of every bankruptcy textbook as the case really is a textbook example of bad faith.  The court found that there was substantial evidence in the record that the NRA filed for bankruptcy for the purpose of gaining an advantage in its litigation with the NY Attorney General, namely depriving the NY Attorney General of the remedy of dissolution, rather than for any other purpose.  

So what does this mean?

Are Mortgage Servicers Ready for the Loan Mod Rush?

On May 4, the CFPB issued a report sharing information the agency had gathered about mortgage forbearances and delinquencies. One notable takeaway is that Black and Brown homeowners, as well as low-income homeowners, are very prevalent among those in forbearance. A large portion of those in forbearance also have loan to value ratios north of 60%. All of this suggests that many who face chronic financial struggles and are most at risk of losing their homes, are also those currently benefiting from the forbearance programs.

This makes me immediately think: what happens when the forbearance periods are over? (which most believe will happen between September and November of this year) Specifically: what will their loan modifications look like?

CDC Eviction and Foreclosure Moratorium Held Illegal

Today Judge Dabney Friedrich (a Trump appointee) ruled that the CDC's eviction and foreclosure moratorium exceeded the agency's statutory authority. This ruling has me wroth. It exemplifies the heartless disingenuousness of that masquerades as "textualism." Judge Friedrich treats the moratorium—an extraordinary response to extraordinary circumstances—as if it were a garden variety statutory interpretation exercise along the lines of "no vehicles in the park". Judge Friedrich looks at the statutory text and decides that it is "unambiguous," although the substance of her own analysis shows that it is anything but. And voila, that produces the result that the landlords and mortgagees get to create a public health risk by evicting tenants and mortgagors from their dwellings.

Rent-to-Own Dogs

Just when you thought you had seen everything.... Rent-to-Own Dogs!  Apparently, it is illegal to do lease out a dog in Massachusetts.  It does seem perfectly fine, as far as I can tell, to sell a dog on installment credit in Massachusetts and to take a lien on Fido.  In other words, the rent-to-own outfit got dinged for not structuring its product as a plain old sale.  

The Failure of the United States Trustee Program in Chapter 11

The United States Trustee settled with three large law firms that failed to disclose the nature of their relationship with the Sackler Family Purdue when they were engaged by Purdue in its bankruptcy. The result is that these firms will return $1 million in fees.  This action has produced headlines like "Bankruptcy Watchdog Bares Teeth at BigLaw in Purdue Ch. 11," but I have a completely different take on the story. I see this settlement as an indictment of the US Trustee Program as a complete failure in chapter 11. 

In Purdue, the UST is focused on a measly million of fees, and is AWOL on the issues that affect billions in creditor recoveries. And the story is hardly limited to Purdue.

FDIC Valid-When-Made Rule Amicus Brief

I filed an amicus brief today in support of the challenge of eight state attorneys general to the FDIC's Valid-When-Made Rule. I've blogged about the issue before (here, here, here, here, here and here). The FDIC's Valid-When-Made Rule and its statutory framework is a bit different than the OCC's parallel rule (which also got some amicus love from me), so the arguments here are a bit different.

A Campaign to Opt-Out

Following-up on my prior post, let’s talk more about what’s at stake in this little legislative kerfuffle in the Hawkeye state, as well as how consumer advocates should seize on this moment in a different way.  

First, repealing this 521 provision in Iowa law is really all about whether states should have, to a large degree, the ability to control the interest rates charged on products and services that are offered to consumers by nonbank firms. 

Many readers of this blog may already know this history backwards and forwards – but for those who don’t, here’s the backstory. In Marquette Nat’l Bank of Minneapolis v. First of Omaha Serv. Corp., the U.S. Supreme Court interpreted the National Bank Act as giving nationally-chartered banks the ability to charge the highest interest rate allowed in the state where the bank is located to borrowers located not only in that state, but also to borrowers located in any other state.  This means, for instance, that a national bank located in Iowa can not only charge the highest interest rate allowable in Iowa to anyone located in Iowa, but it can also charge that same rate to a borrower located in Oklahoma, Louisiana, or any other state.  Even if Louisiana, Oklahoma, or another state’s laws prohibit interest at such a rate, the loan is nevertheless free from being usurious. This concept is known as “interest rate exportation.”  

After the 1978 decision in Marquette, there was a concern about the ability of state-chartered banks to compete with national banks. So, state legislatures started enacting “parity laws” that allowed their state banks to charge the maximum rates of interest allowable by any national bank “doing business” in that particular state. These parity laws were often even broader, granting to state chartered banks all of the incidental powers granted to national banks. In sum, the goal of these parity laws was to put state banks on equal footing with national banks, particularly when it came to usury.  Good so far?

Ok here comes the part dealing with this shady Iowa house bill…

In a final effort to give state-chartered banks a competitive edge, in 1980 Congress passed the Depository Institutions Deregulation and Monetary Control Act (DIDMCA).  A portion of DIDMCA, specifically section 521 (see where this is going...) granted interest rate exportation to any state-chartered bank that was federally insured (in other words, to all FDIC-insured state-chartered banks). 12 U.S.C. 1831d. This allowed a state-chartered bank to charge out-of-state borrowers the same interest rate allowable for in-state borrowers.  Thus, a state-chartered bank located in Iowa could charge an Oklahoma borrower the Iowa-allowable interest rate, even if that rate was higher than what would otherwise be legal under Oklahoma law. 

But here’s the catch. In Section 525 of DIDMCA, Congress gave states the ability to opt-out of section 521 by enacting legislation stating the state did not want section 521 to apply. Only two jurisdictions opted out: Puerto Rico and…you guessed it…Iowa. In 1980, right after DIDMCA was passed, Iowa opted out per 1980 Iowa Acts, ch. 1156, sec. 32. To add one more bit of background, Iowa also did not enact any parity laws. In fact, a former general counsel to the Iowa Division of Banking stated in a 2002 interview that enacting such a law that delegated control over Iowa state banks to the feds would be seen as “a slap in the face” to the Iowa legislature. 

So, there you have it. This little provision in an otherwise unrelated tax bill is to OPT INTO section 521 and thereby reverse the decision Iowa’s legislature made in 1980.

Now you may say to yourself, why is this so bad? The bad part requires you know something about the rent-a-bank partnership model between certain state-chartered banks and a number of online “fintech” lenders. Since the 2008 financial crisis, a growing number of nonbank fintech firms that make loans over the internet have partnered with a handful of state-chartered banks (mostly chartered in Utah, Kentucky, and New Jersey) in order to make and market unsecured installment consumer loans. By and large the way the business model works is that although the loan application is submitted through the nonbank’s website or smartphone app, it is the partner bank that actually advances the funds. The marketing and underwriting process are both performed by the nonbank. Then, very shortly after, the bank sells the loan along with others (or some interest in those loans) to the nonbank fintech company or an affiliate. The fintech or another firm then sells the interest to a pre-arranged wholesale buyer or sponsors a securitization of a large pool of loans for sale as securities in the capital markets. 

The bank’s role is merely passing, and it typically retains no material economic interest in the loans. However, so the argument goes, because the loan is originated by an insured state-chartered bank, it can export the interest rate of its home state to borrowers located in ANY state (with state usury laws preempted by DIDMCA section 521). And sometimes these loans can be quite expensive (rates of 160% APR or more e.g., CashNet USA, Speedy Cash, Rapid Cash, Check n' Go, Check Into Cash). You can get more info on these partnerships and check out some nifty maps provided by the folks at the National Consumer Law Center here. 

So, here’s how I think consumer advocates can turn the tables. There are a number of states that have aggressively gone after these rent-a-bank schemes (adding a lawsuit by AG of DC to the mix here) and a group of state AGs are currently suing the OCC on account of its true lender rule. In other words, a number of states do not want this kind of high cost, fintech-bank lending happening in their jurisdiction. 

Here’s my suggestion to those states: why not just pass your own opt out of DIDMCA Section 521? 

As mentioned above, many of these online lenders in high-cost rent-a-bank schemes favor partnering with FDIC-insured, state-chartered banks rather than national banks. Opting out of DIDMCA would deprive these schemes of their regulatory arbitrage. Without the ability to import the interest rate law of another state into a given jurisdiction, it would force these online firms to apply for a lending license and otherwise abide by the jurisdiction’s usury limit. DIDMCA allowed states to opt out of Section 521, and the statute didn’t give a deadline to do it. So, here’s a call to states like Colorado and others who are going after these usury and regulatory evasive business models…take away the linchpin of the business model. Opt-out of section 521!

And as for those of us back here in the Hawkeye state, here’s to hoping that the Iowa legislature doesn’t (pardon the Peloton pun) get so easily taken for a ride.

Of Usury, Preemption, and Fancy Stationary Bikes

Greetings, Slipsters! I’m thrilled to be here guest blogging, and I thank the editors for having me. So with that, let me get started…

Usury, preemption, and pandemic fitness are all colliding here in Iowa. 

About two weeks ago, I was alerted to a single strike-through amendment buried in a tax bill currently being considered by the Iowa legislature. This simple little change that eliminates three numbers (“521”) would likely go unnoticed by most lawmakers (or, more realistically—all lawmakers). However, this little change could have a profound impact on Iowa’s ability to prevent high cost, predatory lending from spilling into its borders through website portals and smart phone apps. And, if you stay with me for this bit of guest blogging, you’ll never believe what’s supposedly (so I’m told) behind it all! 

The bill is HSB 272. Most of the bill contains routine tax code clean-ups and modifications. Indeed, the bill itself is sponsored by the Iowa Department of Revenue. But, take a look at the relevant part of Section 5:

1980 Iowa Acts, chapter 1156, section 32, is amended to read as follows: SEC. 32.  The general assembly of the state of Iowa hereby declares and states . . . that it does not want any of the provisions of any of the amendments contained in Public Law No. 96-221 (94 stat. 132), sections 521, 522 and 523 to apply with respect to loans made in this state . . .

If you clicked on the link above and read the entirely of Section 5, you’d probably have to go through the text quite a few times before you’d see what’s being stricken out. The singular change is just the reference to section 521 of Public Law No. 96-221 (94 stat. 132). Otherwise, everything else in this existing statute stays the same. 

So what’s this about? 

The only clue as to what this stricken language actually deals with is the reference to “loans made in this state.” In truth, this single little strikethrough will allow FDIC-insured state-chartered banks located in other states to make loans under the usury laws of their home states to the residents of Iowa. This kind of lending usually comes in the way of partnerships between a handful of state-chartered banks and so-called “fintech” nonbank lenders making triple digit loans, hardly any different from payday financing. This partnership lending practice has also been the subject of recent lawsuits, including a summer 2020 settlement by the Colorado AG. If you’re interested in a deep dive on the rent-a-bank model and the unique legal and policy problems it creates, check out forthcoming articles here (by Adam Levitin) and here (by me!).

The icing on the cake, however, is that the rationale (again, as I’ve been told) advanced by proponents of the bill is that without this amendment, Iowans will not be able to finance the purchase of Pelotons. That’s right. Pelotons!

Here’s the connection: Peloton currently partners with Affirm, a fintech online lender, in order to help consumers finance the purchase of these roughly $3,000 stationary bikes (bike + membership). Interestingly, both firms generally promote 0% down, 0% APR, 0% hidden fees in their financing package. Of course, if you scroll down to the bottom of the promotional website and read the tiny 10.5 point, gray font print, you’ll notice: 

Your rate will be 0–30% APR based on credit, and is subject to an eligibility check. Options depend on your purchase amount, and a down payment may be required. Affirm savings accounts are held with Cross River Bank, Member FDIC. Savings account is limited to six ACH withdrawals per month. Affirm Plus financing is provided by Celtic Bank, Member FDIC. Affirm, Inc., NMLS ID 1883087. Affirm Loan Services, LLC, NMLS ID 1479506. California residents: Affirm Loan Services, LLC is licensed by the Department of Financial Protection and Innovation. Loans are made or arranged pursuant to California Financing Law license 60DBO-111681 (emphasis added).

As you can see, Affirm also plays the rent-a-bank game by partnering with FDIC-insured Utah state bank, Celtic Bank. While 30% APR may not seem like the most expensive loan term in the world, it opens the door to much higher cost lending by firms like Elevate Credit, Opportunity Financial, and more--all of whom use the rent-a-bank model. 

This is about much more than Pelotons…stay tuned for more (including how I think consumer advocates can turn the tables on this strategy!).

UPDATE: It appears that HSB 272 isn't going anywhere: no legislative movement since a canceled House subcommittee hearing on April 6. Meanwhile, a duplicate tax bill has been filed in the Senate, but it does not contain the DIDMCA opt-out (SSB 1268).

Abolish the OCC?

I've been saying for quite a while that the OCC is a "problem agency" that is seriously in need of reform. An article in Politico today underscores the problem. The OCC—under a civil servant acting Comptroller—has begun an active lobbying campaign to protect its so-called "True Lender" Rule. Not only is this highly irregular, but it also suggests that the OCC just doesn't "get it." As I explain below, this isn't a one off flub by the agency, but it is part of the agency's DNA, and isn't likely to be changed simply by putting in a good Comptroller. Fixing the OCC may require something more than a personnel change at the top. 

Evictions in Violation of CDC Moratorium May Violate Fair Debt Collection Practices Act

The CFPB today released an important interim final rule that puts some real teeth behind the CDC's COVID eviction moratorium. Some jurisdictions (badly in need of a refresher on the Supremacy Clause) seem to be taking the CDC moratorium as merely advisory, rather than as binding law. The CDC moratorium applies only to "landlords" and "owners" of residential property.  It has criminal and civil penalties, but no private right of action, and I am unaware of the CDC having brought any enforcement actions under the moratorium. 

The CFPB's rule broadens the scope of the prohibition. Instead of covering "landlords" and "owners," the CFPB rule covers "debt collector" as defined under the FDCPA. That's a term that can include attorneys. The CFPB rule requires debt collectors to inform tenants of their rights under the CDC moratorium upon filing an eviction notice or eviction action. The rule also prohibits falsely representing that the tenant is ineligible for relief under the moratorium. 

Here's why the CFPB rule matters. First, it brings a bunch of additional parties into the scope of the prohibition. Unless the landlord is a DIY type, there's likely to be an attorney involved, and the CFPB rule regulates the behavior of those attorneys. And second, there's a private right of action under the FDCPA with actual damages, statutory damages, and attorneys' fees. What's more, one can bring a class action under the FDCPA, which starts to change the economic calculus of litigation. How many attorneys are going to want to assume this risk to further a foreclosure for a client? I suspect that an informed attorney will be much more inclined to counsel the client to follow the CDC moratorium.

That said, will eviction attorneys be properly informed of the risks they run? And will they gamble that there won't be CFPB or private enforcement? I suspect it will only take a couple of enforcement actions before word gets around that there are real risks with non-compliance. 

Bankruptcy on Last Week Tonight with John Oliver

The consumer bankruptcy system has made it to late-night television! The main segment on Last Week Tonight with John Oliver this week focused on bankruptcy. As described: "John Oliver details why people file for bankruptcy, how needlessly difficult the process can be, and the ways we can better serve people struggling with debt." Twenty minutes about consumer bankruptcy!

Per usual, it's a well-researched, understandable, and fast-moving segment, with dashes of dark humor. My favorite references Julianne Moore's character in Magnolia. To the well-research part: It is supported by a host of papers about consumer bankruptcy, including the work of several current and former Slipsters. Among them is Portraits of Bankruptcy Filers (forthcoming Georgia Law Review), the most recent article based on Consumer Bankruptcy Project (CBP) data, co-authored with Slipster Bob Lawless and former Slipster Debb Thorne. In Portraits, we rely on data from 2013 to 2019 to describe who is using the bankruptcy system, providing the first comprehensive overview of bankruptcy filers in thirty years.   

Also referenced are Life in the Sweatbox, former Slipster Angela Littwin's The Do-It Yourself Mirage: Complexity in the Bankruptcy System, Slipster Bob Lawless, Jean Braucher, and Dov Cohen's Race, Attorney Influence, and Bankruptcy Chapter Choice, and the ABI Commission on Consumer Bankruptcy's report. The segment closes by highlighting the Consumer Bankruptcy Reform Act of 2020 (and includes a bonus at the end, which you'll have to watch to find out what that's about).

Welcome to Chris Odinet

On behalf of the other Credit Slips bloggers and myself, I would like to welcome Professor Chris Odinet as a guest blogger. Chris is a professor at the University of Iowa College of Law and is part of a new generation of scholars in the consumer finance space that our readers should know about. He already has an impressive list of scholarly publications and part of important conversations in consumer finance, especially fintech. Welcome, Chris, to Credit Slips.