On May 8, the Federal Reserve Board released a proposed rule that would prohibit certain financial companies from combining with another company if the resulting financial company’s liabilities would exceed 10% of the aggregate consolidated liabilities of all financial companies. The rule is required by section 622 of the Dodd-Frank Act and would apply to insured depository institutions, bank holding companies, savings and loan holding companies, foreign banking organizations, companies that control insured depository institutions, and nonbank financial companies subject to Federal Reserve Board supervision pursuant to FSOC designation. The proposal generally defines liabilities of a financial institution as the difference between its risk-weighted assets, as adjusted to reflect exposures deducted from regulatory capital, and its total regulatory capital, though firms not subject to consolidated risk-based capital rules would measure liabilities using generally accepted accounting standards. Under the proposal, the Board would measure and disclose the aggregate liabilities of financial companies annually, and would calculate aggregate liabilities as a two-year average. Comments on the proposal are due by July 8, 2014.
Wisconsin Federal Court Holds Dodd-Frank Whistleblower Protections Not Available For Reported Violations Of Banking Laws
On June 4, the U.S. District Court for the Eastern District of Wisconsin held that a former bank executive cannot pursue a claim that, when the bank terminated his employment, it violated the whistleblower-protection provisions of the Dodd-Frank Act because those protections apply only to individuals who report violations of securities laws and not to those who report alleged violations of other laws, such as banking laws. Zillges v. Kenney Bank & Trust, No. 13-1287, 2014 WL 2515403 (E.D. Wis. June 4, 2014). A former bank CEO sued the bank and certain affiliated companies and individuals, and claimed that they conspired to terminate his employment and prevent him from earning stock options after he observed conduct that he believed violated federal banking laws and reported the allegedly illegal conduct to the bank’s board of directors, the FDIC, and the FTC. The court held that in order to qualify as a whistleblower under Dodd-Frank, the disclosure must relate to a violation of securities laws. Accordingly, because the whistleblower disclosed alleged violations of only banking laws, the whistleblower provisions of Dodd-Frank did not apply. In doing so, the court explicitly side-stepped the question of whether a person is a whistleblower subject to Dodd-Frank protections if he or she makes a protected disclosure to someone other than the SEC. The court acknowledged the disagreement on that issue, which involves the interplay between the statutory definition of “whistleblower” and the protected actions listed in the statute, explaining that although the statute requires a person to provide information to the SEC in order to qualify as a whistleblower, some of the protected activities do not necessarily involve disclosures to the SEC. To date, some courts have reasoned that Congress could not have intended this result and have concluded that a person who makes a disclosure that falls within the protected activities, whether the disclosure is made to the SEC or not, is a “whistleblower” within the meaning of Dodd-Frank, while other courts have concluded that a person is a “whistleblower” only if the person makes the disclosure to the SEC.
On April 29, the U.S. House of Representatives passed by voice vote HR 4167, a bill that would exclude certain debt securities of collateralized loan obligations (CLOs) from the so-called Volcker Rule’s prohibition against holding an ownership interest in a hedge fund or private equity fund. Section 619 of the Dodd-Frank Act—the Volcker Rule—generally prohibits insured depository institutions and their affiliates from engaging in proprietary trading and from acquiring or retaining ownership interests in, sponsoring, or having certain relationships with a hedge fund or private equity fund. As implemented, that prohibition would cover CLOs, which banks and numerous lawmakers assert Congress never intended for the Volcker Rule to cover. Earlier in April, the Federal Reserve Board issued a statement that it intends to exercise its authority to give banking entities two additional one-year extensions, which would extend until July 21, 2017, to conform their ownership interests in, and sponsorship of, covered CLOs. HR 4167 instead would provide a statutory solution by exempting CLOs issued before January 31, 2014 from divestiture before July 21, 2017.
On April 15, the CFPB issued a proposed rule and request for comment to extend a temporary exception to Regulation E’s requirement that remittance transfer providers disclose certain fees and exchange rates to consumers. Pursuant to Regulation E, as amended to implement section 1073 of the Dodd-Frank Act, insured depository institutions are permitted to estimate certain third-party fees and exchange rates in connection with a remittance transfer until July 21, 2015, provided the transfer is sent from the sender’s account with the institution, and the institution is unable to determine the exact amount of the fees and rates due to circumstances outside of the institution’s control. The CFPB is proposing to exercise its statutory authority to extend this exception for an additional five years, until July 21, 2020. The agency explained that, based on its outreach to insured institutions and consumer groups, allowing the initial temporary exception to lapse would negatively affect the ability of insured institutions to send remittance transfers. Comments on the proposed rule are due within 30 days of its publication in the Federal Register. Read more…
On March 21, the U.S. Court of Appeals for the D.C. Circuit held that the Federal Reserve Board’s final rule imposing a 21-cent per transaction limit on debit card interchange fees (up from a 12-cent per transaction limit in its proposed rule) was based on a reasonable construction of a “poorly drafted” provision of the Dodd-Frank Act and that the Board acted reasonably in issuing a final rule requiring debit card issuers to process debit card transactions on at least two unaffiliated networks. NACS v. Bd. of Governors of the Fed. Reserve Sys., No. 13-5270, 2014 WL 1099633 (D.C. Cir. Mar. 21, 2014). The action was brought by a group of merchants challenging the increase to the interchange fee cap and implementation of anti-exclusivity rule for processing debit transactions that was less restrictive than other options. In support of their challenge, the merchants argued that in setting the cap at 21 cents the Board ignored Dodd-Frank’s command against consideration of “other costs incurred by an issuer which are not specific to a particular electronic debit transaction.” The court held, in a decision that hinged on discerning statutory intent from the omission of a comma, that when setting the fee cap the Board could consider both the incremental costs associated with the authorization, clearance, and settlement of debit card transactions (ACS costs) and other, additional, non-ACS costs associated with a particular transaction (such as software and equipment). The court further concluded that the Board could consider all ACS costs, network processing fees, and fraud losses. The court, however, remanded the question of whether the Board could also consider transaction-monitoring costs when setting the fee cap, given that monitoring costs are already accounted for in another portion of the statute. Finally, the court rejected the merchants’ argument that the Board’s final rule should have required the card issuers to allow their cards to be processed on at least two unaffiliated networks per method of authentication (i.e., PIN authentication or signature authentication) holding that the statute goes no further than preventing card issuers or networks from requiring the exclusive use of a particular network.
On March 19, Illinois Attorney General (AG) Lisa Madigan announced a suit against a lender for allegedly offering a short-term credit product designed to evade the state’s usury cap. The AG claims the lender offers a revolving line of credit with advertised interest rates of 18 to 24%, and then adds on “account protection fees.” The AG characterizes those fees as interest substantially in excess of the state’s 36% usury cap. According to the AG, after a borrower takes out the short-term loan, the lender allegedly provides a payment schedule and instructs the borrower to make minimum payments, which consumers who filed complaints with the AG’s office believed was a timeline to pay off the full debt. The complaint is the AG’s first under the Dodd-Frank Act and claims that the lender’s practices take unreasonable advantage of consumers and constitute abusive practices. The complaint also alleges violations of the state Consumer Fraud and Deceptive Businesses Practice Act and seeks restitution, civil penalties, disgorgement, and an order nullifying all existing contracts with Illinois consumers and prohibiting the company from selling lines of credit and revolving credit in Illinois.
On March 5, the Federal Reserve Board, the OCC, and the FDIC issued final guidance for stress tests conducted by banking institutions with more than $10 billion but less than $50 billion in total consolidated assets. Under Dodd-Frank Act-mandated regulations adopted in October 2012, such firms are required to conduct annual stress tests. The guidance discusses (i) supervisory expectations for stress test practices, (ii) provides examples of practices that would be consistent with those expectations, and (iii) offers additional details about stress test methodologies. Covered institutions are required to perform their first stress tests under the Dodd-Frank Act by March 31, 2014.
On February 21, the U.S. District Court for the Southern District of New York held that the Dodd-Frank Act’s whistleblower protection provisions could not be applied retroactively to an alleged retaliation that occurred before the effective date of the statute. Ahmad v. Morgan Stanley & Co., Inc., No. 13-6394, 2014 WL 700339 (S.D.N.Y. Feb. 21, 2014). A former employee of a financial institution filed suit against his former employer under Dodd-Frank, alleging that he had been harassed and intimidated for his attempts to raise concerns during audits of loans made by the institution. Although the alleged retaliation occurred before the effective date of Dodd-Frank, the employee argued that the statute’s whistleblower provisions—which broadly prohibit employers from discriminating, harassing, terminating or otherwise punishing employee whistleblowers for their lawful conduct—were merely technical revisions to whistleblower protections that already existed under the Sarbanes-Oxley Act of 2002, and therefore the Dodd-Frank act protections apply retroactively. The court disagreed and held that the Dodd-Frank created an “entirely new whistleblower cause of action,” distinct from that provided by Sarbanes-Oxley. In particular, the court pointed to the plain text of Dodd-Frank, which identifies the relevant provisions as a “cause of action,” and allows plaintiffs to seek double back-pay for retaliation, a remedy not available under Sarbanes-Oxley. The court dismissed the former employee’s suit with prejudice.
On December 10, the Federal Reserve Board, the OCC, the FDIC, the SEC, and the CFTC issued a final rule to implement Section 619 of the Dodd-Frank Act, the so-called Volcker Rule. Section 619 was a central component of the Dodd-Frank Act reforms, and the final rule and its preamble are lengthy and complex. The Federal Reserve Board released a fact sheet, as well as a guide for community banks. Generally, the final rule implements statutory requirements prohibiting certain banking entities from (i) engaging in short-term proprietary trading of any security, derivative, and certain other financial instruments for a banking entity’s own account, (ii) owning, sponsoring, or having certain relationships with a hedge fund or private equity fund, (iii) engaging in an exempted transaction or activity if it would involve or result in a material conflict of interest between the banking entity and its clients, customers, or counterparties, or that would result in a material exposure to high-risk assets or trading strategies, and (iv) engaging in an exempted transaction or activity if it would pose a threat to the safety and soundness of the banking entity or to the financial stability of the U.S. Exempted activities include: (i) market making; (ii) underwriting; (iii) risk-mitigating hedging; (iv) trading in certain government obligations; (v) certain trading activities of foreign banking entities; and (vi) certain other permitted activities. The compliance requirements under the final rules vary based on the size of the institution and the scope of activities conducted. Those with significant trading operations will be required to establish a detailed compliance program, which will be subject to independent testing and analysis, and their CEOs will be required to attest that the program is reasonably designed to achieve compliance with the final rule. The regulators state that the final rules reduce the burden on smaller, less-complex, institutions by limiting their compliance and reporting requirements. The rule takes effect on April 1 2014; however, the Federal Reserve Board announced that banking organizations covered by section 619 will not be required to fully conform their activities and investments until July 21, 2015.
On September 3, the Federal Reserve Board and the FDIC released an optional model template for firms to use when preparing the tailored resolution plans required from some bank and nonbank entities under Dodd-Frank. Entities impacted by these requirements include (i) bank holding companies with total consolidated assets of $50 billion or more and (ii) nonbank financial companies designated for enhanced prudential supervision by the Financial Stability Oversight Counsel.
On August 28, the FDIC, OCC, Federal Reserve Board, FHFA, SEC, and HUD released a revised rule to implement the credit risk retention requirements of the Dodd-Frank Act, including provisions defining “qualified residential mortgages” (QRMs). A memorandum prepared by FDIC staff in connection with the re-proposal highlights certain substantial changes from the rule as originally proposed, including, among others: (i) generally defining a QRM as a mortgage meeting the requirements for a “qualified mortgage” as defined by the CFPB; (ii) calculating the 5% risk retention requirement for non-QRM mortgages and other non-exempt assets based on fair value (rather than par value) of the securitization transaction; (iii) eliminating the premium capture cash reserve account requirements; (iv) permitting the sale and hedging of required risk retention after specified time periods; (v) permitting a sponsor to hold any combination of vertical and horizontal first-loss interests that together represent 5% of the fair value of a securitization; (vi) providing that commercial, commercial real estate and automobile loans satisfying underwriting requirements for exemption from risk retention could be blended in asset pools with non-qualifying loans of the same asset class and remain eligible for reduced risk retention; and (vii) adding a new risk retention option for open market collateralized loan obligations (CLOs), available if the lead arrangers of the loans purchased by the CLO retain the required risk. The agencies also seek comment on an alternative QRM definition called QM-plus, which would encapsulate the core QM requirements but add additional conditions, including a 70% cap on LTV at closing, certain evaluation criteria with respect to credit history, and other product limitations. Comments on the re-proposed rule are due by October 30, 2013.
On August 20, the CFPB announced an enforcement action against a debt settlement company for violations of the Telemarketing Sales Rule and the Dodd-Frank Act. The complaint alleges that the company disguised illegal upfront fees charged for debt-relief services as bankruptcy-related charges and deceived consumers into believing they would become debt free when only “a tiny fraction” of its customers actually do. The enforcement action follows a lawsuit filed against the CFPB on July 22, in which the same debt settlement company and an attorney jointly accused the CFPB of “grossly overreaching its authority” in the investigation on which the enforcement action is based.
On August 16, the Federal Reserve Board issued a final rule establishing the process by which it will assess annual fees for its supervision and regulation of large financial companies. The Dodd-Frank Act directed the Board to collect assessment fees equal to the expenses it estimates are necessary or appropriate to supervise and regulate bank holding companies and savings and loan holding companies with $50 billion or more in total consolidated assets and nonbank financial companies designated by the Financial Stability Oversight Council. The final rule outlines how the Board will (i) determine which companies are assessed, (ii) estimate the total anticipated expenses, (iii) determine the assessment for each of the covered companies, and (iv) bill for and collect the assessment from the companies. For the 2012 assessment period, the first year for which assessment fees will be collected, the Board will notify each company of the amount of its assessment when the rule becomes effective in late October. Payments for the 2012 assessment period will be due no later than December 15, 2013. The Board estimates it will collect about $440 million for the 2012 assessment period. Beginning with the 2013 assessment period, the Federal Reserve will notify each company of the amount of its assessment fee no later than June 30 of the year following the assessment period. Payments will be due by September 15.
On August 15, the OCC issued bulletin OCC 2013-17 regarding its final lending limits rule. In June 2012, the OCC promulgated an interim final rule to apply its existing lending limits rule to certain credit exposures arising from derivative transactions and securities financing transactions, as required by the Dodd-Frank Act. With the interim final rule and subsequent actions, the OCC extended the compliance date while it accepted comments and prepared a final rule. As explained in the bulletin, the final rule outlines permissible methods available to banks to measure credit exposures arising from derivative transactions and securities financing transactions. For derivative transactions, banks can generally choose to measure credit exposure through (i) the Conversion Factor Matrix Method, which uses a lookup table that locks in the attributable exposure at the execution of the transaction, (ii) the Current Exposure Method, which replaces the Remaining Maturity Method included in the interim final rule and provides a more precise calculation of credit exposure, or (iii) an OCC-approved internal model. For securities financing transactions, the final rule specifically exempts securities financing transactions relating to Type I securities and for other securities financing transactions allows banks to (i) lock in the attributable exposure based on the type of transaction, (ii) use an OCC-approved internal model, or (iii) use the Basel Collateral Haircut Method, which applies standard supervisory haircuts for measuring counterparty credit risk for such transactions under the capital rules’ Basel II Advanced Internal Ratings-Based Approach or the Basel III Advanced Approaches. The final rule also extends the compliance period through October 1, 2013.
On August 12, the U.S. Court of Appeals for the District of Columbia Circuit agreed to hear appeals filed by several state Attorneys General (AGs) and certain private plaintiffs regarding the U.S. District Court for D.C.’s dismissal of a suit in which the AGs and the private plaintiffs challenged the Orderly Liquidation Authority (OLA) created by the Dodd-Frank Act, and in which the private plaintiffs challenged the constitutionality of Title X, which created the CFPB, and the Financial Stability Oversight Council (FSOC) created by Title I. The parties separately appealed, but the court consolidated the appeals for its review.