This piece, co-authored by Kathy Shakibi Esq., originally appeared in the September 2024 edition of MortgagePoint magazine, online now.
On May 30, 2024, the Supreme Court of the United States (SCOTUS) issued its opinion on a matter of far-reaching consequence—whether the National Bank Act preempts a New York State consumer financial law requiring payment of interest on mortgage escrow accounts in the case of Cantero v. Bank of Am., N.A., 2024 U.S. LEXIS 2367.
The Cantero case arose from New York General Obligations Law §5-601, which requires a minimum 2% interest to be paid on mortgage escrow accounts, maintained for payment of property taxes and insurance. The Second Circuit had decided that the minimum interest requirement would exercise control over a banking power granted by the federal government, so it would impermissibly interfere with national banks’ exercise of that power and was thus preempted. SCOTUS vacated the Second Circuit’s ruling and remanded with instruction to analyze the preemption under the second prong of Dodd-Frank Act’s preemption standard, known as the Barnett Standard.
The Dual Banking System
“Both federal and state governments are empowered to charter banks and to regulate the banks holding their respective charters.” Lacewell v. OCC, 999 F.3d 130, 135 (2d Cir. 2021). The National Bank Act of 1864, 12 U.S.C. §21 et seq., authorizes the federal government to issue bank charters and grants national banks enumerated powers as well as incidental powers necessary to carry on the business of banking. Among the enumerated powers is the power to “make, arrange, purchase or sell loans … secured by liens on interests in real estate.”
National banks have incidental powers to provide escrow services in connection with home mortgage loans. Among Congress’s regulation of national banks, the Real Estate Settlement Procedures Act of 1974 (RESPA) regulates how a bank may handle an escrow account in connection with a home mortgage. RESPA does not require that national banks pay interest on escrow accounts.
At least 13 states, however, have enacted laws which require payment of interest on mortgage escrow accounts. Thus, there exists an inconsistency or conflict between RESPA and state laws requiring interest on mortgage escrow accounts.
Dodd-Frank’s Preemption of State Laws
Further among Congress’s regulations of national banks, the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (Dodd-Frank Act) defines a state consumer financial law as “… a State law that does not directly or indirectly discriminate against national banks and that directly and specifically regulates the manner, content, or terms and conditions of any financial transaction (as may be authorized for national banks to engage in), or any account related thereto, with respect to a consumer.”
Dodd-Frank Act also provides the preemption standard for state consumer financial laws as follows:
“(1) In general, State consumer financial laws are preempted, only if:
- Application of a State consumer financial law would have a discriminatory effect on national banks, in comparison with the effect of the law on a bank chartered by that State;
- In accordance with the legal standard for preemption in the decision of the Supreme Court of the United States in Barnett Bank of Marion County, N.A. v. Nelson, Florida Insurance Commissioner, et al., 517 U.S. 25 (1996), the State consumer financial law prevents or significantly interferes with the exercise by the national bank of its powers; and any preemption determination under this subparagraph may be made by a court, or by regulation or order of the Comptroller of the Currency on a case-by-case basis, in accordance with applicable law; or
- The State consumer financial law is preempted by a provision of Federal law other than this title.”
The preemption standard provided by Dodd-Frank has three prongs and any one prong is sufficient. The second prong in subsection (B) is codification of the 1996 SCOTUS ruling in the Barnett case and is known as the Barnett Standard.
The Barnett case involved a conflict between 12 U.S.C. §92, which empowers a national bank to sell insurance, if located in an area with a population less than 5,000, and a Florida state law, which restricted that power. In Barnett, SCOTUS discussed and analyzed its prior decisions where SCOTUS had found preemption of a state law–Franklin Nat. Bank of Franklin Square v. New York, 347 U.S. 373 (1954), (a New York state law which prohibited banks from using the term saving in their advertising was preempted) and Fid. Fed. Sav. & Loan Ass’n v. de la Cuesta, 458 U.S. 141 (1982), (Home Owner’s Loan Act authorizing due-on-sale clauses preempted a conflicting California law). SCOTUS also discussed and analyzed its prior decisions where SCOTUS had not found preemption of a state law–Anderson Nat. Bank v. Luckett, 321 U.S. 233, (1944); McClellan v. Chipman, 164 U.S. 347, 358 (1896); and National Bank v. Commonwealth, 76 U.S. 353 (1870). Barnett itself held that the Florida state statute was preempted.
When Dodd-Frank codified the Barnett decision in the preemption standard, the language included is “in accordance with the legal standard for preemption in the Barnett decision …”
Applying the Dodd-Frank Act
In its decision to vacate and remand Cantero to the Second Circuit, SCOTUS stated that the Second Circuit had relied primarily on an unbroken line of case law since McCulloch v. Maryland, 4 Wheat. 316 (1819), and held that federal law preempts any state law that purports to exercise control over a federally granted banking power, regardless of the magnitude of its effects. Cantero v. Bank of Am. N.A., 2024 U.S. LEXIS 2367 at *12. SCOTUS reasoned that:
“New York’s interest-on-escrow law does not discriminate against national banks. The question of whether New York’s interest-on-escrow law is preempted therefore must be analyzed under Dodd-Frank’s “prevents or significantly interferes” preemptions standard. To guide judicial application of that preemption standard, Dodd-Frank expressly incorporates this Court’s decision in Barnett Bank. The preemptions question here therefore must be decided “in accordance with” Barnett Bank, as Dodd-Frank directs.” Canero supra at * 13, 14.
The Cantero case involved two putative class actions, which were decided together–one brought by Alex Cantero and another brought by Saul Hymes. Alex Cantero had obtained his mortgage loan before the effective date of Dodd-Frank and Saul Hymes had obtained his mortgage loan after the effective date of Dodd-Frank. The Second Circuit appears to have applied its analysis of the Barnett standard to Alex Cantero case and its analysis of Dodd-Frank to the Hymes case as can be seen on pages 126, 127, 130, 131, 132, 133, 135, 136 and 139 of the Second Circuit’s ruling. Cantero v. Bank of Am., N.A., 49 F.4th 121.
The Second Circuit considered the wording “significantly interferes,” and reasoned that significant can mean important or meaningful, as in interference is significant if it is important. Id. at p. 136. The Second Circuit analyzed that “…[t]he question is not whether a law’s “degree of interference is minimal,” …”or “punitively high,”…Instead we ask whether the kind of interference at issue could, taken as a whole, “destroy” the federal government’s grant of a banking power.” Id. at p. 133.
In Footnote 8 of its decision the Second Circuit further stated that “If we were to consider the magnitude of the minimum rate New York has prescribed, we could not endorse the district court’s unexplained conclusion that this rate was “modest.”…Plaintiffs have not pleaded facts showing that 2% is in fact a “modest” rate of interest in this context, and indeed, Plaintiffs have offered no response to BOA’s contention that this rate is far higher than the prevailing interest rates for the time period at issue.”
Barnett admittedly does not offer a clear line of demarcation and SCOTUS has instructed the Second Circuit to reanalyze the preemption and conduct a nuanced comparative analysis. The Second Circuit has a difficult inquiry ahead.
Disclaimer: The above information is intended for information purposes alone and is not intended as legal advice. Please consult with counsel before taking any steps in reliance on any of the information contained herein.
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