On May 2, 2019, a court in the Southern District of New York ("SDNY") held that the Office of the Comptroller of the Currency ("OCC") lacked the statutory authority to charter nondepository special purpose national banks (the so-called "FinTech Charter"). In denying, with one exception, the OCC's motions to dismiss claims by New York's Department of Financial Services ("DFS"), the Court held that the OCC could not charter a nondepository "national bank" because the National Bank Act "unambiguously requires that, absent a statutory provision to the contrary, only depository institutions are eligible to receive national bank charters from the OCC."
On July 31, 2018, the OCC announced it would begin to accept and review applications for the FinTech Charter after previously deferring action in response to state regulator opposition. In response, on September 14, 2018, DFS refiled its litigation challenging the OCC's authority to grant FinTech Charters. The DFS asserted three claims: (1) the OCC did not have authority to grant FinTech Charters because the "business of banking" under the National Bank Act (12 U.S.C. § §24 (Seventh) and 27(a))requires "receiving deposits", (2) similarly the OCC overstepped its authority in adopting its 2003 chartering regulation (12 C.F.R. § 5.20(e)(1)) because the regulation did not condition a national bank charter on "receiving deposits", and (3) the proposed FinTech Charter violates the Tenth Amendment of the United States Constitution.
After assessing the statutory language and history of the National Bank Act, as well as its meaning within the broader context of other banking laws, the court upheld DFS's claims that the OCC had overstepped its authority. The court analyzed the meaning of the OCC's authority to charter national banks by reviewing the meaning of "business of banking". Tracing the meaning back to the original National Bank Act in 1863, the court concluded that the activities identified as part of the "business of banking" – including receiving deposits – in predecessor versions of 12 U.S.C. § 27(a) are mandatory parts of the business of any national bank. In the court's view, this requirement was unambiguous. Accordingly, the court found 12 C.F.R. § 5.20 and, therefore, the FinTech Charter exceeded the OCC's statutory authority.
Separately, the court dismissed DFS's Tenth Amendment claimbecause DFS had claimed that the OCC exceeded its statutory authority and not, as required for a Tenth Amendment claim,that Congress had exceeded its constitutional authority by intruding into authority left to the states under the amendment.
What does it mean?
For the states, the decision represents a major victory in their effort to prevent a federal take-over of the regulation of nonbank FinTech companies. While the OCC is likely to appeal either now or upon final disposition of the case, and it represents only a single decision in the SDNY, the court's conclusion buttresses the current model relying principally on state regulation of FinTech businesses.
For the OCC, the decision is a significant rebuff of its long-standing regulatory position. Under 12 C.F.R. § 5.20(e), which was adopted in 2003, the OCC claimed that it had the authority under the NBA to charter national banks so long as the chartered entity conducted at least one of the following three activities that it deemed core banking activities: check cashing, receivingdeposits or lending money. Interestingly, the Court viewed the OCC's adoption of § 5.20(e) in 2003, over 140 years after the NBA first granted the OCC authority to charter national banks, as reason to doubt the OCC's interpretation of its authority.
In the short term the decision clearly makes the FinTech Charter less appealing and probably means that the OCC will not grant a FinTech Charter for some time – even outside the SDNY. Why would an applicant seek a charter that, for now, will be challenged immediately upon approval and lead to significant expenditures for legal representation before starting operations?
For market participants, the decision is frustrating because the current inconsistent and complex regulatory frameworks across 50 states plus the District of Columbia and Puerto Rico make conducting a nationwide business more costly, more operationally complex, and more subject to diverging standards.
To date, the states have become the principal regulators of many FinTech activities because of the jurisdictional constraints on federal regulators, such as the SEC, CFTC, and banking regulators. The Financial Crimes Enforcement Network, part of Treasury, has provided helpful guidance and imposes reporting and other requirements on money services businesses.
Notably, the states have generally applied pre-existing statutory and regulatory frameworks to digital asset businesses, with the notable exception of New York, which created the BitLicense regulatory framework in 2015. Some other states, such as Wyoming, have adopted digital asset-specific amendments to existing laws, while others, such as Pennsylvania and Texas, have provided guidance to how existing laws apply to digital assets (principally cryptocurrencies).
State regulation of cryptocurrency transactions and businesses has followed a money transmitter-based model and has focused on the movement of money, or in some cases cryptocurrencies, as part of digital asset exchanges or transfers.
State regulation of other FinTech businesses, such as online lending and data aggregation, has tended to be based on state privacy and consumer protection regulatory and enforcement frameworks. FinTech payments companies similarly face many different standards across the states.
Market participants are already looking for alternatives. The current inconsistencies and contradictions between state regulators makes the state alternative unappealing. If the states wish to be a preferred regulator, then the rapid development of consistent, reasonable state regulation with ample reciprocity from state to state is imperative. The Conference of State Banking Commissioners is seeking to develop a more consistent framework for some FinTech businesses, but that may be a lengthy process.
Other options such as the Industrial Loan Company ("ILC") charter are also laden with question marks. Although the ILC charter would permit a deposit–taking FinTech company to operate in many of the same ways as a national bank, while avoiding Federal Reserve holding company oversight, the ILC has historically been controversial in the banking community.Current Chairman Jelena McWilliams clearly does not have the negative attitude to ILCs as former Chairman Martin Gruenberg, but it remains to be seen whether and how she will wade into the tricky currents of opposition to ILCs among many bankers.
Stay tuned. The United States requires a consistent national legal framework to govern businesses that have a nationwide – and international – scope of operations. State law provides important consumer protections. However, the inconsistencies in state laws today do not provide an efficient or effective regulatory framework.
The SDNY decision simply reflects the trade-offs that our federal system imposes in economic and financial regulation. Nonetheless, it is imperative that we navigate those trade-offs to develop a more consistent regulatory framework if we are to harness the potential that FinTech businesses, like the Internet today, represent for the future.
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