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U.S. Passes Historic BSA/AML Legislative Change

Covered Companies Must Report Beneficial Ownership to National Database Upon Incorporation

Note: This is the first post in an extended series on legislative changes to BSA/AML regulatory regime.

Change is upon us. The U.S. House and Senate have passedover a Presidential veto —the National Defense Authorization Act (NDAA), a massive annual defense spending bill. As we have blogged, this bill, now law, contains historic changes to the Bank Secrecy Act (BSA), coupled with other changes relating to money laundering, anti-money laundering (AML), counter-terrorism financing (CTF) and protecting the U.S. financial system against illicit foreign actors. This sweeping legislation will affect financial institutions, their clients, and law enforcement and regulators for many years. This will be the first post of many on these important legislative changes, which should produce related regulatory pronouncements throughout 2021.

In this post, we focus on the enactment that has received the most attention: the NDAA’s adoption of the Corporate Transparency Act (CTA) and its requirements for covered legal entities to report their beneficial owners at the time of their creation to a database accessible by U.S. and foreign law enforcement and regulators, and to U.S. financial institutions seeking to comply with their own AML compliance obligations. The issue of beneficial ownership and the misuse of shell corporations has been at the heart of global AML regulation and enforcement for many years. This legislation will be held out as a partial but important response to the continuing critiques by the international community of the United States as a haven for money laundering and tax evasion, often due to the perception that U.S. and state laws on beneficial ownership reporting are lax.

Beyond “just” the CTA, the breadth of the BSA/AML legislation is substantial. We have discussed BSA/AML reform for years, and many of the reforms (acknowledging that the word “reform” often involves a value judgment, and whether a particular change represents “reform” is typically in the eye of the beholder) that have been repeatedly bandied about by Congress, industry, think tanks and law enforcement are incorporated into this legislation, or at least referenced as topics for further study and follow-up. We therefore will be blogging repeatedly on the many and various components of this legislation, which implicates a broad array of key issues: BSA/AML examination priorities; attempting to modernize the BSA regulatory regime, including by improving feedback by the government on the usefulness of SAR reporting; potential “no action” letters by FinCEN; requiring process-related studies tied to the effectiveness and costs of certain BSA requirements, including current SAR and CTR reporting; increased penalties under the BSA for repeat offenders; greater information sharing among industry and the government; enhancing the ability of the government to investigate the use of correspondent bank accounts; cyber security issues; focusing on trade-based money laundering; adding a whistleblower provision to the BSA; and including dealers in antiquities to the definition of “financial institutions” covered by the BSA.

The Stated Need for Greater Transparency Regarding Beneficial Ownership

Section 6402 of the NDAA, entitled “Sense of Congress,” lays out the motivation behind imposing the requirement for beneficial ownership reporting under the CTA. This section—which repeats in part various critiques of the U.S. by the international community—states that “more than 2,000,000 corporations and limited liability companies are being formed under the laws of the States each year[,]” and that “most or all States do not require information about the beneficial owners of the corporations, limited liability companies, or other similar entities formed under the laws of the State[.]” Further, “malign actors seek to conceal their ownership of corporations, limited liability companies, or other similar entities in the United States to facilitate illicit activity[,]” and—in a rhetorical turn of phrase—“money launderers and others involved in commercial activity intentionally conduct transactions through corporate structures in order to evade detection, and may layer such structures, much like Russian nesting Matryoskka dolls, across various secretive jurisdictions such that each time an investigator obtains ownership records for a domestic or foreign entity, the newly identified entity is yet another corporate entity, necessitating a repeat of the same process[.]” Accordingly, the beneficial ownership reporting requirements were deemed necessary to set clear Federal standards; protect the national security interests of the United States; protect commerce; and “bring the United States into compliance with international anti-money laundering and countering the financing of terrorism standards[.]”

The Reporting Requirements

Section 6403 of the NDAA, entitled “Beneficial ownership information reporting requirements,” sets forth the following requirements:

  • Certain corporations and limited liability companies, as defined (see below), must disclose their beneficial owners (BOs) to FinCEN at the time the company is formed.
  • Minimum BO disclosure requirements, including the BO’s full name, date of birth, current address, and unique identifying number from an acceptable identification document, or an acceptable FinCEN identifier—which is a new identifier issued by FinCEN and exclusive to a particular individual or entity. The concept of a FinCEN identifier, created in order to alleviate privacy and cybersecurity concerns, is new to BSA/AML regulation.
  • Covered companies must file annually with FinCEN a list of their current BOs, and a list of any changes in BOs that occurred during the previous year.
  • Entities in existence before the effective date of the regulations must disclose their BOs to FinCEN no later than two years after the effective date of the regulations.
  • Civil and criminal penalties to be imposed on those who willfully submit false or fraudulent BO information, or who knowingly fail to provide complete or updated BO information.

The key provision here is the definition of a “beneficial owner.” With certain exceptions, noted below, the CTA broadly defines a “beneficial owner” as “an individual who, directly or indirectly through any contract, arrangement, understanding, relationship or otherwise– ”

  1. exercises substantial control over the entity; or
  2. owns or controls not less than 25 percent of the ownership interests of the entity.

In order to identify true BOs, the definition of “beneficial owner” excludes nominees, intermediaries, custodians or agents, as well as any individual acting solely as an employee of the entity and whose control is derived solely from their employment status. Language in prior iterations of the CTA including as BOs anyone who “receives substantial economic benefits from the assets of a corporation or limited liability company” was dropped. This is a positive development, given the vagueness of such language. Importantly, this current definition, with its “control” and “ownership” prongs, aligns with the definitions within FinCEN’s existing BO regulation which is part of the Customer Due Diligence Rule (CDD Rule) implemented in 2018. This alignment will be critical for financial institutions checking the beneficial ownership information they collected from their customers under the CDD Rule against the new database. However, as we discuss near the end of this post, the definition of a “reporting company” covered by the CTA does not align with the definition of “legal entity customer” under the CDD Rule.

The CTA defines “reporting company” as a corporation, limited liability company, or other similar entity that is created by the filing of a document with a secretary of state or a similar office of the law of a State or Indian Tribe, or is formed under the law of a foreign country and registered to do business in the United States through the filing of a document with a State or Indian Tribe. The CTA therefore clearly extends to foreign entities. The definition of “reporting company” does not encompass entities that are created without the filing of a document with a State or Indian Tribe government, such as certain trusts—a potential loophole.

The CTA contains key explicit exemptions from its definition of a covered “reporting company.” Companies are exempt if they have a physical presence in the United States, over 20 full-time employees in the United States, and file U.S. federal income tax returns reporting more than $5 million in gross receipts or sales—under the logic that companies that employ this many people in the United States and that have substantial reported income are unlikely to be shell companies serving as vehicles for money laundering. Federally regulated banks, credit unions, investment advisers, broker-dealers, state-regulated insurance companies, churches, and charitable organizations are also exempt from coverage, given their already highly-regulated status.

The BO Database: Its Use

Section 6403(c) of the NDAA, titled “Retention and Disclosure of Beneficial Ownership Information by FinCEN” sets forth who may have access to the BO information reported to FinCEN. BO information reported to FinCEN under the CTA is available, upon request, to:

  • Federal agencies engaged in national security, intelligence, or law enforcement activity, for use in furtherance of such activity;
  • State, local, or Tribal, law enforcement agencies, if a court of competent jurisdiction, including any officer of such a court, has authorized the law enforcement agency to seek the information in a criminal or civil investigation;
  • Federal agencies on behalf of a law enforcement agency, prosecutor, or judge of another country pursuant to an international treaty, agreement, convention, or as otherwise provided by the CTA;
  • Financial institutions subject to customer due diligence requirements, with the consent of the reporting company, to facilitate compliance with the institutions’ due diligence requirements under applicable law; and
  • Federal functional regulators or other appropriate regulatory agencies.

§§ 6403(c)(2)(B)(i)-(iv). The potential availability of BO information to foreign agencies reflects the increasingly international aspect of criminal and regulatory investigations and enforcement actions, and presumably will enhance the ability of the United States to obtain reciprocal information from other countries.

The CTA restricts access to the BO database to users at the requesting agency: (1) who are directly engaged in the applicable authorized investigation or activity; (2) whose duties or responsibilities require such access; (3) who have undergone appropriate training or use staff to access the database who have undergone such training; (4) who use appropriate identity verification mechanisms to obtain access to the information; and (5) who are authorized by agreement with the Secretary of the Treasury (Secretary) to access the information. § 6403(c)(3)(G). In order to address privacy concerns, the CTA also requires the requesting agency to establish and maintain a secure system in which BO information provided by the Secretary shall be stored and requires the requesting agency to provide a report to the Secretary that describes the procedures established and utilized by the agency to ensure the confidentiality of the BO information. §§ 6403(c)(3)(C)-(D).

Penalties for False Reporting, Incomplete Reporting or Improper Disclosure, and a Safe Harbor

Section 6403(h)(3) of the NDAA outlines both criminal and civil penalties for reporting violations and unauthorized disclosure or use violations.

Reporting violations include willfully providing, or attempting to provide, false or fraudulent beneficial ownership information, and willfully failing to report complete or updated beneficial ownership information. Such violations will result in (1) civil penalties of not more than $500 for each day that the violation continues or has not been remedied; and (2) criminal penalties of a fine not to exceed $10,000 or imprisonment for not more than 2 years, or both.

A disclosure violation occurs when a person knowingly discloses or uses beneficial ownership information submitted to, or disclosed by, FinCEN. The penalties for unauthorized disclosure or use violations are: (1) a civil penalty of not more than $500 for each day that the violation continues or has not been remedied; (2) a criminal penalty of a fine not to exceed $250,000 and imprisonment for not more than 5 years, or both; or (3) while violating another law of the United States or as part of a pattern of any illegal activity involving more than $100,000 in a 12-month period, a fine of not more than $500,000 or imprisonment for not more than 10 years, or both.

A safe harbor provision exempts from penalties for reporting violations a person who has reason to believe that any report previously submitted by that person contains inaccurate information and who, in accordance with regulations issued by the Secretary, voluntarily and promptly, and within 90 days of submitting the report, submits a report containing corrected information. § 6403(h)(3)(C). However, this safe harbor provision does not apply if, at the time the person submits the report, the person acts for the purpose of evading the reporting requirements and has actual knowledge that information contained in the report is inaccurate. § 6403(h)(3)(C)(i)(II).

Potential Impact on the CDD Rule

Since 2018, as part of the requirements under the CDD Rule, financial institutions have been identifying and verifying the identity of the BOs of all legal entity customers. The BO information financial institutions currently collect is nearly identical to the information the CTA requires reporting companies to provide directly to FinCEN. To address this and other overlaps, the CTA requires FinCEN to revise the CDD Rule to, among other things, “bring the rule into conformance with” the CTA, and “reduce any burdens on financial institutions and legal entity customers that are, in light of the [CTA], unnecessary or duplicative.” For this reason, generally speaking, financial institutions have welcomed the passage of the CTA. But it remains to be seen just how much of an impact it will have on reducing existing compliance burdens.

Congress made clear that the CTA should not “be construed to authorize [FinCEN] to repeal the requirement that financial institutions identify and verify beneficial owners of legal entity customers under” the CDD Rule. Thus, the CDD Rule will remain in place. Nonetheless, the CTA will ease financial institutions’ compliance burdens by granting them access to the BO information filed by reporting companies with FinCEN. This will allow financial institutions “to confirm the beneficial ownership information provided directly to [them] to facilitate [their] compliance . . . with anti-money laundering, countering the financing of terrorism, and customer due diligence requirements.” § 6403(d)(1)(B).

But access to the database, while helpful, would be much more helpful if FinCEN aligned the definition of “legal entity customer” under the CDD Rule with the definition of “reporting company” under the CTA. As noted above, U.S. companies are exempt from the CTA’s reporting requirement if they have a physical presence in the United States, over 20 full-time employees and federal income tax returns reporting more than $5 million in gross receipts. Under the CDD Rule, unless such companies are publicly held, financial institutions must identify and verify the identity of their BOs. Thus, access to FinCEN’s database will not be of any aid here.

Similarly, while foreign corporations registered to do business in the United States are covered under the CTA, foreign companies not registered with any state are not. This excludes unregistered foreign shell and other corporations from the requirement of providing BO information to FinCEN. Yet, unregistered foreign corporations maintain U.S. bank accounts, and financial institutions are required by the CDD Rule to collect and verify their BO information without access to any information from FinCEN’s database. Thus, one way in which FinCEN could reduce financial institutions’ burden would be to conform the CDD Rule’s definition of “legal entity customer” with the CTA’s narrower definition of “reporting company.”

Studies on the Effectiveness of Current and Future BO Reporting

In addition to requiring FinCEN to revise the CDD Rule to align better with the CTA, Section 6502 of the NDAA also requires the U.S. Government Accountability Office and the Secretary of the Treasury to conduct several studies on topics related to BO information reporting and submit their findings to Congress within two years. The required studies include the following topics:

  1. the effectiveness of incorporation practices implemented under the CTA, with regard to (a) providing national security, intelligence and law enforcement agencies with prompt access to BO information, and (b) strengthening the capability of national security, intelligence, and law enforcement agencies to combat incorporation abuses and misconduct and detect, prevent, or prosecute money laundering, the financing of terrorism, proliferation finance, serious tax fraud, or other crimes;
  2. using technology to avoid duplicative layers of reporting obligations and increase the accuracy of BO information, to include a review of the effectiveness of FinCEN identifiers;
  3. whether the entities that have been explicitly excluded from the definition of a reporting company under the CTA nonetheless pose significant risks of money laundering, the financing of terrorism, or other crimes; and
  4. the procedures of the States for forming or registering partnerships, trusts or other legal entities and their procedures for providing BO information, and whether the lack of BO reporting for such entities raises concerns about the use of these entities in money laundering, tax evasion, securities fraud, and the impeding of investigations.

In the fourth study noted above—which is to be performed by the Office of the Comptroller of the Currency (OCC)—the OCC also is charged with determining whether “the failure of the United States to require [BO] information for partnerships and trusts formed or registered in the United States has elicited international criticism.” If so, the OCC should report on “what steps, if any, the United States has taken, is planning to take, or should take in response” to such criticism. This study therefore acknowledges directly the international critiques of the United States noted at the beginning of this post, as well as potentially important loopholes in the CTA reporting regime.

The Future?

We blogged on a May 2019 hearing before the U.S. Senate Committee on Banking, Housing and Urban Affairs, during which representatives of FinCEN, the FBI and the Office of the Comptroller of the Currency (OCC) stressed the advantages to be reaped by law enforcement, regulators and the public if a national database of BOs was required. This was one of the many hearings which ultimately led to the legislation just enacted. We repeat here the views expressed by the OCC at that hearing regarding why a centralized database for the maintenance of beneficial ownership information was needed. According to the OCC, the database would allow law enforcement to focus on substantive investigations, rather than spending time on obtaining and verifying beneficial ownership information. Second, it would reduce the regulatory burden on banks by providing them with an easier and more efficient method for verifying beneficial ownership information. Third, a central database would allow banks to spend less time on “training, reporting and processing paperwork.” Finally, legal entity customers would benefit by not having to supply their banks with the often burdensome and duplicative information currently required. Now that the database is a reality, time will tell if these predictions actually materialize. Clearly, many practical details regarding BO reporting remain to be worked out through future regulation and the effectiveness studies required by Congress.

Please stay with us as we continue to blog on many of the other aspects of the entire BSA/AML legislation, and the broad array of issues implicated. If you would like to remain updated on these issues, please click here to subscribe to Money Laundering Watch. Please click here to find out about Ballard Spahr’s Anti-Money Laundering Team.

- Peter D. Hardy, Beth Moskow-Schnoll, Alexa L. Levy & Terence M. Grugan

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CFPB Continues Enforcement Trends With Consent Order for Military Lending Act and EFTA Violations

On December 30, 2020, the CFPB announced a consent order with Omni Financial of Nevada, Inc. based on alleged violations of the Military Lending Act (MLA) and Electronic Funds Transfer Act (EFTA). This is the second consent order announced as part of a sweep of investigations for potential MLA violations.

According to the CFPB, Omni as an installment lender making tens of thousands of loans annually, generally in smaller amounts, ranging from $500 to $10,000. Over 90% of Omni’s loans are extended to servicemembers or their dependents who are protected by the MLA. Less than 10% of Omni’s loans are extended to borrowers who are not protected by the MLA, such as civilians and military retirees.

The consent order alleges that Omni violated the MLA by illegally requiring covered servicemembers or their dependents to repay installment loans by allotment. In fact, Omni employees allegedly told active-duty servicemembers protected by the MLA that they would have to agree to pay by allotment in order to get a loan. More than 99% of such servicemembers who got loans agreed to do so.

As for borrowers not protected by the MLA, the consent order alleges that Omni violated the EFTA by conditioning their extensions of credit on their agreement to repay by preauthorized electronic fund transfers. According to the consent order, Omni required all such consumers to provide bank account and routing information and to sign a contract that authorized Omni to initiate electronic fund transfers from those accounts in the event of a payment default. The CFPB provided no data on defaults or on the frequency with which such transfers occurred, asserting that the contract terms called for repayment by preauthorized electronic fund transfers because such payments could theoretically occur at substantially regular intervals (the first business day after a missed payment and each successive payment thereafter until the borrower made a payment by another means).

The consent order requires Omni to pay a civil monetary penalty in the amount of $2,175,000. The consent order also prohibits Omni from requiring covered servicemembers or their dependents to repay loans by allotment or conditioning any loan on a borrower’s agreement to repay with a preauthorized electronic fund transfer. Further, Omni is prohibited from including the rate or number of consumers who have elected to repay their loans by allotment as part of its employee performance evaluation criteria or otherwise incentivizing employees to obtain authorizations from consumers to repay loans by allotment.

While, as noted, this is the CFPB’s second recent investigatory sweep related to military lending practices, the Omni consent order may also be part of a broader but unannounced focus on EFTA compliance. This is the fourth CFPB enforcement action seeking redress for alleged EFTA violations in the past six months. (See our prior blog here.) We would also note that between July and October 2020, the CFPB announced 25 new enforcement actions as part of another investigatory sweep concerning potential unlawful advertising in violation of Regulation N by mortgage companies offering mortgages guaranteed by the Department of Veterans Affairs. (See our prior blogs here, here, here, and here.) If the CFPB’s MLA sweep is similar, and if there is a broader focus on EFTA compliance, then we are likely to see a number of additional MLA and EFTA enforcement actions announced in early 2021.

- John L. Culhane, Jr., Anthony C. Kaye & Sarah T. Reise

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FHFA Seeks Input on Appraisal Policies for Home Mortgage Loans

The Federal Housing Finance Agency (FHFA) recently issued a request for information (RFI) seeking input on appraisal-related policies, practices and processes in connection with home mortgage loans. Comments will be due 60 days after the RFI is published in the Federal Register.

FHFA is seeking input on four main topics:

  • Aspects of Fannie Mae and Freddie Mac (the Enterprises) appraisal policies, practices, and processes, especially as they relate to modernizing the appraisal process and balancing the mortgage industry’s need for process efficiencies with the Enterprises’ need for quality valuations that foster prudent risk management.
  • How to ensure that the Enterprises’ respective appraisal policies and deployment of valuation tools, such as appraisal waivers and automated valuation models, do not lead to competitive practices that erode and endanger Enterprise safety and soundness.
  • How the policies and tools can be enhanced to ensure that mortgage industry participants do not engage in activities that manipulate the assessments made by the Enterprises’ automated underwriting systems and/or result in the adverse selection of the Enterprise with the more generous appraisal policies and practices in a particular situation.
  • The extent of disparities in value determinations for racial and ethnic minority borrowers, as well as properties located in neighborhoods with a large proportion of racial and ethnic minority residents.

FHFA advises that it previously sought input on appraisal policies, practices and processes, and that industry stakeholders noted issues with appraiser shortages in rural and high-volume areas, the impact of licensing requirements on new entrants, sources of meaningful training for trainees and new appraisers, and how to use technology to help trainees gain practical experience. As a result, the Enterprises are focusing on appraisal moderation, which for purposes of the RFI means “exploring the respective risks and benefits of the entire range of property valuation alternatives.”

One potential approach being proposed by the Enterprises is appraisal bifurcation, which is also referred to as a “hybrid appraisal.” With a hybrid appraisal approach, one party, such as an appraiser trainee, home inspector, or real estate agent, inspects the subject property, collects key data points, and reports the information to the lender for submission to an Enterprise’s automated underwriting system (AUS) and corresponding collateral tool (Freddie Mac’s Loan Collateral Advisor and Fannie Mae’s Collateral Underwriter). If the AUS determines that further collateral analysis is warranted, the data collected at inspection would be provided to a licensed or certified appraiser for a desktop appraisal.

The FHFA notes that the potential benefits to a hybrid appraisal approach are a reduction in appraiser shortages in rural and high-volume areas, and training opportunities for individuals seeking to become an appraiser. However, the FHFA notes that potential risks to the approach include (1) the potential for complexity and risk based on third-party inspections of homes being performed by non-appraisers, as a result of the lack of a uniform regulatory framework at both the state and federal levels that holds non-appraisers accountable for their work on appraisals, and (2) the potential for risk to the Enterprises, such as (a) if an appraiser receives inaccurate data from a non-appraiser that results in a poor understanding of the property’s condition and an incorrect value determination, or (b) if splitting the data collection and valuation components of property valuations between two parties negatively impacts the quality of those valuations.

The FHFA seeks input on the advisability of a hybrid appraisal approach. The FHFA also seeks input on the following specific issues: (1) the types of technology that could be used to facilitate appraisal process efficiencies to reduce strain on the appraisal supply chain when needed, (2) the types of qualified labor forces that could be employed in such an approach, including any impact their use may have on enforcement of appraisal standards and consumer protections, and (3) the need to provide valuation solutions that bridge the gap between appraisal waivers and traditional appraisals, and the associated policies and controls that could balance the benefits with the risks and promote Enterprise safety and soundness.

Two other topics addressed by the FHFA in the RFI are the temporary appraisal flexibilities provided by the Enterprises, and the use of automated valuation models (AVMs) and appraisal waivers by the Enterprises. The temporary appraisal flexibilities provided by Fannie Mae and Freddie Mac in response to the COVID-19 national emergency provide for alternatives to a traditional appraisal that is based on an inspection of a home’s interior. FHFA states that the flexibilities demonstrate “how a more flexible appraisal process can assist the flow of liquidity to the housing market.”

With regard to the use of AVMs and appraisal waivers by the Enterprises, the FHFA advises that the Enterprises use AVMs for various purposes, including to assist with offering appraisal waivers on eligible loans. The FHFA also advises that the Enterprises make an appraisal waiver offer when they determine they have enough information on the current value of the property and do not require an appraisal from a licensed or certified appraiser. The FHFA notes that each Enterprise approaches the waiver decision differently depending on individual risk tolerance, collateral tools, and aggregated data. Based on the differences in the approaches to appraisal waivers, the FHA notes that risks include (1) industry participants “inappropriately gaming the appraisal waiver process” and (2) adverse selection risk when one Enterprise will offer an appraisal waiver and the other will not. The FHFA seeks input on the need for the Enterprises to offer appraisal waivers and how to ensure safety and soundness should waivers be offered. The FHFA also seeks input on policies and controls to minimize the occurrence of “gaming and data manipulation.”

The FHFA states “[s]tudies . . . show that there may remain significant disparities in valuations for properties in minority neighborhoods, despite substantial efforts by the appraisal community to improve appraisal and valuation methodologies.” The FHFA seeks input on the extent of disparities in value determinations for minority borrowers and for minority neighborhoods.

In the RFI the FHFA also summarizes the work of the Enterprises to update the Uniform Appraisal Dataset (UAD) and to redesign appraisal forms.

- Richard J. Andreano, Jr.

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CFPB Announces Availability of HMDA Filing Platform for 2020 Data

The CFPB recently announced that the platform for the submission of Home Mortgage Disclosure Act (HMDA) data collected in 2020 is now available for the submission of the data. The platform may be accessed here. HMDA data for 2020 must be submitted on or before March 1, 2021.

A beta testing version of the platform also is now available and may be accessed here. HMDA reporting lenders can submit data to the beta testing version of the platform to determine if their data is appropriate for a formal submission of the data to the actual platform. The CFPB advised that no data entered on the beta testing platform will be considered a HMDA submission for compliance with HMDA data reporting requirements.

- Richard J. Andreano, Jr.

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CFPB Announces Availability of Beta HMDA Filing Platform for 2021 Data

Although HMDA reporting institutions are busily working on their submission of 2020 data, the CFPB recently announced the availability of a beta version of the HMDA reporting platform for 2021 data. (As previously reported, in early January 2021 the CFPB announced the availability of the platform for the submission of Home Mortgage Disclosure Act (HMDA) data collected in 2020.) The beta platform for 2021 HMDA data may be accessed here by selecting “2021” from the dropdown after logging in.

The CFPB advises that the beta platform for 2021 HMDA data provides reporting institutions with the opportunity to determine whether their sample Loan Application Register (LAR) data comply with the reporting requirements outlined in the Filing Instructions Guide for HMDA data collected in 2021. No data submitted on the platform will be considered for compliance with HMDA data reporting requirements. During the beta period, reporting institutions may test and retest 2021 HMDA data files as often as desired. The official submission of HMDA data for 2021 will begin on January 1, 2022, or such later date when the 2021 HMDA platform is made available.

The CFPB notes that it will continue to add functionality to the 2021 beta platform during the testing period.

- Richard J. Andreano, Jr.

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Conference of State Bank Supervisors Files New Lawsuit to Block OCC Approval of Figure Technologies Charter Application

The Conference of State Bank Supervisors (CSBS) has filed a lawsuit in D.C. federal district court to block the OCC from granting a national bank charter to Figure Technologies Inc. According to the complaint, Figure, through a subsidiary, is currently licensed in 49 states and the District of Columbia as a mortgage lender, consumer lender, and/or debt collector and intends to begin engaging in new money transmission activities in early 2021 through another subsidiary. The lawsuit follows the dismissal on ripeness grounds of two other lawsuits filed by the CSBS in D.C. federal district court challenging the OCC’s authority to issue special purpose national bank (SPNB) charters to non-depository fintech companies.

In the new complaint, CSBS challenges the OCC’s authority to create “a new special-purpose national bank charter for nonbank companies” which it refers to as a “Nonbank Charter.” For purposes of the complaint, CSBS uses the term “Nonbank Charter” to refer to both a SPNB charter issued to a non-depository institution and a full service national bank charter issued to a depository or non-depository institution that is not insured by the FDIC. CSBS alleges there is uncertainty as to whether Figure Bank will accept deposits but claims that regardless of whether Figure Bank “will or will not be engaged in receiving deposits,” “it is clear that Figure Bank has applied for a Nonbank Charter” because it will not be FDIC-insured.

CSBS’s uncertainty as to whether Figure Bank will receive deposits apparently reflects the limited information in Figure’s charter application. A joint letter commenting on Figure’s charter application submitted to the OCC by a group of seven trade associations describes the application as containing “only a skeletal description” of the bank’s proposed activities. The trade groups state, however, that based on public statements by Figure’s officials, they are aware of additional facts, including that the bank “will accept deposits in minimum denominations of $250,000 from its affiliates and third parties that are ‘accredited investors.’” (In their comment letter, the associations-which include the American Bankers Association, Consumer Bankers Association, and The Clearing House—also question the OCC’s authority to issue a national bank charter to an uninsured depository institution.)

In the new complaint, CSBS renews the principal arguments made in its prior complaints regarding the meaning of “the business of banking” in the National Bank Act (NBA) and the undermining of the states’ powers to regulate nonbank providers of financial services and protect consumers. According to CSBS, Figure’s charter application is intended to further “the OCC’s stated goal of deliberately maneuvering around the adverse [New York federal district court ruling in Vullo v. OCC.] Vullo is the lawsuit filed by the New York Department of Financial Services challenging the OCC’s SPNB charter for non-depository fintechs. In May 2019, the district court denied the OCC’s motion to dismiss and found that the term “business of banking” as used in the NBA “unambiguously requires receiving deposits as an aspect of the business.” The district court also ruled that its decision should have nationwide effect regardless of whether the charter applicant has a New York nexus. The OCC’s appeal of the decision is currently pending in the Second Circuit (which has calendared the case for oral argument during the week of March 8, 2021.) (We have previously criticized the reasoning of the lower court decision in Vullo.)

In addition to renewing its prior arguments, CSBS alleges that the OCC lacks authority to issue Nonbank Charters to uninsured depository institutions because Section 2 of the Federal Reserve Act (FRA) requires a national bank that receives deposits to be FDIC-insured. The trade groups also make this argument in their comment letter on Figure’s charter application, and argue further that because Section 2 is part of the FRA, the Fed’s Board of Governors, and not the OCC, has the authority to interpret the FRA. They claim that, as a result, the OCC cannot issue a national bank charter for an institution with uninsured deposits without an interpretation from the Fed that it is authorized to do so.

Unlike its prior complaints, the relief sought by CSBS in the new complaint is not limited to restricting the OCC’s authority to issue bank charters. In the new complaint, CSBS also asks the court to declare that the OCC’s preemption regulations (12 C.F.R. 7.4007, 7.4008, 34.4) are invalid because (1) they do not comply with the Dodd-Frank Act’s standard limiting preemption to state consumer financial laws that “prevent or significantly interfere with” the exercise of a national bank’s powers, (2) they were promulgated without the OCC undertaking the case-by-case analysis for preemption determinations required by the Dodd-Frank Act, and (3) the OCC has failed to comply with the Dodd-Frank Act’s five-year periodic review requirement. While Figure’s application for a Nonbank Charter lessens the ripeness problems associated with the CSBS challenge to the OCC chartering of such banks, the CSBS challenge to the OCC preemption regulations would seem to suffer from severe ripeness problems.

- Jeremy T. Rosenblum, James Kim & Scott A. Coleman

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CFPB Issues Compliance Assistance Sandbox Approval for Earned Wage Access Product

The CFPB has issued an approval order through its Compliance Assistance Sandbox Policy (CAS Policy) to Payactiv in connection with its earned wage access (EWA) program.

The approval order confirms that Payactiv’s EWA program described in the order does not involve the offering or extension of “credit” as defined by section 1026.2(a)(14) of Regulation Z, and therefore, Payactiv has a safe harbor from liability under TILA and Regulation Z in connection with the specified EWA program. EWA products provide employees with access to earned but as yet unpaid wages. Such products typically involve an EWA provider (such as Payactiv) that enables employees to request a certain amount of accrued wages, disburses the requested amounts to employees prior to payday, and later recoups the funds through payroll deduction or bank account debits on the subsequent payday. The approval order is limited to Payactiv’s EWA program that recovers funds through payroll deductions, and excludes other programs that recover funds by debiting employee bank accounts.

The CFPB instituted the CAS Policy in 2019 in an attempt to encourage innovation through the testing of financial products that could benefit consumers but might pose regulatory uncertainty. Under the CAS Policy, a sandbox applicant can obtain approvals, as applicable, under the provisions of the TILA, ECOA, and EFTA that provide a safe harbor from liability under such laws in federal or state enforcement actions and private lawsuits for actions taken or omitted in good faith in conformity with the Bureau’s approvals.

In December 2020, the Bureau issued an advisory opinion dealing with EWA products that addressed whether an EWA program with the characteristics set forth in the AO was covered by Regulation Z. Such characteristics included the absence of any requirement by the provider for an employee to pay any charges or fees in connection with the transactions associated with the EWA program and no assessment by the provider of the credit risk of individual employees. The AO set forth the Bureau’s legal analysis on which it based its conclusion that the EWA program did not involve the offering or extension of “credit” within the scope of Regulation Z. In the AO, the Bureau indicated that there may be EWA programs with nominal processing fees that nonetheless do not involve the offering or extension of “credit” under Regulation Z and advised that providers of such programs could request clarification about a specific fee structure by applying for an approval under the CAS Policy.

Payactiv’s EWA program that is the subject of the approval order allows enrolled employees to access their earned wages through various means that include a Payactiv-branded prepaid debit or payroll card (on which the employee’s wages are direct deposited) or an ACH deposit to a checking or deposit account or prepaid card. Employees who do not have their wages deposited to a Payactiv-branded prepaid debit or payroll card are charged a non-recurring $1 fee for access to an unlimited number of transactions during a one-day access window, with the fees capped at $3 for a one week pay period or $5 for a bi-weekly pay period if the employee accesses EWA funds on multiple days during a single pay period.

In concluding that Payactiv does not offer or extend credit under the EWA program as described in Payactiv’s application, the Bureau notes that various features often found in credit transactions are absent from Payactiv’s program. For example, Payactiv has no rights against the employee if a payroll deduction is insufficient to cover the amount of already earned wages transferred to an employee. With regard to fees, the Bureau notes that no interest or other fees are charged against a transfer of earned wages, ensuring that the amount PayActiv is entitled to recover does not increase over time. The Bureau states that “the absence of interest and fees other than the non-recurring $1 fee demonstrates that Payactiv is not taking on the type of credit risk characteristic of a typical credit transaction.” (The Bureau notes that the approval order expresses no view on whether the $1 fee “would amount to a finance charge in an EWA or wage advance program under which Regulation Z credit was offered or provided.”)

Other characteristics noted by the Bureau as distinguishing Payactiv’s program from many credit transactions include that Payactiv does not (1) pull credit reports or credit scores on employees or otherwise assess their credit risk, (2) report information to consumer reporting agencies, or (3) engage in debt collection activities or place amounts as debt with, or sell such amounts to, any third party.

The Bureau also identifies “additional factors” it considered in issuing the approval order. Such factors include the EWA program’s “innovative mechanism for allowing consumers to bridge the gap between paychecks; its potential to provide consumers with a lower-cost alternative to traditional payday loans, other high-cost credit products, and overdraft fees; and its availability to unbanked or underbanked consumers or consumers with poor, limited, or no credit history.”

The Payactiv approval order has a 24-month duration. It is interesting to note that the copy of Payactiv’s program terms and conditions that was attached to its application as an appendix includes a mandatory arbitration provision that does not permit class arbitration.

The Bureau also noted in the approval order that the order expresses no view on whether Payactiv’s EWA program complies with state wage and hours laws. EWA programs can also raise licensing and usury issues under state law notwithstanding the Bureau’s conclusion that Payativ’s EWA program does not involve the offering or extension of “credit” as defined by TILA and Regulation Z.

- James Kim & Mark J. Furletti

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CFPB Issues Report of Section 1071 Small Business Review Panel

The CFPB took another significant step towards issuing regulations to implement Section 1071 of the Dodd-Frank Act by releasing the final report of the small business review panel (Panel) on the proposals the Bureau is considering for developing such regulations (Report).

Section 1071 amended the ECOA to require financial institutions to collect and report certain data in connection with credit applications made by women- or minority-owned businesses and small businesses. Such data includes the race, sex, and ethnicity of the principal owners of the business. The Small Business Regulatory Enforcement Fairness Act (SBREFA) and the Dodd-Frank Act require the CFPB to convene a Panel when developing rules that may have a significant economic impact on a substantial number of small businesses. It also requires the Panel to consult with representatives of small business entities (SBRs) that are likely to be subject to the rules under consideration. The Panel is comprised of representatives of the CFPB, SBA, and OMB.

In accordance with the rulemaking timetable established by the Stipulated Settlement Agreement in the lawsuit filed against the Bureau alleging wrongful delay in adopting regulations to implement Section 1071, the Bureau released an outline of the proposals under consideration in September 2021 and convened the Panel in October 2021. The Settlement Agreement provides for the parties to meet and confer regarding a deadline for the Bureau’s issuance of a Notice of Proposed Rulemaking (Section 1071 NPRM) following the completion of the Report. If the parties cannot agree on a deadline, the plaintiffs, at any time that is more than 30 days after completion of the Report, can notify the Bureau that they want to ask the court to set a deadline for issuance of a Section 1071 NPRM. The CFPB agreed not to oppose the setting of a deadline and the plaintiffs agreed not to propose a deadline that is less than 6 months after completion of the Report.

It is unclear how a change in CFPB leadership in a Biden Administration will impact the establishment of a timetable for issuing a Section 1071 NPRM. The plaintiffs can be expected to take a more cooperative approach with new CFPB leadership, given that a Section 1071 NPRM issued under new CFPB leadership will likely be more closely aligned with the views of consumer advocates than one issued under Director Kraninger. Accordingly, we would not expect the plaintiffs to try to establish a deadline for issuing a Section 1071 NPRM before new CFPB leadership is installed. Instead, we would expect the plaintiffs to wait to establish a timetable with new leadership for whom Section 1071 rulemaking will likely be a priority.

The Report includes a list of the 20 individuals who served as SERs, with the names and locations of their businesses and the types of businesses. Two of the businesses are identified as online lenders. The Report summarizes the SERs’ feedback and includes their complete written feedback and the materials they were provided as appendices. It also sets forth the Panel’s findings and recommendations which include the following:

  • Scope. Section 1071(b) imposes requirements regarding “any application to a financial institution for credit for [a] women-owned, minority-owned, or small business.” The Bureau indicated that it is considering proposing that the data collection and reporting requirements of its Section 1071 rule apply to any application for credit for a “small business” as defined by the rule, including for a women-owned or minority-owned business that meets the “small business” definition. Under this approach, a financial institution (FI) would not be required to collect and report Section 1071 data for women-owned or minority-owned businesses that are not a “small business.” The Panel recommends that the Bureau continue to explore whether Section 1071’s collection and reporting requirements should extend to applications for women-owned and minority-owned businesses that are not small and seek comment in the Section 1071 NPRM on the compliance costs to small FIs regarding applications for such businesses that are not small.
  • Financial Institutions Covered. The definition of “financial institution” in Section 1071(h) covers any entity that engages in financial activity and includes both depository and non-depository institutions. The Bureau indicated that it is considering size-based and activity-based standards for exempting FIs from Section 1071 data collection and reporting requirements. The Panel recommends that the Bureau continue to explore whether either or both types of exemption standards might be appropriate, taking into consideration whether the fixed costs of coming into compliance with a Section 1071 rule might cause certain FIs to cease lending to small businesses.
  • “Small Business” Definition. Section 1071(h) defines a “small business” applicant as having the same meaning as a “small business concern” in the Small Business Act. The Bureau indicated that it considering proposing to define “small business” by cross-referencing the SBA’s general “small business concern” definition but adopting a simplified size standard for purposes of its Section 1071 rule that uses one of three alternative approaches that look to (a) gross annual revenues in the prior year regardless of industry, (2) a maximum number of employees or gross annual revenues depending on the type of industry that a business is in, or (3) a size standard (for which the Bureau would need SBA approval) using gross annual revenues or number of employees that looks to the SBA’s industry-specific size standards which are expressed in terms of a business’s average annual receipts or average number of employees and that would result in eight different size standards and 13 industry categories. The Panel recommends that the Bureau seek to adopt a “small business” definition that is easy for small business applicants to understand and straightforward for FIs to implement. It also recommends that the Bureau (1) consult with certain SBA officials before issuing a Section 1071 NPRM to determine whether any of the three alternatives for a small business size standard being considered by the Bureau or another alternative that would be easy for small businesses to understand and for FIs to implement should be included in the Section 1071 NPRM, and (2) continue to explore how information that small FIs may or may not currently collect from small business applicants (specifically gross annual revenue, number of employees, and North American Industry Classification System code) might inform the selection of an alternative for a “small business” standard.
  • Product Coverage. Section 1071 requires FIs to collect and report information regarding applications for “credit.” The Bureau indicated that it is considering proposing that a covered product under Section 1071 is one that meets the ECOA definition of “credit” and is not excluded under the Bureau’s rule. It is considering proposing that covered products include term loans, lines of credit, and business credit cards and that consumer credit used for business purposes, leases, trade credit, factoring and merchant cash advances (MCAs) would not be covered. The Panel recommends that the Bureau continue to explore the extent to which covering MCAs or other products such as factoring would further the statutory purposes of Section 1071, along with the benefits and costs of covering such products. It also recommends that the Bureau address in the Section 1071 NPRM whether it intends to cover agricultural and real-estate secured loans in a Section 1071 rule. With regard to consumer credit used for business purposes (i.e., products designated by the creditor as consumer purpose products), the Panel recommends that the Bureau continue to explore the potential costs to FIs associated with reporting such credit and seek comment in the Section 1071 NPRM on how best to define such credit if the Bureau determines that this exclusion is appropriate.
  • Implementation. The Bureau indicated that it is considering proposing that FIs have approximately two calendar years for implementation following the Bureau’s issuance of a final Section 1071 rule. The Panel recommends that the CFPB seek comment in the Section 1071 NPRM on the sufficiency of a two-year implementation period and, in particular, what aspects of a final rule might require more or less time to implement. It also recommends that the Bureau comment in the Section 1071 NPRM on ways to facilitate implementation for small FIs, particularly those that have no experience with any federal data reporting requirements.

- Alan S. Kaplinsky

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CFPB Settles With New Jersey Debt Buyer for Alleged FDCPA and CFPA Violations Based on Unlicensed Collection Activity

Earlier this month, the Consumer Financial Protection Bureau issued a consent order against a New Jersey debt buyer accused of threatening and suing consumers to collect debts in states where it did not have a legally required license.

Specifically, the Bureau alleged that RAB Performance Recoveries, LLC’s (RAB) purchased consumer debt accounts from debt brokers and placed the accounts for collection with collections law firms in the states where the consumers were located. The collections law firms then sent the consumers letters demanding payment of the full past-due amounts and referencing the fact that the firm had been “retained” for the “collection of this debt.” According to the Bureau’s allegations, RAB sued on a majority of the accounts that did not settle in response to the demand letters and the vast majority of these lawsuits resulted in default judgments. After obtaining the default judgments, RAB used judgment-enforcement mechanisms to collect on the judgments.

According to the Bureau, RAB threatened to sue, sued, and demanded payment from consumers in Connecticut, New Jersey, and Rhode Island even though RAB did not hold the licenses that those states required to sue to collect debts. The Bureau concluded that RAB had falsely implied that it had a legally enforceable claim for payment and threatened to take action that could not legally be taken by threatening litigation in the demand letters and filing debt-collection lawsuits without the required licenses in violation of the Fair Debt Collection Practices Act and Consumer Financial Protection Act.

The consent order requires RAB to pay a civil money penalty of $204,000. With respect to judgments RAB obtained without the proper license, the consent order requires RAB to: (1) suspend current and future collection activities; (2) vacate those judgments; and (3) notify consumers with payment agreements that the debts have been satisfied.

It is notable that the Bureau took action on a state licensing issue because state licensing compliance has rarely found its way into CFPB enforcement. Historically, compliance with specific state laws and licensing regulations has not been an area of significant focus by the Bureau during its investigatory and supervisory activities. Further, the issue of whether passive debt purchasers are required to be licensed as collectors varies by state and often is the subject of litigation, depending on the specific language of the applicable state regulation. As we enter 2021, the Bureau is signaling a willingness to provide additional resources to support the compliance efforts of its regulatory colleagues at the state level and there is no reason to believe the Bureau will limit such actions to just the collections industry.

- Stefanie Jackman & Rene T. McNulty

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Did You Know?

Texas Amends Regulations for Mortgage Licensee Requirements

The Texas Finance Commission, on behalf of the Department of Savings and Mortgage Lending, recently adopted amendments to regulations relating to mortgage bankers and residential mortgage loan originators (MLOs), mortgage loan companies, and mortgage loan servicers.

With respect to mortgage bankers and MLOs, the amendments made changes to: (1) certain disclosure and advertising requirements, such as expanding the scope to cover disclosures on social media websites; (2) duties and responsibilities imposed on mortgage bankers and MLOs; (3) books and recordkeeping requirements; and (4) certain definitional terms, including new definitions for the following phrases:

  • “Takes a residential loan application” and “offers or negotiates the terms of a residential mortgage loan” to assist with making a determination when an individual is acting as an MLO;
  • “Application” to define when an individual has received information constituting a residential mortgage loan application; and
  • “Offers or negotiates the terms of a residential mortgage loan” to clarify when an individual is acting as an MLO.

With respect to mortgage loan companies, the amendments made similar changes to certain disclosure requirements, such as extending the requirement to cover social media websites. The regulations were also revised to include additional language for what constitutes improper dealing by a mortgage company or its sponsored MLO, among other revisions.

These amendments relating to mortgage bankers, MLOs, and mortgage loan companies became effective on January 3, 2021.

With respect to mortgage loan servicers, the amendments were made mainly to modernize and update the rules, including adding and replacing existing language to improve clarity and readability, to remove unnecessary provisions, and to update terminology.

These amendments relating to mortgage loan servicers became effective on January 7, 2021.

The adopted regulations are available here. For background, the proposed regulations prior to adoption are available here (relating to mortgage bankers, MLOs, and mortgage loan companies) and here (relating to mortgage loan servicers).

Florida Amends Regulations for Mortgage Licensee Application Procedures

The Florida Department of Financial Services recently adopted amendments to its regulations regarding the application procedures for mortgage lenders, mortgage brokers, mortgage loan originators (MLOs), and the mortgage lender and mortgage broker branch office licenses.

The changes provide an additional 45 days for submission of additional application information and provide for the disposition of incomplete applications. Specifically, revisions were made to the following rules:

  • 69V-40.0312: Application Procedure for Loan Originator License
  • 69V-40.0321: Application Procedure for a Mortgage Broker License
  • 69V-40.036: Application Procedure for a Mortgage Broker Branch Office License
  • 69V-40.0611: Application Procedure for a Mortgage Lender License
  • 69V-40.066: Application Procedure for a Mortgage Lender Branch Office License

The amendments will become effective on January 18, 2021. The amended regulations are available here.

NMLS License Reinstatement Period Begins

The NMLS annual renewal period ended on December 31, 2020, and the NMLS license reinstatement period is now underway. It will end on February 28, 2021. Companies and individuals who did not renew their licenses within the renewal period may be able to have their licenses reinstated during the reinstatement period.

To determine whether a license type is eligible for reinstatement and for state-specific information about reinstatement, the NMLS Annual Renewal webpage is here.

- Aileen Ng

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Looking Ahead

A Brave New Qualified Mortgage World

A Ballard Spahr webinar

January 19, 2021, 12:00 PM - 1:00 PM ET

Speakers: John D. Socknat, Richard J. Andreano, Jr., & Amanda Phillips

 

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