FDIC and OCC Propose Rules to Resolve Madden-ing Uncertainty Surrounding the Fintech-Bank Partnership Model

The Federal Deposit Insurance Corporation (FDIC) and the Office of the Comptroller of the Currency (OCC) issued proposed rules earlier this month to assuage concerns raised by fintech companies about the enforceability of interest rates for loans originated by and purchased from state and national bank partners. These are encouraging developments for the fintech-bank partnership model, which has faced regulatory uncertainty in the wake of the Madden decision.

The Madden Case and True Lender Litigation

Under the Federal Deposit Insurance Act, State banks may export interest rate charges permitted by the state where the lender is located to borrowers out-of-state without being subject to state usury caps where the borrower resides. Furthermore, the Supreme Court has held that the National Bank Act preempts state usury caps, licensing requirements, and reporting requirements for national banks and their state partners because they “significantly interfere” with national bank powers. Although fintech companies are subject to state usury caps, they had been able to enforce the original interest rate made on the loan between a bank and a borrower under the longstanding “valid-when made” doctrine.

However, the Second Circuit’s 2015 decision in Madden v. Midland Funding, LLC declined to extend preemptory authority over state interest rate limits under the National Bank Act to nonbank entities in cases where application of state law does not “significantly interfere” with a national bank’s power. As a result, even if the initial interest rate was lawful at the time the loan was made by the bank, subsequent application of state interest caps could render the rate illegal if the debt on the loan is acquired by a nonbank in a jurisdiction where the interest percentage on the loan exceeds state usury limits.

Although some have expressed support for Madden as an appropriate stopgap to prevent nonbanks from circumventing state interest rate limits, the Second Circuit’s holding has been roundly criticized by both lawmakers and regulators. Critics of the decision note that it is inconsistent with the “valid-when-made” doctrine and that it stymies innovative and economical fintech lending solutions for businesses and consumers. Madden’s fallout includes several instances of “true lender” litigation in Colorado and Massachusetts over whether the national banks or the nonbanks involved are the actual lenders behind loans made to consumers.

Regulatory Promise for the Partnership Model

On November 18, the OCC proposed rules to ensure the viability of the “valid-when-made” doctrine. Specifically, the proposals aim to ensure that when a bank sells, assigns, or transfers a loan, the interest rates under the loan will continue to be lawful, regardless of whether the entity acquiring the debt is a nonbank.

The FDIC’s parallel rule proposal – issued on November 19 – would authorize State-chartered banks to charge interest rates permissible in the state in which the bank is located. It would also ensure the legality of interest rates after loan debt is assigned to a nonbank, as the lawfulness of an interest rate would be based on the rate at which the loan was initially made.

These corresponding regulatory developments at both the state-chartered and national bank level offer hope for the development and predictability of the fintech-bank partnership model. Harmonic rules on a state and federal level could resolve the numerous “true lender” court battles and foster an environment for innovation.  Comments on the OCC proceeding are due on January 21, and a comment deadline for the FDIC proposal will be announced upon publication in the Federal Register.