H.F. 3680 was introduced in the Minnesota House of Representatives on February 13, 2024, and would amend Minnesota law by opting out of the federal interest rate preemption established under the federal Depository Institutions Deregulation and Monetary Control Act of 1980 (DIDMCA). Sections 521 through 523 of DIDMCA were enacted in response to the U.S. Supreme Court’s decision in Marquette Nat’l Bank of Mpls. v. First of Omaha Service Corp., 439 U.S. 299 (1978). In Marquette, the Supreme Court held that section 85 of the National Bank Act authorizes a national bank to charge interest on interstate loans at rates allowed by the state where the bank is located regardless of any conflicting laws of the state where the borrower is located thereby preempting more restrictive state laws. Sections 521 through 523 of DIDMCA were passed by Congress to provide insured state banks, insured savings associations (state and federal), and state credit unions the authority to export interest rates permitted by their home state to provide a level playing field and prevent discrimination. Congress, however, also included section 525, which allowed states to avoid the application of section 521 with respect to loans made in those states. Subsequent to enactment of DIDMCA, courts have treated section 85 and section 521 in the same way. See, e.g., Greenwood Tr. Co. v. Mass., 971 F.2d 818, 826 (1st Cir. 1992), cert. denied, 506 U.S. 1052 (1993). Following enactment of DIDMCA, eight states enacted opt-out legislation. These states all repealed their original opt-out legislation except for Iowa and Puerto Rico.
The rate exportation authority of national banks and federal savings associations is not changed or affected by proposed H.F. 3680. National banks’ rate exportation authority is set forth in the National Bank Act and federal savings associations have exportation authority under the Home Owners’ Loan Act. Under these statutes, national banks and federal savings associations that originate loans in other states can continue to export their rates.
With this background, legal issues raised by H.F. 3680 include:
Whether Section 525 Has Been Repealed
A significant legal question is whether the section 525 opt-out was repealed when Congress passed the Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA) in 1989. The opt-out was in a note to 12 U.S.C. § 1730g. In 1989, through enactment of FIRREA, 12 U.S.C. § 1730g was repealed, eliminating the only statutory reference to the opt-out. See, section 407 of FIRREA. Further, in 1994 a Colorado appellate court held that section 525 was repealed. Stoorman v. Greenwood Tr. Co., 888 P.2d 289, 293 (Colo. App. 1994), aff’d, 908 P.2d 133 (Colo. 1995). However, the Federal Deposit Insurance Corporation (FDIC) continued to recognize the section 525 opt-out in a 2019 proposed rule and 2020 final rule and made no mention of Stoorman or that section 525 had been repealed or otherwise limited. See, 84 Fed. Reg. 66,845 (Dec. 6, 2019) and 85 Fed. Reg. 44,146 (July 22, 2020). Given this precedent, the validity of the current legislative proposal is questionable, and its ability to withstand potential legal challenges is also questionable.
Where a Loan is Made
Another legal question raised by the proposed legislation relates to the issue of where a loan is made. H.F. 3680 provides that “[a] consumer loan is deemed to be made in Minnesota and is subject to this section and other applicable laws of Minnesota if the borrower is a Minnesota resident and the borrower completes the transaction, either personally or electronically, while physically located in Minnesota.” In contrast, federal interpretations of DIDMCA section 521 establish where a loan is made based on contractual choice-of-law and the location of certain nonministerial functions. Fed. Deposit Ins. Corp. Letter 88-45 (June 29, 1988) determined that where a loan is made depends on a factual examination of the loan transaction under traditional conflict of laws analysis. An FDIC interpretation from 1998 stated that where a loan is made depends on where the nonministerial functions related to the loan take place. The FDIC identified three nonministerial functions: (1) the decision to extend credit; (2) the extension of credit itself; and (3) the disbursal of the proceeds of a loan. Fed. Deposit Ins. Corp. General Counsel No. 11, Interest Charges by Interstate Banks, 63 Fed. Reg. 27,282 (May 18, 1998). The Office of the Comptroller of the Currency (OCC) in Interpretive Letter #822 came to this same conclusion when interpreting section 85 of the National Bank Act. Thus, the proposed legislation relies on a provision of federal law (DIDMCA) for the opt-out, yet it also attempts to establish its own methodology (or definition) of determining where a loan is made, in contradiction of numerous federal agency interpretations of where a loan is made for purposes of DIDMCA.
Whether the “Valid When Made” Rules Apply
With an opt-out, DIDMCA section 521 (which gives state banks the right to “export” rates) does not apply to loans made by a state-chartered bank in a state that has opted-out under section 525; accordingly, the FDIC’s “valid when made” rule set forth in 12 C.F.R. § 331.4(e) arguably would not apply. This FDIC rule (and comparable OCC rule) was adopted to address the uncertainty created by the Second Circuit’s decision in Madden v. Midland Funding, LLC, 786 F.3d 246 (2d Cir. 2015) which held that a nonbank that purchased charged-off loans from a national bank could not charge the same rate of interest on the loans that the national bank charged under section 85. The FDIC’s rule provides that a loan made by an insured state-chartered bank that is permissible under section 521 is not affected by the sale, assignment or other transfer of the loan. The FDIC and comparable OCC rule have subsequently been upheld by the courts. California v. Fed. Deposit Ins. Corp., 584 F. Supp. 3d 834 (N.D. Cal. 2022); California v. Office of the Comptroller of the Currency, 584 F. Supp. 3d 844 (N.D. Cal. 2022). Thus, buyers of loans made in an opt-out state by state-chartered banks would face uncertainty on whether they could charge the contract rates if those rates were higher than the rates permitted by the borrowers’ states. This uncertainty could result in these banks experiencing greater challenges in selling or transferring loans and freely managing their balance sheets. This could implicate banks’ relationships with nonbank firms and activities such as collections and securitization.
Different Rates on Credit Card Loans
H.F. 3680 allows out-of-state banks or credit unions to charge the rate of their home state for credit card loans even if that rate exceeds 18 percent per year. Financial institutions chartered in Minnesota remain limited to 18 percent per year for credit card loans. A legal consequence of this is financial institutions chartered in Minnesota will be subject to the 18 percent per year limit for credit card loans and out-of-state state banks or credit unions can charge a higher rate if permitted by their home state. In other words, given that Minnesota state-chartered banks will be limited well below the national average on their permissible APR on credit cards, national and out-of-state chartered banks will likely enjoy a significant competitive advantage. Further, it is questionable whether Minnesota can legally carve out one product (i.e., credit cards) under DIDMCA.
Legal Consequences of “Other Applicable Laws”
H.F. 3680 provides that consumer loans made in Minnesota are subject to the rate limits and “other applicable laws of Minnesota.” The intent of this language is not clear. As such, it is difficult to determine the legal consequence of the wording.
Value of a State Charter
Another significant practical ramification of this proposed legislation is that it provides one more reason for state banks to consider converting to a national charter, and for nonbanks to pursue a national charter instead of a state charter.
Similar legislation was adopted in Colorado (although the legislature pushed the effective date to July 1, 2024) and legislation has been introduced in Rhode Island, a bill has been introduced in the District of Columbia, and a statewide ballot initiative is being pursued in Nevada. The proposals are intended to prevent interest rate “exportation” by state-chartered financial institutions. Proponents contend they are stopping predatory lending while opponents believe the proposals will decrease consumers’ access to responsible credit and put state-chartered banks at a competitive disadvantage. In any event, the legal and business effects of these state opt-outs are unclear as there are a number of questions surrounding the impact of a state opting out of sections 521 through 523 of DIDMCA. On March 25, 2024, three trade organizations for the financial services industry filed a lawsuit in federal court challenging the Colorado statute alleging that it far exceeded the authority Congress granted it under DIDMCA and is invalid on its face.
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