Weekly Fintech Focus
- The CFPB issues an ANPR to engage in a rulemaking process on consumer access to financial records under Section 1033 of Dodd-Frank.
- NYDFS expects regulated financial institutions to assess climate change risks.
- Federal banking regulators look to codify that supervisory guidance is not binding.
- The OCC issues its “true lender” final rule.
- The effective date of the recent HUD disparate impact rule is enjoined by district court.
- Senate Democrats introduce a bill to prohibit discrimination under the Civil Rights Act of 1964 for banks and other financial institutions.
- Quarles discusses the FSB’s growing concern with nonbanks in light of their interconnectedness with the financial system and vulnerabilities manifested during the pandemic.
- The FDIC finds a shrinking unbanked population and encourages further innovation in banking technologies to create a more inclusive banking system.
- Digital bank, its API provider, and its licensed bank settles claims related to system service outage.
- SoFi obtains conditional approval for its national bank charter.
CFPB Issues ANPR on Consumer Access to Financial Records
On October 22, 2020, the Consumer Financial Protection Bureau (CFPB) issued an advance notice of proposed rulemaking (ANPR) requesting information related to consumer access to financial records to assist in developing regulations to implement Section 1033 of Dodd-Frank. Under Section 1033, a consumer financial services provider must make available to a consumer information that the provider controls or possesses concerning the consumer, such as financial products or services that the consumer obtains from the provider. The CFPB is seeking comments on costs and benefits of consumer data access, competitive incentives, standard setting, access scope, consumer control and privacy, other legal requirements, data security, and data accuracy. We have previously covered developments in the rulemaking process on our blog (here and here).
NYDFS Expects Financial Institutions to Assess Climate Change Risks
On October 29, 2020, the New York Department of Financial Services (NYDFS) issued an industry letter to New York State regulated financial institutions alerting these institutions that regulated firms, including banks, credit unions, trust companies, money transmitters, and virtual currency businesses must start assessing climate change risks. Climate change, according to the NYDFS, is a “fourth crisis” on top of public health, the economy, and racial justice. Further, in light of the COVID-19 pandemic, the NYDFS is taking an interest in other types of systemic risks, including climate change. This letter follows a similar letter NYDFS issued in September addressed to insurance companies.
NYDFS-regulated financial institutions are subject to two types of risk from climate change: physical and transition risks. Physical risks include damage to property or assets, business disruption, supply chain disruption, and the increase in recovery costs resulting from an increase in extreme weather events or sea level rise. Transition risks of climate change could result from the potential loss tied to a transition to a lower-carbon economy, with consideration for changes in policy, regulations, technology, consumer sentiment, and liability risks. Transitioning to a lower-carbon economy could result in “stranded assets,” which are assets that are worth less than expected due to changes in energy usage or generation. These two risks types will require robust risk management strategies that consider the potential for physical, social, and economic changes driven by “complex dynamics and chain reactions.” As a result, the NYDFS explains that the “traditional tools for identifying, monitoring, and managing risks will need to be adapted to the distinctive characteristics of climate change, as climate change affects all aspects of our economy and can be correlated in a nonlinear manner.”
The letter calls out specific risks to certain types of regulated businesses:
Virtual Currency Businesses – The letter explains that environmental impact studies of cryptocurrency mining operations show significant environmental effects from these activities, such that the “energy cost for mining virtual currencies is sizable compared to the value of the virtual currencies.” According to NYDFS, virtual currency businesses “should consider increasing transparency of the location and equipment used in bitcoin mining.”
Regional and Community Banks – Assets are more geographically concentrated, so these banks are more vulnerable to regionally concentrated physical risks, like extreme weather events.
Limited Purpose Trust Companies – Where these entities act as custodians or asset managers, the assets held in trust could be at increased physical risk, resulting in greater exposure to the trust companies.
The letter also discusses the NYDFS’s expected supervisory activities related to this letter. The NYDFS points to other international regulators that are already working to incorporate climate change into their supervisory activities (e.g., European Central Bank). Risk mitigation strategies will differ depending on the institution’s size, complexity, geographic distribution, business lines, investment strategies, and other factors. The NYDFS will take into consideration these risks as well as the entity’s resources for addressing climate change risks. Specifically, the NYDFS expects that all regulated institutions:
- Start integrating the financial risks from climate change into their governance frameworks, risk management processes, and business strategies.
- Start developing their approach to climate-related financial risk disclosure and engage with the Financial Stability Board’s Task Force on Climate-related Financial Disclosures framework and other established initiatives.
- Non-depository regulated institutions (i.e., nonbanks) should also conduct a risk assessment of the physical and transition risks of climate change, whether directly impacting them, or indirectly due to the disruptive consequences of climate change in the communities they serve and on their customers.
Federal Banking Regulators Look to Codify that Supervisory Guidance is not Binding
The federal banking regulators recently published a notice of proposed rulemaking seeking comment on the codification of the 2018 Interagency Statement Clarifying the Role of Supervisory Guidance that would establish that supervisory guidance from the federal banking regulators does not create binding legal obligations. The 2018 statement reiterated that this principle was well-established law and this rulemaking would codify it and clarify that agencies would not base supervisory criticisms or engage in enforcement actions for violations or noncompliance with supervisory guidance.
Supervisory guidance differs from regulations or legislative rules, with supervisory guidance providing notice to the public about how an agency proposes to exercise its discretionary power as well as the agency’s priorities or expectations related to a particular regulation or practice. Supervisory guidance takes many forms, including interagency statements, advisories, bulletins, policy statements, and FAQs.
OCC Issues Final True Lender Rule
On October 27, 2020, the Office of the Comptroller of the Currency (OCC) issued its final rule regarding the “true lender” standard for lending partnerships between federally chartered banks and a nonbank party. The final rule adopts the two-prong test found in the OCC’s proposed rule discussed on our blog (here). Under the final rule, a bank would be the “true lender” if it makes the loan, meaning that, as of the date of origination, (1) it is named as the lender in the loan agreement or (2) funds the loan.
Court Enjoins HUD Disparate Impact Rule
Last month, the Department of Housing and Urban Development issued its final rule revising the Fair Housing Act disparate impact standard. We discussed this in our blog (here). Now, a Massachusetts federal district court has entered a preliminary injunction staying the effective date of the final rule until further order by the court as it considers claims under the Administrative Procedure Act raised by the Massachusetts Fair Housing Center and Housing Works, Inc. The plaintiffs in the case claim that HUD’s final rule goes beyond its stated goals of bringing the Federal Housing Administration (FHA) in line with the Supreme Court’s decision in Inclusive Communities and instead invents new defenses that were not contemplated by the Court. As a result, the plaintiffs claim, the final rule is contrary to law and inconsistent with the FHA, is arbitrary and capricious in its failure to tie the final rule’s requirements to the decision in Inclusive Communities, and was adopted without adequate notice and comment because of its replacement of its proposed algorithmic model defense with a new outcome prediction defense in the final rule. If the injunction had not been implemented, the rule would have gone into effect on October 26.
The case before the District of Massachusetts is: Massachusetts Fair Housing Center and Housing Works, Inc. v. US Dep’t of Housing and Urban Development, No. 3:20-cv-11765-MGM
Senate Dems Introduce Antidiscrimination Bill for Banks and Other Financial Institutions
A group of Democratic Senators, led by Sherrod Brown (OH) and co-sponsored by Senators Smith (MN), Booker(NJ), Menendez (NJ), Warren (MA), and Van Hollen (MD) recently introduced a bill (the Fair Access to Financial Services Act of 2020) that would amend the Civil Rights Act of 1964 to prohibit banks and other financial institutions (as defined in 12 U.S.C. § 5462) from discriminating in providing goods and services on the basis of race, color, religion, national origin, sex, gender identity, or sexual orientation. The Civil Rights Act of 1964 prohibits such discrimination in certain places of public accommodations, but does not directly cover banks and other financial institutions. Banks and financial institutions already face antidiscrimination laws for lending (Equal Credit Opportunity Act) and housing (Fair Housing Act).
FSB to Focus on Nonbanks in Light of Pandemic Vulnerabilities
On October 20, 2020, the Federal Reserve Board’s Vice Chair for Supervision Randal K. Quarles spoke at the Securities Industry and Financial Markets Association (SIFMA) annual conference and addressed the Financial Stability Board’s (FSB) recent work evaluating the pandemic’s effect on the financial system with an emphasis on nonbank financial institutions (NBFI).
Over the past decade, NBFIs have increased dramatically and now account for almost 50% of total financial intermediation globally. With this growth comes greater interconnectedness with the financial system, so the FSB is paying much closer attention to vulnerabilities to NBFIs and how shocks to the system affect NBFIs. NBFIs are not subject to the supervision of national or international banking regulators and are not supervised as banks, and so NBFIs like insurance firms, mortgage companies, payday lenders, and other nonbank creditors are significantly involved in the financial system without the same oversight that banks receive. The FSB found that NBFIs were significantly more fragile than banks.
The issues related to pandemic stressors on the financial system that Quarles addressed in his speech were not directly related to NBFIs, but these areas should be considered by NBFIs given the FSB’s attention to them. These issues include:
- Increased demands for cash, including liquidity demands for U.S. dollars in the face of asset price volatility and record or near-record trading volumes leading to significant margin calls.
- Government bond market pressures resulted in a decoupling of bond prices to futures prices, which also increased margin calls for derivatives.
- Fears related to financial pressures from the pandemic resulted in negative feedback loops, reducing liquidity and short-term funding availability.
- Unprecedented public sector intervention in the markets helped to reduce the intensity of the shocks to the financial system, but such action by central banks did not address underlying vulnerabilities revealed by the pandemic.
FDIC Unbanked Report Finds a Small Unbanked Population
The Federal Deposit Insurance Corporation (FDIC) released its biennial survey and report titled “How America Banks: Household Use of Banking and Financial Services”—a report that documents the banking practices of American households between 2017 and 2019. In its survey the FDIC found that only 5.4% of households were unbanked, meaning that no one in the household had a checking or savings account at a bank or credit union. Even with the number of households with a bank account at record levels, FDIC Chairman Jelena McWilliams emphasized that the FDIC will continue to encourage innovation in banking products and technologies to create a more inclusive banking system.
Some of the key findings in the report include:
- Nearly 95% (124 million) of U.S. households had at least one bank or credit union account in 2019, while 5.4% (7.1 million) of households did not.
- Mobile banking continued to increase sharply in 2019, more than doubling as the primary means of access since 2017.
- Nearly half of unbanked households reported they did not have a bank account because they did not have enough money to meet minimum balance requirements.
- Approximately one-third of unbanked households stated they did not have an account because they did not trust banks.
- Racial disparities still exist in the demographics of the unbanked, with approximately 14% of Black and 12% of Hispanic households not having bank accounts, compared to 3% of white households.
- Nearly 28% of unbanked households used prepaid cards in 2019, which may provide them with a connection to the banking system. About one in three (31.1%) Black unbanked households used a prepaid card in 2019, as did one in six (16.7%) Hispanic unbanked households.
- In 2019, 73% of U.S. households used bank credit, such as a credit card, personal loan, or line of credit from a bank. Five percent used nonbank credit, such as a payday loan or an auto title loan. Use of nonbank credit declined from 8% in 2015 to nearly 5% in 2019.
- The characteristics of those who use of P2P payments were substantially different than those who used other nonbank transactions services, with over one-third of those with access to a smartphone or home internet access making P2P payments, compared with 2.9% of households that had neither. Only 8.8% of unbanked households used a nonbank P2P payment service compared with 32.3% of banked households. P2P payment user households also tended to have incomes over $75,000, have college degrees, be younger, and be working-age nondisabled.
This year’s report also included a postscript to address the potential impacts of the COVID-19 pandemic on the report’s findings for the unbanked. The report was undertaken during generally favorable economic conditions and the postscript attempts to extrapolate from past data to speculate what might result from the pandemic. With unemployment rates skyrocketing during the pandemic, the FDIC predicts that the unbanked rate will increase as the unbanked rate among unemployed households was almost four times as high as the unbanked rate among employed households. Similarly, lower-income or variable income households tended to be considerably overrepresented in the unbanked population.
Chime Settles Over Service Outage Claims
Chime Financial, Inc., a digital banking company, received initial approval for its proposed settlement agreement with its customers, stemming from Chime’s services disruptions in October 2019. In the settlement, Chime will set aside $5.5 million to cover customer claims, with those customers without documentation to substantiate losses able to receive up to $25 for a verified loss claim and customers with records substantiating losses able to receive up to $750. This settlement is in addition to the nearly $6 million Chime already paid to customers for the eservice disruption through $10 courtesy payments and credits.
Chime’s system-wide service outage lasted approximately 72 hours, during such time roughly five million customers could not access their accounts, resulting in customers not having access to funds, including through card purchases or ATM withdrawals. After the service disruption, some customers also reported incorrect account balances and unauthorized charges.
Also named in the settlement agreement as defendants is Galileo Financial Technologies, LLC, which makes the APIs Chime uses to offer credit and debit cards, as well as provide banking and money transfer services, and The Bancorp Inc., a financial holding company whose wholly owned subsidiary, The Bancorp Bank, provides licensed banking services for Chime.
The case before the Northern District of California is: Richards, et al. v. Chime Financial, Inc., et al., No. 4:19-cv-06864-HSG
SoFi Obtains Conditional National Bank Charter
The OCC recently granted conditional approval to Social Finance Inc.’s (SoFi) application for a national bank charter. The approval is conditioned on SoFi seeking membership in the Federal Reserve System and becoming insured by the FDIC, as well as completing certain organizational steps prior to obtaining final OCC approval. With a bank charter, SoFi could conduct the same banking activities as any other national bank, including taking customer deposits and making loans without using a bank partner. SoFi would become the second fintech company to receive a full-service national bank charter from the OCC after Varo’s charter was granted a few months ago.