Nutter Bank Report: May 2022

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  1. Federal Banking Agencies Issue CRA Modernization Proposal
  2. Federal Reserve Adopts Rule for New Real-Time Electronic Payments Service
  3. CFPB Clarifies Application of Fair Lending Rules to Complex Algorithmic Credit Models
  4. Acting Comptroller of the Currency Addresses Recent Volatility in Cryptocurrency Markets
  5. Other Developments: Consumer Protection and Deposit Insurance

1. Federal Banking Agencies Issue CRA Modernization Proposal

The federal banking agencies have jointly issued a proposed rule that would modernize their regulations that implement the Community Reinvestment Act (the “CRA”). The proposed rule released on May 5 would, among other things, adapt to changes in the banking industry, including the expanded role of internet and mobile banking. For example, the proposed rule would provide CRA credit for activities associated with online and mobile banking, including branchless banking, by evaluating the availability and responsiveness of a bank’s digital delivery systems models. The proposed rule also would allow banks to receive CRA credit for any qualified community development activity, regardless of whether the activity is conducted within a bank’s CRA assessment area. The proposed rule would emphasize smaller-value loans and investments that can have high impact and be more responsive to the needs of low- and moderate-income (“LMI”) communities. The proposed rule would provide greater clarity about what types of activities are eligible for CRA credit, such as by defining 11 categories that establish specific eligibility standards for a broad range of community development activities. Comments on the proposed rule are due by August 5. Click here for a copy of the proposed rule.

Nutter Notes:  The proposed rule, while differing in some respects from the OCC’s CRA rule that was rescinded last year, does include some of the modernization principles embodied in the rescinded OCC CRA rule. For example, the proposed rule would evaluate bank CRA performance more objectively through quantitative measures, while also tailoring performance standards to account for differences in bank size, business models, and local conditions. The agencies have proposed a new evaluation framework that would establish four tests for large banks: a Retail Lending Test, a Retail Services and Products Test, a Community Development Financing Test, and a Community Development Services Test. Intermediate banks would be evaluated under the Retail Lending Test and the current community development test, unless they choose to opt into the new Community Development Financing Test. Small banks would be evaluated under the current small bank lending test, unless they choose to opt into the new Retail Lending Test. Therefore, smaller banks could continue to be evaluated under the existing CRA regulatory framework under the proposed rule with the option to be evaluated under aspects of the new proposed framework.

2. Federal Reserve Adopts Rule for New Real-Time Electronic Payments Service

The Federal Reserve has approved a final rule that will govern funds transfers over the Federal Reserve Banks’ FedNowSM Service, which is a new 24x7x365 interbank settlement service with clearing functionality to support instant payments in the U.S. that is expected to become available next year. The final rule published on May 19 provides a comprehensive set of standards governing funds transfers over the FedNow Service and provides certainty and clarity on the rights and obligations of parties to a transfer over the FedNow Service. The final rule, which establishes a new subpart C to the Federal Reserve’s Regulation J, is designed for the end-to-end transfer to be completed in a matter of seconds with the FedNow Service and provides that the beneficiary’s bank would make funds available to the beneficiary immediately after it has accepted a payment order. The final rule also accommodates a feature of the FedNow Service under which the beneficiary’s bank may notify its Reserve Bank that it requires additional time to determine whether to accept a payment order, but only if the bank has reasonable cause to believe that the beneficiary is not entitled or permitted to receive the payment. The commentary to the final rule clarifies that such reasonable cause could exist where a particular payment order may be related to fraudulent activity. The final rule will become effective in the first calendar quarter following its publication in the Federal Register, which is expected shortly. Click here for a copy of the final rule.

Nutter Notes:  To address concerns about erroneous payments that may occur within the FedNow Service, the Federal Reserve said that the service “will include the functionality to request a return of payment when an error has been identified.” However, the final rule does not require that Reserve Banks take steps to prevent errors in circumstances in which mismatched information in a payment order with respect to the beneficiary may indicate potentially incorrect information. In its release accompanying the final rule, the Federal Reserve explained its belief that such a requirement for the Reserve Banks would not be feasible for an instant payment system because it would slow processing of payments and “introduce numerous operational complexities.” The Federal Reserve pointed out that, to the extent the Electronic Fund Transfer Act (“EFTA”) applies to a consumer’s instant payment effected through the FedNow service, the EFTA’s procedures for resolving errors as between a consumer and their financial institution would also apply. The Federal Reserve also committed to “continually engage with industry stakeholders on best practices for financial institutions to address erroneous payments.”

3. CFPB Clarifies Application of Fair Lending Rules to Complex Algorithmic Credit Models

The CFPB has issued guidance to lenders, including banks, that the Equal Credit Opportunity Act (“ECOA”) and its implementing rule, Regulation B, require lenders to explain to loan applicants the specific reasons for denying an application for credit or taking other adverse actions, even if the creditor is relying on credit models using complex algorithms that are sometimes referred to as “black-box” credit models. The guidance contained in a Consumer Financial Protection Circular published on May 26 clarifies that ECOA does not permit lenders to use technology that prevents them from providing specific and accurate reasons in an adverse action notice provided in compliance with Regulation B. The CFPB’s guidance explains that a lender that uses a complex algorithm, including artificial intelligence or machine learning, in any aspect of its credit decisions must still provide an adverse action notice to applicants that discloses the specific principal reasons for taking an adverse action. The CFPB’s guidance states that a lender’s “lack of understanding of its own methods is therefore not a cognizable defense against liability for violating ECOA and Regulation B’s requirements.” Click here for a copy of the guidance.

Nutter Notes: In a related development, the CFPB has also issued an advisory opinion under ECOA clarifying that its anti-discrimination requirements continue to protect borrowers after they have applied for and received a loan, and not just during the process of applying for credit. Specifically, the advisory opinion published on May 9 states that lenders, including banks, are prohibited from discriminating against borrowers with existing credit, for example, by lowering the credit limit of certain borrowers’ accounts or subjecting certain borrowers to more aggressive collections practices on a prohibited basis, such as race. The advisory opinion also clarifies that ECOA requires lenders to deliver adverse action notices that explain why an unfavorable decision was made against an existing borrower, such as when an existing loan account is terminated or an account’s terms are unfavorably changed. Click here for a copy of the advisory opinion.

4. Acting Comptroller of the Currency Addresses Recent Volatility in Cryptocurrency Markets

Acting Comptroller of the Currency Michael Hsu discussed vulnerabilities in the cryptocurrency markets in remarks at the DC Blockchain Summit 2022, in which he emphasized federal banking regulators’ continued focus on safety and soundness and consumer protection in connection with banks’ engagement in cryptocurrency activities. In his statement delivered on May 24, Hsu mentioned the recent collapse of the TerraUSD stablecoin and the associated sell-off of certain crypto assets by market participants as examples that the crypto economy is in part dependent upon, as Hsu put it, “hype.” The key vulnerabilities in the cryptocurrency system that Hsu pointed out in his remarks include the increasing fragmentation by the regular addition of new blockchains with “cross-chain bridges” needed to mitigate interoperability challenges due to this fragmentation. According to Hsu, such bridges are “highly prone to being hacked.” He also emphasized the need for a “careful and cautious” approach when banks seek to engage in cryptocurrency activities. Hsu mentioned that it is the OCC’s policy that national banks and federal savings associations may engage in cryptocurrency-related activities only if they have controls in place to do so in a safe and sound manner and in compliance with applicable consumer protections laws and rules. Click here for a copy of Hsu’s remarks.

Nutter Notes:  Last month, the FDIC issued guidance to banks that it supervises that they must notify the FDIC if they intend to engage in, or are already engaged in, activities involving cryptocurrencies or other digital assets, and that such banks are encouraged to notify their state regulator.  Hsu noted in a public statement last month certain concerns the OCC has about stablecoins—cryptocurrency that is designed to have a stable value relative to a fiat currency as compared with other types of cryptocurrency. Specifically,  Hsu said that the OCC is concerned that stablecoins lack “shared standards and are not interoperable.” The federal banking agencies have previously issued a Joint Statement on Crypto-Asset Policy Sprint Initiative and Next Steps, summarizing their policymaking focused on crypto-asset activities by banking organizations and providing a summary of the next steps they plan to take to provide supervisory guidance for crypto-asset activities. The agencies said that they plan to issue additional guidance throughout 2022 about whether certain crypto-asset activities conducted by banking organizations are legally permissible, and to clarify supervisory expectations for safety and soundness, consumer protection, and compliance issues. The agencies indicated that the crypto-asset activities they intend to address in future guidance will include crypto-asset safekeeping and custody services, ancillary custody services, the facilitation of purchases and sales of crypto-assets by customers, and loans collateralized by crypto-assets.

5. Other Developments: Consumer Protection and Deposit Insurance

CFPB Interpretive Rule Clarifies States’ Ability to Enforce Federal Consumer Financial Protection Laws

The CFPB issued an interpretive rule on May 19 describing states’ authorities to enforce all provisions of the Consumer Financial Protection Act. In particular, the interpretive rule affirms that states can enforce the provision in the Consumer Financial Protection Act making it unlawful for financial service providers, including banks, to violate any provision of federal consumer financial protection law. Click here for a copy of the interpretive rule.

Nutter Notes:  The CFPB also noted that state attorneys general and state regulators are able to bring enforcement actions against certain financial service providers and their principals over whom the CFPB does not have jurisdiction. Finally, the CFPB pointed out that a state may bring an enforcement action to stop or remediate harm that has not been addressed by a CFPB enforcement action against the same financial service provider.

FDIC Issues Guidance to Small Banks on Trust and Mortgage Servicing Account Deposit Insurance Rules

The FDIC released guidance in the form of a Small Entity Compliance Guide for its January 2022 final rule that amended the deposit insurance regulations for trust accounts and mortgage servicing accounts. The final rule, which is intended to make the deposit insurance rules easier to understand for depositors and bankers, facilitate more timely insurance determinations for trust accounts, and enhance consistency of insurance coverage, will take effect on April 1, 2024. Click here to access the Small Entity Compliance Guide.

Nutter Notes:  Among other things, the final rule amends the deposit insurance regulations by merging the revocable and irrevocable trusts categories into one category. The final rule also amends FDIC regulations to expand the current per-borrower coverage of up to $250,000 to include any funds paid into an account to satisfy the principal and interest obligation of the mortgagors to the lender. The FDIC advises that some depositors with an excess of $1.25 million in trusts deposits at a particular bank may want to make changes given the new coverage limits that take effect on April 1, 2024.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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