State regulators are locked out of a slice of the home mortgage-lending industry, thanks to a recent U.S. Supreme Court decision. But the turf war between states and the federal government over banking regulations isn't over.
A different case, launched by New York's then-Attorney General Eliot Spitzer, now governor, will test whether states can wedge a foot in the door at national banks doing business in a state. And in Congress, there are efforts to pass a national law against "predatory" lending practices that deceive or abuse borrowers but that could, if enacted, pre-empt 37 states already equipped with consumer protections.
The outcome of the complicated, long-running feud could have repercussions for consumers of home loans and perhaps many kinds of financial services from the 1,800 nationally charted banks and an estimated 500 operating subsidiaries of national banks.
The fight is over whether state officials and/or the federal government should police financial services offered by national banks, with such recognizable names as Wachovia and Wells Fargo, and their operating subsidiaries.
In a major defeat for Michigan, which was joined in its appeal by the 49 other states, the Supreme Court ruled April 17 that states have no role in regulating the licensing, reporting and examination of a national bank's mortgage business, even if the business is conducted by an operating subsidiary, not the bank itself. While the case centered on the mortgage business, the court's decision might be applied to other services, such as car loans and investment advice, offered by national banks' subsidiaries.
The 5-3 ruling in Watters v. Wachovia means that consumers of national banks and their subsidiaries must go to the federal government - not the state - if they feel they are being cheated or have other complaints.
"Certainly the decision was a defeat for state regulators," said Arthur E. Wilmarth Jr., a George Washington University law professor who filed court papers on behalf of states and governors and had urged the court to side with the states.
Joseph Calluroi, an attorney with Traiger and Hinckley in New York City who advises financial institutions, said "state regulators met their Waterloo" in the Watters case, referring to Napoleon's decisive defeat in 1815.
States and consumer groups fear the decision will pressure state-chartered banks to align themselves with national banks to avoid state regulations and also what they argue is more aggressive enforcement by state regulators than the federal government. "Imagine if petty thieves could pick their sheriff, they wouldn't pick the most vigilant," said Ellen Harnick, an attorney with the Center for Responsible Lending in North Carolina, although she added that she didn't equate banks with thieves.
Banks and the federal government, however, argue that the decision puts an end to the hodgepodge of duplicative and conflicting federal and state banking regulations. "Instead of being distracted by who is enforcing which law, now the industry can focus on the more important issue of compliance with the law itself," Edward L. Yingling, president of the American Bankers Association , said in a statement.
States' roles as consumer watchdogs also are stake in the banking case filed by Spitzer that is now pending in the U.S. Court of Appeals in New York.
"The Spitzer case is equally if not more important for states and consumers," said John Ryan, executive vice president of the Conference of State Bank Supervisors (CSBS), which represents state banking departments. The issue, he said, is whether a state, through its attorney general, can enforce applicable state and federal consumer, anti-discrimination and other laws at a national bank or its subsidiary.
Banks and the federal Office of the Comptroller of the Currency (OCC), the agency that charters and supervises national banks, won a court order preventing Spitzer from investigating possible anti-discrimination violations by four national banks. Thirty-two states and a coalition of advocacy groups filed briefs in support of Spitzer's actions.
One result of the Supreme Court's decision restricting state regulation could be to deliver "a kick in the pants for Congress and/or the OCC" to address consumer protections, said attorney Calluroi. He maintains a federal banking examiner would be no less likely to respond to a consumer problem than a state official.
The high court's ruling comes as states and Congress are contemplating how to react to record numbers of home foreclosures, especially among "subprime" loans that offered less-favorable terms to consumers with credit issues.
Kirsten Keefe, executive director of Americans for Fairness in Lending , an advocacy group, said she hoped the ruling would prod lawmakers on Capitol Hill to enact a national anti-predatory lending law. "Ideally we would like a very strong consumer-protection law that does not pre-empt state laws," she said.
Many consumers probably don't know whether their mortgage comes from a "state-chartered bank," a "nationally chartered bank" or "an operating subsidiary of a national bank" or from a bank at all. But the distinctions are important because they determine who in government is looking out for consumers and what kind of practices are forbidden.
The Office of the Comptroller of the Currency is responsible for overseeing about 1,800 federally charted banks, while states charter and supervise an estimated 5,700 state banks. State banks still have a federal regulator, either the Federal Reserve System or the Federal Deposit Insurance Corporation, according to a 2006 report from the U.S. Government Accountability Office. Mortgage brokers and loan officers in non-bank companies, are subject to state — not federal — regulation.
The Supreme Court case stemmed from a 2003 dispute between Wachovia Bank and Michigan's Office of Financial and Insurance Services. Wachovia maintained it no longer needed to register in Michigan because it had converted its mortgage company into an operating subsidiary of the national bank, headquartered in North Carolina. Michigan insisted Wachovia could no longer conduct mortgage business in the state if the banking subsidiary refused to register. Wachovia sued and won in federal district court and at the appellate level.
While disappointed in the high court's decision, Michigan's Linda Watters, who heads the state's Office of Financial and Insurance Services and was involved in the litigation, said in a statement that she hopes it will spur greater cooperation between state and federal regulators. "At the end of the day, taxpayers expect and deserve vigorous enforcement of state and federal consumer protection laws - regardless of whether that enforcement comes from state or federal regulators."