Daily Development for Thursday, July 22, 2004
by: Patrick A. Randolph, Jr.
Elmer F. Pierson Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin Kansas City, Missouri dirt@umkc.edu

Here's another Jack Murray gem. I've edited this one a bit and added my own comments. Ed.

MORTGAGES; PREPAYMENT; PREEMPTION: Office of Thrift Supervision ("OTS") did not exceed its authority in promulgating a rule making its prepayment-penalty and late-fee regulations inapplicable to state-chartered housing creditors.

Nat'l Home Equity Mortg. Ass'n v. Office of Thrift Supervision, 2004 U.S. App. LEXIS 14306, (D.C. Cir. 7/13/04),

The plaintiff (a national trade association including state-chartered housing creditors) challenged the OTS determination, effective July 1, 2003, which revised the regulations under the Alternative Mortgage Transactions Parity Act relating to prepayment penalties and late fees so that they were no longer applicable to state housing creditors.

The OTS had issued a rule in 1996 adding late charges and prepayment penalties to the preemptive regulations that benefitted state-chartered housing creditors. The OTS's issuance of its rule in 1996 was particularly significant because it preempted local law with respect to all other housing lenders except credit unions and commercial banks, which are not regulated by the OTS under the terms of the Parity Act. But, more recently, the OTS determined that the imposition of such fees "might be contributing to predatory lending practices in the subprime mortgage market." ) As a result of this determination, the OTS issued its final rule in 2002 making its prepayment-penalty and late-fee regulations inapplicable to state-chartered housing creditors, because they were not "essential or intrinsic" to a creditor's ability to engage in alternative mortgage transactions (thereby requiring state-chartered housing creditors to again comply with state laws governing these charges). The plaint iff challenged the final rule in the district court action, alleging that the OTS lacked authority to designate which of its regulations applied to state-chartered housing creditors and that the final OTS rule was "arbitrary and capricious."

The district court ruled that the OTS had the authority and ability to take such action, and that adoption of the amended rule was not arbitrary and capricious. The court stated that, "Congress intended to preempt regulations authorizing AMTs [Alternative Mortgage Transactions], not all regulations governing AMTs." (emphasis added). The court stated further that, "the parity [Congress] sought to achieve between state and federal lenders is the ability to engage in AMTs, not competitive equality." Because the district court found that the interpretation of the Alternative Mortgage Transaction Parity Act (Parity Act) by the OTS was permissible, it determined that it would defer to the OTS' interpretation and its ability to issue regulations thereunder and would further defer to the OTS' conclusion that prepayment fees and late charges were not "essential or intrinsic" to the ability of state housing creditors to provide alternative mortgage transac tions. The district court stated t hat, "[e]ven greater deference must be accorded here because OTS has made a predictive judgment within the field of its expertise (citation omitted)." The district court also rejected the plaintiff's argument that the OTS' change in policy was not entitled to deference because its interpretation had been inconsistent, stating that, "a change in OTS' interpretation of the Parity Act does not undermine . . . the deference this Court must afford OTS' Amended Rule." The district court noted that although the OTS' interpretation of the Parity Act changed in 1996 (see discussion above), its current position was consistent with its interpretation of the Parity Act from 1982 through 1996, at which time it first diverged from its original position and concluded that its regulations regarding prepayment penalties and late charges were applicable to state housing creditors.

The only issue raised by the plaintiff with the D.C. Court of Appeals was whether the OTS rule was based on an impermissible interpretation of the Parity Act. The court of appeals determined that the Parity Act did not express an intent to preempt all laws applicable to AMTs, and noted that the applicable statutory language specifically directed the OTS to identify and publish those particular regulations that were inappropriate (and thus inapplicable to) state housing creditors. The Court of Appeals next ruled that OTS's interpretation of the rule was permissible, because Congress had specifically granted the OTS the authority to "identify those portions" of its regulations that were "inappropriate for" application to nonfederally chartered creditors.

According to the Court of Appeals, "the purpose of the Act is served - and the agency's responsibility thereunder is discharged - if the OTS makes applicable to state creditors only those regulations 'essential or intrinsic to their ability' to engage in AMTs. Finally, the Court of Appeals rejected the plaintiff's argument that the OTS final rule was not entitled to deference because it departed from previous agency policy. The court found that the OTS had provided a "reasoned analysis" for its change in course, because of its legitimate concern -- backed up by solid evidence, including documents submitted by 46 state Attorneys General -- that state housing creditors were engaging in predatory subprime lending, and because "the agency's change in course is simply a return to the view it held consistently form its first implementation of the Parity Act in 1983 until 1996."

Reporter’s Comment 1: 1. Federal associations may include prepayment penalty clauses in commercial loan documents and enforce such clauses according to their terms regardless of any state law to the contrary (including equitable principles) because C.F.R. §§ 545.2 and 545.34(c), as amended at 49 F.R. 43044, authorize a Federal association to include a prepayment penalty clause in any loan it makes and to enforce such a clause in accordance with its terms regardless of any state law - including equitable principles in a foreclosure action - which purports to prohibit the collection of a prepayment penalty under certain circumstances. Because federally chartered depository institutions had already been authorized to engage in such alternative mortgage financing, Congress enacted the Parity Act to eliminate the discriminatory impact that those regulations have upon non-federally chartered housing creditors and provide them with parity with federally chartered institutions by autho
rizing all housing cre ditors to make, purchase and enforce alternative mortgage transactions so long as the transactions are in conformity with the regulations issued by the Federal agencies. 12 U.S.C. § 3801(b). The Parity Act expressly preempts state laws that prohibit alternative mortgage transactions, and provides that state-chartered lenders may make variable-interest home mortgage loans and other alternative mortgage transactions on the same terms as federally chartered lenders, "notwithstanding any State constitution, law, or regulation." 12 U.S.C. §§ 3803(c) and 3804. At the time of enactment, states were allowed to opt out of the preemption, but my understanding is that only six have done so: Arizona (in part); Maine; Massachusetts; New York; South Carolina; and Wisconsin (in part). By virtue of the OTS's revised rule, alternative mortgage transactions originated by state-chartered housing creditors are now subject to state limits on prepayment fees and late-payment cha rges, which are no long er preempted by the Parity Act. But the OTS declined to make its new rule retroactive, fearing that "such a position would seriously disrupt the mortgage markets." 67 Fed. Reg. 60550 (2002).

Editor’s Comment 1: The Parity Act received very little attention within the first fifteen years of its adoption, and it was generally believed that the purpose was to permit state chartered lenders to make alternative mortgage loans under the same terms and conditions as federally chartered lenders. The D.C. Court of Appeals’ emphasis on the reporting responsibilities of the OTS belies other specific language of the Act purporting to establish a level playing field for state chartered lenders. It is a ludicrous notion that the playing field is level despite the fact that federally chartered lenders can charge prepayment fees with impunity while state chartered lenders are subject to restrictive state consumer regulation. It is further a ludicrous notion that the fundamental purpose of the Parity Act was simply to enable alternative mortgage loans, rather than to establish true parity of opportunity for state and federal lenders. Were the purpose simply to enable state charter ed lenders to make alternative mortgage loans, certainly Congress could have said that much more simply.

Editor’s Comment 2: The above having been said, there is little doubt that abusive practices have been going on in the subprime market and have been sheltering under federal preemption. Nevertheless, federal agencies like the OTS are not knights errant slaying dragons wherever they find them. The government should proceed in a regular and consistent manner. If there is an evil in the subprime market, there are many methods to address is, and there is no need to undertake the first method that comes to mind.

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