On May 30, the U.S. Supreme Court unanimously decided Cantero, reaffirming and elaborating on the Barnett Bank preemption standard, and remanding the case to the Second Circuit for further proceedings. Cantero addressed whether a New York law requiring the payment of at least 2% per annum interest on mortgage escrow deposits was preempted by federal law as to national banks. The Supreme Court held that the Second Circuit erred when it failed to apply the preemption standard articulated in Barnett Bank of Marion County, N.A. v. Nelson, which was incorporated by Congress into the Dodd-Frank Act. The Court rejected the lower court’s holding “that federal law preempts any state law that ‘purports to exercise control over a federally granted banking power,’ regardless of ‘the magnitude of its effects.'” The Court also rejected the approach argued by the petitioners, explaining it would “yank the preemption standard to the opposite extreme, and would preempt virtually no non-discriminatory state laws that apply to both state and national banks.”

Writing for the Court, Justice Kavanaugh explained that Barnett Bank articulates a broad preemption standard: Federal “grants of both enumerated and incidental ‘powers’ to national banks” are “grants of authority not normally limited by, but rather ordinarily pre-empting, contrary state law.” And “normally Congress would not want States to forbid, or to impair significantly, the exercise of a power that Congress explicitly granted.” Nevertheless, not all state laws that limit federal banking powers are preempted. Thus, Cantero instructs that “courts addressing preemption questions in this context must do as Barnett Bank did and likewise take account of those prior decisions of this Court and similar precedents.” The Court charged the Second Circuit with conducting “a practical assessment of the nature and degree of the interference caused by a state law. If the state law prevents or significantly interferes with the national bank’s exercise of its powers, the law is preempted. If the state law does not prevent or significantly interfere with the national bank’s exercise of its powers, the law is not preempted.”

In conducting the practical assessment of whether a state law prevents or significantly interferes with a national bank’s power, Justice Kavanaugh suggested that lower courts should compare the state law at issue to state laws the Court found preempted in prior decisions:

  • Grants of federal banking powers are “not normally limited” by state law and instead “ordinarily” pre-empt state law. (Barnett Bank) Thus, a state law that impacts the exercise of a federal banking power has a high burden to surmount.
  • State laws that interfere with a national bank’s power to “efficiently” carry out or advertise their services are preempted. (Franklin Nat’l Bank v. New York)
  • A state law limiting the exercise of a mortgage due-on-sale clause is preempted where it impairs the “flexibility” provided by federal law, even where the state law does not limit a power that is “reasonably necessary.” (Fidelity Federal Savings & Loan Association De la Cuesta)
  • A California escheat statute that operated “in an unusual way” was preempted. (First National Bank of San Jose California)

On the other hand, Justice Kavanaugh noted decisions finding that particular state laws are not preempted:

  • An escheat statute that required payment on abandoned deposits “in the same way and to the same extent” as depositor payments under a rule “as old as the common law itself” was not preempted. (Anderson National Bank Luckett)
  • A state law taxing the shares of all banks (national and state) was not preempted. According to the Court, state laws governing the daily course of business of national banks, such as generally applicable state contract, property, and debt-collection laws, are not preempted, at least where they in no manner hinder the national bank’s banking operations. (National Bank Commonwealth)
  • Generally applicable state contract law is not preempted. (McClellan Chipman)

By applying a “categorical test” that would preempt virtually all state laws that regulate national banks (and federal thrifts, which are subject to the same preemption standards as national banks) rather than engage in a “nuanced comparative analysis” taking into consideration prior Supreme Court teaching, the Court found that the Second Circuit erred. Congress did not write such a bright line test into Dodd-Frank to determine national bank preemption.

Shortly after the unanimous decision in Cantero, the Court summarily vacated another preemption decision of the Ninth Circuit in Kivett v. Flagstar Bank, FSB, remanding the case for “further consideration” in light of its instructions in Cantero.

Our Take:

The Court’s rejection of a bright line test in Cantero and quick remand of a second case involving national bank preemption impart several teaching points.

By requiring a nuanced and particularized analysis of the nature and impact of a state law’s interference with a national bank’s exercise of its banking powers, the Court effectively guaranteed that litigation regarding national bank (and federal thrift) preemption will continue to proliferate in the courts. The nuanced analysis may result in protracted litigation or potentially trials with fact and expert testimony on the degree and impact of the state law on the exercise of enumerated and incidental powers of national banks. Given the amici brief filed by a coalition of 33 States and the District of Columbia (in which they stressed that consumer protection is a “traditional state function), we can also expect that such litigation will include State efforts to continue expanding enforcement of state regulations against national banks.

Interestingly, the Court did not address the validity of the Office of the Comptroller of the Currency’s (OCC) preemption rules related to real estate lending in 12 C.F.R. § 34.4. These rules were promulgated in 2004 and then later reissued in 2011 following the passage of Dodd-Frank. Arguably, the process used by the OCC was inconsistent with the Dodd-Frank’s requirement to support preemption determinations with “substantial evidence, made on the record of the proceeding.” In a footnote, Justice Kavanaugh stated that the Court of Appeals “may address . . . first, the significance here (if any) of the preemption rules of the [OCC] and second, the relevance here (if any) of the Dodd-Frank provision that preempts state consumer financial laws if a federal law ‘other than title 62 of the Revised Statutes’ preempts the state law, 12 U.S.C. §25b(b)(1)(C).” This footnote leads us to conclude that on remand, the Second Circuit will more carefully consider OCC preemption rules related to real estate lending, including the specific statutory provision at play in Cantero, 12 U.S.C. § 371. This provision of the Federal Reserve Act (not the National Bank Act) subjects national bank real estate lending to “such restrictions and requirements as the Comptroller of the Currency may prescribe by regulation or order.” Conspicuously, it says nothing about restrictions and requirements under state law.

Finally, we offer our prediction. Because the New York statute at issue in Cantero is specifically directed at a core banking power (mortgage lending and servicing), shared by a limited number of businesses, and not an activity common to all or most businesses, such as contracting, ownership of property, payment of taxes or the collection of amounts due, and because a requirement to pay interest on escrow deposits (at a rate that exceeded standard deposit rates for many years) could have a significant impact on the profitability of the federally authorized activity, we expect the Second Circuit on remand to conclude once again, this time applying the correct Barnett Bank standard, that the New York escrow interest law is preempted. Our expectation is buttressed by the knowledge that: (i) numerous federal circuit courts have found preemption of state-law limits on amounts national banks may charge for their services (the converse of the amounts banks must pay under the New York statute); and (ii) a federal statute, 12 U.S.C. § 371, subjects national bank real estate lending to “such restrictions and requirements as the Comptroller of the Currency may prescribe by regulation or order” but conspicuously says nothing about restrictions and requirements under state law.

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