Will the Supreme Court Again Consider Preemption Under the National Bank Act?

At its upcoming conference on January 6, 2023,¹ the Supreme Court will consider whether to hear Flagstar Bank v. Kivett, a case about whether the National Bank Act preempts certain state laws requiring interest to be paid on mortgage escrow accounts. If the Supreme Court agrees to hear either the Kivett case or a related case called Cantero, this would be the first time since 2009 (and thus the first time after the passage of the Dodd-Frank Act) that the Court has considered the preemptive effect of the National Bank Act on state laws.

Background

The decision at issue in Kivett is a short unpublished opinion from May 2022 in which the Ninth Circuit applied a 2018 decision of the same court called Lusnak v. Bank of America. It is necessary to review the Lusnak decision, as well as a later Second Circuit decision which disagreed with it, to understand the case the Supreme Court is being asked to hear in Kivett.

Lusnak

In Lusnak, the plaintiff purchased a home and took out a mortgage, with the mortgage later assumed by Bank of America. The relevant agreements provided that Bank of America would pay interest on escrow funds if the payment of interest was required by federal law or by applicable state law.

California law requires financial institutions to pay “at least two percent simple interest per annum” on funds in a mortgage escrow account. Bank of America did not pay this interest on the money in Lusnak’s escrow account, however, arguing that its obligation to do so under California law was preempted by the National Bank Act, and thus California law was not applicable.²

As a condition for obtaining a mortgage, Lusnak was required to open a mortgage escrow account into which he pays $250 per month. Lusnak alleges that Bank of America is able to enrich itself by earning returns on funds in his account. Bank of America acknowledges that it does not comply with state escrow interest laws and that Wells Fargo—its chief competitor and the largest mortgage banker in America—does. But it contends that no federal or “applicable” state law requires it to pay interest on Lusnak’s escrow account funds.

A Ninth Circuit panel ruled 3-0 in favor of Lusnak.

The panel began by examining the standard for evaluating preemption under the National Bank Act as amended by the Dodd-Frank Act. The court explained that, since the Supreme Court’s 1996 decision in Barnett Bank, the standard for National Bank Act preemption has been whether a state law “prevents or significantly interferes with a national bank’s exercise of its powers.” In this regard, the Ninth Circuit described the Dodd-Frank Act as having “merely codified existing law as set forth by the Supreme Court.”

Applying that standard to Lusnak’s case, the court found that the California law requiring the payment of interest did not prevent or significantly interfere with Bank of America exercising its powers under the National Bank Act.

Key to the panel’s reasoning in reaching that decision was an amendment made to the Truth In Lending Act by a provision of the Dodd-Frank Act. That provision, now found at 15 USC 1639d, requires that in connection with certain categories of mortgages borrowers be required to establish an escrow account, and:

If prescribed by applicable State or Federal law, each creditor shall pay interest to the consumer on the amount held in any . . . escrow account that is subject to this section in the manner as prescribed by that applicable State or Federal law.

Thus, the panel reasoned, because federal law now specifically contemplates that applicable state laws may require the payment of interest on funds held in escrow accounts, it cannot be the case that such laws categorically prevent or significantly interfere with a national bank’s exercise of its powers. And because Bank of America could point to no legal authority supporting the proposition that the California law resulted in prevention or significant interference in this case, the court ruled in favor Lusnak.

Banks and their lawyers warned that the Lusnak decision, and the Supreme Court’s later refusal to hear an appeal, could have far-reaching consequences.

The Ninth Circuit’s decision could have significant implications for national banks, as it represents a departure from decades of precedent establishing that States cannot regulate a national bank’s ability to set the prices, terms, or conditions of its products and services. As an initial matter, the Ninth Circuit’s decision exposes national banks to a patchwork of state laws on the payment of interest on mortgage escrow accounts. For example, Minnesota requires that banks pay a minimum 3% interest rate on mortgage escrow accounts. The holding in Lusnak could have ramifications far beyond mortgage escrow accounts, however, and expose national banks, particularly in the Ninth Circuit, to both limits and requirements on a wide variety of products and services.

Kivett

Kivett concerns a different set of California mortgagors who sued Flagstar Bank, at the time a federal savings bank,³ over Flagstar’s refusal to pay interest on an escrow account governed by the same California law at issue in Lusnak. In an unpublished opinion, the panel held that Flagstar’s arguments were foreclosed by Lusnak.

Here, the district court correctly concluded that, given our decision in Lusnak, Flagstar could not succeed in arguing that § 2954.8(a) was preempted by the NBA. Flagstar concedes that its banking operations in this case are regulated by the NBA, which has regulated all federal savings banks since the passage of Dodd-Frank. … Though Flagstar argues that Lusnak's holding applies only to "large corporate banks," Lusnak's language is unqualified: [quoting Lusnak] …

Flagstar and amici Mortgage Bankers Association and American Bankers Association alternatively ask us to overrule Lusnak as wrongly decided. A three-judge panel may only depart from an earlier panel's decision if it is "clearly irreconcilable with the reasoning or theory of intervening higher authority[.]" Miller v. Gammie, 335 F.3d 889, 893 (9th Cir. 2003) (en banc). Considering neither the Supreme Court nor the Ninth Circuit sitting en banc has heard a case that could bring Lusnak's holding into question, we reject Flagstar and amici's invitation to overturn Lusnak.

Cantero

This past fall, the Second Circuit also had occasion to consider the interaction between the National Bank Act and laws requiring the payment of interest on amounts held in escrow accounts. In a case called Cantero v. Bank of America, the Second Circuit reached the opposite conclusion to the one reached by its counterparts on the West Coast.

In so doing, the Second Circuit embraced an arguably different understanding of Barnett Bank than that reflected in the Ninth Circuit’s Lusnak decision and in the lower court decision under review:

In Barnett Bank, the Court explained that Congress did not “deprive States of the power to regulate national banks, where . . . doing so does not prevent or significantly interfere with the national bank’s exercise of its powers.” The district court read “significantly interfere” to mean “practical[ly] abrogat[e],” and it looked to the “impact” and “degree of interference” to determine whether the state law at issue was preempted. Plaintiffs similarly argue that state laws are preempted by the NBA only if they “prevent the exercise of a national bank’s power [or] come close to doing so.” And to make that determination, Plaintiffs urge us to look to the “degree of interference,” which they claim is “minimal” here because the law requires payment of only a “modest amount of interest.”

We reject this approach. Barnett Bank did not announce a new rule, but merely applied the “ordinary legal principles of preemption” to the state law at issue. .. [I]n an unbroken line of case law since McCulloch, the Court has made clear that the question is not how much a state law impacts a national bank, but rather whether it purports to “control” the exercise of its powers. … Control is not a question of the “degree” of the state law’s effects on national banks, but rather of the kind of intrusion on the banking powers granted by the federal government.

Applying that standard to Cantero’s case, the Second Circuit concluded that enforcing against national banks the New York law requiring the payment of interest on escrow accounts would impermissibly exert control over the powers of national banks, and thus must be preempted.

In light of the foregoing, we conclude that GOL § 5-601 is preempted. The banking power at issue here is the power to create and fund escrow accounts. Like the regulation in Franklin National, GOL § 5-601 would target, curtail, and hinder a power granted to national banks by the federal government. By requiring a bank to pay its customers in order to exercise a banking power granted by the federal government, the law would exert control over banks’ exercise of that power. And if taken to a greater degree, state authority to set minimum interest rates could infringe on national banks’ power to use mortgage escrow accounts altogether. The issue is not whether this particular rate of 2% is so high that it undermines the use of such accounts, or even if it substantially impacts national banks’ competitiveness. The power to set minimum rates is the “power to control,” and the power to control is the “power to destroy.”

As for the Dodd-Frank Act amendments to TILA that the Ninth Circuit found compelling, the Second Circuit observed that Cantero’s mortgage predated the TILA amendments, and therefore concluded that the district court erred by looking to those amendments as part of its National Bank Act preemption analysis. Plus, even if the TILA amendments were relevant to the analysis, a majority of the panel reasoned that the district court drew the wrong conclusion from them:⁴

[T]he district court, like the Ninth Circuit in Lusnak, concluded that the TILA amendments somehow reflected Congress’s judgment that all escrow accounts, before and after Dodd-Frank, must be subject to such state laws. That is incorrect.

First, the court improperly reasoned that Congress’s decision to subject some escrow accounts to state interest-on-escrow laws “evince[d] a clear congressional purpose to subject all mortgage lenders to state escrow interest laws.” The court correctly noted that preemption analysis is a question of congressional intent. But to assess congressional intent in the preemption context, we employ the ordinary rules of statutory interpretation. The district court’s approach—to note certain exceptions granted by Congress, to infer from those a broader “intent” of Congress, and then to extrapolate further exceptions from there—is not an appropriate means of determining a statute’s legal effect.

To the contrary, the enumeration of only some exceptions typically implies the exclusion of others. See Stow Mfg. Co. v. Comm’r, 190 F.2d 723, 726 (2d Cir. 1951) (L. Hand, J.) (“That choice must have been deliberate: expressio unius, exclusio alterius.”). Here, it is much more “harmonious[]” to read the NBA together with Dodd-Frank as a decision by Congress to carve out an exception from its general rule, rather than expressly imposing a burden on some mortgage loans in order to impliedly impose a burden on all of them.

Thus following Cantero the roles were reversed compared to what they were in Lusnak. It was banks and their lawyers supporting the decision while consumer groups and their allies raised concerns. For example, following the decision Professor Arthur E. Wilmarth wrote in a paper:

The Second Circuit’s assertion that the NBA preempts any state law that “would exert control over a banking power granted by the federal government” is contrary to the preemption standard established by Barnett Bank and codified by Dodd-Frank. The Second Circuit effectively adopted a per se rule invalidating all state laws that place any limitation on the exercise of any “power” granted to national banks by federal law. The Second Circuit’s approach would result in the preemption of all state laws regulating the exercise of national bank powers, including state regulations that have insignificant effects on the operations of national banks. The Second Circuit’s per se rule contravenes the more narrowly-tailored preemption standard that Congress codified in the Dodd-Frank Act. …

In its recent decision in Brown v. Davenport, the Supreme Court admonished federal courts that they “must follow” the clear mandate of a federal statute and cannot “override a lawful congressional command” by relying on inconsistent language “extracted” from prior Supreme Court opinions. The Second Circuit disregarded that admonition when it refused to follow the plain meaning of the “prevents or significantly interferes” preemption standard codified in the Dodd-Frank Act. The Second Circuit based its per se preemption rule on statements drawn from Supreme Court opinions that were issued many years ago and dealt with federally-chartered institutions that were very different from present-day national banks. The views on preemption expressed in those decisions have been superseded by the preemption standard that the Supreme Court established in Barnett Bank and Congress codified in the Dodd- Frank Act.

The plaintiffs in Cantero, like the bank defendant in Kivett, have petitioned the Supreme Court to hear their case. A response from Bank of America is not due until January 9, with consideration at conference happening only after that.

What’s Next?

On the question of what happens next, it must be stressed that the answer could well be nothing. There is no guarantee that the Supreme Court at its upcoming conference will decide either way whether to hear the case. Sometimes cases are listed for consideration at multiple conferences before the court makes a decision. This might be likely to happen here given that, as discussed above, the Cantero case is also currently the subject of a petition for review, and the court may want to wait to discuss both cases together.

More fundamentally, there is no guarantee that the Supreme Court will ever agree to hear either case at all — the vast majority of petitions are denied without comment.

The difference of opinion between the Ninth Circuit and the Second Circuit makes a denial somewhat less likely, but the victorious plaintiffs in Kivett have offered the Supreme Court various reasons, some more persuasive than others, why a denial would nonetheless be appropriate here.

For instance, the plaintiffs argue that the Second Circuit and the Ninth Circuit decisions, though in “tension,” do not represent the “clean and clear” conflict that the Court usually looks for before taking a case to resolve a circuit split. The plaintiffs also argue that, even if there is a clean circuit split, the Court should not rush to hear the case but should instead let the split percolate a bit more in the lower courts.

This Court usually does not rush to address the first hint of disagreement between two circuits. A fresh division, even involving issues of abstract importance and multiple circuits, rarely suffices. This case is no exception. The preemption arguments raised here and in Cantero are “complex and would benefit from further percolation in the lower courts prior to this Court granting review.” Calvert v. Texas, 141 S. Ct. 1605, 1606 (2021) (Sotomayor, J., statement respecting denial of certiorari).

As a fallback position, the plaintiffs say that if the court does feel compelled to consider a National Bank Act preemption case, it should do so in Cantero, not Kivett.

In addition to these complex antecedent issues, there is a stark contrast between this case and Cantero in the opinions below. The Ninth Circuit issued a terse memorandum disposition affirming summary judgment for Plaintiffs. This is such a thin basis for review on certiorari that Flagstar needlessly includes the Lusnak slip opinion in its appendix, as though Plaintiffs’ case is just a continuation. Again, Lusnak is no longer recent. For nearly five years, the mortgage industry in California has co-existed with Lusnak without significant interference.

Although the Second Circuit’s analysis is flawed, a published opinion, with a concurrence, provides a more solid platform for review than the Ninth Circuit’s short memorandum. …

The respective dispositions here and in Cantero also make that case a better candidate. Akin to declaring a statute unconstitutional, the Second Circuit is the first court nationally to invalidate a State IOE law. “Paramount among the States’ retained sovereign powers is the power to enact and enforce any laws that do not conflict with federal law.” Having enacted N.Y. G.O.L. § 5-601 through their elected representatives, the citizens of New York possess a sovereign interest in the laws of their State being upheld.

Last week Flagstar responded to all this by saying that the conflict between Kivett and Cantero is clear, and that in any case Kivett presents “an excellent vehicle for the Court to decide the question presented.” In addition, Flagstar argues that, unlike Cantero, Kivett is “the only vehicle that would permit its resolution this Term.”

The stakes here, according to an amicus brief filed in support of Flagstar, are nothing less than a Ninth Circuit decision in Lusnak “that creates risk to the safety and soundness of the national banking system and the availability of credit.” I am not sure I would go that far, but the Court’s order lists this January bear watching nonetheless.

Thanks for reading! If you believe (or know) that I made a mistake in this post or any other post, or just have other thoughts to share, feel free to email bankregblog@gmail.com

1. For brief background, see here. “Once a petition [for the Supreme Court to hear a case] has been filed, the other party has 30 days within which to file a response brief, or, in some cases waive his/her right to respond. Once the 10 day period for receiving a reply brief has passed, the case is circulated to the Justices and placed on a conference list, for consideration at one of the Justices’ private conferences. … Cases appearing on a conference list may reasonably be expected to appear on the following Monday’s Order List (the announcement of dispositions in pending cases) although this is not always the case. If a case does not appear, it will be relisted for consideration at a future conference.”

2. This post quotes throughout from legal opinions, briefs and the like. For the sake of readability I have omitted from the quotes most internal in-line citations but otherwise have left the language unedited, except where marked by ellipsis or brackets.

3. There is some discussion in the briefing as to whether this makes Flagstar different from a national bank like Bank of America for purposes of the preemption analysis. I will oversimplify a bit here and say that as relevant to the issue discussed in this post the answer is not really.

4. The Second Circuit decision was 3-0 as to the result, but Judge Perez authored a separate concurrence. Judge Perez wrote that although she “join[ed] in full” her colleagues “well-reasoned opinion” that the New York law in question significantly interfered with the powers of national banks as applied to the mortgages at issue in Cantero, which pre-dated the Dodd-Frank Act’s TILA amendments, she also stressed that the “opinion leaves ample room for state regulation of national banks.” Notably, Judge Perez went on to explain that she believes the TILA amendments discussed above now do govern national banks when making certain mortgages and holding associated funds in escrow.