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From Banking and Finance Law Daily, March 5, 2018

National Bank Act does not preempt California’s mortgage-escrow interest law

By Thomas G. Wolfe, J.D.

Addressing a borrower’s proposed class action against Bank of America, N.A., claiming the bank violated both California and federal law by allegedly failing to pay interest on funds in the borrower’s mortgage escrow account, a three-judge panel for the U.S. Court of Appeals for the Ninth Circuit ruled that the National Bank Act does not preempt California’s mortgage-escrow interest law. In reaching its decision, the panel noted that the Dodd-Frank Act essentially codified the existing preemption standard enunciated by the Supreme Court in its 1996 Barnett Bank of Marion County, N.A. v. Nelson decision, and the panel applied that standard. Further, the panel held that although the borrower could not rely on federal Truth in Lending Act amendments that took effect after his mortgage escrow account already had been established, the borrower was not prevented from seeking relief under the theory that the bank violated California’s Unfair Competition Law (UCL) by failing to comply with the state’s mortgage-escrow interest law (Lusnak v. Bank of America, N.A., March 2, 2018, Nguyen, J).

As a result, the Ninth Circuit panel reversed the rulings of the federal district court and remanded the matter, allowing the borrower to proceed with his UCL and breach-of-contract claims against Bank of America.

In keeping with the terms of a 2009 mortgage refinancing agreement and a 2011 loan modification agreement between the borrower and Bank of America, both federal and state law governed the contracts. Both the borrower and the bank agreed that the mortgage required Bank of America to pay mortgage interest on escrow funds if required by federal law or not preempted by state law. As a condition for obtaining his mortgage, the borrower was required to open and maintain an escrow account, and he paid $250 per month into this account.

Complaint. In his class-action complaint, the borrower alleged that the bank was able to "enrich itself by earning returns on funds in his account" without paying him interest, as required under California’s escrow interest law (Cal. Civ. Code §2954.8(a)) and federal law—TILA (15 U.S.C. §1639d(g)(3)). The borrower also claimed that the bank breached the underlying mortgage agreement. In response, Bank of America acknowledged not paying any interest on the escrow account, but argued that it was not required to do so under federal law and that any state interest-usury law requirements were preempted by the National Bank Act.

The lower federal court for the Central District of California granted Bank of America’s request to dismiss the borrower’s complaint, determining that because California’s escrow interest law "prevents or significantly interferes with" banking powers, the state law was preempted by the NBA. The borrower appealed that decision to the Ninth Circuit.

State, federal law. Under the California Civil Code (§2954.8(a)), every financial institution is required to pay "at least 2 percent simple interest per annum" on escrow account funds. Meanwhile, under Dodd-Frank Act amendments to TILA (§1639d(g)(3)) covering the "applicability of payment of interest," every creditor, if prescribed by applicable state of federal law, "shall pay interest to the consumer on the amount held in any impound, trust, or escrow account that is subject to this section in the manner as prescribed by that applicable State or Federal law."

The borrower argued that the Dodd-Frank Act provision made it clear that Congress did not perceive any conflict between the California state law and the powers of national banks and did not intend for these types of state laws to be preempted by the NBA. In contrast, Bank of America argued that such state laws are preempted because they still "prevent or significantly interfere" with the exercise of its banking powers, and a preempted law cannot be construed to be "an applicable law under section 1639d(g)(3)."

Preemption decision. After reviewing the guiding principles of NBA preemption and Dodd-Frank Act amendments pertaining to that NBA preemption framework, the panel stated that "Congress underscored that Barnett Bank continues to provide the preemption standard; that is, state consumer financial law is preempted only if it prevents or significantly interferes with the exercise by the national bank of its powers, 12 U.S.C. § 25b(b)(1)(B)." Notably, the panel also indicated that "to the extent that the OCC [Office of the Comptroller of the Currency] has largely reaffirmed its previous preemption conclusions without further analysis under the Barnett Bank standard, … we give it no greater deference than before Dodd-Frank’s enactment, as the standard applied at that time did not conform to Barnett Bank." Moreover, other regulatory changes under Dodd-Frank requiring the OCC to make determinations on a "case-by-case basis," evaluating state consumer laws, and consulting with the Consumer Financial Protection Bureau, "have no bearing here where the preemption determination is made by this court and not the OCC."

In holding that the NBA does not preempt California Civil Code §2954.8(a), the panel determined that "no legal authority establishes that state escrow interest laws prevent or significantly interfere with the exercise of national bank powers, and Congress itself, in enacting Dodd-Frank, has indicated that they do not." In reaching its conclusion, the panel asserted: (i) minor interference with federal objectives is not enough; (ii) the California state law governing mortgage-escrow interest accounts does not significantly interfere with Bank of America’s exercise of its banking powers; (iii) while the Dodd-Frank Act does not define "applicable law," the dictionary definition of "applicable" law "would appear to include any relevant or appropriate state laws that require creditors to pay interest on escrow account funds;" and (iv) the pertinent legislative history supported the decision.

Turning to the borrower’s claims for relief under the California UCL, the panel further determined that the borrower could not rely on Dodd-Frank Act amendments to TILA after the borrower’s escrow interest account had been set up. However, that determination did not preclude the borrower from obtaining relief under the UCL on the theory that the bank failed to comply with California’s escrow interest law. Likewise, according to the panel, in connection with the borrower’s breach-of-contract claim, a jury could find that the "Applicable Law provision of the contract also requires that Bank of America pay interest on funds in Lusnak’s escrow account."

The case is No. 14-56755.

Attorneys: Roger N. Heller, Jordan Elias, Michael W. Sobol, and Nicole D. Sugnet (Lieff Cabraser Heimann & Bernstein LLP), and Jae K. Kim and Richard D. McCune for Donald Lusnak. Mark W. Mosier, Andrew Soukup, and Keith A. Noreika (Covington & Burling LLP), and Peter J. Kennedy and Marc A. Lackner (Reed Smith LLP) for Bank of America, N.A.

Companies: Bank of America, N.A.

MainStory: TopStory AlaskaNews ArizonaNews BankingOperations CaliforniaNews ConsumerCredit DoddFrankAct GuamNews HawaiiNews IdahoNews InterestUsury Loans MontanaNews Mortgages NevadaNews OregonNews Preemption StateBankingLaws TruthInLending WashingtonNews

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