Weekly RoundUp August 26, 2020

Financial Services Weekly Roundup: Madden Fix/Valid When Made Rule Faces New Challengers

Editor’s Note

In the News. On the heels of a lawsuit challenging the Office of the Comptroller of the Currency’s (OCC) recently issued Madden fix/valid when made rule, eight state attorneys general filed suit challenging a similar rule adopted by the Federal Deposit Insurance Corporation (FDIC). Meanwhile, the Federal Housing Finance Agency (FHFA) announced that it had directed Fannie Mae and Freddie Mac to delay the implementation date of their Adverse Market Refinance Fee; the Small Business Administration (SBA) issued an interim final rule revising the Paycheck Protection Program’s (PPP) owner-employee compensation rule and clarifying loan forgiveness for certain non-payroll costs; the Consumer Financial Protection Bureau (CFPB) issued a request for information (RFI) to examine the impact of the rules that implement the Credit Card Accountability Responsibility and Disclosure Act of 2009 (CARD Act) and extended the comment period on its RFI seeking input on ways to identify opportunities to promote fair, equitable and nondiscriminatory access to credit; the federal banking agencies and Financial Crimes Enforcement Network (FinCEN) issued a joint statement clarifying Bank Secrecy Act due diligence requirements for customers who may be considered politically exposed persons; the Alternative Reference Committee (ARRC) developed a set of recommended best practices to assist market participants in preparing for the cessation of U.S. dollar (USD) LIBOR by the end of 2021; and the FDIC proposed significant new changes to its supervisory appeals process and proposed a new Statement of Policy to enhance the agency’s efforts to encourage and preserve Minority Depository Institutions. These and other developments are covered in more detail below.

We also invite you to visit Goodwin’s Coronavirus Knowledge Center and Consumer Financial Services Industry COVID-19 Hub, which are updated regularly, to learn how cross-industry teams at Goodwin are helping clients to fully understand and assess the ramifications of COVID-19,  navigate the potential effects of the outbreak on their businesses and evaluate whether and how to safely reopen. 

The Roundup will be on hiatus for the next two weeks due to the Labor Day holiday. We will resume publication on September 16.

Editor’s Note
Editor’s Note
Editor’s Note

Regulatory Developments

FHFA Delays Controversial GSE Adverse Market Refinance Fee to December 1

On August 25, the FHFA announced that it had directed Fannie Mae and Freddie Mac (the Enterprises) to delay the implementation date of their Adverse Market Refinance Fee from September 1, 2020 to December 1, 2020. The FHFA also announced that the Enterprises will exempt refinance loans with loan balances below $125,000, nearly half of which are comprised of lower income borrowers at or below 80% of area median income, from the fee. Affordable refinance products, Home Ready and Home Possible, are also exempt. As discussed in last week’s Roundup, the 50 basis points fee had quickly become subject to heavy criticism from trade organizations, public interest groups and members of Congress.

SBA Issues Interim Final Rule Revising PPP’s Owner-Employee Compensation Rule and Clarifying Loan Forgiveness for Certain Non-Payroll Costs 

On August 24, the SBA issued an interim final rule revising the PPP’s owner-employee compensation rule and clarifying loan forgiveness for certain non-payroll costs. Specifically, the interim final rule exempted owner-employees with less than a 5% ownership stake in a C- or S-Corporation from the owner-employee compensation rule’s limitations on the amount of loan forgiveness for payroll compensation attributable to an owner-employee. In revising the rule, the SBA determined that owner-employees at this threshold cannot meaningfully influence decisions about the use of PPP loan proceeds.

The interim final rule also clarified that the amount of loan forgiveness requested for nonpayroll costs may not include any amount attributable to the business operation of a tenant or sub-tenant of the PPP borrower or, for home-based businesses, household expenses. Rent payments to a related third-party are eligible for forgiveness as long as (1) the amount of loan forgiveness requested for rent or lease payments to a related party is no more than the amount of mortgage interest owed on the property during the covered period that is attributable to the space being rented by the business, and (2) the lease or the mortgage were entered into prior to February 15, 2020.

CFPB Requests Information on the Impact of the CARD Act Regulations on Small Entities and the Consumer Credit Card Market

On August 25, the CFPB issued a request for information (RFI) to examine the impact of the rules that implement the CARD Act. In the RFI, the CFPB is seeking public input on the CARD Act rules’ economic impact on small entities and whether the regulations should be continued without change or be amended or rescinded. The CFPB is also requesting comments from the public on how the consumer credit card market is functioning as part of a CFPB review required by the CARD Act. Comments must be received within 60 days after the RFI’s publication in the Federal Register.

CFPB Extends Comment Period on Request for Information on Ways to Prevent Credit Discrimination and Build a More Inclusive Financial System

On August 3, the CFPB published a request for information seeking public comment on ways to identify opportunities to prevent credit discrimination, encourage responsible innovation, promote fair, equitable, and nondiscriminatory access to credit, address potential regulatory uncertainty, and develop viable solutions to regulatory compliance challenges under the Equal Credit Opportunity Act and Regulation B. On August 19, the CFPB extended the deadline for public comment an additional 60 days, from October 2, 2020 to December 1, 2020, to provide interested parties more time to conduct outreach to constituencies and to address the many issues raised in the RFI. The information received from public comment is intended to help the CFPB continue to explore ways to address regulatory compliance challenges while fulfilling its core mission to prevent unlawful discrimination and foster innovation.

Federal Banking Agencies and FinCEN Issue Joint Statement on BSA Due Diligence Requirements for Politically Exposed Persons

On August 21, the Board of Governors of the Federal Reserve System, FDIC, Office of the Comptroller of the Currency, National Credit Union Administration and FinCEN issued a joint statement clarifying that Bank Secrecy Act (BSA) due diligence requirements for customers who may be considered politically exposed persons (PEPs) should be commensurate with the risks posed by the PEP relationship. The statement clarifies that, while banks must adopt appropriate risk-based procedures for conducting customer due diligence (CDD), the CDD rule does not create a regulatory requirement and there is no supervisory expectation for banks to have unique, additional due diligence steps for customers who are considered PEPs. This joint statement does not alter existing BSA and anti-money laundering legal or regulatory requirements and does not require banks to cease existing risk management practices.

FDIC Proposes Changes to Its Supervisory Appeals Process

On August 21, the FDIC approved a proposal to amend its Guidelines for Appeals of Material Supervisory Determinations. The most significant change in the proposal would be to replace the current Supervision Appeals Review Committee with an independent, standalone Office of Supervisory Appeals (Office) within the FDIC. The Office would have final authority to resolve appeals and would be independent within the FDIC organizational structure. The Office would be staffed by individuals with bank supervisory or examination experience. To further promote its independence, the FDIC would recruit externally to staff the Office. If the changes are adopted, an institution unable to resolve a disagreement regarding a material supervisory determination with the examiner or the appropriate Regional Office or Division Director would be able to appeal that determination to the Office. Comments to the proposal are due on October 20, 2020.

FDIC Proposes to Update Policy Statement on Minority Depository Institutions

On August 21, the FDIC approved a new proposed Statement of Policy to enhance the agency’s efforts to encourage and preserve Minority Depository Institutions (MDIs). The proposed revisions would update, strengthen and clarify the FDIC’s policies and procedures related to the agency’s existing MDI framework. Specifically, the proposed revisions describe the initiatives the FDIC has taken and will take to promote the preservation of MDIs and enhance communication between the FDIC and these minority-owned and managed institutions. The proposed Statement of Policy would also define the program terms for technical assistance, training, education and outreach. Finally, it offers an explanation of how the FDIC applies examination standards in assessing the performance of MDIs. Comments on the proposal are due 60 days from the proposal’s publication in the Federal Register.

ARRC Recommended Best Practices for Completing the Transition from LIBOR

The Alternative Reference Committee (ARRC) developed a set of recommended best practices to assist market participants in preparing for the cessation of U.S. dollar (USD) LIBOR by the end of 2021. With 18 months left, the ARRC developed the following recommendations:

  • To the extent not already utilized, new USD LIBOR cash products should include ARRC recommended (or substantially similar) fallback language as soon as possible.
  • As the ARRC has previously noted, third-party technology and operations vendors relevant to the transition should complete all necessary enhancements to support Secured Overnight Financing Rate (SOFR) by the end of this year.  
  • New use of USD LIBOR should stop, with timing depending on specific circumstances in each cash product market.
  • For contracts specifying that a party will select a replacement rate at their discretion following a LIBOR transition event, the determining party should disclose their planned selection to relevant parties at least six months prior to the date that a replacement rate would become effective.

In addition to a set of Objectives that the ARRC issued to promote the transition away from LIBOR, the ARRC recommends that hardwired fallbacks and operational updates be incorporated as soon as possible, but not later than the recommended timelines for each product. The ARRC also provided financial institutions with following next steps:

  • Financial Institutions should take active steps to meet the timelines with respect to floating rate loans, business loans, consumer loans, securitizations and derivatives.
  • Financial institutions should have clear internal programs in place to prepare for a transition away from USD LIBOR across all of their relevant activities, including a rigorous assessment of exposures. They should refer to the ARRC’s Practical Implementation Checklist for SOFR Adoption.
  • Institutions should be aware of additional ARRC recommendations, such as the ARRC’s selection of SOFR as a replacement rate for USD LIBOR, and should incorporate additional ARRC recommended conventions into new contracts to support robust contract language in the event that USD LIBOR is no longer usable. Further, institutions should have ongoing dialogue with their key stakeholders to promote awareness of the transition and their preparedness for it.

Highlights From the Proposed Carried Interest Regulations

The U.S. Treasury Department and the Internal Revenue Service recently released proposed carried interest regulations under Section 1061 of the Internal Revenue Code of 1986, as amended. The proposed regulations are a welcome confirmation that Section 1061 should be applied in accordance with a plain reading of the statue and consistently with long-standing partnership tax principles. Read the client alert to learn more about the proposed regulations.

Litigation and Enforcement

States Sue FDIC for Madden Fix

On August 20, eight state attorneys general sued the FDIC, challenging the FDIC’s June 2020 final rule, which, as previously reported in the Roundup, affirms that interest on a loan permissible under Section 27 of the Federal Deposit Insurance Act would not be affected by changes in state law, changes in the commercial paper rate after the loan was made, or the sale, assignment or other transfer of the loan. The lawsuit takes aim at the FDIC final rule’s alleged facilitation of “predatory lending through sham ‘rent-a-bank’ partnerships designed to evade state law,” such as usury laws. The lawsuit also alleges that the valid-when-made doctrine is invalid, that the FDIC final rule is contrary to law and Congress’ intent, and that the FDIC exceeded its rulemaking authority and failed to follow proper rulemaking processes, thus resulting in regulatory action that is arbitrary, capricious, an abuse of discretion and otherwise not in accordance with law. The states bringing the lawsuit are California, Illinois, Massachusetts, Minnesota, New Jersey, New York, North Carolina and Washington, D.C.

California, Illinois and New York had previously filed suit against the OCC, challenging its similar final rule adopted in May 2020. For additional information regarding the suit against the OCC’s “valid when made” rule, read the LenderLaw Watch blog post.

Goodwin News

Goodwin Debt Finance Team Completes First-Ever Securitization of Trapped Capital, Devising Unprecedented Solution to Reinsurance Industry Challenge

Continuing Goodwin’s legacy of devising unprecedented legal solutions and structures at the intersection of capital and innovation, the Debt Finance team advised ILS Capital Management on the first-ever securitization of trapped capital, investor funds that are temporarily held by counterparties and thus unavailable for reinvestment until insurance claims are settled. The Bermuda-based investment firm specializing in insurance and reinsurance investments utilized the innovative structure in the completion of its $57 million offering of 5.50% asset-backed notes, a securitization of the residual value of trust accounts supporting reinsurance contracts. The transaction paves the way for similar reinsurance securitizations benefitting investors, with the potential to unlock a substantial portion of the industry's $15 billion in trapped capital.

What’s Next? A Path Forward in Uncertain Times

In light of the recent global pandemic, Goodwin’s interdisciplinary team of lawyers presents various types of financings and investment structures applicable in current market conditions in a new webinar series, “What’s Next? A Path Forward in Uncertain Times.” This multi-part series explores the financing transactions and topics that are most relevant for companies and investors at a time where valuations are uncertain and companies across industries need capital. Visit the website to learn more, register for upcoming webinars and access previous events.

This week’s Roundup contributors: Josh Burlingham, Alex Callen and Angelica Rankins.