Ninth Circuit Holds National Banks Must Comply With State Laws Requiring Interest on Mortgage Escrow Accounts

National banks have long argued for broad preemption of state laws that would otherwise apply to their activities, and their federal regulator, the Office of the Comptroller of the Currency (OCC) has often gone along. In an important decision issued Friday, the U.S. Court of Appeals ruled that preemption is more limited than the banks and OCC would like to believe it is.

The decision, in a case called Lusnak v. Bank of America, holds that a California law requiring mortgage lenders to pay interest on escrow accounts is not preempted as applied to national banks. Bank of America had refused to comply with California's law, claiming preemption.

A federal district court agreed with the bank and dismissed a class action on behalf of California borrowers who had received no interest on their escrow accounts. The Ninth Circuit reversed.

The court relied heavily on a provision of the Dodd-Frank Act saying that a state consumer financial protection law affecting national banks 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). The law requiring payment of interest on escrow accounts, the court held, didn't prevent national banks from exercising their power to engage in mortgage lending, nor did it significantly interfere with mortgage lending.

In so holding, the court relied in part on another Dodd-Frank provision that says mortgage lenders must comply with applicable state laws requiring interest on escrow accounts. Congress wouldn't have said that, the court reasoned, if it thought interest requirements significantly interfered with lending.

Importantly, however, the court stressed that Dodd-Frank didn't change the preemption standard that was already applicable before its enactment. Instead, Dodd-Frank just clarified the limits the Supreme Court announced on National Bank Act preemption in Barnett Bank v. Nelson, 517 U.S. 25 (1996), which in the court's view already restricted preemption to laws that prevent or significantly interfere with the exercise of national banks' powers. Thus, the court held that even before Dodd-Frank's preemption language and its section about interest on escrow accounts became law, California was free to apply its law to national banks. The court also noted repeatedly that OCC's more restrictive views about preemption were inconsistent with both Barnett Bank and Dodd-Frank. 



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