Why it matters

In a potentially troubling ruling, the Second Circuit Court of Appeals refused to find the National Bank Act (NBA) preempted state law usury claims against an assignee of a national bank. In a putative class action against Midland Funding, a borrower alleged that the defendant violated both the Fair Debt Collection Practices Act and New York’s usury law by charging interest at a rate of 27 percent per annum, an interest rate higher than that permitted by New York’s usury law. Midland filed a motion to dismiss, arguing that because it purchased the debt from a national bank, the suit was preempted by the NBA. A federal district court judge granted the motion, but the federal appellate panel reversed, ruling that because Midland Bank was not itself a national bank—nor a subsidiary or agent of a national bank, or even otherwise acting on behalf of a national bank—the protection of the federal statute did not apply. Extending NBA preemption “to third-party debt collectors such as the defendants would be an overly broad application of the NBA” that would “create an end-run around usury laws for non-national bank entities that are not acting on behalf of a national bank,” the panel wrote. However, and aside from arguments that national bank preemption applies to an assignee of a national bank, assignees of loans generally are deemed to take subject to the rights and obligations of the loan seller including any exemption from usury limits. The absence of discussion of the general rule regarding assignment and the resulting holding have caused concern in the loan industry, in particular among peer-to-peer lenders relying on bank partnerships.

Detailed discussion

In 2005, New York resident Saliha Madden opened a credit card account with a national bank, Bank of America. One year later, the credit card program was consolidated into another national bank, FIA Card Services. In 2008, FIA sold Madden’s $5,000 debt on the account to Midland Funding, LLC, a debt purchaser. Affiliate Midland Credit Management handled collection efforts and sent Madden a letter in November 2010 seeking to collect payment on her debt and stating that an interest rate of 27 percent per year applied.

Madden filed a putative class action suit against the defendants, alleging they had engaged in abusive and unfair debt collection practices in violation of the Fair Debt Collection Practices Act (FDCPA) and charged a usurious rate of interest in violation of New York state law, which prohibits interest rates in excess of 25 percent per year.

The defendants responded with a motion for summary judgment, arguing that as an assignee of a national bank, the plaintiff’s claims against them were preempted by the NBA, which permits banks to charge interest at the rate of the state where it is located and provides the exclusive cause of action for usury claims against national banks.

Delaware—where FIA is incorporated—permits banks to charge interest above 25 percent, so the defendants’ rate was legal, they told the court.

The district court judge denied the defendants’ motion for summary judgment, ruling that genuine issues of material fact remained as to whether Madden had received a Cardholder Agreement and Change in Terms when FIA took over her account. If the defendants were able to prove she had received them, however, the judge said her claims would fail because the NBA would preempt any state law usury claims.

To appeal the ruling, the parties entered into a stipulation that Madden had received the documents and that FIA had assigned her accounts to the defendants.

A panel of the Second Circuit Court of Appeals then reversed.

“Because neither defendant is a national bank nor a subsidiary or agent of a national bank, or is otherwise acting on behalf of a national bank, and because application of the state law on which Madden’s claim relies would not significantly interfere with any national bank’s ability to exercise its powers under the NBA, we reverse the District Court’s holding that the NBA preempts Madden’s claims,” the court wrote.

Although the U.S. Supreme Court has “suggested” that NBA preemption may extend to entities beyond a national bank itself—holding that operating subsidiaries and agents of national banks can benefit from NBA preemption—the Office of the Comptroller of the Currency has made clear that third-party debt buyers are distinct from agents or subsidiaries of a national bank, the court said.

“In most cases in which NBA preemption has been applied to a non-national bank entity, the entity has exercised the powers of a national bank—i.e., has acted on behalf of a national bank in carrying out the national bank’s business,” the panel wrote. “This is not the case here. The defendants did not act on behalf of [Bank of America] or FIA in attempting to collect on Madden’s debt. The defendants acted solely on their own behalves, as the owners of the debt.”

Extension of NBA preemption to third-party debt buyers such as the defendants would be an “overly broad” application of the statute, the court added.

“Although national banks’ agents and subsidiaries exercise national banks’ powers and receive protection under the NBA when doing so, extending those protections to third parties would create an end-run around usury laws for non-national bank entities that are not acting on behalf of a national bank,” the panel said.

This conclusion will not “significantly interfere” with the exercise of a national bank power, although it might decrease the amount a national bank could charge for its consumer debt in certain states, the court acknowledged.

The court distinguished contrary rulings from the Eighth Circuit where the national bank retained ownership of the accounts at issue. Just because a national bank originated a credit, the NBA and the associated rule of conflict preemption do not automatically continue to apply to the credit even if the bank sells it and retains no further interest in it, the court explained.

As the district court applied an erroneous NBA preemption finding, the panel also reversed dismissal of Madden’s FDCPA claim and the denial of class certification, remanding the case for a choice of law analysis in the first instance: New York, where the interest rate would be illegal, or Delaware, where the rate was permissible.

Based on the opinion, it is unclear whether the defendants also argued that an assignee of a loan stands in the shoes of the assignor, whether the assignor is a national bank or otherwise. Utilizing this argument, an assignee of a national bank should be entitled to charge the same interest rate that the assignor national bank could charge based on general assignment principles. It is hoped that this argument, if not previously made, will be developed in any request for rehearing or on remand.

To read the opinion in Madden v. Midland Funding, LLC, click here.