On April 17, 2007, in a 5-3 decision, the U.S. Supreme Court in Watters v. Wachovia Bank, No. 05-1342, ruled that Wachovia's mortgage business, whether conducted by the bank itself or through an operating subsidiary, is subject to regulation by the Office of the Comptroller of the Currency (OCC) and not state licensing and regulatory requirements. Members of the insurance industry supporting the proposed optional federal charter (OFC) legislation have been closely monitoring this case, as a contrary decision could have had a negative impact on the provisions in the OFC legislation relating to the ability to convert from a state-licensed insurer to a federally chartered one.
Wachovia Bank is a federally chartered national banking association that, through its wholly owned subsidiary, operates a real estate lending business. The subsidiary—Wachovia Mortgage Corporation (WMC)—does business in Michigan, among other states. Under Michigan law, federal and state banks are themselves exempt from state regulations relating to mortgage lending, but subsidiaries are required to register with the state and submit to state supervision. Although originally registered in Michigan, WMC surrendered its registration upon becoming wholly owned by Wachovia Bank. As a result, the Commissioner of the Michigan Office of Insurance and Financial Services (OIFS) informed WMC that it was no longer authorized to operate its mortgage lending business in Michigan. Wachovia and WMC sued, contending that the Michigan state laws were preempted by the National Bank Act (NBA) and OCC's regulations. By contrast, the OIFS Commissioner argued that, because WMC was not itself a national bank, it was subject to state regulation. In addition, the Commissioner claimed that the U.S. Constitution's 10th Amendment prohibits exclusive federal regulation of the lending activities of national banks and their subsidiaries. The district court granted summary judgment in favor of Wachovia and WMC, and the Sixth Circuit affirmed.
In affirming, the Supreme Court (in an opinion authored by Justice Ginsberg) recognized that the NBA gives the OCC exclusive authority to regulate real estate mortgage lending by national banks. Indeed, the Michigan laws themselves explicitly exempt national banks. Further, the OCC expressly recognizes the right of a national bank to conduct its business through operating subsidiaries. The Court explained: "We have never held that the preemptive reach of the NBA extends only to a national bank itself. Rather, in analyzing whether state law hampers the federally permitted activities of a national bank, we have focused on the exercise of a national bank's powers, not on its corporate structure." Pursuant to this framework, the Court confirmed the Comptroller's determination that "an operating subsidiary is subject to state regulation only to the extent that the parent bank would be if it performed the same functions." Accordingly, the Court held that, because Wachovia Bank was exempt from state regulation, so too was WMC in conducting its mortgage lending business.
The Court also firmly rejected the Commissioner's Tenth Amendment argument, citing prior precedent holding that "if a power is delegated to Congress in the Constitution, the 10th Amendment expressly disclaims any reservation of that power to the States."
Three justices dissented. However, the dissent focused on the statutory construction arguments. The dissenting justices agreed that the 10th Amendment did not preclude the exercise of federal regulatory authority.
Although the Court rejected out of hand the constitutional argument, proponents of the OFC concept in the insurance industry had been concerned by the contention (based on a 1933 Supreme Court precedent) that the right claimed by Wachovia to convert from a state-chartered entity to a federally chartered entity was unconstitutional (as well as unsupported by the language of the NBA). If that argument had been upheld, a core principal of the OFC legislation—the ability to convert from a state insurer to a federal insurer and thus avoid state-by-state regulation—would have been seriously undermined. With this decision, although the statutory construction argument would be newly analyzed based on the express language of any future OFC legislation, advocates of the legislation can take comfort that any constitutional objections to the conversion provisions have been soundly rejected and their often-cited analogy to dual regulation of banks remains credible.