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Federal Reserve Releases Paper Studying the Evolution and Forward Looking Growth of Fintech
On August 1, the Federal Reserve Board released a paper on the origins and growth of financial technology, and how these “deep innovations” have the potential to affect financial stability. The paper, “FinTech and Financial Innovation: Drivers and Depth,” was authored by John Schindler and adapted from a speech prepared for Banco Central do Brasil’s XI Annual Seminar on Risk, Financial Stability and Banking. Fintech, according to Schindler’s adaptation of the Financial Stability Board’s definition, is best understood as a “technologically enabled financial innovation that could result in new business models, applications, processes, products, or services with an associated material effect on financial markets and institutions and the provision of financial services.” Schindler considers the following to fall into the definition of fintech: (i) online marketplace lending; (ii) equity crowdfunding; (iii) robo-advice; (iv) financial applications of distributed ledger technology; (v) and financial applications of machine learning (also called artificial intelligence and machine intelligence). The paper provides a deeper discussion into the following topics driving fintech innovation:
- supply and demand factors of financial innovation, including regulatory changes and changes to financial or macroeconomic conditions, contributing to the use of technologies supporting fintech financial products and services;
- depth of innovations such as peer to peer lending, high frequency trading, mobile banking and payments, bitcoin, and blockchain all with the “potential to have transformational effects on the financial system”; and
- demographic demands.
Schindler’s position is that fintech evolved, in large part, due to a combination of a number of supply and demand factors occurring in a relatively small period of time, which, as a result, drove new financial innovations.
Amendments and Proposal to TRID Rule Published in Federal Register, Comments Due October 10
As previously reported in a Special Alert, the CFPB issued amendments to its TILA/RESPA Integrated Disclosure rule, which importantly included a concurrent proposal to address the “black hole” issue that prevents creditors from resetting tolerances using the Closing Disclosure except in very limited circumstances. On August 11, the Bureau published the amendments in a final rule and the proposal in the Federal Register. The final rule takes effect October 10, 2017 with mandatory compliance by October 1, 2018. Comments on the proposal are due October 10, 2017.
OCC Updates Comptroller’s Licensing Manual Booklet to Provide Guidance on Failure Acquisitions
On August 3, the Office of the Comptroller of the Currency (OCC) released OCC Bulletin 2017-26 announcing a revised version of its “Failure Acquisitions” booklet designed to provide guidance on several policies and procedures impacting national banks and federal savings associations interested in acquiring a failed depository institution through the FDIC’s bidding process. The booklet, which is part of the Comptroller’s Licensing Manual, covers:
- an overview of the process banks must follow when submitting a purchase and assumption (P&A) application, which requires OCC approval before a bank can begin the FDIC bidding process;
- considerations undertaken by the OCC when reviewing a P&A application;
- a description of the process and elements of the application, including public notice and competitive factors, as well as legal and accounting standards; and
- references and links to informational resources.
Buckley Sandler Special Alert: CFPB Releases Four Prototype Overdraft Disclosure Forms and a Report on Frequent Overdrafters
On August 4, the CFPB released four new prototype overdraft opt-in model disclosure forms and a report titled “Data Point: Frequent Overdrafters.” A summary of the forms and report are provided below. The prototype forms are still in the process of being developed, and the Bureau is requesting feedback as it works toward finalizing them, but the prototypes are intended to replace the current model form A-9 found in Appendix A of Regulation E. The report focuses on bank customers who overdraft their accounts more than 10 times per year and provides context to the Bureau’s concerns on the impact overdraft services may have on financially vulnerable consumers.
Although overdrafts have long been a focus of the CFPB’s enforcement and supervisory activities, this represents the first sign of movement by the Bureau toward the potential new overdraft services rulemaking listed on its 2017 rulemaking agenda, which is currently in the pre-rule stage. We anticipate that aspects of the approach and language contained in these prototype forms may eventually make their way into account agreements. We invite you to review the forms and report to gain insight into the CFPB’s view of overdraft services and the types of concerns the Bureau may attempt to address in future rulemaking.***
Click here to read full special alert.If you have questions about the report or other related issues, please visit our Retail Banking practice page, or contact a Buckley Sandler attorney with whom you have worked in the past.
FINRA to Host AML Seminars
On August 2, the Financial Industry Regulatory Authority (FINRA) announced that it will host a series of anti-money laundering (AML) seminars for compliance professionals, led by managers of the FINRA AML Unit. The seminars on October 19 (Dallas, Texas), November 7 (Boca Raton, Florida), and November 13 (New York, NY) will discuss money laundering fundamentals and typologies, applicable rules and regulations, and guidelines for monitoring for suspicious activity.
Federal Reserve Issues Guidance Regarding Roles of Bank Boards, Requests Comments on New SIFI Rating System
Guidance Regarding Roles of Bank Boards.
On August 3, the Federal Reserve (Fed) took an important step towards easing the heavy regulatory burden placed on the boards of directors at the largest U.S. banking organizations, when it issued for public comment a corporate governance proposal intended to “enhance the effectiveness of boards of directors” and “refocus the Federal Reserve supervisory expectations for the largest firms’ boards of directors on their core responsibilities, which will promote the safety and soundness of the firms.”
The proposal is a result of a multi-year review conducted by the Fed of practices of boards of directors, particularly at the largest banking institutions. The Fed focused on the challenges boards face, the factors that make boards effective, and the ways in which boards influence the safety and soundness of their firms and promote compliance within. The key takeaways of this review included:
- supervisory expectations for boards of directors and senior management have become increasingly difficult to distinguish;
- boards devote a significant amount of time satisfying supervisory expectations that do not directly relate to board’s core responsibilities; and
- boards of large financial institutions face significant information flow challenges, which can result in boards being overwhelmed by the complexity and quantity of information received.
The Fed expects that these issues can be remediated by allowing banks to refocus on their core responsibilities, including: (i) developing the firm’s strategy and risk tolerance; (ii) overseeing senior management and holding them accountable for effective risk management and compliance; (iii) supporting the independence of the firm’s independent risk management and internal audit functions; and (iv) adopting effective governance practices.
In April, Fed Governor Jerome Powell indicated that the financial crisis led to a “broad increase in supervisory expectations” for these boards of directors, but cautioned that the Fed needs to “ensure that directors are not distracted from conducting their key functions by overly detailed checklist of supervisory process requirements.” Explaining that the Fed was reassessing its supervisory expectations for boards, Powell stated “it is important to acknowledge that the board’s role is one of oversight, not management.”
The proposed guidance better distinguishes the supervisory expectations for boards from those of senior management, and includes new criteria by which the Fed will assess bank boards. The Fed describes effective boards as those which:
- set clear, aligned, and consistent direction regarding the firm’s strategy and risk tolerance;
- actively manage information flow and board discussions;
- hold senior management accountable;
- support the independence and stature of independent risk management and internal audit; and
- maintain a capable board composition and governance structure.
The proposal also clarifies expectations regarding internal communications within firms for communicating supervisory findings internally, stating that for all supervised firms, most supervisory findings should be communicated to the firm's senior management for corrective action, rather than to its board of directors. Such findings would only be directed to the board for corrective action when the board needs to address its corporate governance responsibilities or when senior management fails to take appropriate remedial action.
While the proposal does not address all of the post-crisis challenges faced by bank boards, it is a welcome message to the industry that the Fed recognized the need to recalibrate their expectations. The proposal also identifies existing supervisory expectations for boards of directors that could be eliminated or revised and notes that the Fed intends to continue assessing whether its expectations of bank boards require further changes.
New SIFI Rating System.
On August 3, the Fed also issued for public comment a new risk rating system for Large Financial Institutions (“LFI”s) that would replace the RFI rating system for bank holding companies with total consolidated assets of $50 billion or more; non-insurance, non-commercial savings and loan holding companies with total consolidated assets of $50 billion or more; and U.S. intermediate holding companies of foreign banking organizations established pursuant to the Fed’s Regulation YY. (The Fed will continue to use the same RFI rating system that has been in place since 2004 to evaluate community and regional bank holding companies.)
The LFI rating system is designed to evaluate LFIs on whether they possess sufficient financial and operational strength and resilience to maintain safe and sound operations through a range of conditions. The system would consist of three chief components:
- Governance and Controls
- board of directors
- management of core business lines and independent risk management and controls and
- recovery planning (for domestic bank holding companies subject to LISCC);
- Capital Planning and Positions; and
- Liquidity Risk Management and Positions.
The Governance and Control component would evaluate a LFI’s effectiveness in ensuring that the firm’s strategic business objectives are safely within the firm’s risk tolerance and ability to manage the accordant risk. The component will focus on LFIs’ effectiveness in maintaining strong, effective and independent risk management and control functions, including internal audit and compliance, and providing for ongoing resiliency.
The second and third components are intended to incorporate LFI supervision activities, including CCAR and CLAR, which will be directly reflected within the respective component ratings–resulting in a more comprehensive supervisory approach than the RFI rating system which did not incorporate the results of those supervisory activities.
Each LFI would receive a component rating using a multi-level scale (Satisfactory/Satisfactory Watch, Deficient-1 and Deficient-2). “Satisfactory Watch” would indicate that a firm is generally considered safe and sound, however certain issues require timely resolution. Any Deficiency rating would result in that LFI being considered less than “well managed.”
OCC, Federal Reserve Solicit Public Comments on Volcker Rule
On August 2, the OCC announced it is seeking public comments on ways to improve regulations implementing the Volcker Rule, however the agency stressed it is not seeking comment on changes to the underlying statute. The draft notice outlines issues with the rule, which bans banks from engaging in proprietary trading and restricts their ownership of certain funds, explaining that there is “broad recognition that the final rule [implementing the Volcker Rule] should be improved both in design and in application.” Referring to the Treasury Department’s June 2017 report, which identified problems with the design of the final rule and offered recommendations for revision, the OCC’s notice asked for suggestions on how to improve implementation with the understanding that any revisions would require a joint undertaking by the OCC, Board of Governors of the Federal Reserve System, the FDIC, and consultation with the SEC and the CFTC. Specifically, the notice seeks comments in the following four areas: (i) scope of entities subject to the final rule; (ii) proprietary trading prohibitions; (iii) covered fund prohibitions; and (iv) requirements for compliance program and metrics reporting.
Comments must be received within 45 days from publication in the Federal Register.
Separately, on August 2, the Board of Governors of the Federal Reserve System (Fed) issued a notice seeking comment on whether to extend for three years the Reporting, Recordkeeping, and Disclosure Requirements Associated with Proprietary Trading and Certain Interests in and Relationships with Covered Funds (Regulation VV). Regulation VV imposes information reporting requirements on certain banks engaged in significant trading activities, to ensure compliance with the Volcker Rule. Among other things, the Fed invited comment on whether the proposed collection of information is necessary and has practical utility, and ways to enhance the quality, utility, and clarity of the collected information, while minimizing the burden on respondents. In its notice, the Fed stated that the information collection “is required in order for covered entities to obtain the benefit of engaging in certain types of proprietary trading or investing in, sponsoring, or having certain relationships with a hedge fund or private equity fund, under the restrictions set forth in [the Volcker Rule].”
Comments must be received by October 2, 2017.
FTC Approves Modifications to COPPA Safe Harbor Program
On July 31, the FTC announced it has approved TRUSTe’s proposed modifications to its Children’s Online Privacy Protection Rule's (COPPA) safe harbor program. As previously covered in InfoBytes, COPPA regulates what websites and online services are required to do to ensure the protection of children’s privacy and safety online. The safe harbor program allows the FTC to review and approve “self-regulatory guidelines” submitted by industry groups that implement “the same or greater protections for children” as those contained in the COPPA Rule, and subjects approved groups to safe harbor review and disciplinary procedures instead of formal enforcement action. Among the approved modifications is a change which requires all participants to conduct a comprehensive annual internal assessment of any third-party or service provider that collects personal information from children on their websites or through online services.
OCC Files Motion to Dismiss CSBS Suit Over Fintech National Bank Charter
On July 28, the OCC filed a motion in the U.S. District Court for the District of Columbia to dismiss a lawsuit brought by the Conference of State Bank Supervisors (CSBS) challenging the OCC’s fintech charter. See Conf. of State Bank Supervisors v. Office of the Comptroller of the Currency, Case 1:17-cv-00763-JEB (D.D.C. Jul. 28, 2017). In a memorandum supporting its motion to dismiss, the OCC argued that CSBS does not have standing to bring the case because the OCC has not yet come to a decision on whether it will make special purpose national bank charters available to fintech companies and other nonbank firms, and therefore, “[n]o tangible effect on CSBS or CSBS's members could even arguably occur until a 5.20(e)(1) Charter has been issued to a specific applicant.” For similar reasons, the OCC argued that the case was not ripe for judicial review.
Addressing the merits, the OCC cited Independent Community Bankers Ass’n of South Dakota, Inc. v. Board of Governors of the Federal Reserve System, 820 F.2d 428 (D.C. Cir. 1987), cert. denied, 484 U.S. 1004 (1988), arguing that the ruling confirms its authority to issue special purpose bank charters and “illustrates that the legal concept of a special purpose national bank power is not novel or unprecedented, but rather follows a decades-old OCC practice.” The OCC further argued that under the National Bank Act, the OCC’s interpretation of “the business of banking”—in which a special purpose bank “must conduct at least one of the following three core banking functions: receiving deposits; paying checks; or lending money”—deserves Chevron deference.
As previously discussed in a Special Alert, CSBS claimed the fintech charter violates the National Bank Act, Administrative Procedure Act, and the U.S. Constitution, and that the OCC has acted beyond the legal limits of its authority. Furthermore, CSBS asserts that providing special purpose national bank charters to fintech companies “exposes taxpayers to the risk of inevitable [fintech] failures.”
However, shortly after the OCC’s motion was filed, a federal judge ordered that the OCC’s motion to dismiss be stricken based on excessive footnoting. The judge, in a minute order on the docket, cited that the excessive number of footnotes “appear[] to be an effort to circumvent page limitations.” On August 2, the OCC filed a renewed motion to dismiss.
FTC to Host Joint Conference on Protecting Military Consumers
On July 27, the FTC announced it is partnering with state and local authorities to host the Protecting Military Consumers: A Common Ground Conference on September 7 in Los Angeles to provide training on consumer fraud and other issues affecting servicemembers and their families. The conference is geared towards military attorneys, law enforcement personnel, and consumer protection officials, and will include the following topics:
- student loans and for-profit colleges;
- identity theft and imposter scams;
- debt collections;
- mortgage disputes; and
- real estate fraud.
Additionally, the conference will discuss several federal, state, and local consumer protection laws, including the Servicemembers Civil Relief Act, the Military Lending Act, and FTC and CFPB rules and regulations.
Earlier in July, the FTC held a Military Consumer Financial Workshop to educate consumers on financial issues and scams they may face. (See previous InfoBytes coverage here.)