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On March 4, a split U.S. Court of Appeals for the Fifth Circuit, on remand from the U.S. Supreme Court, sent a shareholders’ suit back to the district court for further proceedings consistent with the Supreme Court’s decision in Collins v. Yellen, in which the Supreme Court, relying on its decision in Seila Law LLC v. CFPB, held that FHFA’s leadership structure was unconstitutional because it only allowed the president to fire the FHFA director for cause. (Covered by InfoBytes here.) In Collins, the Supreme Court reviewed the 5th Circuit’s en banc decision stemming from a 2016 lawsuit brought by a group of Fannie Mae and Freddie Mac (GSEs) shareholders against the U.S. Treasury Department and FHFA, in which shareholders claimed that the Housing and Economic Recovery Act of 2008 (Recovery Act), which created the agency, violated the separation of powers principal because it only allowed the president to fire the FHFA director “for cause.” The shareholders also alleged that FHFA acted outside its statutory authority when it adopted a third amendment to the Senior Preferred Stock Purchase Agreements, which replaced a fixed-rate dividend formula with a variable one requiring the GSEs to pay quarterly dividends equal to their entire net worth minus a specified capital reserve amount to the Treasury Department (known as the “net worth sweep”). (Covered by InfoBytes here.) At the time, while the en banc appellate court reaffirmed its earlier decision that FHFA’s structure violated the Constitution’s separation of powers requirements, nine of the judges concluded that the appropriate remedy should be severance of the for-cause provision, not prospective relief invalidating the net worth sweep, stating that “the Shareholders’ ongoing injury, if indeed there is one, is remedied by a declaration that the ‘for cause’ restriction is declared removed. We go no further.”
The split Supreme Court had affirmed the 5th Circuit’s en banc decision regarding the FHFA’s structure, but left intact the net worth sweep and remanded the case to the appellate court to determine “what remedy, if any, the shareholders are entitled to receive on their constitutional claim.” Justice Samuel Alito, who wrote for the majority, stated that “[a]lthough the statute unconstitutionally limited the President’s authority to remove the confirmed Directors, there was no constitutional defect in the statutorily prescribed method of appointment to that office. As a result, there is no reason to regard any of the actions taken by the FHFA in relation to the third amendment as void.”
On remand, the en banc 5th Circuit majority ordered the district court to decide whether the shareholders suffered compensable harm from the unconstitutional removal provision, observing that the Supreme Court left open the possibility that the unconstitutional restriction on the President’s power to remove the FHFA director could have inflicted compensable harm. Noting that the Supreme Court had sketched “possible causes and consequences of such harm along with the Federal Defendants’ denial of any such harm,” the majority stressed that “it became clear” during oral argument that “the prudent course is to remand to the district court to fulfill the Supreme Court’s remand order.”
However, five of the appellate judges dissented from the majority decision on the grounds that nothing in the Supreme Court’s decision precluded the 5th Circuit from deciding the harm issue, pointing out that the appellate court could “easily do so in light of [its] previous conclusion that ‘the President, acting through the Secretary of the Treasury, could have stopped [the Net Worth Sweep] but did not.’” The dissenting judges noted that because the shareholders failed to point to sufficient facts to cast doubt on the 5th Circuit’s previous decision, the appellate court “should modify the district court’s judgment by granting declaratory relief in the Plaintiff’s favor, stating that the ‘for cause’ removal provision as to the Director of the FHFA is unconstitutional. In all other respects, we should affirm.”
On May 3, FHFA published a final rule requiring Fannie Mae and Freddie Mac (GSEs) to develop “credible resolution plans” (also known as “living wills”) to facilitate their rapid and orderly resolution in the event FHFA is appointed receiver per the Housing and Economic Recovery Act of 2008. Similar to the living wills that other large financial institutions are required to develop under resolution planning rules issued by the Federal Reserve Board and the FDIC, the resolution plans will create a roadmap for preserving business continuity should the GSEs fail again. FHFA Director Mark Calabria stressed that the rule “helps create a stronger, more resilient housing finance system by protecting taxpayers and the mortgage market from harm.”
As previously covered by InfoBytes, last December FHFA published a notice of proposed rulemaking seeking to, among other things, implement liquidity and funding requirements for the GSEs. According to FHFA’s fact sheet, public input was incorporated into the final rule’s key components, which include the following requirements:
- The resolution planning process will start with the identification of core business lines.
- Initial resolution plans must be submitted “two years after the effective date of the final rule” with “subsequent resolution plans to be submitted every two years thereafter.”
- Resolution plans must include the following required and prohibited assumptions: (i) an assumption of severely adverse economic conditions; (ii) a prohibition on assuming that the U.S. government will provide or continue to provide “extraordinary support”; and (iii) the reflection of statutory provisions stating “that obligations and securities of the [GSE] issued pursuant to its charter are not guaranteed by the [U.S.] and do not constitute a debt or obligation of the [U.S.].”
- Resolution plans must identify “potential material weaknesses or impediments to rapid and orderly resolution as conceived in its plan,” along with any actions or steps to address the identified weaknesses or impediments.
- Resolution plans must ensure confidentiality of certain information but also make portions available to the public.
- Resolution plans will be reviewed by FHFA to identity whether additional information is needed, as well as any deficiencies or “shortcomings” (defined as supervisory concerns that do not rise to the level of “deficiencies”). Feedback will be provided along with an opportunity for resubmission.
Additionally, FHFA added a 12-month notification requirement to the final rule should the agency decide to alter the resolution plan submission date. FHFA also reserved the authority to further refine submission requirements. The final rule is effective 60 days after publication in the Federal Register.
On February 20, the FHFA and the CFPB announced the release of a new loan-level dataset collected through the National Survey of Mortgage Originations (NSMO). Since 2014, every quarter the FHFA and the CFPB send the NSMO survey to borrowers who recently obtained a mortgage to gather feedback on their experiences, perceptions, and future expectations of the mortgage market. This is the second public use file release of the compiled NSMO data and includes an additional year of mortgage data (2017) as well as information through the third quarter of 2019. The NSMO is a component of the National Mortgage Database, which the FHFA and the CFPB launched in 2012 to help regulators better understand mortgage market trends. The NSMO supports policymaking and research efforts and fulfills the mortgage survey and mortgage market monitoring requirements of the Housing and Economic Recovery Act and the Dodd-Frank Act.
En banc 5th Circuit declares FHFA structure unconstitutional, allows net worth sweep claims to proceed
On September 6, the U.S. Court of Appeals for the 5th Circuit reaffirmed, in an en banc rehearing, that the Federal Housing Finance Agency (FHFA) structure violates constitutional separation of powers requirements and allowed “net worth sweep” claims brought by a group of Fannie Mae and Freddie Mac (government-sponsored entities or GSEs) shareholders to proceed. As previously covered by InfoBytes, GSE shareholders brought an action against the U.S. Department of Treasury and FHFA arguing that (i) the FHFA acted outside its statutory authority when it adopted a dividend agreement that requires the GSEs to pay quarterly dividends equal to their entire net worth to the Treasury Department (known as “net worth sweep”); and (ii) the structure of the FHFA is unconstitutional because it violates separation of powers principles. The district court dismissed the shareholder’s statutory claims and granted summary judgment in favor of the Treasury Department and the FHFA on the separation of powers claim. On appeal, the 5th Circuit agreed with the lower court on the first claim, concluding that the net worth sweep payments were acceptable under the FHFA’s statutory authority and that the FHFA was lawfully established by Congress through the Housing and Economic Recovery Act of 2008 (HERA), which places restraints on judicial review. However, the appellate court reversed the lower court’s decision on the separation of powers claim, concluding that Congress went too far in insulating the FHFA’s single director from removal by the president for anything other than cause, ruling that the agency’s structure violates Article II of the Constitution.
After an en banc rehearing, the appellate court issued two separate majority opinions. Both opinions concluded that (i) the GSE shareholders plausibly alleged that the net worth sweep exceed the powers of the FHFA when acting as a conservator under HERA; and (ii) the FHFA’s structure—which provides the director with “for cause” removal protection—violates the Constitution’s separation of powers requirements. However, the opinions differed on the appropriate remedy, with nine judges concluding that the remedy should be severance of the for-cause provision, not prospective relief invalidating the net worth sweep, stating that “the Shareholders’ ongoing injury, if indeed there is one, is remedied by a declaration that the “for cause” restriction is declared removed. We go no further.”
Various dissenting opinions were issued, including one signed by seven judges concluding that the FHFA acted within its statutory powers under HERA when it adopted the net worth sweep, stating “the FHFA’s ‘powers are many and mostly discretionary.’” In another dissenting opinion, four judges argued that the majority opinions wrongly concluded that the FHFA’s structure is unconstitutional, arguing that there are “only reasons for caution and skepticism, and none for action” in the constitutional claim. “Neither the Constitution’s text, nor the Supreme Court’s constructions thereof, nor the adversary process in this litigation has given us much ground on which to declare the FHFA’s design unconstitutional,” the judges argued.
Given the similarities of the FHFA’s single director structure with that of the CFPB, this case warrants close attention as it has the potential to create a vehicle for consideration by the Supreme Court of the constitutionality of single director agencies.
On July 9, the FHFA sent a letter to the U.S. Court of Appeals for the 5th Circuit notifying the court that the agency has a new Director, Mark Calabria, and that the FHFA has reconsidered its position regarding the constitutionality of its structure, presently concluding the Housing Economic Recovery Act’s (HERA) for-cause removal provision is constitutional. As previously covered by InfoBytes, in July 2018, the 5th Circuit concluded that the FHFA’s single-director structure violates Article II of the Constitution because the director is too insulated from removal by the president. In August 2018, while the agency was still under the leadership of Mel Watt, it petitioned the court for an en banc rehearing, challenging the constitutionality holding. Subsequently, in January, then acting Director, Joseph Otting, filed a supplemental brief stating the agency will no longer defend the constitutionality of the FHFA’s structure. Now, under the leadership of Director Calabria, the agency asserts that it reconsidered the issue, and respectfully requests that the appellate court uphold the agency’s structure as constitutional.
On January 14, acting Director of the FHFA, Joseph Otting, filed a supplemental brief with the U.S. Court of Appeals for the 5th Circuit stating the agency will no longer defend the constitutionality of the FHFA’s structure in the upcoming en banc rehearing. As previously covered by InfoBytes, in July 2018, the 5th Circuit concluded that the FHFA’s single-director structure violates Article II of the Constitution because the director is too insulated from removal by the president. In August, while the agency was still under the leadership of Mel Watt, it petitioned the court for an en banc rehearing, challenging the constitutionality holding. Now, according to the supplemental brief, the FHFA states it “will not defend the constitutionality of [the Housing Economic Recovery Act’s] for-cause removal provision and agrees with the analysis in [the relevant portion] of Treasury’s Supplemental Brief that the provision infringes on the President’s control of executive authority.” The en banc rehearing, which will address the constitutionality issue as well as the plaintiff’s other statutory claims in the case, is scheduled for January 23.
On November 8, the FHFA and the CFPB announced the release of a new loan-level dataset that was collected through the National Survey of Mortgage Originations (NSMO). Since 2014, in each quarter, FHFA and the CFPB send the NSMO survey to borrowers who recently obtained a mortgage to gather feedback on their experiences, perceptions, and future expectations of the mortgage market. This is the first public release of the compiled NSMO data. The NSMO is a component of the National Mortgage Database, which the FHFA and the CFPB launched in 2012 to help regulators better understanding mortgage market trends to support policymaking and research efforts and to fulfill the mortgage survey and mortgage market monitoring requirements of the Housing and Economic Recovery Act (HERA) and the Dodd Frank Act.
On February 21, the U.S. Court of Appeals for the District of Columbia Circuit held that stockholders of Fannie Mae and Freddie Mac (the Companies) could not challenge dividend-allocating terms that FHFA negotiated on behalf of the Companies because the Housing and Economic Recovery Act (HERA) strictly limits judicial review of actions authorized thereunder. Perry Capital LLC v. Mnuchin, No. 14-5243, 2017 WL 677589 (D.C. Cir. Feb. 21, 2017).
In 2008, Fannie and Freddie were placed into conservatorship with FHFA, which then entered into a stock purchase agreement with Treasury to obtain emergency capital for Fannie and Freddie. In exchange, Treasury received preferred shares of stock from Fannie and Freddie that provided for a quarterly dividend of 10 percent of the total funds drawn from Treasury. After Fannie and Freddie began routinely borrowing from Treasury to pay the dividends, FHFA and Treasury amended the stock purchase agreement in 2012 so that repayment would be based on the Companies’ profits rather than mandatory dividends. The stockholder-plaintiffs in this action sought to challenge the 2012 amendment–in particular, arguing that the 2012 amendment exceeded the authority granted to FHFA under HERA and constituted “arbitrary and capricious conduct” in violation of the Administrative Procedure Act. One class of stockholders also argued that the amendment constituted a breach of fiduciary duty and certain terms and covenants of the Companies’ stock certificates. The district court had dismissed both complaints on the motions of FHFA and Treasury.
The D.C. Circuit opinion noted that Section 4617(f) of HERA expressly states that “no court may take any action to restrain or affect the exercise of powers or functions of the Agency as a conservator or a receiver.” The court interpreted this language to prohibit any court from “wielding [its] equitable relief to second-guess either the dividend-allocating terms . . . or FHFA’s business judgment.” And although an exception to this bar on judicial review has been recognized where an agency is found to have exceeded or violated its statutory powers or functions, the court determined that FHFA’s actions were within its statutory powers or functions.
Although the majority of the stockholders’ claims were rejected, the stockholders’ contract-based claims regarding liquidation preferences and dividend rights were remanded to the district court for further proceedings.
Second Circuit Upholds District Court Decision, Applies New York's Six-Year Limitations Period on Contractual Claims
On November 16, the Court of Appeals for the Second Circuit affirmed the Southern District of New York’s decision to dismiss a leading global bank’s complaint against a nonbank mortgage lender alleging breach of contractual obligations to repurchase mortgage loans that violated representations and warranties. Deutsche Bank Nat’l Trust Co. v. Quicken Loans Inc., No. 14-3373 (2nd Cir. Nov. 16, 2015). The bank, under its right as Trustee of the loans, alleged that the lender breached aspects of representations and warranties contained in a 2006 Purchase Agreement, including those related to (i) borrower income; (ii) debt-to-income ratios; (iii) loan-to-value and combined loan-to-value ratios; and (iv) owner occupancy. The bank’s complaint also alleged that it sent the lender a series of notification letters between August 2013 and October 2013 demanding cure or repurchase of the loans, which the lender allegedly failed to do without justification. The bank challenged the District Court’s decision by arguing that New York’s six-year statute of limitations on contractual claims did not apply because the terms of the representations and warranties contained an “Accrual Clause” placing future obligations on the lender. However, the Second Circuit upheld the District Court’s ruling, concluding that the bank’s Accrual Clause only constituted a procedural demand and did not delay the accrual of the cause of action. Specifically, the Second Circuit found that the representations and warranties guaranteed the characteristics and quality of the loans at the time the loans were sold in 2006. As such, the six-year statute of limitations “began to run on the date the [representations and warranties] became effective and were either true or false at that time.” The Second Circuit also found that the Housing and Economic Recovery Act (HERA), which in part delays accrual of claims brought by the Federal Housing Finance Agency (FHFA), did not apply. Because FHFA only filed the summons in state court, and the Trustee filed the federal complaint and prosecuted the action, the Second Circuit found the case was not “brought” by FHFA and thus HERA did not apply.
On March 26, the FHFA Office of Inspector General (OIG) issued a report that concludes the FHFA has failed to actively oversee how Fannie Mae and Freddie Mac monitor counterparty compliance with federal and state consumer protection laws. The OIG review found that the FHFA is vulnerable to questions about why it does not have a strategy to monitor the Enterprises’ activities to assess whether they are aligned with the public interest as reflected in federal and state laws and regulations, and that the Enterprises’ failure to pursue seller repurchase demands related to mortgages in default with no material underwriting deficiencies—but that were originated in violation of consumer protection laws—may result in losses to the Enterprises that could be avoided or mitigated. The OIG concludes that given the FHFA’s duty under HERA to ensure that the activities of the Enterprises are consistent with the public interest, the FHFA should develop and implement a risk-based plan to monitor the Enterprises’ oversight of their counterparties’ compliance with contractual requirements, including consumer protection laws. According to the report, the FHFA has begun to put together a plan to address this oversight role.
- Jedd R. Bellman to discuss “The CFPB’s crackdown on collection junk fees and the growing anti-CFPB rhetoric” at an Accounts Recovery webinar
- Benjamin W. Hutten to discuss “Latest on AML regulations and impact of economic sanctions” at a Mortgage Bankers Association webinar
- Benjamin W. Hutten to discuss “Fundamentals of financial crime compliance” at the Practicing Law Institute
- Benjamin W. Hutten to discuss “Ongoing CDD: Operational considerations” at NAFCU’s Regulatory Compliance & BSA Seminar