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On February 27, Federal Reserve (Fed) Governor Michelle W. Bowman spoke before the Banking Outlook Conference held at the Federal Reserve Bank of Atlanta on ways the Fed can increase transparency and modernize payment services for community banks. Bowman stated that the Fed is “uniquely positioned as a provider of payment services and as a supervisor of banks to ensure that our nation’s evolving financial system works for community banks.” Bowman discussed how the Fed can achieve this objective by, among other things, (i) adopting an additional same-day automated clearinghouse (ACH) window, which “will allow banks and their customers, particularly those located outside the eastern time zone, to use same-day ACH services during a greater portion of the business day”; (ii) implementing FedNow, which would, as previously covered by InfoBytes, “facilitate end-to-end faster payment services, increase competition, and ensure equitable and ubiquitous access to banks of all sizes nationwide”; and (iii) encouraging partnerships between community banks and fintech firms to “leverage the latest technology to provide customer-first, community-focused financial services and provide customers with efficiencies, such as easy-to-use online applications or rapid loan decisionmaking.” Bowman highlighted the Fed’s fintech innovation office hours, as well as the Fed’s recently launched fintech innovation webpage (covered by InfoBytes here), and emphasized the Fed’s desire to hear directly from banks and fintech companies on innovation challenges.
With respect to third-party service providers, Bowman proposed several important initiatives for the Fed to help community banks effectively manage their third-party relationships and access innovative new technology. These include providing clear, consistent due diligence guidance on third-party relationships to provide uniform standards that are aligned with guidance issued by the OCC and other banking agencies. Bowman also suggested increasing the transparency of its third-party supervisory program by releasing information that may be useful about key service providers to community banks, and tailoring regulatory burdens for community banks with assets under $1 billion.
On February 10, Federal Reserve (Fed) Governor Michelle W. Bowman spoke before the Conference for Community Bankers on the interaction between innovation and regulation for community banks. In discussing her “vision for creating pathways to responsible community bank innovation,” Bowman identified particular challenges facing smaller banks when identifying and integrating new technologies and offered suggestions for ways the Fed can assist these banks in managing relationships with third-party service providers. Acknowledging that responsible innovation requires community banks to identify goals and pinpoint products and services to implement their strategies, Bowman recognized that compliance costs can create an outsized and undue burden on smaller banks and stated that federal regulations should be tailored to bank size, risk, and complexity. Among other things, Bowman stated that the Fed could align its third-party service provider guidance with the OCC and other banking agencies to provide uniform standards to banks. “It is incredibly inefficient to have banks and their potential fintech partners and other vendors try to navigate unnecessary differences and inconsistencies in guidance across agencies,” Bowman noted. Regulators and supervisors have a role in easing the burden for community banks, she added, noting that third-party guidance should allow banks to conduct shared due diligence on potential partners and pool resources to avoid duplicating work. In addition, Bowman commented that the Fed could help banks make this choice by publishing a list of service providers subject to regulatory supervision and increasing transparency around “who and what” the Fed evaluates. Bowman further stated that any guidance should also explain what due diligence looks like for potential fintech partners, since standards applied to other third parties may not be universally applicable. Giving community banks a better vision of what success in due diligence looks like, Bowman stated, will require releasing more information on its necessary elements.
Bowman also highlighted the Fed’s upcoming fintech innovation office hours, as well as the Fed’s recently launched fintech website section, (both covered by InfoBytes here), which are designed to help provide access to Fed staff, highlight supervisory observations regarding fintech, provide a hub of information for interested stakeholders on innovation-related matters, and deliver practical tips for banks and other companies interested in engaging in fintech activity.
On January 7, the SEC’s Office of Compliance Inspections and Examinations (OCIE) announced the release of its 2020 Examination Priorities. The annual release of exam priorities provides transparency into the risk-based examination process and lists areas that pose current and potential risks to investors. OCIE’s 2020 examination priorities include:
- Retail investors, including seniors and those saving for retirement. OCIE places particular emphasis on disclosures and recommendations provided to investors.
- Information security. In addition to cybersecurity, top areas of focus include: risk management, vendor management, online and mobile account access controls, data loss prevention, appropriate training, and incident response.
- Fintech and innovation, digital assets and electronic investment advice. OCIE notes that the rapid pace of technology development, as well as new uses of alternative data, presents new risks and will focus attention on the effectiveness of compliance programs.
- Investment advisers, investment companies, broker-dealers, and municipal advisers. Risk-based exams will continue for each of these types of entities, with an emphasis on new registered investment advisers (RIA) and RIAs that have not been examined. Other themes in exams of these entities include board oversight, trading practices, advice to investors, RIA activities, disclosures of conflicts of interest, and fiduciary obligations.
- Anti-money laundering. Importance will be placed on beneficial ownership, customer identification and due diligence, and policies and procedures to identify suspicious activity.
- Market infrastructure. Particular attention will be directed to clearing agencies, national securities exchanges and alternative trading systems, and transfer agents.
- FINRA and MSRB. OCIE exams will emphasize regulatory programs, exams of broker-dealers and municipal advisers, as well as policies, procedures and controls.
On April 4, the Colorado Court of Appeals reversed the trial court’s ruling assessing civil penalties against a foreclosure law firm for allegedly failing to disclose that its principals had an ownership interest in one of its vendors. The appeals court found that the civil penalty was not warranted because the failure to disclose “did not significantly impact members of the public as actual or potential consumers.” According to the opinion, the State of Colorado brought an enforcement action against a foreclosure law firm and its affiliated vendors, alleging, among other things, that the law firm and its vendors violated the Colorado Consumer Protection Act (the Consumer Act) by making “false or misleading statements of fact concerning the price” of their foreclosure services. The State argued that the relationship between the law firm and its vendors allowed the vendors to charge for services in excess of the market rate, pass on those costs to the law firm’s customers, and share a portion of the inflated costs with the law firm. While the trial court rejected two of the State’s claims against the defendants, it concluded that the law firm committed a deceptive practice under the Consumer Act that, “significantly impact[ed] the public as actual or potential consumers,” by failing to disclose its affiliated relationship with one of the vendors.
On appeal, the appellate court rejected the trial court’s conclusion that the alleged deception significantly impacted the public, noting that the deception was confined to two clients, Fannie Mae and Freddie Mac, in the context of their private agreements with the firm. Because the misrepresentation was in the context of a private relationship, and the tax-paying public were not “consumers of the law firm’s services for purposes of the Consumer Act,” the appellate court found the trial court erred when awarding the civil penalties under the Act. Moreover, the appellate court affirmed the trial court’s rejection of the State’s other claims against the law firm.
On April 2, the FDIC issued Financial Institution Letter FIL-19-2019 (Technology Service Provider Contracts), which describes examiner observations about gaps in financial institutions’ contracts with technology service providers (TSPs) that may require financial institutions to take additional steps to manage business continuity and incident response. Although not specifically referenced in FIL-19-2019, this latest FDIC guidance echoes themes set forth in the FDIC’s Office of Inspector General (OIG) Audit Report released in 2017 (covered in Infobytes here). Specifically, examiners noted contractual deficiencies in recent reports of examination, including failing to: (i) adequately define rights and responsibilities regarding business continuity and incident response, or provide sufficient detail to allow financial institutions to manage those processes and risks; (ii) consistently require TSPs to maintain a business continuity plan, establish data recovery standards, and commit to contractual remedies if the TSP missed a data recovery standard; (iii) sufficiently detail the TSP’s security incident responsibilities such as notifying the financial institution, regulators, or law enforcement; and (iv) clearly define key terms used in contractual provisions relating to business continuity and incident response.
FIL-19-2019 further stresses that supervised institutions are required to comply with the Interagency Guidelines Establishing Information Security Standards promulgated pursuant to the GLBA, which among other things sets forth expectations for managing TSP relationships through contractual terms and ongoing monitoring. The FDIC references prior guidance establishing regulatory expectations, including: (i) Guidance for Managing Third-Party Risk (FIL-44-2008, issued June 6, 2008); and (ii) the Business Continuity Booklet set forth in the FFIEC IT Examination Handbook, which was updated in February 2015 to include a new appendix specific to managing service provider risks (Appendix J: Strengthening the Resilience of Outsourced Technology Services). FIL-19-2019 also contains a reminder to depository institutions that the Bank Service Company Act requires depository institutions to provide written notice to their respective federal banking agency of contracts or relationships with TSPs that provide certain services, including check and deposit sorting and posting, computation and posting of interest, preparation and mailing of checks or statements, and other clerical, bookkeeping, accounting, statistical, or similar functions such as data processing, Internet banking, or mobile banking services.
On May 24, the OCC released its Semiannual Risk Perspective for Spring 2018, identifying and reiterating key risk areas that pose a threat to the safety and soundness of national banks and federal savings associations. Priorities focus on credit, operational, compliance, and interest risk, and while the OCC commented on the improved financial performance of banks from 2016 to early 2018, in addition to the “incremental improvement in banks’ overall risk management practices,” the agency also noted that risks previously highlighted in its Fall 2017 report have “changed only modestly.” (See previous InfoBytes coverage here.)
Specific areas of concern noted by the OCC include: (i) easing of commercial credit underwriting practices; (ii) increasing complexity and severity of cybersecurity threats; (iii) use of third-party service providers for critical operations; (iv) compliance challenges under the Bank Secrecy Act; (v) challenges in risk management involving consumer compliance regulations; and (vi) rising market interest rates, including certain risks associated with the “potential effects of rising interest rates, increasing competition for retail and commercial deposits, and post-crisis liquidity regulations for banks with total assets of $250 billion or more, on the mix and cost of deposits.” Additionally, concerns related to integrated mortgage disclosure requirements under TILA and RESPA previously considered a key risk have been downgraded to an issue to be monitored.
On January 18, the OCC announced the release of its Semiannual Risk Perspective for Fall 2017, identifying key risk areas for national banks and federal savings associations. Top supervisory priorities will focus on credit, operational, and compliance risk. As previously discussed in the spring 2017 semiannual report, compliance risk continues to be an ongoing concern, particularly as banks continue to adopt new technologies to help them comply with anti-money laundering rules and the Bank Secrecy Act (BSA), in addition to addressing increased cybersecurity challenges and new consumer protection laws. (See previous InfoBytes coverage here.) The OCC commented that these types of risks can be mitigated by banks with “appropriate due diligence and ongoing oversight.”
Specific areas of particular concern include the following:
- easing of commercial credit underwriting practices;
- increasing complexity and severity of cybersecurity threats, including phishing scams that are the primary method of breaching bank data systems;
- using limited third-party service providers for critical operations, which can create “concentrated points of failure resulting in systemic risk to the financial services sector”;
- compliance challenges under the BSA; and
- challenges in risk management involving consumer compliance regulations.
The report also raises concerns about new requirements under the Military Lending Act along with pending changes to data collection under the Home Mortgage Disclosure Act, which could pose compliance challenges. It further discusses a new standard taking effect in 2020 for measuring expected credit losses, which “may pose operational and strategic risk to some banks when measuring and assessing the collectability of financial assets.”
The data relied on in the report was effective as of June 30, 2017.
CFPB Issues Principles Concerning Security and Transparency for Financial Data Sharing and Third-Party Aggregation
On October 18, the CFPB published guidelines entitled “Consumer Protection Principles” (Principles), which are “intended to reiterate the importance of protecting consumers” when companies, including “fintech” firms, banks, and other financial institutions, get authorization from consumers to access their account data that reside in separate organizations to provide products and services. Earlier this year, industry groups responded to a CFPB request for information and weighed in on the benefits and risks associated with consumers authorizing third parties to access their financial and account information held by financial service providers. (See previous InfoBytes summary here.) Along with the Principles, the CFPB published a summary of stakeholder insights, which highlights the feedback received by the Bureau. Separately, on October 16, Senator Edward J. Markey (D-Mass.) sent a letter to Director Richard Cordray raising concerns about data security during the transfer of consumer data to third-party aggregators and highlighting the need for transparency concerning the use of the data.
The Principles address the following areas: (i) data access; (ii) data scope and usability; (iii) control of data and informed consent; (iv) payment authorizations; (v) data security; (vi) transparency on data access rights; (vii) data inaccuracies; (viii) dispute rights and unauthorized access resolution; and (ix) mechanisms for efficient and effective accountability.
Notably, the Bureau recognized that there already exist statutes and regulations that apply to consumer protections in this market. As such, the Principles “are not intended to alter, interpret, or otherwise provide guidance on—although they may accord with—the scope of those existing protections,” and therefore do not establish “binding requirements.”
On September 18, the Community Home Lenders Association and the Community Mortgage Lenders of America sent a joint letter to Treasury Secretary Mnuchin urging relief for smaller independent mortgage bankers from CFPB supervision, enforcement, and vender management audits. Specifically, the trade groups requested support for legislation that would help eliminate the risk of enforcement actions from the CFPB for smaller nonbanks. The letter cites the conclusions drawn in the Treasury Report on financial regulations, released in June (this report was a product of the February Executive Order, covered by a Buckley Sandler Special Alert). Of particular interest from the trade groups was the report’s conclusion that Congress should repeal the CFPB’s supervisory authority and return the supervision of nonbanks to state regulators.
On August 30, the CFPB posted revisions to its Compliance Management Review Examination Procedures—part of its Supervision and Examination Manual—that is intended to provide guidance for institutions when developing and maintaining compliance management systems (CMS). The Bureau advises that to maintain legal compliance, institutions must integrate and support an effective CMS “into the overall framework for product design, delivery, and administration across their entire product and service lifecycle,” and are required to manage relationships with service providers to ensure compliance with applicable federal consumer financial laws. The CFPB notes that an effective CMS is comprised of two interdependent control components: (i) “Board and Management Oversight”; and (ii) a “Compliance Program,” including policies and procedures, training, monitoring and/or auditing, and consumer complaint response processes. Updates have been made to the Examination Report Template–which provides the scope of review and consumer compliance rating based on the findings of the exam—and the Supervisory Letter Template–which references matters requiring attention or that need to be corrected based on the Bureau’s review.
- Daniel R. Alonso to discuss "The international compliance situation and new challenges" at the World Compliance Association Covid Compliance Conference
- Benjamin W. Hutten to discuss "Understanding OFAC sanctions" at a NAFCU webinar
- Garylene D. Javier to discuss "Navigating workplace culture in 2020" at the DC Bar Conference