A SUPREME COURT order this week forces the Obama administration to make a decision: either save consumers tens of billions of dollars at the expense of debt collectors, car loan specialists, and student lenders, or defend those financial entities.
In a one-line order, the justices on Monday asked Solicitor General Donald Verrilli, the legal representative for the federal government in Supreme Court matters, to file a brief in the case of Madden v. Midland Funding, “expressing the views of the United States.”
In Madden, a class-action case, borrowers argued that loans sold by a bank to a debt collector should be subject to the usury law in New York state, which limits the interest rate that can be charged. The 2nd Circuit Court of Appeals agreed, and Midland Funding appealed to the Supreme Court. Legal experts are following the case closely, since it could, after nearly 40 years, herald a return to prominence for state-based usury laws, a key safeguard against predatory lending.
“Does the White House stand for consumer protection, or will it support Wall Street when no one is looking?” asked Adam Levitin, a law professor at Georgetown University. Levitin, a pioneer of the argument that state usury laws apply to non-banks, believes the White House’s views will likely determine whether the Supreme Court takes the case.
Bank-issued loans are covered by the 1978 Supreme Court decision in Marquette v. First Omaha, which says that a national bank is only subject to the usury statute of its home state, not in the state where the borrower resides. This led to credit card issuers moving to states with low or no usury laws like South Dakota or Delaware, and charging whatever they wanted to customers nationwide. Officials seeking to allow state-chartered banks to compete exempted them from most usury laws, too, effectively eliminating usury caps on bank loans.
But when that bank sells the loan to a non-bank, the 2nd Circuit ruled that the Marquette ruling doesn’t carry over, meaning any loans with interest rates over a state cap would violate the law. Critically, this could also apply to the securitization process, or when a bank sells a loan to a trust that creates bonds for investors.
That would include trillions of dollars in securitized mortgages, auto loans, private student loans, and other debt.
Though the Marquette decision made state usury laws irrelevant, most of them stayed on the books for non-banks. Ohio prohibits consumer loans charging above 21 percent interest. Arkansas’s limit is 17 percent. California takes that down to 10 percent. In most states, loans that violate the usury cap are automatically reduced to the maximum allowable interest rate. In others, usurious loans are considered illegal and void. Claims could possibly be made for back excess interest on already paid loans. In New York, federal racketeering laws have been used to criminally prosecute usury violators.
In other words, the consequences of Madden would be chaotic, at least according to the financial services industry, which routinely securitizes loans and passes them on to non-banks. The industry claims an adverse ruling would melt down securitization markets and restrict access to credit. That’s why Midland Funding appealed the Madden case to the Supreme Court. The Court has not yet decided whether to hear the case; before it does so, it wants the Obama administration to weigh in with its opinion.
“Trying to figure out what’s going on with the Supreme Court is our version of Kremlinology, but we can piece this together,” Levitin, the Georgetown professor, told The Intercept. “You need four votes to grant cert [certiorari, or an agreement to review a lower-court decision]. If they had four votes, why bother to ping the solicitor general? One justice is probably saying, if the solicitor general says take it, I’ll feel more comfortable.”
If the administration advises the court to hear Madden, it would presumably signal that it wants the Court to overturn the 2nd Circuit ruling, which would be a victory for the financial industry.
Legal experts expect the solicitor general to honor the court’s request. “It’s the kind of invitation you don’t decline,” said Samuel Bagenstos, a law professor at the University of Michigan. He expected the solicitor general to file the brief by May, so the justices could rule on whether to take the case before recessing for the summer.
If the Supreme Court upholds the 2nd Circuit ruling, banks could still issue high-interest loans if they keep them on their books. But if they sell them, they would have to comply with state usury laws. “That shouldn’t be too hard, banks deal with differing 50-state regulations all the time,” said Levitin. And, he added, they could acquire insurance to deal with any fallout from prior loans. The overall effect would be to limit the prevalence of high-cost loans, or to force banks to assume the risk of issuing them.
Given the vacancy on the Court due to Justice Antonin Scalia’s death, a 4-4 deadlock would uphold the 2nd Circuit but only apply to that district. A case from earlier this week, also about bank loans (specifically, whether anti-discrimination rules apply to the spouses of the borrower), produced a 4-4 tie, meaning different circuits will now have different standards.
Similar uncertainty and differentiation in the Madden case could spark Congress to implement a national usury standard, which the government has been moving toward in some areas. The Consumer Financial Protection Bureau’s “ability to pay” rule for mortgages operates like a modern usury law, for example, putting more restrictions on higher-cost products.
While easily overlooked, the administration’s response to the Court will have large implications for the future of consumer protection. And it goes all the way to the top, Levitin said. “If the president tells the solicitor general to do something, he’s going to do it.”