OCC Stakes Out a Lead Role in Establishing New Deregulatory Agenda

Under acting Comptroller Keith A. Noreika, one of the first financial regulatory agency appointees put in place by the Trump administration, the Office of the Comptroller of the Currency (“OCC”) has staked out a position as the first of the federal banking agencies to take substantial steps to implement a new financial deregulatory agenda.

Recently, the OCC issued a notice (the “Notice”) seeking public input regarding changes to the Volcker Rule. The Notice asks for public comment, including data supporting any suggestions, on revising the Volcker Rule. The deadline for comments in response to the Notice is September 21, 2017.

The OCC’s efforts on financial regulatory matters have not been limited to the Volcker Rule. Acting Comptroller Noreika is advocating a reduction of “regulatory redundancy” by, among other things, lightening regulatory burdens on banks and other financial institutions, as well as shifting regulatory authority and powers from other banking agencies to the OCC in a number of areas, including:

• Streamlining the regulatory oversight of bank holding companies (“BHCs”) by providing the appropriate federal banking agency with sole examination and enforcement authority for most BHCs and thus, eliminating Board of Governors of the Federal Reserve System (“Board” or “Federal Reserve”) oversight;
• Recognizing a potentially increasing trend of banks that are considering elimination of their BHCs for regulatory and strategic reasons by proposing elimination of certain outdated corporate governance requirements for national banks;
• Continuing the efforts of prior OCC leadership to encourage applications for special purpose nonbank charters from fintech companies;
• Expanding and speeding the granting process for de novo national bank charters by limiting the role of the Federal Deposit Insurance Corporation (“FDIC”); and
• Arbitration, on which the agency has engaged in more or less direct conflict with the Consumer Financial Protection Bureau (“CFPB”) over a recent CFPB final rule regarding arbitration clauses in agreements between financial services companies and consumers.

These areas are discussed in more detail below.

In Executive Order 17772 (the “Order”), issued by President Trump on February 3, 2017, the administration laid out core principles for U.S. financial regulation. As required by the Order, on June 12, 2017, the Treasury Department issued a report entitled A Financial System that Creates Economic Opportunities: Banks and Credit Unions (the “Report”), the first in a series of reports, that addresses depository institutions and that proposes a reevaluation of many provisions of the Dodd-Frank Act, with an eye toward reducing regulatory burden.

As a result, a general shift in regulatory focus among the banking agencies is underway which coincides with the recent change in administration, but is not entirely driven by it. Broad consensus exists in the financial services industry and among regulators, even those headed by appointees of President Obama, for certain regulatory changes, particularly regarding the Volcker Rule. However, the OCC may run into opposition from other regulators in advocating proposals that present “turf” issues for the other agencies.

The OCC, in its push to change the direction of financial services regulation, is actively seeking input from experts and members of the financial services industry. Communicating regulatory priorities to the OCC, particularly through comment letters with supporting data on the Volcker Rule, have the potential to bear fruit, although regulatory changes are likely to occur at a deliberate pace.

Volcker Rule

1. Notice Seeking Public Input

The Volcker Rule generally prohibits banking entities from engaging in proprietary trading or from sponsoring, or acquiring or holding investments in, certain “covered funds.” It began to come into effect in 2014, and is now fully in effect, with some limited exceptions.

On August 2, 2017, the OCC issued the Notice, asking how the Volcker Rule “should be revised to better accomplish the purposes of the statute … [and for suggestions on] improvements in the ways the final rule has been applied and administered to date.” The Notice requests public comment on aspects of the Volcker Rule that impose higher regulatory costs than is justified by their reductions in undue bank risk from exposure to proprietary trading and fund investments. The Notice seeks public comment on many aspects of the Volcker Rule, including definitional provisions, proprietary trading, covered fund provisions, and the required compliance program. On each topic, the Notice asks for supporting data from the industry (1) on evidence of the effectiveness, or otherwise, of the Volcker Rule, (2) to show which provisions of the Volcker Rule are overly burdensome as written, and (3) to demonstrate why proposed solutions provided in the comments would better serve the purposes of the Volcker Rule statute. The OCC also makes clear that it is open to receiving comments on changes to Volcker Rule regulations and guidance on elements of the rule not specifically discussed in the Notice.

Scope of Entities Subject to the Volcker Rule

The Notice asks for comment on new potential exemptions from the applicability of the Volcker Rule to banking entities that either fall under a certain size or that have limited proprietary trading activities (and presumably, though the Notice does not explicitly say so, that only have limited exposure to covered funds). The Notice also seeks public input on any other ways commenters can suggest to narrow the scope of the Volcker Rule’s applicability.

The Notice also asks for public comments that would help the OCC to craft a permanent solution to the problem of foreign funds that are not covered funds but that are controlled by foreign banking entities. Such funds are captured by the Volcker Rule’s definition of “banking entity” as the term is defined in both the Volcker Rule statute and regulations. These funds are thus subject to the Volcker Rule’s full panoply of proprietary trading and covered fund limitations, despite such funds being foreign investment funds, not banks. The Board, the OCC, and the FDIC published joint guidance on July 21, 2017, providing a one-year moratorium on Volcker Rule enforcement actions in such situations until a more permanent solution can be found, or until Congress acts to change the banking entity definition.

Proprietary Trading

The Notice seeks public input on the effectiveness for reducing bank risk of the current proprietary trading provisions, and for any data on decreased market liquidity that the proprietary trading provisions have caused to date. The Notice also asks for comment on a number of options for reducing the burden of the Volcker Rule’s proprietary trading provisions, including:

• Objective factors to define proprietary trading;
• Changes to the rebuttable presumption that a banking entity holding financial instruments for 60 days or less is engaged in proprietary trading, including the possible introduction of new rebuttable presumptions that certain activities would be categorically excluded from the definition of proprietary trading;
• Activities that could potentially be explicitly permitted under the proprietary trading provisions; and
• Simplification of existing exclusions and exemptions from the proprietary trading provisions.

Covered Funds

The Notice generally asks commenters to limit their proposals to amendments to the Volcker Rule regulation or its implementation (i.e., by amending or issuing guidance), and not to changes to the Volcker Rule statute, which only Congress can amend. However, the OCC directly requests public input on “replacing” statutory language in one instance; specifically, the statutory source for the first prong of the covered fund definition adopted in the Volcker Rule regulation, in which “covered fund” is defined to include an entity that relies on sections 3(c)(1) or 3(c)(7) of the Investment Company Act of 1940 to avoid registration under that Act.

Other requests for comment related to covered funds include:

• Additional activities and investments that should be permitted as an exemption, or that could be excluded from the covered fund definition; and
• Information on the effectiveness of the so-called “Super 23A” provisions, which limit a banking entity’s relationships with a covered fund that it sponsors or in which it has an ownership interest, and whether there are activities that should be excluded from the Super 23A provisions.

Compliance

Aside from the general requests for data on the Volcker Rule’s effectiveness and on reduction of regulatory burden, the Notice seeks specific comments on the following aspects of Volcker compliance programs:

• Whether there are categories of banking entities for which compliance programs should be reduced or eliminated;
• How additional guidance or changes to implementation could reduce the regulatory burden imposed by Volcker Rule compliance; and
• Whether and how banking entities can implement technology-based compliance systems that would improve objective evaluation of compliance by the regulators.

2. Pre-Notice OCC Comments on the Volcker Rule

After joining the agency, but before the release of the Notice, acting Comptroller Noreika publicly addressed the OCC’s views on the Volcker Rule at least three times: (1) in an interview with the Wall Street Journal on May 11, (2) in Congressional testimony on June 22, and (3) after a speech to the Exchequer Club on July 19, as reported by American Banker. In the Wall Street Journal interview, acting Comptroller Noreika put unilateral OCC action on the Volcker Rule on the table, though he noted that he would prefer the OCC to act in concert with other agencies if possible. Likewise, in the question and answer session after the Exchequer speech, acting Comptroller Noreika was quoted as saying that the OCC was “going to, whether with others or by ourselves, push forward and seek public input on what can be done” to roll back, or at least streamline, the Volcker Rule. On the other hand, the portions of the Testimony on the Volcker Rule were framed as a policy proposal for agencies and Congress to consider changes to the Volcker Rule.

On the basis of the Notice and these other statements, it is clear that the OCC believes that the Volcker Rule requires significant changes, and that it is willing (if not eager) to take the lead in advocating for such changes among the agencies. Commentators have noted that there is broad consensus in the financial services industry, the regulators, and even in both parties in Congress, that the Volcker Rule requires changes—the heads of the Board and the FDIC, although still holdover appointees from the Obama administration, are unlikely to generally oppose efforts at reforming the Volcker Rule. Indeed, press reports indicate that the federal financial services agencies that comprise the Financial Stability Oversight Council (“FSOC”) came to an agreement on Friday, July 28, to work together to revise the Volcker Rule.

Federal Reserve Oversight of BHCs—Switch Most BHCs to OCC Oversight under Proposed 90% Asset Test

In the Testimony, acting Comptroller Noreika recommended that Congress amend the BHCA to

“provide that when a depository institution constitutes a substantial portion of its holding company’s assets (e.g., 90 percent), the regulator of the depository institution would have sole examination and enforcement authority for both the holding company and the depository institution.”

The effect of this proposal would be to shift examination and enforcement authority over many national banks that operate within a BHC structure from the Federal Reserve to the OCC. The clear benefit for national banks that meet the 90% threshold would be to deal with the OCC as a consolidated regulator, both at the BHC level and at the national bank level, which would reduce the number of federal banking regulators for these entities. It remains to be seen whether the Federal Reserve would endorse the shift of authority out of its hands to the OCC, or whether Congress would act to reallocate agency authority without such endorsement.

Corporate Governance—Facilitating Elimination of BHCs by National Banks

Also in the Testimony, acting Comptroller Noreika advocated that corporate governance procedures applicable to national banks be fully “modernized” by eliminating certain remaining—and outdated—statutory corporate governance requirements. In making this proposal, it is significant to note that in his testimony he stated that the OCC’s specific goal in effecting modernization of these provisions would benefit national banks “by providing them flexibility to operate more efficiently and access the capital markets without having to employ a [bank] holding company structure and being subject to the associated regulatory burden.”

This proposal takes place in the context of a potential trend of regional and community banking organizations increasingly considering the relative merits of eliminating their BHCs for regulatory and strategic reasons. Under governing law, in a transaction eliminating a BHC, the BHC would be merged into the bank subsidiary in a stock-for-stock exchange, with the bank’s charter and bylaws replacing those of the merged BHC on corporate governance matters.

Long-standing OCC rules and policies provide national banks with broad flexibility to adopt modern corporate governance procedures, provided they are not inconsistent with federal banking law or safety and soundness. In this regard, by regulation, the OCC permits national banks the choice to adopt the corporate governance procedures from a menu of any of the following:

• the state of the national bank’s main office,
• the state of incorporation of the national bank’s BHC,
• the Delaware General Corporation Law, or
• the Model Business Corporation Act.

As such, national banks generally enjoy a broader range of corporate governance choices than BHCs and state chartered banks, which are generally limited to the corporate laws of their respective home states.

Notwithstanding the OCC’s favorable corporate governance rules and policies, under the National Bank Act (the “NBA”), national banks directors continue to be subject to certain outdated requirements: residency restrictions requiring directors to reside within the state (or within 100 miles) of the national banking association, and a requirement to own shares in the national bank. Also, in the case of conversion to a national bank from a state bank charter, a consolidation, or a merger transaction, national banks are subject to certain physical meeting, shareholder notification, and supermajority vote requirements.

The Testimony frames the recommended changes regarding corporate governance as designed to promote modernization and equitable treatment between national banks, state banks, and, importantly, BHCs. Permitting national banks to adopt state of the art corporate governance procedures in tandem with favorable OCC rules and policies would potentially further enhance the attractiveness of banks eliminating their BHCs.

Support of New Fintech Charter

In December 2016, the OCC issued a white paper (the “Fintech Charter Paper”) announcing that it planned to accept applications from fintech firms for charters as special purpose national banks (“SPNBs”). The OCC seeks “technology-driven nonbank companies offering a new approach to products and services” to apply for a fintech charter, if they provide technology that is “accessible, easier to use, and much more tailored to individual consumer needs” to their financial customers. The OCC says it would consider applications from fintech companies that perform any of four services: fiduciary activities, receiving deposits, paying checks, or lending money, each activity to be construed broadly.

The OCC currently charters three types of SPNBs: trust banks, bankers’ banks, and credit card banks. The OCC interprets the NBA to support its authority to charter such entities: the NBA allows the OCC to issue charters to entities in the “business of banking,” and the OCC defines entities engaged in the “business of banking” to include certain entities that do not engage in the taking of deposits. According to the OCC, an SPNB that conducts activities other than fiduciary activities must conduct at least one of the three “core” banking functions: receiving deposits; paying checks; or lending money.

The OCC considers that the fintech companies likely to apply for charters as SPNBs are engaged in card services, payment systems, checking, lending, and financial technology activities. The OCC argues that such a charter is consistent with its mission and its historical role in allowing new bank activities as the financial services industry changes over time; an example of prior technological change endorsed by the OCC is the electronic provision of any “activity, function, product, or service that [the national bank] is otherwise authorized to perform.”

When acting Comptroller Noreika took office, there was some speculation as to whether he would accept the previous OCC leadership’s initiative to accept applications for fintech charters, but he did so in the Exchequer Club speech, announcing that the fintech charter for SPNBs was “a good idea that deserves…thorough analysis and…careful consideration…” However, acting Comptroller Noreika also indicated that the OCC had not yet received an application for an SPNB at that time.

Regardless, the Conference of State Bank Supervisors (“CSBS”), whose members have an interest in regulating fintech companies, filed a lawsuit in the U.S. District Court for the District of Columbia shortly after the OCC announced its plans, seeking to prevent the OCC from granting fintech charters on the grounds that the OCC’s plan to grant charters exceeded its authority, was procedurally defective, and would impermissibly preempt state law. In response, the OCC has argued in support of its motion to dismiss the lawsuit that the CSBS failed to show harm because the OCC had not yet granted a fintech charter, but also argued that granting such a charter would be within its authority if it decides to do so.

While the lawsuit goes on, the OCC continues to accept applications to bring fintech companies under the umbrella of national regulation, providing the possibility of a single, uniform set of rules for fintech companies to follow when operating in any state.

De Novo Banks—Reduce the FDIC’s Role

Acting Comptroller Noreika also suggested in the Testimony that the issuance of new bank charters could and should be boosted by reducing the number of regulatory approvals required for de novo banks to commence operations. He recommended a process by which deposit-taking banks would receive FDIC deposit insurance by default once the OCC chartered the bank. Currently, new banks must receive an OCC charter, but must also submit plans to the FDIC for approval in order to receive deposit insurance.

The FDIC would, under the proposal, be able to veto the grant of deposit insurance by objecting to the OCC’s granting of a charter within 30 days, as recommended in the Testimony, or within another specified time period. If the FDIC did not object within the time period, the newly chartered national bank would qualify for FDIC deposit insurance automatically.

Supporting his proposed changes, acting Comptroller Noreika argued that the current de novo chartering process “wastes resources, results in unnecessary delays, and represents a significant barrier to entry” for new banks.

Arbitration Rule—Conflict with the CFPB

The CFPB is still headed by its first director, Richard Cordray, who was appointed by President Obama. There has been heavy Congressional and litigation pressure to alter the CFPB’s structure in recent months. A three-judge panel of the D.C. Circuit held that the CFPB’s structure as an independent agency headed by a single director not subject to at-will removal by the President is unconstitutional. Likewise, the House’s Financial CHOICE Act would, if enacted, make a number of changes to the CFPB, including making the director removable at will.

Individual views on financial regulation aside, acting Comptroller Noreika’s perspective on financial regulation differs from Director Cordray’s in a number of ways. For instance, the regulatory perspectives of the two agencies are at odds: the OCC is a prudential regulator of national banks, while the CFPB is focused on customers of a wide range of types of financial institutions. The conflict represents significant institutional history. Part of the impetus behind the creation of the CFPB was to restrict the OCC’s powers over consumer protection: the Dodd-Frank Act reduced the OCC’s power to preempt state consumer protection laws and stripped the OCC of Chevron deference with respect to judicial review of its preemption decisions.

The CFPB finalized a rule on arbitration agreements, after a public comment period, on July 10, 2017 (the “Arbitration Rule”). According to the CFPB, the Arbitration Rule is designed to regulate clauses between consumers and financial services companies in which the consumer agrees that certain disputes between her and the company cannot be resolved through class-action litigation, but must be resolved through arbitration.

Acting Comptroller Noreika initially threatened to engage in direct conflict with the CFPB over the Arbitration Rule, asking CFPB Director Cordray to delay the effective date of the Arbitration Rule and share relevant data so that the OCC could analyze its potential impact on the safety and soundness of the banking system. However, shortly before the CFPB finalized the Arbitration Rule, acting Comptroller Noreika announced that the OCC would not formally oppose the Arbitration Rule, but noted that the reason was not that the OCC approved the substance of the Arbitration Rule, but rather that it lacked sufficient time to analyze the necessary data regarding its concerns and, in any case, he believed Congress is likely to overrule the Arbitration Rule under the Congressional Review Act.

Summary

Among the federal banking agencies, the OCC appears to be taking the lead role, for the time being, with respect to setting a new regulatory agenda under the Trump administration. Generally, the direction of regulation has made a deregulatory turn under a Republican administration as the 10 year anniversary of the financial crisis approaches.

A cooperative environment among the agencies is certainly possible going forward, particularly as the Board and the FDIC receive new appointments from the Trump administration. Recent guidance on the Volcker Rule was issued jointly, and, if reports are correct, consensus at some level was reached at a recent FSOC meeting on a joint approach to revising the Volcker Rule. Commentators have suggested that the Board and the FDIC would be unlikely to “hold out” if the OCC took the lead in revising the Volcker Rule, because there is broad industry and regulator consensus that certain elements of the Volcker Rule would benefit from changes, and the OCC is likely to propose changes to the aspects of the Volcker Rule where consensus exists.

However, acting Comptroller Noreika “came out swinging” with respect to the powers of the OCC to take deregulatory action, and it remains to be seen whether agency cooperation will continue. If the OCC continues to clash with other agencies, as it has with the FDIC over de novo banks, the Federal Reserve over BHC regulatory oversight, the state regulators and the CSBS over the fintech charter plans, and the CFPB over the Arbitration Rule, agency turf battles could begin to slow the pace of deregulatory activity.

Action Plan

National banks should evaluate their activities in the areas in which the OCC is expressing interest on its regulatory docket.

In particular, they should consider providing the OCC with comments on changes to the Volcker Rule as requested by the Notice, should monitor whether other agencies also seek comments on the Volcker Rule, and should consult legal counsel to assist in preparing comment letters. The process of making significant revisions to the Volcker Rule is in its earliest stages; nonetheless, reasoned proposals on changes to the Volcker Rule appear to be welcome, at least at the OCC. These recommendations should be as concrete and specific as possible, and should be careful to follow the OCC’s request not to comment on changes to the statutory language of the Volcker Rule. They should also be backed, wherever possible, by quantitative data.

National banks should also consider their positions relative to their BHC structures, if any. The OCC may take certain steps, as described above, to supplant the Federal Reserve as the primary regulator of national banks that either eliminate their BHCs or that have assets that exceed 90% of the assets of their BHCs. National banks that believe they may benefit from such regulatory consolidation should remain abreast of legislative or regulatory action in this area and should also seek opportunities to comment if the OCC provides guidance or proposed rules.

Finally, fintech companies should keep a close tab on developments related to the fintech charter. The benefits of a single set of national regulations could make such a charter worth pursuing already, and if the OCC were to win its lawsuit against the CSBS and/or grant a first fintech charter, the cost-benefit analysis could be even more favorable for applicants, since the process of granting a second charter is likely to be somewhat smoother than the process for the first charter.

We expect to release further bulletins if any significant developments on the topics discussed in this post occur.

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The complete publication, including footnotes, is available here.