AMICUS BRIEF OF THE FEDERAL DEPOSIT INSURANCE<br>CORPORATION AND THE OFFICE OF THE COMPTROLLER OF THE<br>CURRENCY IN SUPPORT OF AFFIRMANCE AND APPELLEE, Dated September 10, 2019
Under Rule 8017(a)(2), the FDIC and OCC, as agencies of the United States, “may file an amicus brief without the consent of the parties or leave of court.” As federal banking regulators charged by Congress with ensuring the safety and soundness of state and national banks and with maintaining financial stability in the banking system, the FDIC and OCC have unique expertise and perspectives that warrant the Court’s attention.
The interpretations at issue in this appeal thus have serious implications for thousands of banks and financial institutions across the country, potentially affecting their ability to maintain their safety and soundness through loan sales and securitizations, which could have unintended consequences for consumers, credit markets, and the U.S. financial system
The bankruptcy court correctly decided that the interest rate in the Promissory Note is valid under Section 1831d, which allows Bank of Lake Mills to charge any rate allowed by the state where the bank is located (Wisconsin) and preempts the contrary state usury laws of other states. The bankruptcy court also correctly decided that that interest rate remains valid despite the Note’s later assignment.
Section 1831d allows federally-insured state banks to charge interest at the highest of (1) a federal rate tied to the discount rate on 90-day commercial paper, or (2) “the rate allowed by the laws of the State … where the bank is located.” 1
Congress patterned Section 1831d after 12 U.S.C. § 85 in order to achieve “parity” and “competitive equality” between state and national banks in the interest-rate area. Id. (citations omitted).
Ensuring competitive equality through Section 1831d was key to resolving the credit crunch and the troubles in the state banking sector existing at the time of Section 1831d’s enactment in 1980. Specifically, “[a]s the 1970s wound down, the Nation was caught in the throes of a devastating credit crunch. Interest rates soared.” Id. “Nevertheless, state lending institutions were constrained in the interest they could charge by state usury laws which often made loans economically unfeasible from a lender’s coign of vantage,” which further deepened the credit crunch. Id. In addition, unable to make loans at the low rates required by state usury rates, state banks could not serve their customers’ demand for credit and were thus “being battered by competition from national banks that were allowed to charge higher rates of interest by federal law.” Gavey Properties/762 v. First Fin. Sav. & Loan, 845 F.2d 519, 521 (5th Cir.1988). Specifically, national banks enjoyed a competitive advantage under Section 85 because they could charge the high federal rates prevailing then, and, when such banks were located in states that had eliminated or relaxed usury ceilings, they could also export the higher interest rates of their home states to transactions with out-of-state borrowers, notwithstanding the lower usury limits in the borrowers’ states. See Marquette Nat’l Bank of Minneapolis v. First Omaha Serv. Corp., 439 U.S. 299, 308, 318-19 (1978) (confirming that national banks can export rates). 6 Congress therefore passed the Depository Institutions Deregulation and Monetary Control Act of 1980 (“DIDA”), which added Section 1831d, in order to level the playing field between state and national banks, and to “assure that borrowers could obtain credit in states with low usury limits.” Gavey, 845 F.2d at 521
Section 1831d authorizes Bank of Lake Mills to make loans at the interest rate “allowed by the laws of the State … where the bank is located.” 12 U.S.C. § 1831d. Since Bank of Lake Mills is located in Wisconsin, Section 1831d thus authorizes it to charge interest at the rate allowed in Wisconsin. Like many other states, Wisconsin does not have usury laws that apply to loans to corporations, allowing banks to charge corporate customers like the Debtor any rate, including the rate at issue here. See WIS. STAT. ANN. § 138.05(5) (“This section [on usury rates] shall not apply to loans to corporations or limited liability companies.”). Accordingly, under the plain text of Section 1831d, Bank of Lake Mills was allowed to charge the interest rate in the Promissory Note because Wisconsin, its home state, allows it.
The contrary laws of other states are preempted, as expressly provided in Section 1831d:
if the applicable rate prescribed in this subsection exceeds the rate a State bank would be permitted to charge in the absence of this subsection, such State bank may, notwithstanding any State constitution or statute which is hereby preempted for the purposes of this section, take, receive, reserve, and charge on any loan … interest … at the rate allowed by the laws of the State … where the bank is located ….
that state and national banks may make loans at the rates allowed by the state where the bank is located, not where the borrower is located, and thus the usury laws of the borrowers’ states are preempted.
Stoorman, 908 P.2d at 135-36 (holding that under Section 1831d, a state bank located in Delaware can See, e.g., Greenwood, 971 F.2d at 826-27 (holding that Massachusetts usury laws are inapplicable because Section 1831d permits a state bank located in Delaware to export its home state interest rates to out-of-state borrowers) charge Colorado customers certain interest (late fees) permitted by Delaware law but not by Colorado law); Marquette, 439 U.S. at 313 (Section 85 allows a national bank located in one state (there, Nebraska) to export the higher interest rates of its home state to transactions with out-of-state borrowers); Gavey, 845 F.2d at 521 (“Section 85 allows a [national] bank to ‘export’ the favorable usury rate of its home state”).
For nearly 200 hundred years, it has been settled law that the “usurious nature of a transaction is [determined] at the inception of the transaction” and that “usury therefore must exist at the inception of the contract.” 44B Am. Jur. 2d Interest and Usury § 65 (2018). Under this well-established and widely-accepted rule, if a contract was valid (not usurious) when it was made, it cannot be rendered usurious by later acts: “if the note [is] free from usury, in its origin, no subsequent … transactions … can affect it with the taint of usury.” Gaither v. Farmers’ & Mechanics’ Bank of Georgetown, 26 U.S. 37, 43 (1828).
By the time the Supreme Court applied this valid-when-made rule in several cases in the nineteenth century, the rule was already so well-established that the Supreme Court described it as a “cardinal rule” of American law. Nichols v. Fearson, 32 U.S. 103, 109 (1833); see also Watkins v. Taylor, 16 Va. 424, 436 (1811)
The valid-when-made rule is dispositive here: since usury must exist at the inception of the contract, a later act—such as assignment—cannot change the nonusurious character of a loan that was not usurious when made.
The Supreme Court has already held so in dealing precisely with the assignment issue, and so have many other courts more recently. Nichols, 32 U.S. at 106 (holding that the non-usurious character of a note does not change despite the note’s assignment to another person, because “the rule of law is everywhere acknowledged, that a contract, free from usury in its inception, shall not be invalidated by any subsequent usurious transactions upon it”); FDIC v. Lattimore Land Corp., 656 F.2d 139, 148-49 (5th Cir. 1981) (applying the rule to hold that a bank, as the assignee of the original lender, could enforce a note that was not usurious when made by the original lender because “[t]he non-usurious character of a note should not change when the note changes hands”); Strike v. Trans-West Discount Corp., 92 Cal.App.3d 735, 745 (Cal. Ct. App. 4th Dist. 1979) (an assignee of a bank exempt from usury law was allowed to charge the exempt rate contained in the transferred loan because “a contract, not usurious in its inception, does not become usurious by subsequent events” such as the sale of the note to an assignee). See also Tuttle v. Clark, 4 Conn. 153, 153 (1822) (“not being usurious in its original concoction, [the instrument] did not become so, by the subsequent sale to the plaintiffs”).
The valid-when-made rule has withstood the test of time because it is compelled by commercial needs, fundamental fairness, and general principles of contract law. Lenders often need to transfer loans, and as the Supreme Court explained in allowing an assignee to enforce a valid-when-made rate, a debtor should not be allowed to “be discharged of a debt which he justly owes to someone” simply because the maker of the loan had to sell it.
This rule governs here no matter what law applies, as this cardinal rule is universal, and is applied “everywhere”
FDIC v. Tito Castro Constr., 548 F. Supp. 1224, 1227 (D.P.R. 1982) (“One of the cardinal rules in the doctrine of usury is that a contract which in its inception is unaffected by usury cannot be invalidated as usurious by subsequent events.”)
Another cardinal rule of contract law mandates the same result. It is wellsettled that an assignee succeeds to all the “rights and remedies possessed by or available to the assignor,” and “stands in the shoes of the assignor.” 6 Am. Jur. 2d Assignments § 108; see also, e.g., Dean Witter Reynolds Inc. v. Var. Annuity Life Ins. Co., 373 F.3d 1100, 1110 (10th Cir. 2004) (stating that it was long-established that “an assignee stands in the shoes of the assignor”). Under this “stand-in-theshoes” rule, the non-usurious character of a note would not change when the note changes hands, because the assignee is merely enforcing the rights of the assignor and stands in its shoes. As the Seventh Circuit held, “the assignee of a debt … is free to charge the same interest rate that the assignor … charged the debtor,” even if, unlike the assignor, “the assignee does not have a license that expressly permits the charging of a higher rate.” Olvera v. Blitt & Gaines, P.C., 431 F.3d 285, 286, 289 (7th Cir. 2005) (Posner, J.). It was irrelevant that the assignee himself lacked express statutory permission to charge the higher interest rate. Rather, the relevant question was whether the assignors were authorized to charge that interest. Id. at 289. If the assignors were authorized to charge it, then “the common law kicked in and gave the assignees the same right, because the common law puts the assignee in the assignor’s shoes, whatever the shoe size.” Id.
It is irrelevant whether the assignee has independent statutory authorization to charge the rate at issue. The assignee is merely enforcing the rights of the assignor, and the law “conceptualizes the matter” as if the assignor, not the assignee, “stands before the court.”
Any other interpretation would defeat the purpose of the statute. As one court explained, if banks cannot transfer their usury-exempted rates (and assignees cannot enforce them), loans sales to the “secondary market” would be “uneconomic,” which “would be disastrous in terms of bank operations” because banks need the ability to sell loans in order to properly maintain their capital, liquidity, and ultimately, their safety and soundness. Strike, 92 Cal. App. 3d at 745. Thus, to avoid frustrating the purpose of a California provision exempting banks from usury laws, the Strike court held that the provision necessarily allowed the bank’s assignees to enforce the bank’s interest rate even if the language of the provision did not mention assignees.
Banks need to be able to sell their loans in order to maintain adequate capital and liquidity, and to preserve their financial soundness.12 As the Supreme Court explained, “in managing its property in legitimate banking business, [a bank] must be able to assign or sell those notes when necessary and proper, as, for instance, to procure more [liquidity] in an emergency, or return an unusual amount of deposits withdrawn, or pay large debts.” Planters, 47 U.S. at 323 (emphasis added).
The ability to sell loans is indispensable even to banks that prefer not to “dispose of their notes often,” as unexpected needs to pay large debts or “pressures” caused by deposit withdrawals can happen to all banks, and thus all banks must be able to sell loans in order to be able to repay such debts and protect against failure.
Adam J. Levitin Agnes N. Williams Research Professor & Professor of Law Georgetown University Law Center
The FDIC and OCC allege that a purported “valid-whenmade doctrine” is a longstanding, “cardinal rule” of banking law and incorporated into the federal statutes preempting state usury laws for bank. Yet the doctrine appears only in a handful of recent cases. With one exception, it cannot be found in caselaw predating the relevant statute, much less in treatises, or scholarly articles, and the Second Circuit rejected the doctrine in 2015 in Madden v. Midland Funding, LLC, 786 F.3d 246 (2d Cir. 2015).
In this amicus brief, Professor Levitin draws on his expertise in the history of negotiable instruments and usury regulation to address the spurious pedigree of the valid-when-made doctrine, which is a recent invention, rather than a fundamental part of American banking and negotiable instrument law.
“From an office near New York’s Times Square, people trained by a veteran of Jordan Belfort’s boiler room call truckers, contractors and florists across the country pitching loans with annual interest rates as high as 125 percent, according to more than two dozen former employees and clients. When borrowers can’t pay, Naidus’s World Business Lenders LLC seizes their vehicles and assets, sometimes sending them into bankruptcy”.
“Herman has paid for his crimes, according to his lawyer, Marty Kaplan.
“It’s really like saying Bill Clinton smoked dope in college,” Kaplan said. “Who cares?”
“Salespeople said they were told to refer to “short-term capital” instead of loans and “money factors” instead of interest rates. The borrowers often put up cars, houses or even livestock worth at least twice as much as the loan. About one in five were going bust as of last year, two people with knowledge of the matter said. One said that 9 percent of the loans made this year have already defaulted”.