In one of two closely watched New York class actions asserting usury claims against national bank securitization vehicles based on the Second Circuit’s decision in Madden v. Midland Funding, 786 F.3d 246 (2d Cir. 2015), a federal magistrate judge has recommended dismissal based on federal preemption.
What happened
In June 2019, credit card holders commenced separate usury class actions against various special-purpose entities involved in securitizations of credit card receivables by two national banks. Relying upon Madden, the plaintiffs alleged that the defendants improperly charged interest to New York residents in excess of New York’s 16% usury cap, citing Madden's holding that “non-banks cannot charge usurious interest rates merely because they purchased or were assigned loans by national banks.”
As expected, the defendants moved to dismiss on preemption grounds, arguing that New York’s usury law significantly interferes with the bank’s power to discount and negotiate debt obligations under the National Bank Act. The defendants also argued that Madden does not apply to credit card securitizations because only the receivables, and not the accounts themselves, were sold. Rather, the sale of receivables is governed by Krispin v. May Department Stores Co., 218 F.3d 919 (8th Cir. 2000), which held that a nonbank was entitled to preemption under Section 85 of the National Bank Act with respect to credit card receivables it acquired from its affiliated national bank. The Krispin holding turned on the fact that the bank “retained substantial interests in the credit card accounts so that application of state law to those accounts would have conflicted with the bank’s powers authorized by the NBA.”
In its Report and Recommendation issued last month, the magistrate judge agreed with the defendants and recommended dismissal of the action. Although the court noted the holding in Krispin, which was acknowledged in Madden, it found that it “does not unequivocally answer the question of whether [plaintiffs’] usury claims are preempted.” Instead, the court relied on a line of Supreme Court and Second Circuit cases defining a “sale” and an “assignment,” holding that a sale or assignment cannot occur if the seller/assignor is unable to transfer the right to receive all income produced by the property being sold. Thus, because “applying New York’s usury statutes to defendants would prevent [the bank’s] ability to sell or assign the receivables from its credit card accounts, they are preempted.”
Briefing of plaintiffs’ objections to the ruling is scheduled to be completed by March 13, 2020. The motion to dismiss the case against the other national bank has been fully briefed and is awaiting either a decision or scheduling of oral argument.
Why it matters
The magistrate’s decision may provide some comfort to national banks and capital markets with respect to the impact of Madden, as a federal court in the Second Circuit has now distinguished the case and reaffirmed federal preemption in the securitization context. However, the battle is far from over. The district court will now consider objections to the magistrate’s recommendation, and an appeal to the Second Circuit is likely regardless of the district court’s ruling. Furthermore, the parallel case against a different bank’s securitization vehicles could be decided differently.
Meanwhile, proposed “Madden fix” regulations continue to move forward. Although those regulations are likely to be challenged once adopted, they provide further hope for eliminating the uncertainty facing market participants. We are following these matters closely and will continue to report on developments.