The National Banking Acts of 1863 and 1864, passed while the United States was well embroiled in the Civil War, were designed to create a national banking system and encourage the development of a national currency backed by the holdings of United States Treasury securities. The National Bank Act of 1863 was the first attempt to establish a National Bank after the First and Second Banks of the United States failed.
The National Banking Acts supported a uniform banking policy. The keyword here is uniform.
The United States currently has a dual banking system. In this dual system, National Banks operate based on a congressional charter whose powers are defined at the federal level and are subject to the oversight of a federal supervisor. States may also charter banks, whose powers are established under state law and are subject to oversight by state supervisors.
In Cantero v. Bank of America, which was decided on September 15, 2022, the Second Circuit invoked the National Banking Act as well as the Dodd-Frank Reforms when it found that the NBA preempted New York State Law related to the amount of interest a bank must pay on mortgage escrow accounts.
Two class-action suits had been filed against Bank of America, which is a National Bank, for failure to pay the state-mandated level of interest. The plaintiffs sued for breach of contract, claiming that they were entitled to interest under New York General Obligations Law § 5-601, which sets a minimum 2% interest rate on mortgage escrow accounts. Bank of America moved to dismiss on the ground that the state statute did not apply to mortgage loans made by federally chartered banks. The Second Circuit agreed with the bank and ruled that the NBA preempts New York State Law under “ordinary legal principles of preemption.”
Preemption is the legal principle that a higher authority of law will displace the law of a lower authority when the laws come into conflict. In this case, federal law is meant to displace state law since there is a conflict, and the federal law did not specifically give the states authority to change the law.
Preemption is a more prominent topic these days since it impacts the growing cannabis industry. It has been discussed extensively since states started to pass laws allowing for the medical and recreational use of marijuana, while federal law still classifies marijuana as a Schedule 1 drug and prohibits its use. As such, most National Banks operating under Federal Law will not accept deposits from marijuana-based businesses as federal law deems these businesses illegal.
The Supreme Court has found that since a National Bank is granted powers by Congress, such as offering mortgages, states may not implement laws hindering banks from exercising that power. The precedent of federal law preempting state law goes back to 1819 and Chief Justice John Marshall, who found that a state’s attempt to tax a congressionally chartered bank was unconstitutional.
As we said, the keyword here is uniform. The finding of federal law preempting state law has not been a uniform finding at the federal appellate level since the Ninth Circuit arrived at the opposite conclusion in Lusnak v. Bank of America, which was decided in March 2018. The Ninth Circuit concluded in Lusnak that California’s law was not preempted and held that states can enact laws requiring federal mortgage lenders to pay interest on funds held in escrow accounts.
The issue at stake is the level of interference that a state law can have on a bank while discharging powers granted at the federal level. The Second Circuit rejected the Ninth Circuit’s reasoning in Lusnak, focusing on whether the kind of state interference at issue could, taken as a whole, “destroy” the federal government’s grant of a banking power. The Second Circuit determined that it is more “harmonious” to read the NBA together with Dodd-Frank and that changes made by the Dodd-Frank Wall Street Reform and Consumer Protection Act did not alter the NBA’s preemptive effect.
Although the U.S. Supreme Court previously decided it would not grant review of the Ninth Circuit’s ruling in Lusnak, the Cantero decision now creates a split among two Circuit Courts, so this issue may be headed to the United States Supreme Court.
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