Financial Industry Developments

Rejecting "True Lender" Arguments, California District Court Dismisses Claims Against Student Loan Servicers

This past Thursday, September 22, a federal district court in the Central District of California dismissed an action raising usury claims against several student loan servicers, rejecting the plaintiffs' arguments based on the "true lender" doctrine. The decision comes on the heels of a decision by another judge of the Central District of California in U.S. Consumer Financial Protection Bureau v. CashCall, Inc. (covered here), which relied on the true lender doctrine to rule in favor of plaintiff CFPB. The two cases illustrate contrasting approaches to the application of true lender doctrine to marketplace lending models.

The plaintiffs in Beechum v. Navient Solutions, Inc. obtained student loans from Stillwater National Bank and Trust Company. Stillwater then sold those loans, pursuant to contractual agreements, to defendant loan servicers, who then collected interest at a rate above California's 10% usury cap. The plaintiffs sued the servicers for violating California State usury law, but the servicers moved to dismiss, arguing that California law contains a usury exemption for any loan made by a National Bank like Stillwater. The plaintiffs responded that the exemption should not apply because the non-bank servicers, rather than Stillwater, were the "true lenders" in the loan transactions. According to their complaint, although Stillwater was the nominal lender, the servicers "originated, underwrote, funded and bore the risk of loss as to the loans."

The court rejected the plaintiffs' true lender argument. Applying California law, it acknowledged that in some contexts courts had looked beyond the form of a loan transaction to determine whether the substance suggested usurious intent. But it found that none of these cases had applied the doctrine where an explicit usury exemption, like the one for banks under the California Constitution, was at issue. By contrast, two California State cases had found that where a loan transaction, on its face, is entitled to an explicit usury exemption, courts do not look behind the transaction to scrutinize which party is the true lender. The court found these holdings controlling and dismissed the case.

Although the decision is a narrow one based on California State law, it adds yet another data point to the growing body of law on the true lender doctrine. The court's analysis is potentially noteworthy for several reasons:

• The court's focus on the face of the transaction is a departure from cases like CFPB v. CashCall, which have, in similar contexts, applied a "predominant economic interest" test to scrutinize a transaction.
• The defendant servicers argued that the court should dismiss the complaint on the alternative ground that application of State usury law to loans originated by Stillwater would run afoul of federal preemption under the National Bank Act. Because the court dismissed on the ground of a State law usury exemption, however, it did not reach the federal preemption issue. This may signal reluctance to wade into thorny preemption issues created by the Second Circuit's May 2015 decision in Madden v. Midland Funding, LLC.
• Although the court does not explicitly mention the principle that a loan valid when made cannot become usurious as a result of a subsequent transfer, the result in the case adds to the body of case law standing for that proposition.

The plaintiffs may elect to pursue an appeal to the Ninth Circuit. We will monitor the case and provide updates as appropriate.

Rating Agency Developments

On September 19, 2016, Moody's issued a report entitled: Special Assessment / Special Property Tax (Non-Ad Valorem) Debt. Report.

On September 15, 2016, Fitch issued a report entitled: Fitch Publishes Updated Insurance Ratings Criteria. Press release.

Investment Management

California Enacts Legislation Requiring Public Investment Funds to Make Disclosures Concerning Fees and Expenses Paid to Private Fund Managers

On September 14, 2016, Governor Jerry Brown approved an amendment to the California Government Code, effective January 1, 2017, that requires a "public investment fund," defined to mean "any fund of any public pension or retirement system, including that of the University of California," to make certain disclosures at least annually concerning investments in each "alternative investment" vehicle in which it invests.  An "alternative investment vehicle" is defined to mean "the limited partnership, limited liability company, or similar legal structure through which a public investment fund invests in an alternative investment."  An "alternative investment," in turn, means an investment in a private equity fund, venture fund, hedge fund, or absolute return fund."

Such disclosures include: (i) the fees and expenses that the public investment fund pays directly to the alternative investment vehicle, the fund manager or related parties; (ii) the public investment fund's pro rata share of fees and expenses not included in (i) that are paid by the alternative investment vehicle; (iii) the public investment fund's pro rata share of carried interest distributed to the fund manager or related parties; and (iv) the public investment fund's pro rata share of aggregate fees and expenses paid by all of the portfolio companies held within the alternative investment vehicle to the fund manager or related parties.

These disclosure requirements are in alignment with: (i) enforcement actions brought by the Securities and Exchange Commission over the past several years against private fund managers for failure to adequately disclose conflicts of interest and the fees and expenses borne by investors in their funds; (ii) similar legislative initiatives in other states; and (iii) the publication by the Institutional Limited Partners Association of a proposed reporting template that captures greater detail on fees, expenses and carried interest paid to private fund managers and their affiliates.

RMBS and Other Securities Litigation

On September 20, 2016, Judge Shelley Chapman of the U.S. Bankruptcy Court for the Southern District of New York approved the $37 million settlement of $1.3 billion in claims asserted against the estates of two defunct Lehman Brothers' entities by Syncora Guarantee Inc. in its capacity as the insurer for certain certificates issued from the GMFT 2006-1 RMBS trust. After being sued by the GMFT 2006-1 Trustee for payment under the insurance policy, Syncora filed its own claim for indemnification against Lehman as sponsor of the securitization. In addition to settling Syncora's claim, the agreement also releases Lehman from all potential claims brought by the GMFT 2006-1 Trustee, U.S. Bank NA, in exchange for Lehman's cooperation in a separate lawsuit arising from GreenPoint Mortgage Funding Inc.'s alleged failure to repurchase defective loans. Settlement Order. Settlement Agreement Submitted For Approval.

European Financial Industry Developments

EBA Consults on Guidelines on Minimum Professional Indemnity Insurance under PSD2

On September 22, 2016, the European Banking Authority (EBA) published a consultation paper  (EBA/CP/2016/12) on draft guidelines in relation to professional indemnity insurance (PII) and the criteria competent authorities should follow when stipulating the minimum monetary amount of the PII or comparable guarantees for undertakings that apply to provide payment initiation services or account information services under PSD2 (the Directive on payment services in the internal market ((EU) 2015/2366)). The EBA was mandated to produce the guidelines under Article 5(4) of PSD2. The consultation on the draft guidelines closes on November 30, 2016.

As well as setting out the proposed criteria, the EBA also:

• Sets out with explanations its proposal to use a formula for the calculation of the minimum monetary amounts.
• Provides details on indicators for the criteria set out in PSD2 along with the calculation method proposed for some of those indicators.
• Provides circumstances in which the lowest tier, or default value, should be used.

The EBA also provided practical examples to assist in the calculation of the minimum amount of PII or comparable guarantee.

EBA Consults on Fee Terminology and Disclosure Documents under Payment Accounts Directive

Pursuant to the Payment Accounts Directive (2014/92/EU) (PAD), on September 22, 2016, the European Banking Authority (EBA) published a consultation paper on draft technical standards on fee terminology and disclosure documents under the directive.

The EBA will be holding a public hearing at its premises on 21 November 2016 and the consultation process closes on December 22, 2016.

Following the consultation the EBA set out the following three draft technical standards:

• Draft regulatory technical standards (RTS) setting out the standardized terminology for services that are common to at least a majority of member states (required under Article 3(4) of the PAD).
• Draft implementing technical standards (ITS) relating to the standardization of presentation format on the fee information document (FID) and its common symbol (required under Article 4(6) of the PAD).
• Draft ITS relating to a standardized presentation format of the statement of fees (SoF) and its common symbol (required under Article 5(4) of the PAD).

The draft technical standards aim to standardize eight terms for services that are to be used by payment service providers (PSPs), as well as providing consumer-friendly definitions of these terms in all EU official languages. The EBA identified the terminology based on the national provisional lists that member states have developed in line with the EBA's March 2015 guidelines on standardized fee terminology (see Legal update, EBA final report and guidelines on national provisional lists of the most representative services linked to a payment account and subject to a fee).

PSPs will have to use the proposed standardized terminology in the pre-contractual FID and the post-contractual SoF disclosure documents.

European Commission Adopts Implementing Regulation on ITS for Reporting Results of Internal Approach Calculations under Article 78(2) CRD IV Directive

On September 19, 2016, the European Commission adopted an Implementing Regulation implementing technical standards (ITS) for templates, definitions and IT solutions to be used by institutions when reporting the results of their internal approach calculations to the European Banking Authority (EBA) and to competent authorities under the CRD IV Directive (2013/36/EU).

The Implementing Regulation is based on the draft ITS submitted by the EBA to the Commission in March 2015 to which the EBA published an opinion agreeing to the Commission's amendments to the ITS in May 2016. Once the Implementing Regulation has been published in the Official Journal of the EU (OJ) it will enter into force on the 20^th day following its publication.