Bank Lawyer's Blog

Rent-a-Charter vs. Strategic Alliance

In June 2004, I wrote a post about schemes by non-bank lenders, especially payday lenders, to "partner" with banks and thrifts in ways that would allow the non-banks to use the bank's or thrift's status to "preemept" "inconvenient state laws, such as those pesky usury limits. As I said at the time:

Apparently, the state-chartered banks involved in this practice are counting on the continued lack of objection by the FDIC, and the continued sympathy of state banking regulators who are eager to increase the number of state-chartered institutions that they regulate. In my opinion, this is a risky course.

I also pointed out at the time that national banks and federal savings banks could rest assured that their primary federal regulator would be scrutinizing their business arrangements with non-banks like Elizabeth Warren looking under her bed every night for a bad banker looking to steal all the cash she has hidden in the sock that she keeps under her pillow.

According to a recent client alert from Chapman and Cutler LLP, this bad old idea not only refuses to die, but has engendered state officials to take action to stop it in its tracks. While the alert discusses the State of Pennsylvania going after payday lenders who've aligned themselves with Native American tribes (which has been a problematic marriage for quite some time), it has wider implications for similar arrangements. In this instance, the Commonwealth of Pennsylvania alleged that the "true lender" for regulatory purposes was not a bank in Delaware that would have been exempt from Pennsylvania usury limits and licensing requirements but the non-bank website "originator" that did most of the origination work and derived most of the economic benefits from the loans. The authors note that in other jurisdictions, the court decisions have not been in lockstep on the issue of preemption, arrangements like the one challenged here are likely always to put the lenders in the regulatory crosshairs.

No clear rule has emerged although regulatory challenges almost certainly are more likely to be made when excessive interest rates and/or abusive sales or collection practices are involved. In this case, the loans imposed interest rates of 200% to 300%.

The alert notes that even though the court's decision involved only a motion to dismiss Pennsylvania's action, and that is a long way from a judgment on the merits, the red flags for financial institutions involved in such relationships are clear "because it demonstrates that plaintiffs will continue to raise the “true lender” theory and courts will not necessarily dismiss at an early stage (for failure to state a claim upon relief can be granted) “true lender” claims solely because a bank is the named lender on the loans, at least where there are allegations that the originating bank does not have substantive duties or an economic interest in the program."

In order to mitigate the risk of claims based on the “true lender” doctrine, companies that engage in internet-based lending programs through an arrangement with one or more banks should consider how the programs are structured. For example, consideration should be given to operations where the bank has substantive duties and/or an economic interest in the program or loans. We are aware that some internet-based lending programs are considering structural changes of this nature.

The firm also advises institutions to make certain that they comply with regulatory guidance governing relationships with service providers. They cite FIL-9-2016 and related FDIC guidance. I'd also suggest taking a look at the OCC's Bulletin 2013-29.

Or, for a change of pace, a bank considering one of these schemes might decide to take its entire capital to The Bellagio in Vegas, walk up to nearest roulette wheel, and lay it all on "00." I mean, if you like dancing along the razor's edge with insured deposits, you might as well go all-in. Plus, you get free booze as long as your money lasts. To hedge your bet, you might want to hold back enough to buy a one-way ticket to Havana (regular flights from the States start soon) just in case that method of income-generation doesn't work out as well as a strategic alliance with a non-bank payday lender.

It’s Not Your Daddy's Bank Anymore (Or Yours Either, For That Matter)

After an entire summer blissfully not blogging, what better way to ease back into the humdrum routine of enraging and/or boring my jaded readership than by letting my friend, former community banker Pat Dalrymple, do the heavy lifting for me with a guest post.

Pogo Possum, in Walt Kelly’s classic comic strip, once intoned, “We have met the enemy, and he is us”.

In 1973, I was lucky to be hired to run a de novo thrift in Aspen Co. Our chairman was a young guy, a graduate of the Wharton School of Business at Penn, who was fortunate enough to retire at 40 and fill his time with interesting projects.

While I was getting the doors of the business open, he attended the Colorado state S&L convention. Upon his return, my friend Mike paraphrased Pogo: “I’ve met the enemy, and it’s us”.

Not much has changed in 42 years, especially at the community banking level.

But, some leaves are rustling. We’ll see if it develops into a wind of change.

It’s noteworthy that, almost to a man (and there are precious few women in the job) all of the CEO’s of small banks were comfortably ensconced in the position before the Great Recession. Now, they’re riding off into the sunset, or going to that Great Loan Committee in the Sky. Maybe traditional bank think will go with them.

Here are a couple of revealing conversations I’ve had in the past month or so:

A banker that I respect who’s at the top of the depth chart for his position recounted an anecdote from the security line at Denver International Airport. Going through this procedure is an experience that he detests, so he was miffed to see a young man ahead of him in line chatting up and laughing with the TSA agent. “Who has a friendly tete a tete with a TSA apparatchik?”

Then, he realized that the kid grew up with 21st century airport security. He’d never experienced wandering an airport at will, and greeting friends at the gate, so it never occurred to him to get all worked up over a normal situation. So it will be, my friend realized, with banking. The excessive angst of bankers over regulatory risk and oversight will fade with the older generation.

The second conversation involved a leading banking consultant who asked one of his small town bank clients if he was leaving the business, like many of his peers, in disgust as a result of Dodd-Frank and the CFPB.

“Why would I do that?” , was the response. “I’m hiring smart young people who never knew how it was. They’re taking the heat for me, and they think it’s just another day at the office.”

Whether us old fogies are riding into the west, or, more appropriately, sinking like mammoths into the swamp, there’s a new generation that will hopefully not be bound by the inherited thinking of several generations of bankers.

Maybe they’ll understand what community bankers have missed since Bonnie and Clyde were making premature withdrawals: The business of banking isn’t lending money; rather, it’s the function of making a profit on the movement of money.

Nothing illustrates this disconnect better than recent meeting I had with an account exec for a national factoring firm. His firm has been frustrated for years by the failure of the banking system to capitalize on his company’s ability to serve banking customers that either don’t meet the banks’ lending criteria or the financing format isn’t offered by the bank. He said he’s suggested setting up a consortium of banks to funnel un-fundable business to his firm, and has urged individual banks to use the resource, all to no avail.

Non-institutional lenders like this aren’t asking for freebies. They pay very well for referrals, and they do all of the work. It’s about the easiest way to make money on money movement imaginable.

At the end of the meeting, he casually dropped a comment that encapsulates the whole sad state of banking’s perception of itself. His company got a bank referral, and duly paid for it. But, he said, “We had to pay the fee to the banker’s wife, because it was against regulations for him to accept it.”

What?

Sure, this was motivated to some degree by greed on the gentleman’s part, but probably the situation was due more to a cultural mindset than to avarice. It simply didn’t occur to the banker that he had a profit center at his fingertips, nor, most likely, would it ever.

Every bank should have a Non-Conforming Lending Division to move money from other sources at a profit. When a customer doesn’t qualify, that potential source of revenue should be ushered across the hall to the bright young lady that runs the NLD, to tap one of a stable of non-institutional lenders.

And every community bank should have a robust mortgage brokerage operation (yup, I used the “B” word, right here in front of bankers). Today, the playing field is absolutely level; mortgage wholesalers have exactly the same rates and programs as the big players, such as Wells and Chase, and when the loans are funded by the lender, rather than the broker, there’s little regulatory risk, and, of course, no asset risk.

If a bank CEO would take the trouble to total up the money left on the table for, say, the prior 12 month period, it would be hard to explain to the stockholders why so much revenue was spurned. And, I assure you, it’s inevitably a big number.

We continue to hear about the mass extinction of community banks. Maybe it’s true.

After all, if you stand long enough in the swamp, you’ll sink into fossilization, no matter how big your tusks are.

Another Step Back?

Ballard Spahr has one of the best initial analyses of last week's Financial Institution Letter in which the FDIC "encourages institutions to take a risk-based approach in assessing individual customer relationships rather than declining to provide banking services to entire categories of customers, without regard to the risks presented by an individual customer or the financial institution’s ability to manage the risk." In other words, the FDIC took another step back down from its participation in the Department of Justice's Operation Choke Point. The first step was taken last summer, when the FDIC obliterated its list of "risky businesses" by category. The FDIC claims that banks under its supervision should evaluate the risk of a business on a customer-by-customer, not industry-by-industry, basis.

The firm also discusses an internal FDIC memorandum to its examiners. Apparently, the FDIC is attempting to head off any rogue examiners who, like the former head of supervision in Atlanta, tried to put all payday lenders out of the banking system because he didn't favor that line of business as a matter of personal moral preferences.

The internal memorandum states that FDIC examiners: 

• Should not use “informal suggestions” to make recommendations or requirements for terminating deposit accounts or for criticizing a bank’s management or risk mitigation associated with deposit accounts that does not rise to the level of a recommendation or requirement to terminate accounts
• Must put in writing in the report of examination (ROE) their criticisms of a bank’s management or risk mitigation associated with deposit accounts
• Cannot base recommendations for terminating deposit account relationships solely on reputational risk to the bank

The memorandum further mandates that before recommendations or requirements for terminating deposit accounts are provided to and discussed with a bank’s management and directors, they must be made in writing and an FDIC Regional Director must approve them in writing. It also requires such findings to be “thoroughly vetted with regional office and legal staff” before they are included in the ROE or supervisory actions are pursued.

I suppose that this means that from now on, when a payday lender is blackballed by an FDIC-regulated institution, you'll know it's either the result of the institution's own analysis of the risk posed by that specific lender, or, at least, that the persecution has been authorized at high levels of the FDIC, not merely by a lone-wolf, piss-ant field examiner. That ought to give everyone comfort.

As the firm concludes, this latest guidance, while welcome, is not a "Get-Out-Of-Jail-Free" card for payday lenders, porno kings and queens, gun dealers, online dating services, and other "undesirables." As a practical matter, banks that want to do business with them will still be subject to heightened due diligence requirements. Although Ballard Spahr does not put it this way, I will: such businesses will still, for practical purposes, be considered "guilty until proven innocent." The customer will have to be able to demonstrate that it is one of the "good payday lenders" before the risk will likely be judged to be acceptable to the bank.

We'll have to see how this shakes out. While these signs are favorable, until there is a change in the White House, I'm from Missouri on whether we've actually turned a corner.

The FDIC's Left Hand Slaps Its Right Hand

I'm on vacation for a week, so y'all will be spared further abuse until at least the 29th. Before I bow out, however, I'd like to give a hat tip to the FDIC for its exercise of pure chutzpa and sublime soft-shoe-shuffling in attempting to dance away from a letter from one its officials that flat-out told a bank that the entire payday lending biz is problematic (paid subscription required).

The Federal Deposit Insurance Corp. told an Ohio bank early last year that doing business with payday lenders is generally unacceptable, according to a letter released Friday by House Republicans.

[...]

The newly released FDIC letter was written in February 2013, before the agency's actions had become the focus of public controversy. It was sent to the bank's board of directors, and signed by M. Anthony Lowe, the FDIC's Chicago regional director. The name of the Ohio bank that received the letter is blacked out in the version that was released publicly.

"It is our view that payday loans are costly, and offer limited utility for consumers, as compared to traditional loan products," the letter states.

The letter expresses concern about the bank's processing of transactions on behalf of one particular payday lender – the name of that company is also blacked out. It states that the bank's relationship with this payday lender "carries a high degree of risk to the institution, including third-party, reputational, compliance and legal risk, which may expose the bank to individual and class actions by borrowers and local regulatory authorities."

"Consequently, we have generally found that activities related to payday lending are unacceptable for an insured depository institution," the letter states.

Sounds like the critics of Operation Choke Point have a point, doesn't it? Not so fast.

The FDIC responded to the release of the letter by throwing Mr. Lowe under a bus.

The February 2013 letter is not reflective of FDIC policy," Barr said. "Because we have been asked many questions, the FDIC issued guidance in September 2013 making clear that financial institutions operating with the appropriate systems and controls are neither prohibited nor discouraged from providing services to customers complying with applicable federal and state laws."

"We have made this policy clear to our bank supervision managers and examiners, and worked hard to make sure that the policy is being followed," he continued. "We have asked banks to report any communications they've received that do not appear to be consistent with our guidance to the FDIC's management, ombudsman or inspector general."

Those banks who send such reports to the FDIC can expect nothing but the most lax examinations and favorable regulatory treatment on a go-forward basis. At least, they can until every member of the board and senior management is mysteriously felled by attacks by rabid Snow Monkeys imported from Sierra Leone.

 So, according to the FDIC, Lowe was an outlier who didn't understand the actual policy, which had not yet been written, although he should have known the content of the then non-existent policy because, after all...well...ummm...Shut Up! Shut Up! Shut Up!

Just another day in Wonderland.

And people actually make this a conscious career choice?

Uncollaring The Porn Biz

Any banking regulator who thought that the porn business was going to take auto-erotic asphyxiation lying down (or kneeling, or bending over an ottoman, or suspended upside down from various Cirque du Soleil circus apparati) now knows better. In yet another litigious response to Operation Choke Point (paid subscription required), a trade group for payment processors sued a federal banking regulator for pressuring banks that "serviced" purveyors of pornography to "choke the chicken" (that laid the golden eggs).

In a court filing Thursday, the Third Party Payment Processors Association alleged that FDIC examiners coerced and intimidated banks to end their relationships with companies that processed payments for porn businesses.

The examiners' push happened shortly after the FDIC's release in 2011 of a list of industries that it said warranted heightened attention by banks, according to the court papers. The list of industries included pornography, ammunition sales, payday lending, purveyors of racist materials, dating services, Ponzi schemes and coin dealers.

[...]

"FDIC examiners' targeted enforcement against the pornography industry was the advent of its improper practice of moralistic regulation over the banking industry," the filing argues. "Regulators did not target the pornography industry because there was evidence of fraud relative to that industry."

On the record, the FDIC refused to comment. Our usually unreliable inside sources, however, have speculated that if certain bionically-augmented female porn stars had merely agreed to accompany highly-placed FDIC officials on a whirlwind "Around The World In 80 Minutes" tour, all this "choking" might have by-passed the bottleneck of the porn business. Apparently, when certain "professional escorts" claim in their online ads that they are "classy," they mean that even they can only limbo so low.

As we discussed a couple of months ago, the FDIC has taken the position that it never intended to warn banks away from certain lines of business, and that any bank that thought so was "misinterpreting" the FDIC's original guidance that listed certain lines of business as being high risk. Any dummie should have understood that merely classifying a line of business as being "high risk" doesn't mean that a bank shouldn't bank that line of business, but should merely be prepared to justify, during subsequent examinations, exactly why the bank decided to jump into bed with pox-ridden harlots and to sell its soul to the Prince of Darkness. No worries, mate!

As the American Banker's Kevin Wack also notes, the FDIC has contended that any bank that choked a porn business (or spanked a porn monkey) did so solely as an independent business decision, with no pressure or influence at all from the FDIC. Any rumors to the contrary are vile calumny that will be met with an icy stare, followed by carpet napalm bombing via the FDIC's reserve force of Vietnam War-era B-52s.

So, for the porn business, according the FDIC, the banking choke collar is off. Unless, of course, the porn is for a BDSM audience. Then collars will be perfectly appropriate attire.

Read My Lips: "No Targeted Businesses"

Apparently suffering from an attack of sudden-onset common sense, the FDIC issued revised guidance last week on payment processor relationships that eliminated the concept of "targeted businesses" that the FDIC considers to present a heightened risk of consumer fraud. As we disccussed in January, among the "targeted" companies were not only the usual suspects, like payday lenders and telemarketers, but such head scratchers as online dating services. We assume that the FDIC was shining a spotlight on illegal "escort services" that often act as a front for prostitution, but in its customary "why use a jeweler's awl when a sledgehammer will do" approach, it cast a wide net around otherwise legal businesses.

In its press release accompanying the revised guidance, the FDIC accused the rest of the world of failing to grasp its nuanced approach to making the world safer through social engineering.

The lists of examples of merchant categories have led to misunderstandings regarding the FDIC's supervisory approach to TPPPs, creating the misperception that the listed examples of merchant categories were prohibited or discouraged. In fact, it is FDIC's policy that insured institutions that properly manage customer relationships are neither prohibited nor discouraged from providing services to any customer operating in compliance with applicable law. Accordingly, the FDIC is clarifying its guidance to reinforce this approach, and as part of this clarification, the FDIC is removing the lists of examples of merchant categories from its official guidance and informational article.

Apparently, bankers are too dense to understand the FDIC's guidance's "original intent," and so, like Antonin Scalia does with US Constitution, the FDIC issued "Payment Processor Relationships For Dummies" so that the Alfred E. Neumans among the proletariat would finally get it through their thick skulls that the FDIC will not, ever, tell you in advance that a line of business is problematic. Instead, they'll wait until your next examination and then bitch-slap you for serving any members of the "non-targeted" group. That way, Jeb Hensarling can't smack them on the behind like a non-housebroken puppy with a rolled-up copy of their written "guidance" (which, as the FDIC repeatedly asserts, is "not binding like an actual regulation"). It's the way of the regulatory world in the era of "All Fired Up! Ready to Go!"

We're sure that the fact the previous version of the guidance that listed targeted businesses provided one of the bases for the lawsuit filed against the FDIC, OCC, and FRB in June by payday lenders and a trade group had absolutely nothing to do with this recent "clarification." Perish the thought!

In response to to all of this, I echo the immortal sneeze of John "Bluto" Blutarsky.

A Two-Front War

The opponents of Operation Choke Point (a group also known as "The Heimlich Maneuverers") have recently decided to proceed against touch points within the Executive Branch through the other two branches of the federal government. On the judicial front, the payday lending industry filed a lawsuit against the Gang of Three (OCC, FDIC, and FRB) for "illegally" forcing banks that they regulate to choke off access to the financial system to "disfavored" businesses (including, apparently E-Harmony.com, inasmuch as the FDIC has determined that online dating services are "high risk." According to friends that use online dating services, there may or may not be a high risk of illegal activity associated with them, but there sure is plenty of bald-faced lying).

I hope the payday lenders enjoy dancing with a bear.

In the US Congress, House Financial Services Committee Chairman Jeb Hensarling (with a name like "Jeb," you simply know he's from Texas) wrote to Janet Yellen to express his "concern" about the use by the federal bank regulators of the nebulously defined concept of "reputation risk" as a pretext for forcing banks to stop serving legitimate business (for example, payday lending businesses) that the regulators, subjectively, determine pose "undue reputation risk." Hensarling's questions to Yellen are an obviously transparent attempt to set the stage for an argument that the regulators can't define "reputation risk" any better than they can define "obscenity," except they know it when they see it.

While Hensarling harasses Yellen, his running buddy at the House Oversight and Government Reform Committee, Chairman Darrell Issa, decided to poke a stick in the eye of the FDIC (paid subscription required).

Issa sent a letter Monday to FDIC Chairman Martin Gruenberg charging that the agency has been working closely with the Department of Justice as part of its law enforcement effort to root out fraud through the payments processing system.

The California Republican says he doubts testimony by Richard Osterman, acting general counsel at the FDIC, during a House Financial Services Committee hearing last month, in which Osterman repeatedly downplays the FDIC's role, referring to the initiative as a Justice Department program.

"Documents produced to the Committee by the Department of Justice call into question the sincerity and truthfulness of Mr. Osterman's testimony. In fact, the FDIC has been intimately involved in Operation Choke Point since its inception," the letter says.

Calling the FDIC's Acting General Counsel, in effect, a liar might actually prod a tart response from the FDIC. We'll see. Issa wants requested documents delivered to his office by a week from next Monday.

In case people were confused about what Issa's concern about a love match between the DOJ and the FDIC might be, he explained.

"The committee has obtained substantial evidence suggesting that as a result of coordinated actions by the FDIC and the Department of Justice, banks are terminating relationships with entirely legitimate and licensed businesses," the letter adds.

In other words, he'd like the FDIC to hand over a smoking gun that proves his point and also supports his allegation that Mr. Osterman's testimony was less than "sincere" and "truthful." What are the odds the FDIC will produce such documents?

There is little doubt to a cynic that the fact that these serial counter punches are coming in such a short sequence is not coincidental. The opponents of Operation Choke Point, especially of the role of the federal banking regulators in picking winners and losers in the game of gaining access to financial services, without affording any of the parties, banks or their customers, with due process, are pushing back. This is only the early stages of what promises to be a nasty tussle.

Stay tuned.

ICBA Tries To Break The Choke Hold

The ICBA is starting to gag on Operation Choke Point. Before it and its members pass out from lack of oxygen, it's demanding that the Department of Justice loosen its grip on the windpipes of its members.

In a letter Tuesday to the DOJ, Independent Community Bankers of America president Camden Fine argues that the investigation known as Operation Choke Point has an overly broad scope and is hurting community banks' ability to compete with their larger peers.

[...]

[T]he ICBA letter suggests that the Justice Department is singling out smaller banks. "The indiscriminate targeting of community banks offering these services also places community banks at a competitive disadvantage with large banks," Fine writes.

The only lawsuit filed so far as part of Operation Choke Point was brought against a small bank in North Carolina, but large banks have also gotten subpoenas, according to sources.

As the linked article points out, huge banks have received investigative inquiries, but only a little bank has had an actual enforcement action taken against it. Bullies always start out with the smallest member of the group, hoping to intimidate those who might actually be able to fight back to be intimidated.

As the article also discusses, the complaints of the ICBA mirror those previously made by the ABA. Unlike the ABA, however, the ICBA's complaint includes the fact that community banks are being singled out for the harshest treatment. That distinction makes sense, inasmuch as the ICBA focuses on smaller banks, while the ABA leans more toward the interests of the bigger banks.

Both trade groups, however, make the very valid point that law enforcement authorities, and bank regulators, would do a lot less damage to banks and legitimate payment processors if, instead of beating up the banks they regulate, they went after the "bad guys" among the payment processors. If they did so, they might alleviate concerns of many that what the folks at the top are after is not a few bad apples, but entire industries engaged in perfectly legal businesses that "the enforcers" find "distasteful."

Choke Point Starts Choking

Operation Choke Point has strangled its first victim hit its first public target, according to a recent Ballard Spahr client alert. The allegations are serious, because, as the firm notes, all are based upon an underlying allegation of violation of criminal law, in this case, that the bank knowingly participated in a wire fraud scheme. Based upon that alleged "knowing participation," the Department of Justice brought claims under FIRREA and the Anti-Fraud Injunction Act and squeezed a settlement out of a tiny North carolina bank of $1.2 million in penalties and a consent order pursuant to which the bank promised to change its evil ways.

The bank made the mistake of becoming involved with a "Targeted Company," a payday lender (other "Targeted Companies" being credit repair organizations, mortgage assistance relief companies, telemarketers and Internet-based businesses), and allegedly processed ACH payments for the payday lender through a third party payment processor. The following activities by the payday lender were alleged by the DOJ "as fraudulent activity or, at a minimum, warning signs of illegality":

• Some loan agreements included single-payment disclosures under the Truth in Lending Act (TILA) even though they allegedly "hid[ ] in small print and in confusing language" steps required to pay off the loans. The legality of this practice under TILA is the subject of ongoing litigation in a lawsuit brought by the FTC.
• Some loan agreements required consumers to authorize recurring ACH payments, in alleged violation of the Electronic Funds Transfer Act (EFTA). While the CFPB is aware that many lenders require ACH payments on installment loans where the borrower fails to pay by other methods, it has not, at least yet, asserted that these arrangements violate the EFTA.
• Some loan agreements violated the FTC rule limiting wage garnishments.
• Some loan agreements of tribal, offshore and other so-called "choice-of-law" lenders provided for interest at rates prohibited by the law of the states where borrowers resided (but likely permitted by the law of the jurisdiction where the lender was located or licensed).
• In some cases, complaints of unauthorized transactions exceeded thresholds established by NACHA, and in other cases overall return rates were quite high (more than double the 15 percent threshold recently proposed by NACHA).

The bank also agreed to a number of restrictions in its future dealings with third party payment processors, including a ban on dealing with "High Return Originators." Not coincidentally, the threshold for "high return" classification happens to be the same as that contained in a NACHA proposal (0.5 percent for unauthorized debits, 3 percent for data quality returns, and 15 percent for total returns). As the authors of the client alert point out, that's a potentially low threshold in a business (payday lending) where the loans are being made to low credit quality, high default types of borrowers. On the other hand, if the desire is to choke off an entire industry (payday lending) from its access to the banking system, then setting unrealistic low thresholds accomplishes that purpose.

Other onerous requirements for doing business with Targeted Businesses via a payment processor include drilled-down due diligence in connection with money services business licensing under state law (or certification from state licensing authorities that licensing is not required) and with FinCEN; compliance by the third party payment processor with all deceptive trade practice and similar state and federal laws and NACHA rules; and verification that no party associated with the third party payment processor is now or ever has been a member of the Tea Party (perhaps I'm confusing that last requirement with one imposed by the IRS on 503(c) applicants).

The firm concludes with some sober reflections.

Operation Choke Point and the DOJ lawsuit will certainly make it harder for unscrupulous Target Companies to operate. Lawfully operating Target Companies may also be affected, however. If the consent order is read to require banks processing ACH transactions to ensure that their customers comply completely with all applicable law, many banks may discontinue providing ACH services to all Target Companies. Accordingly, we hope that clarification is provided that the duty on banks is to ensure that their ACH customers have a lawful business model, a thorough due diligence investigation discloses no apparent and continuing violations of applicable law, and any grounds for concern are promptly investigated and resolved.

The CFPB lawsuit against CashCall was ground-breaking. The DOJ lawsuit against Four Oaks Bank is earth-shattering.

That "many banks may discontinue providing ACH services to all Target Companies" is not a far-fetched prospect. It's happening, as we speak.

I wonder if, by the time 2017 rolls around, and Eric Holder and his cohorts at the DOJ are forced to find honest work, there will be any payday lenders left.

Don't Bother Me, I’m a Banker

Another guest blog post from former community banker and mortgage banker, Pat Dalrymple, this one on the folly of the fear of increased compliance risk causing community bankers to forgo the revenue generated by a sensible residential mortgage banking line of business.

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Community bankers are quick to bemoan the touted demise of the home town financial institution, but seem unable to do anything about it. In fact, the majority of small bank CEO’s will probably tell you that, over the next five years or so, the CB side of the business will be acquired and merged out of existence.

Bought by whom?  Merged with what?

Very few big banks are expanding; in fact, they’re shrinking as fast as they can, throwing everything but the cannon overboard to lighten the ship.  Private capital is extremely wary of getting into banking with a small vehicle.  Community bankers may find, possibly to their chagrin, that they’re going to be around for some time.

The smaller banks have generally done a good  job of marketing in their trade areas.  Indeed, their success in embedding themselves in their communities should be the envy of every marketing professional.  This is a significant competitive advantage that, for some reason, they’ve failed to exploit.

Many banks have been strangely, remiss in serving their customers in their major borrowing need : residential mortgages.  The traditional community bank attitude, which still clings like a barnacle to the hull of small banking, is that “we don’t do that, we don’t know how to do it, and we don’t really want to do it.  Go across the street to the S&L or mortgage company”. 

When the Great Meltdown hit in 2008, thousands of mortgage brokers left the business, because the alternative and sub-prime products were no more.  A second exodus came with the new restrictive consumer protection and documentation regs; for a lot of practitioners, robust regulation  simply wasn’t fun. This did, however create a vacuum that was one of those business opportunities that come along every generation  or two.  Unaccountably, community banks, even those with mortgage departments, failed to take advantage of it.  They were probably too mesmerized by watching the train wreck to think.

Those brokers that remain, unfortunately for bankers, are the cream of the crop.  They’re competent, professional and ethical.  The robust residential loan business being fed to the conduits by mortgage brokers is a major factor in big banking’s return to profitability.

Yet small banks, especially those in smaller communities or market areas, can beat the brokers hands down, if they choose to do so.  Because of its market preeminence, a bank can, almost without trying, quickly become a mortgage broker on steroids.

In addition to “Don’t want to”, and “Don’t know how to”, write down “Afraid to”.   Compliance regs, as promulgated by the Consumer Financial Protection Bureau are scaring little banks out of their pants.  On one hand, a somewhat puzzling reaction, since compliance has become the business of banking.  Still, adding any more rules can be daunting.  And, if you’re not afraid of the CFPB, you don’t understand the situation.

A good friend is the CEO of a community bank that’s profitable, growing, actively lending and with virtually no problem loans.  It also brokers residential mortgages for its bank customers, so I thought it might be a good  example of how to do it..

He addresses the compliance issue by not doing most of it.  His bank brokers only to wholesalers that do all of the disclosures. 

Are his customers nonplussed when their bank passes their mortgage app along to a wholesaler for funding?  That question elicited a polite dumb question answer: “Why would they go across the street when they can get their money through their own bank?”

Is it worth the effort to get into the business?  Well, there’s a simple way to find out.  Just take the last 12 months of mortgage recordings in your market area and see how many loans your customers got from others.  The results could be surprising, even shocking.  Figure that you should be able to get a fairly high percentage of those deals.  Multiply that number by the lender paid compensation offered by the wholesalers, and you know what may have been left on the table over the past year.

Finally, it’s ridiculously easy to crank up the activity.  Many, if not most, small banks are under-utilizing staff right now, and the wholesale lenders love banks.  They’ll kiss the proverbial ring for the community bank’s business.

Simply stated, banking is the business of making a profit on the movement of money.  Why let somebody else make a profit on that movement, off of your customers, at your expense?