In a split decision, the United States Court of Appeals for the Ninth Circuit recently found that the Home Owners’ Loan Act of 1933 (“HOLA”) and its regulations preempted a California state law that required banks to pay borrowers interest on escrow accounts, even after the original savings association assigned the mortgage to a national bank. See McShannock v. JP Morgan Chase Bank NA, 2020 WL 5639700 (9th Cir. Sept. 22, 2020). Plaintiffs obtained loans from Washington Mutual between 2005 and 2007. Under California law, money held in escrow accounts for residential mortgages are required to accrue interest at a rate of 2% per year, with the money credited to the borrowers. See California Civil Code Section 2954.8. However, Washington Mutual was a federal savings association regulated by HOLA, which preempted the state escrow law. 12 C.F.R. § 560. This regulation was recently removed and replaced by new regulations that hold that “[s]tate law applies to the lending activities of federal savings associations and their subsidiaries to the same extent and in the same manner that those laws apply to national banks and their subsidiaries.” 12 C.F.R. § 160.2. The parties nonetheless agreed that 12 C.F.R. § 560 applied because that was the regulation in effect at the periods at issue in this case.
In 2008, Washington Mutual failed, and JP Morgan Chase eventually purchased its assets. Chase is a national bank regulated by the National Bank Act, which does not preempt the California law. In 2018, plaintiffs brought this class action complaint, claiming that Chase violated the state escrow law by not paying interest to plaintiffs after it purchased the loan. Chase filed a motion to dismiss, arguing that it was not required to pay interest to plaintiffs because the loan was originated by a federal savings association and was governed by HOLA, regardless of whether it was later assigned to a national bank. The District Court denied the motion, finding that any HOLA preemption evaporated once the loan was transferred to a national bank.
On appeal, the Ninth Circuit reversed. It found that the preemption regulations are “not so limited in scope to cover only the conduct of a federal savings association.” Instead, “we hold that field preemption principles extend to all state laws affecting a federal savings association, without reference to whether the conduct giving rise to a state law claim is that of a federal savings association or of a national bank.” The Court further noted that Congress amended HOLA in 1978 to allow the sale of mortgages to the secondary market. “Thus, there is little doubt that Congress intended HOLA to cover the sale of mortgages belonging to federal savings associations” because 12 C.F.R. § 560.2(c)(6)(ii) preempted state laws that have more than an “incidental effect on the lending operations of” federal savings associations. The Court further stated: “We agree with Chase that a state law, such as California's interest-on-escrow law, that directly or indirectly imposes conditions on a federal savings association’s ability to convey a loan is preempted under HOLA. Thus, California's interest-on-escrow law is also preempted by section 560.2(b)(10) because it affects the sale, purchase of, investment in, and participation in loans originated by savings associations.”
Finally, Judge Gwin issued a dissent in which he disputed the majority’s finding that the HOLA preemption carried over to a national bank assignee. “The majority does not show that 12 C.F.R. § 560.2 preemption was meant to flow through to a third party that purchased a loan from a federal savings association. Once Chase held the loans, the loans were no longer a part of ‘the operation of federal savings associations,’ and the regulation does not govern Chase's conduct.” This case is important for banks who have been assigned loans from savings associations, particularly in light of a 2018 9th Circuit decision that found that the National Bank Act does not preempt California’s escrow interest law in a case where the national bank originated the loan. See Lusnak v. Bank of Am., N.A., 883 F.3d 1185 (9th Cir.), cert. denied, 139 S. Ct. 567 (2018).