Preemption Decision is Great News for National Banks and Federal Savings Associations

By: David L. Beam

Last Thursday, the California Supreme Court handed down what arguably is the most important decision on federal preemption for national banks since the Dodd-Frank Act was passed in mid-2010. The specific issue in Parks v. MBNA America Bank, N.A., 2012 Cal. LEXIS 5795 (Cal. June 21, 2012), was whether California could require national banks to place certain disclosures on credit card “convenience checks.” MBNA, the defendant, argued that the California law was preempted for national banks by the National Bank Act. The state court of appeals had disagreed.

The key issue in the case was whether the California disclosure law would “prevent or significantly interfere” with MBNA’s exercise of its powers. (The court of appeals had also addressed whether an OCC rule which expressly preempted state disclosure laws was a valid regulation. As discussed below, the California Supreme Court did not need to reach this issue.)

The Court of Appeals Decision Under Review

As you might know, the United States Supreme Court held, in Barnett Bank of Marion County v. Nelson, 517 U.S. 25 (1996), that a state law would be preempted for a national bank if the state law “prevented or significantly interfered with” the national bank’s powers. The Dodd-Frank Act codified this standard for state consumer financial laws. (Because the facts of the case arose before Dodd-Frank, the decision technically applied the law as it existed before Dodd-Frank. But because the decision revolved around the proper interpretation and application of the Barnett standard—which, as noted above, the Dodd-Frank Act codified—the decision should still be an important precedent for cases arising after the Dodd-Frank Act’s effective date.)

The court of appeals had held that it was impossible to conclude as a matter of law—that is, without a factual record—that the California law prevented or significantly interfered with MBNA’s powers. The court recognized that sometimes a factual record would not be necessary. For example, a factual record is not necessary if (as was the case in the Barnett decision itself) the state law at issue flat out prohibited a national bank from doing something that federal law authorized the national bank to do. But, the court said, where the state law fell short of explicitly limiting a bank’s powers, and merely attached additional requirements for banks to follow when exercising those powers, the bank had the burden of presenting evidence to prove that complying with the state law would significantly interfere with its operations. The court also held that an OCC rule which categorically preempted state disclosure laws for national banks was inconsistent with Supreme Court precedent and therefore invalid.

The state court of appeals decision directly split with the Ninth Circuit Court of Appeals decision in Rose v. Chase Bank USA, N.A., 513 F.3d 1032 (9th Cir. 2008). In Rose, the Ninth Circuit concluded (as a matter of law) that the National Bank Act (as interpreted by the Supreme Court in Barnett) preempted the exact California disclosure requirements that were at issue in Parks.

The state court of appeals decision in Parks presented a troubling precedent for national banks. If significant interference were a factual question, then it would be difficult to know which state laws were preempted. The answer would depend on the factfinder. It even could vary from bank to bank. Further complicating the matter for national banks was that the split between the state appeals court in Parks and the Ninth Circuit in Rose meant that state and federal courts in California might apply drastically different standards when evaluating whether the National Bank Act preempted a state law.

The California Supreme Court Decision

Fortunately for banks, the California Supreme Court overturned the court of appeals decision. In doing so, the Supreme Court aligned California state courts with their federal counterparts in the Ninth Circuit. “[W]e know of no case,” said the court, “decided by our court or by the United States Supreme Court in which the issue of preemption turned on whether a national bank made an adequate factual showing that state law significantly impaired its federally authorized powers.” The disclosure requirements at issue were preempted, the court concluded, because the requirements “impose a condition on the federally authorized power of national banks to loan money on personal security.” Thus, the effect of the state law “is to forbid national banks from offering credit in the form of convenience checks unless they comply with state law.” This, the court decided, was a significant impairment of the bank’s ability to exercise its authority under federal law to lend money. Requiring the bank to present evidence to prove significant interference as a factual matter also could cause a state law to be preempted for some national banks, but not others. “Even where one national bank has litigated the applicability of the precise state law at issue, other national banks will not be able to rely on the outcome of that litigation because the inquiry will vary depending on the particular operations of the bank and the factual showing made.”

The court also noted that in Watters v. Wachovia Bank, N.A., 550 U.S. 1 (2007), the United States Supreme Court had said that the preemption analysis should consider not just the impact of the discrete law at issue, but the cumulative effect that similar laws in multiple states would have on bank operations. Thus, the California Supreme Court considered not just how burdensome it would be for national banks to comply with California’s convenience check disclosure rules. The court considered how hard it would be for national banks to comply with a patchwork of inconsistent state disclosure requirements for convenience checks. It was much more evident that the cumulative impact of multiple inconsistent state laws would significantly interfere with a national bank’s exercise of its powers.

Because it concluded that the state law at issue was preempted under Barnett, the court did not reach the question of whether the OCC rules which declared state disclosure requirements are categorically preempted for national banks was a valid exercise of that agency’s powers.

Analysis

This decision is a huge victory for national banks.

First, it interprets Barnett expansively. Critics of preemption had long argued that “prevents or significantly interferes” was a high bar that left states with broad authority to regulate the activities of national banks. Battles over the meaning of Barnett faded somewhat after 2004, when the OCC issued preemption rules that crisply and categorically declared various types of state laws to be preempted. For years, preemption analyses for national banks revolved more around the proper application of these rules than a direct application of the Barnett standard. But the question of what Barnett meant gained renewed importance after the Dodd-Frank Act, which codified Barnett and reaffirmed that it provided the primary test that courts and the OCC should use when deciding whether a state consumer financial law was preempted for a national bank (and, after Dodd-Frank, for federal savings associations also). Decisions like the state court of appeals decision in Parks raised serious questions for national banks about whether they could rely on courts to interpret Barnett to expansively preempt state laws—or whether courts would use a case-by-case factual analysis to resolve preemption disputes, the outcome of which could easily depend on the perspective of the individual presiding judge. The California Supreme Court made clear that the Barnett standard presented a question of law for the court to decide—and that the answer will be the same for all national banks.

The California Supreme Court’s decision also rejected the contention that Barnett established some extraordinarily high bar for national banks to meet. Most importantly, the decision recognized that the preemption analysis should focus on the cumulative effect on national bank powers of having to comply with fifty sets of laws similar to the law at issue in the case. In other words, the question is not whether the individual law at issue in the case presents a significant interference; the question is whether all the state laws in the class of laws to which the individual at issue belongs would present a significant interference. National banks will have a considerably easier time persuading courts that a class of state laws presents a significant interference.

Perhaps the only disappointing part of the decision is that by overturning the split with the Ninth Circuit created by the state court of appeals, the California Supreme Court made it far less likely that the Parks case will be the vehicle for the United States Supreme Court itself to resolve these issues. Until the Supreme Court definitively resolves these outstanding questions about the meaning of Barnett, there is still a possibility that courts in other states will follow the reasoning of the state court of appeals. But the Parks decision nevertheless adds to the weight of precedent adopting a more expansive interpretation of Barnett. It is, in short, outstanding news for national banks and federal savings associations.