The dual banking system—federal and state—has been one of the cornerstones of the American financial landscape since the nation’s founding.
And it works.
“The dual banking system has been an extraordinary success in the United States, providing the country a strong and resilient banking system,” says Kentucky Rep. Adam Koenig (R), who serves on the House Banking and Insurance Committee. “States have worked hard to design regulatory systems that encourage innovation, while still protecting citizens. Especially in the rapidly expanding world of financial technology, state oversight is critical.”
And there’s plenty of it. Nearly 80% of all U.S. banks are regulated by state banking supervisors, who also serve as the primary regulators of nonbank financial institutions, including financial technology companies. States require a thorough charter process for banks and nonbank companies and enforce different types of consumer protections, including preventing housing discrimination and privacy violations, and imposing interest rate caps, among others. States regulators also have made enormous strides in creating a more uniform chartering process across state lines.
We want to make sure that companies ... are quality, well-capitalized companies and ensure that consumers are protected. —Maryland Sen. Brian Feldman
Over the last few years, however, state banking authority has faced a variety of challenges. In 2020, for example, the Office of the Comptroller of the Currency, which is the supervisory agency for federal bank charters, decided to accept applications from payments companies to obtain special purpose charters. Payments companies help facilitate the transfer of credit and debit card payments between people or other entities. The new arrangement would preempt state regulatory authority and bring the companies out from under state regulations and consumer protections, including interest rate caps and state usury laws. A similar OCC proposal in 2016 to accept national bank charter applications from fintech companies was stalled in the courts. As a result, the OCC narrowed its proposal to “payments companies.”
While the issue is still being litigated, states believe that because money transmitters, mortgage lenders, loan providers and other fintech companies do not accept deposits like traditional banks, the companies do not meet the threshold of operating in the “business of banking,” as defined in the National Bank Act. Moreover, states believe any preemption of their banking authority should come from Congress, not federal regulatory agencies.
Rise of Cryptocurrencies
The uniqueness and complexity of cryptocurrency have created a large gray area for federal and state regulators, who are still trying to determine the best way to govern the $2 trillion industry. As cryptocurrency’s popularity has soared worldwide, especially with retail investors, it is being used to fulfill many of the functions of traditional financial products, including payments, loans and speculative investments. State banking regulators, the Securities and Exchange Commission and the Commodity Futures Trading Commission have begun regulating certain types of crypto, depending on the service being offered or how consumers are using it.
At the state level, companies that use crypto as a store of value—assets held by exchanges or other entities on a person’s behalf that are viewed as speculative, long-term investments—are required to obtain a money transmitter license in many states. While most states also require these licenses for companies that store value in U.S. dollars, not as many do so for cryptocurrency.
State banking regulators are also exerting oversight authority over crypto asset management companies with portfolios of less than $100 million, along with companies that offer interest-bearing crypto accounts; the transmission of crypto as a payment; the lending of digital assets in exchange for other assets or the earning of interest; and the insurance of crypto companies.
Licensing Uniformity Efforts
States continue to develop new ways to synchronize regulatory standards across the country to provide an efficient, uniform licensing process, while still enforcing consumer protections and conducting rigorous reviews to ensure that companies are qualified to provide services to the public.
To make the licensing process more uniform and efficient, state banking regulators implemented the Nationwide MultiState Licensing System. It allows nonbank financial services entities to go through similar chartering processes across multiple jurisdictions. And the Conference of State Banking Supervisors recently released model legislation, the Uniform Money Transmission Modernization Act, to create a single nationwide standard for money transmitter companies. That regulatory baseline will provide more certainty for transmitters seeking licenses and a more predictable regulatory environment. It encourages information sharing across state lines, adds risk detection for fraud or other consumer threats, and imposes common standards to determine whether to license a company.
‘True Lender’ Rule and Interest Rate Caps
In October 2020, the Office of the Comptroller of the Currency issued a final rule that state banking authorities argue would have allowed fintech company lenders to partner with national banks and avoid state banking laws, including interest rates caps. The OCC argued that the rule would provide more certainty regarding who the “true lender” is for loans issued through partnerships between third-party, nonbank lenders and national banks.
The true lender rule stated that the responsible party for the loans would be the entity that funded the loan or was named as the lender on the loan agreement. Opponents of the rule, including the Conference of State Banking Supervisors, argue that it would allow fintech companies to evade state interest rate caps by entering into temporary relationships with federally insured banks. That would make any loans issued subject to federal, not state, banking laws regardless of where the loan recipient lives.
In early July, however, President Joe Biden signed a congressional resolution that repealed the true lender rule. Consequently, the rule will not take effect and the OCC cannot adopt a replacement rule that is substantially similar to the one repealed without congressional approval.
“State legislatures craft their banking laws in specific ways for specific reasons,” says Maryland Sen. Brian Feldman (D), the vice chair of Maryland’s Senate Finance Committee. “We want to make sure that companies who are offering financial products to the public are quality, well-capitalized companies and ensure that consumers are protected.”
Tres York is a policy specialist with NCSL’s Communications, Financial Services and Interstate Commerce Committee.