Forum for Financial Institution Directors Regulators and Legislators on the Move – Recent Actions and How They Affect

You

Christine Edwards Jerry Loesercedwards@winston.com jloeser@winston.com+1 (312) 558-5571 +1 (312) 558-5985

August 17, 2018

What We Will Cover: A Changing Landscape• U.S. Treasury: Report on Nonbank Financials, Fintech, and

Innovation• Comptroller of the Currency: Announcement on Chartering Fintech

National Banks• GFIN: BCFP Participation in International Cooperation on Fintech• Bank Charter Application Increase• Terminating Your Parent Bank Holding Company? The Zions case• Late-breaking News from Elizabeth Warren – "Accountable

Capitalism Act"

2

July 31, 2018 U. S. Treasury Report

• Pursuant to February 3, 2017 Presidential Executive Order 13772- To identify laws, regulations, requirements, and government policies that inhibit

financial regulation consistent with seven Core Principles:

• Empower Americans

• Prevent bailouts

• Foster economic growth and vibrant markets

• Enable American companies to be competitive with foreign firms

• Advance American interests

• Make regulation effective, efficient, and tailored

• Restore public accountability and rationalize the regulatory framework

3

July 31, 2018 U.S. Treasury Report

• Last of four reports.• Previously:

- Banking (June 12, 2017)

- Capital Markets (October 7, 2017)

- Asset Management and Insurance (October 26, 2017)

• This report covers nonbank financials, fintech, and innovation.

4

Environmental Factors Influencing Fintech Focus• Examples of Nonbank Financials, Fintech, and Innovation:

- Online lending

- Facilitating back-end check processing

- Enabling card issuance, processing, and network activities

- Providing customer-facing digital payments software

5

Environmental Factors Influencing Fintech Focus• Government response to Financial Crisis

- Hundreds of new regulations

• Making certain product segments unprofitable for banks

- Thereby driving such activities outside of the banking sector

• Creating opportunities for nonbank firms to meet market demands

• Simultaneous rapid development of financial technologies- Use of data

- Speed of communication

- Proliferation of mobile devices and applications

- Expansion of information flow

6

Environmental Factors Influencing Fintech Focus• Deloitte: from 2010 to 2017, 3,330 new tech firms serving financial

services were founded.- Financing of such firms reached $22 billion globally in 2017.

• 13-fold increase since 2010.

• Lending by such firms now makes up more than 36% of all personal loans.- Up from less than 1% in 2010.

• Some digital financial services reach up to 80 million customers.

7

Environmental Factors Influencing Fintech Focus • Problems with patchwork, non-uniform state laws and aggressive

state attorneys-general.• Nonbanks have opportunistically responded when banks pulled

back.• Startups have grown rapidly.

- Ubiquity of online access in U.S. enables that growth.

• Innovative new startups with two models: stand-alone and interconnect with banks.

• Large tech companies with vast stores of consumer data offer financial services.

• Fintech competitor growth has forced traditional firms to innovate.8

Environmental Factors Influencing Fintech Focus • NOTE: The Treasury Report deals with blockchain and distributed

ledger technologies in a limited way.- Those technologies, as well as digital assets, are being separately explored in

an interagency effort led by a working group of the Financial Stability Oversight

Council (FSOC).

- That group is a convening mechanism to promote coordination among

regulators as these technologies evolve.

9

Report Summary: Emerging Trends in Financial Intermediation Significantly Reshaping Financial Services• Rapid advances in technology• Increased efficiencies from the rapid digitalization of the economy• Abundance of capital available to propel innovation

10

Rapid Advances in Technology• Innovations

- Expand access to financial services for:• Underserved individuals using new mobile device-based banking applications• Small businesses benefitting from new types of data and credit analysis• Broad segment of households seeking financial planning and wealth management services

previously only available to higher net worth individuals- Improve:

• Ease of use

• Speed (Q: shorten the 2016 average of 52 days to close a mortgage?)

• Cost (e.g., marketplace lenders charge lower interest rates; financial advisers can leverage technology to

provide advice at lower per-client cost)

• Security (contactless payment methods that store and tokenize payment information)

- Help small businesses

• Opportunities to- Win market share- Reduce per-customer operational costs

11

Increased Efficiencies from the Rapid Digitalization of the Economy• Proliferation of data available for analysis.

- A.T. Kearney: • By 2020, digitized data will be generated at a level 40 times greater than the level in

2009.• In 2012, 90% of digitized data had been generated in the previous two years.

- In 2012, 1 billion people gained internet access and 2.5 billion connected.

- In 2017, 3.5 billion people connected to the internet.

- Today, there are 27 billion devices connected to the internet.• In 2030, there will be 125 billion devices connected to the internet.

• This has given rise to cloud computing and machine learning (artificial intelligence).

• Data analytics and artificial intelligence represent two of the top three areas of tech investment by financial services firms.

12

Abundance of Capital Available to Propel Innovation• U.S. firms accounted for nearly half of the $117 billion in cumulative

global fintech investments from 2010 to 2017.- Large established tech firms have begun to engage in activities related to

financial services.

• Many are based in the U.S.

13

Four Categories of Treasury Recommendations• 1. Adapt regulatory approaches to changes in sharing of consumer finance data

and support the development of key competitive technologies.- E.g., enact a federal data security and breach notification law.

• 2. Align regulatory framework to combat unnecessary fragmentation and to account for new business models enabled by fintech.- E.g., issue fintech national bank charters.

• 3. Update activity-specific outdated regulations across a range of products offered by nonbanks.- E.g., clarify applicability of usury laws to bank partnership model.

• 4. Advocate an approach to regulation that enables responsible experimentation.- E.g., promote regulatory sandbox.

14

1. Adapt Regulatory Approaches to Changes• Update the Telephone Consumer Protection Act.

- 1991 statute to restrict telemarketing calls and the use of autodialers and prerecorded messages.• Prohibits use of autodialer to call cellphone without prior consent.

• But financial services firms need to use digital communication to reach customers who rely on text messaging

and email on cellphones.

• BCFP should adopt rules codifying that reasonable use of text messaging and email is permissible in debt collection.

• Enable financial services companies and data aggregators to establish data sharing agreements.- Move away from screen-scraping to more secure and efficient methods (e.g., application programming interfaces (“API”) linking systems).- To do this, with private sector, address:

• Data sharing

• Standardization

• Security

• Liability

• Enact a federal data security and breach notification law. 15

2. Align the Regulatory Framework to Promote Innovation• Nonbank financial service providers operate within a state-based

regulatory regime.- Not optimally suited to address new business models and evolution of financial services- State regulations need to harmonize

• E.g., Model licensing laws

• Joint examinations needed

• E.g., Vision 2020 by the Conference of State Bank Supervisors

• E.g., Nationwide Multistate Licensing System (“NMLS”)

- OCC Fintech bank charter- Guide bank partnership models

16

3. Update Activity-Specific Regulations• Marketplace Lending’s Bank Partnership Model

- Applicability of usury laws in the event of bank loan sales and who is the true lender should be clarified by Congress and bank regulators.

• Mortgage Lending and Servicing- Because of post-crisis regulatory burden, banks have ceded market share to nonbanks, e.g., government-insured mortgages.- Policymakers should:

• Address regulatory challenges that discourage broad primary market participation.• Encourage the adoption of technological developments that can:

- Shorten origination times (by an estimated 20%)(e.g., FHLBs should accept eNotes; appraisers

should use automated valuation models),

- Facilitate efficient loss mitigation, and

- Lower costs.17

3. Update Activity-Specific Regulations• Student Lending and Servicing

- U.S. Department of Education should establish student loan servicing standards.• Today, student loan borrowers are treated differently by different servicers.

- Payment application across loans

- Prioritizing repayment plans

- Use of deferment and forbearance options

- Increase the use of technology to: • Communicate with borrowers.

• Monitor the performance of portfolios.

• Increase accountability of schools participating in federal financial aid programs.

18

3. Update Activity-Specific Regulations• Short-Term, Small-Dollar Lending

- BCFP should rescind its payday loan rule.• States already regulate these loans

• Rule would restrict consumer access to credit

- State and federal banking regulators should encourage prudent short-term, small-dollar installment lending by banks.

• Debt Collection- BCFP should establish minimum standards for third-party debt collectors including for the information that must be transferred when a debt is sent for collection or sale.

19

3. Update Activity-Specific Regulations• New Credit Models and Data

- Today based on payment history, e.g., FICO scores.- Regulators should enable the testing of newer data sets (e.g., rent history, utility and cellphone bills, social media, browsing history, shopping patterns) or advanced algorithms, including machine learning-based methods, to support credit underwriting.

• Provide clarity for the use of new data and modeling approaches.

- FCRA requires special adverse action notice for denial based on credit report information

- Model validation under banking agency guidance on model risk management where model is constantly “learning”

• Expand access to credit to borrowers with thin credit files and to small businesses.

• Credit Bureaus- Agencies should coordinate to protect consumer data held by consumer reporting agencies.

• Q: Routine supervision of data security?

• Congress should assess whether further authority is needed in this area.

- Congress should amend the Credit Repair Organizations Act to exclude national credit bureaus and national credit scorers to allow them to provide credit education and counseling to consumers to improve their credit scores without being subject to regulation as a credit repair organization and limits on payments to them.

20

3. Update Activity-Specific Regulations• IRS Income Verification

- Enable lenders to obtain tax information through an application programing interface (API) for instant and safe transfer of data from the IRS to speed up loan approvals.

• Payments- States should work to harmonize money transmitter licensing requirements.- The BCFP should provide more flexibility for the issuance of electronic disclosures in the case of international remittances and increase the threshold for its de minimis exception.- The FRB should move quickly to facilitate a faster retail payment system, taking into account the ability of smaller financial institutions to access innovative technologies and payment services.

21

3. Update Activity-Specific Regulations• Wealth Management and Digital Financial Planning

- Today, financial planners are subject to regulation by numerous agencies depending on the activities in which they engage.

• Investment advice – SEC and state securities regulators• Insurance – State insurance regulators• 401(k)s – U.S. Department of Labor• Consumer financial services – BCFP• Bankers – Banking agencies• Accountants – State boards of accountancy• Attorneys – State bars

- An appropriate existing regulator of a financial planner should be given primary oversight of that financial planner and other regulators should defer to that regulator.

22

4. Regulating a 21st Century Economy

• Congress should authorize financial regulators to use authority for research and development and proof of concept technology projects.

• Financial regulators should pursue robust engagement efforts with industry and establish clear points of contact for outreach.

23

OCC: FinTech National Bank Charters• July 31, 2018 Announcement by Office of the Comptroller of the Currency.

- OCC will begin accepting national bank charter applications from nondepository financial technology companies engaged in the business of banking.

• Receiving deposits

• Paying checks

• Lending money

- Any of these three activities qualifies.- Lending money and “paying checks” (online payments) are the focus.- Enable innovators to operate on a national scale.

• Preemption of certain state laws

- The term “financial technology” is not defined.• Q: Google, Amazon, PayPal, Apple

• As many as five other agencies may also be moving forward with some aspect of promoting fintech.

25

OCC Supervision of FinTech National Banks• Examination

- Capital- Liquidity- Risk Management- “Financial inclusion”

• Like Community Reinvestment Act• Submission of contingency plans to address financial strength that

could threaten their viability- Strategies- Sale, merger, liquidation options

• Initial heightened supervision- As with all de novo banks

26

OCC Considerations in Acting on FinTech Charter Applications• Will the proposed bank:

- Have a reasonable chance of success?

- Be operated in a safe and sound manner?

- Provide fair access to financial services?

- Treat customers fairly?

- Comply with applicable laws?

- Achieve and maintain profitability?

- Foster healthy competition?

27

OCC: FinTech Bank Safety and Soundness Standards• High• Based on:

- Size

- Complexity

- Risk profile

28

OCC Limits on FinTech Bank Charters

• Continue separation of banking and commerce- But, if no deposit-taking, Bank Holding Company Act would not apply

• No approval of certain products - Predatory

- Unfair

- Deceptive

- Undue risk to consumer protection

29

OCC FinTech Charter Application Process• Five natural persons as incorporators• Forms and instructions available on OCC website (www.occ.gov)• Prefiling meeting with OCC encouraged• OCC filing fees have been suspended for 2018• Publication of notice of filing• Application will be publicly available• OCC will accept public comments

30

Likely Opposition to Fintech National Bank Charters• America’s Community Bankers (“ACB”) and the Conference of

State Bank Supervisors (“CSBS”) have expressed opposition.- ACB has also expressed opposition to the FDIC considering deposit insurance

for industrial banks affiliated with commercial firms.

• The CSBS and the New York Department of Financial Services (“NYDFS”) sued the OCC when the OCC first announced it would consider issuing fintech national bank charters.- That suit was dismissed last May as premature.

- Q: Will the CSBS and NYDFS refile suit as soon as the OCC approves the first

fintech national bank charter?

31

Arizona “Sandbox”• On August 3, 2018, the Governor of Arizona signed H.B. 2434,

making it the first State to enact a regulatory fintech “sandbox.”- The Attorney General is to establish a program to enable a person to obtain limited access to the market in Arizona to test innovative financial products or services without obtaining a license or other authorization.- Possible reciprocity with other states.- Participants will have 24 months to test, subject to a possible one-year extension.

• Not more than 10,000 consumers may use the innovation

• A loan to an individual consumer may not exceed $15,000

• Aggregate loans to an individual consumer may not exceed $50,000

- Program ends July 1, 2028.32

GFIN: BCFP Opts Into International Cooperation on Fintech• August 7, 2018: BCFP Announcement of Consultative Document.

- Working with 11 financial regulators and related organizations to create a Global Financial Innovation Network

• To help innovative firms navigate between countries as they try to scale new ideas• To serve as a framework of cooperation between regulators

- Public comments due October 14, 2018• United Kingdom’s Financial Conduct Authority last February proposed a

“global sandbox.”• GFIN is the initiative to create the “global sandbox.”• Other members: Abu Dhabi, Australia, Bahrain, Dubai, Guernsey, Hong

Kong, Quebec, Ontario, Singapore, and the Consultative Group to Assist the Poor.

• Other “sandboxes.”- BCFP’s Project Catalyst- State of Arizona 33

What Does This All Mean for Banks and Their Boards?• Simultaneous issuance of Treasury Report and OCC fintech charter

announcement quickly followed by BCFP GFIN announcement- Fintech represents competition and opportunities

• Not only new competition• But also new opportunities for business partnerships

• Fintech is being promoted by federal agencies and state agencies- Different and possibly conflicting initiatives- Care is advisable as there are uncertainties

• Q: private rights of actions?• Q: aggressive State attorneys-general?• Q: temporary nature of waivers?• Q: need to prepare for full compliance eventually in any case?• Q: statutory authority for waivers?

- Q: Who will file the first OCC fintech charter application and risk litigation? 34

Increase in Bank Charter Applications

• A decade with an absence of bank charter applications• Now charter applications are being filed at a rate of 10-12 per year• Projected to be 16-20 per year• Why the change?

- Bank mergers eliminating banks from some communities created need

- Strong economy

- Change in Administrations

35

Zions Bank Decision to Terminate Its Bank Holding Company• July 18, 2018 Announcement of FSOC’s Termination of SIFI Status• $66 billion in assets

- A large regional community bank- A “Systemically Important Financial Institution” (“SIFI”) under the Dodd-Frank Act

• Because holding company with more than $50 billion in assets• Subject to Enhanced Prudential Supervision by the Federal Reserve Board• The same Enhanced Prudential Supervision to which the largest U.S. bank holding

companies are subject• Effect of Termination of Bank Holding Company

- Remove Federal Reserve Board as a regulator- Dodd-Frank treatment as a Nonbank SIFI, subject to appeal to Financial Stability Oversight Council (“FSOC”)

• The “Hotel California” Provision 36

Zions Bank Decision to Terminate Its Bank Holding Company• Process

- Discuss with Federal Reserve Board, the holding company’s regulator and a member of FSOC- Discuss with the Office of the Comptroller of the Currency, the bank’s primary regulator and a member of FSOC- Discuss with FSOC- New Administration may have changed attitudes

• The legal and policy arguments make sense no matter the politics- Bank’s Chief Executive Officer’s and General Counsel’s attendance in meetings with regulators was essential- 18 months from start to finish

• Case of first impression to regulators

37

Zions Bank Decision to Terminate Its Bank Holding Company• Newly Passed Regulatory Reform Legislation

- Raises SIFI threshold from $50 billion to $100 billion in assets

- Eventually to increase to $250 billion

• Nonetheless, de-BHCing eliminates jurisdiction of one of two federal bank regulators.

• Most BHC activities may be conducted through subsidiaries of bank.

• Prior to 1970s, most banks did not have parent holding companies.

38

Late-breaking News from Elizabeth Warren: The Accountable Capitalism Act• Introduced by Senator Warren on August 15, 2018• Requirements for Public Companies (not just bank or financial services

companies)- Corporations with more than $1 billion in annual revenue must become federally chartered.

• Charter would require directors to consider “all major corporate stakeholders” when making business decisions,

including:

- Employees

- Communities

- Customers

- Shareholders

• Compares to "benefit corporations"

- At least 40% of directors would have to be elected by employees.- At least 75% of directors and stakeholders would have to approve any political expenditure.- Directors and officers would be prohibited from selling company shares:

• Within five years of acquiring those shares and

• Within three years of any company stock buyback.

- "Repeated and egregious illegal conduct" can lead to its charter being revoked. 39

Questions for Directors to Ask

• The term “fintech company” is not defined by the OCC; could Google or Amazon apply for a fintech bank charter?

• How essential is our bank holding company?• Should we review how we are currently investing in financial

technology and consider fintech partnerships?• Have we considered how our company can benefit from federal,

state, or global sandboxes?

40

Questions?

41

Jerry LoeserBank Regulatory Practice

Chicago

312-558-5985

jloeser@winston.com

Chris EdwardsChair, Bank Regulatory Practice

Chicago

312-558-5571

cedwards@winston.com