By David Floreen
The beginning of a new calendar year provides us with a good opportunity to stop and take a look ahead to see what are likely to be the dominant challenges facing the banking industry in 2008. To do that, it will help to look back a bit at 2007 as well.
Predicting the future is a crap shoot at best, much like listening to an economist give his assessment of economic growth for the next 12 months: “On the one hand, employment is expected to continue with modest expansion, but that is contingent on world energy markets, the Mideast, the Chinese economy, consumer confidence and election results,” coupled with, “On the other hand …,” you know the rest. These first few weeks of 2008 amplify that sentiment.
As we began 2007, all attention was focused on the election of Deval Patrick, the first Democratic governor in Massachusetts in 16 years, and how his energy and vision of “together we can” might lead Massachusetts into new and greater horizons. Well, one year later the sense of togetherness is a bit like too much family visiting over the holidays, especially after that spirited discussion over presidential candidates at the family reunion! Gov. Patrick is still learning what it’s like to deal with a powerful Legislature, despite all being Democrats, and the difficulties of translating a vision and agenda into results. In 2007, the governor began filing a series of comprehensive, and expensive, capital spending plans that likely will be the basis of most of the legislative priorities in 2008. Legislative leaders are still exploring ways to work with a governor from the same party and the constant struggle of trying to satisfy numerous constituencies in the face of very slow growth in revenues. Just saying NO is hard for legislators.
With the new committee assignments announced in early February of last year and the not-unexpected resignation of former Senate President Robert Travaglini in late March, the Legislature got off to a slow start in 2007. Most of the spring was devoted to grappling with the Fiscal Year 2008 state budget filed by Gov. Patrick in late February, and the Legislature’s substantial rewriting of that document to more closely reflect its priorities. And by the way, the House and Senate don’t always agree!
Down in the nation’s capital in 2007, President George Bush continued to wrestle with a sharply divided Congress, now controlled by Democrats, over tough issues regarding Iraq and military spending, immigration reform, spending earmarks and dozens of domestic issues. The Senate has proved to be a most challenging body, with a very narrow Democratic margin of 51-49, with one key senator absent much of the year due to health issues, several senators running for president and a Senate leader who has expressed serious personal differences with President Bush.
Accomplished in 2007
In Massachusetts, two phrases sum it up: data breach and mortgage foreclosures. Everything else got kicked aside. Every year one issue emerges from left field that consumes far more energy and attention than expected; for Massachusetts banks in 2007 it was TJX. We all anticipated that sometime in 2007, Massachusetts would join the majority of states and enact a major data breach/security freeze/identity theft package. By late January 2007 it became clear that the TJX situation was far more substantial than any other data breach and would shape the outcome of legislation on Beacon Hill.
One week before the TJX breach was revealed, the MBA and Rep. Michael Costello, D-Newburyport, filed a bill (H. 213), that sought to hold any entity that was the cause of a breach financially accountable for both the costs involved in replacing debit and credit cards and any fraud losses associated with that breach. The mere filing of H. 213, along with the issues it raised, helped reframe the discussion on Beacon Hill. And while the cost reimbursement features of H. 213 remain in committee, the Legislature became far more aware of and sensitive to banks’ concerns regarding data security by third parties and retailers.
In early April, in one of the first major hearings by any legislative committee, the Committee on Consumer Protection held a public hearing on nearly 30 data breach/identity theft bills. Over the next two months, the Consumer Protection Committee and legislative leaders debated the merits of various options. In late July, the Legislature enacted Chapter 82 of the Acts of 2007 – An Act Relative to Data Security and Identity Theft, which became effective on Oct. 31, 2007. Chapter 82 reflected considerable input by the association and preserved language that retains in Massachusetts law the same standards for identifying and reporting a data breach, which all banks already were subject to under Gramm-Leach-Bliley. New rules implementing the law will be finalized shortly.
One new feature of the data breach law is a new Chapter 93I of the Massachusetts General Laws, which took effect on Feb. 3, 2008. This chapter imposes new data destruction requirements on all individuals, governments and entities in Massachusetts (including banks), applies to paper and electronic data, mandates the safe and proper disposal of all records, and imposes significant fines and penalties on those who fail to comply.
By late spring, the rapidly escalating crescendo of concern over mortgage foreclosures began to consume the Division of Banks and garner legislative attention. The Committee on Housing held hearings in April on three major bills designed to halt various mortgage lending practices, impose new licensing and capital standards on mortgage brokers and originators, extend the Community Reinvestment Act to mortgage companies and impose a judicial foreclosure process among many other features. The Division of Banks has been devoting much of its regulatory oversight to the ongoing mortgage situation and continues to offer an aggressive outreach program to borrowers who potentially may be subject to subprime resets in the coming months. Recently, the Patrick administration sent 12,500 letters to homeowners in six Massachusetts cities, urging them to review their loan documents and contact their lender if their adjustable loan was about to reset.
Over the summer and fall, the committees on Housing and Financial Services worked extensively to craft a comprehensive mortgage lending/foreclosure prevention bill that sought to prospectively prevent many of the lending abuses that led to the escalation in foreclosures, a drop in housing values and concerns in some communities about the ripple effect declining values may have on economic stability. On the very last night before formal sessions ended for 2007, the Legislature enacted a compromise bill, which Gov. Patrick quietly signed into law on Nov. 30: Chapter 206 of the Acts of 2007 – an Act Relative to Protecting and Preserving Home Ownership.
Chapter 206 establishes new licensing requirements for mortgage loan originators employed by non-bank lenders; increases licensing fees for originators and appropriates an additional $3 million for the Division of Banks to review loan originator activity; creates a new data bank to track high-cost loans and foreclosure activities to better pinpoint the source of bad loans in the future; provides borrowers 90 days to cure late payments after receipt of a demand letter; and imposes new CRA obligations on mortgage companies. A number of other state bankers associations have sought our advice on how to incorporate some of the Massachusetts provisions into any new laws in their states. Most features of Chapter 206 are now law, but the right-to-cure foreclosure process changes take effect on May 1, 2008.
Concurrent with all the energy devoted to crafting a comprehensive and rational legislative package, the MBA devoted considerable resources to working with Attorney General Martha Coakley’s office in response to the major expansion to 940 CMR 8.00, regulations governing unfair and deceptive acts and practices. Circulated in draft form in early July, the attorney general’s office held four regional hearings on the regulations in mid-September, issued the initial final regulation in mid-October with an effective date in mid-November. Unfortunately, the initial final regulation created an uproar in the mortgage brokerage community and banks found a number of the provisions to be troublesome also.
After many discussions with the attorney general’s staff and Coakley, in mid-December her office issued revised final regulations and a 10-page guidance FAQ that addressed several concerns raised by the MBA. The new regulations took effect on Jan. 2. However, the impact of the regulations and Chapter 206 on the mortgage lending market remains unclear. We are pleased that the attorney general eliminated a provision that would have required banks to provide a separate disclosure to mortgage customers that essentially duplicated information already mandated by the HUD-1 form, potentially confusing customers and generating much unnecessary paperwork for banks.
Throughout the debate, legislative leaders, officials in Gov. Patrick’s administration and Attorney General Coakley’s office consistently acknowledged that banks were not the cause of the problems in the mortgage markets, and that it was important not to overreact and create a series of unintended consequences, especially a credit squeeze. At times, however, their words and actions were not always in harmony. However, we are confident that the MBA accomplished many of its objectives in the mortgage legislation and new regulations, particularly given the media coverage of this issue. Absent major unforeseen developments, we do not anticipate any significant new legislative or regulatory actions on mortgage issues on Beacon Hill in 2008.
Beacon Hill Report
So what can we expect this year? From a banking perspective, the agenda is modest and more defensive. The Financial Services Committee held two hearings on about 50 banking bills in late September and early November 2007. It is currently reviewing all the testimony and likely will act on many of those bills later this winter.
The MBA’s priorities include H. 1044 as amended, updating various corporate governance issues; H. 962, restricting the ownership of industrial loan companies by affiliated corporations; and H. 1082, clarifying the applicability of the 18/65 law. The association also continues its strong opposition to a series of bills allowing credit unions to accept public deposits, branch statewide and interstate, and expand mortgage lending and insurance sales authority.
The association is keeping a close watch on several bills that could impact product and fee flexibility, such as S. 620 that would dramatically limit overdraft protection charges and mandate disclosure to a consumer at a Point of Sale terminal if the pending transaction would trigger an overdraft fee. Thus far the Financial Services Committee has been focused on automobile and homeowner insurance reform, especially the growing concerns over pricing and availability of property insurance in coastal areas, not just Cape Cod where the problem has been festering for some time.
Two other MBA priorities for 2008 include: H. 1475 – a bill to broaden the definition of armed bank robbery to include the threat of a weapon (so-called note passers) and facilitate the prosecution of check fraud by expanding the court jurisdiction of these alleged crimes; and H. 4146 – a bill to restrict the use of credit triggers by expanding disclosure provisions to consumers. MBA was the first state in the nation to file a bill to restrict this practice and very quickly several other states copied the Massachusetts legislation. Unfortunately, in late July a federal court in Minnesota ruled that states cannot overturn federal law, in this case the Fair and Accurate Credit Transactions Act of 2003. However, the courts did not object to and several states including Connecticut and Maine have enacted new laws forcing credit reporting agencies that offer credit trigger products to provide disclosures to consumers. The association is also closely involved in two cases pending before the state Supreme Judicial Court that could adversely impact the standards of ordinary care regarding the processing of checks.
By all accounts, most of the action on Beacon Hill this year will focus on the Fiscal Year 2009 state budget and how to pay for it, several major policy and capital spending packages Gov. Patrick filed late last fall, and destination casinos. The governor’s Fiscal Year 2009 budget, filed late last month, reflects his personal priorities more than last year, as well as his recommendations on how to close a structural $1.3 billion budget gap. Increased local aid for education, better funding for parks and recreation, additional corporate tax changes and higher health insurance premiums for many state workers are among the many initiatives on the table. This is the amount of spending in existing programs, services or fixed costs that cannot be covered by ongoing revenues; only one-time sources or gimmicks. With the regional and national economy in flux, the state cannot count on significant revenue growth in Fiscal Year 2009.
All of the business community will closely watch the recommendations of the Special Commission on Corporate Tax Equity, which filed its report on Dec. 31, 2007. Formed late last spring as an alternative to a corporate tax loophole closing bill filed by Gov. Patrick but quickly shot down by Speaker of the House Salvatore DiMasi, D-Boston, the commission recommended by a nine to six vote to support the adoption of a combined reporting/unitary tax system for most corporations coupled with a “meaningful” but undefined cut in the corporate tax rate. At the moment, the treatment of security corporations would remain as is and banks would not be included in this package, although that option could always surface at some point. State revenues are tight, demands for programs are never-ending and in an election year, closing corporate tax loopholes has a nice ring back in the districts. Stay tuned on this one.
What else is there to contend with? Well, how about $14.5 billion in capital spending requests (aka bonding) sought by Gov. Patrick? Like the rest of us, state spending is divided up into ongoing everyday expenses such as salaries, utilities, health care, snow plowing, public safety, education, debt service, etc; and long-term capital needs such as road and bridge reconstruction, new buildings and equipment at state universities and colleges, upgrading park facilities – the list is endless. For years, the state has and continues to operate under a bond cap: that is it cannot spend more than $1.25 billion per year in debt service, so as to not burden future generations with a “spend today, pay tomorrow” modus operandi.
Many of these bond packages are approved once every four to six years and contain approvals for projects that may take years to complete and some never make it. Nevertheless, the legislative lobbying to include favorite projects or capital expansions into a bond package is extensive and will consume considerable attention by legislative leaders between now and July 31 when formal sessions conclude. The business community often is deeply involved in some of these initiatives, especially the $1 billion life sciences initiative, the $4.8 billion transportation bond, a $1.1 billion housing bond, a $2 billion higher education bond and $1.4 billion bill that looks to make investments in parks, energy, land conservation and the environment over five years. Speaker DiMasi already has warned that there is no appetite to raise taxes in the House and wonders where the revenues will come from to support $14.5 billion in capital funding. Expect lots of internal lobbying on these packages!
The bottom line is that most of the seven months of formal sessions will revolve around money: how much will or can we raise and how do we divvy up a limited pool to make it go the farthest and keep our various constituencies at least content, if not happy? In 2007 only 218 bills were signed into law and 40 dealt with a specific situation or individual in state service. Given the two-year cycle of legislation with hearings in year one and floor action in year two, we could see 350-400 bills enacted in 2008. How many will impact banking directly? Probably a couple dozen.
One other point: Next November’s ballot is likely to contain an initiative petition to repeal the state’s personal income tax. A similar quest failed by only five points in 2002, and a recent State House News Service Poll showed if the vote had been held in January 2008, the repeal would have lost by only 1 percent – 45 percent to repeal, 46 percent to keep. That is remarkable, since 40 percent of all state revenues come from the personal income tax!
The Potomac Prognosis
It’s no secret that getting much done in Washington, D.C., lately has been and continues to be a challenge. The war in Iraq (although that appears to be going better at this writing); a sharply divided Congress (particularly in the Senate where Senate Majority Leader Harry Reid, D-Nevada, has expressed near utter disdain for President Bush); and the upcoming presidential elections are making it difficult for Congress and the Bush administration to reach an accord on many issues. Coupled with the increasingly strident positions taken by social conservatives, anti-big business advocates, anti-war activists and many other groups, the ability to attain a compromise is diminished because so many of these issues are fought over principle.
Nevertheless, a few bank-related matters saw action this past fall. One success for banking was the defeat in both the House and Senate of legislation that would have substantially expanded the commercial and mortgage lending authority of the Farm Credit System (FCS). While Massachusetts is not considered an agricultural state, the association was able to demonstrate to Congressman Barney Frank the negative impact such a massive expansion of the Farm Credit System would have on community banks locally and nationally and Congressman Frank pushed a House floor amendment to halt FCS expansion.
In November, the House passed and sent to the Senate H.R. 3915, a comprehensive mortgage lending reform package spearheaded by Congressman Frank. While it is an improvement over the initial bill approved by the committee in October, H.R. 3815 still incorporates several problematic features that could curtail traditional lending programs offered by community banks. The MBA will continue to work with Chairman Frank and Sen. Chris Dodd, D-Conn., chair of the Senate Banking Committee, who recently introduced S. 2452 – the Home Ownership Preservation and Protection Act. Now that Sen. Dodd has returned to the Senate full-time after his campaign for president, most Capitol Hill observers anticipate that he will become much more engaged in banking legislation. Some form of major mortgage lending reform should pass Congress in 2008; the question is how soon, how broad and how far will it go in pre-empting state laws?
In a related and potentially troublesome development, the House Judiciary Committee last month approved by a vote of 17-15, H.R. 3609 – the Emergency Home Ownership and Mortgage Equity Protection Act. This bill would allow bankruptcy court judges to lower mortgage interest rates and cram down balances in Chapter 13 consumer bankruptcy proceedings. This issue bears close scrutiny as 2008 unfolds.
Last November, in an address to the Greater Boston Chamber of Commerce, David Gergen, former counselor to four U.S. presidents and now director of the Kennedy Center at Harvard University, said that the upcoming presidential elections are, in his view, the most critical for the United States since the election of Franklin Delano Roosevelt in 1932. Voters in Iowa and New Hampshire last month ratified that thought by turning out in droves to express their views and determine the party nominees for next November. Once the likely nominees emerge, perhaps in February, Congress may have a few months to refocus attention on key legislative issues before engaging in the political conventions this August.
So what’s in store for banking in the Nation’s capitol? First, economic stimulation. There is a growing bi-partisan sense of urgency that the federal government must do something substantial and quick to stimulate the economy, which by most accounts is or has slipped into a recession. President Bush, Congressional leaders and others have weighed in with recommendations and a final package likely will be pro-middle-class: focus on tax cuts, stimulate spending and create jobs. The banking industry has a lot at stake in the upcoming months in Washington: mortgage lending and foreclosures; bankruptcy reform; industrial loan companies; credit card industry practices; credit union expansion; and overdraft protection programs; are just a few of the high-profile issues before Congress.
The mortgage lending crisis, the fallout in the credit markets, and the impact of declining home sales and values in many communities will be the dominant and related banking issues for very apparent reasons, especially since they influence so much of consumer spending and attitudes about the economy.
The regulators are busy as well. In late December, the Federal Reserve released its long-awaited proposal to amend the unfair and deceptive acts and practices provisions of Regulation Z by establishing a new category of higher-priced mortgages that would include most subprime and many Alt-A loans. The 102-page draft also would significantly restrict pre-payment penalties and stated-income loans. Key Congressional leaders, including chairmen Frank and Dodd, criticized the proposal as too weak, so further legislative action this session is possible.
We continue to await action by the FDIC regarding its recent surveys on bank practices on overdraft protection programs and small-dollar loan initiatives, which is expected by mid-2008. The Securities and Exchange Commission will continue its efforts to implement new Regulation R which implements the bank broker push out rules under the Gramm-Leach-Bliley Act.
Welcome to 2008. It will be a busy year with much of the action anticipated late in the game. Stay tuned and Happy New Year!
David Floreen is senior vice president at the MBA. He can be reached at firstname.lastname@example.org