- Key insight: The court's decision carries high stakes for the banking industry, which is fighting the enactment of a 2023 Colorado law that deals with the state's interest-rate cap.
- What's at stake: Banking groups argue that applying varying state rate caps on out-of-state banks would disrupt interstate banking and fracture the dual-banking system.
- Expert quote: "The American Bankers Association says that Colorado's approach would create 'an unworkable morass.'" — Chief Judge Jerome A. Holmes
UPDATE: This article includes new information from Tuesday's hearing.
Several federal appellate judges on Tuesday appeared highly skeptical of an effort by the state of Colorado to enforce its usury cap beyond banks chartered in that state — an effort that financial institutions say would upend the dual-banking system.
The case centers on a clash over a 1980 federal law, the Depository Institutions Deregulation and Monetary Control Act, which preempted state usury limits, but also included a controversial "opt-out" provision. Colorado chose to opt out of DIDMCA in 2023, prompting the National Association of Industrial Banks
The banking industry opposes Colorado's effort to limit interest rates, arguing that it would create a chaotic landscape and replace a national lending system with a patchwork of different state lending requirements.
Almost from the start of Tuesday's oral arguments, Chief Judge Jerome A. Holmes of the U.S. Court of Appeals for the Tenth Circuit seemed to be siding with the banking industry, quoting from
"I want to understand how you respond to the argument of the American Bankers Association that says that Colorado's approach would create 'an unworkable morass,' with banks struggling to apply a multitude of varying interest rates of borrowers in opt-out states, and also trying to figure out where borrowers are?" Holmes, a Republican appointee, asked a lawyer for the state of Colorado.
"If we're talking about practical realities and how things work, why isn't that a reality that seems to cut against your interpretation and to suggest that Congress surely could not have anticipated that?"
The 75-minute hearing saw intense questioning from the bench, with the judges delving into DIDMCA's text and legislative history. They also asked questions about controversial "rent-a-bank" arrangements, whereby a high-cost consumer lender teams up with a bank in another state and uses the bank's charter to bypass state interest-rate limits.
Consumer advocates argue that if the judges side with the banking industry, their ruling will defang state usury laws.
"Usury laws are among the oldest and most fundamental forms of consumer protection," Katelin Shaw Kaiser, policy counsel at the Center for Responsible Lending, wrote in an amicus brief ahead of Tuesday's hearing. "For centuries, states have used interest-rate limits to protect borrowers from loans that exploit financial distress rather than relieve it."
Russell Johnson, deputy solicitor general in the Colorado Attorney General's office, maintained throughout Tuesday's hearing that the borrower's location is central to a loan transaction. He outlined a three-step process for banks to comply with Colorado's opt-out law. Lenders first would have to identify the location of both the borrower and the lender, then determine if the state had opted out of DIDMCA, and finally, decide whether the state opt-out law applied to that specific borrower.
"A natural consequence of the choice to go outside of their home state and offer interstate credit is having to comply with other states' laws," Johnson said. "Nothing compels them to offer those loans in Colorado or any other state. They're making that choice. This is the natural application of state to someone coming into the jurisdiction."
But the judges seemed skeptical of the three-step process, wondering why the borrower's location had anything to do with a lending contract, which typically applies to where the lender is located.
"You've proposed a three-step process that is intended to do what? I found that difficult to understand," said Judge Carolyn McHugh, a Democratic appointee.
Several judges focused on the practical implications of Colorado's interpretation of DIDMCA. Practical considerations have been at the center of arguments made by banking industry representatives.
Johnson was pressed on how to define the location of a loan in the digital era. Judge Veronica Rossman and others engaged in hypotheticals, questioning how state law could be applied if a borrower signs a loan document while traveling out of state, or if a loan is "executed" in a jurisdiction that is different from where the borrower lives.
"Presumably, don't most borrowers list a permanent address, and negotiations of the credit line are based on that address, not where they're going to be when they sign? I mean, isn't that really how it works?" asked Rossman. "What you're saying is you would negotiate the terms based on something you don't know yet, which is where [the borrower] is going to be located when they sign the agreement. That doesn't make much sense to me."
Banking trade groups assert that allowing states to opt out and override federal standards is not just an overreach, but contrary to the language of the 46-year-old federal statute. If Colorado is successful before the 10th Circuit, it would be able to impose its 21% usury cap on loans made to Coloradans by all state-chartered banks, whether they're based in Colorado or not. But it would not be able to impose the cap on national banks.
"In a nutshell, banks make loans, and they generally make those loans where the bank is located," said David Gossett, a lawyer representing the National Association of Industrial Banks, and a partner and co-chair of the appellate practice at Davis Wright Tremaine. "The location of the borrower is simply irrelevant to the equation."
Before Tuesday's hearing, Frank Pignanelli, executive director of the National Association of Industrial Banks and a partner at the law firm Foxley & Pignanelli, called Colorado's law "an existential threat to the dual banking system."
He said a core problem with states seeking to cap interest rates is that "they are limiting the ability of their state-chartered banks to compete against national banks in other states."
The NAIB earlier won a favorable ruling in federal district court, which issued a preliminary injunction delaying implementation of Colorado's opt-out provision. But a three-judge panel of the 10th Circuit overturned the lower court's ruling. Later, the full 10th Circuit reinstated the preliminary injunction and scheduled Tuesday's hearing.
The 10th Circuit has 11 judges: six nominated by Democrats and five by Republicans. One nomination is pending.
Currently, Colorado, Iowa and Puerto Rico are the only states that have active statutory opt-outs restricting out-of-state interest rate exportation. When DIDMCA was passed in 1980, roughly seven states chose to opt out, but nearly all of them, including Massachusetts, North Carolina, and Wisconsin, subsequently repealed their opt-outs in an effort to maintain competitive lending markets, experts said.
Some 42 states have civil usury statutes, while eight do not. The interest rate caps vary significantly.
