NORTH CAROLINA BANKING INSTITUTE Volume 8 | Issue 1 Article 17 2004 Preemption and the North Carolina Predatory Lending Law C. Bailey King Jr. Follow this and additional works at: http://scholarship.law.unc.edu/ncbi Part of the Banking and Finance Law Commons Recommended Citation C. B. King Jr., Preemption and the North Carolina Predatory Lending Law, 8 N.C. Banking Inst. 377 (2004). Available at: http://scholarship.law.unc.edu/ncbi/vol8/iss1/17 This Notes is brought to you for free and open access by Carolina Law Scholarship Repository. It has been accepted for inclusion in North Carolina Banking Institute by an authorized administrator of Carolina Law Scholarship Repository. For more information, please contact [email protected]. Preemption and the North Carolina Predatory Lending Law I. INTRODUCTION "This [North Carolina law] is the toughest law against predatory lending in the country. I am confident this will be a model law for all state legislatures."' When former North Carolina Attorney General Mike Easley made this statement, it embodied his belief that the North Carolina Predatory Lending Law,2 passed on July 22, 1999, would not only protect North Carolina home buyers, but also lead the nation in fighting predatory lending. It appears, however, that the North Carolina predatory lending law may be vulnerable to a claim of preemption by the Office of the Comptroller of the Currency ("OCC") with respect to national banks.3 Despite questions about the constitutionality of preemption in state consumer protection laws,4 history shows that the OCC has a predetermined course of action - preemption of state law. On Thursday, September 30, 2003, the OCC preempted the Georgia Fair Lending Act ("GFLA") in its first action against state predatory lending laws.' As the continued applicability of state predatory lending laws to national banks becomes less certain,6 North Carolina regulators, national and state banks, and consumers must consider the possible ramifications of the OCC's actions. Part II of this note describes the history of predatory lending and the steps both 1. THE COALITION FOR RESPONSIBLE LENDING, SUMMARY OF NC PREDATORY LENDING LAW, (2002), available at http://www.predatorylending.org/pdfs/ shortsumm.pdf (last visited Feb. 7, 2004). 2. N.C. GEN. STAT. § 24-10 (2002); N.C. GEN. STAT. § 24-1.1E (2002). 3. See Chris Lipsett et. al., Preemption: What's New and What's Ahead, 2003 PRACTICING LAW INST., Mar.-May 2003, at 545, 552. 4. Paul Foley (FEB. 7, 2004) (Unpublished manuscript on file with NCBI). This note provides an analysis of the merits of preemption. 5. Preemption Determination and Order, 68 Fed. Reg. 46,264 (Aug. 5, 2003). 6. See Bank Activities and Operations; Real Estate Lending and Appraisals, 68 Fed. Reg. 150, 46,119 (Aug. 5, 2003) (to be codified at 12 C.F.R. pts. 7 and 34). 378 NORTH CAROLINA BANKING INSTITUTE [Vol. 8 North Carolina and Georgia have taken to combat it.' Part III will then analyze the OCC's order preempting Georgia's predatory lending law in order to determine the standard that the OCC will apply in future preemption issues and to identify recent trends in the actions of the OCC toward preemption.8 Part IV will attempt to predict the likelihood and effects of preemption in North Carolina.9 Finally, in Part V, this note will analyze the advantages and disadvantages of the OCC's policy toward predatory lending as compared to the North Carolina predatory lending law. i° II. BACKGROUND A. The History of Predatory Lending Predatory lending is the use of unfair practices by lenders in order to take advantage of borrowers."' In recent years, the number of loans that contain questionable practices that are generally associated with predatory lending has soared. 2 These practices include (1) excessive prepayment penalties, (2) scheduled balloon payments, (3) negative amortization, and (4) repeated refinancing of loans. 3 The poor, elderly, and financially unsophisticated are most vulnerable to predatory lending practices because of their need to obtain credit and their inability to 14 understand the predatory terms. Since the vast majority of these people are subprime borrowers, predatory lending is most prevalent in the subprime market. 5 Subprime lenders provide credit to high-risk borrowers 7. See infra notes 11-75 and accompanying text. 8. See infra notes 76-137 and accompanying text. 9. See infra notes 138-159 and accompanying text. 10. See infra notes 160-194 and accompanying text. 11. Richard R. Daugherty, Note, Will North Carolina'sPredatory Home Lending Act Protect Borrowers from the Vulnerability Caused by the Inadequacy of Federal Law?, 4 N.C. BANKING INST., 569, 570 (2000). 12. See 1999 Home Equity Lending Directory: A Statistical Guide to B&C and Second Mortgage Lending, Faulkner and Gray 1-2 (1999). 13. Daugherty, supra note 11, at 575-76. 14. Id. at 569. 15. See Amal Sabi, Tiff Surrounds Big Bank's Subprime Efforts, TRIANGLE Bus. J., May 28, 1999, at 9. 2004] CONSUMER PROTECTION ISSUES who are unable to obtain credit in the conventional market in exchange for a greater interest rate. 6 Generally, the high-risk borrowers who must resort to subprime credit are the same poor, elderly, and financially unsophisticated borrowers that are vulnerable to predatory lending. 7 As a result, the subprime market provides loans to the people who are most vulnerable to predatory lending. 8 As subprime borrowing became a larger share of the credit market, 9 the concerns about predatory lending increased.2" In response, both federal and state governments felt compelled to take action. 2' The question for lawmakers was whether to restrict the practices of predatory lending or restrict the availability of subprime credit. B. The North CarolinaPredatory Lending Law On July 22, 1999, the North Carolina State Legislature passed the nation's first state predatory lending law.22 Consumer advocacy groups effectively lobbied for strict ceilings on both 2 interest rates and fees. ' The law passed by an overwhelming forty-seven to two vote in the Senate and one hundred and nine to nine vote in the House. 24 Roy Cooper, who was North Carolina Senate Majority Leader at the time, praised the legislation as "the 25 toughest law against predatory lending in the country.', The North Carolina predatory lending law prohibits specific practices on all loans, creates a new category of "high- cost" home loans, and places greater restrictions on these so-called 16. See Scott Leath & Jim Weiker, High-Risk Lender, GRAND RAPIDS PRESS, Dec. 20, 1998, at F1, availableat 1998 WL 24032312. 17. Daugherty, supra note 11, at 569. 18. Id. 19. Id. at 575. 20. See Lew Sichelman, Battle Now Moves to States, ORIGINATION NEWS, Aug. 1, 1999, at 1, available at 1999 WL 11126452. 21. Daugherty, supra note 11, at 570. 22. See Poonkulali Thangavelu, North Carolina Has First Law to Police Predatory Lending, ORIGINATION NEWS, Aug. 1, 1999, at 1, availableat 1999 WL 11126452. 23. Daugherty, supra note 11, at 592-93. 24. THE COALITION FOR RESPONSIBLE LENDING, supra note 1. 25. Id. 380 NORTH CAROLINA BANKING INSTITUTE [Vol. 8 "high-cost" loans.2 6 A loan is characterized as a "high-cost" home loan if the interest rates, points and fees, or prepayment penalties exceed the thresholds set by the statute.27 Current North Carolina law prohibits certain practices characteristic of predatory lending in all home loans. 28 The first protection outlaws the "flipping" of a loan.29 "Flipping" is the practice of repeatedly refinancing an existing home loan and always charging upfront fees.3" Second, lenders can only finance insurance premiums calculated on a monthly basis, not single, upfront payment premiums.31 Finally, lenders are not allowed to encourage default in order to refinance debt.32 A violation of any of these prohibitions subjects an offender to both usury and unfair trade practice remedies.33 The North Carolina predatory lending law also places even more extensive restrictions on loans that meet the requirements of a "high-cost" home loan.34 A loan is characterized as "high-cost" if its terms exceed one of the following statutory thresholds:35 the annual percentage rate must be lower than ten percent above the comparable Treasury bond rate;36 the points and fees cannot exceed five percent of the loan amount;37 and the prepayment penalty cannot exceed two percent of the amount prepaid. 8 If a loan exceeds one of these thresholds, the loan is then considered "high-cost" and is subject to more statutory regulation.39 26. N.C. GEN. STAT. § 24-1.1E(a)(4) (2001). A loan is considered a "high-cost" home loan if the principal does not exceed either the loan size limit for a single- family as determined by Fannie Mae or $300,000, the borrower is a natural person, the mortgaged property is used for personal, family, or household purposes, and the loan exceeds one of the thresholds in the statute. Id. 27. Daugherty, supra note 11, at 594. 28. See id. at 597. 29. N.C. GEN. STAT. § 24-10.2(c) (2002). 30. THE COALITION FOR RESPONSIBLE LENDING, supra note 1. 31. N.C. GEN. STAT. § 24-10.2(b) (2002). 32. N.C. GEN. STAT. § 24-10.2(d) (2002). 33. N.C. GEN. STAT. § 24-10.2(e) (2002). 34. Daugherty, supra note 11, at 595. 35. Id., at 593-94. 36. N.C. GEN. STAT. § 24-1.1E(a)(6)(a) (2002). 37. N.C. GEN. STAT. § 24-1.1E(a)(6)(b) (2002). 38. N.C. GEN. STAT. § 24-1.1E(a)(6)(c) (2002). 39. Daugherty, supra note 11, at 594. 2004] CONSUMER PROTECTION ISSUES A lender may not make a "high-cost" home loan until the borrower has received home-ownership counseling.4