Bankruptcy

Usury and Securitization

By Adam Levitin

Most institutional lenders in the United States are not subject to usury laws.  National banks can evade they by basing themselves in states without usury laws and exporting the laxer regulation to other jurisdictions.  State institutions often find themselves exempt because of state banking parity laws.  And usury laws are preempted for many mortgages by federal law (although originally the FHA eligibility rate cap--removed in 1983--served as a de facto federal usury law for many mortgages). 

There's plenty to say (at another date) about whether usury laws are good policy.  I want to raise a related legal question for discussion on the Slips:  are debts held in securitized pools subject to usury laws? 

I've dealt with this previously in an academic article, but want to raise the issue on the Slips.  My belief is that securitized pools are subject to usury laws, unless usury laws are specifically preempted for the type of debt that is held.  Legal title to securitized pools rests with state-law trusts.  These trusts cannot, as far as I know, claim the benefits of federal preemption themselves.  Their best hope is to shelter in the ability of the debtor's originator or the securitization sponsor/depositor's exemption from usury laws. 

I don't think this is a very good shelter, however.  Usury was historically a personal defense, and when a debt is originated as part of an originate-to-distribute business model, letting the securitization trust shelter in the originator's status allows for a type of usury laundering--the specific exemptions to usury law can then cover all takers from exempt entities.  Putting aside the question of whether usury laws themselves are good policy, once they are on the books, surely allowing the usury defense to transfer with the debt cannot be good policy given that it is plain on the face of a debt whether it is usurious.  And more broadly, do federal preemption defenses apply to securitized pools of debts originated by national banks or federal thrifts?  And what about affiliates (not operating subsidiaries) of national banks or federal thrifts, such as some major debt collection companies?

These aren't mere academic questions.  Securitization trusts hold around 60% of mortgage debt and 25% of other consumer debt.  There's no law directly on point, but if I'm correct, then usury could be raised as a viable defense to the collection of a sizable portion of consumer debt.  And states would have pretty broad rein to regulate the collection of debts held by securitization trusts.  Thoughts? 

Full post as published by Credit Slips on January 18, 2010 (boomark / email).