-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-06-387		

TITLE:     OCC Preemption Rules: OCC Should Further Clarify 
the Applicability of State Consumer Protection Laws to National Banks

DATE:   04/28/2006 
				                                                                         
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GAO-06-387

     

     * Report to the Subcommittee on Oversight and Investigations, Committee
       on Financial Services, House of Representatives
          * April 2006
     * OCC PREEMPTION RULES
          * OCC Should Further Clarify the Applicability of State Consumer
            Protection Laws to National Banks
     * Contents
          * Background
               * Regulation and Structure of Banking Organizations
               * OCC's Mission and Regulatory Responsibilities
               * OCC and Preemption
          * Results in Brief
          * OCC Described Types of State Laws That Would Be Preempted, but
            Questions Remain Regarding the Rules' Scope and Effect
               * OCC Sought to Clarify the Applicability of State Laws to
                 National Banks and Their Operating Subsidiaries by
                 Interpreting Preemption and Visitorial Powers under the
                 National Bank Act
               * Questions Remain Concerning the Applicability of State
                 Consumer Protection Laws
                    * Statements by OCC Suggest That State Consumer
                      Protection Laws Can Be Consistent with Federal Law
                    * Officials Expressed Differing Views on Applicability of
                      State Consumer Protection Laws
          * According to Most State Officials We Contacted, the Preemption
            Rules Have Diminished State Consumer Protection Efforts
               * State Officials Expressed Differing Reactions to the Rules'
                 Effect on Relationships with National Banks
                    * Some State Officials Believe That National Banks and
                      Operating Subsidiaries Are Less Inclined to Cooperate
                    * Other State Officials Reported Little Change in
                      Relationships with National Banks
               * Some State Officials Were Concerned That the Preemption
                 Rules Could Prompt the Creation of Operating Subsidiaries to
                 Avoid State Regulation
          * The Rules' Effect on Charter Choice Is Uncertain, but Some States
            Are Addressing Potential Charter Changes
               * Industry Changes and Other Factors May Affect Charter Choice
                    * Banking Business Has Changed in Many Ways
                    * Many Factors May Affect Choice of Charters
               * Few Banks Have Changed Charters, but Shifts in Bank Assets
                 Have Budgetary Implications for State Regulators and OCC
               * Some Officials Perceive Competitive Advantages in the
                 Federal Charter and Have Taken Actions to Address Potential
                 Charter Changes by State Banks
                    * Officials Perceived Some Competitive Advantages for the
                      Federal Charter
                    * Some States Have Made Efforts to Address the Potential
                      Impact of Charter Changes
                         * Parity Laws
                         * Budget Concerns
          * Suggested Measures for Addressing State Consumer Protection
            Concerns Include Shared Regulation, Which Raises Complex Policy
            Issues, and Greater Coordination between OCC and States
               * Shared Supervisory Authority over Operating Subsidiaries
                 Would Assist State Officials with Consumer Protection
                 Efforts, but the Concept Raises Questions about the
                 Supervision of National Bank Activities
               * A Consensus-Based National Consumer Protection Lending
                 Standard Applicable to All Lending Institutions Would
                 Provide Uniformity but Limit State Autonomy
               * An OCC Initiative to Clarify Preemption With Respect to
                 State Consumer Protection Laws Could Assist in Achieving
                 Consumer Protection Goals
          * Conclusions
          * Recommendation for Executive Action
          * Agency Comments and Our Evaluation
     * Objectives, Scope, and Methodology
          * Identification of Key Issues and Legal Review of Preemption
            Standard
          * Effects of Preemption Rules on State Consumer Protection Efforts
            and the Dual Banking System
          * Measures to Address States' Concerns Regarding Consumer
            Protection
          * Overall Data Reliability
     * Legal Arguments Regarding the Preemption Rules
          * OCC's Interpretation of the Preemption Standard
          * Breadth of the Preemption Lists in the Bank Activities Rule
          * Other Aspects of the Preemption Rulemaking
          * Applicability of Rules to National Bank Operating Subsidiaries
          * Disagreement with OCC's Interpretation of Its Visitorial Powers
     * Bank Charter Changes from 1990 to 2004
          * From 1990 to 2004, More Banks Changed to the Federal Charter, but
            Most Changes Resulted from Mergers
          * Recent Charter Changes Substantially Increased the National Bank
            Share of All Bank Assets
          * The Annual Number and Assets of Banks That Changed between
            Federal and State Charters Was Small Relative to All Banks and
            All Bank Assets
     * How OCC is Funded
          * OCC Is Funded Primarily by the Assessments It Charges National
            Banks
          * OCC's Assessment Formula Is Based on Asset Size but Includes
            Other Factors
          * The Price of OCC Supervision Decreases with Asset Size
          * Mergers and Consolidations Result in Less Revenue for OCC
     * How Selected Federal Financial Industry Regulators Are Funded
     * Information on Funding of States' Bank Regulators
     * Comments from the Office of the Comptroller of the Currency
     * GAO Contact and Staff Acknowledgments
     * PDF6-Ordering Information.pdf
          * Order by Mail or Phone

Report to the Subcommittee on Oversight and Investigations, Committee on
Financial Services, House of Representatives

April 2006

OCC PREEMPTION RULES

OCC Should Further Clarify the Applicability of State Consumer Protection
Laws to National Banks

Contents

Tables

Figures

Abbreviations

April 28, 2006Letter

The Honorable Sue W. Kelly Chairwoman The Honorable Luis V. Gutierrez
Ranking Minority Member Subcommittee on Oversight and Investigations
Committee on Financial Services House of Representatives

On January 13, 2004, the Treasury Department's Office of the Comptroller
of the Currency (OCC), which supervises federally chartered "national"
banks, issued two sets of final rules: one covering the preemption of
state laws relating to the banking activities of national banks and their
operating subsidiaries ("bank activities rule") and one concerning OCC's
supervisory authority over those institutions ("visitorial powers rule").
Together, these rules are commonly referred to as the OCC preemption
rules.1 The bank activities rule addresses the applicability of state laws
to lending, deposit-taking, and all other activities of national banks
authorized by the National Bank Act. The visitorial powers rule clarifies
OCC's view of its supervisory authority over national banks and their
operating subsidiaries, which OCC interprets to be its exclusive power to
inspect, examine, supervise, and regulate the business activities of
national banks.

The rules drew strong opposition from a number of state legislators,
attorneys general, consumer group representatives, and Members of
Congress. Some opposed OCC's legal justification for issuing the proposed
rules. Others opposed the rules because of what they viewed as potentially
adverse effects on consumer protection and the dual banking system.2 More
specifically, opponents stated that the scope of preemption of state law
under the rules would weaken consumer protections and that the rules could
undermine the dual banking system because, for example, state-chartered
banks located in states with regulatory schemes more stringent than that
for national banks would have an incentive to change their charters from
state to federal. Supporters of the rules asserted that

providing uniform regulation for national banks, rather than differing
state regulatory regimes, was necessary to ensure efficient nationwide
operation of national banks.

In your letter, you requested that we review OCC's rulemaking process for
promulgating the bank activities and the visitorial powers rules; examine
OCC's process and capacity to handle consumer complaints; and assess the
impact and potential impact of the rules on consumer protection and the
dual banking system. On October 17, 2005, and February 23, 2006,
respectively, we provided you with reports on the rulemaking process and
OCC's consumer complaints process and capacity.3 This final report focuses
on the impact and the potential impact of the rules on consumer protection
and the dual banking system. Specifically, the report examines (1) how the
preemption rules clarify the applicability of state laws to national
banks; (2) how the rules have affected state-level consumer protection
efforts; (3) the rules' potential effects on banks' decisions to seek the
federal, versus state, charters; and (4) measures that could address
states' concerns regarding consumer protection.4 Additionally, we provide
information on how OCC and other federal regulators, as well as state bank
regulators, are funded. We provide this additional information in
appendixes IV, V, and VI.

To address these objectives, we analyzed the content of comment letters
submitted to OCC during the rulemaking process and reviewed transcripts of
congressional hearings on the rules to identify issues raised. We
conducted site visits or phone interviews with officials and
representatives of state attorneys general offices, state banking
departments, consumer groups, state bankers associations, and national and
state banks in six states (California, Georgia, New York, North Carolina,
Idaho, and Iowa). In addition, we interviewed legal and academic
individuals and conducted our own legal research. We selected these
states, among other reasons, because of their interest in the preemption
issue, as identified by congressional testimony, comment letters, and
referrals from representatives of national organizations. Therefore, the
views expressed by officials in these six states may not be representative
of all state officials. In Washington, D.C., we interviewed the national
associations comprising state attorneys general and state bank regulators;
representatives of national consumer groups; and officials at OCC and
other federal bank regulatory agencies, including the Board of Governors
of the Federal Reserve System (FRB) and the Federal Deposit Insurance
Corporation (FDIC). To assess trends in chartering decisions and their
effects on OCC's and states' budgets, we obtained and analyzed data on
charter conversions, mergers, assets, and assessment payments from OCC,
FRB, and certain state bank regulators. To describe how the OCC and state
banking departments are funded, we interviewed OCC and state bank
regulators, and reviewed annual reports, past GAO reports, and the
Conference of State Bank Supervisors' (CSBS) Profile of State-Chartered
Banking.5 We conducted our audit work in the previously mentioned six
states and Washington, D.C., from August 2004 through March 2006 in
accordance with generally accepted government auditing standards. Appendix
I provides a detailed description of our objectives, scope, and
methodology.

Background

Regulation and Structure of Banking Organizations

The regulatory system for banks in the United States is known as the "dual
banking system" because banks can be either federally or state-chartered.
As of September 30, 2005, there were 1,846 federally chartered banks and
5,695 state-chartered banks.6 National banks are federally chartered under
the National Bank Act. The act sets forth the types of activities
permissible for national banks and, together with other federal law,
provides OCC with supervisory and enforcement authority over those
institutions. State banks receive their powers from their chartering
states, subject to activities restrictions and other restrictions and
requirements imposed by federal law. State banks are chartered and
supervised by the individual states but also have a primary federal
regulator (see fig. 1). FRB is the primary federal regulator of state
banks that are members of the Federal Reserve System. FDIC is the primary
federal regulator of state banks that are not members of the Federal
Reserve System. OCC and state regulators collect assessments and other
fees from banks to cover the costs of supervising these entities. OCC does
not receive congressional appropriations.

Figure 1: Structure and Supervision of Banks

Note: The primary supervisor(s) are shown in parentheses.

aAs discussed elsewhere in this report, financial subsidiaries of national
banks, which may engage in nonbanking financial activities, are subject to
regulation by OCC, but certain activities are subject to functional
regulation by the Securities and Exchange Commission, the Commodity
Futures Trading Commission, and state insurance regulators. Nonbank
holding company subsidiaries may also be subject to federal supervision
and under the jurisdiction of the Federal Trade Commission. The Federal
Trade Commission is responsible for enforcing federal laws for lenders
that are not depository institutions but it is not a supervisory agency
and does not conduct routine examinations.

Banks chartered in the United States can exist independently or as part of
a bank holding company. OCC, which administers the National Bank Act,
permits national banks to conduct their activities through operating
subsidiaries, which typically are state-chartered businesses. OCC has
concluded that a national bank's use of an operating subsidiary is a power
permitted by the National Bank Act and that national banks' exercise of
their powers through operating subsidiaries is subject to the same laws
that apply to the national banks directly. Because OCC supervises national
banks, the agency also supervises national bank operating subsidiaries.7
Further, many federally and state-chartered banks exist as parts of bank
holding companies. Bank holding companies may also include nonbank
financial companies, such as finance and mortgage companies that are
subsidiaries of the holding companies.8 These holding company subsidiaries
are referred to as affiliates of the banks because of their common
ownership or control by the holding company. Unlike national bank
operating subsidiaries, nonbank subsidiaries of bank holding companies
often are subject to regulation by states and their activities may be
subject to federal supervision as well.

OCC's Mission and Regulatory Responsibilities

OCC's mission focuses on the chartering and oversight of national banks to
assure their safety and soundness and on fair access to financial services
and fair treatment of bank customers. OCC groups its regulatory
responsibilities into three program areas: chartering, regulation, and
supervision. Chartering activities include not only review and approval of
charters but also review and approval of mergers, acquisitions, and
reorganizations. Regulatory activities result in the establishment of
regulations, policies, operating guidance, interpretations, and
examination policies and handbooks. OCC's supervisory activities encompass
bank examinations and enforcement activities, dispute resolution, ongoing
monitoring of banks, and analysis of systemic risk and market trends.

As of March 2005, the assets of the banks that OCC supervises accounted
for approximately 67 percent-about $5.8 trillion-of assets in the nation's
banks. Among the banks OCC supervises are 14 of the top 20 banks in asset
size. OCC also supervises federal branches and agencies of foreign banks.

As the supervisor of national banks, OCC has regulatory and enforcement
authority to protect national bank consumers. In addition to exercising
its supervisory responsibilities under the National Bank Act, which
include consumer protection, OCC enforces other consumer protection laws.
These include the Federal Trade Commission Act or FTC Act, which prohibits
unfair and deceptive practices, and the Federal Home Ownership and Equity
Protection Act, which addresses predatory practices in residential
mortgage lending. With respect to real estate lending, other consumer
protection laws that national banks and their operating subsidiaries are
subject to include, but are not limited to, the Truth in Lending Act, the
Home Mortgage Disclosure Act, the Fair Housing Act, and the Equal Credit
Opportunity Act.

One of OCC's strategic goals is to ensure that all customers of national
banks have equal access to financial services and are treated fairly. The
agency's strategic plan lists objectives and strategies to achieve this
goal and includes fostering fair treatment through OCC guidance and
supervisory enforcement actions, where appropriate, and providing an
avenue for customers of national banks to resolve complaints. The main
division within OCC tasked with handling consumer complaints is the
Customer Assistance Group (CAG); its mission is to ensure that bank
customers receive fair treatment in resolving their complaints with
national banks. In our recent report on OCC consumer assistance efforts,
we found that, in addition to resolving individual complaints,  OCC uses
consumer complaint data collected by CAG (1) to assess risks and identify
potential safety, soundness, or compliance issues at banks; (2) to provide
feedback to banks on complaint trends; (3) and to inform policy guidance
for the banks it supervises. OCC's bank examiners use consumer complaint
information to focus examinations they are planning or to alter
examinations in progress.9

OCC and Preemption

Preemption of state law is rooted in the U.S. Constitution's Supremacy
Clause, which provides that federal law is the "supreme law of the land."
Because both the federal and state governments have roles in supervising
financial institutions, questions can arise about whether federal law
applicable to a depository institution preempts the application of a
state's law to the institution. Before promulgating the preemption rules
in January 2004, OCC primarily addressed preemption issues through opinion
letters issued in response to specific inquiries from banks or states.
According to OCC, the preemption rules "codified" judicial decisions and
OCC opinions on preemption of particular state laws by making those
determinations generally applicable to state laws and clarifying certain
related issues.

However, the preemption rules were controversial. In commenting on the
proposed rules, some opponents questioned whether OCC, in issuing the bank
activities rule, interpreted the National Bank Act too broadly,
particularly with respect to the act's effect on the applicability of
state law to national bank operating subsidiaries.10 Others opposed the
rules because of what they viewed as potentially adverse effects on
consumer protection and the dual banking system. For example, consumer
groups and state legislators feared that the preemption of state law,
particularly with respect to predatory lending practices, would weaken
consumer protections. In comments on the proposed visitorial powers rule,
most opponents questioned OCC's assertion of exclusive visitorial
authority with respect to national bank operating subsidiaries. Opponents
expressed concern that the visitorial powers rule eliminates states'
ability to oversee and take enforcement actions against national bank
operating subsidiaries, even though those entities may be state-licensed
businesses.

Supporters of the proposed bank activities rule, a group consisting
largely of national banks, asserted that subjecting national banks to
uniform regulation, rather than differing state regulatory regimes, was
necessary to ensure efficient nationwide operation of national banks.
According to these commenters, national banks operating under varied state
laws would face increased costs, compliance burdens, and exposure to
litigation based on differing, and sometimes conflicting, state laws. In
comments on the proposed visitorial powers rule, most proponents suggested
that OCC make technical clarifications to the rule, specifically related
to the exclusivity of OCC's visitorial powers with respect to national
banks' operating subsidiaries.11

Results in Brief

In issuing the preemption rules, OCC sought to clarify the applicability
of state laws by relating them to certain categories, or subjects, of
activity conducted by national banks and their operating subsidiaries and
the nature of its visitorial powers over those institutions. However, the
bank activities rule does not fully resolve uncertainties about the
applicability of state consumer protection laws to national banks and
their operating subsidiaries. This is because OCC has indicated that, even
under the standard for preemption set forth in the rules, state consumer
protection laws can apply; for example, OCC has said that state consumer
protection laws, and specifically fair lending laws, may apply to national
banks and their operating subsidiaries. Some state officials questioned
the extent to which state consumer protection laws, particularly those
aimed at preventing unfair and deceptive acts and practices, are preempted
for national banks and their operating subsidiaries. Some national bank
representatives with whom we spoke had mixed views about the applicability
of state laws regarding unfair and deceptive acts and practices.

State officials reacted differently to the rules' effect on their
relationships with national banks. In the views of most state officials we
contacted, the preemption rules have had the effect of limiting the
actions states can take to resolve consumer issues, as well as adversely
changing the way national banks respond to consumer complaints and
inquiries from state officials. Those officials said that since the rules
were promulgated, some national banks and operating subsidiaries have
become less inclined to respond to actions by state officials to resolve
consumer complaints. However, OCC has issued guidance to national banks
and proposed an agreement with the states designed to facilitate the
resolution of and information sharing about individual consumer complaints
and to address broader consumer protection issues that state officials
believe warrant attention. Further, some state officials reported that,
prior to the rules, they examined operating subsidiaries and were not
challenged by either those entities or OCC, yet since the visitorial
powers rule was issued some national bank operating subsidiaries have
declined to submit to state examinations or have relinquished their state
licenses. Other state officials said that they still have good working
relationships with national banks and their operating subsidiaries, and
some national bank officials stated that they view cooperation with state
attorneys general as good business practice. Some state officials also
expressed the view that the preemption rules might prompt holding
companies that have national bank subsidiaries to move lines of business
from a national bank's holding company affiliate into a national bank
operating subsidiary in order to avoid state regulation.

Because the financial services industry has undergone significant
changes-involving interstate banking, globalization, and mergers and
consolidations-it is difficult to determine what effects, if any, the
preemption rules-apart from other aspects of the federal charter-might
have on banks' choices of charter. Factors affecting charter choice can
include the size and complexity of an institution's banking operations,
the institution's business needs, and the extent to which supervisory and
regulatory competence and expertise are tailored to the scale of the
bank's operations. Our analysis of FRB and OCC data shows that, from 1990
to 2004, less than 2 percent of the nation's thousands of banks changed
between the federal and state charters. However, the portion of total bank
assets under the supervision of state bank regulators declined
substantially in 2004 due to two large formerly state-chartered banks
changing to the federal charter, and such shifts in assets have budgetary
implications for both state regulators and OCC. Based on our work, no
conclusion can be made about the role, if any, the preemption rules had in
those events or will have on future charter choices. Nevertheless, several
state officials expressed the view that federal charters likely bestow
competitive advantages in light of the preemption rules, and some states
reported actions to address potential charter changes by their state
banks.

State officials and consumer groups identified three general measures they
believed could address their concerns about protecting consumers of
national banks and operating subsidiaries: (1) clarifying the National
Bank Act to provide specifically for some state jurisdiction over
operating subsidiaries; (2) establishing a consensus-based national
consumer protection lending standard; and (3) working more closely with
OCC, in part to clarify the applicability of state consumer protection
laws to national banks and their operating subsidiaries. In light of OCC
regulations and judicial decisions recognizing operating subsidiaries to
be authorized by the National Bank Act as vehicles through which national
banks may operate, the first measure would likely require amending the
National Bank Act to specify either that the states and OCC share
jurisdiction over operating subsidiaries, or that operating subsidiaries
are to be treated as national bank affiliates. Moreover, providing for
state involvement in the supervision of operating subsidiaries, even if
only for consumer protection purposes, raises both policy and practical
questions-for example, in drawing a line clearly defining states'
authority. Some officials suggested that a national consumer protection
lending standard applicable to lending activities by all state-chartered
and federally chartered financial institutions would avoid disputes about
preemption and serve to satisfy concerns about the effectiveness of
current efforts to protect consumers from lending abuses. A uniform
standard, however, could limit states' abilities to enact standards of
their own. The third measure would involve OCC initiating efforts to
involve the states in addressing their concerns. This would be consistent
with one of OCC's strategic goals and could assist both the states and the
OCC in their consumer protection efforts-for example, by providing a means
to systematically share relevant information on local conditions.

This report makes a recommendation to the Comptroller of the Currency that
is designed to clarify the applicability of state consumer protection laws
to national banks. We provided a draft of this report to OCC for review
and comment. In a letter (reprinted in app. VII), the Comptroller of the
Currency agreed with our recommendation, specifically recognizing that OCC
should find more opportunities to work cooperatively with the states to
address issues that affect the institutions it regulates, enhance existing
information concerning the principles that guide its preemption analysis,
and look for opportunities to generally address the preemption status of
state laws. OCC also provided technical comments which we incorporated as
appropriate.

OCC Described Types of State Laws That Would Be Preempted, but Questions
Remain Regarding the Rules' Scope and Effect

In the bank activities rule, OCC attempted to clarify the types of state
laws that would be preempted by relating them to certain categories, or
subjects, of activity conducted by national banks and their operating
subsidiaries. Specifically, OCC (1) listed subjects of national bank
activity-for example, checking accounts, lending disclosure, and mortgage
origination and mortgage-related activities such as processing, servicing,
purchasing, and selling-to which state laws do not apply; (2) listed
subjects to which state laws generally apply; and (3) described the
federal standard for preemption under the National Bank Act that it would

apply with respect to state laws that do not relate to the listed
subjects.12 Although OCC's purpose in proposing the regulations was "to
add provisions clarifying the applicability of state law to national
banks,"13 we found that grounds for uncertainty remain regarding the
applicability of state consumer protection laws to national banks,
particularly state statutes that generally prohibit unfair and deceptive
practices by businesses. In addition, because they disagree with OCC's
legal analysis underlying the rules, some state officials we interviewed
said they are unsure of how to proceed with legal measures, such as
proposing, enacting, or enforcing laws or issuing and enforcing
regulations that could relate to activities conducted by national banks
and their operating subsidiaries.

OCC Sought to Clarify the Applicability of State Laws to National Banks
and Their Operating Subsidiaries by Interpreting Preemption and Visitorial
Powers under the National Bank Act

In the bank activities rulemaking, OCC amended or added rules in parts of
its regulations applicable to four categories of national bank activity
authorized by the National Bank Act: (1) real estate lending; (2) non-real
estate lending; (3) deposit-taking; and (4) the general business of
banking, which includes activities OCC determines to be incidental to the
business of banking. For each of the first three categories, OCC listed
subjects that it  concluded are not subject to state law because state
laws concerning those subjects already had been preempted under OCC
interpretations of the National Bank Act, or by judicial decisions, or
were found to be preempted by OTS for federal thrifts. For state laws
relating to any of the three categories but not to subjects specified in
the lists, OCC announced that it would apply the test for federal
preemption established by Supreme Court precedents. According to OCC, that
test calls for a determination of whether a state law "obstructs, impairs,
or conditions" a national bank's ability to perform a federally authorized
activity. For the fourth category-a "catch all" provision for state laws
that do not specifically relate to any of the other three categories-the
rule states that OCC will apply its articulation of the test for
preemption under the National Bank Act. Finally, for each of the four
categories of banking activity, the rule lists subjects to which state
laws generally apply. These include torts, contracts, the rights to
collect debts, taxation, and zoning. The rules also provide that a state
law applies to a national bank if OCC determines that the law has only "an
incidental effect" on the bank's activity or "is otherwise consistent
with" powers authorized under the National Bank Act.

Although it is referred to as part of the "preemption rules," the
visitorial powers rule does not announce the preemption of state laws that
affect a particular subject or activity. Instead it is OCC's refinement of
how it interprets the federal statute that establishes OCC's visitorial
power over national banks. OCC's view of its visitorial powers is as
follows:

In the visitorial powers rulemaking, OCC sought to clarify the extent of
its supervisory authority. The agency amended its rule setting forth OCC's
visitorial powers so that the rule: (1) expressly states that OCC has
exclusive visitorial authority with respect to the content and conduct of
activities authorized for national banks under federal law, unless
otherwise provided by federal law; (2) recognizes the jurisdiction of
functional regulators under the Gramm Leach Bliley Act (GLBA); and (3)
clarifies OCC's interpretation of the statute establishing its visitorial
powers, 12 U.S.C. S: 484.  That provision makes national banks subject to
the visitorial powers vested in courts of justice, such as a state court's
authority to issue orders or writs compelling the production of
information or witnesses, but according to OCC, does not authorize states
or other governmental entities to exercise visitorial powers over national
banks.

Questions Remain Concerning the Applicability of State Consumer Protection
Laws

Although OCC issued the bank activities rule to clarify the applicability
of state laws to national banks and their operating subsidiaries, many of
the state officials, consumer groups, and law professionals we interviewed
said that the preemption rules did not resolve questions about the
applicability of certain types of state law to national banks and their
operating subsidiaries. One set of concerns, discussed in appendix II of
this report, reflects differences about how the rules and OCC's authority
under the National Bank Act should be interpreted. In OCC's view, the
rules resolved many uncertainties that had existed before the rules but
did not resolve all issues about the extent of preemption. A second set of
concerns regarding uncertainty over the applicability of state consumer
protection laws, particularly those prohibiting unfair and deceptive acts
and practices (UDAP) exists, at least in part, because of OCC's statements
that under the preemption rules such laws may apply to national banks.

Statements by OCC Suggest That State Consumer Protection Laws Can Be
Consistent with Federal Law

In the bank activities rulemaking, OCC specified that a state law relating
to a subject listed as preempted, as well as any other state law
determined to be preempted by OCC or a court, does not apply to national
banks and their operating subsidiaries regardless of how the law is
characterized.15 Accordingly, a state law would not escape preemption
simply because the state describes it as a consumer protection law.
However, OCC has indicated that even under the standard for preemption set
forth in the rules, state consumer protection laws can apply to national
banks and their operating subsidiaries. Moreover, to the extent that a
state's consumer protection law might apply to a subject on one of the
preemption lists, OCC has not specifically indicated what characteristics
of the state law would cause it to be preempted.

Some state officials and consumer groups we met with were unclear as to
whether or not a state consumer protection law would apply to national
banks because it is "otherwise consistent with" the National Bank Act,
even if the law were to have more than an incidental effect on a national
bank's activity. Some referred to a long-standing decision by a Federal
Court of Appeals, discussed below, holding that a state's law restricting
discriminatory real estate lending practices applied to national banks.
They said that the court's reasoning could justify the application of
other types of state laws, such as consumer protection laws, to national
bank business practices. Moreover, on several occasions, OCC has made
statements that reasonably could be interpreted to indicate that state
consumer protection laws can be consistent with federal law and,
therefore, not preempted, even if they directly affect a national bank's
business activity.

In National State Bank of Elizabeth, N.J. v. Long, the United States Court
of Appeals for the Third Circuit ruled that a provision of a New Jersey
law prohibiting redlining in mortgage lending applied to a national
bank.16 Recognizing that prohibiting redlining was consistent with federal
policy, the court ruled that the bank's compliance with the New Jersey
statute would not frustrate the "aims of the federal banking system" or
"impair a national bank's efficiency" in conducting activities permitted
by federal law.17 This decision demonstrates that a state law determined
to be consistent with federal policy can govern a national bank's exercise
of a federally granted power, even if the law directly affects the way in
which the bank conducts its activity. According to some of the individuals
we interviewed, the same analysis justifies application of state consumer
protection laws to national bank activities such as real estate lending.

Some of the individuals we interviewed asserted that the Long court's
analysis justifies the application of state consumer protection laws to
national banks, at least to the extent that the laws are consistent with
federal policy. They pointed out, moreover, that federal consumer
protection laws applicable to banking activities (discussed later in this
report) accommodate state laws that impose standards and requirements
stricter than those contained in the federal laws themselves, provided the
state laws are otherwise consistent with the federal law. Those federal
laws contain savings clauses preserving from preemption state laws that
impose stricter standards than in the federal laws. However, courts have
recognized that those savings clauses do not necessarily preserve such
state laws from preemption by the National Bank Act.18 Several consumer
groups and state officials also referred to OCC statements as indications
of OCC's recognition that, to some extent, the application of consumer
protection laws to national banks is consistent with federal policy. For
example, since the promulgation of the preemption rules, OCC has said that
state consumer protection laws, and specifically fair lending laws, may
apply to national banks and their operating subsidiaries. Also, while the
bank activities rule specifies that national banks may engage in real
estate lending without regard to state law limitations concerning the
"terms of credit," the Comptroller recently referred to the agency's
responsibility to enforce "applicable state consumer protection laws" and
referred to state fair lending laws as an example.19

OCC held this position before it promulgated the preemption rules. In a
2002 Advisory Letter to national banks, their operating subsidiaries, and
others entitled "Guidance on Unfair or Deceptive Acts or Practices," OCC
advised the recipients that "[t]he consequences of engaging in practices
that may be unfair or deceptive under federal or state law can include
litigation, enforcement actions, monetary judgments, and harm to the
institution's reputation." The letter alerted the recipients to the
potential that the activities of national banks and their operating
subsidiaries could be subject to state UDAP laws, stating as follows:

Although OCC published this guidance before it issued the bank activities
rule, at the time of the guidance OCC had been following the same
preemption standard it applied in the rulemaking.20

Officials Expressed Differing Views on Applicability of State Consumer
Protection Laws

We found differing views among state officials with respect to the
applicability of state consumer protection laws, particularly their UDAP
laws, to national banks. Officials from some state attorney general
offices said that their states' UDAP laws probably are preempted by the
bank activities rule, while officials in one state were unclear. State
banking department officials we spoke with also had mixed views regarding
the applicability of state UDAP laws. In one state, a banking department
official said that the state's UDAP statute would likely be preempted. In
another state, an official said that state's UDAP laws would not be
preempted. Two other state banking department officials were unclear about
the status of their states' UDAP laws.

Representatives of national banks also had mixed views about the
applicability of state UDAP laws. Representatives of one national bank
stated that state UDAP laws were preempted, whereas representatives of two
other national banks stated that state UDAP laws were, in fact, applicable
to national banks and their operating subsidiaries. The status of state
UDAP laws is not clear because, some argued, those laws generally are
consistent with federal laws and policies and, therefore, might not
obstruct, impair, or condition the ability of national banks and operating
subsidiaries to carry out activities authorized by the National Bank Act.

In addition to uncertainty over the applicability of state consumer
protection laws, state officials, consumer groups, and others asserted
that the effects of the preemption rules will remain unclear until legal
arguments are resolved. The legal disputes pertain to whether OCC
correctly articulated and applied the federal preemption standard, OCC's
reasons for including certain subjects of state law in the preemption
lists, and the application of state laws to national bank operating
subsidiaries. These issues, which essentially concern OCC's legal
authority and rationale for the rules, are summarized in appendix II.

According to Most State Officials We Contacted, the Preemption Rules Have
Diminished State Consumer Protection Efforts

According to most state officials we contacted, the preemption rules have
limited the actions states can take to resolve consumer issues and
negatively affected the way national banks respond to consumer complaints
and inquiries from state officials. More specifically, the state officials
asserted that, after the preemption rules went into effect, some national
banks and operating subsidiaries became less responsive to actions by
state officials to resolve consumer complaints. In addition, some state
officials noted that they previously had been able to examine operating
subsidiaries without challenge, but after the visitorial powers rule was
issued some national bank operating subsidiaries declined to submit to
state examinations or relinquished their state licenses. However, other
state officials reported good working relationships with national banks
and their operating subsidiaries, and some national bank officials said
that cooperation with state attorneys general was good business practice.
While we found some examples of operating subsidiaries that did not comply
with state regulatory requirements after the preemption rules were issued,
we note that others had not complied with state requirements before the
rules were issued. Some state officials also believed that the preemption
rules might prompt holding companies with national bank subsidiaries to
move lines of business from a national banks' holding company affiliate
into an operating subsidiary to avoid state regulation. No data are
available that would allow us to determine the extent of any such
activity, and state officials did not provide conclusive documentary
evidence to support their concerns.

State Officials Expressed Differing Reactions to the Rules' Effect on
Relationships with National Banks

While all state officials we interviewed agreed that the preemption rules
have changed the environment in which they relate to national banks and
their operating subsidiaries, they have responded differently to the
changes. Officials from some state attorney general offices and state
banking departments told us that the preemption rules have caused them to
approach national banks and their operating subsidiaries about consumer
protection issues differently than they did in the past. For example, one
state banking department official said that, instead of approaching a
national bank operating subsidiary from a regulatory posture, the
department now will try to resolve a consumer complaint with a national
bank operating subsidiary only if the department has a contact at that
particular operating subsidiary, but having a contact is the exception
rather than the rule. Other state officials told us that the preemption
rules have not caused them to change their practices, either because they
continued to attempt resolution at the local level or because they
continued to forward unresolved complaints to OCC as they had done prior
to the issuance of the preemption rules.

Both before and after issuing the preemption rules, OCC issued guidance
that, among other things, addressed how banks should handle contacts from
state officials. Specifically, OCC issued guidance in 2002-prior to the
visitorial powers rule-encouraging national banks to consult the agency
about information requests by state officials to determine whether the
request constituted an attempt to exercise visitorial or enforcement power
over the bank.  21 The guidance also advised national banks that state
officials were  to contact OCC, rather than the bank itself, if they had
information to indicate that the bank might be violating federal law or an
applicable state law. In February 2004, approximately 1 month after the
visitorial powers rule became effective, OCC updated its 2002 guidance to
clarify how national banks should respond to consumer complaints referred
directly to the bank by state officials.22 While the 2002 guidance was
silent on consumer complaint handling specifically, the 2004 guidance
stated that OCC does not regard referral of complaints by state officials
as an exercise of supervisory powers by the states and that national banks
should deal with the complaining customer directly. The 2004 guidance
advised national banks to contact OCC if (1) the bank considers a referral
to be a state effort to direct the bank's conduct or otherwise to exercise
visitorial authority over the national bank or (2) the state-referred
complaint deals with the applicability of a state law or issues of
preemption. Further, the guidance notifies national banks that state
officials are encouraged to send individual consumer complaints to OCC's
Customer Assistance Group, and as outlined in the 2002 guidance,
reiterates that state officials should communicate any information related
to a national bank's involvement in unfair or deceptive practices to OCC's
Office of Chief Counsel.

Further, in July 2003-prior to the visitorial powers rule-OCC suggested a
"Memorandum of Understanding" (MOU) between itself and state attorneys
general and other relevant state officials that could, in OCC's words,
"greatly facilitate" its ability to provide information on the status and
resolution of specific consumer complaints and broader consumer protection
matters state officials might refer to them. The MOU was sent to all state
attorneys general as well as the National Association of Attorneys General
(NAAG) and CSBS. Some of the officials from banking departments and the
offices of attorneys general that we interviewed, as well as
representatives of CSBS, said they viewed OCC's proposed MOU as
unsatisfactory because, in their view, it essentially favored the OCC. In
addition, some of the state officials with whom we spoke believed that
signing the proposed MOU would amount to a tacit agreement to the
principles of the banking activities and the visitorial powers rules.

According to OCC, states' attorneys general-in informal comments on the
proposed MOU-felt that the proposal was unilateral, imposing certain
conditions upon states that received information from OCC but not upon OCC
when it received information from state officials. Also, OCC noted that
the proposed MOU did not provide for referrals from OCC to state agencies
of consumer complaints OCC received pertaining to state-regulated
entities. Therefore, in 2004, OCC attempted to address these concerns in a
revised MOU, which it provided to CSBS and the Chairman of the NAAG
Consumer Protection Committee. According to OCC, the revised MOU expressly
says that an exchange of information does not involve any concession of
jurisdiction by either the states or by OCC to the other. Only one state
official signed the original 2003 MOU, and according to OCC, to date, no
additional state officials have signed the 2004 version.

Some State Officials Believe That National Banks and Operating
Subsidiaries Are Less Inclined to Cooperate

Some state officials asserted that before the preemption rules they were
able to deal with national banks on more than merely a complaint-referral
basis. They said that, through their regular dealings with national banks
and their operating subsidiaries, consumer complaints typically had been
resolved effectively and expeditiously. Among the anecdotes they provided
are the following:

o State officials in two states said that they treated national banks and
their operating subsidiaries just like any other state-regulated business;
they would simply approach the institution about consumer complaints and
jointly work with the institution to resolve them.

o An official in one state attorney general's office referred to an effort
in which the attorney general's office successfully resolved complaints
about a national bank's transmittal of customer account information to
telemarketers.

o Officials from another attorney general's office said that, before the
visitorial powers rule was amended, they often were able to persuade
national banks to change their business practices; for example, they said
they were able to encourage a national bank to discontinue including
solicitations that they viewed as deceptive in consumers' credit card
statements. These officials also stated that, in the past, they were able
to speak informally with national banks to get them to alter the way
certain products were advertised.

As further examples of national banks cooperating with state officials
prior to the preemption rules, state officials in two states cited
voluntary settlements that national banks entered with states concerning
telemarketing to bank credit card holders and the sharing of bank customer
information with third parties. In each of two settlements, one in March
2002 and the other in January 2003, national banks entered an agreement
with 29 states in connection with judicial proceedings brought by the
states concerning telemarketing practices and the disclosure of cardholder
information to third parties. Also, in an October 2000 settlement made in
connection with judicial proceedings initiated by a state, a national bank
agreed to follow certain practices concerning the sharing of customer
information with third parties. Although these settlements were made
voluntarily and do not represent a judicial determination that the states
had authority to enforce laws against the national banks, state officials
used them to illustrate that they had some influence over the banks prior
to the preemption rules. In addition, some state officials said that prior
to the visitorial powers rule, many operating subsidiaries submitted to
state requirements regulating the conduct of their business, such as
license requirements for mortgage brokering. Also, according to some state
officials, prior to the issuance of the visitorial powers rule their
states

examined and took enforcement actions against operating subsidiaries
because they were state-licensed and regulated, and OCC did not
interfere.23

Some state authorities maintained, however, that by removing uncertainties
about state jurisdiction and the applicability of state law that may have
served as an incentive for cooperation, the preemption rules made it
opportune for the institutions to be less cooperative. One official from
an attorney general's office, emphasizing the importance of consumer
protection at the local level, stated that the preemption rules have in
effect precluded the state from obtaining information from national banks
that could assist the state in protecting consumers. The official pointed
out that the state's ability to obtain information from operating
subsidiaries enhanced state consumer protection efforts because the
institutions would refrain from abusive practices to avoid reputation risk
associated with the disclosure of adverse information.24 Further, many
state officials we spoke with expressed a concern that, because of the
preemption rules, national bank operating subsidiaries that formerly
submitted to state supervision no longer do so.

According to some state officials, because of the preemption rules,
operating subsidiaries either threatened to relinquish or actually

relinquished their state licenses, or did not register for or renew their
licenses.25 Specifically:

o State officials in two states provided copies of letters they received
from operating subsidiaries, citing the visitorial powers rule as the
basis for relinquishing their state licenses.

o An official in one state attorney general's office provided a list of 27
national bank operating subsidiaries that notified the office that they
would no longer maintain their state licenses.

o Banking department officials in one state estimated that 50-100
operating subsidiaries had not renewed their licenses.

While the preemption rules may have prompted some national bank operating
subsidiaries to relinquish their state licenses or otherwise choose not to
comply with state licensing laws, we note that others did so before the
preemption rules were issued. For example, in January 2003 an entity
licensed by the State of Michigan that engaged in making first mortgage
loans became a national bank operating subsidiary. In April 2003, the
entity advised the state that it was surrendering its lending registration
for Michigan.26

Some state officials said that because the visitorial powers rule
precludes state banking departments from examining operating subsidiaries,
the potential exists for a "gap" in the supervision of operating
subsidiaries. According to them, without state examination, consumers may
be harmed because unfair and deceptive, or abusive, activities occurring
within operating subsidiaries may not be identified. Although OCC's
procedures state that any risks posed by an operating subsidiary are
considered in the conduct of bank examinations and other supervisory
activities, state officials nonetheless doubted OCC's willingness to
detect compliance with applicable state laws. Some questioned how
examiners would know what state laws, if any, apply to national banks and
how examiners would review compliance with such laws. While OCC examiners
noted that they generally did not have procedures for examining compliance
with state laws, OCC officials explained that if they identify a state law
requirement that is applicable to national banks and operating
subsidiaries, examiners are advised so that they can take the requirement
into account as they determine the scope of their examinations.

Other State Officials Reported Little Change in Relationships with
National Banks

The above-described concerns of state officials are not universal. In one
state, officials with whom we spoke acknowledged that they still have good
working relationships with national banks and their operating
subsidiaries. Further, officials of some national banks with whom we spoke
stated that they viewed cooperation with state laws and attorneys general
as good business practice. For example, one national bank representative
stated that knowing about problems that consumers were having helped to
provide better services and reduce the potential for litigation. The
individual added that the bank wants to maintain relationships with state
attorneys general, and if they make an honest effort to engage the bank,
then the bank also would engage the attorneys general. Another national
bank representative stated that the bank typically tries to focus on
resolving the concern rather than quibble about whose jurisdiction-federal
or state-the issue falls under.

Some State Officials Were Concerned That the Preemption Rules Could Prompt
the Creation of Operating Subsidiaries to Avoid State Regulation

Some state officials with whom we spoke expressed concern that the
preemption rules might cause national banks to bring into the bank lines
of business traditionally regulated by states. According to this view,
nonsubsidiary affiliates of national banks, such as a mortgage broker
controlled by a holding company that also controls a national bank, could
be restructured as operating subsidiaries to avoid state supervision and
licensing requirements. According to FRB officials, movements of bank
holding company subsidiaries to national bank operating subsidiaries have
occurred for some time, including before OCC issued the preemption
rules.27 However, FRB does not collect data specifically on such
movements.

Many lines of business that constitute the business of banking under the
National Bank Act, such as mortgage lending and brokering and various
types of consumer lending, are conducted by nonbank entities. According to
some individuals we spoke with, a bank holding company controlling both a
national bank and such a nonbank entity might perceive some benefit in
having the nonbank's business take place through the bank and, therefore,
cause the bank to acquire the nonbank as an operating subsidiary.

Federal courts considering the status of national bank operating
subsidiaries have upheld OCC's position that operating subsidiaries are a
federally authorized means through which national banks exercise federally
authorized powers, holding that operating subsidiaries are subject to the
same regulatory regime that applies to national banks, unless a federal
law specifically provides for state regulation.28 Under these precedents,
converting a nonsubsidiary affiliate or unaffiliated entity into a
national bank operating subsidiary would subject the entity to OCC's
exclusive supervision. Moreover, state laws preempted from applying to
national banks would be preempted with respect to the entity once it were
to become an operating subsidiary.29

FRB individuals with whom we spoke said that a national bank's cost of
conducting a business activity in an operating subsidiary could be less
than the cost of conducting that activity through a holding company
affiliate. Therefore, a bank holding company could have an incentive to
place a state-regulated activity in a national bank operating subsidiary.
However, this would be true both before and after the preemption rules,
all else being equal. As discussed in the following section, the financial
services industry has undergone many technological, structural, and
regulatory changes during the past decade and longer. Determining how the
preemption rules, in comparison with any number of other factors that
might influence how banks or holding companies are structured, would
factor into the national bank's decision to acquire a nonbank entity was
beyond the scope of our work.30

The Rules' Effect on Charter Choice Is Uncertain, but Some States Are
Addressing Potential Charter Changes

Many factors affect charter choice, and we could not isolate the effect of
the preemption rules, if any, on charter changes. According to some state
regulators and participants in the banking industry, federal bank
regulation could be advantageous to banks when compliance with state laws
would be more costly, thereby creating an incentive for banks to change
charters. However, because the financial services industry has undergone
significant changes--involving interstate banking, globalization, mergers,
and consolidations-it is difficult to isolate the effects of regulation
from other factors that could affect choice of charter. According to our
analysis of FRB and OCC data from 1990 to 2004, the number of banks that
changed between the federal and state charters was relatively small
compared with all banks. However, total bank assets under state
supervision declined substantially in 2004 because two large
state-chartered banks changed to the federal charter; further, such shifts
in assets have budgetary implications for both state regulators and OCC.
Based on our work, no conclusion can be made about the extent to which
OCC's preemption rules had any effect on those events or will have on
future charter choices. Nevertheless, several state officials expressed
the view that federal charters likely bestow competitive advantages in
light of the preemption rules; in response, some states addressed
potential charter changes by their state banks. For example, one state
changed its method of collecting assessments.

Industry Changes and Other Factors May Affect Charter Choice

A discussion of any effect or perceptions of the effect of the preemption
rules on charter choices by state-chartered banks has to be viewed in the
broader environment of the evolution of the financial services industry
over the past approximately 20 years-changes that make it difficult to
assess the impact of the preemption rules. Some of the bank officials and
other bank industry participants we interviewed noted these industry
changes when discussing their views on the preemption rules and
acknowledged that many factors may affect banks' choices between federal
and state charters.

Banking Business Has Changed in Many Ways

Like other parts of the financial services industry, which includes the
securities and insurance sectors, modern banking has undergone significant
changes. Interstate banking and globalization have become characteristics
of modern economic life. On both the national and international levels,
banks have a greater capacity and increased regulatory freedom to cross
borders, creating markets that either eliminate or substantially reduce
the effect of national and state borders. Deregulation and technological
changes have also facilitated globalization. Consolidation (merging of
firms in the same sector) and conglomeration (merging of firms in other
sectors) have increasingly come to characterize the large players in the
financial services industry. The roles of banks and other financial
institutions and the products and services they offer have converged so
that these institutions often offer customers similar services. As a
result, the financial services industry has become more complex and
competition sharper.

In our October 2004 report on changes in the financial services industry,
we cited technological change and deregulation as important drivers of
consolidation in the banking industry.31 For example, in the early 1980s,
bank holding companies faced limitations on their ability to own banks
located in different states. Some states did not allow banks to branch at
all. With the advent of regional interstate compacts in the late 1980s,
some banks began to merge regionally. Additionally, the Riegle-Neal
Interstate Banking and Branching Efficiency Act of 1994 removed
restrictions on bank holding companies' ability to acquire banks located
in different states and permitted banks in different states to merge,
subject to a process that permitted states to opt out of that authority.32
While the U.S. banking industry is characterized by a large number of
small banks, the larger banking organizations grew significantly through
mergers after 1995.

Convergence of products and services in the banking industry means that
now many consumers can make deposits, obtain a mortgage or other loan, and
purchase insurance or mutual funds at their bank. Other market factors
have made some banks rely more on fee-based income from, among other
services and products, servicing on loans they sold to other institutions
and fees on deposit and credit card activity (including account holder
fees, late fees, and transactions fees). Thus, consumer protection issues
have become increasingly important to the industry.

Many Factors May Affect Choice of Charters

Bank and banking industry association officials and state and federal
regulators we interviewed told us that choice of charter is influenced by
many factors. For example, the size and complexity of banking operations
are important factors in determining which charter will service an
institution's business needs. Bank and other officials also cited the
importance of supervisory and regulatory competence and expertise tailored
to the scale of a bank's operations. For example, officials of some large
national banks stated that they valued OCC's ability to effectively
supervise and regulate large scale banks with complex financial products
and services. Officials from one large state bank said that they valued
federal supervision by FDIC and, at the holding company level, FRB. Some
bank and state and federal regulatory officials said that smaller banks
prefer the generally lower examination fees charged by state regulators
and lower regulatory compliance costs associated with their state charters
relative to the federal charter. For example, officials of one small state
bank, which was previously federally chartered, said that they had to
undertake more administrative tasks under the federal charter, such as
greater reporting requirements needed to demonstrate compliance with
federal laws, and that such tasks were relatively burdensome for a small
bank.

Some bank officials and state and federal regulators agreed that smaller
banks with few or no operations in other states value accessibility to and
convenient interaction with state regulators.33 Additionally, officials of
smaller banks said they value the state regulators' understanding of local
market conditions and participants and the needs of small-scale banking.
Officials of one small state bank said that, when their bank switched from
the federal charter to a state charter, one important consideration was
the state regulators' frequent visits to the bank and their responsiveness
and accessibility. Bank officials, industry representatives, and
regulators also agreed that new banks tend to be state-chartered because
state regulators tend to play an important role in fostering the
development and growth of start-up banks.

Bank and state regulatory officials noted that a pre-existing relationship
between a bank's senior management and a regulator or management's
knowledge about a particular regulator can play an important role in
choosing or maintaining a charter. For example, officials noted that if
management has already established a good, long-term relationship with a
particular regulator, or if they were familiar with a regulator, they
would likely remain with that regulator when considering charter options.
Officials from two large, state-chartered banks operating in multiple
states said that they valued their relationship with their home state
regulators because they were very responsive and provided quality
services. Officials from one of the banks stated that they knew the staff
of their state banking department very well, and they respected the
banking commissioner's "hands-on" approach to supervision.

Mergers and acquisitions of banking institutions also influence charter
choice. For example, officials from a large banking institution stated
that, because their merger with another large banking institution combined
federally and state-chartered entities, they decided to convert from a
state to the federal charter to maintain only one charter type in the
resulting company. As a result, they believed they would be able to
simplify their operations, reduce inefficiencies, and lower risks to the
financial safety and soundness of the merged company and have the
advantages of the federal charter companywide. The history of acquisitions
in a company also may affect charter choice. For instance, officials of
one bank said they obtained their federal charter by acquiring a federally
chartered bank and then continued to acquire more federally chartered
banks. Similarly, according to officials of a state bank, they typically
integrate banks they acquire into their existing state charter.

Few Banks Have Changed Charters, but Shifts in Bank Assets Have Budgetary
Implications for State Regulators and OCC

Our analysis of data on charter changes among federally and
state-chartered banks from 1990 through 2004 showed that few banks overall
changed charters-either switching from federal to state or state to
federal-during that period.34 About 2 percent or less of all banks in
these years changed charters; 60 percent of all changes were to the
federal charter. Most charter changes occurred in connection with mergers
rather than conversions.35 Appendix III provides details on charter
changes.

While the numerical shift in bank charters was not significant from 1990
through 2004, there was a major shift in the distribution of bank assets
in 2004 to the federal charter. As illustrated in figure 2, the share of
assets divided among federally chartered and state-chartered banks
remained relatively steady for a decade; between 1992 and 2003, national
banks held an average of about 56 percent of all bank assets, and state
banks held an average of about 44 percent. However, in 2004, the share of
bank assets of banks with the federal charter increased to 67 percent, and
the share of bank assets of banks with state charters decreased to 33
percent.

Figure 2: Assets of National and State Banks as a Percentage of Assets of
All Banks, 1992-2004

Note: FDIC data were only available beginning in 1992.

While part of this increase may be explained by the growth of federally
chartered banks, two charter changes in 2004- JP Morgan Chase Bank and
HSBC Bank-substantially increased the share of all bank assets under the
federal charter.

Changes in bank assets among state and federal regulators have budgetary
implications because of the way the regulators are funded. Most state
regulators are funded by assessments paid by the banks they oversee. The
state banking departments collect assessments, often based on the
supervised bank's asset size. As a result, a department's budget may be
vulnerable when the department collects a significant portion of its
revenue from a few large banks if one or more change to the federal
charter. For instance, when two of the largest banks in one state changed
to the federal charter, the state regulator lost about 30 percent of its
revenue.

We analyzed funding information in two states we visited to estimate how a
change to the federal charter by the largest state bank in each state
could affect those state regulators' budgets. In the first state, if the
largest state bank were to change to the federal charter, the state
regulator's assessment revenue would decrease by 43 percent. In the second
state, the charter change of the largest state bank would decrease
assessment revenue by 39 percent. Some state banking department officials
told us that loss of revenue has caused or may cause them to adjust their
assessment formula and find other sources of revenue. Others suggested
that budget volatility also might make hiring and retaining the expert
staff that they needed difficult.

OCC is funded primarily from assessments it charges the banks it
supervises; it does not receive any appropriations from Congress. (See
app. IV for details on OCC's assessment formula and app. V for information
on how some other federal regulators are funded.) Between 1999 and 2004,
the assessments collected from national banks funded an average of 96
percent of OCC's budget. Thus, its budget also could be affected by
charter changes. OCC derives much of its assessments from a relatively
small number of institutions. Although OCC oversees about 1,900 national
banks, the 20 largest banks accounted for approximately 57 percent of
OCC's assessments in December 2004.36 Since 1999, the percentage of OCC's
budget paid by its largest banks has been increasing (see fig. 3).

Figure 3: Percentage of OCC's Total Assessments from the 20 Largest
National Banks, from June 30, 1999 through December 31, 2004

The potential exists for OCC to experience budget repercussions if large
national banks decided to change to a state charter, resulting in fewer
assets under OCC's supervision. However, before December 2004, conversions
generally affected less than 1 percent of OCC's assessment revenue. Figure
4 shows gains and losses in assessments paid to OCC relative to the total
amount collected in assessment payments. OCC's assessment revenue from
conversions to the federal charter jumped by about 8 percent, or about $23
million, as of December 31, 2004.37 The increase is largely attributable
to the conversion of one of the two large state banks mentioned
previously, which accounted for about 98 percent of the increase in OCC's
assessment revenue from charter conversions.

Figure 4: Gains and Losses in Assessment Payments to OCC Relative to Total
Assessments OCC Collected, from June 30, 1999 through December 31, 2004

According to OCC officials, the agency is in a position to sustain any
serious decrease to its revenue stream. OCC's financial strategy includes
establishing reserves to address unexpected fluctuations in assessment
revenue and an increase in demand on resources.38 According to OCC, its
"contingency reserve" would be used to counter any adverse budgetary
effects of a large national bank changing charters. OCC's policy is to
maintain the contingency reserve at between 40 and 60 percent of its
budget. According to OCC, at the beginning of fiscal year 2006, the
contingency reserve was 49 percent of OCC's budget. According to OCC,
having a reserve allows the agency to handle any change in revenue in a
controlled way and reduce the impact of budget volatility and any need to
suddenly increase assessments charged to the banks they supervise.

Some Officials Perceive Competitive Advantages in the Federal Charter and
Have Taken Actions to Address Potential Charter Changes by State Banks

According to some state officials, because of federal preemption, national
banks do not have to comply with state laws that apply to banking
activities and, to the extent that compliance with federal law is less
costly or burdensome than state regulation, the federal charter provides
for lower regulatory costs and easier access to markets. Therefore, some
state regulators and banking industry officials expressed concern that the
federal charter, and particularly the preemption of state laws, will
result in competitive advantages for federally chartered banks over state
chartered banks. According to some state officials, state chartered banks
that operate in multiple states could be at the greatest competitive
disadvantage. In contrast, according to OCC and many banking industry
participants, from a legal perspective, the preemption rules did not
change anything; state laws always have been subject to preemption under
the National Bank Act and the Supremacy Clause of the U.S. Constitution
and, therefore, state banks historically have faced the possibility that a
federal charter could be more beneficial than a state charter.

As noted above, many factors may influence banks' choice of a state or
federal charter. Substantiating claims about any competitive advantage for
federally chartered banks would involve, among other things, comparisons
of states' laws and regulations with federal law and regulations,
conclusions about which set of laws and regulations overall would be less
burdensome or costly for a particular bank, and obtaining and analyzing
data and individual opinions about whether differences in burden and
compliance costs, if any, would be significant enough to limit a state
bank's ability to compete with national banks. A study of this magnitude
was beyond the scope of this report and, during our work, we did not learn
of any study demonstrating that the preemption-related aspects of a
national bank charter generally give national banks a competitive
advantage over state-chartered institutions.

Officials Perceived Some Competitive Advantages for the Federal Charter

Many officials that we spoke with said that preemption of state law could
make the federal bank charter attractive for some state banks.
Representatives of a number of federally and state-chartered banking
institutions and industry associations stressed the value of not having to
comply with different state laws and of having more regulatory uniformity
throughout the country under a federal charter. They stated that large
banks and banks with operations in multiple states prefer the federal
charter because it makes it easier and less costly to do business. Some
bank officials stated that OCC preemption also makes the federal charter
attractive because the rules clarify supervisory and regulatory authority
for national banks and their operating subsidiaries and also encourage
more standardized banking practices. For example, officials from one
national bank said that changes in the banking industry, such as
interstate banking, make it more important for banks with multistate
operations to have uniform federal regulations to operate across states
and to achieve economies of scale. Similarly, an official from another
large national bank noted that having a consistent set of national
regulations also facilitates banks in offering consumers, who are becoming
increasingly mobile, financial products and services across the country.

Officials from one large federally chartered bank said that a state
charter for them would be impractical because it would be expensive to
develop and maintain different operational systems for different state
laws. Officials from one large, state-chartered bank operating in multiple
states said that they need to tailor their products, fees, forms,
disclosures, and staff training to the requirements of each state and that
the requirements could be conflicting. In contrast, they said, for
national banks, there are fewer legal discrepancies when operating under
the federal charter. Officials from one state-chartered bank with
multistate operations also said that they invest significant resources to
keep abreast of and monitor state regulatory matters in the various states
where they operate. Furthermore, some bank officials noted that mistakes
are more likely to occur when business operations must be tailored to the
multiple and different requirements of different states. Despite these
challenges, officials from these state-chartered banks believed the
benefits of being state-chartered outweighed the challenges.

Some States Have Made Efforts to Address the Potential Impact of Charter
Changes

State officials noted two efforts to address potential charter changes by
their state banks: strengthening their state parity laws, which generally
confer on state banks the same powers given to national banks, and
changing their funding sources.

Parity Laws

Some individuals we interviewed suggested that the use of state "parity"
statutes could help even the regulatory playing field between federal and
state regulation. Parity statutes generally grant state-chartered banks
the same powers given to national banks and treat state banks like
national banks in other ways. According to data from CSBS, prior to the
rules, 46 states had parity statutes granting state-chartered banks parity
with national banks.39 Of those, 11 states had parity statutes that were
triggered automatically; that is, when national banks were granted certain
powers, state banks in that state were automatically granted the same
powers.40

According to CSBS, the remaining 35 states' parity laws require the state
bank regulator's permission before a state bank is allowed to operate
under the parity law's provisions. Representatives of one state bankers
association told us in their state-where regulator approval for parity is
required-there are often long delays, with some state bank's parity
applications pending for 2-3 years. Further, according to state regulators
many states' parity laws include other restrictions that some say may make
it difficult for a state bank to be competitive with national banks. After
the preemption rules were promulgated, one state bank regulator proposed
to enhance the state's current parity statute to include an automatic
trigger for state-chartered banks when national banks are given certain
powers by the OCC. Thus, in the view of many industry participants and
observers we spoke with, state parity laws are not an ideal solution to
leveling any competitive advantage federally chartered banks might have
over state-chartered banks. However, an effective parity law could provide
an incentive for existing state-chartered banks to maintain their state
charters.

We note that views about the rationale for parity laws generally did not
address other possible explanations for those laws, such as a belief that
federal regulation is an appropriate model for regulating and supervising
state banks. Regardless of a state's reasons for having a parity law, many
participants and regulators in the banking industry maintain that without
regulatory parity the dual banking system will suffer because banks will
migrate to the regulatory regime they consider to be most advantageous. In
recent testimony before FDIC, some regulatory officials and banking
industry representatives testified that unless efforts were made to
restore parity between federal and state bank regulation, the dual banking
system, which they described as having encouraged economic development
especially at the community level, would be adversely affected, as would
healthy competition, regulatory innovation, and checks and balances among
state and federal regulators.41

Budget Concerns

Some state regulatory officials with whom we spoke recognized the
budgetary consequences associated with state banks changing to the federal
charter. To reduce the impact on their budgets if one of their largest
state-chartered banks changed charters, some state regulators we spoke
with have taken steps to limit the potential for instability. For example,
one state banking department has changed its method of collecting
assessments. Prior to 2005, this state banking department was not
collecting assessments from sources other than approximately 300
depository institutions, a small portion of the approximately 3,400 bank
and nonbank institutions such as check cashers and money transmitters that
it oversaw. Now this state regulator collects assessments from all of its
regulated entities. Other officials have said they were considering
alternative methods of determining assessments to decrease the banking
department's reliance on one or a few banks to sustain their budgets.

Although state banking departments would experience smaller budgets if
assessments were lost, the decrease in assessments would be somewhat
offset by the decreased costs of supervising a smaller group of banks and
other financial entities. There are other factors that could mitigate the
consequences of any loss of revenue to a state regulator; for example,
funding formulas that cushion the impact of charter conversions. For
instance, in one state that we visited, each bank effectively paid a
proportionate amount of the banking department's expenses as its
assessment, with consideration given for asset size. As a result,
assessments varied directly with changes in the department's spending and
with the number of state-chartered banks. Banking department officials in
this state believed that it would take about 100 state-to-federal charter
conversions to affect funding significantly. (See app. VI for information
on how state bank regulators are funded.)

Suggested Measures for Addressing State Consumer Protection Concerns
Include Shared Regulation, Which Raises Complex Policy Issues, and Greater
Coordination between OCC and States

Some state officials and consumer groups identified three general measures
that they believed could help address their concerns about protecting
consumers of national banks and operating subsidiaries: (1) providing for
some state jurisdiction over operating subsidiaries; (2) establishing a
consensus-based national consumer protection lending standard; and (3)
working more closely with OCC, in part to clarify the applicability of
state consumer protection laws to national banks and their operating
subsidiaries. The first measure would most likely involve amending the
National Bank Act and, along with the second measure, raises a number of
legal and policy issues. The third measure would involve OCC's
clarification of the effect of the bank activities rule on state consumer
protection laws.

Shared Supervisory Authority over Operating Subsidiaries Would Assist
State Officials with Consumer Protection Efforts, but the Concept Raises
Questions about the Supervision of National Bank Activities

Some state officials we interviewed suggested that states should have a
direct monitoring or supervisory role over operating subsidiaries,
particularly with respect to consumer protection matters, because the
subsidiaries are state chartered. Providing such a role would likely
require amending the National Bank Act to specify either that (1) the
states and OCC share jurisdiction over operating subsidiaries or (2)
operating subsidiaries are to be treated as national bank affiliates.
However, providing for state involvement in the supervision of operating
subsidiaries, even if only for consumer protection purposes, raises
difficult questions. Some individuals we interviewed said that doing so
would significantly interfere with Congress' objectives in establishing a
national banking system. Others maintained that state and federal
supervisory interests could be balanced without undermining national
banks' ability to conduct business.

Some supporters of state supervision maintain that the National Bank Act
currently does not preempt the application of state laws to operating
subsidiaries. Those subscribing to this view maintain that OCC's
interpretation of the act is wrong because the preemption standards and
visitorial powers limitations under the act pertain specifically to
national banks, not to their operating subsidiaries. According to this
position, under the National Bank Act and other federal banking laws,
operating subsidiaries should be treated as "affiliates" of national
banks, and federal law recognizes the authority of states to regulate
affiliates. However, several recent federal court decisions have held that
OCC has reasonably interpreted the National Bank Act to permit a national
bank's use of operating subsidiaries to conduct its business.42 Some
authorities assert that Congress agrees with OCC's regulatory scheme for
operating subsidiaries, pointing out that Congress has let the
interpretation stand for more than 30 years. They also refer to a
provision of GLBA, in which Congress specifically recognized the existence
of operating subsidiaries by using OCC's interpretation to describe
them.43 Further, they maintain that, in GLBA, Congress implicitly
recognized that OCC's authority over operating subsidiaries is exclusive
unless Congress specifically says otherwise.44

Because operating subsidiaries are, by definition, a part of a national
bank's business activity, amending the National Bank Act to provide states
with authority to regulate them concurrently with OCC would set the stage
for state regulation of a national bank in exercising its federally
granted powers. One possible effect of this approach is that, even if a
state's authority over an operating subsidiary were limited to consumer
protection, it would be difficult to limit state supervision of the bank.
Assuming that a regulatory line could be drawn to separate the activities
of the operating subsidiary from those of the bank, states would need to
monitor, if not supervise, the activities that trigger consumer protection
concerns. To the extent that these activities reflect business decisions,
policies, or practices by the national bank, an opportunity would exist
for state intrusion into the bank itself. This could lead to, among other
things, regulatory disputes over jurisdiction, differing views about the
safety and soundness of the bank, or other points of contention arising
from regulatory policies and objectives of OCC and the states.

Similarly, amending the National Bank Act to specify that operating
subsidiaries are affiliates of national banks could have unintended
consequences. Assuming that the activities of an operating subsidiary
continued to be limited to activities permissible for its parent bank, the
bank simply could move those activities into the bank, in which case the
efficiencies gained from conducting those activities through a separate
unit, if any, would be lost. Alternatively, those activities could be
shifted to an affiliate of the bank. The potential impact on the national
bank's delivery of products and services, its costs, and its safety and
soundness could be significant.

Some state officials noted that states already work effectively with other
federal regulators to monitor and enforce compliance with consumer
protection laws. They described efforts their offices took with federal
regulators, such as FTC, to identify and take enforcement actions against
unlawful practices. One official said FTC works with state officials by
meeting periodically with state regulators to discuss issues of mutual
concern and, when appropriate, to divide investigative responsibilities.
In one instance, the state attorney general coordinated efforts with FTC
to investigate and reach settlement with certain entities that had engaged
in deceptive practices. Some state officials said that their relationships
with federal regulators were based on shared regulatory authority over
state-chartered entities and that a similar relationship with OCC should
exist with respect to national bank operating subsidiaries.

We were told of similar federal-state arrangements with respect to
state-chartered depository institutions that are subject to both federal
and state supervision. State officials said that they work with FDIC and
FRB regularly to conduct bank examinations and identify and stop practices
that violate applicable laws. As an example, one official said that state
regulators, FDIC, and FRB have entered into cooperative regulatory
agreements to supervise interstate operations of state-chartered banks
that conduct activities in other (host) states. Some state officials said
that having the same kind of relationship with OCC concerning national
bank operating subsidiaries would enhance consumer protection in their
states.

All of the above examples involve state-chartered entities that are
outside of a national bank and are subject to supervision by both federal
and state authorities. Although those entities are subject to some federal
laws that preempt or can have a preemptive effect on state laws, state
officials generally believed that states have enough supervisory authority
over the institutions to ensure their conformity with state policies as
expressed in state laws. The extent to which those examples should serve
as models for national bank regulation depends on several considerations,
not the least of which would involve policy judgments about the autonomy,
if not the purpose, of the national bank charter.

A Consensus-Based National Consumer Protection Lending Standard Applicable
to All Lending Institutions Would Provide Uniformity but Limit State
Autonomy

During our work, we asked state officials and others for their opinions on
whether it is desirable to have a federal lending law ensuring the same
level of consumer protection to customers of all lending institutions,
including banks and regardless of charter. Officials from state bankers'
associations asserted that a national standard may already exist, for
example, in the FTC Act, which among other things prohibits businesses
from engaging in unfair and deceptive acts and practices.45 In addition,
officials referred to other federal consumer protection laws that apply to
national banks and national bank operating subsidiaries.46 Others stated
that existing consumer protection standards in federal lending laws are
weak and suggested a stricter, consensus-based national consumer
protection standard applicable to lending activities by all
state-chartered and federally chartered financial institutions. Assuming
such a standard could be set, lenders and consumers could rely upon
protections that would not change based upon the lending institution's
charter. A consensus-based national consumer protection lending standard,
however, would appear to limit states' abilities to enact standards of
their own.

The rationale for a consensus-based national consumer protection lending
standard generally is that (1) developing such a standard would protect
consumers more than existing laws do and (2) having the right type of
standard would help reduce concerns about the preemptive effect of federal
laws on state consumer protection programs. However, some of the
individuals we interviewed agreed that adopting a consensus-based national
consumer protection lending standard, even if sound policy, would be
difficult to accomplish. Among other things, defining the conduct subject
to a standard could be difficult. While some individuals referred to
certain antipredatory lending bills pending in Congress as appropriate
models, others stated that it would be difficult to find a uniform
solution to practices that are viewed as predatory.

We also found mixed views on whether a consensus-based national consumer
protection lending standard should serve as a ceiling (which would not
allow state authorities to impose more stringent standards) or a floor
(which would so allow). Some officials stated they would prefer a floor so
that states could go farther to address the particular needs of their
states. One state attorney general official stated that the benefits of
having a floor would be realized when there were more specific practices
that needed to be addressed, such as predatory lending. On the other hand,
another attorney general official said that floor-type standards such as
those contained in federal laws, such as the Truth in Lending Act and the
FTC Act, do not themselves impose adequate protections and often have not
led to more protective state laws.

Under either approach, valid regulatory objectives could be compromised. A
federal "ceiling" could deprive states of the ability to address practices
and implement policies unique to local conditions. State officials and
consumer groups maintain that the states serve as laboratories for
regulatory innovation necessary for adequately policing financial industry
products and practices. A uniform national "ceiling" could deprive states
of the ability to act independently. Conversely, a limitation of the
"floor" approach is that states could impose differing standards that
would defeat the objective of uniformity.

An OCC Initiative to Clarify Preemption With Respect to State Consumer
Protection Laws Could Assist in Achieving Consumer Protection Goals

As discussed earlier in this report, many state officials and consumer
groups have expressed uncertainty over the extent to which state consumer
protection laws apply to national banks and their operating subsidiaries.
At the same time, OCC stated that the agency would like to work
cooperatively with the states to further the goal of protecting consumers.
Based on our work, it appears that OCC's clarification of the effect of
the preemption rules on state consumer protection laws would assist states
in their consumer protection efforts and could provide an opportunity for
the agency to work with states more broadly on consumer protection
concerns.

OCC informed us of their efforts to work with states on preemption issues.
For example, an OCC representative stated that OCC hoped to harmonize the
OCC's and states' authorities to provide effective and efficient
protections for consumers. Also, in 2004 testimony before the Senate, the
Comptroller described OCC's commitment to protect consumers and welcomed
opportunities to share information and cooperate and coordinate with
states to address customer complaints and consumer protection issues.47
However, OCC has no formal initiative specifically addressing the
applicability of state consumer protection laws.

State officials and others suggested that OCC undertake an initiative to
work with the states in clarifying the scope of preemption with respect to
state consumer protection laws and to coordinate OCC and state consumer
protection objectives. Clarifying the applicability of state consumer
protection laws would be consistent with a strategy for achieving one of
OCC's strategic goals, which is to enhance communication with state
officials to facilitate better coordination on state law issues affecting
national banks. Further, unlike the two measures discussed previously,
such an OCC initiative would not involve statutory amendments.

One state official cited an example of cooperation between OCC and the
state to protect consumers: a case in which OCC and the State of
California coordinated their efforts to initiate proceedings against a
national bank and some of its state-chartered affiliates. The actions were
based on alleged unfair and deceptive practices that violated the FTC Act,
the California Business and Professions Code, the Fair Credit Reporting
Act, and other applicable laws. OCC instituted an enforcement action
against the national bank, while the state filed a civil judicial action
against the national bank's state-chartered parent-a financial
corporation-and two other state-chartered affiliates.48 In June 2000, both
actions were settled. The defendants did not admit or deny the allegations
against them, but in both proceedings they agreed to payment of a $300
million "restitution floor" as seed money for a restitution account. Under
the settlement, any payment made by a defendant in one proceeding would
discharge any identical payment obligation by the other defendants in the
other proceedings. Even though OCC and the state initiated separate
proceedings against separately supervised institutions, they worked
together to treat the restitution floor obligation as a joint settlement.

According to some state officials and others, an OCC initiative to clarify
the applicability of state consumer protection laws could assist both OCC
and the states in their consumer protection efforts. It could also have
the added benefit of facilitating the sharing of information among the
states and OCC on conditions in a state or a location that might be
conducive to predatory lending or other abuses and could help individual
states, as well as OCC. State officials told us that states have knowledge
of local conditions that allow them to identify abusive practices within
their jurisdictions. A means for the states to systematically share this
kind of information with OCC could help the agency in its supervision of
national banks and operating subsidiaries.

Conclusions

Although the preemption rules were intended to provide a clear statement
of OCC's standard for preemption and its exclusive visitorial powers
authority, the bank activities rule does not fully resolve uncertainties
about the applicability of state consumer protection laws to national
banks and their operating subsidiaries. Based on OCC's own statements, the
scope and the effects of the rules are not entirely clear. It is,
therefore, not surprising that some state officials said they are
uncertain as to what state consumer protection laws apply to national
banks and their operating subsidiaries.

Many state officials we spoke with maintain that their ability to protect
consumers by directly contacting national banks and their operating
subsidiaries has been diminished by the preemption rules. However, to
date, courts have upheld OCC's view that it has exclusive authority to
supervise national bank operating subsidiaries. State officials reported
that they have maintained cooperative relationships with national banks
and/or operating subsidiaries since OCC issued the preemption rules. While
state officials expressed particular concerns that the rules could prompt
national banks, or their holding companies, to move activities into
operating subsidiaries in order to avoid state regulation, such movements
occurred prior to the rules and can result from many factors. OCC has
issued guidance to national banks designed to facilitate the resolution of
individual consumer complaints and address broader consumer protection
issues that state officials believe warrant attention.

Changes in charter type-federal or state-are influenced by many factors
including whether or not a bank has operations in multiple states.
Consistent federal laws throughout the country are an attraction to banks
with a presence in more than one state and especially banks with a
national presence. Preemption of state law is part of that attraction for
such banks but cannot be attributed as the sole reason some banks choose
the federal charter. While the number of charter changes has been
relatively small during the period we reviewed (1990 through 2004), the
amount of the corresponding bank assets that moved from state bank
regulators' supervision to that of OCC as a result of charter changes did
increase noticeably in 2004, albeit largely because of the charter
conversion of one large bank. Because both OCC and state banking
departments are funded by the entities they regulate and their formulas
for the assessments charged are based partially, if not totally, on the
assets of the banks and other entities they regulate, their budgets and
workloads can be affected by changes in bank charters. OCC has a reserve
fund to protect itself from any dramatic shifts away from the federal
charter, but some state banking departments' budgets and workloads could
face reductions if large state banks changed to the federal charter.

Our work identified three general measures that, while not necessarily
exhaustive of all potential measures, could help address state officials'
concerns about protecting consumers of national banks and operating
subsidiaries. Two of these-providing for some state jurisdiction over
operating subsidiaries and establishing a consensus-based national
consumer protection lending standard-raise a number of complex legal and
policy issues of their own and could be difficult to achieve. The third
measure, in contrast to the first two, would not raise complex issues such
as the potential need to amend the National Bank Act. Rather, it would
require OCC to clarify the characteristics of state consumer protection
laws that would make them subject to federal preemption. We recognize the
impracticality of specifying precisely which provisions of state laws are,
or are not, preempted, and acknowledge that some uncertainty may always
exist. Nevertheless, we believe that an OCC outreach effort to describe in
more detail which characteristics of state consumer protection laws would
make them subject to preemption could help state officials better
understand the effect of the rules and help allay their concerns. OCC has
expressed a willingness to reach out to states regarding consumer
protection issues. Further, such efforts would be consistent with OCC's
strategic goal of enhancing communication with state officials to
facilitate better coordination on state law issues affecting national
banks.

Recommendation for Executive Action

We recommend that the Comptroller of the Currency undertake an initiative
to clarify the characteristics of state consumer protection laws that
would make them subject to federal preemption. Such an initiative could
serve as an opportunity for dialogue between OCC and the states on
consumer protection matters. For example, OCC could hold forums where
consumer protection issues related to federal and state laws could be
discussed with state officials and consumer advocates. This could improve
communication and coordination between OCC and state officials with
respect to the impact of the preemption rules on the applicability of
state consumer protection laws and could also assist both OCC and the
states in their consumer protection efforts.

Agency Comments and Our Evaluation

We provided a draft of this report to OCC for review and comment. In
written comments (see app. VII), the Comptroller of the Currency generally
concurred with the report and agreed with the recommendation.
Specifically, the Comptroller stated that the report contained a number of
observations that were consistent with OCC's views on the relationship
between the preemption rules and a bank's choice between the federal and
state charters. OCC commented that the preemption rules provided
clarification regarding the types of state laws listed in the regulations,
and noted that recent court decisions reflect a growing judicial consensus
about uniform federal standards that form the core of the national banking
system. OCC agreed with our observation that it may be impractical to
specify precisely which provisions of state laws are, or are not,
preempted. However, OCC recognized that it should find more opportunities
to work cooperatively with the states to address issues that affect the
institutions it regulates, enhance existing information concerning the
principles that guide its preemption analysis, and look for opportunities
to generally address the preemption status of state laws. Accordingly, OCC
described one new initiative intended to enhance federal and state
dialogue and coordination on consumer issues. OCC stated that the Consumer
Financial Protection Forum, chaired by the U.S. Department of the
Treasury, was established to bring federal and state regulators together
to focus exclusively on consumer protection issues and to provide a
permanent forum for communication on those issues. OCC also provided
technical comments which we incorporated as appropriate.

As agreed with your offices, unless you publicly announce the contents of
this report earlier, we plan no further distribution until 30 days from
the report date. At that time, we will send copies of this report to the
Comptroller of the Currency and interested congressional committees. We
also will make copies available to others upon request. In addition, the
report will be available at no charge on the GAO Web site at
http://www.gao.gov .

If you or your staff have any questions concerning this report, please
contact me at (202) 512-8678 or [email protected] . Contact points for our
Offices of Congressional Relations and Public Affairs may be found on the
last page of this report. Key contributors are acknowledged in appendix
VIII.

David G. Wood Director, Financial Markets and   Community Investment

Objectives, Scope, and MethodologyAppendix I

On January 13, 2004, the Treasury Department's Office of the Comptroller
of the Currency (OCC), which supervises federally chartered "national"
banks, issued two sets of final rules covering the preemption of state
laws relating to the banking activities of national banks and their
operating subsidiaries ("bank activities rule") and OCC's exclusive
supervisory authority over those institutions ("visitorial powers rule").
The rules drew strong opposition from a number of state legislators,
attorneys general, consumer group representatives, and Members of
Congress, who opposed the rules because of what they viewed as potentially
adverse effects on consumer protection and the dual banking system. In
this report, we examine (1) how the preemption rules clarify the
applicability of state laws to national banks; (2) how the rules have
affected state-level consumer protection efforts; (3) the rules' potential
effects on banks' decisions to seek the federal, versus state, charters;
and (4) measures that could address states' concerns regarding consumer
protection. Additionally, this report provides information on how OCC and
other federal regulators, as well as state bank regulators, are funded.

Identification of Key Issues and Legal Review of Preemption Standard

Many of the arguments supporting and opposing OCC's preemption rules
related to legal opinions and policy objectives. Therefore, to identify
key concerns and questions about the preemption rules, we conducted a
content analysis of comment letters that OCC received in response to its
rulemaking.1 In addition to the analysis we conducted for our previous
report on OCC's rulemaking process, we reviewed the 55 comment letters OCC
received on its visitorial powers proposal and conducted a content
analysis on 30 of the letters.2 To analyze the comments, we first
separated the 30 letters into two categories: letters that supported the
visitorial powers rule (17) and letters that opposed the rule (13). We
then randomly selected a test set of letters from each category and
established an initial set of codes that would further characterize
comments within each category. We applied these codes to the test set of
letters and made refinements to establish the final codes for each
category. A pair of trained coders independently coded the remaining sets
of letters and resolved discrepancies to 100 percent agreement. The coders
regularly performed reliability checks throughout the coding process and
recorded results in an electronic data file, in which the data were
verified for accuracy. Descriptive statistics for the codes were computed
by an analyst using SPSS statistical software and a second, independent
analyst reviewed the data analysis.

To further identify stakeholder concerns, we also reviewed three
congressional hearings on the preemption rules. We grouped statements from
these hearings under the following categories: issue, implication, or
suggestion. The "issue" category included statements that described the
nature of the commenters' concerns. The "implication" category included
statements that explained the perceived effect the rules would have
relative to a specific issue or concern. The "suggestion" category
included statements that described ways certain issues or concerns could
be resolved, as well as measures that could facilitate state and federal
authorities working together to protect consumers. We also categorized the
statements by source and whether the statements were made in support of or
opposition to the rules.

Finally, to obtain more in-depth information on the issues identified by
stakeholders, we conducted site visits or phone interviews with officials
and representatives of state attorneys general offices, state banking
departments, consumer groups, state bankers associations, and national and
state banks in six states (California, Georgia, New York, North Carolina,
Idaho, and Iowa). We judgmentally selected the states based on the
following characteristics: state officials' interest in the issue;
location of noteworthy federally or state-chartered banks (that is, large
banks based on asset size or banks that experienced a recent charter
conversion); notable consumer group presence or consumer protection laws;
and geographic dispersion. We gauged state officials' interest in the
issue and identified state contacts by reviewing congressional hearings
and reviewing comment letters on the proposed rules. We also solicited
appropriate state contacts from officials we interviewed, such as the
National Association of Attorneys General (NAAG), the Conference of State
Bank Supervisors (CSBS), and several consumer group representatives. In
Washington, D.C., we interviewed the national associations comprising
state attorneys general and state bank regulators; representatives of
national consumer groups; and officials at OCC and other federal bank
regulatory agencies, including the Board of Governors of the Federal
Reserve System (FRB) and the Federal Deposit Insurance Corporation (FDIC).

With the information obtained from the content analysis, review of
congressional hearings, and the site visits and interviews, we conducted a
legal review of the preemption rules, past OCC preemption determinations,
relevant case law, and relevant federal and state regulations to determine
how OCC clarified the applicability of state laws to national banks.

Effects of Preemption Rules on State Consumer Protection Efforts and the
Dual Banking System

In the discussions with officials noted above, we solicited their views on
the effects and potential effects of the rules on consumer protection and
asked them how the preemption rules have affected the dual banking system
(for example, charter choice and the distribution of assets among the
national and state banks).

To obtain an industrywide view of how bank assets are divided among
state-chartered and federally chartered banks, we obtained data from
FDIC's online database, Statistics on Depository Institutions, and its
online version of Historical Statistics on Banking. We extracted data on
the number and asset sizes of all banks from 1990 through 2004. To assess
the extent to which banks have changed between the federal charter and
state charters from 1990 through 2004, we collected and analyzed data from
OCC and FRB on the annual number of charter changes and asset sizes of
banks experiencing charter changes during this period. According to agency
officials, OCC data came from its Corporate Applications Information
System and FRB data came from the National Information Center database. To
determine the total number of conversions to the federal charter each
year, we used OCC data to sum the total number of conversions that
occurred in each year from 1990 through 2004 for each type of financial
institution as listed in the data. We also summed the corresponding assets
for each type of entity. In order to find the total number of conversions
out of the federal charter, we separated charter terminations resulting
from conversions from charter terminations listed as occurring for other
reasons. We then summed the total number of all charter terminations due
to conversions out of the federal charter and their total corresponding
assets each year.3

For charter additions to the federal charter resulting from mergers, we
used OCC data to sum the total number of additions that occurred in each
year from 1990 through 2004 for each type of financial institution (as
listed in the data) involved in the merger. Using FRB data, we summed the
total assets of banks that changed to the federal charter from state
charters as a result of mergers in each year. For deletions from the
federal charter resulting from mergers, we first separated charter
terminations that OCC categorized as resulting from mergers from charter
terminations listed as occurring for other reasons. We then, using OCC
data, summed the total number of all charter terminations attributed to
mergers.4 Using FRB data, we summed the total assets of banks that changed
from the federal charter to state charters as a result of mergers in each
year.

To determine how bank chartering decisions affected OCC's budget, we
summarized data provided by OCC on assessments paid by institutions that
converted charters between 1999 and 2004 to determine how choice of
charter and fees assessed from each type of charter affected OCC's total
revenue. We also collected data from certain states and applied their
respective assessment formulas to analyze the effects of chartering
decisions on the state regulators' budgets. To describe how the OCC and
state banking departments are funded, we interviewed OCC officials,
reviewed agency annual reports, past GAO reports, and CSBS' Profile of
State-Chartered Banking. We also interviewed federal and state regulators
to understand their funding mechanisms.

Measures to Address States' Concerns Regarding Consumer Protection

As noted previously, we conducted site visits and reviews of congressional
hearings to obtain information on ways state and federal authorities could
work together to protect consumers. During our site visits, we asked
officials and representatives of state attorneys general offices, state
banking departments, consumer groups, and state bankers associations to
identify measures that would facilitate state and federal authorities
working together to protect consumers. When measures were identified, we
asked follow-up questions to determine perceived advantages and
disadvantages of the measure and challenges to implementing the measure.
We then obtained and reviewed relevant information, such as statutes,
judicial opinions, and related documents.

Overall Data Reliability

We assessed the reliability of all data used in this report in conformance
with generally accepted government auditing standards. To assess the
reliability of the data on bank charters, assets, and assessments, we (1)
interviewed OCC, FRB, and FDIC agency officials who are knowledgeable
about the data; (2) reviewed information about the data and the systems
that produced them; and (3) for certain data, reviewed documentation
provided by agency officials on the electronic criteria used to extract
data used in this report.

For OCC data on the yearly number and assets of banks experiencing charter
changes between the federal and state charters, we performed some basic
reasonableness checks of the data against FRB data and data reported in a
research study by an economist at OCC. We found that the data differed
among these three data sources. We identified discrepancies and discussed
these with agency officials. We also found that OCC data on assets of
banks that changed charters as a result of mergers were very different
from both FRB data and data in the research study. Furthermore, according
to OCC officials, asset data based on call report information was
considered more reasonable for the purposes of our report.5 Therefore, we
did not use OCC data on assets of banks that changed charters as a result
of mergers. Instead, we decided to use FRB data because they were more
reasonable in comparison to those in the research study and because they
were based entirely on call report information. Although OCC data on
assets of banks that changed charters as a result of conversions was not
based on call report information, we decided to use that data because it
was reasonable in comparison with those reported in the research study.
After reviewing possible limitations in OCC's Corporate Applications
Information System, we determined that all data provided, with the
exception of OCC assets data noted above, were sufficiently reliable for
the purposes of this report.

We conducted our work in California, Georgia, New York, North Carolina,
Idaho, Iowa, and Washington, D.C., from August 2004 through March 2006 in
accordance with generally accepted government auditing standards.

Legal Arguments Regarding the Preemption RulesAppendix II

In addition to expressing uncertainty about the applicability of state
consumer protection laws to national banks, some opponents of the
preemption rules disagreed with the Office of the Comptroller of the
Currency's (OCC) legal interpretations of the National Bank Act in support
of the rules. They asserted that the effects of the preemption rules will
remain unclear until these legal arguments are resolved. As discussed
below, legal challenges to the preemption rules consistently have been
rejected by federal courts.

OCC's Interpretation of the Preemption Standard

Many critics of the bank activities rule disagreed with OCC's articulation
of the standard for federal preemption, asserting that the agency
misinterpreted controlling Supreme Court precedents as well as the
regulatory scheme Congress has established for national banks. The
regulations contained in the bank activities rule provide that, except
where made applicable by federal law, state laws that "obstruct, impair or
condition" a national bank's ability to fully exercise its federally
authorized powers do not apply to national banks.1 Opponents of the bank
activities rule asserted that this standard misstates the test for
preemption under the National Bank Act.

The preemption doctrine is rooted in the Supremacy Clause of the U.S.
Constitution, which states as follows;

Under the Supremacy Clause, state law is preempted by federal law when
Congress intends preemption to occur.3 Preemption may be either
express-where Congress specifically states in a statute that the statute
preempts state law-or implied in a statute's structure and purpose.
Implied preemption occurs through either "field preemption" or "conflict
preemption." Field preemption occurs when Congress (1) has established a
scheme of federal regulation so pervasive that there is no room left for
states to supplement it or (2) has enacted a statute that touches a field
in which the federal interest is so dominant that the federal system will
be assumed to preclude enforcement of state laws on the same subject. In
contrast, conflict preemption occurs when a state law actually conflicts
with federal law. To determine whether a conflict exists, courts consider
whether compliance with both federal and state law is a physical
impossibility or whether the state law stands as an obstacle to the
accomplishment and execution of the full purposes and objectives of
Congress.4 Despite these separate analytical approaches, in practice the
differences between the two are not always exclusive or distinct. Rather,
as a practical matter, there can be a substantial overlap between the
categories, with courts using a similar analysis to address field and
conflict preemption.5

Even though field preemption and conflict preemption are not mutually
exclusive concepts, the Supreme Court and federal courts traditionally
have applied the conflict analysis to determine preemption questions
arising under the National Bank Act. Supreme Court and other federal court
cases addressing preemption under the act have been decided on the basis
of whether a conflict exists between the federal law and a state law. It
is well settled that with respect to national banks, the National Bank Act
preempts a state law that stands as an obstacle to the accomplishment and
execution of the full purposes and objectives of Congress. Critics of the
bank activities rule asserted that (1) the controlling Supreme Court
precedent for finding this type of conflict preemption under the National
Bank Act is set forth in the Supreme Court's opinion in Barnett Bank of
Marion County v. Nelson and (2) the Barnett Bank decision sets a standard
for preemption that is stricter than the one applied by OCC, so that under
that standard fewer state laws would be preempted.6

The decision in Barnett Bank states, in part, as follows:

Several critics of the bank activities rule interpret this passage to mean
that state law applies to national banks if the law does not "prevent or
significantly interfere with" the banks' ability to engage in activities
authorized by the National Bank Act. They said that, in the Barnett
decision, the Supreme Court clarified its earlier articulations of
conflict preemption under the National Bank Act and that this standard
tolerates state regulation of national banks to a greater extent than
OCC's "obstruct, impair or condition" test. According to this argument,
state law governs a national bank's exercise of its federally granted
powers unless applying the law would at least significantly interfere with
the bank's ability to engage in banking. OCC interprets the Barnett
language to be one of many ways in which the Supreme Court has articulated
the standard for preemption under the National Bank Act.8 In the preamble
accompanying publication of the final bank activities rule, OCC explained
that its articulation of the standard does not differ in substance from
the language used in Barnett or any other Supreme Court test for
preemption under the National Bank Act, stating that "[t]he variety of
formulations quoted by the Court, . . . defeats any suggestion that any
one phrase constitutes the exclusive standard for preemption."9

According to some of the sources we consulted, primarily state regulators
and consumer groups, under the Barnett decision the application of state
laws to national bank activities can be consistent with the National Bank
Act. Referring to the rule that state law is preempted when applying it
would create "an obstacle to the accomplishment of the full purposes and
objectives of Congress," one legal individual asserted that since at least
the early twentieth century it has been an objective of Congress to
provide for state regulation of banking activities regardless of whether a
bank has a federal or state charter. The individual described this
objective as a congressionally established "competitive equilibrium"
within the U.S. banking system. According to this perspective, allowing a
state law to govern a national bank's exercise of its federally granted
powers would be consistent with the purposes and objectives of Congress.

In support of this position, several state officials and consumer groups
we interviewed referred to a provision of the Riegle-Neal Interstate
Banking and Branching Efficiency Act of 1994 (Interstate Banking Act). In
that legislation, Congress specified that host state laws regarding
community reinvestment, consumer protection, fair lending, and the
establishment of intrastate branches apply to branches of out-of-state
national banks except when, among other things, federal law preempts their
application to a national bank.10 In the conference report accompanying
the legislation, the conferees stated that preemption determinations made
by the federal banking agencies through opinion letters and interpretive
regulations "play an important role in maintaining the balance of Federal
and State law under the dual banking system."11 The conference report did
not discuss how preemption determinations affect the dual banking system.
Instead, the discussion referred to state interests in protecting
individuals, businesses and communities in their dealings with depository
institutions. However, some parties we interviewed maintained that the
Interstate Banking Act and its legislative history show that Congress
intends states to have a role in regulating national bank activities and
that this relationship is a feature of the dual banking system.

Several individuals and industry participants we interviewed said that,
while Congress may not have prohibited some state regulation of national
banks, Congress consistently has endorsed the concept that state laws do
not apply to national banking when those laws are inconsistent with
federal law. This, they said, is because Congress established the national
bank system to be separate from state banking systems. According to this
view, the concept of a dual banking system does not contemplate state
regulation of national banks, but recognizes that states have authority to
regulate the banks they charter.

Those sharing this perspective, including OCC representatives, referred to
various authorities to demonstrate that Congress established the national
bank system to be independent of state regulation, except to the extent
provided by federal law. They relied primarily on Supreme Court decisions
that referred to the National Bank Act and its legislative history as an
expression of Congress' intent to have a national charter separate from
state regulation.12 For example, in one of those decisions the Supreme
Court indicated that the National Bank Act does not contemplate state
regulation as a component of the national bank regulatory system.
Describing national banks as "federal instrumentalities," the Supreme
Court concluded that a state law was preempted under the National Bank Act
because, among other things, Congress had not expressed its intent that a
federally authorized national bank activity be subject to local
restrictions. In that decision, the Supreme Court held that the National
Bank Act preempted a state law forbidding national banks from using
"saving" or "savings" in their names or advertising. The Supreme Court
said that it found "no indication that Congress intended to make this
phase of national banking subject to local restrictions, as it has done by
express language in several other instances."13

Several individuals, including OCC representatives, also said that even if
Congress, in the 1994 Interstate Banking Act, contemplated the potential
application of state laws to national bank activities, Congress clearly
did not intend state laws to apply if they conflict with federal law. They
said that, although the Interstate Banking Act demonstrates Congress'
belief that states have an interest in how national banks conduct their
activities in the four areas specified in the act, neither the act nor its
legislative history suggest that state laws in those four areas override
federal preemption. In their view, Congress' recognition that state laws
are subject to preemption signifies that Congress did not intend the
application of state laws covering those four areas to be a purpose or
objective of national bank regulation when such state laws conflict with
federal law.

In the conference report accompanying the Interstate Banking Act, the
conferees questioned OCC's preemption of a New Jersey law relating to
consumer checking accounts and the agency's preemption of state laws that
prohibit, limit, or restrict deposit account service charges. However, the
conferees recognized that despite the states' interests in regulating bank
activities concerning consumer protection, fair lending, and the other two
areas mentioned previously, state laws in those areas are subject to
preemption under the National Bank Act. In the legislation, Congress
established a process for federal banking agencies to follow when they
preempt state laws concerning those four areas.14 In describing the
process, which includes publication for public comment of federal banking
agency preemption determinations regarding state laws applicable to any of
the four areas of state interest, the Conferees specified that the
legislation was not intended to change "the substantive theories of
preemption as set forth in existing law."15 At the time, OCC's standard
for preemption was the same as the agency applied in the bank activities
rule. For example, in a 1989 interpretive letter, OCC stated the federal
preemption standard under the National Bank Act as follows:

In addition to disagreement over the regulatory objectives of the National
Bank Act, we also encountered differences of opinion over the scope of the
preemption rules. Some individuals we interviewed asserted that, despite
OCC's invocation of the conflict preemption standard, in fact OCC has
preempted the field of national bank regulation. That is, under OCC's
test, there is no room for state law in the regulation of the business
activities of national banks because those activities are solely a matter
of federal law. OCC, on the other hand, maintains that it applies the
conflict preemption standard with the objective of enabling national banks
to operate to the full extent of their powers under federal law "without
interference from inconsistent state laws."16 As discussed previously,
courts sometimes apply field and conflict preemption analyses
interchangeably. To date, however, federal courts have recognized that OCC
preemption determinations are based on an analysis of whether a conflict
exists between federal and state law. Courts addressing the preemption
regulations have not questioned OCC's determination that conflict between
state and federal laws is the predicate for the preemption rules.

Breadth of the Preemption Lists in the Bank Activities Rule

In the bank activities rule, OCC explained that state laws concerning the
subjects listed as preempted already had been preempted, either by OCC
administrative determinations, or by federal court decisions or precedents
applicable to federal thrifts.17 However, some of the subjects listed as
preempted have not been specifically addressed in precedents applying the
National Bank Act. Rather, information from OCC shows that some subjects
of state law were included on the preemption lists because they

had been preempted by the Office of Thrift Supervision (OTS).18 In issuing
the bank activities rule, OCC concluded that with respect to the
applicability of state law, Congress used the same scheme for both
national banks and federally chartered thrifts under the Home Owners Loan
Act (HOLA).19 Opponents of the bank activities rule criticized this
approach. They questioned the applicability of OTS precedents to
preemption under the National Bank Act, asserting that Congress did not
intend HOLA and the National Bank Act to have identical preemptive
effects. In addition, several state officials and consumer groups said
that the terms OCC used to describe preempted subjects of state law are
too broad.

Those questioning OCC's reliance on OTS regulations asserted that
preemption under the National Bank Act is not as expansive as it is under
HOLA, and thus OCC wrongly concluded that state laws preempted under HOLA
also are preempted under the National Bank Act. They maintained that the
Supreme Court's description of OTS' preemptive authority recognizes the
broad preemptive impact of HOLA, which some federal courts have
characterized as field preemption.20 Critics of the bank activities rule
said that, because preemption under the National Bank Act is
conflict-based, it calls for an analysis of whether a state law covering
an OTS-preempted subject conflicts with the National Bank Act. They
maintained that OTS, using a field preemption analysis, would not have
considered whether a conflict exists. They asserted that the National Bank
Act, unlike HOLA, contemplates that states have a role in regulating
activities of national banks, and particularly those of national bank
operating subsidiaries, which typically are formed under state laws
governing the establishment of business entities. According to OCC, for
purposes of the bank activities rule labeling preemption as either "field
preemption" or "conflict based" is "largely immaterial to whether a state
law is preempted under the National Bank Act.21

Other Aspects of the Preemption Rulemaking

State representatives, consumer groups, and others challenged the bank
activities rule with respect to real estate lending. Referring to the
grant of real estate lending powers in the National Bank Act and past
versions of OCC's real estate lending rule, these individuals asserted
that in the bank activities rule OCC broadened the scope of preemption
beyond what Congress intends. One argument was based on the provision in
the National Bank Act that authorizes national banks to make real estate
loans. The provision permits national banks to conduct real estate lending
"subject to section 1828(o) of this title (12 U.S. Code) and such
restrictions and requirements as the Comptroller of the Currency may
prescribe by regulation or order."22 Section 1828(o) requires the federal
banking agencies to have uniform regulations prescribing standards for
real estate loans.23 The standards include a requirement that lenders
comply with "all real estate related laws and regulations." Some
individuals we interviewed said that this standard means that the same
real estate lending laws must apply to all federally insured depository
institutions and that, because state laws apply to one set of
institutions-specifically state banks- those same laws apply to national
banks.

Opponents also argued that OCC, by broadening the scope of preemption for
real estate lending, acted contrary to its previous determinations of
limited preemption for this activity. Before the bank activities rule was
issued, OCC's regulations specifically preempted state law with respect to
only five aspects of real estate lending.  24 In interpretive letters
describing the preemptive effect of the rule, OCC officials sometimes
stated that its purpose was to preempt only five categories of state law
restrictions on national bank real estate lending, and that "[i]t was not
the intention of [OCC], however, to preempt all state regulation of real
estate lending."25 OCC stated that the rule clarified the "limited scope"
of preemption with respect to real estate lending, thus "any state
regulations outside of the five areas cited continue to apply to national
banks, unless preempted by other regulation."26 OCC maintained this
position while applying the same preemption standard it applied in the
bank activities rule.

Critics of the bank activities rule asserted that OCC's past statements
were correctly based on the conclusion that the National Bank Act has a
limited preemptive effect with respect to real estate lending and that OCC
has not adequately justified its new, contrary interpretation. According
to OCC, the substance of the bank activities rule is not new; it
reiterates preemption determinations that had been made before the rule
was promulgated. Therefore, the rule does not represent a change in OCC's
application of preemption principles with respect to real estate lending.
Moreover, OCC revised the rule in 1995 to say that OCC would apply
principles of federal preemption to state laws concerning aspects of
national bank real estate lending not listed in the regulation. OCC had
been following this approach in its interpretive letters on preemption
since at least 1985.27

Some critics of the bank activities rule also challenged preemption with
respect to deposit-taking, which is one of the four categories of bank
activity set forth in the bank activities rule. They asserted that (1)
deposits are personal property and deposit accounts are contracts between
the depositor and the bank and (2) Congress did not intend the National
Bank Act to supersede state property and contract laws. The bank
activities rule provides that state laws on the subjects of contracts and
the acquisition and transfer of property are not inconsistent with
national bank powers and apply to national banks "to the extent that they
only incidentally affect the exercise" of the bank's powers. The
disagreement with OCC's preemption concerning deposit-taking focuses on
whether a particular state law that could be preempted (because it relates
to deposit-taking) might not be preempted (because it is a state contract
or property law). We found one case in which a California state court held
that a state law relating to deposit taking was not preempted because,
among other things, the court concluded it was a law governing contracts
having only an incidental effect on the bank's deposit-taking. However, in
that decision, the court did not question OCC's authority to preempt state
laws applicable to bank deposits.28

Applicability of Rules to National Bank Operating Subsidiaries

State officials and their representative groups disputed OCC's assertion
that the preemptive effects of the National Bank Act extend to national
bank operating subsidiaries. They also disagreed with OCC's assertion of
exclusive supervisory and enforcement jurisdiction over national bank
operating subsidiaries. These disagreements arise mainly from the
contention that OCC has improperly interpreted the status of operating
subsidiaries under the National Bank Act.

Although a national bank operating subsidiary typically is formed under
state business association laws, under OCC's interpretation of the
National Bank Act the entity exists only as a means through which national
banks may conduct federally authorized banking activities. This is because
OCC permits national banks to have operating subsidiaries on the theory
that conducting business through an operating subsidiary is an activity
permitted by the National Bank Act.29 According to OCC, because operating
subsidiaries exist and are utilized as a national bank activity, they may
not be used by national banks to engage in activities not authorized by
the National Bank Act and, correspondingly, are subject to the same laws,
terms, and conditions that govern national banks.30

In several recent cases, federal courts have upheld OCC's rationale for
permitting national banks to use operating subsidiaries and, consequently,
have held that operating subsidiaries are subject to the same laws and
restrictions that apply to national banks; one of those decisions is under
review by the Supreme Court.31 Opponents of OCC's position believe that
the National Bank Act does not treat national bank operating subsidiaries
the same as national banks, regardless of OCC's rationale for their
existence. They maintain that national bank operating subsidiaries are
legally independent entities, not banks, and as such they are subject to
state laws and supervision by state agencies. OCC has permitted national
bank operating subsidiaries since at least 1966, during which time
Congress has not enacted legislation to override OCC's position.32

Disagreement with OCC's Interpretation of Its Visitorial Powers

In the visitorial powers rulemaking, OCC clarified its position regarding
its supervisory authority over national banks and their operating
subsidiaries.33 As discussed in the body of this report, the agency
amended its visitorial powers rule to clarify the terms of its exclusive
visitorial power over national banks and their operating subsidiaries with
respect to the content and conduct of their federally authorized
activities. OCC also amended the rule to recognize the jurisdiction of
functional regulators and articulate OCC's interpretation of a part of the
visitorial powers provision, 12 U.S.C. S: 484, that makes national banks
subject to the visitorial powers vested in courts of justice.34

During our work, we encountered disagreements with OCC's assertion of
exclusive supervisory authority over national bank operating subsidiaries
and the agency's view of the nature of the visitorial powers vested in
courts of justice.35 Those disagreeing with the rule described it as an
attempt by OCC to limit both state supervision of activities conducted by
state-chartered entities and the ways in which states can rely on their
courts to take legal action against operating subsidiaries. These
disagreements raise complicated legal analyses and policy concerns, but
based on our interviews and research, there does not appear to be
significant uncertainty over OCC's view of its visitorial powers as
expressed in the visitorial powers regulation. As discussed above, in
several recent cases, federal courts have upheld OCC's conclusion that its
visitorial powers confer exclusive supervisory jurisdiction with respect
to the banking activities of national banks and their operating
subsidiaries.

Bank Charter Changes from 1990 to 2004Appendix III

From 1990 to 2004, More Banks Changed to the Federal Charter, but Most
Changes Resulted from Mergers

From 1990 to 2004, the number of bank charter changes to the federal
charter outnumbered changes to a state charter. Figure 5 shows the total
annual changes resulting from conversions and mergers between federal and
state bank charters according to data from Office of the Comptroller of
the Currency (OCC). Of 3,163 charter changes for that period, 1,884
involved moving from state charters to the federal charter, and 1,279
involved moving from the federal to a state charter, a net increase of 605
to the federal charter.

Annual changes between the two types of charters tended to be similar in
number, with the exception of 1994-1999, when noticeably more state banks
changed to the federal charter.1 According to industry observers and
academics we interviewed, the greater number of changes to the federal
charter in 1997 could be attributed to the easing of individual state
restrictions on interstate banking and the passage of the Riegle-Neal
Interstate Banking and Branching Efficiency Act of 1994, which removed
remaining state restrictions on interstate banking.

Figure 5: Total Annual Changes between Federal and State Charters,
1990-2004

The majority of changes between the federal and state charters during this
period resulted from mergers rather than conversions.2 Of the 3,163
charter changes in that period, 2,353 (or 74 percent) involved mergers.
Further, 1,545 (82 percent) of the 1,884 changes from a state to the
federal charter involved mergers. Changes from the federal to a state
charter involved somewhat fewer mergers: 808 (63 percent) of 1,279
changes.

Focusing only on conversions, we found that, over the entire period, there
was a net increase in state-chartered banks. Figure 6 shows the number of
annual changes resulting from conversions between the two types of
charters from 1990 through 2004. There were a total of 339 conversions to
the federal charter and a total of 471 conversions to state charters.
Thus, there were 132 more conversions to state charters than to the
federal charter.

Figure 6: Annual Changes between Federal and State Charters Resulting from
Conversions, 1990-2004

Looking only at mergers, we found the opposite-a net increase in federal
charters. Figure 7 shows the number of annual changes resulting from
mergers between the federal and state bank charters from 1990 through
2004. Over the entire period, there were a total of 1,545 mergers into the
federal charter and 808 mergers into state charters. Thus, there were 737
more mergers into the federal charter than into state charters.

Figure 7: Annual Changes between Federal and State Charters Resulting from
Mergers, 1990-2004

Recent Charter Changes Substantially Increased the National Bank Share of
All Bank Assets

When banks change charters, the share of bank assets under the supervision
of OCC and different state bank regulators also changes. Figure 8 shows
the total assets of banks that changed charters annually from 1990 through
2004 according to data from OCC and the Board of Governors of the Federal
Reserve System (FRB). In 1990-2003, the total assets of all banks that
changed charters were less than $200 billion annually. However, in 2004
total assets of all state-chartered banks that changed to the federal
charter increased to about $789 billion, largely due to the charter
changes of JP Morgan Chase Bank and HSBC Bank. The assets of these banks
constituted about 96 percent (about $759 billion) of the total assets of
banks that changed to the federal charter, or 82 and 14 percent,
respectively. Over the entire period, total assets that shifted to the
federal charter amounted to about $1,574 billion, and total assets that
shifted to state charters amounted to about $687 billion. Thus, about $887
billion more in assets shifted to the federal charter than to state
charters.

Figure 8: Assets of Banks That Changed between Federal and State Charters,
1990-2004

Note: For the purpose of describing assets associated with all charter
changes, asset data points were computed by adding OCC data on charter
changes resulting from conversions to FRB data on charter changes
resulting from mergers. However, we discovered that HSBC's charter change
was recorded by OCC as a merger and by FRB as a conversion. To resolve
this discrepancy and ensure that HSBC's assets were included, we added in
HSBC's change from the state to federal charter in 2004 after consulting
the FDIC "Statistics on Depository Institutions" for an approximate asset
figure. There may be other such instances of discrepancies in recording
methods, which we were not able to identify.

We also looked at the movement of assets depending on whether charter
changes resulted from conversions or mergers. Figure 9 shows the assets of
banks that converted annually between the federal and state charters from
1990 through 2004, according to data from OCC. In 1990-2003, about $55
billion more in assets shifted to state charters than to the federal
charter. During that period, total assets of banks that converted charters
remained below $100 billion annually. However, when 2004 figures are
included, about $590 billion more in assets shifted to the federal charter
than to state charters. This is largely due to the conversion of one
formerly state-chartered bank (JP Morgan Chase Bank), which alone
contributed 99 percent (about $649 billion) of all assets in 2004 of state
banks that converted to the federal charter. The assets of JP Morgan Chase
Bank represented almost 8 percent of all bank assets in that year.

Figure 9: Assets of Banks That Changed between Federal and State Charters
as a Result of Conversions, 1990-2004

Similarly, figure 10 shows the assets of banks that experienced mergers
between the federal and state charters annually in 1990-2004, according to
data from FRB.3 In 1990-2004, about $296 billion more in assets shifted to
the federal charter than to state charters as a result of mergers.

Figure 10: Assets of Banks That Changed between Federal and State Charters
as a Result of Mergers, 1990-2004

Note: For the purpose of describing assets associated with all charter
changes, asset data points were computed by adding OCC data on charter
changes resulting from conversions to FRB data on charter changes
resulting from mergers. However, we discovered that HSBC's charter change
was recorded by OCC as a merger and by FRB as a conversion. To resolve
this discrepancy and ensure that HSBC's assets were included, we added in
HSBC's change from the state to federal charter in 2004 after consulting
the FDIC "Statistics on Depository Institutions" for an approximate asset
figure. There may be other such instances of discrepancies in recording
methods, which we were not able to identify.

The Annual Number and Assets of Banks That Changed between Federal and
State Charters Was Small Relative to All Banks and All Bank Assets

From 1990 through 2004, the annual number and assets of banks that changed
between the federal and state charters constituted a small percentage of
all banks and all bank assets in those years. During that period, the
annual number of changes between the federal and state bank charters was
about 2 percent or less of all banks in those years. For example, the
number of changes to the federal charter as a percentage of all banks was
2.4 percent in 1997, when there were 223 changes. The number of changes to
the state charter as a percentage of all banks was 1.3 percent in 1993,
when there were 139 changes. Figure 11 shows the total annual changes
between the federal and state bank charters as a percentage of all banks
in each year from 1990 through 2004.

Figure 11: Total Annual Changes between Federal and State Charters, as a
Percentage of All Banks, 1990-2004

We found that the percentage of assets involved in charter changes was
also small relative to all bank assets. Figure 12 shows the annual assets
of banks from 1990 to 2004 that converted between the federal and state
charters as a percentage of all bank assets. From 1990 to 2004, total
assets of banks that converted from the federal charter to state charters
were about 1.5 percent or less of all bank assets annually. For example,
assets were highest in 1994 at about $59.6 billion, which was 1.49 percent
of all bank assets that year. Similarly, from 1990 through 2003, the total
annual assets of banks that converted from state charters to the federal
charter were about 1 percent or less of all bank assets each year. For
example, during this period assets were highest in 1997 at about $54
billion, which was about 1.07 percent of all bank assets that year. In
2004, however, assets for state to federal conversions reached their
highest since 1990 at about $653 billion, which was about 7.8 percent of
all bank assets that year.

Figure 12: Assets of Banks That Converted between Federal and State
Charters, as a Percentage of All Bank Assets, 1990-2004

Similarly, the annual charter changes and assets of banks involved in
mergers have also been a small percentage of all banks and all bank assets
for those years. During the period, the number of mergers between the two
types of charters is less than 2 percent of all banks per year. For
example, as shown in figure 7, the highest number of mergers into state
charters from the federal charter was 80 in 1998, which was 0.91 percent
of all banks that year. The highest number of mergers into the federal
charter from state charters was 158 in 1997, which was 1.73 percent of all
banks that year. The annual assets of banks experiencing mergers between
the two types of charters were less than 3 percent of all bank assets each
year.4 For example, as shown in figure 10, assets for mergers into state
charters from the federal charter were highest in 1996 at about $136.6
billion, which was about 2.98 percent of all bank assets that year. Assets
for mergers into the federal charter from state charters were highest in
2004 at about $135.9 billion, which was about 1.62 percent of all bank
assets that year.

How OCC is FundedAppendix IV

The Office of the Comptroller of the Currency (OCC) is funded primarily by
the assessments and fees that it collects from the institutions it
oversees. The amounts assessed for OCC oversight are primarily based on a
bank's asset size, but other factors are included in OCC's assessment
formula. Under the formula, bank assessments decrease as asset size
increases. As a result, mergers and consolidations among banks result in a
smaller assessment paid to OCC by the resulting bank.

OCC Is Funded Primarily by the Assessments It Charges National Banks

As of fiscal year 2004, assessments made up almost all of OCC's revenue
-about 97 percent. As shown in figure 13, since 1999 assessments have
constituted no less than 94 percent of OCC's revenue. OCC also receives
revenue from other sources: corporate fees banks pay primarily for
licensing, investment income from gains on U.S. Treasury securities,
income from the sale of OCC publications, and income from miscellaneous
internal operations such as parking fees paid by OCC employees.

Figure 13: Sources of OCC Revenue, 1999-2004

Note: In October 2001, OCC changed its reporting period from a calendar to
a fiscal year basis.

Percentages may not add to 100 percent because of rounding.

OCC's Assessment Formula Is Based on Asset Size but Includes Other Factors

The assessment formula, changed in the mid-1970s from a flat rate per
dollar of assets to its current regressive structure, determines how much
each national bank must pay for OCC supervision. The relationships between
bank size (assets) and assessments are shown in table 1. Every national
bank falls into one of the 10 asset-size brackets denoted by columns A and
B. The semiannual assessment is composed of two parts.1 The first part is
the calculation of a base amount of the assessment, which is computed on
the assets of the bank as reported on the bank's Consolidated Report of
Condition (or call report) up to the lower end point (column A) of the
bracket in which it falls.2 This base amount of the assessment is
calculated by OCC in column C. The second part is the calculation by the
bank of assessments due on the remaining assets of the bank in excess of
column E. The excess is assessed at the marginal rate shown in column D.
The total semiannual assessment is the amount in column C, plus the amount
of the bank's assets in excess of column E multiplied by the marginal rate
in column D: Assessments = C+[(Assets - E) x D].

Table 1: OCC's Assessment Formula

                                        

 If the amount                     The     
of total                     semiannual 
 balance sheet                  assessment 
    assets                       will be:  
 (consolidated                             
 domestic and                              
    foreign                                
 subsidiaries)                             
      is:                                  
       A                      B                     C           D               E 
     Over          But not over                  This        Plus  Of excess over 
                                               amount             
$0                   $2,000,000                $5,075 0.000000000              $0 
2,000,000            20,000,000                 5,075 0.000210603       2,000,000 
20,000,000          100,000,000                 8,866 0.000168481      20,000,000 
100,000,000         200,000,000                22,344 0.000109512     100,000,000 
200,000,000       1,000,000,000                33,295 0.000092663     200,000,000 
1,000,000,000     2,000,000,000               107,425 0.000075816   1,000,000,000 
2,000,000,000     6,000,000,000               183,241 0.000067393   2,000,000,000 
6,000,000,000    20,000,000,000               452,813 0.000057343   6,000,000,000 
20,000,000,000  $40,000,000,000             1,255,615 0.000050403  20,000,000,000 
$40,000,000,000                            $2,263,675 0.000033005 $40,000,000,000 

Source: OCC 2003-45, Notice of Comptroller of the Currency Fees for Year
2004.

OCC also levies a surcharge for banks that require increased supervisory
resources as reflected in the bank's last OCC-assigned CAMELS rating.3 The
CAMELS score is a numerical rating assigned by supervisors to reflect
their assessment of the overall financial condition of a bank. The score
takes on integer values ranging from 1 (best) to 5 (worst). Surcharges are
calculated by multiplying the assessment, based on the institution's
reported assets up to $20 billion, by 50 percent for a CAMELS 3-rated
institution and 100 percent for 4- and 5- rated institutions. For example,
a national bank, with a 4 supervisory rating, $15 billion in assets, and
no independent trust or credit card operations would be charged a standard
assessment of $968,900 plus a 100 percent surcharge of $968,900, for a
total assessment of $1,937,800. Since January 1, 2003, OCC special
examinations and investigations have been subject to an additional charge
of $110 per hour.

Each year OCC issues a notice with updates on changes and adjustments, if
any, to the assessment formula. It may adjust the marginal rates in column
D and the amounts in column C; most adjustments are made based on the
percentage change in the level of prices, as measured by changes in the
Gross Domestic Products Implicit Price Deflator (GDPIPD). GDPIPD is
sensitive to changes in inflation, and OCC has discretion to adjust
marginal rates by amounts less than the percentage change in GDPIPD for
that time period. For example, the GDPIPD adjustment was 1.5 percent in
2004 and 1.1 percent in 2003.

OCC also has the authority to reduce the semiannual assessment for banks
other than the largest national bank controlled by a company; these
nonlead banks may receive a lesser assessment.4 For example, in the 2004
Notice of Comptroller of the Currency Fees, OCC reduced the assessment of
nonlead national banks by 12 percent.

The Price of OCC Supervision Decreases with Asset Size

Because the multipliers used to compute assessments beyond the base
assessment decrease as asset size increases, (see column D in table 1),
the price of supervision is less per million dollars in assets for larger
banks than for smaller banks.5 To illustrate this point, we calculated the
price per million dollars in assets for the largest possible total asset
size within each assessment range (see table 2).

Table 2: Price of Supervision per Million Dollars in Assets

                                        

Bank asset size Bank assessment amount Price per $1 million of supervision 
$2,000,000                      $5,075                           $2,537.50 
20,000,000                       8,866                              443.29 
100,000,000                     22,344                              223.44 
200,000,000                     33,295                              166.48 
1,000,000,000                  107,425                              107.43 
2,000,000,000                  183,241                               91.62 
6,000,000,000                  452,813                               75.47 
20,000,000,000               1,255,615                               62.78 
$40,000,000,000             $2,263,675                              $56.59 

Source: GAO analysis based on OCC 2003-45, Notice of Comptroller of the
Currency Fees for Year 2004.

For example, table 2 shows that a national bank with about $2 million in
total assets would pay about $2,500 per million dollars of assets for
supervision, while the price of supervision for a national bank of about
$2 billion is less than $100 per million dollars of assets.

Mergers and Consolidations Result in Less Revenue for OCC

OCC's assessment formula prices supervision for merged national banks at a
rate less than that of individual national banks with equivalent total
assets. In cases where there is a merger between two national banks, for
example, bank A is a national bank and bank B is a national bank, the
merged bank C may have total assets equal to bank A plus those of bank B,
but the assessment for bank C could be less than the assessment of bank A
plus the assessment of bank C.

To illustrate this point, we selected 10 merger transactions and applied
OCC's assessment formula. In all cases, OCC received less revenue in
assessments after the merger occurred, compared with individual
assessments prior to the merger. Table 3 shows the asset amounts of the
banks in one of our examples and the effect of OCC's formula. In this
example, the impact is a change in OCC's budget that decreases assessment
revenue by about $76,500.

Table 3: Effect of Mergers and Consolidations

                                        

                         Assets  Individual        Bank A  (Bank A+ Bank B) - 
                                assessments assessments +   Bank C = decrease 
                                                   Bank B       in OCC budget 
                                              assessments  
A (Acquiring $14,304,670,000    $929,028    $1,165,819  
bank)                                                   
B (Target      2,794,586,000     236,791                
bank                                                    
C (Combined  $17,099,256,000  $1,089,278                           $76,541 
bank)                                                   

Sources: OCC and GAO.

An OCC official acknowledged that the regressive nature of its assessment
formula could reduce the assessment paid by merged banks compared with
individual bank assessments prior to a merger. However, the official
stated that costs associated with supervising merged banks were dependent
on specific characteristics of the merged bank. For example, if a national
bank located in California merged with a national bank located in New
York, OCC may need to continue to maintain bicoastal bank examination
teams. In this case, assessments would decrease, but costs would remain
the same. In most cases however, over time, mergers of roughly equal-sized
banks would realize savings and other synergies that do not require extra
resources. For example, certain fixed costs could be spread across the
merged banks; thus, as the bank's assets grow larger, average costs
generally decrease.

How Selected Federal Financial Industry Regulators Are FundedAppendix V

Source: GAO.

Information on Funding of States' Bank RegulatorsAppendix VI

Information gathered by the Conference of State Bank Supervisors (CSBS)
indicates that most state bank regulators levy assessments to fund their
operations. Forty-three states used some type of asset-based assessment
formula to collect funds from banks and/or other entities they regulated,
according to the CSBS data for 2004-2005.1 Of the other seven states, two
based their assessments on department costs, and two levied assessments
only for shortfalls in the departments' budgets. The remaining three
states did not report information. Most state bank regulators (40 of 49
that reported such information) indicated that their legislatures
determined how those funds would be allocated, appropriated, or spent.
Table 4 provides more detailed information on the funding arrangements for
six state bank regulators that we interviewed.

Table 4: Information on Funding for Selected State Bank Regulators

                                        

                    State                     Formula     Who determines how  
                                                           funds are spent    
California                              
The California Department of Financial  Flat rate     The legislature must 
Institutions levies assessments on the                approve the          
bank and nonbank entities it regulates                department's         
using a formula set by the                            appropriation each   
commissioner. The assessment formula is               fiscal year. The     
based on assets and the department's                  department has       
costs (using past budgets) and                        general autonomy     
projected expenses. Assessments are                   within the           
deposited into a special account for                  appropriated amounts 
the department and a reserve can be,                  of the budget        
and is now, maintained. The department                categories.          
does not have authority to rebate                     
assessed fees. The assessment (minimum                
of $5,000 and a maximum of $2.20 per                  
$1,000 of assets on a sliding scale)                  
reflects a statutory limit applicable                 
to banks.                                             
Georgia                                 
The Georgia Department of Banking and   Regressive    Authority is         
Finance is funded primarily through     schedule      controlled by the    
assessments based on asset size, as                   legislature and      
provided by statute and set via agency                statute, with        
regulations. Some specialty banks, such               requests made by the 
as credit card banks, pay an hourly                   commissioner during  
rate. The department also collects fees               the budget process.  
for examinations of other financial                   
entities, for licenses, and for certain               
transactions.                                         
Idaho                                                 
The Idaho Department of Finance is      Regressive    The department's     
funded by assessments of regulated      schedule      budget must be       
financial institutions set by the                     approved by the      
director within a statutory limit. The                Governor, and funds  
assessment structure includes a                       must be appropriated 
graduated base fee and excess fee based               by the legislature.  
on total assets and $100 per branch                   
office. The department also collects                  
licensing fees from other financial                   
entities it regulates. It does not have               
authority to rebate assessments; it                   
maintains a reserve account.                          
Iowa                                    
Iowa's Division of Banking, within the  Regressive    The division's       
Department of Commerce, is funded       schedule      budget must be       
primarily by assessments and fees paid                approved by the      
by the banks it supervises. In                        Governor and the     
addition, the division supervises                     Department of        
nonbank entities that pay fees for                    Management. Funds    
licenses, examinations, and                           paid to the division 
investigations. The division determines               go into the state's  
its budget and establishes a formula                  general fund and are 
that includes a bank's assets and other               appropriated by the  
factors, such as increases for CAMELS                 legislature.         
ratings over 2, to calculate the                      
assessment. The assessed amounts are                  
collected quarterly and may fluctuate                 
since they are based on the actual                    
operating expenses of the division. The               
"break even" approach does not provide                
the state's general fund with excess                  
revenue from the division. However, the               
division may rebate excess assessments.               
The actual cost of the division's                     
operations is the statutory limit to                  
the assessments.                                      
New York                                              
The New York State Banking Department   N/A           The legislature      
levies assessments on the banks and                   establishes a        
nonbank entities it supervises based on               maximum budget       
the cost to supervise them plus a                     annually.            
regulatory assessment. Each company                   
reports a measure of the business size,               
called the financial basis in the                     
calculation. The supervisory cost is                  
calculated on the average number of                   
hours needed to supervise like size and               
type institutions, times the hourly                   
rate for employees responsible for all                
institutions in the billing group. The                
amount to be collected through the                    
regulatory calculation is determined by               
subtracting the supervisory amount from               
the total budget allocated to the                     
group. The rate is established by                     
dividing the total to be collected by                 
the financial basis for the group. That               
rate is then multiplied by the                        
financial basis for each company to                   
determine the regulatory portion of the               
assessment. The sum of the regulatory                 
and supervisory amounts is the total                  
annual assessment.                                    
North Carolina                                        
The North Carolina Commission on        Regressive    Funds are directed   
Banking levies an annual assessment     schedule      into a special       
based on year-end assets of the banks                 account for the      
and certain nonbank entities it         (for banks)   commission and are   
supervises. The regressive assessment                 available without    
formula for banks and a flat rate       Flat rate     legislative action.  
assessment for consumer finance                       A reserve can be     
licensees are set by statute. All       (for consumer maintained.          
entities pay application fees at        finance       
entrance while most nonbank entities    companies)    
pay annual and other specific fees for                
continued operations within the State.                
Nonbank entities include check cashers,               
mortgage brokers and bankers, money                   
transmitters, and others. The                         
commissioner may recommend to the                     
commission discounts and premiums to                  
apply to the statutory assessment rate.               

Sources: Respective state bank regulators and the Conference of State Bank
Supervisors.

Comments from the Office of the Comptroller of the CurrencyAppendix VII

GAO Contact and Staff AcknowledgmentsAppendix VIII

David G. Wood (202) 512-8678 or [email protected]

In addition to the individual named above, Katie Harris, Assistant
Director; Nancy Eibeck; Nicole Gore; Jamila Jones; Landis Lindsey; Alison
Martin; James McDermott; Kristeen McLain; Suen-Yi Meng; Marc Molino;
Barbara Roesmann; Paul Thompson; James Vitarello; and Mijo Vodopic made
key contributions to this report.

(250212)

www.gao.gov/cgi-bin/getrpt? GAO-06-387 .

To view the full product, including the scope

and methodology, click on the link above.

For more information, contact David G. Wood at (202) 512-8678 or
[email protected].

Highlights of GAO-06-387 , a report to the Subcommittee on Oversight and
Investigations, Committee on Financial Services, U.S. House of
Representatives

April 2006

OCC PREEMPTION RULES

OCC Should Further Clarify the Applicability of State Consumer Protection
Laws to National Banks

In January 2004, the Office of the Comptroller of the Currency (OCC)-the
federal supervisor of federally chartered or "national" banks-issued two
final rules referred to jointly as the preemption rules. The "bank
activities" rule addressed the applicability of state laws to national
banking activities, while the "visitorial powers" rule set forth OCC's
view of its authority to inspect, examine, supervise, and regulate
national banks and their operating subsidiaries. The rules raised concerns
among some state officials and consumer advocates. GAO examined (1) how
the rules clarify the applicability of state laws to national banks, (2)
how the rules have affected state-level consumer protection efforts, (3)
the rules' potential effects on banks' choices of a federal or state
charter, and (4) measures that could address states' concerns regarding
consumer protection.

What GAO Recommends

GAO recommends that the OCC undertake an initiative to clarify the
characteristics of state consumer protection laws that would make them
subject to federal preemption.

OCC generally concurred with the report and agreed with the
recommendation.

In the bank activities rule, OCC sought to clarify the applicability of
state laws by relating them to certain categories, or subjects, of
activity conducted by national banks and their operating subsidiaries.
However, the rule does not fully resolve uncertainties about the
applicability of state consumer protection laws, particularly those aimed
at preventing unfair and deceptive acts and practices. OCC has indicated
that, even under the standard for preemption set forth in the rules, state
consumer protection laws can apply; for example, OCC has said that state
consumer protection laws, and specifically fair lending laws, may apply to
national banks and their operating subsidiaries.

State officials reacted differently to the rules' effect on relationships
with national banks. In the views of most officials GAO contacted, the
preemption rules have had the effects of limiting the actions states can
take to resolve consumer issues, as well as adversely changing the way
national banks respond to consumer complaints and inquiries from state
officials. OCC has issued guidance to national banks and proposed an
agreement with the states designed to facilitate the resolution of, and
sharing information about, individual consumer complaints. Other state
officials said that they still have good working relationships with
national banks and their operating subsidiaries, and some national bank
officials stated that they view cooperation with state attorneys general
as good business practice.

Because many factors, including the size and complexity of banking
operations and an institution's business needs, can affect a bank's choice
of a federal or state charter, it is difficult to isolate the effects, if
any, of the preemption rules. GAO's analysis of OCC and other data shows
that, from 1990 to 2004, less than 2 percent of the nation's thousands of
banks changed between the federal and state charters. Because OCC and
state regulators are funded by fees paid by entities they supervise,
however, the shift of a large bank can affect their budgets. In response
to the perceived disadvantages of the state charter, some states have
reported actions to address potential charter changes by their state
banks.

Measures that could address states' concerns about protecting consumers
include providing for some state jurisdiction over operating subsidiaries,
establishing a consensus-based national consumer protection lending
standard, and further clarifying the applicability of state consumer
protection laws. The first two measures present complex legal and policy
issues, as well as implementation challenges. However, an OCC initiative
to clarify the rules' applicability would be consistent with one of OCC's
strategic goals and could assist both the states and the OCC in their
consumer protection efforts-for example, by providing a means to
systematically share relevant information on local conditions.

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