A coalition of 10 states filed a lawsuit on Tuesday in federal court in Oregon to block new federal rules that would allow national banks to avoid paying interest on homeowners’ mortgage escrow accounts.
The lawsuit, led by Oregon Attorney General Dan Rayfield and New York Attorney General Letitia James, challenges two rules issued in May by the Office of the Comptroller of the Currency (OCC). The rules, which took effect on June 18, grant national banks and federal savings associations discretion over whether to pay interest on escrow accounts and assert that federal law preempts state requirements mandating such payments.
Mortgage escrow accounts are used by lenders to collect funds from borrowers—typically as part of monthly mortgage payments—to cover expenses like property taxes and homeowners insurance when they come due. About 80% of mortgage holders have an escrow account, according to industry data.
Key developments in the lawsuit
The states argue that the OCC’s rules unlawfully strip them of authority to require interest payments on escrow balances. Oregon, California, Connecticut, Maine, Maryland, Massachusetts, Minnesota, Rhode Island, and Vermont, along with New York, are plaintiffs in the case.
In a statement, Oregon Attorney General Rayfield criticized the rules, saying they would allow national banks to retain money that otherwise belongs to homeowners. He also warned that the rules could disadvantage smaller state-chartered banks, which would remain subject to state interest requirements while national banks would not.
The OCC has not responded to requests for comment.
How the federal rules work
The two OCC rules at the center of the dispute are:
- Rule 1: Grants national banks and federal savings associations discretion over the terms of their mortgage escrow accounts, including whether to pay interest or other compensation to borrowers.
- Rule 2: Asserts that federal law preempts state laws that restrict this discretion, effectively overriding state requirements for interest payments on escrow balances.
Background on escrow accounts
For most homeowners, monthly mortgage payments include amounts deposited into an escrow account. These funds are then used to pay property taxes, homeowners insurance premiums, and, if applicable, mortgage insurance. Borrowers without escrow accounts pay these expenses directly.
The lawsuit highlights that escrow payments are made monthly, while property taxes and insurance premiums are typically paid annually or semiannually. This timing creates a financial cushion for lenders, which the states argue should benefit homeowners through interest payments.
Legal and competitive implications
The lawsuit raises questions about the balance of power between federal and state regulators. Supporters of the OCC rules argue that they provide flexibility for banks to manage escrow accounts more efficiently. Critics, including the plaintiff states, contend that the rules prioritize bank profits over consumer protections.
The case is being closely watched for its potential impact on mortgage lending practices and the broader regulatory landscape governing escrow accounts.