https://content.next.westlaw.com/practical-law/document/I9bfe5eb8358911e798dc8b09b4f043e0/Financial-CHOICE-Act-Passes-House-Financial-Services-Committee?viewType=FullText&transitionType=Default&contextData=(sc.Default) The House Financial Services Committee passed the Financial CHOICE Act of 2017 (H.R. 10), which would make significant financial regulatory changes including the repeal or replacement of certain key provisions of the Dodd-Frank Act.
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The House Financial Services Committee passed the Financial CHOICE Act of 2017 (H.R. 10), which would make significant financial regulatory changes including the repeal or replacement of certain key provisions of the Dodd-Frank Act.
On May 4, 2017, the House Financial Services Committee, led by Chairman Jeb Hensarling (R-TX), passed the Financial CHOICE Act of 2017 (the CHOICE Act), or H.R. 10, in a 34-26 vote. The vote came after a hearing and three days of markups of the legislative text.
Update: On June 8, 2017, the House of Representatives passed the CHOICE Act in a 233-186 vote. The bill will now be considered by the Senate.
The CHOICE Act would make significant changes to US financial regulation, including the repeal or replacement of certain key provisions of the Dodd-Frank Act such as the Volcker Rule. The CHOICE Act would also rename and restructure the Consumer Financial Protection Bureau (CFPB).
The CHOICE Act was first released in the summer of 2016 (see Legal Updates, Potential Impact of 2016 US Presidential Election on Financial Services Regulation). Proponents of the CHOICE Act assert that it would provide for a regulatory landscape that is focused on economic growth through competition and capital markets.
Key provisions of the CHOICE Act would:Create a Dodd-Frank opt-out clause. CHOICE includes an option for strongly capitalized, well managed financial institutions to opt out of certain regulations if they maintain a leverage ratio of 10 percent (see Qualifying Capital Election).
Repeal the Volcker Rule. See Volcker Repeal.Eliminate ABS risk retention requirements. CHOICE would eliminate risk retention requirements for asset-backed securities (ABS) other than RMBS (see Repeal of ABS Risk Retention Rules).
Address taxpayer bailouts. The proposal would address taxpayer-funded bailouts by:repealing the Orderly Liquidation Authority (OLA) and establishing a new chapter of bankruptcy code for large financial institutions; and
repealing the authority of the Financial Stability Oversight Council (FSOC) to designate systemically important financial institutions (SIFIs) and requiring increased FSOC accountability and transparency.
Restructure the CFPB. The legislation would limit the authority of the CFPB (see CFPB Restructuring).
Enhance Fed accountability requirements. CHOICE would update the Federal Reserve's organizational structure and reform its living will and stress-test processes (see Fed Reform).
Repeal the Department of Labor (DOL) fiduciary rule. CHOICE would eliminate the DOL's fiduciary-duty rule for broker-dealers and investment advisers and require the SEC to promulgate its own fiduciary duty rule (see Repeal of DOL Fiduciary Duty Rule).
Broaden the SEC's sanctioning authority. The proposal would require more accountability from financial institutions through a broadening of the sanctioning authority of the SEC and enhancing penalties and fines for financial fraud (see Increasing SEC Sanctioning Authority).
Ease capital formation requirements (see Easing Capital Formation Requirements). Require more agency accountability. The Act would: apply the Regulations from the Executive in Need of Scrutiny (REINS) Act to all financial agencies; fund all financial regulators through the congressional appropriations process; repeal the Chevron doctrine; and abolish the Office of Financial Research (OFR).Override the Madden v. Midland Funding decision. The proposal would provide that interest rates on loans remain valid regardless of subsequent sale or assignment of the loan, overriding Madden v. Midland Funding (see Codification of Valid-When-Made Rule).
The House Financial Services Committee has released the following documents in connection with the CHOICE Act:
An executive summary of the bill. A comprehensive summary of the bill.The CHOICE Act proposes to permit large banking organizations that maintain a leverage ratio of capital to assets of at least 10 percent to obtain an exemption from certain regulatory requirements. This 10 percent leverage ratio would be higher than the present leverage ratio requirements of:
Three percent for large banks under Basel Committee rules; and Six percent for GSIBs under US banking regulations.The CHOICE Act intends for this to be an "off-ramp" from Dodd-Frank for strongly capitalized, well-managed banking organizations if these organizations maintain higher capital than required by current regulations.
Regulations that these large banking organizations can elect to be exempt from include:Basel III capital and liquidity requirements (for details on Basel, see Practice Note: Basel III: overview).
Federal laws, rules, or regulations that permit banking agencies (including the Federal Reserve Board (FRB), Federal Deposit Insurance Corporation (FDIC), and Office of the Comptroller of the Currency (OCC)) to "consider risk to the stability of the United States banking or financial system," added by Section 604 of the Dodd-Frank Act to regulations such as the Bank Holding Company Act of 1956 (see Practice Notes, US Banking Law: Overview and Summary of the Dodd-Frank Act: Regulation of Systemically Significant Financial Institutions); and
Federal laws, rules, or regulations that place limits on mergers, consolidations, or acquisitions of assets or control of assets.
In addition, under the CHOICE Act, banking agencies would be permitted to conduct stress tests but would not be permitted to limit capital distributions (see Practice Note, Summary of the Dodd-Frank Act: Regulation of Systemically Significant Financial Institutions: Other Authorities of the FRB: Stress Tests).
The CHOICE Act also proposes to repeal the Volcker Rule, or Section 619 of the Dodd-Frank Act, which prohibits US bank holding companies (BHCs) and certain insured depository institutions from engaging in "proprietary trading" and from acquiring or retaining any ownership interest in, or sponsoring, a hedge fund or a private equity fund (see Practice Note: Summary of the Dodd-Frank Act: The Volcker Rule). The CHOICE Act proposes to eliminate this prohibition in its entirety.
The CHOICE Act would also provide a complete repeal Dodd-Frank ABS risk retention rules to all classes of ABS other than RMBS. Under the risk retention rules, securitizers, including sponsors of ABS transactions, must retain five percent of the credit risk of the transaction, in an attempt to align the interests of securitizers with those of investors in the ABS (see Practice Note, ABS Risk Retention under Dodd-Frank). This nexus proved faulty in ushering in the financial crisis.
However, the LSTA and other industry groups have been pressing regulators to create exemptions from the risk retention rules for certain asset classes that have performed well historically – most notably for certain qualified CLO transactions, or QCLOs (see Practice Note, ABS Risk Retention under Dodd-Frank: LSTA Lawsuit and Other CLO Risk Retention Reform Efforts). The LSTA also recently submitted letters to Treasury and Congress seeking the elimination of the ABS risk retention requirements for CLO managers (see Legal Update, LSTA Submits Letter to Treasury Seeking Reform of Risk Retention Rules for CLO Managers).
The CHOICE Act would eliminate the risk retention rules entirely for ABS other than for securitizations of residential mortgages, for which the rules would remain effective.
The CHOICE Act proposes to repeal Title II of the Dodd-Frank Act, which establishes the FDIC's Orderly Liquidation Authority (OLA). The OLA authorizes the FDIC to facilitate the liquidation of failing financial companies in certain circumstances and was intended as a solution to taxpayer-funded bailouts. For more information on the OLA, see Practice Note, Summary of the Dodd-Frank Act: Resolution of Failing Financial Institutions: Orderly Liquidation Authority.
The CHOICE Act would also repeal the FSOC's authority to designate non-bank firms as SIFIs and its authority to designate systemically important financial market utilities (SIFMUs). It would also repeal Dodd-Frank's "Hotel California Rule," which automatically makes any BHC a SIFI if it has more than $50 billion in consolidated assets.
Instead, the CHOICE Act proposes a new Subchapter V within Chapter 11 of the Bankruptcy Code to accommodate the failure of large financial institutions, incorporating legislation from the Judiciary Committee's Financial Institution Bankruptcy Act of 2016 (H.R. 2947). This subchapter would allow for the liquidation, reorganization, or recapitalization of BHCs and SIFIs ("covered financial corporations"). It includes requirements for:
Commencement of the bankruptcy case. Appointment of a special trustee. Procedure for expedited transfer of assets.Treatment of qualified financial contracts (QFCs), affiliate contracts, licenses, permits, and registrations.
Exemption from US securities laws. Disapplication of certain avoiding powers. Considerations of financial stability.The CHOICE Act proposes to rename and restructure the CFPB, established under Title X of Dodd-Frank, to limit its supervision and enforcement authority and to instead function similarly to the Federal Trade Commission (FTC).
Under the CHOICE Act, the CFPB would become the Consumer Law Enforcement Agency (CLEA) with a director removable by the president at will and subject to the congressional appropriations process for additional oversight and accountability. The CLEA would also be subject to the authority of the Office of Information and Regulatory Affairs (OIRA), similar to a non-independent regulatory agency.
The CHOICE Act proposes significant changes to the functioning and rulemaking process of the agency. Some of the notable changes include:
Repealing the agency's authority to prohibit the engagement in "unfair, deceptive or abusive acts or practices" (UDAAP) in connection with consumer financial products or services (for information on UDAAP, see Practice Note, US Consumer Regulatory Law: Overview: Laws Containing Substantive Restrictions on Financial Transactions: Prohibition on Unfair, Deceptive or Abusive Acts or Practices (Title X of Dodd-Frank)).
Repealing the agency's supervisory authority (for information on the CFPB's supervisory authority, see Practice Note, Summary of the Dodd-Frank Act: Consumer Financial Protection: Supervision).
Repealing the agency's authority to regulate small-dollar credit such as payday loans and vehicle title loans.
Repealing the agency's ability to restrict arbitration.Including a "consumer right to financial privacy" by requiring the agency to obtain consumer permission before requesting, collecting, or disclosing nonpublic personal consumer information.
Nullifying the agency's 2013 indirect auto-lending guidance and requiring that any future auto-lending guidance be subject to additional requirements such as notice and a comment period, economic analysis, and consultation with the Fed, the FTC, and the Department of Justice (see the section titled Auto Lending: Discrimination in Pricing, in Article, Fair Lending 2013 Enforcement Summary).
Creating an Office of Economic Analysis (OEA) to review and conduct impact assessments on proposed agency rules, including cost-benefit analyses of proposed administrative enforcement and civil actions.
Permitting individuals subject to agency proceedings that may result in a penalty to compel the agency to terminate the administrative proceeding and instead seek sanctions through civil action.
For background on CFPB headwinds under the Trump Administration, see Legal Update, CFPB Continues to be Target for Potential Elimination.
The CHOICE Act proposes to decrease the Fed's regulatory and supervisory powers and subject the Fed to greater congressional oversight and accountability, including:
Subjecting it to a comprehensive audit conducted by the Government Accountability Office (GAO).Reforming its living will requirements for banking organizations that do not make a qualifying capital election.
Reforming its stress-test procedures. Establishing a more transparent and reliable monetary policy strategy.Living wills and stress tests for major financial institutions conducted by the Fed are provided for under Section 165 of the Dodd-Frank Act, which permits the Fed to oversee the activities of SIFIs. For more information, see Summary of the Dodd-Frank Act: Regulation of Systemically Significant Financial Institutions.
The DOL issued the final fiduciary rule on April 6, 2016, and it was scheduled to become applicable on April 10, 2017 (for more information on the fiduciary rule, see Fiduciary Investment Advice Toolkit).
On April 4, 2017, the DOL issued a final rule that delays by 60 days the applicability of the fiduciary investment advice regulation that replaces the existing regulatory interpretation of fiduciary investment advice under Section 3(21)(A)(ii) of the Employee Retirement Income Security Act of 1974 (ERISA) and the related prohibited transaction exemptions (see DOL Issues Final Rule Delaying Applicability Date of Fiduciary Rule and Related Prohibited Transaction Exemptions). The fiduciary rule and related exemptions are now applicable on June 9, 2017, while compliance with the remaining conditions in these exemptions, such as the requirements to execute the best interest contract and make specific written disclosures and representations of fiduciary compliance in communications with investors, is not required until January 1, 2018.
The CHOICE Act attempts to repeal the fiduciary rule and stop the DOL from issuing the rule until the SEC issues its own rule on the standards of conduct for broker-dealers and investment advisers (SEC Rule). The CHOICE Act further requires the SEC, before issuing the SEC Rule, to provide reports to Congress on:
The potential harm to retail investors resulting from the rule. Alternative remedies.Whether a uniform fiduciary standard for broker-dealers and investment advisers would have an adverse impact on commissions, product availability, as well as transaction abilities for broker-dealers and access to investment advice for retail investors.
The CHOICE Act also indicates that any DOL fiduciary rule must substantially conform to the SEC's standards.
Given that the fiduciary rule became partially applicable on June 9, 2017, it is unlikely that the CHOICE Act will immediately impact the fiduciary rule.
However, because many of the more onerous requirements of the fiduciary rule do not become applicable until January 1, 2018, and the CHOICE Act would require the rule to be substantially similar to the SEC Rule, the CHOICE Act casts further doubt on whether the fiduciary rule as currently drafted will ever ultimately become fully applicable.
The CHOICE Act proposes to increase penalties for securities laws violations, in part through reforms to the SEC's enforcement program. Under the CHOICE Act, the SEC's civil penalty authority would be increased, and criminal sanctions under the federal securities laws for serious offenses, including insider trading would be enhanced.
In addition, the CHOICE Act would require the SEC to "holistically" review its enforcement program, incorporate economic analysis into its deliberations on enforcement matters, and augment the rights of individuals under SEC investigation to defend themselves, including a right of removal to federal court.
The CHOICE Act would also update the SEC's structure and organization by: Reauthorizing the SEC for a period of five years, subject to appropriations.Requiring the SEC to implement the recommendations from the March 2011 report from independent consultant Boston Consulting Group (BCG) regarding the SEC's internal operations and structure.
Updating several of the SEC's divisions and offices. Requiring the SEC to establish an advisory committee on SEC enforcement policies and practices.The CHOICE Act proposes a series of capital formation provisions that would aim to assist small- and medium-sized businesses to more easily raise capital and comply with ongoing requirements of reporting companies under the Exchange Act, including measures to:
Expand certain provisions of the JOBS Act , including liberalizing shareholder thresholds under the Exchange Act , testing the waters and confidential submissions under the Securities Act and scaled requirements for emerging growth companies , as well as amendments to crowdfunding rules and Regulation A+.
Eliminate certain regulatory burdens on small companies, including exemption from XBRL requirements, expanding the auditor attestation report exemption in Section 404 of Sarbanes-Oxley and expanding eligibility for use of Form S-3 .
Eliminate or modify the executive compensation and certain corporate governance and specialized disclosure requirements imposed by the Dodd-Frank Act.
Modernize regulations for business development companies (BDCs) (see Practice Note, Business Development Companies).
Create venture exchanges to trade securities of early-stage, growth companies exempt from registration under Section 3(b) of the Securities Act.