Banks Threaten to Sue Over Fed Dividend Cut

WASHINGTON — A trade group representing a wide swath of the U.S. banking industry is laying the legal basis for a lawsuit to challenge Congress' decision to cut dividend payments made by the Federal Reserve to its member banks.

In a comment letter submitted to the Fed on Thursday, American Bankers Association Chief Executive Rob Nichols said the Fed's implementation of a change in its governing statute cutting the dividend payments for bank-held stock in the Federal Reserve System amounts to a seizure of property protected by the Fifth Amendment of the U.S. Constitution. While Nichols acknowledged that the Fed was implementing a change in its statute that was made by Congress, the change is a violation of law nonetheless.

"ABA understands that the proposed interim final rule is in pursuance of a decision made by legislation, not in furtherance of a policy initiated by the Federal Reserve Board," Nichols said. "Nevertheless, we believe that the policy implemented by the interim final rule is unfair and contrary to law. For that reason, ABA stands ready to assist the Board of Governors of the Federal Reserve with any appropriate measures that mitigate these concerns."

Under the 1913 Federal Reserve Act, banks are required to buy stock in their regional Federal Reserve Bank in order to become members of the system. That stock cannot be bought or sold, but yields a 6% rate of interest in order to compensate for its idleness. Nationally chartered banks are required to be members of the Fed system, while state-chartered banks can opt in or out of the system.

The letter is challenging a provision in last year's transportation bill that cut the Fed's dividend payments for banks with more than $10 billion in assets to either 6% or the current interest rate on the 10-year Treasury note, whichever is less. The proceeds from that change were directed toward funding the transportation bill.

Nichols said that the change could potentially damage the Fed system by diminishing the benefits of membership. Applicable case law has also allowed private citizens to sue federal agencies for breach of contract, even when it is caused by changes in the law. The abrupt change in the dividend rate paid to banks that may not have a choice in whether to hold the stock amounts to a breach of contract, Nichols said, and the dividend amounts to bank property.

The transportation bill's "dividend rate change amounts to an unconstitutional taking of member banks' property without compensation," Nichols said. "The Takings Clause of the Fifth Amendment provides that 'private property' shall not 'be taken for public use, without just compensation.' The dividend rate remained unchanged for over 100 years, and it has long been considered fundamental to the Federal Reserve's ability to attract member banks."

While the letter does not explicitly promise a lawsuit over the rule, the substance of the comments strongly signal that, at the very least, the ABA is preparing to resolve its grievance in the courts. Administrative law generally requires plaintiffs to exhaust their administrative avenues before resorting to a legal challenge, and that includes highlighting any legal conflicts in public comments on administrative actions. Thursday's letter effectively clears that hurdle.

Fed Chair Janet Yellen expressed skepticism about the dividend cut when it was first being considered as part of the Senate version of the transportation bill last July, saying that it could have "unintended consequences" and affect banks' willingness to be a part of the Fed system.

But the Fed likely has little maneuverability to change its rule — even if it may be sympathetic to the banks' argument — because the statutory change left little room for interpretation.

The comment period for the Fed's interim final rule expires April 29. No other substantive comment letters had been published on the Fed's comment letter page as of Thursday afternoon.