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Table of Contents

Lead Story

Agent playbook on vetting partners

News

Industry Update

MCX, a non-Apple, non-NFC mobile wallet

CFPB gives RTPs more time

Funding options for IADs

Features

Prepaid metering benefits African water needs

The ins and outs of mobile banking for businesses

Views

Guilt by trade association: The crackdown on legitimate law-abiding businesses

Theodore F. Monroe
Attorney at Law

Education

Street SmartsSM:
Are you selling or telling Part 3: Everyone likes to smile

Tom Waters and Ben Abel
Bank Associates Merchant Services

Let's get vertical

Dale S. Laszig
DSL Direct LLC

Managing your ISO during the first year: 10 tips

Aaron Nasseh
Finical Inc.

The benefits of mobile payments

Michael Gavin
Merchant Warehouse

Company Profile

Merchant Cash and Capital LLC

New Products

Tokenization secures all channels

Enterprise Tokenization
Total System Services Inc.

Managed plan for data breaches

Data Incident Management Program
Conformance Technologies

Inspiration

Pedal to the park, not to the metal

Departments

Readers Speak

Resource Guide

Datebook

Skyscraper Ad

The Green Sheet Online Edition

September 22, 2014  •  Issue 14:09:02

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Guilt by trade association: The crackdown on legitimate law-abiding businesses

By Theodore F. Monroe

If you despise an industry and want to shut it down in one fell swoop, cut off its access to banking and payment processing. Without the ability to process consumer payments, that hated industry will quickly wither and die. So when the Obama Administration set its sights on gun manufacturers, payday lenders and other similarly legitimate – but widely unpopular – industries, it targeted their access to banking. Yet the administration appears to have overstepped the law and misused the financial regulatory infrastructure in its exuberance to rid the country of guns and high-interest lending.

Operation Choke Point (OCP) sprang into the news when the administration branded OCP as an initiative to fight consumer fraud by requiring banks to closely monitor and/or sever relationships with "high risk merchants/activities" and the so-called third-party payment processors (TPPPs) that work with such merchants.

However, closer scrutiny revealed the U.S. Justice Department and federal financial bureaucrats simply seized on risk management as a tool for quietly eliminating businesses the administration dislikes, even constitutionally protected businesses operating in full compliance with the law.

Training for tyranny

In a September 2013 training session for federal financial institution examiners, the Federal Deposit Insurance Corp. identified more than 20 types of businesses the administration believes should receive particularly stringent risk assessment.

While a good case can be made that some of the listed business categories are arguably illegal on their face – such as "drug paraphernalia," "escort services," "pyramid type sales" and "Ponzi schemes" – the majority represent perfectly legitimate, but politically controversial industries – including "ammunition sales," "firearms/fireworks sales," "pornography," "surveillance equipment," "telemarketing " and "tobacco sales."

OCP was launched in the spring of 2013 as an initiative of the Financial Fraud Enforcement Task Force, established by President Obama in November 2009 pursuant to Executive Order 13519. The order charged the Attorney General with convening senior officials from 23 named agencies, departments and offices of the federal government, plus assorted inspectors general, to get their advice on investigating and prosecuting various types of financial misconduct "when such cases are determined by the Attorney General, for purposes of this order, to be significant."

In the same September 2013 training session, the FDIC pointed out that consumers are defrauded to the tune of $40 billion each year, an amount that qualifies as "significant." 

The FDIC also advised examiners that each of the listed "high risk merchants/activities" typically relies on third-party payment processors (TPPPs) for various financial services. Among other things, the FDIC told examiners they should "perform background checks on TPPPs and merchant clients," and "authenticate the TPPPs' business operations and assess the risk level." 

Three months later, in December 2013, the DOJ was boasting it had already issued over 50 subpoenas to financial institutions, seeking voluminous records concerning their business relationships with various TPPPs. Regulators spread out around the country and sharply warned banks that they "may be viewed as facilitating a TPPP's or a client's fraudulent or unlawful activity" unless they took the recommended steps (including terminating business relationships) to address activity red flagged as suspicious or fraudulent.

Not surprisingly, the administration's warnings negatively impacted the economic health of each of the enumerated industries. Indeed, the past year has yielded numerous reports of skittish banks terminating payment processing, shutting down accounts, canceling credit lines or refusing loans to various types of businesses simply because they fell within a disfavored category on the FDIC's "hit list."

In April, for instance, Bank of America told a group of firearms manufacturers – McMillan Fiberglass Stocks, McMillan Firearms Manufacturing and McMillan Group International – that BofA would be closing their accounts, despite an uneventful 12-year relationship. A bank vice president explained that BofA was reassessing the risk of working with companies in the firearms industry.

Numerous adult industry performers also recently came forward with reports of banks closing their accounts (often without notice) or denying them loans due to risk concerns related to the nature of their business.

In response to such reports and other banking issues, Rep. Darrell Issa, R-Calif., Chairman of the House Oversight and Government Reform Committee, launched an investigation into OCP and its implementation by the DOJ. The DOJ missed the deadline for the committee's document request by four months; media reports suggested the department was reluctant to fully comply with the committee's requests.

In a report issued at the end of May 2014, Issa's committee concluded the DOJ had intentionally designed OCP to shut down entire industries, and noted that significant progress had been made in completely eliminating so-called "Internet payday lenders."

DOJ documents acknowledged that OCP may have caught some legitimate payday lending businesses within its net, but suggested that legitimate businesses could avoid harm simply by taking affirmative steps to prove to their banks or lending institutions that they are behaving lawfully and not engaged in fraud.

Feigning restraint

The flurry of adverse publicity and critical congressional hearings has led the Obama Administration to take a step back from OCP in recent months. The FDIC, for example, amended its web page and internal documents to remove the "hit list" of disfavored business categories. It even stated in a recent press release: "It is FDIC's policy that insured institutions that properly manage customer relationships are neither prohibited nor discouraged from providing services to any customer operating in compliance with applicable law."

Similarly, federal officials have testified to Congress that neither the Financial Fraud Enforcement Task Force nor the DOJ had any intention of targeting entire industries for prosecution. At a July 15 meeting of the House Financial Service's subcommittee on Oversight and Investigations, assistant U.S. Attorney General (Civil Division) Stuart F. Delery told committee members:

"[DOJ Civil Division] policy is to investigate specific conduct, based on evidence that consumers are being defrauded – not to target whole industries or businesses acting lawfully, and to follow the facts wherever they lead us, in accordance with the law, regardless of the type of business involved. We think this endeavor demonstrates the importance of holding financial institutions accountable when they participate in fraudulent activities, just as we hold accountable any other entity that engages in unlawful conduct."

FDIC Acting General Counsel Richard J. Osterman Jr. also told the House subcommittee hearing on supervision of banks' relationships with TPPPs that the FDIC does not expect banks to unilaterally sever relationships with clients as long as they "properly manage relationships and effectively mitigate risks."

The Obama Administration, however, is being disingenuous. By putting lawful, but politically disfavored businesses on the same watch-list as businesses engaged in presumptively unlawful activities, the FDIC gave clear voice to the fact that the administration's ideology played a central role in OCP's design and implementation.

Moreover, regulators did not just hint that banks that failed to toe the line would face problems, but emphatically threatened them with burdensome document requests, fines and penalties, and even closure.

As former U.S. Associate Attorney General, Frank Keating pointed out in the Wall Street Journal in April, "Justice is pressuring banks to shut down accounts without pressing charges against a merchant or even establishing that the merchant broke the law." Any bank that refuses often faces threats of onerous document requests and potential criminal penalties for facilitating fraudulent activity, Keating added.

While lawsuits and bad publicity now have financial regulators backpedaling, it seems clear that a desire to satisfy the Obama Administration's liberal supporters, rather than legitimate law enforcement objectives, dictated the inclusion of many lawful-but-disfavored businesses on the FDIC "hit list."

Indeed, OCP's tawdry history amply illustrates the danger of political officials misusing the financial regulatory infrastructure for ideological purposes, particularly when law-abiding businesses are forced into "guilty until proven innocent" relationships with their financial services providers.

Businesses that fall within the categories initially identified by the FDIC should have no illusions – regardless of conciliatory testimony – that OCP will quietly fade away. In a video message posted online at the end of June, U.S. Attorney General Eric Holder Jr. doubled down on OCP, saying that the program was benefiting consumers by protecting them "from scam artists and collaborating institutions in every circumstance and industry."

Holder added, "In the months ahead, we expect to resolve other investigations involving financial institutions that chose to process transactions even though they knew the transactions were fraudulent, or willfully ignored clear evidence of fraud."

Clearly, the Obama Administration is intent on continuing its crusade against businesses that are unpopular with segments of the political left. And the damage to due process and the Constitution will be waved off as incidental collateral damage.

The information contained in this article is for educational purposes only. Please consult an attorney before relying upon it for your specific legal needs. Theodore F. Monroe is an Attorney whose practice focuses on the electronic payment and direct marketing industries. For more information about this article or any other matter, e-mail him at monroe@tfmlaw.com or call him at 310-694-8161.

Notice to readers: These are archived articles. Contact names or information may be out of date. We regret any inconvenience.

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