In recent weeks, and following the recent Supreme Court decision in CFPB v. CFSAA, a new debate has arisen regarding the Consumer Financial Protection Bureau (“CFPB”) funding mechanism. The crux of the debate centers around whether the Board of Governors of the Federal Reserve System can transfer requested amounts to the CFPB in times when, as now, the Federal Reserve System is losing money, given that Section 1017(a) of the Dodd-Frank Act specifies that such transfers must come “from the combined earnings of the Federal Reserve System.” Because the Dodd-Frank Act does not define the term “combined earnings,” the two sides of the debate have been joined by well-known scholars and practitioners who have offered competing interpretations.

To generalize, one side, led by Hal Scott, Alan Kaplinsky, Alex Pollock and Paul Kupiec, offers a relatively narrower construction of the term that means something like “net income” or “profits,” while the other side led by Adam Levitin and Jeff Sovern, offers a relative broader construction that means something like “any income.” The correct construction of the term appears material to CFPB operations, with the narrower construction perhaps prohibiting transfers from the Board of Governors under present circumstances, whereas the broader construction permits them. The debate has now advanced past the theoretical, with Director Chopra fielding questions about the meaning of the term in Congressional hearings last month. This post does not presume to resolve the debate today, but instead seeks to offer additional context that may be relevant to continued scholarship.

Dodd-Frank Section 155(c)

It may be useful to examine the entirety of the Dodd-Frank Act in discerning the meaning of Section 1017(a). For instance, Title I of the Act created a new agency known as the Office of Financial Research (OFR). The purpose of the OFR is to collect data, perform research, and create systemic risk diagnostic tools to support the activities of the Financial Stability Oversight Council (FSOC), another body also created by Title I of Dodd-Frank. Section 155 of Dodd-Frank, now codified at 12 U.S.C. 5345, establishes funding for the OFR. Interestingly, this section created a two-phase funding process. A permanent funding mechanism, which began 21 July 2012 and remains in effect today, funds the OFR through assessments of large banks and non-bank financial institutions designated by the FSOC for supervision by the Fed. However, there was also an interim funding mechanism in effect between 21 July 2010 and 20 July 2012. This interim funding, provided by Section 155(c) of the Act, states:

“During the 2-year period following the date of enactment of this Act, the Board of Governors shall provide to the Office an amount sufficient to cover the expenses of the Office.”

Both Section 155(c) and Section 1017(a) of Dodd-Frank obligate the Board of Governors to provide amounts to a new agency created by the Act. However, Congress did not specify a source from which amounts must be drawn for transfer to the OFR; it simply instructed the Board of Governors to transfer to the OFR whatever amount was necessary to cover its expenses. Congress’s silence in this regard arguably left the Board of Governors with the discretion to determine how to effectuate transfers to the OFR. But this is not the case with the CFPB’s funding, where Congress both specified the amounts to be transferred (i.e., the quarterly amount requested by the Director, subject to an annual statutory maximum) and instructed the Board of Governors to draw the amounts from a particular source (i.e.,“from the combined earnings of the Federal Reserve System”).

Scholars and practitioners might therefore consider whether Congress’s decision to require a funding source for the CFPB – but not for the OFR – supports or undermines the broader construction of “combined earnings.” For instance, if Congress had intended that any revenues (such as interest income on Treasuries) would be a sufficient source of funds for transfer to the CFPB, Congress presumably could have remained silent as to the funding source, as it did with the OFR. But does such a construction render the funding source requirement in Section 1017(a) of Dodd-Frank surplusage? Perhaps reading Sections 155(c) and 1017(a) in pari materia can assist in evaluating whether Congress meant something more specific than “any revenues” when it chose to designate the “combined earnings of the Federal Reserve System” as the source of funds for transfer by the Board of Governors to the CFPB.

Assessments Authorized by Federal Reserve Act

The Federal Reserve Act provides the Board of Governors with express authority to assess the Reserve Banks to pay for specific expenses it incurs. For example, the Federal Reserve Act authorizes the Board of Governors to levy on the Reserve Banks “an assessment sufficient to pay its estimated expenses.” (See 12 U.S.C. 243). Also, the Federal Reserve Act provides that the Board of Governors may recover costs to produce and retire Federal Reserve notes by including such costs “in its assessments against the several Federal Reserve banks.” (See 12 U.S.C. 467). Notably, while the Dodd-Frank Act made conforming amendments to the Federal Reserve Act, none of these conforming amendments appear to give the Board of Governors additional authority to assess the Reserve Banks to cover the amounts transferred to the CFPB. Nor does any other provision of either the Federal Reserve Act or the Dodd-Frank Act appear to provide such assessment authority, or any other functionally equivalent authority, such as permission to deem amounts transferred to the CFPB as “operating expenses” of the Board of Governors.

In fact, Section 1017(a)(4)(F) of the Dodd-Frank Act prohibits the consolidation of the CFPB’s financial statements with the Board of Governors or the Federal Reserve System. Perhaps this indicates that amounts transferred to the CFPB should not be treated as operating expenses of the Board of Governors or of the combined System. If it can be assumed that the Congress was aware of the express assessment authorities it had given to the Board of Governors for the purposes of covering its own operating expenses and currency costs, then perhaps it may be inferred that the Dodd-Frank Congress could have similarly authorized the Board of Governors to assess the Reserve Banks to cover the amounts transferred to the CFPB but chose not to do so.

Board of Governors Accounting Standards and Practices

The possible lack of statutory authority for the Board of Governors to assess the Reserve Banks to cover amounts transferred to the CFPB, coupled with the requirement that the amounts be transferred from the combined earnings of the Federal Reserve System, may raise additional questions about whether the Board of Governors’ accounting treatment of the amounts is appropriate. For many years, the Board of Governors has established and maintained non-GAAP accounting principles that govern the reporting of its financial statements. This set of accounting principles is known as the “Financial Accounting Manual for Federal Reserve Banks,” or “FAM.” The FAM provides guidance for how the Board of Governors reports its own expenses and currency costs. Specifically, when the Board of Governors assesses the Reserve banks, as authorized by law, it treats the assessments for accounting purposes as an “expense item” and records the assessments as an “Operating Expense” on the Combined Statement of Operations (i.e., the combined income statement).

With the enactment of Dodd-Frank in 2010, the Board of Governors had to decide how to account for the amounts it was required to begin transferring to the CFPB and to the OFR. The Board of Governors apparently decided to assess the Reserve Banks to cover the amounts to be transferred to both agencies, and decided to account for these assessments similar to how it treated the other assessments. Accordingly, the Board of Governors amended the FAM to create new accounts for the collection of Reserve Bank assessments to fund the transfers to the CFPB and OFR. (See FAM, Revision Set 50 (effective as of 1 January 2011)). The audited financial statements for the Combined Federal Reserve Banks for the year ending 31 December 2010 noted this new financial accounting standard, stating:

“The Board of Governors assesses the Reserve Banks to fund its operations and the operations of the Bureau and, for a two-year period, the OFR. These assessments are allocated to each Reserve Bank based on each Reserve Bank’s capital and surplus balances as of 31 December of the prior year for the Board of Governor’s operations and as of the most recent quarter for the Bureau and OFR operations.”

This accounting treatment has carried forward to today. For instance, the most recent version of the FAM (effective as of 1 January 2024) still states that Board of Governors funds such transfers by assessing the Reserve Banks. And in the 2023 combined annual audited financial statementsof the Federal Reserve Banks released by the Board of Governors on 26 March 2024 (hereinafter, the “Combined Financial Statements”), assessments to cover the amounts transferred to the CFPB are treated as an above-the-line “Operating Expense” on the Combined Statement of Operations.

However, in its Combined Financial Statements, the Board of Governors stated without citing to any authority that it “funds the Bureau through assessments on the Reserve Banks as required by the Dodd-Frank Act.” (Emphasis added). As previously noted, nothing in the Dodd-Frank Act or the Federal Reserve Act appears to authorize, much less require, the Board of Governors to assess the Reserve Banks to fund the amounts it transfers to the CFPB. Accordingly, the legal authority supporting the decision by the Board of Governors to treat transfers to the CFPB as above-the-line “operating expenses” on the Combined Statement of Operations is unclear.

Moreover, the Fed normally accounts for amounts transferred from earnings as remittances rather than operating expenses. For example, under the Federal Reserve Act any amounts of the surplus funds of the Reserve Banks that exceed, or would exceed, the aggregate surplus limitation of $6.875 billion must be transferred to the Board of Governors for transfer to the Treasury. (See 12 U.S.C. 289). The FAM states that “each Reserve Bank remits excess earnings to the Treasury after providing for the cost of operations, payment of dividends, and reservation of an amount necessary to maintain surplus at the Bank’s allocated portion of the aggregate surplus limitation.” Accordingly, the remittances are accounted for on the Combined Statement of Operations as “Earnings Remittances to the Treasury.” Thus, reading the Federal Reserve Act harmoniously with the Dodd-Frank Act’s requirement that the Board of Governors must transfer amounts to the CFPB “from the combined earnings of the Federal Reserve System” may suggest that these transfers most appropriately accounted for as below-the-line remittances deducted from earnings.

Accounting for Net Losses with a “Deferred Asset”

If the Reserve Banks realize a net income from operations (after adjusting for net income of consolidated variable interest entities), these earnings are reported as a credit balance in the “Accrued remittances to the Treasury” line item in the Combined Statements of Condition (i.e., the balance sheet). However, if the Reserve Banks realize a net loss from operations, which is to say that if the Reserve Banks’ income is not sufficient to provide for the costs of operations, payment of dividends, and maintaining surplus at an amount equal to the aggregate surplus limitation, there are no earnings to report, which requires the suspension of earnings remittances to the Treasury. In these circumstances, the FAM specifies that the Board of Governors record a “deferred asset” in the Combined Statements of Condition. This deferred asset represents the amount of earnings the Reserve Banks will need to realize before remittances to the Treasury can resume.

Conclusion

Given the foregoing, there is a question whether the Board of Governors has the statutory authority to fund CFPB transfers through assessments on the Reserve Banks, and thereby account for the resulting assessments as above-the-line operating expenses, or whether the amounts transferred to the CFPB should be accounted for as below-the-line remittances deducted from earnings. The answer to this question may bear materially on whether the Board of Governors can lawfully honor CFPB funds transfer requests that it receives in circumstances where, as has been the case since November 2022, the Federal Reserve System has no net earnings. It may also bear on whether the financial statements issued by the Board of Governors since 2010 are free from misstatements and present fairly, in all material respects, the financial position of the Board of Governors and Reserve Banks and the results of their operations and changes in capital.

Scholars and practitioners will surely continue to debate this question. However, to resolve legal uncertainty, the Federal Reserve Board of Governors should publicly identify the statutory authority supporting its present CFPB funding and accounting practices.