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Bhatti v. Federal Housing Finance Agency

United States District Court, D. Minnesota

July 6, 2018

THE FEDERAL HOUSING FINANCE AGENCY; MELVIN L. WATT, in his official capacity as Director of the Federal Housing Finance Agency; and THE DEPARTMENT OF THE TREASURY, Defendants.

          Scott G. Knudson and Michael M. Sawers, BRIGGS AND MORGAN, P.A., for plaintiffs.

          Robert J. Katerberg, Howard N. Cayne, and Asim Varma, ARNOLD & PORTER KAYE SCHOLER LLP; Mark A. Jacobson, Karla M. Vehrs, and Christopher Proczko, LINDQUIST & VENNUM LLP, for defendants Federal Housing Finance Agency and Melvin L. Watt.

          Robert Charles Merritt, UNITED STATES DEPARTMENT OF JUSTICE; Craig R. Baune, UNITED STATES ATTORNEY'S OFFICE, for defendant Department of the Treasury.


          Patrick J. Schiltz United States District Judge

         Plaintiffs are shareholders in the Federal National Mortgage Association (commonly known as “Fannie Mae” or “Fannie”) and the Federal Home Loan Mortgage Corporation (commonly known as “Freddie Mac” or “Freddie”). Fannie and Freddie (collectively, “the Companies”) are federally chartered, for-profit, publicly traded corporations that are in the business of purchasing and guaranteeing mortgages and bundling them into securities. Both companies are regulated by defendant Federal Housing Finance Agency (“FHFA”).

         In 2008, in the midst of the Great Recession, FHFA placed Fannie and Freddie into conservatorship-and then, acting in its capacity as conservator on behalf of the Companies, FHFA entered into preferred stock purchase agreements (“PSPAs”) with the United States Department of the Treasury (“Treasury”). Under the PSPAs, Treasury made billions of dollars available to Fannie and Freddie in exchange for shares of the Companies' stock. Over the years, the parties amended the PSPAs from time to time. In August 2012, FHFA and Treasury amended the PSPAs for the third time in order to restructure the calculation of dividends to be paid to Treasury. Under this Third Amendment (which is still in effect), Fannie and Freddie pay a quarterly dividend to Treasury that is roughly equal to the amount by which their net worth exceeds zero.

         The Third Amendment is deeply unpopular among some of the Companies' shareholders, and they have launched at least two waves of lawsuits in an attempt to undo it. The first wave of litigation attacked the Third Amendment directly. When that wave largely failed, shareholders launched a second wave of litigation (including this lawsuit). In the second wave of litigation, shareholders are attacking the Third Amendment indirectly by challenging the legality of FHFA itself-hoping that, by killing the tree, they can kill one of its fruits. Plaintiffs in this particular lawsuit challenge the structure of FHFA (specifically, the fact that it is headed by a single director who can be removed only for cause). Plaintiffs also challenge the way that FHFA is funded and limitations on judicial review of FHFA's actions as conservator. Plaintiffs further challenge the length of the term that was served by an acting director of FHFA. And finally, plaintiffs challenge Congress's grant of conservatorship powers to FHFA.

         This matter is before the Court on defendants' motions to dismiss and plaintiffs' motion for summary judgment. For the reasons that follow, defendants' motions are granted, and plaintiffs' motion is denied.

         I. BACKGROUND

         A. Regulatory Structure

         Fannie and Freddie are for-profit, stockholder-owned corporations whose activities include purchasing, guaranteeing, and securitizing mortgages originated by private lenders. Am. Compl. ¶ 10. From 1992 until 2008, the Companies were regulated by the Office of Federal Housing Enterprise Oversight (“OFHEO”). Am. Compl. ¶ 13.

         In July 2008, after the subprime mortgage crisis triggered the Great Recession, Congress passed the Housing and Economic Recovery Act (“HERA”), Pub. L. 110-289, 122 Stat. 2654 (July 30, 2008). Am. Compl. ¶¶ 7, 14, 25. HERA established FHFA as the successor to OFHEO. Am. Compl. ¶¶ 7, 14; 12 U.S.C. § 4511. Congress established FHFA because it found that “more effective Federal regulation is needed to reduce the risk of failure” of Fannie and Freddie. 12 U.S.C. § 4501(2). Under HERA, FHFA is responsible for overseeing the “prudential operations” of Fannie and Freddie and ensuring that they operate “in a safe and sound manner” consistent with the public interest; that they “‘foster liquid, efficient, competitive, and resilient national housing finance markets”; and that they have “adequate capital and internal controls.” 12 U.S.C. § 4513(a)(1).

         FHFA is headed by a single director nominated by the President and confirmed by the Senate. 12 U.S.C. § 4512(a), (b)(1). The director serves a term of five years but can be removed by the President for cause. Id. § 4512(b)(2). FHFA also has three deputy directors appointed by the director. Id. § 4512(c)-(e). If the director leaves office or is incapacitated before his or her term concludes, the President must designate one of the three deputies to serve as acting director until a successor is appointed or the director returns. Id. § 4512(f).

         HERA gives FHFA the authority to place Fannie and Freddie into a conservatorship or receivership under certain circumstances “for the purpose of reorganizing, rehabilitating, or winding up the affairs” of the Companies. 12 U.S.C. § 4617(a)(2). Upon appointment as conservator or receiver, FHFA succeeds to “all rights, titles, powers, and privileges of the regulated entity, and of any stockholder, officer, or director of such regulated entity with respect to the regulated entity and the assets of the regulated entity[.]” Id. § 4617(b)(2)(A). When FHFA acts as a conservator, the agency is “not . . . subject to the direction or supervision of any other agency of the United States . . . .” Id. § 4617(a)(7). In addition, HERA limits the extent to which courts may “take any action to restrain or affect the exercise of powers or functions of the [FHFA] as a conservator . . . .” Id. § 4617(f).

         FHFA is independently funded from annual assessments imposed on Fannie and Freddie-assessments that are “not . . . construed to be Government or public funds or appropriated money.” 12 U.S.C. § 4516(a), (f)(2).

         B. FHFA Directors

         Pursuant to statute, FHFA's first director was James Lockhart, who at the time of the enactment of HERA was serving as director of OFHEO. Am. Compl. ¶ 42; see also 12 U.S.C. § 4512(b)(5). Lockhart resigned as FHFA director in August 2009. Am. Compl. ¶ 42. President Obama then designated deputy director Edward DeMarco to serve as acting director. Am. Compl. ¶ 43. In November 2010, President Obama nominated Joseph Smith, Jr., to serve as FHFA director. Am. Compl. ¶ 44. The Senate failed to confirm Smith, however. Am. Compl. ¶ 44. In May 2013, President Obama nominated Melvin Watt to serve as FHFA director. Watt was confirmed by the Senate on December 10, 2013 and sworn into office on January 6, 2014. Am. Compl. ¶¶ 44.

         C. The Conservatorship and the PSPAs

         As noted, FHFA placed Fannie and Freddie into conservatorship on September 6, 2008. Am. Compl. ¶ 28. The next day, Fannie and Freddie (acting through their conservator, FHFA) entered into the PSPAs with Treasury. Am. Compl. ¶ 31. Under the original PSPAs, Treasury committed to provide up to $100 billion to each Company to ensure that it maintained a positive net worth. Am. Compl. ¶ 32. For any quarter in which a Company's liabilities exceeded its assets, the PSPAs authorized the Company to draw on Treasury's commitment up to the amount of the shortfall. Am. Compl. ¶ 32. In return, Treasury received a million shares of senior preferred stock in the Companies and warrants entitling it to purchase up to 79.9 percent of the Companies' common stock at a nominal price. Am. Compl. ¶¶ 34-35. By operation of law, Treasury's right to purchase common stock in the Companies expired on December 31, 2009. Am. Compl. ¶ 30.

         Treasury's preferred stock has a liquidation preference of $1 billion, which increases by one dollar for every dollar the Companies draw on Treasury's funding commitment. Am. Compl. ¶ 35. In the event of liquidation, Treasury will be entitled to recover the full amount of its preference before any other stockholder receives payment. Am. Compl. ¶ 35. Treasury is also entitled to receive dividends, which, under the original PSPAs, the Companies could elect to pay by increasing the amount of the liquidation preference. Am. Compl. ¶¶ 36-37.

         The PSPAs have been amended several times. In May 2009, the parties doubled Treasury's funding commitment from $100 billion to $200 billion. Am. Compl. ¶ 41. In December 2009, the parties increased the funding commitment even more, establishing a formula that permits Treasury's funding commitment to exceed $200 billion. Am. Compl. ¶ 41. Finally, in August 2012, the parties entered into the Third Amendment, which is the focus of this litigation. Am. Compl. ¶ 55.

         The Third Amendment replaced the fixed-rate annual dividend to which Treasury was entitled-and which could be paid by increasing Treasury's liquidation preference rather than with cash-with a quarterly cash dividend equal to the amount by which the Companies' net worth exceeds zero, less a capital buffer that decreases over time (and reaches zero in 2018). Am. Compl. ¶ 55. Plaintiffs refer to this dividend requirement as the “Net Worth Sweep.” Am. Compl. ¶ 55.

         The conservatorship in general and the Third Amendment in particular are bitterly opposed by plaintiffs and other shareholders participating in the second wave of legal attacks designed to undo the Third Amendment. According to plaintiffs, the conservatorship and the Third Amendment were parts of a nefarious plot to seize control of Fannie and Freddie and operate them for the exclusive benefit of the federal government. Am. Compl. ¶ 28. Plaintiffs claim that Fannie and Freddie did not need the hundreds of billions of dollars of financing that Treasury provided to the Companies during the Great Recession. To the contrary, plaintiffs claim, the Companies were always in a strong financial position and could have weathered the Great Recession by raising additional capital through the financial markets. Am. Compl. ¶¶ 25-29. Plaintiffs' assertion that Fannie and Freddie could have remained solvent without the help of the federal government is dubious, see, e.g., Perry Capital LLC v. Mnuchin, 864 F.3d 591, 598-602 (D.C. Cir. 2017), pets. for cert. denied, 138 S.Ct. 978 (2018) (Nos. 17-578, 17-580, 17-591), but the Court is required to treat it as true at this stage of the litigation.

         Plaintiffs filed this action in June 2017 against FHFA, its director Melvin Watt, and Treasury.[1] In their first amended complaint, plaintiffs assert five claims: (1) that FHFA's single-director leadership structure is unconstitutional; (2) that, even if the single-director structure is itself constitutional, it is unconstitutional when combined with other features insulating FHFA from congressional and judicial review; (3) acting director Edward DeMarco's tenure was unconstitutionally long; (4) FHFA's conservatorship powers violate the non-delegation doctrine; and (5) in the alternative, if FHFA acts in a private capacity as conservator, then its powers violate the private non- delegation doctrine. The goal of all of these attacks is bringing about the demise of the Third Amendment.

         II. ANALYSIS

         A. Standard of Review

         FHFA moves to dismiss Counts I and II of plaintiffs' first amended complaint for lack of jurisdiction and, alternatively, for failure to state a claim. FHFA also moves to dismiss Counts III, IV, and V for failure to state a claim. Treasury moves to dismiss all counts for failure to state a claim.

         In reviewing a motion to dismiss for lack of jurisdiction under Fed.R.Civ.P. 12(b)(1), a court must first determine whether the movant is making a “facial” attack or a “factual” attack. Branson Label, Inc. v. City of Branson, Mo., 793 F.3d 910, 914 (8th Cir. 2015). In analyzing a facial attack, the Court “restricts itself to the face of the pleadings and the non-moving party receives the same protections as it would defending against a motion brought under Rule 12(b)(6).” Osborn v. United States, 918 F.2d 724, 729 n.6 (8th Cir. 1990) (citation omitted). As FHFA did not submit any materials outside of the complaint in support of its motion, the agency appears to be mounting a facial attack on the Court's jurisdiction. The Court therefore proceeds as it would under Fed.R.Civ.P. 12(b)(6).

         In reviewing a motion to dismiss for failure to state a claim under Fed.R.Civ.P. 12(b)(6), a court must accept as true all of the factual allegations in the complaint and draw all reasonable inferences in the plaintiff's favor. Aten v. Scottsdale Ins. Co., 511 F.3d 818, 820 (8th Cir. 2008). Although the factual allegations need not be detailed, they must be sufficient to “raise a right to relief above the speculative level . . . .” Bell Atl. Corp. v. Twombly, 550 U.S. 544, 555 (2007). The complaint must “state a claim to relief that is plausible on its face.” Id. at 570.

         Ordinarily, if the parties present, and the court considers, matters outside of the pleadings, a Rule 12(b)(6) motion must be treated as a motion for summary judgment. Fed.R.Civ.P. 12(d). But the court may consider materials that are necessarily embraced by the complaint as well as any exhibits attached to the complaint without converting the motion into one for summary judgment. Mattes v. ABC Plastics, Inc., 323 F.3d 695, 697 n.4 (8th Cir. 2003). In this case, plaintiffs and Treasury have submitted materials outside of the pleadings. The Court has considered the PSPAs because they are embraced by the complaint, but it has not considered any other materials submitted by the parties and therefore need not convert defendants' motions into motions for summary judgment.

         B. Counts I and II: Separation of Powers

         In Count I, plaintiffs allege that the structure of FHFA-that is, an independent agency with a single director removable only for cause-violates the President's constitutional removal authority. In Count II, plaintiffs allege that, even if the single- director structure is itself constitutional, that structure in combination with other features of FHFA violates the principle of separation of powers. Plaintiffs argue that the appropriate remedy for these violations is to vacate the Third Amendment and invalidate those provisions of HERA that make FHFA independent from the President (and, with respect to Count II, independent from the legislative and judicial branches as well). Defendants respond that (1) plaintiffs lack standing to bring these claims and (2) even if plaintiffs had standing, these claims fail on the merits.

         1. Standing

         Standing is a jurisdictional requirement “rooted in the traditional understanding of a case or controversy.” Spokeo, Inc. v. Robins, 136 S.Ct. 1540, 1547 (2016). To have standing, a plaintiff “must have (1) suffered an injury in fact, (2) that is fairly traceable to the challenged conduct of the defendant, and (3) that is likely to be redressed by a favorable judicial decision.” Id. Plaintiffs bear the burden of establishing standing. Id.

         At the heart of the claims made by plaintiffs in Counts I and II is their contention that the President lacks sufficient control over FHFA and, as a result, the agency is too independent. The injury that plaintiffs allege is the Third Amendment, which purportedly harms their interests as shareholders in the Companies by being too favorable to Treasury. To remedy this injury, plaintiffs ask the Court to vacate the Third Amendment and strike down the director's tenure protection-and, if necessary, any other provisions that unconstitutionally insulate FHFA from oversight- so that a less independent FHFA (that is, an FHFA under more presidential control) may reconsider its decision to enter into the Third Amendment.

         The problem with plaintiffs' claims is glaring: There is no causal connection between their injury-a Third Amendment that (in plaintiffs' view) is too favorable to the Executive Branch-and the lack of Executive Branch influence over FHFA. Nor is there any reason to believe that increasing Executive Branch influence over FHFA will somehow result in a “revised” Third Amendment that is less favorable to the Executive Branch.

         The Third Amendment is part of a contract between FHFA and Treasury. Treasury is an executive department that is fully under the President's control. Thus, in a very real sense, the President has already approved the Third Amendment. Plaintiffs have no coherent theory for how their injury-a Third Amendment that, in plaintiffs' view, is unduly favorable to the President-could have resulted from the President having too little control over FHFA. Nor do plaintiffs have a coherent theory as to why giving the President more control of FHFA will lead to him renegotiating the Third Amendment so that it is less favorable to himself. It simply makes no sense to argue that the Third Amendment is “fairly traceable” to the lack of presidential control or that increasing presidential control will cause FHFA to reject the Third Amendment.[2](Notably, nothing would prevent the President from undoing the Third Amendment right now by directing Treasury to decline to accept the quarterly dividend payments or to negotiate a deal that is more favorable to FHFA.) For these reasons, plaintiffs cannot show either causation or redressability and therefore cannot establish standing.

         Plaintiffs respond by arguing that mere speculation about what decision the government might have reached in the absence of the alleged constitutional violation cannot defeat standing. See, e.g., Free Enter. Fund v. Pub. Co. Accounting Oversight Bd., 561 U.S. 477, 512 n.12 (2010) (“We cannot assume, however, that the Chairman would have made the same appointments acting alone; and petitioners' standing does not require precise proof of what the Board's policies might have been in that counterfactual world.”). In Free Enterprise Fund, however, the plaintiff was seeking to enjoin the agency's investigation into its accounting practices. Id. at 487. In those circumstances, it would be impossible for a plaintiff to prove a causal connection between, one the one hand, the alleged separation-of-powers violation and, on the other hand, the complex decisionmaking process that resulted in the plaintiff becoming the subject of a formal agency investigation. Similarly, in cases ...

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