On January 31, 2005, the California Supreme Court delivered its much-anticipated decision in American Financial Services Association (AFSA) v. City of Oakland. The Court held that the Oakland ordinance regulating predatory lending practices within the city of Oakland (the "Ordinance") was preempted by the California predatory lending law (CA Financial Code Sections 4970-4979.8) ("Division 1.6"). The favorable outcome of this case for the mortgage lending industry was far from a forgone conclusion, as evidenced by the divided Court's 4-3 majority decision opinion and thoughtful dissent.

The facts of the case are fairly straightforward. Eight days prior to the date the California legislature adopted Division 1.6, the City of Oakland adopted its own, more restrictive predatory lending ordinance. AFSA filed an action seeking a declaration that the Oakland ordinance was preempted by Division 1.6. The Oakland ordinance was stayed until final resolution of the case. At the trial court level, the court held that the Oakland ordinance was valid. The trial court's decision was upheld on appeal. AFSA appealed to the California Supreme Court for review.

The Court rejected the City of Oakland's contention that Division 1.6 merely set minimum statewide standards, and not statewide uniform standards, for subprime home mortgage lending. The Court concluded that "in enacting Division 1.6 the Legislature has impliedly fully occupied the field of regulation of predatory practices in home mortgage lending, and hence the Ordinance is preempted on this ground." The Court recognized that Division 1.6 did not include express preemption language, although the issue had been debated in the legislature, but in the Court's opinion that "does not ineluctably mean there is no implied preemption." Rather, in situations in which the Legislature is silent on the subject of preemption, the Court "consider[s] factors including the language and scope of the adopted measure, the history behind the adopted measure, and the history of regulation in the area" to determine whether there is an implied intent to preempt.

In determining that Division 1.6 was indeed intended to impliedly preempt the entire arena of subprime mortgage lending, the Court noted the following: (1) the comprehensiveness of Division 1.6 in regulating predatory home lending practices; (2) the historically exclusive regulation of mortgage lenders on the state, not municipal, level; and (3) the transcendent state interest in centralized and uniform statewide treatment of abusive mortgage lending practices for effective regulation. With regard to the last point, the Court noted the vital importance of the California housing market to the California economy and the role mortgage securitization played in the national economy, and the negative impact on the availability of capital to make mortgage loans that would arise "based on the potentially hundreds of competing and inconsistent measures at the local level." The Court notes that the Legislature's adoption of Division 1.6 reflected a balancing "of two compelling and competing considerations, i.e., the need to protect particularly vulnerable consumers from predatory lending practices and the concern homeowners not be unduly hindered in accessing the equity in their own homes." In the Court's view, "[t]he Ordinance, and the possibility of other divergent and competing local measures throughout California, upsets that balance" and "stands as an obstacle to the accomplishment and execution of the full purposes and objectives of the Legislature."

The dissent placed great emphasis on the legislative history of Division 1.6, particularly as it related to the exclusion of express preemption language. The Legislature's conscious consideration to include express preemption language, but ultimately to omit any such language "as one of the essential elements of a compromise that led to the enactment of the legislation," in the dissent's view, "demonstrates that the statute does not "clearly indicate" a legislative intent to preempt all local legislation." Furthermore, the dissent found compelling the "the distinctive local interest that the City of Oakland has in adopting stringent and effective measures to protect its residents from the predatory lending practices at issue." The dissent was hardly swayed by the historical regulation of mortgage lending on the state level, noting that subprime lending itself, and the concerns it raised, was a relatively modern creation.

The Court majority's decision is a pragmatic one. The Court recognized the negative impact that aggressive municipal ordinances could have on the availability of capital to California homeowners, not just in Oakland but also in Los Angeles and other cities that should choose to adopt more restrictive predatory lending ordinances. In a statement released after the Court's decision, Mr. Randy Lively, AFSA President and CEO, summed up the impact of the Court's decision: "This decision means that lenders who serve higher-risk borrowers will be able to operate with parity throughout the state of California, avoiding a balkanization of the regulatory landscape which would levy compliance costs too high to bear. Legitimate subprime lenders can remain in business, and the contributions they make to the economy of California, as well as to the well-being of borrowers, can be maintained."