Why JPMorgan Chase is prepared to sue the U.S. government over Zelle scams

Buried in a roughly 200-page quarterly filing from JPMorgan Chase last month were eight words that underscore how contentious the bankâ€s relationship with the government has become.

The lender disclosed that the Consumer Financial Protection Bureau could punish JPMorgan for its role in Zelle, the giant peer-to-peer digital payments network. The bank is accused of failing to kick criminal accounts off its platform and failing to compensate some scam victims, according to people who declined to be identified speaking about an ongoing investigation.

In response, JPMorgan issued a thinly veiled threat: “The firm is evaluating next steps, including litigation.�

The prospect of a bank suing its regulator wouldâ€ve been unheard of in an earlier era, according to policy experts, mostly because corporations used to fear provoking their overseers. That was especially the case for the American banking industry, which needed hundreds of billions of dollars in taxpayer bailouts to survive after irresponsible lending and trading activities caused the 2008 financial crisis, those experts say.

But a combination of factors in the intervening years has created an environment where banks and their regulators have never been farther apart.

Trade groups say that in the aftermath of the financial crisis, banks became easy targets for populist attacks from Democrat-led regulatory agencies. Those on the side of regulators point out that banks and their lobbyists increasingly lean on courts in Republican-dominated districts to fend off reform and protect billions of dollars in fees at the expense of consumers.

“If you go back 15 or 20 years, the view was itâ€s not particularly smart to antagonize your regulator, that litigating all this stuff is just kicking the hornetâ€s nest,â€� said Tobin Marcus, head of U.S. policy at Wolfe Research.

“The disparity between how ambitious [President Joe] Bidenâ€s regulators have been and how conservative the courts are, at least a subset of the courts, is historically wide,â€� Marcus said. “Thatâ€s created so many opportunities for successful industry litigation against regulatory proposals.â€�

Those forces collided this year, which started out as one of the most consequential for bank regulation since the post-2008 reforms that curbed Wall Street risk-taking, introduced annual stress tests and created the industryâ€s lead antagonist, the CFPB.

In the final months of the Biden administration, efforts from a half-dozen government agencies were meant to slash fees on credit card late payments, debit transactions and overdrafts. The industryâ€s biggest threat was the Basel Endgame, a sweeping proposal to force big banks to hold tens of billions of dollars more in capital for activities like trading and lending.

“The industry is facing an onslaught of regulatory and potential legislative change,â€� Marianne Lake, head of JPMorganâ€s consumer bank, warned investors in May.

JPMorganâ€s disclosure about the CFPB probe into Zelle comes after years of grilling by Democrat lawmakers over financial crimes on the platform. Zelle was launched in 2017 by a bank-owned firm called Early Warning Services in response to the threat from peer-to-peer networks including PayPal.

The vast majority of Zelle activity is uneventful; of the $806 billion that flowed across the network last year, only $166 million in transactions was disputed as fraud by customers of JPMorgan, Bank of America and Wells Fargo, the three biggest players on the platform.

But the three banks collectively reimbursed just 38% of those claims, according to a July Senate report that looked at disputed unauthorized transactions.

Banks are typically on the hook to reimburse fraudulent Zelle payments that the customer didnâ€t give permission for, but usually donâ€t refund losses if the customer is duped into authorizing the payment by a scammer, according to the Electronic Fund Transfer Act.

A JPMorgan payments executive told lawmakers in July that the bank actually reimburses 100% of unauthorized transactions; the discrepancy in the Senate reportâ€s findings is because bank personnel often determine that customers have authorized the transactions.

Amid the scrutiny, the bank began warning Zelle users on the Chase app to “Stay safe from scamsâ€� and added disclosures that customers wonâ€t likely be refunded for bogus transactions.

JPMorgan declined to comment for this article.

The company, which has grown to become the largest and most profitable American bank in history under CEO Jamie Dimon, is at the fore of several other skirmishes with regulators.

Thanks to his reputation guiding JPMorgan through the 2008 crisis and last yearâ€s regional banking upheaval, Dimon may be one of few CEOs with the standing to openly criticize regulators. That was highlighted this year when Dimon led a campaign, both public and behind closed doors, to weaken the Basel proposal.

In May, at JPMorganâ€s investor day, Dimonâ€s deputies made the case that Basel and other regulations would end up harming consumers instead of protecting them.

The cumulative effect of pending regulation would boost the cost of mortgages by at least $500 a year and credit card rates by 2%; it would also force banks to charge two-thirds of consumers for checking accounts, according to JPMorgan.

The message: banks wonâ€t just eat the extra costs from regulation, but instead pass them on to consumers.

While all of these battles are ongoing, the financial industry has racked up several victories so far.

Some contend the threat of litigation helped convince the Federal Reserve to offer a new Basel Endgame proposal this month that roughly cuts in half the extra capital that the largest institutions would be forced to hold, among other industry-friendly changes.

Itâ€s not even clear if the watered-down version of the proposal, a long-in-the-making response to the 2008 crisis, will ever be implemented because it wonâ€t be finalized until well after U.S. elections.

If Republican candidate Donald Trump wins, the rules might be further weakened or killed outright, and even under a Kamala Harris administration, the industry could fight the regulation in court.

Thatâ€s been banks†approach to the CFPB credit card rule, which aimed to cap late fees at $8 per incident and was set to go into effect in May.

A last-ditch effort from the U.S. Chamber of Commerce and bank trade groups successfully delayed its implementation when Judge Mark Pittman of the Northern District of Texas sided with the industry, granting a freeze of the rule.

A key playbook for banks has been to file cases in conservative jurisdictions where they are likely to prevail, according to Lori Yue, a Columbia Business School associate professor who has studied the interplay between corporations and the judicial system.

The Northern District of Texas feeds into the 5th Circuit Court of Appeals, which is “well-known for its friendliness to industry lawsuits against regulators,â€� Yue said.

“Venue-shopping like this has become well-established corporate strategy,� Yue said. “The financial industry has been particularly active this year in suing regulators.�

Since 2017, nearly two-thirds of the lawsuits filed by the U.S. Chamber of Commerce challenging federal regulations have been in courts under the 5th Circuit, according to an analysis by Accountable US.

Industries dominated by a few large players — from banks to airlines, pharmaceutical companies and energy firms — tend to have well-funded trade organizations that are more likely to resist regulators, Yue added.

The polarized environment, where weakened federal agencies are undermined by conservative courts, ultimately preserves the advantages of the largest corporations, according to Brian Graham, co-founder of bank consulting firm Klaros.

“Itâ€s really bad in the long run, because it locks in place whatever the regulations have been, while the reality is that the world is changing,â€� Graham said. “Itâ€s what happens when you canâ€t adopt new regulations because youâ€re terrified that youâ€ll get sued.â€�

— With data visualizations by CNBCâ€s Gabriel Cortes.