Interest on Escrow: A Deepening Split Leaves Mortgage Lenders in Uncertain Territory

Many states require mortgage lenders to pay borrowers interest on funds held in escrow accounts—the accounts routinely used to cover property taxes, homeowners’ insurance, and related charges. Whether federal law preempts these requirements as applied to national banks has become one of the most actively contested questions in banking regulation. A recent circuit split, two new OCC rules, and a multistate lawsuit challenging those rules have created a compliance landscape that demands careful attention from every mortgage lender operating across state lines.

Background: The Preemption Framework

The National Bank Act grants national banks broad powers to conduct the business of banking, including the power to make real estate loans and, incidentally, to offer mortgage escrow accounts. Since at least the 1970s, numerous states have enacted laws requiring lenders to pay interest on escrowed funds at specified minimum rates. The central legal question (pursuant to the standard for preemption established by the Supreme Court in Barnett Bank of Marion County, N.A. v. Nelson, 517 U.S. 25 (1996), and codified by Congress in the Dodd-Frank Act) is whether these state laws “prevent or significantly interfere with” the exercise of national bank powers.

In Cantero v. Bank of America, N.A., 602 U.S. 205 (2024), the Supreme Court unanimously rejected the Second Circuit's broad “control” test (under which any state law exercising control over a federally granted banking power was preempted) as “a categorical test that would preempt virtually all state laws that regulate national banks.” The Court directed lower courts to perform a “nuanced comparative analysis” examining the “nature and degree” of a state law’s interference with national bank powers, but it did not itself decide whether interest-on-escrow laws are preempted.

The Circuit Split

On remand, the circuits have fractured.

Second Circuit (preemption found). On May 5, 2026, the Second Circuit again held that New York’s interest-on-escrow law is preempted, this time applying the Supreme Court’s comparative framework. The majority concluded that New York’s law targets banks, limits their broad power to set escrow account terms, and imposes a degree of interference at least as severe as the advertising restriction struck down in Franklin National Bank v. New York, 347 U.S. 373 (1954). Judge Pérez dissented, arguing the majority had effectively reimposed the rejected “control” test by characterizing the federal power as one of unlimited “flexibility.”

First Circuit (no preemption). In September 2025, the First Circuit in Conti v. Citizens Bank, N.A., 157 F.4th 10 (1st Cir. 2025), held that Rhode Island’s interest-on-escrow law was not preempted. The court found no express conflict between state and federal law, rejected the bank’s argument that congressional silence implied preemption, and concluded that the bank had failed to demonstrate the statute’s practical effects would significantly interfere with federal banking powers.

Ninth Circuit (bound by precedent). In October 2025, the Ninth Circuit in Kivett v. Flagstar Bank, FSB, 154 F.4th 640 (9th Cir. 2025), held that a three-judge panel lacked authority to overrule its earlier decision in Lusnak v. Bank of America, 883 F.3d 1185 (9th Cir. 2018), which had found California’s interest-on-escrow law not preempted. Notably, a vigorous dissent argued Lusnak was effectively overruled by Cantero and that California’s law should be deemed preempted under the comparative framework.

OCC Rulemaking

On May 15, 2026, the OCC issued two final rules (effective June 18, 2026) aimed at resolving the question through regulation:

• Escrow Powers Rule (91 Fed. Reg. 29340): Codifies broad bank discretion over escrow account terms, including whether to pay interest and whether to assess fees.
• Preemption Determination (91 Fed. Reg. 29350): Formally declares the interest-on-escrow laws of fourteen states and territories preempted as applied to national banks: California, Connecticut, Guam, Maine, Maryland, Massachusetts, Minnesota, New York, Oregon, Rhode Island, U.S. Virgin Islands, Utah, Vermont, and Wisconsin.

The OCC contends these state laws prevent or significantly interfere with the flexibility federal law grants national banks to set escrow terms.

Multistate Challenge

On August 11, 2026, ten state attorneys general filed suit in the District of Oregon challenging both OCC rules. The states assert claims under the Administrative Procedure Act, alleging the rules exceed the OCC’s statutory authority, contradict the Supreme Court’s instructions in Cantero, violate Dodd-Frank’s substantive and procedural preemption requirements, and are arbitrary and capricious. The complaint emphasizes that the OCC cited no empirical evidence of actual interference with bank operations and failed to conduct the individualized, case-by-case analysis Dodd-Frank requires.

What Lenders Should Know

The current landscape creates material compliance risk. National bank mortgage lenders must comply with state interest-on-escrow laws in the First and Ninth Circuits, where courts have declined to find preemption. In the Second Circuit, those laws have been held preempted, though a petition for certiorari is pending. In circuits that have not yet addressed the issue, there is no appellate guidance. The OCC rules add another layer of complexity: while they purport to preempt these state laws nationwide, their validity is now squarely in litigation.

Lenders should consider the following:

• Jurisdiction-specific compliance. Until there is definitive resolution (whether from the Supreme Court or from final judicial action on the OCC rules), lenders should maintain compliance with applicable state interest-on-escrow laws, particularly in jurisdictions within the First and Ninth Circuits.

• Monitor pending litigation. Certiorari petitions are pending in both Cantero (Second Circuit remand) and Kivett (Ninth Circuit), and the multistate challenge to the OCC rules is in its early stages. Any of these proceedings could reshape the compliance landscape.

• Operational readiness. Lenders operating in multiple states should ensure their systems can adapt quickly to changed legal requirements, given the realistic possibility that preemption law will shift in either direction.

This issue is far from settled, and further Supreme Court intervention appears likely. Lenders should seek counsel before making any changes to their escrow interest practices.