Nearly lost in the politics surrounding the Consumer Financial Protection Board’s §1040 rule—which regulates mandatory arbitration clauses in financial services consumer contracts—are the new rule’s requirements.
The ban on class waivers in consumer financial services contracts has been well covered—strongly supported by consumer groups as a restoration of individual rights, and heavily criticized by Beltway business lobbyists as a gift to plaintiffs’ trial lawyers.
The CFPB—an independent Washington, D.C., agency formed under the 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act to protect consumers in dealing with financial services contracts—provided a rule on July 10 that prohibits the use of class waivers that require agreeing to pre-dispute mandatory arbitration in the contracts over which it has jurisdiction.
But less well known is that the CFPB’s final rule provides an arbitration reporting requirement. A by-product is that the rule gives force to private providers’ codes for ethical ADR conduct.
The rule was posted in the Federal Register on July 19. (Available at http://bit.ly/2fk7Ea1.) It takes effect on Sept.18, but full compliance is slated for March 19, 2018.
The CFPB’s regulations attempt to, as CFPB Director Richard Cordray put it, “stop companies from sidestepping the courts and ensure that people who are harmed together can take action together.”
But “[w]hile arbitration itself wasn’t the direct target, the practice has taken a direct hit, becoming a proxy in a war over class-action processes.” See “CFPB Announces Final Rule Barring Mandatory Arbitration in Consumer Financial Contracts,” CPR Speaks blog (July 11)(available at http://bit.ly/2ufoe0J).
The rule’s stated purpose is to regulate for “the furtherance of the public interest and the protection of consumers regarding the use of agreements for consumer financial products and services providing for arbitration of any future dispute, and also to monitor for risks to consumers in the offering or provision of consumer financial products or services, including developments in markets for such products or services.”
The CFPB’s new 12 CFR §1040 applies to two parties: consumers and providers of financial products. A consumer is defined under the rule as “any individual” or the agent, trustee, or representative acting on behalf of a consumer (§1040.2(b)), while the provider is broadly defined as any party providing a consumer financial product or service, emanating from the definitions in the Dodd-Frank Act at 12 U.S.C. 5481.
Some of the key industry contracts studied by the CFPB since it began its inquiry into arbitration in 2012 have been credit card agreements and wireless cellphone provider contracts.
While the definitions of “consumer” and “provider” are broad under the CFPB’s new Section 1040, exceptions to these definitions may apply. Perhaps the most notable of these exceptions is that the regulations don’t apply to small shops that served less than 25 customers “in the current calendar year and to no more than 25 consumers in the preceding calendar year.” (§1040.3(b)(3)).
The list of excluded financial services providers includes, among others,
- those regulated by the S.E.C., such as broker-dealers and investment advisers (§1040.3(b)(1)),
- those regulated by a state securities commission as either a broker-dealer or an investment adviser,
- any federal agency (§1040.3(b)(2)(i)),
- any state or tribe, or the “arm” of either a state or tribe (§1040.3(b)(2)(ii)), and
- any employer under the Fair Labor Standards Act (§1040.3(b)(5)).
Like the defined parties, Section 1040 would apply to a large array of consumer credit products. These products include products that offer consumer credit; modify existing consumer credit, or transfer consumer credit or modify the parties within a consumer credit agreement.
Products that offer consumer credit transactions include credit decisions (§1040.3(a)(1)(ii)), credit referrals (§1040.3(a)(1)(iii)); consumer reports (§1040.3(a)(4)); check cashing, collection or guaranty services (§1040.3(a)(9)); certain fund transfers or exchanges (§1040.3(a)(7)), or “accepting financial or banking data … for the purpose of initiating a payment by a consumer” (§1040.3(a)(8)).
Products that modify existing consumer credit include modifying consumer credit terms (§1040.3(a)(3)), “extending automobile leases” (§1040.3(a)(2)), “providing services to assist with debt management” (§1040.3(a)(3)), or providing products that remove or improve a person’s credit history or record or rating (§1040.3(a)).
Finally, any product that transfers consumer credit or modifies the parties within a consumer credit agreement including acquiring, purchasing, or selling an extension of consumer credit (§1040.3(a)(1)(iv)).
The CFPB’s product definition, while broad, specifically excludes “general-purpose reloadable prepaid” cards. A prepaid card is exempt if the provider can’t contact the consumer in writing, the consumer acquired the card in a retail store, the consumer agreement was inside the packaging material of the card, and the agreement was packaged prior to the CFPB rule compliance date (§1040.5(b)). A prepaid card is also exempt if the prior factors are met and within 30 days of obtaining the consumer’s information, the provider notifies the consumer in writing that the pre-dispute agreement complies with the CFPB’s rule and provides an amended pre-dispute arbitration agreement (§1040.5(b)).
When the rule applies to the parties within the agreement, and when the rule covers the product offered by the provider, the provider must adhere to four prescribed actions.
First, the provider must explicitly note that its mandatory arbitration clause does not infringe upon a consumer’s right to file a class action suit in its consumer agreements (§1040.4(a)(1) - (a)(2)(i)). Second, the provider must specify which of its products are covered by the mandatory arbitration clause when the provider is selling multiple products (§1040.4(a)(2)(ii)).
Third, when an agreement between a provider and a consumer already exists but does not include an arbitration clause, the provider must either amend the agreement to include a disclaimer or provide all consumers to whom the agreement applies with a written notice stating that the provider agrees “not to rely on any pre-dispute arbitration agreement to stop [the consumer] from being part of a class action case in court,” and that the consumer “may file a class action in court or … may be a member of a class action filed by someone else” (§1040.4(a)(2)(iii)(A)).
Fourth—and perhaps most important—the provider must adhere to strict arbitration reporting structures (§1040.4(b)). Should the provider choose to arbitrate a consumer dispute, the provider must submit the following to the CFPB within 60 days of filing the arbitration: the claim, counterclaim if any, the answer, the pre-dispute agreement, the judgment or award, and any supporting documentation should the arbitrator refuse to administer a claim (§1040.4(b)(1)).
When submitting the materials, the provider must redact the consumer’s names, address, e-mail, telephone number, photograph, account number, Social Security/tax/government identification numbers, driver’s license, and passport number (§1040.4(b)(3)). The CFPB will “establish and maintain on its publicly available internet site a central repository of the records that providers submit” by no later than July 1, 2019, with subsequent annual updates.
The CFPB qualifies elements of its rule in a “supplemental information section.” Notably, student debt is included within the definition of credit. Debt relief products and services, and offers to remove derogatory marks on credit profiles are included in the product definitions.
And the supplement notes that the 25-customer exception for small businesses applies “based on the frequency with which the product is provided, regardless of the number of times a product is offered.” See Supplement I to Part 1040–Official Interpretations in the Federal Register link above.
A key provision of the CFPB’s final rule is that it requires that arbitration administrators’ rules must be followed, and if not, the divergences or violations must be reported. Also in its supplemental explanation to the new rule, the CFPB explains that Section 1040.4(b)(1)(ii) requires submission “of any communication the provider receives related to any arbitration administrator’s determination that the provider’s pre-dispute arbitration agreement … does not comply with the administrator’s fairness principles or rules.”
The guidance in the supplemental section says that the administrators’ fairness principles and rules should be interpreted broadly. It listed as examples the American Arbitration Association’s Consumer Due Process Protocol and JAMS’ Policy on Consumer Arbitrations Pursuant to Pre-Dispute Clauses Minimum Standards of Procedural Fairness.
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Reactions to the CFPB’s rule are consistent with long-time positions. F. Paul Bland, executive director of Public Justice, a Washington, D.C., public interest law firm, wrote in an op-ed that the regulations “rein in some of the worst behaviors of big banks and predatory lenders.” See F. Paul Bland, “Who will GOP lawmakers stand with, the people or crooked bankers?” The Hill (July 11)(available at http://bit.ly/2u4CSrq).
The rule hedges against “fine-print language usually buried deep within multi-page agreements,” Bland wrote, noting that the CFPB is correct in prioritizing the findings of its study above the political landscape.
Conversely, Philadelphia-based Ballard Spahr partners Alan Kaplinsky and Mark Levin, and Scott Pearson, in the firm’s Los Angeles office, wrote that “the CFPB’s own data confirmed that arbitration is a faster, less expensive, and far more effective way for consumers to resolve disputes with companies than class action litigation.” See Alan Kaplinsky, Mark Levin, Scott Pearson, “CFPB issues final rule prohibiting class action waivers in consumer arbitration agreements,” Consumer Finance Monitor blog (July 10)(available at http://bit.ly/2hzKsVJ).
Kaplinsky and Bland faced off frequently in public forums conducted by the CFPB over the past four years that examined regulating class waivers and arbitration, and provided the beginnings of the regulatory path the CFPB has taken. See, e.g., Russ Bleemer, “CFPB Delivers Its Proposed Class Waiver Ban,” 34 Alternatives 82 (June 2016)(available http://bit.ly/2wlaGyI).
In the Ballard Spahr blog post, the authors compare consumer payouts under class action suits and single-party arbitration, finding that—on average—class-actions yield only $32.35 per consumer, while single-party arbitrations awards averaged $5,389. “Consumers who prevailed in individual arbitration thus received 166 times as much as the average putative class member,” they wrote.
The Consumer Finance Monitor blog post noted that the CFPB’s report supports a finding that “the 53,000 financial services companies who currently use arbitration agreements will now have to spend between $2.62 billion and $5.23 billion over the next five years to defend an additional 6,042 class actions. The CFPB expects those numbers to be repeated every five years.”
Capitol Hill Republicans, who have campaigned against the class waivers-arbitration rule as well as the CFPB’s existence, moved quickly in July to void the CFPB’s rule via the Congressional Review Act. Paul Bland notes that under the CRA, “Congress can kill a rule within 60 days of its issuance and, in doing so, prohibit any government agency from ever issuing a substantially similar rule again.”
The rule had only been used once before this year, but has been invoked successfully in the new Congress 14 times to overturn rules emanating from the Obama administration. A bill introduced by Democrats to repeal the CRA hasn’t moved.
The House easily voted to overturn the CFPB’s Sec. 1040 on July 25 via the CRA. See “House Passes Resolution to Override CFPB Mandatory Arbitration Rule,” CPR Speaks blog (July 27, 2017)(available at http://bit.ly/2hAqElf).
But the Senate will need to act when it returns this month, and it’s not clear it has the votes to get the CRA move to President Trump’s desk. Andrew Ackerman, “GOP Effort to Overturn Arbitration Rule at Risk from Republican Defectors,” Wall Street Journal (Aug. 6)(available at http://on.wsj.com/2uwVyMF).
The WSJ article reported that Senate support “is uncertain. No Democrats are likely to back the effort, and Republicans, with their slim majority, can’t afford to lose more than two GOP votes. Several Republican senators have expressed reservations about voting to overturn the regulation, worried they may be portrayed as siding with banks and against consumers.”
It added that private consultants that analyze Congress “put the odds of the rule remaining in place at over 50%.”
But a health care reform-style defeat for the anti-CFPB forces does not end the challenges to the rule. Though a move challenging the regulations by the Office of the Comptroller of the Currency’s acting director fizzled in late July (see http://bit.ly/2wkggBf), the constitutional structure of the CFPB is still at issue in the federal courts.
And more directly, President Trump can fire Director Richard Cordray, and have a successor rescind the regulations, though such a move undoubtedly also would face legal challenges too. For more routes to counter the CFPB final rule, see Alan Kaplinsky, “Proposed CFPB Arbitration Rule Faces Multiple Obstacles,” 35 Alternatives 3 (January 2017)(available at http://bit.ly/2ugKR5C).
The New Rule
The regulation: Five years of Consumer Financial Protection Bureau investigating and reporting results in its final rule.
The ban: No more consumer financial contracts with waivers that cut off access to court class-action cases, barring mandatory pre-dispute arbitration agreements.
The quiet requirement: Where arbitration is deployed, violations of ADR administrators’ policies or ethics rules must be reported.