Alston & Bird Consumer Finance Blog

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The CFPB’s Funding Structure Held Unconstitutional: The Practical Implications

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A&B ABstract:

In another existential challenge to the CFPB, last week the Fifth Circuit held in the Community Financial[1] case that the CFPB’s funding structure is unconstitutional. On this ground, it vacated the CFPB’s Payday Lending Rule. The decision’s rationale, however, is expected to have much further-reaching implications. Simply put, many believe that the Fifth Circuit’s analysis invalidates practically all actions the CFPB has taken since its inception.

The CFPB’s Unconstitutional Funding Structure

The CFPB is an executive agency with sweeping authority to issue regulations, conduct administrative hearings, wage civil litigation, and impose penalties on private citizens for a host of issues related to consumer finance. To exercise this authority, the CFPB requires funding, which it receives from a unique mechanism outside the Congressional appropriations process. By statute, the CFPB Director has the right to draw up to 12% of the Federal Reserve’s annual budget without seeking approval from Congress.

The Fifth Circuit held that this funding structure violated the Constitution’s Appropriations Clause, which requires that all expenditures of federal funds be approved by Congress. Specifically, the Fifth Circuit held that the CFPB’s extensive mandate combined with the inability of Congress to subject the agency to oversight via the appropriations process improperly concentrated the power of both “purse and sword” in the Executive Branch.

The Remedy

As important, unlike the challenge to the CFPB’s leadership structure in Seila Law, which led the Supreme Court to essentially rewrite the unconstitutional director-removal provision to salvage the CFPB’s ability to operate, the Community Financial decision held that there was no similar way to fix the Bureau’s unconstitutional funding. Fundamental to the Community Financial ruling was its interpretation of Collins v. Yellen, 141 S Ct. 171 (2021)—the Supreme Court’s most recent take on the proper remedy when an agency’s actions are tainted by an unconstitutional structure. Looking to Collins, the Fifth Circuit held that to obtain the holy grail of relief—vacatur of the agency action in its entirety—a party must show that: (1) a provision of the agency’s enacting statute is unconstitutional, and (2) the unconstitutional provision inflicted harm.

The Fifth Circuit then found that making the showing Collins required was “straightforward” in the case before it because “the funding employed by the Bureau to promulgate the Payday Lending Rule was wholly drawn through the agency’s unconstitutional funding scheme.” From the court’s perspective, this created “a linear nexus between the infirm provision (the Bureau’s funding mechanism) and the challenged action (promulgation of the rule). In other words, without its unconstitutional funding, the Bureau lacked any other means to promulgate the rule.”

The Implications

Problematically for the CFPB, the logic of this “linear nexus” between the CFPB’s funding mechanism exists for practically all of the agency’s actions. Pursuant to the Dodd-Frank provisions that created the CFPB, all of its operations have been funded out of the “Bureau Fund” into which quarterly draws from the Federal Reserve are deposited. That is the funding mechanism the Fifth Circuit rejected as unconstitutional. Indeed, while Dodd-Frank also created the agency’s Civil Penalty Fund, the CFPB cannot by statute use those monies other than for limited purposes having to do with victim compensation and financial literacy.

There’s lots of speculation about what will happen next. The CFPB has not indicated whether it will seek en banc review, try its luck with the Supreme Court, or perhaps seek a legislative fix. None of these routes is without substantial risk for the Bureau. Seven of the sixteen judges on the Fifth Circuit who would hear the case en banc have already authored or joined opinions concluding that the CFPB’s funding structure is unconstitutional. The Supreme Court, which already invalidated the CFPB’s leadership structure in Selia Law, now has an even more solid majority that appears poised to closely scrutinize federal agencies on these very issues. And voters have yet to decide the makeup of the 118th Congress.

Takeaway

Given this, covered persons under the CFPB’s regulatory umbrella may consider striking while the iron is hot.

Parties subject to rules issued by the CFPB may consider challenging the CFPB’s activity as the invalid product of the agency’s constitutionally infirm funding structure. Any such challenge has the greatest likelihood of success in the Fifth Circuit: where Community Financial is binding, but as yet stands as the only circuit court to have held the CFPB’s funding structure unconstitutional. While the D.C. Circuit addressed the issue several years ago in In re PHH,[2] numerous questions remain about the viability of its prior ruling. Not only was the majority’s decision there regarding the director-removal provision abrogated by the Supreme Court in Selia Law, many observers believe that its brief, cursory treatment of the appropriations issue cannot be relied upon. Indeed, as the Fifth Circuit also noted, if anything, the subsequent Selia Law cure for the director-removal provision, which vests even more power in the Executive Branch, only exacerbated the separation of powers problem presented by the CFPB’s self-funding mechanism. And while several district courts have also upheld the CFPB’s funding structure, including the Districts of Rhode Island, Maryland, and Montana, the Middle District of Pennsylvania, the Southern District of Indiana, and the Central District of California, none dealt directly with the post-Selia Law issue or meaningfully grappled with the separation of powers arguments that carried the day in the Fifth Circuit.

Similarly, Parties currently subject to CFPB investigation may consider whether to object on the grounds that the investigation is improvidently funded. Some parties engaged in enforcement litigation with the CFPB, both within and even outside the Fifth Circuit, have already pressed for dismissals based on the Fifth Circuit’s decision.

In short, parties should consider their options. While no one can say as yet that the Fifth Circuit’s decision in Community Financial will become law nationwide, it is clear that the decision has exposed a significant threat to the very existence of the CFPB.

[1] Cmty. Fin.l Servs. Ass’n of Am., Ltd. v. Consumer Fin. Prot. Bureau, No. 21-50826 (5th Cir. Oct. 19, 2022), available at http://www.ca5.uscourts.gov/opinions/pub/21/21-50826-CV0.pdf.

[2] PHH Corp. v. Consumer Fin. Prot. Bureau, 881 F.3d 75, 95 (D.C. Cir. 2018) (en banc), overruled in part by Seila Law LLC v. Consumer Fin. Prot. Bureau, 140 S. Ct. 2183 (2020).

CFPB Sues MoneyLion over Membership Program, Uses Military Lending Act as Hook

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A&B Abstract:

On September 29, 2022, the Consumer Financial Protection Bureau (“CFPB”), sued MoneyLion Technologies Inc. and 37 of its subsidiaries (“MoneyLion”) in New York federal court for violations of the Military Lending Act (the “MLA”) and Consumer Financial Protection Act (“CFPA”).

The Allegations

The CFPB alleges that MoneyLion offered installment loans that consumers could not access unless they enrolled in a membership program with monthly membership fees.  While MoneyLion represented to consumers that they “had the right to cancel their memberships for any reason,” it “maintained a policy prohibiting consumers with unpaid loan balances from canceling their memberships.”

According to the CFPB, MoneyLion’s membership model resulted in violations of the MLA’s 36% APR cap.  Under the MLA’s implementing regulation, APR is calculated as including “fee[s] imposed for participation in [an] arrangement for consumer credit.”  Based on this, the CFPB argues that the membership fees MoneyLion required servicemembers to pay to gain access to installment loans must be included in those loans’ APR.  If correct, those loans’ APR would unlawfully exceed 36%.

The CFPB also alleges that the installment loans to servicemembers violated the MLA by containing unlawful arbitration clauses and failing to contain required disclosures.

Lastly, the CFPB alleges that MoneyLion’s membership model resulted in unfair, deceptive, and abusive acts or practices under the CFPA. Particularly, the CFPB alleges that MoneyLion misled and injured consumers by representing to consumers that they had the right to cancel their memberships when, in fact, they did not.

Takeaways

The MoneyLion suit serves as a good reminder that every lending program should: (i) account for the additional protections provided to uniquely situated borrowers, such as servicemembers under the MLA; (ii) scrutinize any fees paid by consumers that could be viewed as increasing a loan’s APR; and (iii) review representations they make to consumers to align with the commercial realities and the regulatory requirements of the products they offer.

CFPB and DOJ Announce Redlining Settlement Against Non-Bank Mortgage Lender

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A&B Abstract:

On July 27, 2022, the Consumer Financial Protection Bureau (“CFPB”) and the US Department of Justice (“DOJ”) entered into a settlement with Trident Mortgage Company (“Trident”), resolving allegations under the Equal Credit Opportunity Act (“ECOA”) and the Fair Housing Act that the non-bank mortgage lender intentionally discriminated against majority-minority neighborhoods in the greater Philadelphia area. This settlement is the first redlining enforcement action against a non-bank mortgage lender and evidences the government’s continued focus on “modern-day redlining.”

The Settlement Terms

The Trident settlement, which requires the lender to pay over $22 million, resolves allegations that Trident, through its marketing, sales, and hiring actions, “discouraged” prospective applicants in the greater Philadelphia area’s majority-minority neighborhoods from applying for mortgage and refinance loans. However, much like the CFPB’s lawsuit against Townstone Financial, Inc. (“Townstone”), the settlement does not indicate that Trident treated neighborhoods or applicants differently based on race or ethnicity. Instead, the crux of the settlement is that Trident did not take sufficient affirmative action to target majority-minority neighborhoods. This, coupled with Trident’s mortgage lending reporting under the Home Mortgage Disclosure Act (“HMDA”), ultimately subjected the lender to enforcement.

Specifically, the CFPB’s press release notes that: (1) only 12% of Trident’s mortgage loan applications came from majority-minority neighborhoods, even though “more than a quarter” of neighborhoods in the Philadelphia MSA are majority-minority; (2) 51 out of Trident’s 53 offices in the Philadelphia area were located in majority-white neighborhoods; and (3) all models displayed in Trident’s direct mail marketing campaigns “appeared to be white;” (4) Trident’s open house flyers were “overwhelmingly concentrated” in majority-white neighborhoods; and (5) Trident’s online advertisements appeared to be for home listings “overwhelmingly located” in majority-white neighborhoods.

Similar to the Townstone lawsuit, the settlement does not indicate that Trident explicitly excluded certain neighborhoods or prospective applicants or actually discouraged applicants from majority-minority neighborhoods, only that such applicants “would have been discouraged.” While both the Townstone lawsuit and the Trident settlement reference remarks made by employees in their internal communications, there is no indication that employees ever made offensive or discouraging statements to prospective applicants of any neighborhood. Nevertheless, the CFPB settlement requires Trident to pay $18.4 million into a loan subsidy program to increase the credit extended in majority-minority neighborhoods in the Philadelphia MSA; $4 million in civil money penalties; $875,000 toward advertising in majority-minority neighborhoods in the Philadelphia MSA; $750,000 toward partnerships with community-based organizations; and $375,000 toward consumer financial education. The settlement also requires Trident to open and maintain four (4) branch offices in majority-minority neighborhoods of the MSA.

Takeaways

The Trident settlement is noteworthy for various reasons. In addition to being the first government redlining settlement with a non-bank mortgage lender, the resolution involves a variety of parties, including the CFPB, DOJ, and the states of Pennsylvania, New Jersey, and Delaware. Further, the settlement once again highlights that insufficient marketing and outreach in minority neighborhoods may be considered sufficient  actionable under ECOA and the Fair Housing Act. Indeed, it appears that a lender’s failure to precisely align its lending patterns with the geography’s demographics may serve as the basis of a redlining claim, even absent specific allegations of intentional exclusion or other discrimination. Finally, the settlement demonstrates that even a lender no longer in operation (Trident stopped accepting loan applications in 2021) is still a worthy defendant in the government’s eyes.

Joint Trade Associations Reject the CFPB’s “Discrimination-Unfairness” Theory

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In a June 28 letter to Director Chopra and accompanying White Paper and press release, the ABA, CBA, ICBA, and the U.S. Chamber of Commerce have called on the Consumer Financial Protection Bureau (CFPB or Bureau) to rescind recent revisions made to its UDAAP examination manual that had effectuated the CFPB’s controversial theory that alleged discriminatory conduct occurring outside the offering or provision of credit could be addressed using “unfairness” authority. The White Paper characterized the primary legal flaws in the CFPB’s action as follows:

  • The CFPB’s conflation of unfairness and discrimination ignores the text, structure, and legislative history of the Dodd-Frank Act. For example, the Dodd-Frank Act discusses “unfairness” and “discrimination” as two separate concepts and defines “unfairness” without mentioning discrimination. The Act’s legislative history refers to the Bureau’s antidiscrimination authority in the context of ECOA and HMDA, while referring to the Bureau’s UDAAP authority separately.
  • The CFPB’s view of “unfairness” is inconsistent with decades of understanding and usage of that term in the Federal Trade Commission Act and with the enactment of ECOA. Congress gave the CFPB the same “unfairness” authority that it gave to the Federal Trade Commission in 1938, which has never included discrimination. It makes no sense that Congress would have enacted ECOA in 1974 to address discrimination in credit transactions if it had already prohibited discrimination through the FTC’s unfairness authority. For the same reason, Congress could not have intended in 1938 for unfairness to “fill gaps” in civil rights laws that did not exist.
  • The CFPB’s view is contrary to Supreme Court precedent regarding disparate impact liability. The CFPB’s actions and statements indicate it conflates unfairness with disparate impact, or unintentional discrimination. The Supreme Court has recognized disparate impact as a theory of liability only when Congress uses certain “results-oriented” language in antidiscrimination laws, e.g., the Fair Housing Act. The Dodd Frank Act neither contains the requisite language, nor is it an antidiscrimination law.
  • The CFPB’s action is subject to review by courts because it constitutes final agency action – a legislative rule – that is invalid, both substantively and procedurally. The CFPB’s action carries the force and effect of law and imposes new substantive duties on supervised institutions. However, the Bureau did not follow Administrative Procedure Act requirements for notice-and-comment rulemaking. Additionally, the CFPB’s interpretation is not in accordance with law and exceeds the CFPB’s statutory authority. The CFPB’s action should be held unlawful and set aside.
  • The CFPB’s action is subject to Congressional disapproval under the Congressional Review Act. A Member of Congress can request a GAO opinion on whether the CFPB’s actions are a rule, which can ultimately trigger Congressional review using the procedures established in the Congressional Review Act.

The White Paper concludes:

“Such sweeping changes that alter the legal duties of so many are the proper province of Congress, not of independent regulatory agencies, and the CFPB cannot ignore the requirements of the Administrative Procedures Act and Congressional Review Act. The CFPB may well wish to ‘fill gaps’ it perceives in federal antidiscrimination law. But Congress has simply not authorized the CFPB to fill those gaps. If the CFPB believes it requires additional authority to address alleged discriminatory conduct, it must obtain that authority from Congress, not take the law into its own hands. The associations and our members stand ready to work with Congress and the CFPB to ensure the just administration of the law.”

Take-away:

The position taken in the White Paper that the CFPB’s actions were contrary to law may be an indication that the trade groups intend to mount an APA legal challenge. Alternatively, the arguments made could in theory form a defense to any CFPB supervisory or enforcement action premised upon its new “discrimination-unfairness” theory. Financial institutions subject to CFPB examination would be well-advised to consider the arguments raised by the groups.

Did the CFPB Have Authority to Issue its RFI Regarding Employer-Driven Debt?

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A&B Abstract

The CFPB’s statutory authority to issue a recent request for information (RFI) regarding employer-driven debt is in doubt, which may affect the utility of any comments submitted in response to its request.

Background

On June 9, the CFPB issued an RFI Regarding Employer-Driven Debt. The RFI seeks comment on several areas of inquiry relating to “employer-driven debts,” including prevalence, pricing and other terms of the obligations, disclosures, dispute resolution, and the servicing and collection of these debts.

The CFPB defines employer-driven debts as “debt obligations incurred by consumers in the context of an employment or independent contractor arrangement.” The CFPB further states that these debts “appear to involve deferred payment to the employer or an associated entity for employer-mandated training, equipment, and other expenses.” The CFPB provides two examples of such debts:

  • Training Repayment Agreements that require workers to pay their employers or third-party entities for previously undertaken training provided by an employer or an associated entity if they separate voluntarily or involuntarily within a set time period.
  • Debt owed to an employer or third-party entity for the up-front purchase of equipment and supplies essential to their work or required by the employer, but not paid for by the employer.

The CFPB states that it is seeking input from the public as part of its mandate to “monitor[] markets for consumer financial products and services to ensure that they are fair, transparent, and competitive.” This statement is an amalgamation of two separate statutory provisions. The first, found in Section 1021(a) of the Dodd-Frank Act states that the CFPB shall use its authorities consistently for the purpose of ensuring that “markets for consumer financial products and services are fair, transparent, and competitive.” The second, found in Section 1022(c), states that in order to support its rulemaking and other functions, the CFPB shall “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.” Note that both provisions refer to consumer financial products and/or services. Sections 1002(5) and (15) define a “consumer financial product or service” in the context of extending credit as a loan that is “offered or provided for use by consumers primarily for personal, family, or household purposes.”

The CFPB’s RFI does not explain how debts incurred by employees for the purchase of essential work training or equipment constitute consumer credit. However, the CFPB’s own rules are illustrative. For instance, Regulation Z, which implements the Truth In Lending Act, defines consumer credit as credit “offered or extended to a consumer primarily for personal, family, or household purposes.” 12 C.F.R. 1026.2(a)(12). Regulation Z further sets forth factors for distinguishing business-purpose loans from consumer-purpose loans. 12 C.F.R. 1026.3(a) and Official Interpretation 3(a)-3. For example, one factor to be considered is the relationship of the borrower’s primary occupation to a financed acquisition. According to the CFPB, “the more closely related, the more likely it is to be business purpose.” Also, according to another factor, credit extensions by a company to its employees constitute consumer-purpose credit only “if the loans are used for personal purposes.”

As described by the CFPB, debts incurred by employees to defer payment to employers for employer-mandated training, equipment, and other expenses do not appear to be consumer-purpose loans because they finance acquisitions that are directly related to the employees’ jobs and are not used for personal purposes. Accordingly, employer-driven debt does not appear to be either consumer credit or a consumer financial product or service. Because the CFPB’s statutory purpose and market monitoring authority are limited to “consumer financial products and services,” and because the CFPB referred to no other legal authority in its RFI, the CFPB does not appear to have articulated an adequate statutory basis for its issuance.

If the CFPB lacks jurisdiction over the subject matter of the RFI, then it is also prohibited from expending funds to issue the RFI. Section 1017(c) provides that CFPB funds can only be used to pay for expenses incurred in “carrying out its duties and responsibilities.” If employer-driven debt is not a consumer financial product or service, then monitoring such debt is not within the duties or responsibilities of the CFPB, and the CFPB may not expend funds in issuing its RFI.

Takeaway

Monitoring the operation of labor markets or the effects of the emergence of employer-driven debt may be useful. However, Congress appears not to have assigned the CFPB this task, which raises questions about the legality of the CFPB’s RFI and the utility of any comments submitted in response.