In a move that the financial industry long anticipated but nonetheless greeted with loud groans, the Consumer Financial Protection Bureau (“CFPB”) on October 7, 2015 proposed to ban class action waivers in contracts for consumer financial products and services. Although the proposed ban would not take effect for a few years, it would have a significant impact on banks and nonbank lenders because it is expected to lead to a major increase in class action litigation. Since class action waivers and arbitration clauses have historically gone hand-in-hand in consumer agreements, these provisions have helped stem the tide of class actions in recent years. According to the CFPB, more than half of credit card contracts and 44 percent of checking account agreements contain arbitration clauses, and these provisions are common in auto finance contracts as well.
The CFPB’s announcement came in the form of a 34-page “outline of proposals”1 that must be reviewed by a Small Business Review Panel before the CFPB can begin formal rulemaking. The CFPB discussed its proposals at a field hearing in Denver, where CFPB Director Richard Cordray criticized class action waivers as a “free pass that prevents consumers from holding their financial providers directly accountable for the harm they cause when they violate the law.”2 Industry representatives argued that the proposed class action waiver ban would be harmful because it would encourage frivolous lawsuits. They also argued that it was unnecessary because most consumers are able to resolve their disputes through customer service inquiries or complaint mechanisms operated by the CFPB and the state attorneys general.
Ban Will Likely Take Effect in 2018, Will Not Affect Existing Contracts Pursuant to the Small Business Regulatory Enforcement Fairness Act, the October 7 outline will be reviewed by a Small Business Review Panel. Only after obtaining feedback from the Panel can the CFPB formally propose new regulations for notice and comment. We expect the Panel’s process to take four to eight months,3 with a proposed rule potentially released in the first half of 2016. Following a comment period, the CFPB would consider comments and issue a final rule, possibly by mid-2017. The Consumer Financial Protection Act (“CFPA”) requires that any limits on arbitration apply to customer agreements entered into at least 180 days from the effective date of the final rule, and the CFPB is contemplating an effective date 30 days after the publication of the final rule.4
Thus, like all new CFPB rules, the proposed ban on class action waivers would take several years to draft and implement. Fortunately for financial institutions, even if adopted, it will only impact contracts that are entered into after the rule takes effect – likely no earlier than 2018 – and of course the rules will not impact non-consumer financial contracts.
Given the magnitude of industry opposition to this potential rule, the CFPB may have an incentive to finalize and implement the rule by then because Director Cordray’s five-year term expires in July 2018. Although the CFPA permits the Director to serve beyond the expiration of the term “until a successor has been appointed and qualified,”5 the agency will likely want to complete its changes to the arbitration system well before the White House and Congress begin discussions of a nominee to succeed Director Cordray.
Proposal Follows March 2015 Report to Congress that Foreshadowed a Proposed Ban The CFPB’s proposal follows its release in March 2015 of a 700-page Report to Congress, in which the agency argued that consumers receive far more monetary benefits from class action litigation than from arbitration.6 The March Report fanned the flames of a spirited debate between consumer advocates and industry representatives about the impact of arbitration clauses. Industry has argued that arbitration clauses save financial institutions money, which financial institutions can then pass along to consumers in the form of cheaper and more available credit. The CFPB’s March Report contended that the removal of arbitration clauses did not result in an increase in the cost of credit to consumers. At the October field hearing, Director Cordray said the Report “did not find evidence that credit card companies either increased prices or reduced access to credit when they eliminated their arbitration clauses.”
CFPB Preserves Mandatory Pre-Dispute Arbitration Clauses for Individuals To the extent there is a silver lining for financial institutions in the CFPB’s announcement, it is the fact that the CFPB decided not to propose an outright ban on mandatory arbitration clauses. Indeed, such a ban would likely encounter strong opposition in Congress and the courts, which have repeatedly confirmed federal policy favoring arbitration clauses (as embodied in the Federal Arbitration Act). Instead, the Bureau’s targeted approach proposes to allow pre-dispute arbitration clauses in consumer financial contracts, under two conditions:
- The contract must state that the arbitration clause does not apply to class action litigation, unless and until the class certification is denied by the court or the class claims are dismissed in court. The CFPB expects to provide model contract language.
- Companies must submit to the CFPB all filings made by or against them in consumer financial arbitration disputes, and any decisions resulting from those filings.
The CFPB said that it would use the proposed information collection to monitor the effects of arbitration clauses on the resolution of individual disputes. In his remarks, Director Cordray said that the decision not to ban arbitration clauses for individual disputes “is consistent with the conclusions reached in our study. It is also consistent with rules that the Financial Industry Regulatory Authority has applied to broker-dealers for years, with the approval of the Securities and Exchange Commission.”
But the CFPB’s decision to permit institutions to continue requiring arbitration for individual disputes will not provide much comfort to industry, given that, as the CFPB found in its Report, “companies rarely use their arbitration clauses to block consumers from suing them in individual cases.”7
Financial Institutions Should Prepare for an Increase in Class Action Litigation Even though the proposed ban on class action waivers would not take effect until 2018 or later, financial institutions should redouble their efforts now to ensure they are complying with all consumer financial laws, to avoid any gaps or potential vulnerabilities in 2018. The proposed class action waiver has the potential to increase the level of scrutiny on banks’ practices as much as – if not more than – the creation of the CFPB back in 2010, for the simple reason that, as zealous as the CFPB has been about policing the practices of banks and other lenders, it only has 1,400 employees. By comparison, the size and resources of the class action bar is limited merely by the size of the attorney fees, which will only grow as a result of the increasing number of class actions.