On May 5, 2016, the Consumer Financial Protection Bureau (the CFPB) released its Notice of Proposed Rulemaking (the Proposed Rule) proposing to prohibit the use of arbitration agreements to block class actions in certain contracts for consumer financial products and services. The Proposed Rule builds on the CFPB’s March 2015 Arbitration Study and largely mirrors the October 2015 Outline of Proposals of its Small Business Advisory Review Panel for Potential Rulemaking on Arbitration Agreements. In this Advisory, we break down the top 5 things every company needs to know about the CFPB’s proposal to reshape the way banks and other consumer financial services companies resolve disputes with their customers.
#1: What does the Proposed Rule seek to do?
The Proposed Rule is simultaneously sweeping and simple. First, it would prevent companies that provide covered consumer financial products and services (as described under #2 below) from invoking a pre-dispute arbitration agreement to stop consumers from filing or participating in a class action filed in court. Second, it would require companies to submit information to the CFPB concerning arbitrations conducted under agreements covered by the Proposed Rule.
With respect to the first requirement, the Proposed Rule seeks to require contracts that include a pre-dispute arbitration agreement for a covered consumer financial product or service to state: “We agree that neither we nor anyone else will use this agreement to stop you from being part of a class action case in court. You may file a class action in court or you may be a member of a class action even if you do not file it.”
With respect to the second requirement, the records that would be required to be filed with the CFPB under the Proposed Rule include the consumer’s initial claim, the pre-dispute arbitration agreement, the award issued, and any communication the company receives from the arbiter relating to a determination that the pre-dispute arbitration agreement does not comply with the arbitration administrator’s fairness principles or rules.
#2: Who does the Proposed Rule cover?
The Proposed Rule covers “a variety of consumer financial products and services that the Bureau believes are in or tied to the core consumer financial markets of lending money, storing money, and moving or exchanging money.”
- most types of consumer lending, such as making loans or issuing credit cards;
- activities relating to consumer lending, such as providing referrals, servicing, credit monitoring, debt relief, and debt collection services;
- storing funds or other monetary value of consumers, such as providing deposit accounts; and
- providing consumer services related to the movement or conversion of money, such as transmitting and exchanging funds, check cashing, and accepting financial data from a consumer, or providing a product or service to accept such data, for the purpose of initiating a payment or credit or charge card transaction for the consumer.
The Proposed Rule provides an illustrative list of the types of covered companies:
banks, credit unions, credit card issuers, certain automobile lenders, auto title lenders, small-dollar or payday lenders, private student lenders, payment advance companies, other installment and open-end lenders, loan originators and other entities that arrange for consumer loans, providers of certain automobile leases, loan services, debt settlement firms, foreclosure rescue firms, certain credit service/repair organizations, providers of consumer credit reports and credit scores, credit monitoring service providers, debt collectors, debt buyers, check cashing providers, remittance transfer providers, domestic money transfer or currency exchange service providers, and certain payment processors.
#3: What and who are outside the scope of the Proposed Rule?
Despite the breadth of the Proposed Rule, the CFPB included several important general limitations on its coverage:
- The Proposed Rule only concerns consumer financial products and services and thus does not affect contracts that are for financial products or services primarily for a business purpose and are not delivered, offered, or provided in connection with consumer financial products or services.
- Since 2010, Section 1414(e) of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act) has already prohibited the use of arbitration agreements in the single largest market for consumer credit—mortgage loans.
- Companies would still be able to require the arbitration of individual disputes and to use various non-arbitration liability and lawsuit mitigation strategies, such as waiver of jury trial, exclusive-forum provisions, and various forms of damage caps and limitations. (What covered companies would not be able to do is invoke an arbitration agreement to prevent a consumer from filing or participating in a class action in court.)
- The Proposed Rule expressly acknowledges that some customer agreements may include covered and non-covered products. The CFPB is clear that companies would be required to comply with the Proposed Rule “only for the products or services that it offers or provides that are covered” by the rule. And in a nod to practicality, the Proposed Rule includes alternative language for companies to use in such contracts.
The Proposed Rule also excludes certain persons from coverage, including:
- Merchants. The Proposed Rule provides some relief for merchants, retailers, and other sellers of nonfinancial goods and services (merchants). In general, merchants who provide credit directly to a consumer for the purpose of allowing the consumer to purchase a nonfinancial good or service directly from the merchant would not be covered unless: (1) the merchant or the nonfinancial good or service, or both, falls outside the limitations on the CFPB’s authority in Section 1027 or Section 1029 of Title X of the Dodd-Frank Act (Title X); and (2) (A) the credit extended significantly exceeds the market value of the nonfinancial good or service; (B) the sale of the nonfinancial good or service is a subterfuge to avoid regulation; or (C) the merchant regularly extends credit that is subject to a finance charge. We have advised merchants on their potential eligibility for these and other exclusions from the CFPB’s authority.
- Persons Engaged in Activities Already Excluded under Title X. Sections 1027 and 1029 of Title X include exclusions for auto dealers and for persons engaged in activities such as real estate brokerage, legal services, and insurance. The Proposed Rule does not encroach on these exclusions.
- Broker-Dealers. Broker-dealers subject to regulation by the Securities and Exchange Commission are not covered under the Proposed Rule.
- Tribal and Governmental Entities. The Proposed Rule does not cover consumer financial products offered by the federal government or its affiliates. It also excludes state, local, and tribal governments, and their affiliates, to the extent they are providing a covered product directly to a consumer who resides in that government’s territorial jurisdiction.
#4: If adopted, when will the Proposed Rule become effective?
Comments on the Proposed Rule are due by August 22, 2016. While we expect the CFPB to move quickly to issue a final rule, that process will take several months, at a minimum. The CFPB has proposed an effective date for the final rule of 30 days after publication.
As a general matter, the requirements of the Proposed Rule would be prospective and not retrospective. Under Section 1028(d) of Title X, the final rule will apply to contracts “entered into” more than 180 days (approximately 6 months) after the effective date of the final rule (the Implementation Date). The CFPB interprets the phrase “entered into” to mean any circumstance in which a person agrees to undertake obligations or gains rights in an agreement. The Official Commentary provides three illustrative scenarios of when a contract used before the Implementation Date would be considered “entered into” after the Implementation Date (and thus would be subject to the final rule):
- The company adds a new product or service under a contract that contains a pre-dispute arbitration agreement, and the company is a party to the pre-dispute arbitration agreement. The CFPB specifically excluded from this example new charges on a credit card covered by a pre-dispute arbitration agreement entered into before the Implementation Date.
- The company purchases or acquires a product covered by the final rule that is subject to a pre-dispute arbitration agreement and becomes a party to that agreement, even if the person selling the product is excluded from coverage.
- The company adds a pre-dispute arbitration agreement to an existing product or service.
#5: What should my company be thinking about in response to the Proposed Rule?
The Proposed Rule, if finalized, would usher a new era in how companies offering consumer financial products and services resolve consumer disputes and mitigate potential liability arising therefrom. Of the numerous considerations at play, we would highlight a few:
- Review your customer contracts. All companies should consider (1) what customer agreements are exposed to the Proposed Rule, and (2) how the Proposed Rule will impact the terms of those agreements and your customer relationships. For example, for companies offering multiple products and services, do you want to include the CFPB’s “alternative” language, or do you want customers to sign separate agreements for covered and non-covered products? If you choose separate agreements, will it create unnecessary friction and impede customer acquisition? The generally prospective nature of the Proposed Rule, and 180-day period between the eventual adoption of the final rule and the Implementation Date, provides an opportunity for companies to reevaluate their strategy as to pre-dispute arbitration agreements in advance of the Implementation Date.
- Consider ways to mitigate risk. Companies should consider whether they qualify for an exclusion or could otherwise remain outside the Proposed Rule’s coverage. This is especially true for merchants. For example, are you a merchant who is covered by the Proposed Rule because you regularly offer credit that includes a finance charge? How much exposure to class action litigation do you have? If that exposure is substantial, should you consider modifying your credit product (for example, removing the finance charge) in light of the Proposed Rule? If you are not in a position to modify your products or services or otherwise remain outside the Proposed Rule’s coverage, review your practices, policies, and procedures to assess and mitigate your class action exposure.
- Consider submitting a public comment. Your company may have numerous reasons to publicly comment on the Proposed Rule, either individually or through a trade association. The public comment process allows companies to make general comments (for example, regarding the CFPB’s general conclusion that prohibiting companies from invoking arbitration to prohibit class actions is “in the public interest and for the protection of consumers”) and to indicate support or disapproval for specific aspects of the CFPB’s approach.
- Keep tabs on pending legislation. There are also ongoing efforts in Congress, including substantive legislation and funding restrictions on the CPFB in a pending appropriations bill, to delay the Proposed Rule or require more thorough analysis before it is finalized.