We have been writing and speaking about the significance of Section 1036 of The Dodd-Frank Wall Street Reform and Consumer Protection Act since it became law in 2010. This is the section of the Dodd-Frank Act that undergirds most of the actions that have been brought by the CFPB, resulting in such significant settlements. This section makes it unlawful for any covered person or service provider:

“(A) to offer or provide to a consumer any financial product or service not in conformity with Federal consumer financial law, or otherwise commit any act or omission in violation of a Federal consume financial law; or

(B) to engage in any unfair, deceptive, or abusive act or practice…”

Paragraph (A) seems simple and straight forward enough for most of us to understand what activities are proscribed, and will get us into trouble. However, paragraph (B)—UDAAP—has proven to be problematic.

The Dodd-Frank Act does offer definitions: Acts or practices that are “unfair” are things that are likely to cause substantial injury to consumers, cannot be reasonably avoided and are not in and of themselves, outweighed by countervailing benefits to consumers. “Deceptive” acts or practices are materially misleading actions under the circumstances. And, “abusive” acts or practices are things done that materially interfere with a consumer’s ability to understand the value of the service or product and when such actions take unreasonable advantage of the consumer. These definitions are certainly written in English—but are they helpful?

Before the Dodd-Frank Act created the CFPB, the federal agencies (Federal Reserve Board, Federal Trade Commission, Federal Deposit Insurance Corporation and others) in charge of enforcing the various federal consumer financial laws (Truth-in-Lending Act, Equal Credit Opportunity Act, Fair Credit Reporting Act, Fair Debt Collection Practices Act, etc.) would adopt regulations to add clarity to and expound on the laws. This system worked well for almost 50 years. However, under the Dodd-Frank Act and the CFPB, what we have been faced with are a hodgepodge of “rules” with little organization or structure. Without the passage of time for court rulings to help add clarity, we find ourselves with no guidance—trying to read between the lines in published settlement agreements in order to glean whether actions fall into the world of UDAAP.

Consumer finance companies have been accustomed to dealing in laws and regulations that have clarity and certainty. For example, “annual percentage rate” is a mathematical computation spelled out in TILA and Regulation Z. Another example is that specific language in TILA and Regulation Z instruct creditors how to draw a federal box and what disclosures must go into that box. There are even examples to “go by” in the appendices to the regulation.

Even terms such as “finance charge” have a definition in TILA that is straightforward; and, we have case law that helps clarify and interpret any ambiguity.

But, the terms “unfair, deceptive or abusive”—even as defined in the Dodd-Frank Act—rely largely on the observer to offer a subjective opinion; and, the observer whom we are concerned with is not a judge and jury. Rather, it is the CFPB examiner, and the supervision and enforcement division.

Unlike other federal consumer financial laws that are interpreted by meaningful regulations and even official commentary, the Dodd-Frank Act does not offer a unified set of regulations to add meaningful, helpful clarity to Section 1036. Instead, the law basically allows the CFPB to employ the “smell test” to determine whether the “act or practice” falls under the proscription of a UDAAP.

And, this fact, together with the substantial resources of the federal government and its punishment authority, is what has driven the large settlements against financial services companies without the mounting of a serious challenge in the courts.