Part I of this alert addressed the DC Circuit’s holding in PHH Corp. v. CFPB that the Consumer Financial Protection Bureau’s single director structure is unconstitutional. Part II addresses the next part of the opinion, where the DC Circuit found that the CFPB misinterpreted the Real Estate Settlement Procedures Act (RESPA), violated due process by retroactively applying the misinterpretation to PHH Corp., and failed to apply RESPA’s statute of limitations in contravention of the Dodd-Frank Act’s authorizing provisions. The decision substantially reins in the CFPB’s power; in response, the CFPB filed a petition for rehearing en banc to the DC Circuit Court of Appeals last Friday.

This alert is the second of a two-part series about the recent PHH Corp. v. CFPB opinion of the United States Court of Appeals for the District of Columbia Circuit involving the Real Estate Settlement Procedures Act (RESPA) and the Consumer Financial Protection Bureau.1 Part I addresses the DC Circuit’s holding that the CFPB’s single director independent agency structure is unconstitutional, and explores the implications of the CFPB being found unconstitutional going forward.

Here, the focus is on the substantive part of the opinion, which is no less a rebuke to the CFPB than the rejection of the single director structure. After finding the CFPB unconstitutional, the DC Circuit also found that the bureau not only misinterpreted RESPA, but also violated “bedrock due process principles” by retroactively applying that misinterpretation to mortgage lender PHH Corp. (PHH). In some ways, these issues could have a much greater impact on how the bureau conducts itself than the constitutionality ruling, and as such, this part of the decision may inform the way companies navigate future CFPB enforcement actions.

Since the opinion was released, two major developments have occurred. First, the election of Donald Trump to the presidency on November 8 has rendered the future of the CFPB much less certain. The President-elect has been clear throughout his campaign that he intends to “get rid of” or “dismantle” the CFPB’s enabling statute, the Dodd-Frank Act. Although it remains unlikely the entire law could be repealed anytime soon, the Republican-controlled Congress may be able to make substantial revisions relatively quickly once President-elect Trump transitions into the White House. What the CFPB may look like under a Trump administration is not addressed in detail here. Nevertheless, the PHH decision only bolsters congressional Republican arguments about CFPB overreach and provides support for changes that President-elect Trump may want to make in the interim.

Second, last Friday the CFPB filed a petition for en banc rehearing of the PHH decision, citing serious concerns about the DC Circuit’s “dramatic and unprecedented ruling.”2 The petition requests review of the holdings that found (1) the CFPB’s single-director structure to be unconstitutional, and (2) that the bureau misinterpreted RESPA.

I. Captive Reinsurance Arrangements and HUD’s RESPA Section 8 Guidance

First, understanding “captive reinsurance arrangements” is critical to understanding the DC Circuit’s opinion. Mortgage lenders like PHH often require certain homebuyers—for instance, those who cannot afford a 20 percent down payment—to buy mortgage insurance that at least partially protects the lender in the event the homebuyer defaults. Then, to protect their own losses, these mortgage insurers frequently purchase mortgage reinsurance, usually paying for it with a portion of the homebuyer’s monthly mortgage insurance. Often, as in PHH’s case, the mortgage lender (PHH) will establish its own reinsurance business (Atrium), and the relationships between and among PHH and the mortgage insurance companies are called “captive reinsurance arrangements.”

Now enter the RESPA concerns that the CFPB has with captive reinsurance arrangements. Section 8(a) of RESPA prohibits companies like PHH from receiving “kickbacks” relating to mortgage lending (paying for a referral, for example).3 Section 8(c), however, provides exceptions to that broad prohibition, including an exception that allows payments for services or goods actually provided.4

Specifically, Section 8(a) provides:

No person shall give and no person shall accept any fee, kickback, or thing of value pursuant to any agreement or understanding, oral or otherwise, that business incident to or a part of a real estate settlement service involving a federally related mortgage loan shall be referred to any person.

And Section 8(c) details safe harbors, including, in relevant part:

Nothing in this section shall be construed as prohibiting… (2) the payment to any person of a bona fide salary or compensation or other payment for goods or facilities actually furnished or for services actually performed.

Prior to the creation of the CFPB under the Dodd-Frank Act, the U.S. Department of Housing and Urban Development was in charge of enforcing Section 8 of RESPA. In 1997 and 2004, HUD released guidance, in the form of letters, confirming that Section 8’s exceptions specifically allowed captive reinsurance arrangements where “the mortgage insurer paid no more than reasonable market value for the reinsurance.” The letter explicitly recommended that the mortgage industry rely on the guidance to legally conduct business under RESPA.

In other words, as long as the PHH reinsurance business did not overcharge for the reinsurance it sold to mortgage insurers (charging more than reasonable market value would constitute an illegal “kickback”), the arrangement was permissible under HUD’s interpretation of RESPA.

With HUD expressly stating that captive reinsurance arrangements were not per se illegal, PHH—and the mortgage industry in general—relied for years upon this interpretation. That is, until the Dodd-Frank Act gave the CFPB authority to enforce Section 8 of RESPA by bringing actions against potential violators.

The CFPB set to work quickly, and, alleging violations of RESPA due to captive reinsurance businesses, it obtained consent orders from companies like Fidelity Mortgage Corporation and Republic Mortgage Insurance Corporation. Issued in 2013 and 2014, around the same time the CFPB instigated its action against PHH, orders like these enjoined companies from participating in captive reinsurance arrangements and required them to pay large penalties. The bureau alleged in these cases that the captive reinsurance arrangements were in fact illegal kickback schemes that constituted violations of Section 8 of RESPA. The CFPB has never issued any guidance or statement reflecting this new interpretation. Until CFPB Director Richard Cordray’s opinion in the PHH matter, which is the subject of the appeal to the DC Circuit, the CFPB had never otherwise indicated that the prohibitions in its consent orders superseded HUD’s previous guidance.

*We would like to thank Senior Law Clerk Nathalie Prescott for her contribution to this alert.