Over the past year, the consumer finance sector did a remarkable job in responding to the sudden arrival of the coronavirus disease 2019 (COVID-19) global pandemic, quickly adjusting to remote workforces and virtualized business processes, and providing uninterrupted service amidst unprecedented circumstances. Despite uncertainties around the roll-out and implementation of government relief programs and a patchwork of state and federal measures addressing COVID-19 related economic distress, the industry played a vital role in these efforts while managing defaults and related losses across the economic spectrum.
In 2021, however, the sector may finally have to reckon with troubled assets while operating in a business environment that may never return to many pre-pandemic practices. Although the economy was largely stabilized through regulatory relaxation, stimulus programs and exceptional relief against collections, foreclosures and evictions, the sector is now faced with the process of managing the financial, legal and political fallout from COVID-19 and must continue to work through the debt cycle. Some of the big consumer finance issues on the regulatory and litigation landscape for 2021 may include:
Housing crisis, part two: opening the floodgates
Nationwide, nearly 5% of all mortgages are now in serious delinquency (more than 90 days late) – a rate that exceeds the peak of the 2008 financial crisis – and over 6% of all mortgages are in some form of delinquency. With a vaccine widely available by midyear and the economy on the road to a full reopening, the foreclosure and eviction forbearances will also start dropping off. Although the CARES Act gives borrowers the opportunity to cure, the sheer size of the arrearages will make that difficult, if not impossible, for many. Without additional assistance for homeowners, the result will be an unprecedented flood of activity that is set to overwhelm the foreclosure pipeline. Add in a rental delinquency rate somewhere around 20%, and the country is being primed for another major housing – and political – crisis. Here, however, it will occur in a far more compressed timeframe, which is likely to place never-before-seen amounts of stress on servicing operations, third-party vendors, courts and other key elements of the foreclosure process. In addition to the expected increase in scrutiny from regulators and state attorney generals, with a Biden administration likely to focus on consumer relief and holding Democratic control of Congress, there is a strong likelihood of significant regulatory and enforcement efforts in this area.
If Congress does decide to legislate additional measures to address this crisis, as is expected, likely subjects include consumer bankruptcy reform, student loan relief, enhancing the FTC’s authority to impose civil monetary penalties for unfair or deceptive acts or practices (UDAP) violations under Section 19 of the FTC Act, enabling the CFPB and other prudential regulators to exercise emergency authority to suspend or modify laws (including state laws) and strengthening anti-discrimination protections, including a renewed focus on disparate impact.
A growing regulatory focus on anti-discrimination efforts
Anti-discrimination was a major enforcement issue in 2020, and it looks like the issue will continue to be a significant priority for 2021 for both enforcement actions and regulatory developments. Regulation B, which implements the Equal Credit Opportunity Act (ECOA), has been largely unchanged since it was enacted in 1977. It appears likely that Regulation B will undergo a significant revision effort starting in 2021. If such an effort is undertaken, expect it to include topics such as disparate impact testing, fair lending concerns over the use of AI in underwriting, fair servicing, fair credit compliance programs, special purpose credit programs (something on which the CFPB has already issued an advisory opinion) and efforts to expand access to credit to underserved communities. In addition, in support of the latter, there may be efforts to roll back certain protections that limit availability of credit and raise the cost of doing business in underserved communities. On the enforcement side, in combination with a continued focus on anti-discrimination – particularly fair servicing, should the economic and housing situation continue as expected – there is likely to be an effort to develop standards and public guidance on enforcement actions, emphasizing consistency in the assessment of civil penalties and the terms of consent orders.
A potential shift away from disclosure-based regimes?
A hallmark of the modern era of consumer finance regulation has been the reliance on form disclosures over substantive, principle-based regulations. Under the Biden administration, this may begin to change as regulators look to be more aggressive in seeking to address discriminatory effects and harm to disadvantaged groups. This would also be consistent with growing evidence that the traditional, paper-based disclosures have not been as effective as hoped in leading consumers to more efficient transaction outcomes. Likely subjects for regulation include (i) advertising, where both the CFPB and FTC have been engaging in a consistent stream of enforcement activity against deceptive advertising under UDAP; (ii) credit reporting, which is the CFPB’s largest source of consumer complaints, particularly with respect to consumer dispute procedures and non-traditional data providers; and (iii) data privacy, as the FTC recently sought public input on, and began considering a number of proposed changes to, the Gramm-Leach-Bliley Act Safeguards Rule. Most notable in this area has been Commissioner Rohit Chopra at the FTC, who has repeatedly called for systemic reform and cooperation among state and federal agencies to provide meaningful help for consumers in a variety of cases.
A potential shift toward greater liability for company misconduct
New CFPB and FTC leadership may look for additional avenues of redress in the form of greater monetary penalties for privacy law violations, and personal or individual liability for alleged misconduct by companies. In addition, the FTC and other federal regulators will likely review whether technology platforms should be held accountable for third-party misconduct, including for third-party unfair and deceptive claims, to the third-party collection and use of personal data without adequate notice and choice.
Digital. In response to the accelerated move to digital in virtually every aspect of modern banking and credit transactions, 2021 will likely see a number of initiatives to modernize consumer finance laws and regulations. First, regulators are likely to engage in a comprehensive review of disclosure forms and will look at how to update them for use over the internet and on mobile applications. For example, the CFPB has noted that many disclosure and notice requirements written before the widespread adoption of digital technology are in need of reform – most notably the disclosure and consent requirements of the federal ESIGN Act, which no longer have much utility in a world where many transactions are conducted entirely virtually. In doing so, regulators are likely to address the notable challenges the market has seen in adapting the current paper-based disclosure regime to an electronic environment, as recent judicial decisions made it clear that improperly designed online contracting processes may constitute deceptive acts under UDAP, even though all applicable regulatory requirements governing the content of disclosures have technically been met. In addition, due to the COVID-19 pandemic, the continued pace of state remote online notarization (RON) legislation and regulation will be front and center, which in turn may lead to call again for consideration of the proposed SECURE Act, to create a nationwide uniform standard for RON.
Crypto transactions. It is also noteworthy that institutions are pursuing broader use of virtual or crypto currencies and transactions as a means of efficient and – in some cases – immediate settlement. While speed in settlement has some obvious benefits for institutions and their customers, it also presents the potential to amplify longstanding risks in the industry such as fraud and money laundering. The concepts of immediate and anonymous funds settlement are attractive for some operational and practical reasons, but they are both in potential conflict with customer identification and verification elements of the Bank Secrecy Act (BSA) because those requirements take time to accomplish and are incompatible with payer or payee anonymity. Expect to see this conflict front and center with the growing adoption of virtual and crypto consumer financial services.
Fintech. In addition, as fintech continues to be a keen area of interest, the CFPB and prudential regulators are likely to examine ways to create a stable and consistent regulatory regime for fintech companies while encouraging responsible innovation. Moreover, the CFPB is specifically looking at how to create greater competition in financial services, and fintech is widely viewed as a method to help spur such competition. In particular, the patchwork of state regulations for non-bank providers is seen as an obstacle that makes it difficult for fintech companies to provide efficient, low-cost financial services alternatives broadly across the country. One solution proposed by the Office of the Comptroller of the Currency (OCC) is the creation of special purpose federal charters for financial institutions to offer a limited range of products relative to traditional full-service banks, while still having the National Bank Act’s treatment of federally chartered banks. This approach has been contested mightily by state regulators that would then lose their authority to approval and regulate these institutions. In any event, the creation of a regulatory framework for fintech will likely be a hot topic of discussion going forward in 2021.
State consumer financial services protection agencies
On January 1, 2021, California rolled out its new Department of Consumer Financial Protection and Innovation (DFPI) to “expand our enforcement powers to protect California consumers from pandemic-inspired scams, promote innovation, clarify regulatory hurdles for emerging products and increase education and outreach for vulnerable groups.” The DFPI, which is modeled in many respects on the CFPB, “includes new regulatory powers to protect consumers from unfair, deceptive, or abusive practices committed by currently unlicensed financial services or products. We also now have authority to oversee previously unregulated industries, including debt collectors, rent to own contracts, consumer credit reporting agencies, credit repair agencies and others.” Id. Please see our past Financial Services Alert for more information on the DPFI.
Other states are also implementing their own “baby-CFPBs,” including New York, Virginia, Maryland, Pennsylvania and New Jersey. As these new state regulators begin to exercise their powers, financial services providers will see greater scrutiny of business practices and potentially greater coordination between state and federal regulators on enforcement priorities and actions.
PPP-related enforcement and litigation
When Congress established the PPP, it exempted the SBA from following the typical rulemaking process, while leaving the SBA with very broad discretion in establishing rules for the program. The result was a chaotic rulemaking process, with numerous revisions to supposedly “final” rules. Combined with the provision constantly changing guidance, the result was exceptional confusion among both lenders and borrowers. During the height of the pandemic, regulatory agencies were primarily concerned with stabilization, and the Department of Justice (DOJ) was concerned with only the most egregious PPP fraud schemes. But, as the pandemic winds down, regulators and the DOJ are likely to start looking at PPP loans with greater focus and nuance. In particular, regulatory examinations are likely to scrutinize compliance issues in PPP loans under both the PPP-specific regulations and generally applicable regulations, most notably fair lending rules, False Claims Act liability and compliance with BSA and know-your-customer (KYC) requirements and the other signer authentication and attribution issues associated with the use of electronic signatures in connection with loan applications and forgiveness purposes. In addition, as borrower scrutiny increases, private litigation may arise as borrowers attempt to assert lender liability claims or interplead lenders to mitigate liability in civil enforcement actions brought by the DOJ.