Bates Research - 07-19-17
Is the End Near For Mandatory Arbitration Clauses in Consumer Financial Contracts?
Reactions to the issuance of a final rule by the Consumer Financial Protection Bureau (“CFPB”) prohibiting the use of mandatory arbitration clauses to block consumers from filing class action lawsuits have been swift and partisan.
On July 10, the official CFPB announcement quoted CFPB Director Richard Cordray: “arbitration clauses in contracts for products like bank accounts and credit cards make it nearly impossible for people to take companies to court when things go wrong … These clauses allow companies to avoid accountability by blocking group lawsuits and forcing people to go it alone or give up. Our new rule will stop companies from sidestepping the courts and ensure that people who are harmed together can take action together.”
Mr. Cordray’s argument was summarily rejected by Financial Services Committee Chairman Jeb Hensarling (R-TX) who responded: “this bureaucratic rule will harm American consumers but thrill class action trial attorneys…As a matter of principle, policy, and process, this anti-consumer rule should be thoroughly rejected by Congress.”
The Final Rule: What It Is
At issue is a final rule that would prohibit the use of arbitration agreements by providers of certain financial products and services “to bar the consumer from filing or participating in a class action.” These arbitration provisions have become common in consumer contracts and a series of court rulings have upheld their use.
The final rule is a product of the Dodd-Frank Act, which directed the CFPB to provide a report to Congress on the use of pre-dispute arbitration agreements. The CFPB was to issue regulations restricting or prohibiting the pre-dispute agreements use if it found that the rules would be in the “public interest or for the protection of consumers.” In March 2015, the agency delivered its 728-page report. In October of that year, the CFPB convened a Small Business Review Panel to gather feedback from small companies, the public, consumer groups, industry representatives and other interested parties as it began to craft the rulemaking. On May 5, 2016, the Bureau issued its proposed rule. In response, the CFPB received more than 110,000 comments. The effective date of the rule is 60 days following publication in the Federal Register and applies to contracts entered into more than 180 days after that.
The CFPB final rule prohibition applies to a broad spectrum of financial products and services under the oversight of the Bureau. The final rule applies to providers who lend, store, move or exchange money, including banks, credit card issuers, student loan originators, credit reporting agencies and automobile lenders. Further, the final rule imposes a significant reporting obligation requiring any providers who utilize pre-dispute arbitration agreements to collect and submit to the CFPB detailed records relating to any consumer arbitrations.
The Final Rule: What It Is Not
The CFPB final rule is limited to consumer financial agreements. It exempts, specifically “broker-dealers and investment advisers, as well as their employees, agents and contractors, to the extent regulated by the SEC.” One legal analysis suggested that the SEC has the authority to follow the CFPB’s lead: “so far, the SEC has not exercised its authority under Section 921 of the Dodd-Frank Act to restrict the use of arbitration agreements as the CFPB has done, and there is no indication it will do so soon.” The rule also exempts those “regulated by a State securities commissioner as a broker-dealer or investment adviser.”
Other limitations are noteworthy as well. The Dodd-Frank Act barred the use of arbitration agreements in connection with mortgage loans. The Military Lending Act prohibits such agreements as they apply to service-members and their families. Further, there are exemptions for employee benefit offerings, products and services under agencies (SEC and CFTC) that have their own arbitration rules, and for state and tribal governments that have sovereign immunity from private lawsuits.
Meanwhile, the courts and FINRA are also watching developments closely, particularly in light of the Trump administration’s support for mandatory arbitration clauses in a pending Fifth Circuit proceeding (a case involving the DOL Fiducary Rule.) Currently, the administration’s stance differs from FINRA’s position on the issue, which does not allow class-action waivers in arbitration clauses between brokers and customers (see here for a discussion on relevant policy challenges facing FINRA.)
Partisanship and Procedure
Forces are gathering to attack the rule procedurally. Notwithstanding the possible constitutional challenges against the CFPB itself, opponents may also challenge the final rule through the use of the Congressional Review Act, which allows both houses of Congress to vote on resolutions of disapproval for regulations within 60 legislative days of their publication in the Federal Register. Further, should the Financial CHOICE Act (passed by the House in June) become law, it would by its terms repeal the CFPB’s authority to prohibit arbitration. Legal challenges based on claims that the final rule and arbitration study failed to comply with the Dodd-Frank Act and the Administrative Procedure Act may also be argued. As a result, the finalization and implementation of the rule is far from certain. Bates Group will continue to track the process and status of the final rule.