March 31, 2013

The CFPB Will Hold Lenders Responsible for Auto Dealers' Lending Practices

The Consumer Financial Protection Bureau (CFPB) released a bulletin last week warning lenders that offer auto loans through car dealerships that the CFPB will hold them responsible for lending practices by  dealers that have a disproportionate impact on protected groups of borrowers.

When a lender allows a dealer to originate auto loans on its behalf, it is referred to as "indirect auto financing."  This arrangement is productive for lenders because it allows them to access potential borrowers at the opportune moment (when they are at the dealership and ready to make a purchase) and for dealers because it enables them to facilitate sales at the opportune moment (without the consumer leaving the showroom to make financing arrangements).  The appeal of such an arrangement is obvious, and accordingly, indirect and direct auto financing is almost ubiquitous in auto dealerships across the U.S. 

The indirect auto financing process usually works in the following way:  The dealer collects information from the buyer/credit applicant and shares it with one or more auto lenders, usually electronically.  The lender then evaluates the credit applicant and decides whether or not to offer a loan.  (Alternatively, a lender may, in some cases, give a dealer underwriting criteria and commit to make loans to qualified applicants or purchase loans made by the dealer to qualified applicants.)  The lender will then usually give the dealer a risk-based interest rate (called the “buy rate”) that is the lowest rate at which the lender is willing to make the loan.  Sometimes, the dealer has the ability to (a) offer the buyer/credit applicant a higher rate, (b) authorize exceptions to the lender's underwriting criteria, and/or (c) change certain terms of the loan based on negotiations with the buyer/credit applicant. 
If the dealer is able to get the buyer/credit applicant to accept an interest rate that is greater than the buy rate, the lender typically will pay the dealer an amount, referred to as a "reserve" or "participation," based on the difference in the buy rate and the interest rate charged.

If a lender regularly participates in credit decisions, even if the loans are closed in the name of the dealer and later sold to the lender, the lender will be deemed a "creditor" under the Equal Credit Opportunity Act (ECOA) and Regulation B.  The ECOA and Reg. B  prohibit a lender from making a credit decision based on an applicant's race, color, religion, national origin, sex, marital status, age, receipt of income from any public assistance program, and other bases.  The CFPB has made clear that it will hold lenders responsible for discrimination resulting from dealers' practices if the lender should have known about them--even if the lender did not know about them.  

In order to mitigate the risk arising from indirect auto lending, the CFPB offers a number of suggestions to lenders, including, but are not limited to, the following:

  • Ensure the dealers have up-to-date fair lending policy statements;

  • Require fair lending training for all dealer employees involved with any aspect of the credit transactions;

  • Impose controls on dealer policies and practices, and monitor the dealers' implementation, addressing unexplained pricing disparities; 

  • Review dealers' marketing of credit products;

  • Review dealers' transactions for signs of disparate impact;

  • A lender may decide simply to eliminate dealer discretion on interest rates and compensate dealers on a flat fee basis.

The CFPB encourages lenders to take certain immediate steps to address dealers' lending practices.  A couple of these comments are particularly concerning:

First, the CFPB expects lenders to take "prompt corrective action" against dealers when "unexplained disparities" are identified.  This admonishment arises from the CFPB's position on the disparate impact theory. Disparate impact theory is a legal theory adopted by the CFPB under which a policy or practice that, on its face, seems neutral and fair, but in practice results in a different impact on people of one protected group versus another (e.g., a racial group, women, or welfare recipients).  As I have written before, the disparate impact theory operates by shifting the burden of proof from the plaintiff to the defendant-lender so that the defendant-lender must actually prove itself innocent.  Good intentions are not a defense.  The fact that the CFPB will hold a lender liable for even the unintended consequences of a car dealer's practices should be a matter of serious concern to any indirect auto lender.

In addition, the CFPB expects indirect auto lenders to promptly reimburse consumers when unexplained disparities are identified.  Another way of explaining the CFPB's position on this point is that it expects lenders to rapidly begin writing checks to borrowers who voluntarily agreed to enter into transactions on specific terms if the lender finds out that a third-party dealer unintentionally handled lending in a way that seemed to be fair but somehow resulted in different outcomes for a certain group--even before the CFPB or a borrower raises a complaint.  

Whether or not the CFPB is being fair to lenders, all lenders and auto dealers should be aware of the CFPB's stance and position themselves to avoid adverse action (or successfully defend against it) by carefully reviewing and documenting ECOA policies and procedures.  The writing is on the wall, and auto lenders ignore it at their own peril.

March 29, 2013

Consumer Financial Protection Bureau (CFPB) Issues New Rule: No More ATM Fee Stickers and Placards!

If you are a banker, you are probably familiar with the redundant disclosure requirements Congress has imposed on ATM operators for more than a decade.  If you are not a banker, you might have noticed stickers or placards on ATMs in the past that warned that fees would be charged for use of the ATMs.  You might also have noticed that similar disclosures were provided on the electronic screen of the ATMs themselves.  The reason most ATMs bore two notices is that Congress had passed a law requiring duplicative disclosures.  Fortunately for financial institutions and other ATM operators, this is no longer necessary.
ATM Message Photo
 Photo Credit: Martin Eian /

In 1999, Congress passed a law requiring ATM fee disclosures to be both (i) posted “in a prominent and conspicuous location on or at the [ATM],” and (ii) provided on the screen or on a paper notice dispensed from the ATM “after the transaction is initiated and before the consumer is irrevocably committed to completing the transaction.”  The statute further required that the on-screen notice had to include the actual amount of the fee the consumer would be charged, but the physical notice posted “on or at” the ATM only had to state “the fact that a fee is imposed by such operator for providing the service.” If the notices were not both provided, the ATM operater was not allowed to charge any fee for use of the ATM.  The law further created a private right of action (i.e., the right of a private consumer to sue the ATM operator for violations of the law) that could result in an ATM operator being held liable for actual damages, statutory damages for individual or class actions, and costs and attorney’s fees of the plaintiff(s). [See 15 U.S.C. 1693m(a).] 

The industry howled in objection because the double notices did not provide substantively more protection to consumers, although they did expose banks to more risk of liability and litigation.  Plaintiffs and their  lawyers started actively seeking ATMs that posted only one notice and filing lawsuits that resulted in significant settlements.  After about thirteen years (!), Congress finally listened to the industry.  On December 20, 2012, the President signed a bill amending the Electronic Fund Transfer Act (H.R. 4367) to eliminate the requirement that a fee disclosure be physically placed "on or at" an ATM.  Earlier this week, on March 26, 2013, the Consumer Financial Protection Bureau (CFPB) published a final rule in the Federal Register implementing the new legislation. The final rule became effective when published on Tuesday.  From now on, only the on-screen or printed notice is required. The new rule can be found here.

ATM fees have been increasing lately.  Consumers using ATMs not provided by their own financial institution (so-called "foreign" ATMs) typically pay two fees for each transaction. First, the operator of the foreign ATM (which may or may not be a financial institution) frequently charges a fee. A recent survey indicates the average is $2.40.  Second, the user’s own financial institution may charge them for using a foreign ATM.  That charge averages $1.40, according to the same survey. Therefore, the average total charge for using a foreign ATM is $3.80, up more than 150% from 2004, when the average fee was under $1.50.  It should be noted that neither the new rule nor the statute enacted in December 2012 requires an ATM operator to disclose the potential existence or amount of the fee charged by the user's own financial institution.  Typically, the foreign ATM operator has no knowledge of that fee. Instead, the user’s financial institution is required to disclose the fee when the account is opened and on a periodic statement if such a fee is imposed.  The foreign ATM is only required to provide notice of the ATM operator's fees.

[Primary source: CFPB Regulation and Release at 18221 Federal Register Vol. 78, No. 58,
Tuesday, March 26, 2013.]

March 26, 2013

Lenders, Beware! You Might Be Discriminating and Not Even Know It! (HUD Announces Disparate Impact Rule)

In late February, the U.S. Department of Housing and Urban Development (HUD) published final rules that could result in banks being punished for lending discrimination if a lending policy has a different result on one group than another, regardless of whether anyone within the bank actually intended to discriminate.  It is a legal theory called "disparate impact" and it has been highly controversial.

Photo Credit: Håkan Dahlström /

The Fair Housing Act (technically Title VIII of the Civil Rights Act of 1968, as amended) prohibits discrimination in the financing of a home loan on the basis of race, color, religion, sex, disability, familial status, or national origin. HUD, which is given the responsibility for interpreting and enforcing the Fair Housing Act, has the authority to promulgate rules implementing the Act.   

For years, HUD has interpreted the Fair Housing Act as prohibiting any lending practice that results in a different effect on one racial or ethnic group (a disparate impact), regardless of whether there was any intent to discriminate.  The policy or practice may, on its face, seem neutral and fair, but HUD, and a majority of federal circuit courts, are still willing to hold the lender liable.

The disparate impact theory operates by shifting the burden of proof from the plaintiff to the defendant-lender so that the defendant-lender must actually prove itself innocent.  Under this test, the plaintiff must only show that a practice results in, or could be predicted to result in, a discriminatory effect on a protected class (e.g., racial minority group). If the plaintiff can show merely this fact, the burden of proof shifts to the defendant prove that the lending practice is "necessary" to achieve a substantial, legitimate, nondiscriminatory goal. This is a difficult burden to overcome, because the lender must prove more than mere good intentions or commercial reasonableness; it must prove that the practice is a necessary aspect of doing business.  If a defendant can clear this high hurdle, the burden of proof will shift back to the plaintiff to show that the lender's goal could have been achieved by a practice that has a less-discriminatory effect. If the plaintiff can come up with a creative alternative that would achieve the same goal with less disparate impact, the defendant-lender will lose and be liable for damages (both compensatory and punitive) and penalties.

In finalizing the disparate impact rules, HUD concluded that the rule will not have a "chilling effect" on lending, as some commenters on the proposed rule have suggested.  Furthermore, despite an Executive Order requiring HUD to consider the compliance cost on small businesses and perform a cost-benefit analysis on the new rule, HUD declined, concluding (without any evidence) that the rules will "not have a significant economic impact on a substantial number of small entities."  (Some community bankers might beg to differ with these conclusions.)

To illustrate how the disparate impact theory applies in the real world, consider the case of California-based Luther Burbank Savings Bank.  The federal Department of Justice alleged that Luther Burbank violated the Fair Housing Act and the Equal Credit Opportunity Act by setting a policy that had a "disparate impact" on minorities.  Luther Burbank had very tight lending standards and only made jumbo loans.  It required a minimum $400,000 loan amount, had an average 680 FICO score, and an average loan-to-value ratio of 67%.  From 2006 and 2011, a disproportionately small percentage of Luther Burbank's single-family mortgage loans were made to African-Americans and Hispanics as a result of these policies that were racially neutral on their face.  As a result, Luther Burbank was sued by the U.S. Department of Justice.  The Department of Justice did not allege or present any evidence of intentional discrimination... because there wasn't any.  Rather than risk a devastating judgement, Luther Burbank Savings Bank settled with the Justice Department in late 2012 by agreeing to dramatically alter its business model by reducing its minimum loan amount to $20,000 and pledging to give $2.2 million to local community groups, "consumer education programs," and a specialized lending program.  

In sum, now that HUD as made its disparate impact model the law of the entire United States, a lender will need to be able to demonstrate that any policy or practice that results in a disparate impact, or is likely to result in a disparate impact, is necessary to achieve a substantial interest and that no less-discriminatory alternative exists.  

Remember the old saying: "The road to hell criticism, damages and penalties is paved with good intentions."

March 24, 2013

Volunteer Attorneys Helped Thousands during This Year's "Justice 4ALL Ask-A-Lawyer" Day

Volunteer attorneys from across the state converged on eight call centers on the first of March to field legal questions from the public as part of the North Carolina Bar Association's 4ALL Ask-A-Lawyer Day.
Hundreds of lawyers, paralegals, law students, and others volunteered their time to provide free legal assistance to members of the public from 7:00 a.m to 7:00 p.m.  Lawyers fielded 9,712 calls from the public, helping North Carolinians with issues ranging from business law to family law to criminal law. 
NCBA Assistant Executive Director David Bohm explained the source of the thousands of calls: "(The callers are) not just the poor, but people of financial means who need access and don't know where to go."

The statewide coordinators of the 4ALL days were my colleague Stephanie Crosby and Charlotte attorney Trey Lindley.  Local coordinators included several of my friends, and I'd like to publicly acknowledge their contributions here: Harrison Lord (Charlotte); Leslie Van Der Have (Greenville); Dan Hartzog Jr. (Raleigh); and Scott Adams (Winston-Salem).

I participated at the Raleigh call center, which was hosted by WRAL, along with my colleague Devon Williams.  Many of my other colleagues participated at other locations, including the Greenville and Wilmington call centers. 

Matt Cordell volunteering at the 4ALL pro bono event in Raleigh at the WRAL-5 studios.
Here is a video of my colleagues Jenna Butler and Justin Lewis answering calls in Wilmington:

Here is a photo of my colleague Merrill Jones at the call center in Greenville.

March 21, 2013

Governor McCrory Appoints Banking Commissioner

Ray Grace has been appointed Commissioner of Banks by Governor Pat McCrory, according to the News & Observer.

Commissioner Grace was appointed by former Governor Beverly Purdue to serve when then-Commissioner Joe Smith left the position to become the nationwide mortgage settlement czar.  Commissioner Smith's term would have otherwise expired on March 31, 2015.  Despite widespread industry support following Grace's appointment by Governor Purdue, he was not confirmed by the General Assembly, and has therefore been serving as Acting Commissioner since February 2012.

Commissioner Grace served in the Marine Corps during the Vietnam War, after which he went to college and promptly joined the Office of the Commissioner of Banks as a trainee examiner in 1974.  I have previously expressed support for Ray Grace here on the NC Business and Banking Law Blog

Grace's appointment remains subject to confirmation by each house of the N.C. General Assembly pursuant to the newly-enacted banking statute (N.C.G.S § 53C‑2‑2(a)).  If confirmed, he will serve a four-year term beginning on April 1, 2013.

Commissioner Ray Grace addresses bank directors at the NC Bankers Association Directors Assembly in February 2013.  Photo by Matt Cordell