CFPB Lawsuit Against Subprime Auto Lender Seeks To Regulate Through Enforcement

Client Alert

On January 4, 2023, the Consumer Financial Protection Bureau (“CFPB”) and New York Attorney General (“NYAG”) filed a complaint in the Southern District of New York against a Michigan-based subprime indirect auto lender accusing it of, among other things, misrepresenting the true cost of credit and improperly incentivizing dealers to mislead consumers into purchasing add-on products. The company’s side of the story isn’t public at this point, but the legal theories asserted in the complaint raise serious concerns about the CFPB using its UDAAP authority to attempt to impose new requirements that contradict or add to existing law.

The 59-page complaint makes a slew of allegations concerning alleged misconduct by the company, such as encouraging dealers to finance consumers who are not expected to be able to repay and failing to police alleged dealer misconduct. We focus here on three legal theories that exemplify “pushing the envelope” of the CFPB’s authority.

First, the lawsuit alleges that the company used its underwriting not to vary the interest rate charged to consumers or to decide whether to finance them at all, but instead to project the total amounts it would collect from the consumer on those installment contracts (incorrectly referred to as “loans” by the CFPB), which in turn determined the amount the company would pay dealers for the contracts. This allegedly incentivized dealers to inflate the amount financed by selling vehicles at an artificially increased price or selling company-approved add-on products, resulting in an alleged “hidden” finance charge. But pricing is in the control of the dealer, and the CFPB admits that the company restricts dealers from increasing prices beyond 115% of the highest Black Book or Blue Book value. Moreover, the Official Interpretation of Regulation Z expressly provides that “[c]harges absorbed by the creditor as a cost of doing business are not finance charges, even though the creditor may take such costs into consideration in determining . . . the cash price of the property or service sold.” 12 C.F.R. § 1026, Supp. I, cmt. for 1026.4, ¶ 4(a)(2) (emphasis added). It further states that “[a] discount imposed on a credit obligation when it is assigned by a seller-creditor to another party is not a finance charge as long as the discount is not separately imposed on the consumer.” Id. ¶ 4(a)(2)(i). The complaint notably does not allege that the discount is separately imposed on consumers, and it is silent on what cash prices have been charged by the same dealers. Given that financing contracts are sold at a discount in many types of transactions, the CFPB’s assertion of this theory has broad implications that should concern other consumer finance companies that sell into secondary markets.

Second, the complaint asserts “abusive” practice claims based on the alleged failure to disclose “the magnitude of the harm that would result upon default” and the “risk of defaulting and suffering negative consequences as a result.” The complaint acknowledges that the company made required TILA disclosures including the payment schedule, and the contracts at issue undoubtedly specified the remedies available on default. Thus, the CFPB is taking the position that companies are required to make credit counseling disclosures that Congress has never required. These same claims could be asserted against any finance company, including ones extending financing to prime borrowers.

Finally, the CFPB again has ignored the express exemption of auto dealers from CFPB oversight, baldly asserting that dealers working with the company are both “covered persons” and “service providers” under the Consumer Financial Protection Act. While the lawsuit does not assert claims against the auto dealers directly, the suggestion that dealers can be covered persons or service providers is troubling.

While the lawsuit raises concerns about regulatory overreach, it also underscores the critical importance of monitoring dealer conduct and dealing fairly with consumers. When add-on products are made available, it is critical that consumers be given clear and conspicuous disclosures that the products are optional and cancelable. Here, the company allegedly financed add-on products in nearly 90% of its contracts, a sell-through rate that regulators consider to be evidence of improper sales practices, and it allegedly made it difficult for borrowers to cancel them. Furthermore, the company allegedly received a high volume of complaints concerning dealers requiring the purchase of add-on products to obtain financing, failing to provide consumers with copies of their contracts and improperly controlling the e-sign process; yet it allegedly took little action against the dealers responsible for those complaints. Given well-established regulatory concerns in these areas, auto finance companies should be making these issues a high priority in managing compliance.

Should you have any questions or need assistance in managing these risks for your company, please contact any of the authors or the Manatt professional with whom you work.



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