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Webinar Recap: The CFPB's Expanding Oversight of Auto Finance, Part I
On October 1, 2014, Buckley Sandler hosted a webinar, The CFPB’s Expanding Oversight of Auto Finance, Part One. Through an examination of the Consumer Financial Protection Bureau’s (CFPB) authority, recent enforcement activities, and discussion of the exam process, John Redding, Michelle Rogers, andMarshall Bell explored the different areas of the auto finance industry coming into the CFPB’s focus.
Buckley Sandler will present The CFPB’s Expanding Oversight of Auto Finance, Part Two on October 30, 2014.
Explaining the Larger Participant Rule
Since its creation, the CFPB has held statutory authority to supervise nonbank institutions who are “a larger participant of a market for other consumer financial products or services.” On September 17, 2014, the CFPB proposed a rule defining a market for “automobile financing” and “larger participants” within that market. Under this proposed rule:
- A nonbank institution is a larger participant in the auto finance market if it “has at least 10,000 aggregate annual originations,” which includes:
- Credit granted for the purpose of purchasing an automobile
- Refinancings
- Automobile leases
- Purchases of extensions of credit and leases
- An “automobile” includes any self-propelled vehicle used primarily for a consumer purpose for on-road transportation, except for certain identified vehicle types, including recreational vehicles, motor scooters and limited others
- Affiliates are included in calculations but dealers are excluded
Supervisory & Enforcement Activities & Trends
Our attorneys noted that potential fair lending issues resulting from dealer “reserve” (also known as “participation”), which is the amount paid based on the difference between the buy rate and contract rate, remains the CFPB’s top area of focus in auto finance at this time, though the CFPB is expected to expand its focus beyond fair lending in the near future. They identified ancillary products, debt collection, and credit reporting as likely areas of CFPB expansion and noted that while the CFPB does not have authority to enforce the Sevicemembers’ Civil Relief Act (SCRA), the Bureau may rely on its Unfair, Deceptive, Abusive Acts and Practices (UDAAP) authority in seeking to extend its authority with respect to SCRA claims. The panelists went on to identify specific areas of CFPB interest under each area of enforcement.
Outlining the Exam Process
Each panelist is experienced in working with the CFPB, including in the examination context. They offered their insights on working with the CFPB to negotiate modifications of timing and scope of examination requests, educating examiners on business operations, and responding to Potential Action and Request for Response (PARR) and Notice and Opportunity to Respond and Advise (NORA) letters. Our panelists stated that ECOA exams of creditors are one of the most common CFPB examinations in the auto finance industry, reviewing the following three aspects of transactions:
- Buy rates
- Mark up
- Underwriting decisions
The exam process may include:
- Initial information request/ “first day letter”
- Request for transactional data
- Discussions to clarify exam scope, responsibilities, resources and document control
- Presentations of key operational processes
- Statistical testing to detect potential disparities on a prohibited basis in underwriting outcomes, buy rates or “mark up”
- Notification of alleged violations or concerns may be communicated by:
- “Soft exit” meeting or formal exit meeting
- PARR/NORA letter
- Written examination report
- Informal discussion
- A nonbank institution is a larger participant in the auto finance market if it “has at least 10,000 aggregate annual originations,” which includes:
Federal Register Publishes Proposed Rule On CFPB Oversight Of Nonbank Auto Finance Companies
On October 8, the CFPB published a rule proposing oversight of larger nonbank auto finance companies for the first time at the federal level. The proposed rule will “amend the regulation defining larger participants of certain consumer financial product and service markets by adding a new section to define larger participants of a market for automobile financing.” Under the new section, a market would be defined to include: (i) grants of credit for the purchase of an automobile, refinancings of such credit obligations, and purchases or acquisitions of such credit obligations (including refinancings); and (ii) automobile leases and purchases or acquisitions of such automobile lease agreements. Previously, on September 17, the CFPB released information regarding its resolve to supervise and enforce auto finance companies’ compliance with consumer financial laws, including fair lending laws. Comments on the proposed rule must be received on or before December 8, 2014.
CFPB Offers More Details On Plans To Supervise Auto Finance Market
On September 17, the CFPB released new information about its plans to supervise and enforce auto finance companies’ compliance with consumer financial laws, including fair lending laws. As it indicated it would earlier this year, the CFPB released a proposed rule that would allow it to supervise certain nonbank auto finance companies. Also as previously promised, the CFPB published a white paper on its method to proxy for race and national origin in auto finance transactions. Finally, the CFPB published its most recent Supervisory Highlights report, which is dedicated to its supervisory findings at depository institutions with auto finance operations.
The CFPB released the materials in connection with its September 18th field hearing on auto finance issues. These actions come roughly 18 months after the CFPB first provided guidance to auto finance companies regarding its expectations related to dealer “reserve” (or “participation”) and fair lending.
Larger Participant Rule
The Dodd-Frank Act grants the CFPB authority to supervise, regardless of size, nonbanks offering (i) certain mortgage-related products and services; (ii) private education loans; and (iii) payday loans. The CFPB also has the power to supervise “larger participants” in any other market for consumer financial products or services, provided that it first conducts a rulemaking to define “larger participants” within a particular market.
As proposed, the CFPB’s auto finance larger participant rule would allow the agency to supervise any nonbank finance company that has at least 10,000 aggregate annual originations. The rule would define “annual originations” as grants of credit for the purchase of an automobile, refinancings of such credit obligations and any subsequent refinancings thereof, and purchases or acquisitions of such credit obligations (including refinancings). It would also include “automobile leases” and purchases or acquisitions of automobile lease agreements. The rule would define “automobile” to include “any self-propelled vehicle primarily used for personal, family, or household purposes for on-road transportation” and to exclude “motor homes, recreational vehicles (RVs), golf carts, and motor scooters.”
The CFPB estimates the rule as proposed will allow it to oversee roughly 38 auto finance companies that the CFPB believes “originate around 90% of nonbank auto loans and leases.” As proposed the rule would not apply to title lending or the securitization of automobile loans and leases, but the CFPB requests comment on an approach that would include such activities. The rule also would not apply to auto dealers or to depository institutions.
Comments on the proposal are due 60 days after the proposed rule is published in the Federal Register.
Proxy Methodology White Paper
Since releasing its guidance on auto finance fair lending—which the CFPB has characterized as a restatement of existing law and which sought to establish publicly the CFPB’s grounds for asserting violations of ECOA against bank and nonbank auto finance companies for alleged “discretionary pricing policies”—the CFPB has faced pressure from industry stakeholders and lawmakers who have challenged the Bureau to provide additional information to support its approach to determining disparate impact.
The CFPB now provides additional information regarding one aspect of that approach—its method to proxy for race and national origin in the auto finance market, where such data is not collected as part of the financing process. The white paper reiterates that in conducting fair lending analysis of non-mortgage credit products in both supervisory and enforcement contexts, the CFPB’s Office of Research (OR) and Division of Supervision, Enforcement, and Fair Lending (SEFL) rely on a “Bayesian Improved Surname Geocoding (BISG)” proxy method. That method combines geography- and surname-based information into a single probability for race and ethnicity. The paper is intended to explain the construction of the BISG proxy currently employed by OR and SEFL and purports to assess the performance of the BISG method using a sample of mortgage applicants for whom race and ethnicity are reported. The CFPB asserts that “research has found that this approach produces proxies that correlate highly with self-reported race and national origin and is more accurate than relying only on demographic information associated with a borrower’s last name or place of residence alone.”
In its paper, the CFPB states that “it does not set forth a requirement for the way proxies should be constructed or used by institutions supervised and regulated by the CFPB” and that the BISG proxy methodology “is not static; it will evolve over time as enhancements are identified that improve accuracy and performance.”
The paper does not address other aspects of the CFPB’s processes or methods used to determine disparate impact, such as (i) the controls applied to ensure sure that the consumers who are being compared are “similarly situated”; or (ii) the basis point thresholds at which the Bureau determines a prohibited pricing disparity exists.
Concurrent with the release of the white paper, the CFPB provided its statistical software code and an example of publicly available census data used to build the race and ethnicity proxy. Of note in its introduction, the CFPB states that it “may alter this methodology in particular analyses, depending on the circumstances involved.”
Supervisory Highlights and CFPB Expectations
Finally, the CFPB released its latest Supervisory Highlights report, which details alleged discrimination in the auto finance market the CFPB has uncovered at banks over the past two years.
The CFPB states that, generally, its examiners found that bank indirect auto creditors “had discretionary pricing policies that resulted in discrimination against African-American, Hispanic, and Asian and Pacific Islander borrowers. As a result, these borrowers paid more for their auto loans than similarly situated non-Hispanic white borrowers.”
Although it has only publicly announced one enforcement action to resolve such allegations, the CFPB’s report states that non-public CFPB supervisory actions at indirect auto financing institutions resulted in approximately $56 million in remediation for up to 190,000 consumers.
The report again urges auto finance companies to consider three possible ways the CFPB believes institutions can mitigate their fair lending risk by: (i) “monitor[ing] and, if necessary, correct[ing] disparities through a strong compliance management system”; (ii) limiting “the maximum discretionary pricing adjustment to an amount that significantly reduces or eliminates disparities”; or (iii) “compensat[ing] dealers using a non-discretionary mechanism.”
In its press release accompanying the above materials, the CFPB further outlined its expectations for auto finance companies, stating that “given the significance of car ownership in the lives of consumers,” the CFPB expects auto finance companies to:
- Fairly market and disclose auto financing. Specifically the CFPB “would be concerned if consumers are being misled about the benefits or terms of financial products,” and the Bureau is “also looking to ensure that consumers are getting terms they understand and accept.”
- Provide accurate information to credit bureaus. Citing its recent enforcement action against an auto finance company alleged to have inaccurately reported information like the consumer’s payment history and delinquency status to credit bureaus, the CFPB states that it is “looking to prevent inaccurate information from being reported in the future.”
- Treat consumers fairly when collecting debts. The CFPB states that it has received complaints from consumers who claim their vehicles have been repossessed while they are current on the loan or have a payment arrangement in place, and that the CFPB will ensure that collectors are relying on accurate information and using legal processes when they collect on debts or repossess vehicles.
CFPB Announces Field Hearing On Vehicle Finance
On August 28, the CFPB announced that it will hold a field hearing on vehicle finance on September 18, 2014 in Indianapolis. Consistent with its past field hearing announcements, the CFPB did not reveal the specific topics to be addressed. The hearing may relate to the CFPB’s planned larger participant rule for nonbank auto finance companies. In addition, earlier this year, Director Cordray stated in an appearance before the House Financial Services Committee that a white paper on the proxy methodology the CFPB uses to identify alleged discrimination in indirect auto finance was forthcoming.
CFPB Enforcement Action Targets Auto Finance Company's Credit Reporting Practices
On August 20, the CFPB announced a consent order with a Texas-based auto finance company to address alleged deficiencies in the finance company’s credit reporting practices. The company offers both direct and indirect financing of consumer auto purchases, and, according to the CFPB, specializes in lending to consumers with impaired credit profiles. In general, the CFPB took issue with the finance company’s alleged failure to implement policies and procedures regarding the accuracy and integrity of information furnished to consumer credit reporting agencies (CRAs) and alleged deceptive acts in the finance company’s representations regarding the accuracy of furnished information.
The CFPB’s action specifically alleged that the finance company violated the Fair Credit Reporting Act (FCRA) by providing inaccurate information to credit reporting agencies regarding how its borrowers were performing on their accounts, including by: (i) reporting inaccurate information about how much consumers were paying toward their debts; (ii) reporting inaccurate “dates of first delinquency,” which is the date on which a consumer first became late in paying back the loan; (iii) substantially inflating the number of delinquencies for some borrowers when it reported borrowers’ last 24 months of consecutive payment activity; (iv) informing CRAs that some of its borrowers had their vehicles repossessed, when in fact those individuals had voluntarily surrendered their vehicles back to the lienholder. The CFPB claims this activity took place over a three-year period, even after the company was made aware of the issue. The CFPB believes the company furnished incorrect information to the CRAs on as many as 118,855 accounts.
The consent order requires the company to pay a $2.75 million penalty to the CFPB. In addition, the finance company must: (i) review all previously reported accounts for inaccuracies and correct those accounts or delete the tradeline; (ii) arrange for consumers to obtain a free credit report; and (iii) inform all affected consumers of the inaccuracies, their right to a free consumer report, and how consumers may dispute inaccuracies. The order also directs the company to sufficiently provide the staffing, facilities, systems, and information necessary to timely and completely respond to consumer disputes in compliance with the FCRA.
OCC Report Highlights Cybersecurity, BSA-AML, Indirect Auto Underwriting Concerns
On June 25, the OCC published its semiannual risk report, which provides an overview of the agency’s supervisory concerns for national banks and federal savings associations, including operational and compliance risks. As in prior reports and as Comptroller Curry has done in speeches over the past year, the report highlights cyber-threats and BSA/AML risks. The OCC believes cyber-threats continue to evolve and require heightened awareness and appropriate resources to identify and mitigate the associated risks. Specifically, the OCC is concerned that cyber-criminals will transition from disruptive attacks to attacks that are intended to cause destruction and corruption. Extending another recent OCC theme, the report notes that the number, nature, and complexity of both foreign and domestic third-party relationships continue to expand, resulting in increased system and process interconnectedness and additional vulnerability to cyber-threats. The report also states that BSA/AML risks “remain prevalent given changing methods of money laundering and growth in the volume and sophistication of electronic banking fraud.” The OCC adds that “BSA programs at some banks have failed to evolve or incorporate appropriate controls into new products and services,” and again cautions that a lack of resources and expertise devoted to BSA/AML risk management can compound these concerns. Finally, the OCC expressed concern that competitive pressures in the indirect auto market are leading to an erosion of underwriting standards. The OCC’s supervisory staff plans to review retail credit underwriting practices at banks, especially for indirect auto.
Florida Restricts Certain Auto Finance Ancillary Product Practices
On June 13, Florida Governor Rick Scott signed HB 783, which prohibits an “affiliated finance company”—i.e. an auto manufacturer’s or wholesale distributor’s captive finance company, as defined by the law—from (i) refusing to purchase or accept an assignment of a vehicle contract from a dealer or (ii) charging a dealer an additional fee or surcharge for the contract, solely because the contract contains an automotive-related product from a third-party. The restrictions apply only if the third-party product is of “similar nature, scope, and quality” to the product provided by affiliated finance company, or its related manufacturer or wholesale distributor. The bill provides factors for determining whether a product is similar. The new restrictions take effect July 1, 2014.
CFPB Director Announces Indirect Auto Finance Proxy Methodology White Paper, Discusses Numerous Other Initiatives
On June 18, in an appearance before the House Financial Services Committee, CFPB Director Richard Cordray stated that later this summer the CFPB hopes to release a white paper on the proxy methodology it employs to identify alleged discrimination in indirect auto financing. The white paper follows repeated attempts by members of the Committee to force the CFPB to reveal more details about its approach to indirect auto finance enforcement. Director Cordray also revealed that the CFPB is working on a white paper regarding manufactured housing finance.
The hearing covered numerous additional topics, some of which overlapped with those addressed during Mr. Cordray’s recent appearance before the Senate Banking Committee. Among the new issues raised before the House Committee, Mr. Cordray expressed openness to developing a limited advisory opinion process for the CFPB. In response to a question from Rep. Ed Royce (R-CA), Mr. Cordray explained that the CFPB regularly provides informal advisory opinions. He acknowledged other agencies’ use of advisory opinions and their potential benefit, and indicated that advisory opinions could be a useful tool for the CFPB on certain specific issues. Nevertheless, he resisted committing to the implementation of a formal advisory opinion process. The Committee recently approved, along party lines, legislation that would require the CFPB to establish an advisory opinion process.
In response to criticism from Rep. Denny Heck (D-WA) about the pace of an anticipated Military Lending Act (MLA) rulemaking, Mr. Cordray promised that the Department of Defense’s (DOD) proposal to revise the Military Lending Act regulations is nearly ready for submission to the OMB. The DOD recently released a report that previewed the forthcoming rulemaking.
Finally, Director Cordray also fielded a significant volume of questions regarding the CFPB’s collection and use of data, a continuing area of focus for the Committee’s Republican majority.
House Passes Points And Fees Bill; Financial Services Committee Approves Additional CFPB Bills
On June 9, the House passed by voice vote H.R. 3211, the Mortgage Choice Act of 2013. The bill would amend TILA’s definition of “points and fees” for purposes of the CFPB’s Ability to Repay and HOEPA rules to exclude from the definition insurance held in impound accounts and amounts received by affiliated companies as a result of their participation in an affiliated business arrangement. The bill now moves to the Senate where a similar bill was introduced last year by Senator Joe Manchin (D-WV) but has not yet been considered by the Senate Banking Committee. Later in the week, the House Financial Services Committee approved numerous additional bills related to the CFPB, including: (i) H.R. 4804, which would establish certain requirements for CFPB examinations, including prohibiting the use of enforcement attorneys; (ii) H.R. 4811, which would establish standards for CFPB guidance, including a notice and comment period, and would declare the CFPB’s fair lending auto finance guidance to have no force or effect; and (iii) H.R. 3770, which would create an independent inspector general for the CFPB.
Updated CFPB Rulemaking Agenda Adds Auto Finance Larger Participant Rule, Updates Timelines For Other Rules
The CFPB recently released its latest rulemaking agenda, which lists for the first time a larger participant rule that would define the size of nonbank auto finance companies subject to the CFPB's supervisory authority. The CFPB anticipates proposing a rule no sooner than August 2014. Stakeholders will have an opportunity to comment, and a final rule likely would not be issued until sometime in 2015. The CFPB anticipates finalizing its rule for larger participants in the international money transfer market in September 2014. In addition, the agenda pushes back the timeline for the anticipated prepaid card proposed rule from May 2014 to June 2014. The CFPB has been testing potential prepaid card disclosures.
The agenda does not provide timelines for proposed rules related to payday lending, debt collection, or overdraft products, but the CFPB states that additional prerule activities for each of those topics will continue through September 2014, December 2014, and February 2015, respectively. The CFPB substantially extended the timeline for overdraft products; it previously anticipated continuing prerule activities through July 2014. While “prerule activities” is not a defined term, it could include conducting a small business review panel for some or all of those topics. Such panels focus on the impact of anticipated regulations on small entities, but the CFPB typically makes the small business panel materials public, which provides an advance look at the potential direction for a proposed rule.
The agenda does not include a rulemaking implementing the small business fair lending data reporting requirements in the Dodd-Frank Act, though the CFPB previously has indicated it could consider those issues in connection with its HMDA rulemaking. Prerule activities related to the HMDA rule are ongoing.