InfoBytes Blog

August Beach Read Series: Increasing Scrutiny of Short-Term, Small-Dollar Credit Products

The interest of regulators and enforcement authorities in short-term, small-dollar credit products - including payday loans, advance deposit products, installment loans, and more – has intensified in 2013. State and federal authorities have taken numerous actions to enforce existing law and to develop new rules for these products.

Earlier this year we reported on the DOJ’s prioritization of this area of consumer finance, and we have since reported on many other state and federal developments, including those related to state enforcement of licensing and usury laws against online lenders, federal regulators' scrutiny of advance deposit products and payday loans, congressional interest in small dollar loans (here and here), and the Department of Defense’s potential expansion of the Military Lending Act.

With regard to this last issue, BuckleySandler Partner Valerie Hletko recently examined the DOD’s advance notice of proposed rulemaking related to installment loans used by members of the armed forces and their families. The authors point out that the DOD’s interest in installment loans is emblematic of the scrutiny of short-term, small-dollar credit products, which appear to be increasingly vexing to regulators who recognize widespread demand for them but are concerned that such products may create a high-cost borrowing cycle.

In a 2012 article Partners John Kromer and Valerie Hletko previewed the CFPB’s interest in these products and identified some best practices for short-term, small-dollar lenders.

CFPB Payday Lending DOJ Military Lending Act Internet Lending Deposit Advance Online Lending

CFPB Issues Report on Examination Findings, Other Supervisory Activities

This afternoon, the CFPB released its summer 2013 Supervisory Highlights report, which covers supervisory activity from November 2012-June 2013.  This is the second such report the CFPB has released; the first report came out in October 2012 and covered activity from July 2011 through September 2012.

The report provides a brief review of the CFPB’s public enforcement actions and non-public supervisory actions and developments in the supervision program, including the issuance of bulletins, the issuance of new fair lending examination procedures, and the reorganization of supervision staff. The report also reviews the CFPB’s risk-based approach to examinations, including the “Institution Product Lines” approach, and outlines the factors that influence examination priorities.  The report does not identify any planned supervisory activities.

The bulk of the report, however, summarizes the CFPB’s examination findings. Key findings are discussed below.

Compliance Management Systems (CMS)

• CMS Elements
  • Although the report states no specific CMS structure is required, it also states that, based on the CFPB’s supervisory experience, an effective CMS commonly has the following components:  (i) board and management oversight; (ii) compliance program; (iii) consumer complaint management program; and (iv) independent compliance audit.  The report provides additional discussion on each component.
• Nonbanks
  • The report states that nonbanks are more likely than banks to lack a robust CMS. The CFPB found one or more instances of nonbanks that lack formal policies and procedures, have not developed a consumer compliance program, or do not conduct independent consumer compliance audits. According to the CFPB, the lack of an effective CMS has, in a number of instances, resulted in violations of Federal consumer financial laws. In these instances, the CFPB has required appropriate corrective action.
  • The report notes that CMS deficiencies in nonbanks are generally related to the supervised entity’s lacking a CMS structure altogether. CFPB examinations have found instances where nonbanks do not have a separate compliance function; rather, compliance is embedded in the business line, which can lead to deficiencies.
• Banks
  • The CFPB found that banks generally had an adequate CMS structure; however, several institutions lacked one or more of the components of an effective CMS.
  • The most common weakness the CFPB identified in banks is a deficient system of periodic monitoring and independent compliance audits. An entity that lacks periodic monitoring and instead relies on an annual independent compliance audit to identify regulatory violations and CMS deficiencies increases its risk that violations and weaknesses will go undetected for long periods of time, potentially leading to multiple regulatory violations and increased consumer harm.

   

Mortgage Servicing

• Servicing Transfers
  • Examiners found noncompliance with RESPA’s requirement to provide disclosures to consumers about transfers of the servicing of their loans.
  • Examiners also noted lack of controls relating to the review and handling of key documents – such as loan modification applications, trial modification agreements, and other loss mitigation agreements – necessary to ensure the proper transfer of servicing responsibilities for a loan.
  • Examiners noted that one servicer did not review any individual documents that the prior servicer had transferred, such as trial loan modification agreements.
  • At another servicer, examiners determined that documentation the servicer received in the transfer was not organized or labeled, and as a result, the servicer did not utilize loss mitigation information provided to the prior servicer in its loss mitigation efforts.
• Payment Processing
  • A servicer provided inadequate notice to borrowers of a change in the address to which they should send payments, which constituted a potentially unfair practice impacting thousands of borrowers. The entity acted promptly to ensure that it did not impose late fees or other delinquency fees, or any other negative consequences.
  • A servicer decided – without notice to borrowers – to delay property tax payments from December of one year to January of the next, resulting in the borrowers’ inability to claim a tax deduction for the prior year, which the CFPB cited as an unfair practice.
  • A servicer paid certain property taxes late, in violation of RESPA. The CFPB directed the servicer to pay any fees associated with the late payment and to investigate whether consumers experienced any additional harm as a result of the late payments. Further, at the CFPB’s direction, the servicer will notify consumers of the late payment and solicit information about any additional harm. If any such harm is identified, the servicer will remediate it.
  • Examiners have found violations of the Homeowners Protection Act (HPA) at several servicers. In one examination, examiners found excessive delays in processing borrower requests for private mortgage insurance (PMI) cancellation. Additionally, in cases where PMI was canceled, the servicer improperly handled unearned PMI premiums in violation of the HPA. The CFPB required the servicer to amend its policies and procedures relating to PMI cancellation. The servicer also must conduct a review to determine whether borrowers were subject to additional harm caused by delays in processing PMI cancellations.
  • Examiners identified a servicer that charged consumers default-related fees without adequately documenting the reasons for and amounts of the fees. Examiners also identified situations where servicers mistakenly charged borrowers default-related fees that investors were supposed to pay under investor agreements. Servicers have refunded these fees to borrowers.
• Loss Mitigation
  • Examiners have found issues related to: (i) inconsistent borrower solicitation and communication; (ii) inconsistent loss mitigation underwriting; (iii) inconsistent waivers of certain fees or interest charges; (iii) long application review periods; (iv) missing denial notices; (v) incomplete and disorganized servicing files; (vi) incomplete written policies and procedures; and (v) lack of quality assurance on underwriting decisions.
  • The CFPB states that weak compliance management surrounding loss mitigation processes creates fair lending risk and that it expects that entities servicing mortgage loans will implement fair lending policies, procedures, and controls to ensure that they are ECOA compliant. The CFPB states that servicers should conduct fair lending training for loss mitigation staff and engage in effective and timely fair lending risk assessments, compliance monitoring, and testing.

Fair Lending

• ECOA
  • The report states that some lenders are not complying with various aspects of the adverse action notification requirements under ECOA and Regulation B. The CFPB has found instances where supervised entities violated ECOA and Regulation B by failing to comply with either the provision, content, or timing requirements for adverse action notices and has directed the entities to develop and implement plans to ensure that the appropriate monitoring and internal controls are in place to detect and prevent future violations.
  • The report specifically notes that loan servicers should have systems in place to determine whether borrowers who apply for a change in the terms of credit are entitled to adverse action notices. The CFPB notes that some institutions may find it helpful to arrange for independent, internal reviews of loan files to ensure that the documentation supports the action taken and that all timing requirements are met. In addition, the report states that institutions should provide comprehensive periodic training to management and staff regarding compliance with ECOA and Regulation B, including compliance with provisions on adverse action notices.

CFPB Nonbank Supervision Mortgage Servicing Fair Lending Compliance Bank Supervision Loss Mitigation

August Beach Read Series: CFPB's Supervision of Student Lending and Servicing Takes Shape

Over the past year, the CFPB has started to publicly outline its supervisory approach to student lending and servicing. In doing so, it repeatedly has identified similarities between the lending practices that led to the subprime mortgage crisis and the escalating default rate in the burgeoning level of student loan debt. Rather than wait for a student loan crisis, the CFPB is attempting to put in place a program it hopes can help prevent one.

As part of that program, at the end of 2012, the CFPB released its student loan examination procedures. Also in 2012 the CFPB released two reports (July 2012 and October 2012) aimed at curbing purported violations of law, and it has continued to highlight student loan issues this year, including in a recent update on student loan complaints. In addition, in March of 2013, partly to address the complaints of student loan debtors, the CFPB announced its intention to supervise and examine the larger non-bank education loan servicers. That rule should be finalized next month.

Student lenders and servicers also should take note of the CFPB’s recently issued debt collection guidance, which, among other things, holds CFPB-supervised creditors accountable for engaging in acts or practices the CFPB considers to be unfair, deceptive, and/or abusive (UDAAP) when collecting their own debts.  Many of the guideposts set forth in the guidance reflect the standards to which third-party debt collectors are held accountable under the FDCPA.

For more information about the CFPB’s debt collection guidance, please see a recent article by BuckleySandler Partner Valerie Hletko. Over the coming months, look for additional articles from BuckleySandler attorneys about the CFPB’s activities in the area of student loans and other non-mortgage consumer financial products and services.

CFPB Examination Nonbank Supervision Student Lending Debt Collection Bank Supervision

CFPB Releases Updated Ability-to-Repay/Qualified Mortgage Rule Implementation Resources

On August 14, the CFPB released an updated small business guide for the ability-to-repay / qualified mortgage rule it finalized early this year. The CFPB also released (i) a video that provides an overview of the rule and the recent changes and (ii) implementation guidance. The updated guide incorporates clarifications and amendments to the rules issued on May 29, 2013 and July 10, 2013, respectively. For analyses on the revisions incorporated into the update, see the Special Alerts released by BuckleySandler in May 2013 and July 2013.

CFPB Qualified Mortgage

CFPB Releases Second Update of Examination Procedures for Mortgage Rules

On August 15, the CFPB released new TILA and RESPA examination procedures, updated to cover all mortgage origination rules issued through May 29, 2013 and all mortgage servicing rules issued through July 10, 2013. The CFPB intends the updated procedures to help prepare financial institutions and mortgage companies for examinations regarding the new mortgage rules covering ability-to-repay requirements, qualified mortgages, high-cost mortgages, servicing, appraisals for higher-priced mortgage loans, and loan originator compensation.  Please see our summaries of the key rules here and here.

Notably, the new examination procedures do not reflect the amendments proposed by the CFPB in June, which are expected to be finalized shortly.  It is unclear whether the CFPB intends to update the procedures to reflect these and any other amendments.

CFPB TILA RESPA Mortgage Origination

CFPB Responds to Inquiry by Members of Congress on Indirect Auto Lending Guidance

On August 2, the CFPB responded to a letter submitted by 35 republican members of Congress who are concerned about the fair lending guidance the CFPB issued to indirect auto lenders earlier this year.  The bulletin, issued in March, confirmed the CFPB’s position that indirect auto finance companies are “creditors” subject to the fair lending requirements of ECOA and Regulation B and specifically addressed the risk of discrimination allegedly caused by discretionary dealer participation and compensation policies, concluding that indirect auto finance companies may be liable under the legal theories of both disparate treatment and disparate impact when pricing disparities on a prohibited basis exist within their portfolios.  The members criticized the CFPB’s lack of transparency and accountability in issuing the guidance “without a public hearing, without public comment, and without releasing the data, methodology, or analysis it relied upon to support such an important change in policy” and requested that the CFPB provide full details of the statistical disparate impact methodology used to support the bulletin’s directives.

The CFPB’s response letter affirms its indirect auto lending guidance, stating that the Bureau perceives frequent lack of fair lending compliance programs associated with this type of consumer lending despite Bureau’s assertion that ECOA applies to all credit transactions.  The CFPB further asserts that the notice-and-comment rulemaking process was not necessary for the bulletin, because the Administrative Procedure Act — which sets out the basic principles that apply to regulatory activity by federal agencies — does not require notice and comment for “general statements of policy, non-binding information guidelines, or interpretive memoranda.”  The letter also explains that because data about race, ethnicity, and gender is not typically collected in auto finance transactions, the CFPB employs a proxy methodology using surname and geographic location to identify potential pricing disparities affecting protected classes.  In support of its approach, the CFPB asserts that use of proxies for unavailable data is generally accepted and maintains that disparities will be considered “in view of all other evidence,” including the finance companies’ own analysis. The CFPB emphasized that “each supervisory examination or enforcement investigation is based on the particular facts presented” and that the CFPB “typically look[s] to whether there is a statistically significant basis point disparity in dealer markups received by the prohibited basis group.”  Lastly, the letter reiterates the CFPB’s ongoing coordination with other federal agencies to ensure that fair lending supervision and enforcement is “consistent, efficient, and effective.”

For additional information about federal authorities’ approach to fair lending in indirect auto finance, see our report on a recent Federal Reserve Board-sponsored webinar entitled “Indirect Auto Lending – Fair Lending Considerations,” in which presenters from the CFPB, FRB, and DOJ provided a perspective on the examination and enforcement activities of their respective organizations.

CFPB Auto Finance Fair Lending U.S. House

CFPB, FRB, and DOJ Webinar on Fair Lending in Indirect Auto Finance

On August 6, 2013, the Federal Reserve sponsored a webinar entitled “Indirect Auto Lending – Fair Lending Considerations,” in which presentations were given by Patrice Ficklin, Fair Lending Director, Consumer Financial Protection Bureau (CFPB), Maureen Yap, Special Counsel/Manager, Fair Lending Enforcement, Federal Reserve Board (FRB), and Coty Montag, Deputy Chief, Housing and Civil Enforcement Section, Civil Rights Division, U.S. Department of Justice (DOJ). During the webinar, each of the speakers provided a perspective on the examination and enforcement activities of their respective organization, followed by a Question and Answer session.

Ms. Ficklin began by providing a summary of the CFPB’s supervisory and enforcement authority, followed by a discussion of CFPB Bulletin 2013-02. In discussing the bulletin, Ms. Ficklin addressed the specific guidance provided in that Bulletin, with a particular emphasis on how the “standard practices” of indirect auto financial institutions “likely constitute participation in a credit decision” resulting in their being deemed “creditors” under the ECOA. That was followed by a discussion of the way in which the existence of dealer discretion and markup presents fair lending risk and ways in which financial institutions may comply with fair lending requirement.  Ms. Yap then presented the FRB’s authority for and purpose in examining for fair lending risk in indirect auto finance, making particular note of the FRB’s referral of the Nara Bank case to the DOJ. Ms. Yap emphasized that FRB personnel rely on the 2009 Interagency Fair Lending Examination Procedures in determining the scope of an examination, including indirect auto financing practices, including as it relates to pricing which presents the “area of highest risk”. After discussing some of the FRB’s key risk factors, Ms. Yap then discussed methods used by the FRB to code loans and test for disparities. Ms. Yap also provided additional resources that may be of value to indirect auto financial institutions, including the FRB’s “Step-by-Step Guide to Coding for Gender and Ethnicity,” “Example:   Hypothetical Loan Data with Lookups and Formulas,” and “Female and Hispanic Names List (U.S. Census).” The last two items may be found here. Ms. Yap concluded her remarks by discussing what to expect if the FRB finds evidence of pricing disparities, and ways that market participants may mitigate their fair lending risk.

Ms. Montag opened her remarks with a review of ECOA’s framework and the DOJ’s recent enforcement activities in indirect auto finance, with particular attention given to both the 2009 partial Consent Decree and the recent “Agreed Order” with Union Auto and the default judgment against the final defendant. The Pacifico Ford, Inc. and Springfield Ford, Inc. cases were also discussed at some length, emphasizing the consent orders that limited the amount of dealer reserve in each matter and the circumstances under which the amount of such reserve may be modified. Finally, Ms. Montag provided an overview of ongoing enforcement efforts in the indirect auto market, with particular focus on (i) potential race-based targeting by “buy here, pay here” dealers; and (ii) discretionary dealer markups and fees, including “several” ongoing joint investigations with the CFPB.

The presentations were followed by a Question & Answer session in which the panelists addressed particular requests submitted by attendees.  Of particular interest were the following:

• To the extent exceptions are made to match competitive offers or otherwise, Ms. Yap suggested that all such instances should be “well documented” and include specific information that is maintained by the institution to help explain potential disparities as the need arises;

• Ms. Ficklin stated that in general, when determining fair lending violations, the CFPB relies on statistical evidence at “the 95^th per cent confidence level, or greater,” though she noted that the CFPB may look at data of a lower confidence level when providing supervisory guidance regarding potential fair lending risk or when acting in its supervisory capacity;

• In discussing whether a dealer agreement should address the obligation of the dealer to ensure the accuracy of data submitted in an auto finance transaction, Ms. Yap opined that it is important to address this issue and any other fair lending risks within such an agreement.  Ms. Yap suggested that dealer agreements should be explicit about fair lending expectations and learning about and resolving complaints to help mitigate fair lending risk;

• In discussing controlling for variables in analyzing whether disparities may be explained through permissible criteria, Ms. Yap acknowledged the FRB wants to look at “the variables that the bank actually uses”; but they nonetheless want to make clear distinctions between the “buy price” and any markup.   The “buy price” would take into consideration characteristics related to a borrower’s credit, such as credit score or income; but since markup is not usually based on such characteristics, they might take into consideration factors such as new car financing offers, or the month in which a purchase is made (based on any sensitivities related to purchases made in certain seasons); and

• In response to whether the CFPB’s approach to indirect auto exams is the same as that of the FRB, Ms. Ficklin stated that the evaluation of whether an indirect auto lender is in compliance with the ECOA requires “multiple steps.” She advised that a typical CFPB examination would include: a review of credit denials, interest rates quoted by the lender to the dealer (“buy rates”), and any discretionary markup of the buy rate by the dealer. Ms. Ficklin further stated that determining whether discrimination has occurred is both case-specific and fact-intensive and like the FRB, the CFPB’s analysis “considers appropriate analytical controls” in reviewing data to determine if a specific policy results in unlawful differences, on a prohibited basis. Ms. Ficklin then added that “consistent with the approaches of other federal regulators” including the FRB, the Bureau has previously indicated that it uses surnames, and geographic location data “to estimate protected characteristics” where direct evidence of protected characteristics is unavailable. She explained that the CFPB conducts its proxy analysis by using publicly available data from the Social Security Administration, and the Census Bureau, and that the CFPB is aware that some lenders are currently using various forms of proxy analysis for their own internal fair lending analyses. Finally, she noted that Bulletin 2013-02 encourages lenders who are not doing such analysis to select “a reasonable proxy method that is suitable for their nature, size and complexity” and to monitor their data for “fair lending risk.”

Though the webinar may not have covered a significant amount of new ground, it nonetheless provides some additional clarity around the expectations of the CFPB, FRB and DOJ when looking into fair lending matters in the indirect auto finance market as it relates to pricing and some useful resources from the FRB.  As such, institutions participating in the indirect auto finance market may be well served to listen to the archived copy of this presentation.

FRB CFPB Auto Finance Fair Lending DOJ

CFPB Updates Remittance Rule Resources

On August 8, the CFPB released an updated small business guide for the remittance transfer rule it finalized last year and revised in May 2013. The updated guide summarizes the remittance rule and discusses the new requirements, which take effect on October 28, 2013. The CFPB also issued technical corrections to the May 2013 amendments, and released a video that provides an overview of the rule and the recent changes, as well as implementation guidance.

CFPB Bank Compliance EFTA Remittance

Banking Industry Trade Groups Oppose CFPB Credit Card Arbitration Survey

On August 6, three banking industry trade groups submitted a joint comment letter pursuant to a proposal by the CFPB to conduct a survey of credit card holders in connection with its ongoing study of arbitration agreements.  The survey — intended to evaluate “consumer awareness of dispute resolution provisions in their agreements with credit card providers” — will compile information relating to card holders’ perceptions and valuations of arbitration and litigation, but will not solicit impressions of such proceedings themselves.   In the comment letter, the trade groups suggest that the survey’s design “is inconsistent with the Consumer Financial Protection Act (CFPA) mandate and is flawed in concept and execution.”

Section 1028 of the CFPA authorizes the Bureau to study, and potentially regulate, arbitration agreements.  Any exercise of rulemaking authority under Section 1028 must be based on a finding —consistent with the study conducted — that the regulation is “in the public interest and for the protection of consumers.”  The trade groups express concern that the proposed survey will not produce “meaningful” information about what regulation will best serve the public and protect consumers because complex questions about consumers’ “limited and uninformed assessments and preferences” will fail to offer useful information to evaluate the arbitration process.  The trade groups suggest that, instead, the CFPB should pursue peer-reviewed research that compares various methods of consumer dispute resolution, such as litigation and arbitration, to meet its obligations under the CFPA.

Credit Cards CFPB Arbitration

Banking Industry Trade Groups Oppose Expansion of MLA Covered Loans

On August 1, six banking industry trade groups submitted a joint comment letter relating to a proposal by the Department of Defense (DOD) to revise protections under the Military Lending Act (MLA), which apply to consumer credit extended to members of the military and their families.  Among other things, the MLA caps the annual interest on short-term, small-dollar loans — including certain payday, car title, and refund anticipation loans.  The MLA does not currently include credit cards, bank loans secured by funds on deposit, installment loans, or open-end credit.

In June, the DOD issued an advanced notice of proposed rulemaking (ANPR) to solicit input on potential changes to the definition of “consumer credit” in the regulations that implement the MLA, which would significantly broaden its application.  The ANPR sought comment on whether the definition of “consumer credit” should be revised to expand coverage of the MLA to additional small-dollar loan products.  The trade groups suggest that expanding coverage would be redundant, costly, and confusing in light of the “well-established system of financial protections for consumers [that] exists beyond the [MLA].”  In other words, there is no need to create an entirely separate class of credit products for servicemembers and their families not directly related to military service.

The trade groups specifically identify several potential negative consequences of expanded coverage, including reduced access to installment loans and other credit products, and inability to refinance existing credit.  On balance, the trade groups view the current rules — adopted after plenary discussion and careful consideration by all stakeholders — to be effective in achieving the proper balance between protecting military families and ensuring their access to credit.  Thirteen state attorneys general took an opposing view in a comment letter submitted on June 24.

For additional commentary on the ANPR, please see the recent article from BuckleySandler Partner Valerie Hletko.

Credit Cards CFPB Payday Lending Servicemembers Installment Loans Military Lending Act Deposit Advance