The Consumer Financial Protection Bureau (CFPB) has issued its final regulation (Rule) limiting the use of mandatory pre-dispute arbitration by providers of covered consumer financial products and services. The Rule will become effective 60 days after publication in the Federal Register (which should occur in the next few days) and will apply to transactions commencing six months after the effective date (roughly April 2018).

The CFPB’s authority does not extend to broker-dealers and other firms regulated by the US Securities and Exchange Commission or US Commodity Futures Trading Commission, or to auto dealers, attorneys, and retailers acting as such, but these entities could be swept back under the ambit of the Rule if they act as service providers to a covered provider or otherwise assist and facilitate such a provider. For example, an auto dealer is exempt from application of the Rule, but to the extent that a dealer directly assists and participates in the auto loan or leasing business on behalf of or in concert with a financial institution, that dealer would likely be covered as to the specific transaction.

The Rule has two critical features:

1. It prohibits a provider from relying on a pre-dispute arbitration agreement with respect to any aspect of a class action concerning a covered consumer service or product. Thus, a lender could not prevent consumer credit card holders from joining together in what the CFPB’s media outreach euphemistically refers to as “group actions” and then require each individual to proceed alone in an arbitration proceeding.

2. It requires that covered providers provide certain customer-specific data on arbitrations and ensuing court filings to the CFPB, allowing the CFPB to eventually publicly release data anonymized as to the consumer.

All of this is premised on CFPB research that the agency asserts is supportive of the proposition that consumers fare better in class actions than they do in arbitration. A review of the data on which the CFPB’s study relied, however, suggests that the CFPB did not exclude contingent attorney fees from its calculations. Because these fees are often the lion’s share of the total in class actions (leaving table scraps for most class members), a study that fails to take this factor into account may be of questionable reliability.

This regulatory action, although not unexpected, is a significant victory for contingent fee plaintiffs’ lawyers and, at best, neutral for consumers. It will force easily resolved workaday disputes between businesses and their customers into overcrowded courts where multimillion dollar settlements often result in a pittance for most individual consumers while the lawyers who represent the class take large fees. The class action costs are, of course, part of the operating expenses of the business and ultimately paid as a “litigation tax” in the form of higher prices by consumers who simply wanted a dispute resolved.

But, that is not all. By requiring the filing of otherwise nonpublic arbitration records with the CFPB and eventually making those records public, the CFPB creates a roadmap for plaintiffs’ lawyers. Moreover, in those instances where a business might in the past have found some special merit in a customer’s claim and accordingly recompensed the consumer with a larger-than-usual amount, there will now be a reluctance to remediate for fear of creating a public precedent.

Takeaways

If neither the US president nor US Congress acts, this Rule will become effective unless the courts intervene. Several actions could occur to prevent this Rule from becoming effective:

1. Congress could, within 60 days, nullify the Rule under its Congressional Review Act (CRA) authority. Although CRA review is not subject to filibuster in the US Senate, it is not certain that the Republicans could muster the necessary majorities to set aside the Rule, given the continued strong anti-Wall Street sentiment among the American electorate.

2. The president could terminate the CFPB director for cause, or the director could resign on his own accord. A new acting director could be put in place—subject to Vacancies Act restrictions—who could amend or postpone the effectiveness of the Rule, although the Administrative Procedure Act might limit the successor’s ability to act in this manner or might extend the time it takes for the new acting director to proceed.

3. Congress could amend the CFPB’s authorizing legislation in the Dodd-Frank Act as part of its financial services reform efforts, but substantive and procedural gridlock fanned by partisan rancor in Congress make this route an ever-decreasing possibility.

4. The Rule almost certainly will be challenged in court, possibly on the ground that the research on which the CFPB director relied in reaching his conclusion (that consumers benefit more through class actions than through arbitration) is faulty. Because the Dodd-Frank Act gave the CFPB the specific authority to promulgate this Rule if it is “in the public interest and for the protection of consumers”—rather than the more demanding standards against unfairness, deception, or abusiveness (UDAAP) the CFPB must normally meet—the avenues for such a challenge are, however, more limited than for the agency’s other rulemakings. Unlike UDAAP, this is not a well-defined standard with judicially developed contours, and courts give Chevron deference to the agency’s assessment of what that standard means.

A court could also rule that the director lacked authority to adopt the Rule. In this regard, there already is a challenge to the constitutionality of the unitary authority of the CFPB director that is now pending in the US Court of Appeals for the DC Circuit. However that court or any other court may rule, the losing party is almost certain to seek further review before the US Supreme Court.

All of these eventualities must be viewed against a political backdrop in which the significant concerns of the business community about the Rule will run up against a federal agency that has substantial support from consumers who are constituents and voters, and who harbor a strong distrust of the financial services sector.