Regulations and Guidance Update

Industry Cautions Need to Protect Access to Credit in the Drafting of the QM Rule

The CFPB is coming closer to releasing a final definition of a “qualified mortgage” (QM), which is integral to clarifying the ability-to-repay requirements of the Dodd-Frank Act. The final rule is expected to be published by the end of June, 2012. The mortgage industry expects the final QM standards to have a significant market impact on loan origination and ultimately on access to credit.

The Dodd-Frank Act prohibits mortgage lenders from making residential mortgage loans without regard to a borrower’s ability to repay the loan. Lenders must verify the borrower’s ability to repay a mortgage unless the borrower is given a mortgage that meets the QM standard. Mortgages that satisfy the QM standard are granted a presumption of compliance with the ability to repay requirement. The Federal Reserve initially offered alternative proposals in regard to this presumption—the first would create a total safe harbor from liability for mortgagees that complied with the QM rule, while the second would only provide a rebuttable presumption. Failure to comply with the ability-to-repay requirements would carry significant penalties to lenders that could last the life of the loan. The final QM rule is expected to clarify both the QM qualification requirements and the strength of the presumption of compliance.

Because of the impact the QM presumption and the severe penalties associated with non-compliance, both the CFPB and industry insiders believe that how the CFPB ultimately defines a qualified mortgage and the accompanying presumption of compliance could have a huge market effect. In a speech at the recent Regional Conference of the Mortgage Bankers Association (MBA) in Atlantic City, Ken Markison of the MBA emphasized that the QM definition will determine the future size of the mortgage market. Once established, Markison believes that most mortgage lenders will ensure compliance with the QM standard for most of their products, possibly shrinking the market for low- and medium-income consumers (by requiring a significant down payment, for example). He went on to say that if the industry perceives the QM definition to be unworkable, originators would turn to the Federal Housing Administration, which could put further pressure on the government guarantor. Markison urged the CFPB to use care in drafting the QM rule to ensure credit availability and affordability in the future. 

The CFPB also appears to be aware of the impact the QM rule could have on access to credit. In speaking on the topic to financial industry representatives on March 27, Raj Date, Deputy Director of the CFPB, stated that the CFPB takes its mandate to preserve access to credit very seriously. “In my opinion, the entire point of a private sector, competitive market for consumer credit is that credit is calibrated, risk is calibrated, and priced in an efficient and competitive way,” he said, adding, “So getting to a place where that does happen is very much in everyone’s interest, and certainly in the [B]ureau’s.”

CFPB to Consider Relaxing Loan Officer Compensation Rules

It appears that the Federal Reserve Board’s loan originator compensation rules, which went into effect on April 6, 2011, are going to be revised—and possibly relaxed—by the CFPB in the near future. CFPB Director Richard Cordray told the House Committee on Financial Services that the CFPB is re-examining the controversial rules and hoped to have new rules in place by January, 2013. Cordray also noted that the agency would consider changing the rules to allow a loan originator to reduce his or her compensation to help reduce a borrower’s closing costs. Peter Carroll, the head of the CFPB's Office of Mortgage Markets, also recently told an audience at a Women in Housing and Finance symposium that the agency is “re-visiting some of the issues around that rulemaking as well as other items that were given to us in the Dodd-Frank Act . . . and hopefully will have a proposed rule soon.”

The loan originator compensation rules were initially issued by the Federal Reserve, but the Dodd-Frank Act transferred jurisdiction for these rules to the CFPB. The original rules amended Regulation Z, Part 226.36, adding provisions regarding specific prohibitions on loan originator compensation, including prohibitions on compensation to: (1) a mortgage broker or any other loan originator where the compensation is based on a mortgage transaction's terms or conditions; and (2) a loan originator for a particular transaction if the consumer pays the loan originator's compensation directly. The current rule also prohibits a loan originator from steering a consumer to a loan that provides the loan originator with greater compensation, unless the loan is in the consumer’s interest.

The CFPB has not offered any specific insight into how it plans to change the compensation rules. More importantly, it has not offered any reasons why the rules need to be modified. After the rules went into effect, lenders diligently restructured their compensation plans for all originators. If the CFPB has its way, lenders will again have to go through this expensive and time consuming process.

CFPB Issues Bulletin Clarifying Qualified Plans Under Loan Origination Compensation Rules

The CFPB announced on April 2, 2012, that employer contributions to qualified profit sharing, 401(k), and employee stock ownership plans (collectively, “Qualified Plans”) made using profits from loan originations are not covered by the loan origination compensation rules under Regulation Z, 12 C.F.R. §1026.36 (Compensation Rules). The Compensation Rules, in part, prohibit loan originators from receiving compensation that is based on any terms or conditions of a mortgage transaction. In CFPB Bulletin 2012-02, the agency explained that it was issuing the bulletin in response to numerous inquires asking “whether a financial institution can, consistent with the Compensation Rules, contribute to Qualified Plans for employees, including loan originators, if employer contributions to such plans are derived from profits generated by mortgage loan originations.”

The CFPB advises that, while the Compensation Rules do not expressly address contributions made to Qualified Plans, it is the Bureau’s position that “financial institutions may make contributions to Qualified Plans for loan originators out of a pool of profits derived from loans originated by employees under the Compensation Rules.” The Bureau also indicated that it had received inquiries about the Compensation Rules and profit-sharing arrangements/plans that are not considered Qualified Plans, but reserved comment on those questions.

In addition to offering this clarification, the CFPB also used the Bulletin to confirm its intent to issue “a proposed rule for public comment in the near future on the loan origination provisions in the Dodd-Frank Act.” Several members of the Bureau, including Director Cordray, have been suggesting for several weeks that the Bureau would be issuing a proposed rule, but have not offered any specifics on what conditions the new rule would contain.

CFPB Suggests Tailoring Regulations to Bank Size

CFPB Director, Richard Cordray, has suggested that smaller banks may be subject to different CFPB regulations than larger banks. Cordray explained saying, “[T]here are different levels of sophistication and that’s something we should very much take into account as we go about writing regulations for the broader market.” Cordray made this statement recently during his appearance at the Consumer Bankers Association (CBA) convention in Austin. The statement recently was made in response to a comment he made two weeks prior to the Independent Community Bankers of America. When speaking to the Independent Community Bankers of America, Cordray stated that subjecting small banks to the same regime as large banks was infeasible.

Cordray reminded the CBA audience that CFPB regulations apply to banks of all sizes. He noted however, that CFPB regulators could attach addendums to regulations that would provide greater flexibility to smaller banks. For example, when the CFPB proposed a rule on remittance transfers, it considered supplementing the rule with a proposal that included a threshold under which certain banks would be exempt, as compliance would be unduly burdensome on smaller institutions.

As the CFPB also oversees both banks and nonbanks in the mortgage market, the Bureau wants to make clear that its new regulations will not unduly burden small banks or community banks. The CFPB aims to fix the housing crisis that partly led to its inception. However, it assures small banks that they “will be acknowledged for their size and are not being scapegoated for the crisis.” Cordray noted the CFPB “must be mindful of the fact that community banks were among those most harmed by the mortgage frenzy, the ensuing credit crunch, and the deep recession that cratered our local economies.”

Examinations/Enforcement Here and Now

Consumer Financial Protection Bureau Files Amicus Brief in Truth in Lending Act Case

On March 26, 2012, the CFPB filed an amicus, or “friend of the court,” brief in Rosenfield v. HSBC Bank, USA, a case pending in the United States Court of Appeals for the Tenth Circuit in Denver, Colorado. The Bureau’s brief backs the homeowner in the case, who claims that an automatic right of rescission exists when a loan fails to provide borrowers with disclosures required by the Truth in Lending Act (TILA), and that the right of rescission is triggered by timely notification to the lender.

TILA requires lenders to disclose various credit terms, including annual percentage rates and finance charges, to borrowers taking out home equity loans and second mortgages. Under TILA, borrowers who do not receive these disclosures may rescind their loans within three years of signing the loan documents. When a borrower rescinds a loan on this basis, the lender must release its lien against the borrower’s home, and the borrower must return the funds received from the lender.

The question raised by Rosenfield is whether a borrower’s timely notice of intent to rescind is sufficient to terminate the non-compliant loan, or whether the borrower must also file a lawsuit against his or her lenders within that three-year time period. The majority of courts, including the lower court in Rosenfield, have held that a lawsuit to compel rescission must be filed within the three-year rescission period even if notice is timely given. 

The CFPB’s brief takes a contrary position and argues that “[t]he language in §1635 is plain”—consumers are not required to also file a lawsuit against their lenders within three years. The CFPB asserts that courts can determine whether the consumer’s exercise of the right to rescind was valid, even if that litigation begins after the expiration of the three-year period, so long as timely notice of intent to cancel was given to the lender.

TILA now falls under the purview of the CFPB. Thus, the Bureau has the authority to implement and interpret the Act. With the filing of this amicus brief, the CFPB is demonstrating its willingness to engage in litigation involving the federal consumer financial protection laws that it oversees. It believes that its views may give additional weight to consumer arguments and assist the courts in correctly resolving the matters. The Bureau has filed amicus briefs in other litigation concerning statutes under its purview and apparently views this activity as a means of ensuring that the statutes it oversees are correctly and consistently interpreted by the courts. The CFPB has indicated that it will continue to file such briefs even where the CFPB is not a named party.

CFPB Investigates Banks for Violations of Consumer Protection Laws

The CFPB has initiated investigations into the practices of various financial institutions. According to director Richard Cordray, the CFPB is currently searching for violations of consumer protection laws by banks and nonbanks alike. Since the CFPB’s inception in July 2011, the CFPB has enlisted examiners to probe for violations at banks and other financial companies, such as payday lenders.

Both Discover and American Express have allegedly been the target of a CFPB investigation this year. Discover Financial Services said in a SEC filing in January that the CFPB planned to take certain action against it for its method of marketing certain services. In February, American Express Co. stated that its late fee charges to certain credit card customers of its Centurion Bank subsidiary are also the focus of CFPB action.

Despite the criticism the new agency and its director’s appointment have garnered, Cordray refused to back down on his investigation efforts. “Cleaning up the mortgage market, leveling the playing field between banks and nonbank competitors, seeing that the law is enforced and people are held accountable, that’s what I took an oath to do when I was sworn in as director[.]” said Cordray.

News from the Bureau

Bureau Issues First Annual FDCPA Report to Congress

On March 20, 2012, the CFPB sent the first of its annual reports (Report) to Congress summarizing the Bureau’s activities to administer the Fair Debt Collection Practices Act (FDCPA). The Dodd-Frank Act vested primary government responsibility for administering the FDCPA in the Bureau, transferring such authority from the Federal Trade Commission (FTC). The Bureau, FTC and other federal agencies are charged with enforcing the FDCPA.

Consumer Complaints

With the appointment of Director Richard Cordray in January 2012, the Bureau is now in a position to more fully implement its FDCPA administration authority. Due to the short period of time that has elapsed since Mr. Cordray’s appointment, the Bureau relied in large part on data provided by the FTC to prepare the Report. Specifically, the Report indicates that the Bureau plans to have the capacity to accept FDCPA-related consumer complaints by year-end, but that functionality has not yet been implemented. As a result, the Bureau relied on FTC data to prepare the Consumer Complaints section of the Report.

In 2011, the FTC received more complaints about the debt collection industry than any other specific industry. Complaints against third-party collectors rose over the same time period for 2010, but complaints against in-house debt collectors fell. The Report acknowledges that due to the number of consumers contacted annually by collectors, the number of complaints received by the FTC about debt collectors corresponds to a small fraction of the overall number of consumers contacted.

The most complaints received by the FTC regarding debt collection practices were related to harassing behavior, such as repeated or continuous calls. About 40 percent of FDCPA-related complaints alleged that collectors misrepresented the character, amount or legal status of the debt. In descending order of prevalence, the FTC also received complaints that collectors did not send a debt validation notice; collectors threatened dire consequences, such as threatening criminal prosecution or wage garnishment; collectors did not identify themselves to consumers as debt collectors; collectors disclosed information about the alleged debt to third parties; collectors placed impermissible calls to consumers’ workplaces; collectors failed to verify disputed debts; and collectors continued contacting consumers after receiving “cease communication” notices.

Supervision

The Report notes that the Dodd-Frank Act grants the Bureau authority to supervise many creditors who collect their own debts or hire third party debt collectors. The Bureau’s supervision program is underway, and the Bureau is identifying nonbanks that it will examine based on its assessment of risk to consumers. The Bureau will determine, based on its assessment of risks to consumers, whether to look at collections issues based on the degree of risk relative to other areas.

The Dodd-Frank Act also authorizes the Bureau to regulate so-called “larger participants” in the debt collection arena once the Bureau has promulgated a rule defining “larger participants.” On February 16, 2012, the Bureau issued a proposed rule defining “larger participant” in the debt collection context. The proposed rule would subject debt collectors with more than $10 million in annual receipts resulting from consumer debt collection to Bureau supervision/examination. Comments on the proposed rule are due April 17, 2012.

Enforcement

While the Report notes that the Bureau is engaged in non-public investigations of debt collection practices, it has not yet brought any FDCPA-related enforcement actions. In 2011, the FTC brought or resolved seven debt collection cases, which the Report notes is the highest number of debt collection cases brought or resolved in any single year. In two civil penalty cases, the FTC obtained $2.8 million and $2.5 million, respectively.

While the Bureau has not yet formally initiated any enforcement actions under the FDCPA, it has filed three amicus briefs in cases arising under the FDCPA. The briefs addressed the Bureau’s position on whether businesses involved in enforcing security interests are debt collectors and whether foreclosure/enforcement activity is debt collection covered by the FDCPA; third party communications; and communications to a consumer’s attorney seeking payment of unlawful fees.

Coordination with the FTC

The Dodd-Frank Act mandates that the Bureau and the FTC work together to coordinate enforcement activities. The Bureau and the FTC entered into a Memorandum of Understanding (MOU) in January, 2012 outlining actions to achieve this objective. Pursuant to the MOU, the agencies will meet regularly to coordinate upcoming law enforcement, rulemaking and other activities; inform one another prior to initiating an investigation or bring an enforcement action, absent exigent circumstances; consult on rulemaking and guidance initiatives to promote consistency and draw on one another’s experience and expertise; cooperate on consumer education; and share consumer complaints.

CFPB Launches New Consumer Information Tool: Ask CFPB

The CFPB recently launched a new web page entitled Ask CFPB, which allows users to ask questions and search for answers to common finance questions. The interactive component of Ask CFPB covers three general categories: (1) definitions; (2) explanations; and (3) situations. In all cases, the Bureau provides user-friendly answers free of the usual finance industry jargon which often causes consumer confusion. In addition to the interactive portion of the service, Ask CFPB includes a FAQ section with answers to over 350 common questions, with tools to filter results so the most relevant answers are found. Users can also filter searches by topic (e.g. "reverse mortgage" or "debt collection") or by population (e.g. "older Americans" or "students").

Ask CFPB is intended to provide clear and basic information to consumers. According to Director Richard Cordray, the CFPB is "working to provide consumers with sound, dependable guidance on financial topics…inherent in our mission is the need to promote financial literacy and financial know-how for all Americans."

Ask CFPB can be found on the Bureau's website at http://www.consumerfinance.gov/askcfpb/.

Bureau Doing Its Homework on Debt Collector Regulation

The Bureau is continuing its focus on the debt collection industry, but appears to be gathering information from consumers and the industry so it can make more informed decisions before it acts. The CFPB debt collection program manager, John Tonetti, says the agency is “making sure we understand how the [debt collection] industry works” before regulating it. Tonetti stated that the Bureau has been listening to debt collectors, and promises, “[w]e will be descriptive before we are prescriptive.” The Bureau is “not doing this in a vacuum,” according to Tonetti, but instead is “reaching out and listening” to both consumer rights advocates and the debt collection industry and will “be careful to judge the impact of our decisions.” The meetings with various stakeholders, including eight formal meetings, reportedly have been mostly positive. Tonetti says the bottom line is that “nobody wants to be regulated but everyone feels that someone else should be regulated.”

This listening and learning tour comes on the heels of the Bureau’s announcement that it will supervise collection agencies with annual collection activity receipts totaling more than $10 million. Industry experts expect to see new CFPB regulations on debt purchasers and debt collectors, but it is not clear how these entities will be supervised. It is likely that they will be required to submit reports to the Bureau and be subject to examinations. The Bureau has indicated that it will be looking closely at consumer complaints, but that it will set up a system to have agencies respond and resolve these issues before penalties are imposed. Nonetheless, more enforcement actions by the Bureau and the FTC, which share law enforcement authority under the FDCPA are expected. Two recent enforcement actions by the FTC resulted in $2.5 and $2.8 million civil penalties against debt buyers for alleged misrepresentations to consumers.

CFPB’s Focus on Student Loans Continues

The CFPB is continuing to promote the need for reform in the area of student loans. Last week, the CFPB announced that student loan debt has far exceeded prior estimates and now tips the scale at approximately $1 trillion. The CFPB cautioned that such high amounts of student loan debt not only takes an incredible toll on individuals, it has severe impact on the overall financial industry and, in particular, the housing industry. Rohit Chopra, the CFPB’s student loan ombudsman, emphasized that the more student loan debt a person has, the less money that person has for retirement savings and the less money that person has to purchase a car or a home; thus, possibly slowing down the recovery of the housing industry.

In terms of a plan to reform the student loan industry, Chopra hinted that the CFPB will impose disclosure requirements that will advise students of the differences between private and federal student loans and the pros and cons of each. In addition to disclosure requirements, and a financial aid shopping sheet that enables borrowers to compare financial aid offers as well as private and federal loans, Chopra said that the CFPB plans to counsel federal loan borrowers after graduation and before their first payment is due. As for the private student loan industry, the CFPB plans to determine methods that will help private lenders aid borrowers in obtaining payment plans to avoid default.

Miscellany

Congress and CFPB Set Sights on Payday Lenders

At least two Democratic U.S. Senators are urging the CFPB to clamp down on payday lenders and are intending to introduce federal payday legislation to establish strict regulations for such lenders. Sens. Jeff Merkley (D-OR) and Daniel Akaka (D-HI) have written to Bureau Director Richard Cordray, stating, “the CFPB must act soon to establish strong national rules to stop unfair, deceptive, and abusive practices” by the payday lending industry.

The Senators are particularly concerned with internet-based lead generators and offshore internet lenders. According to the Senators, website fronts may “mask the identity and nature of the true lender, who may be separated by several levels of front operations, obstructing state law enforcement.” Further, “rogue” offshore internet lenders “make it difficult and costly for states to enforce against them.” Sens. Merkley and Akaka asked Director Cordray and the CFPB to close payday lender loopholes and to stop illegal loans by identifying banks that are processing the illegal lenders’ payments.

Meanwhile, the Bureau is inviting the public to review and comment on the transcript from a field hearing it held in January in Birmingham, Alabama on the payday-lending market. The hearing included panel presentations and audience questions and comments regarding payday lending. The full transcript is available here.

Consumer Financial Protection Bureau’s Privilege Waiver Proposal Raises Concerns

On March 12, 2012, the CFPB issued a proposed rule (the “Proposal”) that would codify the doctrine of selective waiver as applied to information provided to the CFPB by the entities it oversees. Under the selective waiver doctrine, the disclosure of otherwise privileged materials to a party outside the attorney-client relationship—in this case, the CFPB—would not be considered a waiver of applicable privileges with respect to other third parties. Under the Proposal, providing documents to the CFPB that are otherwise privileged or subject to the work product doctrine would retain their privileged nature. This means that the act of producing privileged materials to the CFPB would not prevent the disclosing party from asserting the privilege as to other potential adversaries.

Observers have responded to the Proposal with many concerns and questions. First, the doctrine of selective waiver that the Proposal seeks to codify has been rejected by the majority of courts. Still, there are some courts that have taken a fact-based approach and permitted companies to disclose a privileged document without waiving privilege.

Second, the Proposal’s provisions on selective waiver of privileged information provided to the CFPB are substantively identical to those raised in the CFPB’s Bulletin 12-01 from January, 2012. The Bulletin engendered a lack of legal certainty that is arguably not diminished by the Proposal.

Third, the legal reasoning employed by the CFPB in the Proposal is subject to challenge on multiple fronts. The CFPB asserts that the primary basis for its purported authority to promulgate the Proposal is its ability to demand otherwise privileged materials from a supervised entity, which it claims is a part of the general examination “powers and duties” transferred from the prudential regulators. However, the ability to demand production of privileged materials without waiving the privilege may never have been a power of the prudential regulators that could have been transferred to the Bureau because this power may not have existed prior to the Financial Services Regulatory Relief Act of 2006 (the FSRRA).

Another concern is that the CFPB seems to take the position that under the FSRRA a supervised entity may not refuse to provide privileged materials demanded by an agency. This view does not appear to be supported by the FSRRA, which does not vitiate the ability of a supervised entity to assert applicable privileges.

Finally, the CFPB’s decision to solve the selective waiver dilemma administratively appears to be inconsistent with explicit guidance from Congress, which called for a legislative fix to the issue. Representative Spencer Bachus (R-AL), Chairman of the House Financial Services Committee, advised in a letter dated January 30, 2012, “It is our view that the CFPB should not request privileged material . . . until our Committee can discuss this at a hearing and Congress can enact a legislative fix.” In fact, a bipartisan bill was wending its way through Congress, but appears to be blocked by two GOP Senators (see article below).

CFPB Confidentiality Bill Blocked in the Senate

The Wall Street Journal is reporting that two unnamed GOP senators are blocking a vote on a bipartisan bill that would protect privileged information provided to the CFPB by financial institutions. An identical version of the bill was recently passed in the Republican controlled House of Representatives (H.R. 4014) on a voice vote and the Senate had hoped to pass its version of the bill (S. 2099) this week without a roll-call vote. The unnamed senators are purportedly blocking the bill because they want to be able to offer amendments to change the Dodd-Frank Act.

As previously reported in the CFPB-lawblog, financial industry members have been hesitant to turn over privileged documents out of concern that third parties would argue that an institution waived any privilege in responding to Bureau inquiries, thus making privileged documents discoverable in lawsuits against an institution. A 2006 law explicitly protects the confidentiality legal documents given to bank regulators such as the Federal Deposit Insurance Corp., but Congress failed to extend those same protections to documents produced to the CFPB under the Dodd-Frank Act.

The bill, which has wide bipartisan support and the endorsement of Richard Cordray, is currently stalled until the blocks are removed or Senate Democrats agree to allow votes on additional changes to the Dodd-Frank Act. Both seem unlikely. Alternatively, the bill could also be attached to another bill.

Earlier this month, the CFPB proposed a rule addressing the privilege waiver issue. The proposed rule, however, appears to have a number of shortcomings as discussed in the article above. For example, the rule explicitly states the CFPB’s intent to share privileged information with governmental agencies, including state attorneys general. While those agencies would arguably be precluded from using those documents in an enforcement proceeding, the fact that these agencies would be permitted to see and retain privileged information is contrary to the very purpose of the privilege.

Thus, until Congress approves a legislative fix, financial institutions face an untenable choice between refusing to comply with a request from a governmental agency and potentially waiving their attorney-client privilege.

Regulatory Scorecard

Please click here to access a printable version of the Dykema Regulatory Scorecard, our up-to-date chart of pending and final regulatory activities and proceedings at the CFPB.

Contacts and Caveats

For more information about Dykema’s Financial Services Regulatory and Compliance practice, please contact group leader, Don Lampe at 704-335-2736, or Arthur B. Axelson at 202-906-8607, or any of the listed attorneys. 

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_{As part of our service to you, we regularly compile short reports on new and interesting developments in our business services program. Please recognize that these reports do not constitute legal advice and that we do not attempt to cover all such developments. Rules of certain state supreme courts may consider this advertising and require us to advise you of such designation. Your comments on this newsletter, or any Dykema publication, are always welcome. © 2012 Dykema Gossett PLLC.}