Incorporator The Journal of U.S. Formation
Start Free Quiz
Editorial 7 MIN READ

The CFPB arbitration rule, finalized

A ban on class-action waivers in consumer financial contracts, an October Senate fight, and a rule that may not outlive its own effective date

The Editors
Staff, Incorporator.org
7 min read Updated
Contents 6 sections
  1. What the rule actually does
  2. What it means for small businesses
  3. The Congressional Review Act fight
  4. What happens if the CRA resolution fails
  5. What remains unclear
  6. Sources

n July 19, 2017, the Consumer Financial Protection Bureau published a final rule that bans class-action waivers in pre-dispute arbitration agreements for consumer financial products. It is codified at 12 C.F.R. Part 1040, runs 224 pages of Federal Register type at 82 Fed. Reg. 33,210, and takes effect September 18, 2017, with mandatory compliance for agreements signed on or after March 19, 2018.

It may not survive the Senate. The House passed H.J. Res. 111 on July 25 by a vote of 231 to 190, disapproving the rule under the Congressional Review Act. The Senate has not yet voted. Whether the rule is still law on March 19 depends on whether Mitch McConnell can hold 50 Republican votes plus the Vice President.

What the rule actually does

The rule does two things. It prohibits a covered provider from using a pre-dispute arbitration agreement "to bar the consumer from filing or participating in" a class action relating to a covered product (12 C.F.R. § 1040.4(a)(1)). It requires providers that invoke an arbitration clause against an individual consumer to file the demand, the answer, any dispositive motion, the award, and any related court filings with the Bureau (12 C.F.R. § 1040.4(b)). The Bureau intends to publish those records, with redactions, on its website.

It does not ban arbitration itself. A bank may still require a cardholder to arbitrate a disputed $180 late fee one-on-one. What the bank may not do is use the clause to shut down a 14-state class alleging the late-fee structure is unlawful.

Coverage is the core of Section 1028(b) of the Dodd-Frank Act, 12 U.S.C. § 5518(b), which authorizes the Bureau, by regulation, to "prohibit or impose conditions or limitations on the use of" pre-dispute arbitration agreements in connection with consumer financial products and services when it finds the action to be in the public interest and for the protection of consumers. The statute requires that any such rule be consistent with a study Congress ordered in Section 1028(a). The Bureau delivered that study — a 728-page report, including the 2013 preliminary report — to Congress in March 2015. The rule's preamble leans on it at length.

The covered universe is consumer-facing and roughly tracks the Bureau's regulated markets: consumer credit extension, automobile leases, deposit accounts, prepaid cards, remittance transfers, debt collection, credit reporting, and certain payment and money-transmission services. The rule excludes products delivered primarily for a business purpose (12 C.F.R. § 1040.3(b)(1)), products from employers offered as employee benefits, broker-dealers and investment advisers under SEC and CFTC regimes, and federal, state, local, and tribal governments. A de minimis carve-out exempts very small providers: those that, with affiliates, serve 25 or fewer consumers in the current and preceding calendar years with the product in question.

What it means for small businesses

The short version: not much, directly. This is a consumer rule. A loan made to your LLC for working capital, a business checking account in the name of an operating entity, a commercial credit card issued on the company — none of it is covered if it is delivered for a business purpose. The rule's § 1040.3 definitions pull in the Bureau's consumer financial product framework from Section 1002 of Dodd-Frank, and that framework has always excluded B2B relationships.

There are three edge cases worth flagging.

First, sole proprietors and personally guaranteed obligations. A consumer credit card used for business expenses is still a consumer credit card. A personal guarantee signed by an owner to support a small business loan pulls the guarantor's own claim into a consumer-side posture in some circuits. Where the arbitration clause binds the individual in a consumer capacity, the rule applies to that capacity. Where it binds only the entity, it does not.

Second, owner-operator banking. If the bank at which you hold a personal checking account is the same one issuing your LLC a commercial line, the consumer account's arbitration clause is covered and the commercial line's is not. Expect banks to revise the consumer-side clauses in early 2018 if the rule survives; expect the commercial-side clauses to stay exactly as they are.

Third, payment processors and fintech stacks. If you run a business on Square or Stripe, the merchant agreement is a business-to-business contract and falls outside the rule. If you are a consumer being paid through a peer-to-peer consumer service, the consumer-facing contract is covered.

Founders who maintain a rigid separation between personal and entity banking — the separation your lawyer has already told you to maintain — will feel this rule almost nowhere. Founders with commingled arrangements will feel it wherever the consumer side peeks through.

The Congressional Review Act fight

The CRA allows Congress, by simple-majority joint resolution within 60 legislative days of a rule's transmittal, to nullify a rule and bar the agency from issuing a "substantially similar" one without new legislative authority (5 U.S.C. § 801 et seq.). The House moved first. H.J. Res. 111, sponsored by Rep. Keith Rothfus, was introduced July 20, and passed July 25. The roll was 231-190, largely along party lines.

The Senate companion, S.J. Res. 47, is pending and the whip count is not public. The Senate's Republican majority is 52, the Vice President breaks ties, and Senators Graham, Kennedy, and Murkowski have variously signaled discomfort with full repeal in past consumer-finance fights. Leadership has not scheduled a vote as of this dateline. The 60-day CRA clock, counted in legislative session days, runs well into the fall.

Supporting the resolution in public correspondence is the Acting Comptroller of the Currency, Keith Noreika, who wrote the Bureau in July asking it to share the rule's safety-and-soundness analysis and hinting at a formal request to stay the effective date. Treasury has indicated it is preparing its own evaluation of the rule, and the U.S. Chamber and banking trade associations have filed public statements in opposition. Director Richard Cordray has responded, in writing, that the Bureau consulted bank regulators during rulemaking and found the safety-and-soundness concerns unsupported.

What happens if the CRA resolution fails

Compliance on March 19 is not a light lift. Every covered provider has to re-paper its consumer arbitration clause to strip the class-action waiver (or delete the clause entirely), build a record-submission pipeline to the Bureau, and decide whether to continue requiring individual arbitration or abandon arbitration altogether. Large issuers will not abandon it; individual arbitration remains cheaper per dispute than individual litigation. Smaller institutions — community banks, credit unions, smaller auto lenders — are the ones most likely to simply drop arbitration clauses from new contracts to avoid the compliance overhead. That was a predictable second-order effect the Bureau itself acknowledged in the preamble.

The record-submission piece is the part that will matter for the next decade of policy. Section 1040.4(b) forces every consumer-side arbitration into the Bureau's view. If the rule holds, the Bureau will for the first time have a structured dataset of consumer financial arbitrations — how often they are filed, by whom, on what claims, with what outcomes. That dataset will shape the next rule, and the one after that, whether or not the current leadership remains.

What remains unclear

Three things, in order of how soon they resolve.

Whether the Senate votes the resolution up before the CRA window closes. This is a pure whip-count question, and the answer is not yet public.

Whether, if the rule survives, the OCC or a group of state attorneys general tries to enjoin it before March 19. Litigation has not been filed as of this dateline, but it has been openly threatened.

Whether, if the rule is nullified under the CRA, the "substantially similar" bar under 5 U.S.C. § 801(b)(2) prevents the Bureau from ever revisiting the question. The CRA has been used sparingly enough that the scope of the substantially-similar bar is genuinely unsettled law.

The one fact that is not in doubt is that the rule is, as of this morning, the law. Until the Senate says otherwise, consumer financial institutions have seven months to get ready.

Sources

Keep reading

More from the journal.