The U.S. Consumer Financial Protection Bureau (CFPB) yesterday issued a Notice of Proposed Rulemaking that, among other things, would prohibit the use of class action waivers in arbitration clauses in connection with a broad swath of consumer financial products and services. If the proposed regulations go into effect, they could have a sweeping impact on the availability of alternative dispute resolution to companies and consumers alike, notwithstanding that mandatory arbitration currently is the industry norm. The move will likely draw close industry scrutiny and appears likely to be subject to legal challenge.
The Proposed Rules
The CFPB's authority to issue regulations concerning arbitration provisions stems from the Dodd-Frank Act. In § 1028, Congress directed the CFPB to study the use of mandatory arbitration provisions in connection with consumer financial products. It also authorized the CFPB to issue regulations "prohibit[ing] or impos[ing] conditions or limitations" on such provisions if the regulations are "in the public interest and for the protection of consumers," and are consistent with the CFPB's study. The CFPB completed its study and issued preliminary findings in March 2015. It now proposes three broad regulations:
Covered entities would be "prohibit[ed] … from seeking to rely in any way on a pre-dispute arbitration agreement … with respect to any aspect of a class action that is related to any of the consumer financial products or services covered."
Covered entities would be "require[d] … to ensure that pre-dispute arbitration agreements contain specified provisions explaining that the agreements cannot be invoked in class proceedings."
Covered entities would be "require[d], for any pre-dispute arbitration agreement …, to submit copies of specified arbitration records" to the CFPB in connection with disputes not subject to the prohibition on class action arbitration waivers.
The proposed list of covered entities is similarly broad. It includes all "providers of certain consumer financial products in the core consumer financial markets of lending money, storing money, and moving or exchanging money." The new rules would go into effect 180 days after the regulation becomes effective.
Tension with the FAA
The CFPB's proposed rule would effect a sea change in the law governing alternative dispute resolution. Arbitration clauses are standard in most financial services customer contracts, and the industry has long operated under the assumption that such provisions are enforceable. Indeed, for nearly a century, federal law has pursued a "liberal federal policy favoring arbitration," reflected principally in the Federal Arbitration Act (FAA). And in two recent decisions—AT&T Mobility LLC v. Concepcion (2011) and American Express Co. v. Italian Colors Restaurant (2013)—the Supreme Court expressly approved class action arbitration waiver clauses as entirely consistent with this congressional purpose, rejecting states' attempts to restrict their enforceability.
The CFPB's proposed rulemaking arguably undermines the long-standing federal policy favoring arbitration, setting up possible legal challenges by affected parties. There is also the fundamental question of whether the proposed rule would even benefit the very consumers the CFPB claims it seeks to protect. As the Chamber of Commerce pointed out in a piece that it published yesterday, the CFPB's own 2015 Arbitration Study found that only 13% of class actions settle on a class-wide basis. And among the consumers eligible for relief in those 13% of cases, only 4% ever receive even one red cent from the settlement. Using simple math, class action lawsuits benefit one-half of one percent of the class members in this type of litigation. Thus, the CFPB's own study suggests that the increased litigation costs and delay of class action litigation would outweigh the minimal benefits of consumer class action litigation.
Comment Submission and Legal Challenges
The Notice of Proposed Rulemaking requests public comment on several aspects of its proposed regulations, including the CFPB's interpretation of § 1028 of the Dodd-Frank Act, the coverage and wording of the proposed rules, and whether the CFPB should adopt exclusions for certain types of provisions or entities. In light of the extraordinary significance of the proposed rule, we anticipate a robust response from industry members and other stakeholders. The comment period will last 90 days from the publication of the Notice in the Federal Register. Final rulemaking would likely take place in 2017.
If the regulations are ultimately adopted by the CFPB, they appear likely to be subject to legal challenge. Such a challenge could proceed on at least two grounds. First, the regulations could be subject to challenge on the ground that Congress's grant of authority under § 1028 is inconsistent with the constitutional "non-delegation doctrine," a rule that prohibits Congress from delegating legislative authority to administrative agencies. This challenge would focus primarily on inconsistencies between the CFPB's regulations and § 2 of the FAA. Second, even if the CFPB is properly vested with authority under § 1028, the regulations might be subject to challenge as inconsistent with § 1028's requirement that any prohibitions or restrictions be in the public interest, advance the goal of consumer protection, and follow from findings made in the CFPB's own study. Other grounds for challenging the regulation may emerge as well depending on the final wording of the regulations.
Assuming the rule is enacted substantially in its current form and survives legal challenges, financial services companies might react in a number of ways:
Companies could leave intact their current approach to requiring arbitration in individual disputes. Any individuals opting out of a class action would proceed in arbitration. A potential advantage of this approach is that it maximizes the number of disputes that remain subject to the confidentiality restrictions attendant to virtually all arbitration proceedings.
An alternative approach could be to limit the use of arbitration for individual claims involving the same subject matter as a pending class action. Such an approach could involve requiring opt-outs to arbitrate only when their individual claimed damages exceed a certain monetary threshold. This would reserve arbitration for the more significant claims of those class members most likely to opt-out in the first place, while encouraging class adjudication of smaller claims rather than piecemeal litigation.
Another, albeit less likely, option is to exclude from arbitration entirely any claim on the same subject matter as a pending class action. By doing so and thereby requiring that all disputes be litigated in court, companies could ensure that they are not subject to individual opt-out litigation in a completely separate arbitration forum (where generally the rules of discovery and applicable law do not necessarily apply). Potential advantages include the consistent application of court decisions across the class and individual actions and the opportunity for consolidated discovery.
We anticipate that firms will continue to include arbitration clauses in their consumer contracts that mandate arbitration of individual claims unconnected to a pending class litigation.
Orrick will continue to analyze the details of the CFPB's proposed rulemaking and actively monitor the comments submitted during the comment period.