Auto Finance Excellence - June 27, 2022

Compliance lawyers last summer were predicting that the Consumer Financial Protection Bureau (CFPB) would announce a robust regulatory agenda under the Biden administration, but we had not yet seen many details that allowed us to predict how that agenda would impact the powersports finance industry. We no longer have that problem — the CFPB has announced a clear focus on fair lending, “junk” fees, voluntary protection products, and repossessions. Each of these focus areas will require powersports finance companies to reconsider their relationships with service providers whose value proposition is to be the “brain” behind complex operational functions like credit decisioning, payment processing, and default servicing.

Fair lending: Do you know your scorecard?

The Richard Cordray-era CFPB’s focus on disparate impact claims under the Equal Credit Opportunity Act (ECOA) and Regulation B is well documented. In a series of consent orders against auto finance companies, the CFPB made clear its position that allowing unfettered discretion in dealer participation programs creates fertile conditions for disparate impact claims on a portfolio-wide basis. These consent orders substantially disrupted “business as usual.” The CFPB’s recent refocus on fair lending has the potential to be similarly disruptive.

The value proposition many Fintechs offer is proprietary algorithms, some of which employ artificial intelligence (AI) and machine learning (ML) capabilities, which can more accurately predict credit risk while also reducing the operational expenses of maintaining an internal credit-decisioning system. In a July 2020 blog post, the CFPB seemed to embrace this concept, stating: “The existing regulatory framework has built-in flexibility that can be compatible with AI algorithms. For example, although a creditor must provide the specific reasons for an adverse action, the Official Interpretation to Regulation B … provides that a creditor need not describe how or why a disclosed factor adversely affected an application.”

How things change in a year.

In the CFPB Circular 2022-03, published May 26, 2022, the Bureau detailed its view on adverse action notice requirements under ECOA. The answer, in the CFPB’s view, is clear: “The adverse action notice requirements of ECOA and Regulation B … apply equally to all credit decisions, regardless of the technology used to make them.” Accordingly, creditors who are unable to explain the specific reasons for an adverse credit decision may not justify that by explaining that the AI or ML technology used to make the decision is a “black box.” In other words, if you do not understand the technology and cannot verify the reasons credit decisions are made, you should not use that technology to make credit decisions.

Are your fees reasonable?

In a January release, the CFPB launched an initiative intended to “save households billions of dollars a year by reducing exploitative junk fees charged by banks and financial companies.” In February, the CFPB published a blog post, The hidden cost of junk fees, and solicited public comment about how “junk fees” impact people’s financial lives. The CFPB’s clear focus is on “unexpected” fees, or fees that seem too high for the purported service. Included in the CFPB’s list of examples are late fees, convenience fees — fees charged to accept a particular method of payment — and returned-item fees.

These fees are already substantially regulated by state law, with retail installment sales acts and direct lending statutes limiting the amount and frequency with which such fees may be charged and requiring clear disclosure of the fees in consumer contracts. It is unclear what, if any, impact compliance with state law will have on the CFPB’s conclusion about whether charging such fees constitute unfair, deceptive or abusive acts or practices.

Overcharging for voluntary protection products

The Federal Trade Commission (FTC) and several state attorneys general have recently focused on dealer conduct in the sale of voluntary protection products like Guaranteed Asset Protection (GAP) and extended-service contracts. For example, in FTC v. North American Automotive Services, Inc. dba Ed Napleton Automotive Group, the FTC and state of Illinois entered into a consent order with a dealer group that imposed a $10 million fine and required substantial consumer remediation. The FTC alleged that the dealer group had artificially inflated the cost of financing by misrepresenting various optional products as being mandatory, and otherwise failing to secure the consumer’s “informed consent” for purchasing the products. According to the FTC, this conduct resulted in higher costs to Black applicants than similarly situated non-Latino white applicants.

For its part, the CFPB has focused on whether creditors are appropriately servicing customer accounts with voluntary protection products. In a May 2022 blog post, the CFPB explained that its examiners are focused on how creditors handle voluntary protection products when an account terminates early, whether through pay off or repossession. The CFPB identifies the failure to request refunds from third-party administrators for “unearned” fees and the failure to appropriately apply refunds after repossession as unfair conduct.

Accountability for ‘sloppy’ repossessions

The CFPB has long focused on repossession issues, seeming to mention it in every publication of its Supervisory Highlights. This year is no different. Although powersports finance companies are much less likely to be financing a consumer’s primary method of transportation, it is clear that the CFPB will grant little leeway for errors in the repossession process. In CFPB Bulletin 2022-04, the Bureau announced its intention to hold servicers accountable for “sloppy” repossession processes. As a basis for this announcement, the CFPB explained that because demand for used vehicles is so high, it believed that finance companies would take shortcuts to capitalize on higher auction prices, even though every state’s laws would require any surplus to be paid to the consumer.

Other than the provocative basis for the bulletin, the CFPB’s announcement is a rehash of prior guidance. Problems arise when finance companies are unclear about what steps consumers must take to avoid a repossession. Worse is when consumers follow those steps and the collateral is still repossessed. Powersports finance companies should verify their repossession service providers’ capabilities to communicate updated information to repossession agents to avoid situations in which a consumer has paid a cure amount, but the collateral is repossessed anyway. Furthermore, having clear repossession procedures and following those procedures closely — with exceptions limited and subject to supervisor review — is critical.

Additionally, finance companies should consider their obligations to seek and apply refunds of unearned fees for voluntary protection products to avoid sending consumers an “inflated” final invoice.

This article was first published in Auto Finance Excellence, a sister service of Auto Finance News. McGlinchey is pleased to serve as the official Compliance partner of Auto Finance Excellence, providing insights and thought leadership through webinars, podcasts, and monthly columns.