Legality of CFPB’s plan for proposed ban on arbitration clauses in question

By Jessica Karmasek | Dec 4, 2015


WASHINGTON (Legal Newsline) - Alan Kaplinsky, the attorney who pioneered the use of pre-dispute arbitration provisions in consumer contracts, believes the Consumer Financial Protection Bureau, in announcing it is considering proposing a rule that bans arbitration clauses, could be setting itself up for future legal challenges.

“There’s little doubt in my mind that any regulation they issue is subject to challenge and will be challenged,” he said in an interview with Legal Newsline.

Kaplinsky, who leads the Consumer Financial Services Group at Ballard Spahr LLP, is skeptical of the CFPB’s proposal and takes issue with the bureau’s study, which was released in March and is the precursor to its proposal.

The CFPB, Kaplinsky noted, argues that case law played no part in and had no impact on its decision to consider a proposal that would require consumer financial companies that use arbitration agreements to submit claims filed and awards issued in arbitration proceedings involving consumers and the company to the bureau.

“They’ve acknowledged all of this case law, but they have said that it’s not really relevant to the mission that the CFPB has embarked on,” he said. “They argue their authority is derived from Section 1028 of Dodd-Frank [Wall Street Reform and Consumer Protection Act].”

Section 1028 of the federal statute instructs the bureau to study the use of pre-dispute arbitration provisions in consumer financial contracts, and to report to Congress.

“The CFPB argues they’re not bound by what the U.S. Supreme Court or any other courts have said about class action waivers, because their opinions were predicated on the Federal Arbitration Act,” Kaplinsky explained.

“They say their authority lies in Dodd-Frank, which the bureau argues is an exception to the FAA.”

But case law favors the FAA, he argues.

Kaplinsky, who used to maintain a so-called “scorecard” of court decisions on the issue of class action waivers, points to the Supreme Court’s decision in AT&T Mobility v. Concepcion.

The high court, in its 2012 ruling, said companies can enforce contracts that bar class action lawsuits.

“In a 5-4 opinion, the court held that even though it might be unconscionable under California law, the FAA preempts or overrides any California doctrine that invalidates a class action waiver,” Kaplinsky explained.

A year later in American Express Co. v. Italian Colors Restaurant, the Supreme Court ruled, 5-3, that corporations can force arbitration on small businesses and individuals, even when it can be proven that the forced arbitration clause in the contract is too costly or inherently unfair.

Kaplinsky explained that in the Italian Colors case, the court basically held that the FAA trumps federal antitrust laws, and therefore a class action waiver is valid.

“So there’s really no issue about whether or not class action waivers are valid or invalid,” he said. “The Supreme Court has ruled that they are valid in every instance in an arbitration agreement.”

The only exceptions are the Military Lending Act, which prohibits creditors from requiring arbitration in the event of a dispute, and a section of Dodd-Frank that bans arbitration agreements in mortgage documents.

“This might be the last battle in the war,” Kaplinsky said of the CFPB’s proposal.

“It’s basically a pitched battle between industry -- who I represent -- and the plaintiffs class action bar who’s been trying to rip apart arbitration in the courts for over a decade. Now they’re trying to do it through the CFPB.”

Matt Adler, a lecturer at the University of Virginia School of Law and partner at Pepper Hamilton LLP in Philadelphia, also questions the legality of the bureau’s planned proposal.

“If you take social policy out of it -- can this agency do this? And I’m not at all sure,” said Adler, who is the co-chair of the firm’s commercial litigation practice and leads the practice’s group on international and domestic arbitration.

“I think there’s definitely going to be a fight.”

As Adler explains, the CFPB is very similar to the Environmental Protection Agency, in that it was created by Congress to make rules and regulations.

But those rules can be challenged in court, Adler noted.

“The mere proclamation of a rule by an agency doesn’t mean it’s not going to be challenged or upheld by a court,” he said. “The courts frequently shoot down agency actions.”

He continued, “I think the big question here is, can the delegation to the board in Dodd-Frank overcome the strong pro-arbitration decisions of the Supreme Court of the last five years? I don’t think anyone knows. It’s a very cool collision course.”

Todd Zywicki, senior scholar and fellow with the F.A. Hayek Program for Advanced Study in Philosophy, Politics and Economics at the Mercatus Center at George Mason University and Foundation Professor of Law at George Mason University School of Law, takes issue with the basis of the CFPB’s proposal.

“I think it’s a terrible, terrible and embarrassingly bad study,” said Zywicki, who specializes in bankruptcy, contracts, commercial law, business associations, law and economics, and public choice and the law.

“[The CFPB] says what they’re doing is evidence-based policymaking,” he said. “But really what they’ve done here is policy-based evidence-making.”

Zywicki, who has testified before Congress on consumer bankruptcy and consumer credit, and University of Virginia law professor Jason Scott Johnston put together their own study of the bureau’s March report.

The study, released in August, criticizes the CFPB’s report using primarily evidence supplied by the report itself.

The Mercatus study, as it is referred to, found that the bureau’s findings actually show that arbitration is relatively fair and successful at resolving a range of disputes between consumers and providers of consumer financial products, and that regulatory efforts to limit the use of arbitration will likely leave consumers worse off.

As he noted in his study, Zywicki says he firmly believes the CFPB report should not be used as the basis for any legislative or regulatory proposal to limit the use of arbitration, pointing to its design flaws and lack of information.

“They had a really unique opportunity to do something really valuable in terms of understanding arbitration and arbitration clauses and the like,” he said. “But the report completely lacks in credibility.

“You can tell that they knew the results before they even did their study. A lot of the findings are actually quite obviously inconsistent with its conclusion.”

Further study, Zywicki argues, is needed before any “sweeping” regulations are pushed through.

“Right now, we have no evidence that consumers are harmed by this,” he said of arbitration. “We have no evidence that it’s worth unleashing class action lawyers on the economy. Nonetheless, we’re going to override longstanding public policy.”

Zywicki also questions whether such a regulation can withstand the law.

“The rule, itself, seems to violate the Federal Arbitration Act, a longstanding Congressional statute,” he said.

From Legal Newsline: Reach Jessica Karmasek by email at jessica@legalnewsline.com.

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Ballard Spahr, LLP Consumer Financial Protection Bureau The Mercatus Center U.S. Environmental Protection Agency (EPA)

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