An Obama administration plan to reform the nation's financial regulatory system threatens to subject the consumer financial services industry to a hodgepodge of differing state (and local) laws and to limit credit terms and availability. Particularly troubling is its proposal for a new federal agency charged solely with consumer protection – and having no duty to consider the impact of its regulations on safety and soundness – which portends an unprecedented volume of new regulation and/or government enforcement.

The administration is expected to soon introduce draft legislation to implement the plan, released on June 17, 2009, in a white paper, "A New Foundation: Rebuilding Financial Supervision and Regulation." Driving the proposed consumer protection reforms is the view that financial abuse of consumers resulting from lax consumer protection was a leading cause of the current financial crisis. A description of the key consumer protection proposals follows.

New Federal Regulator. The plan removes responsibility for consumer protection from the existing federal banking agencies and gives it to a new federal agency with no other (or competing) function. The Consumer Financial Protection Agency (CFPA) would be charged with protecting consumers of credit, savings, payment, and other consumer financial products and services, except for investment products and services currently regulated by the SEC. The CFPA would have exclusive authority to write and interpret rules under existing financial services and fair lending statutes, including TILA/HOEPA, ECOA, RESPA, HMDA, and CRA.

Because the CFPA's supervisory, examination, and enforcement authority would extend to all persons covered by the statutes it implements, as well as by statutes with no or limited rule-writing authority (such as the FHA, FCRA, and FDCPA), all federal- and state-chartered depository institutions, bank affiliates, and other nonbanking institutions would fall within its jurisdiction. Financial intermediaries, such as brokers and debt counselors, would be subject to "duties of care" that the CFPA would be authorized to impose, such as a duty to determine affordability.

The FTC would retain authority for dealing with fraud, remain the lead agency for data security, and have "backup authority" with the CFPA. However, the CFPA would become responsible for privacy protection on financial issues. The CFPA would also acquire the authority of the banking agencies and the FTC to regulate unfair and deceptive acts or practices for all persons within its jurisdiction, with mortgage prepayment penalties and yield spread premium payments to mortgage brokers singled out by the plan as examples of practices the CFPA might use this authority to ban. The plan separately targets mandatory arbitration clauses, which the CFPA would have authority to restrict "to promote fair adjudication and effective redress" or ban entirely.

More State Enforcement. The plan contemplates that states would have concurrent authority to enforce CFPA regulations and that such regulations would constitute a floor, leaving states free to adopt stricter rules. It further contemplates that federally chartered institutions would have no preemption from "nondiscriminatory consumer protection and civil rights laws." In the absence of any indication on whether state usury laws would be considered "consumer protection" laws, the plan raises the possibility that the administration's proposed legislation could include amendments to the federal laws allowing banks and savings institutions to export interest rates. Additionally, despite having advocated a contrary position before the U.S. Supreme Court only two months earlier in Cuomo v. Clearing House Association, the administration now proposes that states be able to enforce their consumer protection and civil rights laws – and federal consumer protection laws – against federally chartered institutions.

New Disclosure Standard. The plan would limit the ability of service providers to obtain a safe harbor by using model forms. The plan would require financial service providers to give disclosures that are technically compliant, non-deceptive, and "reasonable." To satisfy this new standard, marketing materials, disclosures, and other consumer communications would have to identify any significant product risks, and a provider that failed to meet this duty would be subject to administrative action by the CFPA. When introducing a new product or service, a provider would risk liability (even for using a model form), unless the provider obtained a "no action letter" or waiver from the CFPA.

Mandated Financial Products. The plan contemplates that the CFPA would define standards for "plain vanilla" financial products, which providers would be required to offer alongside any alternative products. "Plain vanilla" products would be entitled to a presumption that they are "suitable and affordable" for the consumer, while alternative products would not enjoy such a presumption and would be subject to greater scrutiny and higher penalties for violations. The plan includes "strong warning labels," as well as financial experience questionnaires and written "opt-ins," as examples of methods the CFPA might require providers to use to prevent consumers from obtaining unsuitable alternative financial products.

Ballard Spahr's Consumer Financial Services Group is nationally recognized for its guidance in structuring and documentation of new consumer financial services products, its significant experience with the full range of federal and state consumer credit laws throughout the country, and its skill in litigation defense and avoidance (including pioneering work in pre-dispute arbitration programs). For more information, please contact Alan S. Kaplinsky, 215.864.8544 or kaplinsky@ballardspahr.com; Jeremy T. Rosenblum, 215.864.8505 or rosenblum@ballardspahr.com; John L. Culhane, Jr., 215.864.8535 or culhane@ballardspahr.com; Barbara S. Mishkin, 215.864.8528 or mishkinb@ballardspahr.com; or Mark J. Furletti, 215.864.8138 or furlettim@ballardspahr.com.

Ballard Spahr remains at the forefront in guiding clients dealing with the administration's efforts to address the financial crisis. For prior alerts from our Economic Stabilization and Recovery Initiative, please click here.

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