Today, the Consumer Financial Protection Bureau (CFPB) announced at a field hearing in Albuquerque, New Mexico, that it is proposing regulations that would prohibit covered providers of certain consumer financial products and services from using an agreement with a consumer that provides for arbitration of any future dispute between the parties to bar the consumer from filing or participating in a class action with respect to the covered consumer financial product or service. The proposed regulations would also require a covered provider that is involved in an individual arbitration pursuant to a pre-dispute arbitration agreement to submit specified arbitral records to the CFPB.

The proposed regulations are based on the CFPB’s conclusions, inter alia, that: "individual dispute resolution is insufficient as the sole mechanism available to consumers to enforce contracts and the laws applicable to consumer financial products and services," "class actions provide a more effective means of securing relief for large numbers of consumers affected by common legally questionable practices and for changing companies' potentially harmful behaviors," and "arbitration agreements block many class action claims that are filed and discourage the filing of others." According to the CFPB, the proposed regulations "would open up the legal system to consumers so they could file a class action or join a class action when someone else files it."

The CFPB's action was widely anticipated since it outlined a virtually identical proposal at a field hearing in Denver, Colorado, on October 7, 2015, in preparation for convening a Small Business Review Panel to gather feedback from small industry stakeholders. The CFPB released the Small Business Review Panel Report along with the proposed rule. The CFPB acknowledged that participants in the Small Business Regulatory Enforcement Fairness Act process asserted that the class proposal would have disproportionate impacts on small entities. Nevertheless, it concluded that "the class proposal would on balance be in the public interest."

Ballard Spahr partner Alan Kaplinsky was invited by the CFPB to attend the field hearing to present the financial services industry's position on the proposed regulations. Also attending were Paul Bland of Public Justice; Deepak Gupta of Gupta Wessler, PLLC; Kevin Hammar of Aldridge, Hammar, Wexler & Bradley, P.A.; Christine Hines of the National Association of Consumer Advocates; and Travis Norton of the U.S. Chamber of Commerce. Mr. Kaplinsky testified at the hearing:

I realized on my way here that the arbitration field hearings have been moving in a westward direction. From Newark, to Denver, to Albuquerque. That is the direction that the sun sets. Maybe that was intended. If the proposed rule becomes effective, the sun will set on one of the most innovative experiments in modern American justice reform. One that the Bureau's own study proved is a fast, inexpensive, and effective procedure for consumers to resolve their disputes with financial services companies. And one that is far superior for them than class action litigation. What I am describing is arbitration.

I understand that the Bureau has not outright prohibited the use of all arbitration. It continues to permit individual arbitration, with certain restrictions, and some companies may continue to offer that. But realistically, by requiring companies to insert into their arbitration provisions language excepting class actions from arbitration, the Bureau is in reality proposing an outright ban. It is a de facto ban; let's call it what it is. If this proposed regulation becomes final, most companies will simply abandon arbitration altogether. That's because the cost-benefit analysis of using arbitration will shift dramatically. Currently, companies almost fully subsidize the cost of an arbitration proceeding, which they do not have to do in court. That's several thousands of dollars per case. One of the countervailing benefits is not having to spend that money defending class actions, the majority of which are meritless or are settled individually by the plaintiff. If companies have to defend class actions and subsidize individual arbitrations, that is a different cost-benefit calculation.

I was sincerely hoping this day would not come, because it is a sad day for consumers. I am not speaking out of self-interest. I pioneered the use of class waivers more than 15 years ago. But it will be much more lucrative for my partners and me, and for other defense counsel, to defend class actions instead of drafting arbitration agreements. However, I have sincerely believed from the beginning that arbitration was an essential component to achieving real justice for both sides of the dispute, consumers and companies. Arbitration provides meaningful relief to consumers while protecting companies from the well-documented abuses of the class action system. Plaintiffs' class action lawyers are the ones who will benefit the most. The losers will be the consumers you are charged with protecting.

The Bureau complains that consumers don't bring many arbitration proceedings or even small claims court actions. It claims that class actions provide better relief. But the Bureau's study found that 60 percent of class actions provide no relief at all to consumers because the plaintiffs settle individually or drop the case. None of the class actions studied by the Bureau actually went to trial. Only 12.3 percent of them had settled at the time the study was completed. But consumers rarely exercised their right to participate in the class action settlements. As few as 4 percent of the consumers who were entitled to settlement benefits bothered to send back the claim form. Maybe that's because they realized the benefit from class actions is hardly worth the effort. According the Bureau's own study, the average putative class member receives $32.35, or a coupon worth nothing, after waiting two to five years. Compare that to arbitration. The Bureau's study shows that consumers actually get merits decisions in arbitration. They get a result in two to five months. And they obtain an average arbitration award of $5,389 if they prevail. That's 166 times what they recover in class actions.

While individual class members received little or no benefit from the class actions during the few years studied by the Bureau, their lawyers received a whopping $425 million. If the proposed rule becomes effective and arbitration is abandoned as I predict, that attorneys' fee number will skyrocket. And who will end up paying for all of those fees and settlements? The same consumers the Bureau says it is protecting by prohibiting class action waivers. They will ultimately pay more for goods and services, or receive less of them. That is Economics 101.

Consumers will get no real benefit if companies abandon their use of arbitration because of the proposed rule. And, they will lose the opportunity to obtain meaningful relief in arbitration. What kind of reform is that? I am disappointed that the Bureau did not allocate even one dollar of its vast resources to educating consumers on the benefits of arbitration. That's a large part of the reason why there aren't more consumer arbitrations. Instead, the Bureau has stripped them of the only real chance they had to obtain meaningful relief in today's civil justice system. The court system is overcrowded, overwhelmed, understaffed, and expensive. Only arbitration enables consumers to resolve disputes in an economical, expeditious, convenient, and efficient manner. So it truly pains me to say, as Justice Kagan said in another context, that the Bureau's proposed rule is "wrong, wrong, and wrong again."

The proposed regulations follow the CFPB's study of consumer arbitration mandated by Section 1028 of the Dodd-Frank Act. Section 1028 provides that the CFPB, "by regulation, may prohibit or impose conditions or limitations on the use of" pre-dispute arbitration agreements concerning consumer financial products or services if it finds doing so "is in the public interest and for the protection of consumers." Despite the CFPB's claims that the study demonstrated that arbitration agreements are detrimental to consumers, our analysis found that, in reality, the data in the study confirmed that arbitration is a faster, less expensive, and far more effective way for consumers to resolve disputes with companies than class action litigation.

The CFPB stated that comments on the proposed regulations must be received 90 days after they are published in the Federal Register. It further confirmed that "[c]onsistent with the Dodd-Frank Act, the proposed rule would apply only to agreements entered into after the end of the 180-day period beginning on the regulations’ effective date." The CFPB is proposing an effective date of 30 days after a final rule is published in the Federal Register. Therefore, the proposed regulations would not apply to arbitration agreements entered into before 210 days after a final rule is published in the Federal Register. Nevertheless, the proposed regulations raise numerous questions concerning whether arbitration agreements entered into before the effective date survive when various circumstances surrounding the agreements change after the effective date.

Thus, it is likely that any final rule would not take effect until the second quarter of 2017, at the earliest. In the meantime, companies that do not presently use arbitration agreements in their financial services contracts should strongly consider adding them, since agreements entered into before a final rule becomes effective are grandfathered under existing law, which is favorable to class action waivers. In AT&T Mobility v. Concepcion, the U.S. Supreme Court held that the Federal Arbitration Act preempts state laws that refuse to enforce class action waivers in consumer arbitration agreements. Moreover, companies currently using arbitration agreements should promptly consult with counsel to consider what steps they can take to reduce litigation risks in light of the CFPB’s proposed regulations.

On May 23, 2016, Ballard Spahr attorneys will hold a webinar on the proposal from 12:00 PM to 1:00 PM ET. The webinar registration form is available here.

Ballard Spahr's Consumer Financial Services Group pioneered the use of pre-dispute arbitration provisions in consumer financial services agreements. It is nationally recognized for its guidance in structuring and documenting new consumer financial services products, its experience with the full range of federal and state consumer credit laws, and its skill in litigation defense and avoidance.


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