Last month I wrote about the Consumer Financial Protection Bureau’s proposed rule to regulate “Payday, Vehicle Title, and Certain High-Cost Installment Loans,” and its intrusion into traditional vehicle finance. I’ve spent more time reviewing the proposed rule, and have concluded that the CFPB has very likely drafted a proposal that sets an effective usury cap in direct violation of the Dodd Frank Act’s (DFA) express prohibition on such action:
“No provision of this title shall be construed as conferring authority on the bureau to establish a usury limit applicable to an extension of credit offered or made by a covered person to a consumer, unless explicitly authorized by law.”
The proposed rule makes short-term loans that fail to adhere to some onerous origination requirements unfair and abusive. The same is true for certain longer-term loans, i.e., the proposed rule imposes significant requirements on such loans with a “total cost of credit” that exceeds 36%, in order for the loan not to be deemed unfair and abusive. “Total cost of credit” is a term of art; it means the regular Truth in Lending APR calculation, plus the cost of items that the Truth in Lending Act excludes from the APR, primarily certain ancillary products.
The additional requirements are specific, time-consuming, and go far beyond any underwriting standards in existence today — that they effectively bar a creditor from making the kinds of loans the CFPB clearly doesn’t like, even if they are perfectly legal under state law. In essence, if a loan has certain characteristics and/or exceeds a certain arbitrary rate, it is unfair and abusive.
What is going on?
The CFPB says that it is opposed to consumers getting caught in a cycle of debt by renewing short-term loans over and over. It is also opposed to longer-term loans that exceed an arbitrary “total cost of credit” of 36%. Put another way, the CFPB is opposed to sequences of short-term loans, and to longer-term loans over 36%, but is OK with one or two short-term loans in a row, and any longer-term loan at less than the defined rate of 36%. Put yet another way, the CFPB doesn’t like high interest rates or risk based pricing, and wraps these kinds of loans in the mantle of unfairness and abusiveness. But if it really is the “cost” of loans that irks the CFPB, that’s all about “interest,” which makes it all about “usury” — the one place it cannot go.
What is usury?
Originally, usury was simply another word for “interest,” i.e., any cost for borrowing money in excess of the principal was usury. Over time, the term has become more nuanced. It is a rate cap up to which interest can legally accrue, and above which a loan becomes “usurious,” i.e., illegal.
In the United States, individual states regulate usury (i.e., interest) in a variety of ways, e.g., through laws specific to certain types of credit, and laws to which a lender is subject if there is no other (better) rate authority available.
If it wanted to, Congress could regulate interest rates through its Commerce Clause authority (and has done so, sparingly), but that would create tension with the 10th Amendment (i.e., the lawmaking left to the States). Where it has chosen to use its Commerce Clause authority, it tended to recognize that usury is the province of the states. For example, in the Racketeer Influenced and Corrupt Organizations Act, Congress placed a criminal limit on interest rates using its Commerce Clause authority. RICO creates criminal penalties for persons who engage in a “pattern of racketeering activity” or “collection of an unlawful debt” and who have a specified relationship to an “enterprise” that affects interstate or foreign commerce. It’s a felony to lend or try to collect money at an interest rate more than twice the local state usury rate. Congress set a cap on how much interest is legal for RICO purposes, but explicitly yielded to state law in making that determination, perhaps evidencing its understanding that usury limitations are a state power.
Congress has regulated interest through its Constitutional authority to regulate the military. For example, the Servicemembers Civil Relief Act imposes a 6% limit on certain transactions, and the more recent Military Lending Act imposes a 36% cap (similar to the one in the proposed rule) on certain transactions. Perhaps the CFPB believes it has the same authority as the Department of Defense to implement its own version of a 36% cap. But notably, these caps were mandated by acts of Congress.
Neither the DoD nor any other agency had authority set caps otherwise. As you’ll note above, the language in the Dodd-Frank prohibition allows Congress to give the CFPB express authority to impose a usury limit. Importantly, it did not do so in the DFA, nor has it done so in any subsequent legislation.
Of course, the CFPB may argue that the 36% limitation is not a cap; it is merely a measuring tool that renders a loan unfair and abusive if it has certain characteristics or exceeds some arbitrary rate.
Oh, a rose by any other name . . .
One need not call something a usury limit for it to be a usury limit. And simply calling it unfair and abusive doesn’t (or shouldn’t) cure that defect. If the proposed rule has the effect of a usury limit, then that’s what it is. Otherwise, what useful meaning does the DFA prohibition have if the CFPB can skirt it by using “triggers” instead of “limitations,” or by calling a loan “unfair and abusive” because of its cost, instead of calling it usurious? Either way, the result is the same. Certain loans are illegal, generally due to their cost. That sure sounds like a limit to me.
One thing is certain. If the CFPB is successful in disguising its unauthorized usury limit as something different, i.e., unfair and abusive, it does not bode well for the auto finance industry.
If it only needs form over substance, then the CFPB will likely feel comfortable regulating auto dealers (despite the prohibition on doing so in the DFA) by imposing limits on what finance companies can and can’t finance.
That will be a dark day for dealers and finance companies alike.
Michael Benoit is a partner in the Washington, D.C., office of Hudson Cook LLP. He is a frequent speaker and writer on a variety of consumer credit topics. Michael can be reached at 202-327-9705 or mbenoit@hudco. com. Nothing in this article is legal advice and should not be taken as such. Please address all legal questions to your counsel.