WASHINGTON — While the industry has been largely focused on how the Consumer Financial Protection Bureau will target bankers, the new agency is already busy figuring out how it will supervise the tens of thousands of nondepository financial companies under its purview.
The CFPB has made the task one of its top priorities, including hiring relevant staff and beginning coordination with state officials, but it is a massive undertaking. The agency's creation marks the first time that such companies, including check cashers, mortgage lenders and payday lenders, will face consistent federal supervision.
It is also one of the few areas where bankers and the new bureau see eye to eye. Although most industry executives still oppose the creation of the agency, now that it has been formed they are hoping it will focus at least as much on nonbanks.
"The concern would be, because the banks are more visible and they are subject to more regular exams, that it's just too easy to fall back on giving the banks more scrutiny," said Ed Yingling, president and chief executive of the American Bankers Association. "The danger is as you make things work that you pile on banks, and the nonbanks can engage in abusive practices. … From our perspective the first order of business should be to look at nonbanks."
The Obama administration clearly agrees.
"We will have a level playing field, we will have a more consistent oversight between depositories and nondepositories providing the same functions and products to consumers," said a Treasury official, who spoke on condition of anonymity. "That's the main policy goal. There's been a huge disparity in the past with depository institutions getting pretty regular review and the nondepositories, their competitors, having no regulator federal oversight."
But that task is likely to be extremely difficult. The Conference of State Bank Supervisors estimates there are 71,000 money transmitters, prepaid card issuers, check cashers, payday lenders, finance companies and other nondepositories that could fall under the CFPB's jurisdiction. That number dwarfs the 7,773 banks and thrifts in the country, all of which already receive regular federal supervision.
First, the CFPB must determine which nondepositories to target. The agency must balance out a desire to set a level playing field against broadening its scope so much that it loses the capacity to enforce its own rules.
While the Dodd-Frank law lays out a few institutions the bureau should cover, such as mortgage lenders, the agency may expand that authority when it outlines the extent of its authority in a rule due by July 21, 2012.
"To a large extent it is going to come down to who they define as covered persons," said Bill Himpler, executive vice president for federal affairs at the American Financial Services Association. "They're going to probably look at in terms of their first bite at the apple where they can show the most progress, so I would venture to guess they would start with the biggest players."
Once it knows which entities it is targeting, the bureau must devise a strategy for keeping track of and enforcing rules. Some observers have suggested the agency could expand off the National Mortgage Licensing System created by the bank supervisor conference to register mortgage loan originators. All but one state, Hawaii, have joined the system; 29,266 companies and 202,184 individuals have registered.
Richard Neiman, the New York banking superintendent, suggested in a speech Wednesday that the NMLS could be expanded to include other nondepository lenders. "In increasing oversight of nonbanks, the CFPB should also build on state registration and licensing efforts, which have been especially effective for mortgages," Neiman said. "Consideration should be given to expanding the NMLS to intelligently include other nondepository lenders and providers of financial services like money transmitters and payday lenders. This will enhance oversight and accountability for a wider range of institutions."
David Landsman, executive director of the National Money Transmitters Association, said the CFPB must first take a survey of the nondepository world.
"Any serious attempt to regulate an industry as populous and diverse as the money transmitter industry has to begin with a comprehensive census of the entities that are to be regulated," Landsman said. "And from that point on, you can communicate with them and you can decide how you are going to regulate them. What kind of oversight will it be?"
But finding all of those entities will be a challenge, as the Internal Revenue Service and the Financial Crimes Enforcement Network have learned in trying to enforce anti-money-laundering rules on money-services businesses.
CFPB officials plan to use data collection to target appropriate companies, but they are also hopeful some firms will come forward voluntarily to gain some recognition or legitimacy from federal supervision.
The regulatory reform law requires the consumer bureau to establish its own research unit to analyze developments in markets for consumer products and assess access to fair credit. The bureau is hoping to use the research office to direct some of its focus on covered entities and supervision level.
The CFPB also must hire staff, a process it has already started. But some wondered whether it would focus on hiring examiners more familiar with banks versus nondepository institutions.
"If they really want to examine nonbank lenders, then they are going to have to get into more doors than has been the case," said L. Richard Fischer, a partner with the law firm Morrison & Foerster. "It's a very different mind-set … they either have to take bank examiners and introduce them to these new companies and leverage off their understanding of consumer laws, or they have to go the other way and get people who understand what these businesses are and get them to conduct a banklike examination."
It's a prospect that worries some finance companies, who fear banklike exams.
"My hope is that they would work with the state regulatory community, where a lot of these institutions have been regulated for decades," Himpler said. "The finance companies' biggest concern is if the regulator in South Caroline or Georgia is promulgating a new regulation, my guys can call that regulator and ask how does this work. Their concern is moving into the federal realm — that they don't have that sort of interaction and the regulators at the federal level will be much more bank-oriented or big-guy-oriented."
Probably the biggest question mark is how to conduct examinations on such a large group of companies. Options include the Federal Trade Commission model, which focuses on firms after a number of complaints have been filed against them, or an approach similar to that used by bank regulators, where each institution receives a regular exam.
But the CFPB is unlikely to have the necessary staff for regular exams of all companies.
"One question is, will they have the resources and inclination to do regular examinations like we see done at banks?" said Andrew Sandler, a partner at BuckleySandler LLP. "Historically, enforcement against nondepositories by the FTC or AG is complaint-driven."
But Joel Winston, FTC associate director of the division of financial practices, said that using his agency's model has its limitations.
"Law enforcement is a very effective way of gaining compliance, but there is a certain formality to it," he said. "It's not something you can do informally. I think the challenge of the law enforcement model is finding targets and then doing investigations without having supervisory powers."
The Treasury official said supervision will likely be a mixture of those options, with the CFPB conducting regular exams of certain nonbanks while also following up on complaints.
Observers agreed that made sense. "It will be a combination of selective reviews and responses to complaints, because they simply aren't staffed up to do the examination of every entity," Fischer said.
Laurence Platt, a lawyer at K&L Gates, said public actions against abusive nonbanks will have an effect across the industry.
"You can't examine them all, so identify a few and punish them severely and publicly," he said.
Yingling acknowledged that the banking industry does not expect the same kind of scrutiny to be applied to nonbanks given the sheer number of them, but he agreed public actions against a few would have an impact.
"You will not be able to have the same type of scrutiny because they cannot have examiners in every nonbank institution, because there are thousands and thousands of them," Yingling said. "But we do hope they will take an aggressive stance in determining examinations and, more importantly, use enforcement for a more level playing field."
Dodd-Frank requires the CFPB to conduct exams on a risk-based basis, taking into account the size of the entity, the volume of its transactions and its overall risk to consumers, but it remains unclear how that will work.
"You could have something that is a pervasive product or service, but that whatever the issues are, the consumer isn't harmed," the Treasury official said. "You could have a smaller segment of the industry that has a huge impact on consumers if there are problems and they are not complying with the law. So it's really hard to generalize. The first step is to understand the market and then build the program."
John Ryan, executive vice president of the bank supervisor conference, said a risk-based focus cuts down on the number of regular exams the CFPB must do.
"You can risk-focus and you don't have to look at 50,000 entities on a 12-month exam cycle, but maybe these entities that are operating different from the rest of the industry might warrant more attention," he said.
Winston at the FTC said it's important to note that the new bureau will have help. Under the law, the states retain consumer protection authority, and the FTC can also use its powers against nonbanks.
"It's sort of like a three-legged stool," he said. "Between the states, FTC and CFPB there are more cops on the beat, not just of companies of a particular size, but any bad actors. What I think is a very positive thing is there are more resources, so that should result in more effective enforcement."