WASHINGTON The Consumer Financial Protection Bureau is taking a strong stance against lenders that use contract clauses that block consumers from going to court in a report due out Thursday that will likely lead to new regulations.
At issue are so-called arbitration clauses, which lenders have used for decades in contracts with consumers and businesses to force disputes to be settled outside of court through a third-party arbitrator. Although lawmakers have raised objections to such clauses, the Supreme Court has repeatedly upheld their use.
But the CFPB could change that. In its report, the agency strongly suggests that mandatory arbitration clauses are more harmful than helpful to consumers. As a result, the agency appears likely to write new rules that could restrict or eliminate the use of arbitration clauses.
According to the Dodd-Frank Act, "the bureau may adopt regulations that 'prohibit or impose conditions or limitations' on the use of such agreements if it finds such measures to be 'in the public interest and for the protection of consumers' and such findings 'are consistent with the study' that the bureau has conducted," CFPB Director Richard Cordray is expected to say Thursday, according to prepared remarks before a field hearing in Dallas. "That is what brings us to the subject of today's discussion."
Arbitration clauses are commonly used by many companies because it's a less expensive way of settling disputes. But the CFPB and consumer groups are concerned that forcing a settlement outside the courts strips away certain legal protections for consumers. They also argue many consumers are not even aware of the arbitration clause imbedded in contracts, some of which are far stricter than others.
"If you were to look in your wallet right now, the chances are high that one or more of your credit cards, debit cards, or prepaid cards would be subject to a pre-dispute arbitration clause," Cordray said. "Like the other terms of most consumer financial products, they are essentially 'take-it-or-leave-it' propositions. Consumers may open a new account or take on a new product without being aware of what the contract says or without fully understanding its implications."
The CFPB's report found heavy use of arbitration clauses in credit card agreements that were also more complex than any other part of the contract in terms of "readability." Only one-quarter of the clauses for checking accounts and credit cards had an opt-out option from the arbitration requirement but that required the consumer to send a signed document within a certain amount of time, the report said. Overall, more than 90% of the arbitration clauses also bar consumers from creating a class of consumers facing similar problems, whether in arbitration or in court.
"We have identified more than 3,000 federal court cases filed by consumers over the same period from 2010 through 2012 about credit card issues alone. That includes more than 400 class actions, in which one or more individuals may seek relief on behalf of many other consumers as well, sometimes even millions of other consumers," Cordray said. "We plan to spend more time analyzing and considering class actions in the second phase of our study."
Just before the report's release, Sen. Al Franken, D-Minn., said he would chair a Senate Judiciary Committee hearing a few hours after the CFPB's field hearing to discuss his proposed bill to stop mandatory arbitration. It would unwind the Federal Arbitration Act that congress originally enacted in 1925.
Franken's concerns were triggered by a recent Supreme Court decision to uphold the use of arbitration in favor of American Express over retailers who were seeking a class-action antitrust complaint rather than disputing through individual arbitration as their contracts required.
"I've heard from Minnesotans that recent decisions by the Supreme Court have given big corporations the unbridled ability to deny small businesses and consumers their day in court, and something has to be done to stop it," Franken said in the release. "This hearing will shed light on the need to restore justice and pass my legislation to make sure that military service members, consumers, and workers maintain their right to fight back when they aren't treated fairly."
Cordray also noted the "dramatic turn" of events in which the Supreme Court has largely favored the use of arbitration during the last 50 years. He said that the Dodd-Frank Act, however, took a more skeptical view of arbitration clauses, including banning their inclusion in residential mortgage contracts.
"As judicial doctrine on arbitration has evolved, though, one basic premise of that doctrine has become clear: it is Congress that has the authority to adopt laws to regulate dispute resolution procedures in the manner that it deems most conducive to the administration of justice," Cordray said. "Where Congress addresses arbitration as a method of dispute resolution, either generally or in particular federal statutes, then the courts must follow its lead."
The Dodd-Frank Act also requires the CFPB to submit a report on arbitration to Congress and gave the agency the authority to write new rules on arbitration regardless of what lawmakers do.
Though the industry expects new rules will eventually be put into place limiting the use of arbitration clauses, Cordray said the agency needs to perform further studies. He specifically noted that the agency found that large banks were more likely to use arbitration clauses on credit cards and checking accounts than small banks and credit unions. However, the exact opposite was true for prepaid cards, in which arbitration clauses were found in nearly any size issuer, the report noted.
Cordray said this could be because prepaid cards are "a newer and more highly concentrated market." But he added that all of the key points will need to be further investigated, including why there are so few consumers using arbitration when compared to the 13 million consumers who settled through lawsuits and class actions. The CFPB is looking to perform a survey of consumers specifically on credit card agreements before submitting a final report to Congress.
"We recognize that Congress intends the results of this study to be the basis for important policy decisions that the Consumer Bureau will have to make in this area," Cordray said.