WASHINGTON — Of the hundreds of thousands of words in the Dodd-Frank Act, none has caused as much consternation as the seven-letter one tucked into Title 10: abusive.
That's the new standard under which the Consumer Financial Protection Bureau can prohibit certain acts and practices. But what does it mean, and how is it different from practices that are unfair and deceptive, which are already banned? More than a year after the law's passage, bank lawyers and bureau officials still can't say for sure.
"I've always said it's like pornography: I'll know it when I see it," said Jeffrey Taft, a partner with Mayer Brown LLP. "It's hard for you to define it. I think it will be virtually impossible for the bureau to really come out with concrete guidelines."
Bankers and lawyers can point to a string of court cases and regulations that help define "unfair and deceptive" acts. But they argue Congress threw the door wide open by adding "abusive" into the mix, fueling suspicion that the CFPB can use the term to ban any product or practice it wants.
For the past year, lawyers have dug through old regulations, reviewed decades-old case law and parsed speeches from bureau officials for clues about how the bureau might shape the new standard.
The law itself provides some guidelines.
Under Dodd-Frank, the bureau cannot declare an act or practice abusive unless it: "materially interferes with the ability of a consumer to understand a term or condition of a consumer financial product or service; or takes unreasonable advantage of a lack of understanding on the part of the consumer of the material risks, costs, or conditions of the product or service; the inability of the consumer to protect the interests of the consumer in selecting or using a consumer financial product or service; or the reasonable reliance by the consumer on a covered person to act in the interests of the consumer."
Since Congress specifically defined the term, CFPB officials recognize that the authority must be carefully applied, according to a person familiar with the bureau's thinking. Acts or practices have to meet that legal standard in order to be considered abusive, and claims have to be backed up by provable facts.
For right now, the CFPB cannot even apply the new standard. Without a Senate-confirmed director in place, the CFPB is free to enforce laws already on the books, including cracking down on unfair and deceptive acts, but cannot implement new authorities, such as restricting abusive practices.
Still, even when they have the new power, CFPB officials have publicly signaled they do not intend to use it to ban a slew of products. Elizabeth Warren, who helped launch the bureau this year, told a House panel in July that she didn't know of a single product that should be banned at this time.
"We have made all of our priorities clear, and we have no intention of banning a product," Warren testified before the House Oversight committee.
But that gives little comfort to the legion of bank lawyers trying to advise their clients on how to comply with the new law — particularly, how to evaluate whether new products might some day be considered abusive.
Suzanne Garwood, a lawyer with Venable LLP, said her firm is looking to the Federal Trade Commission for guidance.
Peggy Twohig, the bureau's assistant director for nonbank supervision, previously served as the associate director of the FTC's division of financial practices, and officials have said that the agency's enforcement processes will be based largely on the FTC's model.
"Our perspective is that since the CFPB has a lot of its DNA coming from the FTC, that we've looked to basically what the FTC has done to see what they consider to be abusive," Garwood said.
One of the most telling examples is the FTC's telemarketing sales rule, which was also related to the federal Do-Not-Call law. The agency was targeting a pattern of behavior that was so egregious in ignoring people's right to privacy — based on the types of calls and the time calls were made — that it was abusive, Garwood said.
"The behavior that people sort of know is bad but they do it anyway," she said. "I think that the bureau will take this theory that the FTC had been sort of percolating for years and turn that into a more concrete standard."
That would ultimately boil down to something that materially interferes with the ability of a consumer to understand the terms of the product — "materially" being the key word, Garwood said.
There is a fear among bankers, however, that the bureau will say that certain products are inherently abusive, she added.
"I'm not sure that the CFPB is going to go there, because I don't think they want to cut off credit, but I think that there might be a concern that they could be overreaching."
In looking at old case law regarding consumer cases at the state and local level, Taft said he has come across another, similar word: unconscionable.
Certain practices — not necessarily consumer credit cases — were found to be unconscionable by courts in the mid-70s. A number of states adopted similar laws in the 60s and 70s establishing a uniform credit code, which made mention of certain unconscionable practices in which a seller knowingly took advantage of the consumer's inability to protect his interests "by reason of physical or mental infirmity, ignorance, illiteracy, inability to understand the language of the agreement," or similar factors.
While that criteria would be unlikely to appear in regulations or laws today, Taft said, "It's the same kind of logic."
"They're looking to protect a certain group of consumers who might not be able to fend for themselves in today's marketplace," he said.
Other observers said the provision seems to open the door for a so-called suitability requirement.
In other words, when banks are designing or selling a product, banks would first have to determine whether a product is suitable to a consumer, whether they understand it and whether the bank ought to provide it to them.
"It definitely creates a much higher threshold in terms of duty of care, at least on the face of the statute, than is imposed on banks and other financial institutions with respect to financial products," said Kevin Petrasic, a partner with Paul, Hastings, Janofsky & Walker LLP.
L. Richard Fischer, a partner with the Morrison & Foerster law firm, said he has advised clients to look carefully at public comments by CFPB officials. Warren, for instance, has indicated that products should be appropriate for the individual consumer, and has talked about the responsibility that financial institutions, or sellers of financial products, have to consumers.
Consumers "go to a mortgage broker and reasonably expect that every broker puts the customer's interests first," Warren said at the Independent Community Bankers of America convention in San Diego in March.
Developing consumer-specific products and services could preclude the national marketing of those products, making them more expensive to deliver, Fischer said.
It could also raise the potential for violations of fair lending laws if banks are limiting certain categories of consumers to particular products, observers said.
"It creates a knife edge," said Jo Ann Barefoot, the co-chairman of Treliant Risk Advisors. "What happens if you decide that you think that certain loans are unsuitable for proportionately more minority borrowers, or more women or more elderly, then you could be charged with not being liberal enough in your lending."
Barefoot said the abusive standard seems to be a backdoor way of inserting a suitability requirement, which was initially proposed, but removed from the bill's final language.
Although the statute doesn't make reference to the way that banks target consumers in its "abusive" guidelines, Barefoot does when speaking with clients.
"One of the things that people need to think about is what is the target customer for the product, and if the product is less desirable than your mainstream product," such as secured credit cards, debt cancellation products or reverse mortgages. "If it's a vulnerable population, then the smart risk management thing for the industry is to give more care to being sure people understand it, rather than less or even equal."
Despite the guidelines in Dodd-Frank, observers said the bureau still has considerable leeway in crafting the rule.
Michael Benoit, a partner with Hudson Cook LLP in Washington, said one of the biggest problems with the provision is that Congress did a poor job of distinguishing "abusive" from "unfair" and "deceptive."
Banks are familiar with the latter terms, and know how to avoid offering products or services that fall into that realm. The word "abusive," however, had cropped up in only a handful of previous regulation, and was defined for the first time in Dodd-Frank.
The guidance raises more questions than answers, Benoit said.
What would be material interference? What would take unreasonable advantage of consumers? What do you have to do to ensure that a consumer is not relying on you to act in their best interests? Where do you draw the line between taking reasonable advantage of a consumer, and taking unreasonable advantage?
Although the bureau has indicated it plans to address these questions primarily through supervision and enforcement action, rather than through rulewriting, Benoit said the industry would rather see rules.
"You may not like them at the end of the day, but they create some certainty," he said. "You know how to design your business practices, as opposed to, 'This may be ok, it may not be ok, and we may end up spending millions of dollars in litigation over something that has been fairly standard in the industry for 100 years.'"
Banks can also look for guidance from recent enforcement actions involving unfair or deceptive acts, many of which appear to be influenced by the new abusive standard, Barefoot said.
"When you talk with regulators, they seem to be subjectively applying this general … abusive standard, as well," she said.
JPMorgan Chase Bank, Meta Financial Group, Woodforest National Bank, and Monterey County Bank are among a handful of banks that have been forced to pay monetary penalties this year for violations related to unfair or deceptive practices.
Many lawyers said they advise their clients to use the good, old-fashioned smell test: if a product doesn't seem right, or if you wouldn't want your child or elderly parent to use it, you need to take a closer look at it.
"One could argue that … financial institutions with strong or successful marketing plans always look out for the best interests of consumers, because those are the products that are going to be the most successful over time, those that are good for consumers," Fischer said. "If you develop those types of products, price them appropriately, you're going to do very well."