Two groups representing the payday lending industry sued the Consumer Financial Protection Bureau on Monday to invalidate the agency's rule imposing tough restrictions on small-dollar loan providers.

The lawsuit, filed in the U.S. District Court for the Western District of Texas, alleges that the CFPB rule is "arbitrary, capricious, and unsupported by substantial evidence," and therefore in violation of the Administrative Procedure Act.

The plaintiffs, the Community Financial Services Association of America and the Consumer Service Alliance of Texas, also argue in the lawsuit that the CFPB's structure is unconstitutional, violating the separation of powers principle.

Mick Mulvaney, OMB director and acting director of the CFPB
Acting CFPB Director Mick Mulvaney said in January that he would reconsider the payday rule. Mulvaney also supports an effort by GOP lawmakers to block the regulation through the Congressional Review Act. Bloomberg News

“The Final Rule rests on unfounded presumptions of harm and misperceptions about consumer behavior, and was motivated by a deeply paternalistic view that consumers cannot be trusted with the freedom to make their own financial decisions,” they said in the lawsuit. “The Bureau ignored and attempted to discount the available research showing that short-term, small-dollar loans result in improved financial conditions, not harm, because in many cases they are better than the alternative options available to consumers.”

The rule, finalized under former CFPB Director Richard Cordray, has already taken hits from many sides. The bureau's acting director, Mick Mulvaney, said in January that he would reconsider the rule, and he also supports an effort by GOP lawmakers to block the regulation through the Congressional Review Act.

But a lawsuit challenging the payday rule might have a better chance of success under Mulvaney because the agency’s leadership seems loath to defend the rule in court.

“We are seeking our day in court to obtain relief for American consumers and small businesses who will be hurt by the regulatory overreach of the CFPB under former Director Richard Cordray’s highly partisan tenure,” said Dennis Shaul, the CEO of the Community Financial Services Association of America, in a press release.

Mulvaney, meanwhile, has dropped at least five investigations into payday and installment lenders, including those associated with Indian tribes.

The lawsuit alleges that an ability-to-repay requirement, which is the centerpiece of the rule, is a limitation on lenders that is fundamentally inconsistent with consumers who need payday loans.

"Consumers, many of whose income and expenses vary from one month to the next, use payday loans precisely because their net income in a particularly month may be insufficient to satisfy their financial obligations," the lawsuit states.

The lawsuit also claims the CFPB should not be issuing any rule governing payday lenders because Congress explicitly restricted the bureau from establishing a usury limit.

"The Final Rule flagrantly runs afoul of this statutory restriction by improperly targeting payday and other covered loans because of their alleged 'high cost' and 'unaffordability' — i.e., because of their high interest rates," the lawsuit states. "Likewise, Congress’s express delegation of authority to impose an ability-to-repay requirement for other types of loans demonstrates that Congress intended to deprive the Bureau of the authority to impose such a requirement for short-term, small-dollar loans."

In addition, the lawsuit alleges that the CFPB should not have the power to define "unfair, deceptive, and abusive acts and practices," known as UDAAP. The Dodd-Frank Act specifically gave the CFPB the authority to target UDAAP acts of wrongdoing and punish firms that commit them.

"When Congress does confer decision-making authority upon an agency, it must lay down intelligible principles to which the agency is directed to conform," the lawsuit states. "Congress’s delegation of UDAAP authority here, even with the Act’s attempt at further definition, affords the Bureau discretion that is far too subjective and imprecise."

Echoing past legal challenges of the bureau's authority, the plaintiffs say CFPB directors have too much power.

"It is unconstitutional for Congress to vest executive power in officers who are not removable by, and hence not accountable to, the President," the lawsuit states.

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