CFPB's Auto Finance Push Hurts Consumers
The Consumer Financial Protection Bureau has struggled internally with how to end potential discrimination in auto lending, including debating whether it should cite a large lender in the hopes of effectively ending the ability of partnering dealers to mark up loans with all lenders.
Lawmakers from both political parties on Tuesday sharply criticized the Consumer Financial Protection Bureau's attempt to restrict or eliminate auto dealers' ability to markup a loan by citing their partnering lenders, arguing it would result in higher prices for consumers.
Government investigations of auto lending are beginning to pile up, and they are weighing on investors' perceptions of the fast-growing industry.
The way the Consumer Financial Protection Bureau is regulating the auto finance industry's relationships with dealers is simply wrong — both legally and ethically. It's also directly counterproductive to its goal of protecting consumers.
Congress, in its occasional wisdom and, in no small part, as the result of lobbying by the nation's auto dealers, specifically carved dealers out of the CFPB's scope of oversight. This apparently did not sit well with the CFPB — which, in a thinly veiled end-around move, attempts to supervise auto dealers through the banks and nonbanks that offer financing to dealers. In effect, since it does not have the statutory authority to do so itself, the CFPB is forcing auto lenders to police dealers. The lenders must oversee how dealers mark up loans and assess whether there is any discrimination.
It seems to me that it would have been much more evenhanded, and potentially better received by the industry, for the agency to have simply engaged in rulemaking for auto dealers by going through proper channels. Instead, the CFPB's regulation of auto finance is an unfair, improper and potentially illegal attempt to control what lenders and dealers charge for their services.
The legal authority of any CFPB rulemaking directly or indirectly impacting auto dealers is dubious given the carve-out by Congress. Furthermore, the agency admits that it has not found actual discrimination. Instead, it says there is implied discrimination because some minorities reportedly received worse lending terms than nonminorities.
The CFPB announced its use of disparate impact methodology in March 2013. Now even a neutral policy that affects protected borrowers adversely can result in penalties for a lender — regardless of the lender's intent. The methodology is flawed, and the agency has acknowledged as much by saying that disparate impact could overestimate discrimination. Even so, the CFPB says it prefers this method to the alternative where bias might be underestimated. This parental-esque concern, however, fails to take into account the reputational harm to lenders that results from the CFPB basing damages on overestimated figures.
The agency's determination of whether borrowers are minorities by looking only at surnames, geographic location, or a combination of both, is misguided as well as being somewhat offensive. Moreover, it blatantly ignores business factors recognized by the Justice Department in other contexts as legitimate, including but not limited to credit scores; characteristics of vehicles; timing, location and structure of the deal; and whether the car is new or used. Use of these valid factors by the CFPB would undoubtedly show that fewer consumers are being harmed than is alleged.
A 2014 white paper in which the CFPB offers some details on its disparate impact methodology lacks sufficient detail in indicating how lenders should structure their compliance management systems to avoid being cited for discrimination. The result is a widespread, costly duplication of efforts since every lender must come up with its own methods to prevent and remedy potential disparities.
The agency's targeting of the auto finance industry is reportedly in response to allegations that dealers pump up interest rates, make too many risky subprime loans and discriminate by adding different markups to these loans. It is simply unrealistic for the CFPB to believe it can change dealers' entire market pricing theory through regulation of the lenders who serve them. Most lenders already have a 2.5 percent cap on dealers' price discretion, adopted as a result of settlements in the mid-2000s.
The CFPB's focus on dealer markups likely will raise financing costs. If markups were eliminated, as the agency suggests, dealers would try to replace that revenue, and the inescapable outcome is that consumers will continue to be the source of any new revenue. No doubt the increased cost of the aforementioned compliance programs will be passed on to consumers too. The CFPB estimates the labor costs of a compliance exam to be $28,000. Industry trade groups, however, estimate the cost at $75,000 to $100,000. In addition, the guidance recommending lenders adopt a flat-fee compensation model for dealers would hurt competition and undoubtedly boost car prices.
Frankly, the agency's actions assume ignorance on the part of consumers that is presumptuous and offensive. If the goal of the CFPB is indeed protection of consumers, it has failed miserably.
Blair Evans chairs the auto finance team at the law firm Baker Donelson and practices in the areas of creditors' rights, collections and business litigation. She can be reached at email@example.com.