Five issues to watch in CFPB's Supreme Court constitutionality case

October 1, 2023 9:00 PM

The Supreme Court is set to hear another challenge to the constitutionality of the Consumer Financial Protection Bureau, the watchdog agency envisioned by Sen. Elizabeth Warren after the 2008 financial crisis.

The high court will hear oral arguments on Oct. 3 on a topic central to the Constitution's separation of powers and one the court has typically avoided addressing: Should there be any parameters placed around Congress' authority over the government's pursestrings?

Congress created the CFPB through the 2010 Dodd-Frank Act and specified that the CFPB's director request money from the Federal Reserve Board, subject to specific limitations, to fund the bureau's operations. Last year, the CFPB received $642 million in funding.

The case, CFPB v. Community Financial Services Association of America, hinges on whether the bureau's funding outside the congressional appropriations process is constitutional. The court is poised to answer the question of whether the CFPB's payday lending rule should be vacated because its funding violates the Appropriations clause, clause, which says that "no money shall be drawn from the Treasury, but in consequence of appropriations made by law."

The case is being closely watched for its impact not only on the agency's own funding but also on the funding of other regulatory agencies. Because the Constitution gives Congress authority over the budget, many legal experts think the court's traditionalist justices will rule in favor of the CFPB — rather than double-guess Congress' power over the purse that could potentially open the door for challenges to the funding of other agencies.

While some industry experts want the Supreme Court to gut the CFPB entirely or undo all of the bureau's past actions and rules, legal briefs — including those from the payday lenders that sued the agency — do not support such a sweeping change, experts said. A ruling in the case is expected in April 2024.

In 2020, the Supreme Court ruled that the CFPB's leadership structure was unconstitutional, but the court stopped short of disbanding the agency. In a split 5-4 decision authored by Chief Justice John Roberts, the high court found that the agency's structure vested too much power in the hands of one person and that the president has broad authority to appoint and remove agency heads.

Here are five issues to watch for in the high court's oral arguments:

Rohit Chopra, director of the Consumer Financial Protection Bureau. The legal question before the Supreme Court is whether the agency's funding through the Federal Reserve is "doubly insulated" from Congressional appropriations and thereby unconstitutional.

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The nitty-gritty of what constitutes "double insulation"

The case came before the Supreme Court after three judges on the U.S. Court of Appeals for the Fifth Circuit ruled last year that the CFPB's funding made it "doubly insulated" from congressional oversight. The three-judge panel, all appointed by President Trump, blamed Congress for ceding both direct and indirect control over the CFPB's budget by allowing the agency to determine its own funding from the Federal Reserve, outside of appropriations.

The Fifth Circuit said the bureau's funding constituted "a double insulation from Congress's purse strings," which runs "afoul of the separation of powers embodied in the Appropriations Clause."

But in March, the Second Circuit Court of Appeals came to the opposite conclusion and found no precedent to support the Fifth Circuit's ruling.

Judge Richard J. Sullivan, also a Trump appointee, wrote: "To the contrary, the Court has consistently interpreted the Appropriations Clause to mean simply that 'the payment of money from the Treasury must be authorized by a statute.' We are not aware of any Supreme Court decision holding (or even suggesting) that the Appropriations Clause requires more than this 'straightforward and explicit command.'"

Many lawyers and briefs in support of the CFPB claim there is nothing novel or unusual about Congress's decision to fund the CFPB outside of annual spending bills.

"The essence of the controversy is the scope of the Appropriations Clause, which has a long history of permitting Congress to fund governmental functions through what are essentially user fees," said Joe Lynyak, a partner at Dorsey & Whitney LLP.

One of the core arguments in legal briefs filed by Texas trade groups, which sued the CFPB in 2017 to invalidate the payday lending rule, has to do with the agency's budget being capped at 12% of the Federal Reserve System's 2009 budget, adjusted for inflation.

The payday lenders argue that the CFPB's budget needs to be a specific number — an actual dollar amount — that must be authorized every year by Congress. The payday groups argue that each Congress, in setting funding levels through appropriations, is supposed to be able to overrule what the former Congress did. Tying the CFPB's budget to the Federal Reserve System in perpetuity means that current and future Congresses "are prisoners to the 2010 Congress that passed Dodd Frank," said Brett Natarelli, a member at the law firm Dykema Gossett PLLC.

"Congress set the CFPB's funding level for all time, barring some complete takeover of government by a party willing to reverse that," he said.

Supporters of the CFPB note that Congress has determined "that the assurance of adequate funding, independent of the Congressional appropriations process, is absolutely essential to the independent operations of any financial regulator."

The Marriner S. Eccles Federal Reserve building stands in Washington, D.C. Legal experts say that the supreme court will have a difficult time overruling the CFPB's funding structure without also upending the funding structures of many federal agencies, including the Federal Reserve.

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Disruption at other agencies and potential for more challenges

In the horse-trading around the passage of the Dodd-Frank Act, lawmakers housed the CFPB within the Federal Reserve System largely because banks did not want to pay fees or assessments to fund the agency. Congress has historically given independence to financial regulators to protect the public interest and shield agencies from manipulation or self-dealing by lawmakers and industry.

A core argument that liberal justices may raise is what impact a ruling against the CFPB would have on other agencies such as the Federal Reserve and the Federal Housing Finance Agency that are similarly funded.

"The only thing that might cause the court some pause in finding a separation of powers problem here is the idea that all the other banking agencies might be impacted in the same way," said Scott Pearson, a partner and leader of the financial practice at the law firm Manatt. "There's going to be concern about that and the court might hesitate to rule in a manner that might affect more than just the bureau."

Pearson thinks other agencies that get their funding from the companies they regulate have more limited jurisdiction and power.

"The bureau has much broader authority and broad police powers and the funding is not coming strictly from the entities they are regulating, so there is very little ability of Congress to check what the bureau is doing," he said.

The conservative justices may focus on the intent of the 111th Congress in passing the Dodd-Frank Act in 2010 and whether the CFPB was purposely insulated from the appropriations process by design, some experts said. Unlike prudential bank regulators, the CFPB is not self-funded and does not have the ability to raise fees through assessments.

"I think there's a way for the Supreme Court to say that the CFPB is unique and its funding mechanism can be invalidated," said Natarelli at Dykema.

Proponents of the CFPB have said the justices could open the door to having other regulators' constitutionality challenged including the Federal Reserve.

Currently the FDIC is funded from deposit insurance assessments on banks, while the OCC charges examination fees of nationally chartered banks. The Federal Reserve Board of Governors — and, by extension, the CFPB — is funded from revenue earned on the assessment on interest from securities held on the balance sheets of the regional Federal Reserve banks, which the Federal Open Market Committee uses to pursue the Fed's monetary policy objectives.

However, the Fed, FHFA, Federal Deposit Insurance Corp., Office of the Comptroller of the Currency and the National Credit Union Administration all have uncapped budgetary autonomy.

Banking trade groups have argued that the CFPB's funding is a reflection of its outsized power, while the agency's defenders say the funding structure and power vested in the agency are two distinct things.

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Conflating power with funding

The U.S. Chamber of Commerce, American Bankers Association, Consumer Bankers Association and Independent Community Bankers of America, joined by six other trade groups, have argued that the CFPB has "vast authority" that makes it unique from other agencies. The trade groups claim that the CFPB's funding should be restricted because they view the bureau as having too much power.

But many supporters of the CFPB reject that argument, claiming that the payday lenders are conflating the CFPB's powers with its funding.

"Congress has retained ample oversight of the CFPB but that oversight is not significantly different than those of other agencies and offices whose operating expenses are paid for in part by user fees and are not annually 'appropriated,'" said Lynyak.

Meanwhile, Republican attorneys general in 27 states petitioned the Supreme Court to give them 10 minutes during oral arguments to describe "some of the painful consequences that have followed from giving the CFPB unilateral spending authority."

The U.S. Chamber of Commerce, American Bankers Association, Consumer Bankers Association and Independent Community Bankers of America, joined by six other trade groups, argued that the CFPB has "vast authority" that makes it unique from other agencies. The trade groups claim that the CFPB's funding should be restricted because they view the bureau as having too much power.

Yet the bank trade groups stopped short of asking for the CFPB to be eliminated altogether. Instead they argue that the court should sever its funding mechanism from the Federal Reserve System and then stay its decision to give Congress time "to authorize temporary funding or permanently fix the constitutional defect."

The trade groups want the court to force a review of CFPB enforcement actions that have been put on hold while the Supreme Court decides the case. But generally the trade groups have said they do not want the agency eliminated entirely.

The CFPB administers eighteen enumerated consumer-protection laws previously overseen by the Federal Reserve and six other federal agencies, virtually all of which are also independent.

Sen. Elizabeth Warren, D-Mass., has warned that subjecting the CFPB to congressional appropriations would give the agency's opponents the power to starve the bureau of funds and thereby cease its important work.

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Warren warns of CFPB's future under Congressional appropriations

As another government shutdown looms, Sen. Elizabeth Warren, D-Mass., the architect of the CFPB, has warned about the dangers of putting the agency through the appropriations process.

On Thursday, Warren said in a speech to the Center for American Progress that a Republican-controlled Congress could "starve the CFPB of resources and neuter its ability to go after wrongdoing," should the Supreme Court decide that its funding structure is unconstitutional.

"There's an extra dose of irony that this attack on the CFPB comes less than 48 hours away from a government shutdown," Warren said. "The financial regulators — all the financial regulators — from the Fed to the FDIC to the CFPB are designed to function all the time."

She said that other financial regulators, such as the Fed and the FDIC — both of which are funded outside of Congressional appropriations — will be able to continue functioning outside of a government shutdown because they draw money outside of appropriations, and that it's important that the CFPB does as well.

"Even if Congress has a meltdown, it's critical that the Fed continue to set interest rates and ensure that banks have enough capital. It's critical that the FDIC continues to audit the banks' books and insure customer accounts," she said. "And it's critical that the CFPB keeps mortgage approvals running and handles those thousands of complaints that flood in every day from consumers."

Warren continued to caution about the impact of the Supreme Court case on other financial regulators. Should the Supreme Court decide that the agency's funding structure isn't constitutional, it could open up questions about the validity of the way the Fed, the FDIC and other government programs and agencies continue to run.

"The possible fallout doesn't stop there," Warren said. "Social Security and Medicare are also operated outside of annual appropriations. A bad decision by the Supreme Court could wreck the financial security of millions of families and turn our economy upside down."

The Mortgage Bankers Association has expressed concern that the Supreme Court's ruling in the CFPB case could upend the residential mortgage market if it invalidates the agency's considerable rulemaking around mortgage applications.

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Chaos in the mortgage market

Recently CFPB Director Rohit Chopra has warned that if the agency is found to be unconstitutional by the Supreme Court, it could destabilize the housing market. The Mortgage Bankers Association, the National Association of Home Builders and the National Association of Realtors also filed legal briefs in the case that raise concerns about "potentially catastrophic consequences" if the CFPB's existing rules are invalidated.

"I think the justices will be very responsive to the MBA's concerns in that regard and there will be some focus on what kind of remedy can we fashion that won't disrupt all the various industries," said Nararelli.

Mortgage lenders have argued that virtually all residential real estate transactions depend on compliance with the CFPB's rules, including consumer protections. Lenders have invested billions of dollars into structuring their operations around the CFPB's rules and guidelines, in particular mortgage disclosure forms that are required under the Truth in Lending Act and Real Estate Settlement Procedures Act. Lenders also claim that "the housing market could descend into chaos to the detriment of all mortgage borrowers" if mortgage rules are challenged and lenders are hit with "potentially crippling liability."

The CFPB has issued more than 200 rules on an array of products, from mortgages to auto loans, credit cards to debt collectors.

"In the mortgage industry, I don't think anybody is interested in renewing the ability -to-repay rules, and integrated TILA-RESPA disclosures," said Pearson. "The industry has invested huge sums of money and there would be bipartisan support for preserving those rules."

Many experts think a final ruling next year will hinge on the votes of Chief Justice John Roberts and Justice Brett Kavanaugh, who in particular has a keen interest in the bureau, having called the CFPB an "out-of-control agency," when he was a judge on the U.S. Court of Appeals for the D.C. Circuit.

Natarelli expects two-thirds of the oral arguments will focus on what effect any remedy would have if the CFPB were found to be unconstitutional. Some suggest the high court would need to set a specific time frame for Congress to make changes to the statute.

Few legal experts think all of the bureau's past could be called into question if the Supreme Court rules against the agency.

"I don't think there's much chance of the court saying that all of the CFPB's actions are invalidated," Natarelli said.