If Supreme Court sides with CFPB, 'flurry' of litigation moves forward

Bloomberg Creative

The Supreme Court is expected to rule by the end of June on whether the funding structure for the Consumer Financial Protection Bureau is constitutional. If the court sides with payday lenders that sued the CFPB claiming its funding is unconstitutional, there would be massive fallout for other agencies, including the Federal Reserve, the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corp. 

But many legal experts think the high court is more likely to rule in favor of the CFPB based on oral arguments heard in October when only one justice — Associate Justice Sonia Sotomayor — questioned what remedy there should be if the agency's funding through the Federal Reserve System is found to be unconstitutional. 

Because the justices failed to devote much time to a remedy — and instead were highly skeptical that Congress improperly funded the bureau — many financial services industry lawyers are now gaming out what will happen to several rules and lawsuits that have been on hold pending the outcome of the case, Consumer Financial Protection Bureau v. Community Financial Services Association of America.

"I expect the CFPB to win," said Alan Kaplinsky, senior counsel at Ballard Spahr, who expects the ruling has taken so long to decide due to split decisions by the justices. "There will be multiple opinions and dissenting opinions and probably concurring opinions, and it takes time to get all that done."  

Several lawyers who filed amicus briefs on behalf of CFSA, the lead trade group for payday lenders that sued the CFPB in 2018, do not think the payday lenders will win, Kaplinsky said. The general view has been that Solicitor General Elizabeth Prologar, representing the CFPB, presented a stronger case than her counterpart, Noel J. Francisco, a former solicitor general representing the payday groups, who struggled during oral arguments to convince a majority of the justices that Congress had inappropriately delegated its authority to the CFPB. 

"They didn't ask the bureau or either party, how do we solve this? What's the solution?" said AJ Dhaliwal, a partner at the law firm Sheppard Mullin. "Because they didn't get into that, they can't blow [the CFPB] up."

Michael Benoit, chairman of the law firm Hudson Cook LLP, said that if the Supreme Court sided with payday lenders, the impact on federal financial regulators would be enormous. 

"I've never felt the funding argument was very strong," Benoit said, adding that while the Supreme Court is not supposed to be political, "a decision that invalidates decades-long funding mechanisms would be a political earthquake in an election year — especially this election year."

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Many legal experts initially thought all of the CFPB's past rules and actions would be threatened when a three-judge panel of the U.S. Court of Appeals for the 5th Circuit vacated the payday lending rule in 2022 and found that the CFPB's funding outside the congressional appropriations process violates the Constitution's separation of powers. Since then, challenges to the CFPB's funding have been part of nearly every legal brief in litigation filed against the agency in some way, shape or form, lawyers said. 

But since the oral arguments were held in October, there has been a reversal. Legal experts think a flood of litigation will be unleashed after the Supreme Court rules in the CFPB's favor. 

"It will be a flurry of activity," Kaplinsky said. 

Last year the CFPB embarked on a hiring spree in one of the largest recruitment drives at the agency in anticipation of litigation going forward. 

Two major rules currently on hold will move forward, including the payday lending rule and the small business data collection rule. In addition, a contentious anti-discrimination policy can be appealed by the CFPB.

"There's a lull right now before the decision," Dhaliwal said. "The fall was extremely busy and since the New Year, it's gotten real quiet in part because of the Supreme Court decision that's going to come out."

Meanwhile, nine enforcement actions and five petitions to enforce civil investigative demands have been stayed pending the outcome of the CFSA case, according to the CFPB.

"The CFPB is looking forward to the Court's decision, and in the meantime, we have continued to carry out the vital consumer protection work that Congress has charged us to perform," a CFPB spokesperson said.

Among the rules that are on hold, the payday rule is the best example of how an agency rule can be locked in litigation for years. 

First developed and finalized in 2017 by former CFPB Director Richard Cordray, the payday rule was stripped of a provision requiring that lenders determine a borrowers' ability to repay a loan, and its original 2018 compliance date was postponed by a Texas judge after trade groups sued the bureau. What remains, if the rule gets enacted after the Supreme Court case, is a restriction that bars payday lenders from making more than two unsuccessful attempts to debit payment for a payday loan from a consumer's checking account. The restrictions were designed to protect borrowers from having their funds garnished by lenders and from incurring repeat overdraft charges.

Meanwhile, the small-business data collection rule — known as 1071 for its section in the Dodd-Frank Act — would require that banks, credit unions and small-business lenders collect and report data on applications for credit, primarily to determine whether small-business loans are being made to women-owned and minority-owned small businesses. 

Last year, the U.S. District Court for the Southern District of Texas stayed a rule in which plaintiffs alleged that the CFPB had exceeded its statutory authority by expanding the data collected from lenders to 81 data points, far beyond the 13 mandated by the Dodd-Frank Act. The rule has been set aside pending the outcome of the Supreme Court case. Republicans in Congress, joined by a handful of Democrats, have sought unsuccessfully to nullify the rule.

Another legal challenge involves a sweeping anti-discrimination policy that CFPB Director Rohit Chopra adopted in 2022 by making a change to the bureau's exam manual. The updated manual on the federal prohibition against "unfair, deceptive or abusive acts or practices," known as UDAAP, claimed discrimination in any financial product is an "unfair" practice that can trigger liability.

"The case is significant because the court issued the injunction based not only on the constitutional issue, but also on the CFPB exceeding its statutory authority," said Kaplinsky, adding that "there was no inkling at all that [UDAAP] intended to cover discrimination."

Last year, a federal judge in Texas granted summary judgment and vacated the policy after finding that the CFPB exceeded statutory authority. If the CFPB prevails in the Supreme Court case, the district court's ruling would stand though the CFPB can appeal.

"Once the Supreme Court decision comes out, the CFPB will issue enforcement actions or proceed with litigation after-the-fact," Dhaliwal said. "They will be ready to pull the switch."