In 2015, the CFPB increased its activity to enforce federal consumer credit protection laws into the area of indirect auto finance by furthering attempts to indirectly regulate auto dealers. While certain auto dealers (as described above) are not subject to the direct supervisory enforcement or rulemaking authority of the CFPB, the CFPB sought to indirectly regulate those dealers’ auto finance practices in its March 2013 Indirect Auto Finance Guidance (“Guidance”). The Guidance found that dealer finance participation, which they refer to as “markups,” frequently discriminates against protected classes of persons under the Equal Credit Opportunity Act (ECOA), most notably minorities and women, and that finance sources that buy such paper (and who are within the CFPB’s jurisdiction) can be liable for the resulting credit discrimination under a so-called “disparate impact” theory. Disparate impact occurs when a facially neutral policy such as a dealer marking up a “buy rate” results in a statistically significant disparity in the treatment of protected classes of persons under the ECOA – when compared to those not in protected classes.
There were many questions in the industry about the legitimacy of the Guidance starting with the CFPB’s theory of credit discrimination, i.e., the so-called “disparate impact” theory. There is no question the ECOA prohibits “disparate treatment,” i.e., policies or practices that on their face treat protected classes less favorably than non-protected classes. But there is some question as to whether the ECOA makes “disparate impact” discrimination actionable, despite the fact that the Guidance assumes it is. Under the language of ECOA, lenders are clearly liable for their own intentional conduct. In addition, a lender can be responsible for the intentional conduct of another creditor when it knows or has reason to know of a violation. But in the Guidance, the CFPB asserted that indirect auto lenders that permit dealer participation may be liable if such compensation practices unintentionally result in disparities on a prohibited basis in their dealer-by-dealer individual portfolios, and/or their aggregate portfolio.
The ECOA does not expressly prohibit credit discrimination under the “disparate impact” theory. That theory is actually derived from employment discrimination laws and works as follows:
- A creditor employs a facially-neutral credit practice (e.g., a minimum income requirement);
- Application of the practice has a disproportionately negative effect on a protected class (in this example, this could be women who do not make incomes as high as men);
- If true, the creditor must show the practice meets, in a significant way, the legitimate goals of the business;
- If the creditor can so show, the burden then shifts to the regulator or plaintiff to show that the business goals can be met by means that are less discriminatory in their impact (e.g., substituting debt-to-income ratio for a minimum income requirement); there is no requirement to show knowledge or intent to discriminate by the creditor in a “disparate impact” case.
Finally, the CFPB asserted that dealer participation often has a disparate impact on women and minorities. Since an indirect auto creditor can’t collect demographic information on customers in auto finance transactions like a mortgage lender can in a mortgage transaction, the CFPB uses “proxies” to try to determine who among similarly-qualified customers are in a protected class and who are not. Proxies are ways to try to guess who is in a protected class based on names and geography. The CFPB and DOJ use a proxy methodology called the Bayesian Improved Surname Geocoding (BISG) proxy, which has been heavily criticized by statisticians as overstating minorities and understating non-minorities, a conclusion the CFPB subsequently confirmed.
The BISG proxy only identifies probabilities and can also overstate disparities and the amount of alleged harm by failing to take into account non-discriminatory factors such as geography, new car financing versus used, length of loan, down payment, trade-in vehicle, credit score, and competitive factors such as meeting or beating a competing offer. Despite these issues, many finance sources have followed the CFPB’s direction to analyze, monitor, and take action against dealers whose rate participation on similarly-situated customers differ, including the use of “proxies” to identify members of protected classes and compare dealer finance participation for protected classes as opposed to other customers.
The Guidance never had the force of law but illustrated the CFPB’s approach, i.e., that finance sources must effectively monitor and police for discriminatory dealer rate participation on purchased contracts or alternatively compensate dealers through flat-fee pricing instead of dealer rate participation. After a wave of consent decrees enforcing the Guidance (i.e., Ally Bank, American Honda Finance Corporation, Fifth Third Bank, and Toyota Motor Credit), many large finance sources sought to comply with the Guidance by requiring dealers to implement ECOA/Fair Lending policies. They also monitor buy rate participation on retail installment sales contracts of similarly qualified persons that could indicate a “disparate impact,” and provide redress to impacted consumers. Most of the consent decrees also required the lenders to limit the dealer participation to specific caps if they continue to permit this form of dealer participation. Most of these consent decrees have now expired.
Not surprisingly, the Guidance has been very unpopular with auto finance companies and dealers. In 2017, the Government Accountability Office (GAO) accepted a request to determine whether the Guidance is a “rule” subject to disapproval under the Congressional Review Act (CRA). Under the CRA, prior to a rule becoming effective, the proposed rule must be submitted to GAO and Congress for approval. Thus, a finding that the Guidance is a “rule” under the CRA means that the Guidance would be rendered ineffective because it was never submitted to GAO and Congress as required by the CRA. As a result of these issues, in Spring 2018, Congress formally repealed the Guidance.
What does all of this mean for dealers? This has likely meant that your participation ability may have been limited by your lenders. However, as a result of the invalidation of the Guidance, the expiration of many of the consent decree limitations, and the CFPB’s internal review of its fair lending authority, federal focus on fair lending appears to have waned for the moment. But still, there are early indicators that states may be bringing enhanced scrutiny to fair lending in their examination processes.
