Topic 8

Topic 8

Unfair and Deceptive Practices (UDAP) Laws

Treating customers with honesty and transparency is not only good business practice, it’s the law. Uncover what regulators consider unfair, deceptive and abusive trade practices.

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LEARN TO AVOID UNETHICAL AND ILLEGAL TRADE PRACTICES

Compliance Tips Recommended Practices

Did you know?

The FTC considers an act or practice unfair when:

It causes or is likely to cause substantial injury to consumers;
The injury is not reasonably avoidable by consumers; and
The injury is not outweighed by countervailing benefits to consumers or to competition.

Compliance Tip

Don't use the word "free" in your advertising without knowing the limitations.

Watch List for 2021

The FTC is being very aggressive on scrutinizing dealer advertising, especially on the internet and in social media.

Recommended Practice

Make sure your advertising and other communications with customers are true, accurate and clearly state the terms of any offer you are making.

Unfair and Deceptive Acts and Practices laws are designed to protect consumers from unfair and deceptive trade practices in the marketplace, including false or misleading advertising. They cover merchants of goods and services generally, not just auto dealers. These laws were originally passed to ease the legal burden for proving common law fraud. The original UDAP law is Section 5 of the Federal Trade Commission (FTC) Act, which prohibits unfair and deceptive acts and practices. However, the FTC Act does not afford consumers any private right of action and many practices require the FTC to first obtain an enforcement consent order prior to seeking the up to $41,484 per violation penalty that the Act permits if the consent order is violated. Under Section 5 of the FTC Act, an act or practice is unfair when:

It causes or is likely to cause substantial injury to consumers;
The injury is not reasonably avoidable by consumers; and
The injury is not outweighed by countervailing benefits to consumers or to competition.

A “substantial injury” typically takes the form of monetary harm, such as fees or costs paid by consumers because of the unfair act or practice. However, the injury does not have to be monetary; emotional or other impact and other more subjective types of harm may constitute a substantial injury. Injury can be substantial if it causes a small harm to a large number of people or a severe harm to a small number of people. An injury also does not need to have already taken place. It is sufficient that a practice be likely to cause substantial consumer injury in order to be actionable.

An injury is not reasonably avoidable by consumers when an act or practice interferes with or hinders a consumer’s ability to make informed decisions or take action to avoid that injury. Injuries caused by transactions that occur without a consumer’s knowledge or consent are also not reasonably avoidable. Injuries that can only be avoided by spending large amounts of money or other significant resources also may not be reasonably avoidable.

Finally, to be unfair, the injury must not be outweighed by offsetting consumer or competitive benefits that the practice also produces. Offsetting benefits may include lower prices for consumers or the wider availability of products or services. The cost to the company of removing the injury is also a consideration.

An act or practice is deceptive when:

The act or practice misleads or is likely to mislead the consumer;
The consumer’s interpretation is reasonable under the circumstances; and
The misleading act or practice is material.

Most deception cases involve some form of communication to consumers — whether it be an advertisement, a sales technique, or a contractual provision. The initial inquiry for deception concerns whether the communication is misleading to consumers. To determine whether a communication is misleading, the totality of the circumstances is considered. This includes both express and implied claims or representations about a product or service; deception also considers omissions from communications as well as express representations.

The meaning of a communication is determined from the perspective of a “reasonable” consumer. It does not mean someone who is highly sophisticated or educated, but where a communication is directed at a particular audience, the inquiry focuses on a reasonable member of that group. Whether an act or practice is material concerns the importance of information to consumers. A material misrepresentation or omission is one which is likely to affect a consumer’s choice or conduct regarding a product or service.

All 50 states and the District of Columbia have also enacted their own UDAP laws (state UDAP laws). In addition to these laws authorizing Attorney General actions, many state UDAP laws give consumers a private right of action to obtain injunctions and recover actual damages, court costs, and attorney’s fees. Many of the laws also permit recovery of statutory, punitive, or treble damages as a deterrent to deceptive or unfair business conduct. Some state UDAP laws permit a consumer to bring a lawsuit as a private Attorney General. Most state UDAP laws allow class actions as well.

This Topic discusses auto dealer liability risks for UDAP practices under the FTC Act, the Dodd-Frank Act, and state UDAP laws. As these laws are a “catch all” for bad conduct, they present a substantial risk for a variety of misdeeds in selling vehicles to, or financing vehicles for, consumers.

Important Laws and Regulations

Section 5 of the FTC Act

Section 5 of the FTC Act prohibits “unfair methods of competition and unfair or deceptive acts and practices in or affecting commerce” against consumers. Enforcement authority is vested in the FTC and the FTC has not hesitated to use its authority, most recently for lax data security practices that it considers to be an unfair act or practice and for deceptive dealer advertising as discussed in Topic 7: The FTC: Marketing and Advertising Vehicles, and Credit Terms. The FTC can bring an administrative enforcement action and, depending on the nature of the violation, bring a court action to seek injunctive relief or damages. States look to FTC lawsuits on UDAP violations or consent decrees as precedent for their own state UDAP actions.

Unfair Trade Practices

The FTC has noted that “[u]njustified consumer injury is the primary focus of the FTC Act. As noted above, the FTC’s standard for “unfairness” is: (1) whether the practice creates a substantial consumer injury; (2) whether the injury exceeds any offsetting consumer benefits or benefits to competition; and (3) whether the injury was one that consumers could not reasonably have avoided. The FTC considers “deceptive” practices to consist of a material representation, omission, or practice that is likely to mislead a consumer, as examined from the perspective of a reasonable consumer. An “unfair” practice may not be “deceptive,” and some deceptive practices may not be unfair. The legal standards are independently applied.

The FTC may also consider public policy in determining whether an act or practice is unfair, but it may not solely rely on public policy in making its determination. The FTC has also been given a streamlined process to issue new rules and regulations for auto dealer unfair and deceptive trade practices by the Dodd-Frank Act. Previously, the FTC had to conduct detailed studies and hold hearings under procedures contained in the Magnuson-Moss Warranty Act and demonstrate that the prohibited act was “prevalent” in the industry. Now, the FTC merely needs to publish proposed regulations for a comment period and then can adopt final rules or regulations after reviewing the comments without having to make the prior showing that the regulated practices are “prevalent.”

One authority indicated the lead time for the FTC to enact unfair or deceptive practice regulations against auto dealers has been reduced from approximately seven years to approximately one year. In 2011, the FTC conducted a series of roundtable hearings on dealer auto finance practices and continues to investigate practices like spot deliveries, with the expectation that the FTC will use its new streamlined authority to restrict or limit dealer practices or require more transparent disclosures to consumers. However, the FTC appears to be employing the CFPB’s general practice of not writing rules or regulations but “regulating by enforcement,” which means bringing actions for practices that the FTC first deems to be unfair or deceptive by bringing an enforcement proceeding against a dealer, thereby putting other dealers on notice that the practice violates the FTC Act.

Deceptive Conduct

Most dealer deceptive conduct involves failure to make required disclosures (e.g., triggered terms under TILA or the CLA when a dealer advertises a payment amount), written or oral misrepresentations, or omissions of both in advertisements and in personal dealings with a consumer. The issue is whether the act or practice is likely to mislead a consumer, rather than whether it actually misleads the consumer. The FTC considers all of the facts and circumstances of a transaction in order to reach this conclusion. As you may be aware, the FTC has focused on deceptive dealer advertising in recent years, including its 2014 Operation Steer Clear and its 2015 Operation Ruse Control.

The FTC has pursued numerous deceptive practice claims against auto dealers. For example, FTC regulations set forth restrictions on advertising practices it considers to be deceptive, such as “bait and switch” advertising and advertising discounts from MSRP if few, or any, sales below MSRP take place in the dealer’s geographic area.

Another deceptive practice is “rebate stacking,” where multiple rebates available only to select groups (military, recent college grads, first time car buyers, etc.) are advertised together to calculate a vehicle price, even though few, if any, consumers will qualify for all of them.

The FTC has brought complaints against dealers for misrepresenting the down payment in lease and financing transactions; failing to disclose fees, security deposits, etc.; selling vehicles with known defects that consumers were not able to determine (e.g., selling new vehicles with paint defects likely to cause rust, odometer rollbacks, and other concealment of conditions on used vehicles); selling vehicles that are subject to an open recall while advertising a rigorous pre-sale inspection; and payment packing.

The FTC has indicated that advertising the fuel economy of vehicles can also trigger liability.

The FTC has further taken the position that no item can be advertised as “free” when the primary item being sold (such as an automobile) is subject to a negotiated price. In fact, the FTC has issued an entire regulation on when the word “free” can be used in advertising without being deceptive. Since 2012, the FTC brought more than 30 deceptive practice enforcement actions against dealers. Four involved dealers who advertised that they would pay off a customer’s trade-in balance even if the customer was “under water.” At least five enforcement actions involved dealers advertising prices and discounts that were either not available to all consumers or deceptive in terms of being available only on higher-priced, “loaded” vehicles, terms that were not disclosed.

Others are discussed in Topic 7: The FTC: Marketing and Advertising Vehicles, and Credit Terms, including deceptive pricing, concealment of terms, and making the advertised terms available on only a small number of vehicles. The FTC is being very aggressive on scrutinizing dealer advertising especially on the Internet and in social media. Disclaimers or qualifications must be disclosed “clearly and conspicuously” and in close proximity to the advertised language they qualify.

The term “advertising” should also be viewed broadly. In 2016 the FTC acted against one dealer for posting fake positive reviews about the dealership on social media. Each of the enforcement actions brought by the FTC involved consent orders that can last up to 20 years and many of the consent orders will be followed by class action lawsuits for state UDAP claims, as FTC consent orders can provide a road map to plaintiffs’ lawyers.

“Abusive” Practices

Similar to Section 5 of the FTC Act, the Dodd-Frank Act prohibits unfair, deceptive acts or practices, however, it differs in that it prohibits abusive acts or practices. Specifically, Section 1031 of the Dodd-Frank Act provides that abusive practices include practices that materially interfere with the consumer’s ability to understand a term or condition of the product or service or take unreasonable advantage of a consumer’s lack of understanding, inability to protect their interests, or their reasonable reliance on the credit provider (dealer) to act in the consumer’s interests. Ex-CFPB Director Richard Cordray had indicated the agency would not publish regulations further clarifying what are abusive practices but would do so by bringing enforcement actions against perceived violators. Said Cordray, “For an institution, if they are in a situation, they should be thinking carefully about whether they are taking unreasonable advantage of their customer … It’s a customer by customer thing.”

On June 25, 2019, the CFPB initiated a symposia series on the issue of abusive acts or practices under Section 1031 of the Dodd-Frank Act. A second symposium was held on September 19, 2019 to discuss the methodological foundations of behavioral economics and behavioral law and economics and consumer financial protection. During the latter event, Director Kraninger recognized the CFPB’s discretion to create rules, but implied that some restraint was needed in developing the policy. Specifically, she stated:

“It cannot be stressed enough that to develop sound policy in these cases we need a demonstration—and not just an assertion—of a market failure. And, we need to offer a remedy carefully tailored to address that failure. Markets often are imperfect. It is often said, wisely, that we should not let the search for the perfect be the enemy of the good. But the Bureau should only address market imperfections if it is clear that intervention would improve the status quo.
*** That is why the presumption should be in favor of the market and the onus should be on government to demonstrate it can improve the status quo. For consumer protection policy specifically, the Bureau generally seeks to empower consumers to make the best decisions for themselves. And in developing such policies we start from the presumption that with timely and understandable information, consumers will be empowered to make decisions in their best interests.”

A common complaint about the CFPB has been that it uses its UDAAP authority to regulate by enforcement. Director Kraninger’s comments suggest that the agency is heading in a new direction – one that may make regulated entities less concerned.

Again, the CFPB does not have authority to enforce “abusive” trade practice violations against franchised auto dealers but the same conduct that the CFPB would consider to be “abusive” may support a private UDAP action under state law. Honesty and transparency in the sales and F&I processes are perhaps the best defense to a claim of an unfair or abusive practice.

Section 1042 of Dodd-Frank extends this UDAP enforcement authority to State Attorneys General and other regulators. Already, several State AGs have brought civil actions involving creditors other than auto dealers.

The FTC and CFPB signed a memorandum of understanding in December 2012 to share information and coordinate their supervisory and enforcement efforts among their respective regulated entities. The FTC partnered with 32 law enforcement agencies in the U.S. and Canada to implement Operation Ruse Control, a crackdown on perceived deception and fraud in auto sales. Collectively, they brought over 185 actions against auto dealers. Both the FTC and the CFPB have signed similar memoranda of understanding with State Attorneys General.

Note that despite the fact that the CFPB has slowed somewhat in its use of UDAAP as an enforcement tool, the FTC continues to exercise its UDAAP authority, and in novel ways. Recently, the FTC charged a dealership group with falsifying consumers’ income and down payment information on vehicle financing applications and misrepresenting financial terms in vehicle advertisements. This is the first time the FTC has brought such an income falsification claim. In addition, the FTC continues in its more traditional pursuits of advertising and disclosure violations, including recall notices used a tool to increase business. In fact, in a recent public statement, the FTC warned consumers about fake recall notices from car dealerships and provided tips for checking the veracity of such notices.

State UDAP Laws

State UDAP laws are not uniform and a number of states apply different tests for “unfairness” or “deception” than does the FTC. Many enumerate specific practices deemed to be unfair. Others use differing standards that include: (1) whether the practice, even if not previously considered unlawful, offends public policy under any state authority; (2) whether it is unconscionable, unethical, immoral, oppressive, or unscrupulous; and (3) whether it causes substantial injury to consumers. In particular, state standards for “unfairness” may include a lower threshold for liability than the FTC’s “unfairness” standard.

Many state UDAP laws also cover Internet or out-of-state transactions if a resident of the state is adversely affected. You should be aware that state Attorneys General are very liberal in using UDAP laws to bring claims against auto dealers. Private lawsuits, especially class actions, present another risk under state UDAP laws. Examples of suits brought against dealers include:

Misrepresentations about the vehicle’s fuel efficiency, safety features, and warranty;
Payment packing;
Retaining amounts of itemized sums listed as “amounts paid to others” on retail installment sales contracts without disclosing that the dealer may retain part of the funds;
Concealing negative equity in the cash price of a vehicle;
Violating the FTC’s Used Car Buyer’s Rule which requires a Used Car Buyer’s Guide to be affixed to the window of each used vehicle offered for sale or lease (remember that a federal law violation is automatically a UDAP violation under many state UDAP laws);
Hiding the cost of an “etch” product in the vehicle’s sale price; and
Imposing extra charges when customers who leased cars attempted to exercise their right to purchase at a previously determined price.

UDAP plaintiffs may not be bound by contractual limitations of liability or merger clauses, or contributory negligence, and they often do not have to prove reliance on the act or practice. Arbitration clauses may not apply as well depending on state law and how the clauses are drafted. Also, courts have ruled that it is not a good defense that the seller acted in good faith under the advice of counsel. Unlike the FTC, most state courts adopt the least sophisticated consumer standard for assessing whether a practice could be unfair or deceptive and do not use a “reasonable consumer” standard.

State UDAP laws are written very broadly and courts have held that they are to be liberally construed in favor of the consumer. This puts conceivably any selling or financing practice at risk from an enterprising plaintiff’s lawyer who finds a disgruntled consumer. As a “catch-all” for dealer misconduct, state UDAP laws offer consumers a powerful weapon in many states.

State attorneys general, continue to bring UDAP claims against dealers for a variety of allegedly unfair and deceptive practices, often relating to the advertising and disclosures made by the dealer. One state even filed a complaint against a dealer’s lender for facilitating perceived deceptive practices by the dealer in the selling of inoperable vehicles by providing the financing of the vehicles.

Criminal Liability for Deceptive or Unfair Dealer Practices

Criminal violations have been brought against auto dealers in extreme situations when their conduct meets the requirement of criminal fraud and related criminal statutes under federal or state law. A federal statute makes it a felony to make a knowing and willful misrepresentation to a federally insured financial institution. Under this statute, indictments have been brought and dealers have paid criminal fines, or been imprisoned, for defrauding banks in order to obtain financing.

The federal odometer tampering statute has been a basis for indictments against dealers as well. Altering vehicle titles and documentation to reflect the inaccurate mileage only compounds the crime, and the Justice Department has indicted dealers for doing so.

Recommended Practices

Adopt a dealership code of conduct emphasizing honesty and transparency with customers and train all your employees on it. While you can’t specifically prohibit every possible practice your employees should not do, you can establish a set of principles and guidelines to govern employee conduct. Your employees have to know how you want your business to be conducted, and each employee should sign their affirmation that they understand and will comply with the code of conduct to reflect well on your dealership. Your code of conduct and training should contain specific standards of behavior that exemplify the principles embodied in the code of conduct. Enforce your code of conduct by reviewing deal files, listening to customers, and stressing the importance of proper behavior. Make employees understand shortcomings and why it is necessary to immediately correct them. Make compliance with the code of conduct a part of compensation decision-making.
Know your state’s law on the amount of “doc fees” a dealer can collect, and if the law permits such a fee, but does not prescribe a specific amount, be sure you can reasonably defend your “doc fees” in relation to your cost of preparing documents and titling work for vehicles you sell. Many states permit “reasonable” doc fees but do not give any guidance on what constitutes “reasonable” for this purpose. And other states have limits on the amount and type of fees that can be charged, and related disclosures in connection with their imposition.
Make sure your advertising and other communications with customers are true, accurate and clearly state the terms of any offer you are making. Many dealerships get into trouble when their advertising goes beyond simple puffery. We all know that the advertising needs to drive customers through your doors, but you need to stand behind promises and offers you make. And, you need to make sure you are transparent about the required terms of the offer to avoid claims that you deceived the public.
Establish a consumer complaint resolution process and include timelines for a quick and efficient resolution. Keep track of your complaints and note any trends. For example, if a number of consumers complain that they did not know they were being charged for an aftermarket product, consider improving your communication strategies so that consumers only purchase the products they intend. Where disputes cannot be resolved through complaint resolution, try to establish an informal mediation process with your consumers either with a neutral officer at the dealership or through a local association such as your regional auto dealer association or a mediation company. Many problems can be resolved by an effective mediator prior to litigation or arbitration if the dealer and customer are at an impasse. A consumer complaint process is an integral element of a Compliance Management System. Consult your local attorney on the possible use of arbitration clauses and class action waivers if mediation or informal efforts to resolve disputes are unavailing. Arbitration and class action waivers are discussed in Topic 9: Arbitration and Mediation.
Have an attorney or compliance professional conduct periodic compliance audits and “mystery shopping” at your dealership to identify areas that might support UDAP violations. Remember that in many states a violation of any federal consumer protection law or regulation (e.g., failing to publish a Spanish-language Used Car Guide on a used vehicle that was negotiated for sale in Spanish or failure to provide an adverse action notice) is an automatic violation of a state’s UDAP laws. Promptly correct any deficiencies identified using appropriate staff training to avoid repetition or other conduct that may lend itself to being an unfair or deceptive trade practice. Remember to adhere to your dealership’s code of conduct and train your employees frequently.

Additional Resources

A summary of the evolution of the FTC’s rules on unfair acts and practices:

http://www.federalreserve.gov/boarddocs/supmanual/cch/ftca.pdf

A summary of the FTC’s views on the standard for deceptive acts or practices under Section 5 of the FTC Act:

https://www.fdic.gov/regulations/compliance/manual/7/VII-1.1.pdf

Code of Federal Regulations: Using the word “free” in advertising:

http://www.law.cornell.edu/cfr/text/16/251.1

The FTC’s summary of the Used Car Buyer’s Rule:

http://www.business.ftc.gov/documents/bus13-dealers-guide-used-car-rule

A list of free FTC compliance publications:

http://www.consumerfraudreporting.org/pubs_business.htm

The CFPB’s consumer complaint hotline:

http://www.consumerfinance.gov/complaint/

CFPB Symposium: Abusive Acts or Practices

https://www.consumerfinance.gov/about-us/events/archive-past-events/cfpb-symposium-abusive-acts-or-practices/

CFPB Symposium: Behavioral Economics

https://www.consumerfinance.gov/about-us/events/archive-past-events/cfpb-symposium-behavioral-economics/

Did You Know?

The FTC considers an act or practice unfair when it may cause substantial, unavoidable injury to consumers that is not outweighed by any benefits to consumers or competition.

Compliance Tip

Don't use the word "free" in your advertising without knowing the limitations.

Watch List for 2021!

The FTC is being very aggressive on scrutinizing dealer advertising especially on the Internet and in social media.

Compliance Tip

Familiarize your dealership staff with your state's UDAP laws and how they might be used in lawsuits against your dealership.

Recommended Practice

Adopt a dealership code of conduct emphasizing honesty and transparency with customers and train all your employees on it.

Recommended Practice

Be sure you can defend the legality of your “doc fees” and how reasonable they are in relation to what it costs for you to prepare documents and handle titling.