CFPB Guidance Questions Dealer Mark-Ups as Discriminatory

Click here to view Randy’s presentation from the April 4, 2013 Webinar on: The Consumer Financial Protection Bureau’s “Guidance” on Dealer Participation: What It Means for You.

CFPB Guidance Questions Dealer Markups as Discriminatory

The federal Consumer Financial Protection Bureau (CFPB) issued “Guidance” directed at indirect auto finance lenders concerning potential “disparate impact” credit discrimination based on auto dealer markups of lender “buy rates.”  This Guidance, which was issued on March 21, 2013, is important to dealers because it takes a negative view of dealer participation.  Although the Guidance does not have the force or power of a law, it indicates compliance steps the CFPB will require of lenders (who will in turn require it of dealers), if rate participation arrangements continue.


Under the Dodd-Frank Act of 2010, the CFPB can audit and enforce consumer protection laws such as the Equal Credit Opportunity Act (ECOA) and its implementing Regulation B against banks having assets in excess of $10 billion.  The CFPB has no authority to either audit or directly enforce violations against smaller banks and credit unions who answer to other regulators.  For non-regulated auto lenders such as non-bank captive finance companies and wholly-owned captives, the CFPB can bring enforcement actions but it cannot freely audit them.  There must be some reasonable suspicion of a violation.  The CFPB also has no authority over franchised auto dealers although it does have authority over independent and buy-here-pay-here dealers.

Under ECOA, “disparate impact” credit discrimination can occur when a seemingly-neutral business practice (e.g., a minimum income requirement) has a disparate effect on a protected class of persons under ECOA (race, color, religion, national origin, sex, age, marital status, receipt of public assistance or exercise of consumer credit rights) For example, minimum income could have a disparate effect on women.  If this appears to be the case, a creditor must demonstrate that the challenged practice was necessary to achieve a legitimate business interest, which could include business account acquisitions or profits.  If so, the burden then shifts to the regulator to show that the same business interests could have been obtained by practices having a less disparate impact, such as using loan:value ratio instead of minimum income to reduce the disparate impact on women.  It is purely a statistical analysis; only the numbers matter, not the intent or even the knowledge of the creditor.

The CFPB Guidance

The CFPB Guidance finds without explanation that lenders allowing and compensating auto dealers for marking up buy rates presents “a significant risk that they will result in pricing disparities on the basis of race, national origin, and potentially other prohibited bases.”

The Guidance makes clear that lenders can be liable for “disparate impacts” caused by dealer rate markups and indicates the CFPB’s intent to bring lawsuits against lenders that fail to impose controls on dealer markup and compensation policies.  These controls include monitoring dealers for compliance and taking corrective action against dealers whose contracts, either alone or as part of the lender’s overall portfolio, suggest a “disparate impact” in pricing or other aspects of the credit transaction.  While the Guidance doesn’t prohibit dealer participation pricing, it calls for onerous compliance burdens on lenders who purchase such contracts.  Alternatively, a lender can simply eliminate dealer discretion to mark up rates by going to a flat fee per transaction pricing arrangement.

Bloomberg News reported in February 2013 that the CFPB is gearing up to sue four large auto finance lenders for disparate impact credit discrimination based on dealer rate markups.  Doing so will give teeth to the Guidance and advance the CFPB’s policy, which seems to be to want to eliminate dealer participation.

What It Means for Dealers

The CFPB has working arrangements with the Federal Trade Commission (FTC) and the Department of Justice (DOJ), both of which have jurisdiction over dealers.  The DOJ settled a “disparate impact” case with a lender in 2012 and then drilled down to sue the dealer who had originated the offending retail installment sales contracts (RISCs).  Reportedly, the CFPB is seeking similar detail on dealers in its investigations of large indirect auto finance lenders.  If the CFPB settles with one or more of the national lenders, it is possible it will obtain details on dealer RISCs that it believes show a disparate impact and refer those matters to the FTC or DOJ for action against the dealerships.  In effect, the CFPB is making lenders the cops on the beat to identify dealers whose RISCs the CFPB would find discriminatory and take appropriate action against those dealers.  The CFPB and DOJ have argued that as little as a 15 basis point difference in marked-up rates to similarly qualified customers can be statistically significant to demonstrate a disparate impact.

For dealers wanting to continue being compensated by dealer participation arrangements, it is important to develop and implement fair lending policies that affirm the dealer’s commitment to equal credit opportunity for all, and then proactively take steps to train employees and manage rate markups.  Two cases against auto dealers alleging “disparate impacts” were settled by the dealers agreeing to mark up all contracts by a set amount (e.g., 200BP) and that amount would be both a floor and a ceiling for rate markups.  If an F&I manager wanted to discount the set markup amount, he or she could do so only for competitive reasons that needed to be documented deal by deal.  Adopting a fair lending policy and implementing such an arrangement would be one way to favorably position your dealership in the event of an audit by your lenders or a regulator.  In addition, continually monitoring your dealer’s compliance alongside this policy is a must.

The Future of Rate Participation

We believe rate participation is not going to end, at least not any time soon.  Large banks would be the lenders most likely to implement flat fee per transaction pricing.  Small banks, credit unions and non-bank finance companies are less likely to do so since the CFPB has less authority over them and their large numbers and inability of the CFPB to gather statistical information against them will make it difficult for the CFPB to bring actions against every lender that maintains rate participation.  Some large lenders have already begun monitoring and training programs for dealers on fair lending and disparate impacts.  But it is unlikely that dealers — especially dealers that implement compliance policies of their own — will be compelled to send contracts only to flat fee lenders. Dealers always have discretion to send contracts to lenders they choose and where dealers send their contracts will have an important effect on the success or failure of any lenders who adopt flat fee pricing.

None of the regulators who supervise small banks and credit unions have adopted the CFPB’s Guidance and, for now, neither has the FTC.  In fact, the FTC investigated dealer rate markups in 2011 and has taken no action against the practice. We can also expect that dealer industry trade groups will lobby the Congress to rein in the CFPB’s attempt to indirectly regulate auto dealers by putting the compliance onus on lenders.  The CFPB also has its own issues as House Republicans attempt to restructure the agency from being headed by a single Director to one headed by a Board and to gain appropriations oversight as well.  Its Director, Richard Cordray, was recess-appointed by President Obama in January 2012, the same day President Obama recess-appointed several members of the National Labor Relations Board (NLRB).  Those NLRB recess appointments were struck down this past January as unconstitutional and Cordray’s appointment is being challenged in federal court for the same reasons.  If his recess appointment is overturned, the Guidance might be withdrawn or negated.

The CFPB imposed substantial penalties in 2012 on credit card lenders who deceptively marketed aftermarket products such as credit protection services.  Two of the consent decrees involved penalties and remuneration of more than $200 million each.  In one, the lender was compelled to reimburse every single consumer who was telemarketed and purchased the aftermarket products from August 2010 until January 2012.  

These types of punitive outcomes have large lenders very concerned and it is reasonable to expect that they will either undertake the dealer monitoring called for by the Guidance or switch to flat fee pricing.  But remember that where you send your contracts — particularly your contracts backed up with a strong compliance plan — will remain your choice and you will have options. 

This will continue to be a challenging issue for our industry for some time.  Stay tuned as dealers, lenders and federal regulators continue to attempt to work and live in “compliance” with one another while delivering a fair market for consumers.  Now would be a good time to implement a fair lending policy at your dealership, train your employees and monitor activity.  If you deal with large lenders, at a minimum, you can probably expect them to require this policy in order for them to continue to purchase rate participation contracts.

Randy Henrick is Associate General Counsel and lead Compliance Counsel for Dealertrack, Inc.  This article is intended for information purposes only and does not constitute the giving of legal or compliance advice to any person or entity.  Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on your particular situations from a knowledgeable attorney or compliance professional licensed to practice in your state.



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