November was a busy month for the Consumer Financial Protection Bureau. On Nov. 14, a day after CFPB Director Richard Cordray testified at a Senate Banking Committee hearing, the bureau hosted its very first public forum on auto lending. The meeting was organized amid cries for transparency in how the agency is testing for evidence of discrimination against minority car buyers.
The forum came a little late in the game for Sen. Jerry Moran (R-Kan.), who confronted Cordray during the November hearing. Moran was one of 22 senators who asked the bureau to divulge its methodology for determining discrimination back in October. Cordray responded to the senators’ letter on Nov. 4.
During the hearing, Cordray told senators he agreed with “some of the criticism” regarding the bureau’s lack of transparency in the auto lending sphere, but said he and his peers were grappling with jurisdictional issues. The bureau does not have supervisory powers over dealers, thanks to an exemption won by the National Automobile Dealers Association (NADA) in the months leading up to the passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act.
“We’re trying very hard to observe the line Congress drew, but it’s not a natural line,” Cordray told Moran.
Cordray’s letter to senators gave an overview of the proxy methodology the CFPB and its sister agencies are using to determine the presence of discrimination, but did not divulge any of the bureau’s findings. At least one finance source, Ally Financial, was under investigation at the time of the hearing.
“I want to be careful about talking about what we have found, because this is an ongoing investigatory effort where we’re working with the Justice Department,” Cordray said during the hearing. “So the order of the day on those things is confidentiality, unless you get to the point of taking some sort of public action.”
Also discussed was the CFPB’s removal of enforcement attorneys from its fair lending examinations, a move the bureau made on Oct. 10 to bring about a freer exchange of information between finance sources and their examiners. Sen. Mike Crapo (R-Idaho) said he believed the decision would ultimately result in better supervision.
Also at the meeting was Sen. Elizabeth Warren (D-Mass.), considered the architect of the CFPB. She applauded the bureau’s efforts in the auto lending arena, but joined others in citing a study conducted by the Bipartisan Policy Center that calls for Congress to close the dealer loophole.
“It makes no sense to me that there should be any exception here for consumers who are being tricked out of billions of dollars every year on car loans,” Warren said. That number would be hotly contested the following day at the CFPB’s auto lending forum.
Reporting for Duty
The CFPB hosted its public forum at its Washington, D.C., headquarters. The event consisted of three panels: The first covered how regulators are addressing fair lending, while the second offered on-the-ground perspectives about what’s happening to consumers in the auto finance arena. The last panel addressed fair lending risks pertaining to indirect auto lending. Cordray offered the opening remarks.
“…If anyone is uncertain about our resolve, let me do my best to dispel that uncertainty this morning,” Cordray told the audience. “We will make every effort to do the job that Congress has set out for us, which is to identify and root out unlawful, discriminatory lending practices, including practices that, in the words of the Supreme Court, are ‘fair in form but discriminatory in operation.’”
In a much-discussed fair lending bulletin issued this past March, the CFPB said it would hold finance sources liable for policies that result in discriminatory pricing — whether intentional or not — using a legal theory called “disparate impact.” The Supreme Court was set to hear a case in December that called the theory into question, but on the eve of the forum, a town council in Mount Holly, N.J., voted unanimously to settle the discrimination suit. It was the second case involving disparate impact that was settled before reaching the high court.
“[The] AFSA is disappointed that the Mount Holly case will not make it to the Supreme Court, as the disparate impact theory it would have examined is being used broadly and aggressively by federal regulators,” Bill Himpler, the association’s executive vice president, told F&I and Showroom. Himpler also served on the indirect auto lending panel at the CFPB’s forum.
Himpler’s co-panelist, Richard Riese, senior vice president of the Center for Regulatory Compliance at the American Bankers Association (ABA), made note of the settlement when he spoke at the forum. “We all found out this morning that we’re not going to have a quick answer in Mount Holly,” he told the audience. He also noted that he believes dealer discretion is not an appropriate area to apply disparate impact, based on Regulation B of the Equal Credit Opportunity Act.
“The discretion that’s being applied for compensation that we all agree here is due dealers, is not a creditor’s determination of creditworthiness. That’s enclosed in the buy rate,” he said. “The others have to do with compensation and other factors, but it is not the creditor’s determination of credit worthiness, so I’d say Regulation B restrains the bureau and [other agencies] from applying [disparate impact] to dealer premiums.”
The CFPB’s forum opened with a panel of regulators moderated by the bureau’s Steven Antonakes. Panelists hailed from the Federal Deposit Insurance Corporation (FDIC), the Federal Trade Commission (FTC), the Office of the Comptroller of the Currency, the U.S. Department of Justice (DOJ), the Credit Union Administration and the Federal Reserve.
First at the microphone was Patrice Ficklin, the CFPB’s assistant director of fair lending and equal opportunity. She told attendees that, to date, the bureau has found “substantial and statistically significant disparities between the interest rates paid by African American, Hispanic and Asian car buyers and rates paid by white car buyers with similar credit scores and other factors.
“Our work is even more expansive in scope today than it was in March, and it still indicates significant fair lending risk for lenders who maintain such policies,” Ficklin noted. Some institutions, she said, had disparities of more than 20 or even 30 basis points.
Other statistics were mulled over during the on-the-ground perspectives panel, which only had one dealer representative among several consumer advocacy groups, including the National Consumer Law Center, Consumers for Auto Reliability and Safety (CARS) and the National Association for the Advancement of Colored People (NAACP).
The NAACP’s Hilary Shelton told audience members that a study from the Center for Responsible Lending found that dealer markups increased the odds of a loan default or repossession by 12.4 and 33 percent, respectively, for subprime borrowers. CARS President Rosemary Shahan was also critical of dealer markups, noting that AutoNation, the nation’s largest auto group, has reported it makes an average of $441 in rate markups on each deal.
“It’s money that can be better spent in other ways,” Shahan said.
In California, which Shahan called “ground zero on this issue,” CARS recently submitted a new ballot initiative that aims to eliminate dealer markups in the state. It is currently in the early stages of the state’s qualification process for ballot initiatives.
“I would note that the provision in the initiative that we just filed … polled at 82 percent support,” Shahan noted. “And there isn’t a lot these days that polls so resoundingly well.”
Other federal agencies that participated in the forum confirmed they are also using proxy methodologies to determine whether discrimination exists in lender portfolios. During the Senate Banking Committee hearing, Cordray said the proxies have been refined to some degree — meaning that the bureau has included Census tract data for more precise testing.
“We are using an approach that is sort of time honored and well tested, both in social science literature and by the Justice Department and our fellow regulators … We’re not embarking on some novel or untested or brand new approach here,” Cordray said. “We have looked very carefully at what we’re doing … understanding that anything we do could ultimately be tested in court.”
The DOJ’s Steven Rosenbaum echoed Cordray’s sentiments at the forum. He also pointed out that, unlike home buyers, car buyers are not required to disclose ethnicity. “We have to use some methodology for determining who in the book of auto loans is a minority,” he said. “We’re using what we think is state-of-the-art methodology.”
Their responses did little to satisfy the concerns of industry representatives in attendance. Panelist Damon Lester, president of the National Association of Minority Automobile Dealers (NAMAD), said his association has pitched the CFPB on using a data collection program developed by IHS Automotive (formerly Polk), which utilizes vehicle registration data and provides “85 percent accuracy.”
Riese also pointed out that while proxies are useful for determining risk, they are not meant to be used to determine the existence of discrimination. “I think one has to first look at proxies with a certain degree of suspicion, as they are in fact very close to putting on a stereotypical gloss to individual characteristics,” he warned. “They are useful, and the exam procedures do authorize their use to identify risks. But they’re not particularly useful in proving violations. Violations, under the law, still require … that the plaintiff must be proven to be a member of the prohibited basis group.
“One risk that we should not be managing is that the law will be applied contrary to precedent.”
Meet or Beat
In the CFPB’s March bulletin, flat fees were listed as an alternate compensation model that would help lenders avoid fair lending risk, a suggestion that quickly became a point of contention between panelists and audience members alike.
Forum attendee Randy Henrick, associate general counsel for Dealertrack Technologies, told panelists during a comment period that flat fees would reduce competition because they will remove dealers’ ability to discount rates. “You don’t get to buy a refrigerator at Walmart at their wholesale rate,” he said. “You don’t get a car at the dealer wholesale rate unless the dealer needs to do that for a legitimate business purpose.”
The NADA’s Paul Metrey, a panelist on the indirect lending panel, argued that a move to flat fees would fail to eliminate dealer discretion, claiming dealers would simply choose the lender offering the best incentive.
“Each finance source would set its own flat fee and dealers will have the discretion to select the finance source to which they sell the contract,” he said. “While this may address the fair lending risk of individual finance sources, it will not address whatever fair lending risk may exist for the consumer.
“Second, a broad industry adoption of flat fees would remove the ability of dealers … to meet or beat the most competitive offer available to the consumer from any other source,” he continued. “This will weaken competition and, in turn, drive up the cost of credit.”
In her closing comments, the CFPB’s Ficklin stressed that the bureau does not see flat fees as an end-all solution. Instead, she and Eric Reusch, the bureau’s program manager for auto and student loans, suggested that compensation mechanisms could range from flat percentages based on the amount financed to hybrid systems in which compensation is tied to the amount financed and the duration of the contract.
“So let me be absolutely clear: The bulletin does not require the adoption of this type of flat dollar amount for every transaction,” Ficklin clarified.
Two pending studies from opposite sides of the issue were also discussed during the forum. Chris Kukla from the Center for Responsible Lending said the group was preparing to release a study that demonstrates that disparities do exist in the auto lending market, and that those disparities are not mitigated by shopping around or negotiation.
On the other side of the aisle, the AFSA’s Himpler said the association met with Cordray in October, only to discover that the bureau has no concrete idea as to whether or not the “[flat fee] ‘cure’ will kill the patient.” The association also discovered that only one one-hundredth of a percent of all auto loan sales make it to the CFPB’s consumer complaint database.
“Since the bureau has not studied the impact of these suggested changes, [the] AFSA announced this week that we are commissioning an independent study which will assess the present model and evaluate the costs and benefits of alternative models that have been proposed,” Himpler said. “Without this important analysis, it’s like putting the cart before the horse.”
What’s clear, attendees and participants agreed, is that the forum represents a first step in an ongoing dialogue between the bureau and the auto industry. Riese, the last speaker on the last panel of the day, summed it up this way: “At the risk of being a poor guest, I first want to say thank you to the bureau for having this forum, but I don’t think it substitutes for the kind of engagement we’ll really need on this issue. It needs to only be a kickoff.”
No Answers in Mount Holly Case
On the eve of the Consumer Financial Protection Bureau (CFPB)’s first public forum on auto lending in November, a town council in New Jersey voted to settle a housing discrimination case that relied on a much-disputed legal theory called “disparate impact.” The bureau is currently using the theory in its review of the indirect financing channel.
The settlement comes half a decade after 20 low-income minority residents of Mount Holly Gardens sued the township over a redevelopment plan that would price them out of the neighborhood. Under the settlement, residents will have an opportunity to stay and benefit from the redevelopment.
“This is an historic settlement because it demonstrates that all the parties were willing and eager to work toward a global resolution that serves the interests of the Gardens’ residents and Mount Holly Township as a whole,” said township attorney George Saponaro after the council unanimously approved the settlement.
The Mount Holly case was pending before the U.S. Supreme Court, which was supposed to begin hearing arguments on Dec. 4. The industry had hoped the high court’s conservative majority would rule the use of disparate impact unconstitutional, ending the CFPB’s use of the controversial theory to determine the existence of discrimination in auto lender portfolios.
In March, the CFPB issued guidance to finance sources stating that it would hold them liable under the legal doctrine of disparate impact for policies that cause minorities to pay higher rates for auto loans. Such discrimination is prohibited under the Equal Credit Opportunity Act. The doctrine allows finance sources to be sanctioned for actions that have a discriminatory effect — even if those institutions didn’t intend to discriminate.
This was the second disparate impact case to be settled prior to reaching the Supreme Court.