The lack of clarity around definitions in the CFPB’s statement may have the same impact as economists feared over predatory lending laws. Legal scholars question aspects of the CFPB’s abusive practices statement on the ambiguity concerning how a lender might take advantage of a borrower’s lack of understanding. Will lenders need applicants to prove their financial literacy before lending?
Plan sponsors often offer financial education programs for their participants to help boost budgeting and improve financially healthy actions like savings. That includes education on borrower’s rights and new rulemakings on credit reporting from the Consumer Finance Protection Bureau.  By way of review, the CFPB has broad authority to make rules on practices in the consumer financial services industry. This usually involves credit cards and consumer loans. Now, there are additional rulemakings coming from that consumer protection bureau, but caution may be in order.
The CFPB is increasing its vigilance of abusive practices. While investing and retirement savings companies aren’t under the authority of the CFPB, companies related to them are. In fact, the list of who the CFPB supervises is four pages long and subject to regular update. It includes “mortgage originators and servicers, payday lenders, and private student lenders of all sizes” as well as “consumer reporting, consumer debt collection, student loan servicing, international money transfer, and automobile financing.” Last, and most importantly, the CFPB has authority over what it calls “depository institutions” which includes most of the major banks in the U.S. It also has supervisory authority over affiliates of depository institutions, like Raymond James, Barclays, and Morgan Stanley. Finally, it has authority over the banks associated with major credit card companies, like Synchrony (the bank behind retail affiliate cards, like Gap).
A bit of history may be helpful here on abusive practices as the impact of some regulations in this area has been controversial. Beginning in 2003, eight years before the CFPB was created, state and federal legislators began working on bills to curb what they called predatory lending. Most of those efforts were aimed removing unfair aspects of mortgage lending, like high fees or interest rates, or practices that would strip a borrower of equity in their home. “Red Flags” on mortgage lending, as identified by the DOJ include aggressive solicitations, balloon payments, and offers to consolidate debt.
Predatory lending disparately affects communities that struggle to get access to credit during crisis. “Predatory lending … primarily targets those with few credit options or who are vulnerable in other ways—people whose inadequate income leads to regular and urgent needs for cash to make ends meet, those with low credit scores, those with less access to education, or those subject to discriminatory lending practices because of their race, ethnicity, age, or disability.”
But not every financial regulator wanted to wipe out all lending to those who were credit risks. As one Federal Reserve governor noted: “I want to emphasize that addressing predatory lending requires a nuanced and balanced response. Subprime lending has many desirable aspects, and we would not want to adopt draconian policies that extinguish or greatly curtail legitimate subprime business.” At the time, there was concern there was over access to credit for those with “blemished credit” as well as preventing unfair loans. “Critics charge that the laws ration credit and increase the price of subprime loans. Supporters argue that regulation is needed to allay consumer fears about dishonest lenders and ensure that creditors internalize the cost of any negative externalities from predatory loans.”
The CFPB’s new regulations may raise the same debate on impacts as the definitions of what constitute abusive or unfair may be murky. The lack of clarity around definitions in the CFPB’s statement may have the same impact as economists feared over predatory lending laws. “[M]uch of the statement takes an expansive position that is likely to provide enforcement agencies with significant latitude and leave regulated entities questioning if there are limitations to what can be challenged as abusive.” Legal scholars question aspects of the CFPB’s abusive practices statement on the ambiguity concerning how a lender might take advantage of a borrower’s lack of understanding about risks of default, for example. Will lenders need applicants to prove their financial literacy before lending?
It’s possible that the enhanced scrutiny on lenders concerning financial literacy and boilerplate contracts for consumer finance issues (like limiting choice of loan servicers) may make getting loans harder for individuals in the groups identified as being targeted for predatory lending; those with “low credit scores, those with less access to education, or those subject to discriminatory lending practices because of their race, ethnicity, age, or disability.”
Plan sponsors who offer financial literacy programs and educational materials may want to consider how to educate their participants about this new policy. On one hand, enhanced consumer protection will benefit participants in their retirement savings. On the other hand, limits on access to consumer loans (especially for auto loans), could negatively affect retirement savings. Sponsors may want to consider how they can inform their plan participants about potential new levels of scrutiny by lenders so participants can be prepared.
These articles are prepared for general purposes and are not intended to provide advice or encourage specific behavior. Before taking any action, Advisors and Plan Sponsors should consult with their compliance, finance and legal teams.
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