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The Consumer Financial Protection Bureau issued its new arbitration rule on July 10, 2017, and the rule was published July 19. This set off a 60-day review period during which Congress could vote to disapprove of the regulation, sending it back to the CFPB. While the House voted to disapprove, the Senate has not taken up a vote on whether to vacate the law. If the Senate does not act, the law will go into effect on March 19, 2018. Further complicating the picture, a coalition of business groups, led by the U.S. Chamber of Commerce, has filed suit challenging the rule.
For dealers and lenders, especially those in highly litigious states, arbitration clauses have played an important part in risk mitigation for years by allowing contract holders to force litigants to arbitrate claims individually. The CFPB’s new regulation will, therefore, have a deeply felt impact on automotive lending. However, it is not the only attack on the availability of arbitration clauses in consumer lending contracts. Recent California court decisions and proposed legislation may limit dealers’ and lenders’ ability to rely on consumer arbitration to defeat class actions.
This article provides an update on the current status of the CFPB arbitration rule. It then explores several recent cases, all from California, that highlight various issues facing reliance on arbitration agreements. Dealers and their attorneys will face difficult decisions about how to move forward within the new CFPB rules and case guidance; this article highlights additional considerations that should be kept in mind over the next several months.
The CFPB Arbitration Rule
The Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 created the CFPB and instructed it to conduct a study of the impact on consumers of mandatory arbitration agreements in consumer financial product or services contracts. Dodd-Frank further authorized the CFPB to promulgate regulations of such arbitration agreements if the study justified such regulations.
The CFPB published its study on March 10, 2015. While the results of the study were underwhelming, the CFPB nonetheless went forward with proposed regulations, published on May 5, 2016. After a period of public comment, the CFPB published its final rule on July 19, 2017. The rule went into effect on September 18, 2017 and covered agreements must comply by March 19, 2018.
From the dealers’ perspective, the most important aspect of the new rule is the prohibition of class-action waivers in mandatory pre-dispute consumer financial service and product contracts. This rule will not apply directly to dealers in most cases. Congress carved dealers out of the jurisdiction of the CFPB, except when they act as the lender, as with buy-here-pay-dealers. However, as dealers assign sale contracts directly to lenders, the terms of the dealer contract must typically also comply with any legal requirements that apply to the lender.
Accordingly, the most pressing issue facing dealers is to determine if they can still rely on a class-action waiver in financed car sales. This will require careful legal analysis, possibly on a state-by-state basis. For example, states that have a single-document rule will have fewer options to adapt to the new rule, depending on that rule’s scope in any particular jurisdiction.
Arbitration Complications on Multiple Fronts
The CFPB’s arbitration rule is not the only challenge facing use of arbitration agreements. Recent court rulings in California should give dealers and their attorneys additional food for thought as they decide on how to move forward.
For example, in Harshad & Nasir Corporation v. Global Sign Systems, Inc., 14 Cal. App. 5th 523 (2017), the Court of Appeal overturned the trial court’s review of the arbitrator’s decision regarding the scope of the arbitration agreement. An arbitrator's decision generally cannot be reviewed for errors of fact or law, but parties can limit an arbitrator’s authority by providing for review of the merits determination in the arbitration agreement. Here, the arbitration agreement contained language requiring the arbitrator to apply California and federal law, and providing for review as though the decision had been issued by a court. The court therefore found the agreement allowed for judicial review of the arbitrator's decision for legal error, held the arbitrator committed legal error, and held the arbitrator did not have the authority to add parties to an arbitration after one of the arbitrating parties expressly reserved its right to seek a court order on this issue.
The resulting review of the arbitrator’s decision was severe for the litigants. The litigants each expended over $1 million dollars to take the case through numerous appeals. Further, the party prevailing in arbitration saw the reversal of an award for attorney’s fees.
Moreover, it also highlights the importance of controlling how legal questions are answered in arbitration. Saddling the arbitrator with the obligation to decide a dispute consistent with the facts and controlling law and including a right of review for errors of fact and law in your clients’ arbitration agreements may help insulate your client from a bad decision. This is particularly important due to the penchant of some arbitrators for “splitting the baby” in their decisions, resulting in minimal damage awards, but high attorney’s fees awards, and arbitrators more concerned with repeat business than getting the right result.
In another recent decision by a California Court of Appeal, Sprunk v. Prisma LLC, No. B268755, 2017 Cal. App. LEXIS 731 (Ct. App. Aug. 23, 2017), the court held that a defendant in class action litigation can waive its right to seek arbitration against absent, unnamed class members by deciding not to compel arbitration against the named plaintiff within a reasonable timeframe. The appeal turned on how a defendant’s choice to delay compelling arbitration as to the named plaintiff for several years should be weighed. The defendant argued the court should only consider its reasons for delay in compelling arbitration as to the unnamed class members themselves, as the defendant could not have moved to compel arbitration against these individuals until the class was certified. The Court of Appeal disagreed, finding that substantial evidence supported the trial court’s determination that the defendant had delayed its motions to compel arbitration to obtain a strategic advantage: it hoped to give itself another opportunity to win the case by first defeating the class certification in court.
Sprunk illustrates that a defendant may lose its right to compel arbitration if it delays compelling arbitration as to the named plaintiff to obtain a strategic advantage against the class. For dealers it should also highlight some of the strategic issues they may face in a post-class action waiver dispute environment.
Two other recent cases also highlight attacks that may be coming to consumer arbitration. In McGill v. Citibank, 2 Cal. 5th 945 (2017), the California Supreme Court held that an arbitration agreement that waives a party’s right to obtain public injunctive relief under California statute in any forum is contrary to California law and that the Federal Arbitration Act does not preempt this rule. Before the SCOTUS’s opinion in Concepcion, the California Supreme Court held that statutory public injunctive relief, a remedy offered under state unfair competition, consumer protection, and advertising law schemes, may not be arbitrated. This rule, called the Broughton-Cruz rule, after the twin cases that created the doctrine, has not been revisited by the California Supreme Court after Concepcion. Instead, the court has studiously avoided reviewing this doctrine and has so proclaimed in almost every subsequent arbitration opinion – including McGill –artfully dancing around the issue. In McGill, the court focused on the arbitration agreement’s provision that prohibited the consumer from obtaining public injunctive relief in arbitration. It held that an arbitration agreement that prohibited consumers from seeking any remedy through the courts effectively deprived the consumer of a remedy because consumers had to arbitrate their claims and the arbitrator’s power did not include the ability to award public injunctive relief because the parties agreed to so limit it in the arbitration agreement. Depriving a consumer of the right to obtain public injunctive relief in any forum, the court held, was a violation of California law and public policy. The lower courts are now trying to apply this decision in the face of consumer attorneys arguing for an expansive view of its holding. Counsel should review their clients’ arbitration agreements to be sure they do not limit or prohibit remedies in arbitration and run afoul of this decision.
Finally, last year, the California Supreme Court, in Sandquist v. Lebo Automotive, Inc., 1 Cal. 5th 233 (2016), reversed the dismissal of class claims and held that an employment arbitration agreement required that the arbitrability of the legal questions in the agreement be first determined by the arbitrator. The agreement, which stated “any claim, dispute and/or controversy . . . which would otherwise require or allow resort to any court,” except for a few specifically delineated exceptions, had to be “submitted and determine[d] exclusively by binding arbitration….” The defendant had applied to the trial court to compel arbitration and enforce the class action waiver in the case. The trial court granted that motion and dismissed the class claims resulting in the appeal. The importance of this decision is that an arbitration agreement requiring the arbitrator to decide “threshold issues” of arbitrability could result in extraordinary cost for a defendant, who has to pay the costs unique to arbitration to avoid the risk that the agreement is unconscionable, if the arbitrator erroneously refuses to dismiss the class claims, or worse, finds that individual arbitrations for each putative class member must be prosecuted in lieu of dismissal of the class claims. This is a costly result because it is not appealable until the final decision on the merits is reached. Counsel should therefore develop arbitration agreements that: (1) limit the scope of the arbitrator’s authority so that the arbitrator is not empowered to determine threshold issues of arbitrability; or (2) allow for an immediate right of judicial appeal as to the arbitrator’s determination of the threshold issues of arbitrability.
Taken together these cases suggest that while dealer attorneys weigh the future of arbitration agreements in retail finance purchase agreements, they should also weigh unrelated changes that address attacks on consumer arbitration. Specifically, these cases highlight the importance of constructing arbitration agreements in a way that resolves legal questions regarding the scope of an arbitration at an early stage.
Christian J. Scali - Founder and Managing Partner, The Scali Law Firm Christian Scali has a diverse automotive industry practice that includes advertising, consumer finance, consumer product safety, data security, employment advice and counsel and litigation, employee mobility, F&I advice and counsel, franchise, privacy and trade secret protection. He regularly litigates on behalf of clients in complex and high-stakes cases.
Monica J. Baumann - Senior Associate Attorney, The Scali Law Firm Monica Baumann advises dealers on all aspects of legal and regulatory compliance. Formerly the Director of Legal and Regulatory Affairs with the California New Car Dealers Association, she represents clients in consumer and business litigation, as well as works with clients to solve compliance issues.