The Consumer Financial Protection Bureau announced that it would use its authority under the Dodd-Frank Act to prohibit the use of mandatory arbitration clauses in contracts, alleging that these clauses “deny customers their day in court.” The proposed regulation can be found here. The new rule, which effectively appends 377 pages of regulatory language to Dodd-Frank, is expected to take effect next year after a 90-day public comment period and drafting of the final rule.
The banning of mandatory arbitration clauses follows months of speculation and hints from the CFPB and others in the financial services industry. The CFPB has consistently suggested that requiring consumers to enter into arbitration effectively blocks the consumer’s ability to sue. Though lawsuits by individual consumers against banks or insurance companies are rare, the CFPB seems to be paving the way for more class-action lawsuits, in which hundreds or even thousands of individual claims are combined into one complaint. This fits the scenario of many CFPB enforcement actions where one entity is alleged to have harmed many plaintiffs with relatively small fees. Settlements, disgorgement or even punitive damages from a class-action suit can then be allotted among the many plaintiffs.
“Signing up for a credit card or opening a bank account can often mean signing away your right to take the company to court if things go wrong,” said CFPB Director Richard Cordray. “Many banks and financial companies avoid accountability by putting arbitration clauses in their contracts that block groups of their customers from suing them. Our proposal seeks comment on whether to ban this contract ‘gotcha’ that effectively denies groups of consumers the right to seek justice and relief for wrongdoing.”
The CFPB said mandatory arbitration clauses were included in “hundreds of millions of consumer contracts.” A 2015 agency study showed such clauses were used by 53 percent of credit-card issuers, 86 percent of the largest private student loan lenders, and 44 percent of banks taking insured deposits. The clauses also were included in 92 percent of prepaid card agreements and 99 percent of payday loan contracts in some states.
The proposed rule has drawn instant criticism from the financial services industry. In theory, arbitration is less complicated and less expensive than litigation, and therefore a boon to consumers. Many in the industry are claiming that the CFPB proposal fails to address the cost of businesses defending class action cases, costs which are ultimately passed down to the very consumers the CFPB is supposed to represent.