The CFPB is ruled unconstitutional; is it done for?

October 21, 2016

CourtroomLast week, as you may have read in news headlines, the D.C. Circuit Court of Appeals ruled the Consumer Finance Protection Bureau (CFPB) to be unconstitutional.  Although the headlines may have sensationalized the story a bit, the ruling is indeed significant.  But just how significant is it?

The Case: PHH Corporation v. Consumer Financial Protection Bureau

The case began with enforcement action against mortgage lender PHH Corporation.  PHH requires certain home buyers to obtain mortgage insurance, which protects lenders in case of a default by the buyer.  Mortgage insurers may obtain mortgage reinsurance, which assumes some of the risk of insuring the mortgage in exchange for a fee.

PHH began issuing reinsurance through a subsidy in 1994, and had since maintained “captive reinsurance” arrangements, in which a mortgage lender refers borrowers to a mortgage insurer, which, in turn, purchases “reinsurance from a mortgage reinsurer affiliated with (or owned by) the referring mortgage lender.”

The Real Estate Settlement Procedures Act, passed in 1974, prohibits the paying for a referral in a mortgage transaction, such as “a mortgage insurer’s paying a lender for the lender’s referral of homebuying customers to that mortgage insurer.”  Normally, such a provision would likely prohibit captive reinsurance, but another provision carved out an exception to this rule, as least as interpreted by the Department of Housing and Urban Development (HUD).

Prior to the CFPB’s inception in 2010, HUD was responsible for interpreting and enforcing the provisions of the Real Estate Settlement Procedures Act.  Of course, the act was one of the many to be brought under the CFPB’s enforcement umbrella once the agency began operations.

Unfortunately for PHH and other such lenders engaged in captive reinsurance arrangements, the CFPB interpreted the act differently than HUD, essentially eliminating the safe harbor on which PHH relied.

The CFPB brought an enforcement action against PHH in 2014, and the PHH challenged the enforcement action, but also challenged the constitutionality of the CFPB itself.

The Ruling

A lengthy, theatrical discourse on the history of “executive power and individual liberty,” Judge Brett M. Kavanaugh’s opinion in the ruling held that the CFPB was indeed unconstitutional – specifically, in its structure.

The unconstitutional structure in question is that of the agency’s “concentration of enormous executive power in a single, unaccountable, unchecked [d]irector.”

According to the ruling, this structure “not only departs from settled historical practice, but also poses a far greater risk of arbitrary decisionmaking and abuse of power, and a far greater threat to individual liberty, than does a multi-member independent agency.”

What was Judge Kavanaugh’s remedy for this constitutional violation?

PHH wanted the court to not only strike down the CFPB and “prevent its continued operation,” but also the Dodd-Frank Act in its entirety.

The court declined to take such measures, though, and instead left the CFPB and Dodd-Frank Act largely untouched – saved for the so-called “for-cause removal restriction.”  This restriction, which the court deemed the culprit in the CFPB’s structural unconstitutionality, allows only the president to only remove the CFPB director for cause.

The result is that the director may not be removed by the president at will – i.e., for any reason whatsoever.

What Happens to the CFPB Now?

In short, the CFPB will continue operating as it has.  The restriction imposed by the ruling is likely one of the least obtrusive to be considered by the court, and thus impacts the agency very little.

True, if the next president doesn’t agree with the direction of the CFPB, that president could appoint a new director more in line with his or her goals, and the agency could find itself changing course dramatically.  But if the current polling trends maintains until Election Day in just a few weeks, Hillary Clinton will secure the presidency, and, given her track record, she seems unlikely to take such action.

Furthermore, the longer that the CFPB remains a part of the national regulatory framework, the more entrenched it becomes in that system, making dramatic changes more difficult.

In other words, this case was the best chance for opponents of the CFPB to eliminate the agency or otherwise weaken it.  While the CFPB is indeed weakened by the ruling, the effect is almost inconsequential.  Now that this ruling is in place, other challenges will look to it as precedential, and likely follow a similar course.

Ironically, then, even though the headlines billed this ruling as a blow to the CFPB, it is, in fact, a win for the agency, at least in the long term.