In response to the 2008 financial crisis, Congress enacted the Consumer Financial Protection Act (CFPA) which created the Consumer Financial Protection Bureau (CFPB). To ensure political isolation, Congress housed the CFPB within the Federal Reserve system which, though created by statute and operates with close ties to the federal government, is a private organization.
Because of its placement within the Federal Reserve system, the CFPB was made exempt from the traditional, constitutionally mandated appropriations process which requires an annual granting of funds from Congress. In its place, the CFPB was conferred by the CFPA the power to request funding from the Federal Reserve directly; and, as long as the Federal Reserve had the available funding and it did not exceed 12 percent of the Fed’s total operating expenses, it was required to grant the funds to the CFPB.
The objective in creating this funding structure was to remove as much political influence as possible from the enforcement of consumer financial protection laws. In the case of Community Financial Services Association of America Ltd., et al. v. CFPB, the Fifth Circuit determined this structure was in violation of the Article I appropriations authority given to Congress and a violation of the separation of powers.
Background
In 2016, CFPB Director Richard Cordray proposed a rule to regulate payday, vehicle title and certain high-cost installment loans (the “payday lending rule”). Following the necessary public notice-and-comment period, Cordray finalized the payday lending rule in November 2017, the first year of Donald Trump’s presidency. The rule became effective in January 2018 and had a compliance date of August 2019.
The payday lending rule, enacted under the CFPB’s authority to prohibit unfair, deceptive, abusive acts or practices (UDAAP), had two major components: the underwriting provisions and the payment provisions. The underwriting provisions prohibited lenders from making covered loans “without reasonably determining that consumers have the ability to repay the loans according to their terms.” The payment provisions limited a lender’s ability to obtain loan repayments via preauthorized account access. The underwriting provision has since been repealed.
In April 2018, Community Financial Services Association of America Ltd and Consumer Service Alliance of Texas filed suit against the CFPB on behalf of lenders and credit access businesses, seeking an order setting aside the payday lending rule. The plaintiffs alleged that the rule exceeded the bureau’s statutory authority and violated the Administrative Procedure Act. They further argued that the CFPA’s for-cause removal provision, self-funding mechanism and delegation of rulemaking authority each violated the Constitution’s separation of powers.
It was around the time that this suit was filed that Acting Director Mick Mulvaney announced plans to have the CFPB reconsider the payday lending rule. As part of the ongoing litigation, the court granted a request to stay the case and the payday lending rule’s effective date, pending further order from the court.
In 2020, Trump nominated, and the Senate confirmed, Kathy Kraninger as director of the CFPB. That same year, the Supreme Court heard Seila law v. CFPB, in which it determined the for-cause removal provision of the CFPA was an unconstitutional restriction on the president’s removal authority under Article II of the Constitution.
Under Kraninger, the bureau issued an affirmation and ratification of the payment provisions of the payday lending rule. The court lifted the stay, and the plaintiffs amended their complaint to include a challenge to the ratification of the payment provisions. Following cross-motions for summary judgment, the district court granted the CFPB’s motion on each of the plaintiffs’ claims.
The district court concluded, among other things, that: (1) the decision in Seila law did not render the payment provisions void; (2) the payment provisions were consistent with the CFPB’s statutory authority; and (3) the CFPB’s self-funding mechanism did not violate the Appropriations Clause.
The plaintiffs appealed the decision to the Fifth Circuit where it affirmed all but one of the lower court’s decisions.
The Decision
While the circuit court upheld nearly all the decisions of the district court, it disagreed on one of the major constitutional questions the plaintiffs raised in their complaint. It found that the funding structure of the CFPB, being a federal agency removed from the constitutionally mandated appropriations process, was a violation of the Constitution.
The court, which leaned heavily on an originalist interpretation of the Constitution and constitutional law, cited James Madison and The Federalist Papers in its assessment of the Article I, Section 9 power.
“As James Madison explained, the ‘power over the purse may, in fact, be regarded as the most complete and effectual weapon with which any constitution can arm the immediate representatives of the people, for obtaining a redress of every grievance, and for carrying into effect every just and salutary measure,’” Circuit Judge Cory Wilson wrote.
“The text of the Constitution reflects these foundational considerations,” Wilson added. “First, even before enumerating how legislation becomes law, the Constitution provides that ‘all bills for raising revenue shall originate in the House of Representatives ....’ It then grants the general authority ‘to lay and collect Taxes’ and spend public funds for various ends—the first power positively granted to Congress by the Constitution. Importantly though, that general grant of spending power is cabined by the Appropriations Clause and its follow-on, the Public Accounts Clause: ‘No money shall be drawn from the Treasury, but in consequence of appropriations made by law; and a regular statement and account of the receipts and expenditures of all public money shall be published from time to time.’”
The court, citing to this historical text as well as existing precedent, found the CFPB’s “self-actualizing, perpetual funding mechanism” to be in conflict with the way other federal agencies comply with the Appropriations Clause. The court made note that even the Federal Reserve, which is considered at most to be a pseudo-public organization, must report and remit funds above a statutory limit to the Treasury Department each year. However, the CFPB is not tethered in such a way. “The Treasury will never regain one red cent of the funds unilaterally drawn by the bureau,” Wilson wrote.
The court furthers its criticism of the CFPB’s funding structure by noting that its funding is even kept separate from other funds and not held by the Treasury. Instead, the CFPB’s funds are under the control of the director, and the “monies on deposit are permanently available to him without further act of Congress.” Thus, allowing the bureau to rollover any funds without returning them to the Fed or Treasury.
“Wherever the line between a constitutionally and unconstitutionally funded agency may be, this unprecedented arrangement crosses it. The bureau’s perpetual insulation from Congress’s appropriations power, including the express exemption from congressional review of its funding, renders the bureau ‘no longer dependent and, as a result, no longer accountable’ to Congress and, ultimately, to the people,” Wilson wrote.
“Congress’s cession of its power of the purse to the bureau violates the Appropriations Clause and the Constitution’s underlying structural separation of powers. The district court accordingly erred in granting summary judgment in favor of the bureau and denying judgment in favor of the plaintiffs,” the Fifth Circuit concluded.
Reaction
This decision has seen quick reaction from politicians on both sides of the aisle. Republicans have been supportive of the Fifth Circuit, while Democrats have been critical.
“The Fifth Circuit’s decision to invalidate the CFPB’s payday lending rule because it is the product of an unconstitutional funding scheme calls into question the validity of all of the agency’s actions to date,” Sen. Pat Toomey (R-Pa.), ranking member of the Senate Banking Committee, said in a release.
Republicans in both chambers of Congress recently introduced a bill targeting the CFPB’s funding structure by prohibiting the Fed from transferring funds whenever it reports an operating loss.
“The CFPB has been an unconstitutional and unaccountable agency since its inception,” he added. “I’ve long argued that the CFPB should be subject to congressional appropriations. As the Constitution requires, the people’s representatives shall determine how their tax dollars are spent. I’m glad to see the court agrees.”
Few Democrats have yet made public statements regarding the Fifth Circuit decision. Sen Elizabeth Warren (D-Mass.), who was instrumental in the creation of the CFPB in 2008, was outspoken on Twitter following this opinions release.
“This is a lawless and reckless decision,” Warren tweeted. “CFPB has returned billions of dollars to Americans by doing its job, and its funding is clearly constitutional. Extreme right-wing judges are throwing into question every rule the CFPB enforces to protect consumers and businesses alike.”
Legal experts are anticipating a shift in litigation around the CFPB’s rulemaking and adjudication activities.
“This puts a huge cloud over all of the CFPB’s functions, if rulemaking can be invalidated over this funding structure,” Rich Horn of Garris Horn and former counsel to the CFPB, told Dodd Frank Update. “Companies and individuals facing CFPB enforcement actions can use this argument. On the rulemaking side, the two new controversial rules the CFPB is working on: Dodd-Frank Act Section 1071 small business data collection and Section 1033 consumer access rules will likely be challenged.”
Robert Maddox, attorney at the law firm Bradley who represents clients in litigation against the CFPB, spoke with Dodd Frank Update, about his reaction to this decision.
“Both in litigation and enforcement, what are people going to do differently? Well, nothing honestly,” Maddox said. “You may have a few companies that are in litigation or enforcement with them, that may try to utilize this, but it's a long-term path. If you're walking into a court in D.C., California, or Florida, or anywhere outside of Texas, Louisiana, Mississippi, and tried to say look, this court down in New Orleans said, ‘it's unconstitutional, so we're not going to produce documents,’ the CFPB knows that [the fifth circuit] doesn't rule this court.
“Enforcement is going to continue on because the reality is, it’s going to take so long to get a ruling whether it's en banc, it’s months, or the Supreme Court, if you're lucky next term. So, I think life is usual. A lot of it is academic at this point.”
As for the future of consumer financial protection enforcement, Maddox didn’t expect much to change in the long-term either. Should this decision be upheld by the Supreme Court, the CFPB may face a smaller budget, but the overall mission and activity will remain the same. The bureau will likely just require more involvement from other regulators and states’ attorneys general to meet its enforcement goals, Maddox explained.
“I don't think you're going to see a massive change from a regulatory standpoint, or an enforcement standpoint,” he continued. “But the one thing we always consider in litigation is how much does this cost…. Which is why you get trade associations like the one we have in this Fifth Circuit case fighting because no one want to draw the ire of the bureau. Think about it this way, some of these cases go for seven, eight years, but what if [the bureau] didn't have unlimited resources? What if they had to act like a rational actor would in a piece of litigation, they couldn't drag this out for as long or hold some of these companies hostage because they have a limitless purse with which to work from. So, I think that they'll probably go back and they'll ratify everything that they've done today. Just like they did with Seila and they will make sure the Bureau continues on.”
The CFPB has yet to state whether it will appeal the decision. Other courts have heard this argument and found in favor of the bureau, upholding its funding structure. It’s unclear if that trend will remain, or if the Fifth Circuit is the first of many circuits to decide against the bureau.
“Other circuits are definitely going to be hearing this argument, and I wouldn’t be surprised if the Supreme Court takes up this issue in the future,” Horn added. “Congress could act to fix this, but given where we are in this Congress and looking at the looming midterms, when that happens, it could lead to significant changes to the CFPB’s powers and structure.”