In a World Where Subprime Auto Lending Is Illegal

The deep voiced “In a world . . .” movie trailer narrator is no longer with us, but his legacy lives on, calling us to imagine the unthinkable as we brace for a post–pandemic future. While we enter what we expect to be a moment of increased scrutiny from regulators and legislators with respect to lending and consumer protection, it’s not unreasonable to ask: could subprime auto lending potentially end up outlawed?

It would be an extreme prediction for sure. But as we’ve previously discussed, with a lawsuit against Credit Acceptance Corporation filed by the Massachusetts Attorney General which focuses, at its core, on issues about borrowers’ ability–to–pay, there is a question of whether “ability–to–pay” will become enshrined in law for auto lending.

State Attorneys General Are Watching

The fundamental conclusion drawn by the Massachusetts AG in its complaint against Credit Acceptance Corporation (CAC) is “[a] loan the lender does not reasonably believe the borrower is able to repay is an unfair loan” and thus a violation of the state’s unfair and deceptive acts and practices laws (UDAP). The AG focused on the fact that over 50% of the loans extended by CAC end up in default. The premise being that such a significant number of defaults occur because CAC’s entire business model does not rely on the borrower being able to repay, but rather, CAC is able to profit from collections and defaults.

CAC has recently entered into a settlement with the state on these issues, but the question remains: how widespread in the industry is conduct similar to what the Massachusetts AG found so objectionable and how will other state attorneys general interpret their own UDAP laws? Santander settled with 34 state attorneys general in 2020 over similar issues where they were making subprime auto loans knowing they carried a high likelihood of default (and also ignoring dealer misconduct on these loans where income had often been inflated).

Back in 2017, Santander settled similar accusations again in Massachusetts and Delaware where the allegations focused on funding loans without a reasonable basis to believe the borrowers could afford the loans.

Back to the Future

We’ve already seen the acting director of the CFPB, Dave Uejio, say that he supports ability–to–pay rules in the payday lending and auto title lending contexts with the authority afforded to the CFPB to regulate unfair, deceptive and abusive acts and practices (UDAAP).

But previous efforts were a false start. In 2017, the CFPB issued a rule for payday and auto title loans that required lenders determine that the borrower had sufficient income to pay the loan and to meet their financial obligations during the term of the loan plus 30 days after payoff. But in 2020, the CFPB revoked the underwriting elements of the 2017 rule, including the rule that it was an unfair practice to make these loans without reasonably determining the consumers had the ability to repay.

Uejio’s 2021 comments suggest a return to that previous position although his blog post suggests first they “will use the authority provided by Congress to address these harms, including through vigorous market monitoring, supervision, enforcement,” and then second “if appropriate, rulemaking.” Perhaps this is more of a slow–start this time, versus a false start.

Looking Ahead

Under both UDAAP and UDAP standards, the CFPB and state attorneys general have long focused their individual enforcement efforts on those accused of bad acts in repossession, collections and sales practices. As we’ve seen, state attorneys general have even used UDAP to challenge underwriting practices. If there is greater enforcement going forward, look for an increase in coordinated efforts at the federal and state level.

But it’s a precarious time to change the regulatory landscape. The most productive regulations and policies balance underserved consumers’ need for access to credit against the need to protect them from unfair and predatory practices. At such a turbulent time, as we (hopefully) turn from a time of massive government assistance to a rocket economic recovery, a regulatory scheme that makes it harder to get loans could disrupt or amplify trends in the market. Even without regulatory changes, subprime auto originations have fallen during the pandemic due to tightening underwriting.

It seems for now the likely path to consumer protection will be enforcement, but if performance deteriorates, post–pandemic consumer protection concerns could intensify and a more aggressive path — rulemaking and legislation — could be on the horizon for subprime auto.

Nicole Serratore, an attorney in the Insolvency, Creditors’ Rights + Financial Products Practice Group of Davis+Gilbert, contributed to this post.

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