The Consumer Financial Protection Bureau is taking a strong stance against lenders that use contract clauses that block consumers from going to court in a report released Thursday that will likely lead to new regulations.
At issue are so-called arbitration clauses, which lenders have used for decades in contracts with consumers and businesses to force disputes to be settled outside of court through a third-party arbitrator. Although lawmakers have raised objections to such clauses, the Supreme Court has repeatedly upheld their use.
But the CFPB could change that. In its report, the agency strongly suggests that mandatory arbitration clauses are more harmful than helpful to consumers. As a result, the agency appears likely to write new rules that could restrict or eliminate the use of arbitration clauses.
The research indicates that arbitration clauses are commonly used by large banks in credit card and checking account agreements and that roughly 9 out of 10 clauses allow banks to prevent consumers from participating in class actions.
The research also shows that while tens of millions of consumers are subject to arbitration clauses in the markets the CFPB studied, on average, consumers filed 300 disputes in these markets each year between 2010 and 2012 with the leading arbitration association.
Many contracts for consumer financial products and services contain arbitration clauses, said CFPB Director Richard Cordray. Todays preliminary results help us better understand how these clauses are affecting consumers financial lives so that we can ultimately determine whether action should be taken for their greater protection.
The full results of the study are available here.
Arbitration is a way to resolve disputes outside the court system. Many contracts for consumer financial products and services contain a pre-dispute arbitration clause stating that either party can require that disputes about that product or service be resolved through arbitration, rather than through the court system.
The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) mandates that the CFPB conduct a study on the use of pre-dispute arbitration clauses in consumer financial markets. The Bureau first launched a public inquiry on arbitration clauses in April 2012. The Dodd-Frank Act also gives the Bureau the power to issue regulations on the use of arbitration clauses if the Bureau finds that doing so is in the public interest and for the protection of consumers.
The preliminary results of the study provided by the CFPB are based on a review of hundreds of consumer contracts, as well as on filings from the American Arbitration Association (AAA). Based on the CFPBs research, the AAA is the predominant administrator of consumer financial arbitrations in the markets covered by the study to date.
The CFPB looked at AAA filings about credit cards, checking accounts, payday loans and prepaid cards between 2010 and 2012. The CFPB observed that fewer than 1,250 consumer arbitrations about those four products were filed. Many of these concerned debt collection.
CFPB research indicates that consumers filed around 900 of these disputes. The remaining disputes are filed by companies or submitted by both sides together. In comparison, in that same three-year time period, over 3,000 cases were filed by consumers in federal court about credit card issues alone. More than 400 of these federal court cases were filed as class actions, whereas CFPBs research found only two class filings in arbitration and neither was about credit cards.
Other preliminary results for the markets the CFPB has studied include:
Larger institutions are most likely to use arbitration clauses. The CFPBs preliminary results indicate that larger institutions are more likely than community banks or credit unions to include an arbitration clause in consumer contracts for credit cards or checking accounts. For example, while the CFPB estimates that only 7.7% of banks use arbitration clauses for their checking accounts, 62% of the top 50 banks have arbitration clauses in their checking account contracts. With respect to prepaid cards, however, arbitration clauses are seen more uniformly across almost every consumer contract.
Arbitration clauses are more complex than the rest of the contract. The CFPBs preliminary results indicate that, in credit card contracts, the arbitration clause section of the contract was almost always more complex and written at a higher grade level than the rest of the contract.
Around 9 out of 10 arbitration clauses expressly bar consumers from filing class arbitration. In the contracts the Bureau studied, around 90 percent of the arbitration clauses specifically bar consumers from filing class arbitrations. The few clauses without this provision were in smaller bank contracts. This means that, for the products the CFPB studied, almost all of the market that is subject to arbitration is also subject to terms that effectively preclude class actions in court or in arbitration.
Consumers do not choose arbitration over class action settlements. While its study of class actions remains ongoing, the Bureau has already identified a number of class actions involving credit cards, deposit accounts, or payday loans in which the contract allowed for arbitration before the AAA. More than 13 million class members made claims or received payments under these settlements, while 3,605 individuals opted out of participating in the settlements, which gave them the right to bring their own cases. At most, only a handful of these individuals chose instead to file an arbitration case.
Consumers do not file arbitrations for small-dollar disputes. In looking at the data, the Bureau observed that almost no consumers filed arbitrations about disputes under $1,000. For arbitration filings involving debt disputes, the average amount of debt at issue was over $13,000. For other arbitration filings, the average consumer claim was for over $38,000.
Few consumers file small claims court actions. A number of arbitration clauses allow a consumer, and sometimes the company, to use small claims courts rather than arbitration for dispute resolution. The CFPBs preliminary analysis indicates that not many consumers initiate small claims court cases in credit-card disputes. Rather, the analysis shows that small claims court cases are much more likely to be brought by banks than by consumers. In the states and counties studied, the Bureau was able to identify at most 870 credit card cases brought by consumers in small claims court against large credit card issuers, but more than 41,000 cases brought by these banks against consumers in small claims court.
For the second phase of the Bureaus study, the CFPB intends to look at a number of areas, like whether consumers are aware of the terms of arbitration clauses and whether arbitration clauses influence consumers decisions about which consumer products to purchase.