On May 24, the Consumer Financial Protection Bureau published its proposal to restrict the use of arbitration agreements in a broad range of consumer financial products and services. “Predispute” arbitration agreements—typically entered as part of general product agreements—have been a topic of interest at the Bureau for some time, as it carried out research on how they are used. Section 1028 of the Dodd-Frank Act, which directed the Bureau to do those studies, empowers the Bureau to prohibit predispute arbitration agreements (with respect to consumer financial products and services) or restrict their use.
The Bureau does not propose to prohibit arbitration agreements entirely. Instead, it is focused on how arbitration agreements affect class actions. According to the Bureau’s proposal, class actions are an important mechanism for securing companies’ compliance with consumer financial law, especially because in many cases the damages available to a given individual consumer would be too small to warrant individual litigation. So the Bureau’s proposed rule would prohibit a company from using a predispute arbitration agreement to avoid a class action in court. If a company and its product are covered by the rule (a complicated question for another time), the company would not be allowed to “rely in any way on a pre-dispute arbitration agreement . . . with respect to any aspect of a class action.” “Class action,” for these purposes, would mean not only certified class actions (those in which the court has ruled that the case can proceed on a class basis), but also cases in which the plaintiffs seek class status but the courts have not yet decided. In future agreements entered after the rule is effective, companies would also have to include a clause promising not to use the agreement to stop a class action in court.
The Bureau’s proposal includes an extensive discussion of the legal authorities on which the rule would rely. But one important discussion seems to be missing: Does the Bureau actually have the authority to privilege class actions in this way?
Class actions in federal court are, of course, a feature of federal judicial procedure—in particular Rule 23 of the Federal Rules of Civil Procedure. The federal courts establish procedure under the Rules Enabling Act, which says federal procedural rules cannot “abridge, enlarge, or modify any substantive right.” The Supreme Court has repeatedly warned that Rule 23 must be interpreted carefully to avoid overstepping that bound.
The Bureau’s proposed rule would mean that when a plaintiff in federal court is a representative of a certified class, the defendant cannot assert a predispute arbitration agreement to compel the plaintiff to arbitrate claims that are “related” to the class action. (The arguments would be about the same for pre-certification cases, in which plaintiffs ask for class treatment but no decision has been made. For simplicity I’ll just discuss certified cases.) Notably, the Bureau’s proposal would not otherwise call consumer arbitration agreements into question. Absent a class action, the defendant would be free to enforce the arbitration agreement. But it would be unable to do so in a class action.
It seems likely to me that the federal courts could not properly establish a prohibition like that on their own. Of course the Federal Arbitration Act would preclude them from limiting the use of arbitration clauses. But the Rules Enabling Act on its own would also be an obstacle. Whether to arbitrate or litigate is a key question about a case that, as far as the federal rules are concerned, should not depend on whether the case proceeds on a class basis. Perhaps one could say arbitration is not a “substantive right”—what the Rules Enabling Act says federal procedural rules cannot affect. But the Supreme Court has interpreted that category broadly with respect to Rule 23. For example, the Court recently observed (although in dictum) that “evidence cannot be deemed improper merely because the claim is brought on behalf of a class.” (That statement actually seems to go a bit far. The Rules Enabling Act is also the basis for the Federal Rules of Evidence, the very nature of which is to determine which evidence is proper or improper for a case in federal court.) Moreover, the promise to arbitrate is a contractual obligation; it would be hard to justify treating that obligation as inferior to other contractual promises with respect to the Rules Enabling Act.
So, can the Bureau achieve by regulation the result that the Rules Enabling Act would preclude for courts themselves? That is the question that the Bureau should contemplate.
It would be tempting to say there is no issue because, in the Bureau’s scheme, Rule 23 would not be affecting substantive rights; the Bureau’s regulation, and behind it section 1028, would be doing the work. But that answer only begs the question. Does section 1028 indeed authorize the Bureau to prescribe different outcomes for consumer class actions? It doesn’t say so explicitly. It allows the Bureau to restrict the use of arbitration agreements, but the Bureau and the courts will need to interpret that authority in light of other relevant law, such as the Rules Enabling Act. The Rules Enabling Act articulates a preference that the substantive rights of the parties to a case shouldn’t depend on whether they litigate in federal or state court. One could argue that a later statute, addressing an unrelated area, should not be read to permit exactly that outcome.
As an aside, note that although the Bureau’s proposed rule would also apply to state class actions, the enforceability of an arbitration clause could still depend on the difference between state and federal court. State class actions can be different from, and more limited than, federal class actions. For example, Mississippi has no class actions at all, and Virginia only on a few limited topics; South Carolina doesn’t allow class actions for monetary relief below a threshold of $100 per class member. South Carolina seems to rule out exactly the sorts of small-dollar class actions that the Bureau says it wants to protect!
Some hypotheticals might help illustrate why it is not self-evident that section 1028 would permit the Bureau’s proposed rule. The Bureau can identify and prohibit unfair, deceptive, or abusive acts or practices (“UDAAP”). Could the Bureau declare that a defendant in a class action about marketing of financial products is not allowed to introduce evidence of its communications with individual consumers? Assume for the moment that such a rule could be justified, on its own terms, under the UDAAP standards. Would UDAAP authority permit the Bureau to, in effect, revise the evidence rules for class actions?
As another example, under the Fair Debt Collection Practices Act (“FDCPA”) the Bureau can generally regulate “the collection of debts by debt collectors.” Sometimes when a consumer complains that a debt collector is trying to collect an incorrect amount, it turns out that the collector has already obtained (perhaps by default) a state-court judgment for that amount. In that situation, a federal court will often refuse to entertain the consumer’s claim under the FDCPA, on the ground that the Rooker-Feldman doctrine precludes a lower federal court from questioning a state-court judgment. Could the Bureau overcome that obstacle by issuing a rule stating that a state-court judgment does not conclusively show that a debt collector is claiming the right amount?
I raise these questions here, but I don’t mean to be suggesting an answer. These are interesting issues of statutory interpretation, and the best approach presumably depends on the details. (The Bureau’s proposal cites a few existing regulations from other agencies that restrict the use of arbitration agreements. But so far as I can tell, among those examples only the SEC’s involved a comparable preference for class actions; and that rulemaking did not consider the issue. Moreover, the SEC was only approving a rule issued by FINRA, a private industry self-regulatory body, rather than imposing the restriction itself. That fact might make the analysis different.) With respect to the Bureau’s arbitration proposal, there are surely arguments to be made that the Bureau does have the authority to privilege class actions against arbitration. And it might not be surprising if historical materials associated with the enactment of the Dodd-Frank Act reveal that section 1028 was meant to permit exactly that sort of restriction. My point here is simply to observe that this is an important and non-trivial issue, one that the Bureau and anybody interested in the Bureau’s arbitration proposal should think about.