A federal appeals court struck a significant blow to the Consumer Financial Protection Bureau when it ruled last week that its funding structure is unconstitutional, potentially putting the very existence of the agency at risk.
The decision is a victory for Republicans and a conservative movement dedicated to dismantling the regulatory state, but their allies in the business community are more ambivalent about the potential effects of a decision that could undermine a host of regulations — and legal safe harbors — that the industry has planned around for more than a decade.
“Uncertainty is the word of the day,” said Jonathan Kolodziej, a partner at the law firm Bradley, who advises financial services companies
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on regulatory compliance. “As much of a thorn the CFPB may be in the sides of companies, we have at this point invested so much time and effort to get to where we are,” he added. “To just wipe that away would only add more burden and uncertainty to the situation.”
The court’s decision invalidated a 2017 rule that regulates the payday lending industry on the basis that the CFPB’s funding structure is unconstitutional. The agency is funded by the Federal Reserve, which is in turn funded by fees assessed on depository institutions and by interest earned on its securities portfolio.
“Congress’s decision to abdicate its appropriations power under the Constitution, i.e., to cede its power of the purse to the Bureau, violates the Constitution’s structural separation of powers,” Judge Cory Wilson wrote for the panel of three Trump-appointed judges who heard the case.
The decision is only binding in federal courts in Texas, Louisiana and Mississippi, for the time but the SEC is expected to appeal it to the Supreme Court.
Though the decision only vacated the payday lending rule, the logic used to come to this conclusion — that the rule was promulgated and enforced using unconstitutionally allocated funds — means that any rule or action by the agency could be challenged in court on those grounds.
Many rules issued by the CFPB are meant to create legal certainty for businesses, including safe harbors related to debt collection practices and mortgage issuance.
“If CFPB is unconstitutional it’s going to be chaos in the mortgage markets,” Adam Levitin, a Georgetown Law Professor wrote on Twitter, noting that the “qualified mortgage” rule protects mortgage issuers from lawsuits in state and federal court. If that rule is thrown out, it could open the door to a flood of lawsuits from borrowers who can claim they were deceived into taking out loans.
Even as these legal protections are put at risk, it’s not clear that businesses would necessarily be freed from conforming to consumer-protection laws put in place after the financial crisis.
Jeff Ehrlich, former deputy enforcement director at the CFPB and partner at McGuireWoods, told MarketWatch that the Dodd-Frank financial reform law which created the agency also gives state attorneys general the power to enforce new protections.
“Most of this work, but the enforcement work in particular, is going to be done by someone,” he said. “There is also room for the Federal Trade Commision to pick up any slack,” he added, noting the agency also has the authority to enforce some consumer protection laws.
The CFPB decision is just the latest in a series of cases being heard in federal court that call into question the very foundations of the modern regulatory state.
In May, a panel of the 5th Circuit Court of Appeals issued an opinion that said that Congress had violated the Constitution when it delegated the authority to the Securities and Exchange Commission to decide whether to bring enforcement actions in federal court or in an in-house administrative law tribunal.
The ruling used the so-called “non-delegation principle,” a legal theory that says the Constitution bars Congress from delegating its authority to regulatory agencies without providing enough guidance, or an “intelligible principle” to steer its discretion.
Dru Stevenson, who teaches administrative law at the South Texas College of Law Houston, told MarketWatch that the non-delegation principle is one that had “a brief period of popularity in the 1930s” but has “fell into obscurity” until being revived of late by the conservative movement to chip away at the administrative state, most famously in a recent cases against when the Supreme Court ruled against the Environmental Protection Agency and Biden administration vaccine mandates.
While businesses may cheer the unraveling of one particular regulation or another under this doctrine, legal scholars Pamela McCann and Charles Shipan recently published research that found that universally applied, a revived non-delegation principle “unravel nearly every major law Congress has passed since World War II.”
That level of uncertainty, according to securities lawyer Javier Heres of Jones Keller is “is yet another challenge in knowing which way the wind will blow and how to best advise clients when the SEC comes knocking.”
