Federal Agency Should Stop Playing Guessing Games

The Consumer Financial Protection Bureau has socked Ally Bank with $98 million in penalties and restitution requirements as part of a consent agreement stemming from unintended discrimination involving dealer-assisted car loans.

Ally facilitated discrimination, according to a CFPB analysis using “proxy methodology” that presumes to determine who is and isn’t a member of a government-designated “protected class” by means of a borrower’s first name, last name, zip code and other variables.

The regulator came down on Ally for allowing certain interest-rate markups by its dealer clients. Called dealer-reserve, the rate add-ons have long been a compensation practice of indirect-lending, whereby a dealer acts as a middleman between a lender and car buyer.

Discrimination can occur under the theory of “disparate impact” even if there is no intent to discriminate. The theory of disparate impact came out of the Civil Rights Act of 1964 and became a part of the Equal Credit Opportunity Act of 1974. 

In the Ally case, discrimination resulted in up to a third of a percent of additional rate markup being charged to members of certain protected classes, including African, Hispanic and Asian American borrowers.

This amounts to about $2 per month on a 60-month car loan of $16,000. The CFPB has conceded that dealers are entitled to compensation for their work in originating auto loans. But it says the dealer-reserve system increases the chances of  minorities ending up paying higher loan rates.  

At issue is how dealers might know who is or isn’t a member of a protected class based on CFPB methodology. Dealers need to know the standard by which their lenders might be judged. After all, the penalty was against Ally, not its dealer clients who allegedly committed discriminatory practices whether they realized it or not. 

The CFPB hasn’t offered a solution to prevent this discrimination. The agency has suggested an alternative of lenders paying dealers flat fees for helping to arrange auto loans for dealership customers.

But the Federal Trade Commission might look negatively at a practice of paying the same flat fees, potentially seeing it as fostering collusion and collaboration. If lenders compensate dealers based on differing flat-fee arrangements, the potential for disparate impact discrimination still exists. 

In that case, if dealerships inadvertently send more finance deals for protected classes to lenders paying the highest flat fees, it would constitute discrimination under the law, even in the complete absence of any malicious intent. 

So what are auto dealers and lenders to do? The CFPB is prohibited from directly regulating auto dealers other than those in the buy-here/pay-here business. But the bureau can indirectly regulate franchised dealers through auto lenders the bureau does directly oversee.  

Dealers currently lack access to CFPB proxy methodology as it relates to who has or hasn’t been discriminated against. That leaves dealer lender partners vulnerable to the CFPB’s arbitrary determinations of the possible protected-class status of borrowers until only after the fact.

The CFPB and FTC prescribe no uniform compensation method for indirect auto lending. This is the very definition of conundrum.

Despite its best intentions to eliminate discrimination, there is nothing fair about the situation the CFPB has put lenders and auto dealers in.

With absolutely no intent to commit discrimination, Ally has been assessed nearly $100 million. And this is only the beginning unless this unfairness isn’t nipped in the bud.

So here’s a solution.  

First, the CFPB should provide access to their proxy methodology so dealers can analytically determine up front who is and isn’t a member of a protected class. 

Without this ability to pre-identify protected class members, dealers and their lenders are subject to the vagaries of the CFPB’s mysterious methodology.

An unfair level of vulnerability is imposed on these businesses by denying them access to information that would make it possible for them to avoid breaking the law. 

Second, the CFPB should prescribe exactly what special treatment it wants protected- class members to receive. It can be business as usual for everyone else.

Absent this, the CFPB should leave the current system of indirect lending alone with the understanding that the bureau’s inaccurate proxy methodology has only turned up the possibility of the miniscule potential rate markup overcharge of a third of a percent. That certainly is within the margin of error for so imperfect a system designed to identify protected-class borrowers.

If the CFPB wants to institute a protected-class database, it should do so using actual data, rather than the guesswork it has been employing so far.

David Ruggles is an auto consultant and former dealership general manager. He can be reached at [email protected].