With CFPB in ‘retreat,’ California eyes state consumer finance agency

The state has begun reorganizing the agency that regulates its financial institutions and this week passed a bill that may grant the agency powers to protect state consumers similar to those wielded by the CFPB.

“Providers of financial products and services to California consumers should buckle their seatbelts. … The CCFPL will expand the DFPI’s jurisdiction to debt collectors and other previously unlicensed entities. The dual focus on consumer protection and innovation will draw the agency’s focus to fintechs.”

Nancy Thomas, Partner, Morrison & Foerster

California’s financial regulatory agency, the Department of Business Oversight (DBO), will be renamed the Department of Financial Protection and Innovation (DFPI) and may soon receive new enforcement responsibilities under the California Consumer Financial Protection Law (CCFPL), which passed the state legislature Monday.

The CCFPL bill (AB 1864) now awaits the signature of Newsom, who advocated for the new law and included additional funding for it in his 2020-21 state budget. The CCFPL would take effect Jan. 1, 2021.

“Providers of financial products and services to California consumers should buckle their seatbelts,” said Nancy Thomas, a Los Angeles-based partner with the firm Morrison & Foerster. “The DFPI will have increased funding to expand supervision and enforcement for California state-chartered banks and existing licensees. The CCFPL will expand the DFPI’s jurisdiction to debt collectors and other previously unlicensed entities. The dual focus on consumer protection and innovation will draw the agency’s focus to FinTechs.”

The CCFPL will create a new Division of Consumer Financial Protection in the DFPI that will “expand oversight over current and emerging abusive acts and practices that cause consumers financial harm,” Newsom explained in his state budget proposal for the CCFPL.

The CCFPL “seeks to cement California’s consumer protection leadership amidst a growing financial crisis and the consumer‑protection retreat by federal agencies, including the Consumer Financial Protection Bureau,” Newsom wrote in another part of the budget proposal. “The fragmented oversight of financial services has left consumers vulnerable to abuse.”

The CFPB, established in 2010 as part of the Dodd-Frank Act, recently survived a Supreme Court case that dealt with a lawsuit claiming the agency’s single-director structure is unconstitutional. In its ruling, the Supreme Court agreed with that notion—as did the CFPB, in an interesting twist—but stopped short of dismantling the agency. Even still, President Donald Trump in his proposed budget for fiscal year 2021 released in February (prior to the coronavirus pandemic) showed his feelings toward the CFPB by calling for massive funding cuts to the agency.

Another area where California politicians view the federal government as falling down on the job is with predatory lenders. Attorney General Xavier Becerra recently filed a lawsuit challenging a Federal Deposit Insurance Corporation (FDIC) rule “that creates a loophole allowing predatory lenders to evade state laws that forbid excessive interest-rate charges.”

“The final rule virtually invites predatory lenders to ‘rent a bank’—use a federally insured bank—to do its dirty work of issuing loans with interest rates that exceed state law which the bank then transfers to the predatory lender,” Becerra wrote.

New York Gov. Andrew Cuomo similarly set his sights on regulating debt collectors earlier this year but dropped the proposal to focus on handling the coronavirus pandemic. New York was one of six states (and Washington, D.C.) that joined California in the lawsuit challenging the FDIC rule.

More investigators, more enforcement

As amended by the state legislature, the CCFPL exempts from enforcement most financial institutions currently regulated by the state, including banks, credit unions, finance lenders, mortgage brokers, broker-dealers, investment advisors, capital access companies, and more. Newsom’s original proposal had many fewer such exemptions.

The CCFPL would focus increased regulatory attention on two sectors of the state’s financial services industry—payday lenders and student loan services—that are currently regulated. And the new law would impose regulation on currently unregulated segments of the financial services industry, like debt collectors, cryptocurrency offerings, and credit reporting agencies.

The DBO will reconstitute itself in phases over three years, starting by using $10 million in additional state funds to hire more investigators and staff as it ramps up. The new agency likely won’t start requiring unregulated entities to register until Year 3 of the revamp, in 2022.

But regulated entities in California might start noticing a difference earlier than that, Thomas said.

Thomas says the DBO has a history of “regulating by enforcement,” instead of using rulemaking to help businesses interpret the state’s financial regulations.

“They’ve had a ‘gotcha mentality,’” Thomas said of the DBO. “It remains to be seen if we continue to see regulation by enforcement, instead of providing rulemaking and guiderails to communicate the agency’s view of the law.”