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Banks already looking over one shoulder to maintain compliance with regulatory reforms coming at them from the Dodd-Frank Wall Street Reform and Consumer Protection Act may soon need to start looking over the other. Class action lawsuits by customers are likely coming, despite contracts to the contrary.

Many banks and other financial service providers include arbitration clauses in their consumer contracts; because arbitration is generally much less expensive (and quicker) than litigating in court, the cost of resolution is more in line with the minimal amounts often at issue. Class-action claims, however, can disrupt this balance—the cost to defend the most frivolous complaint is overshadowed by the potential exposure where these otherwise “minimal amounts” are aggregated.

In an effort to maintain the balance, lenders frequently require customers to waive any right to participate in a class-action lawsuit. In passing Dodd-Frank, Congress directed the Consumer Financial Protection Bureau (CFPB) to conduct a comprehensive study on the impact of mandatory arbitration clauses and class-action waivers in consumer financial products (including checking accounts, debit cards, auto loans, and payday loans). And going one step further, Congress authorized the CFPB to “prohibit or impose conditions or limitations on the use of” arbitration clauses if it finds that such actions are “in the public interest and for the protection of consumers” and are “consistent with the study.”

What did the CFPB find in its study? After spending over two years to review hundreds of consumer finance agreements and thousands of arbitration disputes, individual consumer lawsuits and class actions, the CFPB issued a 728-page report. Among the conclusions of the report:

  • Consumers rarely pursue claims—either in arbitration or court—for small disputes ($1,000 or less). In contrast, millions of consumers were eligible for monetary relief through class action settlements where such relief was permitted by the relevant contracts.
  • Lenders frequently waive the right to compel arbitration of individual lawsuits, but routinely invoke the arbitration clause to block class actions.
  • There was no statistically significant evidence of lower borrowing costs or increased access to credit for consumers by requiring arbitration and prohibiting class action lawsuits.
  • The vast majority of consumers do not know whether they agreed to arbitration, do not understand that they cannot file a lawsuit, and do not consider arbitration or dispute resolution when selecting financial service providers.

What can banks expect? Based on the CFPB’s report, banks should expect significant regulation—if not elimination—on their use of mandatory arbitration clauses and class action waivers. The CFPB clearly believes that these practices lead to an uneven playing field for consumers, and that the justifications are not supported by the evidence they gathered. Formal rulemaking is undoubtedly soon to commence.

What can banks do to prepare?

  • Be heard. In submitting public comment, trade groups and industry stakeholders will need to provide hard data evidencing a commitment to consumers.
  • Increase customer satisfaction efforts. Banks can expect fewer customer disputes—whether in arbitration, individual lawsuits, or class actions—if there are fewer unhappy customers. Increase employee training and internal resolution processes.
  • Monitor customer disputes. Although it is impossible to foresee and prevent every lawsuit, frequent and repetitious disputes of the same type can signal a larger problem that may require priority.
  • Stay informed. Many class-action lawsuits follow on the heels of smaller consumer victories that are under the radar. Work with counsel to stay abreast of developments, including whether your practices or contract terms should be modified to reduce exposure.
  • Do not overreact. Any regulation by the CFPB may be prospective as to future contracts and may provide for at least some field of operation for arbitration, depending on the rules of the arbitration forum (e.g., is the forum “consumer friendly”) and the contract formation (is the arbitration clause sufficiently prominent, and can the consumer “opt out”). If/when such regulations are finalized, banks should make a fully-informed decision on how to move forward.

Greg Cook and Conrad Anderson, partners in Balch & Bingham’s Birmingham office, represent banks and other institutions in financial services litigation. Mr. Cook is a former Co-Chair of the ABA Class Action & Derivative Suits Committee and has defended over 60 class actions. Both he and Mr. Anderson regularly handle matters involving lender liability, mortgage servicing, bank fraud, the Fair Credit Reporting Act, the Fair Debt Collection Practices Act, and RESPA, among others.