D.C. Circuit sends ominous signal on CFPB constitutionality

April 8, 2016

Next Tuesday morning, three judges on the District of Columbia U.S. Circuit Court of Appeals will hear arguments about whether the Consumer Financial Protection Bureau – a centerpiece of the 2010 Dodd-Frank Wall Street Reform Act – is unconstitutional. And based on an order issued this week by the three Republican appointees who will hear the case, CFPB lawyer Lawrence DeMille-Wagman had better be ready to defend his agency’s legitimacy.

The CFPB’s effectiveness, as detailed in the six-month report CFPB Director Richard Cordray released to Senate overseers on Wednesday, is matched only by conservatives’ loathing for the agency. The business lobby would like nothing more than to hobble the CFPB as it pursues initiatives on restricting mandatory arbitration clauses and implementing payday lending rules.

Their chance comes in the form of an appeal by the mortgage lender PHH Corporation of a $109 million disgorgement decision Cordray handed down in June 2015. Though the administrative law judge who oversaw the CFPB’s case against PHH had recommended only $6 million in disgorgement, the CFPB director concluded that PHH engaged in illegal kickbacks under the Real Estate Settlement Procedures Act when it demanded that mortgage insurers buy reinsurance from PHH’s in-house reinsurance company.

PHH’s lawyers at Gibson Dunn & Crutcher raised all kinds of issues – ranging from the CFPB’s interpretation of RESPA to due process concerns – when they first brought the case to the D.C. Circuit, requesting a stay of CFPB’s final decision so the company wouldn’t have to put up the $109 million while it litigated its appeal.

Among Gibson Dunn’s arguments, as I’ve reported, was an assertion that the CFPB’s structure violates Article II of the Constitution because the director is not directly answerable to the president, who can only remove the director for cause, or to Congress, since the agency is funded through the Federal Reserve System. The foundation for PHH’s constitutional challenge was the U.S. Supreme Court’s 2010 ruling in Free Enterprise Fund v. Public Company Accounting Oversight Board, which held the accounting board to be unconstitutional because the president could not act directly to remove its members for good cause.

A motions panel of the D.C. Circuit agreed to stay PHH’s disgorgement, though, as is customary, the court didn’t say why. So both sides ran through the entire gamut of arguments in their merits briefing to the appeals court.

PHH played up the constitutional argument in its opening brief, devoting considerable space to its contention that “the CFPB combines vast authority for the director with unprecedented insulation.” Unlike every other federal agency, PHH said, the CFPB is headed by a single independent director who cannot easily be ousted by the president nor reined in by Congressional purse-string tightening.

In response, the CFPB tried to downplay that piece of the case. The agency insisted that the relevant Supreme Court precedent is not the 2010 Free Enterprise ruling but a 1935 case, Humphrey’s Executor v. United States, finding the law that created the Federal Trade Commission comported with the separation of powers doctrine.

“The for-cause removal provision upheld in the FTC Act is identical to the for-cause removal provision in Dodd-Frank that applies to the director,” the CFPB brief said. “Because the director’s functions are materially similar to those of FTC commissioners, identical restrictions on his removal are likewise constitutional.” The agency also pointed to two trial court decisions, one in its enforcement action against the debt-settlement firm Morgan Drexel and the other in its case against the for-profit ITT Educational Services, rejecting Article II constitutional challenges based on the director’s appointment.

However short a shrift the CFPB gave to PHH’s constitutional arguments, the judges who will hear the case on Tuesday are very interested in it. Their order this week specifically instructed the CFPB’s lawyer and PHH counsel Theodore Olson of Gibson Dunn to be prepared to address what agencies other than the CFPB are headed by just one person, whether the one-director structure “violates Article II as interpreted in Free Enterprise Fund,” and, if so, what an appropriate solution to the breach would be. (The order asked whether it might be to “sever the tenure and for-cause provisions” of the Dodd-Frank language creating the CFPB.) At least one other agency, the Office of the Comptroller of the Currency, is headed by a single director, as CFPB amicus AARP pointed out in its brief. PHH said it is much more difficult for the president to remove the director of the CFPB than the head of the Office of the Comptroller or, for that matter, the sole director of the Federal Housing Finance Agency.

If the D.C. Circuit’s order wasn’t worrisome enough for the CFPB and its supporters, the composition of the panel doesn’t bode well. All of the judges who will hear the case – Brett Kavanaugh, Karen Henderson and Raymond Randolph – were appointed by Republican presidents, and one of them has already questioned in a judicial opinion whether the CFPB’s preferred precedent, Humphrey’s Executor, remains good law after PHH’s favored case, Free Enterprise. In a concurrence in the 2011 case In re Aiken County, Judge Kavanaugh discussed the tension between the two Supreme Court cases, and though he concluded that Humphrey’s is “entrenched” precedent protected by stare decisis, he also said, “The fact that courts do and must accept the Humphrey’s Executor precedent does not require ignoring the issues of accountability, liberty, and government effectiveness raised by independent agencies.”

The D.C. Circuit Court’s ruling won’t be the last word on the CFPB’s constitutionality. ITT, also represented by Gibson Dunn, has asked the 7th Circuit to hear an interlocutory appeal of the trial court ruling on its Article II argument. And whichever way the D.C. Circuit decides the case, the loser will doubtless seek further review.

But the CFPB may be in for a rough go of it on Tuesday. I emailed the agency to ask about the D.C. Circuit’s order. The press office didn’t get back to me.

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