Bloomberg Law
Oct. 25, 2022, 5:45 PM

Fifth Circuit Ruling Chills Consumer Financial Protections

Ken Bergman
Ken Bergman
Cadwalader, Wickersham & Taft
Keith Gerver
Keith Gerver
Cadwalader, Wickersham & Taft
Rachel Rodman
Rachel Rodman
Cadwalader, Wickersham & Taft

In Community Financial Services Association of America v. CFPB, a three-judge panel for the US Court of Appeals for the Fifth Circuit became the first federal court to find that the Consumer Financial Protection Bureau’s funding structure is unconstitutional.

This ruling threatens to undo many, if not all, of the bureau’s past actions, and may make it impossible to perform its responsibilities under the Consumer Financial Protection Act. It also raises the possibility of future litigation against similarly funded agencies.

The CFPB is an independent bureau in the Federal Reserve System. One way Congress sought to promote the CFPB’s independence was funding it outside the appropriations process, as it did with other independent agencies such as the FDIC and Office of the Comptroller.

The case, brought by two trade associations, challenged the CFPB’s Payday Lending Rule. The plaintiffs contended that the bureau’s funding structure violated the US Constitution’s Appropriations Clause, and that this violation tainted the rule.

In a strongly worded opinion, the Fifth Circuit held that the CFPB’s funding structure “is the epitome of the unification of the purse and the sword in the executive—an abomination the Framers warned would destroy that division of powers on which political liberty is founded.”

Funding Structure

Article I’s Appropriations Clause states, in part, that “no money shall be drawn from the Treasury, but in consequence of appropriations made by law.” As the US Supreme Court explained in Office of Personnel Management v. Richmond, the Appropriations Clause provides a “straightforward and explicit command” that “no money can be paid out of the Treasury unless it has been appropriated by an act of Congress.”

The act requires the Federal Reserve Board of Governors to transfer up to 12% of the Federal Reserve’s “total operating expenses” to the CFPB at its director’s request and explicitly states that these funds are not “appropriated monies.”

The Federal Reserve is funded through bank assessments and interest on securities it owns, not congressional appropriations. The bureau’s operating expenses are held in an exclusive CFPB fund at a Federal Reserve bank, and unused funds can be rolled over from year to year.

Fifth Circuit Ruling

The Fifth Circuit ruled that the CFPB’s funding structure violated the Appropriations Clause, saying it grants Congress exclusive control over the “federal purse” and requires Congress to formally appropriate funds “prior to expenditure.”

According to the Fifth Circuit, the Founders believed that appropriations are necessary “to maintain the boundaries between the branches and preserve individual liberty from the encroachments of executive power.”

The court determined that the funding mechanism violated the separation of powers doctrine because it does not require periodic approval from Congress, and permits the CFPB to obtain funds directly from the Federal Reserve, which is funded by outside appropriations.

The Fifth Circuit held that CFPB funding requires congressional appropriation even though the Appropriations Clause applies to draws from the Treasury, and the CFPB—like other financial regulators—is funded outside of the Treasury.

The judges sought to distinguish the bureau from these agencies by highlighting how its “double-insulation” makes it “unique,” and that none of those other regulators “wields enforcement or regulatory authority remotely comparable to the authority the [CFPB] may exercise throughout the economy.”

But the Fifth Circuit does not explain why double-insulation violates the Appropriations Clause and single-insulation does not. And, its assertion that the CFPB wields more power than other financial regulators is debatable. The logic of the decision could invite challenges to the funding mechanisms for these other federal agencies.

Applying the Supreme Court’s 2021 decision in Collins v. Yellen, the Fifth Circuit found that the plaintiffs suffered compensable harm because a “linear nexus” existed between the CFPB’s funding and the rule. As such, the court held that the Payday Lending Rule could not go into effect.

Implications and Next Steps

The logic of the Fifth Circuit’s ruling threatens all the CFPB’s actions since its inception. If the Fifth Circuit’s “linear nexus” analysis is affirmed and adopted nationwide, it is difficult to see how any of the agency’s actions would survive.

The CFPB almost certainly will appeal the panel’s ruling, either to the entire 17-member Fifth Circuit or directly to the Supreme Court. In the meantime, the bureau will continue to exercise its regulatory and enforcement powers—as it did when its director’s removal protections were challenged in the 2020 Supreme Court case Seila Law LLC v. CFPB.

Thus, regulated entities are faced with a decision: how should they orient themselves to the CFPB in this changed legal landscape?

This depends on many factors unique to each entity. For example, in the Fifth Circuit, expect the agency’s enforcement actions to be challenged or delayed until the panel’s decision is affirmed or reversed.

Regulated entities litigating with the CFPB in other circuits are already urging courts to adopt the Fifth Circuit’s ruling. The success of their efforts will determine, in the short term, whether the ruling grinds the agency’s work to a halt.

Finally, regulated entities not currently involved in a public enforcement action will have to decide whether to continue to recognize the CFPB’s regulatory authority, or affirmatively refuse compliance based on the Fifth Circuit’s decision.

It’s likely that many regulated entities will continue to work with the bureau while the CFPB’s appeal of the Fifth Circuit’s decision plays out.

This is, however, a fluid situation, and attitudes could change depending on how other courts address this issue. Regardless, the CFPB’s future is subject to considerable uncertainty.

This article does not necessarily reflect the opinion of The Bureau of National Affairs, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.

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Author Information

Ken Bergman is an associate in Cadwalader’s Global Litigation Group.

Keith M. Gerver, a former Department of Defense intelligence analyst, is an associate in Cadwalader’s White Collar Defense and Investigations Group and is based in the firm’s Washington, D.C., office.

Rachel Rodman is a partner in Cadwalader’s White Collar Defense and Investigations Group and is based in the firm’s Washington, D.C., office. She is a former senior counsel and enforcement attorney for the CFPB.