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Court rules CFPB structure unconstitutional

In a rebuke of the Consumer Financial Protection Bureau (CFPB), a federal appeals court tossed a $109 million fine against the mortgage lender PHH Corp. and also declared the bureau’s leadership structure unconstitutional, but declined to dismantle the agency.

A three-judge panel of the U.S. Court of Appeals for the District of Columbia Circuit ruled Tuesday that the CFPB's structure under a single director, who can only be removed for cause by the president, concentrated too much power in the hands of one individual and was unconstitutional.

CFPB rulingThe court’s solution was to place the director under the direct supervision of the president, who can now remove the director at will. The court left other aspects of the Dodd-Frank Wall Street Reform and Consumer Protection Act that created the CFPB untouched, rejecting PHH’s arguments that the agency itself was unconstitutional.

The opinion was issued by a panel of three judges, all Republican presidential appointees to the D.C. Circuit. The judges were not unanimous on the constitutional questions, however. Brett M. Kavanaugh wrote the majority opinion, and A. Raymond Randolph concurred, whereas Karen L. Henderson wrote in her partial dissent that the court should not have taken up the constitutional questions.

The panel also made important decisions that could limit the CFPB’s power to prosecute mortgage lenders over side arrangements with captive companies, known as marketing service agreements. The CFPB has pursued several companies over alleged violations of the anti-kickback provisions of the Real Estate Settlement Procedures Act (RESPA).

In this particular case, PHH referred its borrowers to insurance companies, which is standard practice for the industry. The mortgage insurers, however, had agreements with PHH to purchase so-called "reinsurance" from companies owned by PHH, which took on a portion of the loan-default risk for a fee.

PHH collected hundred of millions of dollars through these agreements, according to the CFPB’s complaint. CFPB maintained that these arrangements were illegal, even though they were a standard industry practice that had been tolerated by the U.S. Department of Housing and Urban Development (HUD), which oversaw RESPA before the CFPB took on that role.  

The D.C. Circuit’s three judges were unanimous in determining that the CFPB violated PHH’s due process by reinterpreting RESPA. The court determined that reinsurance agreements with captive companies were allowed by the statute, so long as insurers didn’t pay more than the reasonable value for them. The judges also made an important ruling that the CFPB had to comply with a three-year statute of limitations on prosecuting violations. CFPB maintained that it wasn’t subject to the limitation in this case.  

“The court made it very clear that the CFPB’s interpretive posture was clearly erroneous,” said Joseph Lynyak, a partner with the Washington, D.C.-based Dorsey & Whitney. “So, I think that is probably the most significant victory for the industry coming out of this.”

Lynyak also noted that CFPB won a key point in that the court acknowledged that the bureau was constitutional and could continue to serve as a watchdog agency.

“My view is that even though this was a very critical decision against the CFPB, the result is still very favorable in terms of their authority,” Lynyak said.

Legal analysts said that while the decision was significant, the ruling also could be appealed “en banc” for review before the full panel of the D.C. Circuit, or to the U.S. Supreme Court.

“Either the CFPB will petition for a rehearing en banc or the court itself may request it,” said Craig Nazzaro, an attorney with the Atlanta-based Baker Donelson. “If it doesn’t go en banc, it will definitely be appealed to the Supreme Court. The CFPB has to contest.”

Nazzaro said the constitutional questions concerning the CFPB’s structure have a better chance of getting overturned, but the court has dealt a significant blow to the CFPB's power.

“The due-process arguments that PHH won here are extremely significant,” Nazzaro said. “In this, the courts state that the CFPB, through interpreting decades of HUD guidelines and reinterpreting RESPA, they violated the due process of PHH, so it should reign in the CFPB’s actions where they push the boundaries.” 


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