Multistate Settlement Implicates Ability to Pay Considerations in Auto Finance
Recently, the attorneys general (AGs) for 34 states, including Maryland, announced a settlement with a large subprime auto finance company. The settlement concludes a multiyear investigation into the finance company’s indirect auto lending practices.
The AGs alleged that the finance company knowingly exposed deeply subprime borrowers to risky auto loans, which featured high loan-to-value ratios, expensive backend ancillary products (such as vehicle service contracts and GAP waivers), and high payment-to-income ratios.
The AGs also alleged that the finance company ignored dealer misconduct, such as doctoring income and expense information, and inflating collateral values. The AGs also emphasized that many consumers lacked any “residual income (remaining income after factoring in debt service and housing and insurance expenses).”
The AGs and the finance company ultimately reached a settlement. The company will pay $65 million in restitution to certain consumers and $7 million to the participating states for administrative costs. Also, for certain consumers in default, the company must waive their deficiency balances, totaling $45 million, and allow them to retain their vehicles. For other customers, the company must waive approximately $433 million in deficiency balances and buy back loans that it sold to facilitate the deficiency waivers.
The settlement also imposes injunctive relief. The company cannot extend financing if a consumer has zero or negative residual income and cannot require dealers to sell ancillary products. Notably, for a four-year period, the company must also conduct quarterly reviews of its loan defaults to determine if the defaulting consumer lacked positive residual income at origination. The company must waive the deficiency balances for those consumers that lacked positive residual income at origination. In addition, when calculating residual income and relying on default data, the company must use expense figures that reasonably reflect the customer’s geographic area.
The settlement further requires the company to implement measures to better monitor dealers that engage in misconduct and require additional documentation from those dealers.
Practice Point: This settlement is yet another sign of regulators’ growing focus on the auto finance industry. Lenders should review their underwriting policies and ensure they have appropriate controls over their dealer partners. Lenders can expect to receive additional scrutiny as to their consumers who lack positive residual income and should review their portfolios accordingly.
Please contact Bryan M. Mull with any questions concerning this topic.