Fair Notice and the CFPB: The Other Constitutional Ruling in PHH v. CFPB, by Joseph Palmore & Bryan Leitch
This month’s en banc D.C. Circuit decision in PHH Corp. v. CFPB has understandably received widespread attention for upholding the constitutionality of the CFPB’s structure in the face of a separation-of-powers challenge. But somewhat hidden within the hundreds of pages of separate opinions in PHH was another constitutional ruling—one on which the CFPB lost and which may turn out to be of greater long-term significance. The en banc court unanimously held that the agency had violated due process in imposing a $109 million penalty on PHH without fair notice that its conduct violated the law. In this post, we trace how this question came before the D.C. Circuit and explain what its long-term significance could be.
Statute, Regulation, and Guidance. Section 8(a) of the Real Estate Settlement Procedures Act of 1974 (RESPA) prohibits the giving or receiving of “any fee, kickback, or thing of value” in exchange for the referral of real-estate settlement services. 12 U.S.C. § 2607(a). Section 8(c) of RESPA carves out a safe harbor to that prohibition, however, providing in relevant part that Section 8(a)’s bar on referral fees does not prohibit “bona fide” payments “for services actually performed.” Id. § 2607(c)(2).
From the beginning, the government (then acting through the Department of Housing and Urban Development) construed those provisions to allow referral fees that bore “a reasonable relationship” to the market value of the services rendered. 41 Fed. Reg. 13032, 13036-38 (Mar. 29, 1976). HUD promulgated a rule to the same effect, known as “Regulation X,” 12 C.F.R. § 1024.14, and DOJ further reinforced that market-value understanding in the courts. Brief for U.S. as Amicus Curiae, 2002 WL 32351432, at *8 Boulware v. Crossland Mortg. Corp., 291 F.3d 261 (4th Cir. 2002) (No. 01-2318) (“Subsection (c) reinforces the requirement of a correlation between the cost of a settlement service and the work that is actually performed.”).
As particularly relevant to PHH, the government endorsed this interpretation of the statute as applied to affiliated-reinsurance agreements. In 1997, the government issued guidance stating that RESPA permitted affiliated-reinsurance agreements when payments to the reinsurer (1) were “for reinsurance services ‘actually furnished or for services performed’” (i.e., “a real transfer of risk”); and (2) were “bona fide compensation . . . not exceed[ing] the value of such services.” Letter from Nicolas P. Retsinas, Ass’t Sec’y for Hous.-Fed. Hous. Comm’r, HUD, to Sandor Samuels, Gen. Counsel, Countrywide Funding Corp. at 3, 6-7 (Aug. 6, 1997).
After Congress assigned HUD’s RESPA enforcement responsibilities to the CFPB, the Bureau adopted all of HUD’s regulations and policy statements in full. 76 Fed. Reg. 43569, 43570, 43571 (July 21, 2011).
PHH Enforcement Proceeding. In 2014, the CFPB launched an enforcement proceeding that would dramatically upend the long-settled understanding of RESPA. The CFPB alleged that PHH Corporation (a mortgage lender) and Atrium Insurance Corporation (a reinsurer and subsidiary of PHH) had violated RESPA through affiliated-reinsurance agreements with various mortgage insurers. Applying the government’s settled understanding of RESPA, an ALJ initially found that PHH’s arrangements violated the statute solely on the ground that the reinsurance payments exceeded the market value of the services provided. The ALJ thus imposed a $6.4 million disgorgement penalty. In re PHH Corp., No. 2014-CFPB-0002, Dkt. 205 (Oct. 25, 2014), at 63-64, 67-70, 75-78, 93, 102.
But when the matter crossed the desk of then-CFPB Director Richard Cordray, he increased the penalty to $109 million based on PHH’s failure to comply with a dramatically new understanding of what RESPA prohibited—an understanding articulated for the first time in the decision penalizing PHH. In re PHH Corp., No. 2014-CFPB-0002, Dkt. 226 (June 4, 2015) (“Director Order”), at 1-2. In the Director’s view, RESPA Section 8(c) was not a safe harbor from liability under Section 8(a); it was instead simply a clarifying gloss on Section 8(a), confirming that RESPA categorically prohibited reinsurance arrangements “[r]egardless of whether the price that the mortgage insurers paid was inflated or was set at the fair market value of the reinsurance they received.” Director Order at 16. Contrary to the government’s decades-old position, the Director reinterpreted “bona fide” payment based on “the purpose of the payment”—meaning that a “bona fide” payment “must be solely for the service actually being provided on its own merits, but cannot be a payment tied in any way to a referral of business.” Director Order at 17. Indeed, the Director expressly rejected the government’s past guidance on this issue as “not binding,” and dismissed the industry’s longstanding reliance on that guidance as “not particularly germane.” Director Order at 17-19.
D.C. Circuit Panel Says No. On appeal, a three-judge panel of the D.C. Circuit found the CFPB’s structure to be unconstitutional—the part of its decision later rejected by the en banc Court. But in a separate part of the opinion, the panel held that the Director’s reading of RESPA was incorrect and, in any event, could not be imposed retroactively on PHH. PHH Corp. v. CFPB, 839 F.3d 1, 8-10 (D.C. Cir. 2016). Writing for the court, Judge Kavanaugh described the statutory issue as “not a close call.” He concluded that the “text of Section 8(c) permits captive reinsurance arrangements where mortgage insurers pay no more than reasonable market value for the reinsurance.” Id. at 41. In so concluding, the panel rejected the CFPB’s plea for Chevron deference, finding that the statute unambiguously permitted reinsurance agreements and that the CFPB’s contrary reading was unreasonable. Id. at 43-44.
Had the panel stopped there, PHH would stand as an important case on the meaning of RESPA, without significance to other agency proceedings. But the court went on to adopt an alternative holding. The panel concluded that, even if the agency’s new interpretation of RESPA were permissible, “the CFPB violated due process by retroactively applying that new interpretation to PHH’s conduct that occurred before the date of the CFPB’s new interpretation.” Id. at 44. As the court explained, when “PHH engaged in its captive reinsurance arrangements, everyone knew the deal: Captive reinsurance arrangements were lawful under Section 8 so long as the mortgage insurer paid no more than reasonable market value to the reinsurer for reinsurance actually furnished.” Id. at 46. The CFPB’s order thus flunked “Rule of Law 101” because “PHH did not have fair notice of the CFPB’s interpretation of Section 8 at the time PHH engaged in the conduct at issue here.” Id. at 48.
The panel concluded it was no answer for the CFPB to say that the government’s prior statements on this issue were mere guidance; indeed, the court found that “particular CFPB argument deeply unsettling in a Nation built on the Rule of Law. When a government agency officially and expressly tells you that you are legally allowed to do something, but later tells you ‘just kidding’ and enforces the law retroactively against you and sanctions you for actions you took in reliance on the government’s assurances, that amounts to a serious due process violation.” Id.
The En Banc Court Also Says No. The CFPB successfully petitioned for rehearing en banc—putting before the entire D.C. Circuit not only the panel’s marquee separation-of-powers holding but also its dispositions on RESPA and due process.
As noted above, the en banc court rejected the panel’s separation-of-powers conclusion. But the en banc court reinstated the panel’s statutory and due-process holdings. PHH Corp. v. CFPB, — F.3d —, No. 15-1177, 2018 WL 627055, at *6, 25 (D.C. Cir. Jan. 31, 2018) (en banc). The majority opinion authored by Judge Pillard did more than that—it cited the panel’s reinstated due-process holding as support for the en banc court’s rejection of the panel’s separation-of-powers holding. According to the en banc court, invalidation of the CFPB’s structure was unnecessary to protect “liberty” because other safeguards, including judicial review, already did so. According to the en banc majority, the panel’s due-process holding illustrated “how courts appropriately guard the liberty of regulated parties when agencies overstep.” Id. at *25.
Although PHH generated six separate concurring and dissenting opinions, not a single judge voiced disagreement with the panel’s due process holding. To the contrary, many of the separate opinions expressly joined the majority’s decision to reinstate that part of the panel opinion. See id. at 39 n.1 (Griffith, J., concurring in the judgment). Judge Tatel, for example, though disagreeing with the panel on the proper interpretation of RESPA, had no trouble agreeing with the panel “that the Bureau ran afoul of the due process clause by failing to give PHH adequate notice in advance of imposing penalties for past conduct.” Id. at *30 (Tatel, J., concurring). Likewise, Judge Kavanaugh’s dissenting opinion reiterated his view that the case exemplified “arbitrary decisionmaking” given that the agency “discarded the Government’s longstanding interpretation of the relevant statute, adopted a new interpretation of that statute, applied that new interpretation retroactively, and then imposed massive sanctions on PHH for violation of the statute—even though PHH’s relevant acts occurred before the Director changed his interpretation of the statute.” Id. at 88 n.13 (Kavanaugh, J., dissenting).
Significance. The en banc court’s reinstatement of the due-process ruling is significant in several ways. To be sure, the panel’s now-reinstated ruling did not break new ground doctrinally. The Supreme Court has in recent years articulated and enforced due-process limits on agencies’ ability to punish without fair notice. FCC v. Fox Television Stations, Inc., 567 U.S. 239 (2012); Christopher v. SmithKline Beecham Corp., 567 U.S. 142 (2012). But the D.C. Circuit’s quotable encapsulation of these core fair-notice principles is likely to be cited by regulated entities in many future cases.
First, the now-reinstated panel decision found a due process violation even assuming the CFPB’s disgorgement order had rested on a permissible reading of RESPA. PHH, 839 F.3d at 44-50. In so holding, the panel decision reaffirms the sensible notion that, even where an agency’s new position might otherwise be entitled to Chevron or Auer deference, due process nevertheless precludes the agency from enforcing that position retroactively. See id. This principle constrains agencies’ ability to change the law in adjudicatory proceedings and instead counsels in favor of issuing new rules with only prospective effect.
Second, the panel decision also made clear that, even if the government’s prior position on RESPA were reflected only in nonbinding policy guidance, private reliance on such materials still warranted due process protection. Id. at 48-49. In the panel’s view, the fact that the government’s past guidance “was provided by top HUD officials and was given repeatedly” was “surely sufficient” “to justify citizens’ reliance for purposes of the Due Process Clause.” Id. at 48. Emphasizing that fair notice does not turn on legal formalisms, the panel decision endorsed a broad, anti-“gamesmanship” understanding of due process rooted more in common sense than in theory or doctrine. Id. at 49. As Judge Kavanaugh explained: “Imagine that a police officer tells a pedestrian that the pedestrian can lawfully cross the street at a certain place. The pedestrian carefully and precisely follows the officer’s direction. After the pedestrian arrives at the other side of the street, however, the officer hands the pedestrian a $1,000 jaywalking ticket. No one would seriously contend that the officer had acted fairly or in a manner consistent with basic due process in that situation. Yet that’s precisely this case.” Id. at 49 (citation omitted).
Finally, because agencies and regulated entities pay careful attention to D.C. Circuit decisions—both for what they expressly hold and for what they implicitly suggest about that Court’s direction—reliance on the PHH rulings will likely be widespread. In PHH, every member of the en banc court agreed that the CFPB had acted in a fundamentally unfair way in penalizing PHH for conduct it had every reason to believe was legal at the time it acted. And they did so by reinstating the portions of a panel opinion reaching that conclusion in language sharply critical of the agency’s conduct. This all suggests that the D.C. Circuit will continue to be vigilant in enforcing basic fair-notice protections at the core of the rule of law, and that parties will frequently cite PHH when asking it to do so.
Joseph Palmore (@palmore_joe) is the co-chair of the Appellate and Supreme Court Practice group at Morrison & Foerster LLP, and Bryan Leitch is an associate in the group. They filed amici briefs in PHH for financial trade associations supporting reversal of the CFPB’s penalty on statutory and fair-notice grounds.
 The PHH panel opinion described a captive-reinsurance arrangement as one in which “a mortgage lender (such as PHH) refers borrowers to a mortgage insurer. In return, the mortgage insurer buys reinsurance from a mortgage reinsurer affiliated with (or owned by) the referring mortgage lender.” PHH Corp. v. CFPB, 839 F.3d 1, 9 (D.C. Cir. 2016).