AB 1821 Exposes CUs to Consumer’s Attorney Fees

081919duanetyler
Duane Tyler, head of litigation at Moore Brewer Wolfe Jones Tyler & North.  

Earlier this year in this column we discussed the case Lafferty v. Wells Fargo in which the California Court of Appeal ruled that the liability of a “holder” (e.g. a credit union) of a Retail Installment Sale Contract under the FTC Holder Rule in an indirect lending scenario is limited to the return of payments received from the consumer, plus interest and court costs, but the holder is NOT liable for the consumer’s attorney fees.   We explained the significance and importance of this ruling because often the consumer’s attorney’s fees exceed the amount of the payments received from the consumer and those attorney fees double or triple the potential liability of the holder.  Unfortunately, the protection afforded holders under Lafferty is now in question as the California Legislature passed California Assembly Bill 1821, signed into law on July 12, 2019, effective January 1, 2020, which states that holders are liable for a consumer’s attorney fees to the same extent as the seller.

AB 1821 provides as follows:

SECTION 1. Section 1459.5 is added to the Civil Code, to read:

1459.5. A plaintiff who prevails on a cause of action against a defendant named pursuant to Title 16, Part 433 of the Code of Federal Regulations or any successor thereto, or pursuant to the contractual language required by that part or any successor thereto, may claim attorney’s fees, costs, and expenses from that defendant to the fullest extent permissible if the plaintiff had prevailed on that cause of action against the seller.

The Committee notes in the preamble to AB 1821 describe it as follows:

This bill would provide that a plaintiff who prevails on a cause of action against a defendant named pursuant to specified federal regulations relating to the preservation of consumers’ contract claims and defenses, or pursuant to the contractual language required by those regulations, may claim attorney’s fees, costs, and expenses from that defendant to the fullest extent permissible if the plaintiff had prevailed on that cause of action against the seller.

While unfortunate, AB 1821 comes as no surprise.  One of the primary purposes of the FTC Holder Rule was to shift the burden and expense of litigation against a seller from the consumer to the holder, which is especially important if the seller is no longer in business or is unable to pay a judgment.  The origins and purpose of the FTC Holder Rule was explained by the Lafferty court as follows:

The FTC promulgated the Holder Rule in 1975 as a consumer protection measure to abrogate the holder in due course rule for consumer installment sale contracts that are funded by a commercial lender.  Under the holder in due course principal, the creditor could assert his right to be paid by the consumer despite misrepresentation, breach of warranty or contract, or even fraud on the part of the seller, and despite the fact that the consumer's debt was generated by the sale.  Before the FTC rule, if a seller sold goods on credit and transferred the credit contract to a lender, the lender could enforce the buyer’s promise to pay even if the seller failed to perform its obligations under the sales contract.  Similarly, despite a seller's breach, the buyer was obligated to pay the lender under a consumer loan contract that directly financed the purchase of goods or services from the seller.

In other words, before the Holder Rule was adopted the reciprocal duties of the buyer and seller which were mutually dependent under ordinary contract law became independent of one another. Thus, the buyer's duty to pay the creditor was not excused upon the seller's failure to perform. In abrogating the holder in due course rule in consumer credit transactions, the FTC preserved the consumer's claims and defenses against the creditor-assignee. The FTC rule was therefore designed to reallocate the cost of seller misconduct to the creditor.  The commission felt the creditor was in a better position to absorb the loss or recover the cost from the guilty party - the seller.  (Emphasis added; internal citations and quotation marks omitted.)

AB 1821 clearly continues the FTC’s goal of reallocating the cost of seller misconduct from the consumer to the creditor.  While the holder rule plainly states the holder of the contract is liable only for “amounts paid by the debtor”, the holder’s liability under AB 1821 now expressly includes the consumer’s attorney fees.  As litigation drags on, the consumer’s attorney fees quickly increase, often far surpassing the actual amount at issue in the case.   While the holder usually has a right of indemnity against the seller such that the holder can collect from the seller any amounts the holder is required to pay the consumer, it is not uncommon that a nonfranchise dealer goes out of business as a result of an adverse judgment or simply does not have the ability to reimburse the holder.  This risk is now far greater because the holder’s liability includes the consumer’s attorney fees under AB 1821. 

Lafferty v. Wells Fargo was significant in ruling that the holder of a contract is not liable for the consumer’s attorney fees.  AB 1821 brings the analysis full circle in reallocating the cost, including attorney fees, of seller misconduct from the consumer to the creditor/holder/credit union of the contract.

Article by Duane Tyler, Head of Litigation at Moore Brewer Wolfe Jones Tyler & North.  

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