Examining the Defense Department's Revised Military Lending Act | Auto Finance News | Auto Finance News

Examining the Defense Department’s Revised Military Lending Act

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If you are in the auto finance business, you cannot possibly have missed the drama percolating around the Department of Defense’s (DoD’s) new interpretation of its own regulation’s purchase-money vehicle finance exclusion, which says transactions with GAP, credit insurance, or other credit-related ancillary products are not within said exclusion. Rather, those products are “consumer credit” transactions subject to the Military Lending Act (MLA). We’ll call this the “GAP problem,” and I’ll explain it in a minute.

The MLA and the DoD regulation provide that if financing for a MLA-covered servicemember is for the express purpose of purchasing a vehicle, the loan isn’t subject to the MLA. We’ll call this the “exclusion.” Until the recent GAP problem, the industry read these provisions as preserving standard new- and used-car financing. The GAP problem arises from the DoD’s recent interpretation of these provisions in a way that knocks purchase-money auto finance transactions out of the exclusion if GAP, credit insurance, or other credit-related ancillary products (credit protection products) are included. And not just going forward, but all the way back to October 2016. Before the DoD published its new interpretation in December 2017, we all thought it was business as usual for auto finance. Now, the DoD has — I think, unwittingly — caused a crisis of epic proportions in the industry.

Let’s get up to speed. Under the MLA, “consumer credit” is a defined term that, until the DoD added it in as of October 2016, didn’t include auto finance. Thus, the need for the contemporaneous exclusion. The DoD published some interpretive Q&A about non-motor vehicle personal property financing that muddied the waters about the extent of the exclusion, and the industry asked for clarification. Under the heading of, “be careful what you wish (ask) for,” we got the clarification that is the GAP problem.

What’s the practical effect of the GAP problem? It means dealers probably shouldn’t sell credit protection products to MLA-covered borrowers (generally, active-duty military and their spouses/dependents) since including them in transactions involving these folks make the transactions “consumer credit” transactions subject to the MLA.

Why is that bad? For many reasons, including the MLA’s constraints on APR, restrictions on contractual terms, and additional disclosure requirements where “consumer credit” is concerned. Among other things, you can’t provide financing to an MLA-covered borrower at a “military” APR (MAPR) greater than 36% (and you must include credit-related ancillary products in the MAPR calculation). You also can’t enforce a pre-dispute mandatory arbitration agreement, and you must provide some disclosures explaining the MLA-covered borrower’s rights. In addition, you cannot use “the title of a vehicle as security for the obligation” you originate unless you are a bank, savings association, or credit union. I don’t know many dealers (the ones that originate the credit) that are themselves banks, savings associations, or credit unions.

The prohibition on taking “the title of a vehicle as security for the obligation” suddenly applies to installment sale contracts that finance credit protection products in a retroactive manner. This narrows the applicability of the exclusion in a way Congress probably never intended (i.e., the interpretation creating the GAP problem is inconsistent with the language of the MLA and the DoD regulation itself) and the industry never expected.

The practical effect is a quash on selling credit protection products to MLA-covered borrowers, yet concerns about being able to adequately identify them are causing some dealers to stop selling credit protection products to any military personnel or dependents. Those concerns are also causing others to go so far as to stop selling credit protection products entirely. Some assignees are refusing to buy paper containing credit protection products for MLA-covered borrowers. Every bank and finance company in the auto finance business is losing sleep over MLA-covered transactions that may be in their portfolios or securitization pools that they can’t identify.

Michael Benoit

How did this happen? Those of you who are regular readers know that sometimes my friend the cynic shows up to offer alternative and sometimes depressing viewpoints on current events. The other day he mused whether the DoD was used by other agencies to accomplish a long-time consumer advocate goal that they have no jurisdiction or authority to implement. My cynic thinks the DoD will readily admit that it is not skilled at writing financial regulations so the agency had to have reached out to other agencies to help get the job done. Conveniently, the MLA requires the DoD to “consult” with a number of financial regulators — e.g., the Consumer Financial Protection Bureau and Department of Treasury — in creating any rules or interpretations relating to the MLA. So, financial regulators are built in to the process.

My cynic also thinks that the CFPB has spent entirely too much time in bed with consumer advocates in the past five or six years, many of whom have been trying to outlaw credit protection products (such as GAP, credit insurance). Fortunately — or unfortunately, depending on your point of view — the CFPB can’t touch credit insurance. It may have more flexibility to restrict GAP (to the extent it is a waiver product as opposed to an insurance product), but it would first have to find that it harms consumers. There is far too much evidence of the benefits GAP provides — just ask folks who lost their vehicles in recent hurricanes.

So, my cynic says, if your agency has too many constraints on it to outlaw credit protection products, why not take the opportunity to craft an interpretation of another agency’s rule that makes them ridiculously dangerous to sell, and make it that agency’s problem? Clever, right? I hope my cynic is wrong. If he’s right, it means that some agency or agencies disrespected our military by using it to achieve a political goal that they couldn’t, and further disrespected the military by putting auto dealers and their assignees in a position where they have to block their access to products that every other resident of the country (i.e., those they protect) can access.

Michael Benoit is a partner in the Washington, D.C., office of Hudson Cook LLP. He is a frequent speaker and writer on a variety of consumer credit topics. Michael can be reached at 202-327-9705 or mbenoit@hudco.com. Nothing in this article is legal advice and should not be taken as such. Please address all legal questions to your counsel.

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4 thoughts on “Examining the Defense Department’s Revised Military Lending Act

  1. Saturn’s failings echo some of the poor decisions of its corporate parent during the last two decades. Poor product development, ignoring the customer, and then coming in at the last minute with good things only to find the buyers aren’t listening anymore.

    Saturn’s inception came during the early 1980’s (development on the project began in 1982, the Corporation was founded in 1985), but the brand didn’t actually sell a car until 1990 – when the original S-series debuted. It was a unique model and shared nothing with other GM cars. Development of the first Saturns took a long time, and GM wanted to get it right – and to a large extent, they did. The original Saturn offered an Accord-sized car at or less than a Civic price, and quality was very high. Dynamics were also better than the front-drive GM10 cars which debuted in 1988 which were mechanical and stylistically similar but unrelated.

    The no-haggle pricing, the friendly dealers, the quality cars that were up-to-date, and the brand new way of doing things worked with buyers. But then, in the early 90’s, things began to go awry.

    Saturn was supposed to match Honda – but Honda updates its models every four years. After five years, the original Saturn models were looking a little old. They were totally restyled in 1996, but almost nothing changed underneath. Even when these revised cars were “new” they were already behind the times. Aggressive development of newer, even better, even higher quality models had to happen in the early 90’s for Saturn to start making money, and this didn’t happen. The “fresh” approach was eschewed in favor of less costly methods tried out on other models like the Chevrolet Cavalier.

    The Cavalier, restyled and slightly re-engineered a year before the Saturns in 1995, retained big chunks of its Circa-1981 design right up until it was discontinued in 2005. This kind of thing is where GM’s reputation for bad cars developed. The Cavalier wasn’t a bad car in 1981, but it wasn’t a great one either, and by 1990, it should’ve been replaced with a ground-up design. Instead it soldiered on.

    The original Saturn design lasted twelve long years on the market – by which time the Honda Accord and Civic had gone through three redesigns each. Twelve years is an eternity in the automotive marketplace. Think about what you were driving twelve years ago and if it matches up well against what you’re driving right now (I’ll refrain, since 12 years ago I drove an aircraft-carrier sized ’76 Pontiac).

    This was the basic flaw in what GM did with Saturn – it came up with a good idea and then let it wither on the vine until it was rotten. Then the corporation swooped in and diversified the line. The first car they did this with was the LS – a reworked MkII Opel Vectra that suffered from quality problems and high depreciation rates. This further diluted the brand’s image. In the last five years, emergency measures were taken and a rather good lineup of cars was created (with some teething problems, such as the Ion and the Relay minivan). But by now, the damage is done. The Saturn “beetlemania” era is almost fifteen years in the history books. It’s hard to get that back once you’ve let the fire go out.

    In hindsight, it might’ve been better to reintroduce the Opel brand to Americans (who until the arrival of the Saturn Astra had not been able to buy a genuine German Opel since 1975). You can bet that much of Opel’s lineup will eventually find its way into American showrooms now that the ground has shifted so sharply towards European-style smaller cars and Ford is gearing up for introductions of European models to the United States this year.

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