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FDIC Law, Regulations, Related Acts |
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(4) If the disposable earnings are less than the following figures, only the difference between the appropriate figures set forth in paragraph (c)(3) of this section and the appropriate figure of the following figures may be garnished.
For example, in January of 1978, if an individual's disposable earnings for a biweekly pay period are $205, the difference between $159 and $205 (i.e., $46) may be garnished. (5) If disposable earnings are in excess of the figures stated in paragraph (c)(4) of this section, 25% of the disposable earnings may be garnished. (d) Date wages paid or payable controlling. The date that disposable earnings are paid or payable, and not the date the Court issues the garnishment order, is controlling in determining the amount of disposable earnings that may be garnished. Thus, a garnishment order issued in November 1977, providing for withholding from wages over a period of time, based on exemptions computed at the $2.30 per hour minimum wage then in effect, would be modified by operation of the change in the law so that wages paid after January 1, 1978, would be subject to garnishment during 1978 only to the extent described in paragraphs (b) and (c) of this section on the basis of a minimum rate of $2.65 per hour. This principle is applicable at the time of each further increase in the minimum wage, i.e., January 1, of the years 1979, 1980, and 1981. [Codified to 29 C.F.R. § 870.10] [Source: Section 870.10 effective July 1, 1970; amended at 39 Fed. Reg. 15032, April 30, 1974, effective May 1, 1974; 40 Fed. Reg. 52610, November 11, 1975, effective January 1, 1976; 43 Fed. Reg. 28471, June 30, 1978; 43 Fed. Reg. 30276, July 14, 1978, effective June 30, 1978; 44 Fed. Reg. 30685, May 29, 1979] § 870.11 Exceptions to the restrictions provided by section 303(a) of the CCPA and priorities among garnishments. (a)(1) Section 303(b) of the Consumer Credit Protection Act provides that the restrictions in section 303(a) do not apply to: {{4-28-00 p.7116}} (i) Any debt due for any State or Federal tax, or (ii) Any order of any court of bankruptcy under Chapter XIII of the Bankruptcy Act. (2) Accordingly the Consumer Credit Protection Act does not restrict in any way the amount which may be withheld for State or Federal taxes or in Chapter XIII Bankruptcy Act proceedings. (b)(1) Section 303(b) provides the following restrictions on the amount that may be withheld for the support of any person (e.g. alimony or child support): "(A) Where such individual is supporting his spouse or dependent child (other than a spouse or child with respect to whose support such order is issued), 50 per centum of such individual's disposable earnings for that week; and "(B) Where such individual is not supporting such a spouse or dependent child described in clause (A), 60 per centum of such individual's disposable earnings for that week; except that, with respect to the disposable earnings of any individual for any workweek, the 50 per centum specified in clause (A) shall be deemed to be 55 per centum and the 60 per centum specified in clause (B) shall be deemed to be 65 per centum, if and to the extent that such earnings are subject to garnishment to enforce a support order with respect to a period which is prior to the twelve week period which ends with the beginning of such workweek." (2) Compliance with the provisions of section 303(a) and (b) may offer problems when there is more than one garnishment. In the event that priority is determined by State law or other Federal laws as the CCPA contains no provisions controlling the priorities of garnishments. However, in no event may the amount of any individual's disposable earnings which may be garnished exceed the percentages specified in section 303. To illustrate: (i) If 45% of an individual's disposable earnings were garnished for taxes, and this garnishment has priority, the Consumer Credit Protection Act permits garnishment for the support of any person of only the difference between 45% and the applicable percentage (50 to 65%) in the above quoted section 303(b). (ii) If 70% of an individual's disposable earnings were garnished for taxes and/or a Title XIII Bankruptcy debt, and these garnishments have priority, the Consumer Credit Protection Act does not permit garnishment either for the support of any person or for other debts. (iii) If 25% of an individual's disposable earnings were withheld pursuant to an ordinary garnishment which is subject to the restrictions of section 303(a), and the garnishment has priority in accordance with State law, the Consumer Credit Protection Act permits the additional garnishment for the support of any person of only the difference between 25% and the applicable percentage (50-65%) in the above quoted section 303(b). (iv) If 25% or more of an individual's disposable earnings were withheld pursuant to a garnishment for support, and the support garnishment has priority in accordance with State law, the Consumer Credit Protection Act does not permit the withholding of any additional amounts pursuant to an ordinary garnishment which is subject to the restrictions of section 303(a). [Codified to 29 C.F.R. § 870.11] [Source: Section 870.11 added at 44 Fed. Reg. 30685, May 29, 1979] Subpart C—Exemptions for State-Regulated Garnishments § 870.50 General provision. Section 305 of the CCPA authorizes the Secretary to "exempt from the provisions of section 303(a) garnishments issued under the laws of any State if he determines that the laws of that State provide restrictions on garnishment which are substantially similar to those provided in section 303(a)." [Codified to 29 C.F.R. § 870.50] {{4-28-00 p.7117}} § 870.51 Exemption policy. (a) It is the policy of the Secretary of Labor to permit exemption from section 303(a) of the CCPA garnishments issued under the laws of a State if those laws considered together cover every case of garnishment covered by the Act, and if those laws provide the same or greater protection to individuals. Differences in text between the restrictions of State laws and those in section 303(a) of the Act are not material so long as the State laws provide the same or greater restrictions on the garnishment of individuals' earnings. (b) In determining whether State-regulated garnishments should be exempted from section 303(a) of the CCPA, or whether such an exemption should be terminated, the laws of the State shall be examined with particular regard to the classes of persons and of transactions to which they may apply; the formulas provided for determining the maximum part of an individual's earnings which may be subject to garnishment; restrictions on the application of the formulas; and with regard to procedural burdens placed on the individual whose earnings are subject to garnishment. (c) Particular attention is directed to the fact that subsection (a) of section 303, when considered with subsection (c) of that section, is read as not requiring the raising of the subsection (a) restrictions as affirmative defenses in garnishment proceedings. [Codified to 29 C.F.R. § 870.51] § 870.52 Application for exemption of State-regulated garnishments. (a) An application for the exemption of garnishments issued under the laws of a State may be made in duplicate by a duly authorized representative of the State. The application shall be filed with the Administrator of the Wage and Hour Division, Department of Labor, Washington, D.C. 20210. (b) Any application for exemption must be accompanied by two copies of all the provisions of the State laws relating to the garnishment of earnings, certified to be true and complete copies by the Attorney General of the State. In addition, the application must be accompanied by a statement, in duplicate, signed by the Attorney General of the State, showing how the laws of the State satisfy the policy expressed in § 870.51(a) and setting forth any other matters which the Attorney General may wish to state concerning the application. (c) Notice of the filing of an application for exemption shall be published in the FEDERAL REGISTER. Copies of the application shall be available for public inspection and copying during business hours at the national office of the Wage and Hour Division and in the regional office of the Wage and Hour Division in which the particular State is located. Interested persons shall be afforded an opportunity to submit written comments concerning the application of the State within a period of time to be specified in the notice. [Codified to 29 C.F.R. § 870.52] [Source: Section 870.52 amended to 35 Fed. Reg. 14315, September 11, 1970] § 870.53 Action upon an application for exemption. (a) The Administrator shall grant or deny within a reasonable time any application for the exemption of State-regulated garnishments. The State representative shall be notified in writing of the decision. In the event of denial, a statement of the grounds for the denial shall be made. To the extent feasible and appropriate, the Administrator may afford to the State representative and to any other interested persons an opportunity to submit orally or in writing data, views, and arguments on the issue of whether or not an exemption should be granted and on any subsidiary issues. (b) If an application is denied, the State representative shall have an opportunity to request reconsideration by the Administrator. The request shall be made in writing. The Administrator shall permit argument whenever the opportunity to do so has not been afforded under paragraph (a) of this section, and may permit argument in any other case. {{4-28-00 p.7118}} (c) General notice of every exemption of State-regulated garnishments and of its terms and conditions shall be given by publication in the FEDERAL REGISTER. [Codified to 29 C.F.R. § 870.53] § 870.54 Standards governing the granting of an application for exemption. The Administrator may grant any application for the exemption of State-regulated garnishments whenever he finds that the laws of the State satisfy the policy expressed in § 870.51(a). [Codified to 29 C.F.R. § 870.54] § 870.55 Terms and conditions of every exemption. (a) It shall be a condition of every exemption of State-regulated garnishments that the State representative have the powers and duties (1) to represent, and act on behalf of, the State in relation to the Administrator and his representatives, with regard to any matter relating to, or arising out of, the application, interpretation, and enforcement of State laws regulating garnishment of earnings; (2) to submit to the Administrator in duplicate and on a current basis, a certified copy of every enactment by the State legislature affecting any of those laws, and a certified copy of any decision in any case involving any of those laws, made by the highest court of the State which has jurisdiction to decide or review cases of its kind, if properly presented to the court; and (3) to submit to the Administrator any information relating to the enforcement of those laws, which the Administrator may request. (b) The Administrator may make any exemption subject to additional terms and conditions which he may find appropriate to carry out the purposes of section 303(a) of the Act. [Codified to 29 C.F.R. § 870.55] § 870.56 Termination of exemption. (a) After notice and opportunity to be heard, the Administrator shall terminate any exemption of State-regulated garnishments when he finds that the laws of the State no longer satisfy the purpose of section 303(a) of the Act of the policy expressed in § 870.51(a). Also, after notice and opportunity to be heard, the Administrator may terminate any exemption if he finds that any of its terms or conditions have been violated. (b) General notice of the termination of every exemption of State-regulated garnishments shall be given by publication in the FEDERAL REGISTER. [Codified to 29 C.F.R. § 870.56] § 870.57 Exemptions. Pursuant to section 305 of the CCPA (82 Stat. 164) and in accordance with the provisions of this part, it has been determined that the laws of the following States provide restrictions on garnishment which are substantially similar to those provided in section 303(a) of the CCPA (82 Stat. 163); and that, therefore, garnishments issued under those laws should be, and they hereby are, exempted from the provisions of section 303(a) subject to the terms and conditions of §§ 870.55(a) and 870.56: (a) State of Virginia. Effective June 30, 1978, garnishments issued under the laws of the State of Virginia are exempt from the provisions of sections 303(a) and 303(b) of the CCPA under the following additional conditions: (1) Whenever garnishments are ordered in the State of Virginia which are not deemed to be governed by section 34-29 of the Code of Virginia, as amended, and the laws of another State are applied, sections 303(a) and 303(b) of the CCPA shall apply to such garnishments according to the provisions thereof; and (2) whenever the earnings of any individual subject to garnishment are withheld and a suspending or supersedeas bond is undertaken in the course of an appeal from a lower court decision, sections 303(a) and 303(b) of the CCPA shall apply to the withholding of such earnings under this procedure according to the provisions thereof. {{4-28-00 p.7119}} [Codified to 29 C.F.R. § 870.57] [Source: Section 870.57 added at 35 Fed. Reg. 18527, December 5, 1970, then amended at 36 Fed. Reg. 367, January 12, 1971; 43 Fed. Reg. 28471, June 30, 1978] {{10-31-05 p.7161}} FEDERAL TRADE COMMISSION TRADE REGULATION RULE CONCERNING THE PRESERVATION OF CONSUMERS' CLAIMS AND DEFENSES On May 27, 1976, the FDIC sent the following letter to the Chief Executive Officers of all insured nonmember banks subject: Federal Trade Commission Trade Regulation Rule on the Preservation of Consumers' Claims and Defenses: A copy of the ... Rule is included in the ... Staff Guidelines on the Trade Regulation Rule Concerning Preservation of Consumers' Claims and Defenses. This Rule, which is frequently referred to as "The Holder-in-Due-Course Rule," was promulgated by the Federal Trade Commission effective May 14, 1976. In essence, the Rule prohibits a seller from taking or receiving a consumer credit contract that does not contain a prescribed notice which preserves the consumer's claims and defenses in the event that the contract is negotiated or assigned to a third party creditor. In addition, the Rule provides that the seller may not accept the proceeds of a purchase money loan unless the evidence of the loan contains the prescribed notice preserving as against the lender whatever claims and defenses the consumer may have against the seller. Omission of the required notice by the seller, or acceptance by the seller of the proceeds of the purchase money loan where the evidence of the loan does not contain the notice, constitutes an unfair or deceptive practice within the meaning of Section 5 of the Federal Trade Commission Act (15 U.S.C. § 45). While the Rule admittedly is aimed at sellers, there are situations where the Rule will also affect banks. Under the Rule, banks which purchase consumer paper containing the notice required of sellers will no longer be able to avail themselves of the holder-in-due-course doctrine. Also, banks which make purchase money loans containing the notice will be subject to all claims and defenses which the consumer could assert against the seller. Banks should not accept any consumer paper which fails to contain the notice required of sellers, since they may be considered to be a participant in the seller's violation of the Rule. In addition, banks making purchase money loans should include the prescribed notice in their contracts. Regarding this latter point we recommend that banks use the text of the notice set forth in Section 433.2(a) of the Rule. The notice prescribed under Section 433.2(b) of the Rule, which would be eliminated under a pending amendment to the Rule (40 Fed. Reg. 53530 (1975)), is fully included in Section 433.2(a). Therefore, it may be advisable to use the notice prescribed under Section 433.2(a) in order to avoid additional printing costs. The ... Staff Guidelines, which were published by the Federal Trade Commission in the May 14, 1976 Banks should consult with local counsel in determining whether the Rule applies in a particular transaction, especially since the Rule abolishes the holder-in-due-course doctrine which is one of State law. Also, banks may wish to contact the appropriate FDIC Regional Office with any questions regarding the Rule. Staff Guidelines on Trade Regulation Rule Concerning Preservation of Consumers' Claims and Defenses TABLE OF CONTENTS Preface Text of the Rule Purpose of the Rule Mechanism of the Rule Credit Contracts Which Must Contain the Notice Affected Transactions Financing a Sale Purchase Money Loans (1) General Considerations (2) Specific Purchase (3) Relation Between Creditor and Seller (a) Referrals (b) Affiliation Placement of the Notice Effective Date {{10-31-05 p.7162}} PREFACE Since 1945, consumer credit has grown substantially. One result has been a major commitment, on the part of credit institutions, to the retail consumer market. Credit has helped millions of families enjoy the fruits of our industrial society. This dramatic increase in consumer credit over the past thirty years has caused certain problems. Evolving doctrines and principles of contract law have not kept pace with changing social needs. One such legal doctrine which has worked to deprive consumers of the protection needed in credit sales is the so-called "holder in due course doctrine". Under this doctrine, the obligation to pay for goods or services is not conditiond upon the seller's corresponding duty to keep his promises. Typically, the circumstances are as follows: A consumer relying in good faith on what the seller has represented to be a product's characteristics, service warranty, etc., makes a purchase on credit terms. The consumer then finds the product unsatisfactory; it fails to measure up to the claims made on its behalf by the seller, or the seller refuses to provide promised maintenance. The consumer, therefore, seeks relief from his debt obligations only to find that no relief is possible. His debt obligation, he is told, is not to the seller but to a third party whose claim to payment is legally unrelated to any promises made about the product. The seller may, prior to the sale, have arranged to have the debt instrument held by someone other than himself; he may have sold the debt instrument at a discount after the purchase. From the consumer's point of view, the timing and means by which the transfer was effected are irrelevant. He has been left without ready recourse. He must pay the full amount of his obligation. He has a product that yields less than its promised value. And he has been robbed of the only realistic leverage he possessed that might have forced the seller to provide satisfaction--his power to withhold payment. On November 14, 1975, the Federal Trade Commission addressed this problem by promulgating a final Trade Regulation Rule concerning the Preservation of Consumers' Claims and Defenses. The Rule, also sometimes called the Holder-in-Due-Course Rule, becomes effective on May 14, 1976. The staff of the Commission has received many inquiries about the interpretation and application of the Rule. This pamphlet attempts to answer as many of these as possible. The analysis is informal and advisory in that it has not been formally reviewed or adopted by the Commission. Nor does anything here alter or amend either the Rule or the official Statement of Basis and Purpose published with it. Nonetheless, staff of the Bureau of Consumer Protection believes this publication of staff views will help the public and will facilitate and encourage compliance with the Rule. TEXT OF THE RULE § 433.1 Definitions (a) Person. An individual, corporation, or any other business organization. (b) Consumer. A natural person who seeks or acquires goods or services for personal, family, or household use. (c) Creditor. A person who, in the ordinary course of business, lends purchase money or finances the sale of goods or services to consumers on a deferred payment basis; Provided, such person is not acting, for the purposes of a particular transaction, in the capacity of a credit card issuer. (d) Purchase money loan. A cash advance which is received by a consumer in return for a "Finance Charge" within the meaning of the Truth in Lending Act and Regulation Z, which is applied, in whole or substantial part, to a purchase of goods or services from a seller who (1) refers consumers to the creditor or (2) is affiliated with the creditor by common control, contract, or business arrangement. (e) Financing a sale. Extending credit to a consumer in connection with a "Credit Sale" within the meaning of the Truth in Lending Act and Regulation Z. (f) Contract. Any oral or written agreement, formal or informal, between a creditor and a seller, which contemplates or provides for cooperative or concerted activity in connection with the sale of goods or services to consumers or the financing thereof. {{2-28-02 p.7163}} (g) Business arrangement. Any understanding, procedure, course of dealing, or arrangement, formal or informal, between a creditor and a seller, in connection with the sale of goods or services to consumers or the financing thereof. (h) Credit card issuer. A person who extends to cardholders the right to use a credit card in connection with purchases of goods or services. (i) Consumer credit contract. Any instrument which evidences or embodies a debt arising from a "Purchase Money Loan" transaction or a "financed sale" as defined in paragraphs (d) and (e). (j) Seller. A person who, in the ordinary course of business, sells or leases goods or services to consumers. [Codified to 16 C.F.R. § 433.1] [Source: 40 Fed. Reg. 53506, November 18, 1975, effective May 14, 1976] § 433.2 Preservation of Consumers' Claims and Defenses, Unfair or Deceptive Acts or Practices In connection with any sale or lease of goods or services to consumers, in or affecting commerce as "commerce" is defined in the Federal Trade Commission Act, it is an unfair or deceptive act or practice within the meaning of Section 5 of that Act for a seller, directly or indirectly, to: (a) Take or receive a consumer credit contract which fails to contain the following provision in at least ten point, bold face, type: NOTICE ANY HOLDER OF THIS CONSUMER CREDIT CONTRACT IS SUBJECT TO ALL CLAIMS AND DEFENSES WHICH THE DEBTOR COULD ASSERT AGAINST THE SELLER OF GOODS OR SERVICES OBTAINED PURSUANT HERETO OR WITH THE PROCEEDS HEREOF. RECOVERY HEREUNDER BY THE DEBTOR SHALL NOT EXCEED AMOUNTS PAID BY THE DEBTOR HEREUNDER. or, (b) Accept, as full or partial payment of such sale or lease, the proceeds of any purchase money loan (as purchase money loan is defined herein), unless any consumer credit contract made in connection with such purchase money loan contains the following provision in at least ten point, bold face, type: NOTICE ANY HOLDER OF THIS CONSUMER CREDIT CONTRACT IS SUBJECT TO ALL CLAIMS AND DEFENSES WHICH THE DEBTOR COULD ASSERT AGAINST THE SELLER OF GOODS OR SERVICES OBTAINED WITH THE PROCEEDS HEREOF. RECOVERY HEREUNDER BY THE DEBTOR SHALL NOT EXCEED AMOUNTS PAID BY THE DEBTOR HEREUNDER. [Codified to 16 C.F.R. § 433.2] [Source: 40 Fed. Reg. 53506, November 18, 1975, effective May 14, 1976, as amended at 40 Fed. Reg. 58131, December 15, 1975] § 433.3 Exemption of sellers taking or receiving open end consumer credit contracts before November 1, 1977 from requirements of § 433.2(a). (a) Any seller who has taken or received an open end consumer credit contract before November 1, 1977, shall be exempt from the requirements of 16 CFR Part 433 with respect to such contract provided the contract does not cut off consumers' claims and defenses. (b) Definitions. The following definitions apply to this exemption: (1) All pertinent definitions contained in 16 CFR 433.1. (2) Open end consumer credit contract: a consumer credit contract pursuant to which "open end credit" is extended. (3) "Open end credit": consumer credit extended on an account pursuant to a plan under which a creditor may permit an applicant to make purchases or make loans, from time to time, directly from the creditor or indirectly by use of a credit card, check, or other device, as the plan may provide. The term does not include negotiated advances under an open-end real estate mortgage or a letter of credit. (4) Contract which does not cut off consumers' claims and defenses: a consumer credit contract which does not constitute or contain a negotiable instrument, or contain any waiver, limitation, term, or condition which has the effect of limiting a consum- {{2-28-02 p.7164}}er's right to assert against any holder of the contract all legally sufficient claims and defenses which the consumer could assert against the seller of goods or services purchased pursuant to the contract. [Codified to 16 C.F.R. § 433.3] [Source: 42 Fed. Reg. 19490, April 14, 1977; as amended at 42 Fed. Reg. 46510, September 16, 1977, effective for all consumer credit contracts taken or received by sellers after October 31, 1977] PURPOSE OF THE RULE In adopting this Rule the Commission determined that it constitutes an unfair and deceptive practice within the meaning of Section 5 of the Federal Trade Commission Act (15 U.S.C. 45) for a seller, in the course of financing a consumer purchase of goods or services, to employ procedures which make the consumer's duty to pay independent of the seller's duty to fulfill his obligations. In the course of public proceedings of the Rule the Commission documented numerous cases where consumer purchase transactions were financed in such a way that the consumer was legally obligated to make full payment to a creditor despite breach of warranty, misrepresentation, and even fraud on the part of the seller. Under ordinary contract law, the promises of the parties to a sale transaction are mutually dependent. A seller is entitled to payment provided he delivers what he promised to deliver. If the seller fails to deliver what was promised, the consumer's obligation to pay may be reduced or even eliminated. However, it is possible for a seller to arrange credit terms for buyers which separate the consumer's legal duty to pay from the seller's legal duty to keep his promises. This separation of duties may be accomplished in three ways. First, the seller may execute a credit contract with a buyer which contains a promissory note. In the event that the promissory note is assigned to a credit company, the credit company takes it free of any claim or defense which the buyer would have against the seller. This is true unless the buyer can prove that the credit company is acting in bad faith or with notice of actual seller misconduct. Second, if a local statute prohibits the use of such promissory notices in credit sale transactions, the seller may incorporate a written provision called a "waiver of defenses" in the text of an installment sales agreement. A waiver of defenses is the consumer's written agreement that his installment purchase contract may be treated like a promissory note in the event that it is sold or assigned to a credit company. Finally, a seller may arrange a direct loan for his buyer. Where a seller arranges a loan in this fashion, the lender is legally entitled to payment in full whatever the seller may do or fail to do in the sales transaction which accompanies the loan and for which the loan is obtained. In jurisdictions where efforts have been made to curtail the use of promissory notes and waivers of defenses, the Commission documented a significant increase in the use of arranged loans to accomplish the same end. The Commission's Rule is directed at all three of the above situations. It is designed to prevent the widespread use of credit terms which compel consumers to pay a creditor even if the seller's conduct would not entitle the seller to be paid. It is designed to preserve the consumer's legally sufficient claims and defenses so that they may be asserted to defeat or diminish the right of a creditor to be paid, where a seller who arranges financing for a buyer fails to keep his side of the bargain. MECHANISM OF THE RULE The Rule is designed to insure that consumer credit contracts used in financing the retail purchase of consumer goods or services specifically preserve the consumer's rights against the seller. It requires sellers to include the following provision, or Notice, in the text of any consumer credit contract which they execute with a buyer: ANY HOLDER OF THIS CONSUMER CREDIT CONTRACT IS SUBJECT TO ALL CLAIMS AND DEFENSES WHICH THE DEBTOR COULD ASSERT AGAINST THE SELLER OF GOODS OR SERVICES OBTAINED PURSUANT HERETO OR WITH THE PROCEEDS HEREOF. RECOVERY HEREUNDER BY THE DEBTOR SHALL NOT EXCEED AMOUNTS PAID BY THE DEBTOR HEREUNDER. {{2-28-02 p.7165}} In addition, if a seller arranges direct loan financing for his customers, the Rule prohibits the seller from accepting the proceeds of the loan as payment for a sale, unless any loan contract signed by the buyer and the direct lender contains the following provision: ANY HOLDER OF THIS CONSUMER CREDIT CONTRACT IS SUBJECT TO ALL CLAIMS AND DEFENSES WHICH THE DEBTOR COULD ASSERT AGAINST THE SELLER OF GOODS OR SERVICES OBTAINED WITH THE PROCEEDS HEREOF. RECOVERY HEREUNDER BY THE DEBTOR SHALL NOT EXCEED AMOUNTS PAID BY THE DEBTOR HEREUNDER. For those consumer credit contracts in which the Rule requires insertion of this specific contract provision, or Notice, the Notice will become a part of the agreement between the consumer and the creditor. The required Notice will be treated in the same manner as other written terms and conditions contained in the agreement. For this reason, where use of the Notice is required the Notice must appear without qualification. The requirement that a contract "contain" the Notice is not satisfied if the text of the Notice is printed in the contract in conjunction with additional recitals which limit or restrict its application. Where the text of the Notice is qualified by additional language, the contract fails to "contain" the required Notice. While the Rule provides for two different Notices, depending on whether or not the consumer credit contract involved is an installment sales agreement or a loan obligation, both Notices mean the same thing. They protect the consumer's right to assert against the creditor any legally sufficient claim or defense against the seller. The creditor stands in the shoes of the seller. There is an important limitation on the creditor's liability, however. The wording of the Notice includes the sentence "Recovery hereunder by the debtor shall be limited to amounts paid by the debtor hereunder". This limits the consumer to a refund of monies paid under the contract, in the event that an affirmative money recovery is sought. In other words, the consumer may assert, by way of claim or defense, a right not to pay all or part of the outstanding balance owed the creditor under the contract; but the consumer will not be entitled to receive from the creditor an affirmative recovery which exceeds the amounts of money the consumer has paid in. Thus, if a seller's conduct gives rise to damages in an amount exceeding the amounts paid under the contract, the consumer may (1) sue to liquidate the unpaid balance owed to the creditor and to recover the amounts paid under the contract and/or (2) defend in a creditor action to collect the unpaid balance. The consumer may not assert against the creditor any rights he might have against the seller for additional consequential damages and the like. The same situation would exist where a seller's conduct would, as a matter of law, entitle a buyer to rescission and restitution. The consumer, relying on the required Notice, could initiate proceedings to invalidate the credit contract and receive a return of monies paid on account. If a downpayment were made under the credit contract, the consumer could recover the downpayment as well as other payments. Recovery of a downpayment would be possible under many installment sales contracts. It would not be possible in situations where a direct loan contract is used, because the downpayment would not have been made pursuant to the loan contract. The limitation on affirmative recovery does not eliminate any other rights the consumer may have as a matter of local, state, or federal statute. The words "recovery hereunder" which appear in the text of the Notice refer specifically to a recovery under the Notice. If a larger affirmative recovery is available against a creditor as a matter of state law, the consumer would retain this right. It is also important to note that the Rule does not create new rights or defenses. The words "Claims and Defenses" which must appear in the Notice are not given any special definition by the Commission. The phrase simply incorporates those things which, as a matter of other applicable law, constitute legally sufficient claims and defenses in a sales transaction. Appropriate statutes, decisions, and rules in each jurisdiction will control, and the pertinent rules {{2-28-02 p.7166}}of law and equity, including rules of evidence, procedure, and statutes of limitations, will continue to apply. For example, where a product is sold "as is" and there can be no warranty claim or defense, the Rule would not create one. Where a local jurisdiction has a two-year statute of limitations on contract claims, such claims and defenses would be extinguished after two years. Where a local jurisdiction imposes a rule analogous to laches or equitable estoppel, consumer claims and defenses would continue to be subject to such a limitation, and the consumer would have a duty to notify the potential defendant of his contention within a reasonable time. The Rule does apply to all claims or defenses connected with the transaction, whether in tort or contract. When, under state law, a consumer would have a tort claim against the seller that would defeat a seller's right to further payments or allow the consumer to recover affirmatively this claim is preserved against the holder. This is, of course, subject to the limitation of recovery under this Rule to the amounts paid in. It is also possible for a consumer to have a claim or defense against a seller because of a separate transaction. The provision required by the Rule would not allow him to assert such a claim or defense against the holder. The holder's obligations are limited to those arising from the transaction which he finances. The vast majority of cases, in the staff's opinion, will involve a limited right of set-off against the unpaid balance. Most sellers do not do business in a way that creates a right to rescission or significant consequential damages. It is probable that the vast majority of disputes between buyers and sellers will be settled by means of informal mechanisms. This is the case in most seller/buyer conflicts today. While the Rule preserves and protects the consumer's legal right to assert claims and defenses, it does not compel unjustified reliance on the legal system in individual cases, and will not promote frivolous or unsubstantiated claims. CREDIT CONTRACTS WHICH MUST CONTAIN THE NOTICE The Rule does not apply to all credit instruments. The Notice must appear in written obligations defined as "Consumer Credit Contracts" in the Rule. The definition includes any written instrument which, under the Truth in Lending Act 1 and Regulation Z of the Federal Reserve Board 2 constitutes a consumer credit contract and which is used to (1) "Finance a Sale" as that term is defined in the Rule or (2) in connection with a "Purchase Money Loan" as that term is defined in the Rule. Affected Transactions. The initial question is whether a sale constitutes a consumer transaction at all. The Rule defines the term "consumer" to mean a "natural person who seeks or acquires goods or services for personal, family, or household use", and covers sales of all kinds of consumer goods or services for personal, family or household use. Purchases of appliances, automobiles, furniture, food, and any other product sold to individuals for non-commercial purposes are covered. Services such as home-improvement contracting, vocational training, employment counselling or placement, health spa membership, and smilar agreements made with individuals for non-commercial purposes are covered. Sales of goods or services for commercial use are not covered by the Rule. This includes the purchase of equipment for agricultural production, because such production is a commercial activity within the meaning of the Rule. Nor does the Rule apply when a purchase is made by or for an organization rather than a natural person. Finally, only purchases of goods and services are covered by the Rule. Sales of interests in real property are unaffected, as are purchases of commodities or securities. However, the mere fact that a security interest in real property is taken does not mean that the sales transaction does not involve consumer goods or services. For example, home-improvement contracting, which does constitute a sale of goods or services, is often financed by credit secured by real property. {{2-28-02 p.7167}} Additional limitations on affected transactions are present because the definitions of "Financing a Sale" and "Purchase Money Loan" expressly refer to the Truth in Lending Act and Regulation Z, and thus incorporate the limitations contained in these laws. As a result, even with respect to transactions involving a sale of consumer goods or services, a purchase involving an expenditure of more than $25,000 is not affected by the Rule. Public utility services are not affected by the Rule. Finally, only those leases which constitute "credit sale" agreements under Regulation Z are affected by the Rule. Regulation Z applies to those leases where a consumer contracts to pay a sum substantially equivalent to or greater than the value of the property leased and receives an option to become the owner of the property for no consideration or a nominal consideration: Financing a Sale. This term is defined to include situations in which a seller within the Commission's jurisdiction extends credit to a buyer and takes a written credit contract from the buyer, in connection with an affected transaction. All such situations are covered by the Rule, and all contracts so executed, except credit card instruments, must contain the required Notice. Credit card instruments are specifically exempted from the Rule. This section is intended to be comprehensive in its coverage. Besides the credit card exemption, the only limitation is that the agreement itself must constitute a contract under the law of the local jurisdiction. A casual notation of retail credit extended, made in a form that does not itself constitute a contract, is not covered. Such an instrument would not be a contract in itself (though it might be part of a contract or evidence of contract), and would not be assignable. There is thus no reason to try to cover it. The Rule does apply to open-end credit extended by sellers, or to "series of sales" closed-end credit, when the credit is extended pursuant to a consumer credit contract. This includes those situations in which a master credit agreement is entered into at the outset of a buyer/seller relationship and extensions of credit for specific purchases are made later, through a charge slip, charge plate or similar device. In the event that more than one written instrument contains or embodies the rights and duties of the buyer and seller, the Rule does not require redundant placement of the Notice. The Notice need appear once, in any location which renders it a clear term or condition of the written credit agreement. Incorporation by reference in multiple credit documents is appropriate and satisfies the Rule as long as the documentation makes it clear to both the consumer and any holder that the consumer's written credit obligation is subject to the Notice. In practical terms, this means that there is no need for re-execution of outstanding open-end credit contracts. It is sufficient if consumers are informed through a notation or sales slips on bills, and if the master files are tagged in any way sufficient to put a subsequent holder on notice under state law. Purchase Money Loans (1) General Considerations The Rule states that a seller may not accept money which a consumer obtained via a "purchase money loan", as that term is defined in the Rule, unless the consumer credit contract made in connection with the loan contains the required provision preserving the consumer's claims and defenses. Where a "purchase money loan" is used to finance a sale, the seller is obligated to insure that the consumer's loan contract contains the required Notice before he consummates the Sale. 3 The "purchase money loan" provisions of the Rule must be read in the light of the Commission's Statement of Basis and Purpose. The Commission concluded that it is unfair for sellers to impose all risks of seller-misconduct on consumer buyers by arranging credit terms which insulate the creditor from claims and defenses. It has therefore required sellers to use a Notice in credit contracts which insure that the buyer's duty to pay remains subject to the seller's reciprocal duty to keep his promises. The Commission has concluded that consumers' claims and defenses must also be preserved when sellers arrange financing for {{2-28-02 p.7168}}their customers by means of referrals to direct lenders, or where sellers and direct lenders are affiliated with each other, as well as when sellers take loan contracts and transfer them to third parties. Failure to include purchase money loans would make avoidance of the Rule both easy and inevitable. In the course of the rulemaking proceedings the Commission learned that where the use of promissory notes and waivers of defenses in "indirect" consumer contracts has been prohibited by state law a marked increase in the use of direct loans to achieve the same ends has occurred. Whether direct or indirect financing is used, the basic problem of the separation of duties remains the same. The Commission also concluded that when a creditor and a seller are working together to finance sales by means of consumer loans, the creditor has, or should have, access to information, resources, and business procedures which place him in a position to assess the likelihood or seller misconduct and make appropriate provisions for dealing with it. The creditor has access to sources of commercial information not easily available to the average consumer buyer, and if he transacts business with the seller repeatedly over a period of time he knows from his own experience whether the seller is basically fair or not. A creditor who deals regularly with a seller is in a position to establish economic ways of shifting the risk back to the seller, through recourse or reserve arrangements. Where there is no such established relationship between the seller and the lender these reasons for the Rule do not apply. The Commission concluded that the Rule should not cover the situation where a buyer obtains financing from a lender who neither receives referrals from the seller nor is affiliated with the seller by common control, contract, or business arrangement. The intent of the Rule is to define as "purchase money loans" those consumer loans made for the acquisitions of goods or services from a particular seller and consummated under circumstances where a seller and a lender have an established relationship or course of dealing with one another which is directed at financing sales. In such cases, and only in such cases, the Rule requires the seller to insure that the consumer's loan contract contains the Notice. In reaching its conclusions about the scope of the Rule, the Commission was aware of the argument that a Rule preserving consumers' claims and defenses in purchase money loan situations could make lenders hesitate to finance purchases from unfamiliar sellers, and that this might reduce the diversity of credit sources available to consumers. It recognized that a lender who places the required Notice in loan agreements may feel compelled to keep himself abreast of the seller's practices and, perhaps, to police those practices to some extent. While the costs of such efforts might be small, it is clear that some costs and risks will be involved and that a creditor may choose not to incur them when he is unfamiliar with the seller involved. Since it is in the public interest to insure that consumers have a multiplicity of credit sources available, the Commission established a Rule that would not apply in contexts where the lack of connection between seller and lender would create difficulties. Thus the Rule applies only when the seller is arranging credit, through either an established pattern of referrals or affiliation. The complexities of the consumer credit market make it impossible to enumerate all situations in which a seller and lender may be engaging in "purchase money loan" financing, but the questions should be clarified by the above discussion and by the following elaboration of the common-sense purpose of the "purchase money loan" provision and its application to typical situations. (2) Specific Purchase The definition of "Purchase Money Loan" refers to "a purchase" and reaches only those consumer loans which are primarily or exclusively applied to a discrete purchase of goods or services from a particular seller. Where a consumer obtains a loan and uses the proceeds for multiple purchases from different sellers the Rule does not apply. The specific purchase requirement implicit in the definition of "Purchase Money Loan" has the effect of exempting most "open-end" loan agreements with lenders who are not sellers. For the most part, {{2-28-02 p.7169}}check overdraft accounts and other types of open lines of credit are not applied to a specific purchase at the time of the initial extension of credit. While one could take the view that credit is extended only when the open line is drawn upon, the staff does not believe that such a technical interpretation would serve the public interest. For all practical purposes, the extension is completed when the line is approved. This interpretation raises some possibility that open-end credit arrangements could be used in an attempt to evade the Rule. It would be possible for an affiliated lender to set up his agreement in the form of an open-end credit transaction and simply make the first extension of credit an amount sufficient to complete the relevant purchase. In such a situation the substance rather than the form of transaction would govern and the Rule would apply. Receipt by the consumer of some surplus loan proceeds does not, of itself, remove a loan from the "Purchase Money Loan" category. The test is whether the loan is applied in whole or substantial part to a specific purchase. While the "substantial part" clause creates a slight area of uncertainty, it is necessary to have such a qualification to close what would otherwise be a gaping loophole. If the Rule required that the entire advance be applied to the purchase it would be easy for a related lender to exempt himself simply by advancing a few dollars extra. (3) Relation between Creditor and Seller Once the criterion that the loan be applied to a specific purchase of goods or services has been met, the Rule imposes a further requirement before a consumer loan is classified as a purchase money loan. The specific seller who receives the proceeds of the loan must be engaged in the practice of referring loan customers to the lender or he must be affiliated with the lender by common control, contract or business arrangement. (a) Referrals. The Rule requires a seller to insure that a consumer's loan contract contains the required Notice when the seller "refers consumers to the creditor". The word "refers" is intended to reach those situations where a seller, in the ordinary course of business, is sending his buyers to a particular loan outlet, or to particular outlets, for credit which is to be used in the seller's establishment. In such circumstances the seller is effectively arranging credit for his customers. No specific number of referrals is specified in the Rule. The key distinction is between those instances where a seller is merely passing along information about places where his buyers may obtain credit and those where a seller is acting as a conduit for financing and channeling buyer-borrowers to a particular lender or limited group of lenders. The Rule has taken a common-sense approach to the question of referrals. A seller "refers consumers to the creditor when his conduct indicates that he is doing more than passively engaging in an information process. Where a seller regularly names, or otherwise designates, a particular loan outlet as a source of credit to be used by his buyers, he is referring consumers to the lender. Where the seller contacts a credit outlet on behalf of his buyers he is engaging in referrals. Where a seller helps the buyer prepare the lender's credit documents he is engaging in referral. Where the seller suggests that there are loan outlets in the community or immediate vicinity which may handle consumer transactions he is providing his customers with information and is not engaged in referrals. The same thing is true where a seller provides his buyers with a list of local credit outlets and takes no other action, provided the list is not furnished pursuant to a "contract" or "business arrangement" with the loan outlets. In short, where there is no communication whatsoever between a seller and a lender there is no referral unless the seller is actively steering his customers to a predesignated loan outlet for credit. A seller does not engage in a passive information process merely because of buyer solicitation, however. If a seller responds to a buyer request for assistance with a specific referral, he is still making a referral. Finally, the test is whether the seller routinely refers his customers to a lender or lenders. It is not whether a particular buyer was referred. This means that once a seller is referring his customers to a lender, all loan contracts between that lender and buy- {{2-28-02 p.7170}}ers from that lender must contain the Notice, provided the specific purchase test is also met. Conversely, it means that an occasional referral which is not part of a business routine of the seller does not trigger the Rule. (b) Affiliation. The alternative criterion for establishing the relationship necessary for a "Purchase Money Loan" is affiliation. The Rule requires a seller to insure that the Notice is used in a consumer's loan contract where the seller is "affiliated with the creditor by common control, contract, or business arrangement". This requirement is intended to cover the myriad situations where seller and lender are engaged in a mutually beneficial effort to promote the seller's sales through the use of the financer's lending resources and vice versa. The first type of affiliation is common control. The Commission has concluded that when a creditor and a seller are functionally part of the same business entity loans made by the lender for the financing of purchases from the seller should be subject to the Rule. This applies if the two companies are owned by a holding company or by substantially the same individuals, if one is a subsidiary of the other, or if they are under common control in any other way. The other forms of affiliation are "contract" and "business arrangement". The Rule defines these as follows: Contract: Any oral or written agreement, formal or informal, between a creditor and a seller, which contemplates or provides for cooperative or concerted activity in connection with the sale of goods or services to consumers of the financing thereof. Business Arrangement: Any understanding, procedure, course of dealing, or arrangement, formal or informal, between a creditor and a seller, in connection with the sale of goods or services to consumers or the financing thereof. These definitions encompass all situations where a creditor and a seller are party to any agreement, arrangement, understanding, or mutually understood procedure which is specifically related to retail sales or retail sales financing. While the business arrangement or contract need not be formal in a legal sense, it must be ongoing, and clearly related to sales or sales financing. Cooperative activity on a countinuing basis is what is specified by the Rule. It would be impossible to enumerate every conceivable example of the arrangements or contracts which are reached by the Rule's definitions. Examples would include: • Maintenance of loan application forms in the office of the seller; • Joint participation in the processing of loan documents; • Creditors' referrals of customers to a sales outlet; • Payment of consideration to a seller for furnishing loan customers or to a creditor for furnishing sales prospects; • Floor-planning or inventory financing arrangements which include or contemplate the assignment of indirect paper or the referral of loan customers; • Active creditor participation in a sales program; • Joint advertising efforts; • An agreement to purchase paper on an indirect basis. It it also important to emphasize what is not included in the term "affiliation". The contract or business arrangement must be sales related; the Rule is not intended to include the many possible business relationships that do not bear directly on the financing of consumer sales. For example, a commercial checking account is not an affiliation within the meaning of the Rule, nor is a commercial credit agreement between the seller and a credit institution which has no relationship to consumer sales activities or the financing thereof. A commercial lease, the factoring of accounts receivable, a general business loan, or other similar commercial arrangement or contracts do not, by themselves, invoke the Rule. By special provision, an agreement specifically dealing with credit card operations between a credit card issuer and a seller does not constitute a business arrangement or a contract; the definition of "Creditor" specifically excludes credit card transactions. It is also important to emphasize that the terms business arrangement and contract require some continuity over time. The fact that a creditor and seller must confer over a particular transaction does not in itself create an arrangement. Thus, for example, the mere fact that a creditor issues a joint proceeds check to a seller and a buyer in {{2-28-02 p.7171}}order to perfect the security agreement under the Uniform Commercial Code is not a business arrangement or contract. Finally, where the lender and the seller are affiliated, all loans contracts with consumers who use the proceeds at the seller's establishment must contain the required Notice. This is true provided the specific purchase requirement is met, whether or not a particular loan is directly attributable to the affiliation. PLACEMENT OF THE NOTICE The Rule imposes no requirement with respect to the location of the Notice within the text of a consumer credit contract. It may appear anywhere. The Rule is satisfied as long as the Notice is clearly a part of the contract. If more than one document is used to consummate a subject to the Rule, duplicative placement of the Notice is not required. Insertion is one document only, plus incorporation by reference where necessary, is appropriate. The Rule requires only that documentation is used to make clear to both consumer and holder that the consumer's obligations under the contract are subject to the Notice. Application of the Rule to seller open-end credit plans and series of sales plans has been discussed above. With respect to those plans which are covered, the staff believes that extensions of credit made after May 14, 1976, pursuant to agreements in existence before that date are covered by the Rule. This creates a logistical problem with respect to such pre-existing agreements. For future consumer accounts the Notice may be included in the master contract between the consumer and the seller. However, it would be wasteful to amend or rewrite existing master agreements to conform with the Rule. For this reason the staff believes that it will be sufficient if consumers are notified once, in a monthly statement, that with respect to future purchases made pursuant to the existing master agreement the required Notice will become a term or condition of the consumer's credit obligation. Thereafter, the existing master agreement between the consumer and the seller may be tagged or marked to make it clear that the text of the Notice is incorporated by reference therein for the purposes of transactions occurring after the May 14, 1976 effective date of the Rule. Any method sufficient to put an assignee on notice under state law is acceptable. EFFECTIVE DATE The Commission promulgated its Trade Regulation Rule concerning Preservation of Consumer's Claims and Defenses on November 14, 1975. An initial period of six months was specified to permit sellers to incorporate the required Notice in their forms prior to the effective date of the Rule. The Rule becomes effective on May 14, 1976. * * * * * 1 15 U.S.C. § 1601 et seq. Go Back to Text 2 12 C.F.R. 226. Go Back to Text 3 An amendment which would apply this obligation to the third party financer as well is now under consideration by the Federal Trade Commission. Go Back to Text
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