Subject to Inquiry

Subject to Inquiry


Government Investigations and White Collar Litigation Group

The CFPB’s Alternative Data RFI: Making Your Response Count

The Consumer Financial Protection Bureau (CFPB) recently issued a Request for Information (RFI) Regarding Use of Alternative Data and Modeling Techniques in the Credit Process, available here.  The deadline for response is May 19.  This post will provide practical advice on how to submit an effective RFI response.

binarydataThe RFI is the latest in a line of communications by the CFPB and other federal regulators showing interest in innovation and technology.  For example, last year, the Treasury Department conducted its own RFI on Marketplace Lending, and the Federal Trade Commission held a public workshop on Big Data.  Both projects culminated in agency reports covering developments on each of those issues and opining on related regulatory considerations.  The CFPB’s RFI is likely to follow a similar path.

The RFI consists of a preamble describing alternative data and models, and setting out some potential risks and benefits of each.  It then raises 20 questions of varying complexity.  In order to increase the chance that your response will garner attention and have a true impact, take the following issues into account:

  1. Consider Your True Audience

The RFI provides a rare public avenue to engage not just with the CFPB, but also with the wide range of stakeholders that are likely to closely monitor the responses.  This includes other state and federal regulators, legislators, media outlets, competitors, venture capital firms, and, indeed, anyone who may have an interest in the future of alternative data regulation.  As a result, the RFI is an opportunity for companies who use or would like to use alternative data and alternative models to make the best case for why such use should be encouraged, and how the CFPB may best do that.  For this reason, to the extent that you think there are specific steps that the CFPB or other regulators should take in this area, draft those suggested steps as specifically as possible.  You never know – your suggestions could well make their way into a congressional letter to a regulator.

  1. Choose Your Focus

The RFI is designed to reach a broad range of potential responders.  Thus, few entities will have relevant information to provide on all of the questions.  In order to make your response more impactful, consider the areas where you think you can provide the most in-depth or unique perspective.  Think of it as your competitive advantage vis-a-vis your fellow responders.  Once you decide where you can add the most value, group your responses into coherent themes that map onto the themes covered in the RFI.  Structuring your response into easy-to-follow sections will make it more likely that those skimming responses for a particular topic will stop on yours.

  1. Give Concrete Success Stories

One of the issues raised by the RFI is whether alternative data and models can increase responsible access to credit for underserved consumers.  This is an issue on which the CFPB has consistently focused, and which is likely to drive much of the thinking on their future approach.  With that in mind, consider whether you may be able to provide any specific data or examples of how your company’s use of alternative data has or could help you provide more credit or credit on better terms to consumers, particularly to those whom you might not have been able to reach otherwise.  The most useful examples would be those that provide side-by-side comparisons of traditional and new methods, such as comparisons of the results of traditional underwriting versus underwriting using alternative data.

  1. Highlight Any Examples Self-Regulation

The RFI makes clear the CFPB’s concern that the use of alternative data could raise potential fair lending and other compliance issues.  Some of the questions ask about companies’ practices in addressing these risks.  This is perhaps one of the most important sections of the RFI, because identifying for the CFPB what companies are currently doing to prevent risk to consumers will make it more likely that any future guidance will take those practices into account.  For example, if you have a process for vetting variables to ensure that they don’t raise any discrimination concerns, you should highlight that process or at least its existence.  Similarly, if you have taken steps to ensure that your compliance team is actively contributing to the decision-making on the use of alternative data and models, discussing those steps might also be useful.

  1. Make Your Wish List, but Check it Twice

One potential benefit of the RFI is that it allows you to alert the CFPB to particular areas where the lack of regulatory guidance is inhibiting innovation.  In fact, the RFI asks about “specific challenges or uncertainties” that companies face in complying with particular regulations.  Therefore, to the extent that you have unanswered questions about how the CFPB would apply a particular law to alternative data or models, you could raise that here.  As noted above, this information will be relevant not just to the CFPB but also to legislators or others who may be in a position to encourage the CFPB to provide further guidance.  However, in raising these issues, you need to be careful what you wish for.  The CFPB could respond to requests for guidance in ways that would create additional burdens on industry.  Thus, when you raise an area of uncertainty, it would be wise to consider outlining how you think that uncertainty would best be resolved in a way that encourages innovation while also protecting consumers.

  1. Call a Lifeline

McGuireWoods is helping a number of entities prepare responses to this RFI.  Our lawyers have first-hand experience on these issues and can help you determine the best approach to your particular response.  If you’d like to discuss how McGuireWoods might be able to assist you, reach out to the author, Alexandra Villarreal O’Rourke, co-lead of the firm’s FinTech Industry Group, at ao’ or 704-373-4632.

Immigration and Worksite Enforcement

H-1B Employers Face Increased Site Visits

Employers using the H-1B visa program should take note as additional site visits may be on the horizon.  U.S. Citizenship and Immigration Services (“UPassport-map-thumb-220x146-218SCIS”), part of the Department of Homeland Security, recently announced a new targeted approach to detect H-1B visa fraud and abuse and increased site visits of H-1B employers.

In selecting worksite visits, USCIS will focus on H-1B cases where:

  • USCIS cannot confirm the employer’s business information through commercially available data;
  • There is a high ratio of H-1B employees as compared to U.S. workers (as defined by statute); or
  • H-1B employees work off-site at another company or organization’s location.

Employers who may fall into one of these categories, as well as employers with onsite contractors, should be prepared for worksite visits and additional questions from USCIS.  USCIS may refer cases of suspected fraud or abuse to Immigration and Customs Enforcement (ICE) for additional investigation.  For more information on USCIS’s newly announced measures, click here.

McGuireWoods routinely advises on immigration and worksite enforcement issues, and can assist companies in responding to site visits.  Contact our experienced immigration attorneys to address your company’s questions or concerns.

Financial Institution Regulation

CFPB Fails to State Case Against Payment Processor

77006468.jpegThe United States District Court for the District of North Dakota recently dismissed the Consumer Financial Protection Bureau’s (CFPB) complaint against a payment processor, Intercept, in a case McGuireWoods has been monitoring.  The Court held that the CFPB failed to adequately plead an unfair, deceptive, or abusive act or practice under the Consumer Financial Protection Act (CFPA).  According to the Court, the CFPB failed to show that Intercept violated any industry standards, injured any consumers, interfered with consumers’ ability to understand the terms of their dealings with Intercept’s clients, or took unlawful advantage of consumers.

In CFPB v. Intercept Corp., the CFPB alleged that Intercept violated the CFPA by failing to heed warnings from banks and consumers, failing to monitor and respond to high return rates, and failing to investigate red flags when vetting its clients.  The Court’s decision hinged on whether the CFPB alleged facts sufficient to meet the definition of “unfair” and “abusive” acts in the CFPA.  According to the CFPA, an act is “unfair” if it substantially injures consumers, or is likely to do so, and the injury is not outweighed by countervailing benefits to consumers.  An act is “abusive” if it interferes with a consumer’s ability to understand the terms of a consumer financial product or takes unreasonable advantage of a consumer’s lack of understanding.

The CFPB’s complaint failed for a lack of detail.  As the Court explained:  “A close review of the complaint yields a conclusion that the complaint does not contain sufficient factual allegations to back up its conclusory statements regarding Intercept’s allegedly unlawful acts or omissions.”  The Court summed up the paucity of detail in the CFPB’s complaint:  “The Complaint simply does not sufficiently identify particular clients whose actions provided ‘red flags’ to Intercept or how Intercept’s failure to act upon those ‘red flags’ caused harm or was likely to cause harm to any identified consumer or group of consumers.”

We previously wrote about the broader implications of the CFPB’s case against Intercept, specifically the issues raised in briefs filed by Intercept and the Third Party Payment Processors Association (“TPPPA”) in support of the motion to dismiss.  We highlighted two issues in particular implicated by the Court’s order:  (1) whether unfair acts and practices under the CFPA required direct interaction with consumers; and (2) whether unfair acts and practices had to be predicated on underlying rules violations.  While the Court’s order dismissing the CFPB’s complaint does not tackle these issues head-on, it provides some guidance and indicates that in suits against payment processors the CFPB must do more than simply allege that a payment processor harmed consumers.

On the question of whether violations of the CFPA require direct interactions with consumers, the court’s opinion is a mixed bag.  Intercept and the TPPPA both argued that payment processors are not “covered persons” within the meaning of the CFPA because they do not offer services directly to consumers.  The Court tacitly rejected the argument that payment processors can never be considered “covered persons” under the CFPA, finding that the CFPB alleged sufficient facts that if proven would support a finding that Intercept was a “covered person.”  But the Court’s holding demonstrates that the CFPB must do more than merely allege that a payment processor’s conduct harmed a consumer.  According to the Court, the CFPB must allege harm to an “identified consumer or group of consumers.”  The nature of payment processors’ business, which is inherently not consumer-facing, could render proving harm to particular consumers difficult.

The Court likewise did not definitively hold that the unfair acts or practices under the CFPA must be predicated on violations of underlying rules or regulations, but its holding does signal that the CFPB cannot merely allege the existence of industry rules and standards in order to state a claim.  Rather, the CFPB must allege facts showing that a defendant’s conduct violated those rules.  This requirement comports with the TPPPA’s concern that absent a requirement of a rule violation, payment processors could be liable for conduct that “was not unlawful or forbidden by the rules in place at the time of the alleged conduct.”

What’s next?  The Court dismissed the CFPB’s complaint without prejudice, meaning that the CFPB can attempt to re-plead its complaint with sufficient detail.  But the Court’s order teaches that sufficient detail in this case requires a showing that Intercept violated a particular rule that harmed an identifiable group of consumers.  If future courts follow the district court of North Dakota’s lead and find that payment processors can be liable under the FCPA, they should impose, at a bare minimum, the same standards exacted by the North Dakota court in dismissing the CFPB’s complaint against Intercept.  Otherwise, the CFPB could pull within its purview companies that have no direct contact with consumers, whose actions do not harm consumers, and whose actions did not violate any established standard or rule.

Enforcement and Prosecution Policy and Trends, Fraud, Deception and False Claims

President’s Proposed Budget Increases Healthcare Fraud Enforcement Funding

iStock_000004688619Medium-thumb-225x149-186.jpgMuch of the discussion surrounding President Trump’s 2018 budget blueprint has focused on cuts, but one proposed budget increase shows the new administration is likely to continue focusing on healthcare fraud enforcement.  Among cuts of approximately 18% to the budget of the Department of Health and Human Services (HHS), the president’s budget proposes $70 million in additional funding for the Health Care Fraud and Abuse Control program (HCFAC), a more than 10% increase.

HCFAC is jointly directed by the Secretary of HHS and the Attorney General and is supervised by the HHS Office of Inspector General.  The program coordinates federal, state, and local healthcare fraud enforcement efforts.  According to the president’s budget, the HCFAC program returns more than $5 in fraud recovery for every dollar spent.

The increase in HCFAC funds suggests that the new administration will not deemphasize healthcare fraud investigations and prosecutions, despite new HHS Secretary, and physician, Tom Price’s statement at his confirmation hearing that healthcare fraud enforcement should focus on truly bad actors and focus less on scrutinizing the medical necessity of treatments.  Compliance should thus remain a priority for all healthcare providers and fraud investigations are likely to continue to be a top concern.  Secretary Price also spoke in favor of using data analysis to scrutinize payments for red flags before they are made, as opposed to the government’s traditional practice of investigating suspicious cases long after payment has been made. Such analysis, already used by the government, may raise the immediacy and importance of compliance for providers.  Data analysis may also mean that more healthcare fraud is first identified by the government, decreasing the importance of whistleblowers bringing qui tam suits.

Although there is no prospect of the president’s budget blueprint becoming law in the immediate future and any enacted budget is likely to face significant changes, the funding increase for HCFAC shows that, despite the new administration, healthcare fraud is likely to continue to be a major priority of government regulators and prosecutors.

Anti-Money Laundering, Enforcement and Prosecution Policy and Trends, Securities and Commodities

SEC Opens Cease-and-Desist Order Proceeding against Broker-Dealer and Chief Compliance / AML Officer

Government-Regulatory-and-Criminal-Investigations.jpgAs we have highlighted in prior posts, regulators of financial institutions, including FinCEN, FINRA and SEC, have increasingly brought actions to bring organizations – and individuals – into compliance with AML / BSA obligations.  This enforcement activity is consistent with FinCEN’s August 2014 Advisory, now nearly three years old, emphasizing the idea that U.S. financial institutions must promote a culture of compliance, one that does not allow the pursuit of profits to overshadow obligations prescribed by applicable laws.

The latest example of an enforcement action against both involves a New York broker-dealer and its chief compliance / AML officer.   The SEC initiated cease-and-desist proceedings (Complaint) against Windsor Street Capital, L.P. and its chief compliance officer.   In the Complaint, the SEC alleges violations of the Securities Act of 1933 and Securities Exchange Act of 1934, stemming from the “unregistered sale of hundreds of millions of penny stock shares.”  (¶ 3.)  The SEC further alleges that the broker-dealer failed to file suspicious activity reports with FinCEN.  (¶ 4.)  As a result of these violations, the firm recognized nearly $500,000 in commissions and fees.”  (¶ 5.)  Finally, the CCO was allegedly personally responsible for “monitoring customer transactions for suspicious activity and ensuring the firm’s compliance with SAR reporting requirements,” a task he failed to fulfill.  (¶ 6.)

The Complaint cites broker-dealers’ requirements under the BSA regulations (31 C.F.R. § 1023.320) and the obligation under the Exchange Act (Rule 17a-8) to comply with the SAR rule promulgated by FinCEN.  The Complaint also points to the firm’s and the CCO’s awareness of these obligations, both through their internal written AML program (¶ 15), and January 2009 FINRA guidance for broker-dealers titled “‘Unregistered Sales of Registered Securities,’ which lists many of the same red flags listed in the AML Program.”  According to the Complaint, the firm ignored these red flags when they permitted customer transactions to occur without filing SARs.  (¶¶ 15, 17, 21.)

Key Take-Aways:

  •  Profits cannot come at the expense of compliance.  As we have seen more frequently over the last several years, financial regulators are exhibiting a willingness to bring actions against individuals, not just companies.  This individual risk should embolden CCOs and others in compliance oversight roles to request and receive sufficient resources reasonably necessary to discharge their responsibilities.
  • Written AML programs must be current and reasonably designed to address risk.  The regulations require the creation of a written AML policy tailored to the company and reasonably designed to achieve compliance with applicable laws.  (31 C.F.R. §§ 1023.200-220.)  The policy should include a clear protocol for identifying red flags, escalation of the issues to senior management, resolution and documentation.  It is important that these programs be maintained continually and reflect the collective experience of the enterprise.  As demonstrated with this case, regulators will look at the written compliance program as putting an entity (or individual) on notice of the required conduct under the law.
  • Most importantly, the written AML program must be followed.  It would be a challenge for any enterprise to contradict (or ignore) its written AML policies.  Follow-through with execution is imperative to avoid significant – potentially criminal – consequences, enhanced regulator scrutiny, reputational harm and business disruption.





Enforcement and Prosecution Policy and Trends, Financial Institution Regulation, Fraud, Deception and False Claims

Will 2017 Be the Year of Insider Trading Reform?

iStock_000004688619Medium1For several years running, insider trading has been among the most high-profile enforcement priorities for both DOJ and the SEC. Unlike most federal criminal law, insider trading remains undefined by statute, having instead been largely judge-made. Unsurprisingly, since the explosion of enforcement actions began, prosecutors and defendants have both pushed the courts to clarify (or even re-define) the boundaries of the law. Despite several recent rulings, however, the law remains complex and ambiguous.

In its December 2014 ruling in United States v. Newman, the Second Circuit significantly altered the landscape for insider trading prosecutions. Newman held that a tippee who trades on insider information must know that the tipper received a “personal benefit” to be liable for insider trading. The decision went further, though, in suggesting that the personal benefit must have pecuniary value. Several months later, in United States v. Salman, the Ninth Circuit rejected such a narrow definition of “personal benefit.” In December 2016, the Supreme Court unanimously sided with the Ninth Circuit holding that the personal benefit test is met when the tipper “makes a gift of confidential information to a trading relative or friend.” Nonetheless, Justice Alito’s opinion left significant questions unanswered – and the central holding of Newman unaltered.

Last week, in a speech to the Securities Bar, Judge Jed Rakoff – who authored the Ninth Circuit’s Salman opinion and has presided over several high-profile insider trading trials – urged lawmakers to take up insider trading legislation. In particular, Judge Rakoff argued that a broad prohibition similar to the European Union’s laws would benefit both the markets and the courts. As it turns out, there may now be a window for Congress to take up such legislation. Shortly before Judge Rakoff’s remarks, House Judiciary Committee Chairman Bob Goodlatte announced the committee’s agenda for the 115th Congress. Rep. Goodlatte observed that he and Ranking Member John Conyers were “committed to passing bipartisan criminal justice reform.” Rep. Goodlatte considered it “imperative [to] continually examine federal criminal laws” in conjunction with this effort. Although past Congressional efforts to codify insider trading laws have failed, Goodlatte’s remarks suggest that there may be an opportunity to try again. And some observers are optimistic that a reform bill could pass this year.

What might such a reform bill look like? Judge Rakoff spoke approvingly of the EU’s approach that focuses on equal access to market information rather than U.S. law’s focus on the insider’s fiduciary duty. Specifically, the EU prohibits anyone from trading on information “that person knows, or ought to have known, [is] insider information.” Thus, the focus is on the information itself, rather than the source. Such an approach would eliminate disputes over the “personal benefit” test. It would also reverse Newman’s requirement that the tippee know of the tipper’s benefit. While the question of whether a trader “should have known” a tip to be insider information might be problematic, the insider trading statute – like other federal statutes – could define knowledge to include deliberate indifference or reckless disregard.

A uniform federal standard could bring much needed certainty to the law. Markets would benefit from a definition that protects equal access to market-moving information. Prosecutors would almost certainly be pleased with the expanded scope of proscribed conduct. And traders would have a clear, common-sense rule to guide their conduct.


Compliance, Uncategorized

McGuireWoods Announces Updated Government Investigations Resource Guide

Resources-Guide---7th-EditionWe are pleased to announce that McGuireWoods LLP has published the seventh edition of its Government Investigations Resource Guide. While Subject to Inquiry provides detail on the latest news and regulatory trends, this guide serves as a handy reference tool for in-house attorneys, compliance officials, and executives.

The Guide features overviews for key areas of law, as well as suggestions for proper responses to agency inquiries as well as the general risks posed in each area.

A complimentary electronic copy is available here.

Financial Institution Regulation

D.C. Circuit Grants Rehearing in PHH Case

On Thursday, February 16, 2017, the D.C. Circuit granted the Consumer Financial Protection Bureau’s (CFPB) petition for rehearing en banc in PHH Corporation v. Consumer Financial Protection Bureau.  The Order marks the latest twist in a case that tests the constitutional and 780536983statutory limits of the CFPB.

As we previously reported, in 2014 an Administrative Law Judge (ALJ) found that PHH Corporation (PHH) violated the Real Estate Settlement Procedures Act (RESPA) by accepting kickbacks from mortgage insurers.  PHH appealed the decision to CFPB Director Richard Cordray.  In a 38 page decision—the first administrative appellate decision for the CFPB—Cordray affirmed that PHH had violated RESPA but expanded PHH’s liability from $6 million to $109 million by holding that no statute of limitations applied to the CFPB’s administrative proceedings.

PHH appealed the matter to the D.C. Circuit.  On October 11, 2016, a three-judge panel ruled against the CFPB and held, among other things, that the CFPB’s single independent director structure was unconstitutional.  The October 11 Opinion also rejected the CFPB’s statutory arguments on the statute of limitations and RESPA.

On November 18, 2016, the CFPB filed its petition for rehearing en banc.  While the petition was pending, attorneys general from 16 states and the District of Columbia filed a motion to intervene in the case.  In the motion, the attorneys general raised concerns regarding the Trump Administration’s commitment to defending the constitutionality of the CFPB’s structure given President Trump’s criticism of the CFPB and the Dodd-Frank Wall Street Reform and Consumer Protection Act.  However, the court denied the motion on February 2, 2017.

The D.C. Circuit’s February 16 Order vacates the three-judge panel’s prior October 11 Opinion and sets oral arguments in the case for Wednesday May 24, 2016.

Notably, in the February 16 Order, the Court specially asked the parties to address three Constitutional issues in their briefs:

  1. Is the CFPB’s structure as a single-Director independent agency consistent with Article II of the Constitution and, if not, is the proper remedy to sever the for-cause provision of the statute?
  2. May the court appropriately avoid deciding the constitutional question given the panel’s ruling on the statutory issues in the case?
  3. If the en banc court, which has today separately ordered en banc consideration of Lucia v. SEC 832, 832 F.3d 277 (D.C. Cir. 2016), concludes in that case the administrative law judge who handled that case was an inferior officer rather than an employee, what is the appropriate disposition of this case?

Although the first two questions relate directly to the issues at the heart of the October 11 Opinion, the third question regarding the status of the ALJ adds a new focus to the appeal.  Lucia v. SEC, the case referenced in the Order, concerns the constitutionality of the use of Securities and Exchange Commission (SEC) ALJs in administrative proceedings.  Briefly addressed by Judge Randolph is his October 11 concurring opinion in PHH, the issue centers on the requirement under Article II, section 2, clause 2 that “inferior officers” be appointed by the President, the courts of law, or the heads of the department.

In PHH, the initial administrative decision was rendered by a Securities and Exchange Commission (SEC) ALJ. Rather than being appointed as an inferior officer, the SEC’s Chief Administrative Law Judge assigned the ALJ to the PHH case pursuant to an agreement between the CFPB and the SEC. If the SEC ALJ is in fact an inferior officer within the meaning of Article II, the ALJ’s assignment arguably violates the Constitution. The D.C. Circuit could use this Appointment Clause issue as grounds to decide the case without reaching the issue of the constitutionality of the CFPB’s structure.

PHH will file its opening brief on these issues by March 10, 2017.

Financial Institution Regulation

Pending Senate Bill Would Restructure CFPB Leadership

On January 11, 2017, a trio of Republican Senators introduced a bill that would change the leadership structure of the Consumer Financial Protection Bureau (“CFPB”) from a single director to a five-member bipartisan “Board of Directors.”iStock_000004688619Medium1

Senate Bill 105, titled “Consumer Financial Protection Board Act of 2017,” introduced by Senators Deb Fischer (R-Neb.), Ron Johnson (R-Wisc.), and John Barrasso (R-Wyo.), and now also co-sponsored by Senator Jeff Flake (R-Ariz.), would make the following changes to the CFPB’s leadership:

  • Replace the current single-director structure of the Bureau with a five-member board appointed by the President and confirmed by the Senate, with one member appointed by the President to serve as chairperson.
  • No more than three members from one political party.
  • Staggered terms, with three of five initial members serving 30-month terms, and the other two (and subsequent) members serving five-year terms.
  • No member may be reappointed to a consecutive term, unless that individual had been appointed for less than a five-year term.
  • Removal by the President for “inefficiency, neglect of duty, or malfeasance in office.”

The bill also stipulates that board members “must have developed strong competency and understanding of, and have experience working with, financial products and services.”

In a statement, Senator Fischer stated that CFPB Director Richard Cordray’s “bad decisions have kept families locked out of economic opportunity.”  Senator Fischer said her bill “would prevent this misconduct by divesting authority from one director to a five-member bipartisan board” and “bring accountability to the Bureau and give more Americans a chance to build their own businesses and provide for their families.”

The bill is currently referred to the Senate Committee on Banking, Housing, and Urban Affairs.

Senator Fischer’s bill represents yet another sign of potential changes to the Bureau’s leadership, structure, and authority.

As we recently reported, President Trump’s February 3 Executive Order signaled the beginning of the administration’s efforts to dismantle parts of the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”).  Though the Order does not explicitly mention the Bureau, President Trump has repeatedly voiced criticism of Dodd-Frank, which created the CFPB.

Also on January 11, President Trump reportedly met with former Representative Randy Neugebauer (R-Tex.) and is considering him to head the CFPB.  When he was in Congress, Neugebauer was sharply critical of the Bureau’s efforts to regulate payday lenders and introduced a bill to overhaul the agency.

Senate Bill 105 also comes as the CFPB continues to fight over the constitutionality of its leadership structure in the U.S. Court of Appeals for the District of Columbia.  As we reported, in October 2016, the D.C. Circuit ruled that the Bureau’s leadership structure, with a single director that the President could remove only “for cause” rather than “at will,” was unconstitutional.  In that decision, the court also vacated a $103 million increase to a $6 million fine levied against PHH Corp. by Director Cordray.  The parties are currently awaiting the D.C. Circuit’s ruling on the Bureau’s petition for en banc review of the panel’s decision.  However, if Senator Fischer’s bill’s becomes law it could make any potential CFPB victory a hollow one, as its leadership structure could soon change regardless of the outcome in PHH.

Finally, we have seen this amendment to the CFPB’s leadership in other bills introduced by Congressional Republicans.  The Financial CHOICE Act, released in 2016 by Representative Jeb Hensarling (R-Tex.), would have also replaced the director with a five-member commission.  However, as we have discussed, the Financial CHOICE Act also proposed a wide range of changes to the CFPB and Dodd-Frank.  Given Senate Bill 105’s narrow focus on changing the Bureau’s leadership structure, a transition from a single director to a five-member board would appear more viable through Senator Fischer’s bill.

Nonetheless, one can expect strong opposition from the left to whatever mechanism Congressional Republicans use in attempts to alter the CFPB’s structure or weaken its authority.  We will monitor the progress of Senate Bill 105, which is currently referred to the Senate Committee on Banking, Housing, and Urban Affairs.

Enforcement and Prosecution Policy and Trends

Will Cryptocurrency Abuse be an Enforcement Focus for the IRS this Tax Season?

Tax filing season began January 23rd, and with its arrival the IRS began rolling out its annual list of the so-called “Dirty Dozen.” The Dirty Dozen list is an educational effort to inform the public about scams, but it also offers insight into the tax enforcement issues on the IRS’s radar.

Particular tax schemes often stay on the “Dirty Dozen” list for years until the IRS devises an effective strategy for combatting them (if it ever does). Changes on the list reveal new schemes or enforcement priorities that have caught the IRS’s attention.

Of particular interest this year: whether cryptocurrency abuse will make the list. Cryptocurrencies, of which Bitcoin is the most well-known, are digital currencies not backed by any government. They trade on public markets called exchanges, and their use has grown rapidly in recent years. The IRS taxes cryptocurrency like property, not foreign currency.document-review

The IRS is presently litigating a summons case against Coinbase Inc., a prominent U.S.-based cryptocurrency exchange, in the Northern District of California. The IRS uses John Doe summons procedure when it believes some type of transaction is being used for tax avoidance, and it wants to find out the identities of currently-unknown taxpayers who have participated in those transactions. John Doe summonses have used to sniff out the identities of, for example, taxpayers using debit cards linked offshore, or holding accounts at certain banks suspected of abuse.

The IRS’s resort to John Doe procedure suggests it views cryptocurrency dealing as a widespread tax evasion strategy. But its evidence to date proves only isolated abuse, not pervasive tax evasion. The IRS’s summons is supported by interviews with 3 taxpayers who admitted to using cryptocurrency to avoid or evade taxes. But its demand for records is far broader: all cryptocurrency transactions with a U.S. jurisdictional hook at a large cryptocurrency exchange over a 3 year period.

Based in part on this mismatch of the IRS’s evidence and the information it demands, some cryptocurrency users and Coinbase itself are litigating to fight the summons. But such efforts seldom succeed at blocking disclosure.

If the IRS viewed cryptocurrency as a common tool for tax abuse, one might expect it to serve John Doe summonses on other US-based cryptocurrency exchanges or payment applications. But it has not done so, probably for lack of evidence they have been abused. Of course, such evidence could emerge from new interviews or from Coinbase records, once produced and digested.

The IRS’s disclosures to date create real questions about just how widespread cryptocurrency-based tax fraud really is. If the IRS includes cryptocurrency abuse on its dirty dozen list, it will be sending a signal that it views the Coinbase litigation not as a one-off skirmish, but the first front in a lengthy war to come.