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I have written several times about the Federal Trade Commission Holder-In-Due Course Rule that preserves consumers’ claims and defenses (FTC Rule) and how it impacts “indirect” lending. The FTC Rule also applies to “direct” lending when the retailer (i) refers the consumer to the lender, or (ii) is affiliated with the lender by common control, contract, or business arrangement.

So, why do I say that the FTC Rule both gives and takes away rights and remedies for both consumers and creditors?

Well, the FTC Rule is a substantive requirement—not merely a disclosure or procedural requirement. The Rule literally requires consumer credit contracts to include a contractual provision that subjects both the original holder of the contract (the originating retailer) and any assignee of the contract (an indirect lender) to all claims and defenses that the consumer could assert against the seller of goods or services obtained pursuant to the contract. This assures the debtor’s right to assert a claim for breach of warranty, faulty workmanship, fraud or whatever claim he or she may have—against not only the retailer, but also against any holder of the contract. (For those who are interested in the legal analysis, what the FTC Rule accomplishes is the repudiation of the Holder-in-Due Course Doctrine that otherwise would give cover to the indirect lender.) This is a huge issue, as it negates the opportunity for an assignee to collect the debt while ignoring a debtor’s legitimate defense to paying the same.

So, the FTC Rule giveth consumers an important defense. But, the defense is not without cost.

The FTC Rule goes on to make clear that recovery by the consumer cannot exceed amounts paid by the consumer under the contract. So, if a plaintiff debtor recovers a judgment against the indirect lender, the indirect lender is only liable for amounts that it has received from the debtor under the contract. Thus, the FTC Rule also taketh away.

In adopting the FTC Rule way-back-when, the FTC determined that this limitation on recovery created a fair balancing of the interests between debtors and assignees. After all, to allow unlimited recovery against an innocent assignee for the fault of the originating creditor, could have scuttled the secondary market and dried up credit availability.

All of this makes sense—providing fair protection for consumers with respect to bad-acting retailers, while at the same time not tanking the availability of credit in the consumer finance world.

We have rocked along well with the FTC Rule since its effective date of 1977. At least we have until now.

Recently, a California State Appellate Court ruled that the FTC Rule’s limitation on recovery against assignees, did not limit recovery of the attorney’s fees incurred in pursuing the claim against the assignee.

As too many of us know, attorney’s fees often exceed the principal recovery by a plaintiff—and this factor provides leverage for plaintiffs’ attorneys in negotiations. There is now a “split of authority” among the California Courts on the issue of whether attorney’s fees are or are not limited by the FTC Rule. How this split is ultimately resolved may make a huge difference in how credit is extended in the future.