Reprinted with permission of Blank Rome Comisky & McCauley LLP "Consumer Lending/Retail Banking Update." Blank Rome is a national law firm with offices in Pennsylvania, New Jersey, Delaware, Maryland, Washington, DC and Florida and its Consumer Financial Services/Retail Banking Group provides advice and counsel to mortgage companies, banks, thrifts, real estate professionals and all others involved in residential mortgage finance and other areas of the law. For further information, contact the Group's chairman, Paul H. Schieber at 215/569-5567 or schieber@blankrome.com.  http://www.blankrome.com/

It appears that the United States District Court for the Northern District of Illinois is in turmoil. On more than one occasion the court held an increase in a car’s credit sale price, that made up for the discount price at which the credit contract is sold, is not a hidden finance charge. But on April 13, 1998, in Taylor v. Bob O’Connor Ford, Inc., the same court held that such an increase in the car’s price was a hidden finance charge. And then, on May 20, 1998, the court in Sampler v. City Chevrolet Buick Geo, Inc. declined to follow Taylor. What’s a creditor to do?

Pre-Taylor Rulings

In Walker v. Wallace Auto Sales, Inc., the Walkers financed the purchase of their car from Wallace, who then sold the Walker’s contract to Guardian National Acceptance Corp. at a discount. The Walker argued that the discount at which Guardian purchased their contract from Wallace was a "hidden" (undisclosed) finance charge. Wallace responded that selling the Walker’s contract at a discount is a common practice of selling commercial paper, and not a finance charge subject to the disclosure requirements of the Truth-in-Lending Act and Regulation Z.

In finding for Wallace, the court specifically reiterated the Official Staff Commentary to Reg Z, which exempts " cost of doing business" charges from the finance charge disclosure requirements. That is, states the Commentary, "[c]harges absorbed by the creditor as a cost of diong business are not finance charges, ecen though the creditor may take such costs into consideration in determining the interest rate to be charged or the cash price of the property or servceis sold... For example, a discount imposed on a credit obligation when it is assigned by a seller-creditor to another party is not a finance charge as long as the discount is not separately imposed on the consumer."

Since the Commentary directly addressed the issue, it was not difficult for the court to dismiss the Wallace’s complaint. The court did not specifically address the "separately imposed" requirement, but felt compelled to hold for the defendant since adding the discount to the price of the car was a "cost of doing business". In fact, the court went beyond the language of Reg. Z to argue policy, and stated that "Congress enacted TILA to protect consumers from hidden finance charges, not to provide a cause of action to every consumer unhappy over the price paid for a used car."

The facts in Cleveland v. Wallace Auto Sales, Inc., were similar, and the court recited the same provision in the Reg. Z Commentary to find for Wallace and dismiss the plaintiff’s complaint. So what went wrong when the same court decided Taylor?

The Taylor Case

In Taylor, Verdell and Bessie Taylor purchase two Ford Escorts from a car dealership owned by Bob O’Connor, who also owned "Life Guard", operating from the same location as the dealership. As to the first car, the Taylors alleged that the retail contract failed to include a rebate of $750 which was reflected on the purchase order, and that the contract reflected a mysterious increase in the car’s price by $107.28. (Presumably, this increase made up for the discount at which the Taylors’ contract was sold.)

Interestingly, although the TILA claim in Taylor mirrors the claim in the prior cases, the Taylor case is distinguishable because the Taylors alleged that there were more problems with their purchase than a mere price inflation. As to both cars, the Taylors alleged that the retail contract contained a preprinted charge of $995 for an "essentially worthless" package of VIN etching, rustproofing and noise retardant (to be provided by LifeGuard). The retail contract for both cars also contained a $150 charge for a virtually unenforceable "environmental protection plan" (also provided by LifeGuard). Also, as to both cars, the Taylors were sold an extended warranty issued by Ford for $895 per car, even though, alleged the plaintiffs, the charge by Ford to the dealer for the warranty was $500 or less. Finally, to add insult to injury, the second car contained a defective transmission which was brought to the dealer for repair on three separate occasions. Faced with these facts, the court may have felt compelled to find for the Taylors.

The last nail in the dealer’s coffin (according to the court) was the Taylors’ contention that the contract between the dealer and its sales finance company gave the dealer a kickback of the "excess" finance charge between the customer’s contract annual percentage rate and the sales finance company’s "buy" rate, and that the resulting discount at which the contract was sold was added to the price of the car, amounting to a hidden finance charge (the same practice that was deemed acceptable in Walker and Cleveland). The court was disturbed that dealers are thereby encourage to look for the financing source with the highest kickback rather than the lowest rate.

But rather than bringing a claim under TILA, the plaintiffs asserted that the TILA violation established a violation under Illinois’ Consumer Fraud Act. The court reiterated the reasoning and holdings of Walker and Cleveland, noting that the discount at which a retail contract is sold could be taken into consideration in setting a cash price, as long as the cost was not "separately imposed on the consumer". However, the Taylor court decided, the prior decisions misinterpreted the language of the Reg. Z Commentary.

As the court explained, while the Commentary does not define "separately imposed", it clearly defines a finance charge as all charges "imposed directly or indirectly by the creditor as an incident to the extension of credit...[and] does not include charges of a type payable in a comparable cash transaction." In addition, the court pointed to a different section of the Commentary which states that finance charges include discounts given to induce cash, rather than credit, payments. The definition of "cash price", said the court, has been misconstrued. Reg. Z clearly defines cash price as the price at which a creditor offers to sel the property for cash, without including finance charges.

Without a specific exemption for the additional cost imposed on the Taylors, the court stated that the inflated cash price would fall within the broad definition of finance charge. Furthermore, found the court, permitting a dealer to add an amount to the "cash price" to make up for selling the contract at a discount, is contrary to the purpose of TILA. There is no meaningful disclosure, reasoned the court, because the consumer does not know he is paying more only because he is buying on credit; the cost of credit is not fully disclosed in the stated finance charge. Therefore, the court held, a charge is "separately imposed" when it is imposed in credit, but not in cash transactions. A dealer could avoid this result, said the court, by spreading the cost of discounts among both cash and credit customers.

The Problems with Taylor and Relief in Sampler

The Taylor facts were different from the Walker and Cleveland cases; did the charges for "worthless packages" imposed on the Taylors motivate the court to find for the Taylors on all counts, and disregard prior rulings? And certainly there are proof problems with the Taylor rationale. First, how can a plaintiff prove that he would have paid lower if he had paid in cash, and how can a dealer rebut a plaintiff’s claim and prove that the plaintiff would not have paid lower cash price? Second, TILA and Reg. Z are not designed to take away the ability of a dealer and buyer to negotiate a price: a negotiated purchase price is not a finance charge.

Thankfully, Sampler may have clarified the matter (at least in the Northern District of Illinois). In a motion for summary judgement, the court was agin faced with the issue of whether the cost of a discount added to the price of a car constituted a hidden finance charge. While the court conceded that a discount may be a "cost of business" and not a finance charge, it stated that it may not be included in the cash price of a car if it is "separately imposed". The difference is whether the dealer negotiates the price of the car to cover the discount, or the dealer negotiates the price of the car and then tells the buyer that he has to pay an additional amount to cover the discount. In the second scenario, the amount is "separately imposed" and is therefore a finance charge.

The court in Taylor, reasoned the Sampler court, misread the definition of "cash price", by presupposing that the cash price of a car sold on credit must be equal to the cash price of a car sold for cash. Reg. Z’s Commentary expressly permits a dealer to consider the discount in setting the car’s cash price. Therefore, the Sampler court declined to follow the Taylor court and held that a "dealer may seek to cover the aggregate cost of its discounts solely by raising the price of its vehicles sold on credit".

The Sampler court, however, dismissed the defendant’s motion for summary judgement, because the evidence could show that the discount may have been separately imposed. And where does that leave creditors? With a proof issue, at the very least. A dealer’s worksheet will have to be carefully completed, reflecting that any discount added to the car’s cash price is part of the negotiated price, not a separate amount added after coming to terms on a price. In the meantime, dealers and creditors will have to hold their collective breath until the Sampler court ultimately rules.