The rise in identity theft has prompted many companies to sell noninsurance services to help a consumer prevent or minimize the consumer’s risk of identity theft, and if identity theft occurs, to recover the consumer’s identity. Some of these services are designed to be sold to consumers and financed into a retail installment contract when a vehicle is purchased.
Effective September 1, 2009, the Texas legislature enacted S.B. 778, allowing motor vehicle dealers to sell and finance the cost of an identity theft recovery service contract. The “Identity Recovery Service Contract Providers and Administrators Act” – found in Chapter 1306 of the Occupations Code – specifically authorizes dealers to sell and finance identity recovery service contracts as part of a motor vehicle installment sale. Dealers must offer the product as an option and not as a condition of the extension of credit. An identity theft service contract does not include a contract sold by a motor vehicle dealer in connection with the sale of the vehicle, if the dealer provides the product directly, is licensed as a motor vehicle dealer, and covers its obligations under the contract with a reimbursement insurance policy.
The Texas Department of Licensing will regulate identity recovery service contract providers under its authority to regulate extended warranties and vehicle protection products. The contracts do not fall under the Insurance Code.
An “identity recovery service contract” is a contract to provide “identity recovery” purchased by a retail buyer for a fee and financed through a retail installment contract under the Texas Finance Code. “Identity recovery” is the process of restoring the identity of an identity theft victim to pre-identity theft status. An identity theft “expert,” assists the identity theft victim.
The Act also amends the law governing motor vehicle installment sale contracts to permit a separate charge for an identity recovery service contract.
Sounds so easy? The Occupations Code regulates the identity recovery service contract and excludes the product from the Insurance Code while the Finance Code says a dealer can finance the contract as part of an installment sale. However, there are significant legal issues to consider when offering an identity recovery service contract in connection with a motor vehicle installment sale at both the state and federal levels.
Because a component of the definition of identity recovery service contract includes financing, it appears as if the Act only allows the sale of an identity recovery service contract if it is financed. Recall that the federal Truth in Lending Act treats fees and charges imposed incident to an extension of credit as part of the finance charge unless specifically excluded by TILA. Regulation Z does not contain an express exclusion from the calculation of finance charge for charges for an identity recovery service contract. Therefore, in order to exclude the charge from the finance charge, a dealer must be able to sell the product in a comparable cash transaction. If, by definition, the dealer cannot sell the product in a comparable cash transaction, the charge for the identity recovery service contract constitutes a prepaid finance charge. So, Mr. Dealer, treat the charge for the identity recovery service as a prepaid finance charge. (Of course, that would be great if Texas model plain language contracts were set up to properly disclose prepaid finance charges.)
But, this isn’t the only issue.
Another concern is the possibility that companies offering identity recovery service contracts could be subject to lawsuits under the federal Credit Repair Organizations Act. CROA defines a “credit repair organization” broadly, so that a company offering identity recovery services could come under the statute’s authority by merely offering to help consumers improve their credit. CROA prohibits collection of fees in advance of completion of all services and also has onerous disclosure requirements. As a result, even if Texas state law authorizes the product and allows a dealer to sell and finance it, CROA could prohibit the sale of the product and collection of the fee in advance of the services to be provided, and likely, your identity recovery service provider has not complied with CROA disclosure requirements. If you think there is no risk, consider that companies offering credit monitoring services that have collected fees in advance of performing services and that have not given the CROA disclosures have been sued for CROA violations.
There also exists an apparent legal paradox. The Act does not apply to an identity recovery service contract sold by a motor vehicle dealer in connection with the sale of the vehicle, if the dealer is the provider, is licensed as a motor vehicle dealer and covers its obligations under the identity recovery service contract with a reimbursement insurance policy. By excluding dealer-provided identity recovery service contracts from Chapter 1306, it is possible that dealers who provide these contracts may not sell and finance them under the motor vehicle installment sale law. That is because Chapter 348 of the Finance Code only authorizes the sale and financing of an identity recovery service contract defined by Section 1306.003 of the Texas Occupations Code. Arguably, an identity recovery service contract excluded from the substantive provisions of Chapter 1306 would still be “defined by Section 1306.003 of the Texas Occupations Code” even if Chapter 1306 did not regulate it. Query: Would the Texas Credit Commissioner allow a dealer to sell and finance a product that is essentially unregulated?
Finally, whether an identity recovery service passes the smell test -- or more importantly the UDAP test -- is another story. For example, what qualifies a person to be an identity recovery expert? Under the new law, an identity recovery service contract provider may not make any false or misleading statements in their service contracts or other materials. Wouldn’t defining yourself as an identity recovery expert constitute a misleading statement?
Given the uncertainty of treatment under federal and state law, dealers wishing to offer and finance an identity recovery contract do so at their own risk. And a sales finance company thinking about purchasing an installment contract financing this product should think again.
Nicole Frush Munro is a partner in the Maryland office of Hudson Cook, LLP. Basis Points readers can reach Nikki at 410-865-5430 or by e-mail at nmunro@hudco.com.