In the past month, four separate companies have filed challenges to enforcement actions brought by the CFPB, all of them claiming the bureau is unconstitutionally funded through the Federal Reserve System because the Fed has been unprofitable since 2022.

Each of the companies claims that because the CFPB can only be funded from the earnings of the Federal Reserve System, the bureau is suing them with funds that were not authorized either by statute or under the Constitution.

The four companies — Acima Holdings, Heights Finance Holding, Solo Funding, and Populus Financial Group, doing business as ACE Cash Express — asked that their cases be dismissed outright.

And in a separate but related development, the CFPB responded Friday to a complaint by trade groups representing farmers in connection with the bureau's small business lending rule. After the trade groups asked to intervene in a challenge to the CFPB rule, citing the bureau's funding through the Fed, the CFPB responded that the "new theory is meritless."

Consumer finance experts think that going forward, the CFPB will face more challenges under the legal theory.

"We would expect to see this argument raised routinely as a defense in most, if not all, future enforcement lawsuits brought by the CFPB," said Alan Kaplinsky, senior counsel at Ballard Spahr.

The latest challenges to the CFPB's constitutionality center on wording in the Dodd-Frank Act, which created the consumer watchdog agency in 2010. Dodd-Frank states that the CFPB is to be funded through the "combined earnings of the Federal Reserve System." The four companies argue that since the Fed technically has had no earnings over the last two years, the bureau is in violation of not only Dodd-Frank but also the Constitution's Appropriations Clause.

The theory was first postulated in 2022, when the Fed first failed to report a profit. But it gained more weight in May when Harvard Law School Professor Emeritus Hal Scott wrote an op-ed in the Wall Street Journal just days after the Supreme Court sided with the CFPB, finding that the agency is constitutional and that it satisfies the requirements of the Appropriations Clause.

In May, the Supreme Court in a 7-2 opinion written by Justice Clarence Thomas ruled that the CFPB's funding through the Federal Reserve does not violate the separation of powers. The court found that Congress has no limit on its ability to determine how a federal agency is funded, even if the funding is not appropriated annually, as is the case with most financial regulatory agencies. 

Scott said that when he read Thomas' opinion about the Fed sending its surplus earnings to the Treasury, a light went off because the Fed had not sent money back to the Treasury for about two years.

The Appropriations Clause states that "no money shall be drawn from the Treasury, but in consequence of appropriations made by law."

"As a constitutional matter, since there is no surplus going back to the Treasury, there's a violation of the constitution's Appropriations Clause," Scott said in an interview with American Banker. "By statute the CFPB has a claim on the earnings of the Federal Reserve, which was a very unusual funding mechanism. The statute provided that the CFPB would be funded by the Fed's earnings, so the argument is that if there's no earnings, there's a violation of the statute."

Others see it differently. 

Adam Levitin, the Carmack Waterhouse professor of law and finance at Georgetown University Law Center, said that the CFPB's funding through the Fed is still constitutional   — despite the latest challenges — because Congress authorized the source of funding and the expenditure, which is all that is required.

Levitin called the most recent challenges "throw-it-against-the-wall-and-see-what-sticks" arguments devised to delay CFPB enforcement actions and rulemakings.

"Delay is incredibly profitable to regulated firms seeking to avoid regulation," Levitin said. "It really doesn't matter that they'll lose in the end. That can mean billions of dollars of additional revenue from practices that the Bureau would otherwise prohibit."

Some experts said that Congress never envisioned that the Fed would lose money and not be profitable. The congressional intent in 2010 was to shield the CFPB from political interference. 

"I've never heard of Congress saying, 'We will fund Agency A but only as long as Agency B makes a profit," said Jeff Sovern, the Michael Millemann professor of consumer protection law at the University of Maryland Francis King Carey School of Law. "I don't think Congress wanted the CFPB to lose its funding just because the Fed stopped making money."

In the first challenge to the CFPB, Acima argued that CFPB's investigation of the lease-to-own company is unconstitutional because the Fed does not have earnings to fund the CFPB. The other companies took the same tack, arguing that the CFPB is prosecuting them using funds obtained in violation of the Dodd-Frank Act and the Appropriations Clause.

"Unfortunately since 2022 the Federal Reserve System does not earn a profit and they continue to lose money to the present day and nobody knows when they're going to turn a profit again," Kaplinsky said. "This is another argument to bring to the Supreme Court."

Scott said that if one of the cases makes it to the Supreme Court, it is unlikely that the court will look at congressional intent.

"The first thing you do when you interpret a statute is you look at the actual language," said Scott. "The argument would be that you don't really need to get to the intent of Congress. However, somebody could argue that Congress actually meant revenue. But that's a hard argument for me to see because of the word 'earnings.'"

In the Solo Funding case, the company said that Congress "could have chosen to fund the Bureau from any source of revenue at the Federal Reserve's disposal. Instead, it limited the Bureau's funding to a specific source: the combined 'earnings' of the Federal Reserve System."

"This is not to say that the Bureau must cease operations until the Federal Reserve returns to profitability. If the 'sums available to the Bureau' from the Federal Reserve are 'not … sufficient to carry out [its] authorities,' the Bureau may seek appropriations directly from Congress. But the Bureau may not flout its enabling statute and bypass Congress by using unlawfully requisitioned funds to prosecute this enforcement action," the company said in its challenge."

The CFPB did not respond to requests for comment. 

Paul Kupiec, a senior fellow at the American Enterprise Institute, said that based on the plain language of the law, he thinks the CFPB is unconstitutional.

"The Fed isn't supposed to fund [the CFPB] if it doesn't have any earnings," Kupiec said. "If Congress wanted to have the Fed fund them, they would have made the CFPB an expense of the Federal Reserve Board. But that's not the way the law was written. It was out of the net earnings of the system."

But consumer finance attorneys argue that the amount allocated to the CFPB is separate from the calculation of the operating profit of the Federal Reserve System.

"Another way of looking at this is that the budgeted amount for the CFPB becomes a line item on the expense side of the Fed's account, which may result in a reduced amount that is transferred to the Treasury," said Joe Lynyak, a partner at the law firm Dorsey & Whitney. 

According to the text of Dodd-Frank, the Fed is supposed to transfer an amount deemed reasonably necessary for the CFPB to carry out its duties. The amount cannot exceed 12% of the Fed's annual operating expenses, with an allowance for adjustments in line with the federal government's employee cost index.

Last year, Fed Chair Jerome Powell was asked in a House hearing if the Fed was borrowing money to fund the CFPB. 

"We don't borrow money," Powell said. "We don't shut down the Fed when we have negative income. We can pay our bills."