Two recently-passed bills in California, Assembly Bill 2311 (“AB 2311”) and Senate Bill 1311 (”SB 1311”), were signed into law by Governor Gavin Newsom on September 13 and September 27, respectively, placing new restrictions on the sale of Guaranteed Asset Protection (“GAP”) waivers in California. The new laws limit the price of GAP waivers, add new disclosure requirements, ban GAP waiver sales in certain instances, and prohibit financing of GAP insurance in auto loans to servicemembers.
GAP coverage protects borrowers from the depreciation in their auto’s value in the event of loss by covering the difference between an auto’s insured value and the amount left on a borrower’s auto loan. GAP insurance generally refers to third party insurance purchased by a consumer in a separate transaction from the actual vehicle purchase, typically as added coverage to their auto insurance. A GAP waiver is an optional contractual obligation offered during the financing of an auto in which the seller agrees to waive any amounts still owed on an auto loan in the event of total loss. The two new laws, effective on January 1, 2023, reflect the concerns of consumer advocates, like the California Attorney General, who views GAP waivers as an unnecessary add-on product for many auto buyers.
In that regard, a significant requirement under AB 2311 is a new notice, which must be presented with a heading at least 12-point bold type and with text in at least 10-point bold type, reading as follows:
STOP AND READ:
YOU CANNOT BE REQUIRED TO BUY A GAP WAIVER OR ANY OTHER OPTIONAL ADD-ON PRODUCTS OR SERVICES. IT IS OPTIONAL.
NO ONE CAN MAKE YOU BUY A GAP WAIVER OR ANY OTHER OPTIONAL ADD-ON PRODUCTS OR SERVICES TO GET FINANCING, TO GET CERTAIN FINANCING TERMS, OR TO GET CERTAIN TERMS FOR THE SALE OF A VEHICLE.
IT IS UNLAWFUL TO REQUIRE OR ATTEMPT TO REQUIRE THE PURCHASE OF THIS GAP WAIVER OR ANY OTHER OPTIONAL ADD-ON PRODUCTS OR SERVICES.
In addition to the new disclosure, the new law will:
- Prohibit conditioning the extension of credit, the term of credit, or the terms of a conditional sale contract upon the purchase of a GAP waiver and permit cancellation of the GAP waiver by the buyer at any time without penalty.
- Prohibit the sale of a GAP waiver where the loan-to-value (“LTV”) ratio exceeds the maximum loan-to-value ratio of the GAP waiver, unless the terms of the GAP waiver disclose that limitation and the buyer is informed of that limitation. This provision is similar to the prohibition in the Federal Trade Commission’s proposed Motor Vehicle Dealers Trade Regulation Rule which, among other things, would prohibit an auto dealer from charging for GAP coverage that cannot actually be used by the consumer, such as where the LTV is low and the insurance payout for a totaled vehicle would likely cover any outstanding debt.
- Require prescribed information about the GAP waiver to appear on a document separate from the conditional sale contract, to be separately signed by a buyer or potential buyer.
- Govern termination of a GAP waiver, including the refund of GAP waiver costs on termination.
- Require a statement in the contract that the purchaser is generally entitled to a refund of the unearned portion of the GAP waiver charges on a pro rata basis, as specified.
AB 2311 also allows for recovery of three times the amount of any GAP charges paid by the consumer for a violation by the seller or holder of the sales contract.
The other bill, the Military and Veteran Consumer Protection Act of 2022 or SB 1311, contains several provisions related to servicemembers, including what amounts to a prohibition on GAP waivers by auto finance creditors. Specifically, SB 1311 voids any security interest in a motor vehicle if it would cause a loan procured by a servicemembers in the course of purchasing the motor vehicle to be exempt from the Military Lending Act (“MLA”) and if the loan also funds the purchase of a credit insurance product or credit-related ancillary product. This effectively amounts to a prohibition on GAP waivers for servicemembers because loans made for the express purpose of financing the purchase of a car and which are secured by the car are otherwise exempt from the MLA’s definition of “consumer credit.” 10 USC § 987(i)(6).
For a creditor to provide a loan to purchase a car with a GAP waiver in compliance with the new law, the loan would have to be unsecured and subject to the MLA’s 36% MAPR limitation. Even if a creditor was willing to make an unsecured auto loan, the additional cost of the GAP waiver might push the MAPR above the 36% cap. As a result, it may be tougher for servicemembers in California to finance an auto purchase, and servicemembers who finance their purchases will need to pay higher auto insurance premiums if they want GAP coverage because they will need to get it through their auto policy instead of financing it as part of the purchase.
The American Financial Services Association (“AFSA”) and several other trade associations opposed the bill because it denies servicemembers access to a voluntary protection product that may benefit them. In a letter opposing the bill before it passed, these trade associations also took issue with it as an end-run around Congress’s intent at the federal level in exempting secured auto loans from the requirements of the MLA. In structuring the bill this way, California appears to be going beyond concerns about disclosure, suitability, or cost of GAP waivers (which were addressed in AB 2311), regardless of how the financing of GAP waivers might be treated under the MLA.
Unfortunately, the Department of Defense (“DOD”) seems to have made another U-turn when it comes to the treatment of GAP waivers under the MLA. Initially, the plain language of the MLA and DOD regulations seemed to indicate that a purchase money loan that also financed a GAP waiver would be exempt if secured by the car. In 2017 the DOD issued a “clarifying” Q&A in an Interpretive Rule which stated, amongst other things, that “a credit transaction that also finances a credit-related product or service rather than a product or service expressly related to the motor vehicle or personal property is not eligible for the exceptions under [32 CFR] § 232.3(f)(2)(ii) and (iii). For example, a credit transaction that includes financing for Guaranteed Auto Protection insurance or a credit insurance premium would not qualify for the exception under § 232.3(f)(2)(ii) or (iii).” See December 2017 Interpretive Rule Q&A #2.
However, in 2020 the DOD withdrew that Q&A guidance specific to GAP insurance so that it could further analyze the issue in light of concerns that creditors might not extend credit to servicemembers if they were prohibited by the MLA from taking a security interest in the circumstances described in the guidance. That seemed to signal a potential change in the DOD’s position. Nevertheless, no further Interpretive Rule has been issued and the DOJ, DOD, and the CFPB recently took the position in litigation that a “hybrid” loan, that is, a purchase money loan financing a car as well as a GAP waiver, falls under the MLA and outside of the auto loan exception. In an amicus brief filed in Davidson v. United Auto Credit Corporation, USCA4 Docket 21-1697, the United States has asked the Fourth Circuit to reverse a district court’s finding that the loan in question was exempt under the MLA as a car loan as it was a hybrid loan that included financing for GAP coverage. A decision is still pending on that appeal.