JTH, doing business as Liberty Tax Service, unsuccessfully
appealed from a large judgment against it, awarding the people of the state of
California about $1.169 million in civil penalties, ordering Liberty to pay roughly
$135,000 in restitution, and permanently enjoining Liberty in several ways for
violating state and federal lending, unfair competition, consumer protection,
and false advertising laws. I won’t
discuss the federal Truth In Lending Act claims.
Liberty provides tax preparation and related loan services (refund
anticipation loans and “electronic refund checks”), with 195 franchised stores
in California, and two company-owned stores during part of the relevant period,
all doing business as Liberty Tax Service.
The AG’s lawsuit claimed that Liberty and its franchisees made
misleading or deceptive statements in ads, and also had inadequate disclosures
on Liberty’s RAL and ERC applications about various costs/risks to
consumers. Liberty made a lot of money
from RALs and ERCs, including in California; it got percentages or flat fees
from the banks with which it worked, and RALs and ERCs also cross-subsidized
its tax preparation services, which was important because many of its customers
couldn’t afford to pay for them out of pocket.
The trial court found that Liberty’s handling fee charged to
ERC customers was an undisclosed finance charge in violation of TILA (since an
ERC was a form of credit allowing delayed payment for tax preparation
services), and that the failure to disclose this also violated the UCL and FAL.
Second, the trial court found that using “cross-collection” to collect tax
refund loan debts from prior transactions, including non-Liberty transactions,
was deceptive, unfair, and illegal.
(This could occur when consumers’ prior RALs were larger than the
refunds they ultimately received; because a RAL was a loan, they remained potentially
liable on the debt.) Third, the trial
court found that certain print and TV ads were likely to deceive within the
meaning of the UCL and FAL; Liberty was liable for its own ads and those placed
by California franchisees. Among other
things, Liberty was enjoined from directly or indirectly representing a RAL as
an actual refund, and from failing to state conspicuously that the product is a
loan and including the name of the lending institution and the fee or interest
it will charge.
The court of appeals upheld the determination that Liberty’s
cross-collection practices violated multiple state laws along with the federal
Fair Debt Collection Practices Act (FDCPA).
Liberty waived its arguments about the fraudulent and unfair prongs of the
UCL and about the FAL, so the court didn’t need to reach other bases for
liability. Liberty was responsible for
bringing customers to the banks, soliciting loan applications and getting
consumers to sign applications that authorized cross-collection. These authorizations covered any unpaid RAL
debts, whether owed to Liberty or to anyone else, and whether the debt was
stale or otherwise uncollectable. The
trial court found that both unsophisticated and reasonable consumers were
unlikely to recall the details of such debts, particularly those “incurred far
in the past and perhaps in connection with a loan issued by a different lender
and/or obtained through a different tax preparer.” Consumers had no meaningful notice of whether
there was a claim against them before they authorized the cross-collection;
they thus lost the right to dispute the debt, and thus the practice was
deceptive, unfair, and in violation of the FDCPA. The cross-collection authorization “appeared
on the second or third pages of lengthy and complex contracts that on their
face had nothing to do with debt collection, making it unlikely that applicants
would read and understand the significance of the information.”
The trial court found that Liberty had wrongly attempted to
collect an extant debt as to 118 customers from 2002 to 2005 and imposed
$118,000 in civil penalties under the UCL and FAL, given that the violations
were serious, persistent, and long-standing.
Even if Liberty’s construction of the state and federal FDCPA and the
CLRA were correct and its conduct was not “unlawful,” it didn’t address the
trial court’s finding that Liberty’s practices were fraudulent and unfair.
Liberty also challenged its liability for franchisee
advertising. The district court
explained that a franchisee can be a franchisor’s agent, depending on the
extent of the franchisor’s control.
Franchisors face “the Scylla of failing to exercise sufficient control
to protect their marks, and the Charybdis of exercising so much control they
are vicariously liable for the torts of the franchisees or other licensees.” (It’s not clear to me why this is Scylla and
Charybdis: in seeking the benefits of franchising, franchisors of course don’t
want to be responsible for their franchisees’ bad behavior, but why should the
legal system honor that desire while still deeming them in total control of
their marks?) Anyway, the trial court
determined that its agency inquiry had to focus on “the extent to which the
control reserved to the franchisor plainly exceeds that required to police the
mark, which is control so pervasive that it amounts to complete or substantial
control over the daily activities of the franchisee's business.”
This was the right standard.
Though a couple of other cases have said that “vicarious liability”
isn’t available in an action for unfair business practices, the key case with
that language involved only “reverse vicarious liability,” meaning that
“officers and directors are not automatically (vicariously) liable for the acts
of the company that employs them.”
The trial court pointed to Liberty’s operations manual,
which showed a right of control far in excess of that needed to police the
mark:
Liberty required franchisees to
offer RAL's and ERC's via banks mandated by Liberty; prohibited franchisees from
offering products and services without Liberty's permission; mandated
franchisees' minimum operating hours, computers to be used, and day-to-day
tasks such as how to open the store and when to clean the bathrooms; reserved
the right to intervene in disputes with customers, including the right to pay
refunds directly to customers and bill the franchisees for them; required
franchisees to commit to maintaining Liberty's prescribed filing system and the
setup for the tax return processing center; and controlled franchisee pricing
by controlling the discounts franchisees could offer at different times of the
year.
The trial court also emphasized Liberty's “particularly
extensive” right of control over franchisee advertising, which Liberty used to
not only protect its marks, “but also to dictate business strategy to
franchisees.” For example, it controlled
discounts because of its beliefs about customers’ price sensitivity over time,
and barred certain advertising as “a waste of time and money.” The operation manuals provided detailed
advertising instructions divided by time of year; mandated extensive
pre-approval; and provided samples. Liberty
was “literally providing a detailed, step-by-step guide for every aspect of
marketing and advertising.” Further, Liberty retained an open-ended right to
modify the manual without franchisees’ consent; its essentially complete
control over operations, specifically over advertising, exceeded that
reasonably necessary to protect the mark.
Thus, at least for purposes of advertising, Liberty’s franchisees were
its agents.
As a result, Liberty was responsible for more than 100
illegal ads by Liberty franchisees, including 43 ads that falsely promised
“most refunds in one day” or a variation on that theme, including four specifically
approved by Liberty, and 67 ads that unlawfully omitted mandatory bank name and
lender fee disclosures.
The court of appeals approved the trial court’s
reasoning. Liberty argued that it didn’t
exercise day-to-day operational control and that franchisees were solely
responsible for training, hiring, firing, and supervising their employees;
outfitting their offices; complying with all laws; and choosing how many
offices to operate. They also had
discretion to select among marketing methods, design ads subject to Liberty’s
approval, and pick a marketing budget.
This wasn’t enough to save Liberty under California law; it wasn’t
essential that the right of control be exercised or that the principal actually
supervise the agent’s work. The
existence of the right established the agency relationship.
It was true that the franchisor-franchisee relationship
allows certain controls to protect the franchisor’s marks and goodwill without
transforming the relationship into one of agency. But it was also true that the franchisor’s
“unique interests” don’t remove agency liability “if the franchisor exercises a
right of control that goes beyond its interests in its marks and goodwill.”
This was a question of fact, and the trial court articulated the correct
standard. Since there was substantial
evidence to support its findings, they would not be disturbed.
Liberty required preapproval of all ads, which it used not
just to protect its marks and goodwill but also to control business strategies
and tactics; there was evidence that it rejected certain ads for being
inconsistent with its pricing strategies.
The trial court specifically found that Liberty controlled RAL- and
ERC-related ads and disclosures.
Rejecting ads because it was “good for business,” as Liberty argued,
wasn’t coextensive with “protecting the goodwill in its mark.” The court of
appeals wouldn’t reweigh the trial court’s conclusions.
In another case, the California Supreme Court suggested in
dicta that a Ford dealer might not be responsible for a salesperson’s false
statement if it showed that “it made every effort to discourage
misrepresentations; had no knowledge of salespeople's misleading statements; and,
when so informed, refused to accept the benefits of any sales based on
misrepresentations and took action to prevent a reoccurrence.” Liberty argued that it qualified for this
“exception,” but the discussion in the Ford
case indicated that this was a question of fact for the trial court, and the
undisputed facts did not show that Liberty made “every effort” to discourage misrepresentations.
Though its manual prohibited use in any advertising of the
phrases “instant refund” or “refunds in 24 hours,” the evidence indicated that
Liberty became aware of the unapproved ads “sort [of] by happenstance” and
didn’t then put a system in place to monitor them, for example by checking
Pennysaver, the publication where the unapproved ads were showing up. There was evidence that it let the problem
slide for 2 years, while dozens of ads began appearing in Pennysaver that
improperly promised such things as “Most Refunds in One Day,” “Get $1200 in
Minutes ... And the Rest of Your Tax Refund in 24 Hours,” “Most Refunds in 24
Hours” and “Got W–2? 24 Hour Refunds.” After an early low-level contact with
Pennysaver failed, Liberty didn’t reach out to a senior executive until six
months after the AG found the illegal ads and two months before trial. Liberty argued that it took reasonable steps,
but that wasn’t what the Ford exception
would require, which was “every effort.”
The court of appeals then affirmed the civil penalties under
the UCL and FAL. The penalty for each
violation can’t exceed $2500 (though the UCL and FAL penalties are cumulative),
but what counts as a “violation” depends on the facts and circumstances. The
trial court’s ruling on this is reviewed for abuse of discretion. Each copy of a newspaper shouldn’t count as a
“violation,” because that could easily lead to outsize liabilities. But a single edition of a newspaper isn’t
necessarily, as a matter of law, a single violation either. Instead, a single publication constitutes a
minimum of one violation, with as many additional violations “as there are
persons who read the advertisement or who responded to the advertisement by
purchasing the advertised product or service or by making inquiries concerning
such product or service.” This is
reasonably related to the gain or opportunity achieved by disseminating a
deceptive ad. Expert testimony and
circumstantial evidence could provide the necessary proof. Other factors bearing on the determination
include whether the misrepresentations were intentional or negligent, the
medium’s circulation, the nature and extent of public injury, and the
advertiser’s size and wealth.
Liberty argued that the trial court imposed excessive
penalties based only on gross circulation for print publications and Nielsen
ratings for TV shows. However, the People’s
expert provided a reasonable basis for calculating how many people actually saw
the ads, and even for showing that viewers saw the deceptive ads multiple
times; the district court didn’t impose penalties for multiple viewings. Given that the ads aired 1829 times, the
maximum penalty could have been over $9 million; $715,344 was reasonable. Anyway, Liberty’s arguments would essentially
require proof of each individual who saw an illegal TV ad, which would defeat
the purpose of the civil penalty.
The court reasoned similarly with respect to penalties
imposed for Pennysaver ads mailed to homes.
The trial court didn’t rely on gross circulation figures, but used a
fraction of circulation as a proxy—here .0088 for Liberty-approved Pennysaver
ads, and .0044 for ads for which Liberty was vicariously liable. The resulting figure of nearly $1 million was
then reduced to $50,000 because the initial calculation was grossly
disproportionate to Liberty’s role and the harm inflicted. Still, there was circumstantial evidence to
support this penalty. Liberty’s
marketing department and its franchisees considered Pennysaver to be
particularly effective at reaching its target audience, and many of the illegal
ads appeared on the front cover, increasing the chances they’d be read. And Liberty didn’t provide a better means of
calculation.
The court of appeals also upheld the injunctive relief
ordered by the trial court, which was designed to “address Liberty's failures
not only to educate its own internal staff on the legalities of advertising,
but its failure in controlling its franchises.” Liberty was required to discipline employees
with escalating sanctions for violating the requirements, as well as to give
franchisees written warnings and order them to pay $15,000 fines to the AG for
a second violation, then terminate them for a third. It was further required to audit at least 10
California franchisees each year, monitor Pennysavers to make sure franchisees
are complying with the law, and notify California franchisees during tax season
reminding them of their obligations.
A court has the power to order “necessary” relief, and its
discretion is broad; the court of appeals found no abuse of that discretion
here. Liberty argued that a franchisee
that inadvertently violated the law once by using an insufficiently conspicuous
disclaimer, and then did so again 15 years later, could be required to pay the
fine. The court was unimpressed by this
speculation. Liberty also argued that it
didn’t have the contractual right to fine franchisees (and that the fine was
six times the penalty available for a single violation of the UCL or FAL).
But the trial court found that the violations were serious
and persistent. Liberty didn’t devote
enough resources to monitoring franchisee ads, even though it knew it had a
problem with unapproved and illegal ads in Pennysaver in particular. As to one illegal TV ad, Liberty’s chief marketing
officer testified that she’d still approve it for use in California. An injunction was needed to address Liberty’s
failure to educate its internal staff and its failure in controlling
franchisees.
Liberty complained about the permanence of the injunction,
but the court maintained jurisdiction.
Liberty could apply for modification or termination as appropriate.
Then, Liberty argued that the injunction didn’t give
reasonable notice of what conduct was prohibited because Liberty would have to
draw legal conclusions about whether a franchisee’s ad disclaimer was
“conspicuous.” But conspicuousness is a
requirement that provides sufficient notice, and a more specific order wouldn’t
be feasible, since conspicuousness can vary with an ad’s size, color, placement,
and design.
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