Federal Judge: Legal Challenge to California’s Commercial Financing Disclosure Law Has Merit, Orders SBFA Case to Proceed
April 3, 2023
A federal judge has ordered the Small Business Finance Association’s (SBFA) case against Clothilde Hewlett in her capacity as Commissioner of the California Department of Financial Protection & Innovation (DFPI) to proceed. On March 30, The Honorable R. Gary Klausner denied defendant’s motion to dismiss the claims that the State’s commercial financing disclosure law is both unconstitutional and preempted by the federal Truth in Lending Act (TILA).
The case, originally filed on December 2, 2022, argued, broadly speaking:
- That the regulations violate the First Amendment on the premise that they compel the group’s members to make inaccurate disclosures to customers while at the same time prohibiting members from engaging in communications that could be used to clarify or correct the required false or misleading information to customers.
- That APR is defined and governed at the federal level by TILA and that California’s own customized spin on it would only serve to confuse customers.
The Court has now ruled that these claims have been sufficiently alleged, allowing the SBFA the opportunity to prove its case.
Steve Denis, the Executive Director of the SBFA, told AltFinanceDaily that the win at this juncture was validation for what the organization has been saying for the past few years.
“I think [this victory] is really good news. It’s a lawsuit that the entire industry should be behind,” he said.
The outcome of the case could have far reaching effects. New York, for example, has enacted similarly misleading APR rules that are soon slated to go into effect while other states have contemplated following in its footsteps.
“I think if we win this lawsuit the APR argument is over,” Denis said.
To that end, anyone in the industry that would like further information about what’s taking place can contact Denis at sdenis@sbfassociation.org.
California DFPI Seeks to Dismiss Commercial Financing Disclosure Lawsuit
March 17, 2023Clothilde Hewlett, in her official capacity as Commissioner of the California Department of Financial Protection and Innovation, has asked the Court to dismiss the lawsuit over commercial financing disclosures brought by the Small Business Finance Association (SBFA). Both sides have entered in all their arguments (the DPFI filed its reply on March 13th.) It is now up to the Court to decide if the claims survive this stage of litigation.
Funding Companies Sue California Regulator Over Looming Disclosure Law
December 6, 2022
The alarm bells sounded over California’s commercial financing disclosure law were more than rhetorical bluster. This past Friday, a trade association representing dozens of small business finance companies filed a lawsuit against the Commissioner of the California Department of Financial Protection and Innovation (DFPI) on the basis that the regulations scheduled to go into effect on December 9th are unlawful.
The suit, filed by the Small Business Finance Association, makes two claims.
First, that the regulations violate the First Amendment on the premise that they compel the group’s members to make inaccurate disclosures to customers while at the same time prohibiting members from engaging in communications that could be used to clarify or correct the required false or misleading information to customers. This in part refers to the requirement that funders assign misleading and/or false APRs to purchase transactions while being forced to use language and terminology that contradicts the contracts themselves.
Second, that APR disclosures are defined and governed at the federal level by the Truth in Lending Act and that California’s custom formulas and disclosures would only serve to confuse customers. The SBFA argues that the regulations are “preempted” by TILA.
These controversies, which have been the subject of debate for years, are not new information, but enforcement of the law is finally slated to begin in just 3 days. The complaint argues that compliance with the law may expose its members to civil and criminal liability and thus they are left with no choice but to proceed accordingly. Given the circumstances, however, there does not appear to be hard feelings about the situation.
“The SBFA enjoys a great working relationship with the DFPI and share their commitment to providing meaningful disclosures to small business owners,” said SBFA Executive Director Steve Denis when asked what this lawsuit meant.
He continued:
“We recognize the challenges involved in implementing SB 1235 and appreciate the effort and transparency the DFPI provided during the regulatory process. This is a complex issue and our lawsuit reflects the comments we have made during the regulatory process. We believe there are significant issues with the regulation that not only makes it difficult for us to accurately comply, but are inconsistent, create liability, and will provide further confusion for our small business customers. Again, we appreciate the effort by the DFPI and look forward to continuing our work together as the matter is resolved.”
The actual complaint is available for download here.
The law is scheduled to go into effect on December 9th.
Update on Connecticut Commercial Financing Disclosure Bill
March 28, 2022The Connecticut commercial financing disclosure bill first reported by AltFinanceDaily on March 3rd is still in play. SB272, written similarly to the first draft of the recently passed New York legislation, has been met with both support and opposition.
Supportive
- Connecticut Bankers Association (but with amendments)
- Responsible Business Lending Coalition
- Innovative Lending Platform Association
Opposed
- Electronic Transactions Association
- Revenue Based Finance Coalition
- Small Business Finance Association
At Least One Firm is Leaving New York before Disclosure Law Lands
April 29, 2021
New York MCA firms are in the dark. In January, the governor delayed implementation of the APR disclosure bill until 2022. But the bill leaves it to the Department of Financial Services (DFS) to finalize how it will all work and not everyone is confident the outcome will be positive for business in New York State.
For example, Greenwich Capital, a small business funding company, has decided to move from Manhattan to Hoboken, NJ in preparation for the law. They anticipate that the cost of compliance will be high enough to warrant a trip on the PATH starting now rather than when it may be too late to contemplate later.
“There’s a lot of ambiguity, and our five-year lease was up,” Rich Gipstein, General Counsel at Greenwich Capital, said. “We’ll be moving to Hoboken for the time being and see what’s going on with this law. But in the meantime, it’s a lot cheaper for us.”
Based on vague wording language like double-dipping, Gipstein said there is no clear way to tell who or what the law aims to regulate. At least for his firm, it’s better to sit this one out.
“I think there’s quite a lot left open, and it’s intended to be broad,” Gipstein said. “There won’t necessarily be much time to know what the law means until it’s effective. I think there will probably be some lead time, but likely not quite enough for most businesses in the industry to adapt.”
For example: when does a deal become a “specific offer” and come under the purview of the law? In an industry where deals are won through cold calling, social media blitzes, and emails, when would it become necessary to disclose an APR? In a DM on LinkedIn? Rich said it is unclear what a “provider” is, whether it be funders, brokers, or ISOs. In the bill, a provider is required to make commercial financing disclosure clear and let a recipient know at the time of the “specific offer” the all-inclusive rates of a product. Without clarity, it’s hard to predict what the cost of compliance will be.
“I think, from my reading of it and from my understanding of New York’s position, it would seem that they are trying to regulate both funders and brokers under the same regulation,” Gipstein said. “I think it’s possible that the legislature intentionally left some things vague for DFS to fill in. The law basically says, ‘there’ll be regulations that will make this make sense.'”
Gipstein said it’s common for politicians to leave it to the regulators to finish the job, after all, the DFS has its nose to the grindstone in the day-to-day. But when a law affects an entire industry like this, Gipstein said it is uncommon for changes to be left until the last moment.
“It’s more than just disclosure requirements; this is not similar to what California did,” Gipstein said. “The law also dictates how to calculate the projected sales volume. You’re required to either use the historical method, in which you must always use the same number of months leading up to the deal, or you can opt-out and use your own projection. But if you use your own projection, that opens you up to disclose the results of all your deals to the government… It’s almost like an annual audit.”
The historic method doesn’t really work, Rich said when the industry comprises atypical merchants who wouldn’t be looking for funding if traditional methods could predict their sales volume. When it comes to self-declaring and letting the government poke around: Gipstein said the way a funder evaluates deals is proprietary. It’s what sets them apart; it’s the value proposition.
Greenwich Capital isn’t alone in their assessment. The Small Business Finance Association (SBFA), a trade group comprised of similar financial companies, has also been vocal about the law’s perceived shortcomings.
“You have a group of companies that are pushing these types of disclosures, for no reason other than their own self-interest,” said Steve Denis, executive director of the SBFA, back in October. “We’re fine with disclosure, we are all for transparency, but it needs to be done in a way that we believe is meaningful to small business owners.”
Denis had further said that those firms taking credit for writing the laws are the same companies that will end up suffering under the strict tolerance of an APR rule.
“The companies pushing this, the trade associations pushing it, they like to take credit for writing the bill in California and writing the bill in New York: I don’t even think they’ve read it,” Denis said at the time. “It’s going to subject their own members to potentially millions if not hundreds of millions of dollars in potential liability [fines.]”
When the DFS finalizes the terms, it will likely make dealing with disclosure too costly to remain in New York State, Gipstein said.
Gipstein said we’ll have to wait and see if NY-based brokers will have to go through extra compliance even if their funders or merchants are out of state. The worst-fear scenario is a possibility that after New Years’ 2022, out-of-state funders will stop working with NY brokers entirely, just because they live in NY. Merchants in the state, subject to the law, may find commercial finance a barren marketplace.
“We’ve got a lot of different things to manage as we grow, and one of the things we don’t want to do is create is a large compliance department,” Gipstein said. “It’s just cheaper for us, after doing a cost-benefit analysis, to move to a different state. We’re probably not going to be a New York funder by 2022.”
Industry Ponders: Broker Blacklisting, or Certification?
April 5, 2021
It’s a concept that’s been thrown around the industry for years- swapped like business cards at meetups, conventions, and chatrooms. Shouldn’t there be a broker certification, database, or even blacklist for known bad actors?
As AltFinanceDaily petitioned the question, the industry responded with its naturally diverse responses. The problem: bad actors can keep getting away with shenanigans. The solution? Well, no one size fits all approach could work in the alternative finance industry, but a certification source may do the trick.
CEO of FundFi, Efraim “Brian” G. Kandinov, recently brought up the idea of a “Datamerch for Brokers.” Like a DNC list, Kandinov said there has got to be a way to sort out the known bad actors, scam artists, and even the brokers that play the funding houses by training merchants.
“I think opposed to a blacklist: a list that notes bait and switches, where the merchant was coached by the broker,” Kandinov said. “This way can go around a lawsuit or any fear of that, and the funder is free to choose once reading others’ notes.”
Kandinov said that most of his “problem files” show signs of brokers coaching merchants to start protesting deals after the clawback period ends. Get paid, pass the smell test during a 30-60 day waiting period, and then tell the merchant to jump ship on the deal or argue to lower the payments.
“If they were not [suddenly going out of business], they were calling in like a schedule to lower their payments. No way it can be that uniform unless they were being coached. The broker comes off as the good guy that he played the funding houses,” Kandinov said. “I think harsh means are necessary to expel these guys from the industry.”
Other funding side members of the industry have voiced their support for some type of broker record database. Kristen Ferrara, Director of Underwriting at The LCF Group based in New York, said that LCF pays a high expense to select ISOs. A vetting platform could be a great resource.
“I think it would be a good resource for funders,” Ferrara said. “We turn down about 50% of the ISOs who try to sign up with us. This resource could save funders millions of dollars in deals going bad from ISOs over-promising or committing fraud.”
On the other side of the country in San Diego, CEO David Leibowitz from Mulligan Funding said he is all for a way to help funders vet brokers. Mulligan is lucky to work with a trusted brokers network and drops a client like a broken elevator at the first sign of fraud or unethical behavior, he said.
“We are extremely careful about which brokers we do business with. If we see any kind of practice that we think is unethical, we’ll cut a broker loose in a heartbeat,” Leibowitz said. “Is there value in the sort of thing you’re talking about? I think there probably is because I think it makes vetting brokers for [funders] a lot easier, and it also allows brokers to differentiate themselves against their competition by their ethics.”
Leibowitz is a proponent of ethics as an indicator of value and said a certification could help members of the public tell the difference between good and bad funders and let funders spot good ISOs and bad ISOs.
A worry for some is that whatever company, organization, or site that hosts a broker ledger could face lawsuits for liability, could accept payments to make bad reviews go away, list competitors to hurt them, or be outright ignored by an industry always hungry for deals.
But industry lawyers seem to agree that a broker certification or blacklist would ultimately benefit the industry if provided from the right source. Patrick Siegfried, the Deputy General Counsel at Rapid Finance, said that whatever agency would be rating brokers would need its own trusted reputation.
“To have a legitimate background or rating system, it needs to be done by an independent third-party that has its own credentials,” Siegfried said. “I think that’s a big reason you don’t see many third-party or private rating systems.”
Siegfried said one option that ensures a true third-party point of view is a government agency taking care of a broker tracking system. Another option would be an industry coalition, but then it’s a question of cost- Who is paying to staff and maintain a complaint system?
“At the end of the day, having a good industry regulator is a benefit for the industry,” Siegfried said. “It will allow a third-party, government entity to vet brokers in terms of licensing and then maintenance, looking into valid complaints.”
As conversations across the country point toward a licensing regime, Siegfried said it’s a sign the industry is maturing and that one day there will be a government agency to lodge complaints with and to actually vet brokers in the space.
Steve Denis from the Small Business Finance Association (SBFA) proposed a solution to the issue. He said that in the works right now is an SBFA-sponsored certification program.
“We started just looking at brokers and thinking about how to certify them,” Denis said. “We think that it’s the time, from the feedback we’ve gotten from regulators, that we launch a true industry-wide certification.”
In the coming months, brokers may be able to apply for certification when the program rolls out. Instead of a ‘blacklist,’ Denis said brokers could set themselves apart as trusted providers by going through a basic background test or industry knowledge checks.
“If you’re a broker and you can’t get certified, then there’s probably some issues,” He said. “So our hope is if you carry a certification, that’s sort of a message that you are a good broker.”
When it comes to government regulation, Denis said he is still cautious. While he 100% expects certification programs to crop up for state licenses, he thinks no government agency can achieve what an industry coalition can do.
Steve Denis, SBFA on Why Maryland MCA Bill Failed
March 22, 2021
“In a lot of these places, a lot of the bills are well intended, believe it or not,” Steve Denis, executive director of the Small Business Finance Association, said. “Legislators just don’t understand enough about our industry to understand the nuances. We’ve worked really hard educating policymakers in Maryland, and frankly, they now understand our industry better.”
Denis was referring to the nearly unanimous canning of Maryland’s MCA “Prohibition” bill last week. The bill failed to get enough support to leave the committee, blocked by a 19 to 3 vote against bringing the law out to the House floor. Denis, a proponent of the MCA and alt financing industry for years, said it was due to legislators understanding the need for capital “out there during the pandemic” and how harmful an APR cap could be for both business owners and the broker industry.
The law was originally proposed last year before covid shutdowns, but that also failed to make it to the floor. It now appears to be an annual event.
“Our goal as an organization is to make sure that small businesses have access to all different types of financial products and that we believe that small businesses are in the best position to make good decisions for their businesses,” Denis said. “The bill in Maryland narrowly targeted MCA products, and as you know and a lot of folks in the industry know, that sometimes MCA is in the best interest of the business, there’s a lot of benefits to an MCA.”
Denis punctuated his statement with the mantra- we were not out of the woods yet. An APR disclosure bill was just introduced in the Connecticut State Senate last month, modeled off the New York APR bill set to go into effect this year. Denis was hopeful the legislators could learn from speaking to industry interests and change their course like in Maryland.
“We are engaged, I think we’re in a good spot. With any of these bills, Maryland, Connecticut, I caution you know we’re not out of the woods yet,” Denis said. “We still want to work really closely with policymakers. We’re for meaningful disclosure, we think there needs to be some guardrails on our industry, but I think that the most important thing we can do is continue to educate folks in states.”
Connecticut Introduces Commercial Financing Disclosure and Double Dipping Bill
March 20, 2021
Ever since New York State Senator George Borrello famously questioned the meaning of “double dipping” in a commercial financing transaction, states have rushed to include the term in proposed laws despite no one knowing exactly what it means.
The latest state is Connecticut, which introduced SB 745 in February, an “Act Requiring Certain Financing Disclosures.” It is essentially a copy & paste of New York’s recent law which is slated to go into effect in June.
The Connecticut bill similarly applies to factoring, merchant cash advance, business lending and more. It was introduced by State Senator Saud Anwar (D).
A hearing held on March 2nd, drew testimony from the Commercial Finance Coalition, Small Business Finance Association, Electronic Transactions Association, Innovative Lending Platform Association, and Secured Finance Network.
If the bill passes, it is designed to go into effect in October of this year.
