Online Lenders Beware—CashCall Decision another Example of True Lender Risks
By Tom Brown, Lawrence D. Kaplan, Gerald Sachs & Kristin S. Teager
A recent decision by the United States District Court for the Central District of California, which challenged the business model of an online lender that sought to avail itself of preemption by lending through association with an Indian tribe,
In CashCall, the Consumer Financial Protection Bureau (the “CFPB”) challenged CashCall’s most recent structure to offer consumer loans. The structure involved CashCall marketing, processing, and servicing loans for which the loan documents denominated Western Sky Financial, an entity associated with the Cheyenne River Sioux Tribe, as the lender. By using Western Sky, CashCall sought to export Tribal laws nationwide, preempting state licensing statutes and usury limits, in order to offer high-rate loans. In resolving cross-motions for summary judgment, the court found that although Western Sky was listed on the loan documents as the lender of record, CashCall was the de facto or “true lender” based on the court’s review of the “totality of the circumstances.”
The business model that the CashCall court criticized relied upon a structure commonly used by many online lenders, in which an online technology platform partners with a state or federally chartered insured depository institution, which is listed on the loan documents as the creditor. This structure allows a nonbank, without state lending licenses, to solicit consumers across the country for loans extended by the bank. Loans extended by the bank have interest rates based on the laws of where the depository institution is located rather than where a borrower resides.
The CashCall court found that as structured between CashCall and Western Sky “the entire monetary burden and risk of the loan program was placed on CashCall, such that [it], and not Western Sky, had the predominant economic interest.” The court specifically noted that CashCall pre-funded for Western Sky two days’ worth of loans, purchased every originated loan after waiting a minimum of three days after the loan’s closing, guaranteed a minimum purchase or payment amount, and agreed to entirely indemnify Western Sky from any civil, criminal, or administrative liability associated with its loans. The court ignored the fact that Western Sky still bore the burden and liability of the loans should CashCall not have fulfilled its contractual obligations.
The court also found that the Cheyenne River Sioux Tribe did not have a substantial relationship with CashCall’s consumers, and as such, public policy favored the state usury laws of those consumers’ home states. Thus, the court held the Tribal choice of law provisions of the loans should be invalidated, and that the usury and licensing laws of the borrowers’ home states should be applied to the loan contracts. The effect of this ruling was that some loans originated pursuant to CashCall and Western Sky’s arrangement violated state law, rendering them void or voidable and thus uncollectable. Furthermore, the court accepted the CFPB’s novel argument that CashCall’s servicing of these uncollectable loans was a deceptive practice in violation of the Dodd-Frank Act’s prohibition against unfair, deceptive, and abusive acts and practices,
This case follows upon a 2014 West Virginia case also involving CashCall.
paid the bank for more than the amount actually financed on each loan;
agreed to purchase only the loans that complied with CashCall’s underwriting policies;
agreed to indemnify the bank for claims including those asserted by borrowers; and
in accounting reports, treated the loans as if they were funded by CashCall.
In balancing these factors, the court held that CashCall, and not the bank, was the true lender, and as a result, CashCall was found to have violated West Virginia’s usury laws.
More recently in Commonwealth of Pennsylvania v. Think Finance,
Each of these decisions materially differ from the findings in Sawyer v. Bill Me Later,
It is not uncommon for commercial contracts to assign counter-party risk, guarantee minimum purchases or payments, require the purchase of receivables, and entail some good faith payment or deposit. Although the CashCall court has drawn a somewhat more clear line regarding these issues—at least in the Central District of California—there appears to be several common denominators with respect to cases in which the nonbank is deemed to be the “true lender,” including that the underlying loans have high interest rates. While high interest rate loans serve a purpose in the consumer lending market, these loans have been subject to significant regulatory criticism, which appears to be more based on moral outrage than market economics.
As is the trend with the CFPB, at least as it applies to nonbank entities, the Bureau sought to hold CashCall’s shareholder directors and officers personally liable for corporate acts, and upon the CFPB’s request, the court held CashCall’s sole shareholder liable for the deceptive practices, because as the chief executive officer he either knew or was recklessly indifferent as to the misrepresentations to consumers. The culmination of these rulings raises the stakes for online lenders and increase the potential costs if a court were to find that nonbanks typically act as true lenders in bank/nonbank lending partnerships.
Notable Information and Action Items
The CashCall and Think Finance cases should not be viewed as a game-changing event nor the end of online lending as we know it involving banks and nonbanks. The CashCall and Think Finance cases, however, underscores the importance of continually evaluating regulatory risk as your business model changes—especially in today’s ever changing regulatory environment.
Nonbanks in contractual relationships with depository institutions must ensure that their lending counterparty shares in the risk of the loan—beyond mere contractual obligations.
In contractual relationships where the nonbank purchases loans originated by the bank, a longer period of retention is always better to document how a lender shares in the risk of the loans.
Given the CFPB’s broad jurisdiction and increased interest in holding individuals responsible for corporate activity, shareholders, directors, and officers must carefully be involved in structuring their lending and relationships to mitigate structures that could be deemed to be deceptive practices.
Online lenders must be aware that CFPB coordination with state attorney generals to ensure compliance with state consumer protection laws and is likely to continue this practice in the future.