March 23, 2020

Small Business Lending Issues—Complying With New Laws That Require Consumer Type Disclosures

Lindsay P. Valentine

On January 1, 2019, a law in California went into effect that requires “providers” of “commercial financing” to furnish certain disclosures to “recipients” at the time of extending a specific offer of commercial financing. On May 1, 2019, the New York State Senate introduced Senate Bill 5470 (“SB5470”), which would require similar commercial financing disclosure requirements. Financial service providers subject to the California law should take a proactive compliance approach and consider providing the disclosures to recipients of commercial financing made in all the states in which the financial service provider funds loans and advances, as other states may follow California’s lead and pass similar laws.

Applicability of the California Commercial Financing Disclosures Law

Under the California law, “providers” is defined as a person who extends an offer of commercial financing to a recipient. A nondepository institution that enters into a written agreement with a depository institution to arrange for the extension of commercial financing by the depository institution to a recipient via an online lending platform administered by the nondepository institution is a provider under the law. Commercial financing is an accounts receivable purchase transaction, including factoring, asset-based lending transaction, commercial loan ($5,000 or more), commercial open-end credit plan or lease financing transaction intended by the recipient for use primarily for other than personal, family or household purposes. A “recipient” is a person who is presented a specific commercial financing offer by a provider that is equal to or less than $500,000.

The law exempts certain named entities or transactions, including (i) a provider that is a depository institution (i.e., a federally chartered or state chartered bank, savings bank, savings and loan association, or credit union); and (ii) a commercial financing transaction secured by real property. Although a bank may be exempt from the law, some of its service providers may not be exempt because the definition of “providers” includes some of the bank’s intermediaries.

Thus, unless a financial service provider is a depository institution or is providing commercial financing in amounts greater than $500,000, the financial service provider will be subject to the California Commercial Financing Disclosures law if it makes commercial financing offers.

California Commercial Financing Disclosure Requirements

Before a provider may consummate a commercial financing transaction, the California law requires the provider to disclose the following information to a recipient, as well as obtain the recipient’s signature on the disclosure, at the time of extending a specific commercial financing offer to that recipient: (i) the total amount of funds provided; (ii) the total dollar cost of the financing; (iii) the term or estimated term; (iv) the method, frequency and amount of payments; (v) a description of prepayment policies; and (vi) the total cost of the financing expressed as an annualized rate. The law also sets forth alternative disclosure requirements for providers offering financing that is factoring or asset-based lending. The only difference between the alternative disclosure is that it requires the provider to disclose the “amount financed” in place of “the total amount of funds provided” required under the first set of disclosures.

New York’s Commercial Financing Disclosure Bill

In its current form, the New York legislation is strikingly similar to the California law; it sets forth the same exemptions and separate disclosure requirements for a provider extending an offer (i) in an accounts receivables purchase or future receivables purchase transaction, (ii) for a commercial loan, and (iii) of a commercial line of credit.

The disclosure requirements in SB5470 are more detailed and vary slightly from the California law. For example, the New York legislation requires a provider extending an offer of a commercial loan to provide the following disclosures: (i) the amount financed; (ii) the disbursement amount; (iii) the total repayment amount; (iv) the total cost of the financing, expressed as a dollar cost; (v) the annual percentage rate; (vi) the term of the financing; (vii) the payment amounts; (viii) a description of all other potential fees and charges that can be avoided by the recipient; (ix) prepayment charges; and (x) a description of any collateral requirements or security interest. The proposed legislation also does not include a financing amount limitation in the definition of “recipient.” Thus, as drafted, the New York legislation will apply to all commercial financing offers, regardless of the amount offered.

FTC Small Business Financing Forum Staff Perspective

On February 26, 2020, the Federal Trade Commission (“FTC”) issued a staff perspective that highlights key issues in small business financing that were discussed at a May 2019 FTC “Strictly Business” public forum. The staff perspective highlighted that because a wide variety of products are being offered in the current small business lending marketplace, inconsistent information and disclosures of key terms are being provided to business owners. Many of the forum participants expressed concern that finance providers use widely differing methods for calculating and describing key features of their products, impeding small business owners’ ability to make apples-to-apples comparisons and understand the central features of the financing product. The staff perspective concluded that small business consumers would likely benefit from more uniform and understandable financing disclosures to help them compare the costs and other features of products in the small business financing marketplace. The staff perspective noted that the forum panelists disagreed about which methods for calculating costs would be most relevant and understandable to include in such disclosures.

Compliance Date for the Commercial Financing Disclosures

The California law requires the Commissioner of the Department of Business Oversight (“DBO”) to adopt regulations governing these disclosure requirements, including regulations regarding the specified information to be provided and how this information should be determined. A provider is not subject to the new requirements until the regulations are adopted and become effective. The DBO did issue proposed regulations to implement the law and the comment period for such proposed regulations ended September 9, 2019. The DBO is likely to issue revised proposed regulations incorporating comments received, which could lead to another request for comment. Otherwise, the DBO may start the formal rulemaking process.

The New York legislation is currently in the committee system with the New York Senate Committee on Banks. After consideration, the committee may either report the bill to the full Senate for a vote, amend the bill, or reject it. If passed into law, the legislation takes effect immediately. The disclosures required under the California law and SB5470 are the first of their kind. The disclosures are similar to those required to be included in consumer credit agreements under the federal Truth in Lending Act and other state consumer lending laws. Financial service providers should either take a proactive compliance approach and provide these disclosures to recipients of commercial financing made in all of the states in which the financial service provider funds loans or advances, or financial service providers should monitor whether other states propose and enact similar legislation and adjust state disclosures accordingly.

 

Lindsay P. Valentine

Dreher Tomkies LLP

Lindsay P. Valentine is an associate with Dreher Tomkies LLP and practices in all areas of the Firm's practice, specifically addressing federal and state regulatory compliance issues with respect to consumer and commercial lending. This Article represents the views of the author and not the firm with which she is associated. She can be contacted at lvalentine@dltlaw.com.