California’s AG defends small-business disclosure law opposed by merchant cash advance lenders

California’s Attorney General Rob Bonta is defending the state’s newly enacted small-business disclosure law that requires merchant cash advance lenders, factoring firms and some fintechs to divulge annual percentage rates to borrowers.

Bonta sent a letter last week to Rohit Chopra, the director of the Consumer Financial Protection Bureau, supporting the agency’s view that California’s law — which went into effect on Dec. 9 — is not preempted by the federal Truth in Lending Act.

The California law mandates that nonbanks disclose the APR, total interest and fees on financings of $500,000 or less.

Rob Bonta, California’s attorney general, is defending the state’s lending disclosure law for commercial loans in court.

Bloomberg News

Bonta submitted the letter in response to a preliminary determination by the CFPB last month that small- business disclosure laws in four states — California, New York, Utah and Virginia — do not run afoul of TILA, the seminal consumer protection law that created the current consumer disclosure regime. But TILA only governs consumer disclosures; there currently are no federal disclosure requirements for commercial loans.

State disclosure laws that protect small businesses are a relatively new concept and only California and New York require that lenders calculate and disclose key terms. The issue is further complicated by the proliferation of short-term, high-cost financing options online, made primarily by nonbanks to small-business borrowers with bad credit. As states have become more proactive in seeking to regulate small-business lending, the lenders have filed lawsuits and floated novel legal theories to gut the state laws.

Bonta wrote in the comment letter to the CFPB that California’s disclosure law “was enacted in 2018 to help small businesses navigate a complicated commercial financing market by mandating uniform disclosures of certain credit terms in a manner similar to TILA’s requirements, but for commercial transactions that are unregulated by TILA.”

He noted that the law went through four years of public notice-and-comment with extensive input from industry. Nevertheless, last month a trade group group of merchant cash advance firms sued California’s Department of Financial Protection and Innovation in what many see as a Hail Mary pass to gut the new law. The Small Business Finance Association, based in New York, sued California’s DFPI Commissioner Clothilde Hewlett alleging that the disclosure law violates nonbank lenders’ free speech rights by forcing them to describe their products to borrowers “in ways that are false and misleading,” according to the lawsuit. 

“The reason for the lawsuit is there are a lot of reasons why APR disclosure doesn’t work for commercial finance products,” said Steve Denis, CEO and executive director of the Small Business Finance Association. “What’s confusing to customers is they don’t understand what APR is and with products with shorter terms it skews the calculation.”

Asset-based lenders and factoring firms allege that calculating an APR is challenging for businesses that pledge receivables for working capital.  They also allege that the state disclosure laws will raise the cost of credit for short-term financing particularly one- or two-week bridge loans for commercial borrowers. Some experts also contend the state are mandating yet another disclosure regime with reams and reams of fine print that borrowers never read.

Bonta is urging the CFPB to further articulate that state laws that require more disclosures than federal law are not preempted. He also said state law should be preempted only where there is an actual conflict with federal law.

“It is vital that businesses and entrepreneurs have the information they need to understand the risks and benefits of borrowing and to have the tools available to find the solution that best meets their needs,” Bonta said in a press release.

California’s DFPI said it tailored the regulations to cover a wide range of financing, from closed-end loans to open-end credit plans, merchant cash advances, asset-based lending, lease financing and factoring transactions. When an offer of commercial financing is made, the funder must disclose the total dollar cost of the financing, and the total cost of the financing expressed as an annualized rate, which means lenders must disclose any finance charge, or estimated finance charge, the annual percentage rate, or estimated APR, depending on the specific commercial financing arrangement.

Lenders allege the regulations will require that they provide information that does not accurately describe the costs of financing. They also claim that the new law prevents lenders from giving prospective customers additional information without the risk of fines, penalties and further liability. 

“The disclosures required under the Regulations, far from providing accurate information that would allow businesses to compare the terms and costs of different financing options, actually require providers to give inaccurate disclosures,” the lawsuit states. 

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