While Tempting, Lending Loopholes Could Lead to UDAAP Traps
The Consumer Financial Protection Bureau's recent victory against an online loan servicer serves as an important lesson both as to the CFPB's expansive use of Unfair, Deceptive or Abusive Acts or Practices and the risks associated with joint ventures as well as the mini-correspondent model. Lenders that find loopholes or technicalities contradicting the clear intent and spirit of the laws are subject to UDAAP — the trump card the CFPB can use at any time.
CashCall Inc. created a subsidiary, WS Funding LLC, organized in and under the laws of a Native American tribal land. By virtue of being subject to the tribal land laws, it was able to avoid usury laws of various states, even though CashCall was otherwise subject to these statutes.
However, according to the ruling from the U.S. District Court for the Central District of California, the manner in which CashCall organized the subsidiary rendered CashCall the real party with financial interest. For instance, CashCall provided lines of credit for WS Funding to make payday loans and bought and serviced all of the loans made by the WS Funding.
Further, CashCall was required to make certain minimum payments to the subsidiary and it dictated the underwriting terms. CashCall also reimbursed the subsidiary for marketing and other expenses and provided customer support services.
The CFPB brought suit alleging that CashCall, and not its wholly owned subsidiary, was the real party in interest because it ultimately bore the full economic risk of the loans.
In other words, the subsidiary was from an economic perspective a pass-through entity with little risk, created solely for the purpose of avoiding state usury statutes.
Hence, the applicable choice of law was not the tribal land laws as reflected in the agreements consumers signed, but rather state laws with usury statutes. This misrepresentation, the CFPB claimed, was an unfair, deceptive act or practice.
The federal court agreed. It determined that CashCall was the de facto lender. Further, it determined that the borrowers' state of residence had a far greater interest in the lending activities than the tribal lands' interest therein and that public policy favored the CFPB's potion.
What is notable about the case is that the CFPB in essence utilized UDAAP to address what at its core was an effort to circumvent state consumer protection laws. While in the most technical sense CashCall had legally constructed a means of avoiding usury statutes, the CFPB effectively blew through this effort by using UDAAP as a catch-all to address behavior that the CFPB found impermissible.
More specifically, the Court's analysis on the relationship between CashCall and its subsidiary should be highly instructive to companies in or considering joint ventures or mini-correspondent relationships.
When the parent dominates the subsidiary, making the subsidiary little more than an extension of itself and placing all economic risk on the parent, there is a legitimate chance that the parent company can be treated as the de facto lender.
Ari Karen is a partner at Offit Kurman and CEO of Strategic Compliance Partners.