BILL ANALYSIS                                                                                                                                                                                                    Ó



                                                                     SB 197


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          SENATE THIRD READING


          SB  
          197 (Block)


          As Amended  June 25, 2015


          Majority vote


          SENATE VOTE:  36-0


           ------------------------------------------------------------------ 
          |Committee       |Votes|Ayes                  |Noes                |
          |                |     |                      |                    |
          |                |     |                      |                    |
          |                |     |                      |                    |
          |----------------+-----+----------------------+--------------------|
          |Banking         |12-0 |Dababneh, Travis      |                    |
          |                |     |Allen, Achadjian,     |                    |
          |                |     |Brown, Chau, Gatto,   |                    |
          |                |     |Hadley, Kim, Low,     |                    |
          |                |     |Perea, Ridley-Thomas, |                    |
          |                |     |Mark Stone            |                    |
          |                |     |                      |                    |
          |----------------+-----+----------------------+--------------------|
          |Appropriations  |16-0 |Gomez, Bigelow,       |                    |
          |                |     |Bloom, Bonta,         |                    |
          |                |     |Calderon, Chang,      |                    |
          |                |     |Daly, Eggman,         |                    |
          |                |     |Gallagher,            |                    |
          |                |     |                      |                    |
          |                |     |                      |                    |
          |                |     |Eduardo Garcia,       |                    |
          |                |     |Jones, Quirk, Rendon, |                    |








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          |                |     |Wagner, Weber, Wood   |                    |
          |                |     |                      |                    |
          |                |     |                      |                    |
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          SUMMARY:  Allows a licensee under the California Finance Lenders  
          Law (CFLL) to pay compensation to an unlicensed person or  
          company in connection with the referral of one or more  
          prospective borrowers to the licensee.  Specifically, this bill:  
           


          1)Permits compensation to be paid, when all of the following  
            conditions are met:


             a)   The referral by the unlicensed person leads to the  
               consummation of a commercial loan between the licensee and  
               the borrower;


             b)   The loan contract provides for an annual percentage rate  
               (APR) that does not exceed 36%; and,


             c)   Before approving the loan, the licensee does both of the  
               following:


               i)     Obtains documentation from the prospective borrower  
                 documenting the borrower's commercial status.  (Examples  
                 of acceptable forms of documentation include, but not  
                 limited to, a seller's permit, business license, articles  
                 of incorporation, income tax returns showing business  
                 income, or bank account statements showing business  
                 income); and, 










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               ii)    Performs underwriting and obtains documentation to  
                 ensure that the prospective borrower will have sufficient  
                 monthly gross revenue with which to repay the loan  
                 pursuant to the loan terms, and does not make a loan if  
                 it determines through its underwriting that the  
                 prospective borrower's total monthly expenses, including  
                 debt service payments on the loan for which the  
                 prospective borrower is being considered, will exceed the  
                 prospective borrower's monthly gross revenue.  (Examples  
                 of acceptable forms of documentation for verifying  
                 current and projected gross monthly revenue and monthly  
                 expenses include, but are not limited to, tax returns,  
                 bank statements, merchant financial statements, business  
                 plan, business history, and industry specific knowledge  
                 and experience.  Permits a credit report if the  
                 prospective borrower is a sole proprietor or a  
                 corporation and the loan will be secured by a personal  
                 guarantee.  


          2)Requires the licensee to maintain records of all compensation  
            for a period of at least four years.


          3)Requires the licensee to annually submit information requested  
            by the Commissioner of Business Oversight (Commissioner) in a  
            report.  


          4)Requires a licensee that receives an application for a  
            commercial loan from a prospective borrower who has been  
            referred to that licensee by an unlicensed person or company  
            to provide the following written statement to the borrower, in  
            no smaller than 10-point type, and ask the borrower to  
            acknowledge receipt of the statement in writing:  "You have  
            been referred to us by [Name of Unlicensed Person].  If you  
            are approved for the loan, we may pay a fee to [Name of  
            Unlicensed Person or Company] for the successful referral.  If  
            you wish to report a complaint about this loan transaction,  








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            you may contact the Department of Business Oversight, Division  
            of Corporations at 1-866-ASK-CORP (1-866-275-2677), or file  
            your complaint online at  www.dbo.ca.gov  ."


          EXISTING LAW:


          1)Defines, pursuant to the CFLL, a commercial loan as a loan  
            with a principal amount of $5,000 or more, or any loan under  
            an open-end credit program, whether secured by either real or  
            personal property, or both, or unsecured, the proceeds of  
            which are intended by the borrower for use primarily for other  
            than personal, family, or household purposes.  For purposes of  
            determining whether a loan is a commercial loan, the lender  
            may rely on any written statement of intended purposes signed  
            by the borrower.  The lender is not required to ascertain that  
            the proceeds of the loan are used in accordance with the  
            statement of intended purposes. (Financial Code Section 22502)



          2)Requires each finance lender and broker licensee to file an  
            annual report with the commissioner, on or before the 15th day  
            of March, giving the relevant information that the  
            commissioner reasonably requires concerning the business and  
            operations conducted by the licensee within the state during  
            the preceding calendar year for each licensed place of  
            business.  The individual annual reports filed pursuant to  
            this section shall be made available to the public for  
            inspection except, upon request in the annual report to the  
            commissioner, the balance sheet contained in the annual report  
            of a sole proprietor or any other nonpublicly traded persons.   
            A licensee shall make other special reports that may be  
            required by the commissioner.  (Financial Code Section 22159)


          Existing Regulation prohibits a licensed finance lender from  
          paying any compensation to an unlicensed person or company for  








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          soliciting or accepting applications for loans, except for an  
          employee regularly employed at a licensed place of business of  
          the finance lender, or if the payment is made to a person or  
          company licensed as a real estate broker, a bank, savings and  
          loan association, or any other financial institution exempted  
          from the CFLL.  (California Code of Regulations Title 10,  
          Chapter 3, Subchapter 6, Article 4, Section 1451)


          FISCAL EFFECT:  Unknown


          


          COMMENTS:  


          Need for the bill:


          This bill is co-sponsored by Opportunity Fund and the California  
          Association for Micro Enterprise Opportunity (CAMEO) to remove a  
          competitive disadvantage that applies to CFLL licensees making  
          commercial loans.  In doing so, the co-sponsors wish to improve  
          the ability of microlenders to identify underserved small  
          businesses, and help them access credit.  


          This bill would allow CFLL licensees making commercial loans to  
          pay fees for the successful referral of business, thus  
          eliminating their competitive disadvantage in customer  
          acquisition relative to other entities that extend credit to  
          small businesses in California.  According to this bill's  
          co-sponsors, companies that are not subject to the CFLL often  
          offer less favorable terms to small businesses than CFLL  
          licensees, but small business borrowers never learn about these  
          more favorable loans, because the CFLL lenders cannot compensate  
          entities to refer business to them.  








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          Background:


          The existing CFLL prohibits CFLL licensees from paying any  
          compensation to any person or company that is unlicensed, in  
          exchange for the referral of business.  This places CFLL  
          licensees that make commercial loans at a competitive  
          disadvantage relative to their direct competitors, whom are not  
          required to hold CFLL licenses.  As described in more detail  
          below, two types of direct competitors that are not required to  
          hold CFLL licenses include merchant advance companies (not  
          required to be licensed under the CFLL, because they are  
          advancing, rather than lending money) and companies that partner  
          with banks (not required to be licensed under the CFLL, because  
          the loans are made under the banks' charters).  CFLL licensees  
          may offer better loan terms to businesses than competitors that  
          lack CFLL licenses, but often lose customers to those  
          competitors, because the competitors can compensate those from  
          whom they receive referrals, while the CFLL licensees are  
          prohibited from doing so.  


          According to small business lending experts, referrals are the  
          single most efficient way for commercial lenders to acquire  
          small business customers.  Because general purpose advertising  
          is not targeted, it is very inefficient at reaching customers.   
          Word of mouth is by far the most efficient use of marketing  
          dollars, but is an avenue that is closed off to CFLL licensees  
          by California's regulations.


          Non-CFLL Entities: 


          Merchant Advance Companies:  Merchant advance companies that  
          serve small businesses represent the most common form of direct  
          competition to commercial lenders licensed under the CFLL.   








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          Unlike commercial lenders, merchant advance companies do not  
          offer loans.  Instead, they offer a variety of non-loan  
          financing options, which include cash advance, purchase order  
          finance, accounts receivable finance, or a combination of these.  
           Generally speaking, business arrangements between merchant  
          advance companies and the firms they fund involve the following:  
           The merchant advance company advances a certain amount of money  
          to a business.  In return, the business agrees to remit a  
          certain percentage of its future revenue (typically sales  
          receipts) to the merchant advance company until the advance is  
          paid back.  Some merchant advance firms purchase future revenue  
          at a discount; others purchase future sales revenue on a dollar  
          for dollar basis, but charge the business a fee for the  
          transaction.  Some contracts require that money be repaid on a  
          daily basis; others require different repayment schedules.   
          There is considerable variety in the ways in which advance  
          transactions are set up; with most being structured in ways that  
          do not require a California lending license. 


          Rent-A-Charter:  Companies that offer loans in partnership with  
          banks represent another type of competition to CFLL licensees.   
          Companies that partner with banks to offer loans can often avoid  
          having to become licensed in the states in which the companies  
          operate, because the loans are technically being made by the  
          bank.  This so-called rent-a-charter model has several different  
          variations, but often involves a company that lacks a lending  
          license acquiring customers and underwriting prospective  
          borrowers, referring qualified borrowers to a bank, allowing the  
          bank to lend to those qualified borrowers, and then purchasing  
          the consummated loans from the bank.  Because the bank is  
          technically the lender, the company which partners with it is  
          not required to hold a lending license.  As such, it is not  
          restricted in its ability to compensate third parties for the  
          referral of business.  


          Consumer Protections:









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          California's existing prohibition against payment of referral  
          fees by licensed lenders is intended to protect borrowers, by  
          ensuring that they are not steered to loans with unfavorable  
          terms by unlicensed individuals whose referrals are based  
          entirely on the compensation they generate, and not on the  
          extent to which the loan makes sense for the borrower being  
          referred.  This bill is designed to eliminate the possibility  
          that referral fees paid to unlicensed individuals will result in  
          predatory lending.  The bill allows the payment of referral fees  
          only upon consummation of a loan, and requires all loans for  
          which referral fees are paid to adhere to specified best  
          practices for business lending (verify the commercial status of  
          the borrower, maximum APR of 36%, and underwriting).  




          Analysis Prepared by:                                             
          Mark Farouk / B. & F. / (916) 319-3081  FN: 0001332