BILL ANALYSIS Ó SENATE COMMITTEE ON BANKING AND FINANCIAL INSTITUTIONS Senator Marty Block, Chair 2015 - 2016 Regular Bill No: SB 235 Hearing Date: April 15, 2015 ----------------------------------------------------------------- |Author: |Block | |-----------+-----------------------------------------------------| |Version: |February 17, 2015 | ----------------------------------------------------------------- ----------------------------------------------------------------- |Urgency: |No |Fiscal: |Yes | ----------------------------------------------------------------- ----------------------------------------------------------------- |Consultant:|Eileen Newhall | | | | ----------------------------------------------------------------- Subject: Small dollar loans: finder duties and compensation SUMMARY Authorizes finders under the Pilot Program for Increased Access to Responsible Small Dollar Loans to disburse loan proceeds to borrowers, receive loan payments from borrowers, and provide notices and disclosures to borrowers, as specified, and authorizes pilot program lenders to enter into compensation agreements with their finders in accordance with compensation schedules that are mutually agreed to by the lender and the finder, rather than statutorily prescribed under California law. DESCRIPTION 1. Authorizes finders under the Pilot Program for Increased Access to Responsible Small Dollar Loans (pilot program) to provide the following services on behalf of the pilot program lenders with which they have a written agreement. These services are in addition to the eight services finders are authorized to provide on behalf of pilot program lenders under existing law: a. Disbursing loan proceeds to a borrower, if this method of disbursement is acceptable to the borrower. Any loan disbursement made by a finder is deemed made by the licensee on the date that funds are disbursed or otherwise made available by the finder to the borrower. b. Receiving loan payment or payments from the SB 235 (Block) Page 2 of ? borrower, if this method of payment is acceptable to the borrower. i. Any loan payment made by a borrower to a finder is deemed received by the licensee as of the date the payment is received by the finder and must be applied by lender to the borrower's outstanding loan. ii. A finder who receives loan payments must provide a receipt to the borrower making the payment at the time the payment is made. This receipt must include the date of payment, total payment amount made, and the corresponding loan account upon which the payment is being applied. iii. A borrower who submits a loan payment to a finder may not be held liable by the lender for any failure or delay by the finder in transmitting payment to the lender. c. Providing any notice or disclosure required to be provided to the borrower by the lender. 2. Deletes the existing law cap on fees that licensees may pay finders, replaces the reference to finder's "fees" in existing law with a reference to finder's "compensation," and provides that compensation may be paid by a licensee to a finder in accordance with a compensation schedule that is mutually agreed to by a licensee and a finder. EXISTING LAW 3. Until January 1, 2018, authorizes the pilot program within the California Finance Lenders Law (CFLL), administered by the Department of Business Oversight (DBO; Financial Code Sections 22365 et seq.). 4. Authorizes CFLL licensees that are approved by the Commissioner of Business Oversight (commissioner) to participate in the pilot program to use the services of one or more finders, as specified. Defines a finder for purposes of the pilot program as an entity that, at the finder's physical location for business, brings a pilot SB 235 (Block) Page 3 of ? program lender and a prospective borrower together for the purpose of negotiating a loan contract. Clarifies that an entity, whose sole means of bringing a licensee and a prospective borrower together at that entity's physical location for business, is via an electronic access point through which a prospective borrower may "click through" to the Internet Web site of a pilot lender, is not a finder (Section 22371). 5. Requires all agreements between a pilot program lender and its finders to be set forth in writing and to contain a provision establishing that the finder agrees to comply with all regulations established by the commissioner related to the pilot program and agree to provide the commissioner access to all of the finder's books and records that pertain to the finder's finding activities (Section 22375). 6. Authorizes finders to perform one or more of the following services for a pilot program lender at the finder's physical location for business (Section 22372): a. Distributing, circulating, using, or publishing preprinted brochures, flyers, fact sheets, or other written materials relating to loans that the pilot program lender may make or negotiate, which have been reviewed and approved in writing by the lender prior to their being distributed, circulated, or published. b. Providing written factual information about loan terms. conditions, or qualification requirements to a prospective borrower that have either been prepared by the lender or reviewed and approved in writing by the lender. A finder may discuss that information with a prospective borrower in general terms, but may not provide counseling or advice to a prospective borrower. c. Notifying a prospective borrower of the information needed to complete a loan application, without providing counseling or advice to the borrower. d. Entering information provided by a prospective borrower on an application form or into a database, without providing counseling or advice to the borrower. SB 235 (Block) Page 4 of ? e. Assembling credit applications and other materials obtained in the course of a credit application transaction for submission to the lender. f. Contacting the lender to determine the status of a loan application. g. Communicating a response that is returned by the licensee's automated underwriting system to a borrower. h. Obtaining a borrower's signature on documents prepared by the licensee and delivering final copies of the documents to the borrower. 7. Prohibits finders from engaging in any of the following activities (Section 22372): a. Providing counseling or advice to a borrower or prospective borrower. b. Providing loan-related marketing material that has not previously been approved by the pilot lender to a borrower or prospective borrower. c. Interpreting or explaining the relevance, significance, or effect of any of the marketing materials or loan documents the finder provides to a borrower or prospective borrower. d. Negotiating the price, length, or any other loan terms between a pilot lender and a prospective borrower (unless separately licensed as a finance broker under the CFLL). e. Advising a prospective borrower or a pilot lender as to any loan term (unless separately licensed as a finance broker under the CFLL). 8. Authorizes pilot program lenders to compensate finders pursuant to a written agreement, subject to all of the following limitations (Section 22374): a. No fee may be paid by a lender to a finder in connection with a loan application until and unless that SB 235 (Block) Page 5 of ? loan is consummated. b. No fee may be paid by a lender to a finder based on the principal amount of the loan. c. No fee paid to a finder may exceed $45 per loan for the first 40 loans originated each month at the finder's location and $40 per loan for any subsequent loans originated during that month at the finder's location. d. No lender may, directly or indirectly, pass on to a borrower any fee, or any portion of any fee, that the lender pays to a finder in connection with that borrower's loan or loan application. 9. Requires finders to provide a disclosure to each prospective borrower with which it interacts on behalf of a pilot program lender on behalf of that lender, which says the following in no smaller than 10-point type: "Your loan application has been referred to us by [Name of Finder]. We may pay a fee to [Name of Finder] for the successful referral of your loan application. IF YOU ARE APPROVED FOR THE LOAN, [NAME OF LICENSEE WILL BECOME YOUR LENDER, AND YOU WILL BE BUILDING A RELATIONSHIP WITH [NAME OF LICENSEE] If you wish to report a complaint about [Name of Finder] or [Name of Licensee] regarding this loan transaction, 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.corp.ca.gov ." (Section 22373) 10. Requires each licensee that utilizes the services of one or more finders to inform the commissioner regarding the identities of and contact information for their finders, as specified; pay an annual finder registration fee to the commissioner to cover the commissioner's costs to regulate their finders; and submit an annual report to the commissioner, containing whatever information the commissioner requests related to the finder's finding activities (Section 22375). 11. Authorizes the commissioner to examine the operations of each finder to ensure that the activities of the finder are in compliance with the pilot program and its implementing regulations, and requires the costs of the commissioner's SB 235 (Block) Page 6 of ? examination of each finder to be charged to the licensee with which the finder has its agreement. Provides that any violation of the pilot program or its regulations by a finder or a finder's employee is attributed to the lender (Section 22377). 12. Gives the commissioner authority to disqualify a finder from performing services under the pilot program, bar a finder from performing services at one or more specific locations, terminate a written agreement between a finder and a pilot program lender, and prohibit the use of a finder by all licensees accepted to participate in the pilot program, if the commissioner determines that the finder has violated the pilot program rules or regulations. Additionally authorizes the commissioner to impose an administrative penalty of up to $2,500 for violations of the pilot program that are committed by a finder (Section 22377). COMMENTS 1. Purpose: SB 235 is sponsored by Insikt Corporation to improve the viability of California's small-dollar loan pilot program. By removing bureaucratic hurdles that have discouraged the use of finders by pilot program participants, the sponsor believes that the bill will help increase the availability of pilot program loans throughout California. 2. Background: Relatively few installment loans are made in California with principal amounts under $2,500. This represents a challenge to the significant population of people in California who are unable to access affordable credit through banks and credit unions. Californians who lack credit scores, or have very thin credit files or damaged credit, currently have very few affordable options when they need to borrow money. Credit cards are often unavailable to this population, or, if available, bear very high interest rates and fees. When their spending needs outpace their incomes, these Californians commonly turn to payday loans, auto title loans, or high-interest rate, unsecured installment loans. All three of these options come with high costs, and none rewards timely loan repayment with a credit score increase. SB 235 (Block) Page 7 of ? Recognizing California's shortage of affordable, credit-building loans, the California Legislature authorized a small-dollar loan pilot program in 2010 (SB 1146, Florez, Chapter 640, Statutes of 2010). The Legislature modified that pilot program in 2013, based on pilot participants' first two years of experience, with the aim of attracting more lenders to the program and increasing the viability of lenders participating in the pilot (SB 318, Hill, Chapter 467, Statutes of 2013). SB 235 proposes to modify one element of the 2010 pilot that has not yet been updated to reflect knowledge gained through pilot participants' experience: the finder provisions. As envisioned in the 2010 legislation, finders are third parties who can work on behalf of pilot program lenders to identify prospective borrowers and connect them with the lenders, helping to lower pilot program lenders' costs of customer acquisition. Until very recently, however, no pilot program licensee had utilized the finder authority granted in the 2010 legislation, because the finder provisions have proven too rigid for the realities of the small dollar loan marketplace. SB 235 is premised on the belief that the finder provisions require revision, if the pilot program is to achieve its full potential. 3. Discussion: Recently, the Insikt Corporation, parent company of Lendify, a new entrant to the pilot program, devised a way to utilize finders as an integral part of its business model. However, Insikt has run into two bureaucratic hurdles in its attempts to implement Lendify's finder roll-out. First, although existing law authorizes finders to engage in several specific activities (generally involving the distribution of information about pilot program loans and acting as a communications link between prospective borrowers and pilot program lenders), existing law is silent on whether finders may disburse loan proceeds or required disclosures to approved borrowers or accept periodic loan payments from borrowers. Insikt's business model seeks to give borrowers the freedom to decide how and from whom they wish to receive their loan proceeds and how and to whom they wish to make their periodic payments - flexibility that current law fails to authorize, but which this bill would. SB 235 (Block) Page 8 of ? Second, the original 2010 legislation authorized only one, very simplified method of finder compensation: a per-loan fee paid by a pilot program licensee to a finder at the time of loan consummation (the 2010 legislation capped fees at the somewhat arbitrary levels of $45 per loan for the first 40 loans originated each month at a finder's location and $40 per loan for any subsequent loans originated during that month at a finder's locations). These simple compensation schemes fail to reflect the realities of today's financial services marketplace. Both Insikt and its finders would prefer to utilize a compensation schedule that treats finders as partners in Insikt's loan portfolio. Insikt is seeking the flexibility to pay its finders as its program loans are repaid, rather than up front, and to compensate finders based on negotiated amounts that reflect the size of Insikt's performing loan portfolio, rather than a set amount per loan. These proposed changes would not revise the requirements in existing law that finders be compensated only for consummated loans, nor the prohibition against compensating finders based on the principal amount of a loan; both of those consumer protections would remain. 4. How Many Pilot Lenders Are There, and How Many Loans Are They Making? According to DBO, a total of seven lenders have been approved to participate in the pilot program to date, including Progreso Financiero, LendUp, Fairloan Financial, Lendify Financial (owned by Insikt), Avanza (operating as Listo!), International Rescue Committee, and Cyco Financial Services Center. Because annual reports for the 2014 calendar year are not yet publicly available, and because only three pilot lenders made loans in 2013, information is limited regarding the number of loans made under the pilot. On the basis of 2013 annual reports for Progreso Financiero, LendUp, and Fairloan Financial, slightly over 125,000 pilot program loans totaling approximately $140 million were made by pilot program lenders during 2013. ----------------------------------------------- | | Number of | Principal | | | Pilot Program | Amount of | | | Loans Made | Pilot Program | SB 235 (Block) Page 9 of ? | | |Loans Made | |---------------+---------------+---------------| |Progreso | | | |Financiero | 125,262 | | | | |$139,534,300 | |---------------+---------------+---------------| |LendUp | 2,674 | | | | |$432,690 | |---------------+---------------+---------------| |Fairloan | | $ | |Financial |68 |66,390 | | | | | ----------------------------------------------- 5. Summary of Arguments in Support: a. Insikt, Inc., sponsor of SB 235, is "a white-label loan origination and investing platform that enables any brand to lend to its customers and any accredited investor to invest in consumer loans....Insikt seeks to ensure that all people have access to affordable loans based on more than their credit score and whether they have a banking relationship. Insikt does this by providing a technology solution for retailers, brands, and online companies - all of whom are finders - to make loans to their customers without having to take risk, invest in systems, or figure out how to fund their loans." Insikt was founded in 2012 by James Gutierrez, the founder and original chief executive officer of Progreso Financiero. Insikt is sponsoring SB 235 for two key reasons. "First, existing law is silent on whether a finder may disburse loan proceeds and accept loan payments from borrowers. This was because, originally, the concept was that finders would be merchants who would deliver goods to the consumers instead of disbursing loan funds. However, Insikt has taken the model beyond a mere substitute for retail installment sales, and now provides loan funds for purposes beyond the purchase of durable goods from a retailer/finder. Insikt believes that borrowers should have the freedom to decide how and from whom they receive their loan proceeds and how and to whom they wish to make their payments - flexibility that current law fails to SB 235 (Block) Page 10 of ? authorize, but which this bill would enable. A customer's ability to obtain loan proceeds and make loan payments expeditiously and in a convenient manner is simply a fundamental customer need." Second, the original 2010 legislation authorized only one rigid compensation scheme for finders - a per loan fee paid by a pilot program licensee to a finder at the time of loan origination. Insikt and its finder partners are seeking the flexibility to negotiate compensation agreements that work for both parties. Failure to provide that flexibility as part of the pilot program risks discouraging potential partnerships between pilot program lenders and finders, to the ultimate detriment of consumers, who will find themselves with less, rather than more, access to pilot program loans. Insikt argues that increased flexibility around finder compensation agreements will not have the negative consequences feared by this bill's opponents. First, the amount of finder compensation has no impact on a borrower's cost, because pilot program lenders are prohibited from passing the cost of finder compensation on to their borrowers. If the cost of the loan to the borrower remains unchanged, why should it matter how the lender and finder split revenue derived from a loan? Second, Insikt believes that concerns about excessive finder compensation are unfounded; the low principal amounts, low rates, and low fees that may be charged under the pilot program result in very small (if any) profit margins. There is simply too little margin available under the existing pilot program to accommodate the payment of excessive compensation. b. Several of Insikt's current and potential future finder partners also support SB 235. For example, Avanza, Inc. (which operates under the name Listo!) is a new company that provides a range of financial services, including pilot program loans, to lower-income Latino families. As a start-up, Listo! initially lacked the resources to develop a software and underwriting system capable of making loans directly to consumers. However, in partnering with Insikt as a finder, Listo! has access to the capability and systems of an approved pilot SB 235 (Block) Page 11 of ? program lender, which allows it to offer affordable, credit-building loans to its customers. Listo! is committed to providing underbanked families in California access to capital and opportunities. Listo! supports SB 235, because it will improve one of the key goals of California's pilot program: access. Listo! writes, "After five years, only one pilot program lender has applied to register a finder. As we've learned through our experience, the finder provisions, as currently written, are inadequate....SB 235 takes a step in the right direction of increasing the availability of pilot program loans by making the finder provisions workable....In order for us to continue providing pilot program loans to our customers without risk to our operation, we need to fix the finder provisions in the pilot program." Check Agencies of California, Inc (which operates under the name Check Center) is another of Insikt's finder partners that supports SB 235. Check Center describes itself as a socially responsible, CFLL licensee that has provided financial services and loan products to underserved and underbanked borrowers across California for 30 years. Check Center's products include payday loans, small business finance, bill pay, money transfer, and check cashing. In August 2014, Check Center partnered with Insikt's lending subsidiary (Lendify Financial) to offer pilot program loans. "Our goal was to provide our customers access to larger, lower-cost, pilot program loans. Since launching, Lendify's loan product has been extremely well received by our team members and customers with almost 2,000 loan applications processed at seven locations across California. Based on this success, we will soon expand Lendify's offering to all of our 19 locations. We are, however, concerned that existing law does not expressly permit finders like ourselves to disburse loans, nor to accept payments made by borrowers at finder locations. When we first applied to be a finder (in partnership with Lendify), we were initially declined by the Department of Business Oversight because of our intention to disburse loans and take payments (which is a natural expectation of any customer who applies for a loan with us). As a CFL regulated by the SB 235 (Block) Page 12 of ? DBO, we were ultimately approved as a finder with the ability to disburse funds and receive payments, but not without risk. We are concerned that without a legislative fix to the finder provision in the pilot program, our plans to provide customer access to lower cost pilot program loans could be jeopardized." Check Center also observes, "It's hard to contemplate making a loan to a borrower without giving them a convenient way of repaying that loan. In our experience, underbanked consumers operate largely in cash and are accustomed to paying for many of their bills in cash. Any provision that prohibits borrowers from making in-person loan payment unfairly disadvantages underbanked families and, thus, in our opinion, defeats the purpose of the pilot program." c. uTax Software is one of the largest tax industry service providers in the country. It would like to enter into a finder partnership with Insikt, and, in doing so, allow its network of tax preparation professionals offer Insikt's responsibly priced lending product to thousands of low- and moderate-income customers in California. "We are concerned, however, that existing law may be a barrier to a partnership with Insikt because it is silent as to whether a finder, approved by the Department of Business Oversight under the pilot program, may disburse loans to approved borrowers and accept loan payments from those borrowers. Our tax professionals offer year round financial services to customers, and many of them are agents of money transmitters - sending and receiving cash on behalf of customers every day. These customers transact almost all of their business in cash and need the ability to receive loans and make payments in cash at the retail location where the loan was made. The amendments proposed by SB 235 are therefore essential." d. LendUp, an existing pilot program participant, is also supportive of SB 235. "SB 1146 was truly revolutionary in structure; it codified in law that lenders should be rewarded for responsible underwriting, credit building access, and credit education...and while we have a handful of companies that have gotten funding and started lending responsibly - companies that have SB 235 (Block) Page 13 of ? significant social impact goals and who wish to do public good - we need more...The finder's provisions in the original bill were intended to give consumers more locations where they could apply for pilot program loans and to encourage partnerships that could lower the cost of customer acquisition for lenders." However, the current finder provisions fail to achieve SB 1146's original objectives. Therefore, "we think SB 235 will take the best of what we have learned with the original pilot program and encourage more participants and finders to enter the space." LendUp also sees SB 235 as important, because it will allow Silicon Valley and like-minded technology players to facilitate more competition within the market for responsible small dollar loans. There are a number of people, businesses and community groups that want to help provide better, safer lending alternatives in California, but are unable to do so due to the complex and expensive regulatory environment we live in. SB 235 will allow able, willing, and motivated parties to use technology to solve problems. 6. Summary of Arguments in Opposition: a. The Center for Responsible Lending (CRL) and Consumers Union (CU) support the general goal of expanding access to credit, but believe that such expansions must be both affordable and responsible. Both groups are opposed to SB 235. "When we negotiated the original pilot program...we focused much attention on the issue of finders. As originally conceived, the finders would play a very limited role and would essentially connect potential borrowers with lenders under the pilot program, and provide pre-printed materials to the borrower. We were concerned that finders could have perverse incentives to market loans that are not in a consumer's interest, or to generate loans from transactions in which the consumer was not actively seeking credit. As such, we negotiated limits to the role of the finder, as well as the compensation allowed for finders. Giving finders the authority to disburse loan proceeds, provide official notices to consumers, and accept loan payments transforms these finders into a very SB 235 (Block) Page 14 of ? different kind of role than the one initially envisioned." Under existing law, and as contemplated by SB 235, finders are not allowed to provide counseling or advice to borrowers, nor to interpret or explain the relevance, significance, or effect of any of the marketing materials or loan documents. "Given the new expanded role this bill would give to a finder, it seems difficult to imagine that a finder would not be put in the position of providing some counseling or explanation to a potential borrowers. So, either you have a finder who is illegally serving as an unlicensed broker, or you have a loan transaction occurring in a context in which the borrower is interacting with a person who is prohibited from properly assisting him or her in the decision-making process. Either way, this is problematic. Moreover, DBO would have limited ability to monitor a finder's loan level transactions to ensure that the law's provisions are being followed, especially when finders are not subject to any licensure requirements." CRL and CU are seeking three amendments, at a minimum. First, they would like to limit the new finder activities authorized by the bill to persons who are already licensed in a field pertaining to financial transactions (e.g., depository and nondepository lenders, money transmitters, check sellers, bill payers, proraters, escrow agents, pawnbrokers, insurance brokers, and real estate licensees). Second, the organizations would like to require that finders who disburse loan proceeds or receive loan payments be required to maintain records of all disbursements made and payments received for a period of at least three years. Finally, they are concerned about the wholesale removal of any limits or structure around the compensation of finders. "Without some reasonable limits on finders' compensation, we fear that finders will be motivated to aggressively market loans to borrowers in a range of settings, such as retail environments where they are already trying to complete a sale of a related product or service." b. Although not officially opposed to the bill, Progreso Financiero (now called Oportun) submitted a SB 235 (Block) Page 15 of ? letter expressing concerns. Progreso would like to see the bill amended to minimize its potential for unintended negative consequences that could hurt, rather than help, borrowers and create opportunities for activity that could damage the reputation of the pilot program. Like CRL and CU, Progreso would like to see better qualification of the entities that will be conducting the activities contemplated in the bill. 7. Prior and Related Legislation: a. SB 1146 (Florez), Chapter 640, Statutes of 2010: Authorized California's original small-dollar loan pilot program within the CFLL, named the Pilot Program for Affordable Credit-Building Opportunities. Allowed lenders approved to participate in the pilot program to charge higher interest rates and fees on loans of up to $2,500 than those authorized under CFLL. Required pilot program lenders to rigorously underwrite their loans, offer credit education at no cost to their borrowers, and report borrower payment history to at least one major credit bureau. Required detailed reporting of loan outcomes to DBO. Scheduled to sunset on January 1, 2015, but was replaced by the Pilot Program for Increased Access to Responsible Small Dollar Loans, as described immediately below, on January 1, 2014. b. SB 318 (Hill), Chapter 467, Statutes of 2013: Replaced the Pilot Program for Affordable, Credit-Building Opportunities with the Pilot Program for Increased Access to Responsible Small Dollar Loans. Retained several aspects of the original pilot, including the underwriting requirements, offers of free credit education, reports to at least one major credit bureau, and detailed reporting of program loan outcomes, but modified other aspects of the original pilot program. These modifications increased the maximum interest rates and fees that pilot lenders could charge, allow pilot lenders to originate new loans and to refinance loans more frequently than under the original pilot, and eliminated several administrative and licensing rules that were serving as bureaucratic barriers to the success of the original pilot. Sunsets on January 1, 2018. SB 235 (Block) Page 16 of ? SB 235 (Block) Page 17 of ? LIST OF REGISTERED SUPPORT/OPPOSITION Support Insikt, Inc. (sponsor; parent company of Lendify) Avanza (dba Listo!) Check Agencies of California (dba Check Center) LendUp uTax Software Opposition Center for Responsible Lending Consumers Union -- END --