In the final days of its 2018 session, the California legislature sent a flurry of bills to Governor Jerry Brown’s desk on topics as diverse as net neutrality, school start times, and clean energy.
But it is SB 1235, “Commercial financing; disclosures,” that may be of particular note for commercial lenders. The bill is designed to give small businesses in California more information with which to compare and analyze financing options, including with respect to offers made via online lending platforms such as Kabbage and OnDeck. If it is signed (or Governor Brown doesn’t veto it by September 30), California will become the first state in the nation to require disclosures for small business lending akin to truth-in-lending disclosures for consumer transactions.
This summer, the Federal Reserve Board (Board) released a study about small business owners’ borrowing from online lenders. According to the study, the volume of online lending to small businesses last year was only about $12 billion. But one-in-four small business credit applicants sought financing from an online lender last year, and the Board expects online small business lending to continue to grow, particularly in the market for small-dollar loans (under $100,000). The study found that small business operators are often confused by financial products offered by online lending platforms, that such financial products engender lower satisfaction rates than financial products offered directly from traditional financial institutions, and that both lenders and borrowers could benefit from improved disclosures for offers presented on online platforms.
SB 1235 attempts to address some of those concerns. The bill requires “providers” of “commercial financing” in the amount of $500,000 or less to provide the following disclosures to recipients of the financing offer:
- the total amount of funds provided;
- the total dollar cost of the financing;
- the term or estimated term;
- the method, frequency, and amount of payments;
- a description of prepayment policies; and
- (until January 1, 2024) the total cost of the financing expressed as an annualized rate.
Due to the possible difficulty of providing those disclosures when financing consists of factoring or asset-based lending, the disclosures may be provided by means of an example in those cases (e.g., per every $10,000 financed).
The term “provider” includes a direct lender (“a person who extends a specific offer of commercial financing to a recipient”) that is not a depository institution, and also includes “a nondepository institution, which 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.”
The bill defines a “commercial financing” as an “accounts receivable purchase transaction, including factoring, asset-based lending transaction, commercial loan [over $5,000], commercial open-end credit plan, or lease financing transaction.”
The legislature did not determine the method to express the annualized rate disclosure, instead delegating that task (as well as specifics for the definitions, contents, and methods of calculations for each of the other disclosures) to the California Commissioner of Business Oversight. This might not be an easy task – the legislative history from the bill indicates that both annual percentage rate (APR) and “estimated annualized cost of capital” were considered as the method, with the first being criticized by lending groups opposed to the bill for resulting in different calculations depending on the product, and the second being criticized as an untested metric.
There is no deadline for the Commissioner to adopt regulations governing the disclosures, and providers are not required to comply with the requirements until those regulations have been promulgated. That being the case, should the bill become law, small business lenders and small business advocates both would be wise to follow the rules-making process closely in order to have a voice in which disclosure methodology is selected by the Commissioner as well as the rest of the implementing regulations.