In a triumph of substance over form, on August 22, 2013, the Tenth Appellate District Court of Appeals disregarding self-serving labels and further clarified the distinction between a loan and a sale of accounts receivable in Fenway Financial, LLC dba Commission Express v. Greater Columbus Realty, LLC dba Keller Williams Greater Columbus Realty, LLC, No. 12AP-291. To cut to the chase, the Court found that regardless of the buzz words used, leaving the seller of an account receivable with the risk of collectability is a key factor in characterizing a transaction as a loan, not as a sale, and may implicate state loan licensing requirements and other statutes, including provisions dealing with the scope of UCC Article 9. 

Fenway Financial, LLC dba Commission Express (“Fenway”) alleged that it had purchased earned but unpaid real estate commissions from real estate agent Stacey Lambright (“Lambright”), whose real estate license was associated with the real estate broker Greater Columbus Realty, LLC dba Keller Williams Greater Columbus Realty, LLC (“Keller Williams”). When some of Lambright’s sales did not close, she fell into default to Fenway, which then sued Keller Williams (and not Lambright) when it refused to pay Lambright’s commissions to Fenway. Shortly after suing Keller Williams, Fenway amended its complaint to add a claim for declaratory relief against the Ohio Department of Commerce after it alleged that Fenway’s business model violated the loan licensing requirement of R.C. 1321.02 of the Ohio Small Loan Act. In response, the Director of the Ohio Department of Commerce (the “Director”) filed an answer and a counterclaim in which she sought a declaration that R.C. 4735.20(F) prohibited Keller Williams from paying Lambright’s commissions to anyone except Lambright.

At trial, Judge Beatty of the Franklin County Court of Common Pleas granted summary judgment in favor of Keller Williams and the Director, finding that the transactions between Fenway and Lambright were loans by Fenway to Lambright, not sales of Lambright’s commissions. Because the transactions were loans, Fenway was unlicensed under R.C. 1321.02, and Keller was prohibited by R.C. 4735.20(F) from paying Lambright’s commissions to anyone other than Lambright. (That statute provides that “[n]o broker shall pay a fee, commission, or other consideration, or other compensation that is due to an affiliated licensee to a third-party creditor of the affiliated licensee.”) Fenway appealed, and the appellate court upheld the trial court’s decision. 

The appellate court looked to the substance of the transactions between Fenway and Lambright, not the self-serving labels used by Fenway in order to bolster its contention that the transactions were factoring, not lending. Key to the appellate court was Fenway’s full right of recourse against Lambright if Fenway did not receive payment for any reason, which is inconsistent with factoring. Lambright, not Fenway, retained the risk of loss, and had the transactions been true factoring, Fenway would have assumed the risk of nonpayment, if, for example, a transaction did not close. In fact, Lambright signed a security agreement warranting that Fenway would be paid; if it was not, Lambright had to repurchase the receivable. In addition, Lambright agreed to pay all of Fenway’s expenses in enforcing the parties’ agreement, including attorney fees and interest at 18% per annum.  Fenway filed a U.C.C. financing statement with the Ohio Secretary of State in which Lambright was described as the “debtor” and all of her “current and future accounts receivable” were listed among the collateral. Fenway even provided that it could take legal action to obtain judgment against Lambright; tax legal fees and costs to her; obtain a lien on her real property; report her to the credit bureau and garnish her income and assets. 

The appellate court agreed that Fenway had “effectively insulated itself from risk of loss from the transactions” {¶26} and that “all the risk of non-payment remained with Lambright” {¶28}. Accordingly, the appellate court found “no error with the trial court’s determination that the transactions at issue constituted a series of loans and not a true sale of accounts receivable.” {Id.}.

Notably, the appellate court did not find it persuasive that two other states, Kansas and Kentucky, had found Fenway’s business model to constitute lending {§30}.

Based on its finding that the transactions between Lambright and Fenway were loans, the appellate court agreed with the trial court that Keller Williams was precluded by R.C. 4735.20(F) from paying Lambright’s commissions to Fenway. Because the transactions were loans, Fenway was a “third party creditor” and not, as it contended, an assignee {§29}.      

Because the transactions were loans, the appellate court also agreed with the trial court’s determination that Fenway violated R.C. 1321.02 of the Ohio Small Loan Act, which required that it have a license from the Ohio Division of Financial Institutions to make loans under $5,000 {§§31- 33}.      

Finally, the appellate court affirmed the trial court’s holding that there is no conflict between R.C. 4735.20(F)’s prohibition on paying a real estate agent’s commission to his or her creditors and R.C. 1309.406, which generally prohibits restrictions on accounts receivable, finding that R.C. 4735.20(F) does not prohibit the agent, Lambright, from assigning her commission receivable.   Rather, it only prohibits the broker, Keller Williams from paying a commission to anyone other than the agent. In other words, the agent can do what he or she wants with a commission once it is received.

The Fenway case demonstrates that the court will look behind labels and buzzwords to ascertain the substance of a transaction, and also shows the state’s current bent to restrict what is in essence payday lending geared toward real estate agents.