Platform lenders and other online loan marketplaces may be required to obtain a license from the New York Department of Financial Services (DFS) based on proposed changes to New York's Licensed Lender Law. The changes, proposed in January 2017 as part of New York Governor Andrew Cuomo's 2017/2018 budget proposal, would expand the application of the law by adding new licensable activities and removing a previous interest rate-based coverage threshold. If enacted, these changes would become effective January 1, 2018.
Licensed Lender Law
Section 340 of the New York Banking Law requires any company engaged in the business of making consumer loans of $25,000 or less, or commercial loans of $50,000 or less, to obtain a lender license, if the loans provide for interest of more than 16% per year. In the absence of additional definitions, "making" a loan typically refers to the company that funds the loan and is named on the note as the lender to whom the debt is initially owed. With the exception of "isolated, incidental, or occasional transactions," a lender is engaged in the business of making these loans in New York if it makes loans to New York resident borrowers, regardless of the state of residence of the lender.
The Governor's proposed budget would amend Section 340 by removing reference to an interest rate threshold, meaning that any consumer loans of $25,000 or less or commercial loan of $50,000 or less, would be subject to the law (Covered Loans). Further, the changes would require a license for any company that "makes" Covered Loans, as well as any company that "purchases or otherwise acquires" such loans from others or that "arranges or facilitates the funding" of such loans.
Platform Lenders and Loan Marketplaces
The proposed change in the licensing law could potentially affect two popular fintech models, platform lenders and loan marketplaces.
Platform Lenders. Under the platform lender model, sometimes referred to as the bank-partner model, a non-bank company (the platform) partners with a bank to originate loans. The platform manages the borrower-facing website, markets the loan products, accepts credit applications, and underwrites each borrower, typically through automated underwriting models. The bank partner makes the final credit decision and, for approved borrowers, funds the loan and issues a note identifying the bank as the lender. After a short holding period (typically three days) the bank partner sells the closed loans back to the platform or an entity created by the platform, which services the loans on behalf of investors. As the argument goes, it is the bank partner, which is exempt from state licensing laws, that "makes" each loan, therefore, the platform is not required to obtain a license.
If the changes to the Licensed Lender Law are enacted, companies using the platform lender model to originate Covered Loans will likely be required to obtain a license from the DFS. On the front end, a platform may be "arranging or facilitating the funding" of a loan when it advertises loan products and accepts and underwrites loan applications for funding by its bank partner. On the back end, it may also be "purchasing or acquiring" such loans, when it buys them back from the bank partner after funding.
Loan Marketplaces. As opposed to a platform lender, a loan marketplace does not originate loans at all. Rather, a loan marketplace is typically a website that allows a borrower to comparison shop for loan products. Borrowers submit certain information on the terms and conditions of their desired loan and the website matches them with corresponding loan offers. Some marketplaces further customize the matching based on information about the borrower to more closely target offers for which the borrower likely qualifies. However, once the borrower selects a lender's offer, they are typically taken to that lender's website to complete a loan application.
Under the current wording of Section 340, loan marketplaces should not be required to obtain a license because they do not "make" loans. If the changes are enacted, however, such companies will need to review their services, and any further guidance from the DFS, to determine whether their activities could constitute "arranging or facilitating" the funding of Covered Loans. Based on experience with similar definitions in other states, we assume a license would more likely be required where the marketplace moves beyond targeted advertising functions to activities associated with brokering loans, for example, passing borrower information to an advertised lender, prepopulating loan application forms, or negotiating on behalf of either the borrower or lender.
Companies that may be affected by these potential changes should consider taking the following steps:
- Review the Licensed Lender Law. Platforms and loan marketplaces should determine how being licensed may affect their business models. Licensed entities are subject to certain restrictions, including with regard to advertising and loan fees.
- Consider other implications. Becoming a licensed financial entity in New York has implications beyond the Licensed Lender Law. For example, most entities licensed by DFS are subject to extensive cyber-security requirements which, in some instances, impose obligations above and beyond other applicable state and federal laws.
- Change Loan Offerings. The Licensed Lender Law applies to entities that conduct licensable activities in connection with Covered Loans. Companies should consider whether their business model would support offering loans only in amounts above the Covered Loan thresholds.
- Start collecting license application materials. Companies with no other option should understand that the timeline for obtaining New York financial services licenses is likely the longest of any state. The application will require extensive disclosures, copies of policies and procedures, financial statements, and other supporting materials. In addition, personal and financial disclosures, and fingerprints for a criminal background check, will be required from the senior officers and controlling owners of the company to be licensed and, potentially, its parent companies. If the changes are enacted, affected companies should be prepared to file an application as soon as possible as approval can take several months.