The California Department of Business Oversight (DBO) has started the process of developing regulations to implement SB 1235, which imposes new disclosure requirements for commercial financing in the state.
With comments accepted only until January 22, 2019, stakeholders should take advantage of the opportunity to weigh in.
What happened
On September 30, Governor Jerry Brown signed SB 1235 into law, imposing a mandatory disclosure requirement for certain business-purpose loans, akin to those required for consumer loans under the Truth in Lending Act (TILA).
The bill requires a “provider”—a person who extends a specific offer of commercial financing to a recipient—to disclose specified information when the offer is extended and have the recipient sign the disclosures before the transaction is finalized.
Required disclosures include the total amount of funds provided; the total dollar cost of 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.
SB 1235 defined “commercial financing” broadly as including accounts receivable purchase transactions (including factoring), asset-based lending, commercial loans, commercial open-end credit plans and lease financing intended by the recipient primarily for something other than personal, family or household purposes. Limited exemptions were provided in the new law.
The legislature found it challenging to further specify disclosure requirements for such a wide array of financing, especially the annualized rate disclosure, and SB 1235 tasked the DBO with promulgating regulations for the new law. Providers are not required to comply with the disclosure requirements until finalized regulations become effective. Wasting no time, the DBO initiated the regulation process and invited public comment on a wide variety of issues.
Definitions are one of the areas the DBO asked for help with, wondering whether the definitions provided in SB 1235 are sufficiently clear or present ambiguities, or whether additional definitions are needed.
The law requires a provider to disclose the “term or estimated term” of the contract. The DBO asked stakeholders for input on what types of commercial financing contracts may require an estimated term disclosure and why, requesting that stakeholders provide sample contracts as examples.
Another major issue: the appropriate method to express the annualized rate disclosure. When initially proposed, SB 1235 required an annualized rate disclosure as an annualized percentage rate (APR) calculated according to the provisions of TILA. A later version of the bill required a calculation called annualized cost of capital (ACC). As enacted, SB 1235 punted the question to the DBO.
Should the DBO require APR, ACC or some other annualized rate disclosure? The DBO also asked about the benefits and drawbacks of each type of disclosure, and what measures it could take to reduce potential confusion for borrowers.
Other topics the DBO suggested could benefit from comments: the requirements for the disclosure of the method, frequency and amount of payments for commercial financing with flexible or contingent repayment options; prepayment policies; the types of commercial financing transactions subject to SB 1235 other than fixed-rate, fixed-payment financing (such as merchant cash advances and open-end credit plans); and rules concerning the formatting of disclosures provided to financing applicants.
Comments will be accepted until January 22, 2019.
Why it matters
SB 1235 provides only minimal guideposts as compared with a law like TILA, and therefore there is a huge empty canvas for DBO to fill. Regulations when adopted will have a significant impact on providers in California, and likely will serve as a template for legislatures and regulators in other states, such as New York, that have expressed concerns about small-business lending. Accordingly, it is critical that industry share its views with DBO, and if stakeholders would like to comment on the regulations for SB 1235, now is the time. Importantly, SB 1235 and the resulting disclosures required by the DBO are a potential trap for the unwary lender that lends only occasionally in California and, along with the new California data privacy regime, should be kept top of mind in dealing with borrowers from the Golden State.