A federal district court handed the Consumer Financial Protection Bureau a major victory by ruling that the online loan servicer CashCall engaged in unfair, deceptive and abusive practices by using a "tribal model" to collect on loans in states with usury caps.
The U.S. District Court for the Central District of California on Wednesday granted partial summary judgment to the CFPB in a 2013 lawsuit that essentially turned a violation of state usury law into a federal violation of unfair, deceptive and abusive acts and practices, known as UDAAP.
CashCall, of Orange, Calif., had teamed up with the now-defunct tribal lender Western Sky Financial in a "rent-a-bank" scheme to take advantage of a federally insured bank's exemption from state usury limits.
CashCall and its subsidiary WS Funding acquired and serviced loans made by Western Sky, which claimed immunity from state interest rate caps due to an affiliation with a sovereign Native American tribe, the Cheyenne River Sioux Tribe. The loans ranged from $850 to $10,000 and typically had upfront fees, lengthy repayment terms and annual interest rates ranging from 90% to 343%, the CFPB said.
The court found that CashCall, not Western Sky, was the true lender and that, despite the tribal affiliation, the laws of the borrowers' home states applied to the loan agreements. The court also ruled that the loan agreements are void and uncollectible under the laws of 16 states.
"The court concludes that the entire monetary burden and risk of the loan program was placed on CashCall, such that CashCall, and not Western Sky, had the predominant economic interest in the loans and was the 'true lender' and real party in interest," the court stated in a 16-page ruling.
The court also found CashCall's owner, J. Paul Reddam, individually liable. Dan Baren, CashCall's general counsel, did not return a call seeking comment. The CFPB declined to comment.
James Kim, of counsel at Ballard Spahr, said the case is particularly significant for investors.
"If you hold loans and they are not valid under state law at the time of origination and you seek to collect on the loans, you may be committing a UDAAP violation," said Kim. "Nobody wants to get stuck with a bunch of bad loans. It used to be just a credit asset risk, now it's a regulatory risk for the noteholders or investors as well."
Western Sky stopped accepting loan applications in 2013 after it was targeted in several state investigations. But CashCall had continued to automatically withdraw monthly payments from customers' accounts even though the loans were voided as a result of state probe.
The court said it basically agreed with the CFPB's "true lender" theory and concluded that 16 states have "a fundamental public policy in protecting its citizens from usurious loans and unlicensed lenders by enacting statutes that render contracts that violate those policies void and/or uncollectible."
The CFPB is prohibited by the Dodd-Frank Act from setting interest rate caps. While Congress did not intend to turn every violation of state law into a violation of the Consumer Financial Protection Act of 2010, the court found "that does not mean that a violation of state law can never be a violation of the CFPA."
The court also found CashCall and Delbert Services, its Nevada-based collection agent, violated the CFPA by servicing and collecting on loans where payments were not due and owed.