Sax v. Fast Track Investments – Legal Finance Regulation, Consumer Lending Interest Rate Regulation

On July 19, 2021, the parties in Sax v. Fast Track Investments filed a motion with the Ninth Circuit Court of Appeals to dismiss the pending appeal and to withdraw questions the Ninth Circuit had submitted to the New York Court of Appeals.  The legal finance contracts had stipulated that New York law apply and the Ninth Circuit felt that certain New York issues, relating to whether the contracts were loans, were unsettled and that the New York Court of Appeals should determine those questions. The submitted questions included whether the litigation finance arrangements at issue were “loans or a cover for usury” subject to New York’s interest rate law and if so, whether finance charges on the arrangements exceeded New York’s usury limits and the penalties for such violations.

In an alert posted last summer, we reported that the New York Court of Appeals had accepted certified questions from the Ninth Circuit regarding whether litigation finance agreements qualified as a “loan” under New York law last June.  Fast Track Inv. Co., LLC v. Sax, 962 F.3d 455, 458 (9th Cir.), certified question accepted sub nom. Fast Track Inv. Co., LLC v. Sax, 35 N.Y.3d 997, 149 N.E.3d 432 (June 23, 2020). Both Sax and Fast Track Investments had already briefed the case with the New York Court of Appeals before entering their joint motion to dismiss the appeal.

Judicial Disclosure Rule, Other Cases and Litigation

The Sax/Fast Track motion to dismiss occurs at a time when other court rules, legislation and judicial decisions involving litigation finance and other small loan arrangements are being considered by courts and state legislatures. A recent federal judicial rule requiring certain disclosures to the court, select cases and enacted legislation are discussed below:

New Disclosure Rule in District of New Jersey

On June 21, 2021, the United States District Court for the District of New Jersey adopted a rule amendment requiring attorneys to disclose details about litigation funding agreements.  Chief Judge Freda Wolfson signed orders to put the proposal into effect after it was approved by the district’s Board of Judges.

The Court adopted new local rule 7.1.1(a) (L. Civ. R. 7.1.1(a)), which requires all parties to disclose certain information regarding “any person or entity that is not a party and is providing funding for some or all of the attorneys’ fees and expenses for the litigation on a non-recourse basis in exchange for (1) a contingent financial interest based upon the results of the litigation or (2) a non-monetary result that is not in the nature of a personal or bank loan, or insurance.” L. Civ. R. 7.1.1(a)

Rule 7.1.1 is effective immediately and applies to all pending cases before the Court.  Parties currently before the Court must make the required disclosure by August 5, 2021 (45 days from the rule’s effective date).

Attorneys who receive financial assistance from nonparties for legal fees and expenses must now disclose the funder’s name and address, whether the funder’s approval is needed for litigation or settlement decisions, and any other terms and conditions that apply to such approvals.

New Jersey is not the first jurisdiction to mandate some form of disclosure. The Northern District of California imposed a standing rule in 2017 to require the disclosure of third-party funding in class, mass and collective actions throughout the district. Wisconsin and West Virginia each passed laws requiring disclosure of third-party funding agreements in 2018 and 2019, respectively.

Select Cases

Commercial Legal Finance Contract with a Law Firm Does Not Constitute Debt under the Fair Debt Collection Practices Act (FDCPA)

Breen v. Callagy L. PC, No. 20-1445, 2021 WL 1250425 (3d Cir. Apr. 5, 2021). In Breen, the Third Circuit rejected claims that obligations under a legal finance contract constituted a “debt” under the Fair Debt Collection Practices Act. The FDCPA defines debt as an “obligation of a consumer to pay money arising out of a transaction in which the money, property, insurance, or services which are the subject of the transaction are primarily for personal, family, or household purposes.” The district court relied on the holding in Pollice v. National Tax Funding, L.P., 225 F.3d 379, to reason that, although the Bolings’ (i.e. Breen’s clients’) obligations may be categorized as debt under the FDCPA, Breen’s own obligations did not constitute debt under the FDCPA because they were “strictly in connection with his commercial law practice.” Id.

Alleged Rent-A-Bank Challenge Dismissed

Sims v. Opportunity Financial, LLC, 2021 WL 1391565 (N.D. Cal. April 13, 2021). The Northern District of California rejected claims that a loan violated California and Utah consumer and banking law. The loan was made by a Utah-chartered bank marketed through a loan platform operated by OppLoans, a Delaware limited liability company with its primary place of business in Illinois. OppLoans also provided servicing and collection activities for the loan. The district court rejected the borrower’s claims that the arrangement constituted an unlawful “rent-a-bank” scheme that breached California Finance Lenders Law as well as claims under California and Utah codes for fraudulent conduct and usury. In particular, the court found that the California code exempts a foreign bank that use this structure from the scope of the California strictures.

The district court’s decision reflects that simply alleging a rent-a-charter without specific allegations will not necessarily sustain a challenge to a usury or consumer fraud claims. Here the claims were brought by a sympathetic plaintiff — a retired veteran living on a fixed income — but nonetheless were unsuccessful.

The plaintiff borrower filed an appeal in the matter on May 12, 2021.

Rent-A-Tribe Challenge Permitted

Brice v. Haynes Investments, LLC, 2021 WL 29367330; ___ F.Supp.3d ___ (N.D. Cal. July 13, 2021). The Northern District of California refused to grant summary judgement against usury claims brought against shareholders of a company, who allegedly operated a “Tribal Lending Scheme” through three Native American tribes, where the interest rate exceeded California’s usury cap.  The district court left for the jury whether the defendants, who were alleged to be founders, funders, or owners of the entity that allegedly ran the Tribal Lending Scheme, were liable for the usury violations.

Statutes

Legislators including several in “red” states have introduced legislation refining their interest rate or usury statutes generally, and/or their statutes licensing and regulating legal finance and small loans.  Although some measures languished before the adjournment of the current legislators, some measures have been enacted. Both Illinois and North Dakota passed legislation regulating interest that may be charged by certain small lenders.

Illinois.  In Illinois, legal finance companies, particularly those offering financing to consumers, are generally licensed as lenders and are governed by the Consumer Installment Loan Act (CILA).  On March 23, 2021, Illinois enacted Public Act 101-658 (S.B. 1792), which amends the CILA and the Illinois Interest Act.  CILA had previously set the interest rate at 36%, but S.B. 1792 requires that the rate is calculated using the “system for calculating a military annual percentage rate under Section 232.4 of Title 32 of the Code of Federal Regulations,” i.e., the regulations for computing APR under the Servicemember’s Civil Relief Act.

North Dakota.  On April 14, 2021, North Dakota enacted 2021 North Dakota Laws S.B. 2103 (West’s No. 319), amending North Dakota’s statutes governing “money broker” charges and exemptions.  The legislation includes amendments to exemptions relating to money brokers and collection agencies and limits on charges that may be assessed by licensed money brokers to 36% — with additional contracted charges limited to 5%.  The new statute imposes additional restrictions on loans under $2000.

John Mussman is a partner at Rimon Law, focusing on banking and financial services. He represents national and state banks, mortgage lenders, fintech companies and other financial service providers, focusing particularly on commercial and consumer credit law and regulatory compliance. He also represents bank affiliates and non-bank players in the commercial and consumer credit space. Read more here.

John J. Hanley focuses his practice on litigation finance, first and second lien financings; private placements of debt and equity securities; and the purchase and sale of loans, securities, trade claims, and other illiquid assets. His clients include litigation funders, claimants, business development companies, specialty lenders, investment banks, hedge funds, actively managed CLOs, special purpose vehicles, and other financial institutions. Mr. Hanley structures, negotiates and drafts litigation funding agreements, term and revolving credit facilities, commitment letters, consents, waivers, assignments, “big boy” letters, proceeds letters, and a range of agreements, including guarantee, intercreditor, subscription, purchase and sale, participation and confidentiality agreements. Read more here. 

Douglas Schneller handles a broad range of complex transactional matters involving bank finance and lending; restructuring, bankruptcy and insolvency; intercreditor and subordination arrangements, including for mezzanine, leveraged, multi-lien and unitranche financings; claims analysis and reconciliation; and purchases and sales of par and distressed assets such as bank loans, notes, accounts receivable, trade claims, bankruptcy claims, and equity interests. He also counsels clients on a range of other transactional matters, including trade and receivable finance (including default-triggered puts and vendor/account receivable and trade financing); bankruptcy transactional matters including distressed investing, rescue and debtor-in-possession finance, and sales under Bankruptcy Code Section 363; corporate trust and agency; structured products; private placements; portfolio management and monitoring; and securities law matters. Read more here. 

Attorney Advertising. This document is not intended to be and is not considered to be legal advice. Transmission of this document is not intended to create, and receipt does not establish, an attorney-client relationship.