New York’s DFS Report Could Yield Increased Regulation

Financial Services Law

Based on a law requiring a survey of online lending in the state, New York’s Department of Financial Services (DFS) issued a report on the methods of operation, lending practices, and risks and benefits of online lending, including recommendations that could lead to additional regulation of such loans.

The agency also issued a virtual currency license to BitPay, Inc., the first wholesale payments processor to be granted such a license.

What happened

In December 2017, New York Governor Andrew Cuomo signed legislation that created a seven-person task force responsible for analyzing online lending activity in the state. The legislative findings recognized that “financial and technological firms have used electronic platforms to develop a completely new sector of business, known as online lending.”

A few weeks later, however, an amendment to the law eliminated the task force and instead directed the DFS to study online lending and create a public report by July 1, 2018. Fulfilling its statutory requirement, the agency surveyed banks and licensed lenders in the state that engage in online lending and released its report earlier this month.

Far more individual customers than business customers received loans from the survey respondents, the survey found. In 2017, the total number of borrowers increased 79 percent from 2015, with just 8,664 business customers and the remainder—226,656—individual consumers. Last year, the total number of online loans was up 118 percent from 2015, with total dollars increasing 42 percent from 2015.

The growth rates reflect multiple factors, the DFS said, including new participants in the industry as of 2016 and 2017, an increased level of activity by existing participants, and the fact that some respondents provided data only for 2017 and not for prior years.

Based on the responses, the DFS related that online lenders reported an average annual percentage rate (APR) of 25.9 percent for business loans, 14.8 percent for consumer loans, and 19.6 percent for loans to the unbanked or underbanked. A variety of fees (such as origination fees, closing fees, processing fees, maintenance fees, transactional fees and penalty fees) are charged by online lenders, but some lenders have a no-fee policy, DFS said. The most frequent fee mentioned by respondents was an origination fee, which ranged from 0.9 to 6 percent.

Looking at delinquency numbers, survey respondents reported that 11 percent of their online loans were delinquent as of the end of 2017, according to the report. More than half of the respondents (57 percent) reported complaints filed against them, ranging from 1 to 533. Common complaints related to the application process, disqualification of applications, the inability to obtain financing when it was sought, customer service and reduced credit lines.

The DFS report conclusions and recommendations included an important statement about the DFS’ views on “rent-a-bank” business models.

“The rapid growth of online lending clearly shows that there is value to new technologies that allow financial institutions to connect with consumers and small businesses in new ways and offer them products that fit their needs and drive growth in our economy,” the report stated. “The Department appreciates and recognizes the value of innovation and welcomes automation and novel processes in enhancing credit access, particularly to New Yorkers who are unbanked or underbanked, or otherwise lack meaningful access to credit. However, the Department believes that such innovation must also be responsible. As with any innovation, all associated risks must be fully understood and managed.”

Specifically, the DFS called for equal application of New York’s strong consumer protection laws, including robust disclosure practices, transparency in pricing, and fair lending and fair debt collection practices. The report noted that many online lenders are not subject to licensing and supervision because New York’s licensed lender law is triggered by loans in which an interest rate of 16 percent or more is charged. The DFS has proposed legislation to lower that threshold, given today’s interest rate environment.

Significantly, the report was highly critical of rent-a-bank business models, especially those that are structured specifically to avoid licensing and oversight by the DFS and circumvent state usury laws. “Currently, many online lenders remain unlicensed in New York with no direct supervisory oversight from a safety and soundness or consumer compliance perspective,” according to the report. “Direct supervision and oversight is the only way to ensure that New York’s consumers and small business owners receive the same protections irrespective of the channel of delivery, and that all lenders operate their businesses and conduct their activities in a safe and sound manner so that they may continue providing access to New Yorkers, and to prevent potential risk to our financial markets in New York.”

In other DFS news, the regulator approved its tenth virtual currency license. The first wholesale payments processor to be approved for a license, BitPay is authorized to offer clearing and settlement services to merchants willing to accept payment in bitcoin or to issue payments in bitcoin.

The state regulator began its cryptocurrency licensing program in 2015. “We continue to work to support a vibrant and competitive virtual currency market that connects and empowers New Yorkers in a global marketplace while ensuring strong state-regulatory oversight is in place,” DFS Superintendent Maria T. Vullo said in a statement about the new license.

To read the DFS report, click here.

Why it matters

DFS underscored its belief that all entities making online loans to New York consumers and businesses should be licensed and supervised, to achieve “a level playing field” for all lenders with equal application of consumer protection laws and usury limits. This strong statement should send a warning to banks and lenders that structure programs in order to avoid regulation.