INSIGHT: Small Scale Commercial Lending in California Is Becoming Complicated

Jan. 31, 2019, 9:01 AM

California is known for thinking out of the box and being ahead of the curve in many ways, and that includes the regulation of non-bank lenders.

The California Financing Law (CFL) (California Financial Code § 22000 et seq.), which imposes broad licensing requirements on many non-bank lenders making either commercial or consumer loans, has been on the books for years. Under a new law, “Commercial Financing Disclosures” (CFD) (California Financial Code § 22800 et seq.), small scale commercial lending in California faces further disclosure requirements.

The CFD requires that “providers” make certain disclosures in connection with a specific offer to a “recipient” for “commercial financing” in an amount of $500,000 or less. These new disclosures were designed to help small businesses better understand the terms and costs of financing. However, the same disclosure requirements would still apply to sophisticated businesses.

The following types of “commercial financing” are subject to regulation under the CFD, including:

  • accounts receivable purchase transactions, including factoring,
  • asset-based lending transactions,
  • commercial loans,
  • commercial open-end credit plans, and
  • lease financing transactions.

The CFD focuses on a “provider,” which is defined as a person who extends a specific offer of commercial financing to a “recipient” or the person to whom the offer is presented. A “provider” includes an online lending platform that extends a specific commercial financing offer on behalf of a depository institution.

CFD Broader than CFL

The scope of the CFD is more expansive than the CFL. The types of “commercial financing” subject to CFD regulation are considerably broader than the loans regulated under the CFL. And the “providers” subject to CFD regulation may cover a wider group—an entity that may have determined that the CFL did not apply to it may still face regulation under the CFD.

The CFD specifically provides that extending a commercial financing offer on behalf of a depository institution should not be construed to mean that a provider is engaged in lending (which could require CFL licensing). As another example, a venture company who relies on the commercial bridge loan exemption to the CFL could still need to comply with the CFD disclosure requirements.

Required Disclosures

CFD requires, at the time a commercial financing offer is made to a potential borrower, the following information be disclosed:

(1) The total amount of funds provided or amount financed;

(2) The total dollar cost of the financing;

(3) The term or estimated term of the loan;

(4) The method, frequency, and amount of payments;

(5) A description of prepayment policies; and

(6) The total cost of the financing expressed as an annualized rate.


There are some important exemptions to the CFD that practitioners should know. The CFD does not apply to ”traditional” lenders already subject to regulation, such as:

  • banks, trust companies, and industrial loan companies regulated by the federal or a state government; and
  • state or federally chartered savings and loans, savings banks, or credit unions authorized to transact business in California.

The CFD also does not apply to financings secured by real property.

Similar to the existing CFL, the CFD exempts transactions where the provider is not regularly making offers of commercial financing—specifically:

  • no more than one commercial financing loan in California in a 12-month period; or
  • five or fewer commercial financing loans in California in a 12-month period if making loans are incidental to the provider’s business.

The Department of Business Oversight (DBO) has in the past applied the CFL broadly and it remains to be seen whether the same will be the case for the CFD. For example, the DBO has required CFL licensing even if the lender is not located in California, so long as the borrower is located in California.

A person who willfully violates the CFD disclosure requirements may be subject to a fine of $10,000 or imprisonment in county jail for up to year, or both.

Effectiveness—No Need to Panic

The CFD took effect Jan. 1, but providers are not required to make CFD disclosures until the Commissioner of Business Oversight adopts regulations. Many of the details regarding the disclosure will need to be worked out in the rule-making process, which is under way.

Among other details, the Commissioner will be determining the method to calculate the total cost of financing as an annualized rate for the wide range of “commercial financing” transactions (other than factoring or asset-based lending, for which example-based disclosure may be provided).

Anyone considering making loans or extending other types of small scale financing to commercial borrowers in California will now need to give careful consideration to the CFD as well as the CFL. Even if a business has previously determined that the CFL does not apply to its commercial financing transactions, it should still review the new CFD requirements to determine whether compliance might be required -- better to be safe than sorry.

Author Information

Teresa L. Johnson is a partner at Arnold & Porter in San Francisco. She often acts for lenders and borrowers in commercial credit and finance transactions, acting in project-based finance, asset-based lending, syndicated financings, cross-border transactions, and debt securities.

Catrine Galler Brown is a senior associate at Arnold & Porter in San Francisco. Her practice encompasses a range of corporate matters, including debt, and securities.

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