California DFPI Issues Modified Proposed UDAAP Regulations

The California Department of Financial Protection and Innovation (DFPI) issued modified proposed regulations to implement the provision of the California Consumer Financial Protection Law (CCFPL) on the offering or provision of commercial financing or other financial products and services to small businesses and certain other entities. The modified proposed regulations include changes made in response to comments the DFPI received on its June 2022 proposed regulations on this issue. We highlight the key proposed changes below.

Original Proposed Regulations

As discussed in our client alert on the initial proposed regulations, despite its title, the CCFPL contains one provision regarding commercial financing. This provision authorizes the DFPI to define unfair, deceptive, and abusive acts and practices (UDAAP) in connection with the offering of commercial financing or other financial products and services to small businesses, nonprofits, and family farms.[1] It also authorizes the DFPI to promulgate rules requiring data collection and reporting on the provision of commercial financing or other financial products and services. The DFPI issued its initial proposed regulations in June of 2022. Although the DFPI stated that it issued the proposed modified regulations after considering comments, it did not explain the rationale for the proposed changes.

Proposed Changes in Scope

The modified proposed regulations would make three changes to coverage of the UDAAP regulations. First, the proposed definition of “Covered provider” would state expressly that entities exempt from the CCFPL are exempt from the proposed regulations. These exempt entities include licensed finance lenders and state and federal chartered financial institutions.[2] There is no harm in including this express provision, but there is nothing in the CCFPL that could authorize the DFPI to issue regulations purporting to apply to entities exempt from the statute itself.

Second, the DFPI proposes to address the awkward definition of “consumer,” which in the original proposal was defined to mean the opposite of “consumer,” namely, corporations, partnerships, and all other organizations or legal or commercial entities. Specifically, DFPI proposes to change the terminology in the regulation from “covered consumer” to “covered entity.”

Third, the DFPI proposes to expand the definition of “small business” to include for-profit business entities with annual gross receipts of up to $16 million or as adjusted for inflation by the Department of General Services pursuant to Government Code § 14837(d)(3), whichever is greater. The initial proposed rule would have used the definition of “small business” found in California Code of Civil Procedure § 1028.5(c), which is limited to businesses that are independently owned and operated, are not dominant in their field, and do not exceed lower gross receipt thresholds that vary by type of business activity.

Proposed Change to UDAAP Definition

DFPI proposes a minor change to the definition of UDAAP. References to unfair and deceptive acts and practices under the California Competition Law, Business & Professions Code § 17200 (the “UCL”), would now include an express reference to case law decided under the UCL.

Proposed Change to UDAAP Enforcement

The proposed regulations clarify that UDAAP under the regulations applies “in connection with the offering or provision of commercial financing or another financial product or service to a covered entity.” This proposed change corrects the overbreadth in the language in the original proposed regulations, discussed in our original client alert.

DFPI does not propose any change to the enforcement provisions, even though those provisions purport to add remedies not authorized under the CCFPL, as discussed in our original client alert.

Proposed Changes to Reporting Requirements

The proposed modified regulations include a few clarifying changes, including that the reporting requirement would begin in 2025, the dollar amount of the transaction is the “amount financed” under the Commercial Financing Disclosure Law regulations, and there is no obligation to report APR for financing types and intervals for which the covered provider did not provide disclosures during the applicable period. In addition, the DFPI proposes to eliminate reporting on transactions for which the amount financed exceeds $500,000, which is consistent with the scope of the Commercial Financing Disclosure Law. Finally, the DFPI proposed that covered providers that are California Financing Law (CFL) licensees would not need to include in the CCFPL report any information for activity conducted under the CFL license.

Takeaways

These proposed modifications are best described as tweaks rather than any effort to grapple with the challenges of defining UDAAP for commercial entities rather than consumers. The definition of “small businesses” that would be covered by the proposed modified regulations has the benefit of an easy-to-measure flat amount of annual gross receipts, regardless of type of business. But as with the original proposed regulations, DFPI does not identify any basis for its definition, which increases the size (and likely the sophistication) of covered small businesses significantly as compared to the original proposal.

Comments on the modifications to the proposed rule, but not the underlying text, are due by March 13, 2023.

[1] Cal. Fin. Code § 90009(e).

[2] Cal. Fin. Code § 90002.