Uncharted Territory: California DFPI Finalizes Commercial Financing UDAAP Regulations

The California Department of Financial Protection and Innovation (DFPI) finalized regulations that prohibit unfair, deceptive, and abusive acts and practices (UDAAP) in the offering or provision of commercial financing or other financial products or services to small businesses and other entities. These regulations make California the first state to apply UDAAP to commercial rather than consumer financing transactions. The final regulations also impose data collection and reporting requirements. The regulations will take effect on October 1, 2023.

Overview

The final regulations have no substantive changes from the amended version we discussed in an earlier client alert. The regulations simply parrot the language of the UDAAP section of the Consumer Financial Protection Bureau’s exam manual and refer to any practice that is unfair or deceptive under the California Unfair Competition Law, Business & Professions Code section 17200. As we previously discussed, there is no recognition by the DFPI of the distinction between consumer financing and financing provided to small businesses and other entities.  

The final regulations prohibit UDAAP in the offering or provision of commercial financing transactions that are subject to California’s commercial financing disclosure law (including various types of commercial financing transactions of $500,000 or less). They also prohibit UDAAP in the offering or provision of any other financial product or service to a small business, nonprofit, or family farm principally directed or managed from California. For purposes of the regulations, a “small business” includes any business entity with annual gross receipts not exceeding $16 million or as adjusted for inflation by the Department of General Services pursuant to Government Code section 14837(d)(3), whichever is greater.

The final regulations require covered providers of commercial financing transactions to file an annual report with the DFPI that includes information regarding the commercial financing transactions made to covered recipients. There is a de minimis exception, and the reporting requirements do not apply to entities that are not covered providers (e.g., banks) or to California Financing Law licensees, which already have comparable reporting requirements under the California Financing Law.

Takeaways

Because the final regulations do not define what UDAAP means in a commercial context, covered providers will have to try to make sense of the UDAAP framework based on DFPI enforcement actions. Until those enforcement actions start occurring, covered providers may want to consider adopting a consumer-minded framework for products offered to covered entities, such as:

• Reviewing all marketing, advertising, disclosures, and customer service scripts with a consumer-focused UDAAP perspective, even though they are used for business transactions;
• Regularly evaluating and reviewing new and existing products and services—and the manner in which they are offered and provided—for potential UDAAP issues;
• Monitoring customer complaints and analyzing complaint trends that may indicate potential UDAAP issues;
• Considering the amount of fees collected for products offered to small businesses, with a particular focus on any products for which the DFPI could find that the covered provider earns a significant percentage of its revenue from those fees;
• Assessing whether the target customer for a particular product or service may be perceived by the DFPI to be a particularly vulnerable population, which may attract particular scrutiny from the DFPI;
• Monitoring state and federal UDAAP enforcement trends to identify hot-button UDAAP issues; and
• Proactively remedying any UDAAP issues that are identified.

These regulations will only add to the already significant compliance obligations imposed on covered providers by an increasingly complex patchwork of state commercial financing disclosure laws. And providers will have to watch to see if other states follow California’s lead in expanding state UDAAP enforcement to commercial financing transactions.