California is on the verge of enacting a first-in-the-nation law requiring lenders to disclose interest rates in a way that would allow small-business borrowers to compare multiple offers.
The measure is designed to establish consumer-style guardrails in a corner of the financial sector that often draws comparisons to the unruliness of the Wild West. Small-business owners have long complained that many high-cost loans from online lenders carry misleading terms and place an unsustainable strain on their finances.
The bill, passed last week by the state Assembly and Senate, would instruct officials in Sacramento to develop disclosure standards for commercial loans of $500,000 or less. Banks and credit unions, which generally do not offer high-cost business loans, would be exempt. The legislation goes to Democratic Gov. Jerry Brown, who has until Oct. 1 to sign or veto it.
“This bill offers a modest measure — disclosure — to help level the playing field for small-business owners,” Sen. Steve Glazer, the legislation’s author, said in a press release. “It would make California a leader in placing the interests of small-business owners on par with the big players in the financial industry.”
Glazer noted that business owners have historically been left to fend for themselves based on the theory that they understand the world of finance.
“Increasingly, however, that is no longer true. Today’s small-business owners are often immigrant entrepreneurs struggling to get their enterprises off the ground with little knowledge of the finance industry,” the Democratic lawmaker said.
Glazer’s legislation appeared to be dead as recently as Friday, when it failed to garner enough support in the Senate Banking Committee to be sent to the Senate floor. But the bill’s supporters used a procedural maneuver to overcome that obstacle, and the Senate ultimately approved the measure by a 28-6 margin.
The bill survived a contentious legislative process that highlighted the difficulties inherent in determining how to mandate apples-to-apples comparisons in the realm of small-business finance.
Originally, the bill would have required small-business lenders to disclose an annual percentage rate as consumer lenders are required to do. That proposal
Later, Glazer agreed to replace the APR with a different rate, which was known as the estimated annualized cost of capital. But that proposal failed to satisfy some of the bill’s existing critics, while also generating new ones, who derided the new formula as misleading.
Ultimately, Glazer was able to thread the legislative needle by delegating the job of determining how specifically to calculate the total cost of financing as an annualized rate. That task will fall to the California Department of Business Oversight if the bill is signed into law.
The final round of changes satisfied some of the bill’s earlier critics, but not others.
Opportunity Fund, a San Jose-based nonprofit lender, supports the legislation following the decision to allow state regulators to determine how to make the interest rate calculations.
“The bill went from misleading to common sense,” said Gwendy Brown, vice president of research and policy at Opportunity Fund.
The Marketplace Lending Association, a trade group whose members include numerous online consumer lenders but also the business lender Funding Circle, is also supporting the bill.
“Small-business owners stand to benefit if they can easily compare their various credit options using simple and transparent pricing information,” executive director Nat Hoopes said in an email.
But the Electronic Transactions Association, another Washington-based trade group for financial companies, remains opposed to the bill. The organization’s members include PayPal and Square, both of which offer financing to merchants under agreements that link repayments to sales volumes.
Scott Talbott, senior vice president of government relations at the Electronic Transactions Association, argued that it will be difficult under the legislation for California business owners to compare various financing offers.
As one example, he noted the bill’s exemption for banks. He also noted that some financing options for small-business owners do not lend themselves to annualized disclosures.
California is not the only liberal-leaning state to explore adding consumer-like protections for business borrowers at a time when there is little appetite for new regulations in Washington.
The New York State Department of Financial Services argued in a July report that owners of small businesses in the Empire State should benefit from the same protections as consumers.
And in 2016, Illinois lawmakers considered but ultimately failed to enact legislation that would have mandated clear disclosures.
