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From Banking and Finance Law Daily, June 30, 2014

Lenders’ interest rates for “signature loans” unconscionable under New Mexico law

By Thomas G. Wolfe, J.D.

In addressing subprime lenders’ “signature loan” products—similar to, but distinguishable from, “payday loan” products—the Supreme Court of New Mexico determined that the signature loans were both procedurally and substantively unconscionable in contravention of the public policy of the State of New Mexico. The New Mexico high court further determined that the signature loans, bearing interest rates of 1,147.14 to 1,500 percent per year, violated the New Mexico Unfair Practices Act (State of New Mexico, ex rel., Gary K. King, Attorney General v. B&B Investment Group, Inc., June 26, 2014, Chavez, Justice).

As a result, the appellate court affirmed the state trial court’s finding of procedural unconscionability and upheld its remedy of a permanent injunction against the subprime lenders. At the same time, the court reversed the lower court’s refusal to find the pertinent loans substantively unconscionable. In addition, in concluding that restitution was an appropriate remedy for both forms of unconscionability, the court remanded the matter to the state’s district court for a determination of damages.

Background. As described by the court, in January 2006, two former payday lenders, B&B Investment Group, Inc. and American Cash Loans, LLC, “began to market and originate high-cost signature loans…primarily to less-educated and financially unsophisticated individuals, obscuring from them the details of the cost of such loans.” The subprime lenders extended these signature loans to “the working poor, …people who provide proof of steady employment but who, by definition, are either unbanked or underbanked.”

In distinguishing signature loans from payday loans, the court indicated that although the pertinent signature loan products are similar to payday loans as small-principal, high-interest loans, they differ “primarily in the length of time they take to mature”—payday loan terms usually being between 14 and 35 days, and signature loans being yearlong. Also, signature loans are unsecured loans, “which require only the signature of the borrower, along with verification of employment, home address, identity, and references.”

 The court observed that the lenders converted their loan products from payday loans to signature loans in New Mexico “just before the New Mexico Legislature implemented extensive payday loan reforms in 2007.” The signature loans were not subject to the restrictions placed on payday loans by the 2007 amendments to the Small Loan Act because they did not meet the statutory definition of payday loans, the court noted.

Typically, the lenders’ signature loans to borrowers in New Mexico were made for $50 to $300 in principal, which were scheduled for repayment in biweekly installments over a year, carrying annual percentage rates ranging between 1,147.14 and 1,500 percent.

Complaints. After a number of signature-loan borrowers complained to the New Mexico Attorney General’s Office about the practices of B&B Investment Group and American Cash Loans, the New Mexico AG filed a lawsuit in state court against the subprime lenders. The New Mexico AG claimed that the lenders’ signature loan products in the state not only were procedurally and substantively unconscionable under common-law principles, they also violated the New Mexico Unfair Practices Act (UPA). Among other things, the lawsuit sought restitution, civil penalties, and injunctive relief.

More specifically, the New Mexico AG alleged that the lenders’ practices violated section 57-12-3 of the UPA, which prohibits “unfair or deceptive trade practices and unconscionable trade practices in the conduct of any trade or commerce.” In turn, under the definitional section of the UPA, an “unconscionable trade practice” (Section 57-12-2(E)) is defined as an “extension of credit . . . that to a person’s detriment: (1) takes advantage of the lack of knowledge, ability, experience or capacity of a person to a grossly unfair degree; or (2) results in a gross disparity between the value received by a person and the price paid.”

Trial court; appeal. After a bench-trial, the New Mexico district court determined that the lenders’ marketing and loan-origination practices concerning their signature loans were procedurally unconscionable and violated the first prong (§57-12-2(E)(1)) of the UPA provision governing an “unconscionable trade practice.” Accordingly, the trial court granted the New Mexico AG’s request for an injunction concerning these practices.

However, the lower court found that the lenders’ practices were not substantively unconscionable and did not violate the second prong (§57-12-2(E)(2)) of the UPA provision. In declining to find the high-cost signature loans substantively unconscionable as well, the state trial court concluded that it was “the Legislature’s responsibility to determine limits on interest rates.” The New Mexico AG appealed the ruling on substantive unconscionability and the denial of its request for restitution. For their part, the subprime lenders cross-appealed, maintaining that the district court erred in determining that the signature loans violated the first prong (§57-12-2(E)(1)) of the UPA, and in determining that the loans violated the common law of procedural unconscionability.

In keeping with procedural rules, the New Mexico Supreme Court accepted the New Mexico Court of Appeals’ certification of the legal issues in the case for its review.

Procedural unconscionability. The New Mexico Supreme Court determined that there was substantial evidence to support the trial court’s decision that the lenders’ signature loans were procedurally unconscionable. In reviewing the record, the appellate court determined that there was substantial evidence showing that (i) the borrowers lacked knowledge, ability, experience, or capacity in credit consumption; (ii) the lenders exploited the borrowers’ lack of financial sophistication; and (iii) the lenders’ practices “took advantage of borrowers to a grossly unfair degree to the borrowers’ detriment.”

Consequently, given this level of evidentiary support, the court further ruled that the trial court had the authority to issue an injunction permanently prohibiting the subprime lenders from: (1) targeting borrowers to try to increase the amount of their principal debt obligation until the borrower’s file had become inactive for at least 60 days; (2) quoting the cost of signature loans “in terms of a daily or other nominal amount…or in any other amount than that which is mandated by the federal Truth in Lending Act,” in advertising materials or during loan origination; (3) engaging in any practice that focuses the borrower’s attention on the loan’s installment payment obligation “without also clearly, conspicuously, and fully disclosing and explaining the cost of the loan if repaid over the course of the full repayment term”; and (4) representing in any way that the loans will be “easy” to repay.

Substantive unconscionability. On the issue of substantive unconscionability, the New Mexico Supreme Court determined that the district court had erred in concluding that it was precluded from ruling on the substantive unconscionability issue “absent an express statutory prohibition of the interest rates at issue,” and was somehow required to consider evidence on each particular signature loan issued by the lenders.

Among other things, in support of its determination that the lenders’ signature loans were substantively unconscionable and violated the UPA, the court emphasized: (i) equitable principles and public policy considerations bolstered its decision; (ii) despite the New Mexico legislature’s removal of an interest-rate cap in 1981, the trial court was not prohibited from deciding whether the signature-loan contracts were grossly unreasonable or against public policy; (iii) the application of unconscionability under other New Mexico statutes—such as the Small Loan Act, the Uniform Commercial Code, and the Money Act—demonstrate a legislative intent to “establish a consumer-protective public policy”; and (iv) while the New Mexico legislature did not “repeal all statutes protecting consumers from usurious practices,” the legislature empowered the New Mexico AG and private citizens to fight unconscionable practices through the UPA.

Finally, the New Mexico high court determined that, in addition to the trial court’s valid permanent injunction, restitution was an appropriate remedy for the procedural and substantive unconscionability found present in the case.

The case is No. 34,266.

Attorneys: Karen J. Meyers and John D. Thompson, Assistant Attorneys General, for Gary K. King in his capacity as Attorney General for the State of New Mexico. Alex C. Walker (Modrall, Sperling, Roehl, Harris & Sisk, P.A.) for B&B Investment Group, Inc. and American Cash Loans, LLC.

Companies: American Cash Loans, LLC; B&B Investment Group, Inc.; Cash Loans Now

MainStory: TopStory ConsumerCredit InterestUsury Loans NewMexicoNews UDAAP

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