A California state court recently denied a preliminary injunction sought by the California Department of Financial Protection and Innovation (the DFPI) in its long-running litigation against Opportunity Financial (OppFi) contending that OppFi is the “true lender,” and therefore subject to usury limits, on loans originated by OppFi’s bank partner. The court found that on the factual record before it that the DFPI had not shown a reasonable probability of prevailing on the merits of its claim.

OppFi’s on-line platform allows its bank partner, FinWise Bank, to make short-term loans to higher-risk consumers. Since the beginning of 2020, California has imposed an interest rate cap of 36% plus the federal funds rate on consumer loans between $2,500 and $9,999 for lenders licensed under the California Financing Law (CFL). Interest on the FinWise loans exceeds that cap, but banks are exempt from the CFL and California’s usury limits generally. FinWise also has the right, under section 27 of the Federal Deposit Insurance (FDI) Act, to export the usury law of its home state, Utah, which does not impose a usury limit. In moving for a preliminary injunction (PI), the DFPI nevertheless charged that OppFi is violating the CFL because it, rather than FinWise, is the “true lender” on the loans.

The state court began its analysis by accepting the DFPI’s contention that “[i]n determining whether a particular transaction is usurious,” a California court looks to the transaction’s “substance rather than to its form.” But the question to be answered, according to the court, was only whether the form of the transaction “was a mere sham and subterfuge to cover up a usurious transaction.” After examining the factual record before it (described below), the court held that “the [DFPI] has not sufficiently shown that the OppFi-FinWise partnership was a mere sham and subterfuge.”

The court’s analysis focused in particular on the facts of two cases, relied on by the DFPI, holding that the party named as the lender in the loan agreement is not necessarily the “true lender” for usury purposes. In each of those cases, however, the court noted that the named lender had acted as a mere “dummy,” with no role or stake in the transaction whatsoever.[1] Based on the factual record developed on the PI motion, the California court distinguished FinWise’s role in its partnership with OppFi, holding “there is not sufficient evidence that FinWise is merely a dummy.” As the court explained, FinWise, among other things:

• Uses its own funds to originate the loans, from accounts it controls;
• Retains title and ownership of the loans throughout the life of the loan, selling only loan receivables (the right to payments on the loans) to an OppFi affiliate (which in turn sells those receivables to outside investors) within days of origination;
• Retains a 5% interest in the loan receivables; and
• Collects a percentage fee on each of the loans.

In reaching its conclusion, the court also relied on expert testimony submitted by OppFi that FinWise “‘places the largest amount of funds at risk when funding and it continues to be exposed to economic upside and downside risk through its retention of a receivable interest.'” An officer of FinWise testified, moreover, that the bank among other things maintains oversight over compliance and proprietary credit models that are developed by OppFi. The DFPI did not dispute this testimony.

In pressing its “true lender” argument, the DFPI had relied heavily on statements in OppFi’s 10-K indicating that OppFi uses its technology to provide AI-powered underwriting services to its bank partners, including FinWise. The court found those statements “insufficient” given that the 10-K also explained that “the [underwriting] algorithm used by the AI is ‘bank-approved'” and that “‘OppFi’s proprietary algorithms are validated by bank partners to facilitate their underwriting.'” The court found “that the Commissioner has not provided sufficient evidence showing that OppFi controls the underwriting process.”[2]

The court also gave little if any weight to the DFPI’s argument that OppFi was the “true lender” because “OppFi has a prearrangement to purchase” approximately 95% of loan receivables. The court found that this aspect of the bank partnership “seem[s] … consistent with FinWise’s right to assign, sell, or otherwise transfer its loans to OppFi” under a 2020 FDIC regulation that implements section 27 of the FDI Act. The FDIC regulation provides that:

Whether interest on a loan is permissible under section 27 … is determined as of the date the loan was made. Interest on a loan that is permissible under section 27 … shall not be affected by … the sale, assignment, or other transfer of the loan, in whole or in part.

12 C.F.R. § 331.4 (e). Given the language of the regulation, the court reasoned that “[t]o the extent ‘FinWise-originated’ [loans] had permissible interest rates at the time the loans were made, the fact that the bank sold, assigned, or otherwise transferred the loans to OppFi should not make the loans usurious.” The court found that “this principal is consistent with California usury law and Constitution,” which in the court’s view also assess usury only when a loan is made, notwithstanding subsequent transfers of the loan.

With respect to the FDIC regulation, the court further opined that the DFPI’s true lender theory might be preempted under the doctrine of “obstacle preemption.” The court explained that if it “were to interpret the [CFL] to mean that FinWise was not a ‘true lender’ for exemption purposes because the bank decided to assign, sell, or otherwise transfer [loans] to OppFi, … that ruling may stand as an obstacle to the full purposes and objectives of Congress.”

Of course, the PI decision bodes well for OppFi’s future prospects in trial court. We will continue to closely monitor this case.

[1] In one of those cases, the named lender “testified that he did not understand the nature of the transaction.” The opinion in the other case characterized that named lender as “an innocent dupe.”

[2] The DFPI also contended that OppFi was the true lender because it owns the “OppLoans” website where consumers obtain the loans. The court brushed off that argument by saying that “the Commissioner has not cited any case holding that owning a website sufficiently supports a finding that the website’s owner is the true lender of a loan.”