On June 9, 2022, the California Office of Administrative Law approved the Department of Financial Protection and Innovation’s final rule implementing California’s first commercial finance disclosure law. The regulations come into force on December 9, 2022. In our first in a series of client alerts on this topic, we discussed the scope of the Trade Finance Disclosure Act (the “Act”). In this second alert, we take a closer look at key disclosure requirements and some of the key issues vendors will face when preparing compliant disclosures.
Disclosure Delivery Requirements
The law requires a provider to provide information “when making a specific trade finance offer.” The final settlement provides additional details, stating that this “time” includes: (1) each time a specific trade finance offer is made available to a recipient, or (2) the time a recipient selects a trade finance offer. specific, if the beneficiary received several offers at the same time. A “Specific Trade Finance Offer” is a written communication to a recipient based on information from or about the recipient of specified finance information.
In response to the comments, the DFPI explained that it was intentionally deviating and requiring disclosure earlier than the Truth in Lending Act (TILA), which requires disclosures prior to consumption. The DFPI recognized that this timeline may require donors to provide multiple pieces of information as funding conditions change over time. The DFPI asserts that multiple disclosures to the same addressee will not create confusion because only the final version needs to be signed. However, the DFPI chose not to do any testing of the disclosures despite calls to do so, leaving the agency with no basis for this and other comment responses, as noted below.
In addition, the final settlement requires amended disclosures whenever the terms of an existing trade finance agreement are amended, supplemented, or modified if the amendments result in an increase in the annual percentage rate of charge (APR) and the amendment is not not brought to resolve the default of a beneficiary. This new disclosure requirement goes beyond what is required by TILA and will require trade finance providers to develop policies and procedures to ensure that these disclosures are provided during any contract amendment process.
While the final rule expressly permits disclosures to be provided and signed electronically, it is silent on implementation. For example, the final rule requires disclosures to be presented as a “separate document,” but allows disclosures to be mailed or transmitted in a package containing other documents. It is unclear whether this means that electronically transmitted disclosures must be, for example, in a separate PDF file or can be provided on a separate page of a larger PDF file.
Disclosure format and content requirements
The final rule includes detailed formatting requirements, including specific requirements for font sizes, safe column width ratio, disclosure cell formatting, and even a definition of the maximum word count where the final rule requires a “brief explanation”.
The final settlement also details specific disclosure requirements and methods for calculating provided financing, APR, finance charges and prepayment penalties. Depending on the type of financing offered, other conditions are required, such as the average monthly cost, the duration or the drawdown period. Specific disclosure requirements vary for (1) closed-end transactions, (2) open-ended credit plans, (3) factoring transactions, (4) sales-based financings, (5) finance leases and (6) general assets. lending operations based. General disclosure requirements apply to any commercial financing that does not fit into one of these six categories.
In several cases, the final rule reflects a more streamlined approach to disclosures by eliminating the explanation requirements of earlier versions of the rule in favor of brief statements specified in the final rule. For example, the Department has eliminated the requirement that a supplier explain how the original contract interest rate was used to calculate finance charges and instead requires a statement that the interest rate will be adjusted so that actual finance charges will vary.
If the funded amount is greater than the net amount delivered to the payee in the form of cash, check or electronic funds transfer, the provider must provide additional, separate disclosure with a breakdown of the funded amount similar to that required by Regulation Z. The breakdown of the amount financed should immediately follow the other information, but should be provided in a separate document.
The DFPI has refused requests to run tests to determine the effectiveness of the disclosures, so there is no basis for the detailed requirements. The DFPI also rejected a request to provide model forms. Throughout the rule-making process, commentators have expressed concern that certain aspects of the disclosures could confuse recipients, such as the requirement to disclose the “average monthly cost” for all products, whether payments are made on a monthly basis or at another frequency. . Since the DFPI has not conducted any testing, it remains to be seen how customers may react to these disclosures, and providers should plan for the possibility that customers may have questions.
The Final Rule allows a provider to deviate from the font requirements (but not the column width requirements) if the provider determines in good faith that the deviation is necessary “for clarity based on the medium (e.g. , a mobile device). But the DFPI has not provided guidance on how to present disclosures and meet other disclosure requirements for mobile devices.
APR and finance charge calculations
The DFPI has always opted to require the disclosure of an APR, rejecting other measures such as the annualized cost of capital. In response to comments that the APR would confuse recipients of cash advances, factoring and other financing for which the provider does not charge interest, the DFPI opted for a statement in the disclosures that the cost is based on fees rather than interest.
Although the DFPI relied heavily on the methodology of Regulation Z for calculating APRs and finance charges, the Final Rule departs from Regulation Z in several key areas. For example, the Final Settlement requires a calculation in accordance with the closed APR calculation methodology set forth in Schedule J of Settlement Z for everything APR calculations. This means that providers of open-ended credit transactions cannot use the open-ended APR calculations under Regulation Z.
For open-ended credit transactions, the Final Rule therefore requires providers to include all finance charges in the APR calculation, including certain transaction-based charges, one-time charges, or charges that are behavior-dependent. borrower that would not be included in the APR calculation. APR calculation under TILA. For example, an open-ended credit plan that charges a fee for each draw made would not include that fee in calculating the APR under TILA, but the final rule requires the provider or funder to assume that the Borrower makes a single draw of the full credit limit and include the fees associated with the draw in their APR calculation.
The final rule also does not specify how to deal with certain financial charges which may depend on the choice of the borrower. For example, if an open-ended credit plan imposes foreign currency transaction fees, the final settlement does not specify whether the provider should assume that the borrower will or will not incur foreign currency transaction fees.
In addition, the DFPI declined to respond to a commenter’s request for the DFPI to indicate that vendors and funders can rely on the official Staff Commentary on Regulation Z, which contains a significant amount information relating to the determination of the financial burden for the purposes of this regulation.
The final rule specifies what estimates must be made in order to calculate APRs for transactions for which APRs have not historically been calculated, such as sales-based financing transactions. The DFPI has recognized that for these transactions, the disclosed APR and the actual APR can vary significantly. The agency dismissed comments questioning the effectiveness of the disclosures and the ability to compare costs between different funding options, saying it was sufficient to require a statement in the disclosures that the estimate may differ from the estimate. effective APR. Similarly, the DFPI rejected comments that pointed out that identical merchant cash advance products may have different disclosed APRs if providers or lenders use different authorized estimates in APR calculations.
APR tolerances and safe harbors
The final settlement includes APR tolerances and error correction provisions similar to those provided by TILA. Providers and lenders are not liable if disclosed APRs deviate from the actual APR by an allowable amount. The final settlement also includes a safe harbor for errors corrected within 60 days of discovery and before an action is filed, provided the recipient receives notice and any necessary account adjustments. This protection is similar to the TILA safe harbor. Unlike TILA, however, the final rulebook does not provide a haven for errors discovered during an exam.
Throughout the rulemaking process, many commentators called for other safe harbor provisions to be included in the final rulebook, such as a safe harbor for unintentional bona fide errors ( similar to the safe harbor provided by TILA) and greater error tolerance for sales-based financing and capital-based lending assets. While acknowledging that the disclosure obligations under the regulations are new and untested, the DFPI has rejected these requests.
In future alerts, we will discuss disclosure requirements for merchant cash advances and the status and scope of merchant finance disclosure laws enacted by New York and other states.