[House Hearing, 114 Congress]
[From the U.S. Government Publishing Office]
EXAMINING THE OPPORTUNITIES AND
CHALLENGES WITH FINANCIAL TECHNOLOGY
(``FIN TECH''): THE DEVELOPMENT OF
ONLINE MARKETPLACE LENDING
=======================================================================
HEARING
BEFORE THE
SUBCOMMITTEE ON FINANCIAL INSTITUTIONS
AND CONSUMER CREDIT
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED FOURTEENTH CONGRESS
SECOND SESSION
__________
JULY 12, 2016
__________
Printed for the use of the Committee on Financial Services
Serial No. 114-97
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
U.S. GOVERNMENT PUBLISHING OFFICE
25-876 PDF WASHINGTON : 2018
____________________________________________________________________
For sale by the Superintendent of Documents, U.S. Government Publishing Office,
Internet:bookstore.gpo.gov. Phone:toll free (866)512-1800;DC area (202)512-1800
Fax:(202) 512-2104 Mail:Stop IDCC,Washington,DC 20402-001
HOUSE COMMITTEE ON FINANCIAL SERVICES
JEB HENSARLING, Texas, Chairman
PATRICK T. McHENRY, North Carolina, MAXINE WATERS, California, Ranking
Vice Chairman Member
PETER T. KING, New York CAROLYN B. MALONEY, New York
EDWARD R. ROYCE, California NYDIA M. VELAZQUEZ, New York
FRANK D. LUCAS, Oklahoma BRAD SHERMAN, California
SCOTT GARRETT, New Jersey GREGORY W. MEEKS, New York
RANDY NEUGEBAUER, Texas MICHAEL E. CAPUANO, Massachusetts
STEVAN PEARCE, New Mexico RUBEN HINOJOSA, Texas
BILL POSEY, Florida WM. LACY CLAY, Missouri
MICHAEL G. FITZPATRICK, STEPHEN F. LYNCH, Massachusetts
Pennsylvania DAVID SCOTT, Georgia
LYNN A. WESTMORELAND, Georgia AL GREEN, Texas
BLAINE LUETKEMEYER, Missouri EMANUEL CLEAVER, Missouri
BILL HUIZENGA, Michigan GWEN MOORE, Wisconsin
SEAN P. DUFFY, Wisconsin KEITH ELLISON, Minnesota
ROBERT HURT, Virginia ED PERLMUTTER, Colorado
STEVE STIVERS, Ohio JAMES A. HIMES, Connecticut
STEPHEN LEE FINCHER, Tennessee JOHN C. CARNEY, Jr., Delaware
MARLIN A. STUTZMAN, Indiana TERRI A. SEWELL, Alabama
MICK MULVANEY, South Carolina BILL FOSTER, Illinois
RANDY HULTGREN, Illinois DANIEL T. KILDEE, Michigan
DENNIS A. ROSS, Florida PATRICK MURPHY, Florida
ROBERT PITTENGER, North Carolina JOHN K. DELANEY, Maryland
ANN WAGNER, Missouri KYRSTEN SINEMA, Arizona
ANDY BARR, Kentucky JOYCE BEATTY, Ohio
KEITH J. ROTHFUS, Pennsylvania DENNY HECK, Washington
LUKE MESSER, Indiana JUAN VARGAS, California
DAVID SCHWEIKERT, Arizona
FRANK GUINTA, New Hampshire
SCOTT TIPTON, Colorado
ROGER WILLIAMS, Texas
BRUCE POLIQUIN, Maine
MIA LOVE, Utah
FRENCH HILL, Arkansas
TOM EMMER, Minnesota
Shannon McGahn, Staff Director
James H. Clinger, Chief Counsel
Subcommittee on Financial Institutions and Consumer Credit
RANDY NEUGEBAUER, Texas, Chairman
STEVAN PEARCE, New Mexico, Vice WM. LACY CLAY, Missouri, Ranking
Chairman Member
FRANK D. LUCAS, Oklahoma GREGORY W. MEEKS, New York
BILL POSEY, Florida RUBEN HINOJOSA, Texas
MICHAEL G. FITZPATRICK, DAVID SCOTT, Georgia
Pennsylvania CAROLYN B. MALONEY, New York
LYNN A. WESTMORELAND, Georgia NYDIA M. VELAZQUEZ, New York
BLAINE LUETKEMEYER, Missouri BRAD SHERMAN, California
MARLIN A. STUTZMAN, Indiana STEPHEN F. LYNCH, Massachusetts
MICK MULVANEY, South Carolina MICHAEL E. CAPUANO, Massachusetts
ROBERT PITTENGER, North Carolina JOHN K. DELANEY, Maryland
ANDY BARR, Kentucky DENNY HECK, Washington
KEITH J. ROTHFUS, Pennsylvania KYRSTEN SINEMA, Arizona
FRANK GUINTA, New Hampshire JUAN VARGAS, California
SCOTT TIPTON, Colorado
ROGER WILLIAMS, Texas
MIA LOVE, Utah
TOM EMMER, Minnesota
C O N T E N T S
----------
Page
Hearing held on:
July 12, 2016................................................ 1
Appendix:
July 12, 2016................................................ 41
WITNESSES
Tuesday, July 12, 2016
Adarkar, Sachin, General Counsel and Chief Compliance Officer,
Prosper Marketplace............................................ 6
Levi, Gerron S., Director of Policy & Government Affairs,
National Community Reinvestment Coalition...................... 11
Nichols, Rob, President and Chief Executive Officer, American
Bankers Association............................................ 8
Patel, Bimal, Partner, O'Melveny & Myers LLP..................... 10
Sanz, Parris, Chief Legal Officer, CAN Capital Inc., on behalf of
the Electronic Transactions Association........................ 4
APPENDIX
Prepared statements:
Adarkar, Sachin.............................................. 42
Levi, Gerron S............................................... 45
Nichols, Rob................................................. 54
Patel, Bimal................................................. 63
Sanz, Parris................................................. 75
EXAMINING THE OPPORTUNITIES AND
CHALLENGES WITH FINANCIAL TECHNOLOGY
(``FIN TECH''): THE DEVELOPMENT OF
ONLINE MARKETPLACE LENDING
----------
Tuesday, July 12, 2016
U.S. House of Representatives,
Subcommittee on Financial Institutions
and Consumer Credit,
Committee on Financial Services,
Washington, D.C.
The subcommittee met, pursuant to notice, at 2 p.m., in
room 2128, Rayburn House Office Building, Hon. Randy Neugebauer
[chairman of the subcommittee] presiding.
Members present: Representatives Neugebauer, Pearce, Posey,
Fitzpatrick, Westmoreland, Luetkemeyer, Mulvaney, Pittenger,
Barr, Rothfus, Guinta, Tipton, Williams, Emmer; Clay, Meeks,
Scott, Velazquez, Sherman, Delaney, Heck, Sinema, and Vargas.
Also present: Representatives Hultgren and Hill.
Chairman Neugebauer. The Subcommittee on Financial
Institutions and Consumer Credit will come to order. Without
objection, the Chair is authorized to declare a recess of the
subcommittee at any time.
Today's hearing is entitled, ``Examining the Opportunities
and Challenges with Financial Technology (`Fin Tech'): the
Development of Online Marketplace Lending.''
Before we begin, I would like to thank our witnesses for
traveling here today to share their perspectives on this
important issue. It is my understanding that we may be
interrupted at some point for votes. I will alert everyone when
votes are called, and I will recess the hearing so members may
vote. We will then resume the hearing once votes are completed.
I ask unanimous consent that any member of the full
Financial Services Committee who is not a member of the
subcommittee be allowed to testify at the conclusion of the
questioning by the subcommittee members.
I now recognize myself for 5 minutes to give an opening
statement.
Today's hearing is focused on the development of online
marketplace lending. It is the first in a series of hearings on
financial technology or FinTech that I plan to convene in this
subcommittee.
Online marketplace lending, sometimes referred to as peer-
to-peer lending, has developed rapidly over the last decade. By
leveraging technology, adding new lending platforms, and
underwriting the logarithms, marketplace lenders have provided
expanded avenues of credit for consumers and small businesses
alike.
At the most basic level, online marketplace lenders provide
borrowers with faster access to credit than brick and mortar
lenders at loan levels traditionally not offered by banks.
These lenders process these loans using online applications and
automated underwriting that often allow funding decisions in
less than 72 hours.
Many consumer-focused lenders specialize in certain
segments of lending such as education loans, debt consolidation
or personal loans. Small business lenders are able to work with
businesses to address cash flow issues and provide capital for
growth and expansion projects.
This type of financing is especially important given the
depressed small dollar, small business lending since the
financial crisis.
While certainly only a fraction of the $5 trillion in
existing consumer debt, marketplace lending shows signs of
tremendous growth potential and identifiable challenges.
Over the last year we have seen a growing attention paid to
this market by Federal regulators, the media, and other market
participants, for example, the Office of the Comptroller of the
Currency, and the Treasury Department, who have considered the
appropriate Federal regulatory framework for these lenders.
One proposal being considered would offer a limited
national banking charter that could provide operational
efficiency and regulatory clarity. To date I have appreciated
the measured and thoughtful approach taken by the OCC and the
Treasury on these issues.
Banks have grappled with the questions surrounding
competitiveness and partnership. Some have been quick to point
out an uneven regulatory structure while others have embraced
the opportunity to partner with lenders to leverage their
technology and consumer reach.
I am hopeful that our community financial institutions will
benefit most from these technological advancements and
partnerships. Market analysts and the media have closely
examined and scrutinized the market's development and
anticipated where new growth or consolidation might occur.
For example, there has been a significant shift from retail
investor funding to institutional investor funding, which has
facilitated the growth in originations. Some analysts estimate
that the market will reach almost $90 billion by 2020.
The improvement of capital markets is also seen in the
securitization process. The market saw its first securitization
in 2013, and as of today there has been a cumulative
securitization of $10.3 billion.
On the other hand, a 2016 report from Deloitte predicts
that the future of the market will see large consolidations in
strategic partnership with traditional banks.
To make better policy decisions it is incumbent upon us to
understand the business models and the product offerings of
these lenders, understand how banks and lenders compete and
collaborate, and finally understand the current regulatory
framework and how policy decisions may determine the market's
future.
I hope today that members will walk away with a better
understanding of the market, its participants, and
where we are headed.
I will now recognize the gentleman from--
Mr. Clay. Missouri.
Chairman Neugebauer. --Georgia for--
Mr. Clay. I have it.
Chairman Neugebauer. Oh, Mr. Clay is here.
Mr. Clay. I am here.
Chairman Neugebauer. I'm sorry.
Mr. Clay. I am here, Mr. Chairman. I'm sorry.
We are playing musical chairs today, but we will manage.
Chairman Neugebauer. Yes. The ranking member is now
recognized for 5 minutes.
Mr. Clay. Thank you, Mr. Chairman, and thank you to each of
our witnesses for their testimony today.
The promise of FinTech or marketplace lending is the
ability to use innovation to improve upon the financial
marketplace for the benefit of our stakeholders. That includes
consumers and small business owners that have often been
underserved by traditional institutions in the financial
services sector.
At the end of the day, all of America benefits when our
financial system ensures that access to responsible credit is
nondiscriminatory, transparent and safe for business and
individual consumers.
Maintaining that type of financial system should also be
our priority when thinking about marketplace lending. That
means that FinTech or marketplace lending consumers must have
clear access to transparent information about the products that
they are receiving.
That means that marketplace lenders also need to be
transparent about their use of alternative data, provide
consumers with the means for challenging the accuracy of that
data, and ensure that the data does not discriminate against
consumers based on protected characteristics.
It means that FinTech investors must be provided with
accurate info on the quality of the loans that they are
investing in and the associated credit risk.
And finally, that means that marketplace lending or FinTech
cannot ignore the credit and capital needs of communities of
color and women and minority-owned businesses.
Innovation is important and I applaud the marketplace
lending sector for using innovation to expand the suite of
financial products and services available to consumers. Going
forward, it is my hope that your innovation will also extend to
improving access to credit for underserved consumers as well.
Thank you again to each of today's witnesses and I look
forward to your testimony.
Mr. Chairman, I yield back the balance of my time.
Chairman Neugebauer. I now recognize the gentleman from
Georgia, Mr. Scott, for 2 minutes.
Mr. Scott. Thank you very much, Mr. Chairman, and
appreciate this opportunity to give an opening statement. I
think that this new area of the financial system interacting
with our rapidly changing technology is not only one of the
more fascinating aspects of our economy but is very
definitively the future.
We need not look any further than our last retail
statistics where I think in the last I think it was 8 days
before the Christmas holidays, 62 percent of all of the retail
activity happened online. It is sort of like now we have the
future right in our hands with the BlackBerry.
And with this comes a lot of innovations and it is
important to me and to the State of Georgia because this is one
of the fastest and growing industries in the State of Georgia
and also because right now we have 71 million unbanked or under
banked individuals in our system.
And we have to make sure that they have access to credit.
And we also want to make sure with the rapid innovations and
the technological changes that are happening that we move with
caution to make sure that our policies that we put forward are
neither overreaching nor under reaching but that we reach that
delicate balance.
So Mr. Chairman, I really look forward to this hearing and
with that I will yield back the balance of my time.
Chairman Neugebauer. I thank the gentleman.
Today, we welcome the testimony of Mr. Parris Sanz. He is
the chief legal officer of CAN Capital, testifying on behalf of
the Electronic Transactions Association.
Mr. Sachin Adarkar is the general counsel and chief
compliance officer for Prosper Marketplace.
Mr. Rob Nichols is the president and CEO of the American
Bankers Association.
Mr. Bimal Patel is a partner of the law firm O'Melveny &
Myers.
And Ms. Gerron Levi is the director of policy and
government affairs at the National Community Reinvestment
Coalition.
Each of you will be recognized for 5 minutes to give an
oral presentation of your testimony. And without objection,
each of your written statements will be made a part of the
record.
Mr. Sanz, you are now recognized for 5 minutes.
STATEMENT OF PARRIS SANZ, CHIEF LEGAL OFFICER, CAN CAPITAL
INC., ON BEHALF OF THE ELECTRONIC TRANSACTIONS ASSOCIATION
Mr. Sanz. Thank you, Chairman Neugebauer, Ranking Member
Clay, and members of this subcommittee. Thank you very much for
inviting me here today at this important hearing regarding the
opportunities and challenges regarding online and marketplace
lending.
My name is Parris Sanz. I am the chief legal officer of CAN
Capital. I am testifying here today on behalf of my company as
well as the Electronic Transactions Association, the leading
trade association in the payments industry, of which we are a
member.
CAN Capital was founded in 1998 by a woman small-business
owner. She struggled to access commercial loan products that
would address her seasonal cash flow needs. And when she was
unable to do so, she made it her cause to solve the issue of
access to credit for small businesses.
Now, some 18 years later, CAN Capital has the longest
operating history in this space. Our risk and underwriting
models have been tested and proven during the previous credit
crisis, and we have provided small businesses with access to
over $6 billion.
We have served hundreds of different industries across the
United States from medical practices to restaurants to
automotive shops. The proceeds of our products are used for
business purposes like hiring new employees, purchasing new
equipment and managing cash flow.
As we all know, small businesses are the backbone of our
economy. They account for half of the total workforce and over
the last 20 years they accounted for two of the three net new
jobs in the country.
But despite their importance to our economy, these small
businesses struggle to obtain the capital that they need to
sustain and grow their businesses, especially since the Great
Recession.
In major surveys, small business owners report that they
are often unable to access the capital they need through
traditional small business loans. Part of the problem is that
traditional financial institutions face high costs to originate
these small business loans.
It can cost as much for a bank or other financial
institution to originate a $100,000 loan as to originate a loan
for $1 million to $3 million, making it uneconomical for these
institutions to provide access to these small dollar loans.
This creates an acute problem for Main Street because loans
of $100,000 and less account for 90 percent of all small
business loans. Fortunately for our country's underserved small
businesses, new and innovative technology platforms are
presenting alternatives to traditional small business loans and
expanding access to capital.
Online lending platforms like CAN Capital provide small
businesses with fast and easy access to the loans they are
seeking. Loans of $100,000 and less and loans of shorter
duration that are often better suited to the operating needs of
small businesses.
With the help of our data-driven algorithms to assess the
financial strength of potential borrowers, CAN Capital enables
fast funding decisions in minutes and can deliver capital the
same day or the next day.
Our industry's approach to evaluating risk has expanded
access to many underserved small businesses. This is because
companies like CAN Capital use data-driven underwriting models
that assess the financial strength of the business itself as
opposed to focusing solely on the FICO score of the business
owner.
As a result, we have been able to safely make available
capital to many underserved small businesses that would
typically be overlooked by traditional financial institutions
simply because of a low FICO score on the part of the business
owner.
As the committee begins to evaluate the regulatory
framework of our industry, we ask you to be sensitive to the
risks that additional regulation of non-bank platforms could
stifle innovation and possibly roll back the access to capital
the platforms like CAN Capital have provided.
Contrary to claims that online small business lending is
unregulated, the industry is subject to multiple layers of
Federal and state regulation. Also, companies like CAN Capital
that partner with banks become subject to a significant amount
of additional regulation and supervision, both by the Federal
banking agencies that oversee the bank as well as by the bank
itself.
Any additional regulation beyond this would certainly risk
restricting small businesses' access to much needed capital.
Instead, we urge policymakers to facilitate further innovation
in the small business lending space through a number of means.
Encourage online platforms to participate in Federal
programs such as the loan guarantee program of the SBA.
Encourage referral partnerships between online lending programs
and traditional financial institutions to expand access to
capital to deserving small businesses.
Encourage industry self-regulatory efforts with respect to
loan disclosures and borrowers' rights. And finally support
initiatives to create a harmonized policy framework that
streamlines existing state laws for online lending.
I would also like to note that our industry and the small
business community we serve are especially concerned about
calls by some public officials to regulate small business loans
in the same way as consumer loans.
Commercial loans consistently have been regulated
differently than consumer loans for multiple reasons, including
the role of commercial credit as a driver of the economy and
the sophistication of the users.
As part of a thoughtful analysis, we ask policymakers to
carefully study the important differences between commercial
and consumer lending before making any decisions to conflate
these vastly different categories.
We applaud Chairman Neugebauer, Ranking Member Clay, Small
Business Committee Chairman Chabot and other Members of
Congress who have pushed back against these efforts in a recent
letter to Treasury Secretary Liu.
On behalf of the thousands of small businesses that we
serve, we ask other Members of Congress to please do the same.
I thank the committee for the opportunity to testify and I
look forward to answering your questions. Thank you.
[The prepared statement of Mr. Sanz can be found on page 75
of the appendix.]
Chairman Neugebauer. I thank the gentleman.
Mr. Adarkar, you are now recognized for 5 minutes.
STATEMENT OF SACHIN ADARKAR, GENERAL COUNSEL AND CHIEF
COMPLIANCE OFFICER, PROSPER MARKETPLACE
Mr. Adarkar. Good afternoon, Chairman Neugebauer, Ranking
Member Clay, and members of the subcommittee. My name is Sachin
Adarkar. I am the general counsel and chief compliance officer
of Prosper Marketplace. And I am honored to be here today
representing Prosper.
Prosper Marketplace launched in 2006 as the first U.S.
marketplace lending platform. Our proprietary online platform
connects borrowers looking for unsecured loans with individuals
and institutions who wish to invest in those loans.
To date more than $6 billion in loans have been funded
through the Prosper platform. The loans help people refinance
high interest credit card debt or pay for large expenditures
such as medical bills.
All the loans originated through the Prosper platform are
made by WebBank, an FDIC-insured industrial bank under a credit
policy approved by WebBank's board of directors. Prosper
services all of the loans made through the platform.
Prosper is the second largest consumer marketplace lending
platform in the United States. Some marketplace lending
platforms, such as Prosper, offer investors the opportunity to
invest in the loans made through the platform, while other
platforms retain those loans and hold them on their balance
sheet as investments.
The Prosper platform offers borrowers access to fixed rate
consumer loans ranging from $2,000 to $35,000 with 3-year and
5-year terms. We facilitate a fast and transparent loan
origination process that includes clear disclosures of all
costs and fees and access to competitive interest rates.
The minimum FICO score for eligibility on our platform is
640, and the average FICO score is 705. The most common reason
for taking out a loan on our platform is to refinance
unsecured--I am sorry--to refinance existing unsecured debt
such as on a credit card at a lower interest rate and on more
affordable terms.
Prosper uses mostly automated processes to verify the
identity of borrowers and assess their credit risk. We have
developed innovative technology to make these processes more
efficient and effective.
For investors, the Prosper platform offers access to an
attractive asset class with steady cash flows and consistent
returns. The estimated weighted average return on loans
originated through our platform in June 2016 is just above 7.4
percent.
In order to help investors make well-informed decisions we
provide them with a high level of transparency. At the time an
investor is considering investing in a loan or a related
security, we provide them with detailed but anonymized data
regarding the borrower's credit characteristics.
After an investor has purchased a loan or a security, we
also provide them with detailed performance data regarding the
loan on an ongoing basis. We believe this approach creates an
open and fair process for all participants in our marketplace.
Loans originated through the Prosper platform are subject
to the same comprehensive regulatory framework as loans
originated through any traditional consumer lending platform.
All loans must comply with the Truth in Lending Act, the Equal
Credit Opportunity Act, the Fair Credit Reporting Act, the
Patriot Act, and a host of additional laws and regulations.
The loan program is subject to direct regulatory oversight
by WebBanks' regulators, the FDIC and the Utah Department of
Financial Institutions. The FDIC also has direct examination
and enforcement authority over Prosper under the Bank Service
Company Act.
Additionally, Prosper is subject to the enforcement
authority of the CFPB and the examination and supervisory
authority of numerous state licensing bodies. Finally, the
retail portion of our investor offering is subject to oversight
by the SEC, as well as State securities regulators.
We have developed a robust compliance management program
that includes strong controls, policies and procedures and
governance for all aspects of our operations. We are proactive
in raising issues of potential concern with regulators. And we
are committed to continuing this open and transparent dialogue
going forward.
We recently joined with other leading marketplace lending
platforms to form the Marketplace Lending Association, which
aims to facilitate this dialogue and encourage the responsible
growth of our industry.
We believe Marketplace Lending brings significant value to
both borrowers and investors and that it will play an
increasingly important part in the financial industry in years
to come.
I want to thank you for this opportunity to provide an
overview of our business and industry and I welcome future
opportunities to discuss these issues. Thank you.
[The prepared statement of Mr. Adarkar can be found on page
42 of the appendix.]
Chairman Neugebauer. I thank the gentleman.
Mr. Nichols, you are now recognized for 5 minutes.
STATEMENT OF ROB NICHOLS, PRESIDENT AND CHIEF EXECUTIVE
OFFICER, AMERICAN BANKERS ASSOCIATION
Mr. Nichols. Thank you, Mr. Chairman, and Ranking Member
Clay. My name is Rob Nichols, and I am the president and CEO of
the American Bankers Association. The topic of your hearing,
Mr. Chairman, is a very timely one.
New technologies are quickly changing the way businesses
connect with consumers. FinTech is a term used to capture this
rapid convergence of banking and technology.
While it has been used to refer to tech-focused startups,
innovative technologies are offered by banks and startups
alike.
While these technologies may feel new, at their core they
are leveraging technology to deliver traditional banking
products and services.
Make no mistake. Banks are pro innovation, pro consumer and
very technology-focused. Banks have pioneered ATMs, credit
cards, online banking, remote check deposit, et cetera.
Banks continue this innovation today, investing billions of
dollars annually to bring their customers the latest technology
apps delivered through secure and trusted channels. One such
product, for example, was developed by a mutual bank in New
England that recently announced its express business loan,
which allows small businesses to apply for a loan, get approval
and receive funding, all online and in less than 3 minutes.
Banks have a long history of course of serving customer
needs and have established entrusted relationships. These
relationships are backed by a culture of compliance and
regulatory oversight that ensures customers are protected. When
innovative products are delivered through bank channels,
customers get a great experience backed by a relationship they
can trust.
In addition, banks are actively partnering with FinTech
startups to bring their customers the latest technologies. When
banks innovate with startups, customers win. This is why the
banking industry supports policies that empower banks and
enable them to innovate and enable them to partner.
If they are better able to integrate these technologies,
customers will have greater access to safe, innovative
financial services.
One way to facilitate this is to offer banks and startups a
safe place to innovate new products. This program, often
referred to as a sandbox or a greenhouse, would allow banks and
startups to test real world products that otherwise they would
not be able to offer.
Importantly, while the same rules typically apply to banks
and non-banks alike, a lack of proactive oversight and
supervision can mean that customers may receive inconsistent
treatment from non-banks. Some have advocated adding consumer
protections to small business loans to address this.
We believe a better approach is to focus on the differences
between the two that lead to very different outcomes, namely
oversight. Problems that are emerging in the small percentage
of online loans should not drive radical and unnecessary
changes that risk impairing a market that has served businesses
well for decades, like this gentleman made.
Regulators are currently examining the potential of a
Federal FinTech charter to address this lack of oversight. As
they examine this issue we urge them to consider how any such
charter would differ from a bank charter and ensure that it
provides customers bank level protections.
It is important to note that while technology can drive
innovation and add value, it is not the replacement for a
community presence. Community banking is a relationship
business that is not replicable by technology.
While banks are driving technological innovation, they
remain invisible presence supporting their local communities as
they always have through community outreach and countless hours
of volunteering, something that cannot be done through a
keystroke or an algorithm.
FinTech technologies present tremendous opportunities for
banks and customers alike. They have the potential to promote
financial inclusion, giving greater access to financial
services on better terms.
These benefits though are only possible if we empower banks
to innovate and partner with startups. The banks' investment in
innovation today has the potential to benefit customers and
businesses now and for many, many years to come. These
innovations will only add value if banks, startups and
regulators can collaborate.
Mr. Chairman and ranking member, the ABA stands ready to
work with Congress and regulators to help make this happen.
Thank you very much for holding this hearing.
[The prepared statement of Mr. Nichols can be found on page
54 of the appendix.]
Chairman Neugebauer. I thank the gentleman.
Mr. Patel, you are now recognized for 5 minutes.
STATEMENT OF BIMAL PATEL, PARTNER, O'MELVENY & MYERS LLP
Mr. Patel. Chairman Neugebauer, Ranking Member Clay, and
members of the subcommittee, thank you for the opportunity to
appear and to testify before you about the development of
online marketplace lending.
My name is Bimal Patel. I am a partner and the head of
financial advisory and regulation practice at O'Melveny &
Myers, and was formerly for 3 years a senior executive at the
FDIC before I rejoined O'Melveny.
Since returning to private law practice I have advised
marketplace lending platforms, banks and investors on
commercial and regulatory issues in this industry.
According to the Treasury Department in its recent white
paper on online marketplace lending, and I am quoting now,
``Online marketplace lending refers to the segment of the
financial services industry that uses investment capital and
data-driven online platforms to lend to small businesses and
consumers.''
Within this broad framework, marketplace lending business
models vary considerably, focusing on different consumer
segments with different operational and underwriting models.
The online marketplace lending industry is growing rapidly.
According to date reported by the California Department of
Business Oversight, the aggregate volume of loan originations
made by 13 of the largest online lenders grew from just under
$2 billion in 2010 to just under $16 billion in 2014, which is
an increase of 699.5 percent.
While their business models and target customer segments
can vary significantly, many online marketplace lenders share
some common characteristics, including a user friendly online
experience, a non-traditional services funding, a balance sheet
light economic model, and alternative credit decision
algorithms.
Despite the industry's growth, it still constitutes a very
small percentage of the U.S. credit markets which encompass
several trillion dollars. Thus, there appears to be substantial
opportunity for the industry to grow.
One key point of distinction within marketplace lending
models centers on whether a particular marketplace lender
partners with a bank in its origination process. Federal law
currently permits banks to export their home state rate of
interest to all borrowers regardless of the state in which a
borrower resides.
Consequently loans originated by banks whose home States
have no effective usury limitation, a limitation on maximum
interest rates, can carry higher interest rates than loans
originated by other banks and non-bank lenders. Thus, some
marketplace lending models depend on such a partnership to
enable them to underwrite loans at rates that would otherwise
violate state usury laws.
As an alternative to partnering with a funding bank,
marketplace lenders can engage in lending by procuring state
lending licenses in which they make loans, but these loans are
subject to state law interest rate restrictions that vary by
state and impose administrative and financial burdens that can
be prohibitive to certain business models.
Depending on the precise business model of a marketplace
lender in the category of borrower to which it caters, a series
of consumer protection data privacy, securities and anti-money
laundering laws that I have identified in my written testimony,
are generally applicable to lenders either directly or
indirectly through bank partners.
Recent developments also indicate that the prudential
banking regulators, CFPB and state regulators and taking a keen
interest in this area and that further regulatory developments
are forthcoming.
As I mentioned previously, there appears to be substantial
opportunity for this industry to expand and to further economic
growth and economic opportunity for U.S. consumers and
businesses.
This growth will be dependent on economic and commercial
considerations as well as State and Federal policy
developments. I thank the committee for taking an interest in
these important issues and I welcome your questions.
[The prepared statement of Mr. Patel can be found on page
63 of the appendix.]
Chairman Neugebauer. I thank the gentleman.
And now Ms. Levi, you are recognized for 5 minutes.
STATEMENT OF GERRON S. LEVI, DIRECTOR OF POLICY & GOVERNMENT
AFFAIRS, NATIONAL COMMUNITY REINVESTMENT COALITION
Ms. Levi. At the outset, I want to thank you, Mr. Chairman
for convening this important hearing. Marketplace lending
models certainly warrant closer examination and some
congressional oversight.
And Ranking Member Clay and others on the committee, I know
you will be asking important questions about how marketplace
lending models interface with the Nation's traditional banking
infrastructure.
Our marketplace lenders who are largely monoline financial
service providers structures in ways that will ensure that they
are resilient throughout business and economic cycles.
What is the nature of Federal supervisory and examination
protocols regarding consumer protections and fair lending laws
and regulations? Whether interest across the various models are
aligned so that FinTech players have the veritable skin in the
game so that they have a stake in ensuring that loans are
underwritten well, ability to repay is paramount, and lending
is safe and sound.
Importantly, we believe that all the members of the
committee examine whether aspects of the industry's use of
data, sophisticated but opaque proprietary underwriting
algorithms, still insufficient transparency around pricing and
loan terms, broker fee and compensation arrangements and other
features are invoking parallels to the run up to the crises
around predatory subprime lending and private label
securitization.
My name is Gerron Levi. I am the director of Policy and
Government affairs at the National Community Reinvestment
Coalition. NCRC and our 600 grassroots members quite simply are
interested in creating opportunities for people to build
wealth.
We work with community leaders, policymakers and financial
institutions to champion fairness in banking, housing and
business development. I appreciate the opportunity to testify
this afternoon.
Though the industry is nascent, marketplace lending is a
growing segment. When evaluating these online lending platforms
and their sophisticated underwriting algorithms, NCRC certainly
is interested in seeing how they can expand safe and
sustainable credit. There is no doubt that innovative solutions
are needed to address a fundamental issue.
Small business lending is down and businesses are not
getting off the ground or are dying on the vine for a lack of
credit.
According to a recent Wall Street Journal report, the
number of loans issued by 10 of the largest banks in the United
States has decreased 38 percent to $44.7 billion in 2014, which
is down from a peak of $72.5 billion in 2006.
Importantly, however, we want to see FinTech and all
innovation and marketplace lending that is safe and
sustainable.
Consumer protections and fair lending protections should
not be different for the borrower based on where they apply for
the loan. We have also long supported all lenders in the
marketplace, including marketplace lenders, being covered by
and examined under the Community Reinvestment Act so that low
and moderate income borrowers and underserved communities,
including rural communities, are receiving the full benefit of
lending and innovation in the financial marketplace.
We have grown concerned about some of the dissatisfaction
reports we are seeing in the marketplace from our members and
others. A recent survey of small businesses by several Federal
Reserve banks reveals that 20 percent of small businesses
obtaining credit used online lenders with micro businesses
using them to a greater extent.
But their satisfaction with online lenders was very low.
Online lenders received a score of 15 among firms approved for
credit compared to 75 for small banks and 51 for large banks.
Small business lenders complained about the lack of
transparency, the unfavorable payment terms and very high
interest rates.
I cover a number of things in my written testimony, but
among the concerns that we have are around data and
transparency. We think similar to the Home Mortgage Disclosure
Act not the mortgage lending side, Section 1071 of Dodd-Frank
presents a great opportunity for marketplace lenders to
publicly disseminate data on their small business lending
activities, afford consumer protection and fair lending
reasons.
Let me just conclude by raising the issue that one of the
other panelists raised around limited purpose charters for
FinTech. We do have some concerns around that. We do want to
see CRA extended in the case of limited purpose charters.
We also want to make sure that retail lending done by
marketplace lenders are examined under those charters. We just
have concerns about whether that is appropriate in this
instance before the great benefits of national charters are
extended to these type of platforms, Federal pre-emption,
access to the payment system. There are tremendous benefits
from charters being extended and want to make sure that fair
lending and consumer protections are extended in the process,
and CRA.
Thank you very much for the opportunity to testify and I
welcome your questions.
[The prepared statement of Ms. Levi can be found on page 45
of the appendix.]
Chairman Neugebauer. I thank the gentlewoman.
The Chair now recognizes himself for 5 minutes for
questioning.
So this is an educational hearing and so to kind of set the
platform here, Mr. Adarkar, can you walk me through a typical
loan from application to securitization so we kind of get a
picture of what this playing field looks like?
Mr. Adarkar. Absolutely. So the average loan on our
platform--all the loans made through our platform are unsecured
consumer loans. The typical loan size is around $13,000 and the
typical interest rate is 13.9 percent.
So the way the process works is we market to potential
borrowers through a number of sources. We send out direct mail
pieces. We do email advertising. We do buy search words on
Google. We also have some website partners who have comparative
financial information sites.
There are a number of places through which borrowers come
to us.
Once they come onto the website there is an online
application process through which between the information they
provide and the information we pull from their credit report,
we can instantaneously make a decision for them about whether
they qualify for credit and the terms on which they qualify.
We present them with the terms that are available to them
if they are eligible, and if they decide to move forward then
there is sort of a two-track process that happens. On one track
we then essentially post the terms of their loan application
through our website with all personal information anonymized.
And the investor members on our website can essentially
make a commitment about whether this particular loan is one
that they are interested in. This is something that is
available to both retail and institutional investors.
These days the demand is such on our platform that most of
these requests are essentially fully funded instantaneously. So
the sort of funding track is one part of the process.
A second thing that is happening simultaneously is this
sort of verification process which consists of a few
components. The first thing is we need to verify the identity
of each applicant to confirm identity fraud isn't involved.
We also have a risk-weighted employment and income
verification process just to confirm the key information
related to their application to the extent that incorrect
information either in the credit report or supplied by the
borrower might increase the risk of default to an unacceptable
degree.
So that verification process is happening at the same time.
And it typically takes from between 3 and 5 days. So once that
process is completed, once we have verified the borrower
information and we are ready to fund the loan, once we have
received commitments from investors to fund the loan, then
WebBank, who I mentioned is the bank partner that makes the
loans originated through the platform, they fund the loans to
the borrower out of their funds.
The borrower receives the funds and 2 business days after
the loan is originated WebBank sells the loans to Prosper. We
then resell the loans to our investors.
For institutional investors, they buy the entire loan
outright. For retail investors, we break the loans into pieces
and sell pieces of each loan to a group of retail investors
which allows a broader range of folks to participate in the inv
process.
Chairman Neugebauer. So in that 2-day period between the
time you fund the loan and you securitize or you bring your
institutional investor in, you warehouse that loan for 2 days?
Mr. Adarkar. During that 2-day period it is actually
WebBank that retains ownership of the loan. They then sell it
to us and we turn around and resell it to our investors.
As soon as the loan is originated then we are responsible
for servicing the loans, meaning we are the ones collecting
payments from the borrowers, providing the borrower's
information, passing those payments on to our investors, as
well as providing our investors with regular proof of the
loans.
Chairman Neugebauer. Thank you.
Mr. Nichols, how do you envision--I think you speak to this
a little bit in your written testimony, but how do you envision
marketplace lending kind of changing the environment in the
more traditional banking space?
Mr. Nichols. Mr. Chairman, as I said, our overall view on
this is we think partnerships are fantastic and a good
opportunity for both. I would say though I am optimistic about
the future of community banking because of that personal touch.
You have banks that have been operating in communities for
decades. It is also good to have a bank that specializes in
small business lending so that you can look someone in the eye
and get a sense of what the business plan looks like.
But I do think as a general observation community banks
particularly, Mr. Chairman, can really benefit from a lot of
these FinTech partnership opportunities, a lot of the larger
banks have billions in R&D budgets and in laboratories and they
are doing lots of work.
They don't need as much assistance frankly as the community
banks do. I think I may have shared this with you, but we have
started a task force, Mr. Chairman, at the ABA, to really focus
on this issue.
And we have dealt with not only experts within the ABA and
in the banking sector but have really fanned out across the
United States to meet with folks all over the United States and
even probably talked to some international participants to try
to find ways where we can specifically help the U.S. community
bank market partner with FinTech companies to better serve
their clients and customers.
And the recommendations, Mr. Chairman, of that task force
will be out in the weeks ahead.
Chairman Neugebauer. I thank the gentleman.
Now, I recognize the ranking member of the subcommittee,
Mr. Clay from Missouri, for 5 minutes.
Mr. Clay. Thank you, Mr. Chairman.
Mr. Sanz, a number of marketplace lenders have opted to
operate under the Small Business Borrowers Bill of Rights
because they were concerned about the complaints that small
businesses have been raising about marketplace lending
practices.
That bill of rights includes a commitment to disclose
annualized interest rates or APR so that small business owners
have a legitimate basis for comparing loan products, but CAN
Capital did not opt into the Small Business Borrowers Bill of
Rights. Does CAN Capital disclose annualized interest rates or
APRs to your small business borrowers?
Mr. Sanz. Congressman Clay, thank you for your question. We
did not join the Borrower Bill of Rights group initially out of
a number of concerns with what that set of principles was
capable of achieving and not achieving.
Certainly a lot of respect for the intent and impetus
behind that group, but candidly, I don't know if Congress
Members are aware but that bill of rights is selective in terms
of the ones that you can sign up for.
It is not like 10 commandments where you have to abide by
them all. And CAN Capital had some concern about the teeth
behind it and really was much more focused on trying to do
something really palpable and meaningful.
And so alternatively we, with Cabbage and Onda Capital
formed the Innovative Lending Platform Association. And we are
currently sponsoring the SMART Box initiative. SMART is an
acronym that stands for Smart Metrics About Rate and Total
Cost.
The concept of total cost candidly is what we have learned
in our 18 years of experience is the most meaningful cost
metric to small businesses. Small business owners are very
focused on maximizing their return on investment. They are
focused on the ROI that they will obtain from the use of
proceeds.
And in our history we have determined that they really base
their decisions on the total cost of capital, which is
information that we provide on all the capital products.
Mr. Clay. But you--wait a minute. Wait a minute now. I am
not going to let you filibuster my question. What are your
annual interest rates?
Mr. Sanz. Many of our products don't involve interest and
don't have an APR associated with them, but maybe to more
directly answer your question, through the aisle PA and through
the SMART Box initiative we will be disclosing APRs around all
products.
Mr. Clay. Okay.
Mr. Sanz. The initiative is to create a standardized
disclosure mechanism.
Mr. Clay. Okay. Okay. What was the main APR of the loans
that you provided to small businesses last year?
Mr. Sanz. I couldn't tell you that off the top. I would
have to get back to you with that information.
Mr. Clay. Okay. Don't you think that having objective and
comparable information is essential to empowering small
business owners to decide which financial products are best for
them?
Mr. Sanz. Oh, absolutely, sir, but I would argue that there
may be the assumption oftentimes made that APR is the only
means of delivering pricing transparency. And what we would
tell you from 18 years of operating in the small business
finance space is that total cost of capital is a much more
meaningful financial metric for our customers. And we disclose
that clearly and--
Mr. Clay. Okay.
Mr. Sanz. --conspicuously.
Mr. Clay. All right.
Mr. Sanz. And we will also disclose APR though the SMART
Box.
Mr. Clay. I am sure that other members will have questions
for you.
Let me go to Ms. Levi. FinTech advocates have pointed to
marketplace lending as a vehicle for expanding access to credit
for traditionally underserved communities, yet the Department
of Treasury report found that virtually none of the loans being
made by marketplace lenders were going to the underserved
communities of color and low and moderate income communities.
Do you think that marketplace lenders are meeting the
credit and capital needs of minority communities and other
underserved groups?
Ms. Levi. I really--there are a couple of ways to answer
that. First of all, this is one of our issues. We really don't
have enough data about how the market is operating.
What I will--so in the same sense that you have home
mortgage, the Home Mortgage Disclosure Act publicly available
information about mortgages and who they are going to, on the
marketplace lending side and just really small business lending
more broadly we do not have that kind of comprehensive data.
Now, section 1071 of the Dodd-Frank Act does present an
opportunity to get that data, that marketplace lenders should
be covered. Just preliminarily I would say that marketplace
lenders from our evidence and from some of their annual report,
like annual reports like Lending Club, are servicing prime
customers, folks with 640 credit score or above.
But it certainly is an issue that would need more
information.
I will also say that one of our members, Woodstock
Institute, did a review of online lenders and found for, for
example, CAN Capital effective interest rates of between 36
percent and 60 percent as to your question, your last question.
Mr. Clay. Okay. I am glad someone could answer my question.
Thank you, Ms. Levi.
And I yield back.
Chairman Neugebauer. I thank the gentleman.
The gentleman from New Mexico, the vice chairman of the
subcommittee, Mr. Pearce, is recognized for 5 minutes.
Mr. Pearce. Thank you, Mr. Chairman.
Mr. SANZ, I think you mentioned that you all have about $5
billion more or less in loan transactions. Do you evaluate
where your market share is coming from? Is it new loans that
might not have been served or--I am thinking about Ms. Levi's
observations that she is seeing our businesses die on the vine.
We are seeing the same thing in New Mexico. So you are going
out harvesting new or are you pulling market share from someone
else?
Mr. Sanz. There is some of both, but definitely a
significant portion of the small business market that is
underserved by traditional financial institutions.
So just to clarify one metric, with respect to the $6
billion of capital to which we have provided access, some
portion of that is in the form of loans.
Another portion is in the form of a purchase of
receivables. It is a true sales transaction. It doesn't entail
interest and that is probably some of the complexity that I was
struggling to get to answer Congressman Clay.
Mr. Pearce. Okay.
Mr. Sanz. That being said, our model was designed--
Mr. Pearce. With all due respect, I just wanted an answer
to the one narrow question. I have several more to ask, so I
appreciate the answer.
Mr. Adarkar, you seemed to have thought about the process
quite a lot. Where do you see some of the greatest likelihoods
of abuse in this system, high tech system of quick looks? Where
are the--just to help us evaluate that if you would?
Mr. Adarkar. The potential for abuse in terms of fraud is
something that we take very seriously and we actually feel--
Mr. Pearce. No, I am not asking for your feeling on it.
What are the greatest risks? Where will they originate from?
Because I have some in my mind and I will ask about them if you
would rather, but I want to know. You are more a specialist
than me.
So I am sitting here looking and so the news report today
says things that my car is telling the car dealers about me. In
other words, you have access to information and so among that
information you would know my tendency that if I will buy a
product or if I will take a loan at this rate then why would
you give me a better loan?
You would fit it there. Do you see that manipulation of
data that I think most Americans are frightened by?
Mr. Adarkar. I don't see that as being a risk on our
platform.
Mr. Pearce. How about you, Ms. Levi? Do you see that as
being a problem? You are talking about loans in the nature of
36 percent, which seems a little bit above the market rate, so
do the people you advocate see that as being a potential
problem that they access the information on the part of very
fast financial analyses would give insights that might affect
the rates or how or when or how long?
Ms. Levi. Yes, and I assume you are talking about the
information that the lender is receiving and inputting into
their algorithms to make the lending--
Mr. Pearce. Yes, the CFPB is right now taking information
on every human being, 300 million people in the United States.
And if a lender has access to my buying habits then they can
tell everything about me. They know what political party I am
in. They know who I am going to vote for in the next election.
They know what I buy. They know what I will pay for it.
Everything, and that is very unsettling that lenders would come
into that.
Mr. Nichols, you are saying that the banks are glad and
willing partners and that is reassuring because typically I
look at the local people as being the connect to keep the
abuses out of a system.
Tell me if you are contemplating these possibilities of
just vast amounts of information being fed to you without even
your knowledge? I don't know. I am just looking for where the
system can go wrong and where it needs to be looked at.
Mr. Nichols. I would just say, Congressman, as a general
observation this issue of protection of data is so, so
important in our new marketplace with all the rogue actors out
there, with breaches, with cyber. You read about it every
single day.
So this issue of keeping customer data protected is a
critically important aspect of the exercise of any partnership
with any type of company--
Mr. Pearce. I understand that, but still you see Facebook
and they would pull down posts by conservatives. They took a
political bent and so even though you have the desire to
protect, you still have the Snowdens out there. You still have
somebody who will sell every single bit of information they
get.
You get hacking into the system. And I for one see dramatic
possibilities in the marketplace that we are discussing, but I
also see some risks. So I don't know.
Ms. Levi, do you talk about businesses dying on the vine.
Do you go to those businesses and say hey, there is no platform
out here? Do you ever one-on-one talk to people and say there
might be another opportunity. Don't die. Because again, that is
a problem we face in New Mexico since CFPB is really clamping
down many people are just not lending as much.
Ms. Levi. Yes. We do interface with small businesses
through some of our business centers in providing technical
advice, counseling them on how to procure safe and sustainable
credit. Absolutely.
Mr. Pearce. Okay. All right. Thanks.
I will yield back to the chairman.
Chairman Neugebauer. I have been advised the votes have
started. We are going to go to the gentleman from Georgia, Mr.
Scott, for his questioning and then we are going to recess. I
think we have five votes and then we will reconvene.
Mr. Scott, you are recognized for 5 minutes.
Mr. Scott. All right. Thank you.
As we all know with this rapidly changing technology,
consumer protection is even more extremely vital regardless of
where the loan is issued, either in the bank or even online.
And what I am gathering from the testimony I am hearing
from one side that this new online marketplace lending is
covered by adequate regulations for consumer protections. But
then on the other side I am hearing that they aren't enough.
So Mr. Nichols, let me ask you and Mr. Adarkar, on what you
think are the differences in the type of consumer protection
provided by banks versus the type that is provided by a FinTech
company?
Mr. Nichols. Sir, there is really one big delta. As the
gentleman articulated, all the laws that they are subject to,
that is correct. The difference is oversight.
Mr. Scott. Yes.
Mr. Nichols. Because of the supervisory relationship that
all these banking regulators have with banks, it is the
oversight relationship. That is key.
Mr. Scott. Let me ask you, Mr. Nichols, if you would
explain thoroughly so that I would understand. When you speak
oversight give us an example so we can be clear.
Mr. Nichols. The relationship, the FDIC, the Fed, the OCC,
all these entities have with U.S. banks they have visibility
into what the banks are doing in terms of cyber, honoring
people's privacy, their data, looking at the safety and the
soundness of the institution, looking at systemic risk.
The oversight model of the U.S. banking sector is quite
defined.
Mr. Scott. Yes.
Mr. Nichols. That is the big delta at this moment, and that
is what I know the OCC is thinking about in terms of if there
is going to be a non-bank charter. This is the sort of issue
that they are grappling with is the oversight delta.
That is the key difference between the two.
Mr. Scott. Mr. Adarkar, do you concur?
Mr. Adarkar. Sure. I would just add that the CFPB has the
same enforcement authority with respect to marketplace lenders
as it does with respect to banks, just two additional points.
For all marketplace lenders they are either operating in
partnerships with banks to originate their loans or originating
directly.
As I mentioned, if they are partnering with banks then they
are subject to the supervisory and examination authority of the
banks under the Bank Services Company Act. If they are lending
directly then they are subject to the state licensing and
oversight requirements of all the States in which they are
lending and they are subject to examination and supervision by
the licensing bodies of those States.
Mr. Scott. Okay. Let me ask the panelists about our small
businesses. This is the backbone of our American economy and
data clearly demonstrates that lending to these critical
drivers of our Nation's economy is still struggling to rebound
from the post-recession.
So when I saw Treasury, if you recall, the May 2016 white
paper, drawing the conclusion that micro business loans,
meaning any loan to a small business of $100,000, shared the
same characteristics as consumer loans and then suggested that
such loans should be subject to the same consumer protections.
It got me to thinking what is the real distinction between
these loans? If we hold these micro business loans to the same
standards as consumer loans, what impact is that going to have
on businesses gaining access to capital?
Ms. Levi. I do want to just briefly hit on the examination
issue. There are several marketplace lending models and whereas
traditional banks do come under an examination protocol, bank
examiners go onsite. They examine their lending under CRA they
examine their lending.
Marketplace lenders do not have that level of rigor in
terms of examination protocol. And you really have to look at
the various models to determine.
They may be subject to the law, but whether their actual
lending, their retail lending falls with under supervisory
examination protocols of any of the financial regulators or the
CFPB really is the pinpoint question. You have asked the
pinpoint question.
Mr. Scott. Thank you.
Mr. Sanz, did you--
Mr. Sanz. Yes. Thank you, Congressman Scott. I would tell
you that a critical difference between consumer and commercial
lending is that commercial loans power the economy by enabling
growth, hiring jobs, creating jobs, excuse me, buying
inventory, expansion, et cetera. So the use cases for the
capital is very different from between the commercial and the
consumer markets.
Also I would indicate that the distinction in the
regulation between commercial and consumer lending has been
very sharp throughout the decades. You can see that in the
Truth in Lending Act in 1968. And one of the many reasons
underpinning that is that when you are talking about small
business owners you are talking about sophisticated users of
credit.
So just to give you a brief example of the kind of
customers that we have at CAN Capital, we are not talking about
consumer hobbyists, Congressman. We are talking about business
owners who have been in business 13 to 14 years, who are doing
an average revenue of $1 million to $2 million a year.
They have brick and mortar locations. They are managing
their insurance, their taxes, their payroll, their licenses.
These are absolutely sophisticated users of capital.
Mr. Scott. Thank you.
Chairman Neugebauer. I thank the gentleman. I have been
informed now that what was a five-vote series is going to be an
11-vote series. The good news some of those will be 2-minute
votes, so I ask our witnesses to take a little break here.
And this hearing stands in recess subject to the call of
the chair.
[recess]
Chairman Neugebauer. The committee will come to order. We
will now resume questioning, and I yield to the gentleman from
Missouri, Mr. Luetkemeyer, chairman of our Housing
Subcommittee, for 5 minutes.
Mr. Luetkemeyer. Thank you, Mr. Chairman.
Thank you all for being here today. I was interested in the
last individual's, Mr. Scott's questioning with regards to
small business. I guess my question is I think Mr. Adarkar, you
also do individuals, do you not?
Mr. Adarkar. Yes. We only do consumer loans. We do not do
small business loans.
Mr. Luetkemeyer. You do not do small business loans.
Mr. Adarkar. That is right.
Mr. Luetkemeyer. Mr. Sanz, you do small business loans and
not consumer loans. Is that correct?
Mr. Sanz. Correct. We do only small business loans.
Mr. Luetkemeyer. So but you both do online lending, right?
Okay. You both do lending online.
Mr. Sanz. Correct.
Mr. Adarkar. Correct.
Mr. Luetkemeyer. Okay.
Mr. Nichols, one of the things that you talked about a
while ago, and it is interesting because I was somebody back in
2012 or the 112th Congress, 113th Congresses, both filed a bill
to have a non-bank Federal charter for online lending. And lo
and behold I got criticized excessively both those terms and
now here we are looking at doing this.
So I guess I was ahead of my time. It is not necessarily
where I am at most of the time, but anyway I was on this issue
perhaps.
You indicated that the ABA would be supportive of non-bank
charters. Is that right?
Mr. Nichols. If designed properly and thoughtfully, yes,
sir.
Mr. Luetkemeyer. Do you see an opportunity for banks to get
into this online lending?
Mr. Nichols. Many banks are already in online lending, yes.
Mr. Luetkemeyer. It would seem to me to be an opportunity
to expand into a different area, to deliver a different kind of
service, offer a different product. I know that you said you
are partnering with other people, but I would think that even
the banks themselves would maybe try to look at doing this
themselves as well.
Mr. Nichols. Yes, absolutely.
Mr. Luetkemeyer. Okay. I assume that the banks have to
comply with all different sorts of regulations. It would make
sense that the FinTech companies would be doing the same
things, would they not?
Mr. Nichols. In the context, Congressman, of this idea, the
concept of a FinTech charter, there are kind of some general
principles as we are approaching that and as we are meeting
with the regulators, the OCC and others.
I think you have a charter because it is designed to serve
the public good in some way, shape or form. So I think if there
are level protections, level safeguards, in exchange for pre-
emption which is presumably one of the reasons why there is a
desire to be in a charter of that nature.
Mr. Luetkemeyer. Do you think that online lending would
help you with your CRA rating?
Mr. Nichols. Would it help with the rating?
Mr. Luetkemeyer. Yes, with CRA?
Mr. Nichols. I would answer it this way. I think the idea
of if you are lending in a community I think the idea of CRA
being applicable probably makes sense to banks and non-banks.
Mr. Luetkemeyer. If online lenders have to comply with all
the regs that banks comply with they need to comply with CRA,
too? Mr. Sanz?
Mr. Sanz. Yes, Congressman. I think that there is a good
deal of thought that would have to go in to structure that. I
am not a CRA expert, but to the extent that we are regulated in
the same way, which I would argue largely we are today because
of bank relationships.
Mr. Luetkemeyer. Mr. Adarkar?
Mr. Adarkar. Yes. I think it would depend on the sort of
principle rationale that was underlying the bank charter and
the sort of rationale for the supervision. But certainly, the
goals of the CRA to the extent the CRA is intended to promote
expanded access to credit is something that the space is
certainly supportive of and believe that we are already being
supportive of today.
Mr. Luetkemeyer. Mr. Cordray is quoted as saying that,
``small business lending is going to be one of his policy
priorities in the next 2 years.'' And he really thinks the
lines between commercial and consumer lending are blurry.
Obviously he needs a different set of glasses. Mr. Nichols,
can you--or, yes, give me a difference between commercial and
consumer lending that Mr. Cordray would understand here?
Mr. Nichols. I actually think there are some pretty
significant differences there, Congressman. And I don't share
the view of Mr. Cordray in this area.
Mr. Sanz. If I could add, Congressman?
Mr. Luetkemeyer. Yes. You deal with one section of it.
Mr. Sanz. Definitely. I would highlight a number of
differences. I think in the consumer market you typically see
much smaller balance transactions. I think Mr. Adarkar was
indicating that their average transaction is about $13,000.
Mr. Luetkemeyer. What would the CFPB--need to protect the
consumer from in your situations that you deal with business
loans?
Mr. Sanz. I couldn't tell you net of the regulations to
which we are subject today. Certainly, the CFPB has some plans
for working on the 1071 information gathering regs, but today
we are subject to a significant amount of regulation that I
would argue provides sufficient protections for small business
owners.
Mr. Luetkemeyer. It looks like he is trying to get in some
place where he is really not necessarily needed to go and
probably for sure not welcome. But I thank you for that.
And I yield back the balance of my time. Thank you, Mr.
Chairman.
Chairman Neugebauer. I thank the gentleman.
Now the gentleman from Washington, Mr. Heck, is recognized
for 5 minutes.
Mr. Heck. Thank you, Mr. Chairman, and indeed thank you so
very much for holding a hearing on this topic, which I find
interesting and timely and important. I am genuinely
appreciative.
Mr. Nichols, I want to begin by using this opportunity to
remind everyone present. I was inspired by your very evocative
use of term sandboxing greenhouse. And I want to remind
everybody that Mr. Posey and I had been working for quite some
time on a no action letter legislation to expand upon what CFPB
currently has issued for themselves.
And in fact we have worked with Jeff Sharp from your office
considerably. He has done a great job I think on behalf of your
membership. I have continued to believe that expanding upon
what they, CFPB initially proposed would be a good and
important step forward in this area and I want to acknowledge
that.
And then I would like to ask you to characterize the degree
to which you see FinTech as a material competitive threat, if
at all?
Mr. Nichols. I don't see it as a threat. I would see it as
a threat if the supervisory framework, Congressman, evolved in
such a say that they would have some of the benefits and not
some of the responsibilities and obligations.
For example, in the context of the Congressman's question
about the charter. If you are going to have some of the
benefits of a charter you should have the duties and the
responsibilities I think of being in a charter.
So if public policy were to evolve in an unfortunate way I
think there could be a challenge there directly answering your
question.
That said, I do see more. If the public policy environment,
Congressman, evolves the right way I see a lot of opportunity.
I really do.
Mr. Heck. I really appreciate that you said that because I
actually see, and I am not sure if I did before 6 or 8 years
ago, more opportunity for collaboration and partnership here.
I am frankly a whole lot more concerned about things like
the bit coin and getting outside the payment rails altogether.
You are banking still the backbone of transaction in this
economy.
Ms. Levi, first of all, thanks for standing up on behalf of
people who on occasion need help to be dealt with fairly and
equitably. I also appreciated that you acknowledged in your
testimony that small business lending was down pretty
significantly last year.
And I am wondering if you would briefly characterize
because I would like a couple of the other people to answer as
well why you think that is and what it is you think we should
do about it? Because I see that, again, this whole conversation
is about access to capital on behalf the people who serve as
parts of the engine of this economy. And you acknowledge there
is an issue here, so why do you think that is going on? And
what should we do about it?
Ms. Levi. I think that banks have a responsibility. A lot
of the small business lending that has declined is because
banks are not providing it. And that CRA has a role there to
play.
Some of it is on the demand side as well. There is no less
demand for small business loans in some regard. There is also a
need for about 70 percent of small businesses want loans under
$250,000.
Banks are not really interested in being in that line of
business per se. They may not deem it profitable. That is also
an issue. There are a number of issues.
There is a role for innovation, for financial products for
small businesses, but the important thing for us is to ensure
that these products come with the full panoply of consumer
protection, fair lending examination and that, for example, a
number of the panelists said that CRA should apply but it is
how it applies. Is the retail lending also examined?
Mr. Heck. Thank you very much.
I want to give Mr. Nichols just 15 seconds to--
Mr. Nichols. There are so many interesting statistics here,
Congressman. Just today the NFIB Small Business Optimism Index
came out saying that 5 percent of small business owners
reported that their borrowing needs were not met--5 percent.
And that only 2 percent of small business owners in the
survey sample reported that financing was their top business
problem, so there are a lot of really interesting statistics.
Mr. Heck. So do you--just to clarify. You think the
perception that there isn't capital available for small
business may be exaggerated beyond what actually exists? Is it
fair to surmise that from what you just said?
Mr. Nichols. No. I would say it slightly differently. It is
having traveled extensively across the country it is different
regionally based on business models. So I can't answer it in a
static way.
Mr. Heck. Yes, yes, I got it. Thank you.
Thank you, Mr. Chairman. I appreciate your indulgence.
Chairman Neugebauer. I thank the gentleman.
The gentleman from Kentucky, Mr. Barr, is recognized for 5
minutes.
Mr. Barr. Thanks, Mr. Chairman, and thanks to our
witnesses. This FinTech revolution is really quite exciting in
many respects from the standpoint of innovation and obviously
filling a gap or some demand within the financial marketplace.
But as we look and as this marketplace evolves, I think it
is important that we strike the right balance. On the one hand
making sure that the existing regulatory regime or the gaps in
regulation perhaps as some may argue, do not prevent a level
playing field on the one hand.
On the other hand, I think it is very important that
Congress and regulators not overreact to stifle innovation. So
I kind of want to explore that tension a little bit with Mr.
Sanz, Mr. Adarkar and then Mr. Nichols as well.
So some FinTech companies are actually asking for more
regulation in the form of a Federal charter or a Federal
license. Mr. Sanz, I take it you are not very enthusiastic
about that concept?
Mr. Sanz. I wouldn't say that I am not enthusiastic. I
would say that there are a tremendous number of details that
would have to be explored and vetted thoroughly to understand
exactly what the tradeoffs are for a company like mine that is
strictly a small business balance sheet model.
And so commercial finance companies can certainly operate
in the face of the state patchwork. There are certain downsides
to that. But whether or not a limited charter would be the
answer I think the devil is in the details.
Mr. Barr. Mr. Adarkar?
Mr. Adarkar. So sort of echoing Mr. Sanz's comments. I
guess what I would emphasize is that I do feel that the status
quo has allowed a reasonable balance to develop in the sense
that the existing regulatory framework I do feel like has
created a reasonable balance between consumer protection on the
one hand and allowing these innovative companies to bring their
innovations to market and to grow and to prosper at the same
time.
And so I would be cautious about a new structure for that
reason just without knowing more about where the tradeoffs
would lie.
Mr. Sanz. And if I can please add, Congressman? I think it
is also really important to note that many of us on the panel
here today do work with bank partners and that we have
established relationships with them through which we have the
oversight of the bank itself as well as a Federal regulator.
And that model works.
There have been some recent uncertainties created in that
part of the market as a result of Madden v. Midland and other
things, very excited to see Congressman McHenry's bill of last
night that would address that.
Mr. Barr. I think competition and choice and providing
consumers with choices and alternatives is I think a hallmark
of consumer protection.
But I am curious to know and maybe this is a question for
Mr. Nichols, what is it that is creating demand for non-bank
lending that has fostered an environment in which FinTech
companies have grown and filled in the gap?
Is it perhaps that there are regulatory pressures on
community banks, credit unions, other bank lenders that make it
unprofitable for institutions to provide consumer credit, small
dollar loans or the products that the FinTech, the online
lending industry has provided?
Or is the risk profile of an unsecured loan in the $10,000
to $15,000 range simply not in the business model of a bank,
and that is to Mr. Nichols.
Mr. Nichols. Clearly, there are regulatory headwinds in the
post Dodd-Frank landscape that banks of varying sizes have been
dealing with. There is no question there. I would also observe
that a number of the loans, and I think she cited this earlier
in her testimony, a number of the loans are refinancing
unsecured debt and other things.
And to your earlier question I just wanted to jump in
there, if I may? In the context of a FinTech charter, if you
are going to get the benefits of a charter, the concept of this
nature, I should say, there are duties and responsibilities
that would come with that, presumably with pre-emption.
And then the big question and what I think the oversight--
of what I think the OCC is thinking about hard here is, again,
what does the oversight model look like? That is I think the
big question. That is what I think Mr. Curry and his colleagues
are dealing with.
But to your question, there are a lot of headwinds facing
banks, particularly community banks and the regulatory
supervisory framework is certainly among those.
Mr. Barr. I would say that as we look at maybe if there is
a need to level the playing field I think we instead of having
government pick winners and losers I think we need to look at
de-regulating some of the areas where we are talking about the
Financial Choice Act.
These community banks are unable to actually compete. But
in the meantime we don't want to stifle innovation where the
FinTech industry is really providing access to capital where
because of perhaps regulation the traditional banking model is
not able to provide that, that credit for consumers, businesses
and entrepreneurs.
Thank you. I yield back.
Chairman Neugebauer. I now yield to the gentleman from
Pennsylvania, Mr. Rothfus, for 5 minutes.
Mr. Rothfus. Thank you, Mr. Chairman.
Mr. Sanz, in your testimony you note that the online
marketplace lending industry is varied and rapidly evolving and
that lending models vary based on the nature of the borrower
and the mechanisms used to fund the loans.
I would also add that many online marketplace lenders offer
different types of financing to small businesses for more
traditional loans to merchant cash advances. With this in mind,
do you believe that any single disclosure requirement can
sufficiently convey useful information in such an
unstandardized industry?
Mr. Sanz. Thank you, Congressman. I would tell you that in
our experience at CAN Capital we have found that the simple
price ratio disclosure that discloses total cost alongside the
basic economics of the transaction, the amount of money being
provided, the amount of money that is either the receivables
that are being purchased or the repayment amount associated
with the loan, provides ample information to the small business
owner to understand completely the cost of the capital
associated with the product that they ultimately select.
What I would tell you, though, is that very much support
moving to additional disclosures that not only would highlight
the total cost of capital but that would also reflect the APR
of these loans to absolutely create a set of uniform
disclosures across all of these diverse products in this space,
not only merchant cash advance but loans of various sorts, some
of which use merchant cash advance-like payment features,
namely where the payment is a fixed percentage of an electronic
transaction stream or what have you.
That will truly empower small business owners not only to
understand the price of the product that they are looking at,
which I think we enable today, but also to have an ability to
do an apples-to-apples comparison of the different products in
the space.
Mr. Rothfus. Should there be a tailoring of disclosure
requirements based on the unique attributes of the financial
products that will be offered through FinTech?
Mr. Sanz. I think there will be the need for some specific
disclosures around particular products so that customers are
completely clear on how APR disclosures, for example, are made.
So for example with a merchant cash advance product, which
is a purchase of future receivable at a discount, no maturity
date, no interest component, no obligation to pay if the
business fails, you will have to assume certain things in order
to provide an APR disclosure.
You will have to assume the period of time over which the
purchased receivables are delivered. You will have to assume
basically a perfect performance against future expectations of
revenue.
And you will also have to further assume that it is a loan
product to begin with, which a merchant cash advance is not.
That being said I do believe firmly that an APR disclosure will
enable small business customer to be able to compare these
different products even though some of them are not loans and
don't have loan-like features.
Mr. Rothfus. Mr. Patel, would the failure of a marketplace
lender represent a threat to financial stability?
Mr. Patel. Thank you for your question, Congressman. The
answer is it depends on a number of factors. One factor is the
size of the market and as I laid out in my written testimony
and in my introductory remarks, to this point the size of
online marketplace lending is a mere fraction of the total
credit market in the United States.
It also hinges on the originate to distribute model that is
used in marketplace lending but at the moment given the nascent
stage of the industry and its size, I would say that we are a
little bit from that conversation being ripe. Feel free to ask
a follow up if you would like.
Mr. Rothfus. I wanted to get feedback on the extent of
regulation that is out there right now because there are
critics of the industry who argue that it is an unregulated
industry and that this supposed lack of regulation opens up
participants to significant risks.
Specifically Mr. Adarkar, is the online marketplace lending
unregulated?
Mr. Adarkar. No, I don't feel that is the case,
Congressman. As I indicated earlier, the loans themselves and
the protections offered to customers of the consumer loans from
marketplace lenders are subject to the exact same framework of
protections as any traditional consumer lending program would
be.
As Mr. Nichols pointed out, the difference is more in terms
of oversight at the entity level as opposed to regulation of
the loan products themselves.
Mr. Rothfus. Okay.
I thank the chairman and I yield back.
Chairman Neugebauer. I thank the gentleman.
Now the gentleman from New York, Mr. Meeks, is recognized
for 5 minutes.
Mr. Meeks. Thank you, Mr. Chairman. Mr. Chairman, a few
days ago--it seemed like it was just a few days ago, maybe it
was about a week ago--I had the privilege to welcome OCC
Comptroller Curry to my district in Queens, New York. And we
went over and toured and visited some small banks in downtown
Jamaica.
We made some stops at bank branches that had closed,
highlighting the challenges that banks are facing today in
serving underserved communities and operating in the financial
industry that is increasingly or increasing dependent on online
platforms.
One of our witnesses actually, Ms. Levi of NCRC joined us
on that tour with the controller and took part in the ensuing
discussions. And I just first want to welcome you as a member
of this panel.
Mr. Chairman, for several months now, I have been calling
for us to rethink, and I do think we need to rethink, on how
banking in the Community Reinvestment Act, CRA, should be
regulated because much has changed over the last 40 years since
this law was initially enacted.
For example, we know that banks have closed nearly 5,000
branches since the financial crisis and that a great amount of
financial services are now occurring through online platforms.
FinTech offers both great opportunities to reach millions of
Americans and small businesses that are currently underserved.
And there are some great opportunities there also.
But also it raises questions and concerns in terms of equal
access and consumer protections. So I think that this is a
timely hearing and very important for us to have this
discussion because we want to make sure that access is even and
we don't have greater disparities that begin to appear.
So I guess my first question is for Ms. Levi, who says
FinTech companies are not covered under the CRA. How can we be
assured that the needs of low to moderate income individuals
and communities are not left behind?
Ms. Levi. And we can't without that kind of coverage. CRA
is an affirmative obligation. It requires financial
institutions to reach out and serve, provide services, loan
products, to low and moderate income communities, underserved
communities and borrowers.
And banks have that affirmative obligations, but there are
a number of players in the financial marketplace who do not.
And without that affirmative obligation you do see gaps in the
types of products serving that segment of the market, low and
moderate income borrowers.
Mr. Meeks. We have to continue to press a little bit
because I think that when we look at the wave of the future,
technology is just going to be more and more and we have to
make sure that we are not leaving folks behind.
In fact, let me see, Mr. Nichols, let me ask a question.
Online marketplace lending is expanding access to credit into
some segments by providing loans to certain borrowers who might
not otherwise have received it.
And I am constantly--I met with some folks today hearing
that partnerships between banks and FinTech firms may offer the
best model. You have some banks and FinTech firms and they get
together.
Can you please help us to understand how such partnership
between online marketplace lenders and traditional lenders can
help in leveraging technology to expand access to capital and
into underserved markets?
Mr. Nichols. There is kind of the best of both worlds here.
You have the innovation and the technology solution that a lot
of these new FinTech companies are bringing to the market,
which is fantastic.
And then you have what banks, particularly community banks
have, which is the trust and the customer relationship. And it
is that pairing, Congressman, that I think is so powerful and
that I think what will help allow us to serve customers,
clients and communities better.
I went on and on in the written testimony, but I think it
is that pairing that is trying to bring--
Mr. Meeks. Are there any risks, or what risks does the bank
fear most or is most concerned about when you don't have the
FinTech firms or FinTech firms are operating outside of those
kind of partnerships?
Mr. Nichols. We talked a little bit about that and the way
I view that is that the potential for risk is that you have an
unlevel supervisory arrangement or a supervisory set of
arrangements where you have banks subject to a set of duties
and responsibilities that are perhaps different than some of
the FinTech market entrants.
But what the biggest delta, sir, in the area of oversight.
And that is what I think the regulators are going to grapple
with. So Mr. Adarkar has said a number of times eloquently and
correctly that they are subject to the same laws.
However, banks in the United States have--there is an
oversight relationship with the regulators that provides
remarkable visibility into what banks are doing in a whole host
of areas, CRA and dozens and dozens of other areas.
That is, I think, the future question that regulators need
to grapple with properly and thoughtfully.
Mr. Meeks. Thank you. I am out of time.
Chairman Neugebauer. I now yield to the gentleman from
Texas, Mr. Williams, for 5 minutes.
Mr. Williams. Thank you, Mr. Chairman. And thanks to all
the witnesses for your testimony today.
I am a small business owner, have been for 44 years. I am
from Texas and I am a car dealer. And I can tell you since
January of 2008 Main Street has never hurt as much as it hurts
today.
I wanted to being this afternoon by going back to a couple
of comments made by Mr. Sanz in his written testimony that I
found to be of particular value.
First of all, access to capital is the lifeblood of small
businesses and a major factor of their success and failure.
Second, business owners want to focus on running their
businesses not searching for funds. And finally, and maybe most
importantly, all small businesses utilize funds to generate a
return on investment.
Now, I have said this once, I have said it a thousand
times, I don't know, frankly, how a new business starts or
secures capital in this current regulatory environment. I just
can't see how it can happen.
But new and innovative technologies are expanding lending
platforms. In our full committee hearing this morning we heard
from witnesses that confirmed to us that small business lending
is down and community banks are consolidating. The very last
thing we need is additional regulations that stifles
innovation.
So particularly concerned when I saw that the Treasury
Department suggested we should be regulating small business
loans of under $100,000 in a similar manner as consumer loans.
Now, from past hearing we have heard how well that has worked
now for the consumer loan industry, haven't we?
So Mr. Sanz, the question to you. You noted that
implementing this recommendation would impact 90 percent of
small business loans. Can you go into greater detail on that
topic?
Mr. Sanz. Yes, absolutely, and thank you for those
comments, Congressman. We at CAN capital and within the
industry that serves small business are greatly concerned at
those comments from certain public officials that loans of
$100,000 and less would be regulated in the same way as
consumer loans.
Especially given, to your comment, sir, that we are talking
about 90 percent of all small business loans in our economy.
These are the use cases that small businesses have for smaller
balance loans, for shorter term use cases.
And I think it is very important to note that the use of
these small business products in the economy is what is truly
driving the economy.
Oftentimes the consumer products that we are talking about
are for debt consolidation, for consumers with higher FICO
scores that are simply adding no net new capital into the
economy. But with the small business products we are talking
about credit that is going to create new jobs, that is used for
expansion, to purchase inventory, and to manage cash flows.
And one important metric that we follow at my company is
the growth of our customers year-over-year. We are very
concerned to make sure that we are helping small businesses
grow.
In some years we have seen same store sales between the
first time that we underwrite a customer to the last time equal
4 percent growth. Sometimes it has been 9 percent growth.
So I think that that is some small indication of what firms
like CAN Capital are enabling in the economy.
We are a small part of the economy. It is nascent, but it
is growing. But I think it is serving a critical need for
capital for these very important use cases that power the
economy.
Mr. Williams. Thank you.
Mr. Patel, a question for you, are there competitive
advantages or disadvantages with regards to regulatory
structure for marketplace lenders as compared to banks?
Mr. Patel. So in the current moment, as other panelists
have alluded to, marketplace lenders are subject to a suite of
laws and regulations that I have made reference to in my
written testimony, either directly or indirectly. And I will
elaborate on this for just a moment.
Those that partner with originating banks are subject to
regulations both from a contractual perspective with our bank
partners if our bank partners are engaging in proper due
diligence on the front end. But also via potentially the Bank
Service Company Act as well as an equivalent provision in Title
X of the Dodd-Frank Act.
For those firms, marketplace lending firms that do not use
an originating bank partner, they can be subject to many of the
Federal laws that I made reference to in my written testimony,
but are also subject to state licensing requirements and
oversight from state authorities in which they are licensed to
do business.
So the marketplace lenders are in my view subject to a wide
suite of existing laws and regulations, both on the consumer
protection side, the Bank Secrecy Act side, as well as
securities laws.
Mr. Williams. Okay. Real quick, Mr. Sanz, can you explain
how business borrowers and business borrowers are different?
Mr. Sanz. Absolutely. Thank you, Congressman. One of the
many things that you see first of all is a level of
sophistication on the part of the small business owner.
As I indicated before, our small business customers
typically have been in business 13, 14 years on average. They
do $1 million to $2 million of revenue a year. They have brick
and mortar locations. They are managing their taxes, insurance,
payroll, et cetera.
These are absolutely sophisticated users of capital and,
again, the use case for the capital is very different than a
consumer product in the economy.
Commercial credit is driving the economy by creating jobs
and enabling growth and expansion, whereas oftentimes consumer
products are introducing lately no net new capital into the
economy, so extremely different use cases, very different
product features and uses.
Mr. Williams. Thank you for your testimony.
I yield back.
Chairman Neugebauer. The Chair new recognizes the gentleman
from California, Mr. Sherman, for 5 minutes.
Mr. Sherman. Thank you. Mr. Chairman, we have never had an
easier time for blue chip borrowers to borrow money. They are
getting it at rates, there are some governments that are
borrowing money at negative interest rates.
But I think all the companies that will start in garages
this century will be more important to us at the end of the
century than the Fortune 100 companies today. If I could buy
stock in all the garages I would sell the stock in the whole
Dow.
So we would all dream of a world in which every
entrepreneur can borrow all the capital they need at prime.
That world can't exist because 1 out of 20 of those
entrepreneurs is going to go bankrupt.
And so we need to have a sector of the economy that can
lend at prime plus eight. And--excuse me, speaking of
technology.
Now, we have the FDIC. Those subject to the FDIC, the
depository institutions who promise this guarantee are going to
face substantially more regulation than others. So the question
is who is going to make these prime plus eight loans? Is it
going to be the depository institutions?
I have had the regulators here and I begged them and
implored them to allow banks to make prime plus eight loans
with some small portion of their capital. And they smile and
nod and then they don't do anything.
So I will ask Mr. Nichols, do your members want to make
prime plus eight loans that--and will the regulators ever allow
you to do so?
Mr. Nichols. The members that I represent are--
Mr. Sherman. And when I say a prime plus eight loan, I mean
a loan where that is the fair return given the risk the lender
is taking.
Mr. Nichols. I understand, and obviously I can't speak for
all the members. They are not a monolithic group, but
Congressman, as a general observation, allowing market rates to
be set I think is a general--in our nation it is one of the
things that makes our country great.
Mr. Sherman. Do any of your members have a major part of
their business that says we are lending money to companies that
have a 1 in 20 chance of going bankrupt, but we are going to
make it up with higher interest rates?
Do you know of a major or do you know of a bank that has a
department that does that?
Mr. Nichols. Off the top of my head, Congressman, no.
Mr. Sherman. Okay. And you know the industry pretty well.
So there has to be somebody out there loaning money to the
companies that have a 1 in 20 chance of being bankrupt, going
bankrupt, because those are the only companies that have a 1 in
200 chance of being the next Amazon. And there is nobody in
banking doing that and I don't know whether that is your
business model or your regulators, probably both.
So I will ask Mr. Sanz, do your members make loans at prime
plus eight where that--and do you make loans to companies that
have a 1 in 20 chance of going bankrupt?
Mr. Sanz. Yes and yes, Congressman. The cost of capital to
which we provide access is risk-based. We got our start in 1998
by designing models that would provide access to capital for
small businesses that have less than perfect FICO scores.
Mr. Sherman. Yes.
Mr. Sanz. And we were able to build models based largely on
firmographic data that helped us assess the health of the
business, so--
Mr. Sherman. And it is not just the FICO score. If the
pizza tastes like cardboard, the business is going bankrupt.
Mr. Sanz. Absolutely, Congressman. I would tell you that
what is important to us some of the elements that are very
important to us as we look at the financial strength of a small
business, we are looking to underwrite is their revenue, their
revenue trends, their time in business. Firmographic data--
Mr. Sherman. I would also point out that we also have the
venture capitalists, the initial public offerings, a host of
other means and Reg. D and we have talked Jobs Act, et cetera,
a host of other ways of providing capital that expects a much
higher rate of return than prime or prime plus two and that is
willing to take substantially greater risks.
I just hope that when the American Bankers Association
comes back here in a few years they say, Sherman, you prodded
those regulators. You prodded us and five and 10 percent of our
members are spending--they are having 10 percent of their
portfolios being lent out to businesses that have a 1 in 20
chance of going bankrupt and we are charging prime plus eight.
But you are not there and somebody needs to be.
Mr. Nichols. One thing I would say, Congressman, what makes
the community banking model in this country so special is that
with great respect to the current evolution of FinTech, a
keystroke or an algorithm is never going to replace one person
looking at another in the eye and saying let us talk about your
business plan. Let us talk about your assumptions. Let us talk
about your modeling.
Mr. Sherman. Yes. And when your regulators--
Mr. Nichols. That personal touch--
Mr. Sherman. --let you do that, you should do that.
Mr. Nichols. I understand. I am saying but that personal
touch, particularly on the part of community banks is not
likely to be replaced any time soon in my opinion.
Mr. Sherman. I will just say from the standpoint of the
business, we like to tell you that we love our bankers because
of their personality and the confidence that they give and the
personal relationship. We really just want the money and while
it would be good to get a loan based on that personal
relationship, if we don't get it we will deal with Mr. Sanz's
computer and we will be just fine.
I will yield back.
Chairman Neugebauer. I thank the gentleman.
Now the gentleman from New Hampshire, Mr. Guinta, is
recognized for 5 minutes.
Mr. Guinta. Thank you very much, Mr. Chairman. I appreciate
you being here today and dealing with our vote schedule in the
middle of our hearing.
I am very interested in learning a lot more about the
online marketplace. I am interested in seeing the new
innovative and technology platforms that grow and give more
opportunities and options to individuals.
I represent New Hampshire. Small business is our backbone.
Ninety percent of our economy is driven by small business. We
have almost 300,000 people employed by small business owners.
And while I think our community banks in New Hampshire do a
great job of providing access to capital to individuals, there
are those who still have challenges with access to capital and
particularly in part, from what I hear and what I am told by my
community bankers, are the regulatory challenges of Dodd-Frank.
And so it is a concern to me when I then talk to a customer
of a bank who says because of the restrictions I cannot grow,
expand or start my business. So this space is interesting to me
because I think it provides more alternatives and options.
But first I would like to start with Mr. Sanz. And I know
that you have covered this a little bit before, but I am
hopeful that my New Hampshire constituents will hear it and
appreciate it.
If you could just quickly talk about the online small
business marketplace and how it actually would provide more
access to capital to those individuals that may not otherwise
benefit from the existing bank that they have?
Mr. Sanz. Absolutely. Thank you for the question,
Congressman. I would tell you that the way in which firms like
CAN Capital have expanded access to capital for underserved
small businesses, is through a focus on technology and data-
driven algorithms.
I think with all respect to bankers and the banking
community, that we value. We have a banking partner. It has
been difficult for banks to provide access to loans of 250 and
less, maybe even a million and less to small business because
of very high costs of acquisitions, search costs, underwriting
costs of various sorts.
Companies like CAN Capital we embrace the technology-
enabled model that significantly reduces those costs by
automating many features of the underwriting process, by
building data-driven models that take certain inputs and
provide some significant insight into the current and future
financial health of the small business and their eligibility
for loans and their ability to pay.
So by relying on technology, building data-driven models
and, candidly, over 18 years, amassing data about those
transactions, those daily interactions with customers,
developing very deep insights into hundreds of different
industries that enable us to identify like customers almost
instantaneously and predict their future financial health and
underwrite them on that basis.
Mr. Guinta. So given the fact that we have had 800,000
fewer small businesses started during the last several years
nationally, which is where I think we can point to a problem
with economic growth and a problem with wage inequality or the
term that I hear, wage inequality.
There is less job opportunity and availability. When you
have 800,000 small businesses that have not been created that
should have been. So that is why to me I think that there is an
opportunity here for greater access.
One thing I wanted to ask Mr. Adarkar, I am also concerned
about either the unbanked or the under banked and how this can
provide greater access to that space and that community?
Mr. Adarkar. Thank you, Congressman. We believe our
platform expands access to credit by reducing the cost of
credit.
Mr. Guinta. Yes.
Mr. Adarkar. Now, as a result of the combination of
innovative technology, as well as operational efficiencies in
the sort of focused expertise we bring to our particular
product, we believe we are able to price our borrowers at a
rate that more accurately reflects the cost of their credit.
And in that way, we believe that we are able to expand access.
Mr. Guinta. Okay. I appreciate it. Thank you all for being
here today. Thank you, Mr. Chairman, and I yield back.
Chairman Neugebauer. The Chair now recognizes Mr. Pittenger
for 5 minutes.
Mr. Pittenger. Thank you, Mr. Chairman.
And I thank each of you all for your endurance and patience
today. I started my first business in the 1980s and I had to
borrow $150,000 from a banker, and he knew me and I knew him.
And I was very fortunate to get the loan.
He was paid back. We had a good mousetrap. We had a good
idea. And this some years later I was asked to join a community
bank board, and this was during the 1990s. And from the time we
chartered the bank until the time we sold the bank to a mid-
sized banking institution.
And, we knew who to loan money to. I was kind of the P.R.
guy and we had a lot of golf tournaments and cocktail parties
and a good relationship. And they knew us and we really knew
them and when in our loan meetings there was a box we checked
on character. And we knew those folks.
Now, I don't see a box on character today to check. And
that entrepreneur has been the lifeblood of our economy. It is
what has made America so unique, that people come to America
for opportunity and to take their idea and their dream, their
vision, their work ethic, the risk and to build something.
And now I believe our entire economy is really threatened
for the long term because an entrepreneur doesn't have a place
to go. And I think that is the greatest threat, challenge we
have in the future.
So as one who believes in markets and open markets and free
markets and competitive markets, I am grateful for choices that
we have in the marketplace that allow someone to identify their
cost of capital and prime plus eight or whatever that is and
they fit that in their model. And if it works it works. And
they go off and run.
So I applaud the work that is being done and the effort and
the tenacity and the genius of folks who get out there to
create something that is really needed in our economy today.
With that in mind, Mr. Sanz, I would just like to get some
understanding. There is a lot of conversation that your
business is not regulated. Yet I have read in your testimony in
the appendix a broad matrix of applicable laws and regulations
that you have to respond to and comply with.
Could you outline some of these existing laws and that you
have to comply with and then give us a framework of what you
have to be accountable to?
Mr. Sanz. Absolutely. Thank you for the question,
Congressman. So today in our business we are subject to
multiple layers of Federal and State regulation. We act both as
a direct lender.
We also have a relationship with a partner bank and as a
result we are subject to rules and regulations, for example,
regarding fair lending at the Federal level, ECOA and Reg. B on
the commercial credit side. We are subject to both Federal and
state laws regarding unfair and deceptive acts and practices,
the various other laws that we set forth in the appendix.
And importantly we are subject to an additional layer of
regulation through the relationship that we have with our bank
partner. That results in not only being subject to the
oversight of the bank's own Federal regulators, the FDIC, but
also to the bank itself, which entails requiring a robust
compliance management system, regular third-party audits by
reputable audit firms, as well as approximately quarterly
audits by the bank itself for compliance with the credit
policies, all compliance policies and procedures under AML,
BSA, FCRA, et cetera.
Mr. Pittenger. Thank you. Give me a better understanding of
how business borrowers and consumer borrowers are different?
Mr. Sanz. I am sorry, sir. I didn't hear you.
Mr. Pittenger. Business borrowers and consumer borrowers--
Mr. Sanz. Thank you, sir.
Mr. Pittenger. --the distinction between the two?
Mr. Sanz. Thank you, sir, I appreciate it. What we see in
our business absolutely is a number of things. I have said
before, and I hope you don't mind my repeating, one major
difference is the use case for the capital.
What we see in the consumer industry is consolidation of
debt at somewhat lower prices. What we see on the commercial
side of the ledger is that capital is being used to drive the
economy, to the creation of new jobs, expansion, remodeling,
managing cash flow.
We also see in our customer base a very high level of
sophistication. Business owners, like many Members of Congress
who have been here today, namely people who have been running
businesses for decades, who are managing revenue in the
millions of dollars, who are accessing capital for 50,000,
100,000, 150,000 as you indicated, Congressman, to drive their
businesses forward, so very different uses and significantly
different profiles in terms of the user.
Mr. Pittenger. Thank you.
I would yield back. My time is up.
Chairman Neugebauer. I thank the gentleman.
I would ask unanimous consent that one Democrat and one
Republican have one mini-round here.
And with that I will yield 5 minutes to the gentleman from
Georgia for an additional question.
Mr. Scott. Okay. Thank you. Thank you, Mr. Chairman.
I want to make sure I get some clarity on where everybody
stands regarding this May 2016 letter that the Treasury
Department has put forward. And I started on that before the
last session.
And the paper made the conclusion that the micro business
loans, any loan to a small business under $100,000 shares
similar characteristics as consumer loans and should be subject
to the same consumer protection.
So I think we need a clarity answer from each of you all.
Do you all--who agrees with this conclusion? Now, the
marketplace lenders, if I am correct, you are currently
regulated under the Truth in Lending Act.
Is that correct? Anti-money laundering and the Fair Credit
Reporting Act, but you are not under the same level of scrutiny
as the traditional banks. Is that where we are? Am I correct
there?
Mr. Adarkar. Congressman, sorry, I think I would
distinguish between marketplace lenders engaged in consumer
lending versus those engaged in small business lending. And my
point earlier is that we are--for marketplace lenders engaged
in consumer lending the regulatory framework is the same as it
is for traditional bank lending programs.
Ms. Levi. I would like to add--
Mr. Scott. Okay.
Ms. Levi. --the bottom line, whether it is $25,000,
$100,000, whatever the size of the loan the bottom line is that
marketplace lenders should be subject to things like the Equal
Credit Opportunity Act, the Fair Credit Reporting Act. Not only
subject to, but examined under.
Mr. Scott. Yes.
Ms. Levi. This lending has to be supervised and examined in
the same way that depositories are examined. And if they do not
comply with fair lending laws and regulations, those products
really should not be in the marketplace.
Mr. Scott. The other part I want to get at is that as we
are bouncing back from the recession, perhaps the most targeted
group that is struggling the most to get access to this credit
are African Americans. Am I right? Does anybody disagree with
that?
Ms. Levi. It certainly is what you see in the HMDA data.
Mr. Scott. Yes.
Ms. Levi. There has been a tremendous drop off on certainly
where we have data you do see that.
Mr. Scott. Right. And so the issue becomes can we get any
indication from you all as to which way we should go here in
Congress to get a more even playing field to try to figure out
why there is this inability, particularly with the African
American community to get access, and particularly because that
is a community that desperately needs this wealth building
process in this community to start a new business, which many
want.
Ms. Levi. Let me--
Mr. Scott. To hire a new employee to get themselves lifted
up.
Ms. Levi. Let me say this. The fact that you do not have
affirmative obligations like CRA for non-bank lenders--
Mr. Scott. Yes. Explain when you say affirmative action.
Ms. Levi. In other words, depository institutions under CRA
they have to be affirmatively reaching out--
Mr. Scott. Yes.
Ms. Levi. --outreach providing products and services to low
and moderate income borrowers in the community. It is an
affirmative, an obligation that requires that they take a step
forwards. Non-bank institutions by and large do not have those
kind of affirmative obligations on them.
So if you don't have that you are going to see some gaps.
And let me just say this. Also not having fair lending reviews
is a problem. Let me give you an example from the bank context.
We have seen 15 instances in the last few years of large
redlining settlements--
Mr. Scott. Yes.
Ms. Levi. --consent orders as a result of direct
supervision by CFPB, HUD and state attorney generals. You have
to be reviewing the lending to ensure that it is fair and
equitable to low-and moderate-income communities, minorities,
rural communities, and the like.
Mr. Scott. Okay.
I see my time is up, Mr. Chairman.
Chairman Neugebauer. I thank the gentleman.
My last question is when marketplace lending started off
kind peer-to-peer, then we started having some institutional
investors come in. Then we have seen the securitization.
And so I guess the first question is is some people kind of
have said that the current economic situation and policy of the
Fed has a whole bunch of people out there looking for a lot of
yield.
This was a perfect storm where the marketplace lenders came
in and were able to provide an opportunity for lenders to get--
or for investors to get a higher return and for borrowers to
get a lower interest rate.
Going forward how do you sustain your business model where
the economic conditions, one, change and secondly interest rate
environment changes? Does anybody want to pick that one up?
Mr. Sanz. Thank you, Congressman. I would tell you that
with respect to CAN Capital we don't sell any of the assets
that we originate. We are a balance sheet model. We retain all
the risk of all of the assets that we either originate or that
we buy from a bank partner. And we rely on lines of credit from
lenders.
We don't have future flow arrangements. We are not
originating to sell. And so I don't know that with respect to
my business model that I could directly address your question
because we are not a marketplace lender in that sense.
Chairman Neugebauer. Okay.
Mr. Adarkar? Go ahead.
Mr. Adarkar. Sure. Thank you, Mr. Chairman. What I would
say on the investing side of our business is a significant
portion of the investors on our platform, whether they are
retail or institutional, are value-driven. And they are
attracted by the risk-adjusted returns of our product.
So in that sense I do not believe that a change in the
interest rate environment would change the value they saw in
our asset relative to the risk reward tradeoff in comparable
asset classes.
On the borrowers' side of the business, our most typical
borrower is someone who is refinancing higher interest credit
card debt. So for those folks we would expect that rates, the
competing rates they were seeing in that sector were sort of
moving in line with the general movement in interest rates
overall.
So we do not expect that a change in the interest rate
environment would hurt that side of our business either.
Mr. Nichols. Mr. Chairman, I would say obviously banks are
looking for some interest rate normalcy. That is just an aside.
But one of the advantages here of being a bank is you have the
stable funding aspect and that banks will be there for you in a
credit or an economic downturn, which is certainly an advantage
of the U.S. banking system in the context of your question.
Chairman Neugebauer. And so then what we have heard a lot
of discussion today about is looking at what kind of regulatory
environment do--marketplace lenders need to operate in, which
what we have seen happen to our friends in the banking industry
is we saw more regulation put on them that changed their
business model.
So if the regulatory environment gets more aggressive in
the marketplace lending what is the likely outcome of change?
Will you have to change your business model and will that
change your funding model as well?
Mr. Adarkar?
Mr. Adarkar. Sure. What I would say in that respect is with
all due respect to Mr. Nichols, I believe that what has driven
the success in our space is not necessarily a difference in
allocation of regulatory resources so much as it is our ability
to develop innovative technology, our ability to create
operating efficiencies and our ability to focus and develop
product expertise in a very specific area with a very
particular type of product to a degree that would be difficult
for most traditional banks.
And so I do feel like there are certain inherent
significant competitive advantages that explain the great bulk
of our success that would still be present in a different
regulatory environment.
Of course any new regulatory scheme we would like to see it
apply in a way that was balanced and fair across the spectrum
of lenders and in a way that didn't overly stifle innovation.
But we don't believe that regulatory change would necessarily
go at the heart of what we see to be our competitive advantage.
Chairman Neugebauer. Mr. Patel, Madden V. Midland Funding,
how is that ruling going to impact marketplace lenders?
Mr. Patel. So I would say Madden has been a source of
uncertainty in this industry. Frankly, the Madden case, the
resolution of it is still uncertain. There are a couple of
issues to be decided on remand by lower courts.
Chairman Neugebauer. Can you talk a little bit more into
your microphone there for me?
Mr. Patel. Can you hear me now, sir?
Chairman Neugebauer. Yes.
Mr. Patel. Great. Sorry. Madden has been a source of
uncertainty. The resolution of the case is yet uncertain. There
are a couple of issues that need to be resolved by the lower
courts, specifically the application of valid when made and
choice of law issues.
But more to the macro point on Madden, Madden creates
uncertainty as to whether or not interest rates charged on
certain loans are valid and thus whether those loans comply
with a series of legal requirements, including state usury
laws, potentially even Federal RICO laws.
So on the whole this is one reason I would expect that
certain FinTech companies are advocating on behalf of a
national charter of some sort whether a bank charter or
something more limited, because they want to quell some of the
uncertainty created by the Madden decision, which frankly
depending on your read, is distinct from court of appeals cases
in other areas of the country.
Chairman Neugebauer. I want to thank the--
Mr. Scott. I want to do that.
Chairman Neugebauer. --oh, I am sorry.
Mr. Scott. Yes. If I could, Mr. Chairman, I would like to
introduce for the record this letter of July 11th from the
National Association of Federal Credit Unions (NAFCU).
Chairman Neugebauer. Without objection, it is so ordered. I
would like to thank our witnesses for your testimony today. And
without objection, I would like to submit the statement of the
Financial Services Roundtable. We had the credit union and the
report from the Financial Innovation Now.
The Chair notes that some Members may have additional
questions for this panel, which they may wish to submit in
writing. Without objection, the hearing record will remain open
for 5 legislative days for Members to submit written questions
to these witnesses and to place their responses in the record.
Also, without objection, Members will have 5 legislative days
to submit extraneous materials to the Chair for inclusion in
the record.
Again, I thank our witnesses for your patience, and with
that, the hearing is adjourned.
[Whereupon, at 5:40 p.m., the hearing was adjourned.]
A P P E N D I X
July 12, 2016
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]