Marketplace Lenders Aren't Mobsters
Using RICO to take down lenders will stifle market innovation and competition.
It was recently announced that LendingClub Corp., the largest of the so-called marketplace lenders – nonbank online lenders who fund loans with risk-capital instead of bank deposits – is facing a civil Racketeer Influenced and Corrupt Organizations, or RICO, suit in New York. That's right, RICO, the thing they use to take down mobsters. So, what are the allegations? Did LendingClub leave a horse head in the bed of a borrower in default? No, LendingClub made a loan through its partnership with WebBank to an individual in New York at about 30 percent interest, and the borrower alleges that this reflects a corrupt scheme to use WebBank as a sham to avoid state usury law. While this may not compete with "The Godfather" for drama, it does reflect an emerging problem that needs to be corrected if we want credit markets to remain innovative and inclusive.
First some essential context: Banks will often make loans and then sell the debt to nonbanks, either as whole loans or securitized pool of loans. LendingClub is a buyer of whole loans made by WebBank. Banks also enjoy the ability under federal law to "export" the interest rate they are allowed to charge in their home state to every other state in which they offer credit. Rate exporting allows for the creation of a uniform national credit market. Unfortunately, the recent Madden v. Midland Funding LLC decision out of the U.S. Court of Appeals for the Second Circuit, which covers New York, called into question the longstanding ability of banks to sell debt to nonbanks and consequently the future of marketplace lending. This case may be reviewed by the Supreme Court, but in the meantime it continues to cause trouble.