Consumer Financial Regulation Meets Income Share Agreements

By: Shu-Yi Oei

On Wednesday, I spoke at the National Association of Consumer Credit Administrators (NACCA) 81st Annual Meeting and Regulators’ Training Symposium in Minneapolis. The panel was “Trends in Lending: Emerging Loan Products,” and the topic I was asked to discuss was income share agreements (ISAs).

The Powerpoint slides from the talk are here. The last slide contains a partial source list for those who’d like to read more about income share agreements.

I have some thoughts, following the presentation, and after sitting in a couple of (non-tax) panels on lending and regulation:

(1) Legal Scholarship and Restlessness

The NACCA invitation supports my longstanding theory about restlessness and legal scholarship. The theory is that two (or three, or four) years after you did the project (and are likely bored with it) is when anyone else notices that you’ve even done it at all. Therefore, to me, a big part of the scholarly endeavor is really the ongoing fight against your own internal boredom-clock (which, if you’re like me, is likely a tad…accelerated).[fn1]

In this case, Diane Ring and I wrote about ISA transactions back in 2014. See Human Equity? Regulating the New Income Share Agreements, 68 Vand. L. Rev. 681 (2015). And then we became convinced that the industry had sputtered and tanked and so our attention transitioned to other projects.[fn2] But folks I spoke to at the NACCA conference—as well as others I’ve have talked to—assure me that this is not so! Fast-forward to 2016 and new offerings by Cumulus Funding and Purdue University suggest that perhaps the ISA market is not entirely dead after all. Also, those ISAs entered into between 2012-14 (offered by companies like Pave and Upstart) have been percolating in the ether, and the full array of their tax and other regulatory consequences are presumably becoming clearer as time goes on. State regulators are now starting to pay attention and think about how to weigh in. So the time seems right to refocus the attention on an old scholarly project.

(2) How does REPAYE change things?

As I prepped for this talk, I started wondering how developments and changes in the federal government’s income-driven student loan repayment programs may affect the private ISA market. In 2015, the federal government implemented a new student loan repayment plan (REPAYE, or Revised Pay As You Earn), which is available to all Direct Loan borrowers regardless of when they took out their loans. REPAYE, like PAYE, generally caps repayments at 10% of monthly income and forgives the loan balance after 20 years of payments (25 years for those who took out any grad school loans). But unlike the older federal income-based plans, which capped repayments at the amount repayable under the 10-year standard repayment plan, REPAYE doesn’t cap monthly repayment amounts at the amount payable under the 10 year standard repayment plan. So if there’s a significant increase in income, the borrower might end up repay(e)ing a lot more per month under REPAYE than under the standard repayment plan.

Diane, I, and others have noted that one possible reason for the sputtering of the ISA market is that the federal government was essentially offering education-based ISAs without taking the upside (by capping repayment at the amount due under the standard repayment plan). But with REPAYE, this changes and the government now does take the upside if monthly income is high enough. So I’m now wondering whether REPAYE is going to herald a more general move by the federal government towards offering ISAs but taking the upside. If so, this might make private-sector ISAs more competitive than they previously were—because the federal government’s funding instrument is no longer much more attractive than other options. It’s possible, of course, that Uncle Sam taking the upside may mean that student borrowers experience themselves as having less borrowing power, so I’m not sure which way this cuts.

[UPDATE 6/21 @ 12:49 pm]: To clarify, the REPAYE final regs are not particularly clear on this point, nor are the online sources. But it sounds like, actually, the government may take more upside on a monthly basis, but possibly not on an overall basis. So, under REPAYE, the monthly payment amount might be higher but not necessarily the overall amount paid over the lifetime of the loan.]

(3) Regulatory Location: Who Should Regulate?

Finally, one question that I keep running up against is: Who is the appropriate regulator(s) for these ISAs? In prior work, Diane and I made arguments about the policy issues surrounding ISAs and the appropriate substantive content of such regulation. However, talking to a roomful of actual state regulators, I started wondering about regulatory location, i.e., who is the right regulator. The answer to this question will presumably depend on how the ISA is classified—e.g., as debt, as an assignment of wages, or as a partnership or joint venture between what is effectively a capital provider and a service partner. One might imagine, for example, that state regulators of consumer financial products would be less interested in regulating arrangements that look like bona fide partnerships than those resembling consumer debt instruments.

Despite the inclusion of ISAs in the “Trends in Lending” panel at NACCA, it’s unclear whether many regulators (including CFPB) would actually regard ISAs as “lending” and hence within their jurisdiction. It was pointed out to me, for example, that ISAs might be thought of instead as assignments of wages, which may be prohibited under some state laws. If regulators don’t consider ISAs to belong in the same potentially problematic bucket as payday loans, cash checking, credit cards, auto loans or other similar consumer finance products, it’s possible they may fall into some sort of regulatory gap. This is not to say that there isn’t regulation on the investor side, e.g., securities law requirements. But the consumer protection side of things seems very much in flux right now.

As Diane has blogged about previously, there is proposed federal legislation that substantively regulates ISAs (e.g., by imposing caps on contract length, caps on percentage pledged, disclosure requirements, etc.). With respect to issues of location of regulation, it’s notable that the proposed bills attempt to preempt state usury and assignment of income laws by declaring covered ISAs to be legal notwithstanding state usury laws or state income assignment prohibitions. It’s by no means clear that the proposed bills will pass, or that such pre-emption is the right policy result. But by highlighting the choice between federal and state regulation, the attempted preemption reinforces the importance of determining who the appropriate regulator should be.

[fn1] A former martial arts instructor whom I deeply admire used to say a very similar thing to me about martial arts practice: “You’re going too fast. The goal is not to execute the technique at the fastest pace possible, which you (and only you) think is appropriate. The goal is have the technique occur at the right time, based on the actual reaction and position of your opponent or training partner.”

[fn2] Diane blogged about this here and here, so I won’t repeat that story.


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