In the revenue-based financing industry, the shadow of regulation has loomed for years. It’s finally here, and moving fast.
Seven states currently have commercial finance disclosure laws in place, and six more have proposed their own—it’s a matter of time before they become official.
It shouldn’t come as a surprise that economically massive states like California ($3.6T GDP in 2022) and New York ($2.1T GDP in 2022) are leading the charge.
Providers of revenue-based financing have traditionally operated with light governmental oversight, allowing the industry to grow rapidly, but also opening the door for some bad actors to behave poorly.
The best-case scenario for regulation is to bring pricing transparency so that small to midsize business (SMB) owners can access flexible funding solutions at competitive market rates.
Price transparency through mandatory disclosures should help level the playing field in favor of efficient, economical, and sustainable business practices.
This article will provide you with an overview of the active commercial finance disclosure laws, and what they mean to your revenue-based financing business.
A Quick Revenue-Based Financing Refresher
Revenue-based financing is a subcategory of alternative financing that encompasses merchant cash advances, invoice factoring, and reverse consolidation.
Because this type of financing isn’t classified as a loan, it isn’t subject to the same regulations as conventional lending.
Here’s how the two forms of financing differ:
- A loan is a sum provided to a borrower with an unconditional obligation to repay the monies lent, along with accrued interest and fees.
- In revenue-based financing, the provider purchases a portion of a merchant’s future revenues. The merchant pays according to daily or weekly sales, along with a pre-agreed fee, sometimes referred to as a “purchase discount fee.”
Revenue-based financing offers a number of benefits, such as:
- Fast disbursement: money is usually disbursed in a matter of days, or even hours.
- Flexible terms: payment is relative to the merchant’s revenue.
- No spending stipulations: merchants can spend the money however they choose on the business.
- Competitive rates: each deal is structured to fit the merchant’s business needs.
- Independence from credit score: it’s not the only factor for approval and may not be affected.
- Not collateral dependent: offers are based on the business’ future revenues.
Revenue-based financing is a useful and practical source of funding for SMBs at any stage of their business journey.
The Rise of State-Level Disclosure Laws
Because it is a purchase and sale of future accounts, revenue-based financing is exempt from state usury laws and federal regulation.
However, as the alternative financing industry has grown, states have seen the need for regulation that informs merchants while weeding out those actors that may engage in predatory practices. These rules are known as commercial finance disclosure laws—“disclosure laws” for short.
California and New York are the most prominent states to enact these laws. But the number of states with active or proposed disclosure laws is growing, and fast.
It’s essential for all stakeholders, including funders, brokers, and merchants, to understand how these laws affect their businesses.
States With Active Disclosure Laws
While all of the states we’ve listed below have active laws affecting revenue-based financing providers, some of the requirements haven’t come into full effect yet.
Even if your business isn’t located in one of these states, it’s important to understand if the compliance burden extends to you because of where your clients are located or do business.
The Commercial Financing Disclosure statute took effect on December 9, 2022.
It mandates disclosure of certain information to recipients when extending a commercial financing offer of $500,000 or less.
A pending lawsuit brought by the Small Business Finance Association (SBFA) criticizes the law for compelling misleading disclosures, and argues that California’s annual percentage rate (APR) definition could confuse customers.
The outcome could impact similar laws in other states, potentially settling the APR disclosure argument in the industry if the SBFA succeeds.
Meanwhile, many brokers already comply with the law. To understand what compliance looks like take a look at this short video.
New York’s Commercial Finance Disclosure Law (CFDL) became effective on August 1, 2023.
Technically named 23 NYCRR 600, this rule resembles California’s, with some notable revisions based on the public comment process.
The law covers various commercial financing types, including revenue-based financing, and governs transactions where the merchant or recipient is located in the state of New York. The disclosure requirements include information on how and by whom brokers are compensated.
Senate Bill 1032 was enacted on June 28, 2023, effective July 1, 2024.
It applies to sales-based financing of $250,000 and under for business purposes. Unlike other states, it doesn’t require APR disclosure but does require providers to register with the Connecticut Department of Banking.
It mandates written disclosures for specific offers, including total financing amount, disbursement amount, finance charge, and repayment terms. The rule prohibits contract terms waiving borrower’s rights to notice, hearing, or court order.
Notably, the law contains a reciprocity clause that allows for disclosure rules from other states to be grandfathered in if they meet or exceed the requirements of SB 1032—this could lower the compliance burden for providers working in multiple states.
House Bill 1353 was enacted on June 23, 2023, and applies to transactions consummated on or after January 1, 2024.
It mandates specific disclosures for certain commercial financing transactions, including revenue-based financing and certain types of loans of $500,000 or less. The law contains exemptions for certain transactions and entities. Enforcement by the Florida Attorney General comes with fines of up to $20,000 ($50,000 for repeated violations).
Although the law doesn’t explicitly require brokers to abide by the disclosure requirements, it does govern how brokers collect fees and advertise.
Senate Bill 183 was enacted on March 24, 2022, and became effective January 1, 2023.
It applies to various commercial financing providers, including revenue-based financing providers. Unlike California and New York, it does not require Annual Percentage Rate (APR) disclosure. The law does require commercial lenders to register with the Utah Department of Financial Institutions.
Disclosures include total funds provided, disbursed, and paid, along with total cost, payment schedule, prepayment terms, broker’s commission, and payment methodology.
Senate Bill 90 was enacted on May 1, 2023, effective from January 1, 2024.
It applies to transactions of $500,000 and less, including various types of commercial loans and accounts receivable purchases. The law mandates certain disclosures, albeit it does not require APR disclosure. It also provides exemptions for equipment financiers, affiliates of depository institutions, and others.
The content of the bill resembles Utah’s Senate Bill 183 (see above).
House Bill 1027 was signed into law on April 11, 2022, with the law becoming effective on July 1, 2022.
It targets revenue-based financing (specifically merchant cash advance) providers and brokers (unlike similar laws from CA, NY, and UT, which apply more broadly to various types of commercial financing providers), and requires them to register with the Virginia State Corporation Commission. It does not mandate the disclosure of APR, but it does impose specific dispute resolution requirements for sales-based financing agreements.
The law is written to regulate merchant cash advance (MCA) transactions, with exemptions for transactions greater than $500,000 or people entering into fewer than five “sales-based financing” transactions in a 12-month period.
How These Laws Affect Alternative Financing
It’s clear that states have taken different approaches to regulating alternative financing activities in their jurisdictions, and beyond (since there is some interplay between state laws).
In some cases, such as California, some lawsuits aim to amend or strike down aspects of the law. The federal Truth in Lending Act (TILA) is often leveraged in these arguments as it serves as a well-known standard for lending disclosures.
The Consumer Financial Protection Bureau (CFPB) has also determined that state disclosure laws are consistent with the Truth in Lending Act (TILA), paving the way for more state-level rule-making.
Six additional states have proposed similar commercial financing disclosure laws:
- Mississippi (died in committee).
- New Jersey.
The best approach for revenue-based financing providers and brokers is to monitor the progress of the relevant bills and consult with their attorney or compliance team about next steps.
So keep your eyes peeled, and watch our blog for updates.
Nexi: An Ally For Merchants
Whatever the state-specific rules look like, revenue-based financing providers and brokers must comply with the laws already passed and be prepared to comply with potentially dozens more.
Although complying with commercial finance disclosure laws might seem like a cost at first, they are a way of deterring bad actors in the industry. They might need some adjusting, but they are here to stay.
Your best strategy is to accept the reality of disclosure laws and streamline the process as much as possible. As the dust settles, we can all hope for a regulatory framework that harmonizes across state lines and leads to a more sustainable industry for all revenue-based financing stakeholders.
In the meantime, learn what Nexi can do for you, on any side of the revenue-based financing spectrum. Contact us today to learn more.