Lending Club has announced structural changes to its relationship with WebBank in direct response to concerns stemming from the Madden versus Midland case.
Marketplace lending platforms in the US operate via a system commonly referred to as the "exportation model", whereby a bank originates a loan, which is then underwritten and approved by a platform. The platform will purchase the loan from the bank for the price of the principal plus a fee. Lending Club is partnered with WebBank. We learnt on Friday last week that the way in which Lending Club pays fees to the Utah-based bank is changing, owing chiefly to concerns over potential fallout stemming from the Madden versus Midland court case.
For background, “Madden versus Midland” is the moniker used to refer to the case of Saliha Madden versus Midland Funding – a US debt collection agency. Madden owed money to Bank of America before the rights to that debt were purchased by Midland Funding in 2008. In 2010, Midland contacted Madden to inform her that interest was still accruing on the account to the tune of 27% per annum. She then filed a class action lawsuit against the debt collector, claiming that the company had violated state and federal laws by charging interest rates in excess of New York State’s usury laws. The Second Circuit Court of Appeal sided with Madden and rejected an attempt by Midland to have the ruling of a District Court overturned. The US Supreme Court has subsequently elected not to hear the case.
The crux of the issue is that many US banks are exempt from state interest rate caps thanks to the National Bank Act. Midland is not, and neither are the nation's many marketplace lending platforms. Lending Club effectively piggy backs off of WebBank’s exemptions as a means of getting around interest rates caps for a small portion of its loans in certain states. Last year, Renaud Laplanche revealed on an earnings call to investors that around 12.5% of the platform’s outstanding loans at that time may have exceeded state interest caps – although the Lending Club boss later told AltFi that this estimate represented an absolute “worst case scenario”.
Lending Club’s relationship with WebBank has now been reworked in direct response to the Madden versus Midland kerfuffle. Henceforth, WebBank will retain an interest in all loans, even after having sold them off to the platform. In exchange, the net fee paid to the bank by Lending Club will be enhanced, but it will be paid in instalments, and will be terminated if borrower repayments stop. This means that the majority of WebBank’s revenues will be tied to the terms and performance of the loans it sells to Lending Club.
The change in fee structure will only apply to newly issued loans. It's worth noting also that Lending Club will seemingly be giving up a small portion of its revenues in order to cover the cost of the enhanced fees.
The recalibration ought to bring about a closer alignment of interests between Lending Club and WebBank – which is a positive development for the platform’s investors. But how does WebBank holding skin-in-the-game serve to curb concerns over state interest rate caps? According to the Wall Street Journal, Lending Club argues that the tying of WebBank to loans after they’ve been sold off to the platform means that those loans will preserve their immunity from state interest rules.
Mr. Laplanche weighed in:
"While the facts of the Madden case were very different from the way we operate and that case did not pose an immediate threat to our business, we believe this new structure will strengthen the foundation of our program to provide borrowers the ability to access affordable credit on a nationwide basis and to provide investors with greater certainty."