Rejecting "True Lender" Arguments, California District Court Dismisses Claims Against Student Loan Servicers

This past Thursday, September 22, a federal district court in the Central District of California dismissed an action raising usury claims against several student loan servicers, rejecting the plaintiffs' arguments based on the "true lender" doctrine. The decision comes on the heels of a decision by another judge of the Central District of California in U.S. Consumer Financial Protection Bureau v. CashCall, Inc. (covered here), which relied on the true lender doctrine to rule in favor of plaintiff CFPB. The two cases illustrate contrasting approaches to the application of true lender doctrine to marketplace lending models.

The plaintiffs in Beechum v. Navient Solutions, Inc. obtained student loans from Stillwater National Bank and Trust Company. Stillwater then sold those loans, pursuant to contractual agreements, to defendant loan servicers, who then collected interest at a rate above California's 10% usury cap. The plaintiffs sued the servicers for violating California State usury law, but the servicers moved to dismiss, arguing that California law contains a usury exemption for any loan made by a National Bank like Stillwater. The plaintiffs responded that the exemption should not apply because the non-bank servicers, rather than Stillwater, were the "true lenders" in the loan transactions. According to their complaint, although Stillwater was the nominal lender, the servicers "originated, underwrote, funded and bore the risk of loss as to the loans."

The court rejected the plaintiffs' true lender argument. Applying California law, it acknowledged that in some contexts courts had looked beyond the form of a loan transaction to determine whether the substance suggested usurious intent. But it found that none of these cases had applied the doctrine where an explicit usury exemption, like the one for banks under the California Constitution, was at issue. By contrast, two California State cases had found that where a loan transaction, on its face, is entitled to an explicit usury exemption, courts do not look behind the transaction to scrutinize which party is the true lender. The court found these holdings controlling and dismissed the case.

Although the decision is a narrow one based on California State law, it adds yet another data point to the growing body of law on the true lender doctrine. The court's analysis is potentially noteworthy for several reasons:

• The court's focus on the face of the transaction is a departure from cases like CFPB v. CashCall, which have, in similar contexts, applied a "predominant economic interest" test to scrutinize a transaction.
• The defendant servicers argued that the court should dismiss the complaint on the alternative ground that application of State usury law to loans originated by Stillwater would run afoul of federal preemption under the National Bank Act. Because the court dismissed on the ground of a State law usury exemption, however, it did not reach the federal preemption issue. This may signal reluctance to wade into thorny preemption issues created by the Second Circuit's May 2015 decision in Madden v. Midland Funding, LLC.
• Although the court does not explicitly mention the principle that a loan valid when made cannot become usurious as a result of a subsequent transfer, the result in the case adds to the body of case law standing for that proposition.

The plaintiffs may elect to pursue an appeal to the Ninth Circuit. We will monitor the case and provide updates as appropriate.