Los Angeles U.S. District Judge John F. Walter minced no words last August when he lowered the boom on CashCall and its high-interest-rate lending to desperate borrowers.
The loan program CashCall operated with the protection of a South Dakota Indian tribe's supposed immunity from state usury laws was a "sham," the jurist ruled. The company's conduct was "deceptive," for the loan structure was "intentionally complicated" to prevent borrowers from discovering that the loans violated state and federal laws and were "void and uncollectable." Among the many sleazy aspects of these loans, they carried annual interest rates as high as 355%, vastly in excess of the legal limits in the borrowers' states.
Yet, when it came time to penalize the Orange, Calif., lender and its owner, J. Paul Reddam, Walter turned strangely solicitous. On Jan. 19, the judge rejected a motion by the Consumer Financial Protection Bureau, which had brought the lawsuit against CashCall and Reddam, seeking $287.2 million in penalties, including $235.6 million in restitution to borrowers.
Instead, Walter decreed a penalty of only $10.3 million. That's the lowest-tier punishment available under the federal Consumer Financial Protection Act, and applies in cases in which the wrongdoer didn't knowingly break the law.
We're not questioning Walter's integrity or motivation in delivering what is plainly a wrist-slap to CashCall and Reddam. He blames the CFPB, which he says failed to offer evidentiary support for the stiff penalties it sought.
Still, the outcome of this case — a lender is deemed to have operated a deceptive loan program in which borrowers somehow weren't deceived enough to be compensated — underscores the adage that scandal often arises not from what's illegal, but what's legal. And it reminds us of the assertion by Mr. Bumble in Dickens' "Oliver Twist" that "the law is a ass."
"It feels like a slap on the wrist for a massive illegal scheme that caused millions of dollars of harm to a lot of people," said Rebecca Borné, senior policy counsel at the Center for Responsible Lending, a consumer finance watchdog. Walter ruled that the restitution the CFPB sought was appropriate only in "snake oil" schemes, which "dupe consumers into believing they are purchasing something other than what they actually receive."
The deterrent effect of this penalty will be close to nil. From 2010 through late 2013, the CFPB asserted, CashCall collected payments, typically well beyond the borrowed amounts, on high-interest unsecured loans to financially strapped borrowers.
A $10.3-million penalty sends the signal that there's virtually no downside to a ripoff of this magnitude — it's a modest cost of doing business. And it leaves most of the profits in the perpetrators' hands. (If you've heard of Reddam before, it may be due to his ownership of a stable of thoroughbred horses with considerable success in Triple Crown races, obviously not a poor man's sport.)
Walter's ruling is utterly out of sync with penalties imposed on CashCall and Reddam elsewhere. In 2014, New York Atty. Gen. Eric Schneiderman settled a lawsuit against them for the same scheme for $1.5 million and refunds of any money New York borrowers had paid beyond principal and the legal interest rate of 16% a year. Schneiderman reckoned that the terms would amount to $35 million in relief for borrowers. His lawsuit covered 17,970 loans; the case on which Walter ruled covered hundreds of thousands of loans, according to the CFPB.
The CFPB, as it happens, isn't likely to appeal Walter's ruling energetically or bring more cases like this. That's because the bureau now is under the thumb of Mick Mulvaney, the Trump administration's budget director, who's been installed as its interim director. Mulvaney has expressed outright hostility to the bureau's very existence. In an "all hands" memo last week, Mulvaney told the CFPB staff that its days of coming down hard on ripoff artists are over.
"We work for the people," he said. "And that means everyone: those who use credit cards, and those who provide those cards; those who take loans, and those who make them; those who buy cars, and those who sell them." This would be laughable if it weren't such an appalling distortion of the CFPB's purpose. Those who issue credit cards, make loans and sell cars have plenty of government agencies looking out for their interests. Consumers had one. Now, under Mulvaney, they have none.
That makes it more important to understand the shortcomings of the penalty and CashCall's rapacious business model.
CashCall was established in 2003 by Reddam, a former philosophy professor at Cal State Long Beach, to make loans to low-income customers in California. The target market was households living paycheck to paycheck that got hit with unforeseen expenses. The loans were longer-term than payday loans and higher-interest than secured loans such as home equity lines of credit.
In 2006, the company expanded beyond California. It circumvented state usury laws that capped interest rates on consumer loans by making them through banks in South Dakota and Delaware, where there are no caps.
But in the aftermath of the 2008 financial crisis, federal regulators began to look askance at bank loans to low-quality borrowers. Bank credit dried up. At the urging of its regulatory lawyer, Claudia Callaway, CashCall turned to a new model. It hooked up with a member of the Cheyenne River Sioux Tribe of South Dakota on Callaway's theory that because the tribe was a sovereign entity, loans made under its aegis were exempt from state or federal lending laws. A firm called Western Sky was established by the tribal member to stand as the putative originator of the loans, which ranged from $700 to $10,000.
The CashCall gang's defense essentially is that they were all babes in the woods, thought everything was on the up-and-up, and had a lawyer's opinion to prove it. This argument deserves a big "Puh-leeze." Reddam and CashCall went to great lengths to create an intricate structure that borrowers would be hard-pressed to penetrate. (They've since sued Callaway and her law firm for leading them astray, the poor lambs.)
Judge Walter concluded last year that CashCall, not Western Sky, was the true lender because it bought each and every loan supposedly made by Western Sky and bore all the financial and regulatory risks of the loans. Walter found that the structure, including the choice of tribal law, "was solely based on CashCall's desire to shield itself against state usury and licensing laws."
CashCall eventually realized that its tribal-law dodge might not be as ironclad as Callaway said. In 2011, complaints arrived from authorities in Washington state, Maryland and Colorado alleging that its lending violated their state laws. New York's lawsuit was filed in 2013. CashCall shut the program down.
For all its originality, the tribal scheme was right out of the CashCall playbook. In a 2016 report, the National Consumer Law Center identified the firm as one of several whose products preyed on financially strapped and unsophisticated borrowers.
Drawing largely from a Northern California class-action lawsuit that was settled last year, the center reported that CashCall set interest rates so high that it was likely to turn a profit from the loans even if the borrowers defaulted early. A 47-month, $2,600 loan carrying 135% interest, for example, would be in the black for CashCall after only 14 payments — at which point the borrower would have forked over $4,122, but reduced his or her principal by only $60. Anyone who paid for the full term of nearly four years would have spent about $13,818 on the $2,600 loan.
Indeed, less than 7% of CashCall's loans during the class-action period went to full-term; about 45% defaulted and 44% were paid off early. "Two-thirds of borrowers were late by 30 days or more at some point," the center noted. That was just fine, because CashCall, according to testimony in the class-action case, built a 35% to 40% default rate into its profitability expectations.
(In California, the company avoided making loans for less than $2,500, because the law caps the interest rate on those to about 30%. Over that sum, the sky's the limit.)
Judge Walter was loath to require restitution in the tribal-loan case in part because he figured that borrowers knew what they were getting into — indeed, a disclaimer in the loan documents warned that these were high-interest products. "Quite clearly," he wrote, "consumers received the benefit of their bargain — i.e., the loan proceeds."
Is that so? "The judge said the borrowers have gotten the benefit of the bargain because they've gotten the proceed, but an unaffordable loan is not a bargain," Borné said. "The notion that consumers benefit from these toxic products doesn't hold up."
But the products will live on. As my colleagues Andrew Khouri and James Rufus Koren have reported, the super-high interest loan business is booming in California, burying desperate borrowers deeper in their financial holes. The CFPB is being systematically emasculated. And the last line of defense, a financial penalty that takes the profit out of this profiteering, doesn't seem even to exist anymore.