Every few months we hear from another business owner who took a merchant cash advance (MCA) and now can’t keep up with the payments. So what happens when they default? Until recently the answer for many MCA lenders was something called a confession of judgment (COJ) - a document that, for years, some lenders wielded predatorily against small businesses that never fully understood how the financing or the COJ worked. The specifics usually come down to the fine print you signed at the time of the funding. Plenty of owners signed fast and skimmed the details. In this guide, we’ll go over what a confession of judgment means, how lenders typically used it after a default, why New York became the hub, and how things have changed.
MCA Lenders and COJs
Confessions of judgment aren’t new; they’ve been around for hundreds of years. To ensure they get paid back, many MCA providers make the business sign a COJ before advancing the funds. By signing it, the business gives up its legal right to defend itself against the lender in any future legal action. It’s essentially pleading no contest in advance to any future dispute that may arise.
Once you sign a COJ, the lender can claim you defaulted and file a New York court judgment, even if your business is halfway across the country and even if there’s no actual proof of a default. A county clerk in New York stamps that judgment almost as soon as it arrives, often without giving you a single notice or a hearing.
Bloomberg Businessweek recently ran a series on MCA lenders and COJs. It found that some lenders forged documents, lied about the amount they were owed, and made up defaults out of thin air. They got away with it because the borrower, by signing the COJ, had waived its legal rights and in effect admitted fault before any judgment was filed. Since 2014, MCA lenders have used COJs to win more than 32,000 judgments against small businesses.
Usually you never even hear about the judgment. The first you know is that your bank accounts and other assets have been frozen and seized. Sometimes the bank won’t even tell you who started the freeze.
COJs Are Enforceable in New York
Why the state of New York? Because COJs aren’t enforceable in most states. But COJs are enforceable in New York, which boasts some of the friendliest courts around. Consequently, most MCA lenders made you sign a contract permitting them to file a judgment in New York, even if you were located across the country. Judgments by confession for MCA lenders in New York skyrocketed between 2014 and 2019: From just 14 before 2014 to over 8,000 in 2017 and more than 10,000 in 2018, the total worth 1.5 billion dollars. (Source: Bloomberg Businessweek)
Here’s a real-life story I came across in Bloomberg Businessweek. A Florida-based real estate agency received a cash advance of about $36,000 from an MCA company. The owners said they’d been making payments on time, but the MCA turned around and filed a judgment against them claiming they’d missed a payment. A county clerk signed off almost immediately, and before the owners realized what was happening their accounts were frozen. More than $52,000 was later taken from one of those accounts by the MCA company. The chain reaction ended with the agency going bankrupt.
New York Legislation
After those stories ran, the New York legislature effectively shut down the practice by MCA lenders of obtaining COJs to collect from non-New York businesses. The legislation banned filing COJs against business borrowers who are not based in New York, and it prohibited requiring a signed COJ as part of the financing contract. That is a big deal, because 99 percent of all COJs executed by MCA lenders were filed in New York.
For companies located in New York, lenders can still file COJs against them. But the law says the judgment must be filed in your home county, and that gives you a much easier path to fight back. For a business outside New York facing default on an MCA, the old dodge of quietly filing a New York judgment and then freezing your account is no longer an option.
The new New York legislation is good news for small businesses who rely on short-term loans to operate. It protects them and their owners from some of the most devastating consequences of some MCA lenders’ practices. Nonetheless, if you’re in arrears on an MCA, don’t wait around: find your contract, look for a “confession of judgment,” and see where it says “judgment may be filed,” and ask for help in talking to the lender before the situation grows any worse.
