Certain merchant cash advance lenders exploited a little-known legal tool, the confession of judgment (COJ), against small businesses that didn’t fully understand how MCAs and COJs work.
COJs were instrumental in a predatory lending scheme exposed by a series of articles in Bloomberg Businessweek. They described multiple cases in which the lender used a COJ to seize bank accounts and other assets. There have been more than 32,000 judgments based on COJs against small businesses since 2014.
The “confession of judgment” is an oddly old-fashioned term, part of an obscure legal tradition that stretches back centuries. By using New York’s courts against business owners in other states, MCA lenders found an expedited way to get judgments and to seize assets.
Relinquish the Right to Defend Yourself in Court
First, many MCA lenders get their customers to sign a COJ as part of the contract, before they advance a dime. By doing that, you relinquish the right to defend yourself in court against any future judgments. It’s like pleading no contest in advance, before you even know you’re guilty.
Step two is simple. The lender files a claim in a New York court, saying the borrower has defaulted. It’s not relevant where the borrower lives or where they actually did business, or whether a default is ever proven. And often the clerk of court will ”rubber stamp” the decision, with no notice or court hearing.
Things are worse than it seemed at first. In some of the most egregious cases Bloomberg found, lenders forged or otherwise falsified documents, falsified debts, and lied about default, but none of that was contested. The borrowers had waived their rights to a defense.
Many COJ borrowers never hear a word about the judgment until their accounts are seized or other property is taken. Some complain that banks won’t even say who placed the hold.
New York Is the Major Exception
Most states don’t allow COJs. But New York is the major exception; it’s friendly to lenders. Most MCA contracts say that their agreement is covered by New York law and that New York court jurisdiction is invoked. As COJs are allowed there, the merchant has little recourse. Even a merchant in another state, hundreds of miles away from New York, can be subjected to such actions.
Before 2014, COJs against small businesses were relatively rare, with only 14 in New York. But afterwards, the numbers of cases began a sharp upward trend. By 2017 the number reached more than 8,000. In 2018 there were more than 10,000 such actions. All told, they added up to $1.5 billion, according to Bloomberg Businessweek.
One of those cases involved a professional real estate firm in Florida, which took out a cash advance of about $36,000. The agency says it made timely payments. But the lender told the county court clerk of a missed payment. The clerk of the court immediately approved it.
The owners were shocked when their bank told them the accounts were frozen. The entire process was in place, with court approval, before they knew a thing about it. The lender took more than $52,000 from one account. In the end they turned to bankruptcy.
The New Law
The good news is that New York has finally taken action against unfair lending practices. Prompted by the Bloomberg Businessweek articles, the New York legislature approved a law that effectively ends the use of COJs against businesses in other states.
Under the new law, New York courts can’t issue a judgment by confession against a borrower from outside the state. And if a merchant accepts an advance of money, they must not be required to agree to enter judgment or confess liability.
That matters, because 99 percent of the COJs filed by MCA lenders were filed in New York. Borrowers in New York state are still subject to COJs, though lenders must now file in the county where the borrower lives or does business. This means borrowers have a better chance of getting to court.
For borrowers everywhere else, it’s finally a little safer when it comes to the law. Not every MCA lender is predatory. But for business owners who rely on short-term financing like MCA to get through difficult patches, the protections are welcome.
About Delancey Street
Delancey Street is a premier, and award winning, business debt settlement company that helps business owners nationwide. Our goal is simple: help you escape debt in a safe and legal manner. Based out of New York, we can help in 49 of 50 states. We tell you how it is; because your business and future is on the line.
