I'd like to conclude this module by talking about
some additional legal considerations that FinTech lenders need to take into account.
Specifically, a recent court decision in the United States Court of Appeals for
the Second Circuit has challenged the valid-when-made
doctrine which underpins the relationship between FinTech credit providers,
and the banks they partner with.
In this decision and what's known as a Madden versus Midland case,
the Second Circuit found that
a non-bank entity taking an assignment of debts originated by
a national bank is not entitled to protection
under the National Bank Act from state-law usury claims.
The valid-when-made doctrine means that a loan that is
valid at its inception cannot become usurious,
or violates state interest rate restrictions upon
subsequent transfer to another entity even if that entity is not a bank.
This doctrine is a long-held legal principle has
been universally relied on in the lending business,
and this principle is no longer valid as a result of the Second Circuit decision.
Banks are severely limited on who they can sell their loans to,
and the legal and commercial landscape for loan origination and
sales activities will become at the very least materially less predictable.
The Second Circuit's decision has already had an impact on
the FinTech lending industry in
the Second Circuit states of New York Connecticut and Vermont.
Some FinTech lenders have decided to exclude
those states from their marketing and lending programs,
or have decided to cap interest rates in
those states in accordance with state usury limits.
In securitization transactions, loans to borrowers in New York, Connecticut and
Vermont are sometimes excluded from the pools
of loans to be purchased by the securitization vehicle,
and a few FinTech lenders have decided to obtain
state lending licenses instead of relying on National Bank preemption
which allows them to partner with a bank who originates
the loans and thereby get around the state by state interest rate restrictions.
This graph highlights the impact the Madden decision has had on
lending in the Second Circuit states of Connecticut, New York, and Vermont.
It shows the growth in loan volume in
the time period immediately after the original Madden decision,
broken down by borrower's credit score.
We see that for borrowers with the highest credit scores the impact was
minimal with loan growth being roughly the
same in the Second Circuit as it was in other circuits,
but as you slide down the credit score scale you begin to notice
that post Madden loan growth in
the Second Circuit was less than what it was in other circuits.
In fact, for Second Circuit borrowers with the worst credit scores lending actually
declined in the wake of the Madden decision
while increased by over 100 percent everywhere else.
Some policymakers have expressed concern around the impact
the Madden decision has had on consumers access to credit,
and the overall uncertainty it has created in lending markets.
New legislation has been introduced in
Congress that would enshrine the valid-when-made principle into federal law.
However, that legislation is somewhat controversial,
and it's difficult to predict if it will ever become law