For the many small and medium sized businesses in our country, particularly those involved in retail sales, access to working capital from banks and other traditional asset lenders can be hard to access. There are, however, companies that provide working capital to small and medium sized retail merchants by providing these merchants with a way to access working capital through the sale of anticipated future revenues. These future revenues are most often provided through future credit card sale transactions which merchants and their customers engage in on a daily basis. Merchants who need working capital will provide purchasers of these future credit card receivables with their history of credit card transactions. The purchasers will then determine how much of the future credit card receivables they are willing to buy and fix a percentage of future transactions that will be allocated to the purchaser as payment for the purchase, with the balance turned over to the merchant. Written merchant agreements are entered into which typically provide that the merchant will, in good faith, continue in the same business, continue taking customer credit cards and will use an agreed upon processor for the credit card transactions.
But as in any financial arrangement, sometimes things go wrong and sometimes a merchant stops using the designated processor or stops using credit cards altogether. If the merchant, after notice, does not go back to the agreed upon method of doing business so as to allow the purchaser to get the purchase price paid, the purchaser has to sue.
Once in court, the merchant determined to beat the purchaser looks to raise any and all defenses, including sometimes that the merchant agreement was not really a purchase and sale, but rather, a loan. And if the transaction was a loan, says the merchant, by comparing the amount of money going back to the purchaser to the amount of money advanced to the merchant over a specified period of time, the “loan” is usurious. Criminal usury in New York is a loan which exceeds 25.00%. New York Penal – Article 190 – § 190.42 Criminal Usury in the First Degree.
New York courts have held that the sale of future credit card receivables is not a loan and therefore none of the elements of the defense of usury are available. See Merchants Advance, LLC v. Tera K, LLC, Index No. 4214/2008 (Sup. Ct. Nassau Co. December 16, 2008) and Advanceme, Inc. v. Avitto, II, Inc., Index No. 1701/2006 (Sup Ct. West. Co. September 28, 2006).
Under New York law there is a strong presumption against a finding of usury. Transmedia Restaurant Co., Inc. v. 33 E. 61st Street Restaurant Corp., 184 Misc.2d 706, 710 N.Y.S.2d 756 (Sup. Ct. N.Y.Co. 2000). (“Transmedia”). The burden which must be overcome by a party raising the defense of usury is to prove all of the elements of usury. Donatelli v. Siskind, 170 A.D.2d 433, 434, 565 N.Y.S.2d 224 (2nd Dep’t. 1991) (“Donatelli”). In this regard, in order for a transaction to be considered a usurious loan, and not a sale, there must be a borrower and a lender; it must appear that the real purpose of the transaction was on the one side to lend money at a usurious rate as set forth in the subject agreement, and on the other side, to borrow money at the usurious rate “dictated” by the lender; and finally, there can be no usury unless the principal amount of the loan is repayable absolutely. Donatelli, 170 A.D.2d at 434.
Typically, the merchant agreements at issue clearly state that the transaction is not a loan and there is reference to a purchase price and a specified percentage of future credit card transactions which is to be paid over to the purchaser as payment of the purchase price. That specified percentage is not an interest rate. Moreover, the full amount of the future receivables purchased is not absolutely repayable because while the merchant agrees not to deliberately abandon the business, if the merchant closes because business is bad, the purchaser is at risk. Similarly, if the business falters and does not generate sufficient credit card sales for the purchaser to recoup the purchase price, the purchaser will take a loss. In other words, unlike a lender, for whom the principal sum advanced is absolutely repayable, a purchaser of future credit card receivables bears the risk that the merchant’s business does not generate credit card sales sufficient for the purchaser to get paid. Since such a purchaser has no recourse for such failure, the transaction fails to meet the requirements of a loan. Therefore, the merchant who raises usury as a defense will not prevail. Simply put, the purchaser is not a lender, nor the merchant a borrower, each heeding well the advice that Polonius gave to the young prince.