In a recent series of articles we have been describing how some merchant cash advance (MCA) lenders have utilized predatory lending practices to take advantage of small business borrowers. In particular, some of these lenders have taken advantage of an obscure legal document known as a confession of judgment (or COJ) to file judgments against unsuspecting small businesses that didn’t fully understand how this type of financing and COJs work.

Awareness of this type of predatory lending was boosted by a series of articles in Bloomberg Businessweek that described how MCA lenders were taking advantage of COJs to seize the bank accounts and assets of borrowers they were able to obtain judgments against. MCA lenders have been able to use COJs to win more than 32,000 judgments against small businesses since 2014.

What Are COJs … and How Do They Work?

As a legal instrument, confessions of judgment aren’t new — they go back hundreds of years. MCA lenders have been able to capitalize on the state of New York’s court system in a way that allowed them to use COJs to obtain judgments against and seize the assets of thousands of business borrowers all over the country. Here’s how:

To ensure repayment of loans, MCA lenders often require borrowers to sign a confession of judgment before lending them money. In signing the COJ, businesses waive their legal right to defend themselves against future judgments by lenders — essentially pleading no contest in advance to any legal disputes that might arise with the lender in the future.

With a signed COJ in hand, the lenders then file court judgments in New York against borrowers declaring defaults — regardless of where the borrower’s business is located and whether there is any proof of these defaults or not. The defaults are then quickly rubber-stamped by a county clerk in New York, usually without any notice or hearing. 

According to the Bloomberg Businessweek articles, some lenders have forged documents, lied about the amounts they were owed and made up defaults out of thin air. They were able to get away with it because in signing the COJ, borrowers had waived all of their legal rights — basically admitting their fault before the judgment was even filed.

Business borrowers typically are not even made aware of the judgments. Often, borrowers don’t find out about judgments until discovering that their bank accounts or other assets have been frozen and seized. Sometimes banks don’t even tell customers who initiated the freeze.

Why Are COJs Filed in New York?

COJs aren’t enforceable in most states but they are in New York, where courts have been especially receptive to them. So most MCA lenders required borrowers to sign papers allowing them to file judgments in New York even if the business was located on the other side of the country.

As a result, judgments by confession in favor of MCA lenders in New York soared between 2014 and 2019. There were a total of just 14 of these judgements before 2014, but they topped 8,000 in 2017 and 10,000 in 2018 and totaled $1.5 billion, according to the Bloomberg Businessweek article.

The article describes one small business borrower who was victimized in this way by an MCA lender. The business, a real estate agency in Florida, had borrowed about $36,000 via a cash advance from an MCA lender and claimed they were repaying their loan on schedule. But the lender filed a judgment against the agency claiming they had missed a payment. The judgment was quickly approved by a county clerk.

Before the owners of the agency knew what was happening, their bank accounts had been frozen. Soon after this, more than $52,000 disappeared from one of the accounts, seized by the MCA lender. This was the start of a chain reaction of financial events that soon led to the agency’s bankruptcy.

Legislation Kills COJs as a Predatory Lending Tool

Fortunately, there is a happy ending to this story for small business borrowers, or at least future borrowers. In response to the negative publicity that resulted from the Bloomberg Businessweek articles, the state of New York passed legislation last year that effectively ends the practice of MCA lenders using COJs to collect judgments from businesses located outside of New York.

The legislation prohibits lenders from filing COJs against business borrowers that aren’t located in New York. In addition, it bans the requirement of a signed COJ in a financing contract.

Ninety-nine percent of all COJs filed by MCA lenders were being filed in the state of New York. MCA lenders can still file COJs against borrowers located in New York, but the legislation requires that the judgments be filed in the borrower’s home county so it’s easier to mount a legal defense.

This legislation is good news for small businesses that need to borrow money on a short-term basis. It will protect these businesses and their owners from the potentially devastating effects of some of the predatory lending practices of some MCA lenders.

Don’t hesitate to contact us if you have questions about confessions of judgment or any other details related to your financing needs.