The New York Supreme Court of Westchester County issued a decision in Pearl Capital Rivis Ventures, LLC. v. RDN Construction Inc. that clarifies the circumstances under which the provision of a merchant cash advance in exchange for the assignment of future receivables may be deemed a loan subject to usury restrictions, versus a non-loan purchase and sale agreement.
In this case, the plaintiff, Pearl Capital Rivis Ventures, sought to recover on its causes of action for unjust enrichment and breach of contract. The court here considered whether the merchant cash advance arrangement between plaintiff and defendant, RDN Construction, was either a loan subject to New York’s criminal usury restrictions or a non-loan contract for the purchase and sale of future accounts receivables. Commercial loans are subject to the state criminal usury statute, NY CLS Penal Law §190.40. A finding of criminal usury requires proof that the lender knowingly charged, took, or received annual interest exceeding 25% on a loan or forbearance.
Here, the New York State Supreme Court deemed the arrangement between Pearl Capital and RDN Construction to constitute a loan. The Court concluded that the “real purpose of the Agreement was for plaintiff to lend money to defendants at the usurious interest rate set forth therein, and that defendant agreed to borrow the money based on the same usurious terms dictated by plaintiff.” It was held that simply calling a loan document a “Merchant Agreement,” does not shield it from the judicial determination that it contemplates a criminally usurious transaction.
The defendant’s witness testified that by purchasing future receivables RDN Construction accepted business risks besides the normal risks of repayment common to a loan, the court discounted this testimony on the basis that “merely telling the Court that risk is contemplated under the terms of the Agreement is inadequate, especially where, as here, the Agreement is illegible, with excessively small print.” The agreement here did not specify that sales of receivables to the defendant were without recourse to the plaintiff. The court determined that in the absence of this language, the plaintiff was obligated to repay and the agreement amounted to a loan. Therefore, the applicable interest rate was approximately 180 percent per year, which exceeded the 25 percent maximum rate allowed in New York.
This case highlights the importance of paying close attention to the terms and conditions of any merchant capital advance agreement. In reviewing a merchant capital advance agreement, a court is likely to look beyond the general nature of the relationship and will analyze the precise terms of the governing contract. A sale of receivables will be treated as a purchase and sale agreement instead of a loan, the sale must be without recourse to the seller. In a sale without recourse, the purchaser accepts the risk that the seller may not perform as expected and that the future receivable may not materialize. Furthermore, a violation of certain representations and warranties in the merchant cash advance agreement may allow the purchaser of the receivables to proceed directly against the seller for breach of contract.