February 28, 2017
The U.S. District Court for the Southern District of New York injected additional uncertainty into the debt buying and bank partnership markets with its remand decision in Madden v. Midland Funding. In Madden, the U.S. Court of Appeals for the Second Circuit - which includes Connecticut, New York, and Vermont - held that non-national bank entities that purchase loans originated by national banks cannot rely on the National Bank Act ("NBA") to protect them from state-law usury claims. The Second Circuit's decision in Madden undermined the "valid when made" theory on which assignees relied for many years and impeded the ability of national banks (and, by analogy, state-chartered banks) to sell the loan obligations they originate, thus reducing their ability to lend. One issue the Second Circuit did not decide is whether the debt buyer could rely on the choice of Delaware law in the loan contracts to avoid the application of New York law.
On remand, the trial court weighed the facts that connected New York and Delaware to the transaction. Generally, New York courts will enforce a choice-of-law clause so long as the chosen law bears a reasonable relationship to the parties or the transaction and the law chosen by the parties does not violate a fundamental public policy of New York. In addressing the reasonable relationship issue, courts have looked to the location of the following factors: the parties' negotiation of the agreement; performance under the agreement, including where loan payments were received; the parties' places of incorporation; the parties' principal places of business; and the property that is the subject of the transaction. The fact that one of the parties' principal place of business is in the selected forum is generally enough to satisfy the reasonable relationship test. In this case, the trial court concluded that most of these factors did not support a finding that a reasonable relationship existed between the parties, the transaction, and the Delaware forum. Nevertheless, the court did not rely upon the reasonable relationship to reject the application of Delaware law. Instead it turned to the other factor - whether the choice of Delaware law would violate a fundamental public policy of New York on which to base its holding.
The court concluded that the application of Delaware law would violate a fundamental public policy of New York as expressed in its criminal usury statute, which makes it a criminal offense to impose interest that exceeds 25% per year. The court thus concluded that New York law governed the underlying agreement as well as Madden's lawsuit.
Having established that New York law governs the dispute, the trial court determined that although Madden could use the violation of New York's criminal usury law as a predicate for her federal Fair Debt Collection Practices Act and state unfair and deceptive acts and practices ("UDAP") claims, she could not sue Midland Funding directly for violating New York usury law. This result stems from case law and the usury statutes themselves. The court found that although New York's civil usury law forbids charging interest on a "loan or forbearance" at a rate above 16% annually, case law makes clear that this civil usury cap does not apply to the kind of defaulted obligations at issue in Madden. The court also found that the criminal usury law does not provide a private right of action. The court thus granted Midland Funding's motion for summary judgment on the usury claims. However, the court allowed the FDCPA and state UDAP claims to proceed, using the criminal usury violation as a predicate act under both statutes. In other words, because Midland Funding was attempting to collect a debt (the usurious interest) it falsely claimed it was owed, Madden could look to the FDCPA and the UDAP for redress.
To that end, the court also granted Madden's motion for class certification. The court certified two classes: