Connecticut’s state banking commissioner has handed the peer-to-peer lending fintech Solo Funds a temporary cease-and-desist order for alleged violations of state rules.

The state regulator has accused Solo Funds of the same issue New York regulators cited with early wage access provider Earnin in 2019: asking consumers to pay a voluntary “tip” for a small loan, but then only giving loans to those who pay tips. Solo Funds’ tips were the equivalent of APRs ranging from 43% to 4280%, the order said. It also cited Solo Funds for failure to disclose the tips and for not having lending and collections licenses in the state.

Solo Funds declined a request for an interview, but confirmed that it did receive a temporary order to cease and desist from the state of Connecticut.

“We are in communication with Connecticut, and look forward to working together on a path forward,” the company said in a statement. “Our regulations are designed to support existing traditional models. In order to support marginalized communities, it’s imperative for traditional models to be reimagined and financial innovation to be encouraged.” 

The case could have ripple effects on other fintechs that use a tipping model and on fintech lenders that rely on bank partners to handle compliance with state law. It could also affect the bank partners themselves.

Los Angeles-based Solo Funds provides small loans of $50 to $100 through an online marketplace in which consumers can lend to one another. Requests for loans include a proposed monetary tip to the individual who makes the loan and another tip to Solo Funds itself. According to the complaint, Solo encourages potential borrowers to offer the individual lender a tip of up to 12% of the loan amount and Solo a tip of up to 9%.

The state regulator said that although Solo Funds told it that no tip is required to submit a loan request nor to receive a loan, 100% of Solo’s loans to Connecticut residents from June 2018 to August 2021 contained a lender tip or a Solo tip. The order also said that when loan requests aren’t met, Solo advises potential borrowers to offer higher tips.

“Voluntary must mean voluntary,” said Aaron Klein, senior fellow at the Brookings Institution. “It would be highly unusual for 100% of customers to provide tips on a truly voluntary basis. Other tipping apps report much lower percentages of customer tips and relatively small tips.”

If the allegations are true, the tips Solo Funds collects “start to look like a finance charge,” said Allen Denson, a partner at Stroock & Stroock & Lavan in Washington. “And once you have a finance charge, you have this whole parade of horribles that make it look like you’re doing high-APR lending.” A $100 loan made for two weeks with a $12 tip amounts to a triple-digit APR, he noted. 

“It starts to look pretty bad,” Denson said. 

Tips in and of themselves aren’t necessarily bad. Many fintechs, including Aspiration and Dave, have a tipping mechanism.

If tips are properly disclosed, truly not required to get a loan and there’s no minimum, they are permissible, Denson said. 

The cease-and-desist order also said the tips Solo Funds charged were not disclosed in the loan agreements, which stated APRs of 0%.

“Respondent provided wholly inaccurate information to Connecticut consumers and caused loan transactions to appear more advantageous than they truly were,” the order stated.

The Connecticut regulator also said Solo Funds doesn’t have the licenses it needs to lend and perform collections in the state. That’s an unusual position for a state agency to take toward a lending marketplace, Denson said.

“They should be able to rely on the fact that they are partnered with a bank,” Denson said. 

Solo Funds’ partner bank, Evolve Bank & Trust, did not respond to a request for an interview.

“If the bank was the lender, they wouldn’t need a license and they would be able to lend at whatever APR the home state permitted,” Denson said. “It looks like the state decided to look past that bank partnership arrangement and say that Solo is the true lender instead of the bank.” 

Solo Funds has the right to a hearing where it can challenge the cease-and-desist order, Denson said.

Other states are investigating small-dollar lenders and bills have been submitted to Congress that would curb the rates they are allowed to charge, Denson said.

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