Loan Modifications in Peril in California

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Many lenders in our industry are not licensed to lend in California, but instead rely upon a licensed real estate broker to arrange the loan which enables them to lend without their own license.  This arrangement also allows the unlicensed lender to be exempt from California’s limit on interest rates (including origination and other fees) of 10% per year – referred to as a “usury limit”.  A specific statute, California Civil Code Section 1916.1, provides the exemption from usury. 

Until recently it was understood that exempt loans would retain their exemption upon their modification (known broadly under the law as a “forbearance”).  That understanding changed abruptly in January 2022 when a local bankruptcy court issued a decision that quite narrowly interpreted Section 1916.1 to mean that a loan that was exempt when originated since it was arranged by a licensed real estate broker will lose its exemption upon a modification unless a very rare circumstance is met – where the modification is separately arranged by a real estate broker who also was the same real estate broker who arranged the purchase or exchange of the property itself (as a real estate agent commonly does).

The lender, Milestone Financial, made a loan to the Moons at an interest rate of 11.3%, which was not subject to the usury limits because the loan was arranged by a licensed real estate broker.  After the Moons struggled to make payments the parties came to a “settlement agreement” to extend the maturity date of the loan and to REDUCE the interest rate to 11.05% – a reduction, but still above the usury limit of 10%. This forbearance/settlement was not arranged by a licensed real estate broker. After the Moons continued to struggle to make payments, Milestone filed a notice of default to commence foreclosure.  The Moons thereafter sued Milestone in state court, which was later removed to the bankruptcy court after the Moons filed a bankruptcy petition.  The bankruptcy court ruled against Milestone finding that the settlement agreement was simply a forbearance by another name, one which did not qualify for the usury exemption under Section 1916.1. Because there was no broker involved in the forbearance, the Bankruptcy Court held that the loan was now usurious despite the fact that the lender reduced the interest rate.

Milestone took its first appeal to a special bankruptcy appeals court, which agreed with the original court.  Milestone has taken a second appeal to the 9th Circuit Court of Appeals which is where the case now sits.  The Geraci Law Firm, as general counsel for the American Association of Private Lenders (AAPL) has recently filed a brief in the case in support of the lender’s position and a broader, sensical, and realistic interpretation of the statute.  The case is still pending.

Unfortunately, there is a strong likelihood that the appeals court will rule for the borrower and the narrow interpretation of the statute.  This narrow interpretation closely tracks the literal reading.  The statute is poorly written and does indeed suggest this absurd outcome.  As a result, the next step after the appeals process will be a legislative fix.  As we all know, the real estate brokers who negotiate loans do not, in the vast majority of cases, also negotiate real estate purchase transactions, and vice versa.  This distinction must not have been recognized by the legislature or worse, was ignored by it.  Removing these arbitrary requirements in the statute is a straightforward request.

Until then, the fight for a sensical interpretation of the statute remains.  The Geraci team’s brief to the 9th Circuit highlights the legislative purpose of the statute – to foster growth in lending in California, providing its residents with abundant choices for loans with flexible terms – and that the use of a licensed broker in negotiating the loans and modifications are what protect the borrower from bad-actors, no matter the broker’s involvement in a purchase transaction – an irrelevant factor.

If you are a lender who is entering into a forbearance or modification of an existing loan in California and you are not licensed as a California Finance Lender, you must seek legal counsel to make sure you do not unintentionally make a non-usurious loan usurious.

AAPL will remain focused on this issue as it unfolds.  It is now time to consider the next steps and preparation for a legislative fix.  Should you have any questions regarding the case or Geraci’s involvement on behalf of AAPL please contact Matt Gunter, a senior attorney with Geraci, at  Note that Matt further represents Geraci as the ex-officio member of our Government Relations Committee, which will continue to monitor the case and develop a suggested plan for future steps.

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