I. Legal Restrictions on Planning Loans Secured with Private Placement Shares

Our business offers free trade share secured loans. Operates under the margin lending provisions of FRB Regulation U of the Banking Code:

Regulation U establishes certain requirements for lenders, other than brokers and dealers, who grant credit secured by margin shares. Margin stocks include any equity security listed on a national stock exchange, such as the New York Stock Exchange or the United States Stock Exchange; any over-the-counter (OTC) securities trading on the National Market of the Nasdaq Stock Market; any debt securities convertible into margin shares; and most mutual funds. The regulation covers entities that are not brokers or merchants, including commercial banks, savings and loan associations, federal savings banks, credit unions, production credit associations, insurance companies, and companies that have employee stock option plans.

My company, founded in 1999, operates under Reg U, providing a Non-Purpose Credit Loan against Margin Stock. This regulation allows us to operate as long as the borrower does not use the funds to purchase marginal securities.

In recent years there have been cases of stock lenders playing fast and loose with the law, making claims that were not justified or allowed. The Internal Revenue Service stepped in not long ago to crack down on stock lending companies that advertise their loans as “tax-free,” for example. These loans are great for many uses, but certainly not for tax avoidance.

When strategizing for a stock-secured loan company, we must consider not only the obvious compliance requirements, but also those that could inadvertently be crossed. Originally, brokers allowed our loans to be taken “on the go” in order to trade them. However, we discovered, in their zeal to close the loan, that statements were being made that were not true, so we were forced to close those avenues, except for foreign transactions where language was a barrier. Control over brokers is a serious issue in a relatively contentious industry like ours.

This then required a serious system of lead developments. Since our industry is a “people” industry, requiring face-to-face discussion of our stock lending product, how it works, and what its benefits are, we assign those duties to our headquarters and focus on leading development through select partnerships. Such partnerships present much less legal liability, but demand less from the agent.

II. Environmental Constraints in a Share-Secured Loan Business

Thanks in large part to a series of “stock lending” operators who fly by night with little more than a website, the stock lending industry in recent years has in some places come to resemble the corny and cheap aspects of the home loan industry. particularly the subprime industry. People who have get-rich-quick visions in their heads create websites with URLs like “real stock loan” or “stock holding loan” or “capital asset loan” with no loan at all to talk about hyperbole-filled nonsense that includes blessings from government agencies (“SEC, FRB, UCC compliance!” screams one) or bogus testimonials (“Best stock loan I’ve ever had. -B. Smith”) says on the payment operator per click. And these ARE night flight operators. They have no experience. They don’t have programs. They see their job as luring their victims the way a spider lures a moth, by any means or any lie necessary, before handing them over to a real moneylender.

In this environment, my company has had to contend with the polluting effects of “would-be” stock lenders who know very little about their product and inadvertently create an atmosphere of suspicion in an industry that shouldn’t have to deal with it. We combat these environmental factors through our “Borrower Beware” page and through personal explanations of how these sub-par operations work. “I put ‘stock loan’ into Google and they came out on top,” one of them said of a company. We pointed out that all they had to do was pay for the keyword. Google does not investigate the quality of the company, its legal background, the legitimacy of its products. It just allows the individual to buy space so it can show up as if it were a high ranking URL, when in fact, it doesn’t show up ANYWHERE in the natural rankings!

Only the companies that appear above in the natural rankings can be said to be truly legitimate. This is for several reasons. One is that only sites with a high “trust rank” (those that have been Googled without problems for a long time) get rankings in the top ten. The best of them appear at the top of the natural rankings. Illegitimate businesses, or start-ups, do not appear at the top of Google’s natural rankings and therefore have to buy their rankings on their own.

We work hard to consolidate brokers in the industry. The most greedy and reckless among them are often shut down through a combination of lawsuits or state/federal disciplinary action, but many still exist thanks to misleading claims and paid-per-click ads bought from Google. We try to “unmask” such sites by bringing them to the attention of regulators or offering to bring them “into the fold” with us, where they must follow very strict compliance guidelines. We hope these efforts will help reduce “I want to be a stock lender” type organizations.

Going forward, it is important to have the strongest funding systems with the best organization and track record because there are two parts to the private placement share lending business: the “hub” – the hub where all transactions flow and information and documents flow; and the “spokes,” the funders who feed quality equity loan financing management into the center. We operate as the hub, so to speak, with the most experienced equity lending operations feeding the system. Small time brokers or funders with no track record cannot succeed in this market space without joining the hub as a funder or becoming part of the hub’s leading development network as a broker. Either way, they must adhere to strict legal compliance, both federal and state.

In this way, my company works both to shape the environment and to carry out the self-regulation that regulatory agencies want the stock lending industry to undertake. We support securities regulatory and enforcement actions, to the extent applicable, in our industry and where they do not exist, we seek to implement common sense policies that help protect our borrowers.

Education: the key function for a successful stock loan

Finally, there is the central issue of education. Our stock lending product is, by its nature, unusual for many people used to mortgages, online banking and E-trade type investments. One of our key objectives is to convey in a more effective and personal way what our stock lending program entails. We must deal with both the law and the environment. We must make it clear that we are not a team without credentials. We must demonstrate that the process is safe and complies with applicable regulations. We must ensure that they understand the benefits of our equity loan financing compared to a conventional sale or holding of their shares, but do so without encouraging any buying or selling activity. We should open up the possibility of greater tax flexibility, without making any specific statements about how it might apply to your case as we guide you to your tax attorney or CPA. Above all, we must raise the comfort level of our customers, making it clear that we will not abandon them at any time.

From a strategic perspective, a private placement equity-backed loan company must take education many steps beyond the typical seller’s vision of “education.” You can’t have a solid vision of the future without working through the normal anxiety that comes with proposing to move stocks to a completely new account. We must work to prove that the account is secure, that the old one is there, that they have a strong compliance record going back many years.

That means a good company would need to stock up on smart, people-oriented staff and the same for lead generators. This is a people product and a people business. You cannot hide behind the glare of your computer screen and expect to win in this market. Only by looking a prospective client in the eye, answering their questions with authority, and understanding their needs, can a stock loan be concluded. Those who know how to educate are the best stock loan providers. Former teachers are ideal, indeed.

IV. Conclusion

A company in the stock-ecu must constantly monitor the law and regulation; the environment created by amateur “runners” who confuse the industry and must be fought or forced; and the importance of education in the loan underwriting process. This requires a strategy that remains attentive to legal and environmental changes, will increase those skills that are necessary to transmit and close loans. These challenges are becoming more intense in times of economic downturn, when more “wannabe” stock lenders launch networks and unsuspecting clients fall for them. At a time when the client should trust only long-standing firms, we must redouble our efforts to educate our market.