Regulatory missteps start with false assumptions about licensing, usury, and how securities laws apply.

Nichole Moore and Jennifer Young Fortra Law

In private lending, legal missteps often stem not from negligence but from well-intentioned assumptions. The complexity of the regulatory landscape, especially where securities and lending compliance intersects with capital raising, can lead you to rely on structural shortcuts or industry norms that don’t hold up under scrutiny.

Misconceptions in Lending Compliance

1. “We don’t need a license; we only make business-purpose loans.” Although licensing requirements for investors making business-purpose loans are generally less restrictive than those for consumer-purpose loans, it is incorrect to assume a license is never required.

Whether a license is necessary depends on several factors, including the state in which the loan is made, the type of entity making the loan, the nature of the collateral securing the loan, the frequency and scope of the lending activity, and whether the lender qualifies for an exemption.

2. “All business-purpose Loans are exempt from usury laws.” Many states do provide exemptions for business or commercial loans, but these exemptions are not universal and often come with specific conditions. Some states apply usury limits regardless of the loan’s purpose, especially if the loan is made by an unlicensed lender or secured by certain types of real estate. Additionally, even in states where business-purpose loans are generally exempt, the exemption may only apply if the borrower meets certain criteria, such as being a legal entity rather than an individual.

It is essential to review the applicable state laws to determine whether a usury exemption truly applies.

3. “Owner-occupied property cannot be used as collateral to secure a business-purpose loan.” A loan may still qualify as business-purpose if the funds are used for a legitimate business activity (e.g., starting a company, purchasing investment property, or acquiring business equipment), even if the borrower’s primary residence is used as collateral. However, because loans secured by owner-occupied properties can trigger additional consumer protection laws, it is important for lenders to clearly document how the loan proceeds will be used to confirm the business nature of the transaction.

4. “We are licensed in State X, so we are licensed everywhere!” A common misconception among lenders is that having a license in one state allows them to make loans in any other state without obtaining additional licenses. Lending laws are governed at the state level, and each state has its own licensing requirements, even for business-purpose loans. Being licensed in one state does not authorize you to lend in another unless that state specifically recognizes out-of-state licenses or provides an exemption.

Most states require lenders to obtain a separate license or meet specific criteria to legally originate or service loans within their jurisdiction. Not complying with these requirements can result in penalties, enforcement actions, or the loan being deemed unenforceable.

5. “We don’t need custom loan documents. It’s fine to reuse the same documents for all our loans in all 50 states.” Loan documentation must comply with the specific laws and regulations of the state where the loan is made or where the collateral is located. Each state may have unique requirements related to disclosures, interest rate limits, default provisions, prepayment penalties, recording practices, and enforcement rights.

Using a one-size-fits-all approach can lead to unenforceable terms, regulatory violations, or delays in closing. To ensure compliance and protect both parties, loan documents should be reviewed and tailored to meet the legal standards of the applicable jurisdiction.

6. “We don’t review the borrower’s entity documentation prior to closing and funding our loans.” Whether the borrower is a corporation, LLC, partnership, or another form of business entity, lenders must confirm the entity is properly organized and authorized to enter into a loan agreement.

Not reviewing these documents could lead to issues with enforceability or a situation where the entity lacks the legal capacity to bind itself to the loan. Proper due diligence ensures the loan transaction is valid and reduces the risk of future disputes. It is essential for lenders to thoroughly review these documents to verify the borrower’s legal status, authority to borrow, and the structure of the entity.

Misconceptions in Securities Compliance

One particularly high-risk area is securities law, where assumptions based on structure or terminology can lead lenders into regulatory trouble. Even seasoned lenders and fund managers can fall prey to misunderstandings around securities law.

If you raise capital from investors, even to make loans, you may be engaged in securities activity, regardless of how you label the transaction. Below are four common securities law misconceptions that could expose a lender to serious regulatory risk.

7. “We’re just making loans, so it’s not a securities offering.” Although originating loans is not inherently a securities activity, the way you finance those loans may be.

If you raise capital from investors to fund lending operations, and those investors are passive—meaning they rely on your efforts to generate returns—you may be offering securities. Courts often apply the Howey test to determine whether an arrangement constitutes an “investment contract” (SEC v. W.J. Howey Co., 328 U.S. 293 (1946)). If your structure involves an investment of money in a common enterprise with an expectation of profits derived primarily from your efforts, it likely meets the definition of a security.

8. “If it’s structured as a note, it’s not a security transaction.” Not all promissory notes are exempt from securities regulation. Under the Reves test (Reves v. Ernst & Young, 494 U.S. 56 (1990)), courts evaluate whether a note resembles a security by considering factors such as the motivations of the parties, the plan of distribution, and the reasonable expectations of the investing public.

Notes issued to raise capital from passive investors, especially where repayment depends on your loan portfolio’s performance, are often treated as securities, regardless of how they are labeled.

9. “It’s a joint venture, so it’s not a security.” Labeling an arrangement as a “joint venture,” or “JV,” does not automatically remove it from securities law jurisdiction. If your capital partner is not meaningfully involved in the management and relies on you to generate returns, regulators and courts may deem the arrangement an investment contract. Passive involvement, coupled with a profit expectation from your efforts, satisfies the Howey even if the structure is styled as a JV.

10. “Our fund is exempt under Regulation D, so securities laws don’t apply.” It’s a common misconception that a Regulation D exemption means securities laws no longer apply to your offering. Regulation D codified under 17 C.F.R. §§ 230.501 to 230.508 merely provides an exemption from registration with the SEC. It does not exempt you from the broader requirements of securities law.

If you’re relying on Rule 506(b) or Rule 506(c), your offering is still subject to critical federal rules, including the anti-fraud provisions of Rule 10b-5 under the Securities Exchange Act of 1934 (17 C.F.R. § 240.10b-5), which prohibits materially misleading statements or omissions in connection with the sale of securities.

You also must ensure compliance with the “bad actor” disqualification rules under Rule 506(d), verify accredited investor status when using Rule 506(c), and observe any relevant state blue sky notice filing requirements under Section 18(b)(4)(D) of the Securities Act (15 U.S.C. § 77r).

In short, claiming a Reg D exemption does not relieve you of the responsibility to comply with securities laws—it simply changes how you comply. Misunderstanding this can expose you to serious legal and financial consequences.

The private lending space is specialized, and so are the legal issues it presents. Working with generalist counsel or relying on industry norms can leave you vulnerable to regulatory enforcement or investor disputes. In fact, private lending’s specialized nature makes it even more critical to work with attorneys who understand the unique intersections of lending and securities compliance. It requires not just technical knowledge, but industry-specific insight. To protect your operation, reputation, and investors, it’s essential to engage attorneys who truly know the space.