Don’t call them “lenders.”
That’s the pushback David Horton got after an article he co-wrote called “Probate Lending” published in a law review journal in 2016.
The article described the business practice of offering an estate’s beneficiaries an advance on their expected inheritance. In each deal he analyzed, the heir would get a slice of their inheritance early — say, $14,000 — and the company making the advance would get that amount back plus a good bit more, such as $21,000 total, when the assets of an estate were distributed through probate court.
“It’s something that’s happening underneath the radar,” said Horton, a law professor at the University of California, Davis. “That bothers me from a fairness perspective, because I do feel like the companies are taking advantage of people who sometimes are in the throes of grief.”
That’s one reason Horton keeps returning to the subject. His research uses contracts entered into court records to calculate what each deal’s annual percentage rate (APR) would have been if the transactions were treated as traditional loans.
Horton’s study of one county’s probate transactions reported an average effective APR of 50% – well above the maximum APR for installment loans in most states. An article covering an adjacent county found that the effective APR across 143 transactions was a whopping 63%. (For comparison, the average credit card interest rate is currently about 28%, according to Forbes.)
But companies involved in deals like these don’t call them loans. They call them cash advances. That label inoculates them from the Truth in Lending Act, which governs how lenders disclose charges and fees to consumers. It also places them outside the reach of usury laws, which cap how much interest lenders can charge.
Robin Shapiro, co-founder of the company ProbateCash, said businesses like his serve customers unable or unwilling to access conventional financing to cover expenses that can’t wait, like avoiding foreclosure or paying college tuition.
“I can’t change some of the circumstances which leave people in a situation where some people come to a transaction with more financial options than others,” he said. “But I’ve come to the conclusion – others might come to a different conclusion – that the way to address that is not to say ‘Go away,’ but to transact with them and to help them meet their needs.”
Shapiro said the cost of this upfront cash is a function of risk. Compared to easy-to-trade, highly regulated assets such as stocks and bonds, or even mortgage or credit card debt, he said, investors consider an heir’s inheritance to be a riskier proposition.
“There is no way to say, ‘I’d like to get paid now,’ because you can’t get paid until the situation allows you to get paid,” he said – that is, until an heir receives their inheritance.
Whether a probate cash advance is guaranteed to be repaid has important legal repercussions. At least one court, the Southern District of California, found that a probate advance was not a loan because the consumer was not required to repay the advance if the estate did not have sufficient funds.
But Horton’s research suggests that companies almost never pick a losing bet. His most-recent study found that “no probate lender suffered a loss or merely broke even,” and some firms charged effective APRs exceeding 200%.
The Center for Public Integrity interviewed him about this little-known corner of finance whose customers are dealing with emotional loss and the expectation of some financial gain.
This conversation has been edited for length and clarity.
Q. Suppose I’m due to inherit some money from the estate of a distant relative. Someone has just opened a case in probate court. Realistically, how long until I should expect to receive my inheritance?
If it was an intestacy [dying without a will] or a will, you probably would have to wait a year or a year and a half before you actually got the money. There is some empirical evidence that for states like California that have a sort of old-school probate system, it can take between 12 and 18 months.
Q. Suppose I can’t wait that long. Maybe I have other expenses in my life. Maybe I’ve been entrusted to sell this relative’s home or something like that and I’m wanting to invest in fixing that home before I sell it. But I don’t have cash upfront. What are my options? Is there anything that I can do to speed this along?
That is why there is this probate lending industry, because there are cases in which people do need money that they’re standing to inherit and they need it sooner rather than later.
Your example was a great one. There could be a situation where you don’t have any liquid assets in the estate. And yet, there’s something you’ve got to do, like repair a house. And so, really, the only way that you could get money in that situation would either be through a conventional loan or through one of these probate loans.
If you look at the other side of the coin, very few people desperately need money that they stand to inherit. It’s not like you budget for some unexpected inheritance, and then when that inheritance doesn’t immediately come, you’re scrambling. That’s why, in most cases, I would wager that you’re dealing with people who just take out one of these probate loans because they want the money now, not they need the money now.
Q. How much should I expect a probate advance company will pay me and how much should I expect to pay them in return?
The pricing really fluctuates. What I typically see is, if you have an estate where a beneficiary might be entitled to $100,000, these probate advances tend to be for smaller fractions of that amount. Very roughly, you might get $5,000 up front immediately in exchange for paying $10,000 back when the inheritance comes in.
It was when I started doing the research, and I started crunching a few of the numbers, that I really realized to what degree these loans would be extraordinary if they were conventional loans. If you think about them as normal loans that have an annual percentage rate, they are off the charts.
Q. Why is it that regulators do not consider these transactions to be loans, and therefore, they are not subject to the kind of usury laws that cap interest typically?
This is the heart of the matter. There is a legal term of art called a loan, and a loan is generally defined as an advance of money that’s absolutely repayable. You lend money and you are guaranteed to be repaid. At least, the contract says that there is no contingency that might lead to you not getting paid, other than the normal things that happen, like someone goes bankrupt or the risks that are inherent in lending itself as an enterprise.
But the test for whether or not a loan is absolutely repayable is actually sort of a functional test and not a formal test. Are we talking about the kind of advance where everybody knows that it’s gonna get repaid almost certainly, even if there’s no express contractual right that requires repayment?
What the [probate advance] companies say is, there’s no express contractual right that requires repayment, so we’re making these advances and if the estate is consumed by unexpected litigation, or some other contingency, nothing in our contracts actually says that we’re guaranteed to recover. Therefore, it’s not a “loan.” It’s not absolutely repayable.
But as I saw the more I looked into this industry, the truth is, all of these loans, with just one or two exceptions, are going to get absolutely repaid. Probate lenders make good bets. More power to them. They’re able to tell, most of the time, which estates are safe [and] when they are going to get repaid.
That’s really the distinction there. Do you look at what the contract says? Or do you look at what’s actually happening in the real world?
Q. If I was opening up a new credit card account, I’d have to sign a precise and potentially lengthy document that would outline the specific terms of the agreement. What, if anything, are probate financiers required to disclose to customers before they sign on the dotted line?
The only thing I have access to is the contracts that show up in the court record, so it could be that there are disclosures that I’m not aware of. That said, I have never seen anything that’s remotely like the credit card agreement that you’ve described with the contracts that I’ve seen these probate companies produce.
They’re bare-bones contracts that just contain rights and obligations. There’s no disclosure of anything, as there would be if, say, the Truth in Lending Act applied and the lender needed to provide estimates of what the APR was. So because this really is an almost completely unregulated area, the lenders do get away with not making disclosures that they would otherwise be required to make.
Q. A criticism that I’ve heard of the approach to calculating APR for these transactions is that, at the moment that the cash advance company is providing money, they’re providing it at the front end, unsure when or if they will be repaid. Since you can only calculate an APR on the back end, there would be no way to disclose the terms upfront. How do you respond to that criticism?
It’s entirely possible when the money is paid upfront, that the lender is not going to get repaid for a year, two years, five years. The only things that I think are kind of problematic about that tidy summary is that these companies know exactly what’s going to happen most of the time or at least within a reasonable range. They really aren’t going to make loans on estates where they don’t have some sense of when they’re actually going to get repaid.
The other thing is that you can put a clause in your contract that says, “We don’t know exactly what the interest rate is going to be, but if it’s above this amount, and it would be usurious and therefore illegal, we will agree to lower the interest rate to a legal rate.” So you can deal with this type of uncertainty upfront and I think that uncertainty is, to be frank, a little bit exaggerated.
Q. It’s my understanding that sometimes when people trade away a slice of their inheritance to one of these probate advance companies, it’s not just a stake in their inheritance that they’re trading. This company can then become involved in the estate, a party to it.
One of the things that I found is that these probate lenders are involved in probate litigation quite a fair amount. They will do all kinds of things that you can do, if you are an “interested person” in the probate matter, which just means that you have a financial stake in it.
There was one case that I found where a probate lender evicted tenants from an apartment building that the decedent owned, which may not have been something that was fair and may not have been something that furthered the decedent’s intent. It seems like a pretty hardline thing to do. They could only do it because some heir or beneficiary had assigned their inheritance rights, therefore making the lender an interested person in the probate matter.
There’s also this kind of weird, good side that comes from the lenders being so active. Their interest is simply to maximize the value of the estate to make sure that they get paid. So in some way, they’re protecting the rights of the other heirs and beneficiaries with their litigation.
Their interests are almost always aligned, so they’re trying to, say, step in and sue some executor who’s not doing their job. That’s actually something that probably benefits the decedents’ other heirs or beneficiaries. So it’s this really complicated dynamic.
Q. I started this conversation by asking you about the ease of inheriting money from probate court. Does the perception that probate cases are long and unwieldy work to the advantage of probate funders?
Definitely. It’s part of their marketing strategy. It’s not off-base. Probate is long. There does seem to be some statistical support for the idea that the longer an estate drags on, the more likely someone is to take out a loan. I do think that the fact that the probate system is so reviled – and in some cases, rightly so – explains how this industry manages to do what it does.