Indian Tribes Press Their Online Loan Case Against New York

Since taking over as New York State’s top financial regulator in 2011, Benjamin M. Lawsky has aggressively pursued wrongdoing far beyond the state’s borders, investigating financial consultants in Washington, insurance industry practices nationwide and money laundering by foreign banks.

On Wednesday afternoon, two Indian tribes, their businesses under attack by Mr. Lawsky, will argue in Federal District Court in Manhattan that the regulator has overstepped his jurisdictional bounds.

The tribes, each halfway across the country, have found themselves in state’s cross hairs over the online lending operations they run from their reservations. Last month, Mr. Lawsky’s Department of Financial Services announced an aggressive campaign against the payday lending industry, seeking to stamp out Internet businesses that offer small, short-term loans at exorbitant interest rates.

But the American Indians have fought back. They have sued Mr. Lawsky, arguing that their sovereign status protects them from regulation by New York and other states. The two plaintiffs in the case are the Otoe Missouria Tribe, located in Red Rock, Okla., and the Lac Vieux Desert Band of Lake Superior Chippewa Indians, a tribe located in Watersmeet, Mich. The Otoe Missouria tribe operates American Web Loan and Great Plains Lending, and the Lac Vieux Indians run CastlePayday.com.

“This is a straightforward case that is about the real world importance of Native American sovereign rights,” said David Bernick, the lawyer representing the tribes. “Since Lawsky has ignored hundreds of years of precedent, he has left tribes with only one clear path: go to the courts to protect a bedrock principle of the law.”

Mr. Lawsky says that despite claims of tribal sovereignty, he has the power to protect vulnerable New York State consumers from American Indian-run businesses that reach beyond a reservation’s borders. He argues that insulating tribal businesses from regulation would hamstring New York State’s ability to enforce its laws against predatory lending.

“State laws like New York’s usury statutes may validly be applied to economic transactions between Native Americans and New York consumers when those transactions have significant and injurious off-reservation effects,” Mr. Lawsky’s lawyers wrote in a court filing last week.

As part of a growing effort by regulators across the country to crack down on payday loans, Mr. Lawsky sent letters last month to 35 online lenders â€" 11 with purported ties to Indian tribes â€" asking them to “cease and desist” from offering loans with interest rates that in some cases exceed 500 percent annually. He also sent letters to more than 100 banks, notifying them of his investigation and asking for their cooperation in his effort to eradicate the loans.

The state’s attorney general, Eric T. Schneiderman, subsequently filed a lawsuit against Western Sky Financial, an online lending business operated by the Cheyenne River Sioux Tribe. Last week, Western Sky, based in Timber Lake, S.D., suspended its operations and laid off nearly 100 employees. An affiliated business, Cash Call, remains in operation. Western Sky has also accused New York State of overreaching.

A lawyer representing Western Sky, Katya Jestin of Jenner & Block, said that her client would move to dismiss the lawsuit next week on similar grounds as the tribes that had already brought action against Mr. Lawsky.

“Consumers voluntarily entered into the loans and agreed when they signed the loan agreements to be bound by the laws and the courts of the Cheyenne River tribe,” Ms. Jestin said. “New York’s lawsuit is an attempt to sidestep these agreements.”

The concept of tribal sovereignty predates the formation of the United States and is preserved in treaties between the federal government and Indian tribes. While Congress can regulate the affairs of Indian tribes and limit their sovereignty, states lack that power.

Lawyers for the Indian tribes argue that Congress, when it passed the Dodd-Frank Wall Street reform law in 2010, would have chosen to exercise authority over tribal nations’ lending businesses. Instead, Dodd-Frank placed states and Indian tribes on equal footing under federal consumer-finance regulations. The law, said the tribes’ lawyers in a court filing, “explicitly refused to subjugate tribal lenders to the jurisdiction of the states.”

The tribes liken their online lending businesses to the gambling operations that have proved lucrative for other tribes. They argue that New York State should not be able to stop its residents from voluntarily reaching out to obtain high interest-rate loans, just as a state’s anti-gambling laws cannot forbid tribal casinos from serving New York residents who travel to them. And both tribes say that they have created their own regulatory authorities to oversee the businesses.

Online lending has become a popular venture for Indian tribes over the last several years as states have cracked down on payday loans. The tribes say that in many cases, e-commerce activities have become a vital source of revenue, especially because their remote locations inhibit their ability to operate casinos. For the Otoe Missouria Tribe, lending revenue accounts for roughly half of the tribe’s nonfederal budget, according to a court filing.

“Every Indian tribe worth its salt has to provide health care, public safety, education and a panoply of essential services to its members,” said Matthew Fletcher, a law professor at Michigan State University and an authority on Indian law. “These tribes must reach off the reservation to conduct business because there is a desperate need for revenue.”

Loan industry experts point out that if New York State barred the tribes from doing business here, they could still issue high interest-rate loans to consumers elsewhere. Payday loans â€" named because they are often secured by the borrower’s next paycheck â€" are illegal in just 15 states. The tribal businesses could also issue loans in New York State at no more than the state’s maximum interest rate of 16 percent.

And though not an issue in this case, regulators are also concerned about the so-called rent-a-tribe problem. In those cases, rogue payday lenders have associated with American Indians to use tribal sovereignty as a shield and try to make predatory loans beyond the reach of state usury laws.

Matthew Anderson, a spokesman for Mr. Lawsky’s office, said that while the state respects tribal sovereignty, the tribes lose that special protection when the loans are sold illegally to New Yorkers outside of tribal boundaries.

“It is a sad day when payday lenders are suing to make illegal predatory loans, which serve only to trap families in endless cycles of debt,” Mr. Anderson said.