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[traveler505]

MNH Report #3



In MNH Report #2, I reported that Prosper Marketplace Inc. modified the Lender Registration Agreement on October 30, 2007, to relieve itself of any responsibility for verifying borrowers’ income, employment, or any other information submitted by the borrower (aside from identity). 

As I noted there,

One could argue, of course, that this change has no real significance (other than as a symbol of Prosper’s lack of commitment to protecting lenders from fraud).  It is possible, after all, that Prosper never made “commercially reasonable efforts” to protect lenders from fraud and never intended to honor this part of its representations and warranties to lenders.  In MNH Report #3, I’ll explore this possibility, with a close (but PII-free) look at Prosper’s handling of a loan (now defaulted) where a borrower provided obviously false information. 

The borrower in question was laurenleigh, a clean HR who received a $6001 loan in June 2006, made 5 payments, and defaulted in August 2007.  Her loan was number 1380; listing was

http://www.prosper.com/lend/listing.aspx?listingID=18121

The most interesting discussion of this listing occurred on a RML thread started by her group leader, PsychDoc, now archived at:

http://www.prosperreport.com/prosper/forums/archive/threads/3/1/3107.0.HTM

According to the listing, she was borrowing $6000 to pay off an equal amount of credit card debt.  Her monthly payment on the Prosper loan was $234.65; assuming that the monthly minimums on the credit card debt were the same, her 12% DTI would mean that she claimed an annual income of at least $47,000.  If other debts appeared on her credit report, the self-reported income would be higher.  On her profile (now deleted), she claimed an annual income of $70,000.

On the now-deleted (but independently archived) Prosper.com forum, laurenleigh presented a paystub to document her income, showing $1346.15 as income for her first week on a new job, corresponding to an annual salary of $70,000.  That paystub was posted, with her permission, at:

http://prosperlenders.wikispaces.com/18121

Lenders quickly pointed out a number of obvious flaws with this document, some damning, others merely suspicious:

(1)  It appeared to be created using a word processing program, not tax software. 

(2)  The employer’s address was missing the quadrant information (SE/SW/NE/NW) that is part of every Washington, D.C., address.

(3)  According to the USPS website, the employer’s address did not exist in any quadrant of D.C.

(4)  The USPS did have a record of a similar address (Ct. rather than Ave., NE quadrant), with a nine-digit zip matching the one on the paystub.  A reverse directory search of that address revealed that the corresponding phone number belonged to someone with the same first initial and last name as laurenleigh.

(5)  Extensive searches failed to uncover any documentation of the employer’s existence.

(6)  The company name included initials which matched those of the borrower.

(7)  The check date is shown as May 1, 2006, but the pay period was May 25-31 of that year.

(  The check number contained slashes. 

(9)  The withholding status was listed as H-3, which is not a valid IRS status.

(10) No state tax was withheld.

Assuming that laurenleigh submitted the same document to Prosper for verification, for Prosper to verify her income based on an obviously forged document, reporting wages paid by a non-existent employer with a non-existent address, was not “commercially reasonable.” 

In the thread, Cusip suggested that she might have submitted other documentation, such as federal tax returns, to Prosper to document her income.  However, she had admitted on CreditBoards.com that she only reported $40,000 on the tax returns which she actually filed with the IRS, so they would not have supported a claim of annual income in the $47,000 - $70,000 range.  (On the RML thread, she did not deny understating her income on the tax forms, and said that she would be filing amended returns.)

The nature of laurenleigh’s employment also casts doubt on her ability to supply Prosper verification staff with legitimate documents supporting her self-reported income of $47,000 to $70,000.   
Elsewhere on the web, and perhaps hinted at by alan in the RML thread, laurenleigh posted that she had been employed as an exotic dancer – a cash-based profession for which paystubs would ordinarily be unavailable. 

Following childbirth, she had an extended period of unemployment (or at least an absence from the strip clubs).  During that time, she underwent a breast enlargement, tummy tuck, and liposuction.  The surgery occurred two months before she sought the loan; the disappearing semi-nude photos in her Yahoo album referred to in the RML thread were presumably the before and after shots.  I have no idea about recovery time for plastic surgery, so I don’t know if she would have been ready to resume her career by the time she requested the loan. 

In any event, it seems highly unlikely that she would have been able to produce legitimate proof of income to support income in the $47,000 to $70,000 range, and the posting of the fake paystub and other thread discussion should have alerted Prosper verification staff to the likelihood that any other documentation submitted would be equally bogus.

Prosper cannot claim that its verification staff simply overlooked the flaws in the paystub since a lender on the RML thread, norcal_cct, flagged  the listing and contacted Prosper directly to alert their staff to the problem.

Nice catch. Clearly a faked paystub for a company she just made up. This listing should not pass Prosper verification, and I personally will flag the listing (as well as contact Prosper) to make sure that it does not.

Even after it was placed on notice that laurenleigh was attempting to use manufactured documentation of her income, Prosper Marketplace Inc. approved the loan and disbursed the funds.  The ensuing default resulted in a loss of approximately $5,000 for lenders.

In retrospect, my own posts on that RML thread were not as clear as they should have been.  In short, I believed that Prosper verification should have cancelled this loan for fraud (or, at least, inability to prove income).  When I placed a bid, even after exposing the paystub as a fake, it was with the expectation that they were likely to do so.  However, at the time, I believed that laurenleigh did in fact have enough income to repay the loan, even if that income could not be documented, so I was glad that they allowed the loan to originate.  Once she stopped paying, of course, the latter part of my opinion changed.

While Prosper could argue that some of us (myself included) placed bids with full knowledge that the paystub was a fake, many lenders bid before this information became available, or bid without viewing the forum thread, and certainly deserved to have the full protection of Prosper’s verification process. 

At the time laurenleigh’s loan was approved, Prosper’s Lender Registration Agreement provided that:

Prosper makes the following representations and warranties to you that, with respect to each Note sold to you under this Agreement, as of the date the Note is funded by Prosper and transferred to you:

*  *  *

c.  Prosper has made commercially reasonable efforts to authenticate the identity of the borrower and verify information provided by the borrower in connection with the loan evidenced by the Note.  Based on such authentication and verification, to the best of Prosper’s knowledge: (i) the borrower had full legal capacity to execute and deliver the Note, and (ii) each Note sold to you by Prosper is the legal, valid and binding obligation of the borrower, and is enforceable in accordance with its terms.

[Emphasis added.]

I’ve addressed elsewhere the difficult question of what constitutes material statements of fact in the context of a loan listing, and I suspect that the same considerations apply to a determination of what constitutes “commercially reasonable” verification of those facts.

The problem, briefly, is that, on the one hand, due to the unique social character of P2P lending, any fact, no matter how obscure, trivial, or unrelated to the borrower’s willingness and ability to repay the loan, might trigger a particular lender’s decision to bid or not bid, and could be considered a material fact. (The only exception would be information regarding the borrower’s race, sex, ethnicity, religion, etc., which lenders are prohibited from treating as material facts.)

On the other hand, a court might hold that the only material facts are those which a reasonable commercial lender would use to make a lending decision – identity, credit history, financial history and status, income, and employment.  Using the latter theory, a court might hold that “commercially reasonable efforts” applies only to those facts which would be verified by a reasonable commercial lender, not every extraneous piece of data in the listing.

We need not resolve this question, however, in the case of laurenleigh.  Prosper’s failure to exercise “commercially reasonable” verification efforts went to the heart of the borrower’s ability to pay – her income and employment.  Particularly when the defects in the paystubs were brought to its attention prior to origination, there is no “commercially reasonable” justification for accepting a paystub from a fake company with a fake address, bearing multiple indicia of fraud, as proof of income.

Prosper clearly breached its warranty to lenders, by failing to make “commercially reasonable efforts” to verify laurenleigh’s income and employment. 

Under the terms of this agreement, if Prosper failed to use “commercially reasonable efforts” to “verify information provided by the borrower in connection with the loan,” it would be in breach of its warranty, and would be required to cure the defect, repurchase the loan, or indemnify lenders against all losses (including losses due to delinquency or default).

A defect in pre-origination review cannot be cured once the loan is originated.  Nor can Prosper repurchase the loan from lenders, since it has already been sold to a debt buyer.  Prosper’s only option is to indemnify the lenders for all losses arising from the late payment and default of this loan, including lost interest at 23.75%.

As a lender on this loan, I am writing to Ed Giedgowd, Chief Compliance Officer and General Counsel for Prosper Marketplace Inc., to request that PMI honor its warranty and reimburse the lenders on this loan for their losses.  I urge other affected lenders to do the same.

*  *  *  *

I’m sure there are many loans where Prosper’s verification efforts fell far short of “commercially reasonable efforts,” though, in most cases, lenders do not have enough data about the borrower to prove this.  If you know of a case where you believe that Prosper, prior to October 30, 2007, violated its warranty of “commercially reasonable” verification, please feel free to post it here.



[Copies of previous MNH Reports, along with links to the corresponding Prospers.org discussion threads, can be found on my blog:  http://blog.traveler505.com.]

[leporello]

It's too bad that we can't raise holy hell on the .com fora about this, but perhaps Paul Allen Levy could develop a side interest in sending legal nastygrams to PMI even if it's not about the old fora that 112233 preserved for posterity.

[112233]

call me crazy, but that total gross pay under the amount column looks like $I,346

[Tokyo Joe]

Nice work piecing that story together, trav.

I wonder how many other obviously bogus listings were not given commercially reasonable inspection?  I wonder if any listings were given commercially reasonable inspection.

[lenderguy]

Stuff like this is *exactly* why class action lawsuits were invented... nobody is going to sue over $50, but a lawyer might have a field day.    And, for those that are worried about proving their claim, that's what discovery is for...

BTW, I do *not* wish to be excluded from the class.

[bamalucky]

Almost every islandmele group loan is fraud.

You can't type in $1 income  & then say,but i really make 5k per month.

This is the angle i am working from.

[ira01]

In retrospect, my own posts on that RML thread were not as clear as they should have been.  In short, I believed that Prosper verification should have cancelled this loan for fraud (or, at least, inability to prove income).  When I placed a bid, even after exposing the paystub as a fake, it was with the expectation that they were likely to do so.  However, at the time, I believed that laurenleigh did in fact have enough income to repay the loan, even if that income could not be documented, so I was glad that they allowed the loan to originate.  Once she stopped paying, of course, the latter part of my opinion changed.

While Prosper could argue that some of us (myself included) placed bids with full knowledge that the paystub was a fake, many lenders bid before this information became available, or bid without viewing the forum thread, and certainly deserved to have the full protection of Prosper’s verification process. 

* * *

As a lender on this loan, I am writing to Ed Giedgowd, Chief Compliance Officer and General Counsel for Prosper Marketplace Inc., to request that PMI honor its warranty and reimburse the lenders on this loan for their losses.  I urge other affected lenders to do the same.

Traveler, as always, great work. 

IMHO (TINL), you personally do not have a very good claim.  As you note, your bid was placed with full knowledge that the paystub was fake, and you were happy that the loan originated.  I think you assumed the risk that the borrower, who you knew to be comitting loan fraud, would eventually default on the loan, and it is unreasonable for you to complain now.  As I would argue this case if I were Prosper's lawyer,  you were trying to have your cake and eat it too.  You chose to accept a high-rate loan knowing the borrower was committing loan fraud, figuring that if the borrower nevertheless made good on the loan, you would turn a very tidy profit (23.75% interest).  OTOH, if the borrower defaulted, you could always turn around and try to stick Prosper with the loss.  Put another way, this was a heads you win, tails Prosper loses proposition for you -- you get all the upside if things work out, and stick Prosper with all the downside if they don't. 

However, as you note, the situation is very different for all the lenders who bid on this loan before the truth came out in the forums (who have the best case), and even probably for those who bid afterwards but who were unaware of the forum story (either because the bids were placed by SO, or because the lenders didn't check RML).  It seems to me, that those lenders probably have a good case against Prosper.  As we've discussed before, "commercially reasonable efforts" is a pretty vague concept, that might even include Prosper's technique of only verifying information for a subset of loans, chosen pursuant to certain factors.  However, it sure seems to me (as you note) that once Prosper is put on notice of the fraudulent paystub, whatever "commercially reasonable efforts" entail, they certainly include enough verification that this loan should never have originated. 

Someone should PM some of the lenders on this loan with a link to this thread.  I note that goldenretreiver has $500 on this loan, even though he/she bid towards the end of the listing (I didn't check the forum thread to see if he/she participated).  I also note that Ferrix has $400 on this loan, and he bid on the second day of the listing, presumably before the facts came out in the forum (although I didn't check the forum thread to check that).  He would seem to be in good position to send Prosper a demand letter.  I would be very interested to see Prosper's response.

Incidentally, Traveler, did you send your letter return receipt requested?  I think it might also be a good idea to send your letter as a complaint to the BBB.  It appears from the other thread on Prosper's BBB rating, that Prosper DOES respond to such complaints (in something like 18 of 19 cases).  Thus, while Prosper might simply ignore your letter to them directly (didn't they ignore your MNH#4 letter?), they might feel obligated to respond to a BBB complaint.

[ira01]

It's too bad that we can't raise holy hell on the .com fora about this, but perhaps Paul Allen Levy could develop a side interest in sending legal nastygrams to PMI even if it's not about the old fora that 112233 preserved for posterity.

While that would be nice, I doubt he is interested.  He does internet free speech cases.  This isn't really up his alley.  OTOH, I wonder if the time might not be approaching to make some serious efforts to interest a class action attorney in Prosper.  MNH#3 seems like a pretty clear cut situation, that is easy to understand.  It might well provide sufficient basis for a lawsuit based on Prosper's inadequate verification, and although little money is at stake on this one loan, I bet some discovery would quickly show many more loans just like it.  One of the first pieces of discovery I would send is a document demand for each and every document constituting the report of a listing, and each and every document constituting, evidencing, memorializing, describing, or in any way relating to Prosper's investigation of each and every such report.  With that, it would be pretty easy to cross reference the list of reported listings against all defaults and lates, and then see exactly what Prosper did in response to reported listings.  I bet that in many cases, the answer would be "not much."

There is much for a class action attorney to like about Prosper, especially including the fact that Prosper apparently has at least $10M in the bank from the last round of VC.  So at least Prosper has (for now) deep pockets.

[Mercurio]

There is a Summit Ct in the 20018 zip code area of Washington.  Mary Kay Cosmetics has a zip code of 20018 and is located at 3418 Summit Ct, NE.   

That doesn't explain much, though, does it? 

[ira01]

Almost every islandmele group loan is fraud.

You can't type in $1 income  & then say,but i really make 5k per month.

This is the angle i am working from.

We've debated this in the past, but I still say you are wrong about this.  Prosper tells people to enter $1 if they cannot easily pass verification, usually because of self-employment (or at least they did before adding a menu choice for this), and if the borrower wishes to enter $1 and proceed without income verification, that is their choice -- lenders don't have to bid if they don't want to.  Yet that doesn't make their stated income irrelevant, and lenders may be interested in hearing what the borrower claims to make (fully understanding that prosper generally does not verify such claims).  Clearly, lenders should take such claims with a large grain of salt (if not a whole barrel).  But that alone doesn't make the loan listing fraudulent. 

Now if the borrower really doesn't make $5K, contrary to their claim in the listing, that IS fraud.  But, that doesn't change the fact that Prosper has disclaimed a general duty to verify such facts stated in the listing.  Now if you discovered facts suggesting that the borrower is lying about their stated income claim and you reported those facts to Prosper before the listing ended, that might impose a duty on Prosper to investigate.  But that's not the case here.  Your complaint isn't that you have information suggesting the $5K claim is fraudulent, but rather that you don't think a borrower should be able to officially claim $1 and then state $5K in the listing text.  I think that while you are certainly free not to bid on such listings, there is nothing inherently wrong with them.

[traveler505]

IMHO (TINL), you personally do not have a very good claim.  As you note, your bid was placed with full knowledge that the paystub was fake, and you were happy that the loan originated.  I think you assumed the risk that the borrower, who you knew to be comitting loan fraud, would eventually default on the loan, and it is unreasonable for you to complain now.  As I would argue this case if I were Prosper's lawyer,  you were trying to have your cake and eat it too.  You chose to accept a high-rate loan knowing the borrower was committing loan fraud, figuring that if the borrower nevertheless made good on the loan, you would turn a very tidy profit (23.75% interest).  OTOH, if the borrower defaulted, you could always turn around and try to stick Prosper with the loss.  Put another way, this was a heads you win, tails Prosper loses proposition for you -- you get all the upside if things work out, and stick Prosper with all the downside if they don't. 

As I acknowledged in the report, my position is weaker than that of those who bid without this knowledge.  But I still think the case could go my way.

Here's why:

If I were suing laurenleigh for fraud, you'd be right.  But my case would be against Prosper, and not for fraud, but for breach of warranty.  In the Lender Registration Agreement, Prosper's promise to verify information provided by the borrower is presented as a "warranty and representation."  It was Prosper's failure to verify, not the statements made by laurenleigh, which give rise to the action.

Suppose that I bought the cheapest car on the market, the Dodgiac Lemonade, even though I had read in Consumer Reports that the rubber bands that power the engine are defective.  Would that deprive me of the benefit of Dodgiac's 5 year, 50,000-mile warranty?  Wouldn't they still have to fix my car when the rubber band breaks?

I would also contend that Prosper benefited by including a "heads you win, tails Prosper loses" proposition in its legal agreements, since that warranty would tend to increase lender confidence and promote bidding in general. 


 

[ira01]

IMHO (TINL), you personally do not have a very good claim.  As you note, your bid was placed with full knowledge that the paystub was fake, and you were happy that the loan originated.  I think you assumed the risk that the borrower, who you knew to be comitting loan fraud, would eventually default on the loan, and it is unreasonable for you to complain now.  As I would argue this case if I were Prosper's lawyer,  you were trying to have your cake and eat it too.  You chose to accept a high-rate loan knowing the borrower was committing loan fraud, figuring that if the borrower nevertheless made good on the loan, you would turn a very tidy profit (23.75% interest).  OTOH, if the borrower defaulted, you could always turn around and try to stick Prosper with the loss.  Put another way, this was a heads you win, tails Prosper loses proposition for you -- you get all the upside if things work out, and stick Prosper with all the downside if they don't. 

As I acknowledged in the report, my position is weaker than that of those who bid without this knowledge.  But I still think the case could go my way.

Here's why:

If I were suing laurenleigh for fraud, you'd be right.  But my case would be against Prosper, and not for fraud, but for breach of warranty.  In the Lender Registration Agreement, Prosper's promise to verify information provided by the borrower is presented as a "warranty and representation."  It was Prosper's failure to verify, not the statements made by laurenleigh, which give rise to the action.

Suppose that I bought the cheapest car on the market, the Dodgiac Lemonade, even though I had read in Consumer Reports that the rubber bands that power the engine are defective.  Would that deprive me of the benefit of Dodgiac's 5 year, 50,000-mile warranty?  Wouldn't they still have to fix my car when the rubber band breaks?

I would also contend that Prosper benefited by including a "heads you win, tails Prosper loses" proposition in its legal agreements, since that warranty would tend to increase lender confidence and promote bidding in general. 

Sorry, Treveler, but your example is not the same thing.  In your car example, the company warranted performance for a set period of time, so even if the rubber bands are defective (and you knew it), you are still entitled to rely on the company's promise to repair them for 5 years, 50,000 miles.  But Prosper didn't warrant that the loan would perform for any particular period of time (which would be the equivalent warranty to your example).  Its warranty was that it would use commercially reasonable efforts to verify that the listing was accurate.  Since you already knew the listing was not accurate at the time you placed a bid, I think you waived any protection of that particular warranty. 

[lhsbandnurd]

Well then, how about the fact that they have told us repeatedly that they can't verify everything. They have told us many times to report anything suspicious and it would be looked in to and if something wasn't kosher, they'd make it right.

Up till recently they even had the legal language that supported that stance. Now...?

How can they justify not buying back, or even originating in the first place, a loan that can be proven to have been reported for falsifying documents among other things? Who cares if trav knew and bid anyway? Saying they shouldn't make it right because some may have bid knowingly is as stupid as saying you will have trav arrested for conspiracy to defraud because his bid may have encouraged later bidders.

[ira01]

Saying they shouldn't make it right because some may have bid knowingly is as stupid as saying you will have trav arrested for conspiracy to defraud because his bid may have encouraged later bidders.

As I stated in my first post in this thread, I agree that many lenders do have a pretty strong claim involving this loan -- just not Traveler and others who bid knowing the paystub was fake.  As I also mentioned above, Ferrix has $400 on this loan, bid on the second day of the listing.  Maybe he'll take some action.

[cowdog]

...I agree that many lenders do have a pretty strong claim involving this loan -- just not Traveler and others who bid knowing the paystub was fake.

But various communications from Prosper (on old deleted forums) said THEY would investigate any claims of fraud, that lenders didn't have the wealth of information Prosper had (IP addresses, ID, etc.) and therefore lenders were not in a position to determine fraud, but only Prosper was able to do that.

Even if one bid on the loan and then submitted a fraud report, it shouldn't invalidate one's case; it was simply following Prosper's directions that lenders should not try to ascertain fraud on their own, but instead leave it up to Prosper.

So maybe the paystub was questionable, but I hate to show anyone what mine looks like, and it's from the State of California. No letterhead. No phone number. No identifying marks of any kind that shows who it even came from or who I am employed by (except their tax ID which would have to be looked up somehow). Plain type on recycled paper that DID come from a computer, not tax software of any type (the computer of one of the ladies in payroll).

Edited for typo