Saturday, August 23, 2008 - You got some 'splainin' to do

Be careful what you say to the judge. It can get you into lots of trouble.

On July 25, 2007, issued a loan to "Oakland Gaerke" for $25,000. (We know this from public bankrutpcy court records.) A couple of payments were made, but then payments stopped, and the loan is now long overdue (by something like 9 months).

Six months later, on Jan 23, 2008 Mr. Gaerke entered a chapter 13 bankruptcy proceeding in the Northern district of Ohio bankruptcy court. As part of that proceeding he filed complaints with the court claiming identity theft. (Gaerke's amended complaint of Apr 29, 2008.) He says his wife "Ashley Gaerke" took out the prosper loan (as well as a lot of other credit) without his knowledge. He says he's not responsible for these loans, and he wants the court to let him off the hook. (He wants the court to tell to go pound sand.) There's also a divorce in process. In short, this is now a complex mess.

Whether this is or is not identity theft is of great interest to prosper's lenders, because of prosper's identity theft guarantee. Prosper guarantees that it will repurchase loans from lenders in cases of verified identity theft. If this is identity theft, then lenders must be made whole. If this is not identity theft, then maybe lenders get nothing.

Prosper essentially stopped buying back such loans about a year ago. Lenders wonder whether there has magically been no identity theft in the past year, or the cases are simply hidden in the obscurity of non-public facts and ignored by prosper. There are very few cases where the facts become public. This is a case where facts are public, so lenders are watching closely.

I don't know whether identity theft occurred or not. I wasn't there. I don't know who's telling the truth. However I do want to delve into one small aspect of this mess: How prosper has chosen to respond.

As part of Mr. Gaerke's claim that the Prosper loan was identity theft, he says that Prosper never contacted him, and never verified his identity prior to originating the loan. I would have expected Prosper to defend itself against this charge, producing or at least offering to produce records showing how and when the fellow was contacted and his identity verified prior to loan origination. This verification is Prosper's duty, so I figured maybe they kept records, and could produce them. Maybe sworn statements from the verifier person, or recordings of phone calls. They didn't produce any of these things. Here's what they did...

Prosper chose to deny that Prosper ever made a loan!

Prosper's answer was filed with the court on May 30, 2008, by Prosper's lawyers Patricia Fugee and Gregory Nuti. The meat of the document says:

Loans in a total amount of $25,000.00 were extended to the Plaintiff by individual bidders using Prosper’s website (“Lenders”) and the funds were disbursed to the Plaintiff by Prosper through direct deposit to the joint checking account of Defendant, Ashley Gaerke, and the Plaintiff. Prosper acted as the Plaintiff’s authorized agent to procure loans in the total amount of $25,000.00 from various Lenders on behalf of the Plaintiff.

By way of further answer, it is denied that Prosper loaned any money directly to the Plaintiff or Defendant, Ashley Gaerke.

They're claiming that Prosper never loaned money to Gaerke! They're claiming that the Prosper members who bid on the loan (those folks Prosper calls "lenders") actually loaned the money to Gaerke, and Prosper only acted as an agent to procure these loans from "lenders". In other words, they're effectively saying to the judge, "Hey, this guy has named the wrong defendant in this action. We're not the right guys. This guy should have named the 50 lenders as defendants, not poor little us. We're just the middleman."

I guess you'd call that a "technical defense". Lawyer's soft shoe. Instead of engaging on the issues, you find some techncal point that the plaintiff got wrong, like "He hasn't proved that I'm the guy who should answer for that." There are several problems with this position that Prosper thru its lawyers Patricia Fugee and Gregory Nuti have taken. The most blatant problem is that it isn't true. This position is the exact opposite of rather clear language in written legal agreements between Prosper and its lender members.

Lets examine some of those legal agreements, so we'll know how Prosper actually works. We can then compare that with Fugee and Nuti's statement above.

The most important agreement is called the Lender Registration Agreement (LRA). It defines how Prosper's "lender" members and Prosper interact, and each parties roles. Prosper has changed this agreement many times, but with a little digging, I believe I've found the version of the agreement that was in use mid-2007.

We don't have to look far to find wha the LRA has to say about this issue. It is so important that it is discussed in the very first paragraph at the top of page 1.

Note: Your role as a Prosper "lender" is that of a loan purchaser, and your rights and obligations as a purchaser or prospective purchaser of Prosper loans are set forth below. Although you are referred to in this Agreement and on the Prosper website as a "lender," you are not actually lending your money directly to Prosper borrowers, but are, instead, purchasing loans from Prosper.

Well that's pretty darn clear. Prosper "lender" members buy the loans. We don't lend the money to the borrower directly. Us "lenders" just purchase them. In case there's any ambiguity, they go on and explain who does the lending, and who sells the loans to us.

All loans originated through Prosper are made by Prosper Marketplace, Inc. from its own funds, and then sold by Prosper to the winning bidder or bidders on the listing.

Explicit. Prosper makes the loans from its own funds, then sells 'em to us. If that weren't explicit enough, they go on to tell us why it is done this way.

Prosper is the originating lender for licensing and regulatory reasons and is licensed in all states where licensing is required. Prosper uses the term "lender" instead of "loan purchaser" for the sake of brevity and simplicity, and for the convenience of Prosper users who appropriately view Prosper as a marketplace for connecting individuals who wish to borrow money, with people who have money and the desire to fund loans to other individuals.

Ok, so not only is it done this way, but it has to be done this way, because of lending regulations. It couldn't get much clearer than this.

The next agreement of interest is the "promissory note". Several of these are drafted for every loan that Prosper makes. One contains the name of each "lender" member. Prosper also changes the form of these documents from time to time, so I examined one from mid-2007. The first three llines of the document tell the story. Prosper writes:

Promissory Note
Borrower: xxxxxxx (Real name and address not displayed)
Lender: Prosper Marketplace, Inc. (Assigned to: xxxxxxx)

The Promissory note clearly identifies "Prosper Marketplace" as the lender, and goes on to say that the note has been assigned (ie sold) to the lender member. (I've x'd out the names of the actual borrower and lender members.) Prosper has issued many thousands of these documents, and they all identify Prosper Marketplace as the lender. This could not be more clear.

With these facts clear, how can it be that Prosper's lawyers have told the court the exact opposite?

If Prosper's statement to the court is truthful, then Prosper loans would appear to be in violation of various lending regulations, and Prosper would have acted in violation of its legal agreement with its "lender" members. If on the other hand, Prosper's statement to the court is not truthful, then ... What's that word for when you lie to the judge?

In summary (and with apologies to Ricky Ricardo) :
Prosper, you got some 'splainin' to do!

Reference materials:
Documents that were filed with the bankruptcy court are available to the public via I have copied here a few documents relevant to this discussion for your convenience..

Mr Gaerke's amended complaint
Prosper's response to Gaerke's amended complaint
Ms Gaerke's response to Gaerke's amended complaint
Prosper LRA, circa mid-2007

Prosper also filed an 'S1' with the Securities and Exchange commission on Oct 1, 2007, disclosing the Prosper loan process in great detail. I haven't quoted it here, but on the matter at hand it is consistent with the LRA. You can find the Prosper 'S1' at .

I have avoided mentioning the Prosper listing# or loan# or the borrower's Prosper screen name here, to comply with Prosper's wishes that borrower's screen names remain anonymous, in other words not be associated with the borrower's name.

PS: I don't take credit for finding this. I learned about it in an active online discussion about this loan among prosper lenders .

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