Many states have enacted usury laws to protect consumers from predatory lending practices. To illustrate, if a borrower needs to take out a personal loan, but their bank denies their application, they might have to settle for a lender charging whatever interest rate they want. This might be 40% or more if such a thing were allowed. But that would likely be considered usury, or above the interest rate legal limit, depending on the state law. Usury laws protect vulnerable borrowers from getting taken advantage of by predatory lenders. They can also help prevent people from getting stuck in a cycle of debt and poor credit history, which can prevent them from getting access to future financial products they may need.
How Usury Works
If you take out a loan from a bank or online lender, your lender will charge you an interest rate for the convenience of loaning you the money. However, there are certain rules your lender must follow to ensure that they’re charging interest, not committing usury.
History of Usury
In the early days, lending was done between individuals or small groups of people. Over time, as banking systems began to emerge, societies began creating laws around what constituted appropriate amounts of interest. In 1545, when King Henry VIII ruled England, Parliament passed a statute permitting interest rates up to 10%, and anything beyond that was considered usury. In the U.S., the colonies continued this tradition, passing their own usury laws based on the English model. This practice continued even after the colonies obtained independence from England.
Today’s Usury Laws
Currently, most states have usury laws in place and set a cap on the maximum amount of interest a lender can charge. These rates can vary significantly by state and may differ depending on the type of financial product you’re using. For instance, Hawaii sets the maximum interest rate at 10% for loans without a written contract fixing a different rate. The state’s consumer credit transactions come with a maximum interest rate of 12%, and credit card companies can charge up to 18%.
Impact on the Consumer
The point of usury laws is to protect borrowers from predatory lending practices. Charging excessive interest rates can trap borrowers in a cycle of debt that forces them to continue taking on new debt to repay a previous loan. Falling into a cycle of debt can cause significant long-term financial harm. And according to the Consumer Financial Protection Bureau (CFPB), these types of loans are often marketed to vulnerable borrowers who can’t afford to repay them. These borrowers are often forced to choose between borrowing more money, defaulting on the loan, or neglecting other financial responsibilities. Adequate usury laws can help protect all consumers from this type of abuse.
Usury vs. Interest
These lenders often target individuals who don’t have access to traditional forms of lending, usually by offering payday loans. Payday loans are generally around $500 or less and are usually due two to four weeks from when they are issued. The loan is typically repaid on a borrower’s next payday and often comes with fees that equate to an APR as high as 400%. Different states have different laws regarding payday loans. Some limit the amount of interest and fees that payday lenders can charge, while others outlaw the practice altogether.
