Clear Rate Caps that Prevent Evasions are Critical to Protecting Consumers from Unaffordable Loans
WASHINGTON – Caps on interest rates and junk fees are the primary vehicle by which states protect consumers from predatory lending. The latest 50-state survey from the National Consumer Law Center finds that some states have cracked down on evasions but others are allowing lenders to pile on more junk fees or to charge higher, unaffordable rates.
Since mid-2022, Colorado, Connecticut, and Minnesota significantly strengthened their protections against evasions of their consumer lending laws. In addition, Minnesota eliminated triple-digit rates on payday loans and Colorado reduced the allowable annual percentage rate (APR) on certain small short-term loans.
On the other hand, Alabama amended its consumer lending laws to allow new junk fees, and North Carolina increased both the allowable interest rate and the amount of a junk fee for “processing” a loan. Oklahoma effectively increased the maximum APR for a two-year $2,000 loan to 54% from 34% and also increased the interest rates allowed under its more general consumer loan law.
Forty-five states and the District of Columbia currently cap interest rates and loan fees for at least some consumer installment loans, depending on the size of the loan. “We recommend an airtight 36% APR cap for small loans and lower limits for larger loans,” said Carolyn Carter, deputy director of the National Consumer Law Center and one of the authors of the report. “High-interest loans add to debt, increase families’ financial struggles, drive borrowers out of the banking system, and exacerbate existing disparities.” In the absence of caps, exploitative lenders move into a state, overwhelming the responsible lenders and pushing abusive loan products that trap low-income consumers in never-ending debt.
The APR is a critical way to measure and compare the rate because it takes interest, fees, and the length of the repayment period into account. The loan term is critical to consider even for short-term loans, because the rate is significantly different if a $15 charge gives you only two weeks of credit as opposed to a full year. A two-week payday loan at 360% costs ten times more than using a 36% credit card and paying it off in two weeks. All fees also must be considered–otherwise, lenders could stack junk fees on top of interest without reflecting the full cost of the loan in the APR.
In addition to making sure that their loan laws address other potential abuses, states should take the following steps to protect consumers from high-cost lending:
- Cap APRs at 36% for smaller loans, such as those of $1,000 or less, with lower rates for larger loans.
- Prohibit loan fees or strictly limit them, to prevent fees from being used to undermine the interest rate cap and acting as an incentive for loan flipping.
- Include all payments in the APR calculation, whether or not they are deemed “voluntary.” Some lenders have tried to disguise fees as purportedly voluntary “tips,” expedite fees, or donations.
- Prevent loopholes for open-end credit. Rate caps on installment loans will be ineffective if lenders can evade them through open-end lines of credit with low interest rates but high fees.
- Ban the sale of credit insurance and other add-on products, which primarily benefit the lender and increase the cost of credit.
- Examine consumer lending bills carefully. Predatory lenders often propose bills that obscure the true interest rate, for example, by presenting it as 24% per year plus 7/10ths of a percent per day instead of 279%. Or the bill may list the per-month rate rather than the annual rate. Get a calculation of the full APR, including all interest, all fees, and all other charges, and reject the bill if it is over 36%.
- Include anti-evasion provisions to prevent lenders from laundering their loans through out-of-state banks to evade state rate caps or disguising their loans as sales, wage payments, or other devices.
“High-cost loans do not promote financial inclusion, and they have a disproportionate impact on communities of color,” said Lauren Saunders, associate director of the National Consumer Law Center. “Interest rate caps reflect an assessment of the upper limits of sustainable lending that does not undermine individual or societal economic stability.”
- Predatory Installment Lending in the States: How Well Do the States Protect Consumers Against High-Cost Installment Loans? (2023)
- NCLC’s Payday and Installment Loans page
- State Rate Caps for $500 and $2,000 Loans, November 2023
- After Payday Loans: Consumers Find Better Ways to Cope with Financial Challenges (Mar. 1, 2022)
- Why Cap Interest Rates at 36%?, August 2021