What's a Usury Law?

The Latin word, usuria, from which the term �usury� is derived means �excessive interest.� In its earliest context, usury referred to the practice of charging any interest on a loan. The concept of usury has strong theological origins, with the New Testament, the Torah, and the Qur�an all either unabashedly condemning usury or strongly discouraging it. The concept evolved from its religious inception as more and more countries began to regulate the maximum interest rate that lenders were permitted to charge. Currently, usury refers to the practice of charging exorbitantly or unlawfully high interest rates on loans. Usury laws are now established by state governments and have particular relevance to the credit card and payday loan industries.

State Regulation

Usury laws are defined as state laws that limit the maximum interest rate at which loans can be legally issued. For instance, a state might impose a 10% maximum interest rate on personal loans. Though usury laws are designed to protect consumers, the lack of uniformity and solidarity across states leaves some consumers better off than others, depending on their state of residence. The maximum interest rate specified in usury laws varies considerably by state, which opens many loopholes for lenders to avert the laws altogether. In addition, banks that have federal ties are exempt from state laws and are instead governed by federal usury laws.

Circumventing Usury Laws

The efficacy of usury laws vis-�-vis credit card companies and payday lenders is questionable, as both of these industries have successfully sidestepped such laws in the past. Two factors allow lenders to circumvent usury laws legally: the disparity in maximum interest rates among states and a 1979 Supreme Court Decision. As mentioned before, the usury laws of states specify wildly different maximum interest rates, and lenders have managed to exploit this fact. The ruling in Marquette vs. First Omaha Service Corp allowed national banks to charge the highest interest rate permitted in their home state, irrespective of the state in which the borrower resides. In other words, banks could set up shop in a state with very liberal usury laws, offer loans with exorbitant interest rates to residents of other states, and get away with it without legal repercussions. For example, in 1981, formerly New-York based Citibank moved its credit card operation to lender-friendly South Dakota in order to charge customers higher interest rates.

Payday lenders are also some of the worst offenders when it comes to sidestepping usury laws. In states where payday lending is not expressly banned, payday lenders are subject to usury interest-rate limits, which, of course, have little national uniformity. Consequently, many payday lenders have begun establishing relationships with nationally-chartered banks based in another state with no usury limit, such as Delaware or South Dakota. As long as the national bank with which they are affiliated is headquartered in a state with no usury ceiling, the payday lender can then charge borrowers from any state the highest interest rate permitted in the bank�s home state. This circumvention of usury laws is known as rate exportation or the lender/servicer model and is quite common in the payday loan industry.