For about 30 years, there has been effectively no limit on the interest rates lenders can charge. This means some loans—especially payday loans, tax refund anticipation loans, overdraft protection loans, and car title loans—can have effective interest rates as high as 3,500%.
A new bill proposed by Senator Richard Durbin (D-Ill.) would cap the interest rate on consumer credit transactions at 36%. Is it time for the government to reign in the lending market? Yes, it is.
Here are what some of those ridiculously-high interest rates look like in practice:
- A 3,500% APR on a bank overdraft protection loan means that if you overdraw your account by one cent, you will be charged $35.
- A 400% APR on a payday loan means that if you take out a $200 loan, you will be charged about $34 for the two-week loan.
- A 30% rate on a $1,000 credit card balance will work out to about $170 if you pay off the balance in one year (with payments of about $95/month).
We all know how we got here. Lenders made stupid loans and charged exorbitant fees to consumers who had no chance of paying them back. Many consumers defaulted; others will be servicing those debts until they die. Senator Durbin’s bill would prevent lenders from making the worst kinds of loans, and consumers from getting them.
A 36% rate would not interfere with most lending. Credit cards rarely go over 30%, the usury limit that exists in many states. It will not prevent subprime or “liar” loans. Other legislation deals with those issues.
But it will prevent the worst kind of loans: short-term, high interest loans that can be the first stroke towards drowning in unmanageable debt. In order to continue doing business, short-term lenders would have to do a real risk assessment of borrowers and charge accordingly, instead of using aggregate risk data to treat everyone to the same, extremely high interest rate.
Some loans are just too risky to allow. Now that we know irresponsible banks can put the entire country at risk, not just the bank and the consumer, it makes sense to prevent loans where the risk is too great.
Durbin proposes to reinstate usury laws [US PIRG Consumer Blog]
Sam Glover is a consumer rights lawyer, enemy of shady debt collectors, previous Consumerist contributor, and writes the Caveat Emptor blog. His column appears the first Monday of every month on Consumerist (except this time because we messed up).