Usury: Overview, definition, and example
What is usury?
Usury refers to the practice of charging excessively high interest rates on loans or credit, exceeding the maximum legal limits set by applicable laws or regulations. Usury laws are designed to protect borrowers from predatory lending practices and ensure fairness in financial transactions. The definition of what constitutes "usury" varies depending on the jurisdiction, with each having specific limits on interest rates.
For example, if a jurisdiction caps interest rates at 20% per year, charging a borrower 25% interest would be considered usury and could render the loan agreement unenforceable.
Why is usury important?
Usury laws are important because they safeguard borrowers from exploitative practices and promote fair lending in financial markets. For SMBs, compliance with usury laws ensures that loans and credit agreements are enforceable and that the business avoids legal risks associated with excessive interest rates.
By including usury-related provisions in financial agreements, lenders and borrowers can clarify their compliance with legal limits, reducing disputes and ensuring a fair balance of obligations.
Understanding usury through an example
Lending example: An SMB takes out a short-term loan from a private lender. The loan agreement specifies an annual interest rate of 30%, but the jurisdiction’s usury laws cap interest rates at 25%. The SMB can challenge the enforceability of the loan due to the usurious rate.
Contract clause: A company issuing promissory notes to raise funds includes a clause ensuring that the interest rate on the notes complies with local usury laws. This protects both the company and its investors from legal issues.
An example of a usury clause
Here’s how a usury clause might appear in a loan agreement:
“Notwithstanding any other provision of this Agreement, the interest rate charged under this Agreement shall not exceed the maximum rate permitted by applicable usury laws. In the event that any interest or fee charged under this Agreement exceeds the permissible rate, such excess shall be deemed a mistake and refunded to the Borrower or applied toward the principal balance at the Borrower’s discretion.”
Conclusion
Usury laws protect borrowers from unfair and excessive interest rates, ensuring ethical lending practices and fair treatment. For SMBs, compliance with usury laws ensures that financial agreements are enforceable and mitigates the risk of disputes or legal challenges. A well-drafted usury clause in contracts safeguards both lenders and borrowers, promoting transparency, fairness, and adherence to applicable laws.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.