As a private lender in the real estate sector, understanding and adhering to usury law is crucial to ensure compliance and protect your investments. These regulations have a long history of protecting borrowers from exorbitant interest rates on loans.
References to usury law exist in early religious texts, dating back thousands of years. Over time, these ancient rules evolved into the complex patchwork of state-level regulations we see today. For private lenders, especially in real estate financing, understanding these laws is critical to maintaining compliance and avoiding significant penalties.
1. There Is No Federal Limit on Interest Rates
Unlike other financial regulations, there is no federal cap on interest rates. Instead, maximum interest rates are set at the state level, and they vary widely. For example, California generally restricts simple interest on any loan or forbearance to 10% per year, whereas the interest rate cap in the District of Columbia is 24%.
This means that lenders operating across multiple states must carefully track the applicable rates in each jurisdiction to avoid an unintentional violation. The differences also affect how loan agreements are drafted, particularly for private money lenders in the real estate sector who often deal with short-term, high-interest bridge loans or fix-and-flip financing.
2. Usury Law Varies in Complexity
State usury laws differ depending on loan amount, credit type, and the type of lender. For example, mortgage lenders face different interest rate caps than personal or consumer lenders.
Private lenders providing real estate financing must be especially careful when offering loans that combine both commercial and residential elements, as different rules can apply.
Some states differentiate between loans to individuals versus loans to businesses, and some provide exemptions for loans secured by real property. Understanding these nuances can be the difference between a compliant loan and a potentially usurious loan.
3. State-by-State Variation Can Create Opportunities
Lenders often use the state-by-state variation in usury standards to structure loans advantageously. The 1978 Supreme Court case Marquette National Bank v. First of Omaha Corp. allowed banks to set interest rates according to the laws of the state where they were incorporated rather than where the borrower resided. This decision incentivized states like Delaware to eliminate usury laws to attract financial institutions, creating favorable incorporation environments.
Private lenders should ensure that loan contracts clearly specify which state’s usury laws govern the agreement, particularly when borrowers or investors are located in multiple jurisdictions.
4. Penalties for Violating Interest Rate Regulations
Violating usury laws can result in severe consequences. Penalties may include the recovery of multiple times the usurious interest paid, elimination of the borrower’s obligation to pay interest going forward, and, in extreme cases, criminal liability. Lenders cannot rely on ignorance of the law as a defense; liability applies even if the borrower initially requested the higher rate.
These high stakes make it essential for private lenders to ensure their loan agreements are carefully structured and reviewed by legal professionals specializing in lending law.
5. State-by-State Exemptions
Most state laws include a variety of exemptions, which can be particularly important for private real estate lenders. In California, for example, exemptions exist for:
- Licensed lending institutions, like banks or credit unions, that grant consumer and commercial loans
- Loan agreements facilitated by licensed California real estate brokers and secured by real property
- Credit cards
- Seller-financed loans
Exemptions also exist in other states for loans made for commercial, business, or investment purposes, especially when secured by real estate. Private lenders should fully understand these exemptions, as they can allow for higher interest rates legally and create opportunities to structure loans that maximize return without violating state law.
How Fortra Law Can Help
Understanding usury law is essential for private lenders operating in the real estate financing industry. State-level variations, complex exemptions, and stiff penalties make professional guidance indispensable.
Our Banking & Finance team has extensive experience helping private lenders navigate these regulations, structure compliant loan agreements, and take advantage of legal exemptions.
If you are a lender seeking guidance on usury law or other lending issues, we can help ensure your operations remain fully compliant while optimizing your lending strategies.
