On June 23, in Soaring Pine v. Park St Grp, the Michigan Supreme Court held that under certain circumstances, a lender cannot avoid liability for charging illegally high interest rates by including a usury savings clause in loan documents that would reduce the applicable interest rate to the highest non-usurious interest rate permitted by applicable law. The court remanded a private equity firm’s breach-of-contract suit against a house-flipping company back to the trial court to determine whether the lender broke the law.
Usury savings clauses are provisions in loan contracts that typically state that the loan agreement should not be construed to charge a usurious rate of interest, often promising to revert to the maximum legal rate if the rate charged is greater than the legal limit.
“We hold that in determining whether a loan agreement imposes interest that exceeds the legal rate, a usury savings clause is ineffective if the loan agreement otherwise requires a borrower to pay an illegal interest rate. This is so even if some of the interest is labeled something else, such as a ‘fee’ or ‘charge,’” the court held.
The Michigan Supreme Court’s holding applies to agreements which either require on their face that the borrower pay an interest rate that exceeds the state’s usury limitations, or which, when certain fees and charges are determined to be hidden interest charges, those charges, when combined with the interest to be paid based on the rate set forth in the loan agreement, will result in usurious charges. The Supreme Court remanded the case to the trial court to determine whether fees and charges associated with the loan are actually interest that would result in the lender charging a usurious rate.
Usury savings clauses can be enforceable, however, if used to protect lenders and borrowers against future events that could push the interest rate above the legal limit, such as if the rate is tied to inflation or a rate that is outside the control of the lender, such as a Federal Reserve rate.
“Under some circumstances, when the interest due later becomes usurious because of an event outside the control of the parties, it would not be inconsistent with public policy to permit the lender to recover at the maximum legal rate,” the court said.
In a concurring opinion, one of the justices pointed out that the state usury law is subject to a number of exemptions, such as exceptions for payday lenders, credit card companies, certain property loans and certain kinds of regulated lenders. As a result, Michigan’s laws provide better protections for sophisticated businesses than for everyday consumers.
Putting It into Practice: This decision applies only in Michigan, but the logic likely could be applied in many other states. As a result, lenders who are subject to state usury laws should be vigilant to see if this decision starts a state trend toward limiting the effectiveness of usury savings clauses. In particular, regularly reviewing and aligning with changes in state laws (see, e.g., see our prior blog post here regarding Hawaii’s recent amendment to its small dollar lending law) to ensure that the lender’s stated interest rate in all loans combined with any fees that are considered “interest” under state law should continue to be key compliance measures for all lenders.