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Does your Contract Charge Illegal Interest?

Most contracts provide penalties for defaults. Often a contract will charge interest on outstanding balances. The State of Michigan, like most states, sets a cap on the amount of interest that can be charged. The interest rate limit on money owed by an individual is 5%, or 7% if agreed to in writing. MCL 438.31. There are several exceptions to this rule, most notably the exception for banks and other regulated lenders. There are also different rules that apply to a business or corporate entity, which generally may charge no more than 25% per annum (or more than 2 % per month). MCL 438.41. Even those exceptions have limits, though.

Charging an interest rate greater than allowed by law is known as usury. What happens if you charge over the limit? Michigan’s usury laws state that all interest is voided, so you would get 0%. In addition, Michigan has a criminal usury statute which makes charging usurious interest a crime. For years, lenders and other creditors avoided this by including a usury savings clause. A usury savings clause would typically provide that if the stated rate was deemed too high, it could simply be adjusted down to the legal limit. Recently, the Michigan Supreme Court in the case of Soaring Pine Cap. Real Est. & Debt Fund II, LLC v. Park St. Grp. Realty Servs., LLC, 511 Mich. 89, 999 N.W.2d 8 (2023), ruled that a usury savings clause will not save you. Soaring Pine focuses on two main usury issues, whether a lender is violating the criminal usury statute by asking to collect an unlawful interest rate and whether a usury savings clause can be enforced to avoid an illegal interest rate charge.

The Michigan Supreme Court held that Soaring Pine did not violate the criminal usury statute because seeking to collect an unlawful interest in a civil lawsuit, standing alone, is not sufficient to be classified as criminal usury under MCL 438.41. If they were to impose criminal liability, it would reduce the ability of attorneys to seek legal remedies for their clients. The court stated the appropriate remedy in this matter is to relieve Park Street entirely of their obligation to pay the interest on the loan, only obligating them to pay the principal. On the issue of whether the usury savings clause can be enforced, the court held the savings clause is ineffective due to the note facially requiring the borrower to pay an illegal interest rate by labeling some of the interest as a “fee” or “cost.” The court stated they must protect borrowers from excessive interest rates, which includes determining whether a note is facially usurious, regardless of a usury savings clause being inserted into a contract. They further provided that these clauses are not enforceable if they violate public policy, which is this matter, they ruled it did.

The key takeaway is lenders and businesses entering into contracts cannot avoid the consequences of charging usurious interest just by including a usury savings clause. Importantly, even if the stated interest in the note is not usurious, it can still be found usurious if the rate together with other fees or default penalties exceeds the limit. Soaring Pine is consistent with Michigan public policy that protects borrowers from excessive interest rates. As noted, civil penalties typically result in the loss of interest and costs. Criminal penalties, if found and enforced, can include imprisonment for up to 5 years and fines up to $10,000. Businesses should check the language of their contracts and, if necessary, restructure the terms and/or wording to avoid usurious interest.

If you wish to know if your contracts are impacted by this matter, or have questions on how to comply with these requirements, please contact Catherine A. Riesterer at [email protected], or any of the other attorneys at Cooper & Riesterer, PLC.

 

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