Lending and California’s Usury Laws

California usury laws add a layer of complexity to doing business in the state. Usury laws limit the amount of interest that can be charged by various parties, and usury is the charging of interest in excess of the amounts permitted by those laws. The California Constitution characterizes “interest” as fees, bonuses, commissions, discount, or other compensations received from a borrower. Before brushing aside usury laws, it is important to know that any lender that originates a usurious loan in California will be subject to tough civil penalties. Unfortunately, California usury laws are complex and confusing and have a number of exemptions.

Usury Exemptions

Despite the interest rate limitations in California usury laws, there are a number of exemptions in those laws. We will consider two categories of statutory exemptions to usury law: exemptions available to certain types of lending instructions and those available to certain loans to California businesses. 

1. Lending Institutions

Generally, the limitations found in California usury laws do not apply to most lending institutions. For example, the usury provisions of the California Constitution are inapplicable to organizations licensed under the California Financing Law or the California Real Estate Law. Furthermore, usury laws do not apply to loans made by banks, savings and loan associations, and credit unions.

2. Certain Loans to California Businesses

The second usury exemption we will discuss applies to loans to certain California businesses. A loan made to a California corporation or limited liability company that has $2,000,000 or more in assets or that is for a loan for $300,000 or more may be exempt from the California Usury laws if (1) the lender and the borrower, or any of its officers, directors, controlling persons have a pre-existing personal or business relationship or (2) the lender and the borrower “by reason of their own business and financial experience or that of their professional advisors, could reasonably be assumed to have the capacity to protect their own interests in connection with the transaction.” Cal. Corp. Code § 25118. Additionally, the loan cannot be guaranteed by any individual, a revocable trust, or a partnership that has a general partner and the loan purpose must be primarily for something other than personal, family, our household purposes.

However, before a lender makes the determination that this exemption applies to a transaction whereby interest would be charged in excess of California’s usury laws, the lender must consider some additional factors before proceeding. 

There are a number of California cases which support the position that California courts will uphold an agreement whereby a lender and a borrower contract for the charging of interest in excess of the legal rate permitted in California so long as the agreement contains a valid choice of law provision providing that another state’s laws govern the agreement. Courts evaluating choice of law provisions in agreements to charge interest in excess of California limits evaluate the validity of the choice of law provision, the sufficiency of the relationship between the contract and the state referenced in the choice of law provision, and, if the relationship is deemed sufficient, whether the application of the choice of law provision would offend California public policy.

Conclusion

Given the complexity of the California usury laws and the exemptions thereto, before proceeding with the origination of a loan which may be usurious under California laws, it would be wise to consult a competent attorney before proceeding.