Controversy and Criticism Surrounds California Bill to Cap Interest Rates

The California Assembly, led by Assemblypersons Monique Limon and Tim Grayson, passed AB-539 on May 23, a state bill that would cap interest rates at 36 percent on loans more than $2,500. Controversy and criticism have surrounded the bill with rumors of political kickbacks growing in recent weeks.

Loans of more than $2,500 have increased substantially in recent years, and proponents of interest rate caps worry that consumers are falling into debt traps when taking out such loans. “This product is actually growing much faster than the other products,” said Limon. “It’s a very high, fast increase for a product that’s not regulated, for a product that we’re finding more and more evidence of the harm and the damage it’s doing to California.”

In response, critics point out that the bill would only cut off access to credit for those who need it the most. Dan Gwaltney, president emeritus of the California Financial Service Providers (an industry coalition), argues that lenders would not be able to issue short-term loans under a 36 percent APR cap. This rate would simply cut off credit access for those who need it the most.

In addition, “the vast majority of consumers who access credit in this marketplace are using loans responsibly and they’re using them because they have a shortfall in their financial situation, and they use them as bridge loans to get them through that,” said Gwaltney. “If they were negatively being hurt constantly, they would not access this product.”

Julian Canete, president and CEO of the California Hispanic Chambers of Commerce, also criticized the bill saying that it would hurt Latino-businesses. “It disproportionately impacts Latino-owned businesses who don’t always have access to traditional lending or lower-interest rate loans” said Canete. “They’re just putting up a bill that cuts off credit and gives us no alternatives.”

President of the California-Hawaii State Conference of the National Association for the Advancement of Colored People (NAACP) Alice Huffman agrees. “In spite of national trends, a study by the Center for the New Middle Class shows African-Americans are much more likely to have experienced a drop in pay or work hours in the past five years when compared to their peers,” said Huffman. “Without widely accessible small-dollar loan options, families will either be unable to meet their financial obligations, or will resort to costlier or less regulated options, such as overdrafting on their bank accounts or resorting to borrowing from offshore, illegal lenders who are not regulated by the state.”

Assemblywoman Limon has retorted, stating that her bill would not reduce access to credit for subprime borrowers. According to Limon, more than half of the lenders that service subprime borrowers in California charge 36 percent interest rates.

In fact, three large California lenders support the legislation, including Lendmark Financial Services, OneMain Financial, and Oportun. They claim that they already issue short-term loans to subprime borrowers at 36 percent APR, but this raises an important question: If these three lenders are issuing loans with such low interest rates, how could there still be lenders issuing loans at triple-digit interest rates? Wouldn’t borrowers gravitate towards the lower interest rate loans?

Critics suggest that the lenders supporting the interest rate cap are engaged in a practice called “loan packing.” Although the simple interest rate may appear to be 36 percent, these lenders are adding ancillary products that provide little benefit to consumers but generate excessive profits for the lenders. According to Ray Haynes, a former California state senator, AB-539 does not ban these ancillary products. Therefore, the state bill would benefit lenders engaged in deceptive practices while harming those that are honest and upfront about the true cost of their loans.

In addition, Haynes claims that “80 percent of the campaign contributions received this year by Assemblywoman Monique Limon, author of AB 539, have originated from these companies of questionable character.”

The growing criticism and controversy surrounding AB-539 makes the bill’s passage unclear. For now, the California Banking and Financial Institutions Committee is scheduled to host a hearing on this bill on June 26.