The California Supreme Court ruled on Monday, August 18, that an interest rate on a consumer loan in California could be deemed illegally high even if the loan is not subject to the state’s usury law.

Consumer loans of $2,500 or more in California that are made by licensed California Finance Lenders are not subject to the state’s usury law. However, the California Finance Law includes a provision which states that a loan found to be unconscionable is deemed to be in violation of the Finance Law. Nonbank lender CashCall Inc. had a primary product which was an unsecured $2,600 loan payable over a 42-month period, and carrying an annual percentage rate of either 96% or 135%. Plaintiffs filed an action against CashCall claiming that these loans violated California’s unfair competition law because they were unconscionable. CashCall raised a number of defenses, including that a licensed California Finance Lender can charge any rate it wants on consumer loans of $2,500 or more, and that these loans cannot be unconscionable. 

A unanimous state Supreme Court rejected CashCall’s arguments. While the court did not specifically find that any of CashCall’s loans were unconscionable, it held that under California law, an interest rate on consumer loans of $2,500 or more can render the loans unconscionable under the California Financial Code. The case was remanded back to federal court for a determination as to whether CashCall’s loans are unconscionable. The court stated that it recognizes how daunting it can be to pinpoint the precise threshold separating a merely burdensome interest rate from an unconscionable one, “but that is no reason to ignore the clear statutory embrace here of a familiar principle – that courts have a responsibility to guard against consumer loan provisions with unduly oppressive terms.”

The court’s ruling will have little impact on banks, which are not subject to the California Finance Law, but could have a major impact on nonbank lenders by leading to a significant expansion in litigation. Regardless of what decision is eventually rendered with respect to CashCall’s loans, nonbank lenders might consider whether they need to review the interest rates they are charging and how they enter into contracts with borrowers in California, particularly with respect to unsecured loans. The impact could be significant, as The Los Angeles Times has reported that last year alone, state-licensed lenders in California made more than 350,000 consumer loans with annual percentage rates of 100% or higher.

Concern had been expressed by various trade groups that a decision in favor of the plaintiffs could cause the market for extremely high interest rate loans in California to dry up.  In fact, according to media reports, it appears that one consumer lender has already ceased making such loans in California.