You Sure? Courts Unsettle Usury Case Law

By Dawn Causey

At some point in the last few years, pattern mixing—combining striped ties with patterned shirts—has become an integral part of men’s fashion. While the art of pattern mixing may be fun for the GQ millennials, it makes me dizzy. When it comes to understanding usury, and which interest rate caps apply, the issue is equally eye-watering.

At issue is the Madden v. Midland Funding case dealing with the buying and selling of bank loans. The interest rate and contract were valid when originated by the national bank, but invalid when bought by a consumer debt consolidator trying to collect. The Second Circuit Court of Appeals held that the buyer of the paper could not export the originated interest rate because it violated the state law where the borrower lived. Bankers and others are closely watching as the case is appealed to the U.S. Supreme Court to find out if the usury battles thought long won and settled are re-opening.

And re-opening they are. Not content to wait for Supreme Court action, there are suits percolating around the county on exportation of interest rates, valid-when-made doctrine and national bank preemption. National banks and their affiliates (most often credit card companies) may charge the lawful interest rate of their headquarters state without regard to the usury laws of a consumer’s home state. This is because the National Bank Act preempts the application of the usury laws. In the Madden case, the appellate court held that because the loan buyer was neither a national bank nor acting on behalf of the bank, NBA preemption was not available.

Cases in Madden’s wake include a California case involving student loans. In Blyden v. Navient Corp., a student loan validly originated by a bank was sold to a nonbank entity. Upon learning of the sale, the student filed a class action seeking to recover interest rate charges that violated California’s usury rules. The defendants in the case are the investment trusts that purchased the loans. The case is still pending.

Another theory of cases include one brought by the Pennsylvania attorney general that charged defendant payday lenders with violation of usury laws notwithstanding the involvement of a state chartered bank. The AG labelled it a “rent-a-bank” scheme because the nonbank lenders marketed, funded and serviced the loans and received most of the economic benefit notwithstanding the bank owning the loans. The district court ruled for the AG despite the bank’s involvement because it found that the nonbank lenders were the real parties in interest and not the bank. This “true” or “real” lender approach is one that the Third Circuit Court of Appeals has taken with only claims against banks directly qualifying for NBA preemption.

So what does this mean for the loan sale market? There are other theories not addressed by the Madden decision that may help. One possibility is the valid-when-made doctrine. Under that legal concept, the assignee/buyer of a loan may charge the same interest rate as the lawful rate charged by the assignor. Rooted in contract law, it means that a loan contract that complies with the usury rates when it is originated does not become usurious in the hands of the subsequent holder. Also not addressed is whether the choice of law provision in the loan agreement should have governed which state usury laws applied. In Madden, the chosen state law was Delaware, with a more generous usury limit, while the consumer lived in New York.

The upshot of all of this litigation is that what was once well-settled law, as easy on the eyes as a white shirt and a solid tie, seems to be in flux. If the Supreme Court does not consider Madden, we will be left with alternative theories that are hard to follow—the legal equivalent of a gingham shirt paired with a plaid tie.