What is the maximum interest rate you can charge in California?

For a private lender in California, the maximum interest rate on a loan used mainly for personal, family, or household purposes is 10 percent per year. Other loans, including business loans and loans used to buy or improve real estate, can go up to the higher of 10 percent or 5 percent plus a Federal Reserve rate. Both limits come from Article XV, Section 1 of the California Constitution.

What does California's usury law say?

California's usury rule sits in the state constitution itself. Article XV, Section 1 sets a default rate and two ceilings. When a loan has no written rate, the constitution says the rate "shall be 7 percent per annum." The lender and borrower can agree in writing to a higher rate, up to one of two caps, and which cap applies depends on how the borrower uses the money.

The caps apply to anyone who isn't on the constitution's list of exempt lenders. That covers most people who lend to a relative, a friend, a tenant, or a small business using a promissory note. If you're an individual making a private loan, assume the caps apply to you unless your loan clearly fits an exempt category.

What is the cap on personal, family, or household loans?

Paragraph (1) of Section 1 covers money used primarily for personal, family, or household purposes. For those loans, the constitution allows a written rate "not exceeding 10 percent per annum."

This is the cap that catches most family loans. Lending your brother money to pay off credit cards, cover medical bills, or buy a car is personal use, so 10 percent is the ceiling. A $20,000 loan at 10 percent simple interest costs the borrower $2,000 in interest over one year, and anything above that rate is over the line.

There's one important carve-out. Loan proceeds used "primarily for the purchase, construction or improvement of real property" aren't treated as personal use, even when the property is the borrower's own home. Those loans move to paragraph (2), which usually allows a higher rate.

What is the cap on business and real estate loans?

Paragraph (2) covers every other use, including business loans and loans to buy, build, or improve real estate. The cap is the higher of two numbers: 10 percent per year, or 5 percent per year plus the rate the Federal Reserve Bank of San Francisco sets on advances to member banks.

The timing is specific. The constitution uses the Federal Reserve rate in effect on the 25th day of the month before the earlier of two dates: the date the loan contract is signed or the date the loan is made. A note signed on June 10 and funded on June 15 uses the rate from May 25.

Here's how the math works with made-up numbers. If the Federal Reserve rate on the reference date were 6 percent, the second number would be 11 percent (5 plus 6), and 11 beats 10, so the cap would be 11 percent. If the Federal Reserve rate were 3 percent, the second number would be 8 percent, and the 10 percent floor would control. The rate changes over time, so look it up for your exact reference date before you set a rate above 10 percent. Our usury limit checker can help you compare a proposed rate with the limit.

Which lenders are exempt from California's interest rate limits?

Section 1 exempts building and loan associations, industrial loan companies, credit unions, licensed pawnbrokers and personal property brokers, banks, certain nonprofit agricultural cooperatives, and corporations lending credit secured from a federal intermediate credit bank. It also exempts "any loans made or arranged by any person licensed as a real estate broker by the State of California and secured in whole or in part by liens on real property." Finally, the list reaches "any other class of persons authorized by statute" and any successor in interest to an exempt loan.

A private person lending their own money isn't on that list. The exemption that matters most to private lenders is the real estate broker one: when a licensed broker makes or arranges a loan secured by real property, the constitutional caps don't apply. A loan you write yourself, with no broker involved, can't use that exemption.

The constitution also lets the Legislature set rates and regulate the fees and charges of the exempt classes. Exempt lenders still answer to those other statutes, so exempt status doesn't mean anything goes.

What happens if a California lender charges too much interest?

The penalties come from the usury law California voters adopted by initiative, cited as Civil Code section 1916-3. Under subdivision (a), a borrower who paid more interest than the law allows can bring a civil action for treble damages against the party that received the interest. The California Court of Appeal has described that treble damages remedy as a penalty on the lender.

Subdivision (b) adds criminal liability. It reaches a person who willfully makes or negotiates a loan at a usurious rate, either for themselves or for someone else.

For a private lender, the risk is lopsided. A rate a couple of points above the cap can turn a routine family note into a lawsuit for treble damages, and the extra interest you hoped to earn is small next to that exposure.

How do you keep a California promissory note under the limit?

Start by writing down what the money is for. The purpose decides whether the 10 percent cap or the paragraph (2) formula applies, so a note that says the loan is for buying a home or stocking a business gives you a record if the rate is ever questioned.

State the rate as an annual percentage and keep it at or below 10 percent for any personal, family, or household loan. For a rate above 10 percent under paragraph (2), write down the reference date and the Federal Reserve rate you relied on. If the borrower is pledging property, a secured promissory note spells out the collateral. For a simple personal loan, an unsecured promissory note keeps things short.

If you want the real estate broker exemption, bring a licensed California broker in before the loan closes, because the exemption depends on the broker making or arranging the loan.

Sources

• California Constitution, Article XV (Usury)
• California Court of Appeal opinion discussing Civil Code section 1916-3 remedies