Is It Time to Raise the Interest Rate Cap?

At its most recent board meeting, the NCUA board’s decision to do what it has done since 1987, extend the 18% interest rate ceiling under which federal credit unions can provide loans for another 18 months, is not worthy of your reading time. But, humor me on this one. There’s more going on here than meets the eye.

First, here are some interesting factoids that came out of the board meeting in the accompanying material. The original statutory cap imposed on credit unions when the Federal Credit Union Act was passed in 1934 was 1% per month and the maximum loan term was two years. And you thought you had it tough?

This number wasn’t changed by Congress until 1980, when it was increased to 15% coupled with the authority of the NCUA to make adjustments so long as it considered certain criteria. In fact, the 15% statutory cap has never been imposed on credit unions because the board has always exercised its authority under the Act. For example, the initial rate the board imposed following the 1980 adjustments was 21% with the rate ultimately being lowered to the 18% under which we now operate. Why is this intriguing? Because the relative stability of the interest rate cap over the last four decades mirrors almost perfectly a period when the Fed has tamed inflation. Needless to say, this period has ended.

As a result, while the board went ahead and extended the existing 18% cap, Chairman Todd Harper made clear that the NCUA is still considering whether additional changes should be implemented in the coming months. One possibility is to change the regulations to implement a floating rate cap, which would presumably automatically adjust based on certain triggering criteria. But the NCUA can only start seriously considering this idea if its legal eagles determine that it is statutorily authorized to do so, an intriguing question upon which yours truly will keep his mouth shut pending additional research.

A second idea on the table is simply to adjust the 18% cap upwards. While the NCUA typically only reassesses the interest rate cap every 18 months, there is nothing to keep it from making adjustments more frequently. In 1980, credit unions were given greater interest rate flexibility as part of a larger statutory measure that deregulated interest rates giving all institutions more flexibility to set interest rates. This represented the first major shift away from the highly restrictive banking structure that was put in place following the Great Depression. And of course, state chartered credit unions are subject to state usury laws.

The question that the NCUA needs to answer, and that credit unions will undoubtedly be asked to weigh in on, is whether or not the existing economic environment necessitates once again providing credit unions greater flexibility in providing loans to their members. If the answer is yes, then the industry at large has to be ready and able to explain to federal legislators how raising the interest rate cap actually benefits lower income members. After all, at least some members of Congress would love nothing more than to see a cap placed on all lending institutions.

Henry Meier is the former General Counsel of the New York Credit Union Association, where he authored the popular New York State of Mind blog. He now provides legal advice to credit unions on a broad range of legal, regulatory and legislative issues. He can be reached at (518) 223-5126 or via email at henrymeieresq@outlook.com.