Interest Rate Caps Make Loans Less Available to Subprime Borrowers

Illinois’ imposition of an all-in annual percentage rate (APR) cap of 36% on loans under $40,000 from nonbank and non-credit-union lenders resulted in fewer loans being available to subprime borrowers.

Nearly 80% of respondents in an online survey of small-dollar credit customers in Illinois conducted about nine months after the imposition of the Illinois rate cap answered that they would like the option to return to their previous lender.

This is according to a study by Gregory Elliehausen, J. Brandon Bolen, and Thomas W. Miller Jr. that analyzed credit bureau data from Illinois and Missouri.

The study found that interest rate caps make loans less available to subprime borrowers, contrary to the belief that caps make loans cheaper for necessitous individuals.

The study found that the number of unsecured installment loans to subprime borrowers decreased by 44% in Illinois in the six months following the imposition of the 36% interest rate cap.

This resulted in subprime borrowers being unable to replace the loans they lost that were made by finance companies.

Banks and credit unions, which were exempt under the Illinois law, did not materially increase the number of loans they made to subprime borrowers in the same period.

Subprime borrowers reported being unable to borrow money and being unable to pay one or more bills since March 2021.

More than 90% indicated that their previous loan had helped them manage their financial situation at the time of the loan.

The study found that binding interest rate caps create loan deserts for some loan amounts, where there is demand but no supply.

Small-dollar loans require a high interest to generate the revenue needed to cover the considerable fixed costs for originating, servicing, and collecting these loans.

The study suggests that lawmakers must fully understand and accept that their actions have consequences for consumers.