Illinois rate cap law spurs lending debate

In Illinois, a rate cap bill to address racial inequities and predatory lending signed into law in March has pulled automotive financing into the discussion, stirring up a debate among consumer advocates, auto lenders and dealers over consumer access to credit and credit-related products.

The measure, known as the Predatory Loan Prevention Act, places a 36 percent interest rate cap on all consumer loans of less than $40,000 and includes guaranteed asset protection products sold on vehicle purchases as part of the interest rate calculation — a major detail that makes the law significant for franchised dealers in the state.

The "all-in" APR law borrows heavily from the federal Military Lending Act, which uses the same 36 percent cap for service members and covered relatives but excludes motor vehicle financing from its coverage.

"They talk about the fact that this is geared toward payday lending and predatory loans, when in fact the scope of the statute is much broader," said Paul Metrey, senior vice president of regulatory affairs at the National Automobile Dealers Association. "They say it's consistent with federal law when, indeed, it's not."

Proponents say the law will save Illinois families more than $500 million per year in predatory fees and provide protections that cover more than 12 million people.

But auto finance experts warn the bill's use of the federal military annual percentage rate instead of the decades-old Truth in Lending Act APR distorts the cost of credit and could prevent consumers with low-credit standing from obtaining affordable installment loans.

"The less people that can get credit, the less cars can be sold," Patty Covington, a partner at the Hudson Cook law firm office in Richmond, Va., told Automotive News. "It's going to push out, really, the segment of the population that it's intended to help."

The Illinois Automobile Dealers Association has "grave concerns" with the legislation, said Peter Sander, president of the organization that represents more than 700 new-vehicle dealers in the state. One worry is that the law reclassifies the fees for any credit-related product as a finance charge, rather than being an additional product financed as part of the vehicle purchase.

The association has been trying to get state regulators to define the term "credit-related product," which could include fees for F&I products such as GAP waivers, credit insurance, extended service contracts and cash-out financing.

"Purchasing additional products should not increase the interest rate and offering them is not predatory lending," Sander said.

The group supports an amendment to the law that uses the system for calculating annual percentage rates under the federal Truth in Lending Act rather than the Military Lending Act.

"We are hopeful and cautiously optimistic some legislative action may be considered yet this session," Sander said.

Rate cap bills have been introduced in other states, such as New Mexico and Maine. However, no other state uses the military APR for all loans, including vehicle financing, said Danielle Fagre Arlowe, senior vice president of the American Financial Services Association, where she oversees the state government affairs department.

Many of the measures, including the Illinois law, primarily focus on payday lending. But problems emerge when other types of creditors get thrown in — especially vehicle financing, Arlowe said.

"We really see it as inadvertent and accidental," she said. "Nobody talked about the auto industry in Illinois. No one even thought about it."

Arlowe said some of the association's members — which do not include payday or vehicle title loan providers — would be satisfied with rates that recognize the difference between small and large loans. "If you're lending somebody $2,000, you cannot break even at 36 percent," she said. "You have to have a higher APR allowed for you."

As for the vehicle finance industry, the standard should remain the Truth in Lending Act APR, Arlowe noted.

The Illinois law primarily affects dealers who assign retail installment contracts with high-interest charges, and those who assign contracts with high interest and sell GAP or other credit-related products, according to David Gemperle, a partner at Nisen & Elliott in Chicago.

Gemperle said dealers should recognize the credit profile of their customers, as it may become more difficult for them to arrange financing.

"If the only creditors willing to accept their contracts are wanting 37 percent, there can be a sales impact — a loss of a sale and certainly a loss of, potentially, a GAP sale for the higher-risk customers," he said.

Consumer advocates contend a transaction would have to combine overpriced credit products with excessively high interest rates to violate the Illinois act.

"Auto financing that charges in excess of 36 percent is predatory, especially when you consider the longer terms of auto financing compared to personal loans," said Brent Adams, senior vice president of policy and communication at the Woodstock Institute, a nonprofit organization dedicated to creating a fair financial system.

The highest average APR — 20.24 percent — is for "deep subprime" buyers of used cars, he said, citing 2020 data from consumer credit reporting company Experian.

"We have asked members of the industry repeatedly for sample contracts that reflect APRs that exceed 36 percent, as calculated under the Military Lending Act," Adams said. "We have not received anything."

The 36 percent cap provides consumers with at least some protection from "discriminatory markups" of GAP products, he said, adding that "it doesn't stop the markups, but it limits the size of the markups."

Actions at the state level have groups such as the American Financial Services Association keeping a close watch on any federal legislation that could be forthcoming.

U.S. Rep. Jesus Garcia, an Illinois Democrat, is likely to reintroduce a bill that extends the Military Lending Act's 36 percent interest rate cap on consumer loans to all Americans, according to Celia Winslow, the association's senior vice president who oversees involvement with federal regulatory agencies.

"It'll play out in Congress first, and there are definitely a number of progressive Democrats in the House that want a rate cap across the board," she said. "But there are still a number of moderate Democrats and Republicans that realize a rate cap would have a substantial negative impact on access to credit and is going to leave consumers without legal options."

Evaluating the loan affordability on its own as opposed to tying it to a measure of APR is a better approach than a federal 36 percent all-in rate cap, Winslow said.

Covington said dealers should be active at the state and federal level in case legislation similar to Illinois' act gains traction.

"All they can do right now is start applying political pressure," she said. "They can start building coalitions."

Shannon Robertson, executive director of the Association of Finance & Insurance Professionals, said dealers also should consider implementing NADA's Fair Credit guidance, an optional program designed to help dealers comply with fair-credit laws.

"The best way to keep the regulators out of our industry is to have a policy that we consistently follow, that's implemented across the board," he said. "That's what dealers need to be doing. They need to have a policy in place."