Criminal Interest

Neither a borrower nor a lender be…but if you must be a lender, exceed not the rate of interest that is criminal.” Polonius (if he had been a lawyer)

There is in Canada a criminal rate of interest – exceed it, even accidentally, and there are consequences. The law is found in s. 347 of the Criminal Code, which says:

347(1) Despite any other Act of Parliament, every one who enters into an agreement or arrangement to receive interest at a criminal rate, or receives a payment or partial payment of interest at a criminal rate, is

                (a) guilty of an indictable offence and liable to imprisonment for a term not exceeding five years; or

            (b) guilty of an offence punishable on summary conviction and liable to a fine not exceeding $25,000 or to imprisonment for a term not exceeding six months or to both.

There are several important definitions associated with this section and you can look them up here, but the one to start with is “criminal rate” which “means an effective annual rate of interest calculated in accordance with generally accepted actuarial practices and principles that exceeds sixty per cent on the credit advanced under an agreement or arrangement”.

This section was included in the Criminal Code as an anti-loan sharking measure and it is easy for the average business or individual to overlook it altogether.  It sounds straightforward: If you are lending money to someone, charge less than an annual interest rate of 60%. Simple…sort of. If you enter into an agreement to receive more than 60% annual interest you are probably in violation of s. 347 (even if you don’t actually receive any interest payments); additionally, if you receive interest in excess of an annual rate of 60% – even accidentally – you are likely in violation of s. 347. That’s right, sometimes you can enter into what seems like a perfectly legal loan agreement with an annual rate of interest below 60%, but the rate can creep up on you and before you know it you have received criminal interest.

One of the most common ways for the interest rate to climb above the legal limit is when that interest is compounded — interest added to the principle amount so that going forward the interest is also accruing interest.  Even if the loan is intended to be for a short period of time, if it is not repaid on the intended schedule, the interest will keep accumulating, and the annual interest rate will eventually escalate into criminal figures.

The thing to be aware of is that for the purposes of the Criminal Code “interest” includes fees, service charges, and most other charges associated with the advancement of credit. There is a large body of case law in which the Courts have found that various charges, like late fees, finance charges, and even legal fees can count as “interest” and depending on how these fees and percentages are compounded and calculated, it is possible to exceed 60% without realizing it.

When these matters end up before the Courts, it is the debtor who seeks to escape the burden of the excessive interest and he bears the onus of proving that the rate is indeed over 60%. (Typically, this involves complex calculations with both parties employing actuaries to provide reports on the actual amount of interest required under the contract or actually received by the lender.) If the debtor is successful in proving that the interest charged by the lender is over 60%, the Courts have at their disposal a number of remedies: they can write the interest down to a legal rate of 60% or less, they can declare that no interest is payable at all, or they can void the whole contract, freeing the debtor from repayment of the loan altogether. The remedy selected will depend on the circumstances of the case, including but not limited to whether the criminal rate of interest was arrived at accidentally or as part of some dubious scheme, how business savvy the parties are, whether they are in the business of lending, the language of the contract, and whether either or both parties received legal advice in the creation of the agreement.

While the Court is not bound to adhere to this, it is prudent to include in contracts governing loans a clause that states that if the interest charged under the agreement inadvertently exceeds the criminal rate of interest, the parties agree to reduce it to a legal amount. Should the contract be disputed and end up before a judge, this sort of a clause gives the Court some guidance as to how the parties contemplated remedying such a situation and the Court may follow the direction of the clause and read down the rate of interest to a legal amount.

The best time to avoid charging criminal interest is when you are entering into an agreement to loan money. Because of the myriad of charges that can qualify as interest and the ways that interest can be calculated, it is prudent to determine at the outset if your arrangement for interest could accidentally become criminal. It is equally wise to ensure that your loan documents are drafted in such a way so as to preemptively minimize any repercussions should your loan begin inadvertently collecting criminal interest.

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