How New York’s usury law tripped up an overly smart lender

New York has a convoluted body of usury laws that deem certain loans usurious and invalidate them. New York’s usury law almost never applies to any loan because the law is riddled with exceptions and exclusions. However, it will sometimes rear its ugly head with casual or non-institutional transactions, or when a lender is simply asking too much.

This is exactly what happened in a recent case from the New York Court of Appeals. There, a public company borrowed $35,000, which one might consider a strange occurrence for a public company. The borrower signed loan documents with an interest rate of 8%. The borrower also gave the lender the option of converting the loan into shares of the company on very favorable terms. The loan had other very lender-friendly terms, which seemed to color the discussion.

New York usury law generally states that a company cannot raise usury as a defense to a loan obligation. If, however, the total interest rate exceeds 25%, then the “criminal usury” law could apply and would override the rule prohibiting a company from claiming usury.

The lender attempted to exercise its favorable conversion right. The borrower countered by saying that the entire arrangement violated New York usury laws because the value of the favorable conversion right caused the effective interest rate to exceed 25%. Based on this, the borrower asked the court to declare the entire loan void, which would allow the borrower to keep the money from the lender.

The federal court that first heard the case ruled in favor of the lender, finding that the value of the conversion right was simply too speculative and indeterminable for the court to treat as part of the lender’s cost of borrowing. money from the lender. The borrower appealed to the United States Court of Appeals for the Second Circuit. This court concluded that New York law could go either way, so the court asked the New York Court of Appeals – the highest court in the state – to give its opinion on the matter. .

The New York court explored two centuries of New York usury law history, finding that New York has always taken usury law very seriously and tried to protect borrowers from overly lenders. greedy.

In a lengthy decision, the court found that under New York usury law, the value of the favorable conversion right was additional compensation for the borrower’s use of the lender’s money. While it may be difficult to assess this right of conversion, the court said, courts continually determine the value of goods or contracts and could assess the right of conversion.

So, subject to further proceedings – including an actual assessment of the favorable conversion right – the borrower could keep the $35,000 from the lender, although the borrower likely spent many times that amount on litigation.

A dissenting New York judge argued that the original ruling in favor of the lender was correct. This judge also noted that New York has traditionally been welcoming to capital transactions and capital investments. By driving this type of transaction structure out of New York, the state could erode somewhat its preeminent role as America’s capital of capital.

The referenced case is Adar Bays, LLC v GeneSYS ID, Inc., New York Bulletin 2021. Notice. 05616 (October 14, 2021).

About Jermaine Chase

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