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Limiting Debt Collection On High Interest Loans Makes Sense

Congress is considering a bill to limit the ability of creditors to collect on high interest rate loans. Basically if a loan defaults if an interest rate is too high, then the debtor would have the right to renegotiate the rate and payment terms on the loan to more "normal" levels.

The bill would not formally cap interest rates. It might, however, work by placing a de facto cap. That would not be a bad thing.

The only real reason for a high interest loan is because it is being made to a borrower who might not be able to pay. The theory behind the bill is that a borrower who might not be able to pay a high interest loan, but who might be able to pay a lower interest loanĀ  should be given a chance to do so. In making a high yield loan, the lender knowingly took a chance with a "bad" borrower.

But a high interest rate loan allows a lender to operate on something like a "cash and carry" basis, with the riskiest borrowers. In essence, the high rate lasts for part of the life of the loan, buying the lender some time, and when it goes into default, more conventional terms will prevail. Lenders who can collect a high rate loan in full should thank their lucky stars, not consider this as "expected."

Collection limits on high interest loans won't constrict lending generally, only "abusive" lending. And abusive lending, by definition, ought to be constricted.

A lender shouldn't have the best of both worlds. Because that means that a consumer will have the worst of both.