Introduction

In the Philippines, informal loans—those extended between individuals, friends, family members, or small-scale lenders without formal institutional involvement—play a significant role in the financial landscape, particularly in rural areas and among low-income households. These loans, often unsecured and based on personal trust, are governed primarily by the New Civil Code of the Philippines (Republic Act No. 386, as amended) and relevant jurisprudence from the Supreme Court. While there is no statutory cap on interest rates for such loans following the deregulation in the 1980s, the law imposes limits to prevent usury and exploitation. Interest rates must not be unconscionable, iniquitous, or contrary to morals, good customs, public order, or public policy.

This article delves exhaustively into the legal framework surrounding interest rates for informal loans, covering historical context, applicable laws, judicial interpretations, enforcement mechanisms, remedies for borrowers, defenses for lenders, and practical considerations. It aims to provide a thorough understanding for borrowers, lenders, legal practitioners, and policymakers within the Philippine jurisdiction.

Historical Background

The regulation of interest rates in the Philippines has evolved significantly. Prior to deregulation:

Usury Law (Act No. 2655 of 1916): This law set maximum interest rates at 12% per annum for secured loans and 14% for unsecured loans. Violations were punishable as usury, a criminal offense.
Post-World War II Adjustments: Various amendments and circulars from the Central Bank (now Bangko Sentral ng Pilipinas or BSP) adjusted these ceilings in response to economic conditions, such as inflation.

A pivotal shift occurred in 1982 with Central Bank Circular No. 905, which suspended the Usury Law's interest rate ceilings. This deregulation was intended to liberalize the financial market, allowing interest rates to be determined by agreement between parties, subject to market forces. The rationale was to encourage lending and investment amid economic liberalization under the Marcos administration and subsequent reforms.

However, this did not create an absolute free-for-all. The Supreme Court, in cases like Consolidated Bank and Trust Corp. v. Court of Appeals (G.R. No. 114286, 2001), affirmed that while no fixed ceilings exist, courts retain the power to intervene when rates are excessive.

Current Legal Framework

Informal loans fall under the general provisions of contracts in the Civil Code, particularly those on loans (mutuum) and interest.

Key Provisions of the New Civil Code

Article 1956: No interest shall be due unless expressly stipulated in writing. For informal loans, verbal agreements on interest are unenforceable, though principal repayment remains obligatory.
Article 2209: If the obligation consists in the payment of money, and the debtor incurs delay, the indemnity for damages shall be the payment of legal interest (6% per annum as of recent BSP adjustments) unless a higher rate is stipulated.
Article 1413: Interest paid in excess of the legal rate may be recovered if it violates the Usury Law, but post-deregulation, this is interpreted through the lens of unconscionability.
Article 1306: Contracts must not be contrary to law, morals, good customs, public order, or public policy. Excessive interest rates can void or annul the interest stipulation under this article.
Article 1409: Contracts that are inexistent or void ab initio include those with unlawful causes, such as usurious interest.

Additionally, Republic Act No. 3765 (Truth in Lending Act) requires disclosure of finance charges, but it primarily applies to formal credit transactions. For informal loans, non-compliance may not directly apply but can influence court decisions on fairness.

The Bangko Sentral ng Pilipinas (BSP) oversees monetary policy but does not regulate informal lenders. However, BSP Circular No. 799 (2013) set the legal interest rate at 6% per annum for loans without stipulation, down from 12%, reflecting inflation adjustments.

For loans involving pawnshops or non-bank financial intermediaries, separate regulations under RA No. 9474 (Lending Company Regulation Act of 2007) apply, but purely informal person-to-person loans are exempt unless the lender operates as a business.

Absence of Statutory Caps

Post-1982, there are no legal maximum interest rates for informal loans. Parties can agree on any rate, including compounded interest, escalation clauses, or penalties. However, this freedom is tempered by judicial oversight to prevent abuse.

What Constitutes Unconscionable or Excessive Interest?

The Supreme Court has consistently held that interest rates are unconscionable if they are "shocking to the conscience" or "iniquitous." There is no bright-line rule, but guiding principles emerge from jurisprudence:

Threshold for Unconscionability: Rates exceeding 3% per month (36% per annum) are often scrutinized. For instance, in Medel v. Court of Appeals (G.R. No. 131622, 1998), a 5.5% monthly rate (66% annually) was declared void.
Compounded Interest: Under Article 1959, interest on interest is allowed only if stipulated and the principal is due. Excessive compounding can render the rate unconscionable, as in Spouses Silos v. Philippine National Bank (G.R. No. 181045, 2014), where compounded rates leading to effective annual rates over 50% were reduced.
Penalty Clauses: Article 1229 allows courts to reduce penalties if they are iniquitous. Penalties disguised as interest (e.g., 5% monthly late fees) are treated similarly.
Factors Considered by Courts:
- Borrower's bargaining power and financial distress.
- Lender's intent (e.g., predatory lending).
- Economic conditions, such as prevailing market rates (BSP data shows average lending rates around 7-15% for formal loans).
- Total effective rate, including fees and charges.

In Chua v. Timan (G.R. No. 170072, 2008), a 10% monthly rate was struck down as it effectively doubled the principal in less than a year.

Relevant Case Law

Philippine jurisprudence provides a rich body of decisions shaping the limits:

Early Post-Deregulation Cases: Banco Filipino Savings and Mortgage Bank v. Court of Appeals (G.R. No. 129227, 2000) upheld deregulation but emphasized equitable intervention.
Landmark Rulings on Unconscionability:
- Toledo v. Hyden (G.R. No. 172139, 2010): Reduced 3% monthly interest to 1% as it was excessive for an informal loan.
- Macalinao v. Bank of the Philippine Islands (G.R. No. 175490, 2009): Voided a 3% monthly penalty, applying legal interest instead.
Recent Developments: In Advocates for Truth in Lending, Inc. v. Bangko Sentral ng Pilipinas (G.R. No. 192986, 2013), the Court reaffirmed no ceilings but urged BSP to monitor abusive practices. Cases during the COVID-19 pandemic, like those under Bayanihan Acts (RA 11469 and 11494), temporarily capped rates at 2% monthly for credit accommodations, but this was limited to formal lenders and expired.
Criminal Aspects: While usury is decriminalized, related offenses like estafa (Article 315, Revised Penal Code) may apply if fraud is involved in imposing excessive rates.

Remedies for Borrowers

Borrowers facing excessive interest can seek relief through:

Annulment or Reformation: File a civil action to declare the interest stipulation void (Article 1410) and recover excess payments (Article 1413).
Reduction by Courts: Under Article 1229, courts can equitably reduce rates to reasonable levels, often to 12% per annum pre-2013 or 6% post-BSP Circular 799.
Injunctions: Preliminary injunctions to halt collection during litigation.
Complaints to Authorities: Report to the Department of Trade and Industry (DTI) for consumer protection or BSP if the lender borders on informal financing business.
Prescription: Actions to recover excess interest prescribe in 10 years (Article 1144).

Defenses for Lenders and Enforcement

Lenders can defend by proving:

Mutual agreement and borrower's informed consent.
Rates aligned with market standards.
No coercion or undue influence.

Enforcement of loans involves filing collection suits in regular courts (Municipal Trial Court for amounts up to PHP 400,000 in provinces). Small claims courts handle up to PHP 400,000 without lawyers.

Practical Considerations and Policy Implications

Documentation: Always reduce agreements to writing to enforce interest (Article 1956). Include clear terms on rates, computation, and penalties.
Tax Implications: Interest income from loans is taxable under the National Internal Revenue Code (Section 32), subject to withholding if applicable.
Informal Lending Risks: Lenders risk non-repayment, while borrowers face debt traps. Alternatives like cooperatives or microfinance institutions offer regulated options.
Policy Debates: Advocacy groups push for reintroducing caps, citing predatory "5-6" lending schemes (5% daily interest). Bills like House Bill No. 1234 (anti-usury proposals) have been filed but not enacted.
Economic Context: With inflation around 4-6% (as of mid-2020s), reasonable rates hover at 10-20% annually. High-risk informal loans justify higher rates, but courts balance this against equity.
Special Cases:
- Loans to minors or incompetents: Voidable.
- Foreign currency loans: Subject to similar rules, with exchange rate considerations.
- Islamic financing: Shari'ah-compliant alternatives avoid interest altogether.

In conclusion, while Philippine law affords flexibility in setting interest rates for informal loans, the overriding principle is fairness and equity. Borrowers and lenders must navigate this landscape cautiously, with judicial precedents serving as the ultimate safeguard against abuse. For specific cases, consulting a lawyer is essential to apply these principles effectively.