In the Philippines, the regulation of interest rates on unpaid loans is a complex intersection of executive policy, central bank circulars, and Supreme Court jurisprudence. While the country underwent significant "deregulation" in the 1980s, the legal system maintains a robust mechanism to prevent predatory lending through the principle of "unconscionability."
1. The Suspension of the Usury Law
Historically, the Usury Law (Act No. 2655) set fixed ceilings on interest rates (e.g., 12% per annum for secured loans and 14% for unsecured loans). However, in 1982, the Central Bank issued CB Circular No. 905, which effectively suspended these ceilings.
- Current Status: There is currently no "hard" statutory ceiling on interest rates for most commercial and private loans. Parties are generally free to agree on any interest rate they deem appropriate.
- Legal Reality: The suspension of the Usury Law did not grant lenders a "license for usury." The courts reserve the right to intervene when rates become excessive.
2. The Principle of Unconscionable Interest
The Supreme Court of the Philippines has consistently ruled that even if a borrower voluntarily signs a contract with a high interest rate, that rate can be declared void if it is "excessive, iniquitous, unconscionable, and exorbitant."
Under Article 1306 of the Civil Code, parties may establish such stipulations as they may deem convenient, provided they are not contrary to law, morals, good customs, public order, or public policy.
What constitutes "Unconscionable"?
While there is no fixed mathematical formula, the judiciary has established benchmarks through case law:
- 3% per month (36% per annum): Often flagged as the "threshold of unconscionability." In cases like Medel v. Court of Appeals, the Court ruled that 5.5% per month was void.
- Reductions: When the Court finds a rate unconscionable, it does not usually cancel the debt. Instead, it equitably reduces the interest rate, typically to the prevailing legal rate (currently 6% per annum).
3. The Legal Rate of Interest
When a loan agreement fails to specify an interest rate, or when a court voids a stipulated rate for being unconscionable, the Legal Rate applies.
- BSP Circular No. 799 (Series of 2013): Effective July 1, 2013, the legal rate of interest for the loan or forbearance of any money, goods, or credits, and the rate allowed in judgments, is 6% per annum.
- Prior to 2013: The legal rate was 12% per annum.
4. Compounding Interest (Interest on Interest)
In the Philippines, interest does not automatically compound unless specifically agreed upon in writing. According to Article 2212 of the Civil Code:
"Interest due shall earn legal interest from the time it is judicially demanded, although the obligation may be silent upon this point."
Accrued interest must be "capitalized" or stipulated in the contract to earn further interest before a court case is filed.
5. Penalties and Surcharges
Lenders often include "penalty clauses" for late payments. These are distinct from the interest rate.
- A penalty clause is a coercive measure intended to ensure performance.
- Like interest rates, if the combined total of the interest and the penalty charge is deemed "iniquitous," the courts may reduce the penalty under Article 1229 of the Civil Code.
6. The Truth in Lending Act (RA 3765)
Lenders are legally required to provide full transparency regarding the cost of credit. Before a loan is finalized, the lender must disclose in writing:
- The cash price or delivered price of the service.
- The amount to be credited as a down payment.
- The total amount to be financed.
- The finance charges (itemized).
- The percentage that the finance charge bears to the total amount to be financed (Effective Interest Rate).
Failure to comply with this disclosure does not void the loan, but it subjects the lender to penalties and may result in the forfeiture of the right to collect finance charges.
Summary Table
| Component | Status/Limit | Source of Authority |
|---|---|---|
| Usury Ceiling | Suspended (No fixed cap) | CB Circular No. 905 |
| Legal Rate | 6% Per Annum | BSP Circular No. 799 |
| Judicial Limit | Usually capped at 1% per month if contested | Jurisprudence (e.g., Medel vs. CA) |
| Compounding | Only if stipulated or judicially demanded | Civil Code Art. 2212 |
| Disclosure | Mandatory prior to transaction | RA 3765 |