The 40 % Per Annum Interest Rate on Philippine Loans: Is It Legal?
(A comprehensive doctrinal and jurisprudential survey — updated as of 26 July 2025)
1. Introduction
Forty‑percent (40 %) interest per year, or roughly 3.33 % a month, is a figure that surfaces in everything from pawnshop contracts to online “salary‑advance” apps. Whether such a rate is enforceable in the Philippines is far from a yes‑or‑no matter; it sits at the crossroads of (a) the now‑dormant Usury Law, (b) Central‑Bank administrative issuances, (c) Civil Code equity provisions, (d) special statutes on consumer and microfinance lending, and (e) more than three decades of Supreme Court precedent on “unconscionability.” This article maps that entire legal landscape and shows how courts, regulators and practitioners treat a 40 % annual rate today.
2. Statutory & Regulatory Framework
| Instrument | Core Rule | Relevance to 40 % p.a. |
|---|---|---|
| Usury Law (Act No. 2655, 1916; as amended) | Once imposed ceilings (e.g., 12 % p.a. for secured loans) and penal sanctions. | Still exists but ceilings were “suspended” in 1982, not repealed. Criminal usury prosecutions are now virtually impossible. |
| Monetary Board Circular 905 (10 Dec 1982) | “Removed” all interest‑rate ceilings under the Usury Law. | Gave parties contractual freedom, subject to equity review by courts. |
| Civil Code – Art. 1306 (autonomy of contracts); Art. 1229 & 2227 (courts may reduce “iniquitous or unconscionable” stipulations). | Statutory basis for striking down or readjusting excessive interest. | |
| Truth in Lending Act (RA 3765, 1963) & BSP Regs. | Requires full disclosure of the Annual Percentage Rate (APR). | Non‑disclosure does not itself void a 40 % rate, but supports a finding of unconscionability. |
| Lending Company Regulation Act (RA 9474, 2007) & SEC Memo Circular 7‑2023 (Code of Conduct for Financing/Lending Cos.) | SEC may suspend or revoke licenses for “unconscionable” interest/charges. | SEC regularly cites Supreme Court benchmarks (see § 3). |
| BSP Circular 1098 (2020, credit cards) | Caps credit‑card interest at 24 % p.a. and monthly add‑on at 1 %. | Creates a soft benchmark; banks often peg other retail loans below it. |
| Financial Consumer Protection Act (RA 11765, 2022) | Empowers BSP, SEC and IC to issue rate‑capping measures when justified by consumer protection. | Possible future statutory basis for hard caps beyond credit cards. |
3. Supreme Court Jurisprudence on Excessive Interest
| Case | Stipulated Rate | Ruling / Ratio |
|---|---|---|
| Medel v. CA (G.R. 131622, 27 Nov 1998) | 5.5 %/mo. = 66 % p.a. | “Shockingly excessive”; reduced to 12 % p.a. |
| Spouses Castro v. Tan (G.R. 168940, 22 Jun 2015) | 7 %/mo. = 84 % p.a. | Void; court imposed 6 % p.a. from filing of complaint. |
| Chua v. Timan (664 Phil. 172, 2011) | 3 %/mo. = 36 % p.a. | Reduced to 12 % p.a. (rate “still excessive though lower than Medel”). |
| Spouses Abellera v. Spouses Diaz (G.R. 214409, 8 Nov 2017) | 4 %/mo. = 48 % p.a. | Declared unconscionable; pegged at 24 % p.a. |
| Nacar v. Gallery Frames (G.R. 189871, 13 Aug 2013) | — | Set default “legal interest” at 6 % p.a. (both judgments and forbearances) unless parties validly stipulate otherwise. |
Key doctrinal points extracted by the Court:
- Circular 905 ≠ blanket license for usury. Courts retain equitable power to moderate or strike down iniquitous rates.
- “Unconscionability” is fact‑specific, judged against prevailing commercial rates, risk profile, and the borrower’s bargaining power.
- When a rate is voided, only the interest clause falls; the principal remains due, subject to legal interest (now 6 % p.a.).
4. So—Is 40 % Per Annum Legal?
No statutory cap forbids 40 % across‑the‑board (outside of credit cards and certain micro‑loans), but
Courts almost invariably strike down anything ≥ 36 % p.a. as “unconscionable,” citing Medel, Chua, Abellera, etc.
BSP & SEC treat 24 % p.a. as the consumer‑protection benchmark. A 40 % clause invites regulatory scrutiny and reputational risk.
Context matters:
Likely Outcome Typical Scenarios Upheld High‑risk commercial lending between sophisticated parties, explicit risk‑premium justification, thorough TILA disclosure, and borrower not a consumer. Reduced by Court to 24 % → 12 % → 6 % Consumer, salary, pawnshop, fintech or “five‑six” loans; contracts of adhesion; non‑disclosure of APR; clear inequality of bargaining power.
5. Enforcement & Remedies for Borrowers
Defensive stance – Raise unconscionability as a defense in a collection suit; ask to void or reduce the interest clause under Arts. 1229 & 2227.
Offensive stance – File an action for reformation or annulment of the loan contract, or for resolution under Art. 1191 if creditor refuses moderation.
Regulatory complaints –
- SEC (for lending/financing companies) – may suspend licences.
- BSP – Consumer Assistance Mechanism (for banks, pawnshops, e‑money issuers).
Alternative criminal angle – If lender is unlicensed, charge them under RA 9474 or the Anti‑Online Lending Act (RA 11966, 2024), not under the Usury Law.
6. Special Segments
| Segment | Current Cap / Guidance | Notes |
|---|---|---|
| Credit cards | BSP Circular 1098: 24 % p.a. ceiling on finance charge. | Reviewed every six months. |
| Small‑Value, Short‑Term Digital Loans | BSP Circular 1166 (2023 pilot): effective interest + fees may not exceed 0.8 % per day (≈ 292 % p.a.) but must amortize; SEC MC 7‑2023 pushes for < 24 % p.a. | Industry in flux; expect tighter future caps under RA 11765. |
| Pawnshops | BSP Circular 938: Interest still market‑determined but subject to Truth in Lending disclosure and SEC/BSP supervision. | Courts have voided > 4 % /mo. pawn rates. |
| Agrarian/Microfinance | RA 10000 (Agri‑Agra Reform Credit) encourages lower‑cost rural credit; many MFIs voluntarily cap at 30 % p.a. | Courts give MFIs some leeway but still apply unconscionability test. |
7. Practical Guidance for Drafting or Litigating a 40 % Clause
- Document the risk basis (collateral shortfall, credit‑history issues, volatility).
- Disclose the APR unequivocally (RA 3765 form, separate bold‑print clause).
- Avoid compounding; simple interest is less likely voided.
- Insert a “blue‑pencil” or severability clause allowing judicial reduction rather than total invalidation.
- Monitor BSP & SEC issuances post‑RA 11765 — rate caps can appear by circular without new legislation.
- For borrowers: keep records of all payments; partial payments after maturity may be imputed first to principal once the interest is voided.
8. Conclusion
No Philippine statute explicitly outlaws a 40 % annual interest rate today, yet modern jurisprudence and regulation treat it as the outer fringe of legitimacy. Unless the lender can show a compelling, fully disclosed commercial rationale — and the borrower is a sophisticated non‑consumer entity — courts are poised to slash such a rate to 24 %, 12 %, or the 6 % legal interest now codified in Nacar. The prudent approach, whether drafting loan documents or advising a client in litigation, is therefore to treat 40 % p.a. as presumptively unconscionable and plan your legal strategy (or compliance safeguards) accordingly.
This article is for informational purposes only and does not constitute legal advice. Professional counsel should be sought for specific situations.