The Application of Texas Usury Law: Insights from a Recent Supreme Court Ruling

Texas usury laws are designed to protect borrowers (including public and private companies) from excessive interest charges on loans, capping the maximum allowable rates to prevent predatory lending practices. Under the Texas Finance Code, "interest" is broadly defined as any compensation for the use, forbearance, or detention of money, and usurious interest exceeds the statutory limits—typically 10% per annum unless otherwise specified, with higher caps for commercial loans up to 28% in certain cases. For commercial transactions, these laws have been clarified by recent judicial interpretations, particularly in how maximum interest is calculated and what constitutes interest.

A pivotal development came on May 23, 2025, when the Texas Supreme Court issued its opinion in American Pearl Group, L.L.C. v. National Payment Systems, L.L.C., answering a certified question from the U.S. Court of Appeals for the Fifth Circuit.

The case involved a commercial loan of $375,100.85 to be repaid over 42 months with total payments amounting to $684,966.76, including scheduled interest of $309,865.91. The borrower, American Pearl Group, alleged that the loan violated usury laws because the interest exceeded the maximum allowable rate. The Court held that for loans with periodic principal payments, the maximum permissible interest must be calculated using the "actuarial method" under Texas Finance Code § 306.004(a). This method requires computing interest based on the declining principal balance at the start of each payment period, rather than spreading it equally over the loan term or using the original principal. For instance, interest for each period is determined by multiplying the applicable rate (divided by the number of periods per year) by the outstanding balance, resulting in a lower overall interest cap—$207,277.80 in this case, compared to $367,598.83 under the outdated "equal parts" method. This ruling emphasizes a more borrower-friendly approach, potentially exposing lenders to severe penalties like treble damages or forfeiture of principal if violated.

The case also highlighted an additional layer of complexity through a related "option agreement" incorporated into the loan. This agreement granted the lender, National Payment Systems, an irrevocable option to acquire future residual payment rights from a portion of the borrower's merchant portfolio—essentially an equity-like interest in ongoing revenue streams. The Fifth Circuit had previously reversed the district court's dismissal of the usury claim on this option agreement, remanding it for further review, as the borrower argued it contributed to excessive compensation. While the Texas Supreme Court focused on interest calculation for the loan itself, the option's contingent value raised questions about whether such non-cash considerations could be recharacterized as interest.

Beyond traditional interest rates, Texas law interprets "interest" expansively to include various forms of consideration given in exchange for a loan, provided they represent compensation for the use of money. Courts examine the substance of the transaction over its form, potentially classifying fees, commissions, bonuses, discount points, or profit-sharing arrangements as interest if they effectively increase the lender's return beyond legal limits. Notably, equity participations—such as stock, warrants, options, or similar instruments—can also be deemed interest. For example, if a lender receives stock or equity interests as part of the loan consideration, the value of that stock at the time of the transaction may be added to the interest calculation to determine usury. Historical cases like Commerce Savings Association v. GGE Management Co. (1976) illustrate this, where a lender's profit from a property transaction was treated as front-end interest, spread over the loan term to assess compliance. Lenders must be cautious, as including such equity can trigger usury violations, leading to forfeiture of principal and interest, especially if repayment is absolute and the intent to exceed limits is evident.

This ruling underscores the need for lenders to meticulously structure commercial loans under the actuarial method and scrutinize all forms of consideration to avoid usury pitfalls. Borrowers, meanwhile, gain stronger protections against disguised excessive charges, reinforcing Texas's commitment to fair lending practices.

If you or your company has entered into a convertible note and want to explore the convertible notes' legality, including possible remedies in the event of a violation, contact Christopher Basile, Esq. at The Basile Law Firm P.C., at (516)-455-1500 x115 or email Christopher at chris@thebasilelawfirm.com. Christopher Basile is a member of the Texas State Bar, admitted to Practice law before the Fifth Circuit Court of Appeals and oversees the firms Dallas Texas operations.