The annual percentage interest rate (APR) for payday loans is calculated by dividing the amount of interest paid by the amount borrowed; multiplying the result by 365, dividing that number by the length of repayment term in days, and multiplying by 100. For example, for a two-week loan charging $15 per $100 borrowed, the APR = (((15 / 100) x 365)) / 14) x 100 = 391%
Why can payday loans charge such high interest rates?
While the Criminal Code of Canada prohibits annual percentage rates in excess of 60%, 2007 amendments to the Code specifically exempt payday lenders from the rules other lenders must follow.
In order to qualify for the exemption, payday loans must be small ($1,500 or less), short-term (such as for 62 days or less), and must be made in provinces that have opted to regulate payday lenders with legislation to “protect recipients of payday loans and…specify a limit on the total cost of those loans.”
Because the Criminal Code amendments allow provinces to set the maximum borrowing limit for payday loans, borrowers can face significantly different interest rates depending on where they live. In the nine provinces with active brick-and-mortar payday loan businesses, rates vary from 391% per year (in five provinces) to 548% per year (in Newfoundland and Labrador, which is the most recent province to regulate payday lenders).
In Quebec, however, the government has set the maximum payday loan interest rate at 35% per year—well below the 60% “usury” rates in the criminal code. As a result, no payday lenders have set up shop in the province (although Quebecers, along with any other Canadians, can borrow from online payday lenders that don’t have a physical presence in their province). Quebec’s Consumer Protection Act requires that a lender have a license to operate in the province, and Quebec’s courts have decided to grant licenses only if the creditor charges less than 35% per year because the loan is otherwise “unconscionable” under the Act.
The amendments to the Criminal Code were made in 2007, after the Payday Loan Association of Canada, which was formed in 2004 and is now the Canadian Consumer Finance Association, successfully lobbied for the change.
Until the Criminal Code amendments and subsequent development of regulation by provincial governments, payday lenders had been operating in a legal grey zone. That’s largely because they don’t easily fit into the traditional “four pillars” of the Canadian financial system: banks, trust companies, insurance companies and securities firms. As the payday loan industry grew in the 1980s and 1990s, payday lenders became worried that they might be regulated or even sued out of business (via class-action lawsuits launched by consumers), as they were clearly operating in violation of the Criminal Code interest-rate limits.
In order to survive, payday lenders needed to find a way to operate legally. According to Olena Kobzar, a social sciences professor at York University who completed her doctoral thesis on payday lending in Canada, this meant embracing some regulation. Embracing regulation, in turn, “meant convincing the federal government to change the section of the Criminal Code that made payday loans illegal.”
The Criminal-Code changes came in the form of Bill C-26, introduced in the federal parliament in October 2006 and passed into law in May 2007. As with, for example, a 1985 Criminal Code amendment allowing the provinces to operate, license and regulate many forms of now-decriminalized gambling, the payday loans amendment was passed swiftly and without public consultation.