Request By:
Mr. Ronald Redden
Vice President
Citizens-Deposit Bank
400 2nd Street
Vanceburg, Kentucky 41179
Opinion
Opinion By: Robert F. Stephens, Attorney General; By: Charles W. Runyan, Assistant Deputy Attorney General
Your bank requests our opinion on the following loan situation:
"John Doe makes a master note to this bank for $16,000.00, payable one year from date bearing interest at 10% payable at maturity. Since this is a master note, only $8,000.00 is advanced. Throughout the rest of this year John comes to the bank and draws $5,000.00 more on the master note, making a total sum of $13,000.00 plus interest due and payable at maturity. "
Since, as you put it, the total advance under the note was less than $15,000, you ask whether the interest of 10% payable at maturity would be legal? The answer is "no".
KRS 360.010 provides that the legal rate of interest is six percent (6%) per annum. However, the parties may agree in writing for a rate not in excess of eight and one-half (8.5%) per annum on money due upon any contract or other obligation in writing where the "original principal amount" is fifteen thousand dollars ($15,000) or less. (Emphasis added). Similarly the parties may agree on [negotiate] any rate in writing where the "original principal" is in excess of fifteen thousand dollars ($15,000).
The key phrase here is "original principal amount loaned. " (Emphasis added). This simply means the actual amount loaned, i.e., the cash actually transferred to the borrower, for which interest is due or to become due. The "master note" device is basically a line of credit. It merely means "We can lend you up to $16,000." What is actually loaned is another matter, as for as KRS 360.010 is concerned. The statute cannot be applied on the basis of a mere obligation of the lender to loan money at some date in the future. The point is that the usury statute cannot be circumvented by an obligation of the lender to lend which may never happen. The sheer reality of the statute involves "loans" actually made. A loan, as evidenced by a note and turning over of money to a borrower, creates a liability to repay, and contains the usual provision for the payment of interest.
Gibbs v. Gibbs, 254 Ky. 787, 72 S.W.2d 473 (1934) 474.
Sticking to your reference situation, John Doe makes a master note to the bank for $16,000. Only $8,000 is transferred at that time. The interest rate on the $8,000 loan may be up to 8.5% if agreed upon in writing. Then within a year the bank advances $5,000 more to the borrower. Here again the interest rate on the $5,000 may be agreed upon in writing up to 8.5%. Thus far, we assume the only note in existence is the original "master note".
Now as a variation to the above assumed factual situation, the bank advances the $5,000 [after the previous $8,000] but a new note of $13,000 is signed. There again the parties in writing may agree to up to 8.5% interest.
Still another variation in the factual situation: If a borrower procures a line of credit in the amount of $50,000 and draws at the time $10,000, then the borrower and bank can agree in writing to an interest rate up to 8.5% under the statute. If the borrower comes back in thirty days and is advanced an additional $10,000 and a new note for $20,000 is executed, then the parties may agree in writing [negotiate] to any interest rate under the statute, since the loan is really for $20,000. Where the first $10,000 is represented by a note for that amount and the second $10,000 is also represented by a note for that amount, then the parties may agree in writing to a rate of up to 8.5% in connection with each note.
Any reductions [by payments of borrower] on the loan after it exceeds $15,000 would not alter the negotiated rate of interest [any rate to be agreed on].
Under KRS 360.020 the receiving, taking, or charging a rate of interest greater than is allowed by KRS 360.010, when knowingly done, shall be deemed a forfeiture of the entire interest which the note or other evidence of debt carries with it, or which has been agreed to be paid thereon. In case the greater rate of interest has been paid, the person by whom it has been paid, or his legal representative, may recover, in an action in the nature of an action of debt, twice the amount of the interest thus paid, from the creditors taking or receiving the same [such action must be brought within 2 years from the time the usurious transaction occurred].
Generally the courts will not lend their aid to enforcement of a usurious contract. As an exception, an obligor has been held to be estopped to set up a claim of usury against an innocent purchaser for value who, without notice of the usury in the note, has been induced to purchase the note by the obligor.