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Ethical Lending

I have pretty strong feelings about lending. In simple terms, I think some lending is, for want of a better term, good, and some lending is, well, considerably less than good. To illustrate the point, let's take a quick look at a lending practice I think makes sense.

Say I find myself in a financial bind and could really use a loan. I turn to you for help. We draw up a contract. You lend me $1,000, and I promise to pay the money back with interest.

Why should I pay interest? Because, when you lend me money, you transfer ownership of that money to me. I can use it for whatever purpose I decide and you no longer have that luxury. You can't invest it, you can't put it in a savings account. In effect, you lose the opportunity to benefit from the money you lend me. That lost benefit is considered an opportunity cost. To compensate you for the lost opportunity, I agree to pay interest on the money you lend.

It's only fair.

So we both decide 5% is a reasonable interest rate. That's not usurious, or excessive. Each state has usury laws intended to protect consumers from usurious lending practices (so-called Loan Shark Laws), and each state specifies what it considers to be excessive interest rates and terms.

Oops. Except Delaware and South Dakota—they don't have usury laws on the books. As a result it should come as no surprise that Delaware, a state where setting up a company is incredibly easy, is also the "credit card capital" of the United States. Incorporate a credit card company in Delaware or South Dakota and you don't have to worry about following usury laws. You can charge what you want. (FYI, it might look like these states have usury limits in place, but banks easily get around them.)

So let's get back to the money you agree to lend me. We decide 5% is a fair interest rate, and we also create a payment schedule so we both know what's expected.

Simple, right? We reach a fair agreement, you help me out, and I feel obligated to pay back the loan with interest. I not only want to return what is yours (the $1,000 principal), but also compensate you for your opportunity cost (the 5% interest). I feel a moral obligation to make good on my debt to you and will do everything I possibly can to make sure I pay you back.

This view of lending is how most people view credit card debt, but they're dead wrong.

> The Credit Scam