A consumer entered into a loan agreement with a lender that charged an interest rate far exceeding the maximum allowable rate under the jurisdiction’s usury laws. The loan also included a mandatory arbitration clause requiring disputes to be resolved through arbitration in another state, even though the consumer lived in a jurisdiction that prohibited such clauses for loans covered by usury laws. The consumer seeks to avoid enforcement of the loan on the basis of illegality. How will a court most likely address this issue?
The court voids the loan agreement provisions related to the usurious interest rate but allows the remainder of the contract to stand.
The court adjusts the interest rate to comply with usury laws and enforces the entire loan agreement, including the arbitration clause.
The court refuses to enforce any loan provisions impacted by the usury violation and treats the arbitration clause as valid since it is a separate procedural agreement.
The court will sever the usurious interest rate provision, enforce the rest of the loan agreement, and strike down the arbitration clause due to its conflict with public policy.
The correct answer addresses how courts typically handle usurious contracts and terms that conflict with public policy. Illegal terms such as excessive interest rates are often severed from the agreement if doing so preserves its overall purpose. This ensures that agreements retain enforceable provisions while respecting statutory protections. Courts often also invalidate clauses, like arbitration provisions, that directly contravene public policy. Incorrect answers fail by either overstating the impact of the usury violation (e.g., voiding the whole contract), ignoring public policy considerations (e.g., enforcing the arbitration clause), or misrepresenting the treatment of illegal terms (e.g., suggesting courts can adjust terms without authority).
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