End to compounding interest by banks on delayed loans is sought to be introduced through legislative regulation by the MP Kostis Efstathiou, who yesterday submitted a relevant bill proposal to the Plenary Session of the Parliament.
With the bill proposal, the Law on Interest Rate Liberalization is amended so that the compounded interest is not capitalized by the banks.
Compounding interest is the process whereby interest is added to the borrowed capital, leading to an increased amount owed.
It is distinguished into direct and indirect interest compounding. In direct interest compounding, delayed interests generate new interest, while in indirect, delayed interests are incorporated into the capital, increasing the total borrowed amount.
Interest compounding reflects the productive dynamic of capital, providing additional compensation for the borrowed capital.
However, if there are no appropriate restrictions on indirect interest compounding, it can lead to excessive increase in the total owed amount, burdening the borrower and making them vulnerable to lender practices.
As Mr. Efstathiou argues, “interest compounding and its capitalization increase the total owed amount in a dangerous way, leading, in most cases, to over-indebtedness.”
Additionally, he notes that the tactic of multiplying debts negatively affects the debtor’s ability to fulfill obligations and contradicts the basic principles of good faith and non-abusive exercise of rights by banks, which must be applied based on legislation and the relevant Central Bank code.
However, when the bill proposal is brought for discussion in the competent parliamentary committee, it is certain that there will be strong reactions from credit institutions and the Central Bank.
According to a study conducted by the Research and Studies Sector of the Parliament, following Mr. Efstathiou’s instructions, it has become transparent that there are differences in legislative and practical approaches applied by each country on this issue.
The provisions reflect various policy approaches to consumer protection and regulation of financial contracts. Specifically, Austria, the United Kingdom, Canada, Hungary, Poland, and Slovenia responded that there are no laws on interest capitalization.
In Austria, in case of consumer default, payable interests are limited to five percentage points annually above the agreed interest rate, aiming to protect consumers.
In Belgium, interest capitalization is prohibited in cases of termination of the credit agreement due to non-fulfillment of consumer obligations. However, in cases of authorized charges or simple delay, overdue interest payment is allowed.
In Greece, interest capitalization is allowed semi-annually, in case of compound interest agreement, while there are specific regulations for compound interests. Additionally, interest capitalization is prohibited if not provided in the initial loan agreement or in a broader debt regulation contract.
In Spain, interest compounding is regulated by the Civil and Commercial Code. Specifically, unpaid interests do not generate new interests but can be capitalized, increasing the capital with further yields. Also, interest capitalization can be considered abusive, with a legal claim against financial institutions, if there is lack of clarity in the specified overdue interest.
In Lithuania, the process of interest capitalization depends on specific agreements and negotiations between the credit institution and the client. It may include the transfer of accumulated interests as a new transaction, restructuring of the existing transaction with the inclusion of accumulated interests, or the consolidation of multiple client transactions into a single transaction.
In Portugal, interest rates for consumer credit are subject to upper limits, and interest capitalization is allowed under specific conditions, according to regulatory law.
Finally, in Slovakia, low capitalization rules apply, limiting the capitalization of interests based on the Income Tax Act.