Consumer Interest

What Is Consumer Interest?

Consumer interest is interest charged on consumer credit accounts such as personal loans, automobile loans and credit card debt. Unlike mortgage interest and some interest charged on student loans, consumer interest from personal loans, credit cards, and other debt is a nondeductible tax expense.

Understanding Consumer Interest

The Board of Governors of the Federal Reserve tracks consumer debt as revolving debt. Consumer debt consists of debts owed as a result of purchasing goods which are consumable and do not appreciate. The most common instances of consumer debt include credit card debt, payday loans, and other kinds of consumer financing. There has been a steady growth of revolving debt since the introduction of credit cards. The Federal Reserve found consumer debt in early 2018 to be over $3 trillion, with an increase of 2.5% in April. During times of higher interest rates, excessive consumer debt can limit further consumer spending.

The Tax Reform Act of 1986 broadened the definition of consumer interest by revoking the deductibility of certain types of interest on income tax returns. The act, which did not take full effect until 1991, eliminated interest deductions on credit card and automotive loan debts. It left intact the deductibility of interest associated with home ownership, higher education, and business investments.

HELOCs as a Consumer Interest Tax Shelter

In the past, many consumers used home equity loans as a means to convert consumer interest from credit cards or other types of spending into deductible mortgage interest. By paying off consumer debt with a home equity line of credit (HELOC), these homeowners were able to deduct a portion of their credit card debt. However, The Tax Cuts and Jobs Act of 2017 eliminated this practice through 2026. The act mandates that HELOC interest is only deductible if it relates directly to a home purchase or construction.

Consumer Interest Charges Through the Ages

Consumer interest dates back as far as the 18th century B.C. in Babylon, when Hammurabi's Code instituted a 20% cap on personal loan interest. Evidence of consumer credit continue through ancient history until the Dark Ages, when the collapse of the Roman Empire led to economic stagnation, and the Catholic Church outlawed usury, the charging of interest. Capital and credit played an essential role in financing the age of exploration, and King Henry VIII of England established the first national interest rate of 10% in 1545.

Consumer credit boomed in the United States in the early and mid-20th century. Lending growth got inspiration from early automotive loans offered by General Motors Acceptance Corporation. The success of such manufacturer-sponsored credit led other companies to extend credit to buyers of household appliances, furniture, and electronics. As early as 1920, companies issued the first store credit accounts with charge plates, which consumers could use to purchase their products. In 1950, Diners' Club released the first universal credit card, followed by American Express in 1958. Credit reporting agencies emerged at this time to provide lenders with consumer credit histories of consumers to enable them to manage risk and make more informed credit decisions.