Enter to open, tab to navigate, enter to select
Northern Irish High Court holds 15% interest rate is a penalty
Practical Law UK Legal Update 4-504-7477 (Approx. 4 pages)
Northern Irish High Court holds 15% interest rate is a penalty
by PLC Commercial
| Published on 10 Feb 2011 |
The Northern Irish High Court has held that a 15% interest rate in a contract was an unenforceable penalty in Fernhill Properties (Northern Ireland) Ltd v Mulgrew [2010] NICh20, 21 December 2010. (free access)
Speedread
The High Court of Northern Ireland has held that a contractual interest rate of 15% between a property developer and a buyer was unenforceable because it was a penalty. The buyer was unable to complete on a transaction to buy an apartment and the property developer claimed damages for loss of bargain and interest on the purchase price. Applying the principles which distinguish enforceable liquidated damages from unenforceable penalties, the judge found that the "high and round figure" of 15% was clearly, on the balance of probabilities, a penalty designed to deter a purchaser from defaulting on completion, rather than a genuine pre-estimate of the developer's loss. Although a Northern Irish decision, the judgment is of interest to English law practitioners and is notable because it stands in direct contrast to the decision in Taiwan Scot Co Ltd v The Masters Golf Company Ltd, in which the Court of Appeal held that a contractual interest rate of 15% was not a penalty (see Legal update, Court of Appeal holds that contractual interest rate of 15% was not a penalty). (Fernhill Properties (Northern Ireland) Ltd v Mulgrew [2010] NICh20)
Background
A contractual interest rate that is unreasonably high may not be enforced on the grounds that it is a penalty, rather than a genuine pre-estimate of a party's loss. The classic tests for establishing whether a clause imposes a penalty are laid down in Dunlop Pneumatic Tyre Co Ltd v New Garage and Motor Co Ltd [1915] AC 79.
In Taiwan Scot Co Ltd v The Masters Golf Company Ltd [2009] EWCA Civ 685, the Court of Appeal held that a contractual interest rate of 15% was not a penalty and could be enforced (see Legal update, Court of Appeal holds that contractual interest rate of 15% was not a penalty).
For more information on interest, see Practice note, Interest clauses.
Facts
Fernhill Properties (Northern Ireland) Limited (Fernhill), a property developer, contracted to sell M an apartment in Belfast. M paid a deposit but did not complete the transaction because of a lack of mortgage funds. Fernhill sued M for damages for their loss of bargain because the property had fallen in value by an estimated £71,000. They also claimed interest at the contractual rate of 15% on the balance of the purchase price which M should have paid on the completion date.
Decision
The court refused to enforce the contractual interest rate of 15% per annum because it was a penalty. Instead it applied a rate of 5%.
Deeny J considered the circumstances at the time the contract was made to decide if the interest payable under it was a genuine pre-estimate of damage which would be suffered by Fernhill if M defaulted or a penalty to deter M from breaking the contract.
Deeny J observed that the court had been dealing with a considerable body of litigation arising out of the property boom in Northern Ireland between 2005 and 2007 and the subsequent crash. Therefore, the court had seen considerable evidence of interest rates being charged, but had not seen as high a rate of 15% or anything close to it. He said that for the rate of 15% to be a genuine pre-estimate of loss Fernhill would, with the base rate being 5.25% at the time, have had to show that it was going to pay, or was at a foreseeable risk of having to pay, 9.75% above base rate for continuing borrowings if a purchaser failed to complete. In fact Fernhill had opted not to disclose the interest it was paying on its borrowings.
Deeny J acknowledged that the parties may agree a rate at the upper end of a range of possible loss for the innocent party. He thought that 10% or 12% might have been justified, bearing in mind that the parties might have thought that the base rate would increase further (which it did to a modest extent). However, he said that a rate outside the possible range could not be a genuine pre-estimate of loss and damage. Therefore, Deeny J thought that a rate of 15% was clearly, on the balance of probabilities, a penalty designed to deter a purchaser from defaulting on completion.
The court distinguished Taiwan Scot Co on the facts, in part because in that case the contractual interest rate was agreed by two commercial concerns, rather than a company and an individual, as in this case. Deeny J also made the point that English judgments might be less relevant to Northern Ireland after the constitutional devolution of justice.
Comment
The judgment illustrates that whether interest rates are considered penalties will largely be decided on the facts. Although Deeny J distinguished Taiwan Scot Co because it involved two commercial concerns rather than a company and an individual, this does not necessarily mean that the courts will always take this view where individuals are involved. The key concern is whether the interest rate acts as a penalty or not.
Further reading
The European Union has now adopted a recast Late Payments Directive, see Legal updates, Late Payments Directive: European Parliament approves amended text; Late Payments Directive: adoption of Directive.