The missives, or contract, for the sale of both residential and commercial property will routinely contain a penalty interest clause, which will apply in the event that the purchaser fails to pay the purchase price. This standard practice was thrown into the spotlight in the recent Court of Session case of Black v McGregor.

The facts of the case

  • Mrs Black entered into missives with Mr McGregor for the sale of her house in Helensburgh.
  • The missives contained a penalty interest clause.
  • This provided that, in the event that the purchase price was not paid in full by the agreed date of entry, interest would accrue at the stipulated rate until full payment was made. Alternatively, if Mrs Black decided to rescind, or pull out of, the contract due to Mr McGregor's failure to pay, interest would accrue until she had received the resale proceeds.
  • Following Mr McGregor's failure to pay the purchase price a year after the agreed date of entry, Mrs Black rescinded the contract.
  • She raised an action seeking to recover the estate agency and solicitors' fees, which she had incurred in the failed transaction, together with interest on the purchase price at the stipulated rate from the agreed date of entry until the date when she raised the action against Mr McGregor.
  • Significantly, Mrs Black had not re-sold the house.

Did Mrs Black have to establish actual loss?

Having gone through the Sheriff and the Sheriff Principal, the case was appealed to the Inner House of the Court of Session. The court decided that the missives should be interpreted to provide that any financial loss suffered by Mrs Black should be liquidated in the contractually stipulated rate of interest without Mrs Black having to establish actual loss in the shape of lost investment returns or financing charges.

However, she hadn't re-sold the property…

Although, Mrs Black wouldn't have to establish her losses since the penalty interest rate stipulated would be applied, she did hit a crucial stumbling block. Whether penalty interest could be claimed depended on the precise construction of the penalty interest clause. The court was of the opinion that wording of the clause was clear – a claim for interest after rescission of the contract could only arise following a resale of the property, and Mrs Black was still the owner of the property. The wording of the clause was clearly not intended to apply to the situation where Mrs Black retained the property after the original sale fell through.

The message

Penalty interest clauses are routinely found in both residential and commercial property transactions and their precise wording is often overlooked as a result. Indeed, the clause under scrutiny in this case bears a striking resemblance to penalty interest clauses commonly used in the property industry today. The case of Black v McGregor serves as a reminder to all those involved in negotiating agreements for the sale of property to ensure that the precise wording is understood by all and reflects the intentions of the seller should the purchaser fail to pay.

Statutory Reform

At the end of September the Scottish Law Commission published their recommendations to Scottish Ministers for reform of the law on debt and damages. The Commission's draft Bill would create a statutory right to interest from the date when the claimant loses the use of money. It will cover contractual debts (which would be of use to Mrs Black, if she ever found herself in the same situation), non-contractual debts (such as aliment) or damages. The interest rate would be set at a level which adequately compensates the claimant as opposed to one which punishes the debtor for the late payment. However, parties to a contract would be free to agree that interest should run on a different basis, or that it should not be payable at all. It therefore appears as if the penalty interest clause is here to stay.

The full text of the case can be found on the Scottish Courts website at http://www.scotcourts.gov.uk/opinions/2006CSIH45.html

More information on the reform of the law of interest on debt and damages can be found on the Scottish Law Commission's website at http://www.scotlawcom.gov.uk/downloads/rep203.pdf

 

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