With interest and inflation rates constantly in the news recently, thinking about what contractual terms are ‘fair’ and ‘reasonable’ when it comes to interest is timely. Interest is something parties will seek on top of sums owed to them for late payment when in dispute, so it is important you ensure that any agreed terms are reasonable and, as some would say more importantly, what you can do if they aren’t.
The Late Payments of Commercial Debts (Interest) Act 1998
The 1998 Act changed the landscape on interest. Prior to its introduction, interest could only be claimed if it was expressly provided for within the terms of the contract. However, following its introduction, implied terms surrounding interest became automatically incorporated into the contract where there isn’t already a ‘substantial remedy’ for late payment.
These implied terms entitle the party owed a sum that is overdue to interest from the due date for payment, until payment is made. The Act also provides a set rate of interest, at 8% above base rate (also known as ‘simple interest’) which starts accruing from the day after the agreed payment date where such a payment date is specified.
What is a substantial remedy?
The courts have interpreted this widely and the remedy can be high. In Longulf Trading (UK) Ltd v. Niyazi Onen Gida Sanayi AS , an interest at a rate of 15% per annum was held to be enforceable. In Biosol Renewables UK Ltd v. Lovering  a provision providing an interest rate of 1.5% per month was also held to be a ‘substantial remedy’. At the other end of the scale, rates as low as 2-3% per annum have been found to be ‘substantial’.
What qualifies as a ‘substantial remedy’ was reviewed in a construction context in Yuanda v. WW Gear Construction Ltd . The court said that any interest remedy is ‘substantial’ unless: “It would not be fair or reasonable to allow the remedy to be relied on to oust or vary the right to statutory interest that would otherwise apply having regard to: the benefits of commercial certainty, the strength of the relative bargaining positions of the parties, whether the term was imposed by one party to the detriment of the other, and whether the supplier received an inducement to agree to the term”.
In that case, the court was tasked with considering whether an amendment to the JCT form’s default 5% above base rate interest allowance to 0.5% was a ‘substantial remedy’. It said that absent special considerations – which might include evidence of negotiation of such a sum and reasons why it was justified, neither of which existed on the facts – the rate was clearly not a ‘substantial remedy’.
The 2013 Regulations
In 2013, the 1998 Act was revised by two sets of Regulations. These bolstered the protection offered by the 1998 Act in several ways, including to provide implied terms to protect a party owed a sum in the event a payment date is not specified in the contract. As a result, interest accrues from 30 days after the latest of either delivery, invoice or acceptance.
When trying to assess the latest date a sum is deemed owed for interest to be calculated, try to think of the above as:
A – Acceptance: when were the goods or services (if any) accepted?
I – Invoice: what is the date of the last invoice from the party owed?
D – Delivery: when were the goods delivered or services performed on site?
It is important to note that the implied terms incorporated under the Act can be varied by express wording.
The 2013 Regulations also introduced the ability to recover reasonable debt recovery costs where the 1998 Act applies. The original act allowed fixed compensation depending on the level of debt, often in the low hundreds of pounds. But the 2013 Regulations improved this so that if the fixed sum was inadequate, whatever the reasonable costs of pursuing a debt were could be recovered through the Act. This was therefore a substantial improvement for those chasing money – although it should be noted that recovering these costs isn’t possible through adjudication, where the courts have found that the Construction Act’s prohibition on recovery of adjudication costs unless made in writing after service of the Notice trumps the 1998 Act.
Interest Free Period?
It’s not just the rate of interest that you should be looking out for. Parties can delay the date from which interest will accrue on a sum owed, for example by agreeing a later payment date or adopting an acceptance procedure. This in turn effectively creates an ‘interest free period’.
However, the Act and Regulations can help. If an agreed payment date is more than 60 days after the date of delivery, invoice or acceptance (whichever is the latest) and this is determined to be, in the circumstances, grossly unfair to the party being paid, then interest will run from the end of that 60 day period.
In relation to delays resulting from an ‘acceptance procedure’ the rules are a bit simpler. If the acceptance procedure under the contract lasts more than 30 days after delivery of the goods, and that is grossly unfair to the party owed the sum, then the acceptance procedure is deemed to be completed 30 days after the date of delivery. This means that the interest will run from the end of that 30 day period.
If a longer acceptance procedure is agreed in a contract and this is not deemed ‘grossly unfair’ to the party being paid in their specific circumstances, then interest will run from the end of that longer acceptance procedure.
What do you do if you think a term isn’t a ‘substantial remedy’?
The Courts, and adjudicators, must satisfy themselves that any interest provision is fair and reasonable. As mentioned above, they assess the circumstances of the parties and provisions against whether the wording “provides sufficient compensation for late payment, is fair and reasonable as against the statutory right and serves to deter late payment.” Therefore, no two matters can be looked at in the same way. It is vital you familiarise yourself with any terms relating to payments, delayed payments and entitlement to interest in order for an agreement to be made which satisfies both parties and is commercially reasonable. Failure to do so will likely mean the statutory interest provisions of the 1998 Act (amended by the Regulations) will come into play – together with giving the right to recover reasonable debt recovery costs.
This article originally featured in July 2022’s edition of our Aggregate newsletter: to read the complete edition, click here.