Supreme Court provides guidance on early repayment charges

Supreme Court provides guidance on early repayment charges

Background Early repayment in practice
Changes to Civil Code

The Supreme Court has confirmed a developing judicial practice in connection with early repayment charges in credit agreements. The court held an early repayment charge to be compensation for lost interest income and therefore deemed it to be null and void; however, it noted that creditors may charge debtors for additional costs incurred as a result of early repayment.

Background

Sections 277 and 282 of the Civil Code provide that the parties to a contract must fulfil their obligations at the due time, and that an obligor may not perform its obligation before such time without the obligee's consent. Section 292(2) provides for an exception to the general rule in the case of payment obligations: the debtor may pay its debt before it falls due, and in such cases the creditor may not claim interest or other compensation for the period between the repayment date and the original due date. This rule applies to all payment obligations, irrespective of whether they arise from a private, commercial or financial transaction.

The Consumer Credit Act (162/2009), which transposed the EU Consumer Credit Directive (2008/48/EC), provides additional specific rules on early repayment, whereby consumers are entitled to a reduction in the total cost of the credit and the creditor is entitled to compensation for fair and objectively justified costs that are directly linked to early repayment of credit, provided that such repayment falls within a period for which the interest rate is fixed. The act also limits the maximum amount of chargeable costs.

Early repayment in practice

The general law in Hungary was restrictive with respect to charging pre-payment fees - more so than in many other EU countries. As a result, the adoption of the act created a strange situation: it should have provided increased protection for consumers, but it did little more than reiterate the general law. This contributed to a more relaxed interpretation of the law in the area of non-consumer financing. For some time it seemed that in spite of the clear prohibition in the code, there was nothing to prevent the application of the general principle of contractual freedom between financial institutions and business entities.

This less restrictive view was also supported by the fact that credit institutions are required to maintain liquidity by matching their liabilities and receivables. However, early repayment results in a mismatch and may result not only in additional costs (eg, for amending the contract), but also in losses, since the creditor may be unable to relend the amount received before the original due date on the same terms as those of the repaid loan. As a consequence, credit institutions outside the consumer finance sector tended to provide for a pre-payment charge in their contracts.

However, the Supreme Court's finding - like certain previous court decisions - makes clear that the scope for institutions is much narrower. Although they may request indemnification for actual costs incurred as a consequence of pre-payment, claims for more general damages or fees are unenforceable. The problem remains that the distinction between reimbursement of costs and damages is uncertain. Therefore, financial institutions must take care when drafting contracts and when calculating and substantiating their claims in order to minimise the risk of a court finding the claimed costs to be compensation for lost interest income (and thus null and void).

Changes to Civil Code

The present situation is detrimental to creditors and contravenes the principle of contractual freedom. Therefore, there is widespread agreement that the relevant provisions of the code should not be applied outside of consumer financing.

The code is undergoing comprehensive revision. According to the available drafts, the new code will not prohibit creditors in general from charging fees as compensation for lost interest income. It seeks to address the situation when the sum charged as a consequence of early repayment is so high that the relevant provision amounts to an 'unfair term' and is therefore null and void. Such an amendment would both allow for reasonable claims by creditors and provide protection for debtors. The new code is expected to be enacted in the course of 2012 and to come into effect in 2013.

For further information on this topic please contact István Gárdos or Gabriela Gubik at Gárdos, Füredi, Mosonyi, Tomori by telephone (+36 1 327 7560), fax (+36 1 327 7561) or email (gardos.istvan@gfmt.hu or gubik.gabriella@gfmt.hu).

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