A Lender’s indemnity against funding costs was not widely enough drawn to cover an internal swap between two departments of the same bank..
The case involved RBS as Lender making a 30 year term loan at a fixed rate to allow a Borrower to finance the acquisition and development of a property. The problem arose whenRBS made an attempt to recover what it said were part of its funding costs upon early repayment – 5 years into the 30 year term. There was an “internal swap” used by RBS in the process of managing their funding risk. RBS tried to recover £2.4m – the loan was only £9m – under the indemnity contained in the Loan Agreement which they said they had incurred in breaking the “internal rate swap” which was concluded by way of inter departmental arrangements between Corporate Banking and the Markets Divisions of RBS.
The Court held that the internal rate swap “arrangements” were not transactions so could never be a “funding transaction” within the indemnity.
The case is a reminder that break costs can be a thorny issue and one where large liabilities can be created as a result of changes in the market outside of the parties control. Whether the bank could recover the costs on a fair proportion of its outside hedging arrangments across its portfolio of loans was left open.