Clients often ask us to review the clauses in their sale contracts or various standard-form contracts that stipulate late-payment penalties.
We all know that some businesses have established practices in this regard and that there is a tendency in the market to use such clauses. But how do the courts view them?
In its decision in Diamantopoulos v. Construction Dompat Inc.1, the Quebec Court of Appeal addressed this issue a little more clearly in a case where the contract in question stipulated a 24% per annum interest rate on any unpaid claim, plus a 20% penalty if judicial recovery proceedings had to be instituted.
The contract stipulated that interest at the rate of 2% per month, or 24% per year, was to be paid by Diamantopoulos on any overdue amount. Plus, in the event of any claim by Construction Dompat Inc. to recover any unpaid amount, a penalty was stipulated, calculated on the total amount owing including interest.
In examining the 2% monthly interest and the 20% penalty, the Court of Appeal looked at Article 1623 of the Civil Code of Québec as well as its decision in 9149-5408 Québec Inc. v. Groupe Ortam Inc.2 and concluded that an annual interest rate of 24% was not in itself necessarily and intrinsically abusive, and could even be justified in some cases. In this instance however it was the combination of the interest rate and the penalty clause that was abusive, according to the Court of Appeal.
The respondent argued that the practices of three other contractors were similar, but the Court of Appeal observed that the practices of three contractors did not constitute a prevalent usage, particularly where two of them charged 6% less than the third, and stated the following:
“Nor is it necessarily the case that the interest so claimed was not abusive per se.”3
Caution must therefore be used when drafting late-payment provisions or advising clients who maintain that such clauses are an established practice, engaged in by their competitors. In drafting such provisions, the overall context must be taken into account, as well as the nature of the contract.
The courts consider such late-payment clauses to be penalty clauses, but will generally seek to reduce their severity, as opposed to nullifying them. One thing is certain however: there is no magic rate of interest that will always pass muster, and each case will be considered on its own merits.
Since this most recent decision of the Court of Appeal, other courts in Quebec have considered the cumulative effect of interest and penalty clauses4 and have ordered their reduction. Obviously, we must all proceed with caution when drafting or attempting to enforce such clauses.