On 5 February 2014, in Paciocco v Australia and New Zealand Banking Group Limited  FCA 35 (Paciocco), the Federal Court of Australia determined that credit card late payment fees charged by a bank were penalties. The decision provides the first substantive application of the principles in the somewhat controversial decision of Andrews v Australian and New Zealand Banking Group Ltd (2012) 247 CLR 205 (Andrews).
The Andrews decision redefined the understood and accepted modern doctrine of penalties. Since Andrews, there has existed a degree of uncertainty about whether certain commonly used provisions in contracts will be considered penalties. The Paciocco decisionis significant in two main regards. First, because it provides a concise statement of the principles provided in Andrews and second, because it confirms how the redefined doctrine applies in the context of bank exception fees.
A SUMMARY OF THE PRINCIPLES PROVIDED IN THE ANDREWS DECISION
The principles expressed by the High Court in Andrews were neatly summarised in Paciocco as follows:
- The doctrine of penalties is not confined to payments or obligations imposed as a consequence of a breach of contract.
- Rather, a penalty may arise where, upon the failure of a primary stipulation, a collateral stipulation is imposed such that the collateral stipulation acts as security for the satisfaction of the primary stipulation.
- If a party can be compensated for the failure of the primary stipulation, the collateral stipulation is only enforceable to the extent of that compensation.
- The penalty doctrine is not engaged if the prejudice or damage suffered by the failure of the primary stipulation cannot be evaluated or assessed in money terms.
- The primary stipulation may be the occurrence of an event which need not be the payment of money.
- The collateral stipulation imposed upon the failure of the primary stipulation need not be a requirement to pay a sum of money.
- Equity and law will operate equally to ensure that a collateral stipulation or liquidated damages clause does no more than compensate a party for the prejudice caused by the other party’s failure of a primary stipulation.
- There is a distinction, known as the “operative distinction”, between a collateral stipulation which acts as security for the performance of a primary stipulation, and a collateral stipulation which arises upon the provision of further accommodation by the other party. The first could be a penalty, whereas the latter cannot.
APPLYING THE PRINCIPLES IN THE PACIOCCO DECISION
The Federal Court considered whether the penalty doctrine applies to contractual terms requiring the payment of fees to a bank by Mr Paciocco for:
- the late payment of money on consumer credit card accounts (Late Payment Fees);
- exceeding the limits imposed on consumer credit card accounts (Overlimit Fees); and
- the honour or dishonour of a request for an informal overdraft (Honour Fees).
- the non-payment on consumer and business deposit accounts (Non-payment Fees).
The bank accepted that the Non-payment Fees were not enforceable in Mr Paciocco’s case for reasons which did not involve the penalty doctrine.
LATE PAYMENT FEES
The Court found that the Late Payment Fees constituted a penalty at common law and in equity. This was because the obligation to pay the fee (the collateral stipulation) arose upon a breach or failure to comply with an obligation to pay on time (the primary stipulation). Further, the fee or collateral stipulation imposed on Mr Paciocco an additional detriment in the nature of a security for the satisfaction of the primary stipulation which was extravagant, exorbitant and unconscionable. By “additional detriment” the Court meant a detriment that exceeded the prejudice to the bank caused by the customer’s failure to pay by the due date.
Significant in its finding that the fees were extravagant, exorbitant and unconscionable, the Court noted that the Late Payment Fees were flat rate fees payable regardless of whether Mr Paciocco was one day late, a week late or much longer and regardless of whether the overdue amount was 1 cent or much larger. Applying the principles in Dunlop Pneumatic Tyre Company Limited v New Garage and Motor Company Limited  AC 79 at 87, the Court held that this disregard of whether the failure was serious or trifling gave rise to a presumption that the Late Payment Fees were penal.
The Court also noted that the fact that the Late Payment Fees were provided for in a standard form of contract which was not negotiable, was a relevant factor.
OVERLIMIT FEES AND HONOUR FEES
The Overlimit Fees and Honour Fees fell into a different category. The Court found that the liability to pay each of those fees was accompanied by a benefit in favour of the customer. Put another way, the Court found that:
- the Honour Fees where charged in exchange for the bank’s service of considering the customer’s request for an informal overdraft; and
- the Overlimit Fees were charged in exchange for the bank agreeing to approve or authorise a transaction which exceeded an account limit. The process involved more than a unilateral action by the customer. The bank was required to make a decision before the transaction could proceed. The fact that the decision was made by automatic processes of the bank was not relevant.
As a consequence of the further accommodation (or benefit) provided by the bank in the above circumstances, there was an operative distinction between the above fees in contrast to the Late Payment Fees. It followed that the Overlimit Fees and Honour Fees were not penal in nature.
The “operative distinction” is a fine one, but an important one. Although Andrews purports to draw focus on the substance of the collateral stipulation rather than the form, the Paciocco decision confirms that the operative distinction leaves room for contractual drafters to avoid the doctrine of penalties. The key is to provide some form of further accommodation or benefit in exchange for what might otherwise be a penal stipulation. Accordingly, banks and companies utilising standard form contracts should take some comfort that their contracts can be carefully drafted to avoid the penalty doctrine.