High Court reaffirms that surcharge interest rates that are 'extravagant and unconscionable' and not commercially justifiable are not legally enforceable.
Background of the case
Governor and Company of the Bank of Ireland -v- O'Boyle & Anor [2025] IEHC 219, concerned the now deceased defendant-farmer, who had entered into a loan agreement with the plaintiff, Bank of Ireland (BOI), in 2004 to develop his land to build houses. The defendant failed to repay the loan. The agreement was restructured in 2015, but the defendant continued in default.
In 2017, a new facility (2017 Facility) was established to cover the outstanding balance (principal, interest, and surcharge interest). Due to the continuation of the defendant's default, in August 2018, the plaintiff commenced charging surcharge interest at 9% on the 2017 Facility that was outstanding. Of note, BOI stopped charging surcharge interest in May 2020 because of the defendant's unlikely repayment of any of his debt. Then, in August 2021, BOI suspended entirely its previous practice of applying surcharge interest on all its accounts because of uncertainty around the legality of such interest.
BOI originally instituted successful debt recovery proceedings against the defendant, obtaining judgment in May 2022. However, that judgment did not include the surcharge interest claim (of €204,501.23) that accrued between August 2018 and May 2020. That claim was adjourned to a plenary hearing before the High Court (Court), which forms the judgment's subject matter under discussion in this article.
BOI argued that its 9% surcharge interest was a genuine pre-estimate of the probable loss occasioned due to the defendant's failure to repay the loan. The defendant disputed this, arguing that managing his default could never have cost the bank the €204,501.23 claimed, that the 9% rate was a generic charge set in 1993, and was a 'one size fits all' approach to costing the management of his default.
Penalty or genuine pre-estimate of loss
In considering the law on surcharge interest and the rule against penalty clauses, the Court noted that it was bound by the Irish Supreme Court decision of Pat O'Donnell & Company Ltd v Truck and Machinery Sales Ltd [1998] 4 IR 191, which endorsed the so-called 'Dunlop principles' (from Dunlop Pneumatic Tyre Co Ltd v Selfridge & Co Ltd [1915] UKHL 1). Under the Dunlop principles, an amount will be considered a penalty if it is 'extravagant and unconscionable' compared to the greatest loss that could conceivably be proved to have flowed from a breach of an agreement. That approach to surcharge interest was most recently endorsed by the Irish Court of Appeal in Sheehan v Breccia [2018] IECA 286, where it rejected a reconsideration of the treatment of surcharge interest in Irish law, following a different approach adopted by the UK Supreme Court in Cavendish Square Holding BV v El Makdessi [2015] UKSC 67.
The Court found that BOI did not follow best practice in estimating surcharge interest rates. BOI's calculation of surcharge interest rates reflected a 'low level of commitment' to cost recovery, and the use of repeated and prefilled information demonstrated that the surcharge interest rate was not a genuine pre-estimate of the loss that would be sustained if the defendant failed to make repayments.
BOI also offered refunds to customers who had got back on track with their loan agreements, which resulted in compliant customers being rewarded, while defaulting customers were penalised. This negative consequence on defaulting customers was held to be separate from the cost of recovery and any genuine pre-estimate of loss and, therefore, a penalty.
Therefore, in applying the Dunlop principles, the Court ruled in favour of the defendant, finding that the imposition of this 'unconscionable and extravagant' 9% surcharge interest rate offended the rule against penalty clauses.
Conclusion
As the Court noted, a penalty clause is designed to secure the contract's performance rather than compensate for the loss caused by a breach of contract. This judgment clarifies that the Irish courts' approach to penalty clauses is still as set out in Dunlop. Penalty clauses are unenforceable. Clauses that are a genuine pre-estimate of damages are permissible, but where there is difficulty in genuinely pre-estimating those damages, provided the clause is not extravagant and unconscionable, it may be upheld.
In this case, there was no commercial justification for BOI to charge a 9% interest rate, which the Court noted was more than three times the original lending rate. The consequences for BOI were significant, resulting in a finding that the surcharge interest was a penalty clause and, therefore, not enforceable.
It remains to be seen if BOI will appeal the judgment, given the consequences of the decision and the fact that BOI previously indicated to the Court that the case was a "lead case" on surcharge interest.
Contributed by Ailis Coyne Chapman, Emma O'Leary, Aisling Doran and Gail Nohilly.
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