Scottish Law Commission (Discussion Papers)

 


Part 1      Introduction

Terms of reference

1.1      In November 2003 we received the following reference^[1] from the Minister for Justice, Cathy Jamieson MSP:

"To examine the law of Scotland relating to interest on claims for payment of money arising from contractual and other obligations, including claims within the jurisdiction of tribunals and courts or submitted for decision to arbitration, adjudication or some other form of dispute resolution, and to make recommendations as to possible reform of the law."

This Discussion Paper is issued as the first part of our work on this reference. In preparing it we have been greatly assisted by an Advisory Group whose members are listed below.^[2]

Background to the reference

1.2      The law in relation to entitlement to interest on claims for payment of money has evolved in a piecemeal fashion over a period of many centuries. To begin with, interest could only be demanded in limited circumstances which were regarded as acceptable departures from the general prohibition of usury. Interest has since come to be regarded as an appropriate means of compensating a person for the loss of the use of money which he ought to have had but at no time has there been a comprehensive statutory statement of entitlement to interest. In recent years there has been legislation dealing specifically with interest on damages and on commercial debts. The result is a system which, subject to these exceptions, has become crystallised around rules laid down in the latter half of the 19^th century and reflecting even earlier social attitudes. It lacks principle and consistency. Interest may or may not run on a claim for payment depending upon whether it is categorised as a debt or as a claim for damages. In the case of debt arising under a contract which contains no express stipulation for interest, an entitlement to interest will not generally commence unless and until a court action for payment has been raised. If however the claim is categorised as a contractual claim for damages, interest may run, depending upon the exercise of the court's discretion, from any time from the date when the right of action arose. In Elliott v Combustion Engineering Ltd,^[3] Lord Hamilton, delivering the Opinion of the Extra Division, observed:

"It may be a matter of concern that in modern commercial contexts the law does not in general allow for interest to run on debts from a date earlier than judicial demand. However, reform of the law on interest on debt is a matter for the legislature, as was reform of the law on interest on damages."

Other anomalies arising out of the law as it presently stands are discussed in more detail in this paper.

Scope of the Discussion Paper

1.3      Most claims for interest arise either out of a claim for payment under a contract or out of a claim for damages for breach of a contractual or other obligation. The discussion in this paper is primarily concerned with those types of claim. In particular, we discuss entitlement to interest on contractual debt where the contract itself contains no provision creating or excluding an entitlement to interest in the event of delayed payment. There are however other circumstances in which claims for payment arise: for example, where a claim based on unjustified enrichment is made or where a person holding funds on behalf of another delays in making them over after payment has fallen due. We have regarded it as falling within our terms of reference to examine such circumstances in addition to the more common contractual and delictual claims with a view to proposing the creation of a comprehensive system of entitlement to interest which does not depend upon the legal classification of the claim.
1.4      On the other hand, we are not concerned in this Discussion Paper with circumstances in which interest is sued for as a head of damages: for example, where a pursuer in an action for damages asserts that the defender's negligence has resulted in his requiring to borrow money upon which he has incurred overdraft interest. The principles which determine the recoverability of interest as a head of damages are those which apply generally to damages for breach of contract^[4] or for delict,^[5] as the case may be, and it would in our view be anomalous to introduce special rules in relation to interest.
1.5      Nor are we concerned with challenges to contractual terms which impose exorbitant interest charges. Statutory provisions regulating the charging of interest already exist in consumer protection legislation,^[6] and it is not within the scope of this project to review the adequacy of that protection.

Research: rates of interest claimed

1.6      For the purpose of this project we have carried out a study of claims made in court in order to ascertain what kind of interest is usually claimed in practice. Our methods and an analysis of our results are set out in Appendix C to this paper. In April, May and September 2004 we conducted research at the Court of Session. We examined 454 court processes which had been indexed^[7] in March 2004. In addition, we examined all the ordinary actions and commercial actions which were lodged at the Court of Session in March 2004, mainly in order to see if any reference was made to the Late Payment of Commercial Debts (Interest) Act 1998. 87 summons were examined.^[8] In June 2004, during a visit to Aberdeen Sheriff Court, all summary cause actions and small claims which were due to call in the Summary Court on 24 June were examined. The results of these research exercises have been somewhat inconclusive. There is some evidence that interest under the Late Payment of Commercial Debts (Interest) Act 1998 is not always claimed by pursuers in circumstances where it appears prima facie that a claim would be valid. However, it is not always clear from a summons or initial writ whether the Act would apply to a particular debt or not. For example, it may not be clear whether the debt arises before August 2002 when the Act came fully into force. Where interest under the 1998 Act is not claimed, it is not known whether this is due to an omission by the creditor's legal advisers or due to forbearance on the part of the creditor. In other cases, a variety of interest rates are claimed in summons and initial writs, which seem to bear little relation to the nature of the claim. For example, in exercise 1,^[9] 79.54% of the sample were actions for damages, mainly relating to personal injury. Of those cases, 44.90% sought interest from the date of the accident; 11.43% sought interest from the date of citation; 36.73% from the date of decree; and 4.49% made no claim for interest at all. If any conclusion can be drawn from our research, it is perhaps that entitlement to interest is not always considered carefully by court practitioners at the point where the writ is drafted and lodged.

Structure of the Discussion Paper and outline of our proposals

1.7      In Part 2 we provide a summary of the present law on interest including a brief historical background. In Part 3 we set out the guiding principles which we have followed in considering the need for reform and we also discuss in detail our criticisms of the present law. In Parts 4, 5 and 6 we make proposals for reform in relation to interest on contractual debt, interest on damages, and interest falling due in other circumstances respectively. Parts 7 and 8 address the issues of rates of interest and compound interest, and Part 9 considers the need for reform of the present law in relation to tenders in court actions. Parts 10 and 11 deal respectively with tribunals and with arbitration, adjudication and other forms of dispute resolution, and Part 12 deals with the question of transition to the proposed new regime. Part 13 contains a summary of our questions and proposals.
1.8      The guiding principles which we have followed may be stated as follows:^[10]

(i) So far as practicable, interest should run on different types of pecuniary claim during the same period and at the same rate regardless of whether the claim is for payment of a contractual debt, a non-contractual debt or damages.

(ii) The primary goal of an award of interest should be the realistic compensation, in commercial terms, of the creditor for loss of the use of money or property. Interest should not as a general rule be payable at a punitive rate.

(iii) An award of interest should compensate the creditor for loss of the use of money or property throughout the period during which that loss has subsisted.

1.9      With regard to contractual debt, we propose the introduction of a statutory entitlement to interest.^[11] Such an entitlement exists already^[12] in relation to certain types of contract where both parties are acting in the course of a business. Our proposals would apply to a wider range of contracts and in particular to contracts where at least one of the parties is not acting in the course of a business. We propose a general rule that interest should run from the date when payment is due. In relation to contracts for the supply of goods and services we suggest the adoption of the same commencement dates for the running of interest as are used in the 1998 Act, namely the date for payment agreed by the parties or, failing such agreement, 30 days after the later of the day on which the supplier's obligation is performed and the day on which the purchaser has notice of the amount claimed by the supplier.^[13] However, we believe that the rate of interest should simply compensate the creditor and should not be punitive like the rate under the 1998 Act.^[14] We propose that the general rule should also apply to sales and leases of land and to earnings from employment. We suggest that the statutory scheme could be further applied to non-contractual pecuniary claims such as claims based on unjustified enrichment,^[15] claims for salvage,^[16] and claims for aliment.^[17]
1.10      The statutory entitlement which we propose would not apply where the parties have made express provision in their contract in relation to entitlement to interest. In particular, it would remain open to the parties to agree that no interest would be payable on debts due by one party to the other.^[18] Nor would it apply to any circumstances in which provision for payment of interest is made by any other statutory provision. Thus, for example, interest on taxes and duties, and on compensation for compulsory purchase, which is already provided for by legislation, would be unaffected by our proposals.
1.11      With regard to interest on damages, we propose a change in the existing statutory provisions which determine the commencement date for the running of interest. At present the court has a discretion to award interest for any part of the period since the date when the right of action arose and a duty to award interest on damages or solatium for personal injury unless satisfied that there are reasons special to the case why no interest should be given. Under our proposals, this commencement date would be replaced by an entitlement to interest on each head of loss from the date when the loss in question was sustained.^[19] For some types of loss this is not intended to lead to any change from existing practice but we believe that it will clarify the law in relation to others. We invite comment on the extent, if any, to which judicial discretion to award interest from a later date or on a lesser sum should be retained.^[20]
1.12      In Part 7 we address the question of identification of an appropriate rate of interest, bearing in mind our guiding principle that an entitlement to interest should be compensatory and not punitive. We propose that the rate, to be prescribed by statute, should be a specified percentage, say 1%, above the official dealing rate of the Bank of England, but invite views as to whether some other rate would be more appropriate as the basis of the prescribed rate.^[21] We invite comment as to whether the rate of interest payable after decree has been pronounced should also be at the prescribed rate.^[22]
1.13      At present where interest is awarded, both pre- and post-decree, it is almost always simple and not compound interest. Indeed, the existing legislation applicable to interest on damages expressly prohibits the awarding of compound interest. However, compound interest is the accepted method of charging or paying interest in the financial services market. If an entitlement to interest is to be truly compensatory then it ought to be an entitlement to compound interest. In Part 8 of this paper we discuss the arguments for and against the introduction of a statutory entitlement to compound interest^[23] and suggest methods of alleviating the additional complexity of the calculation.^[24]
1.14      The terms of our reference include claims within the jurisdiction of tribunals, or submitted for decision to arbitration, adjudication or some other form of dispute resolution. Our view in relation to tribunals is that the interest-awarding powers of tribunals should generally be excluded from the scope of our proposals and left to be regulated by measures which are tailored to the tribunal in question. We suggest, however, that the rate of interest awarded by tribunals could be aligned with that which we propose for other forms of claim.^[25] As regards arbiters, we invite comment as to whether arbiters' powers to award interest should be the same as those conferred on the courts, or, alternatively, whether arbiters should have a wider discretion in recognition of the less formal nature of arbitration proceedings.^[26] Finally, we invite comment as to whether any change is needed in relation to the interest-awarding powers of adjudicators of construction contract disputes.^[27]

Legislative competence

1.15      The proposals put forward in this Discussion Paper generally lie within the legislative competence of the Scottish Parliament. None of our proposals would result in amendment to any of the enactments set out in Schedule 4 to the Scotland Act 1998 which are protected from modification by the Scottish Parliament. If any of our proposals were to be treated as relating to reserved matters, any implementing legislation would have to be enacted by the UK Parliament.
1.16      In our view our proposals if enacted would not give rise to any breach either of the European Convention on Human Rights or of Community law.
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Note 1   Under the Law Commissions Act 1965, s 3(1)(e).    [Back]

Note 2   Mr John Downie, Head of Press and Parliamentary Affairs, Federation of Small Businesses in Scotland; Dr Lucy O'Carroll, Head of UK Macroeconomics, Royal Bank of Scotland plc; Mr David Stevenson, Solicitor, Thompsons; Mr Michael Wood, Solicitor, Simpson & Marwick; Sheriff James Taylor.    [Back]

Note 3   1997 SC 126 at 133.    [Back]

Note 4   See eg Caledonian Property Group Ltd v Queensferry Property Group Ltd 1992 SLT 738, applying the first rule in Hadley v Baxendale (1854) 9 Ex 341.    [Back]

Note 5   On the basis of foreseeability.    [Back]

Note 6   Eg Consumer Credit Act 1974, s 137 (extortionate credit bargains).    [Back]

Note 7   Ie put in to storage after the case has been concluded or "fallen asleep".     [Back]

Note 8   Of the 87, 61 were cases in which both parties were involved in business. 14 commercial summons actions were also examined, making a total sample of 75 cases.     [Back]

Note 9    Court of Session cases indexed in March 2004. See Appendix C for full details of the research exercise.     [Back]

Note 10   See paras 3.1-3.6.    [Back]

Note 11   See para 4.8.    [Back]

Note 12   Under the Late Payment of Commercial Debts (Interest) Act 1998.    [Back]

Note 13   See paras 4.15-4.17.    [Back]

Note 14   See para 3.19 and Pt 7.    [Back]

Note 15   See paras 6.4-6.11.    [Back]

Note 16   See paras 6.12-6.13.    [Back]

Note 17   See paras 6.25-6.26.    [Back]

Note 18   See paras 4.34-4.38.    [Back]

Note 19   See paras 5.3-5.7.    [Back]

Note 20   See paras 5.21-5.27.    [Back]

Note 21   See paras 7.12-7.22.    [Back]

Note 22   See paras 7.43-7.52.    [Back]

Note 23   See paras 8.22-8.31.    [Back]

Note 24   See para 8.43.    [Back]

Note 25   See paras 10.4-10.6.    [Back]

Note 26   See paras 11.2-11.7.    [Back]

Note 27   See para 11.10.    [Back]