In commercial loans, the loan documents generally require the borrower to pay a late fee (usually a percentage of the late payment) if a scheduled periodic payment is not made on time or within some designated grace period. Generally, these are permissible to compensate a lender for its administrative costs in processing the late payment and the short-term loss of use of the amount of the payment. But what if, rather than a late monthly or other regular payment, the loan matures and there is a large balloon payment due or the lender accelerates the loan after default? Can the lender charge a late fee? This alert considers these questions in New York State and Connecticut.
Before discussing the specific scenarios, several fundamental concepts must be understood:
- The right to impose a late fee is strictly contractual. A lender may not impose a late fee unless the note or other debt instrument specifically authorizes it to do so.
- While generally permitted, late fees are considered to be a form of liquidated damages to compensate a lender for the extra time and effort required to address a borrower’s tardiness in making payments. Therefore, the fees must be reasonable in amount or percentage. If found to be excessive, they may be declared void as an illegal penalty.
- Until a firm rule is established by a state’s highest court, variations and aberrations in interpretation may occur as a result of ambiguities in contractual language, difference in judicial philosophy or disposition, and other unpredictable factors.
After Acceleration, May Late Fees Continue to Accrue on Unpaid Periodic Payments?
If a lender accelerates a loan after default, the entire balance due (principal, interest, late fees, etc.) becomes immediately due and payable. In these situations, it sometimes occurs that, notwithstanding the acceleration, the lender continues to send the borrower regular monthly billing statements as if there had been no acceleration. Can the lender collect late fees if these statements are not paid?
Case law in New York State and Connecticut provides a clear answer. A lender’s acceleration of the entire balance of a loan terminates the borrower’s duty to make periodic payments. Consequently, the lender may not assess or collect late fees for missed post-acceleration payments.i
May Late Fees Be Assessed on the Full Principal Balance After a Loan Has Been Accelerated?
Once acceleration has been declared, late fees may not be recovered on the accelerated balance. In that regard, in New York State, one appellate court has stated that after acceleration of a note that requires a borrower to pay periodic payments, the lender is entitled to all unpaid principal, plus the sum of the late fees that had accrued through the acceleration date, plus interest at the note rate on the principal portion of each unpaid periodic payment from its due date through the acceleration date, plus interest thereafter through the date judgment is granted. In Connecticut, courts have repeatedly held that a lender may not claim or recover late fees after it has accelerated and demanded payment of the balance owed on a debt instrument; no late fees are due after that date.
May Late Fees Be Assessed on a Past Due Balloon Payment?
In New York State, there is trial court–levelii authority that late fees may not be assessed on a balloon payment due at the end of a mortgage term. However, a later appellate-level decision held that if a mortgage states that a late fee applies to “any payment” required by the mortgage, the provision must be construed to include a matured balloon balance. To the contrary, the Connecticut Superior Court has held that a contractually imposed late fee of 4 percent on a balloon payment was “exorbitant” and unenforceable as a “penalty.”
As the preceding paragraphs illustrate, with a few possible exceptions, late fees are generally not collectable on periodic payments invoiced after acceleration, on an accelerated balance, or on a balloon payment due at maturity.
iThere is a possible exception in New York State. A New York State appellate decision seems to indicate in passing, not the actual ruling, that late fees for nonpayment of installments claimed to be due after acceleration might be enforceable if the loan documents actually provide for them. The presence of this type of provision in loan documents is highly unlikely.
iiThe Supreme Court of the State of New York is the trial-level court of general jurisdiction in the New York State Unified Court System.
Barclay Damon’s Restructuring, Bankruptcy & Creditors’ Rights Practice Area issues alerts on an ongoing basis to keep clients and friends up to date on important developments in the insolvency space. If you have any questions regarding the content of this alert, please contact the author, Frank Heller, partner, at fheller@barclaydamon.com; Janice Grubin or Jeff Dove, co-chairs of the Restructuring, Bankruptcy & Creditors’ Rights Practice Area, at jgrubin@barclaydamon.com and jdove@barclaydamon.com, respectively; or Robert Wonneberger, partner, at rwonneberger@barclaydamon.com.