This case was a dispute over a “break costs” clause. The borrower refused to pay the break costs clause arguing that it was a penalty. The bank sought that the defence be struck out as it was “bound to fail”. The break costs clause in question quantified the break costs as being:
“An amount equal to our reasonable estimate of our loss (if any) arising from a break costs event. This loss usually arises because of changes in market interest rates or discount rates between the start of the fixed interest period (or, in the case of a fixed discount rate, the start of a fixed discount period) and when the break costs event occurs.”
The lender had two arguments as to why this was not a penalty:
- Because on its face it intended to compensate the Bank for a real loss and only operates when such a loss has been sustained as a consequence of early repayment;
- Repayment of the loan during the fixed interest period was not a breach of contract and the rule of law in relation to penalties only applies to payments that must be made by a party breaching a contract.
His Honour noted that arguably the contract “envisaged” a fixed interest period so that repayment was a breach. The judge did not give any indication as to how he found the banks first ground was potentially incorrect but dismissed the motion and the bank had to pay the borrower’s costs.