UK lender wins landmark fixed-rate loan litigation over break fees

The long-running case was about bank customers who borrowed money in the pre-global financial crisis era and paid it back before the end of the loan term in the low interest rate era.

The claimants in the case, four small businesses, alleged that NAB and Clydesdale falsely and unlawfully demanded break fee costs when they repaid their loans early. However, the English High Court ruled that the lender had been entitled to charge break costs and it had not acted wrongfully when it presented the pricing for the loans to the claimants.

Banking litigation expert Mike Hawthorne of Pinsent Masons said: “The decision in this case was a test case for around 900 possible cases against Clydesdale Bank. This issue also arose at the same time as small business borrowers who had fixed their interest rate using swaps were in focus for the FCA. There was an FCA supervised redress process for the borrowers with swaps, an area that sees a lot of litigation activity. But fixed-rate loan business borrowers who experienced much the same economic consequences as the swap customers did not qualify for any regulatory redress”.

The claimants’ claims against Clydesdale in this case fell into two main parts. The first part related to the break costs charged by the lender to the claimants. The second related to the fixed element in the rate of interest charged under the loans.

At the heart of the break costs claims was the claimants’ contention that Clydesdale was not entitled to charge break costs in the way that it did. The claimants argued that Clydesdale’s standard terms could be read as saying that the break cost that Clydesdale was entitled to charge would be limited to the cost to Clydesdale of terminating whatever interest rate hedging it had in place for the customer’s particular loan. But because Clydesdale in fact hedged its fixed rate loan book on an aggregated basis, the borrowers claimed there was no loan-specific hedge for any single loan. In the judgment, Mr Justice Zacaroli concluded that the lender had contractual entitlement to charge the break costs and calculated its loss it had done.

According to Hawthorne, the more interesting parts of the case concern the customers’ alternative claims in misrepresentation and unfair relationships, in particular to do with the way the bank presented the pricing for the loans.

The pricing was split between the fixed rate and the margin that was charged on top of the fixed rate. The claimants said that presenting the overall price in this way amounted to an implied representation that the fixed rate was the bank’s cost of funds and that the margin represented the bank’s income on the loan. However, in fact, the fixed rate represented the current swap rate, an additional amount which was typically 50 basis points (bps). The borrowers also said that this 50bps margin, that they alleged had been concealed, rendered the lending relationship unfair.

The judge held that the lender did not make those misrepresentations, as the facts did not bear out the allegation that by presenting fixed rate plus margin the bank impliedly represented that the margin was its only income. The judge said that “the reasonable customer would not have been thinking about how [Clydesdale Bank] had arrived at the Fixed Rate or what it comprised”.

The judge also made some important observations about the pleading basis for claims in implied misrepresentation. He said that “legal ingenuity might establish that all sorts of other statements are to be implied from the words and conduct of a representor, but unless the representee was led to the same conclusion at the time, a claim in misrepresentation cannot be made out”.

For example, one of the claimants' arguments was that the implied representations arose from the provisions relating to ‘margin’, ‘fixed rate’ and ‘fees’ in the facility letter, or from the dictionary definitions of "cost of funds" or "margin". The judge clarified that “unless a representee had read those provisions or knew of those definitions at the time, however, and was led by them to believe that they gave rise to the implied representations, they cannot be relevant to establishing the claim so far as that representee is concerned”.

On the question of unfair relationships, the court decided that, given the facts of the case, even if the 50bps added value (AV) was an additional margin that should have been disclosed, the non-disclosure would not have made the relationship unfair.

“Unfair relationships cases are always fact-dependent because the focus is on the relationship between the lender and the borrower with regard to the individual features of the particular borrower. Undisclosed commissions which render a product especially expensive for a consumer are likely to render a lending relationship unfair, but as the ruling demonstrates the same analysis doesn’t extend to non-disclosure of the elements which go into pricing overall. Some principles can be extracted by looking at the factors which led the judge to the conclusion,” said Hawthorne.

Those factors, as highlighted in the judgment, include that these were business borrowers, who are more sophisticated; that a reasonable customer would expect the bank to make a profit on the loan and the “additional” income from the AV was not very large compared to the total interest cost; that the borrowers received the benefits of fixed rates in exchange for the overall rate they paid; there was a competitive market for small business lending where customers either did or could have sought prices from other banks, and Clydesdale’s pricing was at the lower end of the available market for the customers in this claim; and the fact that the bank staff had discretion to charge less than 50bps did not in the context of a competitive market make it unreasonable for them to try to get the full 50bps whenever they could.