Past due interest creates judicial minefield
by Tran Si Vy and Cam Van Nguyen, Leadco Legal Counsel Provisions on the interest that can be collected on past due debts, as contained in the current Civil Code and Commercial Law, are vague and inconsistent, creating challenges for the court system to determine proper calculations of damages. In order to resolve this issue, lawmakers need to review these provisions and establish a uniform method of calculation for interest on past due debts.
On December 31, 2001, the State Bank of Viet Nam issued Decision No1627/2001/QD-NHNN, which provided that "the interest rate for overdue debt must be fixed by the credit institution and agreed by the client in the credit contract, and it shall not exceed one hundred and fifty (150) per cent of the interest rate applicable during the loan term." Thus, if the interest rate were 6 per cent per month during the loan term, then the overdue interest rate could not exceed 9 per cent per month.
The Civil Code, which was revised in 2005, set out a different approach to calculating interest on past due debts, requiring that interest be set according to the basic interest rate announced by the State Bank of Viet Nam, currently equal to 14 per cent, the maximum deposit interest rate that can be paid by commercial banks.
In general practice, a commercial bank usually sets the interest rate for deposits lower than the interest rate for bank loans. The interest rate for deposits may be 14 per cent while the interest rate for bank loans can be anywhere between 20 per cent and 25 per cent. As a practical matter, credit institutions do not generally lend money with an interest rate that is lower than the rate of capital mobilisation, much less the basic interest rate.
Section 2 of Article 305 of the Civil Code states that "where the payment of money by the obligor is late, he or she must pay interest on the late amount for the period of the delay at the basic rate announced by the State Bank at the time of payment, unless otherwise agreed by the parties or provided by law."
Accordingly, when an outstanding debt has generated interest and the parties involved have not agreed to a fixed interest rate, the obligor is automatically liable to pay interest at a rate equal to the basic rate set by the State Bank.
Section 2 of Article 305 therefore favours the obligor. It fails to function as a sanction on the obligor for failure to make timely payments. This is because the basic interest rate set by the State Bank is far lower than the prevailing interest rates charged by commercial banks for loans. It is therefore in the obligor's interest to intentionally delay payment. The obligor is strategically in a better position by delaying payment rather than by obtaining a new loan from a commercial bank to pay a past due debt.
Meanwhile, Article 306 of the Commercial Law provides that "if the defaulting party delays in making payment for goods or services and any other reasonable fees, the aggrieved party has the right to demand interest on the delayed payment at the average interest rate applicable to overdue debt in the market at the time of such payment for the delayed period, unless otherwise agreed by the parties or provided by law."
Needless to say, it is difficult for the parties involved and or even a court to determine the average interest rate applicable to an overdue debts on the market. Which banks' interest rates should be taken as a reference? How many bank interest rates should be used to calculate the average?
As a sanction, however, Article 306 of the Commercial Law works better than Article 305 of the Civil Law. When the average interest rate is high, the obligor would choose to pay past due interest based on the basic interest rate rather than the average market interest rate. Currently, the average is taken from interest rates of various credit institutions and is generally about 150 per cent of lending interest rates.
Courts have not taken a uniform approach in applying either the Civil Code or Commercial Law. A review of some cases highlights the Court's inconsistent application of the law.
Case 1: Under Verdict No386/2007/DSKT dated September 17, 2007, with regard to delayed payment under a civil contract, the People's Court of Hoc Mon District calculated past due interest by multiplying the loan rate by 150 per cent. This method of calculation exceeded the standard set forth in Article 305 of the Civil Code, which states that the overdue interest is the basic interest rate announced by the State Bank of Viet Nam. On appeal, with Verdict No421/2008/DS-PT dated April 29, 2008, the People's Court of HCM City reviewed the contract and based the calculation of past due interest on the loan interest rate.
Case 2: Under Verdict No1200/2008/KDTM-ST of August 11, 2008, the People's Court of HCM City relied on Article 306 of the Commercial Law, but still applied an incorrect calculation of past due interest. While Article 306 provides that overdue interest is based on the average interest rate applicable to overdue debts on the market, the court applied the loan interest rate multiplied it by 150 per cent rather than the average market interest rate. The judgment therefore failed to follow the provisions of the Commercial Law.
Case 3: In Verdict No801/2008/KDTM-ST of June 3, 2008, the People's Court of HCM City applied the overdue interest rate announced by the State Bank of Viet Nam rather than the "average interest rate applicable to overdue debts in the market" as required by the Commercial Law.
Case 4: With Verdict No1743/2007/KDTM-ST of September 20, 2007, the People's Court of HCM City purported to apply Article 306 of the Commercial Law but did not provide a formula for the calculation of overdue interest. The court simply set a fixed rate for the overdue interest.
The calculation of past due interest by courts is therefore inconsistent with either the Civil Code or the Commercial Law.
The laws themselves are irrational, as past due interest based on the basic interest rate set forth by the State Bank of Viet Nam is too low to protect the aggrieved party, setting a rate insufficient to function as a sanction.
While Article 306 the Commercial Law appears to be more rational, the calculation of overdue interest it requires is complicated in practice. In many cases, courts do not arrive at a clear formula for the calculation of overdue interest because the criteria is so vague. In these cases, the average interest rate is not based on the market, but on the perspectives of judges. Lawmakers therefore need to review these provisions in the Civil Code and Commercial Law and provide a uniform method of calculation.