22 November 2011 by

Is interest at 60% a year lawful? How about 72%?

The South Gauteng High Court in Johannesburg (the Court) faced these questions in the matter of African Dawn Property Finance 2 (Pty) Ltd v Dreams Travel and Tours CC and Others [2011] ZASCA 45; 234/10; 2011 (3) SA 511 (SCA). The Court decided that the provisions of a loan agreement which allowed interest at 5% per month on the outstanding balance and 6% per month if there was a default on the loan, were "unlawful and contrary to public policy". Using as a guide the maximum interest rate permissible in terms of the Usury Act immediately before that Act was repealed by the National Credit Act (NCA), it also found that a fair rate of interest would be 28%.

On appeal, the Supreme Court of Appeals (the SCA) rejected the reasoning of the Court. It found that neither the Usury Act nor the NCA applied to the loan as a result of the particulars of the borrower and because the amount of the loan exceeded the thresholds prescribed for the application of those Acts. The court also noted that the maximum rate of interest permitted by the NCA where that Act applies is in fact 5% per month.

Having established that the relevant statutes did not apply to the transaction, the SCA considered whether there is a common law threshold beyond which a transaction becomes usurious. The long standing test in this regard was described in the following terms: "in South Africa the common law has always been that in order to render a transaction usurious, it must be shown that it is tainted with oppression, or extortion, or something akin to fraud".

Interestingly, the Court had remarked that the applicants had contended for none of those circumstances. Instead of satisfying the requirements, the applicants had chosen to attack the common law rule as being out of step with the spirit, purport and objects of the Constitution.

The judges of appeal had a particular difficulty with the approach of the Court, which simply disregarded the common law requirement. The SCA found that if judges merely decide on a whim whether a particular interest rate is usurious, the constitutional principal of legality is under attack. The SCA said specifically that "it bears restating that our Constitution and its value system do not confer on judges a general jurisdiction to declare contracts invalid on the basis of their subjective perceptions of fairness or on grounds of imprecise notions of good faith. Nor does the fact that a term is unfair, or that it may operate harshly, of itself lead to the conclusion that it offends against constitutional principles."

The SCA found that the common law is consistent with the Constitution and it applied the common law rule by considering whether the applicant had shown that the interest rate that it now objected to was usurious in that it amounted to extortion or oppression, or something akin to fraud.

In coming to a decision on this point, the SCA considered that the applicant enjoyed independent legal and financial advice in the course of the transaction. The SCA also took into account the fact that the applicant was "deliberately cagey and evasive" in respect of the information set out in the original application to the Court, leaving the court to guess at why commercial banks were not prepared to advance a loan at normal interest rates and why the loan was needed at all. The SCA also noted that the applicant had freely entered into the loan and there was no suggestion that it was forced in any way to do business with the respondent. In fact, the SCA found that there was nothing to suggest that the transaction was not an ordinary transaction and that courts should not "interfere with a bargain deliberately entered into by two parties dealing at arm's length with each other merely because [the court] subjectively believes that the rate of interest stipulated was unfair".

The SCA agreed that the rate of interest due on this loan was high but could find no evidence that the transaction was tainted by extortion, oppression or anything akin to fraud. There was accordingly no basis to find that the interest rate was usurious.

In short, unless a loan falls within the limits of the NCA and the rate of interest is regulated by that Act, the common law will apply. The common law says that there is no fixed rate of interest beyond which a transaction is rendered usurious and the test is whether the transaction "is tainted with oppression or extortion, or something akin to fraud". Absent those elements, and once again assuming that the transaction falls outside the NCA, any interest rate freely agreed on is enforceable.

Tim Fletcher

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