Corporate Litigation / 07.12.2019

Are the Late Fee Provisions in Your Form Contracts Enforceable in Court?

By Justine Lara Konicki

corporateLate fees are common in business contracts. As a business owner, you want to make sure that the party you are contracting with performs in the manner you had bargained. If the party fails to deliver by a certain date, at a certain place or in a specific manner, you negotiate that you are entitled to collect a “late fee.” Late fee provisions are common. You are likely familiar with them in your purchase agreements, where a buyer has to purchase the property by a certain date or pay a fee, or in your commercial loans, where the borrower must make timely payment to the lender or pay a fee.

But Ohio business owners should ensure that the late fees negotiated will be enforceable in court, because a court could later determine that the “late fee” you just negotiated with that potential buyer is an “unenforceable penalty” and refuse to award you the money. And, if you use the same form contract across your business – that one court decision could affect your ability to collect late fees from any of your others customers who signed the form agreement.

How can you ensure that your late fee provision is enforceable? While there are no bright line rules, courts in Ohio generally will look at the language and determine whether the purpose of the late fee was to compensate you for the losses you suffered or whether the purpose was to coerce performance by punishing the other side for failing to perform. A court will award the late fee if the fee was designed to compensate you for your losses. But if the fee was a “penalty,” designed to punish the non-performing party, then the court will not award you the fee.

Generally, courts in Ohio find that a late fee is an unenforceable penalty when it is disproportionate to the damage you have suffered. For example, a $4,500 late fee, when the missed delivery was only worth $250, will likely be considered a penalty. Similarly, if the late fee is 5% of the amount due, and that fee applies equally to monthly installments and the final balloon payment due on a loan, a court may find that the late fee on the installment payment is enforceable (i.e. proportionate) but that the fee on the final balloon payment is unenforceable (i.e. disproportionate).

When considering whether to include a late fee in your contracts, and what kind of fee you should charge, business owners should carefully consider what damage they will incur if they do not receive payment (i.e. storage, processing or logistical costs). The business owner should then set the late fee amount accordingly, so that the fee can later be substantiated, justified and (if needed) awarded as damages by a court. Additionally, and as part of your contract, a business owner should specify that the late fee has been mutually agreed to by both parties, is not a penalty, and may be specifically enforced. Failing to set a proportionate late fee could cost you.

If you have any questions or would like more information, please contact Justine Lara Konicki at jlk@kjk.com or 216.736.7211, or reach out to any of KJK’s Litigation, Corporate or Banking & Finance professionals.

 

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