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You are here: BAILII >> Databases >> The Law Commission >> Pre-Judgment Interest on Debts and Damages (Report) [2004] EWLC 287(1) (23 February 2004) URL: http://www.bailii.org/ew/other/EWLC/2004/287(1).html Cite as: [2004] EWLC 287(1)

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PART I

INTRODUCTION

1.1     In this report, we consider the amount of interest the courts should award on debts and damages in court proceedings. We are concerned with "pre-judgment interest", that is the interest awarded from the day when payment fell due until judgment is entered or payment made (whichever is the earlier). We are not concerned with the different rules that apply "post-judgment" – that is, after judgment has been entered, but the money remains unpaid.^[1]
1.2     At present, the courts' general powers to award interest are set out in section 35A of the Supreme Court Act 1981, and its county court equivalent, section 69 of the County Courts Act 1984. These give the courts wide discretion about the rate of interest to be awarded, but specify that interest must be simple rather than compound.
1.3     Concerns have been raised that limiting the power to award only simple interest fails to reflect commercial reality. Interest is intended to compensate claimants for the cost of being kept out of their money. Yet delay in payment means either that claimants need to borrow or that they lose the opportunity to invest, both at compound rates. In the past, this limitation has been justified on the grounds that it is easier to calculate. At a time of widespread access to computer-aided calculations, this argument no longer carries the force that it once did.
1.4     Our Seventh Programme recommended that "an examination be made of the courts' power to award compound interest" on pre-judgment debts and damages.^[2] The issue had been raised in the 1996 case of Westdeutsche Landesbank Girozentrale v Islington LBC,^[3] in which a bank sought restitution of money paid under a void swap transaction, together with compound interest. A majority of the House of Lords held that the courts had no power to award compound interest. Lord Browne-Wilkinson stated that while he fully appreciated "the strength of the moral claim of the bank… to receive full restitution, including compound interest", judicial law reform in this area would usurp the function of Parliament.^[4] He recommended that there should be a full review of the policy reasons for and against awarding compound interest, so that Parliament could look again at "the whole question".^[5]
1.5     As we carried out our review, it became clear that we could not examine the question of whether interest should be simple or compound without also considering the rate that should be awarded. Usually, the decision over what rate to grant will have a greater effect on the outcome than a decision over whether interest should be simple or compound. At present, there is considerable confusion over the appropriate rate. In practice the courts often use the judgment interest rate of 8% - a rate which has not been changed since 1993, and which is now considerably greater than bank base rates.
1.6     To a limited extent, the courts' tendency to award high rates of simple interest offsets the lack of compounding. This, however, is rough justice. The effect is to over-compensate claimants in most short-running cases, while undercompensating them in the longest cases.
1.7     As well as discussing compound interest, we also consider whether the courts should be given greater guidance on what interest rate to award. Our aim is to reduce the current confusion over rates and to provide for interest at a rate that more closely compensates claimants for the loss they have suffered.
1.8     We published a Consultation Paper on 4 September 2002^[6] and received 39 responses. These were invaluable in alerting us to the practical consequences of our proposals, which we explored further in ten face-to-face meetings. We also examined around 200 county court files to see what interest was currently being claimed. We are very grateful to all those who responded to our paper and who spoke to us about their concerns.

POLICY CONSIDERATIONS

1.9     Awards of interest are designed to compensate claimants for the cost of being kept out of their money. They should put claimants into the position they would have been in had the debt or damages been paid when they fell due. We wish to introduce a system of pre-judgment interest that provides fair compensation to claimants without unduly penalising defendants and which encourages faith in the civil justice system by meeting the legitimate expectations of litigants. On the other hand, we do not wish to increase disputes or legal costs. We consider below the main considerations that have guided our thinking.

Interest should not be seen as a penalty on debtors

1.10     Debt enforcement involves balancing the rights of creditors and debtors. As the Government's 2003 White Paper on effective enforcement puts it, "creditors who have established a legitimate claim should be able to pursue it through a straightforward and accessible system". On the other hand, "debtors who genuinely do not have the means to pay should be protected from the oppressive pursuit of their debts".^[7]
1.11     A recent review of the reasons people fall into debt stresses that most debtors are unable rather than unwilling to pay what they owe: The great majority of people who fall into arrears with their household or credit commitments do so because they are in financial difficulty – resulting from a change of circumstances or living long-term on a low income. Only a minority of people might be considered won't pays, although the proportion generally increases across the debt recovery cycle and is highest among those facing court proceedings.^[8]
1.12     We do not think that it is appropriate to use court interest as a general penalty on defendants, especially when many are genuinely unable to pay their debts. Nor do we wish to use excessive interest payments as a way of discouraging defendants from putting forward legitimate defences. If interest at penal rates is to be introduced, it should be through a clearly defined scheme, such as the Late Payment of Commercial Debts (Interest) Act 1998.^[9] Interest granted through the courts' normal powers should compensate the creditor rather than penalise the debtor.
1.13     We are concerned that the continued routine use of an 8% interest rate means that many individual debtors are paying over the odds for short-term delays in payment, often at times when they face financial hardship. At the same time some claimants are under-compensated for their losses, especially in long-running claims.

Interest should provide fair compensation for claimants

1.14     Our review suggests that, by and large, lawyers pay scant regard to interest. Interest payments are often the last issue to be negotiated. It is common for solicitors and barristers to reach for a convenient sum, applying whatever rate they used last time. Interest payments, however, can be substantial, especially where there have been long delays between the loss arising and the resolution of the dispute. At present, litigants may find that the amount they are awarded in interest bears little relationship to their loss. This can cause resentment. The Bar Council told us that "claimants are justifiably aggrieved to learn that the law has deliberately set its face against awarding compensation for what everyone recognises to be the full extent of their losses".

Interest should be seen to be fair

1.15     The current system of awarding interest is muddled and out-of-date. It is difficult to justify to litigants, and gives the impression that the legal system is living in the past.

The law on interest should minimise the scope for disputes

1.16     The main justification for using simple interest is that it is easier to calculate, and provides fewer opportunities for dispute. Given the recent advances in computer access, we do not think that this is a valid reason for preventing the courts from awarding compound interest. We are, however, sensitive to the need to minimise disputes. It is particularly important that compound interest is calculated in a set way – preferably through a generally available computer programme or authorised tables. If litigants were to carry out their own calculations on a pocket calculator, there would be many opportunities for reaching different results.^[10]
1.17     At present, most interest awards are discretionary, with little formal guidance on how that discretion should be used. We recommend retaining this discretion, but wish to direct and structure it so as to make outcomes more certain.

SUMMARY OF RECOMMENDATIONS

1.18     The report makes two main recommendations, each designed to enable the courts to compensate claimants more accurately for being kept out of their money.

(1) There should be a specified rate set each year at 1% above the Bank of

England base rate. This would be a useful starting point, though we think

that the courts should have a discretion to depart from the rate where there

is good reason to do so.

(2) The courts should have the power to award compound (rather than

simple) interest in appropriate circumstances. In broad terms, we think that

compound interest is usually appropriate in large cases, and recommend

that in payments of £15,000 or more there should be a rebuttable

presumption in favour of compound interest. For payments of less than

£15,000 the rebuttable presumption would be that interest is simple.

1.19     In order to keep the interest calculations as simple as possible, we recommend that the Court Service should design a computer programme to calculate compound interest, and make it freely available on their website. The Court Service should also provide tables for those without access to computers, which would be particularly useful in court or in the court corridor.

THE EFFECT OF OUR RECOMMENDATIONS

1.20     In consumer claims, the introduction of a specified rate will result in small reductions of interest over large numbers of cases. In Part III we estimate that it will affect over 100,000 consumer debt actions a year, leading in most cases to a reduction of less than £10. Given that most consumer claims are relatively small and quick, compound interest will have little effect on them.
1.21     In business debt cases, our proposals will have less effect because most debts for the supply of goods and services fall within the ambit of the Late Payment of Commercial Debts (Interest) Act 1998. The main effect will be in commercial damages claims, which are not covered by the 1998 Act. In short county court damages claims, most interest payments will be reduced. However, in larger longrunning cases of more than 10 years' duration, the introduction of compound interest will result in increases in the interest awarded.
1.22     In most ordinary personal injury claims, there will be small reductions in interest. The increases will be in the longer cases. The main effect will be in the longest cases, which involve delays of 15 years or more from loss to settlement or trial. Here the difference between simple and compound interest becomes significant, and interest payments will increase substantially.
1.23     In practice, most of the very old cases are actions for clinical negligence brought by children or those under disabilities, where the normal limitation periods do not apply. We estimate that the introduction of compound interest will add between £20 million and £25 million a year to the cost of clinical negligence claims. Mostn of these costs would be met from public funds. Although we think that the introduction of compound interest to such cases is right in principle, it is up to the Government to decide how far it represents a priority for public expenditure. It would be possible to delay the introduction of compound interest to the clinical negligence field until the present backlog of long-standing cases has been resolved.

STRUCTURE OF THIS REPORT

1.24     The report is divided into ten parts:

(1) Part II outlines the existing law.

(2) Part III argues that there is a need to set a "normal" interest rate, to be

used unless there is a good reason to depart from it. It considers what that

rate should be

(3) Parts IV, V and VI discuss compound interest. We start with the issue of

principle: should the courts have a power to award compound interest? We

then go on to examine the scope of the power and how compound interest

should be calculated.

(4) Part VII looks at the specific issues that arise in personal injury cases.

(5) Part VIII deals with offers to settle made under Part 36 of the Civil

Procedure Rules.

(6) Part IX considers the transitional arrangements.

(7) Part X lists our recommendations.

1.25     This is followed by a draft Bill (in Appendix A). Appendix B sets out the main existing legislative provisions (that is, section 35A of the Supreme Court Act 1981 and section 69 of the County Courts Act 1984).
1.26     Subsequent appendices include information on the likely impact of our proposals. Appendix C shows the results of a county court data collection exercise, designed to illustrate the approach county courts currently take to interest. Appendix D uses existing data to consider the likely effect of our proposals, while Appendix E looks in more detail at the effect of our proposals on clinical negligence claims.
1.27     Appendix F gives examples of what our recommended compound interest tables would look like. Finally Appendix G lists the respondents to our consultation paper.

Note 1   For a brief description of post-judgment interest, see para 2.1, below.    [Back]

Note 2   Item 4, Seventh Programme of Law Reform (1999) Law Com No 259, p 11.    [Back]

Note 3    [1996] AC 669.    [Back]

Note 4   Ibid, at p 717.    [Back]

Note 5   Ibid, at p 718.    [Back]

Note 6   Compound Interest (2002) Consultation Paper No 167.    [Back]

Note 7    Lord Chancellor’s Department, Effective Enforcement: improved methods of recovery for civil court debt and commercial rent and a single regulatory regime for warrant enforcement agents (2003) Cm 5744, para 1.1.    [Back]

Note 8   N Dominy and E Kempson, Can’t Pay or Won’t Pay? A review of creditor and debtor approaches to the non-payment of bills (2003) Lord Chancellor’s Department Research Series 4/03, p 5    [Back]

Note 9   See paras 2.37 – 2.43, below.     [Back]

Note 10   The most obvious potential for dispute lies in the choice between annual, quarterly, monthly or daily rests. Other choices lie between set date and anniversary compounding, and in whether February is treated as a twelfth of a year or 28 days.    [Back]