Delayed Payment Penalties:

Question: When is a late fee on a debt contract illegal in Ontario and Canada?

Answer: A late fee may be illegal if it functions as disguised interest that pushes the effective annual charge beyond the legal maximum under Criminal Code, R.S.C. 1985, c. C-46, s. 347, and courts can treat “late fees” as interest because it’s really the cost of extending credit on an overdue balance.  For example, a flat $10 late fee on a $100 payment that is only a week overdue can translate into a very high annual interest rate and be unenforceable when first imposed.  Garland v. Consumers’ Gas Co., [1998] 3 S.C.R. 112 confirms that overly high interest terms are unlawful, and courts may also uphold a contract’s clause only if a severability term and the facts support splitting lawful from unlawful parts.  There is also a limited exception if the charge genuinely correlates to actual disbursement costs for collecting the debt rather than marking up the debt itself, as described in De Wolf v. Bell ExpressVu Inc., 2009 ONCA 644.  If you’re dealing with an allegedly unlawful late fee or contract penalty, Vescio Legal Services (paralegal debt and repayment assistance) can review your contract and numbers quickly, call (416) 400-8255.

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When Is a Late Fee An Illegal Penalty

A business will sometimes use the threat of additional fees as a financial motivator to encourage customers to make timely payments; however, a contract may become unlawful and unenforceable if a contract contains an illegal late fee.  A late fee is illegal, if the amount violates the Criminal Code, R.S.C. 1985, c. C-46, section 347, wherein it is prescribed that charging interest rate beyond a rate of sixty (60%) percent per annum is a criminal act.   A contract prescribing an interest rate that exceeds the sixty (60%) percent is an illegal contract; Garland v. Consumers' Gas Co., [1998] 3 S.C.R. 112; albeit, if the contract contains a severability clause, then such a clause may preserve the complete contract from becoming void.

While a business may attempt to disguise interest as a late fee, courts will view a late fee for what a late fee is - an interest charged as an additional amount of money due, and arising from, the extension of credit for an outstanding balance of monies owed.  An exception applies if it is shown that the late fee genuinely correlates to the recovery of a disbursement cost incurred in the collection of the debt rather than as an additional fee correlated to the further advancement of the debt; De Wolf v. Bell ExpressVu Inc., 2009 ONCA 644; Garland, supra.

As an example, consider the business that charges a ten 00/00 ($10.00) dollar late fee when a monthly payment of one hundred 00/00 ($100.00) is overdue by seven (7) days.  This late fee actually calculates as a ten (10%) percent additional charge upon the actual amount due.  This ten (10%) percent late fee imposed upon a one week overdue account produces an exorbitant, and unlawful, five hundred twenty (520%) percent annual interest rate.  Note that the fact that this interest appears lower, and actually does calculate lower, over a greater period of time, it is the trigger date that causes the unlawfulness.  While the $10.00 late fee charged on the 7th day is unlawful, it might appear that if six months later the same $10.00 is still outstanding that the amount, by then, is a lawful twenty (20%) percent interest; however, the very fact that the amount was unlawful when originally imposed continues to make the amount unlawful.  What was at first unlawful fails to become lawful.

Conclusion

When an agreement contains a clause for late fees or other form of delayed payment penalty, such is viewed as an attempt to charge interest on monies due.  Where the late fees, as a disguised interest, calculate to an interest rate beyond the legally allowable interest rate, the late fees are viewed as unlawful.  Furthermore, even if the interest rate may be legal, late fees or a payment penalty that goes beyond the costs of recovering the genuine amount due are, generally, deemed unenforceable.