Monday, February 15, 2010

Carefully Drafted Agreements are a Paramount Necessity

When drafting an agreement it is vitally important that the goal is to set forth language that is indisputable. While this may be an impossible goal, careful drafting of the terms can limit expensive costs of collection.

A good example of the issue occurred in the recent case of Cranberry Fin. v. S&V P'ship, 2010 Ohio 464. In that case the parties entered into a promissory note and mortgage. The mortgages recited three properties as collateral for the notes. Sometime after the agreements were drafted the notes and mortgages were rewritten. One of the properties was mistakenly omitted from the subsequent agreements. But, the second agreement contained the following language:

"COLLATERAL. Borrower acknowledges this Agreement is secured by a Mortgage dated April 27, 2001, to Lender on real property located in Huron County, State of Ohio, all the terms and conditions of which are hereby incorporated and made part of this Agreement.”

"CONTINUING VALIDITY. Except as expressly changed by this Agreement, the terms of the original obligation or obligations, including all agreements evidenced or securing the obligation(s), remain unchanged and in full force and effect. * * *."

The Plaintiff sought judgment on the notes and foreclosure of all three properties against the Defendant and two individuals that were personal guarantors. The guarantors claimed the omission of the one property precluded the Plaintiff from foreclosing on that property.

While the court ultimately sided in favor to Plaintiff, due to the terms quoted above, one can only imagine the cost of litigation in having to try and appeal this matter because the drafter of the second agreement was not careful in their rewrite of the agreement.

Proper drafting is a key to limiting the cost of litigation. As this court stated:

“A promissory note is a contract and rules of contract interpretation apply to the interpretation of promissory notes...If a contract is clear and unambiguous, then its interpretation is a matter of law and there is no issue of fact to be determined...If, however, an ambiguity is present such that parol evidence is necessary to resolve the ambiguity, a factual determination of intent or reasonableness may be necessary to supply the missing term. The fact-finder may also examine the surrounding circumstances of the transaction to determine the parties' intent...It is axiomatic that contracts -- including promissory notes -- are construed against the drafter... The rule is well established that where there is doubt or ambiguity in the language of a contract it will be construed strictly against the party who prepared it...In other words, he who speaks must speak plainly or the other party may explain to his own advantage."

Luckily for the Plaintiff, there was sufficient language in the subsequent agreement to protect its secured interest in the omitted property. But, the failure to carefully draft the subsequent agreement severely increased their cost of collection.

Saturday, February 13, 2010

Can I Charge Interest

Many clients ask if they can charge interest to customers if invoices or statements are not paid within the time period set forth on the statement or invoice. The simple answer is yes. But when you can charge and how much you can charge is the question.

Simply saying a “a service charge on unpaid balances” is insufficient. ORC 1343.03(A) provides that a creditor is entitled to interest at the "legal rate" of interest on any money due on an account "unless a written contract provides a different rate of interest...." Under Ohio law, the annual rate of interest is determined each year by the Ohio Tax Commissioner. The creditor is permitted to charge this rate of interest unless the contract entered into between the creditor and their customer calls for a greater rate of interest.

So, for example, if your invoices state you will charge interest at the rate of 1½ percent per month (18% per annum) on any unpaid balance, a court will not enforce this rate unless the original contract calls for that interest rate. Otherwise, a court will only permit the interest rate prescribed by the Ohio Tax Commissioner. This year the rate is 4%.

So, if you intend to charge interest on the unpaid balance owed by customers, the maximum rate you can charge is the rate set by the Ohio Tax Commissioner each year. If you wish to charge a higher rate, you must set that rate in your contract with the customer.

This brings us to the discussion of compound interest. The rate set by the tax commissioner is simple interest. Therefore, you are not permitted to charge interest on the interest previously added to the balance unless your contract states otherwise.

The recent case of Mayer v. Medancic, 124 Ohio St. 3d 101, is a perfect example of this issue. In that case three creditors foreclosed on a debtor’s home and charged compound interest on the promissory notes signed by the debtor. None of the notes stated that the interest rate would be compounded.

In its opinion the court stated, “Simple interest is calculated only on principal and not on accumulated interest. Compound interest, on the other hand, is paid both on the principal and the previously accumulated interest. In other words, simple interest does not merge with the principal and thus does not become part of the base on which future interest is calculated.”

The court went on to say, “Because R.C. 1343.02 does not provide for it, compound interest is not available upon a default on a written instrument absent agreement of the parties or another statutory provision expressly authorizing it. However, upon a default on a written instrument, simple interest accrues on the entire amount owed, which includes both the principal and interest due and payable at that time.

Therefore, if your statement or invoice states a given rate of interest will be charged on the unpaid balance:

1. The interest rate can not be more than the simple interest rate set annually by the tax commissioner unless it is set forth in the contract between you and your customer, and

2. Can not be compounded unless it is set forth in the contract between you and your customer.