I came across an interesting Legal report on Interest Charged in Simple Contract Claims which explains that there is a huge difference between Interest Rates that can be charged by a financial institution and Interest that can be claimed on an unpaid debt. I will like to explain the difference using the illustration below;
A guy whom I would simply like to refer to as Mr A recently supplied goods worth N100m to a company I will simply refer to as Company X. The terms of the supply was that Company X pay Mr A after 30days. After 6 months of being owed, Mr A informed Company X that he will start to charge them 10% interest flat on the unpaid amount to make up for the time value of money. Company X eventually paid Mr A a year after a sum of N100m. Mr A felt aggrieved and decided to take the Company to court for not paying him the unpaid interest of N10m.
According to the legal advice, Mr A cannot charge interest on the unpaid debt because in the original contract for the supply of the goods, it was not expressively stated that interest will be charged on unpaid sums. What that means is that even if Company X pays him 10 years after, he may not be entitled to interest. Thus he would have lost value on the money received in view of the time value factor. The misconception according to the advice is for businesses to assume interest can be charged for unpaid debts just the way financial institutions do. However, that is not the case as only Financial Institutions can by implication charge interest rate on debt even if it is not explicitly stated. This is quite interesting as it highlights why it is important for businesses to include default terms in their contract arrangements. In fact let us consider another scenario;
“Mr A lends Mr B N1m with a verbal agreement that Mr B pays back the money at an interest rate of 10% flat. Mr B however repays the N1m without any interest. Mr A feels aggrieved and takes Mr B to court.
In this instance as well, Mr A may not have recourse to receiving interest if the report is as implied. This also explains why if you are not a Financial Institution you may not be able to charge any interest if it is not contractually binding. To protect the value of your receivables it may be wise to include explicit statements that ensures that a default in the terms of payments of a supply will attract interest. This ensures that you get compensated for the losses due to time value of money. I have seen this in some invoices.
The report also mentions exceptions to the rule which is also worth considering.
However, sometimes people cannot pay back their loans, and they default on their credit agreements. Several different things can happen, depending on the type of agreement that was in place.