Default interest in loan agreements: The Court of Appeal provides further guidance

The Court of Appeal in Houssein v London Credit ([2026] EWCA Civ 830) has provided important guidance on three issues of relevance to secured lending transactions:

• the enforceability of default interest rates which are above market standard;
• the scope of a lender’s legitimate commercial interests in setting those rates; and
• the requirements for a valid tender to stop interest accruing on a loan.

This Expert Insight examines the Court of Appeal’s decision and the key takeaways for lenders and borrowers.

Background

London Credit Limited (Lender) advanced a bridging loan of £1.88m to CEK Investments Limited (owned by Mr and Mrs Houssein and who were also its directors) (Borrower), which was secured over several investment properties and the Housseins’ family home. The Lender later alleged a breach of a non-occupation covenant relating to one of the secured properties. A failure by the Borrower to rectify that breach led to the Lender declaring an event of default under the facility agreement and demanding immediate repayment of the loan. The terms of the facility agreement provided for default interest to accrue at the rate of 4% per month (four times higher than the standard rate), compounded monthly, following the occurrence of an Event of Default and/or if the Borrower failed to repay any amount payable by it on its due date.

The Borrower argued, inter alia, that the default rate was a penalty and so unenforceable.

We discussed the facts of the original proceedings in the High Court ([2023] EWHC 1428 (Ch)) and the subsequent decision of the Court of Appeal ([2024] EWCA Civ 721) in a previous Expert Insight. To briefly recap, at first instance, the High Court held that the default interest rate was an unenforceable penalty as it did not protect the legitimate interests of the Lender. The Lender appealed that decision and the Court of Appeal held in 2024 that the High Court judge had been wrong in his approach as to whether the default interest rate constituted a penalty. However, the court decided that, due to their limited knowledge of the evidence presented at trial, it would remit the question back to the High Court. 

The key question at the remitted hearing ([2025] EWHC 2749 (Ch)) before Mr Richard Farnhill (sitting as Deputy Judge of the Chancery Division) was whether “having regard to the legitimate interest in the performance of the primary obligation, the default interest provision is extortionate, extravagant or unconscionable in amount or effect.” The judge had to carry out an evaluation of the Lender’s legitimate interests and consider whether, in relation to any of those legitimate interests, the default rate was “out of all proportion”. The judge accepted that the Lender had multiple legitimate commercial interests protected by the default rate. Whilst he acknowledged the evidence presented before him that the default rate exceeded the market norm, he concluded that it was not “extortionate, extravagant or unconscionable” on the facts of the case to attach the higher rate to those legitimate interests.

Court of Appeal decision

On appeal to the Court of Appeal ([2026] EWCA Civ 830), Lord Justice Lewison said that there were three issues for the Court of Appeal to consider:

What must a borrower under a secured loan do, short of actual repayment, to stop interest accruing on the loan?

In this case, the Borrower relied on three letters its solicitors had sent to the Lender’s solicitors arguing that its offer of refinance from a new lender therein was sufficient to amount to a tender. Therefore, liability to pay interest on the loan would be extinguished from the date when redemption of the loan would have taken place in accordance with the offer of refinance.

Lord Justice Lewison considered the equitable principle of tender whereby interest will stop accruing on a loan, even though that loan has not actually been repaid, if it has been tendered (i.e. the lender could have had the money at the date of tender but declined to take it). For a tender to be valid, it must go beyond a simple offer to repay. The sum for payment must be set aside in some way so that it is treated as the lender’s money to be had on demand (Shearer v Spring Capital Ltd).

Lord Justice Lewison held that, in the context of a refinance, interest continues to run until the new lender releases the funds. In the same way, if a borrower intends to discharge the mortgage on a sale of a property, interest will continue to run until completion of the sale. The judge said it would undermine the essential bargain between a lender and borrower for interest on a loan to stop running when the borrower still has use of the lender’s money, and where the lender has neither received payment nor the opportunity to apply immediately available funds towards satisfaction of the debt. He further clarified that it might be the case that a binding commitment from a new lender to lend (albeit conditional on the release of security) would be enough to constitute available funds, but this was not the case here.

Lord Justice Lewison explained that the three letters which the Borrower’s solicitors had sent to the Lender’s solicitors fell far short of constituting valid tenders for the following reasons:

• the offers of refinance were conditional upon settlement of the default interest dispute;
• the letters gave no firm date for redemption; and
• the Borrower had not accepted the offers of finance and the offers themselves were conditional. 

Was the default interest rate in this case a penalty?

The Court of Appeal held that the Borrower had failed to demonstrate an identifiable flaw in the High Court’s decision which would entitle an appeal court to overturn its judgment.

The judge had correctly considered whether the default rate was a penalty by applying the three-stage test confirmed in the 2015 Supreme Court case of Cavendish Square Holding BV v Makdessi, as detailed in a previous Expert Insight. Applying that test to the facts of this case, the judge was correct to find that the default rate was not a penalty because:

• the default rate was a secondary obligation triggered on the breach of a primary obligation (i.e. it became payable upon the occurrence of an Event of Default under the loan agreement);
• the Lender had legitimate interests which the default rate was intended to protect. For example, a legitimate interest in:
  • repayment of the loan;
  • the representations and warranties in the loan agreement being true and correct in all material respects (it was central to the structure of the loan agreement in this case that they were true, otherwise the Lender was under no obligation to advance funds);
  • the security being both intact and realisable to meet any unsatisfied obligations of the Borrower; and
  • primary obligations that go to preserve a borrower’s ability to repay the debt when due (so called ‘Credit Risk Interest’); and
• the default rate was not extortionate in relation to each of the legitimate interests identified by the judge. Makdessi requires the court to look at what an objective party would have thought at the time the loan agreement was entered into. In this case, the prospect of successfully refinancing the property portfolio (the intended exit route for this bridging facility) was precarious and could be derailed by anything that pushed up the interest rate at which a new lender would be prepared to lend. It was therefore not extortionate for the Lender to attach an above market default rate to its legitimate interests.

Lord Justice Lewison further clarified that the test is not whether the lender’s legitimate interest is “adequately” protected, as this would resurrect the now discarded “pre-estimate of loss” test. Rather, the question is whether the default rate is “out of all proportion” to the lender’s legitimate interest.

If it was a penalty, is the lender nevertheless entitled to statutory interest on the outstanding debt?

This question was not considered by the Court of Appeal considering Lord Justice Lewison’s finding that the default rate was not a penalty.

Key takeaways

The Court of Appeal’s decision in Houssein v London Credit confirms that it may be commercially justifiable to charge a default interest rate above market norms if this is supported by identifiable legitimate commercial interests and not out of proportion to those interests. The more clearly a lender can demonstrate the connection between the default rate and specific credit risks at the point of origination, the stronger its position will be if the rate is later challenged.

The decision also provides a clear warning to borrowers seeking to halt the accrual of interest through tender. The tender must be more than a mere offer to repay - the money must be set aside so that it is readily available for the lender to take at any time. Conditional offers of refinance, offers without a firm redemption date and offers that the borrower itself has not accepted will not suffice.