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Banking on the law

Posted on 1 December 2015

Banking on the law

In a major victory for borrowers, the High Court recently upheld a borrower's claim that it was not required to pay RBS a £2.4 million charge to break a fixed rate loan arrangement. The decision goes some way towards addressing concerns over the charges that a bank can claim must be repaid if a borrower wishes to repay a fixed rate loan early.

The case arose from a £9.2 million loan facility that the borrower, Barnett Waddington Trustees (BWT), had taken out to finance the acquisition, development and letting of a property in Worcester. Under the 30-year fixed rate loan agreement, BWT was liable to pay a prepayment fee if it repaid the loan in the first five years, and liable to indemnify RBS against any loss that the bank sustained as a consequence of any prepayment or repayment of the advance – including any cost incurred in unwinding funding transactions undertaken in connection with the facility.

More than five years after entering into the loan, BWT sought to repay it. RBS subsequently informed BWT that the latter would then have to pay an 'interest rate swap termination cost' of around £2.4 million, to indemnify the bank against losses allegedly suffered after it was forced to unwind an internal swap made with another department within the bank.

However, Mr Justice Warren, sitting in the Chancery Division, held that no such sum was payable. The court held that the internal interest rate swap did not qualify as a "funding transaction" under the loan agreement, for which the borrowers were to indemnify the bank. An internal swap, unlike a swap entered into by the bank with a third party, does not protect the bank as such against the interest rate risk it has incurred in relation to the borrower.

He added that, even if the relevant funding transaction was the internal swap taken together with the arrangements with third parties by which the bank managed its risk on a portfolio basis, RBS's argument would not stand. "Whether or not the internal swap is of itself a financial transaction does not depend on the action taken by the bank to protect its commercial position," he said.

It should be noted, however, that this case concerned the termination of the bank's own internal arrangements for hedging its interest rate risk. The borrower accepted that a specific hedging transaction by the bank with a third party, rather than internally, would have engaged the indemnity. Similarly, the judgment did not address the issues of whether the indemnity would have been engaged had the bank entered into external hedging arrangements with third parties on a portfolio basis to fund the internal swap, or had the internal swap been between different legal entities within the bank rather than two different departments.

Regardless, borrowers should always carefully consider the terms of their fixed-rate loan agreements relating to early repayment or termination, and seek advice if presented with demands for payment of large break costs by banks.

For more information please contact James Oldnall.

Barnett Waddington Trustees (1980) Ltd v RBS [2015] EWHC 2435 (Ch)


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