“Asset loans” – at very high interest rates – are particularly attractive to financially distressed borrowers who are not eligible to obtain a bank loan.
Those borrowers are often over-optimistic about their own capacity to make high repayments and the lender is rarely interested in that capacity as long as the asset they are putting up as security will cover what will have to be paid in the event of a default.
Once the lender increases the rate – in response to Reserve Bank rises – and other ordinary living costs sharply increase, borrowers can find themselves in an inescapable trap.
In August 2018, Thuc Tran Huynh and Chau Quach borrowed $140,000 from a private lender on second mortgage security over a house in Fairfield.
The loan – which was to finish construction of their own home, also in Fairfield – was subject to interest at 4% per month, compounding monthly and escalating to 6% per month in the event of default.
Unsurprisingly, the borrowers did not repay the principal on the due date in November 2018.
Demands were issued but the mortgage was not registered until September 2019 and recovery proceedings were not filed until September 2022.
Those proceedings claimed an amount which by September 2023 had escalated to almost $1.4 million of which $1.119 million was interest.
In their defence, the borrowers claimed the transaction terms were absent from the documents they signed; that the interest at the higher rate of 6% per month was a penalty and unenforceable; and that the delay in enforcing the mortgage was itself unconscionable given interest was still compounding at 72% p.a.
They also counterclaimed to the effect that the lender’s conduct was unconscionable pursuant to ACL s 21 on the basis that what was said to be an “Asset Lend”, was unfairly designed to increase the borrowers’ debt.
Justice David Davies sitting in the NSW Supreme Court rejected the contentions that a high rate of interest of itself made the transaction unconscionable or that asset lending per se, fall into that category.
“The system of asset-based lending could have been attractive to financially distressed borrowers who were not eligible to obtain a loan in the ordinary way,” he observed.
Such loans, he noted are likely to be “paid off by sale or, far more likely, refinancing”. And if interest is paid upfront, “an enquiry about whether the borrower had sufficient income to service the loan would be pointless”.
He observed though that asset lending may have features that were unjust.
High rates in combination with monthly compounding was a feature that in this case – he concluded – supported a finding of unconscionability, that left it open to the court to grant relief.
The court altered the terms to prevent monthly compounding but allowed the lender to recover the principal plus simple interest at 6% per month, ie 72% per annum for 5 years, $504,000. This was some $600,000 less them the interest the lender claimed but still a whopping amount in comparison to the sum borrowed.
The judge dismissed the argument that the interest rate particulars were missing from the mortgage documents at the time they were signed by the borrowers and the submission that the delay in instituting the recovery proceedings – thereby allowing the lender to continue to charge interest at 6% per month – was unconscionable.
Ledinh Sovereign Super Pty Ltd v CT Stone Pty Ltd [2023] NSWSC 1079 Davies J, 15 September 2023 Read Case
