Do incentives for prompt payment in a mortgage, which would be
lost on default, run afoul of the prohibition against penalties for
non-performance contained in s.8 of the Interest Act? The Alberta Court of Appeal recently split over
this question, with the majority saying no. This case could
affect the structure of mortgages in Alberta, encouraging the use
of "non-penal" devices to ensure performance that may be
difficult to distinguish, in operation, from penalties.
This appeal considered whether two mortgage renewal agreements
violated s.8 of the Interest Act. Section 8 applies
specifically to mortgages on real property and hypothecs on
immovables, and prohibits any "fine, penalty or rate of
interest... that has the effect of increasing the charge
on the arrears beyond the rate of interest payable on principal
money not in arrears."
The appeal concerned two renewals of a $27 million mortgage. The
first renewal charged interest at a rate of 3.125 per cent per
annum, which increased to 25 per cent one month before
When the mortgagor did not repay, the parties entered into a
second renewal. The second renewal provided that interest
would be calculated at a rate of 25 per cent, but the difference
between that and the "pay rate" of 7.5 per cent or prime
plus 5.25 per cent would be added to the principal each month and
ultimately forgiven if there was no default before maturity. The
mortgagor defaulted before making any payments under the terms of
the second renewal.
The Master declared that the first and second
renewals violated s.8 of the Interest Act. On the
mortgagee's appeal to the Court of Queen's Bench,
Romaine J. found that the first renewal did not offend s.8 because
the interest rate increased due to the passage of time, not on
default. She also upheld the 25 per cent rate under the
second renewal, because s.8 did not restrict the parties'
freedom to contract for that rate and did not prohibit discounts or
incentives. She did find that a $556,000 renewal fee and $10,000
per month default administration fee offended s.8 because they were
penalties that were only payable on default.
The mortgagors, guarantors and subsequent encumbrancers
The majority of the Alberta Court of Appeal agreed with Justice
Romaine. Justice Berger, in his dissent, would have allowed
the appeal because the "incentive" in the second renewal
had the effect of increasing the rate payable on arrears and
therefore offended s.8. His dissenting reasons are described
All three justices of the Court of Appeal agreed that the first
renewal did not offend the Interest Act, because the
higher rate resulted from the passage of time (becoming effective
one month before maturity) and not from default. They also
agreed that the motives of the lender and the sophistication of the
borrower are not relevant, and the Court should not consider
whether there is a "legitimate commercial purpose" for
the interest provisions.
The majority, Justices Hunt and Nation, held that the essence of
the second renewal was an agreement for 25 per cent interest, with
a discount to be applied to the principal if there was no default.
They found that this arrangement did not come within the
"literal prohibition" of s.8, which was "directed at
penalties for non-performance, not at incentives for
The majority felt bound by the Alberta Court of Appeal's
earlier decision in Dillingham. Dillingham held that
s.8 implemented an earlier equitable rule against penalties for
non-performance, rejecting an Ontario decision that held that Parliament
intended to prohibit both "penal and non-penal"
Justice Berger would have disallowed the 25 per cent interest on
the second renewal, because that rate would only be payable in the
event of default. He reasoned that if the mortgage remained in good
standing, the interest rate would remain at the lower "pay
rate", which would in effect be the "interest
He therefore found that there was no true "incentive"
for performance; rather, the effect was to impose a
penalty for default. He further distinguished
Dillingham on its facts, and concluded that "a
forfeited discount that operates as a penalty runs afoul of s.8 of
the Interest Act".
This decision is authority for a narrow reading of s.8 of the
Interest Act. This suggests that, in Alberta, a carefully
drafted mortgage agreement may contain incentives for prompt
payment without offending s.8 of the Interest Act, even if
the loss of those incentives on default could arguably be
characterized as having the effect of increasing the charge on
It's not often that our little blog intersects with such titanic struggles as the U.S. presidential race – and by using the term "titanic" I certainly don't mean to suggest that anything disastrous is in the future.
J.J. v. C.C., is an interesting case in which the court held that an automotive garage owes a duty to minor children to secure the vehicles on the premises by locking the cars and safely storing the car keys...
In Irwin v. Alberta Veterinary Medical Association, 2015 ABCA 396, the Alberta Court of Appeal found that the "ABVMA" failed to afford procedural fairness to a veterinarian undergoing an incapacity assessment.
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