Wednesday, December 5, 2012

FYI: OH Sup Ct Rules "365/360" Computation Method Did Not Contradict Interest Rate Term in Note

The Ohio Supreme Court recently held that language in a promissory note specifying, on the one hand, that the note was subject to an annual interest rate based on a certain index, but on the other also stated that the rate would be computed on a "365/360" basis (which would result in more interest being paid than other calculation methods), was not ambiguous or contradictory. 
Plaintiff company ("Company") obtained a commercial loan from defendant bank ("Bank").  The promissory note memorializing the loan agreement stated that the interest rate on the loan would adjust at certain specified dates and that those changes would be based on variations in the interest rates charged by one of the Federal Home Loan Banks.  Under the heading "Variable Interest Rate," the promissory note specified that the initial interest rate on the loan was 325 basis points over a referenced index, resulting in an initial annual interest rate of 8.93%.  
In a separate section of the note, under the heading "Payment," the note explained the interest calculation method.  Specifically, the note stated "[t]he annual interest rate for this Note is computed on a 365/360 basis; that is, by applying the ratio of the annual interest rate over a year of 360 days, multiplied by the outstanding principal balance, multiplied by the actual number of days the principal balance is outstanding."
Company filed a putative class action, alleging that Bank had breached its contract by charging an interest rate above the rate stated in the promissory note.  Company claimed that the note fixed the rate of interest at 8.93% per annum and that Bank was charging more interest than what was expressed in the promissory note by charging a rate calculated by the 365/360 method rather than an annual (365-day) rate.   Company argued that charging interest according to the 365/360 method resulted in Company paying more interest than it would otherwise pay according to an 365/365 method. 
Bank moved for summary judgment, which the trial court granted.  The trial court concluded that the note was clear in establishing the 365/360 interest calculation or computation method. 
The Ohio Court of Appeals reversed, ruling that there was a genuine issue of material fact as to which interest rate was used in the note.  Bank appealed.  The Ohio Supreme Court reversed, ruling that, though inartfully drafted, the description of the interest calculation method used was not ambiguous when read in context.
Noting that banks charge interest on a daily basis, and that Company's assertion was correct that, because of the 365/360 interest calculation method, Company was paying a higher effective interest rate over the course of a year than it would otherwise had it paid on an annual basis, the Court ruled nevertheless that the clause defining the calculation method was not ambiguous.
In so ruling, the Court observed that the clause"The annual interest rate for this Note is computed on a 365/360 basis," was imprecise, because the actual interest rate was not in fact based on the 365/360  method.  Rather, as the Court pointed out, the note specified in a separate provision that the annual interest rate was based on the rates set by a particular Federal Home Loan Bank. 
As the Ohio Supreme Court explained, the detailed definition of the 365/360 method immediately following the reference to that computation method "was not so confusing that a reasonable person would think that the rate set by the note would be calculated using something other than the 365/360 method."  It is clear that the term being defined is not the annual interest rate but rather the method of computing regular interest payments." 
The Court ruled that, because a clause defining the term "365/360" immediately followed a reference to  the interest calculation method used, a reasonable person would understand that the term being defined was not in fact the "rate," but rather the method of computing interest payments.
Accordingly, ruling that the clause clearly was intended to define the method to be used to calculate interest payments, the Court reversed the judgment of the court of appeals, and ruled in favor of the Bank.

Ralph T. Wutscher
McGinnis Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
Chicago, Illinois 60602
Direct: (312) 551-9320
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