The U.S. Court of Appeals for the Fourth Circuit recently held that a
lender s practice of charging late fees on timely payments solely because
those payments were applied first to earlier late fees violated Maryland s
Credit Grantor Closed End Credit Provisions ( CLEC ).
However, the Court also held that the lender s practice of applying
payments first to late charges, then to accrued interest, and then to
principal; and the lender s internal accounting practices did not violate
CLEC.
A copy of the opinion is available at: Link to Opinion
In 2009, the defendant lender extended a personal loan to the plaintiff
borrower in the amount of $ 2,620.72 and the borrower executed a
promissory note ( Note ) in favor of the lender.
In relevant part, the Note required the borrower to make thirty-six
monthly payments of $102.23 and provided that if the borrower did not pay
each monthly installment by the first day of each month, plus a five day
grace period, she would owe a late charge of $25. In addition, the Note
provided that all payments were to be applied first to late charges, then
to accrued interest, and finally to principal.
Pursuant to the Note, the borrower had three potential methods for making
her monthly payments: (1) she could pay in person at one of the lender s
branch offices during normal business hours; (2) she could pay over the
phone during the lenders normal business hours; or (3) she could pay by
mail.
Accordingly, per the terms of the Note, there were no means by which [the
lender] could receive a payment on a given day after the close of
business. Thus, the lender s practice was to post late charges on its
internal accounting records after the close of business on the fifth day
of a five day grace period.
For the first three months that payments were due, the borrower made
timely payments for slightly more than the $102.23 owed for each payment.
However, in the months that followed, she made four payments late and was
charged a $25 late fee for each late payment. In December 2010 and
February 2011, she made a payment of $106 within the five day grace
period. However, the lender still charged her a $25 late fee on each of
those payments because it applied that month s payment first to prior
late fees and then to interest and principal therefore, according to the
lender, leaving only a partial payment of interest and principal for the
December 2010 payment.
Eventually, the borrower paid off the Note (long after it matured) and
after having been charged more than 40 late fees.
Subsequently, the borrower sued the lender alleging that the lender
violated CLEC by (1) applying her payments first to late fees, then to
interest, and then to principal and (2) imposing a late fee on two timely
payments. The borrower also alleged that the lender s accounting
procedures purportedly violated the terms of CLEC and the Note.
Following a motion to dismiss and later motion for summary judgment, the
U.S. District Court for the District of Maryland dismissed all of the
borrower s claims. She appealed.
On appeal, the Fourth Circuit affirmed judgment as to the dismissal of the
borrower s claim that the lender s accounting practices somehow violated
CLEC and the borrower s claim that the lender s practice of applying
payments first to late fees, then to interest, and then to principal. In
so holding, the Court explained that CLEC expressly allows a creditor to
impose late charges as long as those charges are imposed consistently
with the terms of the agreement between the parties (i.e. the Note) and in
accordance with any restrictions under the CLEC statute.
The Court examined the statute and noted two relevant restrictions on late
fees: one, that no more than 1 late charge may be imposed for any single
payment or portion of payment, regardless of the period during which it
remains in default; and two, that all payments shall be applied to
satisfaction of payments in the order in which they become due. The
Court held that the borrower s executed Note did not run afoul of any CLEC
provisions.
Nevertheless, the borrower argued that under the terms of the Note and
relevant CLEC provisions, the lender was permitted to apply each monthly
payment only to principal and interest and not late fees because those
fees were not part of the scheduled payments as defined in the Note.
The Court rejected that argument.
It held that, per the terms of the Note, the amount the borrower agreed
to pay each month is separate from how [the lender] agreed to apply those
payments.
Moreover, the Court held that the borrower s interpretation of the Note
was nonsensical because it would require that each payment be applied to
only interest and principal, leaving for some later unspecified date that
payment of late charges and that this interpretation was plainly not
supported by either the language of the note or by CLEC.
Accordingly, the Court held that the lender s practice of applying
payments first to late charges and then to principal and interest was
legal under CLEC and consistent with the Note.
Likewise, the Court held that the lender s practice of booking or
assessing a late charge on its internal accounting records is irrelevant
to the issue of whether it properly charged the borrower with a late fee.
Moreover, the Court noted that the evidence showed that the Borrower was
only charged late fees when she did not pay within the grace period except
in two instances unrelated to the lender s accounting practices (as
discussed below), which were unrelated to the lender s accounting
practices.
Accordingly, the Court rejected the borrower s contention that the lender
somehow violated the promissory note by assessing late fees on its
books and held that its accounting practices did not violate CLEC.
However, the Court also held that by charging late fees on timely payments
in December 2010 and February 2011, the lender violated CLEC and the terms
of the Note. The lender argued that these two late fees were appropriate
because, although the payments were timely and for slightly more than the
required scheduled amount, the payments were insufficient to cover prior
late fees, plus the $102.23 required amount, and therefore, not a timely
payment of the full amount owed for that month.
The Court rejected this argument.
It held that the lender s argument confuses the note s specification of
the amount of payment with its authorization as how to apply each payment.
Nowhere in the note is the monthly payment defined to be more than
$102.23. Accordingly, the Court held that although the lender was
permitted to apply the borrower s monthly payment first to any previous
late charges, nothing in the Note supports the lender s contention that a
timely payment for the scheduled amount of $102.23 was insufficient.
Moreover, the Court held that the lender s interpretation of the December
2010 and February 2011 payments as only partial payments would result in
effectively compounding or pyramiding late charges in violation of CLEC
because it would result in more than one late charge being assessed for
any single payment.
Therefore, the Court held that the lender was not entitled to charge a
late fee in December 2010 or February 2011, or in any month in which the
borrower paid an installment timely and in full.
Accordingly, the Fourth Circuit reversed and remanded the borrower s claim
regarding the December 2010 and February 2011 late fees, but affirmed
dismissal of her other claims.
Ralph T. Wutscher
Maurice Wutscher LLP
The Loop Center Building
105 W. Madison Street, 18th Floor
Chicago, Illinois 60602
Direct: (312) 551-9320
Fax: (312) 284-4751
Mobile: (312) 493-0874
Email: rwutscher@MauriceWutscher.com
Admitted to practice law in Illinois
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