Debtor default: what if you don’t meet your obligation within the time limit?

What is debtor default and how to recognise it?

A debtor’s default occurs when the debtor fails to fulfil his or her obligation within the time period agreed with the creditor. This period is usually specified in the contract. However, it may also be a type of obligation for which the time limit for performance is set by law. Unlike a simple failure to fulfil an obligation, default has legal consequences. Their task is seemingly simple – to protect the creditor. So in what situations does default occur?

• The time limit for payment of the debt expires: Default occurs when the due date of the obligation has passed. For monetary debts, you will often find the due date stated directly in the agreement between the parties, but there are also debts without a specific due date – in which case common practice or statutory time limits apply.
• The debtor receives a reminder: In some cases, the creditor may send a reminder to the debtor before the default occurs. This will give the debtor the opportunity to fulfil his/her obligation without incurring any penalties. In practice, this is usually the preferred procedure.

Default is therefore not limited to non-payment of sums of money, but can also apply to other transactions, such as the delivery of goods or the completion of building work.

What consequences will the debtor face in case of default?

It is never a good idea to delay in meeting your obligations. Default has serious legal consequences that may not be worthwhile for the debtor. In addition to causing further complications, they may, above all, significantly increase the debtor’s financial burden.

(a) Interest on late payment

The debtor is obliged to pay default interest to the creditor. Interest is compulsory even if it has not been agreed between the two parties, since its purpose is to compensate the creditor for late performance. The amount of default interest in the Czech Republic is set by law, specifically by government regulation. You can read more about the calculation of interest below in this article.

b) Obligation to compensate for damages

A creditor may claim compensation for damages incurred due to the debtor’s failure to fulfil its obligation on time (delivery of flour for baking buns) and the delay. For example, if the creditor itself has obligations arising from the debtor’s failure to fulfil its obligations (delivery of buns to chain stores), the creditor may be entitled to compensation for such damages.

(c) Loss of repayment benefits

In some cases, usually loans, the creditor may demand immediate repayment of the entire debt in the event of default by the debtor. This possibility is available even if the repayment option was originally agreed in instalments. This step is mainly used by creditors in the event of repeated or prolonged default by the debtor.

(d) Risk of judicial recovery

The moment the creditor runs out of patience, he can turn to a lawyer and start taking the matter to court. Default therefore often leads to action by the creditor, who may pursue the debt through the courts. For the debtor, this means not only the risk of increased costs, but also additional penalties and even possible enforcement proceedings.

How is interest on late payment calculated?

Default interest serves as a Damocles sword as a basic financial sanction to motivate the debtor to meet his obligations on time. The amount of default interest varies according to the Czech National Bank’s repo rate. Currently, 8 percentage points are added to this rate.

So if a debtor owes, for example, CZK 50 000 and is in default for 45 days, the interest can be calculated according to the repo rate in force (e.g. 4.25% – the rate varies and should always be checked), add the statutory rate (8%) and calculate the total interest for the period of default. This calculation can help the creditor to estimate the amount of the claim before formal proceedings are initiated.

Here is the calculation procedure:

1. Annual interest rate: 12.25% of CZK 50 000 = CZK 6 125 per year.

2. Daily interest rate: CZK 6125 / 365 days = CZK 16.78.

3. Interest for 45 days: CZK 16,78 × 45 days = CZK 755,1.

The total amount of interest for 45 days in this case will therefore be approximately CZK 755.

What are the creditor’s options in the event of recovery of the amount owed

• Pre-action notice: As a first step, we recommend sending the debtor a demand for payment of the amount due. This should include a notice of the amount of default interest that the debtor is liable to pay.
• Out-of-court settlement: If the debtor is willing to cooperate, you may consider resolving the dispute out of court by means of an instalment agreement or another form of agreement that allows the debtor to meet the obligations in instalments.
• Taking legal action: If the debtor is uncooperative and no agreement can be reached, you, as the creditor, can take legal action in court to claim the amount owed plus interest and costs. However, court proceedings can be time-consuming and costly, so they are usually used as a last resort.

Certain types of liabilities carry specific default features

Default can have different consequences depending on the type of obligation. For example, in the case of monetary obligations, i.e. those relating to loans, invoices and leases, where the amount due is precisely fixed, default triggers interest and other penalties.

However, non-monetary obligations may also be in default. For example, if a supplier fails to deliver ordered products on time, the customer may claim damages or even withdraw from the contract.

Default also has its specific features for consumers and entrepreneurs. In fact, the law places greater protection on consumers who are in default, particularly as regards the costs of recovery. In contrast, the procedure for entrepreneurs is usually stricter and the penalties higher.

What options are available to the debtor in the event of default?

Default is undoubtedly a stressful situation for the debtor, but there are always options to minimise its consequences. If a debtor finds that he or she cannot meet his or her obligations on time, it is best to start communicating with the creditor early. Agreeing to installment payments or a temporary forbearance may be an acceptable solution for both parties that will help avoid a court enforcement action.

At the same time, the debtor can ask the creditor for an agreement that will reduce the amount of interest. And in the event of serious financial problems, the debtor can make use of the institution of debt relief if he or she meets the conditions. Debt relief is effected through the court and often involves a repayment plan and forgiveness of part of the debt.

Summary

A default occurs when a debtor fails to meet his or her obligations within a set period of time. Debtors face the risk of default interest, damages, and possibly loss of repayment benefits or court proceedings if they default. Creditors, in turn, can use various recovery steps – from a pre-court summons to filing a lawsuit. The right approach, such as agreeing on instalments, can make things easier for both parties and prevent the problem from escalating. If you need legal advice or assistance, contact our firm for expert support and to find the best solution for your case.