High default interest: how not to get burned when signing a contract

JUDr. Ondřej Preuss, Ph.D.
16. February 2025
6 minutes of reading
6 minutes of reading
Other legal issues

Late payment can be very expensive – especially if you have contractually committed to high interest on late payments. When is interest unreasonable and how do I defend against it? And what to do if you’ve already fallen into the high interest trap? We look at key information that could save you a lot of money.

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How not to get burnt when signing a contract

Signing a contract without reading it thoroughly is like jumping into water without knowing how deep it is. It may seem like a formality, but the fine print and legal wording can hide terms that will cost you a lot of money later – extremely high interest on late payments, for example.

The most important rule? Always read the entire contract, including addenda and attachments. Focus on the default interest clause. If the contract provides for interest significantly higher than the legal rate (currently around 12% per annum), beware. Contractual interest can be higher, but it must not be unreasonable – for example, 1% per day is already considered invalid by the courts.

Also check that the contract does not contain hidden charges or penalties for late payment. If you are unsure, consult a lawyer about the contract.

Remember: By signing the contract, you accept responsibility for its terms. It’s better to take a few minutes to check now than to deal with financial problems later.

Beware of hidden traps: how can a contract commit you to extreme interest?

Many people sign a contract without carefully reading all the terms and conditions, only to find out later that they are facing extreme interest on late payments. As we have already mentioned, statutory default interest is around 12% per annum. However, contractual interest can be set significantly higher, sometimes to the point of liquidation. This means that the debt multiplies over several months.

Automatic contractual penalties are also dangerous, where additional penalties are added to the late payment. The creditor can thus recover not only interest but also penalties, which can quickly increase the amount owed. If you find yourself in such a situation, it is possible to defend yourself.

First, check that the interest is in line with the contract. If the amount of interest is not agreed, the legal rate applies. If you suspect that the interest rate is unreasonably high, contact the creditor and try to reach an agreement – reducing the interest is often preferable to a protracted court case. If the agreement fails, check that the interest is not contrary to good morals – Czech courts have already ruled several times that unreasonably high interest is invalid. The key is to act quickly and not let the debt grow.

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Areas with high interest on late payments: where to watch out?

High default interest is most common in areas where the debtor is at a disadvantage or where creditors seek to take advantage of the client’s legal ignorance. A typical example is non-bank loans, where default interest can reach extreme levels. Some contracts even contain a daily interest rate which, when annualized, means hundreds of percent extra.

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Another risky area is rentals and leases, where penalties for late payments can be surprisingly high. In business-to-business commercial contracts, it is common for parties to negotiate interest well above the legal rate as an incentive for timely performance.

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Case law on unreasonable interest: When will the court intervene?

The courts in the Czech Republic have repeatedly dealt with cases of excessive interest on late payment. For example, the Constitutional Court stated in its ruling (Case No. II ÚS 3194/18 ) that extremely high default interest is unconstitutional and contrary to good morals. Courts may thus reduce excessive interest to an acceptable level if they find it contrary to the principles of justice.

The case concerned a credit agreement between a consumer and a creditor which contained default interest at the rate of 0.5% per day, i.e. 182.5% per annum. The borrower defaulted and the creditor sought payment of that amount. The Constitutional Court examined whether such a high interest rate was in accordance with good morals and constitutional principles of justice.

The Constitutional Court concluded that such high default interest was disproportionate and unconstitutional. It argued that, although contractual autonomy allows for the negotiation of higher interest rates, they must not be liquidating for the debtor. The Court emphasised that default interest has an incentive function but should not serve to enrich the creditor at the expense of the weaker party.

The Constitutional Court also referred to the principle of consumer protection, which is based on both Czech law and European legislation. It stated that interest must not lead to disproportionate indebtedness which would place the debtor in an insoluble situation.

As a result, the Constitutional Court found that the interest applied was contrary to good morals and overturned the decisions of the lower courts that had sided with the creditor. This decision is important for similar cases because it confirms that courts can and should review the reasonableness of contractual penalties and prevent excesses to the detriment of debtors.

Summary

Prejudgment interest can be a subtle but very expensive trap into which anyone who does not adequately check the terms of a contract when signing it falls. Whilst statutory interest is around 12% per annum, contractual interest can be significantly higher and in some cases even liquidating. It is therefore essential to read each contract carefully and pay particular attention to the penalty clauses for late payment. If a creditor charges you unreasonable interest, do not hesitate to call and try to reach an agreement – often the interest can be reduced or waived altogether. If the agreement fails and the interest is clearly unreasonable, the solution may be litigation, which has decided similar cases in favour of debtors in the past. However, the best defence is prevention – don’t just read contracts cursorily, but look for key wording that could spell trouble in the future. When in doubt, it is always better to consult a lawyer about the contract than to deal with a financial crisis later. Diligence and a proactive approach can save you not only money but also a lot of trouble.

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Author of the article

JUDr. Ondřej Preuss, Ph.D.

Ondřej is the attorney who came up with the idea of providing legal services online. He's been earning his living through legal services for more than 10 years. He especially likes to help clients who may have given up hope in solving their legal issues at work, for example with real estate transfers or copyright licenses.

Education
  • Law, Ph.D, Pf UK in Prague
  • Law, L’université Nancy-II, Nancy
  • Law, Master’s degree (Mgr.), Pf UK in Prague
  • International Territorial Studies (Bc.), FSV UK in Prague

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