Banks and other lending institutions are known to charge an additional fee whenever a borrower defaults in making payments as agreed. We seek to find out whether this intentional increase of interest rates in Kenya is justified.
A rather obvious statement to justify the increase on interest rates on delayed payments is that Kenyan banks obtain money from other sources in order to lend out to borrowers.
As it is the case with any other business entity, they need to make a profit whenever they on-lend this money to the borrower.
Borrowers in the Republic of Kenya, on the other hand are expected to pay back this money within scheduled timelines as agreed with the lender – irrespective of the prevailing economic times, taxation laws etc. When they fail to do this, the lender incurs additional costs by having to source for alternative funding to pay back the suppliers of this money. However, is the overcharge on the interest rates in Kenya justified?
Lenders are likely to pass on these additional costs suffered to the borrower. But to what extent should they do this? Shouldn’t it be a fixed charge on loan?
Should the lender seek honest genuine compensation for the additional costs they have been exposed to? Should they penalize the borrower for exposing them to this? The key reason why interest rates in Kenya is evidently high. Penalize here is taken in the sense of a borrower getting punished for causing this undesired exposure to the lender.
Lenders should carefully review how their default interest provisions operate and whether the amount claimed as default interest can be justified as a genuine pre-estimate of loss. This should ideally be pegged on the delayed amounts for the period that the delay has occurred.
On the other hand, Kenyan lenders are known to re-categorize the profile of the borrower who defaults by raising their risk profile. By doing this, the borrower is subjected to a higher premium margin which ideally affects even the amounts which he has not defaulted in paying. In addition to this, the amounts in default are still subjected to the additional default interest rate.
Which in essence should not be subjected to interest rate. Effectively, this makes it much harder for the borrower to meet the repayment obligations. The ballooning debt now compounds the initial problem that initiated the default.
Charging default interest on the whole outstanding principal amount (rather than the overdue amount, for the duration that it is overdue) is extravagant and unconscionable in comparison to the greatest loss likely to be incurred by the lender. This kind of penalty causes unnecessary pain to the borrower. It is misused by lenders in Kenya to punish the borrower for misbehaving.
Audit Focus Advisory Ltd – Providing Support during Lender Borrower Negotiations
In other words, if a sum stipulated for payment is extravagant and unconscionable in amount when compared to the greatest loss that could conceivably have followed from the breach or condition giving rise to the payment, it is likely to be a penalty. A punishment.
The terms of the contract should clearly give direction on this increase interest rate in Kenya. However, the Kenyan borrowers should be more vigilant against veiled increases of the interest rate on allegations of increased costs of funding and other administration costs.