Putting penalty clauses in tenancy agreements is fairly routine procedure within the private rented sector. However, whilst the practice may be widespread in Scotland, the issue of whether or not a penalty clause is legitimate can be a tricky matter.

Penalty clauses provide that where a tenant is in breach of their tenancy obligations, they will be liable to pay certain charges in addition to their rent. Charges typically imposed by landlords and letting agents range from interest on overdue rent or charging for the administrative costs involved in chasing debts etc.

Tenancy agreements have to comply with The Unfair Terms in Consumer Contracts Regulations 1999. In general terms, these regulations provide that all standard terms of tenancy agreements must conform to the basic principle of good faith. This means that terms of a lease must:

• be written clearly in plain English;
• balance both parties interests and rights, and
• any terms which might be of disadvantage to the tenant should be given prominence within the agreement.

In relation to penalty clauses, the 1999 Regulations further provide that a contract term will be unfair if it requires an individual to pay disproportionally high fees in compensation for a breach of the contract. It follows therefore that penalty charges imposed on tenants must be reasonable.

Penalty clauses should be designed to compensate the landlord/agent for their loss, with the view to putting them back into the original position they would have been in had the breach not occurred. Penalty clauses should not allow for arbitrary or excessive charges, or enable the landlord/agent to profit from the tenant?s breach. A tenancy clause which imposes an excessive financial penalty shall be deemed an unfair contract term and will ultimately be unenforceable.

According to guidance issued by Office of Fair Trading, the following types of clause will likely be deemed unfair contract terms:

• imposing interest rates on late rent well above the clearing banks base rate or which will exceed the overdue amount owed by the tenant
• imposing charges to cover an landlord/agents total costs and expenses rather than just their net costs arising from the breach
• imposing fixed charges to be paid in all circumstances regardless of the actual costs of the breach

Contact our LetLaw team for further advice about penalty clauses in tenancy agreements and how to avoid them in your lease agreements.