The Sunday Mail
Just what is a bank and how does it make its money? It goes without saying that banks are at the nerve centre of modern economies. In very elementary terms, a bank may be defined as a financial institution that holds a licence to accept deposits from the public on certain terms and conditions.
Deposits are normally classified in two categories: demand deposits (withdrawable on demand) and term deposits (fixed tenors and earn a fixed interest rate).
The bank is free to lend deposited money, on certain terms and conditions. The bank also has the latitude to invest that money in financial instruments for its own benefit.
Many-a-time, I have come across newspaper articles, radio or television programmes featuring people or organisations expressing disquiet over the strict collateral requirements demanded by banks when they issue loans.
The issue is that the funds held by banks belong to their customers.
As such, banks have to exercise great caution when they deal with that money as any imprudent or careless lending can easily see the bank falling into a crisis from which it may never recover.
It is, therefore, only logical that when banks assess loan applications, they ensure that their backs are well-covered lest receivers of the loans fail to repay.
Two requirements are key. The foremost is the viability of the project for which funds are required, that is if the funds have been borrowed for a specified project.
The second is if the borrower is likely to pay back and in the event that the debtor, for some reason, is unable to pay, whether he has acceptable collateral/security for the loan.
So, no matter how high the bank’s risk appetite may be, it cannot afford to dole out money without taking into account these key pre-requisites.
When banks advance loans, they charge interest which effectively is a mark-up on the amount borrowed. It may be accurate to say that interest on loans is one of the biggest sources of income for the banks.
Apart from interest, banks also thrive on revenue from administration and transaction charges on customers’ accounts. Other charges on loans such as arrangement fees and draw down costs are not part of interest on loans.
Bank charges are the costs incurred by customers for services rendered. In the old days when current accounts were operated through cheques, banks made fortunes out of what they called “refer to drawer charges”, which were penalties meted out on customers who would have issued cheques from accounts that were not adequately funded.
Banks claimed such funds were “unwanted income” in the sense that the penalty was only intended to dissuade people from issuing cheques when they did not have the money in their accounts.
Further, banks charged customers for each cheque issued and processed.
You can imagine how many hundreds of thousands of cheques went through each bank’s system on a daily basis. All that translated to money for the banks.
Prior to the inflationary period of the mid-2000s, banks had a variety of choices on how and where to invest deposits from customers.
You may recall such financial instruments as GMB Bonds, Treasury Bills, investments in discount houses and so on.
These instruments are now no longer as common as they once were. Consequently, during the gone-by days, banks recorded good profits.
You could say banks laughed all the way to the bank.
It was the formal arrival of the US dollar in Zimbabwe in 2009 that saw the fading of some of financial instruments referred to above.
This meant banks had limited choices on what to do with depositors’ funds.
Such products as call and savings accounts, which bore real interest for bank customers, are now as rare as chicken teeth.
What banks are now simply doing is keeping depositors’ funds in their strong rooms and charging customers for that. Their major source of revenue seems to be interest on loans.
No matter the rate of interest applied on any loan, the borrower who defaults is protected by a common law principle that says upon default, the interest liable to be paid cannot, or ought not, be more than double the capital sum initially borrowed.
That principle of law is known by the Latin expression: in duplum rule.
An illustration will do. If X, obtains from his bank or whoever a loan of US$1 000 to be repaid over six months at an interest rate of 15 percent per annum and he fails to abide thereby, the interest will accumulate up to a limit of US$1 000 and no more.
The lender will, therefore, be entitled to recover no more than US$2 000, which amount includes the principal sum advanced.
However, where there were other costs such as administration fees, penalty charges, insurance costs, service fees or any other ancillary charges associated therewith, these will not be included in the in duplum rule consideration as they are not interest.
In other words, the lender will be entitled to US$2 000 plus whatever other charges/costs.
A word of caution though. In a case where the principle amount reaches the double as a result of interest accumulation but the borrower then pays only a portion of that amount, interest will start to run again until it once more, reaches the double of the original sum borrowed.
That position is unlike what now obtains in South Africa which in 2007 enacted the National Credit Act, effectively modifying the in duplum rule so that interest and ancillary charges were put in one bracket.
In other words, in South Africa, there is no longer any distinction between the loan costs and interest at least in so far as natural persons are concerned.
Once the costs and interest accrue to an amount equal to the principal amount originally borrowed, nothing further is chargeable.
The South African position, now called the statutory in duplum rule, sounds more palatable than our own in that crooked lenders are then prevented from loading unjustified “costs” in an effort to circumvent the common law in duplum rule.
That legislation, however, does not affect companies and other juristic borrowers because they are excluded and treated in terms of the common law in duplum rule.
I have not quite understood the reasoning behind the distinction in that legislation.
This notwithstanding, Zimbabwe will do well to follow the South African approach although I would advocate for a method that does not segregate the borrowers into natural and juristic persons.
The intendment of the in duplum rule, whether statutory or under common law, arises out of what the courts refer to as “public policy” aimed at protecting gullible borrowers against exploitation by unscrupulous lenders who allow interest to accumulate unchecked.
Indeed, there are cases where after default, the lender will claim amounts that are unconscionably usurious (chimbadzo), exploitative and extortionate.
For the record, in July 2015, Reserve Bank of Zimbabwe governor Dr John Mangudya in his Mid-Term Monetary Policy Statement said the Bankers Association of Zimbabwe had agreed to subsequently published interest rates.
Banking institutions were required to effect the said lending rates for both existing and new borrowers from October 1, 2015.
I took a snap survey of banks and was shocked to discover they seem unaware of the charges they themselves agreed to as they are charging interest rates ranging from 12 to 22 percent per annum. Did the RBZ governor later issue another directive revoking the one published in July 2015, or is it simply a matter of lack of supervision?
Nonetheless, the in duplum rule seeks to cause lenders to take appropriate measures timorously to recover their outstanding dues before they balloon to colossal proportions that have no relationship whatsoever to the initial amount advanced.
But what if the lender obtains judgement against the debtor for the capital sum doubled by the interest? At what stage will interest stop running?
In such a situation, interest will continue to accumulate until it reaches double the amount granted by the court because the figure on the judgement is taken as the new capital amount.
So if you are a lender and your books were to be audited today and it is discovered you flouted the in duplum rule, are you prepared to have the monies collected from your erstwhile debtors disgorged?
In the case of borrowers in default, have you verified that your lender’s claim against you is within the boundaries set by the in duplum rule?
Tichawana Nyahuma is a former banker and now a legal practitioner. He writes in his personal capacity. Feedback: [email protected]
