• Interest Rate Limits for Late Payment of IP License Fees and Royalties
  • July 9, 2008 | Author: Thomas H. Adolph
  • Law Firms: Jackson Walker L.L.P. - Houston Office; Jackson Walker L.L.P. - Dallas Office
  • A common provision in IP license agreements is that delinquent payment of licensing fees will be assessed a late charge at the maximum rate of interest permitted by law. What IP attorneys rarely address is the next question: What is the maximum rate of interest permitted by law? We ourselves were quite surprised recently to learn that Texas usury statutes have been held not to apply and that the only apparent limit on interest charged for late payment of license fees or royalties in IP licenses appears to be whatever a judge or jury might find to be an “unenforceable penalty.”

    At first glance, one might think that a “maximum interest” provision in an IP license would be governed by Texas’s usury statutes.2 However, this is not the case, at least not so far.  In 1993, the San Antonio Court of Appeals held that interest charged in an IP license for late payments of license fees falls outside the Texas Finance Code’s definition of interest for several reasons.  Bexar County v. Swensen’s Ice Cream, 859 S.W.2d 402, 405 (Tex. App.—San Antonio 1993, writ denied).  In Bexar, a trademark license/franchise agreement called for late charges of 15% per annum on delinquent payment of licensing fees.  The licensee argued that the late charges violated the then-existing Texas usury statute, but the court held that “the late charges are not interest and therefore are not usurious.”  Id.  The court reasoned that without the involvement of a loan of money or loan payments, the case did not satisfy the Texas Supreme Court’s essential elements of a usurious transaction.

    IP agreements usually will not meet these “essential elements” of a usurious transaction.  The “essential elements” referenced in Bexar are:

    • a loan of money
    • an absolute obligation that the principal be repaid
    • the exaction of a greater compensation than allowed by law for the use of the money by the borrower3

    IP licenses generally do not involve the first two elements, a loan and an absolute obligation to repay the loan, so the third element is inapplicable.
     
    IP licenses are not the only contracts that often fail to meet the “essential elements” test.  For example, rental agreements and some (but not most) installment agreements have been held to be outside the usury statutes.  These other contracts share the common characteristic of having a late charge whose “payment is not pursuant to a credit or lending transaction.”4  In most rental agreements, no funds are transferred or loaned, so the usury statutes do not apply.5  For installment payment arrangements, usury laws apply only when a good or service is purchased up front and paid off by the debtor in installments.6
     
    Even if no Texas statute provides a “maximum amount permitted by law,” late charges in IP licenses will be limited by the common law of unenforceable penalties.

    We have found no Texas case that has yet applied the principles of unenforceable penalties to an IP license.  In fact, we have not found any Texas case involving any kind of agreement that applied the principles of “unenforceable penalties” to interest on late payments.  Therefore, we cannot provide examples of interest rates that have been held to be enforceable or unenforceable.  However, the burden to prove that a late charge is an unenforceable penalty is on the party seeking to invalidate the clause.7  The proof must show that the late charges are not a reasonable estimate of damages or show that damages are capable of precise calculation.8

    An important point uncovered in this research is that a party cannot assert the “unenforceable penalty” defense if the party has already paid the late charge with knowledge of its amount and the circumstances under which it is imposed.9  This single issue has allowed the court to avoid determining whether the late charge was an unenforceable penalty in every case that we found that indicated that the late charge might have been an unenforceable penalty.  Therefore, any licensee should pay late charges, if at all, under protest.

    1 Tom Adolph is a partner in the Houston IP group of Jackson Walker LLP.  Samir Najam was a summer clerk at Jackson Walker in May and June 2008.  He attends the University of Virginia School of Law.

    2 The Texas usury statutes define “usurious interest” as “interest that exceeds the applicable maximum amount allowed by law.” Tex. Fin. Code Ann. § 301.002(a)(17) (West Supp. 2001).The statute delimiting lawful interest from usury reads, in pertinent part:
    . . .
    (b)  The maximum rate or amount of interest is 10 percent a year except as otherwise provided by law.  A greater rate of interest than 10 percent a year is usurious unless otherwise provided by law. . .
    Tex. Fin. Code Ann. § 302.001(b) (West Supp. 2001)

    3 Holley v. Watts, 629 S.W.2d 694, 696 (Tex. 1982); Varel Mfg. Co. v. Acetylene Oxygen Co., 990 S.W.2d 486, 491 (Tex. App.—Corpus Christi 1999, no pet.); Pentico v. Mad-Wayler, Inc., 964 S.W.2d 708, 714 (Tex. App.—Corpus Christi 1998, pet. denied).

    4 Bexar, 859 S.W.2d at 406; Maloney v. Andrews, 483 S.W.2d 703 (Tex. Civ. App.—Eastland 1972, writ ref’d n.r.e.); Potomac Leasing Co. v. Housing Auth. of the City of El Paso, 743 S.W.2d 712 (Tex. App.—El Paso 1987, writ denied); Apparel Mfg. Co. v. Vantage Properties, Inc., 595 S.W.2d 447 (Tex. Civ. App.—Dallas 1980, writ ref’d n.r.e).

    5 Tygrett v. University Gardens Home Owners Ass’n, 687 S.W.2d 481, 483 (Tex. App.—Dallas 1985, writ ref’d n.r.e).

    6 Domizio v Progressive County Mut. Ins. Co., 54 S.W.3d 867, 874 (Tex. App.—Austin 2001, pet. den.).  E.g., some insurance contracts in which the insured pays in installments are not credit transactions. Each installment payment provides coverage for a designated period of time. When the insured fails to make payment at the end of a designated period, his coverage ends.  Hence he receives no insurance he has not yet paid for.

    7 E.g., Domizio, S.W.3d at 875.

    8 BMG Direct Marketing, Inc. v. Peake, 178 S.W.3d 763, 767 (Tex. 2005).

    9 Id. at 773.   We found several cases that validate the potential for late fees being an unenforceable liquidated damages penalty.  However, each of these cases failed to evaluate the claim because the money (the late charges) had already been paid, so the court concluded that the argument was precluded by the voluntary-payment doctrine.