Unfair penalty clauses in tenancy agreements

Introduction

As a property owner, things are going your way at the moment. Prices across the Netherlands are still rising quarter on quarter, and in the larger cities in particular you can take your pick of tenants. At the same time, as a landlord you depend heavily on the tenant to keep your property safe. Tenants are hard to assess before the tenancy begins, and where a contract runs for an indefinite period they are certainly not easy to remove once problems arise. It is therefore sensible to draft the tenancy agreement as completely as possible and to address potential risks, from illegal cannabis plantations to unauthorised subletting. Penalty clauses are the usual way of discouraging those risks. In this article we discuss what penalty clauses are and what to watch out for in drafting them.

What is a penalty clause?

A penalty clause is a provision in a tenancy agreement giving the landlord the right to a payable penalty where the rules of the agreement are breached. Often it is a specific amount for each calendar day the breach continues, capped at a maximum and without prejudice to the landlord’s right to (additional) damages. Penalty clauses are usually found in the general terms and conditions. The tenant must have been given a reasonable opportunity, before or on entering into the tenancy agreement, to read those terms and conditions. And for them to apply, the tenant has to have accepted them, in practice by signing to confirm receipt.

A penalty clause has a twofold function: on the one hand it should have a deterrent effect on the tenant, so that they perform their obligations, and on the other it should secure compensation for the landlord in cases where loss is difficult to prove.

In drafting the contract and the penalty clauses, however, you have to proceed carefully. Unfair penalty clauses are not permitted, and where a court holds a penalty clause to be unfair, the consequences for any compensation are severe.

What happens where a penalty clause is unfair?

Penalty clauses fall within the scope of Directive 93/13/EEC on unfair terms in consumer contracts (the Directive). In the Dexia judgments,[1] the Court of Justice of the European Union held once more that in order to safeguard the deterrent effect of the Directive, terms must be assessed by the court of its own motion. That is to say that where one party relies on a penalty clause and the other does not argue that the clause is unfair, the court must examine that question whether or not it is asked to. In the Netherlands the Dutch Supreme Court confirmed this in Heesakkers/Voets.[2]

This assessment of the court’s own motion goes further still. Even where neither party relies on the penalty clause at all, the court must assess it of its own motion; so the court held in PEC/Jaspers.[3] In that case the landlord relied on article 6:104 of the Dutch Civil Code to claim an account of profits after her property had been sublet illegally; neither landlord nor tenant relied on the penalty clauses in the tenancy agreement. The court assessed those clauses all the same. Because the agreement contained an unfair penalty clause, the landlord could not rely on the possibility of damages either, even though she had not invoked the penalty clause. The reasoning is that the Directive is meant to drive unfair terms out of consumer contracts and to deter businesses from using them. If landlords could simply still rely on damages, after all, nothing would stop them keeping unfair terms in place in disputes that never reach a court.

So take care not to lift penalty clauses from a standard contract without thinking. Where things go wrong with the tenant and the dispute ends up in court, you may lose not only the right to the penalty but also the right to damages, because of an unfair clause.

What makes a clause unfair?

Unfair terms must therefore be avoided. But what exactly makes a term unfair? Article 3(1) of the Directive provides "[that] a contractual term which has not been individually negotiated shall be regarded as unfair if, contrary to the requirement of good faith, it causes a significant imbalance in the parties’ rights and obligations arising under the contract, to the detriment of the consumer." Most penalty clauses will not have been individually negotiated, so unless particular terms were specifically discussed with the tenant before the tenancy began, they fall under this rule.

The definition in article 3 is not yet very illuminating. The Directive does, however, also give a number of examples, and the case law has added to them. So although there is no conclusive answer and much depends on the circumstances of the case, some pointers can be formulated.

Penalty clauses that are unreasonably high are unfair in any event. You can assume that an uncapped penalty clause is unreasonable in most cases. A clause seeking to claim an unreasonably high amount per day (€1,000 a day for keeping a pet, say) will be unfair too. You should also beware of cumulative penalty clauses. Where there are several clauses the landlord can invoke for the same problem, the chance of a court finding this unreasonable is considerably higher, certainly where a statutory remedy exists alongside them. That may be the case, for instance, where the tenancy is terminated, the tenant is prosecuted, and on top of that a penalty would be payable, as could happen with a cannabis plantation.[4]

The contract is looked at as a whole, incidentally. That means a clause can also be unfair where the contract imposes many obligations on the tenant, for example, but confers only rights on the landlord. It matters a great deal whether the contract skews the balance between landlord and tenant.

Vague clauses are regularly found unfair as well. That may be so where a penalty clause is too general, because it applies to ‘any breach of the general tenancy provisions’, for instance.[5]

In short, the best thing you can do is to draft well-defined, capped and clear clauses. In setting the penalty you should have regard to the nature of the breach. A penalty for setting up a cannabis plantation in the rented property may be higher than a penalty for nuisance.

Conclusion

As a landlord you must pay close attention to the terms you put in a tenancy agreement. Do not simply adopt a standard contract, because it may well contain an unfair term. Where you then end up in court over a dispute with a tenant, you may lose not only the right to that penalty but also the right to damages, among other things. That can even be so where neither party invokes the penalty clause, since the court must assess it of its own motion. Make sure at any rate that you do not include cumulative, vague or unreasonably high penalty clauses in the contract. Pay particular attention, too, to the balance between you as landlord and the tenant; where that is skewed because only the tenant is put under obligations, for instance, the court may likewise hold the penalty clauses to be unfair. So go through the provisions individually, but look at the contract as a whole as well, with a professional, if you can.

Landlords would do well to review their contracts and, where these no longer reflect recent developments, to offer tenants a new tenancy agreement with provisions in line with the most recent case law. For tenants the reverse applies. They should check carefully whether they really are obliged to pay the penalties a landlord claims.

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In collaboration with Saar Hoek

[1] Dexia Nederland BV, CJEU 27 January 2021, ECLI:EU:C:2021:68 (link)

[2] Heesakkers/Voets, Supreme Court 13 September 2013, ECLI:NL:HR:2013:691 (link)

[3] PEC/Jaspers, Amsterdam District Court 21 May 2021, ECLI:NL:RBAMS:2021:2583 (link)

[4] See for instance Central Netherlands District Court 7 May 2015, ECLI:NL:RBMNE:2015:2579 (link)

[5] See for instance Amsterdam District Court 9 August 2018, ECLI:NL:RBAMS:2018:5650 (link)