Rental Late Fee Provisions Are Subject To Legal Tests

Just about every residential rental or lease agreement contains a late charge provision; and from time to time questions arise as to what is fair or reasonable in that regard. Can a late payment fee be too high? Are there legal limits or guidelines?

It is perhaps surprising, given the abundance of laws governing landlord-tenant matters, that the California Civil Code gives no definite guidance here, as it does, for example, when trying to determine whether an interest rate is usurious. Left to their own devices, then, many landlords settle in on an amount around 5% – 6% of the rent, others go as high as 10%, and still others, I am sure, go even higher.

Although there is no specific civil code section setting forth late-payment limits, it is highly relevant that California Civil Code section 1951.5 specifies that Civil Code section 1671, “relating to liquidated damages, applies to a lease of real property.” Consider, for example, the case of Orozco v. Casimiro.

In 1998 Jose Orozco leased a property to Olivo Casimiro for a monthly rent of $550. The rental agreement provided for a $50 “Late Rent Charge” if the rent was not paid by a certain time each month. In December of 2002, Orozco served Casimiro with a three-day notice for not having paid the late fee as required by the agreement. Casimiro obtained defense from the Legal Aid Foundation of Los Angeles. The matter proceeded to trial in Los Angeles Superior Court in early 2003.

Casimiro’s defense in part was that “the $50 late fee was punitive in nature and not a ‘good faith estimate of the damages likely to be suffered by [Orozco]’…” and that therefore “the late fee which bore no rational relationship to any actual damages…was ‘void and unenforceable.'” Orozco noted that Casimiro had specifically agreed to the late fee amount. The trial court found in favor of the landlord.

On appeal, however, the Appellate Division of the Los Angeles Superior Court reversed the ruling and found in favor the tenant, Casimiro. Why?

The Court reasoned that the late fee in the rental agreement was really a liquidated damages clause. That is, it was not an amount that was taken to represent the actual damages that the landlord would suffer, should the rent be late. Rather, it was an amount, agreed upon by the parties, which would be treated as damages, in the event of a late payment. Many buyers, sellers, and real estate agents are familiar with the concept of liquidated damages, as it is often applied to the so-called “good faith deposit” in a purchase contract.

But the Civil Code does deal with liquidated damages, particularly at Section 1671; and there are a number of precedent-setting court cases that have dealt with it too. Citing one such case, the Los Angeles Appellate Division Court noted that, for a liquidated damages provision to be enforceable, two conditions must hold: (1) it must have been “impracticable or extremely difficult to fix the actual damage”, and (2) the amount of liquidated damages “must represent the result of a reasonable endeavor by the parties to estimate a fair average compensation for any loss that may be sustained.”

The landlord, Orozco, failed to show that either of those provisions obtained, hence his liquidated damages provision (i.e. the late fee) was void.