Will the Legal Interest Rate of '5%' Change to a Variable Rate?

Constitutional Court Upholds Law,
But Justice Kim Hyungdoo Dissents
Korea Lags Behind Global Standards
Government Prepares to Introduce Variable Interest Rate System

The Constitutional Court has ruled the statutory interest rate of 5% per annum set by Article 379 of the Civil Act to be constitutional. However, the government plans to change the statutory interest rate system to a 'variable interest rate system' that can adjust according to market conditions rather than fixing it.

On April 10, the Constitutional Court decided by a 7 to 1 majority that Article 379 of the Civil Act, which fixes the statutory interest rate at 5% per annum, Article 54 of the Commercial Act, which fixes it at 6% per annum, and Article 3 of the Special Act on the Promotion of Litigation (Litigation Promotion Act) concerning statutory interest rates are constitutional in the constitutional complaint case (2021HunBa278). The statutory interest rate is used as a standard for calculating damages for monetary debt default.

Kim Hyung-doo, Constitutional Court Justice (unrelated to the above article content, photo provided for article understanding). Photo by Yonhap News.

Article 379 of the Civil Act stipulates the statutory interest rate as "If there is no provision in other laws or agreement between parties, the interest rate on interest-bearing claims shall be 5% per annum." The Constitutional Court judged that considering the legislative purpose of establishing a standard norm regarding interest rates and legal stability, Article 379 of the Civil Act cannot be seen as violating the principle of proportionality or infringing on property rights. Although the statutory interest rate is fixed at 5% per annum, other interest rates can be applied if there are provisions in other laws or agreements between parties, so it is regarded as a subsidiary provision.

The Court stated that there is no other means that can achieve the legislative purpose while restricting the debtor's property rights less than the fixed statutory interest rate system. Considering that the average gap between the statutory interest rate and the average interest rate over ten years from 2006 to 2015 was about 0.2%, the Court found that the gap between the statutory interest rate and the average interest rate is not excessively large to be unacceptable. For the Commercial Act Article 54, which sets the commercial statutory interest rate at 6%, the Court also ruled that it does not infringe on property rights for the same reasons.

Regarding the provisions of the Litigation Promotion Act, the Court ruled it constitutional, stating that "the legislative purpose of preventing litigation delays and abuse of appeal rights and ensuring prompt fulfillment of debts after the judgment on the merits is legitimate."

Despite the Constitutional Court's ruling of constitutionality, legal circles have consistently raised opinions that the statutory interest rate system, maintained for nearly 70 years since the enactment of the Civil Act in 1958, should be revised. In the past, when market interest rates were much higher than the statutory interest rate, creditors were undercompensated according to the statutory interest rate, whereas recently, when market interest rates have fallen below the statutory interest rate, overcompensation has occurred, which has been pointed out as unreasonable.

Justice Kim Hyung-doo, the sole dissenting opinion, also pointed out that "the long-maintained fixed statutory interest rate is likely to diverge significantly from market interest rates and is difficult to respond appropriately to economic changes." Justice Kim stated, "To minimize unfair results caused by such a gap and to harmoniously protect the interests of both creditors and debtors, it is necessary to set the statutory interest rate close to the market interest rate at the time the interest-bearing claim arises," adding, "Instead of maintaining a fixed statutory interest rate, introducing a 'variable statutory interest rate system' that periodically adjusts the statutory interest rate according to economic conditions or fluctuations in financial market interest rates would allow the statutory interest rate to be adjusted in line with market interest rates, thereby enhancing economic equity between creditors and debtors and less restricting the debtor's property rights."

The Ministry of Justice also considers the 'variable statutory interest rate system' more reasonable. Accordingly, a draft amendment to the Civil Act including the variable statutory interest rate system was announced for legislative notice in February, and opinions on the amendment were collected until March 18. Legislative amendments are also being pursued in the National Assembly. On April 10, Lee Jung-moon, a member of the Democratic Party of Korea, introduced representative bills to amend the Civil Act and the Commercial Act, each including the variable interest rate system.

Many advanced countries also adopt variable statutory interest rate systems. Germany, France, and some U.S. states (Idaho, Iowa, Ohio, Nevada, Utah) periodically reset statutory interest rates considering market conditions. Japan announces a base interest rate monthly and adjusts the statutory interest rate every three years accordingly, and the European Union (EU) adjusts the statutory interest rate semiannually based on the base interest rate.

Hong Yoon-ji, Legal Times Reporter

※This article is based on content supplied by Law Times.