In an important Supreme Court of Kenya decision in the case of Stanbic Bank Kenya Limited v Santowels Limited, Petition No. E0005 of 2023, the court has held that interest rates on loans advanced by banks and financial institutions are subject to the provisions of Section 44 of the Banking Act, Cap 488 (the Banking Act) and as such, banks and financial institutions are required to seek the approval of the Cabinet Secretary responsible for matters relating to Finance (CS) , before increasing interest rates on loans advanced to their customers.

4 July 24

Prior to this decision, there had been two divergent views on the interpretation of Section 44 which prohibits banks and financial  institutions from increasing their rates of banking or other charges except with the prior approval of the CS.

One perspective was that Section 44 only applies to banking charges, as distinct from interest rates, while the other was that Section 44 applies to increases in interest rates as well as other banking charges. The Supreme Court put an end to this speculation by holding that Section 44 applies to interest rates in the same manner as other banking charges.

Facts of the Case
In 1993, Santowels Limited (the Company) appointed Stanbic Bank Kenya Limited (the Bank) as its banker and received overdraft facilities from the Bank between 1993 to 1997. Their agreement allowed the Bank to vary its interest rate from time to time, which the Bank proceeded to do, with notifications sent to the Company before each change.

During that time, Section 39 of the Central Bank of Kenya Act, Cap. 491 (CBK Act) stipulated that the Central Bank of Kenya (CBK) in consultation with the CS, would determine and publish the maximum and minimum rates of interest which banks or financial institutions would pay on deposits and charge for loans or advances. In exercise of these powers, the CBK imposed interest rate limits in April 1990 which it subsequently revoked in July 1991, without imposing new interest rate limits then or thereafter. Section 39 was later repealed in April 1997.

In September 2003, the Company fearing that it had been overcharged interest, sought to verify the accuracy of interest charged by the Bank by hiring interest recalculation and verification consultants. The consultants concluded that the Bank had overcharged interest on the facilities in two ways – by charging above the capped interest rate and, further as a result of a miscalculation of the applicable contractual interest rate. On the first issue, the Company argued that the CBK did not have the authority to revoke the interest rate caps in 1991, but rather only to adjust them, and in the absence of the imposition of any new interest rate caps, the previous caps would apply. Accordingly, the Company contended that any interest charged by the Bank before the repeal of Section 39 in 1997 would be subject to this cap. The Bank on the other hand argued that at no time during the duration of the contractual relationship with the Company were interest rates regulated by the law or capped and that the rates of interest applied on the facilities were contractual and known by the Company at all times. After failed settlement attempts between the Company and the Bank, the Company filed suit against the Bank to recover the overcharged interest in the High Court.

The High Court held that following the repeal of Section 39 of the CBK Act, the CS (through the CBK) had residual power to control interest rates charged by financial institutions under Section 44 of the Banking Act. In particular, a financial institution would be required to seek approval before increasing its rate of interest. The court found that the interest charged by the Bank was unlawful despite it being contractually agreed upon as it had not obtained the approval. The Bank appealed this decision in the Court of Appeal, arguing that Section 44 of the Banking Act did not refer to a variation of interest, but rather to the “rate of banking” and the court had failed to distinguish the two terms. Further, the Bank alleged that the court failed to consider Section 52 (1) of the Banking Act which recognises the sanctity of the contractual bargain of the parties. The Court of Appeal agreed with the High Court’s findings, necessitating the appeal.

In its appeal to the Supreme Court, the Bank sought the following declarations: (i) that the total effect of the revocation of interest rate caps and subsequent repeal of the relevant provisions of the CBK Act liberalised the bank interest rates regime from control or regulation, and granted financial institutions liberty to contractually negotiate interest rates with their borrowers; (ii) that Section 44 requiring financial institutions to obtain approval of the CS prior to any increase of the rate of banking or other charges does not refer to variation of interest rates under Section 52(1) of the Banking Act; and (iii) that the rate of banking and other charges under Section 44 of the Banking Act does not apply to contractual interest rates under Section 52 of the Banking Act.

In seeking the above declarations, the Bank argued, in part, that:

(i) under the ejusdem generis rule, the operative words in Section 44, “rate of banking or other charges”, do not relate to interest rates; and

(ii) the repealed Section 39 of the CBK Act dealt specifically with “rates of interest” and co-existed alongside Section 44 of the Banking Act. The repeal of Section 39 meant that interest rates were freed from the control of the CS and if Section 44 was to be interpreted otherwise, it would contradict the government’s decision to deregulate interest rates chargeable by financial institutions.

Supreme Court’s Decision
The Supreme Court agreed with the decisions of the lower courts that Section 44 of the Banking Act requires financial institutions to seek the approval of the CS before increasing their interest rates. In arriving at this decision, the Supreme Court held that in the absence of a definition of the term “rate of banking” under the Banking Act, the term could be interpreted to mean “charges for the banking business/service offered by a bank/financial institution” which in its view included, the advancement of loans/facilities.

Further, the Supreme Court held that the effect of the repeal of Section 39 of the CBK Act and Section 33B of the Banking Act did not completely liberalise the interest rates that banks/financial institutions can charge. Rather, it meant that regulation through capped interest rates was no longer in force. In its view, Section 44 plays a different regulatory yet complementary role to that which capped interest rates played by providing some checks and balances or oversight to ensure that bank customers are not exploited, and interest rates are reasonable. To hold otherwise would, in its view, be contrary to the objective of the Banking Act. The Court supported this interpretation with its previous decision in Gatirau Peter Munya v. Dickson Mwenda Kithinji & 2 Others, SC Petition No. 26 of 2014; [2014] eKLR which advocated for a purposive interpretation of statutes to reflect legislative intent.

As to whether this interpretation contradicts Section 52, the Supreme Court held that its interpretation of Section 44 aligns with Section 52, as it supports the view that Section 44 of the Banking Act does not prohibit banks or financial institutions from negotiating and contracting mutually agreed interest rates for loans. However, any discretion by the bank to vary its interest rates on loans is not absolute/unlimited due to the objective of bank regulation. Our interpretation of Section 52 would not align with this view as it provides that a contravention of the provisions of the Banking or the CBK Act should not affect or invalidate in any way any contractual obligation between a financial institution and any other person, which would include its customer.

The Supreme Court nonetheless found that the revocation of the capped interest rate in 1991 was effective and there was no capped rate of interest following such revocation that would warrant the Company’s contention that it had been overcharged interest as a result of this.

Implications of this Decision on Banks and Financial Institutions
The upshot of this decision is that while banks and financial institutions retain contractual discretion to negotiate interest rates with their customers, this discretion is not absolute and must align with statutory requirements outlined in the Banking Act. Practically, a bank or financial institution may provide in its letter of offer with its customer that it can vary the rate of interest (typically the base lending rate) but should it wish to do so, it would need to seek the prior approval of the CS. (through the CBK). ALN Kenya understands that banks already notify the CBK of changes to their interest rates, although this practice has been turned on its head now by this decision.

It is worth noting that this is a decision of the apex court in Kenya and subject to any legislative intervention, the issue has now been settled definitively. This decision is likely to open a floodgate of litigation as a result of the non-compliance by banks with Section 44 (as now interpreted) and non-enforcement of this provision by multiple CSs and the CBK, who were no doubt aware that banks were increasing their interest rates without approval. It is still unclear whether this decision will apply retrospectively given the long-standing accepted practice. ALN Kenya recommends that banks, through the aegis of the Kenya Bankers Association (KBA), seek an amendment to the Banking Act to remove any ambiguity on the intent of Section 44, either by a specific exclusion of interest rates from its ambit or by defining “rate of banking” to exclude interest rates. In the interim period, the KBA would need to consider whether the provisions of the Banking (Increase of Rate of Banking and Other Charges) Regulations under Legal Notice No. 34 of 2006, which outline the approval process for increases in bank charges (and now interest) are sufficient to fulfil the CBK’s role in approving increases to interest rates. ALN Kenya is aware that KBA is in discussions with the CBK on the way forward following this judgment as it does not reflect the long-standing practice of the sector and the CBK as its regulator. We will continue to monitor the situation and provide any updates as they come.

In the meantime, it remains to be seen whether this decision could in essence see a return of interest rate limits, in an effort by the CBK to lighten the administrative burden of approving every bank’s application individually.

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Julius Ochieng – Trainee Lawyer