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One of the new features introduced by the Woolf reforms to civil litigation are “part 36 offers”. Defendants have long been able to pay an amount of money into court to settle a dispute, and if a claimant refuses to accept the payment, and is subsequently awarded a lower sum, the claimant may be ordered to pay the defendant’s costs from the point the offer was made.

Part 36 offers allow a claimant to turn the tables by making an offer on its own claim. The consequences for a defendant not accepting a claimant’s offer can be serious. Where the judgment against the defendant is more than the claimant’s offer, or more advantageous where the claim is not purely a money claim, a defendant may have to pay interest on the sum/damages awarded at a rate of up to 10% above base, and/or it could find itself ordered to pay the claimant's costs on an indemnity basis, and/or interest on the claimant’s costs at a rate of up to 10% above base.

What has not been clear until recently is how the courts would decide the extent of additional interest on damages and costs penalties to impose on a defendant who fails to accept an appropriate offer.

Now, a Court of Appeal judgment, Petrotrade Inc vs Texaco Ltd, handed down at the end of May, has given us some guidance as to the courts’ approach to “successful” part 36 offers.

When should enhanced interest on damages and/or costs and/or indemnity costs be applied? The enhanced interest and costs provisions are incentives for making a part 36 offer, therefore, the court is required by rule 36.21 of the new rules to make such orders unless it would be unjust to do so. In the Court of Appeal judgment, Lord Woolf stated that the court’s ability to award costs on an indemnity basis and interest at an enhanced rate should not be regarded as penal because orders for costs never actually fully compensate a claimant for having to go to court.

•  Claimants can make part 36 offers to settle disputes in court
•  Courts should not automatically apply the full penalties
• Judges are allowed wide discretion

An order for indemnity costs does not enable a claimant to receive more costs than it has incurred. On an indemnity basis assessment, the court need only consider whether the costs were unreasonably incurred or are unreasonable in amount, and will resolve any doubts in favour of the receiving party. The issue of proportionality does not arise. The practical effect of an indemnity basis costs order is to avoid costs being assessed on the more restrictive standard basis.

Given the policy of encouraging parties to avoid proceedings, the power to order indemnity costs or higher rate interest is seen as a means of achieving a fairer result for a reasonable claimant. However, as stated by Lord Woolf, to be fair, the indemnity-basis costs order need not be for the entire proceedings, and interest can be awarded at different rates for different periods.

Lord Woolf criticised the approach taken in Richard Little & Ors, the only other judgment to date on this issue, in which the judge assumed that, all things being equal, an interest rate of 10% over base would apply as a starting point. While noting the practice in commercial cases of awarding interest at 1% above base rate when assessing whether it would be just to order enhanced interest on damages or costs, Lord Woolf stated that the court should take into account all the circumstances.

It was confirmed that rule 36.21 is not applicable in cases not disposed of “at trial”, such as summary judgments. However, the court reaffirmed that a judge has discretion to order higher rate interest in any event, so the distinction may not be so significant. Lord Woolf warned that the courts should ensure that claimants did not benefit by avoiding summary judgment solely to obtain higher rates of interest at the conclusion of a trial.