Rising repossessions – an update on mortgagees duties when exercising the power of sale
The growth in repossessions is currently a hot media topic. A day will hardly go by without a major newspaper or current affairs programme making reference to the rising number of evictions. The Sydney Morning Herald for instance, recently reported on the Bankstown Sheriff’s Office currently repossessing an average of 15 homes a week, more than three times the number of three years ago.
The growth in repossessions is not expected to dissipate any time soon. The steep rise in interest rates since the middle of last year - 1 percentage point from the Reserve Bank and an average of 0.25 percentage points extra from the commercial banks - is expected to see more households fall behind. In view of the recent rises, it is salutary to note that most economists will tell you that the effects of an interest rate rise take six to nine months to be fully felt.
The Reserve Bank itself, unsurprisingly given its role in increasing rates, warned this month that it expects more people to fall behind on their mortgage repayments as the full impact of rate rises hits home. The Reserve Bank currently estimates that 40,000 borrowers are late with payments by more than a month, with 15,000 of these more than 90 days’ overdue.
Not surprisingly, the trend is country-wide, with Victorian records showing lenders claiming a record 57 homes a week, triple the level of five years ago.
With the growth in these disturbing numbers, so to has come growth in media attention on the processes and procedures lenders undertake when repossessing and selling a security property. The media, and in particular television current affairs programmes, have been increasingly eager to identify instances were lenders can be accused of unfair or inappropriate conduct in the repossession and sale process.
With this in mind it is timely for lenders to consider the legal framework within which they operate when in possession of a security property and the obligations upon them when proceeding to a mortgagee sale.
There is no doubt of a lender’s general legal entitlement to require repayment of the debt and to sell the security property to recover that debt if necessary. Further, the lender is entitled to decide when and how to sell and owes no fiduciary duty to the borrower when doing so. On the other hand, the Courts, legislation, and in some respects, the media, seek to protect the borrower’s interest in the property from being sacrificed and for the property to be sold at the best possible price.
In New South Wales, the common law governs the lender’s sale of property, though it should also be noted that section 420A of the Corporations Act 2001 (Cth) sets out duties arising on the sale of corporate property by a lender, or a receiver appointed by the lender.
There has been some uncertainty as to the manner in which the lender’s duty should be described. The Australian Courts generally state the duty as being to act in good faith and without reckless or wilful sacrifice of the interests of the borrower. This of course leads to the obvious question: what does it mean to act in good faith? The Courts have held that to act in good faith is to act honestly and not fraudulently. This has been further held to imply conduct that does not involve any cheating, deception, corruption, collusion or fraud in the sale process. However, even if these more obvious examples of bad faith are not present, the lender could be acting in bad faith by acting wilfully and recklessly in a manner not in the interests of the borrower.
It should also be noted that the duty to the owner of the security property has been held to be owed to any guarantor and to a second or subsequent mortgagee.
In circumstances where the sale is of corporate property, whether by the lender as mortgagee or by a receiver appointed by the lender, section 420A of the Corporations Act requires that the lender or the receiver take “all reasonable care to sell the property for not less than market value, or otherwise, the best price that is reasonable obtainable, having regard to the circumstances existing when the property is sold”. Clearly, fulfilling this duty requires the lender to ascertain the market value of the property. This is often achieved by sale at auction, as this is considered the method most likely to ensure that market value is obtained. Private sales can be completed within the terms of the duty, but they are considered a more risky course of action.
Lenders need to make sure that they genuinely test the market before proceeding to sale. If a lender is aware of several interested parties but sells quickly simply on receipt of an offer within the valuation, they may be in breach of their duty. Similarly, failing to advertise or call for tenders will be held to be in breach.
A first step towards testing the market prior to a sale is to advertise. It is now well settled law that a lender is obliged to advertise a property, nonetheless, it is not uncommon for borrowers to complain about inadequate pre-sale advertising. The caselaw indicates that whether or not sufficient advertising is carried out will depend on the circumstances of the sale, the property itself and the usual practice for the locality. It is useful to note that the Australian Banking Industry Ombudsman refers to the following as an expected part of an advertising campaign: print advertisements, such as in newspapers, real estate magazines and agents’ brochures, internet advertisements, real estate agents’ window advertisements, boards, handbills or flyers, contact by the agent with potential purchasers known to him/her and holding open for inspections, either open to the public or by private arrangement.
The case law makes clear certain examples of what will not be considered adequate advertising. The case of Pendlebury from (1912) concerned a property where advertisments for auction were placed in Melbourne newspapers only, despite the property being rural, with the advertisements insufficiently describing the features of the property so as to draw attention to its appeal. Further, no board was erected or brochures distributed in the surrounding area. The High Court found the advertising entirely inadequate in the circumstances.
Similarly, the placement of one ad in a local metropolitan paper a few days before the sale on a day not usual for property advertisments has been held to be insufficient.
Later High Court cases have referred to a duty on the lender to advertise in the same manner as a reasonable and prudent vendor. In this respect a lender should be careful with the description of a property in the advertisements. The description should accurately describe the property’s location and cover all relevant planning permissions and possible redevelopment opportunities known to the lender.
A common question faced by lenders is whether to advertise a property as a mortgagee sale. Case law does not make clear as to whether this is an appropriate form of advertising, however it should be noted that the Banking Ombudsman has indicated that if a property is advertised as a mortgagee sale, the Ombudsman would ask questions of the Bank. The Ombudsman has also stated that advertising in this way may be seen as a signal to the market that it is a forced sale, accordingly, it is not recommended.
The Courts have also held that a lender must take reasonable steps to ascertain the value of a property prior to selling. The standard industry practice is to obtain at least one marketing proposal which includes matters such as suggested market value, recommendations for the conduct of the sale of the property, a marketing programme, recommendations for advertising, details of any work required to prepare the property for sale and any potential problems with the sale or marketing of the property. Obtaining a marketing proposal of this kind is not a strict legal requirement, however, if such a proposal was not obtained, the lender should have a satisfactory explanation.
An appropriately advertised auction will usually be seen as the best way to ascertain and obtain the market value of the property, however, it is not always necessary for a lender to sell by auction. If, in the particular circumstances, a sale by private treaty is thought preferable, it can be accommodated within the lender’s duty, provided that as its starting point, a valuation is obtained and the asking price set in accordance with the valuation. In this respect, the lender should be careful to ensure that the standard market value price is adopted and not a ‘forced sale’ valuation.
If the lender is to proceed to sale at auction, setting the reserve price needs to be carefully considered. The case law in this area has held that a lender’s duty goes beyond simply commissioning a report from an expert valuer and fixing the reserve figure as the bottom line of the report. Rather, the lender is obliged to consider the whole valuation, seek clarification as necessary and not adopt the valuation in the absence of a reasoned case to support it. Accordingly, if the lender is privy to information which indicates that a valuation is too low or flawed, the lender must act on this information. For corporate property, sale by tender is not uncommon. It is generally regarded as analogous to sale by auction and accordingly, not seen as a breach of a lender’s duty.
When in possession of a property, a lender is under no general obligation to make improvements prior to sale. However, the case of Pendlebury provides authority for the proposition that if some expenditure is reasonably necessary and prudent to conserve a borrower’s interest, and prevent those interests being sacrificed, and the amount to be spent is proportional to the total selling value, then the lender would be expected to make that expenditure. Generally, this type of expenditure is limited to basic repairs and maintenance, such as cleaning and garden maintenance, fencing a pool etc.
A lender may not sell to itself, but there is no prohibition on selling to an employee or agent, provided the sale is in good faith and not for an undervalue?
On the timing of a sale, as a general rule, a lender is entitled to decide when to sell. The lender does not have to wait for a depressed market to rise or to delay sale where there is a falling market. However, there may be circumstances where the failure to act promptly on a sale when it is apparent that the market is in decline and it is also apparent that there is a willing buyer, amounts to a breach. In one case, a Court has held a lender liable for loss caused by delay where a lender deferred sale of the property due to ongoing legal proceedings not related to the sale. The Court held that the ongoing Court proceedings were no basis to delay the sale and, had the lender acted with more haste, the amount obtained would have exceeded the debt rather than leaving a shortfall.
As a final note, it is increasingly common for lenders to outsource a large amount of the management of the sale process. It should be noted that a lender does not fulfil its duty to a borrower simply by appointing a competent agent and leaving the sale process and relevant decisions to that agent. Accordingly, a prudent lender would be wise to ensure adequate consideration is given to the agent’s recommendations but that a sufficient degree of independent thought is brought to bear on those recommendations to ensure that they are appropriate to adequately protect the leader.
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