Mortgagees’ rights and obligations - recent NSW government initiatives
Exercising power of sale
You may recall last month’s update discussed a mortgagee’s duties when exercising power of sale in NSW. Since then, New South Wales government initiatives for the introduction of new laws to prevent banks and mortgagees from selling properties at significantly undervalued prices have been the subject of media attention. The new laws are due to be brought before parliament in the budget session and will include a responsibility on mortgagees to properly advertise and auction a property, and to ensure that a fair market price is achieved.
These initiatives follow concerns raised by welfare groups that some financial institutions are engaging in “fire sales”. Also, figures cited by the Reserve Bank in September 2007 showed that voluntary house sales regularly attract a price of 15% to 20% higher than mortgagee in possession sales. New South Wales is also currently dealing with record numbers of defaulting mortgagors.
Tenants and mortgagees
Another recent government initiative is a consideration of the competing the rights of landlords, tenants and mortgagees of residential properties.
In December 2007, the New South Wales Law Society was invited to comment on a major review of tenancy legislation undertaken by the Office of Fair Trading. The paper, “Residential Tenancy Law Reform: A New Direction” proposes that tenants be entitled to at least 30 days’ notice if a mortgagee decides to obtain vacant possession, either during or after a fixed term tenancy. The proposed reforms do not necessarily represent the final position of the New South Wales government. The purpose of the paper was to gather feedback about the proposed reforms, before they are developed into draft legislation.
The paper recommends that, in general, where a lease is negotiated at ‘arms-length’ at a commercial rent, for a term not exceeding 1 year, the mortgagee should be in no stronger a position against the tenant than the landlord would have been. In particular, the rights of the mortgagee to terminate such a fixed term lease should coincide with the rights of the landlord. The paper recommends that:
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where the mortgagee has consented to a lease, the mortgagee should be bound by the lease during the fixed term (whether the term exceeds 1 year or not);
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where the term of the lease exceeds 1 year and the mortgagee has not consented to the lease, the mortgagee should, prima facie, be bound by the lease during the fixed term,
unless the CTTT makes an order ending the lease; and
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once the fixed term has expired, the mortgagee should be able to end the lease by issuing a 60 day notice.
The New South Wales Law Society generally supports the proposed reforms. The Law Society’s full submission on the various proposals can be obtained at www.lawsociety.com.au/15401.
Asset based lending
Perpetual Trustees (Vic) Ltd v Ford BC2008000258 is the most recent decision in a line of cases concerning asset based lending.
Facts
The defendant, Mr Ford, suffered from a congenital intellectual impairment and was illiterate at the time he entered into a loan of $200,000 and mortgage with Perpetual. The purpose of the loan was to purchase a cleaning business to be operated by his son. Mr Ford had no interest in, nor the capacity to operate the business. Mr Ford’s only income was a disability pension of $452.70 per fortnight. He had no capacity, from his income or other resources, to service the debt.
The loan was arranged by his son through a mortgage broker. The broker gave evidence that he explained the transaction to Mr Ford and his son and that he had no reason to suspect that Mr Ford did not understand the nature and effect of the transaction. The broker also gave evidence that he advised Mr Ford to obtain legal advice.
There were no direct dealings between Perpetual and Mr Ford. Perpetual did not, itself, take any steps to explain the transaction or, to ensure that a stranger had. Perpetual had forwarded the documents by mail directly to Mr Ford for signing. The documents were signed in the presence of the broker.
Mr Ford went into default under the loan within 12 months of the date of the transaction.
Defences
Mr Ford defended the proceedings on a number of grounds including:
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that he lacked the capacity to enter into any contract with Perpetual;
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the doctrine of non est factum i.e. not my deed (this is an old common law defence which allows a person who has executed a written document in ignorance of its character to claim that it is not his/her deed);
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to enforce a transaction against him would, in the circumstances, be unconscionable and/or unfair or unjust within the meaning of the Contracts Review Act, 1980; and
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undue influence.
Decision
The Court found that Mr Ford had no capacity, either to make a judgment about, or to formulate any understanding of, any documents he was required to sign. The Court said that Mr Ford was “a hapless victim of his son’s manipulation”.
However, Mr Ford failed on his defences of unconscionable conduct, undue influence and relief under the Contracts Review Act.
The Court found that Mr Ford was not a volunteer in circumstances where the loan funds had been credited directly into his account.
Perpetual had not engaged in unconscionable conduct because it had no notice, actual or constructive of Mr Ford’s vulnerability.
The broker was the agent of Mr Ford, not Perpetual. Accordingly, Perpetual was not on notice via the broker. It was found that Perpetual should not be taken to have understood that Mr Ford reposed trust and confidence in his son. The Court drew a distinction between a lender failing to take steps to inform itself of the true position and, “turning a blind eye”. The Court held that constructive notice was insufficient for a finding of unconscionable conduct.
For the same reasons, Mr Ford’s defence of undue influence also failed i.e. Perpetual did not have actual notice of the matters relied upon to demonstrate undue influence. Constructive notice was insufficient.
Mr Ford’s defence under the Contracts Review Act failed by reason of section 6(2) of the Act i.e. it was a contract entered into in the course of, or for the purpose of a trade or business i.e. the cleaning business (the judgment made no mention of the fact that the exception contained within section 6(2) relates to a trade, business or profession “carried on by the borrower”. In this case, although Mr Ford was the legal owner of the business, it was not going to be “carried on” by him).
Mr Ford did, however, succeed on his defence of non est factum. It was found that Mr Ford’s mental capacity prevented him from having any understanding at all of the transaction and it was irrelevant to this defence that Perpetual had no knowledge of the incapacity. However, this finding was to no avail as Perpetual amended its claim to plead restitution in respect of the amounts paid to discharge liabilities Mr Ford had to third parties (i.e. the vendor of the cleaning business pursuant to the contract for sale of the business) in the event that the transaction was found to be invalid.
There was no challenge to Mr Ford’s obligations to pay the purchase price to the vendors of the cleaning business. Further, Perpetual argued that Mr Ford’s lack of capacity was not a defence to a claim in restitution. Perpetual did, however, concede that as the mortgage only secured amounts payable under the secured agreement, the amount paid by it under the restitution claim was not secured by the mortgage. However, as the cause of action accrued when the money was paid, Perpetual was entitled to interest from that date.
The Court noted that it did not have the benefit of any argument from Mr Ford on possible defences to a restitutionary claim (e.g. election, change of position and estoppel) or any matter or circumstances that showed Mr Ford’s receipt or the retention of the payment was not unjust.
The Court noted that there was considerable tension between the notion of an incapacitated defendant being able to establish a defence which avoids a contract on the one hand, and none the less remaining liable for “benefits” arguably passing to him or given in discharge of his liabilities, which, by definition, he neither agreed to nor, in the context of the case, desired or understood, on the other hand.
The issue distilled into one of whether or not Mr Ford was truly enriched. The Court held that in the case of funds directly credited to his account, it was not possible to demonstrate otherwise. It was found that Mr Ford had been unjustly enriched at the expense of Perpetual and restitution should be ordered.
Judgment was entered for Perpetual in the sum of $268,629.33, together with interest from 11 December 2007.
In relation to asset based lending generally, the Court said that some may argue that a financial institution that is prepared to lend, relying only on a conservative debt to asset ratio, without any, or at least any apparent regard to the resources of the borrower or to his or her capacity to make payment of interest and capital from his or her own funds in a timely way, ought to be treated as constructively on notice of any relevant disabilities of a borrower that might potentially render the contract unjust. However, the Court said that asset lending is not illegal, and not always or necessarily unfair to the borrower. There was no evidence in the present case that Perpetual was aware of Mr Ford’s disabilities, nor any basis for concluding that it should have been.
Fairness test for bank fees?
You would have seen over recent weeks, articles in the financial press relating to a rising tide of concern over bank fees. It has been reported that consumer groups and Treasury have been encouraged by an English decision relating to the fairness of bank fees but consideration of the purpose of the action and the judgment of Mr Justice Andrew Smith would seem to indicate that celebration is at least premature.
The case in question is Office of Fair Trading v Abbey National plc [2008] EWHC 875 (Comm) an action brought by the Office of Fair Trading (OFT) against eight major UK banks (1) to determine if the OFT could conduct an inquiry under the “unfair terms” provisions of the Consumer Contracts Regulations 1999 (UK) [which mirrors certain EU Directives] (1999 Regulations) into the fairness of fees charged by these banks in respect of accounts overdrawn without arrangements whether or not the overdrawing was honoured.
In an exhaustive and somewhat exhausting judgement of 117 pages, his Honour considered the printed contractual terms between each of the banks and its respective customers in the light of Regulation 6(2) of the 1999 Regulations which provides that, if a contractual term is in plain intelligible language, assessment of the fairness of that term cannot relate to the main subject matter of the contract or the adequacy of the price or remuneration charged for the services in question. Obviously, the banks sought to bring themselves within the ambit of this exemption.
The banks also sought declarations as to the effect of Regulation 5(i) of the 1999 Regulations which identify a contractual term as being unfair if it is “contrary to the requirements of good faith….. and causes significant imbalance in the parties’ rights and obligations to the detriment of the consumer”.
His Honour declined to make the declarations sought by the banks but noted in passing that Regulation 5(i) had been significant in the House of Lords decision in Director of Fair Trading v First National Bank Limited [2001] UKHL 52 where the House of Lords upheld a standard contractual clause in the bank’s customer documentation which entitled it to continue to charge interest on outstanding indebtedness notwithstanding that a judgement had been obtained in respect thereof (non merger clause).
Ultimately, his Honour found:
Subject to appeal, this decision means that the OFT can continue its enquiry into the fairness of the charges levied by banks in the circumstances above described.
While this decision is only a preliminary skirmish, its outcome may have considerable relevance to the proposed introduction of a broader concept of fairness in a national approach to consumer protection. At the present time, Victoria has part 2(B) of the Fair Trading Act 1999 (VIC) which was largely based on the 1999 Regulations; further, the Australian Government Productivity Commission recently released a report of findings and recommendations from a review of Australia’s Consumer Policy Framework (2). This recommends, inter alia, a National Consumer Protection Framework to be based on the Consumer Protection Provisions of the Trade Practices Act 1974 (Clth); one salient feature of the recommendation being a provision for dealing with unfair contractual terms. The suggested language is similar to that of Regulation 5(i) of the 1999 Regulations and the consequence of a finding of unfairness of a term would be its avoidance.
Round two of OFT and Abbey National will be awaited with interest.
(1) The Banks defending the proceedings were Abbey National plc, Barclays Bank plc, Clydesdale Bank plc, HBOS plc, HSBC Bank plc, Lloyds TSB Bank plc and Nationwide Building Society.
(2) Australian Government Productivity Commission 2008, Review of Australia’s Consumer Policy Framework, Final Report, Canberra.
Federal budget – withholding tax reductions for managed investment trusts
In the Federal Budget, the government announced a staged reduction in withholding tax levied on distributions to non-residents by Australian managed investment trusts of Australian source net income (other than dividends, interest and royalties).
Currently, such distributions to non-residents are subject to a 30% withholding tax at the trust level.
Residents of jurisdictions with which Australia has effective exchange of information arrangements (to be specified by regulation) will be subject to a withholding tax at the rate of 22.5% for the 2008/09 income year, a withholding tax of 15% for 2009/10 and 7.5% for 2010/11 and later income years.
Residents of other jurisdictions will continue to be subject to a 30% withholding tax.
This development, which has been widely applauded by industry, may be expected to increase the attractiveness of investment in Australian managed investment trusts by overseas investors.
ASIC relaxes key requirements of its policy on compensation and insurance arrangements for AFS licensees
We have previously commented on ASIC’s policy for AFS licensee compensation and insurance arrangements in our Financial Services Reform newsletters in August 2007 and January 2008.
Following further consultation with industry, ASIC has now relaxed and clarified several key requirements of its policy on compensation and insurance arrangements for AFS licensees, and issued a revised Regulatory Guide 126.
Scope of cover for fraud during the implementation period
Previously, the policy during the implementation period had to cover “fraud of representatives, employees and agents”.
There was uncertainty as to what types of “agents” had to be covered, and why fraud coverage was required for persons who might not be representatives of the licensee (and hence not authorised to provide financial services on behalf of the licensee). Insurance policies commonly exclude coverage for contractors and other third parties who are not specifically identified in the policy.
Now, the policy during the implementation period must cover “fraud or dishonesty by directors, employees and other representatives of the licensee”.
Scope of cover for fraud after the implementation period
Previously, the policy after the implementation period had to cover “fraud by the licensee (except sole practitioners) and representatives”.
Industry bodies had raised concerns with ASIC about the lack of availability of cover for fraud by the principal and the moral hazard and public policy risks that would be involved if principals could obtain insurance coverage for their own fraud.
Now, the policy’s fraud coverage will be the same as that required during the implementation period, namely “fraud or dishonesty by directors, employees and other representatives of the licensee”.
Scope of cover generally
ASIC has clarified that policies need not specifically refer to “breaches of Chapter 7” or “EDR scheme awards”, but the policies must have the effect of providing cover for breaches of the relevant obligations under Chapter 7 and EDR scheme awards.
ASIC breach notifications
A policy must not have the effect of excluding claims arising from incidents that have been notified to ASIC (eg through a breach report). ASIC has clarified that a policy may include a term prohibiting the licensee from admitting liability provided that it does not prevent the licensee from reporting breaches to ASIC as required under section 912D.
Automatic reinstatement
Previously, a policy had to include at least one automatic reinstatement (namely, if the limit is exhausted before the end of the policy period, the limit is reinstated for the balance of the period to cover any new claims).
Now, automatic reinstatement is not necessary where the limit is at least twice the minimum amount of cover required by ASIC under RG 126. For example, if a licensee’s revenue from retail clients is $12 million, its minimum amount of cover is $12 million and, in order for the policy not to be required to have automatic reinstatement, it would need to have a limit of at least $24 million.
If you would like more information, please contact a member of our Financial Services Team listed on the right hand side of the screen.
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