Intangible Security
Cases
Zabihi v Janzemini
[2009] EWHC 3471 Ch
Sales J
So far as the validity of that assignment is concerned, I conclude that it is a valid assignment. The point is made by Mr Stacey that the sum due finally from the claimant to the second defendant by way of payment of indemnity costs remains to be determined. He submits this is a feature of the case which indicates that the assignment is an unlawful assignment as being champertous.
I do not accept that submission, nor do I accept his submissions concerning the illegitimacy of the first defendant seeking to interpose himself in relation to arguments which arise as between the claimant and the second defendant.
The position in respect of assignment of debts under section 136 of the Law of Property Act 1925 was reviewed authoritatively by the Court of Appeal in Camdex International Limited v Bank of Zambia [1998] QB 22, in which earlier authorities were reviewed. Hobhouse LJ gave the lead judgment. At page 39 he said that none of the authorities he had reviewed:
“… alters the effect of the statute and the earlier decisions of the Court of Appeal. An assignment of a debt is not invalid even if the necessity for litigation to recover it is contemplated. Provided that there is a bona fide debt, it does not become unassignable merely because the debtor chooses to dispute it. Suing on an assigned debt is not contrary to public policy even if the assignor retains an interest. What is contrary to public policy and ineffective is an agreement, which has maintenance or champerty as its object; such a consequence will not be avoided by dressing up a transaction that has that character and intent as an assignment of a debt. But, because the assignment of a debt itself includes no element of maintenance and is sanctioned by statute, any objectionable element alleged to invalidate the assignment has to be proved independently and distinctly in the same way as any other alleged illegality has to be proved in relation to a contract which is on its face valid.”
Peter Gibson LJ agreed with Hobhouse LJ and added this at page 40B to F:
“But it is not in dispute that as a matter of public policy assignments of bare rights to litigate are invalid, and, if coupled with an agreement to share the proceeds of the litigation with the assignor, will be struck down as champertous. Stirling LJ summarised the crucial distinction in a sentence in Dawson v Great Northern and City Railway Co [1905] 1 KB 260, 271: ‘An assignment of a mere right of litigation is bad: Prosser v Edmonds [1835] 1 Y&C Ex 481; but an assignment of property is valid, even although that property may be incapable of being recovered without litigation: see Dickinson v Burrell LR 1 Eq 337.’ I do not read any of the trio of cases on which the defendant relied, In re Trepca Mines Ltd (No 2) [1963] Ch 199; Laurent v Sale & Co [1963] 1 WLR 829; and Trendtex Trading Corporation v Credit Suisse [1982] AC 679, as undermining, still less abrogating, that well recognised distinction. In Laurent v Sale & Co, on the very special facts of that case, which include the clear contemplation of the parties that the assignment was for the purpose of the assignee in enforcing ‘supposed rights’ by litigating a bona fide dispute as to liability, Megaw J felt able to infer a champertous intention. He plainly thought the transaction was colourable. In the present case the debt is not disputed, the particular difficulties of the defendant in paying all or any of its creditors being irrelevant to the question whether there is a bona fide dispute as to liability. In my judgment Mr Howard was right to submit that there is no basis in authority or principle for denying the validity of the assignment. It is a normal, and for many in business an essential, incident of modern commercial life that debts are bought and sold, and it would be highly unfortunate if such everyday transactions were to be held to be impugnable and champertous, save in wholly exceptional circumstances not present here.”
Neill LJ also agreed with the judgment of Hobhouse LJ. At page 41B to C he said in reviewing the history of section 136 of the Law of Property Act 1925:
“In 1873 the courts of common law and the courts of equity were merged. A new form of statutory assignment was introduced by section 25(6) of the Supreme Court of Judicature Act 1873. It then became possible to make an absolute assignment in writing of any debt or legal chose in action. The importance of this change in the law was recognised in a series of cases in the Court of Appeal including Comfort v Betts [1891] 1 QB 737 and Fitzroy v Cave [1905] 2 KB 364. In the latter case Cozens-Hardy LJ put the new position clearly, at page 373: ‘Henceforth in all courts a debt must be regarded as a piece of property capable of legal assignment in the same sense as a bale of goods.’ The fact that it may be necessary for the assignee to bring an action to recover their debt does not vitiate the assignment on the grounds of maintenance.”
All three members of the Court of Appeal concluded that the transaction in the case of Camdex, where the plaintiff had bought a debt at a discount and was seeking to enforce it, was not champertous.
Neill LJ, at page 41E to F, also referred to the decision in Laurent v Sale. In that case, he said:
“Megaw J concluded the plaintiff’s intention in taking assignments of certain old debts was so that he could by way of litigation seek to enforce the supposed rights under letters which the defendants had written to the two assignors. The facts in that case were unusual and the decision does not affect the general rule that a debt and any incidental right of action are capable of assignment.”
In the present case, I particularly emphasised the references to Laurent v Sale since Mr Stacey sought to rely upon that case in his submissions. In my view, essentially for the same reasons as the case was distinguished in Camdex, it is distinguishable here.
The position so far as the right to costs of the second defendant is concerned is that the court had made an order for costs in the second defendant’s favour, had imposed a specific payment obligation in the sum of £150,000 as against the claimant in the second defendant’s favour in respect of that general order to pay costs and, so far as the balance of the costs order was concerned, there was the well known mechanism of taxation in the court in order to render the claimant’s debt to the second defendant a quantified amount at the end of the day.
In my judgment, the nature of the obligation owed by the claimant to the second defendant was a debt amounting to a piece of property (in the words of Cozens-Hardy LJ in Fitzroy v Cave) capable of legal assignment. There was nothing in the transaction of assignment that involved any champerty in my view. In particular, there was a clear established legal obligation on the part of the claimant to pay the second defendant, and there was no agreement that any proceeds of any further litigation in respect of that obligation would be shared as between assignor and assignee.
Although Mr Stacey referred to the limited consideration given to the assignment as a matter of suspicion, on the present application where there has been no live evidence or material on which it would be right to go behind the assignment, I do not feel able to draw any inference at all such as was drawn in Laurent v Sale on very different facts to the effect that there was there a champertous agreement. On the relevant distinction, as explained by Peter Gibson LJ in Camdex at page 40, this was not a case of an assignment of a mere right of litigation; it was a case of assignment of property, even though part of the property might be incapable of being recovered without litigation.
In my judgment, the present case also falls clearly within the stated principle by Hobhouse LJ at page 39, where he said that an assignment of a debt is not invalid even if by necessity litigation to recover it is contemplated. In reaching my conclusion, I have also had regard to the commentary in Chitty on Contracts, volume 1, 30th edition, page 1330, where, dealing with the reference to debt or other legal thing in action in section 136, it says:
“The phrase has been held to include the benefit of a contract for the sale of a reversionary interest, and rights to claim indefinite sums of money, as for compensation under statute for the injurious affecting of land by a railway, or for damages for loss in respect of which the assignee was the assignor’s insurer [and cases are cited].”
It seems to me that the mere fact the costs obligation of the claimant had not been finally quantified, but was liable to quantification in the taxing process, falls directly within that indication of principle. There was an established right to be paid a sum of money even if it was, at the time of the assignment, to some extent an indefinite sum of money awaiting quantification by the court.
I also have in mind the principles set out by the Court of Appeal in Fitzroy v Cave [1905] 2 KB 364, one of the authorities referred to by the Court of Appeal in Camdex as being of continued validity. The head note says this:
“The plaintiff had taken from the defendant’s creditors an absolute assignment of their debts in consideration of a covenant by him that if the plaintiff should recover the amount of the debts from the defendant, he would pay over to the creditors their respective debts or so much thereof as he might be able to realize after payment of the costs necessarily incurred by him. The assignment was given to the defendant, and it appeared that the plaintiff and the defendant were co-directors of a company, and the plaintiff being dissatisfied with the conduct of the defendant as director admitted that he took the assignment with a view to procure an adjudication of bankruptcy against the defendant, and thus to ensure his removal from the directorate of the company. It was held by a majority that the assignment of the debts was not invalid as savouring of maintenance or being otherwise against public policy.”
(Quote unchecked)
The Court of Appeal affirmed in that case that the fact the assignee may have had a particular motive in wanting to have the assignment to obtain a judgment which might serve as the foundation of bankruptcy proceedings, the ultimate result of which might be the removal of the defendant from his position as a director of the company, was not a relevant matter. The motives which actuated the assignee plaintiff, who was according to the law simply asserting a legal right consequential on the ownership of property which had been validlyassigned to him, were not relevant (see page 374 per Cozens-Hardy LJ).
It seems to me that there is nothing in the background of the current case which leads to any different conclusion in respect of the efforts by the first defendant now to rely upon the rights of the second defendant. The fear of the first defendant (and, indeed, the second defendant) is that any costs obligations that they might have may have to be met without the claimant, who appears to be outside the jurisdiction, meeting costs obligations of his own. It seems to me there is nothing in the background to this case that gives rise to any inference that a champertous arrangement is being relied upon, or that anything other than strict reliance on legal rights is being sought by the defendants in this case.
Having resolved that issue in favour of the first defendant, the next question for me is whether the £50,000 paid into court to fortify the claimant’s cross undertaking in damages on the freezing order obtained against the first defendant should now be released. In my view, the answer to that is that it should not. Blackburne J refused to release the £50,000 when the matter was before him and I see no reason to go behind that judgment. I could see that there might be a basis on which the £50,000 might be released if it were clear to the court at this juncture that the first defendant would have costs liabilities to the claimant over and above £50,000. It might then be said that the first defendant would have the substantive protection in respect of the cross undertaking in damages on the freezing injunction of being able to set off any damages claim it might have under that cross undertaking against its own costs liability to the claimant. However, in light of the ruling that I have just given in respect of the assignment, the figures do not allow that analysis.
On the first defendant’s case, as set out in particular in the first witness statement of Mr D’Costa, the figures are as follows: it is accepted that taking into account the judgment sum ordered by the court, interest, and the interim payment ordered in the Court of Appeal, the claimant’s total entitlement against the first defendant in respect of costs and liability for damages is £243,516.97.
Against that the first defendant indicates that on its case it will have the benefit of the assignment of the right to indemnity costs in favour of the second defendant amounting to £235,955. In addition, it says that sums are due from the claimant to the first defendant totalling approximately another £100,000 (see paragraphs 6 to 11 of Mr D’Costa’s witness statement). On these figures there is not a surplus of £50,000 clearly due from the first defendant to the claimant.
I have already indicated I am not satisfied that it is right on this application to seek to tax the various costs liabilities in detail and I am not satisfied that any part of the costs claims set out by Mr D’Costa can be said to be clearly wrong on the basis of the material before me. Accordingly, on these figures there is no surplus of costs or money liabilities due from the first defendant to the claimant and therefore no proper basis on which the £50,000 in court should be paid out.
As a final footnote to this judgment I should record that it seems to me that the two hour estimate given by the parties for this case, to include both reading by the court and judgment by the court, was woefully inadequate, with the result that (the case being listed in the general interim applications list) the parti
Camdex International Ltd v Bank of Zambia & Anor
[1996] EWCA Civ 1356 (03 April 1996)
Hobhouse LJ
The Defendant does not dispute its indebtedness to the Central Bank of Kuwait or the amount of the debt. It solely disputes the validity and enforceability under English law of the assignment of the debt by the Central Bank of Kuwait to the Plaintiffs. The Defendant makes three submissions:
“(1) It is submitted that the correct test as to whether the assignment of a debt may be champertous is not the ‘bona fide dispute’ test, but rather whether the assignment was made in circumstances in which (assuming no adequate pre-existing commercial interest) it was known or expected that the underlying debt would have to be sued for: see Laurent v Sale [1963] 1 WLR 829 and Trendtex Trading Corporation v Credit Suisse [1982] AC 679 (per Lord Wilberforce at p.695C). Whether the debt is ‘disputed’ or not (see Trendtex [1980] 1 QB 629, CA, at p.654G) goes only to whether it is known or expected that the debt will have to be sued for (cf Laurent at p.833).
(2) It is further submitted that it is at the very least arguable that the bona fide dispute test (even if generally applicable) does not exclude champerty in the particular circumstances of the present case. The [Defendant] Bank is a central bank which is unable to pay its debts, which cannot avail itself of any insolvency procedures, which has grouped creditors into classes in an attempt to treat them equitably within the constraints of its limited resources, which has offered the same repayment terms to Camdex as have been offered to its other creditors, and which must meet certain targets and make certain other loan repayments to the international community if it is to receive donor aid upon which the Zambian economy is largely dependent. [references given.] The Bank contends that, on these facts, it is at least arguable that the debt now said to be owed to Camdex is and was known at the date of assignment to be sufficiently disputed for the law of champerty to apply.
(3) Even if the bona fide dispute test is applied, it is submitted that it is in any event satisfied. There is no bad faith involved in the stance adopted by the Bank, as the facts set out above make clear. The Bank genuinely disputes and has consistently disputed the debt in the sense that it has made clear its inability to treat Camdex as an exception to the rules applied by it to other creditors. It has not simply refused to pay what it knows that it must pay out of obstinacy or caprice.”
The Defendant does not suggest that the second and third submissions provide it with any defence to the claim whether in the hands of the Plaintiffs or of the Central Bank of Kuwait. Mr Timothy Walker QC who appeared on behalf of the Defendant in this Court expressly adopted a similar concession which had been made before Mr Justice Longmore. (See p.5 of the judgment.) The affidavit evidence filed by the Defendant refers to the fact that it is the central bank for the Republic of Zambia and that it is unable to meet all its outstanding liabilities. Various groups of its creditors have made arrangements with it for the postponement of its debt – “the “Paris Club” creditors being mainly OECD countries; the “rights accumulation programme” under the aegis of the IMF; and so on. The Defendant accepts that the debt the subject matter of the present action does not fall within any of these schemes. In November 1994, it made an offer to the Plaintiffs to reschedule the Kuwaiti deposit debt (writing-off 50% and postponing the remainder for up to 20 years at a “highly concessionary” rate of interest) or to include it in a debt buy-back operation at 11¢ in the $ excluding accumulated interest. These offers were refused. It is not suggested that either the Central Bank of Kuwait or the Plaintiffs were under any obligation to accept any of these offers or to join in any of the other arrangements. It is fair to point out that the indebtedness which is the subject of those other schemes is on a wholly different scale to that which is the subject of the present action.
The second and third submissions are relied upon to support the first. The Defendant says, as is self evident, that this is a debt which cannot be recovered without the assistance of the courts – ie without recourse to litigation. It is clear upon the affidavit evidence that by the time of the actual legal assignment, that is to say, 27 April 1995, it was apparent that the Defendant was unwilling to pay the debt voluntarily and that a legal judgment would have to be obtained before it could be compelled to do so. The Defendant says that, in adopting this stance and in defending this action, it is, as they put it, acting bona fide in the interests of its other creditors.
But the Defendant cannot take the further step and say that the debt is disputed, bona fide or otherwise. The Defendant has no basis for disputing the debt and does not and never has sought to do so. The debt is undisputed. The only dispute raised in the Defendant’s affidavits is as to the legality and enforceability of the assignment of the debt to the Plaintiffs. Any questions about the insolvency of the Defendant and any competing claims to its inadequate assets will arise, if at all, at the stage of the execution of the judgment and do not affect the entitlement of the Plaintiffs (or the Central Bank of Kuwait) to a judgment against the Defendant.
The second and third submissions therefore do not add anything to the first submission and it is not necessary to refer to them further.
The decision of Longmore J was given on an application for summary judgment under RSC O.14. Having heard the parties he gave an extempore judgment in favour of the Plaintiffs. He discussed the authorities relied upon by the Defendant and concluded (p.14):
“So it seems that in the law it is an accepted distinction that an undisputed debt may be assigned without any risk of infringing the laws of maintenance and champerty whereas a bona fide disputed debt may perhaps not. It seems to me that that is the true distinction and it is not the case, as Mr Brindle [for the Defendant] submitted, that it is merely sufficient that the assignee should know that it had to be sued for. The situation may be, and it seems to me that it is so in this case, that a debtor just says that he is unable to pay and therefore he will not pay. It does not seem to me that that amounts to a bona fide dispute in relation to the debt and so for that reason it seems to me that I have to reject the arguments of Mr Brindle made under this head.”
No valid objection can be taken to the Judge’s conclusion and, in my judgment, the only criticism that is to be made of his reasoning is that it adopts a test which it too favourable to the Defendant. However, leave to appeal was given and this appeal has been fully argued by Mr Walker on behalf of the Defendant and he has relied strongly upon the Laurent case and what was said about it by Lord Wilberforce in Trendtex. The fact that such arguments can be advanced indicates that the law is not as clearly understood as one would wish and that a rather fuller answer to the arguments of the Defendant is desirable.
Maintenance and Champerty:
The principle of law upon which the Defendant seeks to rely is that it is illegal to engage in maintenance or champerty. Until the Criminal Law Act 1967 such activities were both criminal and prima facie tortious. The principle of public policy survives. S.14(2) of the Act provides that:
“The abolition of criminal and civil liability under the law of England and Wales for maintenance and champerty shall not affect any rule of law as to the cases in which a contract is to be treated as contrary to public policy or otherwise illegal.”
A person is guilty of maintenance if he supports litigation in which he has no legitimate interest without just cause or excuse. Champerty is an aggravated form of maintenance and occurs when a person maintaining another’s litigation stipulates for a share of the proceeds of the action or suit. Agreements made by solicitors have to be particularly examined to see that they do not offend against these principles.
What is objectionable is trafficking in litigation. The modern approach is not to extend the types of involvement in litigation which are considered objectionable. There is a tendency to recognise less specific interests as justifying the support of the litigation of another. (Cia Colombiana de Seguros v P.S.N. [1965] 1 QB 101; Trendtex [1980] 1 QB at 653, per Lord Denning MR, and [1982] AC at 702 per Lord Roskill.) In Giles v Thompson [1994] 1 AC 142 at 153, Lord Mustill said:
“In practice, they [maintenance and champerty] have maintained a living presence in only two respects. First, as the source of the rule, now in the course of attenuation, which forbids a solicitor from accepting payment for professional services on behalf of a plaintiff calculated as a proportion of the sum recovered from the defendant. Secondly, as a ground for denying recognition to the assignment of a ‘bare right of action’.”
The Law of Property Act 1925: s.136:
S.136 (Legal Assignment of Things in Action) provides:
“(1) Any absolute assignment by writing under the hand of the assignor (not purporting to be by way of charge only) of any debt or other legal thing in action, of which express notice in writing has been given to the debtor, trustee or other person from whom the assignor would have been entitled to claim such debt or thing in action, is effectual in law (subject to equities having priority over the right of the assignee) to pass and transfer from the date of such notice-
(a) the legal right to such debt or thing in action;
(b) all legal and other remedies for the same; and
(c) the power to give a good discharge for the same without the concurrence of the assignor;
….”
This provision replaced the equivalent provision in the Judicature Act 1873. The Act of 1873 made assignable in law any debt or other legal chose in action; these had previously only been assignable in equity because the legal right was considered to be “personal” to the creditor and therefore not capable of legal assignment. Equity did not treat the fact that the law categorised the right as personal as a relevant objection to the enforceability of the assignment in equity by the assignee. The effect of the 1873 Act was to require the legal recognition (subject to the stated formalities) of the assignment and enabled the assignee to sue on the assigned debt and obtain legal remedies in respect of it.
The 1873 Act was considered in a number of cases in the Court of Appeal over the following years. In Comfort v Betts [1891] 1 QB 737, the plaintiff sued as assignee of the debts incurred by the defendant to various tradesmen which had been assigned by them to the plaintiff. The assignment included terms that the assignee should proceed to recover the debts by action, or otherwise, and upon recovery thereof pay to the tradesmen respectively, out of the aggregate amount recovered, such proportionate part of such aggregate sum as should represent or comprise the individual debt due to them respectively, or such part thereof as might have been recovered by the assignee. The defendant argued that an assignment by which debts are merely assigned for the purpose of collection and recovery to a person who is not to have any interest in them is not such an assignment as is contemplated by the Act.
The Court of Appeal rejected the defence and upheld a judgment in favour of the plaintiff, the assignee, for the aggregate amount of the debts assigned. Lord Esher MR was somewhat unhappy about the practical consequences of the judgment and the growth of a new business of debt collecting together with the feature that the ability to aggregate debts in this way would remove the claims from the jurisdiction of the county court. However he held that he was
“bound to give effect to the plain words of the Act and to hold that this is a valid assignment of these debts within its terms; and therefore that it passed the legal property in them to the plaintiff”. (p.740)
The other members of the court did not feel any doubt. Fry LJ said (p.740):
“I know of no legal or equitable objection to the owner of the legal chose in action converting someone else into the legal owner and himself into equitable owner only of such chose in action.”
Lopez LJ said (p.741):
“It is in point of form [an absolute] assignment, and I think that beyond all doubt it passes the legal right to these debts to the assignee.”
In Fitzroy v Cave [1905] 2 KB 364, the defendant was indebted to five tradesmen in Ireland in various sums amounting in all to £90 11s 5p in respect of goods sold and delivered by them respectively to him. By a deed these debts were assigned by the tradesmen to the plaintiff. The deed of assignment executed by the tradesmen also provided:
“And the assignee hereby covenants with the assignors and with each of them that in case he shall be able to recover and realise the amount of the said debts from the said Arthur Oriel Singer Cave, he will immediately thereupon pay over to them, the assignors, their executors, administrators, and assigns, the said respective amounts, or so much thereof as he may be able to recover or realise, after payment of all costs necessarily incurred by him.”
The evidence was that the plaintiff was motivated by a grievance that he had against the defendant and had taken the assignment with a view to procuring the bankruptcy of the defendant. At the trial, Lawrance J held that the assignment was invalid as savouring of maintenance or as otherwise against public policy. The appeal of the plaintiff to the Court of Appeal was successful. The question was whether Comfort v Betts should be distinguished. The defendant argued:
“It is submitted that to purchase a right of action with such a collateral and indirect motive as actuated the plaintiff in this case savours of maintenance, even if it does not come exactly within the definition of it; and the authorities show that the law will not recognise such a purchase as valid. It is a transaction which brings about litigation, which would never have been initiated by the creditors themselves, and that not by way of a bona fide commercial speculation, but with a sinister and malicious purpose.” (p.367)
Collins MR left open the question whether the older decisions on maintenance could still be applied to the assignment of debts; he held himself bound by Comfort v Betts considering that –
“The title of the assignee was absolute and could not be impeached because he had acted maliciously in contemplation of the law in enforcing it: (See Stevenson vNewnham 13 CB 285, Bradford Corporation v Pickles [1895] AC 587).” (p.370)
Cozens-Hardy LJ with whom Mathew LJ agreed was more emphatic about the effect of the 1873 Act. He reviewed the cases which had preceded the Act; he contrasted debts with other choses in action. He gave “a debt presently due and payable” as an example of a chose in action which though not assignable at common law was always regarded as assignable in equity. He referred to Row v Dawson 1 Ves Sen 331 as showing the view taken by the Courts of Equity:
“They admitted the title of an assignee of a debt, regarding it as a piece of property, an asset capable of being dealt with like any other asset, and treating the necessity of an action at law to get it in as a mere incident. They declined to hold such a transaction open to the charge of maintenance.” (p.372)
He went on to refer to the many instances in which the assignment of debts had been recognised as effective in equity and how such acceptance was fundamental to a number of recognised classes of transaction, including the assignment of debts to trustees. He continued:
“It has never, so far as I am aware, been suggested that a trustee to whom a debt is assigned is exposed to a charge of maintenance. Mortgages are every day dealt with in this fashion, including an assignment of the debt. From time to time particular classes of obligation have by statute been rendered assignable at law and by the Judicature Act 1873 s.25(6) any debt is made assignable at law by an absolute assignment in writing, of which notice is given to the debtor. Henceforth in all courts, a debt must be regarded as a piece of property capable of legal assignment in the same sense as a bale of goods. And on principle I think it is not possible to deny the right of the owner of any property capable of legal assignment to vest that property in a trustee for himself, and thereby to confer upon such trustee a right of indemnity. It is not easy to see how the doctrine of maintenance can be applied to a case like the present. The decision of this court in Comfort v Betts really proceeds upon this footing, and seems to me to be decisive of the present case. The court is not asked to exercise any discretionary jurisdiction. If the assignment is valid at all, it is valid in all courts, and the plaintiff is entitled to judgment ex debito justitiae. The plaintiff is merely seeking by this action to recover payment of debts admitted to be justly due. ….
I fail to see that we have anything to do with the motives which actuate the plaintiff, who is simply asserting a legal right consequential upon the possession of property which has been validly assigned to him. If the defendant pays, no bankruptcy proceedings will follow. If he does not pay, bankruptcy is a possible result. In my opinion this appeal must be allowed.” (pp.373-4)
These decisions of the Court of Appeal are clear. Debts are a species of property recognised before 1873 in equity and since that date both in law and equity. Like other species of property they may be transferred to another and the legal rights which are incidents of that property may be exercised by the new owner of the property. (Indeed, normally, the legal owner will be the only person entitled to exercise those legal rights.) In Ellis v Torrington [1920] 1 KB 399 at 410 Scrutton LJ succinctly summa-rised the position:
“[The courts] treated debts as property, and the necessity of an action at law to reduce the property into possession they regarded merely as an incident which followed on the assignment of the property.”
From these authorities which are binding upon this Court and subsequent to which the provisions of the 1873 Act have been re-enacted in the 1925 Act, it is clearly established that debts are assignable in law as well as in equity and the fact that the assignee will have to sue for the debt raises no question of maintenance or other infringement of any principle of public policy. Similarly, it does not raise a question of maintenance or public policy that the terms of the assignment include provision that the assignee may account to the assignor for some or all of the proceeds of litigation to recover the assigned debt. The assignee of a debt is as free as anyone else to choose what he will do with the fruits of any litigation. Similarly, the owner of a debt is entitled to assign that debt to another who may be in a whole range of relationships to him from that of mere trustee through to one who owes no contractual or other obligation to him. The only qualification is that the statutory formalities must have been complied with and the assignment must be an absolute one.
There has to be a debt, otherwise there is nothing to assign. However, the fact that the debt may have to be sued for, or that it is expressly contemplated that the debt will have to be sued for, does not alter the position. Suing for an assigned debt raises no question of maintenance.
In Fitzroy v Cave (at p.374) Cozens-Hardy LJ referred to the fact that in that action “the plaintiff is merely seeking by this action to recover repayment of debts admitted to be justly due”. That observation was not part of the reasoning of his decision. However it seems that it must be the source of language used in later cases. In Laurent Megaw J refers to “a bona fide dispute as to the liability”. (p.832) In Trendtex in the Court of Appeal at pp.654 and 6, Lord Denning MR refers to the prohibition of the assignment of a “bare right to litigate” and the proposition that a chose in action is not assignable … either at law or in equity and continues:
“The only exception was where property of some kind or other was assigned, and there was attached, as incidental to it, a right to bring an action: see Dawson v GN and C Railway Co [1905] 1 KB 260, 270-272 and Ellis v Torrington; or an undisputed debt was assigned, because this was regarded as a piece of property: see Fitzroy v Cave. Apart from these exceptions it was unlawful to assign a right of action for a disputed debt or for damages for breach of contract or for tort.”
Counsel was not able to refer us to any judicial statement which might account for the use by Lord Denning of the word “undisputed” other than what was said by Cozens-Hardy LJ. I do not consider that, in principle, it is relevant whether or not the debt is disputed by the debtor. If there is a debt it is a species of property and the fact that the debtor disputes it (ex hypothesi, wrongly) does not make it any the less a debt nor does it provide a basis for failing to give effect to s.136 (or its predecessor). I have already cited cases which contemplate the necessity for litigation. These are clearly in accordance with the previous law. In Dickenson v Burrell LR 1 Eq 337 the transferee of certain property was held entitled to sue for an order setting aside an earlier conveyance to the defendant on the ground of the defendant’s fraud. In Dawson’s case at p.271, the Court of Appeal cited Dickenson v Burrell as authority for the proposition that “an assignment of property is valid even though that property may be incapable of being recovered without litigation”.
The question of a disputed debt was considered by McCardie J in County Hotel v LNWR [1918] 2 KB 251. The plaintiffs were the assignees of a lease to which the other party was, by succession, the defendants. The lease included an option which the plaintiffs sought to exercise. The defendants refused to recognise the option or any relevant obligation to the plaintiffs. McCardie J considered whether the defendants’ repudiation of the relevant obligation invalidated the assignment. At p.258 he said:
“Debts became assignable in equity, and their assignability at law (together with other choses in action) was finally recognised by [the 1873 Act]. Such being the state of things, it would seem strange indeed to hold that a debt could not be assigned after the debtor had repudiated the debt by refusing to pay. Can a debtor destroy the assignability of a debt by repudiating his obligation of payment? It would be equally strange if a bill of exchange could not be transferred after its dishonour; and I may indeed point out that s.36(5) of the Bills of Exchange Act 1882 expressly assumes that a dishonoured bill may be transferred.”
He then referred to Prosser v Edmonds (1 Y & C Ex 497) and other authorities upon the assignability of causes of action in contract and to the law of champerty, including a reference to Dawson’s case. At p.261 he held that –
“a defendant cannot destroy the assignability of a right of property, whether it be a contract or other form of property, by committing a breach of contract by repudiation prior to the assignment.”
However, having regard to the terms and enforceability of the option as between the original parties, he gave judgment for the defendants and the Court of Appeal and subsequently, as a matter of the construction of the option, the House of Lords upheld the judgment for the defendants. Neither the Court of Appeal nor the House of Lords had to revisit the question of assignability. In Trendtex in the Court of Appeal at pp.673-4, Oliver LJ quoted and approved these passages from the judgment of McCardie J. The County Hotel case is among those cited in paragraph 19-027 of the current edition of Chitty on Contracts for the statement that “it is also well established that a claim to a simple debt is assignable even if the debtor has refused to pay”. The editors also point out, in words which echo those of Longmore J in the present case, that “the practice of assigning or selling debts to debt collecting agencies and credit factors could hardly be carried on if the law were otherwise”.
The Argument of the Defendant Bank:
It must be observed at the outset that there is no authority which contradicts the right of the Plaintiffs to recover. There was a debt and it was assigned in accordance with the statute. The need for litigation in order to recover the debt was contemplated but the need for such litigation does not make the assignment illegal or unenforceable. As a matter of fact the debt was and is undisputed but as a matter of law this is immaterial provided it can be said that there was a debt to be assigned. The price (Kuwaiti Dinars 4,119,111) paid by the Plaintiffs to purchase the debt was heavily discounted but there is no evidence that this represented anything other than a commercial valuation of the debt. The debtor was and is insolvent and unable to pay its debts in the ordinary course. It has entered into arrangements with a number of its creditors. The value of a debt depends on a number of factors including its maturity date and current interest rates and currency fluctuations but the ultimately most important factor must be the credit-worthiness of the debtor. Here the credit-rating of the debtor, the Defendant, is minimal and the payment of a heavily discounted price for the debt was appropriate. The fact that the debt was purchased on credit terms is likewise beside the point. The price was payable after the period of credit and that period has in fact now expired. If the judgment of Longmore J stands and assets of the Defendant can be found which are amenable to execution, the Plaintiffs may at the end of the day have made a profit on the transaction. But that does not invalidate the assignment of a debt; why else should a commercial entity purchase a debt? (Brownton v Inbucon [1985] 3 AER 499)
However, the Defendant argues that nevertheless the assignment was not as a matter of law enforceable. This is the first submission: I have quoted it earlier. It depends upon Laurent v Sale and Trendtex in the House of Lords. Reliance was also placed on Re Trepca Mines [1963] Ch 199. I will take these cases in date order.
Re Trepca Mines did not involve any question of an assignment. It was a case of a litigant who was financially supported by another in return for a share of the proceeds. The agreement between the litigant and the financier was unquestionably champertous in character and the actual question in the case concerned the duties of the solicitor acting for the litigant. The litigant was asserting a right to prove in the liquidation of the company. It was argued that the law of maintenance and champerty was confined to actions or suits. The Court of Appeal rejected this argument and held that it extended to proving in a liquidation and any contentious proceedings where property was in dispute which became the subject of an agreement to share the proceeds. (See pp.220 and 6.) It is therefore authority for the proposition that it is possible to make a champertous agreement in relation to legal proceedings for the recovery of a debt. It however does not qualify, or purport to qualify, in any way the authorities and principles to which I have referred earlier in this judgment.
Laurent v Sale supports a similar proposition. In that case it was alleged that in 1953 the defendants had agreed to pay certain commissions to two copper brokers. In 1956 each of the brokers purported to assign the sum said to be owing to them to the plaintiff in return for a promise by the plaintiff to pay to the brokers a proportion of the amount “which shall in fact be paid to” the plaintiff by the defendants. It appears that no reference was made to these purported assignments until 1959 when, after a solicitor’s letter giving the defendants notice of the assignments, the action was started by the assignee. By their defence the defendants denied the alleged debts and further alleged that the purported assignments were illegal and champertous. On the trial of a preliminary issue it was held by Megaw J that this defence succeeded.
It is clear from p.831 of the report that Megaw J did not found his decision upon any question of what was an assignment of a “bare right” of litigation. The critical issue upon which he decided the case was that raised by the third proposition of the defendants:
“an agreement between a claimant and a stranger whereby the stranger agrees to finance the prosecution of a claim in consideration of a share of the proceeds is champertous”.
This proposition of law was accepted (clearly correctly) by Megaw J. Megaw J also accepted the propositions that “the mere fact that there is the transfer of an existing debt and the mere fact that it involves a payment in consideration of the transfer of a part of a debt are not by themselves sufficient to make the transaction champertous”. (p.832) He also expressly declined to extend the doctrine of champerty beyond the limits which it already had.
The question for decision therefore became the question of fact whether it should be inferred that the agreements between the plaintiff and the brokers were in reality agreements to finance litigation in consideration of a share of the proceeds. Megaw J, without referring to any authority other than Martell v Consett Iron [1955] Ch 363, which was not an assignment case, held that the 1956 agreements did have that character. At p.833 he found that to take an assignment in 1956, three years after the relevant right was said to have come into existence and to do so without making any investigation as to the reasons why payment had not been made over the course of those three years could only contemplate litigation. He continued:
“When one finds, in addition, that the so called consideration for these assignments is that [the brokers] are going to get one quarter of the total amount that Sale & Co pay, the imagination boggles at the suggestion that this is not an assignment in order that the plaintiff shall conduct litigation at his risk and expense paying for the benefit that he will get if he succeeds, the sum of one quarter of the amount that he recovers. It is obviously beyond any argument that that is exactly what this transaction was. That being so, in my view, both these so-called assignments were champertous agreements. There has been no explanation offered of how it came about that assignments of this sort were made without, as is suggested, the parties realising the claim was going to be resisted. No explanation has been given, or no explanation that can be accepted by the court, in the absence of supporting evidence, as to why if these moneys were likely to be paid by Sale & Co without dispute, nothing whatever was done to ask Sale & Co to pay between the dates of the assignments in 1956 and the date of the letter from [the solicitor] on June 24, 1959.”
It is clear that Megaw J treated the 1956 agreements as colour-able. He did not treat them as bona fide assignments. He drew the inference contended for by the defendants and found that they were agreements which had as their object the financing of litigation by a party without interest in return for a share of the proceeds.
As will be apparent from the quotations I have already made and from what Megaw J says at page 832 that he had regard to the fact that the “so called assignments” were made by the brokers with the knowledge and intention, shared by the plaintiff, that legal proceedings would be necessary and that it was known that there was “a bona fide dispute as to liability”. He drew the inference that the parties had a champertous intention.
This decision is therefore authority for the propositions that the substance and not the form of any transaction has to be looked at and that, if there is an actual champertous intention, then that illegal or improper intention makes the agreement unenforceable. It is well recognised in English law that an agreement which has an illegal object is likewise illegal and that an agreement to act contrary to public policy is unenforceable.
The subject matter of the Trendtex case was remarkable and unusual. For some years litigation was being carried on between Trendtex and the Central Bank of Nigeria. The claims were substantially claims for damages for breach of contract and that was how Lord Wilberforce described them at p.692. (See also Lord Roskill at p.698.) Credit Suisse as creditors of Trendtex had a legitimate interest in assisting Trendtex to recover from the Central Bank of Nigeria (p.692). The litigation between Trendtex/Credit Suisse and the Central Bank of Nigeria continued with proceedings at first instance and in the Court of Appeal and a proposed appeal to the House of Lords. However at this stage an unidentified third party came on the scene and through an intermediary offered to buy Trendtex’s claims against the Central Bank of Nigeria for the sum of US$800,000. Credit Suisse made an agreement dated 4 January 1978 (governed by Swiss law) with Trendtex enabling Credit Suisse to sell its claims. Shortly afterwards the intermediary came to an agreement with the Central Bank of Nigeria whereby the latter paid US$8 million in settlement of the claims. Trendtex saw none of this money; they considered that they had been defrauded and challenged the validity of the agreement. To this end Trendtex started an action against Credit Suisse; this was the action before the House of Lords. Lord Wilberforce held that –
“The vice if any of the [January 1978] agreement lies in the introduction of the third party. It appears from the face of the agreement, not as an obligation but as a contemplated possibility, that the cause of action against CBN might be sold by Credit Suisse to a third party for a sum of US$800,000. This manifestly involved the possibility, and the likelihood, of a profit being made by the third party or possibly also Credit Suisse, out of the cause of action. In my opinion this manifestly “savours of champerty”, since it involves trafficking in litigation – a type of transaction which, under English law, is contrary to public policy.” (p.694)
The other members of the House agreed with this opinion; they also agreed with the speech of Lord Roskill.
Lord Roskill reviewed the history of the law affecting the assignment of causes of action. He referred to Glegg v Bromley [1912] 3 KB 474; he distinguished the assignment of “bare” causes of action and other assignments. He reaffirmed that “where the assignee has by the assignment acquired a property right and the cause of action was incidental to that right”, the assignment is effective, adopting Scrutton LJ in Ellis v Torrington. He summarised the law at p.703:
“The court should look at the totality of the transaction. If the assignment is of a property right or interest and the cause of action is ancillary to that right or interest, or if the assignee has a genuine commercial interest in taking the assignment and in enforcing it for its own benefit, I see no reason why the assignment should be struck down as an assignment of a bare cause of action or as savouring of maintenance.”
Lord Roskill thus held that the agreement of January 1977 offended “because it was a step towards the sale of a bare cause of action to a third party who had no genuine commercial interest in the claim in return for a division of the spoils”. (p.704)
Before us, the Defendant has placed reliance upon what was said by Lord Wilberforce at p.695 in referring to Trepca Mines and Laurent v Sale. He said:
“Two modern cases in which agreements have been held void for champerty are Re Trepca Mines and Laurent v Sale. Re Trepca Mines was concerned with an agreement governed by French law which contained provisions remarkably similar to those of the agreement of 4 January 1978; it involved the participation by a third party, M. Teyssou, in contemplated litigation to the extent of 25% and M. Teyssou was given power to conduct the litigation. The Court of Appeal held this agreement to be champertous.
In Laurent v Sale there was an assignment to Laurent of debts due from a finance house, which it was known would have to be sued for in consideration of the payment by Laurent of a proportion of the amount recovered, the litigation to be conducted by Laurent. It was held that this agreement and the assignment of the debts were champertous and unenforceable. I think that these decisions are sound in law and that the principle of them should be applied in the present case. In my opinion accordingly any such assignment of the English cause of action as was purported to be made by the agreement of January 4, 1978, for the purpose stated was, under English law, void.”
Lord Wilberforce thus approved these two decisions. In the context Lord Wilberforce is doing no more than recognising that an agreement can be exposed as having a champertous character whether or not it is dressed up as an assignment, even an assignment of a debt. In my judgment what Lord Wilberforce is saying does not go any further than this nor does the decision in Trendtex itself. What is more, it could not do so without over-ruling the earlier and unquestionably authoritative decisions to which I have referred and to which Lord Roskill and the Court of Appeal in Trendtex had referred without any suggestion of disapproval. In Giles v Thompson, at pp.163-4, Lord Mustill implicitly adopted the distinction drawn by Lord Roskill between assignments of a property right which are in principle valid and assignments of bare causes of action which are in principle invalid unless the assignee can show a sufficient interest in the right assigned. The authorities were also reviewed by Lloyd LJ in Brownton v Inbucon at pp.506-8 arriving at a similar conclusion and stressing the distinction between the assignment of property rights and the assignment of a bare right to litigate.
Thus none of these authorities alters the effect of the statute and the earlier decisions of the Court of Appeal. An assignment of a debt is not invalid even if the necessity for litigation to recover it is contemplated. Provided that there is a bona fide debt, it does not become unassignable merely because the debtor chooses to dispute it. Suing on an assigned debt is not contrary to public policy even if the assignor retains an interest. What is contrary to public policy and ineffective is an agreement which has maintenance or champerty as its object; such a consequence will not be avoided by dressing up a transaction which has that character and intent as an assignment of a debt. But, because the assignment of a debt itself includes no element of maintenance and is sanctioned by statute, any objectionable element alleged to invalidate the assignment has to be proved independently and distinctly in the same way as any other alleged illegality has to be proved in relation to a contract which is on its face valid.
The Defendant has been unable to show any arguable case that the assignment of the debt by the Central Bank of Kuwait to the Plaintiffs was anything other than a bona fide purchase of a debt. The Defendant has referred to the communications between the Plaintiffs and the Defendant before the legal assignment was executed. All that these show is that the legal assignment was almost certainly preceded by some less formal agreement between the Plaintiffs and the creditor and that it was clear that the debt was undisputed but that its actual recovery would be uncertain because of the insolvency of the Defendant. All this is the stuff of wholly unobjectionable debt collection and discloses nothing which is contrary to the policy of English law. Indeed, the policy of English law, and s.136, is that where debtors are in default judgment should be entered against them in favour of the owner of the debt.
Accordingly this appeal should be dismissed.
Circuit Systems Ltd and Another v. Zuken-Redac (U.K) Ltd (Formerly Racal-Redac (UK) Ltd)
[1997] UKHL 51 87 BLR 1, [1997] UKHL 51, [1998] 1 BCLC 176, [1999] 2 AC 1, [1998] BCC 44, [1998] 1 All ER 218, [1997] 3 WLR 1177
Lord Hoffman
Assignment of causes of action in bankruptcy
The law is traditionally hostile to the assignment of causes of action in return for a share of the proceeds. Such transactions were described as champerty (division of the field) and regarded as illegal and unenforceable. It is unnecessary to examine the reasons: judges said that it would encourage malicious suits, but treating such arrangements as criminal was also, before the introduction of legal aid, an effective way of preventing poor people from obtaining legal redress. The position of liquidators and trustees in bankruptcy is however quite different. The courts have recognised that they often have no assets with which to fund litigation and that in such case the only practical way in which they can turn a cause of action into money is to sell it, either for a fixed sum or a share of the proceeds, to someone who is willing to take proceedings in his own name. In this respect they are of course no different from many other people. But because trustees and liquidators act on behalf of creditors, the courts have for the past century construed their statutory powers as placing them in a privileged position.
So in Seear v. Lawson [1880] 15 Ch.D. 426, 433, Sir George Jessel M.R. said:
“If the trustee gets a right of action, why is he not to realise it? The proper office of the trustee is to realise the property for the sake of distributing the proceeds among the creditors. Why should we hold as a matter of policy that it is necessary for him to sue in his own name? He may have no funds, or he may be disinclined to run the risk of having to pay costs, or he may consider it undesirable to delay the winding up of the bankruptcy until the end of the litigation.”
Nearly a century later, in Ramsey v. Hartley [1977] 1 W.L.R. 686, 698, Lawton L.J. said:
“Now, the sale of a cause of action by a trustee can only be effected by an assignment. It vests in the trustee in the first place because it is deemed to have been duly assigned to him. . . . The legal process by which it gets to him must operate to vest it in the person to whom he sells it. If this were not so, such a cause of action would be of no value to the creditors unless the trustee himself tried to enforce it. To do so, unless success was assured, would require the expenditure of money which would otherwise be available for distribution among the creditors. To assign the cause of action for good consideration to another person who was willing to try to enforce it could be a sensible way of disposing of the bankrupt’s assets.”
These cases both happened to have concerned trustees in bankruptcy, but the powers of liquidators have been given a similar construction and in Guy v. Churchill (1888) 40 Ch.D. 481 Chitty J. held that there could be no objection to an assignment in return for a share of the proceeds, which “apart from the bankruptcy law. . . is plainly void for champerty.” In the face of this line of authority, counsel for both appellants accepted that apart from the impact of legal aid and the effect on the defendant’s right to security for costs, the assignments could not be challenged.
4. Legal aid
The chief question in both appeals was therefore whether the assignments were void or unenforceable because they would enable a company to benefit indirectly from legal aid. This, as I have said, was the view of the Court of Appeal in Advanced Technology Structures Ltd. v. Cray Valley Products Ltd. [1993] B.C.L.C. 723.
Hirst L.J. said that the assignment was:
“a mere stratagem or device to enable the company to carry on the proceedings, with the support of Mr. Pratt’s [the assignee] legal aid, which manifestly neither they nor he could afford to do otherwise. . . The sole purpose of the assignment was therefore to tap the resources of the legal aid fund, which are available to Mr. Pratt only because of his own impecuniosity.”
This, said Hirst L.J., demonstrated that the assignment was “a sham.” The give effect to the assignment would conflict with “the underlying policy of the Act,” which was that “legal aid should not be available to corporate plaintiffs.”
Leggatt L.J. said:
“When Parliament decided that legal aid should not be available to corporations, it cannot have been its intention that a corporation should be able to nominate an employee, to whom it has assigned a right of action, to conduct the litigation on its behalf with the assistance of legal aid for which he was eligible.”
Glidewell L.J. agreed with both judgments.
Mr. Rupert Jackson and Mr. Roger Henderson, counsel for the appellants in the Norglen and Circuit Systems appeals respectively, relied upon this reasoning but explained it somewhat differently. They both accepted, as Morritt J. had done in the Norglen case, that when Hirst L.J. described the assignment as a “sham,” he could not have meant what is ordinarily meant by that expression, namely, a transaction which is not what it pretends to be: Snook v. London and West Riding Investments Ltd. [1967] 2 Q.B. 786. The transaction was intended to be exactly what it purported to be, namely a transfer to the assignee of the legal and beneficial interest in the cause of action in return for the right to a share in the proceeds. If it was unenforceable, it could only be because such a transaction was in some way illegal or contrary to public policy.
Mr. Jackson said that the introduction of legal aid for individuals in 1949 had the effect of restricting the power of liquidators and trustees to assign causes of action. They could no longer assign them to individuals on terms that the company or bankrupt’s estate would receive part of the proceeds if it was intended that the action should be pursued with the benefit of legal aid. Such a restriction on the statutory power to sell the assets of the company or bankrupt had to be implied in order to make the insolvency legislation consistent with the Legal Aid and Advice Act 1949 and subsequent legislation to the same effect. Alternatively, the policy expressed in the Legal Aid and Advice Act 1949 had created a head a public policy which required such assignments to be treated as invalid.
Mr. Henderson said that the Legal Aid Act 1988 prohibited the grant of legal aid to a corporation and that it followed, upon the true construction of that Act, that a grant of legal aid to an assignee for the benefit of the company, as in a case like this, would also be unlawful. The assignment had therefore been executed for an unlawful purpose and was unenforceable under the principle that the courts would not lend their assistance to the achievement of an unlawful purpose.
My Lords, these two very different arguments advanced in support of the decision of the Court of Appeal in Advanced Technology Structures Ltd. v. Cray Valley Products Ltd. [1993] B.C.L.C. 723 illustrate the difficulties in analysing its reasoning. If the question is whether a given transaction is such as to attract a statutory benefit, such as a grant or assistance like legal aid, or a statutory burden, such as income tax, I do not think that it promotes clarity of thought to use terms like stratagem or device. The question is simply whether upon its true construction, the statute applies to the transaction. Tax avoidance schemes are perhaps the best example. They either work (Inland Revenue Commissioners v. Duke of Westminster [1936] AC 1) or they do not (Furniss v. Dawson [1984] A.C. 484.) If they do not work, the reason, as my noble and learned friend Lord Steyn pointed out in Inland Revenue Commissioners v. McGuckian [1997] 1 WLR 991, 1000, is simply that upon the true construction of the statute, the transaction which was designed to avoid the charge to tax actually comes within it. It is not that the statute has a penumbral spirit which strikes down devices or stratagems designed to avoid its terms or exploit its loopholes. There is no need for such spooky jurisprudence.
Wallersteiner v. Moir (No. 2) [1975] 1 Q.B. 373, upon which Mr. Henderson relied, is a good example of such straightforward construction applied to the legal aid legislation. The question was whether Mr. Moir would be entitled to legal aid to bring a derivative action on behalf of a company against its majority shareholder. The Court of Appeal held that as he was asserting the company’s cause of action on the company’s behalf, the effect of what is now section 2(10) of the Legal Aid Act 1988 prevented the grant of legal aid.
But the question of whether, upon the true construction of that subsection, the Legal Aid Board is entitled to make legal aid available to the assignees in these appeals, is not a matter which is before your Lordships for decision. In fact, Mr. Jackson and Mr. Henderson were not even agreed upon the answer. Mr. Jackson proceeded upon the assumption that if the assignment was valid, the Board could properly grant legal aid. Taking this position appeared to him to give better support to his argument that, in order to avoid such a result, the liquidator’s power to assign should be restricted. Mr. Henderson, on the other hand, submitted that the grant of legal aid to the plaintiff in his appeal was unlawful and he mentioned that judicial review proceedings had been instituted against the Board to enforce this claim. This position appeared to him to support the argument that the assignment was an attempt to further an unlawful purpose.
For reasons which I shall give in a moment, I do not think that it is necessary for your Lordships to decide whether Mr. Jackson or Mr. Henderson is right. The Legal Aid Act 1988 appears on its face to be concerned with whether the party to whom aid is provided is an individual or a corporation and not with how he got his cause of action or what he is going to do with the proceeds. The Lord Chancellor is given power in section 34(1) to make regulations “for preventing abuses” of the Act and the Board has power under section 15(3)(a) to refuse representation for the purpose of proceedings if in all the circumstances it appears to the Board “unreasonable” that the applicant should be granted representation. In Reg. v.The Law Society, Ex parte Nicholson, (unreported), 22 February 1985, Hodgson J. decided that a legal aid committee could not refuse legal aid under this provision solely on the ground that the applicant had acquired the cause of action by assignment from an insolvent company, without having regard to the other circumstances of the case. But there is no doubt that such an assignment is a matter which the Legal Aid Board is entitled to take into account. Furthermore, since the grant of legal aid in these appeals, the Lord Chancellor has pursuant to section 34(1) of the Legal Aid Act 1988, made the Civil Legal Aid (General)(Amendment)(No. 2) Regulations 1996 (S.I. 1996 No. 1257) which insert a new Regulation 33A into the Civil Legal Aid (General) Regulations 1989:
“Without prejudice to regulation 28 [requirement of eligibility on the merits] an application may be refused where it appears to the Area Director that
(a) any cause of action in respect of which the application was made has been transferred to the applicant by assignment or otherwise from a body of persons corporate or unincorporate, or by another person who would not be entitled to receive legal aid; and
(b) the assignment or transfer was entered into with a view to allowing the action to be commenced or continued with the benefit of a legal aid certificate.”
This regulation might appear to reverse Reg. v. The Law Society, Ex parte Nicholson and permit a refusal on the specified ground irrespective of the other circumstances of the case. But your Lordships’ Appellate Committee invited the comments of the Legal Aid Board on the issues in these appeals and received a helpful letter, which was made available to the parties, from the Board’s legal adviser Mr. Colin Stutt. He said that the powers to make regulations conferred upon the Lord Chancellor by section 34(1) did not entitle him altogether to proscribe legal aid in the circumstances stated in the new regulation 33A. It followed that in his view the Board would still have to have regard to all the circumstances of the case. If the Board had to take a general view of the merits of the application, the answer was by no means obvious. One view was that an assignment by an insolvent company was “simply an abuse of the legal aid scheme:” people who chose to take the advantages of limited liability had to accept the disadvantages, including the absence of state benefits such as legal aid. On the other hand, another view was that this was a harsh and unrealistic judgment. Few people who decided to incorporate their businesses would realise that the result could be a form of outlawry, excluding them from access to justice. In most of the assignment cases which came before the Board, the individual was a shareholder who had an overwhelming interest in the outcome of the proceedings and a claim which had strong merits. Considerations of this kind frequently persuaded Area Committees to grant legal aid to assignees despite the discretion to refuse conferred by rule 33A. Mr. Stutt said that the discretion entrusted to the Board by the new rule was “problematic” and any guidance from your Lordships by way of clarification of the law would be welcome.
Looking at the matter in a wider perspective, Mr. Stutt also drew your Lordships’ attention to the proposals for reform of civil legal aid announced by the Lord Chancellor on 18 October 1997. These include the abolition of civil legal aid for money claims and the substitution of a right to enter into conditional fee agreements with solicitors. Such agreements would be open to companies as well as individuals and would remove the difference in treatment which has given rise to these appeals.
My Lords, I think that the way in which this matter comes before your Lordships makes it undesirable for the House to express any opinion on the way in which the Legal Aid Board should deal with cases such as the present under the existing scheme. The Board has not been a party to these proceedings and although your Lordships will, I am sure, have been assisted by Mr. Stutt’s letter, the legality of the Board’s exercise of its public powers and discretions is not an issue in either of these appeals. It is concerned solely with the validity,as a matter of private law, of the assignments by the two companies to Mr. and Mrs. Rodgers and Mr. Basten respectively. For this purpose, the question of how the Board should have exercised its discretion in granting them legal aid or whether, as a matter of construction of the Legal Aid Act 1988, it had such a discretion, is not relevant. For the Board either had such a power or it did not. If Parliament conferred such a power, there seems to me no ground for saying that it must be taken impliedly to have prohibited such assignments or that the Act requires this to be done as a matter of public policy. The Act recognises in general terms the possibility of abuse but leaves it to the rule-making power of the Lord Chancellor and the discretion of the Board to identify such abuses and deal with them. The legal aid scheme can look after itself and does not require the courts to strike down private transactions which would otherwise be valid. On the other hand, if upon the true construction of the Act there is, as Mr. Henderson argues, no power to grant legal aid to assignees in the position of Mr. and Mrs. Rodgers or Mr. Basten, then there is by definition no possibility of abuse. The foundation for an argument that the assignments are for an illegal purpose disappears. They are valid as a matter of insolvency law and give the assignees a cause of action but there is no mischief in them because they do not enable the companies to derive benefits from legal aid. Mr. Henderson said that although this might in theory be true, it was in practice very difficult to challenge the exercise of discretion by the Legal Aid Board. The fact was that legal aid had been granted and his clients had the disadvantage of being faced by a legally aided plaintiff. But this argument seems to me fallacious, because to say that the Legal Aid Board has a discretion in the matter means that there are circumstances in which it could properly grant legal aid. In that case, as I have said, the question of whether such a grant would be an abuse of the scheme is a matter for the Lord Chancellor’s regulations and the Board. For these reasons, Advanced Technology Structures Ltd v. Cray ValleyProducts Ltd [1993] B.C.L.C. 723 was in my view wrong to hold that the assignment was invalid.
Like the Court of Appeal in the Norglen case, I also think that there is nothing in the point that the assignment is invalid because it deprives the defendants of the right to apply for security for costs under section 726 of the Companies Act 1985. For better or worse, the law entitles a defendant to be protected against incurring irrecoverable costs in litigation brought against him by an impecunious company but not by an impecunious individual. But that cannot prevent companies from assigning property to individuals.
It follows that the Circuit Systems appeal, in which the only issue is the validity of the assignment, must in my opinion be dismissed.
5. Conduct of the liquidator
Mr. Peter Smith advanced an alternative argument for the appellants in the Norglen appeal based on what he said was misconduct on the part of the liquidator in assigning the company’s cause of action to Mr. and Mrs. Rodgers. He said that until the hearing before Morritt J. the liquidator took no steps to set aside the purported transfer of the company’s property to Mrs. Rodgers, he gave Mr. and Mrs. Rodgers uncontrolled conduct of the litigation which deprived the company of the value of the restrictive covenant and forced through the assignment in the face of opposition from creditors. My Lords, I make no comment upon the factual basis of any of these allegations because, even if true, they have no present relevance. The liquidator had a statutory power to assign the company’s cause of action and has exercised that power. If his exercise of the power was a breach of duty to the company and its creditors, that is a matter of which the creditors may complain in the Companies Court. It does not affect the validity of the assignment.
6. Discretion and security for costs
There are two further points which arise only in the Norglen appeal. Both concern the exercise of the discretion to substitute Mr. and Mrs. Rodgers as plaintiffs pursuant to R.S.C. Ord. 15, r. 7(2). The rule reads:
“Where at any stage of the proceedings in any cause or matter the interest or liability of any party is assigned or transmitted to or devolves upon some other person, the Court may, if it thinks it necessary in order to ensure that all matters in dispute in the cause or matter may be effectually and completely determined and adjudicated upon, order that other person to be made a party to the cause or matter and the proceedings to be carried on as if he had been substituted for the first mentioned party.”
Mr. Jackson accepted that if, as I think, the assignment was effective to transfer the cause of action from the company to Mr. and Mrs. Rodgers, their joinder as parties was necessary. They were the only people who could prosecute the action. But Mr. Jackson submitted that the rule gives the court a discretion and that the Court of Appeal failed to consider the exercise of that discretion in two ways. First, he says that it should simply have refused to make an order on the ground that the prosecution of the action by the Rodgers would be an abuse of legal aid. Alternatively, he says that the order should have been subject to a condition that Norglen provide security for costs in the amount ordered by Morritt J.
(a) Discretionary refusal
I do not think it escaped the attention of the Court of Appeal that the rule confers a discretion. But the discretion must be exercised judicially and in my view, once it is accepted that, in spite of the finding that the assignment was a “stratagem or device” to obtain legal aid, it is nevertheless valid, there are no grounds upon which joinder can properly be refused. If the question of whether the assignment is an abuse of legal aid is a matter for the discretion of the Legal Aid Board, it must follow that it should not be a ground for the court refusing to join a plaintiff who has a good title to sue. Otherwise one could have a situation in which the Board decided that in all the circumstances there was no abuse and that legal aid should be granted while the court refused joinder on the ground that the prosecution of the action with legal aid would be an abuse. Sir Thomas Bingham M.R. dealt with the matter shortly and in my respectful opinion correctly when he said:
Firstdale Ltd. v Quinton
[2004] EWHC 1926 (Comm) [2005] 1 All ER 639, [2004] EWHC 1926 (Comm)
Colman J
The Assignment: the date
It is argued on behalf of the defendant that there was no valid notice of assignment due to the fact that when notice was given this was by means of the sending of a copy of the deed of assignment, with a backsheet showing the words “DATED 22 OCTOBER 2003” and further down the page in small print the words “Version date: 23 Oct 03”.
No other date appeared on the assignment. It included by clause 5:
“The signature or sealing of this document by or on behalf of a party shall constitute an authority to its solicitor to date it and delivery it as a deed on behalf of that party.”
and ended with the words:
“IN WITNESS of which this document has been signed and sealed as a deed and delivered the date and year first before written.”
The appearance of two dates is explained by Ms Pooley of FW as follows.
The deed was first signed by Mr Waterhouse, the Liquidator of B&G, and witnessed on 22 October. The deed was then sent to the claimant’s offices where it was signed by Mr Silcock, a director of the claimant assignee, and witnessed on the same day. It was then sent to F&W who received it on 23 October. The date at the top of the backsheet was then inserted by Ms Pooley as 22 October, that being the date by which both Mr Waterhouse and Mr Silcock had executed it. It was of course printed by computer and the computer automatically, but completely superfluously, printed out “version date 23 October” on the backsheet because that happened to be the date on which the backsheet was printed off in its final form. Ms Pooley ought to have caused this to be deleted but failed to do so.
It is submitted that the effect of clause 5 was that once both Mr Waterhouse and Mr Silcock had signed, FW had authority to date it and deliver it as a deed on behalf of that party. That was what she did.
Mr Nathan argues that under section 36A of the Companies Act 1985 the claimant never executed the deed because only one director signed it and not either two directors or one director and the secretary. That section provides:
“(1) Under the law of England and Wales the following provisions have effect with respect to the execution of documents by the company.
(2) A document is executed by a company by the affixing of its common seal.
(3) A company need not have a common seal, however, and the following subsections apply whether it does or not.
(4) A document signed by a director and the secretary of a company, or by two directors of a company, and expressed (in whatever form of words) to be executed by the company has the same effect as if executed under the common seal of the company.
(5) A document executed by a company which makes it clear on its face that it is intended by the person or persons making it to be a deed has effect, upon delivery, as a deed; and it shall be presumed, unless a contrary intention is proved, to be delivered upon its being so executed.”
Therefore clause 5 was never engaged and Ms Pooley never had authority to date it or deliver it on behalf of the claimant. It was therefore not validly executed as a deed. Further, Ms Pooley did not date the document that had been signed, but another document – the one bearing the two dates. Indeed, FW did not have authority to act for the claimant until 6 November 2003. Therefore, the notice given to the defendant on 26 November 2003 was not a valid notice of a valid assignment. The document in question had not been validly executed as a deed and even if it were valid it bore two dates so that the defendant could not ascertain on which date the assignment had taken place.
The defendant’s argument proceeds on the basis that under section 136 of the Law of Property Act 1925, valid notice of an assignment can only be effected if the date of the assignment is stated in the notice. This is wrong as a matter of law: see Van Lynn Developments Ltd v. Pelvis Construction Co Ltd [1969] 1 QB 607. If the notice of assignment describes the assignment by reference to a wrong date, there is authority that the notice is invalid because it has described a non-existent document: see W F Harrison & Co v.Burke [1956] 1 WLR 419 as explained in Van Lynn Developments, supra. Where a copy of the written assignment is sent to the debtor there is no question of misdescription. That is what happened here. The deed was sent to Mr Quinton. That was valid notice of any assignment effected by it, however many dates appeared on its face.
The notice of assignment was therefore valid or at least strongly arguably valid. Whether FW were formally engaged as the solicitors of the claimant at the relevant time is of no relevance. They were clearly authorised to send the notice and assignment to the defendant.
Deed of Assignment: invalidity
It is submitted that because the deed which was agreed by the liquidator and the claimant to be the vehicle for the assignment was not validly executed by the claimant and not therefore validly dated, it was consequently incapable of effecting a valid assignment so as provide the claimant with title to sue.
It is reasonably clear that there was a failure by the claimant company to comply with section 36A in as much as the deed of assignment was not executed by fixing the common seal of the company to the document or by means of signature by two directors or by one director and the secretary. However, that would go no further than invalidating the execution of the document as a deed by the assignee. It would not, however, render the signature of the Liquidator on behalf of B&G ineffective. The result would be a document signed by the Liquidator effecting an assignment to the claimant of the chose in action defined by the word “debt” in the document. That would amount to an “absolute assignment by writing under the hand of the assignor” of the right of action in question within section 136(1) of the 1925 Act. It is unnecessary for this to be by way of deed, firstly because any signed writing will be enough: see Marchant v. Morton Down & Co [1901] 2 Ch 829 @ p832 and The Kelo [1985] 2 Lloyd’s Rep 85 at p89 and secondly, because consideration is not required to support a statutory assignment and lack of consideration therefore does not need to be made good by deed: see Holt v. Heatherfield Trust [1942] 2 KB1 @p5.
Accordingly, the defendant’s argument that the claimant has no realistic prospect of establishing that it has title to sue as assignee or that there has been a valid assignment must be rejected. Indeed, on the materials before this court, it is very probable that the assignment was a valid statutory assignment of the right of indemnity under the agreement of 1 July 1997 and that the claimant therefore has title to sue the defendant.
Accordingly, there is no basis for striking out the claim form and the defendants’ applications are therefore refused.
Buhr & Ors v Barclays Bank Plc
[2001] EWCA Civ 1223 [2001] 31 EGCS 103, [2002] 1 P & CR DG7, [2002] BPIR 25, [2001] NPC 124
Arden LJ
In Commercial Law, Professor Sir Roy Goode says this:
“(iv) Security in an asset and security in its proceeds
Unless otherwise agreed, security in an identifiable asset carries through to its products and proceeds, in accordance with the equitable principle of tracing. It is quite possible for the creditor to have rights in the same item of property both as proceeds and as original security, as where he takes a charge over the debtor’s stock in trade and receivables and the debtor then sells items of stock, producing receivables. The strength and quality of a security interest in an asset is not necessarily the same as in its proceeds. The debtor who gives a charge over his stock and receivables may be allowed full freedom to dispose of the stock in the ordinary course of business free from the charge without reference to the creditor but be required to hold the proceeds separate from his own monies and pay them to the creditor or to an account which the creditor controls. Such a charge will be a floating charge as regards the stock but a fixed charge as regards the receivables. The security interest in proceeds, unless separately created, is not a distinct security interest but is part of a single and continuous security interest which changes its character as it moves from asset to proceeds. Moreover, a security interest in a debt cannot co-exist with a security interest in its proceeds, for upon collection debt ceases to exist.
There are dicta which on a superficial reading suggest that an obligation on the debtor to apply the proceeds of his asset towards discharge of the debt, and not for any other purposes, creates an equitable charge not merely over the proceeds but over the asset itself. But the dicta must be taken in context and are not, it is submitted, intended to lay down any such rule, which would lead to great confusion. A security interest in an asset carries forward to proceeds: …” (page 667-8).
In Legal Problems of Credit and Security, Professor Sir Roy Goode says this:
“Security in an asset and in its proceeds
Security in an asset will almost invariably carry through to the proceeds of an unauthorised disposition by the debtor and will also extend to proceeds of an authorised disposition where it is effected on behalf of the creditor rather than for the debtor’s own account. The relationship between a security interest in an asset and a security interest in its proceeds has not been fully developed in English law. Three particular issues require examination:
(1) Can the creditor claim a security interest in the asset and its proceeds concurrently?
Suppose that C has taken a specific mortgage of D’s motor car and wrongfully sells the car to E. In the absence of any applicable exception to the nemo dat rule C can recover his vehicle from E. Alternatively he can adopt the wrongful sale and treat his security interest as attaching to the proceeds received by D. But can he claim security in both the car and the proceeds at the same time? No, because the remedies are inconsistent. C’s equitable tracing claim to the proceeds rests on his implied adoption of the wrongful sale. He cannot have his cake and eat it. He must elect which right to pursue.” (page 16).
The appellants’ submissions
Mr Alastair Norris QC, for Thrings, rejects each of the grounds on which the judge found for Barclays and submits that:
(i) Barclays did not automatically obtain a proprietary interest in the proceeds of sale by virtue of its unregistered charge over the property.
(ii) Barclays did not obtain a beneficial interest in the proceeds of sale by virtue of its having an equitable charge over the proceeds of sale.
(iii) Barclays did not have an interest in the proceeds of sale under a constructive trust arising on the sale of the property.
The judge’s proceeds point
As to his first submission, Mr Norris distinguishes the statements by Professor Sir Roy Goode relied on by the judge as having been written in the context of charges on chattels and choses in action. He submits that charges over book debts and chattel mortgages continue to be created today as they were before 1925, that is in the case of book debts by an absolute conveyance coupled with a proviso for reconveyance.
Mr Norris submits that there is a well-established distinction between property and the proceeds of sale: see Agnew v The Commissioner of Inland Revenue, Privy Council, 5 June 2001. Lord Millett, giving the advice of the Privy Council, states that “Property and its proceeds are clearly different assets. On a sale of goods, the seller exchanges one asset for another” (para 43). Moreover, unlike fixed securities over tangibles or intangibles, the Barclays charge did not prevent Mr and Mrs Buhr from selling the Rectory Farm. Barclays cannot adopt the sale by them of Barclays’ interest in Rectory Farm because all the Buhrs could sell and accordingly all that they sold was their own interest in Rectory Farm. The mortgage would continue until discharged (Samuel Keller Ltd v Martins Bank [1971] 1 WLR 43, 47H). The reason why Barclays lost its proprietary interest was its own failure to register its charge. The fact that after 1925 the mortgagor can sell the mortgaged property makes a critical difference: before 1925 only the mortgagee could convey the legal title. Since 1925 the legal estate has remained vested in the mortgagor so clearly he can now pass the legal estate. It is significant that there is no parallel provision to section 105 of the Law of Property Act 1925 dealing with proceeds of sale received by a mortgagor. Mr Norris further submits that the fact that a mortgagee’s interest (if duly registered) is preserved as against purchasers and that he is given the protection of holding the title deeds shows that there is no automatic interest in the proceeds of sale. He further submits that the beneficial interest in the proceeds of sale is in any event fundamentally different from an interest by way of security.
Professor Sir Roy Goode expresses the view that the creditor with security has an equitable right to trace into the proceeds of sale of a security. However, for this to be correct there would have to be a fiduciary duty. There was no fiduciary relationship between the Buhrs and Barclays. Accordingly no right to trace can exist: Agip (Africa) Ltd v Jackson [1991] Ch.547, 566h.
The judge’s all estate clause point
The judge held was that section 63 of the Law of Property 1925 operated to confer a charge over the Buhrs’ equitable interest in Rectory Farm, which was “of necessity” a charge over the proceeds of sale on the statutory trusts. Mr Norris submits that there is no authority for the proposition that the all estate clause can be used to support partial performance where the intended bargain was in fact fully performed (cf First National Securities v Hegerty [1985] QB 850). The fact that Barclays failed to obtain a fully enforceable charge was Barclays’ fault for failing to register its charge properly.
Mr Norris submits that it is wrong in principle to introduce by implication equitable charges of equitable interests simultaneously with undoubtedly effective legal charges of legal interests. Once the entire legal interest intended to be conveyed is conveyed (the charge by way of legal mortgage) so that there is no separation of legal and beneficial ownership (but only the division of legal interest in accordance with the Law of Property Act 1925) it is unnecessary to analyse the transaction in equity. Indeed a merger of the lower in the higher security occurs (see Fisher & Lightwood Law of Mortgage (10 ed) (1988) page 618-9).
In any event an equitable charge does not result in a change of ownership either at law or in equity: see for example Megarry & Wade, Law of Real Property (6th ed) (2000) paras. 19-005,19-040. Accordingly the existence of an equitable charge could not support a declaration that Barclays had a proprietary interest by way of constructive trust.
The judge’s analogy with section 105
Prior to section 21(3) of the Conveyancing Act 1881 a constructive trust was imposed in equity in the circumstances indicated by the judge simply on the surplus proceeds of sale. The position was codified by statute. However, the constructive trust was not imposed as a safety net to protect a mortgagee who had not taken the steps open to him to protect his interest in the property. The fact that under the Law of Property Act 1925 the mortgagor retains the legal estate and that no statutory trust would be imposed on him selling the estate vested in him means that there would be a requirement to impose a constructive trust only if equity demanded that Barclays’ rights should be preserved notwithstanding that it has failed to protect the charge by registration. The sale by the Buhrs was not unauthorised. The effect of the sale was to crystallise their contractual obligation to repay Barclays. It did not create a charge over the proceeds of sale. That is why a proprietor of an unregistered puisne mortgage will seek an undertaking that the proceeds of sale be paid to him before agreeing to release the deeds.
Respondent’s submissions
Miss Elizabeth Gloster QC, for Barclays, makes the following preliminary submissions. First, it is irrelevant that Barclays’ charge was inappropriately registered. That only affects the mortgagee’s position vis-a-vis a purchaser. She submits that the disposition was unauthorised. Second, in contradistinction to Mr Norris she submits that it makes no difference to the legal analysis that the sale was by the chargor with the concurrence of UCB. The position is exactly the same: section 105 applies. The appellants’ case is premised on the notion that it is critical to their case that the sale was by the mortgagor and not by the first mortgagee or chargee. If UCB had sold as first mortgagee, section 105 would have applied and the proceeds would have been held on trust for Barclays as a person entitled even though its charge was unregistered. Likewise, under the Insolvency Act 1986, the position of first and second mortgagees of a bankrupt is protected. There is no question of the proceeds of sale becoming available for the bankrupt mortgagor: see Insolvency Rules 6.197 to 6.199. The problem with which this case is concerned would not have arisen prior to 1881 and probably did not cross the minds of the draftsmen in 1925. Before the introduction of charges by way of legal mortgage, there was no need for a provision dealing with sale by the mortgagor because the chargee had a proprietary interest in the property and its proceeds and accordingly the exact same reasons would indicate that the mortgagor should hold the proceeds on sale on trust for an unregistered mortgagee. The principle applies in exactly the same way. Third she submits that it is irrelevant here that the solicitor received the proceeds of sale as opposed to the mortgagor. He stands in the same position given his knowledge. Fourth, the notion that all Mr and Mrs Buhr were doing was selling a limited interested in the property is incorrect. They sold as beneficial owners free from encumbrances. Mr Norris submits that they were just selling their equity of redemption i.e. selling what interest they had. However what they were really selling was the fee simple.
The judge’s proceeds point
Miss Gloster submits the charge expressed to be by way of mortgage confers a legal interest in land. She refers to section 1 and section 205(1)(x) and (xvi) of the Law of Property Act 1925, Halsbury’s Laws of England, Volume 32, para 304 and Megarry and Wade, Law of Real Property (6 ed) (2000), paras 19-019 to 19-026.
Miss Gloster submits further that a chargee has an immediate proprietary interest in the property charged whatever the nature of the property charged. This is also the case in relation to equitable mortgages. She disputes Mr Norris’ submission that Barclays had no proprietary interest in the property charged. An equitable chargee has no legal right to possession or legal right of property but can require that the property charged in his favour should be made available to pay the debt due to him: see for example National Provincial and Union Bank of England v Charnely [1924] I KB 431 at 449-450 per Atkin LJ; Re Cosslett (Contractors) Ltd [1998] Ch 495, 508 per Millett LJ
Miss Gloster also submits that a chargee can by virtue of his proprietary interest trace his interest into the proceeds of sale of land to the extent of his security interest. In support of this she relies on Foskett v McKeown [2000] 2 WLR 1299 at 1304 to 1305. In the course of this passage Lord Browne-Wilkinson held that “Like any other equitable proprietary interest [the equitable proprietary interests of the purchasers] which originally existed in the monies paid to Mr Deasy now exists in any other property which, in law, now represents the original trust assets.” Accordingly Barclays has the right to elect to trace its interest in the proceeds of sale. For this purpose it does not matter if Barclays’ charge is purely equitable. Barclays had the right to sell the property themselves. She submits that this right of election would have subsisted whether or not the charge was registered. However Barclays would have to permit the Buhrs to redeem the charge. She submits that it would be contrary to commercial sense if Barclays had no right to trace. For what, she asks, is a mortgage if it is not to obtain repayment out of the proceeds of sale of the mortgaged property?
The appellants’ assertion that a constructive trust is needed only if a mortgagee has failed to protect his interest by registration is on Ms Gloster’s submission erroneous because a registration only affects the mortgagee’s position as against third parties. Some interests cannot be protected by registration. If the mortgagee mistakenly handed over the title deeds to the mortgagor who sold the property to a bona fide purchaser for value, it cannot be right that the mortgagee has only a personal claim as against the mortgagor. The appellants’ case amounted to a submission that the claim of a mortgagee against a mortgagor would be a personal claim both with respect to a deficiency in the proceeds of sale and in respect of improper retention of the proceeds of sale. On the respondent’s case, the mortgagee has a proprietary interest in the proceeds of sale.
The judge’s all estate clause point
Miss Gloster submits that the mortgagors have charged their equitable interests. Under the Trusts of Land and Appointment of Trustees Act 1996, their interests in land are equitable interests and accordingly by virtue of section 63 of the Law of Property Act 1925 Barclays has a charge over equitable interests as well and the Hegarty case is authority for the proposition where the chargee is able to rely on a charge of equitable interests.
Miss Gloster also submits that the doctrine of merger does not apply. This is a situation in which Barclays contends that a legal charge of an equitable interest subsists alongside a legal charge over a legal interest.
Miss Gloster also submits that Mr Norris’s submission that reliance on section 63 introduces the risk of liability being imposed through notice is incorrect. Barclays is simply trying to establish who is entitled to the proceeds.
The judge’s analogy with section 105
Miss Gloster submits that the Buhrs were selling assets in which Barclays has a legal proprietary interest and accordingly they stand in a fiduciary relationship to Barclays with respect to the proceeds of sale. This she submits is how equity gives effect to the existing proprietary interest. The Buhrs hold the proceeds on constructive trust for the chargee. They are not free to deal with the proceeds without giving effect to the proprietary or security interest of Barclays. This is an exact mirror of section 105. There is no case law authority for this. It is self evident. These submissions are supported by the extracts from Professor Sir Roy Goode’s work set out above.
With respect to Agnew case, Miss Gloster rejects Mr Norris’ submission that this case contradicts unity of ownership: see para. 28 of the report. So far as book debts are concerned it is possible to have either an assignment by way of charge or simply a charge.
Miss Gloster’s submission is that even if there is a separate charge over the assets and proceeds, the same principle as is manifest in section 105 dictates that where property is sold by the mortgagor, the proceeds of sale should be held on trust in order give effect to the proprietary interest of the second mortgagee. Section 105 merely codified the law. The same principles inform the present situation. Otherwise the unsecured creditors receive a windfall. Such a trust should now be imposed on the mortgagor because, as the judge pointed out, the 1925 legislation had altered the balance of power between a mortgagor and mortgagee in that the mortgagor retains the legal estate. The appellants’ argument would lead to anomalous results where the statutory trust on insolvency intervenes.
Miss Gloster submits that in an insolvency creditors with charges over land are protected even if their charges were not registered under the Land Charges Act 1972. If the court ordered the land to be sold, the net proceeds of sale would be applied in repayment of the monies owed to the mortgagees.
General
Miss Gloster accepts that an alternative approach might be that when the mortgaged property was sold without the consent of Barclays, Barclays could ratify that sale and thus claim a security interest in the proceeds.
In conclusion Miss Gloster submits that “any sensible system of property law” must avoid the result for which the appellants contend.
Conclusions
Consequences of non-registration
The starting point is section 4(5) of the Land Charges Act 1972 (re-enacting sections 14(2) of the Land Charges Act 1925):
“(5) … a land charge of class C … shall be void against a purchaser of the land charged with it, or any interest in such land, unless the land charge is registered in the appropriate register before the completion of the purchase.”
An unregistered land charge is thus void only against a purchaser. This makes it clear that the position as between the parties to the charge is unaffected by non-registration if the mortgaged property is sold and completion takes place. The charge remains valid between the parties. Their bargain is not affected. On Mr Norris’s submission, under section 4(5), on completion of the sale the charge continues to exist as a legal estate, even though it is unenforceable. On his submission unenforceability flows from non-registration and is to be presumed to be Parliament’s intention. In my judgment neither submission is correct. An estate is an interest in land, and thus cannot subsist without the property to which it attaches. It cannot subsist in that property because it is ousted by the absolute interest which the purchaser acquires. The authority relied on by Mr Norris (Samuel Keller Ltd v Martins Bank, above) is distinguishable because there was no disposition of the mortgaged property in that case and thus the question of what happened to the legal estate in that situation did not arise. Mr Norris’ argument that all the Buhrs conveyed was their equity of redemption thus cannot successfully meet the point that the conveyance destroyed Barclays’ unregistered proprietary interest in Rectory Farm.
The position of unregistered charges under the Land Charges Act 1972 can be compared with that of charges required to be but not duly registered under the Companies Act 1985. Registrable, charges executed by companies but not registered at Companies House are void as against a liquidator and any creditor, but not as against the company itself (see Companies Act 1985, section 395(1)). Accordingly if the property subject to a charge is not so registered and the property remains after all the costs of the winding up and debts payable in the liquidation have been paid the property will continue to be encumbered even though the charge was not registered at Companies House: see Independent Automatic Sales Ltd v Knowles & Foster [1962] 1 WLR 974 per Buckley J.
Moreover if Mr Norris’s submission is a complete statement of the lender’s position the lender has lost any effective proprietary right. There is nothing in the Land Charges Act 1972 which indicates that this is to be the result of non-registration. Since Parliament has not expressly taken away any proprietary right of the unregistered chargee, it must be assumed that he retains any proprietary right conferred on him by the general law.
The general principle: the mortgagee has a right to accretions to and substitutions for the mortgaged property
In my judgment the judge reached the right conclusion. He relied on the passages from the work of Professor Sir Roy Goode. Although Professor Sir Roy Goode does not cite authority for his statements about the proceeds of sale of an unauthorised disposition, his conclusions are in my judgment supported by principle and authority.
So far as principle is concerned, equity has for a long time taken the view that the mortgagee is entitled to a security interest in the fruits of the mortgaged property. Thus if (for example) a mortgagor grants security over a lease and he then surrenders the lease and takes a new lease, the mortgagee has a security interest in the new lease (Hughes v Howard (1858) 25 Beav. 575). Where a mortgagor renews a lease the mortgagee obtains a security interest in the new lease without express mention in the mortgage deed (Leigh v Burnett (1885) 29 Ch.D 231). Mr Norris submits that these cases are distinguishable because this case is concerned with proceeds of sale, rather than the renewal or grant of a lease. In my judgment this is not a valid distinction. In all these cases, the mortgagee is entitled to the fruits of the mortgaged property: see generally Fisher & Lightwood’s Law of Mortgage, (10 ed) (1988) at pages 55 to 57.
Likewise a mortgagee has been held entitled to a security interest in compensation monies received on a compulsory acquisition of part of the mortgaged property without express mention in the deed (Law Guarantee and Trust Co Ltd v Mitcham and Cheam Brewery Co Ltd [1906] 2 Ch 98). That particular set of facts is in my judgment only distinguishable from the present case by virtue of the fact that the sale was compulsory. Mr Norris submits that the cases which illustrate the principle described above were cases where the mortgage was by way of assignment. If he is right, the authorities are not founded on any common or consistent principle. In my judgment that is not correct. They are founded on the simple and eminently fair proposition that the mortgagee should be entitled to accretions to the mortgaged property or property received in substitution for it, as on a renewal or further grant of a lease. That principle is reflected in legislation dealing with leasehold enfranchisement (see the Leasehold Reform Act sections 8 to 13); on compulsory acquisition and compensation for blight (see for example Town and Country Planning Act 1990 ss 117(3), 162, 250); and on disclaimer in the insolvency of the mortgagor (Insolvency Act 1986, ss 181 and 320).
We are not concerned in this case with a charge over book debts. Mr Norris has however drawn support from the authorities on this subject. The law has had a chequered history, the weight of authority in this court being that a company can create a fixed charge over book debts and a separate floating charge over its proceeds (see Re New Bullas Trading [1994] 1 BCLC 485). However the Privy Council in the Agnew case came to the contrary conclusion:
“46. While a debt and its proceeds are two separate assets, however, the latter are merely the traceable proceeds of the former and represent its entire value. A debt is a receivable; it is merely a right to receive payment from the debtor. Such a right cannot be enjoyed in specie; its value can be exploited only by exercising the right or by assigning it for value to a third party. An assignment or charge of a receivable which does not carry with it the right to the receipt has no value. It is worthless as a security. Any attempt in the present context to separate the ownership of the debts from the ownership of their proceeds (even if conceptually possible) makes no commercial sense.”
The Privy Council concluded that New Bullas was wrongly decided (report, para 50). It also held that property and its proceeds are to be treated as separate assets (see report, para 43 cited above). However I do not agree with Mr Norris that the Agnew case therefore supports his submissions. None of the observations of the Privy Council are expressed in the context of a mortgagee’s right to accretions to, and substitutions for, the mortgaged property. In that situation, the law treats the mortgagee as entitled to the property which represents the mortgaged property. That conclusion does not depend on the indivisibility of property from its proceeds, but rather on the derivation of the proceeds of sale. The authorities on book debts therefore neither assist in this case or undermine the principle which I have stated.
In most cases where a mortgagor wishes to sell the mortgaged property the problem in this case will not arise. The mortgagor will be anxious to discharge the charge over the property being sold. However, that did not happen in this case. Likewise the proprietary interest of Barclays in the proceeds could have been lost if the proceeds of sale had reached the hands of creditors who did not know of the interest of Barclays. That is not an issue which needs to be explored in this case because, whatever happened to the monies, Thrings certainly facilitated their payment out of their client account with knowledge of the material facts. Thrings accepts that it is liable as constructive trustee if Barclays establishes a proprietary interest in the proceeds of sale.
The judge’s proceeds point
I agree with the judge’s conclusion that, if, as here, the mortgagor makes a disposition of the mortgaged property in a manner which destroys the mortgagee’s estate in the mortgaged property, a security interest in the property which represents the mortgaged property automatically and as a matter of law comes into existence as from the moment that the mortgagor becomes entitled to that property. To that extent I also agree with Professor Roy Goode. In my judgment, the disposition by the Buhrs was not authorised: their authority from Barclays to sell the mortgaged property could not extend to selling Rectory Farm in a manner which destroyed Barclay’s security.
Miss Gloster’s proposition that a mortgagee has a right in every case to claim the proceeds of sale and could elect as to a security interest in the property or the proceeds of sale is wider than that accepted by the judge. Nor is it accepted by Professor Sir Roy Goode (see the second passage cited above). It is not necessary to resolve that point in this case, but I do not consider that Miss Gloster’s proposition is correct. If with the consent of all parties the property is sold subject to the mortgage the mortgagee cannot in my view elect to have a charge over the proceeds of sale.
Mr Norris submits that the mortgagor does not owe a fiduciary duty to the mortgagee. In general terms this is correct. For instance the mortgagor has no general duty to act in the interests of the mortgagee. But in the specific matter of accretions to or substitution of the mortgaged property equity has undoubtedly treated the mortgagor as a fiduciary (see Re Biss [1903] 2 Ch 40). There is no difficulty in law with a person being a fiduciary towards another in respect of some aspects only of that person’s duty to that other (New Zealand Netherlands Society”Oranje” Inc v Kuys [1973] 1 WLR 1126). I reject Mr Norris’ submission that in some way an equitable charge is insufficient to give an interest in land. I agree that no change of legal or equitable ownership takes place when an equitable charge is created. Even so, the equitable chargee obtains a proprietary interest in the property (see for example Bland v Ingrams Estate [2001] 1 WLR 1638 at 1645 G per Nourse LJ). This is sufficient to give the mortgagee a proprietary interest in property which represents the property originally mortgaged following completion of an unauthorised disposition by the mortgagor.
For my own part, I do not consider that Professor Sir Roy Goode’s statements can be limited to chattel mortgages or charges over book debts. Chattel mortgages are very different from mortgages of immovable or intangible property for a number of reasons. These reasons include the fact that it is not possible in law to have a legal estate in a chattel. So far as book debts are concerned, it has always been possible to create an equitable or floating charge over them: see, as to the former, section 136 of the Law of Property Act 1925 and the authorities decided thereunder such as Tancred v Delagoa Bay and East African Railway (1889) 23 QB 39 and Hughes v Pump House Hotel Co Ltd [1902] 2 KB 190, which distinguish absolute assignments of debts with a proviso for reconveyance, and charges on book debts; and as to floating charges, see for example Business Computers Ltd v Anglo-African Leasing Ltd [1977] 1 WLR 578. I do not therefore accept as correct Mr Norris’ submission that charges over book debts have to be effected in one of the ways in which mortgages of land could be created prior to 1925.
The same result as the judge reached could in my judgment be achieved by an alternative route. The Buhrs’ disposition was unauthorised. They purported to sell with full title guarantee and thus free from Barclays’ charge. Barclays (if indeed it has already done so by commencing these proceedings) could adopt this transaction and thus retrospectively make the Buhrs its agent. In the context of this transaction, the Buhrs would in my judgment then be bound to keep the proceeds of sale separate from their other assets and would hold them (subject to prior charges) on trust for Barclays and so would be bound to account to Barclays for the amount secured by its charge.
Professor Sir Roy Goode’s basic proposition – that security in an asset carries through to its proceeds – is also supported by common sense. If the judge’s conclusion is wrong there is a significant lacuna in the law of mortgages. If the charge had been registered, or the Buhrs had been insolvent and Rectory Farm had been sold by their trustees in bankruptcy, or if UCB had sold Rectory Farm, Barclays would have had a proprietary interest in the proceeds. This would be so in the latter two cases, even though its charge was unregistered. Both counsel correctly recognised that as between the mortgagor and the mortgagee the fact that the charge is unregistered matters not because the Land Charges Act 1972 invalidated the unregistered charge only as against a purchaser of the land charged or an interest therein. In the circumstances it would be extraordinary if Barclays had no proprietary interest in the proceeds of sale in this case when their charge was unregistered but the sale was effected by the mortgagors.
The judge’s all estate clause point
Next, as to the all estate clause, this was probably the judge’s solution to the point made by Mr Norris in this court and no doubt by counsel (Ms Tracy Angus) appearing for Thrings before the judge. The argument runs thus. All the Buhrs could do was sell their equity of redemption and accordingly they did not sell Barclays’ interest in Rectory Farm. That interest continues but is void against the purchasers of Rectory Farm. The response is the all estate clause argument: the Buhrs also had a beneficial interest in the proceeds of sale and so they must have charged that too and so Barclays is fully secured over those proceeds even though its charge continues over the property.
In my judgment the argument that the all estate clause was designed to meet proves too much. The Buhrs did not purport to sell their equity of redemption. They purported to sell with full title guarantee. Even if they could not sell the interest of Barclays in Rectory Farm they entered into a transaction to the end that Barclays’ interest in the property should be destroyed and with that effect. If they had sold simply their equity of redemption the purchasers would only have bought that equity and it is arguable that the interest of the mortgagee is not invalidated in this event so that Barclays could now register the charge and obtain a security interest in Rectory Farm. But Barclays have not chosen that route and in my judgment it would be unreasonable for the law to require Barclays to test that proposition first by pursuing what is at most at this stage only a possible course against the purchasers. After all there is no doubt that the purchasers would resist since they contracted to receive an estate in fee simple and paid a price appropriate to that transaction. But Barclays is entitled in effect to give its sanction to the sale and claim the consequences of the transaction as I have found it to be, namely that they have a security interest in the proceeds of sale. It is not necessary to take the all estate clause route which the judge took. For my own part, I would construe the charge over the property as inconsistent with a (contemporaneous) covenant for a charge over the proceeds of sale. Such a charge would under section 63 have been present from the inception of the charge. It would be odd if the result in this type of case depended on whether there was more than one mortgagor. The situation in which Barclays has a security interest in the proceeds of sale in my view does not arise unless property is substituted for the mortgaged property and that property is represented by proceeds of sale.
The judge’s analogy with section 105
The rule of equity that imposed a trust on the surplus proceeds of sale in the hands of a mortgagee exercising his power of sale is in some respects an analogous situation. However, as Mr Norris points out, in this case the trusts of surplus proceeds in favour of a mortgagor is a trust for the mortgagor absolutely whereas the interest of a mortgagee can only ever be a security interest and subject to redemption by the mortgagor. In my view it is not necessary to rely on the analogy with section 105 because the principle of substitutions described above applies. There is therefore no need to find an explanation for the fact that the Law of Property Act 1925, section 105 makes provision for the trust of the proceeds of sale when received by the mortgagee but not a trust of the proceeds of sale held by the mortgagor. The rationale for the proprietary interest of the mortgagee in the proceeds of sale in the hands of the mortgagor (not required for the discharge of prior encumbrancers) in this case has a different origin (see above).
General considerations
Miss Gloster concluded with the general submission the “any sensible system of property law” must avoid the conclusion for which the appellants contend in this case.
It is important to recall that our real property law is not simply a collection of rules inherited from the Middle Ages liable to be out of touch with modern social and economic needs. Much valuable work has been done for instance by the Law Commission and HM Land Registry to keep property law up to date: see in particular Land Registration for the Twenty-First Century A Conveyancing Revolution (Law Com. No.271) (July 2001). It is of course the case that the complexities and language of our property law reflect the length of our social history down the ages from the time of the baronial courts. But the modern approach is to concentrate not on its historical role but to see its social and economic importance, to examine any proposition in issue in that light and to continue the task of ensuring that the law meets changing social and economic needs. Mortgages, despite their roots in twelfth and thirteenth centuries, are still an important means of raising money and using assets for this purpose. Mr and Mrs Buhr like many other small entrepreneurs used their home as security for their business interests. This is a very important function of mortgages of every kind and I would have been loathe to reach a conclusion which would have exposed a significant technical gap in the protection given to mortgagees. It would in my view be contrary to expectation and common sense. That conclusion would have been liable to cause mortgagees to decline to permit sales by mortgagors without their consent. That would hamper the freedom of mortgagors or dissuade mortgagees from lending money on the security of mortgages at all. It matters that there should be appropriate incentives and protections in the law for mortgagees as well as mortgagors.
Disposition
For all these reasons, despite the persuasive and skilled manner in which Mr Norris has put Thrings’ case, the appeal should in my judgment by dismissed.
TUCKEY LJ:
I agree.
LORD CHIEF JUSTICE OF ENGLAND AND WALES:
I also agree.
Cukurova Finance International Ltd & Anor v Alfa Telecom Turkey Ltd (British Virgin Islands)
[2013] UKPC 2 [2016] AC 923 PC
Privy Council
Discussion
In the Board’s opinion the judge’s findings afford no basis for treating the appropriation of the charged shares as ineffective, for essentially the reasons which he gave. In equity, a mortgagee has a limited title which is available only to secure satisfaction of the debt. The security is enforceable for that purpose and no other: Quennell v. Maltby [1979] 1 WLR 318, 322H (Lord Denning MR); Downsview Nominees Ltd v. First City Corporation Ltd. [1993] AC 295, 312G (Lord Templeman). It follows that any act by way of enforcement of the security (at least if it is purely) for a collateral purpose will be ineffective, at any rate as between mortgagor and mortgagee. The reason is that such conduct frustrates the equity of redemption which, as Sir John Stuart V-C observed in Jenkins v. Jones (1860) 2 Giff 99, a court of equity “is bound to regard with great jealousy.”
In principle, this is straightforward enough, but the facts are rarely simple. The acceleration of the loan on 16th April 2007 in this case was not part of the process of realising the security. It merely brought forward the date of repayment of the loan and ascertained the amount. Given that there was an event of default, there was a contractual right to do this. It follows that the debt of $1.352bn (plus interest) was repayable in full at the time when ATT satisfied it by appropriating the charged shares.
Under clause 9.3 of the Charges, ATT was entitled to “appropriate any Charged Asset… in or towards satisfaction of the Liabilities in accordance with the Regulations”, at its “Fair Price” (as defined). This means that, by virtue of Regulation 18 of the Financial Collateral Arrangements (No. 2) Regulations 2003, SI 2003 No 3226 (“the Regulations”), the lender was entitled to appropriate the security at that price, any difference between the valuation and the liabilities being settled separately.
It necessarily follows from an arrangement on these terms that the lender may satisfy the debt by crediting the borrower with the Fair Value of the security and retaining the charged assets as their own property: see the advice of the Privy Council delivered by Lord Walker – [2009] UKPC 19, paragraphs 12-13. As Lord Walker also observed at [2009] UKPC 19, paragraph 27, this is a remedy new to English law which allowed what was “in effect a sale by the collateral-taker to himself, at a price determined by an agreed valuation process.”
CH and CFI do not dispute that ATT appropriated the charged shares in order to satisfy the debt. They hardly could do so, since appropriation is a mode of satisfying the debt. Their real complaint is that ATT only wanted to do so because that would enable it to obtain control over CFI and CTH and indirectly of Turkcell, instead of (say) selling the shares onto the market. Since this was the very thing that the contract and the Regulations permitted, it is impossible for them to contend that ATT was exercising its power of enforcement for a collateral purpose. The acquisition of control was a necessary incident of a permitted mode of satisfying the debt. The fact that it was an incident which was highly attractive to ATT does not mean that the right of appropriation was exercised in bad faith.
That is enough to decide this particular issue in the present case. More generally, however, the Board considers that if a chargee enforces his security for the proper purpose of satisfying the debt, the mere fact that he may have additional purposes, however significant, which are collateral to that object, cannot vitiate his enforcement of the security. If the law were otherwise, the result would be that the exercise of the right to enforce the charge for its proper purpose would be indefinitely impeded because of other aspects of the chargee’s state of mind which were by definition irrelevant.
Of course, there may be other ways of satisfying the debt which involve less drastic consequences for the Cukurova Group. But since no alternative mode of satisfaction was available at the time when ATT were entitled to, and did, appropriate the security, that consideration is relevant only to the question of relief from forfeiture. To that question, therefore, the Board now turns.
Relief from forfeiture
Introduction
In the courts below, CH and CFI argued that, if, contrary to their submissions, ATT was entitled to give both notice of acceleration and notice of appropriation and was therefore in principle entitled to retain the charged shares, the court should give them relief in equity.
As explained above, before the judge, CH and CFI succeeded on the basis that there was no event of default, and, although the judge expressed obiter views on bad faith and improper purpose which were adverse to CH and CFI, he did not express any opinion on the issue of relief in equity. In the Court of Appeal only Kawaley JA mentioned relief in equity. He said that, having rejected the bad faith argument on the ground that there was no basis for depriving ATT of its contractual rights on equitable grounds, it followed that the alternative equitable forfeiture claim must also be rejected.
The Board considers that this approach is not correct as a matter of principle. The case made by CH and CFI that the court should afford them relief in equity is distinct from their case on bad faith and improper purpose. It does not follow from the rejection of the latter case that the court cannot or should not afford equitable relief on appropriate terms. Relief from forfeiture must be considered on its own terms as a possible freestanding remedy.
The equitable relief sought is either (i) relief pursuant to the general equitable jurisdiction to relieve from forfeiture or (ii) relief pursuant to the particular equitable jurisdiction to revive a mortgagor’s equity of redemption after it has been destroyed, and to give the mortgagor a further opportunity to pay the debt and recover its property. The Board agrees with Mr MacLean that, whether these two jurisdictions are separate, or whether the latter is merely a particular application of the former, is open to question, but this is of academic interest only in the present case.
For present purposes, it is convenient to refer to both heads of relief compendiously as relief from forfeiture. The forfeiture against which relief is sought is the forfeiture of the charged shares. The issues which arise under this head are whether the court has jurisdiction to grant such relief; if so, whether the court should grant relief; and, if so, on what terms.
Whether the court has jurisdiction to grant relief from forfeiture depends upon the relevant facts, upon the jurisdiction of the court in equity and upon the effect of the Regulations.
Jurisdiction to grant relief in equity
The critical aspect in this regard is the nature of the transaction which is summarised above and reiterated shortly here. Repayment to ATT of the loan of US$1.352bn was secured by equitable mortgages over the charged shares, which are and were of substantial value. It is not in dispute that the charges may properly be described as mortgages.
CH and CFI contend that the mortgages in this case are a classic example of the type of transaction in which the courts of equity have jurisdiction to grant relief. They rely upon the classic statement of principle by Lord Wilberforce in Shiloh Spinners Ltd v Harding [1973] AC 691, 722:
“There cannot be any doubt that from the earliest times courts of equity have asserted the right to relieve against the forfeiture of property. The jurisdiction has not been confined to any particular type of case. The commonest instances concerned mortgages, giving rise to the equity of redemption, and leases, which commonly contained re-entry clauses; but other instances are found in relation to copyholds, or where the forfeiture was in the nature of a penalty. Although the principle is well established, there has undoubtedly been some fluctuation of authority as to the self-limitation to be imposed or accepted on this power. There has not been much difficulty as regards two heads of jurisdiction. First, where it is possible to state that the object of the transaction and of the insertion of the right to forfeit is essentially to secure the payment of money, equity has been willing to relieve on terms that the payment is made with interest, if appropriate and also costs (Peachy v. Duke of Somerset (1721) 1 Stra 447 and cases there cited). Yet even this head of relief has not been uncontested …” (emphasis added).
In the passage of his speech which begins at 722G, Lord Wilberforce discussed the historical development of a number of different issues and, at 723G, he continued, albeit in the context of real property, as follows:
“I would fully endorse this: it remains true today that equity expects men to carry out their bargains and will not let them buy their way out by uncovenanted payment. But it is consistent with these principles that we should reaffirm the right of courts of equity in appropriate and limited cases to relieve from forfeiture for breach of covenant or condition where the primary object of the bargain is to secure a stated result which can effectively be attained when the matter comes before the court, and where the forfeiture provision is added by way of security for the production of that result. The word ‘appropriate’ involves consideration of the conduct of the applicant for relief, in particular whether his default was wilful, of the gravity of the breaches, and of the disparity between the value of the property of which forfeiture is claimed as compared with the damage caused by the breach.”
In Scandinavian Trading Tanker Co AB v Flota Petrolera Ecuatoriana, “The Scaptrade” [1983] 2 AC 694, the House of Lords robustly rejected the submission that the court had power to grant relief from forfeiture in a case where the owners had withdrawn a vessel for non-payment of hire under a withdrawal clause in a time charterparty. At 702B, Lord Diplock, with whom the other members of the House agreed, quoted the passage from Lord Wilberforce’s speech in Shiloh which appears in italics in the first citation above, and said at 702C that that mainly historical statement was not intended to apply generally to contracts not involving any transfer of proprietary or possessory rights.
The commonest cases in which equity has power to intervene were identified by Lord Wilberforce as mortgages, which give rise to the equity of redemption, and leases, which commonly contain re-entry clauses. The paradigm case for relief in such instances is where the primary object of the bargain is to secure a stated result which can be effectively attained when the matter comes before the court, and where the forfeiture provision is added by way of security for the production of that result.
That was precisely the position here. This is a case of a mortgage in which the primary object of the bargain was to secure the repayment of the loan together with contractual interest and the forfeiture provision, namely the power to appropriate, was added in order to secure that result.
It follows that, unless it can be said that the jurisdiction to give relief in the case of a mortgage is limited to mortgages of real property, no convincing reason has been identified why there should not be jurisdiction here. On the contrary it is a classic case for the exercise of the jurisdiction. The Board has reached the clear conclusion that there is no principled basis upon which the jurisdiction can be limited to real property. Nor is there any authority for such a distinction.
The issue was addressed in BICC Plc v Burndy Corporation [1985] Ch 232, 252A-C, where Dillon LJ said this:
“There is no clear authority, but for my part I find it difficult to see why the jurisdiction of equity to grant relief from forfeiture should only be available where what is liable to forfeiture is an interest in land and not an interest in personal property. Relief is only available where what is in question is forfeiture of proprietary or possessory rights, but I see no reason in principle for drawing a distinction as to the type of property in which the rights subsist. The fact that the right to forfeiture arises under a commercial agreement is highly relevant to the question whether relief from forfeiture should be granted, but I do not see that it can preclude the existence of the jurisdiction to grant relief, if forfeiture of proprietary or possessory rights, as opposed to merely contractual rights, is in question. I hold, therefore, that the court has jurisdiction to grant Burndy relief.”
Kerr LJ agreed with that part of Dillon LJ’s judgment, and Ackner LJ agreed with the whole of it at 253C and 260A respectively.
That reasoning, with which the Board agrees, supports the conclusion that relief from forfeiture is available in principle where what is in question is forfeiture of proprietary or possessory rights, as opposed to merely contractual rights, regardless of the type of property concerned. See also Jobson v Johnson [1989] 1 WLR 1026 and On Demand Information Plc v Michael Gerson (Finance) Plc [2002] UKHL 13, [2003] 1 AC 368, where it was held that there was jurisdiction to grant relief in respect of a commercial agreement for the purchase of shares and in respect of a finance lease respectively. However, as already stated, the commonest such case is that of a mortgage or charge where the mortgagor or chargor retains the equity of redemption. In our opinion this is such a case.
As Dillon LJ observed in BICC, the mere fact that the transaction is commercial in nature does not preclude the jurisdiction to grant relief from forfeiture, provided that the forfeiture is of possessory or proprietary rights and not of purely contractual rights. There are many cases in which relief has been granted in the context of mortgages of land in which the underlying transaction is a commercial transaction. Lord Hoffmann said much the same in giving the judgment of the Board in Union Eagle Ltd v Golden Achievement Ltd [1997] AC 514, 519F-G, where he observed that it is necessary to look more closely at the nature of the transaction than its subject matter.
Finally, the Board notes that in The Scaptrade at 704G, Lord Diplock expressly stated that the reasoning in his speech had been directed exclusively to time charterparties that are not by demise, that identical considerations would not apply to charterparties by demise, and that it would be unwise for the House to express any views about them. The same was true of the judgment of Goff LJ, giving the judgment of the Court of Appeal in the same case: see [1983] QB 529.
For these reasons the Board concludes that, subject to the effect of the Regulations, on the facts of this case, it has jurisdiction to grant relief from forfeiture.
Do the Regulations exclude or limit the grant of relief from forfeiture?
Apart from the Regulations, relief against forfeiture is in principle available in equity, notwithstanding a foreclosure order absolute: see Cocker v Beavis (1665) 1 Ch Cas, Campbell v Holyland (1877) 7 Ch D 166 and In re Farnol, Eades, Irvine & Co [1915] 1 Ch 22. But ATT submits that relief is here excluded, expressly or by necessary implication, by the Regulations.
The Regulations were introduced by the Treasury under section 2(2) of the European Communities Act 1972 in order to give effect to Council Directive 2002/47/EC on financial collateral arrangements. As Lord Walker’s earlier judgment records, the Regulations went significantly wider than was required by the Directive in respect of the categories of transaction covered. The application of the Directive was mandatory only in respect of transactions between public authorities, central banks and institutions authorised to participate in financial markets (the precise terms are set out in Article 1.2(a) to (d)). Its application was optional if one party was an authority, bank or authorised institution and the other was an ordinary company (within Article 1.2(e)).
The Treasury, after consultation, decided to include not only the optional case but also transactions between ordinary companies. In separate judicial review proceedings in England (R (Cukurova Finance International Ltd) v HM Treasury 29 September 2008 [2008] EWHC 2567 (Admin)), the appellants applied for leave to challenge the Regulations as being on this account ultra vires section 2(2) of the European Communities Act 1972, but leave was refused on the ground of delay.
The Directive covers two mutually exclusive categories of financial collateral arrangements (article 2(1)(b) and (c)). One of these is a security financial collateral arrangement (“SFCA”), defined as:
“an arrangement under which a collateral provider provides financial collateral by way of security in favour of, or to, a collateral taker, and where the full ownership of the financial collateral remains with the collateral provider when the security right is established.”
This definition is not easily applied to an English charge (whether legal or equitable), under which each party has a proprietary interest in the collateral so long as the security is in place (see per Lord Walker at [2009] UKPC 19, para 5). Nevertheless, it is common ground that each of the English share charges is to be regarded as a SFCA.
The Board is thus concerned with the interpretation and application of the Regulations as between parties to which the Directive, as a matter of European Union law, neither required nor contemplated that its terms would apply. Nevertheless, the Regulations are in the Board’s opinion to be interpreted in their full width against the background of the Directive, so as to give effect, even as between ordinary companies, to a similar scheme to that which is required or contemplated under European Union law to apply to transactions involving public authorities, central banks and financial market institutions.
This is so not because European law has any immediate relevance to transactions between ordinary companies, but on conventional principles of domestic construction. The Regulations were at their core rooted in the Directive, and they must in their extended domestic reach have been intended to operate on the same basis as at their core. Accordingly, in considering whether the Regulations exclude or limit the possibility of relief against forfeiture after appropriation, account must be taken of the purpose and effect of the Directive in relation to the transactions which it covers or contemplates. The Regulations must be construed as far as possible consistently therewith, even in relation to transactions outside the scope of the Directive.
The situation is similar to that considered in In re Maxwell Fleet & Facilities Management Ltd [2000] 2 CMLR 948 (HHJ Mackie QC), rather than that which arose in R v Portsmouth City Council, Ex p Coles CMLR 1135 (CA). In the former case, a regulation which was not required by the relevant directive was construed to operate consistently with other regulations which were central to the directive (para 38). That was an orthodox approach. In the latter case, the domestic regulations did not apply to the relevant contract, but it was argued that the directive had direct effect and that it could be construed by reference to a regulation for which no basis could be found in the directive (paras 7 and 13). That was self-evidently impermissible.
The aim of the Directive is explained in recital (17):
“This Directive provides for rapid and non-formalistic enforcement procedures in order to safeguard financial stability and limit contagion effects in case of a default of a party to a financial collateral arrangement. However, this Directive balances the latter objectives with the protection of the collateral provider and third parties by explicitly confirming the possibility for Member States to keep or introduce in their national legislation an a posteriori control which the Courts can exercise in relation to the realisation or valuation of financial collateral and the calculation of the relevant financial obligations. Such control should allow for the judicial authorities to verify that the realisation or valuation has been conducted in a commercially reasonable manner.”
The enforcement procedures to be provided are stated in article 4:
“1. Member States shall ensure that on the occurrence of an enforcement event, the collateral taker shall be able to realise in the following manners, any financial collateral provided under, and subject to the terms agreed in, a [SFCA]:
(a) financial instruments by sale or appropriation and by setting off their value against, or applying their value in discharge of, the relevant financial obligations;
(b) cash by setting off the amount against or applying it in discharge of the relevant financial obligations.
2. Appropriation is possible only if:
(a) this has been agreed by the parties in the [SFCA]; and
(b) the parties have agreed in the [SFCA] on the valuation of the financial instruments.
3. Member States which do not allow appropriation on 27 June 2002 are not obliged to recognise it. If they make use of this option, Member States shall inform the Commission which in turn shall inform the other Member States thereof.
4. The manners of realising the financial collateral referred to in paragraph 1 shall, subject to the terms agreed in the [SFCA], be without any requirement to the effect that:
(a) prior notice of the intention to realise must have been given;
(b) the terms of the realisation be approved by any court, public officer or other person;
(c) the realisation be conducted by public auction or in any other prescribed manner; or
(d) any additional time period must have elapsed.
5. Member States shall ensure that a financial collateral arrangement can take effect in accordance with its terms notwithstanding the commencement or continuation of winding-up proceedings or reorganisation measures in respect of the collateral provider or collateral taker.
6. This Article and Articles 5, 6 and 7 shall be without prejudice to any requirements under national law to the effect that the realisation or valuation of financial collateral and the calculation of the relevant financial obligations must be conducted in a commercially reasonable manner.”
The Regulations apply to “SFCAs”, defined for this purpose by regulation 3 as meaning:
“An agreement or arrangement, evidenced in writing, where—
(a) the purpose of the agreement or arrangement is to secure the relevant financial obligations owed to the collateral taker;
(b) the collateral-provider creates or there arises a security interest in financial collateral to secure those obligations;
(c) the financial collateral is delivered, transferred, held, registered or otherwise designated so as to be in the possession or under the control of the collateral-taker or a person acting on its behalf; …. and
(d) the collateral-provider and the collateral-taker are both non-natural persons.”
Regulation 3 further defines “security interest” as:
“Any legal or equitable interest or any right in security, other than a title transfer financial collateral arrangement, created or otherwise arising by way of security including – (a) a pledge; (b) a mortgage …..”.
“Financial collateral” is defined as either cash or financial instruments, and the latter expression is widely defined as including shares in companies.
The Regulations contain in Part 2 (regulations 4-8) provisions excluding certain legislative requirements and in Part 3 (regulations 8-15) provisions excluding or modifying various rules governing insolvency. In Part 5 (regulations 16-18), they state that, where a SFCA
“provides for the collateral-taker to use and dispose of any financial collateral provided under the arrangement, as if it were the owner of it, the collateral-taker may do so in accordance with the terms of the arrangement” (regulation 16).
Then, importantly, they provide in regulations 17 and 18:
“17. No requirement to apply to court to appropriate financial collateral under a security financial collateral arrangement
Where a legal or equitable mortgage is the security interest created or arising under a security financial collateral arrangement on terms that include a power for the collateral-taker to appropriate the collateral, the collateral-taker may exercise that power in accordance with the terms of the security financial collateral arrangement, without any order for foreclosure from the courts.
18. Duty to value collateral and account for any difference in value on appropriation
(1) Where a collateral-taker exercises a power contained in a security financial collateral arrangement to appropriate the financial collateral the
Should relief from forfeiture be accorded in this case?
This leads the Board to consideration of whether it should grant CH and CFI such relief, and if so on what terms. These questions require further examination of the nature of the jurisdiction to grant relief. In the passages in Shiloh [1973] AC 691 quoted above, Lord Wilberforce noted that equity is willing, in cases of security for the payment of money, to relieve from forfeiture on terms that the payment is made with interest, if appropriate, and also costs. Factors bearing on the appropriateness of relief were said to include the applicant’s conduct, “in particular whether his default was wilful, the gravity of the breaches, and of the disparity between the value of the property of which forfeiture is claimed as compared with the damage caused by the breach”. Commenting on this form of relief, Snell’s Equity (32nd Ed), para 13-015 observes that:
“Although this confers an apparently broad discretion, it is likely to be very difficult to establish a case for relief against forfeiture in a commercial context involving a freely negotiated contract. In such cases courts will place considerable emphasis upon the need for certainty.”
The authority cited for this qualification is the decision of Cooke J in More OG Romsdal Fylkesbatar AS v The Demise Charterers of the Ship Jotunheim [2004] EWHC 671 (Comm), [2005] 1 Lloyd’s Rep 181. That was a case of a demise charter for 48 months with an option to purchase at its end. The owners had the familiar right to terminate for non-payment of hire, a right intended to secure the payment of future hire and other sums. The owners terminated the charter after three months on account of late payment or non-payment of hire which Cooke J found to have been deliberate and to have been accompanied by invalid excuses (para 61). The demise charterers were “plainly unsatisfactory charterers with whom the owners [could] rightly anticipate further problems” (para 66). The commercial nature of a freely negotiated contract militated against relief, although termination would mean that the charterers incurred some modest wasted expenses and incurred “limited hardship …. because of the lost opportunity to purchase the vessel, the wasted payments and potential exposure to third parties”. That was however a risk they took by not paying the hire.
Cooke J, viewing the issue as one of discretion, declined to grant relief – a conclusion which the Board regards as unsurprising in the circumstances. Assuming the existence of a discretion, a court is even less likely to regard relief against termination as appropriate in respect of a chattel lease under which the payments represent the agreed rate for use of the chattel up to termination and no more: see Celestial Aviation Trading 71 Ltd v Paramount Airways Private Ltd [2010] EWHC 185 (Comm), [2011] 1 Lloyd’s Rep 9, paras 82-83. In contrast, it is in the Board’s view material that the present case does not involve a commercial contract in the same sense as that being considered in the Jotunheim or Celestial Aviation. It is a conventional case of borrowing on security.
In the case of forfeiture of leases and underleases of real property, the legislature has regularly intervened to regulate the power to grant relief in both parties’ interests. By the Act, 4 Geo. 2. c.28, re-enacted in this respect in the Common Law Procedure Act 1852, the right to claim relief in equity was limited to a period of six months after judgment in ejectment, but the lessee was given the right before trial of any ejectment action to seek relief in a common law court. The Common Law Procedure Act 1860 further extended the lessee’s rights by enabling relief to be obtained in a summary manner, though subject to the same terms and conditions as in Chancery. In equity, relief was accompanied by an order compelling the lessor to grant a new lease, but, under the 1852 Act and later the 1860 Act, it became possible for the court to order that the lessee should continue to hold on the terms of the old lease: see the discussion and order in Howard v Fanshawe [1895] 2 Ch 581, 590-592, A Compendium of Modern Equity, Andrew Thompson (1899), pp.264-265 and Snell’s Principles of Equity (18th ed. (1920), p.347.
An important limitation on Equity’s power to grant relief against forfeiture was that it did not apply to breaches of covenant not involving the payment of rent or other sums: see e.g. Principles of Equity, H. Arthur Smith (1882), p.206, para. 6. By the Act, 22 & 23 Vict. c.35, relief was made possible against a forfeiture for breach of covenant or condition (occurring without fraud or gross negligence) “to insure against loss or damage by fire, where no loss or damage by fire has occurred …. and there is an insurance on foot at the time of the application” to the court. By the Conveyancing Act 1881, s.14(2), and its successor section 146(2) of the Law of Property Act 1925, the power to grant relief against forfeiture has been statutorily enacted in broad discretionary terms, extending (with some exceptions) to breaches of covenant generally, whether remediable or not. Under section 146(2):
“the court may grant or refuse relief, as the court, having regard to the proceedings and conduct of the foregoing provisions of this section [provisions requiring notice of any breach and “a reasonable time thereafter, to remedy the breach, if it is capable of remedy”], and to all the other circumstances, thinks fit; and in case of relief may grant it on such terms, if any, as to costs, expenses, damages, compensation, penalty, or otherwise, including the granting of an injunction to restrain any like breach in the future, as the court, in the circumstances of each case, thinks fit”.
The breadth of the discretion conferred by the predecessor provision in the Conveyancing Act 1881, section 14(2) was underlined by Earl Loreburn LC in Hyman v Rose [1912] AC 623, 631:
“I desire in the first instance to point out that the discretion given by the section is very wide. The Court is to consider all the circumstances and the conduct of the parties. Now it seems to me that when the Act is so express as to provide a wide discretion, meaning, no doubt, to prevent one man from forfeiting what in fair dealing belongs to some one else, by taking advantage of a breach from which he is not commensurately and irreparably damaged, it is not advisable to lay down any rigid rules for guiding that discretion. I do not doubt that the rules enunciated by the Master of the Rolls in the present case are useful maxims in general, and that in general they reflect the point of view from which judges would regard an application for relief. But I think it ought to be distinctly understood that there may be cases in which any or all of them may be disregarded. If it were otherwise the free discretion given by the statute would be fettered by limitations which have nowhere been enacted.”
In the Court of Appeal, Hyman v Rose [1911] 2 KB 234, 241-242, Cozens-Hardy MR had suggested general principles to the effect that, in the first place, “the applicant must, so far as possible, remedy the breaches alleged in the notice and pay reasonable compensation for the breaches which cannot be remedied” and must also undertake in future to observe any negative covenant broken, to make good any waste if possible and to comply in future with any other covenant. In the House, Earl Loreburn was therefore stressing that even these modest general principles should not be regarded as inflexible. His words have been cited and adopted in cases under section 146(2) of the 1925 Act. Southern Depot Co Ltd v. British Railways Board [1990] 2 EGLR 39 and Darlington BC v Denmark Chemists Ltd [1993] 1 EGLR 62 are examples. In the former case, Morritt J said, p.44, that
“to impose a requirement that relief under section 146(2) should be granted only in an exceptional case seems to me to be seeking to lay down a rule for the exercise of the court’s discretion which the House of Lords in Hyman v Rose said should not be done. Certainly Lord Wilberforce in Shiloh Spinners Ltd v Harding did not purport to do so in cases under the statute.”
Thus, in relation to leases, relief may in an appropriate case be granted without the identified breach being remedied. Woodfall’s Landlord and Tenant (2007) states (at para 17.169.2) that there is:
“no inflexible rule to the effect that the tenant must make good the breach. In an appropriate case relief against forfeiture may be granted without requiring the tenant to make good the breach immediately or at all.”
Cited in support are Westminster (Duke) v Swinton [1948] 1 KB 524, where two years was allowed for reinstatement of alterations, and Associated British Ports v C.H.Bailey plc [1990] 2 AC 703, where reinstatement would have cost over £600,000, in circumstances where the tenants’ evidence was that “immediate remedying of the breaches of covenant is not requisite for preventing substantial damage to the value of the reversion and is wholly out of proportion to the extent of damage to the reversion”. Lord Templeman, in a speech with which all members of the House agreed, recalled Earl Loreburn’s words in Hyman v Rose and said:
“…. therefore, it would be open for a judge in the exercise of the discretion conferred on him by section 146 of the Act of 1925 to grant relief against forfeiture of a lease with nearly 60 years to run without requiring the tenant to spend over £600,000 without substantial benefit to anyone” (p.708F).
Again, this affirms the breadth of the court’s discretion both in granting relief and as to the terms on which to grant it.
The statutory scheme of section 146 is more protective of tenants than the general principles of equity, in that it requires notice to be given, thus affording an opportunity to remedy remediable breaches. But, apart from this, the breadth and flexibility of the equitable discretion to relief against forfeiture are, in the Board’s opinion, as great outside the scope of section 146(2) as it is within it. The purpose of the various statutory interventions in the property field was self-evidently not to alter the court’s fundamental approach to the grant of relief against forfeiture.
ATT in its submissions has stressed the need for commercial certainty. It claimed that general uncertainty would result in the market from the grant of relief against forfeiture in this case. The Board accepts that the need for certainty and the desirability of avoiding uncertainty are very relevant considerations, but the present case involves a combination of unusual features which are most unlikely to be repeated. For that reason, it does not consider that the grant of relief in this instance will be productive of uncertainty. The Board identifies the following particular features as relevant to the exercise of the discretion here:
a. The basis of valuation of the shares after appropriation is for present purposes, under clause 9.3(b) of the Charges, read with the definition of “Fair Price”, i.e. the weighted average market value of publicly traded Turkcell shares over the previous 60 day period as reported in the Istanbul Stock Exchange. This makes no allowance for the value of acquiring control over Turkcell, which is what this litigation is largely about. The value of that premium could be very substantial indeed. An indication of its worth is provided by the “Buy Out Price” payable under the CTH Shareholders’ Agreement between CFI and ATT. This provides that, if either is required to buy out the other, a 20% premium is added to the 60 day weighted average market value on the Istanbul Stock Exchange. ATT submitted, with understandable circumspection, that, when Regulation 18 specifies that “the collateral-taker must value the financial collateral in accordance with the terms of the arrangement and in any event in a commercially reasonable manner”, the concluding nine words could enable CH and CFI to require ATT to credit them with the premium, contrary to express terms of the charges. But, as Mr Milligan in effect accepted, ATT would be likely vigorously to resist any such suggestion. When ATT announced that it had appropriated the charged shares on 27th April 2007, it did so expressly on the basis that it would value them under clause 9.3 of the Charges. The Board need do no more than express scepticism that the concluding nine words of Regulation 18 could over-ride this agreed basis.
b. From the outset, the transaction was structured to preserve CH’s control over Turkcell. That is why, despite the Alfa Group’s wish to acquire control, CH was only willing to sell 49% of the shares in CTH to ATT.
c. Also from the outset, the Alfa Group knew that it was CFI’s intention to refinance the loan as quickly as possible, but, as the judge found, “it was the expectation and aim of Alfa that [CFI] would default in November 2006 and [the] remaining [51%] stake in [CTH] would fall into Alfa’s lap” (see also paras 19 to 21 above).
d. ATT acted within its rights in November 2006 in voting against any distribution of dividends until audited financial statements were available (judgment, para 184; para 20 above). It also acted within its rights in remaining silent about its plans to call in the loan because it wished to spring acceleration on CFI and in reducing the window within which the Cukurova Group might be able to achieve a refinancing (para 21 above). The press conference statements on 17th April 2007, although designed to hamper any such refinancing, were not actually causative of the Cukurova Group’s inability to complete its refinancing prior to the appropriation on 27th April 2007. But all these factors expose the reality that ATT was primarily concerned with the shares not as security, but for the control over Turkcell that they would supply.
e. Even if all the events of default which ATT alleged could be relied on, they were limited in number and are not shown to have occurred wilfully:
i. The Award, giving rise to an event of default relating to ‘material adverse effect’, involved a decision on a strongly contested issue, whether CH and Sonera had ever reached final agreement for a sale of the shares in TCH then held by CTH. The Award held that final agreement was reached, but there is no reason to think, and there has been no suggestion, that CH did not believe that there was no binding agreement, nor that the Alfa Group was not kept fully informed about Sonera’s claim.
ii. As already mentioned, the other events of default relied on by ATT, even if they had all been established, demonstrate no bad faith on the part of any company in the Cukurova Group and caused no significant damage to ATT: at worst, a couple of these alleged events of default can be said to show that CFI was somewhat casual in giving notice of certain transactions (see para 66 above).
f. The Board regards the event of default constituted by the Award as one of potential gravity, in so far as it was likely to (and did eventually) lead to a major financial liability in damages. But its actual gravity is diminished by the consideration that ATT’s financial position was never really threatened or prejudiced by the Award. ATT’s financial interests as lender were protected by its charges over the charged shares. At the material times, the value of those shares was sufficient to cover the whole of CFI’s borrowing from ATT, even ignoring any premium attaching to them for the control over Turkcell that they would have brought. However CFI was intending to refinance its borrowing from ATT. ATT knew, and was concerned, that CFI was close to achieving that. It was ATT’s aim to forestall this, and to convert its charges into ownership of the shares, giving it control of Turkcell.
g. Within a month of the appropriation, on 25th May 2007, CFI tendered what would have been valid prepayment under clause 6.4 of the Facility Agreement, five days’ notice to do so having been given on 17th May 2007, and the monies tendered were thereafter kept for three years in an interest earning escrow account until 25th May 2010. Consistently with its overall aim to control Turkcell, ATT rejected the tender as well as CH’s and CFI’s subsequent claim to relief against forfeiture.
h. It was not until the defence was amended on 11th July 2008 that relief against forfeiture was claimed, with particulars of the essential matters relied upon, and a considerable period has elapsed since then. But the position regarding use of the appropriated shares and control of Turkcell has been frozen since April 2007, so that relief against forfeiture to restore the status ante quo is in principle feasible. It is also clear that, whenever relief against forfeiture was claimed, it would have been strongly contested, with the result that the matter would inevitably have come before this Board in any event. Para 22 of ATT’s reply to the amended defence was a summary denial both of any jurisdiction to grant relief and of the appropriateness of any relief if jurisdiction existed.
In these circumstances, notwithstanding ATT’s submissions based on the interests of commercial certainty, the Board considers that relief against forfeiture should be available to CH and CFI on appropriate conditions. The Board requires further assistance upon the basis and terms of such relief before humbly advising Her Majesty as to the terms of any final order disposing of the appeal. The points on which the Board requires particular assistance have been identified in a separate note to the parties, in terms which are annexed to this judgment.
ANNEX
For the reasons given in its judgment, the Board has concluded that it is necessary for relief from forfeiture to be sought, that it is available in principle, and that it ought to be granted provided that the terms upon which it is granted are complied with.
However, the Board requires further submissions as to the basis and terms upon which it should be granted. Different views may be taken as the conceptual basis of relief against forfeiture, for example: (i) that it restores a chargor’s property in shares charged, upon terms imposed by the Court to compensate the chargee appropriately in the light of all the circumstances; or that it not only restores the chargor’s property in the shares, but (ii) that it retrospectively recreates and requires performance of all contractual obligations which would otherwise have existed, but for the appropriation; (iii) that the consequence in consequence subsists and continues to govern the incidents of the debt, e.g. the borrower’s liability to interest. The Board invites submissions on these and any other possible analyses and their consequences.
When analysing the conceptual basis of relief, the Board invites the parties to address it on, in particular, the historical basis on which equity operates, as discussed in, for example, Principles of Equity by H. Arthur Smith (1882) p.206, Story’s Principles of Equity (1st ed) (1884) paras 1314-1315, A Manual of Equity Jurisprudence by Josiah Smith (1884) pp.407-409, A Compendium of Modern Equity by Andrew Thompson (1899), pp.264-265 and Snell’s Principles of Equity (18th ed) (1920).
The Board also invites submissions upon any light thrown on the correct analysis by:
a. the parallel statutory jurisdiction introduced in relation to real property by the Act, 4 Geo 2, c.28, the Common Law Procedure Acts 1850 and 1860, the Conveyancing Act 1881 and its successor section 146(2) of the Law of Property Act 1925;
b. any relevant authorities, including Hyman v Rose [1911] 2 KB 234 and [1912] AC 623, Croft v London and County Banking Co (1885) 14 QBD 347, Howard v Fanshawe [1895] 2 Ch 581, Westminster (Duke) v Swinton [1948] 1 KB 524 and Associated British Ports v C H Bailey [1990] 2 AC 703.
If (i) is the right analysis:
The Board invites further submissions as to the conditions which it might be appropriate to impose upon the grant of relief – and, in particular, assuming one such condition to be repayment of the amount of the loan debt as it stood until discharged by the appropriation on 27th April 2007, as to:
a. the rate(s) of interest such amount should carry thereafter and
b. the nature and quantum of any costs, payment of which should also be made a condition of relief.
In this connection, the Board invites submissions as to and upon such evidence as there may be showing:
a. the rate(s) and amounts of interest incurred in order to borrow from J P Morgan Europe Ltd the monies held in the Namrun Escrow account for the three year period from 25th May 2007 to 25th May 2010 – the Board understands such monies to have been borrowed under the Facilities Agreement dated 17th May 2007 found in Bundle 4d at p.2109, but invites submissions on the effect of the provisions of that Agreement,
b. the rate(s) and amounts of any interest earned on such monies while in the Namrun Escrow account for such three year period, and
c. the rate(s) of interest at which CFI could have borrowed monies to repay the debt at other times up to the present date.
Whether or not there is evidence on all three points mentioned in the previous paragraph, the Board also invites submissions as to the basis on which the Board should proceed, if it concludes that it is or may be relevant to have regard, even generally, to any difference between the Facility Agreement rates and the rates incurred and/or earned in respect of the Namrun Escrow account and/or the rates which CFI would have incurred, had the loan been repaid by CFI it on 25th May 2007 or at any later date up to the present.
If (ii) is the right analysis:
The Board invites submissions as to:
a. the precise nature and extent of the obligations regarding payment of principal, interest and, if applicable, costs, which are to be treated as having been revived retrospectively as from 257h April 2007 to date,
b. whether the effect of the revival of the contractual obligations is by the same token to enable the tender of 25th May 2007 to be taken into account retrospectively, if and to the extent that it would have been relevant had there been no appropriation, and
c. if that is the effect of the revival,
i. what the effect of the tender having been retrospectively rendered effective would be,
ii. whether the effect of the case-law is as Bannister J decided in his judgment on 13 July 2010, and, if so, whether the Board should distinguish or depart from those cases;
iii. how the court should exercise its equitable jurisdiction to grant relief from forfeiture, and in particular, what terms with regard to the rate of interest it should impose on CFI; and
d. the nature and quantum of any costs, payment of which should be required of CH and CFI as a condition of relief.
e. the nature and quantum of any costs, payment of which should be required of CH and CFI as a condition of relief.
In this context also, the Board invites, so far as may be relevant, submissions in the like areas to those identified in paras 5 and 6 above.
Essfood Eksportlagtiernes Sallgsforening v. Crown Shipping (Ireland) Ltd
[1991] ILRM 97
Lien
Agent – Pig meat – Purchaser ordering goods on terms that property passed on payment – Vendor arranging with forwarding agent for shipment – Forwarding agent claiming lien over meat for debt due by vendor – Whether agent entitled to claim at common law – Whether possession of bills of lading confers possession of goods to which they relate – Whether entitlement to contractual lien- Whether vendor acted as purchaser’s agent in contracting with forwarding agent – Vendor’s ostensible authority – Bills of Lading Act, 1855 (18 19 Vict., c. 111) – Sale of Goods Act, 1893 (56 57 Vict., c. 71), ss. 18, 19.
The plaintiff and defendant had both carried on business with B. Ltd, a company which was in receivership at the date of the instant proceedings. A dispute arose between the parties concerning the shipment of containers of meat to Japan. The plaintiff had ordered the meat from B. Ltd, who had then asked the defendant, a forwarding agent, to arrange for carriage to Japan. When arrangements had been made, the defendant notified B. Ltd, who in turn notified the plaintiff. The plaintiff then paid B. Ltd for the meat, and the containers left the premises of B. Ltd and were taken in charge by the defendant. The plaintiff claimed that the meat was its property, but the defendant refused to hand over the bills of lading claiming a lien over both goods and bills of lading in respect of a debt allegedly owing to the defendant by B. Ltd. The goods, by this time, had left the defendant’s possession and were in the possession of various shipping lines. The standard trading conditions of the defendant company, which had been accepted by B. Ltd, contained a clause purporting to confer a right of lien in respect of both goods and related documentation. The lien was expressed to be both general and particular, and the clause also purported to allow the defendant to sell the goods after one month’s notice. The clause further provided that customers entering into transactions with the defendant thereby warranted that they were either the owners or the authorised agents of the owners of the goods to which the transactions related, and that they accepted the conditions not only for themselves, but as agents for, and on behalf of, all other persons interested in the goods. The plaintiff was completely unaware of the existence or content of the said standard trading conditions, and obtained an interim injunction preventing the defendant from selling the goods. The plaintiff subsequently brought a motion for interlocutory relief, and by consent, the motion was treated as the trial of the action. Held by Costello J, in declaring that the defendant had no right, either at common law or in contract, to a lien over the goods and bills of lading, and in directing the defendant to deliver the bills of lading to the plaintiff, and to take such steps as were necessary to enable the plaintiff to obtain possession of the goods, 1, the defendant could only exercise a right of lien at common law over goods which were the property of B. Ltd. In this case, the goods were already the property of the plaintiff when the defendant took possession of them. 2. Even if the defendant could have claimed a common law lien over the goods, it had lost any such right when it had parted with possession of the goods. Hathesing v. Laing (1873) L.R. 17 Eq. 92 applied. Physical possession of the bills of lading gave the defendant no entitlement to possession of the goods to which they relate. 3. The contract entered into by B. Ltd with the defendant was entered into pursuant to a contractual obligation to the plaintiff to ensure that the goods were shipped to Japan, and was not made under any relationship of agency existing between B. Ltd and the plaintiff. The defendant could not therefore rely on any liability arising from the doctrine of ostensible authority. 4. Even if B. Ltd had entered into the contract with the defendant as agent for the plaintiff, the plaintiff was not bound by the terms on which the defendant relies. 5. To give rise to the doctrine of ostensible authority, it was not sufficient that B. Ltd had represented itself to have authority to enter into a contract on the plaintiff’s behalf. Such representation must come from the principal, and the plaintiff had made no such representation, nor could any be inferred from its conduct. Attorney General for Ceylon v. Silva [1953] A.C. 461 applied.
Linden Gardens Trust Ltd v Lenesta Sludge Disposals Ltd
[1993] UKHL 4 [1993] 3 All ER 417, [1994] 1 AC 85, [1994] AC 85
LORD BROWNE-WILKINSON
My Lords.
These appeals and cross-appeal arise in two separate actions which
raise similar issues. In broad terms, those issues are. first, what is the effect
of a contractual provision which prohibits a party from assigning the benefit
of a contract and, second, can a building owner recover substantial damages
for breach of a building contract if he has parted with the property. The
appeals relate to preliminary issues directed to be tried in both actions. As
the cases have proceeded, certain of those issues have become irrelevant. I
propose therefore to state shortly the facts of each case, then deal with the
matters which fall for decision by this House and. at the end, indicate the
answers which should in my view be given to the questions posed by the
preliminary issues which have been directed.
THE FACTS IN THE LINDEN GARDENS CASE
In 1979 Stock Conversion and Investment Trust Plc (“Stock
Conversion”) were the owners of a leasehold interest in the third to sixth
floors inclusive of 130 Jermyn Street, London SW1. On 19 June 1979 Stock
Conversion entered into a building contract with the second defendants,
McLaughlin and Harvey Plc (“M & H”) under which M & H were to remove
blue asbestos from the property.
The contract was in the Joint Contract Tribunal Standard Form of
Building Contract for use with approximate quantities private edition (1963
edition revised to July 1975) with amendments. Clause 17 of the contract
provided as follows:-
“17(1) The Employer shall not without the written consent of the
Contractor assign this Contract.
(2) The Contractor shall not without the written consent of the
Employer assign this Contract, and shall not without the written
consent of the Architect (which consent shall not be unreasonably
withheld to the prejudice of the Contractor) sub-let any portion of the
Works.
Provided that it shall be a condition in any sub-letting which
may occur that the employment of the sub-contractor under the sub-
contract shall determine immediately upon the determination (for any
reason) of the Contractor’s employment under this contract.”
Lenesta Sludge Disposals Limited, the first defendants, were the nominated
sub-contractors for the removal of the asbestos. They are of no significance
in these appeals and I mention them only to explain their presence in the title
to the action.
Practical completion of the works to be carried out by M & H took
place on 25 March 1980. Subsequently, more asbestos which should have
been removed by M & H was found in the premises. In February 1985
Stock Conversion entered into a contract with Ashwell Construction Company
Limited (the third defendant) for the removal of such asbestos: such contract
also contained a covenant against assignment. Practical completion of the
– 6 –
second contract took place in August 1985. and the cost was borne by Stock
Conversion.
Meanwhile, on 1 April 1985 Stock Conversion assigned to Linden
Gardens Trust Limited (“Linden Gardens”) its leasehold interest in the third,
fifth and sixth floors of the property, subject to a licence back under which
Stock Conversion continued to occupy the third floor. In December 1986
Stock Conversion surrendered its licence of the third floor and assigned its
leasehold interest in the fourth floor to Linden Gardens. It is not suggested
that Stock Conversion received anything less than the full market value of its
leasehold interest or that any allowance was made in the price for the
possibility that there might still be asbestos in the building.
This action was started on 3 July 1985 when Stock Conversion (which
then still had an interest in the building) issued a writ against Lenesta Sludge
as sole defendant.
Following the disposal by Stock Conversion of its whole interest in the
property to Linden Gardens, on 14 January 1987 Stock Conversion executed
a Deed of Assignment in favour of Linden Gardens. The Deed of
Assignment recited that Stock Conversion had agreed with Linden Gardens to
assign to them Stock Conversion’s rights of action as pleaded in the High
Court proceedings and incidental to the leasehold interest in the premises in
consideration of one pound and provided as follows:
“In pursuance of the said agreement and in consideration of the sum
of One pound (£1) (the receipt of which sum the Assignors hereby
acknowledge) the Assignors hereby assign to the Assignees.
(a) all their rights of action as pleaded in the said proceedings or
otherwise against Lenesta Sludge Disposal Limited:
(b) all other rights of action currently vested in the Assignors which
are or were incidental to their leasehold in the said premises.”
M & H did not, as was required by clause 17(1) of the building contract,
consent to such assignment: it is this lack of consent which is the basis of the
problems which arise.
In 1987 and 1988 yet more asbestos was found in the premises.
Further work was undertaken to remove this asbestos, the cost of which was
borne by Linden Gardens. It is not asserted that Stock Conversion is under
any liability to Linden Gardens to bear any part of these costs.
By a series of amendments, the action has been reconstituted: Linden
Gardens has been substituted for Stock Conversion as the Plaintiff: Lenesta
Sludge remains as first defendant; M & H have been joined as second
defendant; Ashwell Construction is the third defendant.
– 7 –
In the action as now constituted. Linden Gardens, as assignee, claims
damages for breach by each of the defendants of their respective building
contracts. The crucial points to be noticed are these. First. Stock
Conversion which was the only party in a direct contractual relationship with
each of the defendants is not a party to the action. Second, the purported
assignment of the benefit of the building contract by Stock Conversion to
Linden Gardens was made without the consent of the defendants. Third, any
breach of contract by M & H occurred before Stock Conversion parted with
its interest in the premises. Fourth, since Stock Conversion obtained from
Linden Gardens the full market price for its interest in the premises on the
assumption that the asbestos had been eradicated. Stock Conversion was not
out of pocket by reason of the breaches save to the extent that it paid for the
further works done in 1985.
The preliminary issues in this action were therefore directed to two
questions. First, were Stock Conversion’s rights under the contracts
effectively assigned to Linden Gardens despite the fact that assignment of the
building contracts by Stock Conversion was prohibited by the terms of those
contracts? If so, second, could Linden Gardens as assignee recover damages
for the cost of removing the asbestos after the date of the assignment, which
cost was incurred not by Stock Conversion but by Linden Gardens’?
Judge John Lloyd Q.C. held that the assignment to Linden Gardens
was ineffective and that, in any event, Linden Gardens could not recover for
the cost of work executed after the date of the assignment: (1990) 52 B.L.R.
93. The Court of Appeal (Nourse and Staughton L.JJ. and Sir Michael Kerr)
reversed the judge on both points: (1992) 57 B.L.R. 57. The Court of
Appeal held that the Assignment was effective to transfer to Linden Gardens
the causes of action for subsisting breaches of contract by M & H and
Ashwell Construction and that the assignee could recover such damages as
Stock Conversion could have recovered had there been no assignment. M &
H appeal to this House. Ashwell Construction has not appealed.
THE FACTS IN THE ST. MARTIN’S CASE
In 1968 the first plaintiffs, St. Martin’s Property Corporation Limited
(“Corporation”) began to develop a site at King Street, Hammersmith,
London. The development was to include shops, offices, and flats. On 17
May 1968, Corporation entered into a written agreement with the local
authority whereby, upon completion of the development, Corporation would
be entitled to the grant of a 150 year lease of the site.
On 29 October 1974 Corporation entered into a building contract with
Sir Robert McAlpine and Sons Limited (“McAlpine”) which incorporated the
Joint Contracts Tribunal, Standard Form of Building Contract, Private
Edition, With Quantities (1963 Edition revised July 1972). Clause 17 of such
contract was, for all practical purposes, in terms identical to those in clause
17 in the Linden Gardens case.
– 8 –
Corporation is a wholly owned subsidiary of St. Martin’s Holdings
Limited which is itself wholly owned by the State of Kuwait. In the mid-
1970s a scheme was implemented for tax reasons whereunder all the property
interests of the State of Kuwait were to be vested in another wholly owned
subsidiary of St. Martin’s Holdings Limited, the second Plaintiff. St. Martin’s
Property Investments Limited (“Investments”). Pursuant to that scheme a
Deed of Assignment dated 25 March 1976 was executed under which
Corporation for full value assigned to Investments all Corporation’s interests
in the property under the Agreement with the local authority of 17 May 1968.
It further purported to assign to Investments:
“the full benefit of all the contracts and engagements whatsoever
entered into by the Assignor and existing at the date hereof for the
construction of and completion of the Development.”
As in the Linden Gardens case, the consent of McAlpine’s to the assignment
of the benefit of the building contract was neither sought nor given. No
notice of the Assignment was given to McAlpine until ten years later on 3
March 1986.
At the time of the Assignment there were no subsisting relevant
breaches of the building contract. In November 1976 Investments appointed
Corporation to be its agent to manage the property and the development.
Practical completion of the works took place in 1980.
In 1981 part of the development, the podium deck, was found to be
leaking. It is alleged that this is due to breaches of contract by McAlpine
occurring after the date of assignment to Investment. Remedial works have
been carried out at a cost of some £800,000 plus VAT which, although
originally paid by Corporation, has been recovered by Corporation from
Investments.
In the action Corporation and Investments sue McAlpine for breach of
contract. The following points should be noted. First, as in the Linden
Gardens case, no consent to the Assignment was obtained. Second, unlike
the Linden Gardens case the breaches of contract all took place after the date
of the assignment, that is to say at a time when Corporation had no interest
in the property. Third, unlike the Linden Gardens case, the original
contracting party, Corporation, is a party to the action and is claiming
substantial damages notwithstanding that Corporation is not out of pocket as
a result of the McAlpine breaches.
Therefore the main issues which arise in this case are first, whether
notwithstanding clause 17 of the building contract the assignment to
Investments was effective. Second, whether Corporation is entitled to
substantial damages for breach of contract. His Honour Judge Bowsher Q.C.
held that the assignment to Investments was ineffective and that Corporation
was only entitled to nominal damages. The appeal to the Court of Appeal
– 9 –
was heard at the same time as the appeal in the Linden Gardens case. The
Court of Appeal held by a majority (Staughton L.J. dissenting) that the
assignment was invalid, the case differing from the Linden Gardens case in
that, at the date of the Assignment, there were no accrued causes of action
which could be assigned. However the Court of Appeal held unanimously
that Corporation was entitled to substantial damages. McAlpine appeal and
Investments cross-appeal to this House.
THE ISSUES
The two cases therefore raise, or potentially raise, the following issues:
1. Does clause 17(1) of the building contracts prohibit the purported
assignment of the benefit of the building contracts?
2. Does clause 17(1) prohibit the assignment of causes of action for
breaches of contract subsisting at the date of the Assignments?
3. Is a prohibition on assignment void as being contrary to public
policy?
Even if the Assignments were validly prohibited, were they
effective to vest causes of action in the assignees?
If so, what is the measure of damages recoverable by the
assignees?
6. If the assignments are ineffective, can the original contracting
party recover substantial damages?
I will deal with these issues in turn, save that on the view I take of the case
issue 5 does not arise since the assignments were invalid and ineffective to
vest any cause of action in the assignees.
1. Does clause 17 prohibit the assignment of the benefit of
building contracts?
Staughton L.J. (dissenting on this point) held that on its true
construction clause 17 did not prohibit the assignment by the employer of the
benefit of the building contract. It was urged before your Lordships on
behalf of Linden Gardens and Investments that his views were correct.
The argument runs as follows. On any basis, clause 17 is unhappily
drafted in that it refers to an assignment of “the contract”. It is trite law that
it is, in any event, impossible to assign “the contract” as a whole, i.e.
including both burden and benefit. The burden of a contract can never be
assigned without the consent of the other party to the contract in which event
such consent will give rise to a novation. Therefore one has to discover what
– 10 –
the panics meant by this inelegant phrase. It is said that the intention of the
parties in using the words “assign this contract” is demonstrated by clause
17(2) which prohibits both the assignment of the contract by the contractor
without the employer’s consent and the sub-letting of any portion of the works
without the consent of the architect. In clause 17(2), the contractor is only
expressly prevented from sub-letting “any portion of the works.” Yet it must
have been the party’s intention to limit the contractor’s rights to sub-let the
whole of the works. Accordingly, the words in clause 17(2) “assign this
contract” have to be read as meaning “sub-let the whole of the works.” If
that is the meaning of the words “assign this contract” in clause 17(2) they
must bear the same meaning in clause 17(1), which accordingly only prohibits
the employer from giving substitute performance and does not prohibit the
assignment of the benefit of the contract.
Like the majority of the Court of Appeal. I am unable to accept this
argument. Although it is true that the phrase “assign this contract” is not
strictly accurate, lawyers frequently use those words inaccurately to describe
an assignment of the benefit of a contract since every lawyer knows that the
burden of a contract cannot be assigned: see, for example. Nokes v.
Doncaster Amalgamated Collieries Ltd. [1940] A. C. 1014, 1019-1020. The
prohibition in clause 17(2) against sub-letting “any portion of the Works”
necessarily produces a prohibition against the sub-letting of the whole of the
works: any sub-letting of the whole will necessarily include a sub-letting of
a portion and is therefore prohibited. Therefore there is no ground for
reading the words “assign this contract” in clause 17(1) as referring only to
sub-letting the whole. Decisively, both clause 17(1) and (2) clearly
distinguish between “assignment” and “sub-letting”: it is therefore impossible
to read the word “assign” as meaning “sub-let.” Finally, I find it difficult to
comprehend the concept of an employer “sub-letting” the performance of his
contractual duties which consist primarily of providing access to the site and
paying for the works.
Accordingly, in my view clause 17(1) of the contract prohibited the
assignment by the employer of the benefit of the contract. This, by itself, is
fatal to the claim by Investments (as assignee) in the St. Martin’s case.
2. Does clause 17(1) prohibit the assignment of accrued rights of
action?
The majority in the Court of Appeal drew a distinction between an
assignment of the right to require future performance of a contract by the
other party on the one hand and an assignment of the benefits arising under
the contract (e.g. to receive payment due under it or to enforce accrued rights
of action) on the other hand. They held that clause 17 only prohibited the
assignment of the right to future performance and did not prohibit the
assignment of the benefits arising under the contract, in particular accrued
causes of action. Therefore, in the Linden Gardens case, where all the
relevant breaches of contract by the contractors pre-dated the Assignment, an
– 11 –
assignment to Linden Gardens of the accrued rights of action for breach was
not prohibited. In contrast, in the St. Martin’s case, where all the breaches
of contract occurred after the date of the Assignment, the majority of the
Court of Appeal held that it was a breach of clause 17 to seek to transfer the
right to future performance.
This distinction between assigning the right to future performance of
a contract and assigning the benefits arising under a contract was largely
founded on a Note entitled “Inalienable Rights?” by Professor Goode ((1979)
42 M.L.R. 553) on Helstan Securities Ltd. v. Hertfordshire County Council
[1978] 3 All E.R. 262. In that case a contract contained a clause prohibiting
the contractor from assigning the contract “or any benefit therein or
thereunder.” The contractors assigned to the plaintiffs the right to a
liquidated sum of money then alleged to be due to the contractors under the
contract. Croom-Johnson J. held that the plaintiffs, as assignees, could not
sue the employers to recover the sum of money.
In his Note, Professor Goode rightly pointed out that where a contract
between A and B prohibits assignment of contractual rights by A. the effect
of such a prohibition is a question of the construction of the contract. There
are at least four possible interpretations, viz.,
that the term does not invalidate a purported assignment by A
to C but gives rise only to a claim by B against A for damages for breach of
the prohibition;
that the term precludes or invalidates any assignment by A to
C (so as to entitle B to pay the debt to A) but not so as to preclude A from
agreeing, as between himself and C, that he will account to C for what A
receives from B: In re Turcan (1888) 40 Ch. D. 5;
that A is precluded not only from effectively assigning the
contractual rights to C. but also from agreeing to account to C for the fruits
of the contract when received by A from B;
that a purported assignment by A to C constitutes a repudiatory
breach of condition entitling B not merely to refuse to pay C but also to refuse
to pay A.
Professor Goode then expressed the view that construction (2) (being
the Helstan case itself) was permissable and effective but that construction (3)
to the extent that it purported to render void not only the assignment as
between B and C but also as between A and C was contrary to law.
I am content to accept Professor Goode’s classification and
conclusions, though I am bound to say that I think cases within categories (1)
and (4) are very unlikely to occur. But Professor Goode’s classification
provides no warrant for the view taken by the majority of the Court of Appeal
– 12 –
in the present case: he does not discuss or envisage a case where a
contractual prohibition against assignment is to be construed as prohibiting an
assignment by A to C of rights of future performance but does not prohibit the
assignment by A to C of “the fruits of performance” e.g., accrued rights of
action or debts. Professor Goode only draws a distinction between the
assignment of rights to performance and the assignment of rights under the
contract in two connections: first in dealing with the effect of a prohibited
assignment as between the assignor and the assignee (in categories (2) and
(3)): secondly, in dealing with contracts for personal services. In the latter,
he rightly points out that, although an author who has contracted to write a
book for a fee cannot perform the contract by supplying a book written by a
third party, if he writes the book himself he can assign the right to the fee –
the fruits of performance. He expressly mentions that such right to assign the
fruits of performance can be prohibited by the express terms of the contract.
However, although I do not think that Professor Goode’s article throws
any light on the true construction of clause 17, I accept that it is at least
hypothetically possible that there might be a case in which the contractual
prohibitory term is so expressed as to render invalid the assignment of rights
to future performance but not so as to render invalid assignments of the fruits
of performance. The question in each case must turn on the terms of the
contract in question.
The question is to what extent does clause 17 on its true construction
restrict rights of assignment which would otherwise exist? In the context of
a complicated building contract, I find it impossible to construe clause 17 as
prohibiting only the assignment of rights to future performance, leaving each
party free to assign the fruits of the contract. The reason for including the
contractual prohibition viewed from the contractor’s point of view must be
that the contractor wishes to ensure that he deals, and deals only, with the
particular employer with whom he has chosen to enter into a contract.
Building contracts are pregnant with disputes: some employers are much
more reasonable than others in dealing with such disputes. The disputes
frequently arise in the context of the contractor suing for the price and being
met by a claim for abatement of the price or cross-claims founded on an
allegation that the performance of the contract has been defective. Say that,
before the final instalment of the price has been paid, the employer has
assigned the benefits under the contract to a third party, there being at the
time existing rights of action for defective work. On the Court of Appeal’s
view, those rights of action would have vested in the assignee. Would the
original employer be entitled to an abatement of the price, even though the
cross-claims would be vested in the assignee? If so, would the assignee be
a necessary party to any settlement or litigation of the claims for defective
work, thereby requiring the contractor to deal with two parties (one not of his
choice) in order to recover the price for the works from the employer? 1
cannot believe that the parties ever intended to permit such a confused position
to arise.
– 13 –
Again, say that before completion of the works the employers assigned
the land, together with the existing causes of action against the contractor, to
a third party and shortly thereafter the contractor committed a repudiatory
breach? On the construction preferred by the Court of Appeal, the right to
insist on further performance, being unassignable, would have remained with
the original employers whereas the other causes of action and the land would
belong to the assignee. Who could decide whether to accept the repudiation,
the assignor or the assignee?
These possibilities of confusion (and many others which could be
postulated) persuade me that panics who have specifically contracted to
prohibit the assignment of the contract cannot have intended to draw a
distinction between the right to performance of the contract and the right to
the fruits of the contract. In my view they cannot have contemplated a
position in which the right to future performance and the right to benefits
accrued under the contract should become vested in two separate people. I
say again that that result could have been achieved by careful and intricate
drafting, spelling out the parties’ intentions if they had them. But in the
absence of such a clearly expressed intention, it would be wrong to attribute
such a perverse intention to the panics. In my judgment, clause 17 clearly
prohibits the assignment of any benefit of or under the contract.
It follows that the purported assignment to Linden Gardens without the
consent of the contractors constituted a breach of clause 17. The claim of
Linden Gardens as assignee must therefore fail unless it can show that the
prohibition in clause 17 was either void as being contrary to public policy or.
notwithstanding the breach of clause 17, the Assignment was effective to
assign the chose in action to Linden Gardens.
3. Is a prohibition on assignment void as being contrary to public
policy?
It was submitted that it is normally unlawful as being contrary to
public policy to seek to render property inalienable. Since contractual rights
are a species of property, it is said that a prohibition against assigning such
rights is void as being illegal.
This submission faces formidable difficulties both on authority and in
principle. As to the authorities, in In re Turcan (supra) a man effected an
insurance policy which contained a term that it should not be assignable in any
case whatever. He had previously covenanted with trustees to settle after-
acquired property. The Court of Appeal held that although he could not
assign the benefit of the policy so as to give the trustees the power to recover
the money from the insurance company, he could validly make a declaration
of trust of the proceeds which required him to hand over such proceeds to the
trustees. This case proceeded, therefore, on the footing that the contractual
restriction on assignment was valid. In Helstan Securities (supra) Croom-
Johnson J. enforced such a prohibition. In Reed Publishing Holdings Ltd. v.
– 14 –
King’s Reach Investments (unreported), 25 May 1983; Court of Appeal (Civil
Division) Transcript No. 121 of 1983, the Court of Appeal had to consider an
application to join as a party to an action an assignee of the benefit of a
contract which contained a prohibition on such assignment. One of their
grounds for refusing the application was that by reason of the prohibition the
assignment was of no effect.
In none of these cases was the public policy argument advanced. But
they indicate a long-term acceptance of the validity of such a prohibition
which is accepted as pan of the law in Chitty on Contracts, 26th ed. (1989).
vol. 1, p. 883, para. 1413. We were referred to a decision of the supreme
court of South Africa, Paiges v. van Ryn Goldmines Estates Ltd. 1920 A.D.
600 in which it was expressly decided that a term prohibiting a workman from
assigning his wages was not contrary to public policy. In Scotland a
covenant against assigning a lease of minerals (which was treated simply as
a contract) was held not to infringe public policy: Duke of Portland v. Baird
and Co. (1865) 4 M. 10. We were referred to certain cases in the United
States, but they give no unequivocal guidance.
In the face of this authority, the House is being invited to change the
law by holding that such a prohibition is void as contrary to public policy.
For myself I can see no good reason for so doing. Nothing was urged in
argument as showing that such a prohibition was contrary to the public interest
beyond the fact that such prohibition renders the chose in action inalienable.
Certainly in the context of rights over land the law does not favour restrictions
on alienability. But even in relation to land law a prohibition against the
assignment of a lease is valid. We were not referred to any English case in
which the courts have had to consider restrictions on the alienation of tangible
personal property, probably because there are few cases in which there would
be any desire to restrict such alienation. In the case of real property there is
a defined and limited supply of the commodity and it has been held contrary
to public policy to restrict the free market. But no such reason can apply to
contractual rights: there is no public need for a market in choses in action.
A party to a building contract, as I have sought to explain, can have a
genuine commercial interest in seeking to ensure that he is in contractual
relations only with a person whom he has selected as the other party to the
contract. In the circumstances, I can see no policy reason why a contractual
prohibition on assignment of contractual rights should be held contrary to
public policy.
To avoid doubt, I must make it clear that I have been considering only
the validity of a restriction which prohibits assignments which have the effect
of bringing the assignee into direct contractual relations with the other party
to the contract. I have not been considering Professor Goode’s category (3),
i.e. an attempt by contractual term to prevent one party making over the fruits
of the contract to a third party. Professor Goode expresses the view that if
the prohibition seeks to prevent the assignor from binding himself to pay over
– 15 –
such fruits to the assignee, such prohibition is pro tanto void. I express no
view on that point.
4. Are the assignments (although prohibited) effective to transfer
the causes of action to the assignees?
It was submitted that, even though the assignments were in breach of
clause 17. they were effective to vest the causes of action in the assignees, i.e.
Professor Goode’s category 1. This argument was founded on two bases:
first, the decision in Tom Shaw and Co. v. Moss Empires Ltd. (1908) 25
T.L.R. 190: second, the fact that an assignment of a leasehold term in breach
of a covenant against assignment is effective to vest the term in the assignee.
In the Tom Shaw case an actor, B, was engaged by Moss Empires
under a contract which prohibited the assignment of his salary. B assigned
10 per cent of his salary to his agent, Tom Shaw. Tom Shaw sued Moss
Empires for 10 per cent of the salary joining B as second defendant. Moss
Empires agreed to pay the 10 per cent of the salary to Tom Shaw or B as the
court might decide i.e. in effect it interpleaded. Darling J. held, at p. 191.
that the prohibition on assignment was ineffective: it could “no more operate
to invalidate the assignment than it could to interfere with the laws of
gravitation.” He gave judgment for the plaintiffs against both B and Moss
Empires, ordering B to pay the costs but making no order for costs against
Moss Empires.
The case is inadequately reported and it is hard to discover exactly
what it decides. Given that both B and Moss Empires were panics and Moss
Empires was in effect interpleading, it may be that the words I have quoted
merely indicate that as between the assignor, B, and the assignee Tom Shaw,
the prohibition contained in the contract between B and Moss Empires could
not invalidate B’s liability to account to Tom Shaw for the monies when
received and that, since B was a party, payment direct to Tom Shaw was
ordered. This view is supported by the fact that no order for costs was made
against Moss Empires. If this is the right view of the case, it is
unexceptionable: a prohibition on assignment normally only invalidates the
assignment as against the other party to the contract so as to prevent a transfer
of the chose in action: in the absence of the clearest words it cannot operate
to invalidate the contract as between the assignor and the assignee and even
then it may be ineffective on the grounds of public policy. If on the other
hand Darling J. purported to hold that the contractual prohibition was
ineffective to prevent B’s contractual rights against Moss Empires being
transferred to Tom Shaw, it is inconsistent with authority and was wrongly
decided.
In the Helstan Securities case Croom-Johnson J. did not follow the
Tom Shaw case and held that the purported assignment in breach of the
contractual provision was ineffective to vest the cause of action in the
– 16 –
assignee. That decision was followed and applied by the Court of Appeal in
the Reed Publishing Holdings case (supra): see also Turcan (supra).
Therefore the existing authorities establish that an attempted assignment
of contractual rights in breach of a contractual prohibition is ineffective to
transfer such contractual rights. I regard the law as being satisfactorily
settled in that sense. If the law were otherwise, it would defeat the legitimate
commercial reason for inserting the contractual prohibition viz. to ensure that
the original parties to the contract are not brought into direct contractual
relations with third parties.
As to the analogy with leases, I was originally impressed by the fact
that an assignment of the term in breach of covenant is effective to vest the
term in the assignee: Williams v. Earle (1868) L.R. 3 Q.B. 739, 750: Old
Grovebury Manor Farm Ltd. v. W. Seymour Plant Sales and Hire Ltd. (No.
2) [1979] 1 WLR 1397. However. Mr Kentridge in his reply satisfied me
that the analogy is a false one. A lease is a hybrid, part contract, part
property. So far as rights of alienation are concerned a lease has been treated
as a species of property. Historically the law treated interests in land, both
freehold and leasehold, as being capable of disposition and looked askance at
any attempt to render them inalienable. However, by the time of Coke
covenants against the assignment of leases had been held to be good, because
the lessor had a continuing interest in the identity of the person who was his
tenant: Holdsworth, A History of English Law, 2nd ed., vol. III. p. 85 and
vol. VII, p. 281. The law became settled that an assignment in breach of
covenant gave rise to a forfeiture, but pending forfeiture the term was vested
in the assignee. In contrast, the development of the law affecting the
assignment of contractual rights was wholly different. It started from exactly
the opposite position viz. contractual rights were personal and not assignable.
Only gradually did the law permitting assignment develop: Holdsworth, vol.
VII, p. 520-521 and 531 etc. It is therefore not surprising if the law
applicable to assignment of contractual rights differs from that applicable to
the assignment of leases.
Therefore in my judgment an assignment of contractual rights in breach
of a prohibition against such assignment is ineffective to vest the contractual
rights in the assignee. It follows that the claim by Linden Gardens fails and
the Linden Garden action must be dismissed.
5. What is the measure of damages recoverable by the assignee?
In view of my decision on the earlier issues, this issue does not arise
for determination. I mention it only to explain that the Court of Appeal
considered that the assignee was entitled to recover what the assignor could
have recovered had there been no assignment. On that basis Staughton L.J.
(who had held that the assignees in both actions could sue) had to consider
what the assignors could have recovered.
– 17 –
6. What is the measure of damages in the claim by Corporation?
McAlpine accept that, since the attempted assignment by Corporation
of its rights under the contract to Investments was ineffective. Corporation has
retained those rights and is entitled to judgment against McAlpine for any
breach of contract. But. McAlpine submits, Corporation is only entitled to
nominal damages. Corporation has suffered no loss: it had parted with its
interest in the property (and therefore with the works when completed) before
any breach of the building contract: moreover Corporation received full value
for that interest on its disposal to Investments. Therefore, it is said, neither
of the plaintiffs has any right to substantial damages: Investments has incurred
damage (being the cost of rectifying the faulty work) but has no cause of
action; Corporation has a cause of action but has suffered no loss. If this is
right, in the words of my noble and learned friend, Lord Keith of Kinkel in
G. U. S. Property Management Ltd. v. Littlewoods Mail Order Stores Ltd.,
1982 S. L. T. 533, 538, “… the claim to damages would disappear…into
some legal black hole, so that the wrongdoer escaped scot-free.”
The Court of Appeal was able to avoid this result by reason of the
continuing liability on Corporation to indemnify Investments against the cost
of remedying the defects. McAlpine accepted, and still accept, that
Corporation is liable to Investments in damages for Corporation’s breach of
contract in failing to obtain the consent of McAlpine to the assignment of the
benefit of the building contract. The measure of the damages payable by
Corporation to Investments for such breach would be the cost of remedying
the defects since, if the Assignment had been valid, Investments could have
recovered such cost from McAlpine. Therefore, the Court of Appeal held.
Corporation have suffered substantial loss by reason of McAlpine’s breach,
such loss being the liability to indemnify Investments.
Attractive as this argument is. Mr Fernyhough for McAlpine has
satisfied me that it is erroneous because the damage being claimed is too
remote. The loss so identified as having been suffered by Corporation flows
from the attempt by Corporation to assign the benefit of the building contract
in breach of clause 17 of the contract. However the rule in Hadley v.
Baxendale (1854) 9 Exch 341 is formulated, in my judgment it is impossible
to say that such damage arose naturally according to the usual course of
things, or was in the contemplation of, or foreseeable by, McAlpine, or that
McAlpine ought to have realised that such damage was “not unlikely”. The
contract for the breach of which damages are sought expressly prohibited
Corporation from making such assignment. One party to a contract cannot be
liable for damages flowing from the doing of an act by the other party which
the contract itself expressly forbids.
It is therefore necessary to consider Mr Fernyhough’s principle
argument in some detail. He starts from the well known proposition that the
measure of damages is generally “that sum of money which will put the party
who has been injured, or who has suffered, in the same position he would
– 18 –
have been in if he had not sustained the wrong for which he is now getting his
compensation or reparation:” per Lord Blackburn in Livingstone v. Rawyards
Coal Company (1880) 5 App.Cas. 25, 39. Since, before the date of any
breach of contract by McAlpine, Corporation had disposed of all its interest
in the property on which the building works were carried out. Corporation has
suffered no loss. Corporation received the full value of the property from
Investments. The measure of damages for defective performance of a
building contract is the diminution in value of the plaintiff’s property, which
diminution is usually properly reflected by the cost of carrying out the repairs
necessary to effect reinstatement: East Ham Corporation v. Bernard Sunley
& Sons Ltd. [1966] A.C. 406. Since at the date of breach Corporation did not
own the property, Corporation suffered no loss by any diminution in its value
nor could Corporation carry out any works of reinstatement. Therefore, it
is said. Corporation has suffered no loss.
Mr Fernyhough accepted that central to his argument is the fact that
at the date of breach Corporation no longer owned the property. He
distinguished the decision in Newton Abbot Development Co. Ltd. v. Stockman
Brothers (1931) 47 T.L.R. 616 on that ground. In that case the plaintiffs, as
developers, had contracted with the defendants as contractors for the
construction of a number of houses. After completion of the works, the
plaintiffs had sold the houses to individual purchasers at a profit. Thereafter
defects due to faulty construction by the defendants appeared in the houses.
The plaintiffs, although under no legal liability to do so, had remedied these
defects. They were held entitled to recover from the defendants not the cost
of effecting the remedial work but the difference between the value of the
houses as they ought to have been completed and their actual value as in fact
completed. Mr Fernyhough explains this case on the basis that, although in
fact the plaintiff suffered no commercial loss, they were the owners of the
houses at the date of breach and therefore entitled to the diminution in value
of that property, the sale on by the plaintiffs being irrelevant as res inter alios
acta. In support of the proposition that only nominal damages are
recoverable by a plaintiff who has parted with ownership of the property at the
date of breach, Mr Fernyhough further relied on two cases concerned with
breach of contract for the carriage of goods. Albacruz v. Albazero, The
Albazero [1977] A.C. 774 and Obestain Inc. v. National Mineral Development
Corporation Ltd. (The “Sanix Ace”) [1987] 1 Lloyd’s Rep. 465.
This is a formidable, if unmeritorious, argument since it is apparently
soundly based on principle and is supported by authority. In The Albazero the
plaintiffs chartered the defendant’s vessel for the carriage of oil. The
carriage was covered by a bill of lading which named the plaintiffs as
consignees. In the course of the voyage the vessel and cargo became a total
loss. However on the day before that loss, the plaintiffs indorsed the bill of
lading to a third party: the property in the goods and the right to sue the
defendants were thereby vested in the third party. The plaintiffs, although
having no property in the goods at the date of breach of the contract of
– 19-
carriage, sued the defendants for the full value of the goods. This House held
that the plaintiffs were not entitled to substantial damages. Lord Diplock
treated the general rule as being clear: a party who has no property in the
goods at the date of breach has suffered no loss. However he recognised that
there were exceptions to this general rule and I will consider those exceptions
later.
Notwithstanding the apparent logic of Mr Fernyhough’s submission,
I have considerable doubts whether it is correct. A contract for the supply of
goods or of work, labour and materials (a supply contract) is not the same as
a contract for the carriage of goods. A breach of a supply contract involves
a failure to provide the very goods or services which the defendant had
contracted to supply and for which the plaintiff has paid or agreed to pay. If
the breach is discovered before payment of the contract price, the price is
abated by the cost of making good the defects: see as to sale of goods Mondel
v. Steel (1841) 8 M. & W.858 and Sale of Goods Act 1979, section 53(1);
as to building contracts Modern Engineering (Bristol) Ltd. v. Gilbert-Ash
(Northern) Ltd. [1974] A.C. 689. Mr Fernyhough accepted that this right to
abatement of the price does not depend on ownership by the plaintiff of the
goods and it would be odd if the plaintiff’s rights arising from breach varied
according to whether the breach was discovered before or after the payment
of the price. No such similar principle of abatement applies to freight
charges: the freight charges have to be paid in full leaving the consignor to
bring a separate action for damages for breach of the contract of carriage:
Colonial Bank v. European Grain and Shipping Ltd. (The Dominique) [1989]
A.C. 1056, 1067-1068.
In contracts for the sale of goods, the purchaser is entitled to damages
for delivery of defective goods assessed by reference to the difference between
the contract price and the market price of the defective goods, irrespective of
whether he has managed to sell on the goods to a third party without loss:
Slater v. Hoyle & Smith Limited [1920] 2 K.B. 11; see also as to non-delivery
Williams Brothers v. Ed. T. Agius Limited [1914] A.C. 510. In those cases
the judgments contained no consideration of the person in whom the property
in the goods was vested although it appears that some of the sub-contracts had
been made prior to the breach of contract.
If the law were to be established that damages for breach of a supply
contract were not quantifiable by reference to the beneficial ownership of
goods or enjoyment of the services contracted for but by reference to the
difference in value between that which was contracted for and that which is
in fact supplied, it might also provide a satisfactory answer to the problems
raised where a man contracts and pays for a supply to others, e.g., a man
contracts with a restaurant for a meal for himself and his guests or with a
travel company for a holiday for his family. It is apparently established that,
if a defective meal or holiday is supplied, the contracting party can recover
damages not only for his own bad meal or unhappy holiday but also for that
– 20 –
of his guests or family; see Jackson v. Horizon Holidays Ltd. [1975] 1
W.L.R. 1468 as explained in Woodar In vestment Development Ltd. v. Wimpey
Construction U.K. Ltd. [1980] 1 WLR 277, 283-284. 293-294. 297 and
300-301.
There is therefore much to be said for drawing a distinction between
cases where the ownership of goods or property is relevant to prove that the
plaintiff has suffered loss through the breach of a contract other than a
contract to supply those goods or property and the measure of damages in a
supply contract where the contractual obligation itself requires the provision
of those goods or services. I am reluctant to express a concluded view on
this point since it may have profound effects on commercial contracts which
effects were not fully explored in argument. In my view the point merits
exposure to academic consideration before it is decided by this House. Nor
do I find it necessary to decide the point since, on any view, the facts of this
case bring it within the class of exceptions to the general rule to which Lord
Diplock referred in The Albazero.
In The Albazero Lord Diplock said (at p. 846B):
“Nevertheless, although it is exceptional at common law that a plaintiff
in an action for breach of contract, although he himself has not
suffered any loss, should be entitled to recover damages on behalf of
some third person who is not a party to the action for a loss which that
third person has sustained, the notion that there may be circumstances
in which he is entitled to do so was not entirely unfamiliar to the
common law and particularly to that part of it which, under the
influence of Lord Mansfield and his successors. Lord Ellenborough
and Lord Tenterden, had been appropriated from the law merchant.
“I have already mentioned the right of the bailee, which has been
recognised from the earliest period of our law, to sue in detinue or
trespass for loss or damage to his bailor’s goods although he cannot be
compelled by his bailor to do so and he is not himself liable to the
bailor for the loss or damage: The Winkfield [1902] P.42.
Nevertheless, he becomes accountable to his bailor for the proceeds of
the judgment in an action by his bailor for money had and received.
So too the doctrine of subrogation in the case of insurers, which was
adopted from the law merchant by the common law in the eighteenth
century, involved the concept of the nominal party to an action at
common law suing for a loss which he had not himself sustained and
being accountable to his insurer for the proceeds to the extent that he
had been indemnified against the loss by the insurer. In this instance
of a plaintiff being able to recover as damages for breach of contract
for the benefit of a third person a loss which that person has sustained
and he had not, the insurer is entitled to compel an assured to whom
he has paid a total or partial indemnity to bring the action. A third
example, once again in the field of mercantile law, is the right of an
– 21 –
assured to recover in an action on a policy of insurance upon goods the
full amount of loss or damage to them, on behalf of anyone who may
be entitled to an interest in the goods at the time when the loss or
damage occurs, provided that it appears from the terms of the policy
that he intended to cover their interest.”
In addition, the decision in The Albazero itself established a further exception.
This House was concerned with the status of a long-established principle based
on the decision in Dunlop v. Lambert (1839) 6 Cl. & F. 600 that a consignor
of goods who had parted with the property in the goods before the date of
breach could even so recover substantial damages for the failure to deliver the
goods. Lord Diplock (at p.847E) identified the rationale of that rule as being:
“The only way in which I find it possible to rationalise the rule in
Dunlop v. Lambert so that it may fit into the pattern of the English law
is to treat it as an application of the principle, accepted also in relation
to policies of insurance upon goods, that in a commercial contract
concerning goods where it is in the contemplation of the parties that
the proprietary interests in the goods may be transferred from one
owner to another after the contract has been entered into and before
the breach which causes loss or damage to the goods, an original party
to the contract, if such be the intention of them both, is to be treated
in law as having entered into the contract for the benefit of all persons
who have or may acquire an interest in the goods before they are lost
or damaged, and is entitled to recover by way of damages for breach
of contract the actual loss sustained by those for whose benefit the
contract is entered into.”
In The Albazero it was held that the principle in Dunlop v. Lambert no
longer applied to goods consigned under a bill of lading because both the
property in the goods and the cause of action for breach of the contract of
carriage passes to the consignee or indorsee by reason of the consignment or
indorsement: therefore, since the consignee or indorsee will in any event be
entitled to enforce the contract direct there is no ground on which one can
impute to the parties an intention that the consignor is entering into the
contract for the benefit of others who will acquire the property in the goods
but no right of action for breach of contract.
However, this House was careful to limit its decision to cases of
carriage by sea under a bill of lading, leaving in force the principle in Dunlop
v. Lambert in relation to other contracts for the carriage of goods where such
automatic assignment of the rights of action for breach does not take place.
Lord Diplock. after the passage referring to the exceptions which I have
already quoted, said (at p. 846G):
“My Lords, in the light of these other exceptions, particularly in the
field of mercantile law, to the general rule of English law that apart
from nominal damages the plaintiff can only recover in an action for
– 22 –
breach of contract the actual loss he has himself sustained. I do not
think that the fact that the rule which it is generally accepted was laid
down by this House in Dunlop v. Lambert. 6 Cl. & F. 600 would add
one more exception would justify your Lordships in declaring the rule
to be no longer law. Nor do I think that the almost complete absence
of reliance on the rule by litigants in actions between 1839 and 1962
provides a sufficient reason for abolishing it entirely. The
development of the law of negligence since 1839 does not provide a
complete substituted remedy for some types of loss caused by breach
of a contract of carriage. Late delivery is the most obvious example
of these. The Bills of Lading Act 1855 and the subsequent
development of the doctrine laid down in Brandt v. Liverpool, Brazil
and River Plate Steam Navigation Co. Ltd. [1924] 1 K.B. 575, have
reduced the scope and utility of the rule in Dunlop v. Lambert . . .
where goods are carried under a bill of lading. But the rule extends
to all forms of carriage including carriage by sea itself where no bill
of lading has been issued, and there may still be occasional cases in
which the rule would provide a remedy where no other would be
available to a person sustaining loss which under a rational legal
system ought to be compensated by the person who has caused it.
For my part, I am not persuaded that your Lordships ought to go out
of your way to jettison the rule.”
In my judgment the present case falls within the rationale of the
exceptions to the general rule that a plaintiff can only recover damages for his
own loss. The contract was for a large development of property which, to
the knowledge of both Corporation and McAlpine, was going to be occupied,
and possibly purchased, by third parties and not by Corporation itself.
Therefore it could be foreseen that damage caused by a breach would cause
loss to a later owner and not merely to the original contracting party,
Corporation. As in contracts for the carriage of goods by land, there would
be no automatic vesting in the occupier or owners of the property for the time
being who sustained the loss of any right of suit against McAlpine. On the
contrary, McAlpine had specifically contracted that the rights of action under
the building contract could not without McAlpine’s consent be transferred to
third parties who became owners or occupiers and might suffer loss. In such
a case, it seems to me proper, as in the case of the carriage of goods by land,
to treat the parties as having entered into the contract on the footing that
Corporation would be entitled to enforce contractual rights for the benefit of
those who suffered from defective performance but who. under the terms of
the contract, could not acquire any right to hold McAlpine liable for breach.
It is truly a case in which the rule provides “a remedy where no other would
be available to a person sustaining loss which under a rational legal system
ought to be compensated by the person who has caused it.”
Mr Fernyhough submitted that it would be wrong to distort the law in
order to meet what he described as being an exceptional case. He said that
this was a one-off or exceptional case since the development was sold before
– 23 –
any breach of contract had occurred and there was an express contractual
prohibition on assignment. He submitted that to give Corporation a right to
substantial damages in this case would produce chaos when applied to other
cases where the contractors have entered into direct warranties with the
ultimate purchasers of the individual parts of a development. I am not
impressed by these submissions. I am far from satisfied that this is a one-off
or exceptional case. We are concerned with standard forms of building
contracts which prohibit the assignment of the benefit of building contracts to
the ultimate purchasers. In the prolonged period of recession in the property
market which this country has experienced many developments have had to be
sold off before completion, thereby producing the risk that the ownership of
the property may have become divided from the right to sue on the building
contract at a date before any breach occurs. As to the warranties given by
contractors to subsequent purchasers, they will not, in my judgment, give rise
to difficulty. If, pursuant to the terms of the original building contract, the
contractors have undertaken liability to the ultimate purchasers to remedy
defects appearing after they acquired the property, it is manifest the case will
not fall within the rationale of Dunlop v. Lambert, 6 Cl. & F. 600. If the
ultimate purchaser is given a direct cause of action against the contractor (as
is the consignee or indorsee under a bill of lading) the case falls outside the
rationale of the rule. The original building owner will not be entitled to
recover damages for loss suffered by others who can themselves sue for such
loss. I would therefore hold that Corporation is entitled to substantial
damages for any breach by McAlpine of the building contract.
7. The answer to the preliminary issues
The Linden Gardens Case
The preliminary issues directed were as follows:
“(1). Are the plaintiffs entitled by virtue of the deed of assignment
pleaded at paragraph 1F. of the amended statement of claim to recover
damages against the defendants in respect of the various causes of action and
heads of loss pleaded
where the loss was incurred by Stock Conversion prior to
the said Deed of Assignment.
where the loss was incurred by the plaintiffs subsequent
thereto?
“(2). Were Stock Conversion precluded from lawfully assigning
rights of action to the plaintiffs against second defendants by clause
17(1) of contract dated 19 July 1979 made between Stock Conversion
and the second defendants? . . . “
Logically these questions should be posed in the opposite order. If, as I
would hold, the benefit to the rights of action were not effectively assigned to
– 24 –
Stock Conversion at all. there can be no question of the defendants being
liable to Stock Conversion for any loss whenever the breach occurred. I
would therefore answer question 2 “yes” and question 1 “does not arise”.
I would accordingly allow this appeal with costs both here and below.
The St. Martin’s Case
The issues in this case are rather more complex and I will so far as
necessary explain each issue.
” 1. Was the benefit of the contract dated 29 October 1974 between
the first plaintiff (Corporation) and the defendant (McAlpine)
validly assigned by the first plaintiff to the second plaintiff
(Investments)?”
This is straightforward: the answer is “no.”
“2. Was there an implied term in the deed of assignment dated 25
March 1976 and in the agency agreement dated 1976 and 1983
as pleaded in paragraph 7 and 7A of amended statement of
claim?”
The statement of claim alleges that there were implied terms under
which Corporation undertook to obtain McAlpine’s consent to the assignment
(paragraph 7) or to enforce the building contract for the benefit of Investments
(paragraph 7A). Since these points would only be relevant if, contrary to my
view, Corporation could claim damages by reference to obligations undertaken
in the Deed of Assignment by Corporation to Investment, I would answer this
issue “does not arise”.
“3. On the assumption that the matters pleaded in paragraph 8 of
the statement of claim are correct then
Does the second plaintiff (Investments) have a valid
claim against the defendants for damages, other than
nominal damages, for breach of the contract dated 29
October 1974 as pleaded in paragraph 10 of the
statement of claim?
Does the first plaintiff (Corporation) have a valid claim
against the defendant for damages, other than nominal
damages, for breach of the contract dated 29 October
1974 as pleaded in paragraph 11 of the statement of
claim?
(c) Does the first plaintiff (Corporation) have a valid claim
for damages other than nominal damages for breach of
– 25 –
the contract dated 29 October 1974 as pleaded in
paragraph 12 of the statement of claim?”
Questions (a) and (b) are self-explanatory. I would answer them
(a) “no” (b) “yes.” Question (c) raises the question whether Corporation can
claim damages as constructive trustee for Investments or because of
Corporation’s liability to Investment under terms implied in the Deed of
Assignment. Since in my judgment Corporation is entitled to substantial
damages in any event, I would answer question (c) “does not arise”,
although, as I have explained. I would if necessary have answered it “no”.
I would therefore dismiss the appeal by McAlpine and the cross-appeal
by Investments, save that the order of the Court of Appeal be varied by
substituting the answers to the issues which I have indicated. McAlpine’s
must pay the costs of the appeal to this House and Investments the costs of its
own cross-appeal.
Alfred McAlpine Construction Limited v. Panatown Limited
[2000] UKHL 43; [2000] 4 All ER 97; [2000] 3 WLR 946 (27th July, 2000)
[2001] 1 AC 518, (2000) 2 TCLR 547, [2000] BLR 331, [2000] 3 WLR 946, 71 Con LR 1, [2000] 4 All ER 97, [2000] CLC 1604, [2000] NPC 89, [2000] EGCS 102, [2000] UKHL 43, [2001] AC 518
LORD GOFF OF CHIEVELEY
My Lords,
The appellant company, Alfred McAlpine Construction Ltd. (“McAlpine”), is a building contractor. The respondent company, Panatown Ltd., is one of the Unex group of companies, of which the parent company is Unex Corporation Ltd. (“UCL”) and which also includes Unex Investment Properties Ltd. (“UIPL”). On 2 November 1989 Panatown as employer entered into a building contract (“the building contract”) with McAlpine as contractor, for the design and construction of an office building and car park on a site at 126-130 Hills Road, Cambridge. The contract was in a modified J.C.T. Standard Form of Building Contract with Contractor’s Design (1981edition), the contract sum being a little under £10.5m.
It is of crucial importance in the present litigation that, although Panatown was the member of the Unex group which entered into the building contract as employer, the site at 126-130 Hills Road has at all material times been the property of another member of the group, UIPL. Another matter upon which McAlpine has placed much reliance is that, in addition to the building contract, McAlpine entered into a Duty of Care Deed (“the DCD”) with UIPL. Under the DCD UIPL, as building owner, acquired a direct remedy against McAlpine in respect of any failure by McAlpine to exercise reasonable skill, care and attention in respect of any matter within the scope of McAlpine’s responsibilities under the building contract. The DCD was expressly assignable by UIPL to its successors in title (with McAlpine’s consent, such consent not to be unreasonably withheld). I should mention that, in the DCD, it is stated that Panatown entered into the building contract “on behalf of the building owner,” viz. UIPL. It is however common ground between the parties that Panatown entered into the building contract as principal and not as agent (see para. 2.9 of the Agreed Statement of Facts and Issues). In these circumstances, especially as in the building contract itself “the employer” is identified simply as “Panatown,” I shall proceed on the basis, accepted on both sides, that Panatown did not in fact contract as agent for UIPL. The true position, as I understand it, was that Panatown was authorised by UIPL to enter onto UIPL’s land and to cause the development to be constructed there for the benefit of UIPL, Panatown having been put in funds for that purpose from within the Unex group of which both UIPL and Panatown were members. I should add that similar DCDs were entered into with UIPL by the architects, the structural engineers and the M. and E. engineers.
Another matter on which McAlpine placed reliance was that the reason why it was decided within the Unex group that Panatown, rather than UIPL, should be the employer under the building contract was to avoid the incidence of VAT, which was not imposed on contracts for new buildings until September 1989. UIPL was treated as being within the group (“the Unex VAT group”) for VAT purposes, but Panatown was not. On 23 March 1989 arrangements were made within the Unex group for an advance payment of £7.5m. to be paid to Panatown from within the Unex VAT group. This payment, which did not attract VAT, was intended to finance the development. Between January 1990 and January 1992 Panatown paid to McAlpine about £7.4 million under the building contract.
The building contract contained an arbitration clause. On 8 July 1992 Panatown served notice of arbitration on McAlpine, claiming (inter alia) damages for alleged breaches by McAlpine of the building contract by reason of allegedly defective work and delay. The dispute was referred to Mr. John Sims as arbitrator. In the proceedings McAlpine has denied Panatown’s allegations of breach of contract, and no determination has yet been made in respect of any of these allegations. Even so, McAlpine and the Unex group have together investigated the extent of defects in the office and car park buildings. These investigations led to an open letter from McAlpine to UCL, dated 4 July 1994, acknowledging the existence of significant defects in the foundations and steel frame of the office building and, where the defects arise from a breach of the building contract, acknowledging McAlpine’s responsibility for the necessary remedial works. The present appeal has proceeded on the assumption, in Panatown’s favour, that McAlpine is in breach of the building contract by reason of defective design and construction and delay. The defects in the building alleged by Panatown are very serious; indeed it appears that the building may have to be demolished and rebuilt. The total damages claimed by Panatown run to many millions of pounds.
In the proceedings, McAlpine has raised a contention that Panatown is not entitled to recover substantial damages under the building contract on the ground that Panatown, having no proprietary interest in the site, has suffered no loss. McAlpine sought an award to that effect. The arbitrator directed that this be heard as a preliminary issue. By an interim award dated 12 August 1994 the arbitrator, who for the hearing of the issue had sat with Mr. Brian Knight Q.C. as a legal assessor, answered the question in the issue in Panatown’s favour.
McAlpine appealed to the High Court against the interim award. The proceedings were transferred to Official Referee’s business. Judge Thornton Q.C. held that the matter should be remitted to the arbitrator, but in so doing he answered questions of law arising on the issue adversely to Panatown. However on appeal by Panatown, the Court of Appeal on 13 March 1998 ordered that the answer in the interim award of the arbitrator be confirmed, and that each of the relevant answers in the judgment of Judge Thornton Q.C. be set aside. It is from that decision that McAlpine now appeals to your Lordships’ House, by leave of the Court of Appeal. The issue in the appeal was summarised in the judgment of the Court of Appeal as follows:
“Is Panatown debarred from recovering substantial as opposed to nominal damages, by reason of the fact that it is not, and was not, owner of the land?”
This appeal is therefore concerned with a case in which there is an assumed breach by B of his contractual obligations with A but, because the contract relates to services rendered by B in respect of the property of a third party, C, a question has been raised by B whether in such circumstances A can recover substantial damages from him. The principal type of case in which such a point has arisen has related to contracts for the carriage of goods where, at the time of loss of or damage to the goods in transit, the property in the goods has passed to C; but more recently the point has been taken in the context of a building contract under which the work contracted for was to be performed on land or buildings which, at the time of performance, belonged to C.
It is widely supposed that there is a general rule that a party is only entitled to recover substantial damages for breach of contract in respect of his own loss, and not therefore in respect of loss suffered by a third party. The clearest statement of this supposed rule is to be found in the opinion of Lord Diplock in The Albazero [1977] A.C. 774, 845, where he referred to “the general rule of English law that a party to a contract apart from nominal damages, can only recover for its breach such actual loss as he himself has sustained.” In support of the proposition, reliance is frequently placed on statements of principle by two distinguished judges, Parke B. in Robinson v. Harman (1848) 1 Exch. 850, 855, and Lord Blackburn in Livingstone v. Rawyards Coal Co. (1880) 5 App. Cas. 25, 39; yet in both cases the judges were addressing only the measure of damages suffered by the plaintiff in an ordinary two-party situation. Neither was concerned with the situation in which a party contracts for a benefit to be conferred on a third party, and so neither statement can properly be read as ruling out the possibility that the contracting party can recover substantial damages for a breach of such a contract. So far as Lord Diplock’s statement of law is concerned, the function of his proposition, for which he cited no authority, was simply to provide a peg on which to hang a truly exceptional case (to which I will turn in a moment).
It would be an extraordinary defect in our law if, where (for example) A enters into a contract with B that B should carry out work for the benefit of a third party, C, A should have no remedy in damages against B if B should perform his contract in a defective manner. Contracts in this form are a commonplace of everyday life, very often in the context of the family; but, as the present case shows, they may also occur in a commercial context. It is not surprising therefore to discover that the authority for the supposed rule which excludes such a right to damages is very thin, and that its existence has been doubted by distinguished writers – I refer in particular to articles by Professor G.H. Treitel in (1998) 114 L.Q.R. 527, and by Mr. Duncan Wallace Q.C. in (1999) 115 L.Q.R. 394.
At all events, however, the problem surfaced first in the context of carriage of goods by sea, though the case in question, Dunlop v. Lambert (1839) 6 Cl. & F. 600, must be regarded as most unsatisfactory. That case was considered by your Lordships’ House in The Albazero [1977] A.C. 774, in which the leading opinion was given by Lord Diplock who at (p. 843) described the reasoning in the speech of Lord Cottenham L.C. in Dunlop v. Lambert as “baffling,” and the value of that case as an authority has been further undermined by the trenchant critique of my noble and learned friend Lord Clyde in his opinion in the present case (which I have had the opportunity of reading in draft). At all events, in The Albazero [1977] A.C. 774, 844, Lord Diplock concluded that the relevant passage in the speech of Lord Cottenham L.C. has been:
“uniformly treated ever since by textbook writers of the highest authority . . . as authority for the broad proposition that the consignor may recover substantial damages against the shipowner if there is privity of contract between him and the carrier for the carriage of goods; although, if the goods are not his property or at his risk, he will be accountable to the true owner for the proceeds of his judgment.”
Later in his opinion at p. 847, Lord Diplock rationalised the “rule in Dunlop v. Lambert” as follows:
“The only way in which I find it possible to rationalise the rule in Dunlop v. Lambert so that it may fit into the pattern of the English law is to treat it as an application of the principle, accepted also in relation to policies of insurance upon goods, that in a commercial contract concerning goods where it is in the contemplation of the parties that the proprietary interests in the goods may be transferred from one owner to another after the contract has been entered into and before the breach which causes loss or damage to the goods, an original party to the contract, if such be the intention of them both, is to be treated as having entered into the contract for the benefit of all persons who have or may acquire an interest in the goods before they are lost or damaged, and is entitled to recover by way of damages for breach of contract the actual loss sustained by those for whose benefit the contract is entered into.”
Lord Diplock however identified an important exception to the rule, holding that it could not apply to contracts for the carriage of goods which contemplate that the carrier will also enter into separate contracts of carriage with whoever may become the owner of the goods in question. This was because, Lord Diplock said at p. 848 of the
“complications, anomalies and injustices that might arise from the co-existence of different parties of rights of suit to recover, under separate contracts of carriage which impose different obligations upon the parties to them, a loss which a party to one of those contracts alone has sustained . . .”
The rule in Dunlop v. Lambert was therefore treated by Lord Diplock as an aspect of a special rule applicable in the case of commercial contracts concerning goods. It was moreover designed to solve a practical problem which may arise in the context of such contracts, viz., that the property in the goods may pass from one party to another after the contract was made, and that loss of or damage to or loss of the goods may occur at a time when the property in the goods has passed from the consignor to another party. In such circumstances it is obviously convenient that the consignor of the goods should, if such be the intention of the parties, be treated as having contracted for the benefit of all those who have acquired, or may acquire, an interest in the goods before they are lost or damaged, and as such be able to recover damages for their benefit. The rule, as so understood, is founded on commercial convenience, though its usefulness has since been much reduced as a result of later legislation, notably the Bills of Lading Act 1855 and now the Carriage of Goods by Sea Act 1992.
However the rule in Dunlop v. Lambert 6 Cl. & F. 60 was recently invoked and applied by your Lordships’ House in a very different context, viz., a case concerned with a building contract, Linden Gardens Trust Ltd. v. Lenesta Sludge Disposals Ltd.; St. Martin’s Property Corporation Ltd. v. Sir Robert McAlpine Ltd. [1994] 1 AC 85. In 1968 St. Martin’s Property Corporation Ltd. (“Corporation”) began to develop a site in Hammersmith. In the same year Corporation entered into an agreement with the local authority under which, on completion of the development, Corporation would become entitled to a 150 year lease of the site. In 1974 Corporation entered into a building contract with contractors, Sir Robert McAlpine Ltd. (“McAlpine”) for the construction of the proposed buildings on the site. In the mid-1970s all the property interests of Corporation including its interest in the property under the agreement with the local authority of 1968, were assigned to another company in the same group, St. Martin’s Property Investments Ltd. (“Investments”). Corporation also purported to assign to Investments the benefit of the contracts and engagements entered into by it for the construction of the development. This assignment was however held to fall foul of a prohibition against assignment contained in the building contract with McAlpine, which had the effect of precluding any claim by Investments as assignee against McAlpine under the building contract. The question then arose whether Corporation could recover substantial damages from McAlpine for breach of the building contract, notwithstanding that the interest of Corporation in the site had been transferred to another party. It was submitted by McAlpine that Corporation, having before the date of any breach of contract disposed of its interest in the property on which the building works were carried out, had suffered no loss in respect of which damages could be recovered by it, and for this proposition McAlpine cited The Albazero. The majority of their Lordships then invoked against McAlpine the exceptions to that general rule, referred to by Lord Diplock in The Albazero and exemplified by the so-called rule in Dunlop v. Lambert as rationalised by Lord Diplock in the same case. In his leading opinion, with which three other members of the Appellate Committee agreed, Lord Browne-Wilkinson said [1994] 1 AC 85, at pp. 114-115:
“In my judgment the present case falls within the rationale of the exceptions to the general rule that a plaintiff can only recover damages for his own loss. The contract was for a large development of property which, to the knowledge of both Corporation and McAlpine, was going to be occupied, and possibly purchased, by a third party and not by Corporation itself. Therefore it could be foreseen that damage caused by a breach would cause loss to a later owner and not merely to the original contracting party, Corporation. As in contracts for the carriage of goods by land, there would be no automatic vesting in the occupier or owners of the property for the time being who sustained the loss of any right of suit against McAlpine. On the contrary, McAlpine had specifically contracted that the rights of action under the building contract could not without McAlpine’s consent be transferred to third parties who became owners or occupiers and might suffer loss. In such a case, it seems to me proper, as in the case of carriage of goods by land, to treat the parties as having entered into the contract on the footing that Corporation would be entitled to enforce contractual rights for the benefit of those who suffered from defective performance but who, under the terms of the contract, could not acquire any right to hold McAlpine liable for breach. It is truly a case in which the rule provides ‘a remedy where no other would be available to a person sustaining loss which under a rational legal system ought to be compensated by the person who caused it.'”
Lord Griffiths also reached the conclusion that Corporation was entitled to recover substantial damages from McAlpine, but he did so on what he called a broader ground, viz. that Corporation had suffered loss because it did not receive from McAlpine the performance of the bargain which it had contracted for. He said at pp. 96-97:
“I cannot accept that in a contract of this nature, namely for work, labour and the supply of materials, the recovery of more than nominal damages for breach of contract is dependent upon the plaintiff having a proprietary interest in the subject matter of the contract at the date of breach. In everyday life contracts for work and labour are constantly being placed by those who have no proprietary interest in the subject matter of the contract. To take a common example, the matrimonial home is owned by the wife and the couple’s remaining assets are owned by the husband and he is the sole earner. The house requires a new roof and the husband places a contract with a builder to carry out the work. The husband is not acting as agent for his wife, he makes the contract as principal because only he can pay for it. The builder fails to replace the roof properly and the husband has to call in and pay another builder to complete the work. Is it to be said that the husband has suffered no damage because he does not own the property? Such a result would in my view be absurd and the answer is that the husband has suffered loss because he did not receive the bargain for which he had contracted with the first builder and the measure of damages is the cost of securing the performance of that bargain by completing the roof repairs properly by the second builder . . . “
Lord Griffiths’ broader ground was found attractive by three other members of the Appellate Committee, including my noble and learned friend Lord Browne-Wilkinson; but they hesitated to follow Lord Griffiths down that road, partly because the point had not been fully argued, and partly because they felt that “exposure to academic consideration” was desirable before the point was decided by the House: see p. 112 per Lord Browne-Wilkinson.
The next decision in this line of authority, following on the St. Martin’s case, was the decision of the Court of Appeal in Darlington Borough Council v. Wiltshier Northern Ltd. [1995] 1 WLR 68, another building contract case in which the same point was taken. There the council was the owner of land on which it had been decided to build a recreational centre. For reasons connected with local government finance, contracts were entered into for construction of the centre not by the council but by a finance company, the building contractors being the respondents Wiltshier Northern Ltd. The finance company subsequently assigned to the council its rights under the building contracts, and the council claimed damages from the builders for breach of the contracts. The builders took the point that the council, as assignee, had no greater rights under the contracts than the finance company had and that, as the finance company did not own the site, it had suffered no loss. The point was again rejected – by all three members of the Court (Dillon, Waite and Steyn L.JJ.) on the narrower ground in the opinion of my noble and learned friend Lord Browne-Wilkinson in the St. Martin’s case [1994] 1 AC 85, but by Steyn L.J. (as he then was) also on Lord Griffiths’ broader ground.
The point next arose before the Court of Appeal in the present case. As I have already recorded, the submission of McAlpine was unanimously rejected by the court. The judgment of the court was delivered by Evans L.J. He proceeded essentially in accordance with the narrower ground set out in my noble and learned friend Lord Browne-Wilkinson’s opinion in the St. Martin’s case, based upon the rationale of Dunlop v. Lambert 6 Cl. & F. 600 which Evans L.J. described as “contract-based,” The broader approach was not, in the opinion of the Court of Appeal, a possible alternative route to the same conclusion; rather “it was the underlying principle on which the Dunlop v. Lambert and St. Martin’s decisions based.” The court went on to consider whether the existence of a direct contractual obligation by McAlpine to UIPL under the DCD precluded recovery of substantial damages by Panatown from McAlpine on the narrower ground, having regard to the exception to the rule in Dunlop v. Lambert identified by Lord Diplock in The Albazero [1977] A.C. 774. They regarded the point as one of construction, and concluded that “the DCD was not intended to preclude the employer’s right to receive substantial damages under the building contract in the present case.” Evans L.J. continued:
“The parties to that contract [the building contract] cannot have intended or even contemplated that the elaborate provisions of the standard form of contract, which they amended in many respects so as to have a tailor-made version for the particular project, could be replaced by a claim for damages, on a different basis, before a court rather than in arbitration under the building contract (there is no arbitration clause in the DCD). We would hold that, on the true construction of their contract, the parties did not intend or contemplate that the DCD should deprive the employers of the right to claim substantial damages for the contractor’s breach.”
It was for these reasons that the Court of Appeal upheld the conclusion of the arbitrator on the issue before him in the present case. It is from the decision of the Court of Appeal, for the reasons I have set out, that McAlpine now appeals to your Lordships’ House.
There are, as I understand the case, essentially two questions which your Lordships have to consider: (1) whether Panatown is entitled to recover substantial damages from McAlpine in respect of the assumed breaches by McAlpine of the building contract, notwithstanding that at all material times Panatown had no proprietary interest in the site of the development; and (2) if so, whether the existence of the direct right of action by the owners of the site, UIPL, against McAlpine under the DCD precluded Panatown from recovering substantial damages from McAlpine.
I turn therefore to the first question. Here Panatown presented its case primarily on the basis of Lord Griffiths’ broader ground in the St. Martin’s case [1994] 1 AC 85; though in the alternative it was prepared, if necessary, to fall back on the rule in Dunlop v. Lambert, 6 Cl. & F. 600 as adopted by the majority of the Appellate Committee in the St. Martin’s case. It was, however, submitted on behalf of McAlpine that it was not open to Panatown to invoke the broader ground. Its submission was that the prospect of imminent legislative reform of the privity rule, in the form of the Contract (Rights of Third Parties) Bill already before Parliament, both removed the need for, and rendered illegitimate, any further judicial activism in the field which was subject of the appeal; and that the present case therefore fell to be decided solely on the basis of the exception to the “privity/loss rules” as laid down in the The Albazero [1977] A.C. 774, and explained and applied by Lord Browne-Wilkinson in the St. Martin’s case. There is, I believe,. little doubt that the choice by the parties of their respective grounds was largely dictated by the possible impact of the DCD upon Panatown’s claim to substantial damages under the building contract. On McAlpine’s approach, it was open to it to argue that, by reason of the exception identified by Lord Diplock in The Albazero, the existence of the DCD precluded any claim by Panatown to substantial damages for breach of the building contract; whereas, by invoking Lord Griffiths’ broader ground, Panatown could at least avoid that trap, though a claim on the broader ground presented its own difficulties.
Two questions therefore arise at the threshold of the argument in this case: (1) Which is the preferable approach to the appeal? And (2) What is the impact, if any, of the imminence of statutory reform of the old privity rule? I shall now consider the first of these two questions, which is a fundamental question which lies at the heart of the case. The second question I shall postpone to a later stage.
Which, then, is the preferable approach – is it the narrow ground derived from the rule in Dunlop v. Lambert, 6 Cl. & F. 600 or is it Lord Griffiths’ broader ground? To consider this question it is, I feel, desirable to stand back from the case now before the House, and to identify the nature of the problem with which we are concerned. For that purpose it is, I believe, essential to segregate in our minds two different problems. The first, is a problem which arises from the old common law doctrine of privity of contract. The second, is a problem concerned with damages. Let me explain.
(A) As we all know, from an early time the common law adopted a rule of privity of contract, by virtue of which only a party to the contract could enforce the contract. The rule, seen in the abstract, is rational and very understandable in a law of contract which includes the doctrine of consideration; but it has given rise to great problems in practice – because, both in commerce and in the domestic context, parties do enter into contracts which are intended to confer enforceable rights on third parties, and a rule of law which precludes a right of enforcement by a third party can therefore fail to give effect to the intention of the contracting parties and to the reasonable expectations of the third party. The existence of these problems led first of all to the recognition of a number of exceptions to the rule and ultimately, only last year, to its abolition by the Contracts (Rights of Third Parties) Act 1999.
(B) “There is, or is widely thought to be, a general rule that, where A commits a commits a breach of his contract with B, then B can recover damages only in respect of his own loss and not in respect of loss suffered by a third party, C.” I adopt the words of Professor Treitel in (1998) 114 L.Q.R. 527, because, as I have already indicated, I share his scepticism about the existence of this “rule.” Plainly it is right that a contracting party should not use the remedy of damages to recover what has been described by Oliver J. (as he then was) in a notable judgment (in Radford v. De Froberville [1977] 1 W.L.R. 1262, 1270 as “an uncovenanted profit,” or indeed to impose on the other contracting party an uncovenanted burden. But if the supposed rule exists, it could deprive a contracting party of any effective remedy in the case of a contract which is intended to confer a benefit on a third party but not to confer on the third party an enforceable right. It is not surprising therefore to discover increasing concern on the part of scholars specialising in the law of contract that the supposed rule, if rigidly applied, can have the effect of depriving parties of the fulfilment of their reasonable contractual expectations, and to read of doubts on their part whether any such rule exists.
It is, I believe, important to keep these two problems distinct in our minds when addressing the basic question which arises in the present case. With this distinction in mind, let us look first of all at the rule in Dunlop v. Lambert 6 Cl. & F. 600. As Lord Diplock himself explained, this rule should be seen in context of commercial contracts concerning goods, and in particular of contracts for the carriage of goods by sea. It is a commonplace of such contracts that the goods may be shipped pursuant to a contract of sale, under which the property in the goods may pass to the consignee while the goods are in transit. However, the rule of privity of contract requires that, if the contract of carriage is (as it usually is) made between the consignor and the carrier, it can be enforced only by the consignor and not by the consignee. This creates manifest problems where the goods are lost or damaged in transit after the property in them has passed to the consignee. The rule in Dunlop v. Lambert provided a practical solution to these problems by giving the consignor the right to recover damages for such loss or damage for the benefit of the consignee, to whom he was accountable. The shortcoming of this rule must, I imagine, have been that it left the initiative with the seller, rather than with the consignee who was the person who had suffered the loss of or damage to the goods. It is not surprising, therefore, that Parliament intervened only fifteen years later, in 1855, to pass the Bills of Lading Act of that year, under section 1 of which a person to whom the property in the goods had passed upon or by reason of the consignment to him of the goods or the indorsement to him of the bill of lading acquired a direct right of action against the shipowner on the terms of the bill of lading. (The Act of 1855 has recently been repealed and replaced by the Carriage of Goods by Sea Act 1992.) The more effective remedy given by statute must have meant that the useful life of the rule in Dunlop v. Lambert was relatively short. For present purposes, however, the important point is that the function of the rule was to escape the undesirable consequences of the privity rule in a particular context, though it had the incidental effect that, if there is a rule that a party can only recover damages for breach of contract in respect of his own loss, then the rule in Dunlop v. Lambert constitutes an exception to that rule.
Let me turn next to consider in this context Lord Griffiths’ broad ground in the St. Martin’s case. It is at once plain that Lord Griffiths was not concerned with a problem of privity of contract; on the contrary, he was concerned that a contracting party who contracts for a benefit to be conferred on a third party should himself have an effective remedy. He was moreover addressing not a special problem which arises in a particular context, such as carriage of goods by sea, but a general problem which arises in many different contexts in ordinary life, notably in the domestic context where parties may frequently contract for benefits to be conferred on others, though it may well arise in other contexts, such as charitable giving or even, as the present case shows, a commercial transaction. His problem was not, therefore, privity of contract; it was the rule, or supposed rule, that a party can only recover damages in respect of his own loss.
The purpose of this analysis is to demonstrate that, in my opinion, the invocation of the rule in Dunlop v. Lambert 6 Cl. & F. 600 in the present context is, I believe, inapposite. This is because we are not here addressing a problem of privity of contract. The problem is not that UIPL had no enforceable rights against McAlpine arising under the building contract: it was the evident intention that UIPL should not have such rights, its rights against McAlpine being restricted to different rights under a separate contract, the DCD. That the rule in Dunlop v. Lambert is inapposite in the present context is illustrated in particular by the irrelevance, in this context, of any contemplation that the property of the contracting party should be transferred to a third party – a feature which was regarded by Lord Diplock as a prerequisite of the application of the rule in Dunlop v. Lambert, and was fortuitously present in the St. Martin’s case [1994] 1 AC 85. An indication that any such prerequisite is irrelevant in the present context may be derived from the fact that, in the next case in which the St. Martin’s case was applied, Darlington Borough Council v. Wiltshier Northern Limited [1995] 1 WLR 68, there was no such feature and yet its absence was ignored by the Court of Appeal, no doubt because they felt that it did not matter. The same applies to the judgment of the Court of Appeal in the present case. In truth, what we are concerned with here is the effectiveness of the rights conferred on Panatown under the building contract itself.
In expressing this opinion I wish to stress that I fully understand, and indeed sympathise with, the hesitation of the majority in the St. Martin’s case to follow Lord Griffiths down the route which he preferred. But, with the passage of time and the benefit of much useful academic writing, I feel more hesitant about adopting the rule in Dunlop v. Lambert in what I consider to be an inappropriate context than I do about adopting Lord Griffiths’ approach. That the latter approach itself involves certain difficulties, I freely recognise; but I regard my appropriate course in the present case as being not to reject Lord Griffiths’ approach, but to identify and confront these difficulties in order to reach a solution which is in accordance with principle and also does practical justice between the parties, without leaving too great a legacy of problems for the future. To that task I now address myself.
I start with the proposition that the interest of a contracting party (A) in the performance by the other party (B) of his contractual obligations to A has long been recognised, and is protected as such by a remedy by A against B in damages. The protection of this “performance interest” or “expectation interest” is today placed at the forefront of their treatment of damages by both Professor Treitel (see Treitel on Contract,10th ed., (1999) pp. 973 et seq.) and Professor Beatson (see Anson on Contract, 27th ed., (1998) pp. 364 et seq.). The question raised by McAlpine’s argument in the present case is said to arise in circumstances in which the plaintiff attempts to enforce his right to damages where the “loss” has been suffered by a third party: see, e.g., Anson on Contract, 27th ed., pp. 412 et seq.
The argument advanced by McAlpine in the present case appears more compelling in cases where the plaintiff is claiming damages in respect of loss of, or damage to a third party’s property, than in cases such as the present, where the plaintiff is claiming damages in respect of failure by the defendant to carry out, or to carry out properly, work of improvement (or repair) on the land (or chattel) of a third party. It is in the former case that it can more readily be said that the third party has suffered loss, and indeed that the loss has fallen on the third party rather than on the plaintiff. It is in such cases that we have seen the development of the specific exception identified by Lord Diplock in The Albazero [1977] A.C. 774. In the latter case, however, it is difficult to see why the fact that the land (or chattel) is owned by a third party should of itself prevent the plaintiff from recovering damages in respect of the failure by the other contracting party to fulfil his side of the bargain with the plaintiff (for which the plaintiff has ex hypothesi furnished consideration). Indeed, if the law should in such circumstances deny the plaintiff a remedy in damages, it can be said with force that his performance or expectation interest is insufficiently protected in law. Historically this may have been the position; but, if so, it appears that this defect in the law has, in recent years, been addressed and remedied in cases which the point has arisen for decision and furthermore that those decisions have been generally welcomed by the academic legal community.
I add that, if Lord Griffiths’ approach was to be rejected, it would follow that, for example, the employer under a building contract for work on another’s property would have no remedy in damages if the builder was to repudiate the contract or to fail altogether to perform the contractual work. In other words, the builder could repudiate with impunity. It is no answer, or an insufficient answer, to this point that money paid in advance by the employer may be recoverable on the ground of failure of consideration, any more than it is an answer to other cases that there may be an abatement of the price.
In the light of this preamble I wish to state that I find persuasive the reasoning and conclusion expressed by Lord Griffiths in his opinion in the St. Martin’s case [1994] 1 AC 85, that the employer under a building contract may in principle recover substantial damages from the building contractor, because he has not received the performance which he was entitled to receive from the contractor under the contract, notwithstanding that the property in the building site was vested in a third party. The example given by Lord Griffiths of a husband contracting for repairs to the matrimonial home which is owned by his wife is most telling. It is not difficult to imagine other examples, not only within the family, but also, for example, where work is done for charitable purposes – as where a wealthy man who lives in a village decides to carry out at his own expense major repairs to, or renovation or even reconstruction of, the village hall, and himself enters into a contract with a local builder to carry out the work to the existing building which belongs to another, for example to trustees, or to the parish council. Nobody in such circumstances would imagine that there could be any legal obstacle in the way of the charitable donor enforcing the contract against the builder by recovering damages from him if he failed to perform his obligations under the building contract, for example because his work failed to comply with the contract specification.
At this stage I find it necessary to return to the opinion of Lord Griffiths in the St. Martin’s case. In the passage from his opinion, [1994] 1 AC 85, 96-97, which I have already quoted, he gave the example of a husband placing a contract with a builder for the replacement of the roof of the matrimonial home which belonged to his wife. The work proved to be defective. Lord Griffiths expressed the opinion that, in such a case, it would be absurd to say that the husband has suffered no damage because he does not own the property. I wish now to draw attention to the fact that, in his statement of the facts of his example, Lord Griffiths included the fact that the husband had to call in and pay another builder to complete the work. It might perhaps be thought that Lord Griffiths regarded that fact as critical to the husband’s cause of action against the builder, on the basis that the husband only has such a cause of action in respect of defective work on another person’s property if he himself has actually sustained financial loss, in this example by having paid the second builder. In my opinion, however, such a conclusion is not justified on a fair reading of Lord Griffiths’ opinion. This is because he stated the answer to be that “the husband has suffered loss because he did not receive the bargain for which he had contracted with the first builder and the measure of damages is the cost of securing the performance of that bargain by completing the roof repairs properly by the second builder.” It is plain, therefore, that the payment to the second builder was not regarded by Lord Griffiths as essential to the husband’s cause of action.
The point can perhaps be made more clearly by taking a different example, of the wealthy philanthropist who contracts for work to be done to the village hall. The work is defective; and the trustees who own the hall suggest that he should recover damages from the builder and hand the damages over to them, and they will then instruct another builder, well known to them, who, they are confident, will do the work well. The philanthropist agrees, and starts an action against the first builder. Is it really to be suggested that his action will fail, because he does not own the hall, and because he has not incurred the expense of himself employing another builder to do the remedial work? Echoing the words of Lord Griffiths, I regard such a conclusion as absurd. The philanthropist’s cause of action does not depend on his having actually incurred financial expense; as Lord Griffiths said of the husband in his example, he “has suffered loss because he did not receive the bargain for which he had contracted with the first builder.”
There has been a substantial amount of academic discussion about the difference of opinion in the Appellate Committee in the St. Martin’s case and in particular about the merits of Lord Griffiths’ opinion in that case. The Appellate Committee in the present case was supplied with copies of a number of relevant articles, which I have studied with interest and respect. I have not detected any substantial criticism of Lord Griffiths’ broader ground, whereas there has been some criticism of the narrower ground adopted by the majority of the Appellate Committee in the St. Martin’s case [1985] 1 A.C. 85 – see in particular the articles by Professor Treitel in (1998) 114 L.Q.R. 527, and by Mr. Duncan Wallace Q.C. (the editor of Hudson on Building Contracts) in (1994) 110 L.Q.R. 42 and (1999) 115 L.Q.R. 394 (in which the writer supports Lord Griffiths’ broader ground). I have found nothing in the academic material with which we were supplied which should deter those who are attracted to the broader ground from giving effect to it in an appropriate case. In this connection, I wish to draw attention in particular to articles by Professor Brian Coote in (1997) 56 Camb. L.J. 557 and in (1998) 13 J.C.L. 91; to the articles by Mr. Duncan Wallace Q.C. to which I have already referred; and to a Paper presented by Janet O’Sullivan (the Director of Studies in Law at Selwyn College, Cambridge) at a conference held in Cambridge in 1999 on Comparative Unjustified Enrichment (the Papers for which will , I understand, shortly be published) in which she considered the whole question of damages awarded to protect contractual expectations with special reference to “restitutionary damages,” and in particular to the judgment of the Court of Appeal in Attorney-General v. Blake [1998] Ch 439. In so doing, she reviewed a number of cases in which damages were, or might usefully have been, awarded to protect contractual expectations, and in particular regarded Lord Griffiths’ opinion in St. Martin’s, together with the recent decision of your Lordships’ House in Ruxley Electronics and Construction Ltd. v. Forsyth [1996] AC 344, as providing examples of steps recently taken to recognise and attack a deficiency in the remedial regime for breach of contract, arising from the “perceived failure of the English law of contract to recognise that the plaintiff’s interest lies in the performance of the contract.” Her review provides the context within which Lord Griffiths’ opinion can usefully be set, and in this way provides further justification for Lord Griffiths’ broader ground.
Turning to the authorities, I think it right to start with the decision of your Lordships’ House in East Ham Corporation v. Bernard Sunley & Sons Ltd. [1966] A.C. 406, which is regarded as the leading authority for the proposition that, in cases in which the plaintiff is seeking damages for the defective performance of a building contract (which is a contract for labour and materials), the normal measure of his damages is the cost of carrying out remedial work. On the issue of damages in that case, there appears to have been no difference of opinion among the members of the Appellate Committee. Lord Upjohn accepted at p. 445 that the normal measure of damages is the cost of reinstatement, as both Lord Guest and Lord Pearson appear to have done at pp. 440 and 451 respectively. Lord Cohen was however careful to qualify this proposition by reference to a principle of reasonableness which he drew from Hudson on Building and Engineering Contracts, 8th ed. (1859). The statement of the law (which he drew from that book) was as follows at p. 434:
“There is no doubt that wherever it is reasonable for the employer to insist upon reinstatement the courts will treat the cost of reinstatement as the measure of damage.”
I turn next to the authoritative judgment of Oliver J. in Radford v. De Froberville [1977] 1 W.L.R. 1262, for which I wish to express my respectful admiration. The case was concerned with a contract for the sale of a plot of land adjoining a house belonging to the plaintiff (the vendor) but occupied by his tenants, under which the defendant (the purchaser) undertook to build a house on the plot and also to erect a wall to a certain specification on the plot so as to separate it from the plaintiff’s land. The plaintiff obtained judgment against the defendant for damages for breach of contract by reason of her failure to erect the dividing wall, but an issue arose as to the measure of the damages. The defendant having failed to build the dividing wall on the land purchased from the plaintiff, the plaintiff proposed to build a dividing wall on his own land, and claimed the cost of doing so from the defendant; whereas the defendant maintained that the appropriate measure of damages was the consequent diminution in the value of the plaintiff’s property, which was nil. Oliver J. rejected the defendant’s contention. He held that the plaintiff had a genuine and serious intention of building the wall on his own land, and that this was a reasonable course of action for him to take. With regard to an argument by the defendant that, since the plaintiff did not himself occupy the property, he could not be said to have himself suffered damage by reason of the defendant’s failure to build the wall, because he was not there to enjoy it, and that his only loss, therefore, was the diminution of the value of his reversion, Oliver J. gave the following answer at [1977] 1 W.L.R. 1262, 1285:
“Whilst I see the force of this, I do not think that it really meets the point that, whatever his status, the plaintiff has a contractual right to have the work done and does in fact want to do it . . . . As it seems to me, the fact that his motive may be to confer what he conceives to be a benefit on persons who have no contractual rights to demand it cannot alter the genuineness of his intentions.” Oliver J. here referred to Jackson v. Horizon Holidays Ltd. [1975] 1 WLR 1468.
The reference in this passage to the persons who would benefit by the building of the wall was a reference to the plaintiff’s tenants.
Oliver J.’s reliance on the simple fact that the plaintiff had a contractual right to have the wall built constitutes a plain assertion of the plaintiff’s right to recover damages on the basis of damage to his performance interest, and is surely inconsistent with the submission of McAlpine, in the present case, that the mere fact that the buildings were to be constructed on the land of UIPL, rather than on the land of Panatown, debars Panatown from recovering substantial damages for the defective performance of McAlpine in the construction of the buildings. Indeed the decision of Oliver J. that the plaintiff in the case before him was entitled to substantial damages is of itself inconsistent with McAlpine’s submission, since the damages were awarded in respect of a failure by the defendant to build on land which was not the property of the plaintiff.
In the course of his judgment Oliver J., relying on a passage from the judgment of Megarry V.-C. in Tito v. Waddell (No. 2) [1977] Ch. 106, 331-334, concluded, at p. 1283, that there were three questions which he had to answer:
“First, am I satisfied on the evidence that the plaintiff has a genuine and serious intention of doing the work? Secondly, is the carrying out of the work on his own land a reasonable thing for the plaintiff to do? Thirdly, does it make any difference that the plaintiff is not personally in occupation of the land but desires to do the work for the benefit of his tenants?”
The first two questions he answered in the affirmative; the third he answered in the negative. I think it right however to record that the issue of reasonableness which arose in the second question was not the same issue as that raised in Lord Cohen’s statement of principle in East Ham Corporation v. Bernard Sunley & Sons; [1996] A.C. 406 it arose because Oliver J. had to consider whether, although the defendant’s breach of contract related to a failure to build the wall on her land which she had purchased from the plaintiff, the plaintiff was entitled to claim the cost of building a similar wall on his own land. It followed that the second question was, as Oliver J. said (see [1977] 1 W.L.R. 1284E-F) “really one of mitigation,” and that it was in that context that he had to consider whether the proposed action of the plaintiff was a reasonable step for him to take.
In Ruxley Electronics and Construction Ltd. v. Forsyth [1996] AC 344, the defendants contracted to construct a swimming pool on the plaintiff’s land. The contract specification required that the deep end of the pool should be 7 feet 6 inches deep. The pool was constructed, but the deep end was only 6 feet deep. The plaintiff claimed damages in the sum required to reconstruct the pool to the specified depth, viz. £21,560. The trial judge rejected that claim, but awarded the plaintiff damages in the sum of £2,500 for loss of amenity. The Court of Appeal allowed the plaintiff’s appeal from that decision, and awarded him the full sum claimed by him. The House of Lords allowed the defendants’ appeal from the decision of the Court of Appeal, on the ground that the expenditure required to reconstruct the pool to the specified depth was out of all proportion to the benefit to be obtained, and restored the judgment of the trial judge. The plaintiff invoked the decision of Oliver J. in Radford v. De Froberville as showing that he was entitled to damages for failure to comply with the contract to provide a swimming pool to his specification, notwithstanding that the extra depth was of no objective value; but on the facts of the case your Lordships’ House held that the award of damages which the plaintiff sought was unreasonable and so could not be upheld. In support of this conclusion, the House was able to invoke not only English authority, notably the speech of Lord Cohen in East Ham Corporation v. Bernard Sunley & Sons, but also authoritative statements of principle from the High Court of Australia (viz. Bellgrove v. Eldridge (1954) 90 C.L.R. 613, 617-618) and the United States (viz. Jacob & Youngs v. Kent 129 N.E. 889, 891-2, per Cardozo J.). It is however plain from the opinions of the Appellate Committee that they regarded Oliver J.’s judgment in Radford v. De Froberville [1977] 1 W.L.R. 1262 as an authoritative and useful statement of legal principle: see, e.g., [1996] 1 A.C. at p. 360, per Lord Mustill. And, as Oliver J. said in Radford v. De Froberville [1977] 1 W.L.R. 1262, 1270:
“If [the plaintiff] contracts for the supply of that which he thinks serves his interests – be they commercial, aesthetic or merely eccentric – then if that which is contracted for is not supplied by the other contracting party I do not see why, in principle, he should not be compensated by being provided with the cost of supplying it through someone else or in a different way, subject to the proviso, of course, that he is seeking compensation for a genuine loss and not merely using a technical breach to secure an uncovenanted profit.”
I respectfully agree with this proposition, the last few words of which can be regarded as concerned with the issue of reasonableness which arose in the Ruxley Electronics case [1996] AC 344. It cannot be said that, in the present case, the breach of contract alleged by Panatown is “technical”, or that Panatown is seeking an “uncovenanted” profit. Moreover Oliver J.’s proposition, and indeed his decision, are, as I have already indicated, inconsistent with the argument now advanced on behalf of McAlpine that the employer under a building contract is unable to recover substantial damages for breach of the contract if the work in question is to be performed on land or buildings which are not his property. Oliver J.’s proposition is, in my opinion, equally applicable where the work contracted for is to be performed on another person’s property for family reasons, or (as in the present case) for the benefit of a group of companies of which the plaintiff is a member, or for purely charitable reasons, or for any other reason for which the plaintiff thinks it appropriate to enter into such a contract –as for example in the case of a contract by the defendant to build a wall on her own land, as in Radford v. De Froberville [1977] 1 W.L.R. 1262 itself.
It follows, in my opinion, that the principal argument advanced on behalf of McAlpine is inconsistent with authority and established principle. This conclusion may involve a fuller recognition of the importance of the protection of a contracting party’s interest in the performance of his contract than has occurred in the past. But not only is it justified by authority, but the principle on which it is based is supported by a number of distinguished writers, notably Professor Brian Coote and Mr. Duncan Wallace Q.C.
However, as I have already recorded, it was the submission of McAlpine that your Lordships should regard any such development in the law as a matter for legislation, presumably after a reference to the Law Commission. This submission was made on the basis that the Lord Chancellor had introduced into Parliament a Bill – the Contract (Rights of Third Parties) Bill, based on a Report by the Law Commission, designed to bring about a radical reform of the privity rule, and that the prospect of this imminent legislation rendered illegitimate any further judicial activism in the field which was the subject of the present appeal. That Bill is now on the statute book: see the Contracts (Rights of Third Parties) Act 1999.
I am unable to accept this submission. As I have previously explained, this case is not concerned with privity of contract. There is no question of a third party here seeking to enforce a jus quaesitus tertio – i.e., of UIPL enforcing a right arising under the contract between McAlpine and Panatown. On the contrary, the reason why Panatown contracted as employer under the building contract with McAlpine was so that UIPL, although the owner of the site, should not do so. Even if the new Act had been in force at the material time, it would not have given UIPL any right to enforce the building contract, or any provision of it, against McAlpine. Section 1 of the Act, which is concerned with the right of a third party to enforce a contractual term, provides as follows:
1.
(1) Subject to the provisions of this Act, a person who is not a party to a contract (a “third party”) may in his own right enforce a term of the contract if
(a) the contract expressly provides that he may, or
(b) subject to subsection (2), the term purports to confer a benefit on him.
(2)
Subsection (1) (b) does not apply if on a proper construction of the contract it appears that the parties did not intend the term to be enforceable by the third party.
It is plain that the building contract in the present case did not expressly provide that UIPL might in its own right enforce a term of the contract; and, in so far as the contract, or any term of it, purported to confer a benefit on UIPL, it is plain that the parties did not intend any such term to be enforceable by UIPL, the rights of the latter against McAlpine being limited to those which arose under a separate contract, the DCD.
In truth, no question of a jus quaesitum tertio arises in this case at all. Lord Griffiths’ broader ground is not concerned with privity of contract as such. It is concerned with the damages recoverable by one party to a contract (the employer) against another (the contractor) for breach of a contract for labour and materials, viz. a building contract. It does not seek to establish an exception to the old privity rule, though it may provide a principled basis for the recovery of damages (by a contracting party, not by a third party) in some cases, such as Jackson v. Horizon Holidays Limited [1975] 1 WLR 1468, in which the privity rule has been seen as a barrier to recovery (not by a contracting party but by a third party).
Furthermore, as Professor Hugh Beale stated some years ago (see (1995) 9 J.C.L. 103 at p. 108).
“Even if the basic doctrine of privity were to be reformed along the lines suggested by the Law Commission, I think it is vital that the promisee should have adequate remedies to take care of those cases in which the third party does not acquire rights.”
I would however go further. I do not regard Lord Griffiths’ broader ground as a departure from existing authority, but as a reaffirmation of existing legal principle. Indeed, I know of no authority which stands in its way. On the contrary, there have been statements in the cases which provide support for his view. Thus in Darlington Borough Council v. Wiltshier Northern Ltd. [1995] 1 WLR 68, 80, Steyn L.J. (as he then was) described Lord Griffiths’ broader ground as based on classic contractual theory, a statement with which I respectfully agree. Moreover, Lord Griffiths’ reasoning was foreshadowed in the opinions of members of the Appellate Committee in Woodar Investment Development Ltd. v. Wimpey Construction U.K. Ltd. [1980] 1. W.L.R. 277; see especially the opinion of Lord Keith of Kinkel (at pp. 297-8), and in addition the more tentative statements of Lord Salmon (at p. 291) and Lord Scarman (at pp. 300-1). Furthermore, as I have just indicated, full recognition of the importance of the performance interest will open the way to principled solution of other well-known problems in the law of contract, notably those relating to package holidays which are booked by one person for the benefit not only of himself but of others, normally members of his family (as to which see Jackson v. Horizon Holidays Ltd. [1975] 1 WLR 1468), and other cases of a similar kind referred to by Lord Wilberforce in his opinion in the Woodar Investment case at p. 283 – cases of an everyday kind which are calling out for a sensible solution on a principled basis. Even if it is not thought, as I think, that the solution which I prefer is in accordance with existing principle, nevertheless it is surely within the scope of the type of development of the common law which, especially in the law of obligations, is habitually undertaken by appellate judges as part of their ordinary judicial function. That such developments in the law may be better left to the judges, rather than be the subject of legislation, is now recognised by the Law Commission itself, because legislation within a developing part of the common law can lead to ossification and a rigid segregation of legal principle which disfigures the law and impedes future development of legal principle on a coherent basis. It comes as no surprise therefore that, in its Report on “Privity of Contract: Contracts for the Benefit of Third Parties, (1996) (Law Com. No. 242) para. 5.15, the Law Commission declined to make specific recommendations in relation to the promisee’s remedies in a contract for the benefit of a third party (here referring to The Albazero [1977] A.C. 774 and Linden Gardens Trust Ltd. v. Lenesta Sludge Disposals Ltd. (the St. Martin’s case) [1994] 1 AC 85 as cases in which “the courts have gone a considerable way towards developing rules which in many appropriate cases do allow the promisee to recover damages on behalf of the third party”), and stated that the Commission “certainly . . . would not wish to forestall further judicial development of this area of the law of damages.” This certainly does not sound like a warning to judicial trespassers to keep out of forbidden territory; see also para. 11. 22, concerned with the problem of double liability – which I shall have to consider at a later stage.
The present case provides, in my opinion, a classic example of a case which falls properly within the judicial province. I, for my part, have therefore no doubt that it is desirable, indeed essential, that the problem in the present case should be the subject of judicial solution by providing proper recognition of the plaintiff’s interest in the performance of the contractual obligations which are owed to him. I cannot see why the proposed statutory reform of the old doctrine of privity of contract should inhibit the ordinary judicial function, and so prevent your Lordships’ House from doing justice between the parties in the present case. As I have said, the principal function of this submission of McAlpine appears to have been to restrict the argument of Panatown to the narrower ground in Dunlop v. Lambert 6 Cl. & F. 600 and by so doing to enable McAlpine to argue that, on that basis, the cause of action by Panatown under the building contract was excluded by the separate contractual right afforded to the building owner, UIPL, under the DCD. That is a matter which I will have to address when I come to consider the second issue in the case.
There are however four specific matters to which I should refer before I leave the main issue in this appeal.
(1) The first relates to damages for delay. Here we are concerned, first, with the question of principle, viz. whether an employer under a building contract who does not own the building site can recover damages for delay. However the building contract in the present case, like most building contracts, contains a liquidated damages clause (condition 24). The question therefore arises whether that clause is enforceable by an employer who does not own the site. I should add that the sum specified in the contract (by Appendix 1) as payable by way of liquidation damages for delay is £35,000 per week. In the present case, the delay for which liquidated damages are claimed is potentially very great, and so the sum claimed on this basis must be very substantial.
The Court of Appeal held that the fact that Panatown was not the building owner did not preclude it from recovering damages for delay, either liquidated or unliquidated. In so holding, the Court of Appeal must have rejected the conclusion of both the arbitrator and Judge Thornton Q.C. that the liquidated damages clause in the contract was unenforceable because it was a penalty. In this connection, however, it must be borne in mind that the Court of Appeal decided the case on the basis of the narrower ground, based on the rule in Dunlop v. Lambert, 6 Cl. & F. 600.
I myself prefer to proceed on the basis of the broader ground in Lord Griffiths’ opinion in the St Martin’s case [1994] 1 AC 85. On that basis, I can see no reason in principle why my conclusion should not apply to damages for delay, as well as to damages for defective work. The employer has, after all, contracted not only for the work to be performed by the contractor as specified, but also for it to be performed within a specified time, and has given consideration for the contractor’s promise to perform his obligations. He has therefore a contractual right to the performance by the contractor of his obligation as to time, as much as he has to his performance of the work to the contractual specification.
But, in the case of delay, there appears at first sight to be a problem of quantification. In the case of defective work, the employer who does not own the building site can have recourse to an objective standard for the quantification of the damage, viz. the reasonable cost of remedying the defects. At first sight, however, this approach is not so easily applicable in the case of delay, where the damages fall to be assessed by reference to the loss of the opportunity to take advantage of the completed building, either by disposing of it through a sale or long lease, or by putting it to profitable use. It appears to be suggested that loss of such an opportunity will inevitably fall on the owner of the building, and not on the employer who does not own it; and it appears to have been on this basis that condition 24 of the present building contract was held to be unenforceable as a penalty both by the arbitrator and by Judge Thornton Q.C.
I am however unable to accept the reasoning on which that conclusion appears to have been based. In the case of a commercial development such as the present, the impact of delay on the completion of the development can be measured objectively in financial terms with reference to the anticipated profitability of the development; and this can provide an appropriate yardstick for measuring the estimated damages for delay in the performance for which the employer has contracted, even where the development was to be carried out on a site belonging to another person. There is no reason to imagine that the figure included in condition 24 Appendix 1 was not calculated in some such way. It should not be forgotten that, in the present case, the contractual documents included assignable DCDs granted to UIPL, obviously as the owner of the site; and it must have been plain to all concerned that Panatown was not the owner of the site. For my part, I cannot see why the liquidated damages clause in the building contract should not be regarded as a genuine pre-estimate of the damage suffered by Panatown by reason of the delay in receiving the benefit of the building work to be performed by McAlpine under the building contract.
Even so let me, like Lord Griffiths, take an example from the context of the family. Suppose that a married woman divorces her husband, and as a result of her unhappy experiences suffers what used to be called a nervous breakdown with the effect that she is incapable of managing her own affairs. The matrimonial home always belonged to her, and remained her property after the divorce settlement; but it is decided among her family that, because of her illness, she should live with her parents, and that her house should be sold to provide her with an income from the capital sum so raised. The house needs to be put in order before it is put on the market. Her father decides to do this at his own expense, as a present to his daughter. He places a contract with a builder, which contains a liquidated damages clause. Is it to be said that, if the building work is delayed, the father cannot enforce the liquidated damages clause on the ground that it is not, and cannot be, a genuine pre-estimate of his loss? I do not think so. The sum specified in the clause for liquidated damages is intended to reflect the economic circumstances prevailing at the time, and to be related to the enhancement in the value of the house when the work is done. It may perhaps have been proposed by the builder as a rate which was, on that basis, acceptable to him and have been accepted by the father as such. The whole purpose of the father in placing the contract at his own expense is to ensure that his daughter is in a position to reap the benefit of that enhancement; and I do not see why the sum so specified should not constitute a genuine pre-estimate of the damage suffered by him by reason of delay in receiving the benefit of the building work. Indeed, he will then be in a position to make good the gift which he intended to make to his daughter, by handing the damages over to her; and he will, if necessary, have no difficulty in satisfying a court of his intention to do so. If that is not right, it is difficult to see how there could be an effective liquidated damages clause in such a contract, although such clauses are a manifest convenience to both parties in building contracts.
At all events, the foregoing reasoning is in my opinion applicable in the present case, if damages are awarded on the basis of Lord Griffiths’ broader ground; though the same conclusion would be reached if damages were awarded on the basis of the rule in Dunlop v. Lambert 6 Cl. & F. 600, where the damages are recoverable on behalf of the owner. I would therefore decline to interfere with the conclusion of the Court of Appeal on this point, and I would uphold Panatown’s claim to liquidated damages under condition 24 of the building contract at the rate specified in Appendix 1. I should add that, even if there had been no liquidated damages clause in the contract, in my opinion Panatown would have been entitled to recover substantial damages from McAlpine for delay, on the basis that McAlpine’s assumed breach of contract had pro tanto defeated Panatown’s contractual expectations. I wish to add that I understand my approach to this issue to be consistent with the views expressed by Professor Brian Coote in his article, “Contract Damages, Ruxley and the Performance Interest” in [1997] C.L.J. 537, 552, to which I wish to express my indebtedness.
(2) The second relates to the relevance of the plaintiff’s intention. It is plain that Oliver J. regarded the plaintiff’s intention as material to the issue before him. He therefore asked himself (see Radford v. De Froberville [1977] 1 W.L.R. 1262, 1283E) whether the plaintiff had “a genuine and serious intention of doing the work,” thereby satisfying himself that the plaintiff was “seeking compensation for a genuine loss and not merely using a technical breach to secure an uncovenanted profit” (see p. 1270E). In the St. Martin’s case [1994] 1 AC 85, 97G, Lord Griffiths took a similar view when he expressed the opinion that, in awarding damages to the plaintiff on his broader ground, the court “will of course wish to be satisfied that the repairs have been or are likely to be carried out”. It has however been suggested that to have regard in these cases to the intention of the plaintiff as to the use to which he intends to put his damages is contrary to the general principle that the court is not concerned with what the plaintiff does with his damages: see Darlington Borough Council. v. Wiltshier Northern Ltd. [1995] 1 WLR 68. 80, per Steyn L.J. For my part, however, I cannot see why it should not be appropriate to have regard to such a matter when the reasonableness of the plaintiffs claim to damages is under consideration. This was the view expressed by Lord Lloyd of Berwick in Ruxley Electronics and Construction v. Forsyth [1996] 1 A.C. 344, 372C-D when he said:
“I fully accept that the courts are not normally concerned with what a plaintiff does with his damages. But it does not follow that intention is not relevant to reasonableness, at least in those cases where the plaintiff does not intend to reinstate. Suppose in the present case Mr. Forsyth had died, and the action had been continued by his executors. Is it to be supposed that they would be able to recover the cost of reinstatement, even though they intended to put the property on the market without delay?”
I respectfully agree.
(3) I have yet to consider the impact on the main issue of the fact that the decision within the Unex Group that the contract for the development of the site owned by UIPL should be placed by Panatown rather than by UIPL was made with the purpose of avoiding the incidence of VAT. Mr. Pollock for McAlpine, submitted that your Lordships should be unwilling to assist Panatown to escape from the predicament created by this arrangement, when its cause was so unmeritorious; and in this he had a distinguished supporter in the person of Professor Treitel (see “Damages in Respect of a Third Party’s Loss” (1998) 114 L.Q.R. 527, 534). I am however unable to accept this submission. It seems to me that, in modern business, where the incidence of tax can be of great importance to the viability of any enterprise such as the present, companies such as those in the Unex Group are fully entitled to take lawful measures open to them to minimise the incidence of tax. Indeed, their shareholders might well have reason to complain if they did not have this purpose in mind when they arranged their affairs. I for my part cannot see that the tax reasons underlying the arrangements in the present case have any impact upon the question whether Panatown is entitled to recover substantial damages from McAlpine. In any event, I do not conceive my function in the present appeal as being to assist Panatown to escape from their predicament. I regard it as being to ascertain the relevant principles of law, and to apply them to the facts of the case. If a consequence of this exercise is that the companies in the Unex Group have successfully avoided the incidence of VAT by a legitimate tax avoidance scheme, then so be it.
(4) Your Lordships were assisted by a presentation by Mr. Jeremy Nicholson, junior counsel for Panatown, on the applicable German law, for which I was grateful. This was founded upon advice received from Dr. Hannes Unberath, recently a graduate student at Worcester College, Oxford, and the author of an interesting case note on the present case in the Law Quarterly Review: see (1999) 115 L.Q.R. 535. His thesis is that, in Germany, the present case would be decided in favour of Panatown on the basis of a principle called Drittschadenliquidation, which has been loosely translated into English as “transferred loss” – an expression which I have myself adopted from time to time, though not I fear with any great accuracy. Indeed the concept is not an easy one for a common lawyer to grasp; and, with all respect to Dr. Unberath, I do not feel sufficiently secure to adopt it as part of my reasoning in this opinion. Even so, I find it comforting (though not surprising) to be told that in German law the same conclusion would be reached as I have myself reached on the facts of the present case. I have however also been struck by the provisions of paras. 633 and 635 of the BGB, falling within the Seventh Title entitled Contract for Work. I note (from Ian Forrester’s translation of 1975) that the remedies under these two paragraphs (for defective work and for non-fulfilment) are vested in “the customer,” and that there is no indication that the situation might be different if the property on which the work is to be done is vested in a person other than the customer.
Conclusion on the first issue.
For the reasons I have given, I would decide the first issue in favour of Panatown. I therefore find myself to be in agreement with the conclusion of the Court of Appeal on that issue, though not with their reasoning, since they proceeded (as I believe they were bound to do) on the basis of the narrower ground in the St Martin’s case [1994] 1 AC 85, and I, as I am free to do, have preferred Lord Griffiths’ broader ground. I wish to add in parenthesis that I have difficulty with the suggestion of the Court of Appeal that the broader ground is not a possible alternative route to the same conclusion as that reached by them on the narrower ground, but is “rather the underlying principle on which the Dunlop v. Lambert 6 Cl. & F. 600 and St. Martin’s decisions are based.” I myself regard the two grounds as different routes to a similar conclusion.
Bank Of Credit And Commerce International SA (No. 8), Re
[1997] UKHL 44 [1997] 3 WLR 909, [1998] 1 BCLC 68, [1998] AC 2142, [1997] UKHL 44, [1998] 1 AC 2142, [1997] BCC 965, [1997] 4 All ER 568, [1998] Lloyd’s Rep 48, [1998] AC 214, [1998] 1 AC 214, [1998] BPIR 211
Lord Hoffmann
3. The security documents
The security documents executed by Mr. Jessa and S.G.G.S. were not in precisely the same form but the differences are immaterial. The material provisions of the “Letter of Lien/Charge” signed on behalf of Mr. Jessa on 3 February 1989 (which I give by way of example) were as follows:
“In consideration of [B.C.C.I.] at our request providing from time to time banking facilities to [Rayners] (“the borrower”) from time to time, I . . . hereby give a lien/charge on the balances maintained by me in my accounts with you for all of the outstanding liabilities of the borrower in respect of the banking facilities and so that you shall have the power to withdraw and utilise the proceeds thereof . . . for the reduction or adjustment of the outstanding liabilities of the borrower with the bank without reference to me. I undertake to execute such deeds and instruments as the bank may require hereafter further to secure my accounts and I shall bear the cost thereof.
“I hereby declare that I have not encumbered, assigned or otherwise dealt with the accounts in any way and that they are free from all encumbrances and that I will not encumber, assign or deal with them or any renewal thereof.
“It is understood that the balances held in the accounts under the lien/charge are not to be released to me, my heirs or assignees unless or until the entire outstanding liabilities of the borrower whether actual or contingent are fully repaid with interest, fees, commission etc. and the bank is under no obligation to provide or make available banking facilities to the borrower.”
The effect of the document may be summarised as follows. The first paragraph purports to grant the bank a proprietary interest, in the form of a lien or charge, over Mr. Jessa’s deposit. The second paragraph is a warranty that he has not previously encumbered his interest in the deposit and a covenant that he will not do so in the future. And the third paragraph is a contractual agreement that the deposit will be repayable only if all the liabilities of Rayners have been repaid. The document does not contain any promise by Mr. Jessa to pay what may be due from Rayners to the bank.
4. Rights of a secured creditor
The general rule is that a secured creditor is not obliged to resort to his security. He can claim repayment by the debtor personally and leave the security alone. In China and South Sea BankLtd. v. Tan Soon Gin (alias George Tan) [1990] 1 AC 536, 545, where the creditor’s security consisted of a mortgage over shares and a personal guarantee from a surety, Lord Templeman said:
“The creditor had three sources of repayment. The creditor could sue the debtor, sell the mortgage securities or sue the surety. All these remedies could be exercised at any time or times simultaneously or contemporaneously or successively or not at all.”
If the creditor recovers judgment against the debtor and the debt is paid, the security is released. But B.C.C.I. accepts that this will be the consequence of payment. The security created by the letter of lien/charge will be discharged and the deposit left unencumbered. Of course the depositor will only be entitled to a dividend in the winding up. But this would have been his position even if he had never granted the charge in the first place.
In the present case, however, Mr. McDonnell (for Rayners) and Mr. Carr (for the Solai Group) have advanced a number of arguments as to why B.C.C.I. should not be entitled to sue them for money lent without first giving credit for the full amount of the sums deposited as security. I shall consider each in turn.
5. Bankruptcy set-off
Rule 4.90 of the Insolvency Rules 1986 (reproducing earlier legislation) is headed “Mutual credit and set-off” and provides:
“(1) This rule applies where, before the company goes into liquidation there have been mutual credits, mutual debts or other mutual dealings between the company and any creditor of the company proving or claiming to prove for a debt in the liquidation. (2) An account shall be taken of what is due from each party to the other in respect of the mutual dealings, and the sums due from one party shall be set off against the sums due from the other. . . . (4) Only the balance (if any) of the account is provable in the liquidation. Alternatively (as the case may be) the amount shall be paid to the liquidator as part of the assets.”
When the conditions of the rule are satisfied, a set-off is treated as having taken place automatically on the bankruptcy date. The original claims are extinguished and only the net balance remains owing one way or the other: Stein v. Blake [1996] 1 AC 243. The effect is to allow the debt which the insolvent company owes to the creditor to be used as security for its debt to him. The creditor is exposed to insolvency risk only for the net balance.
Not all jurisdictions recognise this kind of security in bankruptcy. The recent judgment of Sir Richard Scott V.-C. in In re Bank of Credit and Commerce International S.A. (No. 10) [1997] 2 W.L.R. 172 illustrates the problems caused by the fact that English law, as the law of the ancillary liquidation, recognises such a set-off but the law of the principal liquidation (Luxembourg) does not. In English law, it is strictly limited to mutual claims existing at the bankruptcy date. There can be no set-off of claims by third parties, even with their consent. To do so would be to allow parties by agreement to subvert the fundamental principle of pari passu distribution of the insolvent company’s assets: see British Eagle International Airlines Ltd. v. Compagnie Nationale Air France [1975] 1 W.L.R. 758.
The sense of injustice which is undoubtedly felt by the depositors in this case arises, I think, not so much from the operation of rule 4.90 but from the principle that a company is a person separate from its controlling shareholders. If the depositors had been third parties in economic reality as well as in law, I imagine that it would not have been thought particularly unfair that the liquidators had chosen to exercise their undoubted choice of remedies and to proceed against the primary borrowers rather than resort to the third party security which they held. But the separate personality of depositor and borrower was an essential element in the structure which the parties chose to adopt for their borrowings and it cannot be ignored now that B.C.C.I. has become insolvent.
The appellants nevertheless say that on the facts of this case there was mutuality between the depositor and B.C.C.I. and that automatic set-off under rule 4.90 therefore took place; the sum owed by B.C.C.I. to the depositor (i.e. the amount of the deposit and interest) being set off against the amount owed by the depositor to B.C.C.I. The result was to extinguish the dept pro tanto for the benefit of both Mr. Jessa and Rayners, both being liable for the same obligation.
6. Construction of the security documents
The difficulty about this argument is that the depositor did not owe anything to B.C.C.I. The only contract between him and B.C.C.I., contained in the letter of lien/charge, created no personal liability on his part. In Tam Wing Chuen v. Bank of Credit & Commerce Hong Kong Ltd. [1996] B.C.C. 388, the Privy Council had to construe a very similar document and held that no personal liability could be implied. Lord Mustill said:
“One thing is clear, that nowhere in these clauses does the instrument actually say that the depositor is to have a liability equal to the amount of the deposit, or, for that matter, equal to the indebtedness of the company. Thus, if the depositor is to succeed he must show that the transaction as formulated cannot be given any meaning unless he is personally liable.”
Mr. McDonnell said that in the present case, the only way in which the transaction as formulated could be given a meaning would be if it were construed as creating a personal liability on the part of the depositor to pay the borrower’s indebtedness. Although it did not expressly do so, but instead purported to create a charge over the deposit, it was, he submitted legally ineffective for this purpose. A charge in favour of B.C.C.I. over a debt owed by B.C.C.I. to the depositor was, as the Court of Appeal held, conceptually impossible and created no proprietary interest in B.C.C.I. (In this respect, the present case was distinguishable from Tam Wing Chuen because in Hong Kong such charges had been legitimated by statute: see section 15A of the Law Amendment and Reform (Consolidation) Ordinance, Cap. 23). The only way in which the letter in this case could operate as an effective security was contractually. Mr. McDonnell submitted that to give effect to this intention, it should therefore be construed as imposing a personal obligation upon the depositor which B.C.C.I. would be entitled to set off against his claim for the return of the deposit. On the winding up of B.C.C.I., the effect of rule 4.90 was to make such a set-off mandatory.
(a) M.S. Fashions Ltd.
Mr. McDonnell relied upon M.S. Fashions Ltd. v. Bank of Credit and Commerce International S.A. [1993] Ch. 425 as a case in which this kind of reasoning had been approved. I do not think that this is right. The case involved a very unusual security document in which, although no personal obligation was expressly created, references were made to the liability of the depositor being that of principal debtor. It was only to give effect to these words that the document was construed as creating a personal liability limited to the amount of the deposit. This was held to result in a set-off between depositor and B.C.C.I. which, since depositor and principal debtor were jointly and severally and unconditionally liable for the same debt, discharged the principal debtor.
There is no doubt that the decision in M.S. Fashions produces a rather anomalous result to which the Court of Appeal [1996] Ch. 245, 269, 273, drew attention. If the documents in that case had, as in this case, merely created a charge over the deposit or a contractual limitation on the right to withdraw the deposit (such as that in the third paragraph of the lien/charge letter which I have quoted), there would have been no cross-claim for the purposes of set-off. If the depositor had given a personal guarantee in the usual form and no demand had been made upon him before the bankruptcy date, his liability would have been merely contingent and would likewise have been incapable of set-off. But because the depositor was also personally liable jointly and severally with the borrower, an automatic set-off took place which discharged the borrower. The distinction is artificial because in no case would the bank wish to rely upon the depositor’s personal liability, whether as principal or guarantor. It will simply keep his money in accordance with the letter of charge. It could be said that, for a bank which is thinking of becoming insolvent, the M.S. Fashions case is a trap for the unwary.
The difficulty, as the Court of Appeal recognised, is to find a way of coming to a different answer which recognises the automatic and self-executing nature of set-off under rule 4.90 and the principle that joint and several debtors are liable for the same debt so that payment or deemed payment by the one discharges the other. In the case of a charged deposit, one possible answer is that the existence of the charge destroys mutuality: the bank’s claim against the depositor is in its own right but the depositor’s claim is subject to the equitable interest of the bank. This argument was somewhat cursorily rejected in M.S. Fashions at first instance and (advanced in a different form) at rather greater length in the Court of Appeal. In this case, the Court of Appeal suggested that reliance might be placed upon the retrospective effect of the collection and distribution of assets by the liquidator, so that the recovery of the debt from the principal debtor could be deemed to take place immediately before the operation of rule 4.90 and, by discharging the debt, prevent set-off from taking place. I record the debate without comment; it is something which may have to be decided in the unlikely event of documentation such as that in M.S. Fashions appearing in another liquidation. (The B.C.C.I. liquidators say that they have settled all their cases in which such documents were used.) But the point does not arise in this case because the letter of lien/charge simply cannot be construed as creating a personal joint and several obligation.
(b) Re Charge Card Services Ltd.
The Court of Appeal rejected the argument that the letter was ineffective unless construed as imposing personal liability. They accepted Mr. McDonnell’s submission that, by reason of conceptual impossibility, it could not operate as a charge over the deposit. But they said that it could provide perfectly good security by virtue of the contractual provisions in the third paragraph which limited the right to repayment of the deposit and made it what is sometimes called a “flawed asset.” I agree and could stop there without commenting on the question of whether a charge is conceptually impossible or not. But the point has been very fully argued and should, I think, be dealt with.
The doctrine of conceptual impossibility doctrine was first propounded by Millett J. in In re Charge Card Services Ltd. [1987] Ch. 150 and affirmed, after more extensive discussion, by the Court of Appeal in this case. It has excited a good deal of heat and controversy in banking circles; the Legal Risk Review Committee, set up in 1991 by the Bank of England to identify areas of obscurity and uncertainty in the law affecting financial markets and propose solutions, said that a very large number of submissions from interested parties expressed disquiet about this ruling. It seems clear that documents purporting to create such charges have been used by banks for many years. The point does not previously appear to have been expressly addressed by any court in this country. Supporters of the doctrine rely on the judgments of Buckley L.J. (in the Court of Appeal) and Viscount Dilhorne and Lord Cross (in the House of Lords) in Halesowen Presswork & Assemblies Ltd. v. National Westminster Ltd. [1971] 1 Q.B. 1; [1972] A.C. 785. The passages in question certainly say that it is a misuse of language to speak of a bank having a lien over its own indebtedness to a customer. But I think that these observations were directed to the use of the word “lien”, which is a right to retain possession, rather than to the question of whether the bank could have any kind of proprietary interest. Opponents of the doctrine rely upon some nineteenth-century cases, of which it can at least be said that the possibility of a charge over a debt owed by the chargee caused no judicial surprise.
The reason given by the Court of Appeal [1996] Ch. 245, 258 was that “a man cannot have a proprietary interest in a debt or other obligation which he owes another.” In order to test this proposition, I think one needs to identify the normal characteristics of an equitable charge and then ask to what extent they would be inconsistent with a situation in which the property charged consisted of a debt owed by the beneficiary of the charge. There are several well-known descriptions of an equitable charge (see, for example, that of Atkin L.J. in National Provincial and Union Bank of England v. Charnley [1924] 1 K.B. 431, 449-450) but none of them purports to be exhaustive. Nor do I intend to provide one. An equitable charge is a species of charge, which is a proprietary interest granted by way of security. Proprietary interests confer rights in rem which, subject to questions of registration and the equitable doctrine of purchaser for value without notice, will be binding upon third parties and unaffected by the insolvency of the owner of the property charged. A proprietary interest provided by way of security entitles the holder to resort to the property only for the purpose of satisfying some liability due to him (whether from the person providing the security or a third party) and, whatever the form of the transaction, the owner of the property retains an equity of redemption to have the property restored to him when the liability has been discharged. The method by which the holder of the security will resort to the property will ordinarily involve its sale or, more rarely, the extinction of the equity of redemption by foreclosure. A charge is a security interest created without any transfer of title or possession to the beneficiary. An equitable charge can be created by an informal transaction for value (legal charges may require a deed or registration or both) and over any kind of property (equitable as well as legal) but is subject to the doctrine of purchaser for value without notice applicable to all equitable interests.
The depositor’s right to claim payment of his deposit is a chose in action which the law has always recognised as property. There is no dispute that a charge over such a chose in action can validly be granted to a third party. In which respects would the fact that the beneficiary of the charge was the debtor himself be inconsistent with the transaction having some or all of the various features which I have enumerated? The method by which the property would be realised would differ slightly: instead of the beneficiary of the charge having to claim payment from the debtor, the realisation would take the form of a book entry. In no other respect, as it seems to me, would the transaction have any consequences different from those which would attach to a charge given to a third party. It would be a proprietary interest in the sense that, subject to questions of registration and purchaser for value without notice, it would be binding upon assignees and a liquidator or trustee in bankruptcy. The depositor would retain an equity of redemption and all the rights which that implies. There would be no merger of interests because the depositor would retain title to the deposit subject only to the bank’s charge. The creation of the charge would be consensual and not require any formal assignment or vesting of title in the bank. If all these features can exist despite the fact that the beneficiary of the charge is the debtor, I cannot see why it cannot properly be said that the debtor has a proprietary interest by way of charge over the debt.
The Court of Appeal said that the bank could obtain effective security in other ways. If the deposit was made by the principal debtor, it could rely upon contractual rights of set-off or combining accounts or rules of bankruptcy set-off under provisions such as rule 4.90. If the deposit was made by a third party, it could enter into contractual arrangements such as the limitation on the right to withdraw the deposit in this case, thereby making the deposit a “flawed asset.” All this is true. It may well be that the security provided in these ways will in most cases be just as good as that provided by a proprietary interest. But that seems to me no reason for preventing banks and their customers from creating charges over deposits if, for reasons of their own, they want to do so. The submissions to the Legal Risk Review Committee made it clear that they do.
If such charges are granted by companies over their “book debts” they will be registrable under section 395 and 396(1)(e) of the Companies Act 1985. There is a suggestion in the judgment of the Court of Appeal that the banking community has been insufficiently grateful for being spared the necessity of registering such charges. In my view, this is a matter on which banks are entitled to make up their own minds and take their own advice on whether the deposit charged is a “book debt” or not. I express no view on the point, but the judgment of my noble and learned friend Lord Hutton in Northern Bank Ltd. v. Ross [1990] BCC 883 suggests that, in the case of deposits with banks, an obligation to register is unlikely to arise.
Since the decision in In re Charge Card Services Ltd. [1987] Ch. 150 statutes have been passed in several offshore banking jurisdictions to reverse its effect. A typical example is section 15A of the Hong Kong Law Amendment and Reform (Consolidation) Ordinance Cap. 23, which I have already mentioned. It reads:
“For the avoidance of doubt, it is hereby declared that a person (“the first person”) is able to create, and always has been able to create, in favour of another person (“the second person”) a legal or equitable charge or mortgage over all or any of the first person’s interest in a chose in action enforceable by the first person against the second person, and any charge or mortgage so created shall operate neither to merge the interest thereby created with, nor to extinguish or release, that chose in action.”
There is similar legislation in Singapore (section 9A of the Civil Law Act, Cap. 43); Bermuda (the Charge and Security (Special Provisions) Act 1990 and the Cayman Islands (the Property (Miscellaneous Provisions) Law 1994. The striking feature about all these provisions is that none of them amend or repeal any rule of common law which would be inconsistent with the existence of a charge over a debt owed by the chargee. They simply say that such a charge can be granted. If the trick can be done as easily as this, it is hard to see where the conceptual impossibility is to be found.
In a case in which there is no threat to the consistency of the law or objection of public policy, I think that the courts should be very slow to declare a practice of the commercial community to be conceptually impossible. Rules of law must obviously be consistent and not self-contradictory; thus in Rye v. Rye [1962] A.C. 496, 505, Viscount Simonds demonstrated that the notion of a person granting a lease to himself was inconsistent with every feature of a lease, both as a contract and as an estate in land. But the law is fashioned to suit the practicalities of life and legal concepts like “proprietary interest” and “charge” are no more than labels given to clusters of related and self-consistent rules of law. Such concepts do not have a life of their own from which the rules are inexorably derived. It follows that in my view the letter was effective to do what it purported to do, namely to create a charge over the deposit in favour of B.C.C.I. This means that the foundation for Mr. McDonnell’s argument for implying a personal obligation disappears.
7. “Due . . . in respect of . . . mutual dealings”
In the alternative, Mr. McDonnell submitted that even if the depositor was under no personal obligation to pay, being liable to have the deposit applied in discharge of the principal’s debt was for the purpose of rule 4.90 just as good. Indeed, from B.C.C.I.’s point of view, it was even better, since the bank was relieved from having to enforce the obligation and could repay itself by entries in its own books. Therefore the amount of the deposit should be treated as “due” to B.C.C.I. for the purposes of rule 4.90 (2). It is clear that for the purposes of the rule, the claim by the creditor against the insolvent company must be a provable debt. It speaks of a “creditor of the company proving or claiming to prove for a debt in the liquidation.” It has long been held that this does not mean that the creditor must actually have lodged a proof (Mersey Steel and Iron Co. v. Naylor, Benzon & Co. (1882) 9 Q.B.D. 648) but the debt must be one which would have been provable if he had. The Court of Appeal held that the same was true of the claim by the company against the creditor: the debt must be one which would have been provable against Mr. Jessa if he had been bankrupt. I am not sure that this is right and, as Mr. McDonnell pointed out, the contrary was decided by the High Court of Australia in Gye v. McIntyre (1991) 171 C.L.R. 609, a case which does not appear to have been cited to the Court of Appeal. In England, the extension of the definition of a provable debt by the Insolvency Rules 1986 probably means that the point is unlikely to arise in practice. It is not however necessary to decide it because in my view rule 4.90 requires at least the existence of a right to make a pecuniary demand: see The Eberle’s Hotels and Restaurant Co. Ltd. v. E. Jonas & Brothers (1887) 18 Q.B.D. 459 and Dixon J. in Hiley v. Peoples Prudential Assurance Co. Ltd. (1938) 60 C.L.R. 468, 497. A right to appropriate property under one’s control or to be discharged from a liability is not the same thing as a right to make a pecuniary demand upon the other party to mutual dealings. If there is any anomaly, it is that which I have discussed in connection with M.S. Fashions and consists in the fact that there is a set-off when the depositor has undertaken personal liability. There is no anomaly in there being no set-off when he has not.
8. Payment by the surety
Next the appellants say that the depositor, as surety, is entitled to pay off the debt himself and then claim indemnity from the principal debtor. This proposition is not disputed. But then the appellants say that the mode of payment they propose to employ is to appropriate their deposits for the purpose. In my view this cannot be done. For the reasons which I have already stated, there was no set-off between depositor and B.C.C.I. at the bankruptcy date. Accordingly, all that the depositor can do is to prove in the liquidation. It cannot manufacture a set-off by directing that the deposit be applied to discharge someone else’s debt, even though it may, as between itself and the debtor, have a right to do so. This is the very type of arrangement which the House declared ineffective in British Eagle International Airlines Ltd. v. Compagnie Nationale Air France [1975] 1 W.L.R. 758.
9. Right of indemnity
Mr. McDonnell next advanced an elaborate argument which he said produced a debt owing from B.C.C.I. to Rayners which could be set off against its liability under rule 4.90. It proceeded as follows. First, Rayners’ request to Mr. Jessa to charge his deposits to secure its liability to B.C.C.I. gave rise to an implied promise to indemnify him against any loss which he might suffer thereby: see Ex parte Ford; In re Chappell (1885) 16 Q.B.D. 305 and In re A Debtor (No. 627 of 1936) [1937] Ch. 156. Secondly, the bankruptcy of B.C.C.I. resulted in Mr. Jessa suffering loss as a result of making the deposit for which he had a claim against Rayners. Thirdly, Rayners has a claim against B.C.C.I. to be idemnified against Mr. Jessa’s claim because its obligation to pay Mr. Jessa was a result of the breach by B.C.C.I. of its obligation as a mortgagee to take proper care of the security and restore it unimpaired. B.C.C.I.’s bankruptcy converted the security from a claim to the deposit to a mere right to prove in the liquidation, with a fraction of the value of the original deposit. Fourthly, because Mr. Jessa’s claim arises out of the implied promise given when the deposit was made, Rayners’ claim against B.C.C.I. derives from a right which existed before the bankruptcy date and can be set off under rule 4.90.
The first stage in the argument is indisputable. I make no comment on the second; Mr Crystal, for the liquidators, said that a principal debtor who requested a surety to charge a deposit as security for his debt did not warrant the solvency of the institution with which the deposit was made. I will, however, assume in favour of the appellants that Mr. Jessa would have been entitled, as against Rayners, to be indemnified for his loss. It is at the third stage that the argument breaks down. B.C.C.I.’s charge was not over the money which Mr Jessa deposited. That became the property of B.C.C.I.: see Foley v. Hill (1848) 2 H.L.Cas. 28. The charge was over Mr. Jessa’s chose in action, the debt owed to him by B.C.C.I.. The insolvency involved no breach of duty by B.C.C.I. in its capacity as chargee and did not change the nature of the debt which it owed. The reason why Mr. Jessa lost his money was because the debt became subject to the statutory scheme of payment by pari passu distribution of the assets of B.C.C.I. But this had no connection with the fact that he had given a charge. Rayners therefore had no claim against B.C.C.I. which it could set off against its indebtedness.
The appellants said that to regard the giving of security as merely the creation of a charge over an existing debt was too narrow a view. The depositing of the money was an integral part of the creation of the security. Mr. Carr, for the Solai Group, pointed out that S.G.G.S. had made the deposit purely for the purpose of providing security; as I mentioned in part 2, above, the letter of lien/charge was actually executed before the money was deposited. The deposit was not an asset already in existence; it was new money provided as security. Mr. McDonnell said that he was in a similar position because although Mr. Jessa had made the deposits earlier, he had been advised by B.C.C.I. to use them as security when he would otherwise have withdrawn them. But however one describes what was done to create the security, the fact is that the charge was over the debt and not over the money. The choses in action belonged to Mr. Jessa and S.G.G.S.; the money belonged to the bank. The appellants may have been badly advised to create an asset for the purpose of giving a charge by depositing money with B.C.C.I., but they are not making a claim on the grounds of bad advice. There would be no point in doing so because it would not put them in a better position in the liquidation.
10. Duty to restore the security
The appellants’ next argument suffers from much the same defect as the last one. They say that B.C.C.I. is not entitled to judgment against the debtor companies unless it is able to restore the security which has been provided. The principle is undisputed, having been affirmed by this House in Ellis & Co’s Trustee v. Dixon-Johnson [1925] A.C. 489, although Mr. Crystal for B.C.C.I. said that it was limited to restoration of security given by the debtor and did not apply to third parties. There seems to be no authority on this point but I am content to assume in favour of the appellants that it applies equally to security provided by a third party. Nevertheless, B.C.C.I. is in a position to restore the security simply by releasing the charge over the deposit. The fact that it cannot restore the money in full is not relevant; the charge was not over the money and the winding up affects only B.C.C.I.’s role as a debtor, not its role as a chargee. In fact, in the case of an equitable charge, there is no formal act of release required. The charge simply ceases to exist when the debt it secured has been repaid.
11. Marshalling
Finally the appellants rely upon the equitable doctrine of marshalling. This is a principle for doing equity between two or more creditors, each of whom are owed debts by the same debtor, but one of whom can enforce his claim against more than one security or fund and the other can resort to only one. It gives the latter an equity to require that the first creditor satisfy himself (or be treated as having satisfied himself) so far as possible out of the security or fund to which the latter has no claim. I am at a loss to understand how this principle can have any application in the present case. There is only one debt and that is owed to B.C.C.I. by the principal borrower. B.C.C.I. has security to which it can resort as it chooses: see the citation from China and South Sea Bank Ltd. v. Tan Soon Gin [1990] 1 AC 536 in part 4, above. There is no basis upon which the depositors can assert an equity to require B.C.C.I. to proceed against their deposits before claiming against the principal debtors.
For these reasons I would dismiss both appeals.
Freaney v. Bank of Ireland
[1975] IR 376
Kenny J.
Tailteann Freight Services Limited (“the company”) were carriers, and import and export agents. They had their current bank account with the Rathmines branch of the National Bank of Ireland (“the bank”#). Customs offcials are reluctant to accept cheques in payment of import duties and this was a serious inconvenience to the company. So the company asked the bank to write to the Customs and Excise authorities undertaking that the company’s cheques would be honoured when they were presented for payment. On the 29th December, 1969, the bank wrote to the officer in charge of Customs and Excise: “Tailteann Freight Services Limited Dear Sir, kindly accept as cash cheques drawn by the above mentioned company to the extent of £250 in any one day until the 30/6/70.”# The bank continued to write similar letters each six months.
A strike or lock-out began in all the associated banks on the 1st May, 1970, and continued until the 17th November but, although the banks opened for business on that day, the work of clearing cheques and bringing payments up to date was not completed until the 22nd January, 1971. This strike or lock-out was responsible for the failure of many businesses.
On the 3rd December, 1970, the bank heard that the company was about to be wound up and immediately opened a suspense account (in the name of the company) to which the bank debited all the cheques drawn by the company and presented after that date. There were no lodgments to the credit of this account. On the 14th December, 1970, the company resolved that it be wound-up voluntarily and the applicant was appointed liquidator. The company is insolvent. When the suspense account was opened, the company’s ordinary account was £14,472 in credit.
The liquidator notified the bank immediately of his appointment but, despite this, the bank paid a number of cheques in favour of the Customs and Excise authorities and debited these to the suspense account; all these cheques were drawn before the 14th December, 1970, but were presented after that date. The bank’s officials took the view that, having committed themselves to the Customs and Excise authorities to meet the company’s cheques for import duties, they were bound to honour the cheques although the company was in liquidation. The bank paid 48 cheques for £2,884 which were dated prior to the 30th June, 1970, but presented after the 14th December, 1970. When the company resolved on liquidation, the amount due on the suspense account was £7,578.85. The bank also debited to the suspense account cheques which had been lodged to the company’s current account but which had not been honoured when presented for payment; some of these debits to the suspense account were not made for a considerable time because of the enormous volume of work involved in clearing all the cheques presented after the 17th November, 1970. After the last debit had been made to the suspense account there was £8,329.15 due on this account. This consisted of £2,884.75 in respect of Customs and Excise cheques, £4,087.05 being the company’s own cheques drawn in favour of “cash,” £1,207.25being cheques presented by the company and drawn by other persons and not honoured, and £150.10 for interest.
The liquidator requested the bank to open a current account and on the 12th January, 1971, a new account entitled “Tailteann Freight Services Limited in Voluntary Liquidation”# was opened and some days afterwards the credit balances in the current accounts of the company prior to the date of the commencement of the liquidation were transferred to this account without any deduction for the amount due on the suspense account. The bank asked the liquidator on a number of occasions to send instructions to them to debit his current account with the amount to debit of the suspense account. On the 9th February, 1971, at the request of the liquidator and without prejudice to the claim to debit the liquidator’s current account with the amount owing on the suspense account, the amount standing to the credit of the liquidator’s current account was transferred to a deposit account designated ” Tailteann Freight Services Limited in Voluntary Liquidation.”# The purpose of this was that the sum to the credit of the liquidator’s current account would earn interest. On the 11th February, 1971, the liquidator instructed the bank to pay the entire sum standing to the credit of his deposit account to the Hire Purchase Company of Ireland. The bank refused to do this and again asked for instructions to debit the deposit account with the sum due on the suspense account. A long correspondence followed in which the bank claimed the right to set off the amount due on the suspense account against the amount due by the bank on the liquidator’s deposit account.
The first contention was that the bank had no authority to pay the cheques in favour of the Customs and Excise authorities after the commencement of the winding-up. Section 254 of the Companies Act, 1963, provides that in case of a voluntary winding-up the company shall, from the commencement of the winding-up, cease to carry on its business except so far as may be required for the beneficial winding-up thereof. It was emphasised that the cheques presented by the company to the Customs and Excise authorities had not been marked good. However, it seems to me that, having committed themselves to the Customs and Excise authorities to honour cheques of the company presented in respect of import duties, the bank was bound to pay cheques issued before the 14th December, 1970. I think that the Revenue Commissioners could have successfully sued the bank on any cheques accepted by them in payment of import duties before the 14th December, 1970. The bank’s authority to debit the account of the company in respect of cheques drawn after the 14th December, 1970, ceased when the liquidation commenced but, in my view, the bank had authority to pay cheques drawn before that date and given to the Customs and Excise authorities.
The next contention was that, when the associated banks re-opened for business, the bank was bound to pay the Customs and Excise cheques as guarantors only, and not as bankers to the company. The effect of this, it was said, was that the bank would be ordinary creditors of the company. I think the true view is that the bank, as bankers, guaranteed that the cheques accepted by the Customs and Excise authorities would be paid by the bank in any event. They gave the guarantee as bankers and it was their commitment to honour the cheques which induced the Revenue authorities to accept them. In my view their claim in respect of these cheques can validly be made as bankers of the company and not as guarantors only.
The next contention was that the liquidator’s current account and his deposit account were trust accounts and that the bank could not claim to set off any sum against such an account. The liquidator’s deposit account consisted in part of sums standing to the credit of the company’s current account before it went into liquidation and, of the total sum standing to the credit of the liquidator’s deposit account, the sum of £14,472 represented moneys which had stood to the credit of the company’s account before the commencement of the liquidation. While a bank has no authority without the consent of the customer to debit a deposit account, they have a right of set-off so that they may set off the amount due on one account to them against an amount due by them on another account: see the decision of the Supreme Court in Bank of Ireland v. Martin 4 and see Flanagan v. National Bank .5 The bank did not lose this right of set-off when they opened the liquidator’s current account or his deposit account. The funds standing to the credit of these included moneys which had stood to the credit of the company’s current account before the company resolved to go into liquidation. Accordingly, the bank are entitled to set against the amount due by them on the liquidator’s deposit account the amount due to them on the suspense account.
It was argued for the liquidator that the claim by him was to a sum standing to his credit. However, the liquidator cannot have a better claim than the company had because the corporate status of the company remains until it is dissolved: see s. 254 of the Act of 1963. The liquidator cannot have a better claim than the company had to any asset which came into existence before the 14th December, 1970. It was also argued for the bank that the effect of s. 284 of the Act of 1963 was to give it a right of set-off, which right was in addition to the right to set-off given to the bank by s. 27, sub-s. 3, of the Supreme Court of Judicature Act (Ireland), 1877. Section 284 of the Act of 1963 provides that in the winding-up of an insolvent company, the same rules shall prevail and be observed relating to the respective rights of secured and unsecured creditors and to debts provable and to the valuation of annuities and future contingent liabilities as are in force for the time being under the law of bankruptcy relating to the estates of persons adjudged bankrupt. Section 251 of the Irish Bankrupt and Insolvent Act, 1857, provides that where there has been mutual credit given by the bankrupt and any other person or where there are mutual debts between the bankrupt and any other person, the court shall state the account between them and one demand may then be set against another. It has been established by decisions of the highest authority that the corresponding section in the British Companies Acts import the law as to set-off contained in the Bankruptcy Acts: see Mersey Steel and Iron Co. v. Naylor, Benzon & Co .6 In the Irish decision of Deering v.Hyndman 7 it was conceded that the right of set-off given by the Act of 1857 was imported into the winding-up of an insolvent company. Although s. 251 of the Act of 1857 is very different in its terms to the English Bankruptcy Acts of 1869, 1883 and 1914, the effect of s. 284 of the Act of 1963 is to import s. 251 of the Act of 1857 into the liquidation of an insolvent company: see the decision of the House of Lords in National Westminster Bank Ltd. v. Halesowen Presswork Ltd .8 It follows that the bank has a right of set-off under s. 284 of the Act of 1963 in addition to its right of set-off given by the Act of 1877.
There was no discussion in argument about whether the bank were entitled to debit the suspense account with interest when the current account seems to have been in credit and, therefore, I express no opinion on this question. The Governor and Company of the Bank of Ireland are the respondents on this summons because they subsequently took over the assets and liabilities of the bank.
The first question in the summons will be answered by saying that the National Bank of Ireland were entitled to make payments to the Customs and Excise authorities of the amount of cheques drawn by the company before the 14th December, 1970, but presented for payment after that date as bankers to the company. The second question will be answered by stating that the Bank of Ireland are entitled to set off the total amount due to them on the suspense account against the amount due by them on the liquidator’s deposit account.
O ‘Meara -v- Bank of Scotland PLC
[2011] IEHC 402 Laffoy J.
11. Right of set-off against joint deposit account No. 101 – general observations
11.1 Although the security condition in the letter of offer of 17th December, 2008, which I have quoted at para. 1.10 above, referred to a “lien” incorporating a right of set-off over a deposit account, as was held by the House of Lords in Westminster Bank v. Halesowen [1972] 1 All ER 641, no man can have a lien on his own property. As the money lodged to joint deposit account No. 101 became the defendant’s money, although the defendant was indebted to the account holders for the balance on the account, a lien could not have been created. Indeed, I did not understand the defendant to claim that it had a lien. It claimed that such security as it obtained under the right of set-off document, that is to say, attachment (5), was a right of set-off or a right to combine accounts.
11.2 The contention of the defendant in this case, however, is that it is not limited to whatever right was created by the set-off document, but that its right of set-off falls within each of the following recognised categories of set-off, namely:
(a) a bank’s common law right of set-off of accounts;
(b) equitable set-off, although that is not pleaded; and
(c) contractual set-off.
While I will consider the application of each category to the facts in turn, a preliminary observation is apposite. When the requirement of a right of set-off was conditioned into the letter of offer dated 17th December, 2008 by the defendant, the targeted deposit account, joint deposit account No. 101, was in the joint names of Mr. O’Meara and the plaintiff and the defendant’s contractual relationship in relation to that account was with both account holders. What the defendant required was a contractual right of set-off in the defendant’s “standard form” from both joint account holders. Mr. O’Meara accepted the offer on the basis of that express condition. In my view, the only issue which could properly arise in relation to the monies in that joint deposit account on 22nd December, 2008 is whether the defendant followed through on the express condition and obtained an enforceable right of set-off in the standard form from both account holders. I can see no basis on which the Court could find that there was some other implied agreement in the “ether”, which could be resorted to by the defendant if it did not ensure that the express term was effectively complied with.
12. Bank’s common law right of set-off?
12.1 As regards the application of a bank’s common law right of set-off to the facts as found, on the basis of the finding I have made that the joint deposit account No. 101 was legally (that is to say, contractually as against the defendant) and beneficially owned by Mr. O’Meara and the plaintiff, whereas the loan account No. 128 was in the sole name of Mr. O’Meara and he had sole liability for it, the defendant had no right at common law to set-off or combine the two accounts. The fundamental principle which underlies the entitlement of a bank to set off under the general law is mutuality, which requires that the debts be between the same parties in the same right. The finding that the defendant was contractually liable to Mr. O’Meara and the plaintiff jointly, who were beneficial joint owners of the monies on deposit in joint deposit account No. 101, precludes any application of the rule of set-off at common law.
12.2 Accordingly, it is unnecessary to express a definitive view on the submission made on behalf of the plaintiff, by reference to the decision of the Supreme Court in Bank of Ireland v. Martin [1937] I.R. 189, that, in the absence of a contractual arrangement, a bank may not combine a deposit account and a loan account, although I appreciate that particular emphasis was laid in the submission on the fact that the deposit account was a joint account, whereas the plaintiff was not indebted to the defendant and the plaintiff was not relying merely on the proposition that in this jurisdiction combining accounts at common law is confined to current accounts.
12.3 Nor do I consider it necessary to comment on the point made by counsel for the plaintiff in their submissions that, in any event, the defendant could not combine the loan account with any other account at any time prior to the death of Mr. O’Meara, because the loan account was for a term of three years, and the principal advanced had not become repayable prior to Mr. O’Meara’s death. Having said that, the reality of the situation is that, apart from whatever, if any, right of set-off the defendant has, it is clear on the evidence that the defendant is not going to recover the amount due on loan account No. 128.
13. Equitable set-off?
13.1 As regards the principle of equitable set-off in the context of bank accounts, the requirement of mutuality in relation to the beneficial interests in the cross-debts pervades its application. Having made the finding that Mr. O’Meara and the plaintiff were the joint beneficial owners of the monies in joint deposit account No. 101, in my view, there is no basis on which the principle of equitable set-off could avail the defendant and the argument based on the principle is misconceived. Nonetheless, I propose analysing the argument made on behalf of the defendant.
13.2 As counsel for the defendant pointed out, the most recent exposition of the principle of equitable set-off is to be found in a note on the decision of the Court of Appeal in England and Wales in Geldof Metaal Constructie NV v. Simon Carves Ltd. [2010] 4 All ER 847, which, in my view, is of little assistance in addressing the application of the principle to the facts of this case. Having considered the jurisprudence on equitable set-off, Rix L.J. set out his conclusions in para. 43 of his judgment, which is quoted in full in the note. He set out his conclusion at page 849 as follow;
“For all these reasons, I would underline Lord Denning MR’s test, freed of any reference to the concept of impeachment, as the best restatement of the test, and the one most frequently referred to and applied, namely ‘cross-claims . . . so closely connected with [the plaintiff’s] demands that it would be manifestly unjust to allow him to enforce payment without taking into account the cross-claim’. That emphasises the importance of the two elements identified in Hanak v. Green; it defines the necessity of a close connection by reference to the rationality of justice and the avoidance of injustice; and its general formulation, ‘without taking into account’, avoids any traps of quasi-statutory language which otherwise might seem to require that the cross-claim must arise out of the same dealings as the claim, as distinct from vice versa. Thus, if the Newfoundland Railway test were applied as if it were a statute, very few of the examples of two-contract equitable set-off discussed above could be fitted within its language. I note that in Chitty on Contracts (30th edn., 2008) vol. II, para. 37 – 152 the test for equitable set-off is formulated in terms of Lord Denning MR’s test.”
13.3 The test of Lord Denning MR referred to in that quotation was postulated in Federal Commerce v. Molena Alpha Inc [1978] 3 All ER 1066, sometimes referred to as “The Nanfri”, which is also of little assistance in addressing the application of the principle of equitable set-off to the facts here. Although there were three time charterparties at issue in that case, in reality it was a one-contract case. The matter came to court by way of an award of an umpire in the form of a special case, following an arbitration in which the two arbitrators disagreed. One of the questions which the Court of Appeal had to consider was whether the charterer was entitled to deduct from hire, without the consent of the owner, claims against the owner. It was held that he was by virtue of the terms of the charterparty and by reason of the fact that a rule of law in relation to a charterparty, which required payment in full without deduction, did not extend to hire payable under a time charterparty, so that the charterer was entitled to deduct claims which constituted an equitable set-off. Having alluded to the distinction made at common law between set-off and cross-claim and the strictures imposed by the courts of common law, Lord Denning MR stated (at p. 1077):
“But the courts of equity, as was their wont, came in to mitigate the technicalities of the common law. They allowed deductions, by way of equitable set-off, whenever there were good equitable grounds for directly impeaching the demand which the creditor was seeking to enforce: see Rawson v. Samuel . . . per Lord Cottenham LC.”
Later, having referred to the effect of the Judicature Act 1873, Lord Denning MR continued (at p. 1078):
“We have to ask ourselves: what should we do now so as to ensure fair dealing between the parties? . . . This question must be asked in each case as it arises for decision; and then, from case to case, we shall build up a series of precedents to guide those who come after us. But one thing is quite clear: it is not every cross-claim which can be deducted. It is only cross-claims that arise out of the same transaction or are closely connected with it. And it is only cross-claims which go directly to impeach the plaintiff’s demands, that is, so closely connected with the demands that it would be manifestly unjust to allow him to enforce payment without taking into account the cross-claim.”
On the facts of that case, Lord Denning MR and Goff LJ held that in time charterparty cases, the equitable right to deduct should be limited to instances when the ship owner wrongly deprives the charterer of the use of the vessel or prejudices him in the use of it. It should not be extended to other breaches or default of the ship owner, such as damage to cargo arising from the negligence of the crew. What is significant for present purposes is that there is nothing in the test for equitable set-off as formulated by Lord Denning MR or in the Geldof decision which dispenses with the requirement of mutuality in relation to beneficial interests.
13.4 The application of the doctrine of equitable set-off in the context of bank accounts is considered in Paget (op. cit.) at paras. 29.27 et. seq. relied on by counsel for the defendant. Reference is made by the editors of Paget to the decision of the Court of Appeal in Bhogal v. Punjab National Bank [1988] 2 All ER 296 which, like many of the authorities on the issue of equitable set-off, arose in the context of entitlement of a plaintiff to summary judgment. The appeal related to two actions, in each of which the plaintiff, who had monies on deposit in the defendant bank, had obtained summary judgment for the amount on deposit, and the defendant bank appealed, contending that it should be granted unconditional leave to defend the actions because it had a valid defence by way of equitable set-off. The basis of the claim for equitable set-off was the defendant bank’s contention that each of the plaintiffs was merely a nominee of a third party, who was indebted to the defendant bank and that it was entitled to set off the credit balance on each deposit account against the debit balance on the third party’s account. It was held by the Court of Appeal that, since the evidence did not clearly establish that the deposit account of each of the plaintiffs was a nominee account, the defendant bank could not raise a defence of equitable set-off in their actions. In the Court of Appeal the following passage from the judgment of Scott J. at first instance in one of the cases was quoted and in the judgment of Bingham L.J. there was reference to “the wisdom of the rule” which Scott J. laid down. The passage (which appears at p. 306 in the judgment of Bingham L.J.) is to the following effect:
“The commercial banking commitment that a bank enters into with a person who deposits money with it is just as needful of immediate performance as are a bank’s obligations under a letter of credit or bank guarantee. I think it would be lamentable if a bank were able to defeat a claim by a person who had deposited money on such grounds as the bank is asserting in the present case. It is possible that this action will come to trial in some two or three years’ time and that the bank will fail to make good the arguable case that it has set out before me. It would have succeeded in postponing for that considerable period its obligation to repay a customer who had made a simple deposit of money with it. That seems to me to be totally contrary to the basis on which banks invite and get money deposited with them. I hold that the bank is not entitled to refuse repayment of money deposited with it on the basis merely of an arguable case that some other debtor of the bank has an equitable interest in the money.”
13.5 Of course, on the facts here, on the basis of the finding I have made, no question remains as to the ownership in equity of the monies in joint deposit account No. 101. Apart from the contractual liability of the defendant, which in my view is the paramount consideration, as I have found that Mr. O’Meara and the plaintiff were the beneficial owners of the monies on deposit in joint deposit account No. 101, they, or, after the death of the first to die, the survivor (subject to the fixed term aspect of the particular deposit, which is not in issue) was entitled to withdraw the balance in the account on demand. Because of the lack of mutuality, the defendant had no entitlement in equity to set-off Mr. O’Meara’s sole liability for the debt on foot of loan account No. 128 against the balance in that deposit account.
13.6 The basis on which the defendant sought to demonstrate that there was an equitable right of set-off does not stand up to scrutiny. The defendant undoubtedly entered into two agreements with Mr. O’Meara which were closely connected from its perspective and probably also from Mr. O’Meara’s perspective. Under one, say Agreement A, the defendant advanced a loan of €1.6m to Mr. O’Meara. Under the other, say Agreement B, Mr. O’Meara and the plaintiff deposited the proceeds of the Anglo cheque with the defendant. The defendant contends that the two agreements are intimately connected and it would be unjust to enforce Agreement B by requiring the release of the monies on deposit on the demand of the plaintiff, because to do so would be to ignore the defendant’s claim to recover the loan advanced under Agreement A. That proposition ignores the absence of mutuality between the defendant’s liability under Agreement B and its entitlement under Agreement A. In the absence of some contractual foundation binding not only Mr. O’Meara, but also the plaintiff, the requirement of mutuality cannot be overridden by the defendant. It is not unjust that the defendant should be compelled to release the monies on deposit to the surviving joint account holder, the plaintiff, in accordance with its contractual obligation. The principle of equitable set-off does not apply.
13.7 Furthermore, it ill behoves the defendant to seek to rely on an equitable principle in support of the exercise of a right of set-off against the plaintiff, having regard to the fact that there was absolutely no communication between the defendant and the plaintiff and, in particular, the defendant did not advise the plaintiff to obtain legal advice and made no inquiry as to whether she had the benefit of legal advice in accordance with the principles referred to later in para. 15.6, when dealing with the issue of rectification. Given the plaintiff’s lack of understanding of what the defendant contends she was doing in subscribing her name to the right of set-off document, and her lack of understanding as to what was being agreed by Mr. O’Meara with the defendant, it would be unfair and inequitable to enforce the right of set-off against the plaintiff, if she is not contractually bound.
13.8 The kernel of the issue as to whether the right of set-off was validly exercised on 5th January, 2009 is whether the defendant, as it clearly had intended to do, effectively obtained from both of the account holders of joint deposit account No. 101 a contractual right to set-off Mr. O’Meara’s liability on loan account No. 128 against the monies in that account.
14. Contractual right of set-off?
14.1 That question turns on the construction of the right of set-off contained in attachment (5). I think it is worth recalling that the plaintiff endorsed her signature on the Anglo cheque on or before the 26th November, 2008 in her home. Some time later Mr. O’Meara put the application form for the six month fixed deposit account, which he had been given after the defendant’s officials decided that a joint deposit account should be opened, before the plaintiff and she signed on the third page. Just short of a month later, on 20th December, 2008, the right of set-off document was put before her. It was the twelfth page of the compendium of documents which comprised the letter of offer and attachments. The only reference to a deposit account with the defendant was on the second page of the letter of offer and it was in the provision in relation to security which I have quoted at 1.10 above, which refers to a deposit account in the names “of John O’Meara and Claire O’Meara”. The entire document was complex. Having regard to the manner in which it was completed, it is reasonable to infer that Mr. O’Meara, an experienced and astute businessman, had difficulty navigating his way through it, in that he arrived back in the defendant’s office on St. Stephen’s Green on 22nd December, 2008 without having signed the most crucial part of it, namely, the acceptance on page 7, which resulted in the involvement of Mr. Abdullah as a witness. He had signed attachment (2) in relation to insurance instructions, apparently on the 19th December, 2008. He did not sign attachment (3), dealing with authorised signatures on the loan account apparently until 22nd December, 2008. Similarly, attachment (4) containing the instruction to Bank of Ireland, Naas Branch in relation to the direct debit in respect of the interest payments was not executed until 22nd December, 2008.
14.2 Counsel for the plaintiff submitted that the right of set-off document should be construed contra proferentem. They submitted that, as a matter of interpretation of that document, neither Mr. O’Meara nor the plaintiff agreed to a right of set-off being effected against the deposit accounts. In fact there was only one deposit account in existence at the time – joint deposit account No. 101. For illustrative purposes, and not intending to preclude any argument which the personal representative of the defendant may make in the future, it can be observed that, if that account had been in the sole name of Mr. O’Meara, as a matter of construction, it would appear to have been captured by the right of set-off document in that, as borrower/account holder, he agreed that the defendant might “debit any credit balance on any account in my name”, which, prima facie, would capture the credit balance on a deposit account in his sole name. The real problem with the right of set-off document, from the defendant’s perspective, is that it was clearly drafted for execution by a sole account holder and, while it might have been, it was not adapted to bind joint account holders conferring a right of set-off on the defendant over a specific existing joint deposit account. The document did not signify that it was to be executed by a person other than a sole account holder and, ex facie, the plaintiff signed as a witness. Having regard to the finding I have made that Mr. O’Meara and the plaintiff had a joint legal interest in, and were jointly beneficially entitled to, joint deposit account No. 101, I consider that the right of set-off document was not effective to bind the plaintiff as one of the joint account holders and, in the events which happened, as the surviving account holder, so as to confer a right of set off on the defendant in relation to that account.
14.3 From the evidence of Mr. Savage, it is clear that when he reviewed the documentation following the meeting with O’Meara in July 2009, he noticed the fact that the right of set-off document was signed by the plaintiff only as a witness and had a concern about that. However, no steps were taken to rectify the situation.
14.4 It is convenient at this juncture to consider the relevance or otherwise of an authority relied on by counsel for the plaintiff – the decision of Costello J. in O’Keeffe v. O’Flynn Exhams and Partners and Allied Irish Banks (the High Court, Unreported, 31st July, 1992). The basis on which that case was decided against Allied Irish Banks in favour of the plaintiff, Mrs. O’Keeffe, is summarised in the judgment as follows (at p. 35):
“In my opinion if a request is made for a joint loan to purchase property which is accompanied by an agreement to deposit the title deeds of the property then an equitable claim over the interest of both purchasers is created once the loan is made as requested and the land conveyed to both. But if contrary to the request the loan is made to one of the purchasers only and the property is subsequently purchased jointly the interest of the customer with whom the bank contracted and to whom it lent the money is the only interest which is subject to an equitable charge. When subsequently the title deeds are lodged the equitable charge created by the agreement over the customer’s interest becomes an equitable mortgage by the deposit of the deeds. This means that in the events that happened in this case the bank obtained an equitable mortgage over Mr. O’Keeffe’s undivided moiety in the Kilpeacon lands, but it obtained no equitable interest of any sort over Mrs. O’Keeffe’s interest.”
14.5 Frankly, I do not see the relevance of that finding to the factual circumstances of this case. It concerned the severance of a joint tenancy in land by one joint owner creating an equitable charge by deposit of title deeds. Here the Court is concerned with a joint deposit account at the defendant bank, in respect of which the defendant was contractually liable to both joint account holders. More importantly, in this case, the agreement between the defendant and Mr. O’Meara was that the loan would be to Mr. O’Meara solely and that is what happened. The defendant wanted security over the monies on deposit with it, the source of which was the Anglo cheque, which, as I have held, were beneficially owned by Mr. O’Meara and the plaintiff. The mistake the defendant made is that, as it could not either at common law or in equity obtain a right of set-off of the monies due from Mr. O’Meara on loan account No. 128 against the monies in the joint deposit account because of lack of mutuality, it needed to obtain a contractual right of set-off, which bound both account holders, but it failed to do that. Accordingly, it obtained no right of set-off against the monies in joint deposit account No. 101 as of 23rd December, 2008.
15. Rectification?
15.1 Emphasising that the issue which is being addressed is whether the Court should find that the defendant is entitled to exercise the claimed right of set-off against the balance of the monies on deposit in joint deposit account No. 101, as it purported to do on 5th January, 2010, I will now consider the defendant’s counterclaim for rectification. In the circumstances which I have found prevailed, the defendant could only acquire a right of set-off by contract and the objective of the defendant clearly was to extend the general law to a tri-partite situation where the joint owners of the monies on deposit with the defendant would agree with the defendant that those monies might be set off against a debt due to the defendant by one of the joint owners, Mr. O’Meara, solely. I emphasise that, because it seems to me that the fundamental question is whether the other joint owner, the plaintiff, ever signified the intention to be bound by such agreement.
15.2 On the basis of the defendant’s claim for rectification as pleaded, it is not suggested that the text of the right of set-off document as quoted at para. 1.11 above requires rectification. What is suggested is that the details of execution require rectification. If the application were acceded to, the details of execution (the words in bold type having been added) would read:
Signed/Witness John O’Meara
Borrower/Account Holder
Date: 20/12/08
Signed/Witness: Claire O’Meara
Borrower/Account Holder
Address: Pitchfordstown Stud
Kilcock
Date: 22/12/08
In the interests of clarity, I should say that the elements which are shown in italics are the signatures of Mr. O’Meara and the plaintiff, the date of execution by Mr. O’Meara, which I think it probable was inserted by Mr. O’Meara, and the address and final date, which also appear in manuscript and I think it probable were inserted by Ms. Corrigan on 22nd December, 2008. It was submitted on behalf of the plaintiff that, given that the preceding text is not proposed to be rectified, the additions to the right of set-off document proposed would still not expressly authorise the exercise of a right of set-off of the monies due on loan account No. 128 against the balance in joint deposit account No. 101.
15.3 The legal basis on which a court can order rectification is well settled. It was recently succinctly summarised by Clarke J. in Mooreview Developments & Ors. v. First Active Plc & Ors. [2009] IEHC 214 in the following terms (at para. 9.9):
“Rectification is a discretionary remedy which allows a court to amend the wording, but not affect the making, of a contract, where the wording does not reflect the intentions of the parties to the contract. The party seeking rectification must provide evidence of a common continuing intention in relation to the provisions of the contract agreed between the parties up to the point of execution of the formal contract. In Irish Life Assurance Co. v. Dublin Land Securities Ltd [1989] I.R. 253, Griffin J., at p. 263, described this standard of proof as ‘convincing proof, reflected in some outward expression of accord, that the contract in writing did not represent the common continuing intention of the parties on which the court can act’. The court in Irish Life further held that there will be an especially onerous burden on a party seeking rectification where long negotiations have taken place between the parties, both of whom have taken legal advice during such negotiations.”
15.4 The criterion stipulated in the last sentence in that quotation has no application to the facts of this case because, not only was no legal advice taken by the plaintiff but there was no engagement by the defendant with the plaintiff at all and, in fact, there was no direct communication or contact with her by any official or agent of the defendant in relation to the condition imposed by the defendant on Mr. O’Meara in the letter of offer of 17th December, 2008 that the defendant be granted a right of set-off against the monies in joint deposit account No. 101. There is absolutely no evidence in this case of a common continuing intention to which the plaintiff was a party that the defendant would be given security by way of right of set-off against joint deposit account No. 101 in respect of the monies to be advanced to Mr. O’Meara, which were subsequently the subject of loan account No. 128. The only evidence before the Court on which the defendant could rely in support of the existence of such an intention is that the facility letter, with attachment (5) stapled to it, was probably handed by Ms. Corrigan to Mr. O’Meara when he called to the defendant’s office at St. Stephen’s Green, probably on the 17th December, 2008. Ms. Corrigan, in her evidence said that it was “more than likely” that she told Mr. O’Meara that the plaintiff had to sign the right of set-off document. She had no exact recall of doing so, although she suggested that, if she did not say it to Mr. O’Meara, then she doubted that the plaintiff’s signature would be on it. I do not think it is reasonable to infer that, because the plaintiff’s signature appears on attachment (5), the plaintiff was signing in her personal capacity, rather than as a witness, as the document suggests. The fact that Mr. O’Meara signed attachment (5), which was the last page of the twelve page document and had the “witness” portion of the execution details completed by the plaintiff, while not having completed what was arguably the most important element of the document, the acceptance on page 7, is open to the inference that Mr. O’Meara got the plaintiff to sign as a witness rather than as a party to the transaction. Accordingly, the defendant’s claim for rectification must fail because there is no evidence of a continuing common intention on the part of the plaintiff to execute a right of set-off document to comply with the security condition provided for in the letter of offer of 17th December, 2008.
15.5 Even if it were possible to conclude that it was the intention of the plaintiff to execute the right of set-off document not merely as a witness but in a manner which would bind her as one of the beneficial owners of joint deposit account No. 101, and that the document needs to be rectified to reflect that, a question would arise as to whether the Court should exercise its discretion to grant the equitable relief of rectification in circumstances in which the defendant took no steps whatsoever to ensure that the plaintiff understood the implications of executing a document which would have given the defendant the type of security it was seeking over the monies in joint deposit account No. 101. In particular, the question would arise as to whether the defendant should have advised the plaintiff to seek legal advice to avoid being disentitled to equitable relief. While, on the basis of the finding I have made in the next preceding paragraph, the question is hypothetical, I propose to comment on it generally.
15.6 Apart from reference to a text (Hodge on Rectification, 1st Ed., 2010 at para 1 – 41 et. seq.), no authority was specifically cited by counsel for the plaintiff to support their contention that the defendant did not take the steps it should have taken, including advising the plaintiff to obtain independent legal advice. I have noted earlier that the plaintiff did not allege either in the pleadings or in her evidence that Mr. O’Meara exerted undue influence over her or that he took any unfair advantage of her. Her position was that she just signed what Mr. O’Meara put in front of her without seeking or obtaining any explanation. There is authority in the United Kingdom that a bank is always on inquiry when a wife provides security for her husband’s debt and that it must take reasonable steps to satisfy itself that the practical implications of the proposed transaction have been brought home to the wife, in a meaningful way, so that she enters into the transaction with her eyes open so far as its basic elements are concerned and reliance by the bank upon confirmation from a solicitor, acting for the wife, that he advised her appropriately is sufficient to discharge the bank’s obligation (the decision of the House of Lords in Royal Bank of Scotland v. Etridge (No. 2) [2002] 2 AC 773). The manner in which the defendant went about obtaining what it considered as security for the loan it was advancing to Mr. O’Meara solely over a deposit account in the joint names of Mr. O’Meara and his wife, the plaintiff, is so egregiously at variance with the principles enunciated by the House of Lords in Etridge (No. 2), which, as academic commentators have suggested should be applied by the courts of this jurisdiction (Mee (2002) 27 Ir. Jur. 292; Delany Equity and the Law of Trusts in Ireland, 5th Ed. at p. 746), that it is unlikely that a court would afford an equitable remedy to the defendant to perfect its security, if such was necessary and it was appropriate to do so, without seeking to explore in depth the application of those principles in this jurisdiction, having regard to the conduct of the defendant and the potentially improvident nature of what the defendant was requiring the plaintiff to do.
15.7 Finally, it is pertinent at this point to make two general observations in the interests of clarity. First, in the context of the application of equitable principles, in my view, it is necessary to distinguish between the operation of a joint deposit account by the account holders, which banks, understandably, as reflected in condition 3(a) of the general conditions quoted at para. 1.7 above, leave to the account holders, on the one hand, and the creation of what, in effect is a type of security over a joint deposit account, on the other hand. Secondly, I accept the argument advanced on behalf of the defendant that the defendant did not occupy a fiduciary position vis-à-vis the plaintiff and that the plaintiff’s claim, insofar as it is based on alleged breach of fiduciary duty, is misconceived.
16. Estoppel?
16.1 The basis on which counsel for the defendant contended that the plaintiff is estopped from asserting that the monies on deposit in joint deposit account No. 101 were not to be applied in reduction of Mr. O’Meara’s liability to the defendant under loan account No. 128 was that all necessary ingredients of an estoppel are present, namely: a representation by the plaintiff; reliance on the representation by the defendant; and the defendant acting to its detriment. The defendant’s officials appear to have assumed on 23rd December, 2008 that there was an effective right of set-off against the monies in joint deposit account No. 101 in place by reason of the plaintiff’s signature on the right of set-off document. The defendant certainly acted to its detriment in advancing the loan to Mr. O’Meara when, as I have found, it had no right of set-off. The question which remains is what representation was made by the plaintiff, whether by word or conduct, to the defendant which, in the words of Griffin J. in Doran v. Thompson Ltd. [1978] I.R. 223 relied on by counsel for the defendant, amounted to “a clear and unambiguous promise or assurance” that she would participate in granting a right of set-off to the defendant against the monies on deposit in joint deposit account No. 101?
16.2 The defendant’s submission was that it is to be found in the plaintiff’s assent to the lodgement of the Anglo cheque, which was to be “cash backing” for the loan to Mr. O’Meara, and her agreement (in effect) that Mr. O’Meara could mandate withdrawals from that account without reference to her, and her knowledge (if not her explicit assent) of the set-off commitment provided by Mr. O’Meara. All the plaintiff did was that –
(a) she endorsed the Anglo cheque,
(b) she signed the application form to open joint deposit account No. 101, which included the withdrawal instructions, which resulted, in due course, in the joint deposit account being depleted to the extent of €600,000, and
(c) she subscribed her name as a witness to Mr. O’Meara’s signature to the right of set-off document.
Those actions, separately or in conjunction with each other, did not amount to “a clear and unambiguous promise or assurance” that the defendant would have a right of set-off against the monies in joint deposit account No. 101.
16.3 The fundamental problem for the defendant in this case is that it did not get the commitment it required from the plaintiff in order to obtain the security which it sought. In fact, it completely ignored the plaintiff’s interest. The result is that it must suffer the consequences of its own mistake.
17. Ownership/ rights over joint deposit account No. 102
17.1 The monies which the defendant transferred to joint deposit account No. 102 were sourced from loan account No. 128. Sole liability for the sum of €665,873.40 so transferred was assumed by Mr. O’Meara under loan account No. 128. The sole purpose of the drawdown was to meet the security requirement in relation to providing a right of set-off against a joint deposit account with a balance equivalent to the amount of the loan, €1.6m. It was the defendant’s officials, on their own initiative, who put the joint deposit account in place in the joint names of Mr. O’Meara and the plaintiff to meet that requirement. While the “sub-account”, as it was characterised, was opened in the joint names of Mr. O’Meara and the plaintiff, the plaintiff was not a party to it at any time. Therefore, the decision of the Supreme Court in Lynch v. Burke, in my view, does not assist the plaintiff. Moreover, before it was opened, she had no legal or beneficial entitlement to any part of the sum of €665,873.40 transferred by the defendant’s officials to it. Accordingly, in my view, one has to look behind the names on the account.
17.2 On the basis of the doctrine of a resulting trust, as Mr. O’Meara, through the medium of the draw down from loan account No. 128, was the sole contributor to the monies in joint deposit account No. 102, prima facie, he was the beneficial owner of those monies, unless the presumption of advancement overrides the doctrine of resulting trust.
17.3 The plaintiff implicitly relied on the evidence of Mr. Savage in support of its contention that the monies in joint deposit account No. 102 were jointly beneficially owned by Mr. O’Meara and the plaintiff and passed to the plaintiff by right of survivorship. Mr. Savage was asked in cross-examination why a deposit account in the sole name of Mr. O’Meara was not opened to bring up to the level of €1.6m the balance on deposit with the defendant, given that the right of set-off document extended to any account in his name. The response of Mr. Savage was that Mr. O’Meara wanted it that way. He wanted the money to go back into the joint deposit account, which he had set up at the particular time. What he had instructed the defendant to do was to put the money in the name of himself and his wife. That response is inconsistent with the evidence of Ms. Corrigan and Ms. Dwyer, who were the officials of the defendant who were implementing the transactions on 23rd December, 2011 and who, on their evidence, did so without reference to Mr. O’Meara.
17.4 Even if Mr. O’Meara intended that the monies in joint deposit account No. 102 would be beneficially owned by himself and his wife, effect could only have been given to that intention subject to any trust or equitable interest known to the defendant to which the monies were subject. Mr. O’Meara was facilitated by the defendant in the draw down the sum of €665,873.40 from loan account No. 128 and its transfer to joint deposit account No. 102 for a specific purpose – to top up the monies on deposit to the level of the set-off requirement conditioned into the letter of offer of 17th December, 2008. Therefore, the monies in joint deposit account No. 102 must be deemed to have been impressed with an obligation in equity to fulfil that purpose. Accordingly, the right of the defendant to have that purpose fulfilled would have had priority in equity over the beneficial ownership of the monies, whether the beneficial ownership was vested in Mr. O’Meara and the plaintiff jointly or in Mr. O’Meara solely. It follows that, wherever the beneficial ownership was vested, the plaintiff cannot rely on beneficial ownership by right of survivorship to make the case that the defendant did not have a right of set-off as against those monies for Mr. O’Meara’s sole liability on foot of loan account No. 128 on 5th January, 2010.
17.5 The question whether Mr. O’Meara and the plaintiff jointly were the beneficial owners, or Mr. O’Meara was the sole beneficial owner, of the monies on deposit in joint deposit No. 102 subject to the defendant’s right of set-off arises between the plaintiff, on the one hand, and the personal representative of Mr. O’Meara, on the other hand. Representation has not been raised to the estate of Mr. O’Meara and his personal representative was not before the Court. Accordingly, it would be inappropriate for the Court to express any definitive view on that question. Notwithstanding the absence of the personal representative of Mr. O’Meara, it has been necessary to reach a conclusion as to whether beneficial ownership of the monies, wherever it lay, was subject to the right of the defendant to set-off, and I have concluded that it was.
17.6 Consistent with the view I have expressed earlier in relation to the analogy with the liquidation situation addressed by the Supreme Court in Dempsey v. Bank of Ireland, the personal representative of Mr. O’Meara would acquire no better title to the monies in joint deposit account No. 102 than Mr. O’Meara had.
18. Summary of conclusions and orders
18.1 As regards joint deposit account No. 101, I have come to the conclusion that the monies in that account were jointly beneficially owned by Mr. O’Meara and the plaintiff and that they passed to the plaintiff by right of survivorship on the death of Mr. O’Meara. I have further concluded that the defendant was not entitled to set-off the monies due on loan account No. 128 against those monies, as it purported to do in January 2010. Accordingly, the plaintiff is entitled to a declaration that all the monies which were standing to the credit of that account on 28th November, 2009 are the property of the plaintiff. As to how the plaintiff is to be compensated for the breach of contract by the defendant in not paying those monies to the plaintiff on being requested to do so, although the plaintiff claimed interest under the Courts Act 1981, as amended, in the statement of claim, no case was made on behalf of the plaintiff for pre-judgment interest at the Court rate. I consider that the plaintiff will be properly compensated by payment by the defendant to her of interest from 28th November, 2009 to the date of judgment at the rate applicable to six month fixed term deposits with the defendant and thereafter interest at the Court rate.
18.2 There will be judgment for the appropriate sum, the quantification of which should be agreed between the parties.
18.3 Having come to the conclusion that the plaintiff did not have a beneficial interest in the monies lodged in joint deposit account No. 102, the plaintiff is not entitled to any relief in respect of those monies. While, in the absence of the personal representative of Mr. O’Meara before the Court, I think it is inappropriate to make the declaration sought by the defendant in its counterclaim that the defendant was entitled to set-off the monies in that account, I propose that a declaration be made that the plaintiff has no claim to the said monies.
18.4 Subject to that, the defendant not being entitled to rectification of the set-off document, the defendant’s counterclaim will be dismissed.
Geldof Metaalconstructie NV v Simon Carves Ltd
[2010] EWCA Civ 667
The jurisprudence of equitable set-off
Although most of the written and oral submissions before us on this appeal related to the correct test for equitable set-off, at the end of the day it was not clear either how the parties differed from one another as to the test, or how the test, when identified, would affect its application on the particular facts of this case.
Nevertheless, if only because there appears to be some uncertainty on the subject, I would hazard the following observations as to the jurisprudence.
It is generally considered that the modern law of equitable set-off dates from Hanak v. Green [1958] 2 QB 9. Morris LJ’s judgment there has been described as a masterly account of the subject (Gilbert Ash (Northern) v.Modern Engineering (Bristol) Ltd [1974] AC 689 at 717 per Lord Diplock). In Dole Dried Fruit v. Trustin Kerwood Ltd [1990] 2 Lloyd’s Rep 309 at 310 Lloyd LJ said that for all ordinary purposes, the modern law of equitable set-off is to be taken as accurately stated there. Morris LJ set out the law in these terms:
“The position is, therefore, that since the Judicature Acts there may be (1) a set-off of mutual debts; (2) in certain cases a setting up of matters of complaint which, established, reduce or even extinguish the claim; and (3) reliance as a matter of defence upon matters of equity which formerly might have called for injunction or prohibition…The cases within group (3) are those in which a court of equity would have regarded the cross-claims as entitling the defendant to be protected in one way or another against the plaintiff’s claim” (at 23).
However, that did not mean that all cross-claims may be relied on as defences to claims. In his examination of Bankes v. Jarvis [1903] 1 KB 549, Morris LJ identified two factors as critical: it would have been “manifestly unjust” for the claim to be enforced without regard to the cross-claim; and “there was a close relationship between the dealings and transactions which gave rise to the respective claims” (at 24).
For these purposes the facts of Bankes v. Jarvis, which Morris LJ set out, are instructive. There were two separate but related transactions. The plaintiff was acting as agent or trustee for his son. The son had bought a veterinary surgeon’s practice from the defendant. As part of that transaction he had also agreed to pay the rent and otherwise indemnify the defendant against liability under a lease of premises from which the practice was carried on. That was one transaction. However, the son decided to leave the country, and gave the plaintiff authority to sell the practice. The plaintiff sold it on his son’s behalf back to the defendant. That was the second transaction. The defendant owed £50 under that second transaction, but the son owed the defendant £21 for rent and a further £30 for failure to perform covenants in the lease, under the first transaction. That was a quantified counterclaim for unliquidated damages. When the plaintiff sued the defendant for the £50, the defendant claimed to be able to set off the £51. As Morris LJ explained: “It was held that the defendant could set up as a defence to the claim against him that the plaintiff’s son (the cestui que trust of the plaintiff) was indebted to the defendant in a sum for unliquidated damages exceeding the amount of the claim.”
In Hanak v. Green itself the claim was against a builder for failing to complete the works. The builder made three counterclaims and relied on them by way of set-off. One arose under the building contract itself, for loss caused by the plaintiff’s refusal to admit the builder’s workmen; a second arose out of a quantum meruit for extra work performed outside the contract; and the third was for trespass to the builder’s tools, and thus arose in tort. Morris LJ left the third item aside, for the first two by themselves overtopped the plaintiff’s claim. He said, “it seems to me that a court of equity would say that neither of these claims ought to be insisted upon without taking the other into account” (at 26). Sellers LJ considered that all three items could be set off, for the first “arises directly under and affected the contract on which the plaintiff herself relies”, and the other two were “closely associated with and incidental to the contract” (at 31).
Some twenty years later in Aries Tanker Corporation v. Total Transport [1977] 1 WLR 185, the House of Lords had to consider the long-standing historical rule that a cargo owner or charterer could not set off a claim for damage to cargo against the shipowner’s claim for freight. Lord Wilberforce said (at 191):
“One thing is certainly clear about the doctrine of equitable set-off – complicated though it may have become from its involvement with procedural matters – namely, that for it to apply, there must be some equity, some ground for equitable intervention, other than the mere existence of a cross-claim (see Rawson v. Samuel (1839) Cr. & Ph. 161, 178 per Lord Cottenham L.C., Best v. Hill (1872) L.R. 8 C.P. 10, 15, and the modern case of Hanak v. Green But in this case counsel could not suggest, and I cannot detect, any such equity sufficient to operate the mechanism, so as, in effect, to over-ride a clear rule of the common law on the basis of which the parties contracted.”
Lord Simon of Glaisdale spoke to similar effect (at 193).
Shortly thereafter in Federal Commerce & Navigation Co Ltd v. Molena Alpha Inc [1978] 2 QB 927 (The “Nanfri”) this court had to consider whether claims against a shipowner could be set off against time charter hire. The issue had to be decided against the background of the historical rule excluding set-off against voyage charter freight (see The Aries just cited) and special terms in the time charter in question permitting deductions in certain circumstances. That therefore was a special case arising in a one contract only situation. This court fashioned its own solution to that problem, which does not concern us here. However, The Nanfri’s importance is that it was the occasion for a further consideration of the doctrine of equitable set-off. Lord Denning MR said (at 974G/975A):
“It is now far too late to search through the old books and dig them out. Over 100 years have passed since the Judicature Act 1873. During that time the streams of common law and equity have flown together and combined so as to be indistinguishable the one from the other. We have no longer to ask ourselves: what would the courts of common law or the courts of equity have done before the Judicature Act? We have to ask ourselves: what should we do now so as to ensure fair dealing between the parties? See United Scientific Holdings Ltd. v. Burnley Borough Council [1978] A.C. 904 per Lord Diplock. This question must be asked in each case as it arises for decision: and then, from case to case, we shall build up a series of precedents to guide those who come after us. But one thing is clear: it is not every cross-claim which can be deducted. It is only cross-claims that arise out of the same transaction or are closely connected with it. And it is only cross-claims which go directly to impeach the plaintiff’s demands, that is, so closely connected with his demands that it would be manifestly unjust to allow him to enforce payment without taking into account the cross-claim. Such was…Hanak v. Green…”
In Leon Corporation v. Atlantic Lines and Navigation Co Inc [1985] 2 Lloyd’s Rep 470 (The Leon), in another case which raised the issue of the extent to which a time charterer could set off a counterclaim against time charter hire, Hobhouse J refused to depart from the line drawn by this court in The Nanfri, although he was pressed to do so on the ground of “fairness”. The submission led to the following observations (at 474/5):
“It is also correct that equitable principles derive from a sense of what justice and fairness demand and should therefore include the capacity to develop and adapt as the need arises…But this does not mean that equitable set-off has been reduced to an exercise of discretion. Since the merging of equity and law, equitable set-off gives rise to a legal defence. This defence does not vary according to the length of the Lord Chancellor’s foot. The defence has to be granted or refused by an application of legal principle.
The relevant principle is that identified by Lord Cottenham in Rawson v. Samuel (1841) Cr. & Ph. 161, at p. 179: “The equity of the bill impeached the title to the legal demand”. What this requires is that the Court or arbitrator should consider the relationship between the claim and the cross-claim. This is why not every cross-claim, even though it arises out of the same transaction, necessarily gives rise to an equitable set-off. This element of the cross-claim impeaching the plaintiff’s demand is to be found in all the modern cases and is a recognition that the principle being applied is essentially the same as that stated by Lord Cottenham.”
In Bank of Boston Connecticut v. European Grain and Shipping Ltd [1989] AC 1056 (The Dominique) the House of Lords held that the historical rule of no set-off against voyage-charter freight extended to a counterclaim for damages for repudiation of the charterparty. It was another single contract case. It was decided on the basis that there was no good reason to distinguish between the case of a counterclaim for mere breach and the case of a counterclaim for repudiatory breach: see at 1106E/1109C. Therefore the historical rule prevailed. In reaching this conclusion, Lord Brandon of Oakbrook, with whose speech the rest of their Lordships agreed, dealt with three reasons which had been advanced by the counterclaiming charterers for making the distinction which the House ultimately rejected. The first reason was that a repudiatory breach satisfied the impeachment test for a defence by way of equitable set-off laid down in Rawson v. Samuel. That had been the major submission of counsel for the charterers, see Mr Eder arguendo at 1079:
“It was said in The Leon that the suggestion of manifest injustice being the relevant test was wrong and that the proper test was impeachment of title whatever that might mean, and when one looks at The Nanfri, pp. 974-975, the test is; does the cross-claim go directly to impeach the plaintiff’s demands?”
Lord Brandon dismissed this primary argument of the charterers head-on, and swiftly. He said (at 1106F):
“I find it difficult, however, to see how, when a charterparty expressly provides, in effect, that the legal title to advance freight is to be deemed to be complete on the signing of bills of lading, a subsequent breach of the charterparty, even one of a repudiatory character, can properly be regarded as impeaching that title.”
Despite this direct treatment of the charterers’ major argument, Lord Brandon had in fact gone out of his way in the course of his speech to displace the impeachment rationale of Rawson v. Samuel. He said it was necessary to explain briefly the “nature, origins and basis of a defence by way of equitable set-off” (at 1101E). Making no express mention of Morris LJ’s judgment in Hanak v. Green, nor of The Nanfri, he reached back to “see whether such cross-claim is of such a character that it would before the coming into force of the Supreme Court of Judicature Acts 1873 and 1875 have led a court of equity to prohibit by injunction the enforcement of the common law claim” (at 1101G). He referred to Rawson v. Samuel as the authority “most relied on as providing the relevant test” (at 1101H). However, he rejected that test as of continuing use in the modern world in the following passage:
“The concept of a cross-claim being such as “impeached the title of the legal demand” is not a familiar one today. A different version of the relevant test is to be found in the decision of the Judicial Committee of the Privy Council in Government of Newfoundland v. Newfoundland Railway Co. (1888) 13 App. Cas. 199…It is to be observed that the criterion which Lord Hobhouse applied, 13 App Cas 199, 213, in deciding whether the government’s cross-claim for unliquidated damages could be set off against the company’s claim was not that the cross-claim “impeached the title to the legal demand,” as in Rawson v.Samuel, 1 Cr. & Ph. 161, 179, but rather that it was a cross-claim “flowing out of and inseparably connected with the dealings and transactions which also give rise” to the claim.”
However, even though Lord Brandon had gone out of his way to dethrone the rationale of impeachment, he did not use that dethronement as an answer to Mr Eder’s submission in the dispositive part of his speech (see at para 28 above). Indeed, he only returned to the Newfoundland Railway case in order to deal with a separate point (“Question (4): Set-off as between charterers and bank”, see at 1109Hff), which was whether the plaintiff bank, as assignee of the shipowner’s claim for freight, could equally rely on the shipowner’s immunity from set-off against freight. That, however, followed from, or at any rate as a rational counterpoint to, the decision in the Newfoundland Railway case itself, where the assignee of an underlying claim which was susceptible to set-off, had to take the claim subject to that equity.
It may be noted, however, that Lord Brandon said nothing about the other element of Mr Eder’s submission, which was that “the suggestion of manifest injustice being the relevant test was wrong”. Lord Brandon said nothing about the concept of fairness, and that has led in the current case to submissions that the Newfoundland Railway test is a single exclusive test for equitable set-off and has either supplanted or must be regarded as somehow incorporating the fairness aspect of Morris LJ’s test in Hanak v. Green and of Lord Denning’s test in The Nanfri. I will have to revert to that question, but I would in the meantime observe that Lord Brandon’s main concern in the passage cited above was to replace the impeachment test by something which was easier to understand and apply in the modern world. He did not address the concept of fairness, and perhaps did not need to do so in a situation where the underlying rule of no set-off against freight was so well ensconced. As Lord Wilberforce and Lord Simon had said in The Aries, the parties had contracted against the background of it, and could not be heard to say that they had an equity which ran directly contrary to the rule.
I think this view of the matter is confirmed by going back to the Newfoundland Railway case itself. The suit there was brought by the railway company and its assignees (trustees for bondholders) against the Government of Newfoundland. The underlying contract was one whereby the company was to build a railway and the government was to pay a subsidy. The railway was not completed. There was an issue as to whether the contract was an “entire” contract whereby no part of the subsidy was payable unless the railway as a whole was completed, but that issue was decided in favour of the company: the subsidy was payable, in part, as each section of the line was completed. There was also a counterclaim by the government for non-completion of the line. Could that be set off against the company’s entitlement to subsidy? There was no issue between the parties that it could, at any rate as between company and government (at 209). It might have been argued that the severance of the payment of the subsidy to relate to each completed section of the line presented difficulties for a set-off premised on the uncompleted sections of the line, but it was not. In any event the Privy Council emphasised the intertwined nature of the obligations under the railway contract and said that it “had no hesitation in saying that in this contract the claims for subsidy and for non-construction ought to be set against one another” (at 212/213). What was said was that the set-off could not be made as against the assignees: that once notice of the assignment of the debt had been given, “the debt or claim is so severed from the rest of the contract that the assignee may hold it free from any counter-claim in respect of other terms of the same contract” (at 210). However, the Privy Council distinguished between a set-off properly allowable under the contract itself, which bound an assignee of a debt due under that contract, and a cross-claim which might “arise from any fresh transaction freely entered into by [the government] after notice of assignment by the company” (at 212). In the former case, “It would be a lamentable thing if it were found to be the law that a party to a contract may assign a portion of it, perhaps a beneficial portion, so that the assignee shall take the benefit, wholly discharged of any counter-claim by the other party in respect of the rest of the contract, which may be burdensome” (at 212). That was the context in which the Privy Council said (at 213):
“Unliquidated damages may now be set off as between the original parties, and also against an assignee if flowing out of and inseparably connected with the dealings and transactions which also give rise to the subject of the assignment.”
It may be observed that in the circumstances of the structure of the argument in the Newfoundland Railway case there was no particular need to emphasise the requirements of justice and fairness. The set-off between the original parties was not controversial. And the disputed set-off as against the assignees was argued on a more technical level depending on the assignment. Even so, the ultimate answer given by the Privy Council was, in effect, that the assignees took subject to equities: and this was explained in terms of it being “a lamentable thing” if it were otherwise, and that the claims and cross-claims “ought” to be set against one another.
At any rate, it was not long before Lord Brandon’s exegesis in The Dominique was considered, albeit in the context of a two contract case. In Dole Dried Fruit and Nut Co v. Trustin Kerwood Ltd [1990] 2 Lloyd’s Rep 309 the plaintiff had made the defendant its exclusive distributor in England. Pursuant to that distributorship agreement, the plaintiff repeatedly sold its products to the defendant under separate contracts of sale. The plaintiff was now claiming the price of goods sold under the latest of such sale contracts, and the defendant was seeking to set off its counterclaim for repudiation by the plaintiff of the distributorship agreement. This court held that the counterclaim could be set off and that there was thus an arguable defence to the claim for the price of goods sold.
In the court below Webster J had applied the Newfoundland Railway test, as approved by Lord Brandon, which he regarded as being narrower and more specific than the test to be found in The Nanfri. Even so, he had found in favour of the defendant’s set-off. On appeal, the plaintiff argued that the impeachment test from Rawson v. Samuel still survived and was narrower still. This court, however, disagreed. Lloyd LJ regarded the impeachment test and the Newfoundland Railway test as merely “the same test in different language”. He referred to the exceptional rule about no set-off against freight, and continued (at 310/311):
“But for all ordinary purposes, the modern law of equitable set-off is to be taken as accurately stated by the Court of Appeal in Hanak v. Green…It is not enough that the counterclaim is “in some way related to the transaction which gives rise to the claim”. It must be “so closely connected with the plaintiff’s demand that it would be manifestly unjust to allow him to enforce payment without taking into account the crossclaim”: see The Nanfri per Lord Denning at p. 140…
The authority of these cases has not been diminished by The Dominique. They establish that the mere existence of a crossclaim is insufficient. The claim and crossclaim must arise out of the same contract or transaction, and must also be so inseparably connected that the one ought not to be enforced without taking into account the other.”
I observe that it is possible to see there Lloyd LJ moulding (at least part of) the Newfoundland Railway test (“inseparably connected”) into and within the previous jurisprudence, which he states continues to hold authority. I would also respectfully observe that something appears to have gone wrong with the text to the effect that “claim and crossclaim must arise out of the same contract or transaction”. That, I believe, has never been the position, unless the connection “arise out of” is given an unhelpfully broad scope. It is better to be transparent about the matter. As Lord Denning stated in The Nanfri: “It is only cross-claims that arise out of the same transaction or are closely connected with it” (at 974/5, emphasis added) that fall within equitable set-off.
Thus, in upholding the set-off Lloyd LJ’s critical reasoning (at 311) acknowledged that that was a two contract case. He accepted, at any rate as probably correct for the purposes of the summary judgment application, that the individual sale contracts were separate transactions not governed by the terms of the distributorship agreement. However –
“The whole purpose and intent of the agency agreement was that the parties should enter into contracts for the purchase and sale of the plaintiffs’ goods. In those circumstances the claim and counterclaim are sufficiently closely connected to make it unjust to allow the plaintiffs to claim the price of goods sold and delivered without taking account of the defendants’ counterclaim for damages for breach of the agency agreement.”
So Lloyd LJ did not require claim and cross-claim to arise out of the same transaction.
Esso Petroleum Co Ltd v. Milton [1997] 1 WLR 938 concerned a licence agreement between an oil company plaintiff and a garage licensee defendant. The plaintiff sued for the price of petrol deliveries and the defendant counterclaimed for damages for repudiation of the licence agreement, which he sought to set off against the otherwise admitted claim. The plaintiff sought summary judgment. It appears that this was treated as a single contract case, that is to say that the petrol deliveries did not amount to separate contracts of sale (as in Dole Dried Fruit). The plaintiff raised three arguments as to why the alleged set-off should fail: (i) because under the contract the petrol had to be paid under direct debit arrangements, which it was submitted was like payment by cheque and thus amounted to an exclusion of a right of set-off; (ii) because of an express provision, clause 34, by which the defendant agreed not “for any reasons to withhold payment of any amount due to the plaintiffs”; and (iii) because there was insufficient connection between the claim in respect of past deliveries of fuel and the counterclaim for damages for loss of future profits. As to these three arguments, this court held as follows: (i) the direct debit argument succeeded (in the opinion of Thorpe LJ and Sir John Balcombe, albeit Simon Brown LJ dissented); (ii) clause 34 was unreasonably wide and thus unenforceable (per Simon Brown LJ and Sir John Balcombe, with Thorpe LJ not dealing with this point); and (iii) the counterclaim was insufficiently connected with the claim (per Simon Brown LJ and Sir John Balcombe, with Thorpe LJ also considering that the counterclaim was unarguable in itself).
We are interested in point (iii), but as will appear this point was not entirely separate from the other two. Simon Brown LJ considered that the modern law of equitable set-off was to be found in Hanak v. Green and The Nanfri. Thus he restated the position as follows:
“For equitable set-off to apply it must therefore be established, first that the counterclaim is at least closely connected with the same transaction as that giving rise to the claim, and second that the relationship between the respective claims is such that it would be manifestly unjust to allow one to be enforced without regard to the other.”
That is very close to Lord Denning’s statement of the test.
Simon Brown LJ went on to say that no case had been cited in which payment of a debt presently due had been required to await the resolution of a cross-claim for future losses: but it appears that Dole Dried Fruit, which would have supplied such a case, had not been cited. What, however, seems to me to be striking about Esso v. Milton are the following factors: first, the existence of the direct debit and clause 34 provisions, which even Simon Brown LJ (dissenting on point (i)) held to be relevant to his decision on point (iii) (see at 951H, “all of these provisions and considerations seem to me properly in play when deciding the overall justice of the case”); secondly, the deliveries of fuel were converted by the defendant almost immediately into cash; thirdly claim for future losses was merely speculative. These factors were of such a nature that Thorpe LJ, having decided that the counterclaim was in any event so speculatively unrealistic as to be unarguable (at 952E/F), went on to comment in strong terms (at 953B/H) about the inequity of the defendant’s case, starting from the proposition that “As Simon Brown LJ has demonstrated, claims to equitable set-off ultimately depend upon the judge’s assessment of the result that justice requires.”
Finally, I refer to Bim Kemi v. Blackburn Chemicals Limited [2001] 2 Lloyd’s Rep 93. It concerned a claim by the claimant for damages for repudiation of a 1994 distribution agreement for the supply of a product called Dispelair. The defendant denied the existence of the 1994 agreement, but in the alternative counterclaimed for damages for its repudiation by the claimant. The defendant also sought to set off a counterclaim for breach of the parties’ 1984 licensing agreement relating to other products. The claimant sought to strike out that set off, but failed both at first instance and again in this court. Under the heading of “Close Connection” Potter LJ reviewed the authorities discussed above and commented as follows:
“29. The Dole Fruit case illustrates the wise refusal of this Court to become bogged down in the nuances of different [sc differences?] between the formulation of the test propounded in The Nanfri, both in relation to the earlier criterion of “impeachment of title” disapproved by Lord Brandon in the Bank of Boston case, and in relation to the need for a “close connection” between claim and cross-claim…It seems that, insofar as there may be a difference, the Court has been content for the outcome to be governed by the notion of fairness involved in the proposition that it must be “manifestly unjust” to allow one to be enforced without regard to the other. For myself, I consider that Lord Brandon’s formulation is to be preferred because on the one hand it emphasizes that the degree of closeness required is that of an “inseparable connection”, while on the other it makes clear that it is not necessary that the cross-claim should arise out of the same contract; all that is required is that it should flow from the dealings and transactions which gave rise to the subject of the claim…
30. That said, however, it is clear that the principle stated by Lord Brandon and applied in the Dole Fruit case is apt to cover a situation where there are claims and cross-claims for damages in respect of different but closely connected contracts arising out of a long-standing trading relationship which is terminated. That fact will not per se establish the requisite “inseparable connection” but, in an appropriate case, it may well be manifestly unjust to allow one claim to be enforced without taking account of the other…
36…I regard it as appropriate to apply the test propounded by Lord Brandon in the Bank of Boston case unconstrained by the former concept, difficult to define and apply, of “impeachment of title”, which has since been replaced, or at least redefined, in terms of a cross-claim which “flows out of and is inseparably connected with the dealings and transactions giving rise to the subject of the claim”…”
Then, under the heading of “Manifest injustice”, Potter LJ went on to say this:
“38. As treated in The Nanfri, the question of whether or not it would be manifestly unjust to allow a claimant to enforce payment of his claim is the criterion by which to judge the closeness of the connection between the claim and the cross-claim…Once Lord Brandon made clear in the Bank of Boston case that the question of closeness required inseparable connection with the dealings and transactions giving rise to a claim, without reference to the issue of “manifest injustice”, it is difficult to envisage in what circumstances, assuming his test to be satisfied, it would be other than just to allow an equitable set-off, save in certain established categories of cases where the Court has traditionally taken a strict view of the right of a claimant to be paid the liquidated sum which he claims free of any set-off. Examples are to be found in claims for rent, freight, and sums due under bills of exchange. Nonetheless, as it seems to me, it is appropriate in every case to give separate consideration to the question of manifest injustice; cf the approach of Lord Justice Brown in Esso Petroleum v. Milton at 950D.”
In my judgment, this jurisprudence allows the following conclusions:
(i) The impeachment of title test, although derived from the leading case of Rawson v. Samuel and still stated by Lord Denning in his formulation in The Nanfri, even if it is there immediately glossed by his “so closely connected…that it would be manifestly unjust” test, should no longer be used: The Dominique and Bim Kemi. It is an unhelpful metaphor in the modern world. In the light of the emphasis put on it by Hobhouse J in The Leon and the reliance sought to be placed on it by the charterers in The Dominique, it made sense for the House of Lords to go out of its way to downplay its significance.
(ii) There is clearly a formal requirement of close connection. All the modern cases state that, whether Hanak v. Green, The Nanfri, The Dominique (by reference to the Newfoundland Railway case), Dole Dried Fruit or Bim Kemi. The requirement is put in various ways in various cases. Morris LJ in Hanak v. Green spoke of a “close relationship between the dealings and transactions which gave rise to the respective claims”. Lord Denning in The Nanfri spoke of claims and cross-claims which are “closely connected”. How closely? “[S]o closely connected with his demands that it would be manifestly unjust to allow him to enforce payment without taking into account the cross-claim”. The Dominique adapted the Newfoundland Railway test and spoke of a cross-claim “flowing out of and inseparably connected with the dealings and transactions which also give rise to the claim”. Dole Dried Fruit returned to Lord Denning’s test in The Nanfri but also spoke of a claim and cross-claim which was so “inseparably connected that the one ought not to be enforced without taking into account the other”. Bim Kemi expressed a preference for the test in The Dominique, while warning against being caught up in the nuances of different formulations.
(iii) Thus the Newfoundland Railway test of “inseparable connection” is one formulation of the close connection test, but it is not the only one. Potter LJ wisely referred to the wise refusal of the courts to become bogged down in the nuances of formulation. Oddly enough, both the Newfoundland Railway case and The Dominique were single contract cases, and therefore probably rather unhelpful contexts in which to judge what is meant by “inseparable connection”. In truth, where separate contracts (or dealings or transactions) are concerned, the metaphor of inseparability is not all that helpful. Ex hypothesi, the contracts are separate (as in Bankes v. Jarvis, the case about the veterinary surgeon’s practice discussed by Morris LJ in Hanak v. Green). I am not aware of the “inseparable connection” test being used to exclude a set-off, where some other formulation of the close connection requirement would have allowed it. It was not used to exclude a set-off in either the Newfoundland Railway case, nor in The Dominique nor in Bim Kemi. Nor is the test all that helpful in single contract cases: as Potter LJ remarked in Bim Kemi, where a case concerns a claim and cross-claim arising out of the same contract, although that fact is not in itself enough to ensure an equitable set-off, it is on the whole likely to take a special rule excluding set-off, such as the rules about freight, rent and cheques (and now direct debits, see Esso v. Milton), to prevent a set-off. In this connection, Modern Engineering (Bristol) Ltd v. Gilbert-Ash (Northern) Ltd [1974] AC 689 emphasises that an equitable set-off for defective work is not easily excluded even in building contracts where sums are payable under an architect’s certificate. On the other hand, The Nanfri itself shows that in the context of maritime adventures and time charter hire, and against the background of the rule as to freight, a special regime of limited but not general set-off has been fashioned for cross-claims under the charterparty.
(iv) There is also clearly a functional requirement whereby it needs to be unjust to enforce the claim without taking into account the cross-claim. This functional requirement is emphasised in all the modern cases, viz Hanak v. Green, The Aries, The Nanfri, Dole Dried Fruit, Esso v. Milton, and Bim Kemi. The only modern authority cited above which does not in terms refer to the functional requirement of injustice is Lord Brandon’s discussion in The Dominique. This has led Potter LJ in Bim Kemi (at para 38) to remark on the absence of reference to “manifest injustice” by Lord Brandon: but nevertheless it did not lead him to dispense with that requirement (ibid). It seems to me impossible to do so: it is not coherent to have a doctrine of equitable set-off which ignores the need for consideration of aspects of justice and fairness. Mr David Friedman QC, on behalf of SCL, has submitted that the test of “inseparable” connection contains inherently within it the need for a requirement of manifest injustice. That is what, he submits, “inseparable” means. In my judgment, such lack of transparency in a test would be undesirable, and I do not believe that it is as Mr Friedman submits. But I do not in any event think that Lord Brandon was intending to use the Newfoundland Railway formulation as an exclusive test for equitable set-off. Rather, he was using it to dethrone the concept of impeachment.
(v) Although the test for equitable set-off plainly therefore involves considerations of both the closeness of the connection between claim and cross-claim, and of the justice of the case, I do not think that one should speak in terms of a two-stage test. I would prefer to say that there is both a formal element in the test and a functional element. The importance of the formal element is to ensure that the doctrine of equitable set-off is based on principle and not discretion. The importance of the functional element is to remind litigants and courts that the ultimate rationality of the regime is equity. The two elements cannot ultimately be divorced from each other. It may be that at times some judges have emphasised the test of equity at the expense of the requirement of close connection, while other judges have put the emphasis the other way round.
(vi) For all these reasons, I would underline Lord Denning’s test, freed of any reference to the concept of impeachment, as the best restatement of the test, and the one most frequently referred to and applied, namely: “cross-claims…so closely connected with [the plaintiff’s] demands that it would be manifestly unjust to allow him to enforce payment without taking into account the cross-claim”. That emphasises the importance of the two elements identified in Hanak v. Green; it defines the necessity of a close connection by reference to the rationality of justice and the avoidance of injustice; and its general formulation, “without taking into account”, avoids any traps of quasi-statutory language which otherwise might seem to require that the cross-claim must arise out of the same dealings as the claim, as distinct from vice versa. Thus, if the Newfoundland Railway test were applied as if it were a statute, very few of the examples of two-contract equitable set-off discussed above could be fitted within its language. I note that in Chitty on Contracts, 30th ed, 2008, Vol II, at 37-152, the test for equitable set-off is formulated in terms of Lord Denning’s test.
Citroen Sales (Ireland) Ltd. v. Ashenhurst Williams & Co. Ltd.
[1993] IR 69
Finlay C.J.; Hederman J.; McCarthy J. 71
S.C.
Finlay C.J.
I have read and agree with the judgment about to be delivered by McCarthy J.
Hederman J.
I also agree.
McCarthy J.
Ashenhurst and Dieselectrix appeal from the order of Lardner J. in the High Court whereby he declared that the “net-offs” referred to in paragraph 5 of the statement of claim were not effective as payments and are to be disregarded by the respective liquidators of the applicant and respondent companies.
The facts
Cornelius Breen, the accountant, had full accounting function for all four companies. He brought what he thought necessary to the attention of the directors, who were common to all companies, but, otherwise, he worked on his own initiative. At the beginning of 1982 he knew the companies were in difficult trading and financial conditions. In 1982 he was not aware in detail of proposals for any takeover of the companies except for a remark of Mr. Stewart that negotiations were going on. He thought it was a possibility that the companies might be facing insolvency but this was the worst outlook; if takeover negotiations were taking place, that did not mean that the companies would not continue to be able to carry on business. This appears to have been Mr. Breen’s state of mind when the procedures for the annual audit began on the 17th May, 1982. This was done in the normal course of business as in previous years.
Ashenhurst substantially owned all the assets employed in the businesses; they had a book value of over £1 million pounds. They included the land, premises, workshops, storage areas and accumulated profits. Funds were transferred between the companies as each had a need with the object of keeping all four companies going. Each company’s financial year ended on the 31st December. The questions raised in these proceedings concern the treatment in the accounts of the financial transactions between the four companies in relation to the financial year ended on the 31st December, 1981. These transactions were mainly transfers of cash. They related to charges for management and other services rendered by Ashenhurst to the other companies, charges for wages for employees and for the use of land and premises and to other inter-company transactions. These charges appear in entries in the nominal ledgers of the companies and are dated the last day of each month. They were supported by journal entries and journal vouchers. The net-offs were achieved by setting off against a debt due by Ashenhurst to Sales, debts due by Importers to Ashenhurst, debts due by Dieselectrix to Ashenhurst and debts due by Importers to Dieselectrix. This operation of netting-off was carried out each year when the need arose to provide the material for the annual audit. It would have been feasible to do this in each month of the financial year but this was not the practice. In 1982, in respect of the accounts for the year 1981, Mr. Breen within one week of the 17th May posted the net-offs in the journals. These were the last entries for finalising the accounts of the four companies for the relevant year.
The companies had experienced trading difficulties in 1981 and 1982 and the directors were negotiating with the French suppliers SAAC to whom certain proposals had been made.
The inferences
The learned trial judge concluded that at the date of the net-offs, the boards of directors of Sales and Importers, if they had directed their minds to and considered the question, could not have realistically concluded that for the foreseeable future these companies would be able to discharge their liabilities as they fell due. He concluded that the decision to make the net-offs should have been considered on that basis, namely, that there was a very serious risk that the companies were then insolvent. “In fact the evidence, if accepted, establishes that in May of 1982 the directors of Importers or Sales did not direct their minds to or consider the question of the solvency of these companies or the propriety of making the net-offs. The matter was left to Mr. Breen to deal with as part of his accountancy function in the course of preparing management accounts and he did not consider the question either.”
The judgment of the High Court
Lardner J. concluded that the correct inference to be drawn from the evidence was that Mr. Breen did not have the authority of the boards of any of the companies to make a decision that the payments which constituted the net-offs should be made – that the net-offs remained provisional until the accounts incorporating their results were agreed and adopted by the respective boards of directors. He rejected the proposition that the transaction constituted a gift between the companies and, therefore, was ultra vires.
The law
Section 286 of the Companies Act, 1963, provides, inter alia, that any payment or other act relating to property made or done by or against a company within six months before the commencement of its winding up which, had it been made or done by or against an individual within six months before the presentation of a bankruptcy petition on which he is adjudged a bankrupt, would be deemed in his bankruptcy a fraudulent preference, shall in the event of the company being wound up be deemed a fraudulent preference of its creditors and be invalid accordingly. No suggestion of any impropriety, technical or otherwise, has been made against Mr. Breen or against the directors of the companies. This is wholly accepted on behalf of the applicant companies and expressly stated by the liquidator, Mr. Shorthall, (“I accept what Mr. Breen did was absolutely in order . . .”); it is further accepted that the journal entries were the equivalent of a cash or cheque transaction. It is contended on behalf of Sales and Importers that the transactions of the 17th May are provisional only and depend for their effect on what is called “crystallising” when sanctioned by the directors. The amounts involved were substantial but not in their independent make-up; they were substantial because they were accumulated. It was further contended that because of a lack of mutuality – that it was not a pound for a pound – there was no valid novation.
Conclusion
Once it is established, as accepted here, that what Mr. Breen did was an ordinary transaction in the course of business, carried out annually, a heavy burden lies on anyone seeking to set it aside. To do so, in my judgment, it must be shown that he lacked authority to do what he did and nothing more than what he did in May, 1982. I find nothing in the evidence to support a view that the actual size of the transactions as of the particular date is relevant to the extent of his authority. The lack of mutuality did not exist as of that date; it arose because of the resolution of winding up which took place on the 11th June. Any argument questioning the scope of his authority or what he did within that scope must face up to the acceptance that there was no impropriety whatever. There is nothing whatever in the material before this Court that would support any other view. Mr. Breen acted very properly throughout. In my view, the argument on behalf of the applicant companies fails because it is founded on hindsight. By the 11th June, it might well be that the directors could not properly authorise the net-offs such as were effected but, as of the 17th May, there was no reason to interfere with the ordinary procedures. If on the 11th June, with the knowledge of the immediate collapse of the companies, the directors had attempted to effect such a transaction, it would seem to bear the hallmark of a fraudulent preference. In my judgment, the case made on behalf of the applicant companies is an attempt to effect an amendment of s. 286 of the Companies Act, 1963.
I would allow this appeal and dismiss the claim by the applicant companies.
In re Greendale Developments Ltd. (In Liquidation) (No. 2) [1998] 1 IR 8
Keane J. 29
S.C.
The President accordingly rejected the claim by the first respondent that these sums could be set off against the sums due by the first respondent to the company.
It has been treated as settled law in England since the decision of the Court of Appeal in In re Anglo-French Co-Operative Society, Ex Parte Pelly [1882] 21 Ch. D. 492, that an officer of a company, who has been found liable to pay money to the company in misfeasance proceedings, is not entitled to set off a debt owing by the company to him against that liability. It appears from the judgments in that and subsequent cases that the reason for the rule was that the right of set off only arose in the case of actions between parties. However, it was also pointed out by Hall V.C. in another case referred to in a footnote in In re Anglo-French Co-Operative Society, Ex Parte Pelly ,that no right of set off would in any event arise unless the debts could be said to be mutual. In the present case, there is clearly no mutuality between the monies sought to be recovered by the liquidator as having been misapplied by the first respondent in breach of his fiduciary duties as director, and the sums claimed by him in respect of the transactions just summarised.
Counsel for the respondents, in any event, did not invite the Court to disapprove of the authorities to which I have referred, but contented himself with suggesting that they should have no application where the company is solvent. The authorities, however, lend no support to that view. They proceed on the basis that the corresponding sections in
England afford the liquidator an expeditious summary remedy to recover monies or property of the company wrongfully spent or misapplied by an officer, and that to allow cross claims by the officer to be litigated on such an application would be inconsistent with the nature of the remedy provided.
I am satisfied that the submission made on behalf of the liquidator is correct, and, even if the sums claimed by the first respondent were recoverable against the company, they could not properly be set off against the sums found to be owing by him to the company. Counsel for the liquidator accepted that this would not preclude the first respondent from proving for these alleged debts as an unsecured creditor in the winding-up. He also accepted that, while it was obvious that the liquidator would not admit these alleged debts, he would not seek to rely on the determination of the issue in the High Court proceedings as rendering the matter res judicata.
The President accordingly rejected the claim by the first respondent that these sums could be set off against the sums due by the first respondent to the company.
It has been treated as settled law in England since the decision of the Court of Appeal in In re Anglo-French Co-Operative Society, Ex Parte Pelly [1882] 21 Ch. D. 492, that an officer of a company, who has been found liable to pay money to the company in misfeasance proceedings, is not entitled to set off a debt owing by the company to him against that liability. It appears from the judgments in that and subsequent cases that the reason for the rule was that the right of set off only arose in the case of actions between parties. However, it was also pointed out by Hall V.C. in another case referred to in a footnote in In re Anglo-French Co-Operative Society, Ex Parte Pelly ,that no right of set off would in any event arise unless the debts could be said to be mutual. In the present case, there is clearly no mutuality between the monies sought to be recovered by the liquidator as having been misapplied by the first respondent in breach of his fiduciary duties as director, and the sums claimed by him in respect of the transactions just summarised.
Counsel for the respondents, in any event, did not invite the Court to disapprove of the authorities to which I have referred, but contented himself with suggesting that they should have no application where the company is solvent. The authorities, however, lend no support to that view. They proceed on the basis that the corresponding sections in England afford the liquidator an expeditious summary remedy to recover monies or property of the company wrongfully spent or misapplied by an officer, and that to allow cross claims by the officer to be litigated on such an application would be inconsistent with the nature of the remedy provided.
I am satisfied that the submission made on behalf of the liquidator is correct, and, even if the sums claimed by the first respondent were recoverable against the company, they could not properly be set off against the sums found to be owing by him to the company. Counsel for the liquidator accepted that this would not preclude the first respondent from proving for these alleged debts as an unsecured creditor in the winding-up. He also accepted that, while it was obvious that the liquidator would not admit these alleged debts, he would not seek to rely on the determination of the issue in the High Court proceedings as rendering the matter res judicata.
– 26 -Re Bank of Credit and Commerce International SA (No 8) [1998] AC 214
Lord Hoffmann held that the charges were valid and not conceptually impossible. He referred to the general attributes of charges and went on. He said the right to claim payment of a deposit with a bank is a chose in action – a proprietary right. It can be granted to a third party. So a charge could be created over a deposit in favour of BCCI. He said as follows.[3]
“ The doctrine of conceptual impossibility was first propounded by Millett J. in In re Charge Card Services Ltd [1987] Ch 150, 175-176 and affirmed, after more extensive discussion, by the Court of Appeal in this case. It has excited a good deal of heat and controversy in banking circles; the Legal Risk Review Committee, set up in 1991 by the Bank of England to identify areas of obscurity and uncertainty in the law affecting financial markets and propose solutions, said that a very large number of submissions from interested parties expressed disquiet about this ruling. It seems clear that documents purporting to create such charges have been used by banks for many years. The point does not previously appear to have been expressly addressed by any court in this country. Supporters of the doctrine rely on the judgments of Buckley L.J. (in the Court of Appeal) and Viscount Dilhorne and Lord Cross of Chelsea (in the House of Lords) in Halesowen Presswork & Assemblies Ltd v Westminster Bank Ltd [1971] 1 QB 1; [1972] A.C. 785 . The passages in question certainly say that it is a misuse of language to speak of a bank having a lien over its own indebtedness to a customer. But I think that these observations were directed to the use of the word lien,” which is a right to retain possession, rather than to the question of whether the bank could have any kind of proprietary interest. Opponents of the doctrine rely upon some 19th-century cases, of which it can at least be said that the possibility of a charge over a debt owed by the chargee caused no judicial surprise.
The reason given by the Court of Appeal [1996] Ch. 245, 258 was that “a man cannot have a proprietary interest in a debt or other obligation which he owes another.” In order to test this proposition, I think one needs to identify the normal characteristics of an equitable charge and then ask to what extent they would be inconsistent with a situation in which the property charged consisted of a debt owed by the beneficiary of the charge. There are several well-known descriptions of an equitable charge (see, for example, that of Atkin LJ in National Provincial and Union Bank of England v Charnley [1924] 1 KB 431, 449-450) but none of them purports to be exhaustive. Nor do I intend to provide one. An equitable charge is a species of charge, which is a proprietary interest granted by way of security. Proprietary interests confer rights in rem which, subject to questions of registration and the equitable doctrine of purchaser for value without notice, will be binding upon third parties and unaffected by the insolvency of the owner of the property charged. A proprietary interest provided by way of security entitles the holder to resort to the property only for the purpose of satisfying some liability due to him (whether from the person providing the security or a third party) and, whatever the form of the transaction, the owner of the property retains an equity of redemption to have the property restored to him when the liability has been discharged. The method by which the holder of the security will resort to the property will ordinarily involve its sale or, more rarely, the extinction of the equity of redemption by foreclosure. A charge is a security interest created without any transfer of title or possession to the beneficiary. An equitable charge can be created by an informal transaction for value (legal charges may require a deed or registration or both) and over any kind of property (equitable as well as legal) but is subject to the doctrine of purchaser for value without notice applicable to all equitable interests.
The depositor’s right to claim payment of his deposit is a chose in action which the law has always recognised as property. There is no dispute that a charge over such a chose in action can validly be granted to a third party. In which respects would the fact that the beneficiary of the charge was the debtor himself be inconsistent with the transaction having some or all of the various features which I have enumerated? The method by which the property would be realised would differ slightly: instead of the beneficiary of the charge having to claim payment from the debtor, the realisation would take the form of a book entry. In no other respect, as it seems to me, would the transaction have any consequences different from those which would attach to a charge given to a third party. It would be a proprietary interest in the sense that, subject to questions of registration and purchaser for value without notice, it would be binding upon assignees and a liquidator or trustee in bankruptcy. The depositor would retain an equity of redemption and all the rights which that implies. There would be no merger of interests because the depositor would retain title to the deposit subject only to the bank’s charge. The creation of the charge would be consensual and not require any formal assignment or vesting of title in the bank. If all these features can exist despite the fact that the beneficiary of the charge is the debtor, I cannot see why it cannot properly be said that the debtor has a proprietary interest by way of charge over the debt.
The Court of Appeal said that the bank could obtain effective security in other ways. If the deposit was made by the principal debtor, it could rely upon contractual rights of set-off or combining accounts or rules of bankruptcy set-off under provisions such as rule 4.90. If the deposit was made by a third party, it could enter into contractual arrangements such as the limitation on the right to withdraw the deposit in this case, thereby making the deposit a “flawed asset.” All this is true. It may well be that the security provided in these ways will in most cases be just as good as that provided by a proprietary interest. But that seems to me no reason for preventing banks and their customers from creating charges over deposits if, for reasons of their own, they want to do so. The submissions to the Legal Risk Review Committee made it clear that they do.
If such charges are granted by companies over their “book debts” they will be registrable under section 395 and 396(1)(e) of the Companies Act 1985. There is a suggestion in the judgment of the Court of Appeal that the banking community has been insufficiently grateful for being spared the necessity of registering such charges. In my view, this is a matter on which banks are entitled to make up their own minds and take their own advice on whether the deposit charged is a “book debt” or not. I express no view on the point, but the judgment of my noble and learned friend, Lord Hutton, in Northern Bank Ltd v Ross [1990] BCC 883 suggests that, in the case of deposits with banks, an obligation to register is unlikely to arise.
Since the decision in In re Charge Card Services Ltd [1987] Ch 150 statutes have been passed in several offshore banking jurisdictions to reverse its effect. A typical example is section 15A of the Hong Kong Law Amendment and Reform (Consolidation) Ordinance (c. 23) , which I have already mentioned. It reads:
“For the avoidance of doubt, it is hereby declared that a person (‘the first person’) is able to create, and always has been able to create, in favour of another person (‘the second person’) a legal or equitable charge or mortgage over all or any of the first person’s interest in a chose in action enforceable by the first person against the second person, and any charge or mortgage so created shall operate neither to merge the interest thereby created with, nor to extinguish or release, that chose in action.”
There is similar legislation in Singapore (section 9A of the Civil Law Act (c. 43)); Bermuda (the Charge and Security (Special Provisions) Act 1990 (c. 53) ) and the Cayman Islands (the Property (Miscellaneous Provisions) Law 1994 (No. 7 of 1994) ). The striking feature about all these provisions is that none of them amend or repeal any rule of common law which would be inconsistent with the existence of a charge over a debt owed by the chargee. They simply say that such a charge can be granted. If the trick can be done as easily as this, it is hard to see where the conceptual impossibility is to be found.
In a case in which there is no threat to the consistency of the law or objection of public policy, I think that the courts should be very slow to declare a practice of the commercial community to be conceptually impossible. Rules of law must obviously be consistent and not self-contradictory; thus in Rye v Rye [1962] AC 496, 505, Viscount Simonds demonstrated that the notion of a person granting a lease to himself was inconsistent with every feature of a lease, both as a contract and as an estate in land. But the law is fashioned to suit the practicalities of life and legal concepts like “proprietary interest” and “charge” are no more than labels given to clusters of related and self-consistent rules of law. Such concepts do not have a life of their own from which the rules are inexorably derived. It follows that in my view the letter was effective to do what it purported to do, namely to create a charge over the deposit in favour of B.C.C.I.
Headstart Global Fund Ltd -v- Citco Bank Nederland NV & Ors
[2010] IEHC 334
Clarke J.
1.1 This case involves the obscure (at least to the uninitiated) world of hedge funds and repo transactions. The case also involves a long standing difficulty which the courts have faced in cases which might loosely be said to involve the problem of two innocents. In such cases, due to wrongdoing on the part of a third party, one person loses property which ultimately ends up (or so it might be argued) in the hands of a second. Neither the original losing party nor the ultimate receiving party have done any wrong. The intervening wrongdoer either has disappeared or has no assets. The court is left with a choice of restoring the property to the original owner (which might seem unfair in many cases to the party ultimately acquiring the property) or leaving it where it is (which may seem equally unfair to the original owning party). By and large the courts have attempted to grapple with this difficult problem by attempting to follow the ownership of the property concerned through whatever series of transactions may have intervened between the handing over of the property from its original owner to its ultimate receipt by the other contender.
1.2 The plaintiff (“Headstart”) operates as a hedge fund. The other real contender in these proceedings is the third named defendant (“RMF”) which also operates as a hedge fund. The first named defendant (“Citco”)is a bank located in the IFSC where, on Headstart’s case, the funds, the subject matter of these proceedings, ultimately ended up. As will become clear in the course of this judgment, funds were frozen in an account held by RMF at Citco pending the result of these proceedings. It became clear at the very commencement of the proceedings that no accusation against Citco itself was being made. In those circumstances, counsel for Citco withdrew and Citco agreed to abide by any order which the court might make. The second named defendant (“Nexus”) did not enter an appearance nor did it take any part in these proceedings. Nexus was involved in the original transaction whereby monies were paid out by Headstart in circumstances which Headstart alleges amounts to fraud.
1.3 Ultimately Headstart says that what it claims to be its money ended up in the account maintained by RMF at Citco. Headstart argues that the monies remain its monies and that it is entitled to have them back. RMF says that it received the relevant monies as payment of sums already due. That fact is not, in itself, contested. The case turns, therefore, principally, on the question of whether, following the ownership trail of the monies concerned, the monies ultimately paid into Citco Bank to the credit of RMF and ultimately frozen there are, in truth, Headstart’s monies.
1.4 Quite an amount of the factual background to these proceedings is not in dispute and I turn, therefore, to that factual background.
2. The Factual Background
2.1 Headstart is a Cayman Island registered company which, as I have pointed out, operates as a Hedge Fund. RMF is also a Cayman Island registered investment company. In the context of the transactions which are at the heart of these proceedings, it is also necessary to identify some other players. DD Growth Premium Fund (“DD”) is a further Cayman Island registered Hedge Fund. It, like the other Cayman Islands funds referred to, is entitled to dispense with the Ward Limited in its name. The investment manager of that Fund is an English registered company based in London called DD Capital Management Limited (“Management”). On the evidence it is clear that a Dr. Alberto Micalizzi (“Dr. Micalizzi”) was at least a significant person in relation to DD and Management. It will be necessary to return to the precise status of Dr. Micalizzi in due course.
2.2 From March, 2007 Headstart had dealings with DD, starting with an initial investment of US$5,000,000.00 at that time. RMF also had dealings with an associated entity from September, 2007 investing an initial sum of approximately US$25,000,000.00 into a related fund known as the DD Growth Premium 2X Fund (“DD2X”). Both DD and DD2X are so called feeder or investor funds for what was called the DD Growth Master Fund (“the Master Fund”). Management was also the manager of DD2X and the Master Fund.
2.3 It is appropriate at this stage to say something about those funds and their inter relationship. The Master Fund invested in so called “pairs” of companies. For these purposes a pair of companies involve two companies in broadly the same business which are quoted on major international stock exchanges. Thus, investments in such companies are highly liquid with the funds invested being capable of being realised in short course. While the precise method of investment used by the Master Fund is not of particular relevance to the issues which I have to decide, it would appear on the evidence that the strategy followed by the Master Fund was to invest in such a pair of companies at a time when the share price of the respective companies relative to each other appeared to have moved out of kilter with the norm. The underlying rationale of the investment strategy was that companies in the same broad general business have, traditionally, and for hardly surprising reasons, followed a broadly similar trend as to their share price. The assumption is that any such short term deviation from the historical relationship between the share prices of the two shares in question is likely to be corrected. With that in mind, the Master Fund typically took what is called a long position in the share which was lower than expected. Likewise, a so called short position was taken on the share that was higher than expected. In the event that the expected re-convergence of the share price, as and between the two shares, occurs, then the fund will make a profit because the share price of the lower share will recover during the currency of the long position thus revealing a profit, while the share price of the other company will remain higher during the short period in respect of which the investment in that company operated.
2.4 It would appear that actual investments in shares in such publicly quoted pair companies were held through the Master Fund. Both DD and DD2X invested in the Master Fund and, thus, shared in its profits (should it be successful). The difference between DD and DD2X was that investments in DD2X were geared up by virtue of that Fund borrowing a matching amount of money to the relevant investment. Thus, for every US€1.00 put into that Fund by an investor US$2.00 (being the original investment plus an equivalent amount of borrowing) was ultimately invested in the Master Fund. It follows that, by virtue of that gearing, investors in DD2X would obtain twice (hence the name 2X) the profits of those in DD, but would be liable for twice the losses in the event that the investment strategy was unsuccessful.
2.5 It should, however, be emphasised that the three Funds were distinct legal entities. While there was clearly a connection between them, and between each of them and Dr. Micalizzi, the precise legal relationship between them is a matter which will need further consideration in due course.
2.6 In any event, as has been pointed out, both Headstart and RMF had a relationship with the DD Funds generally and with Dr. Micalizzi well before the events which give rise to these proceedings.
2.7 Against that general background it is necessary to move to the latter part of 2008 and the early part of 2009, when the events which give rise to these proceedings occurred. It will be recalled that that time was one of almost unprecedented volatility in financial markets. Lehman Brothers had collapsed in the autumn of 2008, Mr. Bernard Madoff had been exposed in December and the whole international financial system was in a state of turmoil.
2.8 During that period two separate sets of transactions relevant to these proceedings were ongoing involving respectively Headstart and RMF. On the RMF side a decision was taken to redeem a significant portion of its investment in DD2X. It will be recalled that each of the funds was intended to be highly liquid. With that in mind, the terms of investment in each of the funds permitted an investor to obtain a repayment in early course. Given the liquid nature of the investments, no difficulty should have been encountered in the relevant fund liquidating a sufficient part of its investments to repay any investor within such a short timeframe. RMF partially redeemed its investment in DD2X by redemption exercised on the 29th and 31st October, 2008. Any such redemption had a redemption date by reference to which the value of the interest of the investor concerned in the relevant fund was to be valued. In this case the redemption date was the 30th November and RMF was, therefore, entitled to be paid funds as of the 14th December. Some but not all of the funds due were paid but an amount remained owing to RMF. In the latter part of December, 2008 and through January, 2009, RMF were pressing DD2X for payment. It is not disputed but that RMF were entitled to be paid those monies by DD2X .
2.9 In parallel, and on the 16th January, 2009, the evidence establishes that Dr. Micalizzi approached Headstart with a proposal for a so called “repo transaction”. A repo transaction is, in legal form, a sale and repurchase transaction normally involving a financial asset. Under the terms of a typical repo transaction a purchaser agrees to buy the relevant asset at a price significantly below its market value. However, there is a further agreement that it be resold back to the original seller after a pre-defined period and at a pre-defined profit. Assuming all goes well, the seller will have the benefit of the cash price for the agreed period while the purchaser will obtain a profit in the shape of the difference between the sale price and the resale price. The purchaser will, of course, have to meet any transaction costs out of that profit so the difference between the sale and resale price should not be taken as pure profit. In the ordinary way, the purchaser is given comfort in that it owns the relevant asset during the period when it is out of its money. Indeed, given that the asset has been purchased at a fraction of its true value, the ownership of the asset during the relevant period should, in most cases, provide very significant comfort.
2.10 In commercial substances, although not in legal form, the transaction is in reality a loan secured by the transfer of the ownership of an asset worth significantly more than the amount of the loan.
2.11 The proposal originally put to Headstart involved Nexus. The approach was made by Dr. Micalizzi. The connection of Nexus with Dr. Micalizzi is not clear and the subject of some controversy. It was said at the time by Dr. Micalizzi that Nexus was itself an investor in the DD funds. The original proposal was made by email which noted that an unnamed investor in what was described as the DDGP had US$75,000,000.00 worth of investments. It was suggested that that unnamed investor needed a one week repo for US$25,000,000.00. The suggested profit was to be US$1.25M.
2.12 It will be necessary to say something more about the course of dealing between Headstart and Dr. Micalizzi in relation to the repo transaction in due course. However, ultimately the transaction went ahead in part. Headstart indicated that it was not interested in a transaction at US$25,000,000.00 but would be interested at US$5,000,000.00. The text of relevant contractual arrangements was agreed with legal assistance. In substance, the deal appeared to be one in which Headstart would buy part of the holding of Nexus in a DD Fund for US$5,000,000.00. There was to be a gross profit of 7% for two weeks with further amounts in the event of delay or default. The money was to be paid to Nexus.
2.13 However, at the last minute, it was suggested by Dr. Micalizzi that, rather than the purchase price of US$5,000,000.00 being transferred to Nexus, it should be transferred into a UK account held by the Master Fund. This was agreed. The reason given for the suggestion was that Nexus was based in Australia and that the timing differential between Australia and Europe could be alleviated by transferring to an account in the United Kingdom.
2.14 A further difficulty emerged concerning the actual transfer of what was said to be Nexus’ interest in the relevant DD Fund. It was said that rather than that transfer taking place instantaneously, it might be delayed for a day. It subsequently proved impossible for Headstart to obtain any timely registration of Headstart’s interest in the Nexus investment.
2.15 The period of the investment was lengthened by agreement. However, ultimately Headstart became frustrated and suspicious by reason of a combination of factors, not least the difficulty in securing repayment within the period agreed or even the extended period allowed, coupled with the difficulty in securing registration of the ownership of the relevant asset. This latter problem was said, by the company charged with affecting such registration, to be due to a failure on the part of Nexus to have complied with money laundering legislation.
2.16 In any event, Headstart employed a former senior UK policeman, now operating as a private investigator, to look into the matter. In circumstances which it may be necessary to address in due course, that investigator appears to have become aware of a money trail which lies at the heart of this case. The proper characterisation of that money trail is, indeed, one of the issues between the parties. However, it was established in evidence that there were a series of transactions, immediately following the payment from Headstart into the relevant DD account (i.e. the Master Fund account) of the US$5,000,000.00 to which I have referred. All bar the last of those transactions involved payments as and between entities within the DD stable. The final payment was into the RMF account at Citco which payment was in partial discharge of the liability of DD2X to RMF, to which I have already referred.
2.17 Subsequently, funds in that RMF account at Citco were, as I have pointed out, frozen.
2.18 Against that general background it is next necessary to turn to the issues which arise in these proceedings.
3. The Issues
3.1 The case made by Headstart involves a number of propositions. First, it is said that the circumstances leading to the payment by Headstart into the Master Fund account amounted to fraud. It is said that, as a consequence, the Master Fund had only a voidable title to the monies so paid.
3.2 That question gives rise to the first issue in these proceedings. Is it proper to characterise the payment by Headstart of US$5,000,000.00 as conferring only a voidable title on the Master Fund? If the Master Fund obtained full title to the monies, then no question as to the ownership of those funds thereafter could arise. RMF contests Headstart’s claim that it has been established that the Master Fund had a voidable title to the monies.
3.3 The second element of Headstart’s case involves tracing the monies from their initial payment by Headstart until their ultimate payment into the RMF account at Citco. It is said by Headstart that, in accordance with the equitable rules on tracing, it is appropriate to treat the monies passing at each step of the relevant transactions as being the same monies so that, on the basis of that argument, the monies ultimately paid into the Citco account on behalf of RMF are said to be Headstart’s monies. On a variety of grounds RMF contest that suggestion. The second set of issues, therefore, concern whether, on the assumption that the Master Fund only had a voidable title in the relevant monies when same were received by them from Headstart, the equitable doctrine of tracing will treat the monies, as paid over by DD2X to RMF, as being the same monies and subject to the same voidable title.
3.4 The third issue arises out of the circumstances in which the relevant monies came to be paid to RMF. It is common case that RMF were already owed at least US$5,000,000.00 by DD2X. The monies were, therefore, paid in discharge of a lawful and genuine debt. In those circumstances the question arises as to whether RMF should be treated as a bona fide purchaser for value so that RMF would acquire good title to the monies, even if the title of DD2X up to that point was voidable.
3.5 So far as the series of transactions are concerned there are, therefore, three issues. They concern the beginning, middle, and end of the series of transactions.
3.6 In addition, some further points are made on behalf of RMF. First, it is said that it is inappropriate for Headstart to maintain these proceedings without joining some or all of the DD Funds (especially the Master Fund and DD2X) and/or Dr. Micalizzi. The basis for that suggestion stems from the fact that the fraudulent activity is said to be that of those funds acting through Dr. Micalizzi or Dr. Micalizzi personally and that the monies passed through the hands of those funds. There is no doubt that the factual basis for RMF’s suggestion is correct. It will be necessary to address the legal consequences of that situation in due course.
3.7 In addition, RMF make a complaint about the manner in which the investigation report to which I have referred was compiled. It is said that the appropriate inference to draw from the evidence is that the investigator concerned obtained information in breach of the duty of confidence of various banks or others involved in the financial transaction system. In addition, it is said that there was a lack of candour displayed on behalf of Headstart when an order was originally applied for seeking the freezing of the monies in the relevant Citco account. It may be necessary to go into the facts of that issue in more detail and also to deal with any possible legal consequences of such facts as might be found.
3.8 However, it is clear that the starting point for a consideration of the issues must be to determine the question as to whether the original payment by Headstart to the Master Fund only gave DD a voidable title in the relevant property. It should, however, be noted that that issue is closely linked to the question raised by RMF which seeks to place reliance on the fact that Dr. Micalizzi was not joined. I also propose to address that issue in the next section of this judgment. I, therefore, turn to those issues.
4. The Original Headstart Payment
4.1 Leaving aside, for the moment, those issues arising from the non-joinder of Dr. Micalizzi, the evidence given on behalf of Headstart, prima facie, establishes a number of matters.
4.2 First, the various DD Funds were always presented as being highly liquid funds. That was part of their attraction. An investor would be entitled to get its money back in relatively short order should the investor concerned require it. Indeed, evidence given on behalf of RMF confirmed that fact.
4.3 Second, it is clear that, by the latter part of 2008, the DD Funds generally were suffering a significant liquidity problem. Reports of liquidators appointed in the Cayman Islands to the various DD Funds registered there make clear that the funds had suffered significant losses throughout 2008 (doubtless due to the then prevailing international conditions). It seems clear on the evidence that the DD Funds had not admitted those losses to their investors. Indeed, I am satisfied on the evidence that Dr. Micalizzi continued to represent that the funds remained highly liquid during the period in question. Witnesses called on behalf of both Headstart and RMF agreed that, what they were respectively being told in their capacity as investors by Dr. Micalizzi at the relevant time was clearly untruthful. It would appear that, in substance, much of the funds which should have been invested in companies quoted on major stock exchanges, ultimately came to be invested in some form of Russian bond whose status is unclear but whose liquidity was, on any view, highly limited.
4.4 There can be not doubt, therefore, but that at the relevant time, that is to say early 2009, Dr. Micalizzi was knowingly involved in giving a false picture of the then current status of the DD Funds to his investors. Indeed, it is clear that part of the reason why RMF became concerned about its investment was because, in the words of one of its witnesses, it became clear that Dr. Micalizzi was lying to them. That the DD Funds were not, as of early 2009, as they were being held out to be, is manifestly clear. That the representations being made generally about the funds by Dr. Micalizzi were knowingly false is also clear.
4.5 The precise situation in relation to the Nexus repo transaction is not, however, so clear. The precise role of Nexus is shrouded in doubt. A number of possibilities exist. First, it is possible that Nexus was simply a vehicle either controlled by Dr. Micalizzi or, although independently controlled, was happy to work along with Dr. Micalizzi, and in either event was used for the purposes of creating a false repo transaction so as to extract some money from an investor such as Headstart to meet the pressing cash flow demands such as those which were, at the relevant time, being pressed by RMF. On that scenario Nexus, whether independent or controlled by Dr. Micalizzi, was simply a knowing vehicle for a transaction which was entirely false.
4.6 A second possibility is that Nexus was a genuine party who had the cash flow needs identified by Dr. Micalizzi and who bona fide entered into the repo transaction. In that eventuality, it remains the case that representations made by Dr. Micalizzi to Headstart about the transaction were false (and false to Dr. Micalizzi’s knowledge). The representations were false because the ultimate security for the transaction was Nexus’ holding in relevant DD Funds, which in turn depended on the status of those funds being as it appeared. For the reasons I have already set out that was not the case, and it would have been known by Dr. Micalizzi that the representations as to the then current status of relevant DD Funds was false. The question which arises in that context, however, is as to whether the fact that Dr. Micalizzi made representations to Headstart which were false could affect the title of Nexus to any monies properly paid over on foot of the relevant transaction (on the assumption, which underlies this part of the judgment, that Nexus was a genuine and bona fide party).
4.7 A further issue arises as to the circumstances in which the monies due to Nexus by Headstart under the repo transaction came to be paid into a DD account. There are again two possibilities. It would appear that, at some stage, Dr. Micalizzi suggested to Headstart personnel that the true reason for payment in that way was that Nexus owed money to relevant DD Funds so that, even if the monies were, prima facie, due to Nexus, it was appropriate to arrange for them to be paid into a DD account in discharge of that alleged Nexus obligation. That is, therefore, one possibility. On that scenario, the monies were genuinely owed by Headstart to Nexus on foot of the transaction (subject to that transaction being possibly capable of being avoided by virtue of Dr. Micalizzi’s fraudulent misrepresentation), but a similar sum was also owed by Nexus on foot of a commitment to invest in DD Funds which had not been fully met. On that scenario, there would be nothing wrong, in itself, provided Nexus agreed, with the monies being transferred direct to the DD Fund in question. Whether Nexus did agree in such an eventuality is a question upon a question.
4.8 The alternative scenario is, of course, that, even if Nexus was a genuine party, it too was defrauded by Dr. Micalizzi who, on that scenario, fraudulently diverted the monies from the original intention that same be paid direct to Nexus, into a DD account.
4.9 It is against the background of those (and, indeed, other possible) scenarios that it is necessary to consider the evidence and also to consider the affect, if any, of the non-joinder of Dr. Micalizzi.
4.10 So far as the repo transaction itself is concerned, it is the failure to join Dr. Micalizzi that is principally relied on. The failure to join the relevant DD Funds (that is the Master Fund who received the original money from Headstart and DD2X which made the payment into the RMF account at Citco) are concerned more with the second question as to tracing.
4.11 It is said on behalf of RMF that it is inappropriate for Headstart to seek to persuade the court that a fraud was committed on it by Dr. Micalizzi without joining Dr. Micalizzi as a party. A similar suggestion is made in respect of Manager. I am not satisfied that that submission is well founded. Dr. Micalizzi does not appear to have any proprietary right in any of the assets which are the subject of these proceedings. Any finding of fact by the court in proceedings to which Dr. Micalizzi was not a party cannot bind him. He cannot have any legal rights affected by any judgment which the court might give in these proceedings. It is, of course, the case that the courts are reluctant to allow unnecessary evidence, which may cause reputational damage to parties not before the court, to be given. However, in some proceedings such evidence may be necessary. A party should not be required to be joined simply because accusations about that party are to be made where no relief is being sought, either against that party or in relation to matters which would affect the legal rights of that party. The situation might well be otherwise were the reliefs claimed capable of affecting the legal interests of such a party. That seems to follow from the judgment of Lynch J. in Tassin Din v. Ansbacher & Co (Unreported, High Court, Lynch J., 20th April, 1987).
4.12 That being said it does not, of course, follow that the absence of Dr. Micalizzi from the proceedings may not have an effect on the evidence. For example, had Dr. Micalizzi been joined (and had he participated) it might be that greater clarity could have been brought to the precise circumstances in which Nexus became involved. However, it is illustrative to note that the joinder of Nexus did not bring any such clarity.
4.13 In my view it is necessary for the court, as in all cases, to reach such conclusions as to the facts as it can on the admissible evidence presented and having regard to the onus of proof. In my view the evidence supports the fact that, on the balance of probabilities, Dr. Micalizzi was suffering a significant cash flow problem in the early part of 2009. Indeed, the very fact that RMF had lost confidence in him and were pressing for payment of monies already due supports that conclusion. In my view it is unnecessary on this point to determine whether Nexus was a willing party to a scheme on the part of Dr. Micalizzi to improve his cash flow by putting in place a repo transaction, or whether Nexus themselves were duped as part of such a transaction. In either event, the transaction as a whole was put in place by Dr. Micalizzi as part of a fraudulent scheme to obtain US€5,000,000.00 from Headstart so to enable DD2X to pay off some of its obligations. I have come to that view for a number of reasons.
4.14 First, all of the evidence (including evidence from RMF) suggests that Dr. Micalizzi was lying about the status of the DD Funds generally at the relevant time. Dr. Micalizzi was under significant pressure to pay debts from the funds and same conflicting explanations at different times. In addition, I am satisfied on the evidence that Dr. Micalizzi was the driving force behind all of the arrangements put in place. All of the evidence points to substantive dealings with the funds being principally with and to Dr. Micalizzi. It seems clear that both RMF and Headstart treated any high level dealings with the funds as being dealings which they were likely to have with Dr. Micalizzi personally. It is, however, true to note that the signatories on a number of the relevant transactions were persons other than Dr. Micalizzi.
4.15 In that context it is proper to have regard to the decision of the Supreme Court in Salthill Properties Limited v. Porteridge Trading Limited [2006] IESC 35. It is clear from the judgment of McCracken J. in that case that a court is entitled to impute to a company, the knowledge of a person who exercises a reasonable degree of control over the affairs of the company, even though the person concerned may not actually be formally a director. While Salthill specifically turned on the onus of proof in such cases, it is clear from the judgment of McCracken J. that, had the defendant company in that case discharged a prima facie onus of proof on it, it would have been open to the plaintiff the satisfy the court by evidence that the closeness of the relationship between the principal of the defendant company (who was not a director) and the extent of control which he exercised over its affairs, was such as would entitle the court to impute to the company any knowledge which that principal might have.
4.16 Likewise, it seems to me that it is open in principle to Headstart in this case to seek to impute to any of the funds any knowledge which Dr. Micalizzi might have, for it is clear on the evidence that there was a very close relationship between Dr. Micalizzi and each of the funds such that Dr. Micalizzi appeared to be able to speak for the funds in dealings with third parties such as both Headstart and RMF. Indeed, RMF’s dissatisfaction with the funds was attributed the fact that Dr. Micalizzi was, in the view of RMF, lying to them.
4.17 I am, therefore, satisfied that the money paid by Headstart into the Master Fund account, as the initial part of the series of relevant transactions, was part of a fraudulent scheme on the part of Dr. Micalizzi to procure monies from Headstart for the purposes of satisfying urgent cash flow demands. Whether the Master Fund can be fixed with the consequences of that fact is the next question that arises.
4.18 It is also necessary to consider the fallback argument made on behalf of Headstart which relied on the fact that the transaction with Nexus was procured by a fraudulent misrepresentation on the part of Dr. Micalizzi concerning the current status of the DD Funds. It is clear that Dr. Micalizzi did falsely represent the then status of the funds. Rather than being in good order and highly liquid the funds had lost very substantial sums of money and were heavily invested in a highly illiquid Russian bond. As the repo transaction itself related to a sale and repurchase of an interest in the funds, then representations concerning the status of the funds was necessarily highly material. I accept Headstart’s evidence that it would not have contemplated entering into the repo transaction had it not been for the representations as to the status of the fund. That those representations were false to Dr. Micalizzi’s knowlege is also clear. There is, however, a question as to whether Dr. Micalizzi can be said to have been acting as an agent on behalf of Nexus in the transaction. Clearly if it were the case that Nexus was either a vehicle for Dr. Micalizzi or a willing partner in a plan by Dr. Micalizzi to solve his cash flow problems, then it would undoubtedly be appropriate to characterise Dr. Micalizzi as an agent of Nexus such that Nexus would be fixed with the consequences of the undoubted fraudulent representations made by Dr. Micalizzi on the occasion in question. If, on the other hand, Nexus was itself duped by Dr. Micalizzi, then a more difficult question might arise as to whether Nexus could be said to have to bear responsibility for Dr. Micalizzi’s fraudulent misrepresentation. I am not satisfied that it has been established on the balance of probabilities that Nexus was aware of the fraudulent intent of Dr. Micalizzi. It may have been. It is simply that I am not satisfied that there is sufficient evidence to allow such a conclusion to be reached.
4.19 It is next necessary to turn to the consequences of the finding that Dr. Micalizzi was guilty of fraud. In that context, I turn to the issue concerning the non-joinder of the Master Fund and DD2X.
4.20 Before dealing with the question of whether the relevant funds can be traced through the various accounts of different DD Funds prior to their ultimate transmission to the RMF account at Citco, it is necessary to deal with the fact that none of the relevant DD Funds were parties to these proceedings. As pointed out earlier in the context of the non-joinder of Dr. Micalizzi, different considerations may apply where a judgment of the court can have an effect on the actual legal rights and liabilities of parties who are not joined. It seems to me that a judgment in these proceedings in favour of Headstart has a real potential to have an affect on the entitlements of the various DD Funds. It must be recalled that the DD Funds are now undergoing an insolvency procedure in the Cayman Islands. In truth, the entitlements of the DD Funds are now the entitlements of their creditors which, of course, include both Headstart and RMF but also other parties. A finding by this Court along the lines urged on behalf of Headstart has, in my view, at least a potential to affect the rights of those funds and through them their creditors. The question which arises is as to whether it would, therefore, be appropriate to make any such order without giving those currently in charge of the funds (presumably the liquidators) an opportunity to be heard. In my view it would not. While I have, in the previous section, expressed the view that, on the evidence before me, Headstart had established that the arrangements entered into by Dr. Micalizzi were part of a fraudulent scheme on his part in respect of which knowledge might be imputed to the relevant DD Funds, it seems to me that any consequences of such a finding which could affect the proprietorial or property interests of the DD Funds cannot be made without giving the relevant DD Funds an opportunity to be heard.
4.21 It certainly cannot be ruled out that a finding in favour of Headstart in this case could affect the entitlements of various DD Funds or their creditors. As pointed out on behalf of RMF, the liquidators of the funds have indicated that they may seek to reverse transactions entered into by the funds in the period prior to the funds going into liquidation. Without giving the funds an opportunity to be heard in these proceedings, it is possible that there could be unintended consequences for the ability of the liquidators to give effect to remedies to which they might otherwise be entitled with adverse consequences. Thus, the property or proprietorial interests of the funds have the potential to be affected by any judgment which I might deliver in this case. In those circumstances it does not seem to me that it would be appropriate to form a view as to whether the title acquired by any of the DD Funds is capable of being challenged without giving the current representatives of those funds (i.e. the liquidators) an opportunity to be heard. As currently constituted I am not, therefore, satisfied that it is open to me to make the findings urged on behalf of Headstart.
5. Conclusions
5.1 In the light of that finding, it seems to me that I should afford the parties an opportunity to consider this judgment and to make submissions as to what the consequences should be.
5.2 When the parties have had an opportunity so to do, I will arrange to have the matter re-listed to enable further consideration to be given.
S.I. No. 624/2010 –
European Communities (Settlement Finality) Regulations 2010.
ARRANGEMENT OF REGULATIONS
I, BRIAN LENIHAN, Minister for Finance, in exercise of the powers conferred on me by section 3 of the European Communities Act 1972 (No. 27 of 1972), and for the purpose of giving effect to Directive 98/26/EC of the European Parliament and of the Council of 19 May 19981 (as amended by Directive 2009/44/EC of the European Parliament and of the Council of 6 May 20092 ), hereby make the following Regulations:
Citation, commencement and application
1. (1) These Regulations may be cited as the European Communities (Settlement Finality) Regulations 2010.
(2) These Regulations come into operation on 30 June 2011.
(3) These Regulations apply to—
(a) designated systems that are subject to the law of the State (regardless of the currency or currencies in which such systems operate),
(b) participants in systems referred to in subparagraph (a), and
(c) collateral security provided in connection with participation in such a system, or operations of a central bank in the context of its function as a central bank.
Interpretation
2. (1) In these Regulations
“Bank” means the Central Bank of Ireland;
“business day” for a designated system has the meaning given to it in the rules of that system and, for the avoidance of doubt, covers both day and night-time settlements in that system and includes all events happening during a business cycle of that system;
“central bank” means the European Central Bank or a central bank of a Member State;
“collateral security” means a realisable asset of any kind (including, without limitation, financial collateral referred to in Article 1(4)(a) of Directive 2002/47/EC of the European Parliament and of the Council of 6 June 20023 ) provided under a pledge, a repurchase or similar agreement, or otherwise, for the purpose of securing rights and obligations that may arise in connection with a designated system, or provided to a central bank, and includes money provided under a pledge for that purpose;
“commencement of proceedings” has the meaning given by Regulation 3;
“Court” means the High Court;
“credit institution” means a credit institution (within the meaning of Article 4(1) of Directive 2006/48/EC of the European Parliament and of the Council of 14 June 20064 ), and includes the institutions listed in Article 2 of that Directive;
“default arrangements” means the arrangements established by the operator of a designated system to limit systemic and other types of risks that may arise when a participant is apparently unable, or is apparently likely to become unable, to meet its obligations in respect of a transfer order, and includes
(a) rules that enable action to be taken in respect of unperformed contracts to which the participant is party,
(b) arrangements for netting,
(c) arrangements for the closing-out of open positions, and
(d) arrangements for the application or transfer of collateral security;
“designated system” means a system that has been designated by the Minister, and notified to the European Commission, under Regulation 4, and includes a system referred to in Regulation 16, but does not include a formal arrangement entered into between interoperable systems;
“indirect participant” means an institution, a central counterparty, a settlement agent, a clearing house or a system operator with a contractual relationship with a participant in a designated system which enables the indirect participant to pass transfer orders through the designated system, provided that the indirect participant is known to the system operator;
“insolvency proceedings”—
(a) if under the law of the State and in relation to a body corporate, means—
(i) proceedings for the appointment of an examiner in respect of the body, or
(ii) proceedings for the compulsory winding up of the body, or
(iii) a voluntary winding up (either creditors’ or members’) of the body, or
(iv) proceedings for the appointment of an administrator in respect of the body, or
(b) if under the law of the State and in relation to a natural person, means—
(i) proceedings under which the person is or may be adjudicated bankrupt, or
(ii) if the person has died insolvent, proceedings for the administration in bankruptcy of the person’s estate, or
(iii) proceedings with the objective of the protection by a court of the person and the person’s property from any action or other process, or
(c) if under the law of a Member State other than the State, or a third country, means any collective measure provided for in the law of that Member State or third country to wind up or reorganise a person if the measure involves suspending or imposing limitations on relevant transfers or payments;
“institution” means a credit institution, investment firm, public authority or publicly guaranteed undertaking, or an undertaking whose head office is outside the European Union;
“interoperable systems” means 2 or more systems whose system operators have entered into an arrangement with one another that involves cross-system execution of transfer orders;
“investment firm” means an investment firm as defined in Article 4(1)(1) of Directive 2004/39/EC of the European Parliament and of the Council of 21 April 20045 , but does not include the institutions set out in Article 2(1) of that Directive;
“Member State” means each Member State of the European Union and Iceland, Norway and Liechtenstein;
“Minister” means the Minister for Finance;
“netting” means the conversion into one net claim or one net obligation of claims and obligations resulting from transfer orders within a designated system;
“participant” means—
(a) an institution, a central counterparty, a settlement agent, a clearing house, or a system operator that is a participant in a designated system, or
(b) a person that is treated by the Bank, in accordance with Regulation 5(1), as a participant in a designated system;
“securities” means instruments of the kinds listed in section C of Annex I to Directive 2004/39/EC of the European Parliament and of the Council of 21 April 20045;
“settlement agent”, in relation to a designated system, means a person who provides settlement accounts through which transfer orders are settled (whether or not the person extends credit to participants for settlement purposes);
“settlement account” means an account at the Bank, a central bank, a settlement agent or a central counterparty used to hold funds or securities and to settle transactions between participants in a designated system;
“Settlement Finality Directive” means Directive 98/26/EC of the European Parliament and of the Council of 19 May 19981;
“system” means a formal arrangement—
(a) between 3 or more participants (other than the operator of the system, any settlement agent, any central counterparty, any clearing house or any indirect participant),
(b) with common rules and standardised arrangements for the clearing (whether or not through a central counterparty) or execution of transfer orders between the participants,
(c) governed by the law of a Member State chosen by the participants (being a Member State in which at least one of those participants has its head office),
that has been designated and notified to the European Commission for the purposes of the Settlement Finality Directive;
“system operator” means the entity or entities legally responsible for the operation of a system;
“third country” means a country that is not a Member State, and includes a state, province, region or dependent territory of such a country;
“transfer order” means
(a) an instruction by a participant to place an amount of money at the disposal of a recipient by means of a book entry on the accounts of a credit institution, a central bank, a central counterparty or a settlement agent,
(b) an instruction that results in the assumption or discharge of a payment obligation as defined by the rules of a designated system, or
(c) an instruction by a participant to transfer the title to, or an interest in, a security or securities by means of a book entry on a register or by any other means.
(2) A word or expression used in these Regulations and also in the Settlement Finality Directive has, in these Regulations, unless the contrary intention appears in these Regulations, the same meaning as it has in that Directive.
(3) Nothing in these Regulations prevents a participant from acting as, or carrying out the functions of, a central counterparty, a settlement agent or a clearing house.
(4) Nothing in these Regulations prevents a system operator from acting as a settlement agent, central counterparty or clearing house.
References to commencement of insolvency proceedings
3. (1) For the purposes of these Regulations references to the commencement of insolvency proceedings shall be construed in accordance with this Regulation.
(2)“Commencement” of insolvency proceedings under the law of the State in relation to a body corporate means—
(a) the making by the Court of an order for the appointment of an examiner in respect of the body, or
(b) the making by the Court of an order for the winding up of the body, or
(c) the passing by the members of the body of a resolution for the voluntary winding up (whether creditors’ or members’) of the body.
(3)“Commencement” of insolvency proceedings under the law of the State in relation to a natural person means—
(a) the making of an order of the Court adjudicating the person bankrupt, or
(b) if the person dies insolvent, the making by the Court of an order for the administration in bankruptcy of the person’s estate, or
(c) the making by the Court of an order providing for the protection of the person and the person’s property under an arrangement controlled by the Court.
(4)“Commencement” of insolvency proceedings under the law of a Member State (other than the State) or a third country (whether in relation to a body corporate or a natural person) means the opening (within the meaning given by Article 6 of the Settlement Finality Directive) of insolvency proceedings against the body or person.
Designation of designated systems, etc
4. (1) The Minister may designate a system as a designated system if—
(a) he or she is satisfied that the rules of the system comply with Regulation 7, and
(b) the system is governed by the law of the State.
(2) If the Minister designates a system he or she—
(a) shall so notify the European Commission, and
(b) shall notify the European Commission of the system operator.
Bank may decide that person should be treated as participant in designated system
5. (1) Subject to paragraph (2), the Bank may decide
(a) that a person that participates in a designated system and is responsible for discharging financial obligations arising from transfer orders made through the system is to be treated as a participant, or
(b) that persons belonging to a class of persons that participate in a designated system and are responsible for discharging financial obligations arising from transfer orders made through the designated system are to be treated as participants.
(2) The Bank may decide to treat a person as a participant, or persons belonging to a class of persons as participants, under paragraph (1) only if
(a) the Bank considers that the treatment is justified on the grounds of systemic risk, and
(b) the designated system is one—
(i) in which at least 3 participants (other than a person to be treated as a participant because of that decision) participate, and
(ii) through which transfer orders of the kind referred to in paragraph (c) of the definition of “transfer order” are made.
(3) If the Bank decides to treat a person as a participant, or to treat persons belonging to a class of persons as participants, in a designated system in accordance with paragraph (1), it shall give written notice of its decision to the operator of the system.
(4) An indirect participant shall be taken to be a participant in a designated system only if so doing is justified on the grounds of systemic risk.
(5) An indirect participant’s being taken to be a participant in a designated system under paragraph (4) does not limit the responsibility of the participant through which the indirect participant passes transfer orders to the designated system.
Transfer order and netting to be binding despite insolvency proceedings
6. (1) A transfer order that has entered a designated system is legally enforceable and binding on participants and third parties even if insolvency proceedings against a participant are commenced if (but only if) the transfer order entered the system before the commencement of the proceedings.
(2) Netting is legally enforceable and binding on participants and third parties even if insolvency proceedings against a participant are commenced if (but only if) the transfer orders to which the netting relates were entered into the system before the commencement of the proceedings.
(3) Paragraphs (1) and (2) have effect even in the case of insolvency proceedings against a participant in an interoperable system or against the system operator of an interoperable system which is not a participant.
(4) If
(a) a transfer order entered a designated system after the commencement of insolvency proceedings against a participant in the system, and
(b) the order is executed on the business day (as defined by the rules of the designated system) on which those insolvency proceedings commenced,
the order is legally enforceable and binding only if the system operator can prove that, at the time that the transfer order became irrevocable, it did not know, and had no reason to know, that those proceedings had commenced.
(5) No law, regulation, rule or practice on the setting aside of contracts and transactions entered into before the commencement of insolvency proceedings against a participant in a designated system has the effect of unwinding a netting.
Requirements for rules of designated systems and interoperable systems
7. (1) The rules of a designated system shall
(a) specify the moment at which a transfer order is to be considered to have been entered into the system,
(b) specify the moment after which a transfer order may not be revoked by a participant or any third party, and
(c) prohibit the revocation by a participant or any third party of a transfer order from the moment specified in accordance with paragraph (b).
(2) In the case of interoperable systems, the rules of each system shall specify the moment of entry into that system in such a way as to ensure, as far as possible, that the rules of all the interoperable systems are coordinated in this regard. Unless expressly provided for by the rules of all the interoperable systems concerned, each system’s rules on the moment of entry are not affected by the rules of any other system with which it is interoperable.
(3) In the case of interoperable systems, the rules of each system shall specify the moment of irrevocability from that system in such a way as to ensure, so far as possible, that the rules of all the interoperable systems are coordinated in this regard. Unless expressly provided for by the rules of all the interoperable systems concerned, each system’s rules on the moment of irrevocability are not affected by the rules of any other system with which it is interoperable.
Certain matters to be notified to Bank
8. (1) The Bank is the appropriate authority in the State for the purposes of Article 6.2 of the Directive.
(2) Where a participant in a designated system is a body corporate, the Court shall notify the Bank immediately after making an order for
(a) the appointment of an examiner in respect of the participant, or
(b) the compulsory winding-up of the participant.
(3) Where a participant in a designated system is not a body corporate, the Court shall notify the Bank immediately after making an order
(a) adjudicating the participant bankrupt,
(b) if the participant has died insolvent, for the administration in bankruptcy of the participant’s estate, or
(c) for an arrangement under the control of the Court that involves the protection, by court order, of the participant’s person and property from any action or other process.
(4) Where a participant in a designated system is a body corporate, if the participant becomes subject to a creditors’ or members’ voluntary winding-up, the participant shall notify the Bank immediately after the members have passed a resolution for that winding up.
(5) Immediately after receiving a notification under any of paragraphs (1) to (4), the Bank shall notify the appropriate authorities in the other Member States of the order or the passing of the resolution.
State law relating to insolvency or insolvency proceedings not to affect certain rights and obligations
9. (1) No law of the State relating to insolvency or insolvency proceedings invalidates or otherwise affects
(a) the rights and obligations of a participant arising from participation in a designated system before the commencement of insolvency proceedings against the participant,
(b) a transfer order or a disposition of property made under such an order,
(c) the default arrangements of a designated system, or an action taken under those arrangements, or
(d) the rules of a designated system as to the settlement of transfer orders not dealt with under the system’s default arrangements,
(e) the provision of collateral security,
(f) a contract, scheme or arrangement that provides for realising, or any action taken to realise, collateral security in connection with
(i) participation in a designated system otherwise than under its default arrangements, or
(ii) the operations of a central bank,
or
(g) any disposition of property as result of a contract, scheme or arrangement, or an action, referred to in subparagraph (f).
(2) The powers of a liquidator, provisional liquidator or examiner, the Official Assignee, or a trustee in bankruptcy or other insolvency official appointed under a law of the State, and the powers of a court under a law of the State relating to insolvency or insolvency proceedings, may not be exercised so as to prevent or interfere with
(a) the settlement, in accordance with the rules of a designated system, of a transfer order not dealt with under the system’s default arrangements,
(b) action taken under a designated system’s default arrangements, or
(c) action taken to realise collateral security in connection with
(i) participation in a designated system otherwise than under the system’s default arrangements, or
(ii) the operations of a central bank.
(3) Paragraph (2) also applies as regards the rights and obligations of—
(a) a participant in an interoperable system, or
(b) a system operator of an interoperable system which is not a participant.
(4) Insolvency proceedings shall not have retroactive effects on the rights and obligations of a participant arising from, or in connection with, its participation in a system before the moment of opening of such proceedings.
(5) Paragraph (4) also applies as regards the rights and obligations of a participant in an interoperable system, or of a system operator of an interoperable system which is not a participant.
Certain questions to be determined in accordance with foreign law
10. (1) Subject to Regulation 9, if insolvency proceedings are commenced against a person who participates, or has participated, in a system designated for the purposes of the Settlement Finality Directive, any question that
(a) relates to the rights and obligations arising from, or in connection with, that participation, and
(b) falls to be determined by a court in the State,
is to be decided in accordance with the law governing the system.
(2) If an equivalent overseas order is subject to the insolvency law of the State, these Regulations apply to and in relation to that order in the same way as they apply to and in relation to a transfer order.
(3) If an equivalent overseas security is subject to the insolvency law of the State, these Regulations apply to and in relation to that security in the same way as they apply to and in relation to a collateral security connected with a designated system.
(4) In this Regulation—
“equivalent overseas order” means an order that has the equivalent effect as a transfer order made through a system designated by a Member State (other than the State) for the purposes of the Settlement Finality Directive;
“equivalent overseas security” means any realisable asset (including money) that is provided under a pledge, repurchase or similar agreement for the purpose of securing rights and obligations potentially arising in connection with a system through which equivalent overseas orders are made.
Insolvency proceedings not to affect certain rights
11. (1) Notwithstanding the provisions of any other enactment, the rights of—
(a) a system operator or a participant to collateral security provided to it in connection with a system or any interoperable system, and
(b) a central bank to collateral security provided to it,
to realise those rights are not affected by insolvency proceedings against—
(i) the participant (whether in the system concerned or in an interoperable system),
(ii) the system operator of an interoperable system which is not a participant,
(iii) the counterparty to a central bank, or
(iv) any third party which provided the collateral security.
(2) Collateral security referred to in paragraph (1) may be realised for the satisfaction of rights referred to in that paragraph.
(3) If—
(a) securities are provided as collateral security to any one or more of a participant, a system operator or a central bank, and
(b) the right of the participant, system operator or central bank with respect to the securities is legally recorded in a register, account or centralised deposit system located in a Member State,
the law of that Member State governs the determination of the rights of the participant or central bank as a holder of collateral security in relation to those securities.
(4) Without prejudice to the generality of paragraphs (1) and (3) and for the avoidance of doubt, a claim of a participant or a central bank to collateral security referred to in this Regulation has, and shall be taken always to have had, priority over any claim of any other person to that collateral security including, without limitation, in an insolvency proceeding and including, without limitation, any claim—
(a) for costs, charges and expenses referred to in sections 244 and 281 of the Companies Act 1963 (No. 33 of 1963),
(b) for remuneration, costs, expenses and liabilities referred to in section 29 of the Companies (Amendment) Act 1990 (No. 27 of 1990),
(c) for debts referred to in section 285(2) of the Companies Act 1963 , and
(d) of the Revenue Commissioners pursuant to section 571, 1001 or 1002 of the Taxes Consolidation Act 1997 (No. 39 of 1997),
unless, in respect of any such claim of another person, the terms on which the collateral security was provided expressly provide that that claim is to have priority to the claim of the participant or the central bank, as the case may be.
(5) In this Regulation—
“central bank” includes a nominee, agent or third party acting on behalf of a central bank;
“participant” includes a nominee, agent or third party acting on behalf of a participant;
“system operator” includes a nominee, agent or third party acting on behalf of a system operator;
“securities” includes rights in securities.
Operators to notify Bank of participation in system
12. The operator of a designated system shall, on designation of the system, notify the Bank of the participants in the system, including any possible indirect participants, and shall immediately notify it of any change of participants in the system.
Institutions to provide information to certain persons about designated systems
13. An institution shall, on being requested to do so by a person who claims to have a legitimate interest in the designated systems in which the institution is a participant, provide the person with information about the main rules governing the functioning of that system.
Commencement of insolvency proceedings against participant not to prevent certain funds, etc., from being used to fulfil obligations
14. (1) The commencement of insolvency proceedings against a participant or a system operator of an interoperable system does not prevent funds or securities available on the settlement account of that participant from being used to fulfil that participant’s obligations in the system or in an interoperable system on the business day of the opening of the insolvency proceedings.
(2) In the case referred to in paragraph (1), the participant’s credit facility connected to the system may be used against available, existing collateral security to fulfil the participant’s obligations in the system or in an interoperable system.
Revocation of European Communities (Settlement Finality) Regulations 2008
15. The European Communities (Settlement Finality) Regulations 2008 ( S.I. No. 88 of 2008 ) are revoked.
Transitional arrangements
16. (1) A system shall be taken to be a designated system for the purposes of these Regulations if—
(a) the Minister had, before the commencement of these Regulations, designated the system as a relevant system within the meaning of the European Communities (Settlement Finality) Regulations 2008 ( S.I. No. 88 of 2008 ), and
(b) that designation had not been revoked before that commencement.
(2) A transfer order which entered a system referred to in paragraph (1) before the commencement of these Regulations but is settled after that commencement shall be taken to be a transfer order for the purposes of these Regulations.
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GIVEN under my Official Seal,
21 December 2010.
BRIAN LENIHAN,
Minister for Finance.
EXPLANATORY NOTE
(This note is not part of the Instrument and does not purport to be a legal interpretation.)
This Statutory Instrument transposes the mandatory provisions of Directive 98/26/EC of the European Parliament and of the Council of 19 May 1998 on settlement finality in payment and securities settlement systems. The Statutory Instrument also includes necessary revisions required by Directive 2009/44/EC of the European Parliament and of the Council of 6May 2009 amending Directive 98/26/EC on settlement finality in payment and securities settlement systems and Directive 2002/47/EC on financial collateral arrangements as regards linked systems and credit claims, specifically in relation to the treatment of night-time settlement and the development of links between settlement systems. The amendments are designed to ensure that the protections offered by the Directive remain adequate in light of market changes.
The primary aim of Directive 98/26/EC is to reduce the legal risks associated with participation in settlement systems, in particular as regards the legality of netting agreements and the enforceability of collateral security.
The Directive’s provisions apply to any European Community payment or securities settlements system operating in any currency or the euro, any European Community institution that participates in such a system, collateral security provided in connection with participation in such a system, and collateral security provided in connection with monetary policy operations. The Directive provides protections against systemic problems arising in the event of an institution not being able to make payments.
European Communities (Financial Collateral Arrangements) Regulations 2010
Definitions
Application of these Regulations
Formal requirements with respect to financial collateral arrangements and provision of financial collateral
Parts 2, 3 and 4 not to limit certain other State laws
Financial collateral arrangement to have effect despite winding-up proceedings or reorganisation measures
Right of collateral taker to use financial collateral if arrangement so provides
Use of financial collateral by collateral taker not to render rights of collateral taker invalid or unenforceable
Part 4 Title transfer financial collateral arrangements
Recognition of title transfer financial collateral arrangements
Recognition of close-out netting provisions
Part 5 Disapplication of certain insolvency provisions