Can a lender be subrogated to reverse the effect of unjust enrichment where the lender did not advance funds, but released security instead? Previously there had been no authority on this question, but in this Supreme Court case in which Matthew Arnold & Baldwin LLP acted for the successful Respondent, Bank of Cyprus (UK) Limited (“the Bank”), on 4 November 2015, the court decided that the lender was entitled to the remedy of subrogation to reverse the unjust enrichment.
The Facts
In 2008, Parris and Donna Menelaou (“Mr and Mrs Menelaou”) were indebted to the Bank in the sum of £2,200,000 which was secured by way of two legal charges on the family property, Rush Green Hall. Mr and Mrs Menelaou wished to sell Rush Green Hall in order to purchase a smaller property as the family home as well as to provide funds to allow their eldest daughter, Danielle, to obtain a deposit on a house which she was buying with her future husband. A purchaser for Rush Green Hall had agreed to pay £1,900,000, but this amount was inadequate to discharge Mr and Mrs Menelaou’s indebtedness to the Bank.
On 9 September 2008, the Bank agreed to release its charges over Rush Green Hall provided that on completion, £750,000 of its indebtedness was repaid and that it was granted a new charge over the new family property – Great Oak Court. Great Oak Court was to be purchased in the name of their 18 year old daughter, Melissa. On 10 September 2008 Boulters Solicitors provided the Bank with a Certificate of Title in the standard form in which they undertook to use the mortgage advance “to obtain in the form required by the Bank the execution by a mortgage by Melissa over Great Oak Court”. The legal executive at Boulters, Paul Cacciatore was Mr Menelaou’s brother-in-law. Subsequently, it transpired that the signature on the charge over Great Oak Court was not Melissa’s or was otherwise defective. Consequently the legal charge was void.
The proceedings
Melissa brought proceedings seeking rectification of the register to remove the Bank’s charge. By way of counterclaim, the Bank sought a declaration that it was entitled to an equitable charge arising as a result of subrogation to an unpaid vendor’s lien over Great Oak Court. Boulters and the Bank entered into an agreement that in failing to obtain an enforceable charge Boulters was liable to the Bank for the loss it had suffered;
the invalidity of the charge was common ground.
The first instance decision
At first instance, the Judge, whilst accepting that Melissa had been enriched and that her enrichment was unjust, rejected the Bank’s counterclaim on the basis that the Bank did not provide or advance the monies used to pay for Great Oak Court.
The Judge at first instance held that although Melissa was enriched when her purchase of Great Oak Court completed, at that stage, the Bank had not yet provided the relevant forms permitting its charges over Rush Green Hall to be removed. Those forms were provided post-completion, and the charges were removed post completion. As Melissa had been enriched before the Bank had released its charges, her enrichment could not be said to have been at the Bank’s expense.
The Court of Appeal reasoning
On appeal, Floyd LJ explained that the unusual feature of the present case was that the Bank agreed to release its security rather than advancing a specific sum. There was no previous case in which a lender had been entitled to a remedy of subrogation when that lender had not specifically advanced funds. Aware, however, that the Bank was the provider of the money used to discharge the debt enabling the new property to be purchased, the Court of Appeal recognised that, as a matter of economic reality, the Bank was the source of the monies used. Accordingly there was no reason in principle or justice why the Bank should not be entitled to the remedy of subrogation and so was entitled to the declaration sought. Melissa appealed that decision.
The Supreme Court
The Supreme Court considered whether there was an unjust enrichment and if so, whether the Bank was entitled to the equitable remedy of subrogation.
• The critical question was whether Melissa was enriched at the expense of the Bank and the answer to that question was plainly yes. The two arrangements, namely the sale of Rush Green Hall and the purchase of Great Oak Court were not separate, but part of one scheme which involved the Bank throughout. The submission that there must be a direct payment by the Bank to Melissa was rejected. Such a requirement would be too rigid. The main question in each case was whether there was a sufficient cause or connection.
• Lord Neuberger referred to the case of Abbey National Building Society v Cann [1991] 1 AC 56 where it was held that the acquisition of the legal estate and the charge are not only precisely simultaneous but indissolubly bound together. The reality was that the purchaser of land who relies upon a building society or bank loan for the completion of his purchase never in fact acquires anything but an equity of redemption, for the land is from the very inception charged with the amount of the loan without which it could never have been transferred at all. It was appropriate not merely to consider the purchase of and the charge over as a single composite transaction, buy to treat the sale of Rush Green Hall and the purchase of Great Oak Court as one scheme.
• In addition there was no special reason precluding the conclusion that the Bank had a valid claim in unjust enrichment against Melissa. The fact that she did not know about the circumstances which caused her enrichment to be unjust did not alter the fact that she was unjustly enriched; nor did it alter the extent of her unjust enrichment.
• It was also argued that the Bank should have no right to claim unjust enrichment against Melissa as it had a cast iron case for recovering all of its losses from the solicitors. The solicitors’ liability, however, in no way impinged on the question whether and to what extent Melissa was unjustly enriched at the expense of the Bank.
• Standing back, the Court could see that any fair minded person would say that, as a matter of fairness and common sense, by acquiring the freehold free from any charge Melissa was unjustly enriched at the expense of the Bank albeit not because of any fault of hers.
• The next step to consider was whether the Bank’s claim in unjust enrichment could be subrogated to a vendor’s lien. As both the Court of Appeal and the Supreme Court recognised, this is not a concept which is particularly straightforward to understand. What the Bank sought was to be placed in a position equivalent to that of the vendor of Great Oak Court at the point where the purchase money had not been paid. At that point if the money had not been paid, the vendor would have been able to refuse to convey the title of Great Oak Court. A third party who provides some or all of the purchase money for a purchaser thereby discharging the obligation to the vendor can claim the benefit of that unpaid vendor’s lien.
• The Court held that the Bank was entitled to a lien on the property, which is in principle an equitable interest which can be enforced by sale. Lord Neuberger held that it was hard to identify a more appropriate remedy for the Bank. It would give the Bank a lien instead of a formal charge and it would be for £875,000 plus interest rather than the larger debt, which was well over £1 million at the time of the purchase of the freehold.
• The Bank had a claim in unjust enrichment against Melissa arising out of her acquisition of the freehold; subrogation is a remedy which can be accorded to reverse unjust enrichment; the lien arose out of the transaction giving rise to the acquisition and the lien was a right to which it was legally possible to subrogate.
• As Lord Neuberger noted, it was worth mentioning that Melissa’s case represented a triumph of form over substance or pure formalism. If Melissa’s case on this appeal was right, the fact that the Bank agreed that £875,000 could be retained by the solicitors to purchase Great Oak Court would mean that a small impractical change of no apparent commercial significance would result in a substantially different commercial outcome.
• Lord Carnworth also dismissed Melissa’s appeal, but on the ground that the proprietary restitutionary remedy was justified by principles of tracing. Here there was a clear tracing link as the money had been used to purchase Great Oak Court. The Bank’s interest in the purchase money was clear and direct.
Comment
Although it was clear that Melissa had been enriched and that her enrichment was unjust, the difficulty the court at first instance had was that no funds had been advanced to enable the purchase of Great Oak Court – the Bank released security instead. No other reported cases previous to this have had to grapple with this issue.
However, here the Supreme Court held that the sale of Rush Green Hall and the purchase of Great Oak Court were not separate, but part of one scheme which involved the Bank throughout. The main question in each case will be whether there was a sufficient cause or connection between the two transactions.
The Supreme Court decision has recognised that the Bank’s agreement to release security (and the subsequent release of that security pursuant to the agreement) was sufficient to enable it to be entitled to reverse the unjust enrichment. Were it not for the Bank’s agreement to release its security, the transaction could not have gone ahead. To regard the transactions as two separate transactions would have been mere formalism and not a true representation of the overall transaction.
Accordingly, for cases in the future, where a lender has released security rather than advancing funds, in circumstances where the lender is entitled to rely on the vendor’s lien (subject to any other defences that the borrower may be entitled to maintain) it will be possible to subrogate that lien.
This is a sensible decision. It ensures that where a lender agrees to release its security to enable a borrower to purchase property, if the new charge is invalid, for whatever reason, then the lender will, quite rightly, be entitled to be subrogated to a lien. This means that that the lender will be protected and the owner is not unjustly enriched.
