Mishcon de Reya – What does it mean for Bridging Lenders? – Jonathan Newman.
Dreamvar (UK) Ltd v Mishcon de Reya & Others has created quite a stir.
The headlines present a well-known, long established city practice as being financially responsible for losses suffered by their client defrauded when a property purchase failed, and the purchase monies were siphoned off to a mysterious bank account in China.
Behind the sensationalist headline, is the legal story.
The Court held that in law, Mishcons had not been negligent. And that the Sellers solicitors who had in fact, not been acting for the true owner, but an imposter, and who had palpably failed to obtain sufficient identity evidence to identify their own client, owed no duty of care to the buyer or their solicitors.
Mishcons, however, were found to be liable in breach of trust. This was because the purchase monies were received by them from their client on trust, to be paid over for completing their client’s purchase; completion meaning obtaining and providing title to the property for their client – which they failed to do when Land Registry uncovered the fraud prior to registration. Significantly, and departing from previously decided cases, the Court declined to give Mishcons relief against remedy even though they had been found not to be negligent in spotting the fraud, and had no obligation to warn against the risk of fraud. But they were still held financially responsible for the loss suffered by their client.
On its face this seems a surprising result on the facts, and from a practising lawyer’s perspective, a touch unfair. No one cries for lawyers!
But before bridging lenders rub their hands, and begin their celebrations, thinking that their own solicitors will pick up the tab on a vendor fraud, a sober word of
Because the Court seems to have arrived at their determination, most notably because, they stated;
• Mishcons was better placed to consider and achieve greater protection against fraud than its client, and
• The buyer had no recourse against the seller’s solicitors, and no practical likelihood of tracing the fraudster, or making recovery, and
• Mishcons was in a better position, being insured, to absorb the loss
It followed, as far as the Court was concerned, that the only practical remedy was to allow the buyer to obtain financial remedy from its own solicitors.
So good news for the defrauded buyer, bad news for solicitors and their professional indemnity insurers.
Cause for celebration?
This case did not involve a mortgage lender.
Mortgage lenders, and bridging loan lenders have long been acutely aware of the significant risk of fraud in their space. Fraudsters have often targeted short term lenders in the belief that high-speed bridging loan transactions, means lighter touch due diligence, and increased opportunity. Prudent lenders have been, or should be aware, of the availability of sophisticated, tried and tested insurance products available to them, to cover risk of fraud. Therefore, this Court may well have reached a different conclusion on the same facts, had the Claimant been a professional short term lender with a hefty loan book and balance sheet, rather than a recently established and comparatively small development company funded by family members. Short term lenders are aware of the fraud risk, whereas this buyer claimed not to be.
An application for permission to appeal has been lodged – so watch this space. This particular story may not be at its end.
What do we learn?
Without dismissing the legal significance of this judgment, there must be lessons to be learned for the bridging loan lender, the short-term market, and the legal profession who continue to transact in cases many of which bear some or all of the hallmarks present in Dreamvar.
What were the facts and circumstances?
Dreamvar came to its purchase through a known agent. The story told was of a seller seeking to dispose of a tenanted property quickly and at keen price. The need for speed arose out of a divorce situation. The seller required a sale within 3 days, before he said, he was to file for divorce or was to be petitioned in divorce. The property was in Earls Court, London. The seller’s solicitor was based in Salford, Manchester. The seller gave his residential address as a property in SE6, London (Catford) but not the property address. The seller’s solicitors procured ID information for their client; in this case copies of a driving licence and TV license. They never met the client. They relied on certified ID, copies certified as being true and accurate by another solicitor based in Barking, Essex. The driving licence had been issued only a short time before the transaction. On completion, the purchase monies were paid, in their entirety, by the seller’s solicitors to another firm for the purpose of an unrelated independent transaction. The monies were then paid on by that firm to a bank account in China, the same firm that the certifying solicitor was employed by. Completion took place in the usual way, and application for registration of title was submitted. Land Registry, making periodic checks, sought clarification from the buyer’s solicitors as to what steps were taken by them to verify the identity of their client. Having reviewed the documentation, Land Registry was unable to link the seller to the address given on the ID evidence, and the fraud was uncovered. Application for registration was rejected and the buyer, left with no property, and his purchase money gone and irrecoverable. The buyer sought to recover from his solicitors, Mishcons, and the seller’s solicitors.
Why is the Sniff Test so important?
At Court, the buyer identified 10 features of the transaction which they said should have alerted a competent solicitor to a potential fraud, and argued, had the buyer been alerted to the possibility of fraud, which he said he should have been, then he would have taken the view not to proceed, and consequently he would have suffered no loss.
These ten features are listed in the judgment as follows;
1. the property’s high value
2. the absence of mortgage debt
3. vacant occupation
4. the seller’s address did not correspond with the property address
5. the seller had no proprietary interest in his residential address
6. it was surprising that someone residing in Catford should be the owner of a high value property in Earls Court
7. seller had instructed a Manchester firm to act
8. the sale was being rushed through
9. the seller had little or incomplete information on the annual charges at the property or indeed the name of the management company
10. the transfer documentation was dealt with by post
The Court rejected that Mishcons had been negligent in not suspecting a fraud, or alerting their client to the potential of fraud, notwithstanding all these features were present.
Most law firms practising in the short-term lending space would surely have raised at least one eyebrow, at the incidence of so many characteristics commonly regarded as warning flags. It should be second nature to apply a sniff test to unusual features in a transaction, and even more so, when there are so many features collected in one single transaction.
There are even more features present than those listed by the seller,
For example, it is notable that;
• the transaction did not proceed to the timeline demanded by the seller, but there was no suggestion of the seller pulling out, or applying pressure
• most sellers today, armed with online valuation resources, recognise the true value in their property and are reluctant to discount for speed
So, in the hands of an experienced transactional lawyer, I strongly suspect that these warning signs would have been brought to the attention of a lender client, who may well have identified the warning signs themselves. Having reached that point, enhanced due diligence would surely have followed.
Never stop learning
In this case the buyer obtained remedy, it would appear, because he had nowhere else to go. The result may well have been different for a commercial lending company, with a healthy bank balance, long experience in the short-term space, and with the option and availability of specific insurance options.
But no lender wants to have to rely on insurance, or suffer the uncertainty of lost security. Even when a title insurance claim is successful, there is a significant in house cost and administrative expense in pursuing the claim, which cost and expense will not be indemnified and never recovered. So, a number of lessons can still be learned and processes strengthened.
First, ensure that you engage with the right professional advisers, with not only the right level of technical competence but also, as importantly, the right level of specific transactional experience to perform the sniff test, lawyers who are familiar with this space, short-term business and fraud risk.
Second, your relationship with your lawyers is key. There must always be open and frank dialogue between the two. Pick up the phone if you have concerns. We do. Lawyers must be competent and confident enough to go beyond the documents, and have no fear of alerting the risk, even if the transaction later proves to be genuine.
Third, go behind the transaction, and dig deep at application stage. Seek as much seller information, both ID and purpose, as you can from the borrower, and or the seller’s solicitors. Undertakings from seller’s solicitors would be ideal but are unlikely to be offered or made available. Worth a try at least.
Fourth, consider and pursue independently, fraud insurance options – if you haven’t already got these in place. These are available in the market. Some providers are tried and tested, and are invaluable.
Charges of part and the dangers
We come across this situation quite often. A borrower wants to borrow money against his land. The land is vast, say for example, 5 acres. The main building is in the middle of this land and it is only that building that is to be mortgaged and perhaps the immediate garden.
Mr Borrower calls the lender and says he will only grant a charge over part of the land containing the building and immediate garden (the Security Property) and that he will retain the rest (the Retained Land). Perhaps he wants to be able to charge the rest to a different lender and raise further funds.
This creates a potential issue with easements. Unity of Seisin (or ownership) is when both dominant and servient land are in common ownership as in our example above. New easements cannot be created (i.e. granted to oneself) as they will not be valid.
Therefore, in our example, if the Security Property does not directly adjoin the public highway, in a default situation, the lender will have issues as the land is likely to be land-locked. I have not even mentioned potential issues with easements in relation to services.
The lender or the buyer from the lender, will then be forced to negotiate with the borrower for the grant of an easement over his land leading to the public highway to be completed simultaneously with the sale. Having just had the Security Property repossessed, I am guessing he may not be very approachable.
Some will suggest that the borrower can grant easements in favour of the lender within the legal charge. This however, simply amounts to a contractual obligation on the borrower to grant said easements if necessary. This will again be difficult to enforce if the borrower chooses to be unhelpful which one must assume will be the case.
Some have suggested that the lender can be granted Power of Attorney to enable it to grant easements over the Retained Land which is also riddled with potential issues (sale of the Retained Land, insolvency of the borrower etc.).
The two main solutions here would be either:
1. Charge the entire title. This is the simplest and safest option for the lender.
2. Arrange for either the Security Property or the Retained Land to be transferred to another party (for example, the borrower and his wife) whilst the other title remains in the name of the borrower. This will enable rights to be granted or reserved as applicable. The danger with this option however is if the land is then transferred back into the borrower’s sole name at some stage, Unity of Seisin will apply again to extinguish the rights.
This is a common problem for lenders and until the law is changed, the safest option when asked to charge only part of a title is to refuse and insist on charging the whole.
Mortgagee Sales and Vacant Possession
The contract for the sale of residential property usually contains a Special Condition in the Contract that the sale is with vacant possession. This is usually the arrangement unless the sale was agreed on another basis, for example where the buyer wants to retain tenants already occupying the property.
As a purchaser, you will of course expect to see such a Special Condition and as a vendor, you will usually be happy to provide it.
The situation does change slightly when the seller is a mortgagee in possession or a Receiver appointed by a mortgagee. Most mortgagees we act for do agree to provide vacant possession but I have some reservations.
I have previously, with consent of my client, refused to guarantee that vacant possession will be provided on completion. On occasion, I have also seen contracts that state the seller will give vacant possession but can make no guarantees that the property will be vacant or words to that effect.
There is a reason for this. The property remains unoccupied whilst it is in possession of the mortgagee and although the selling agents are required to make regular inspections, once contracts are exchanged, the agents may lose interest as they know it is a “done deal” and they will be paid their commission.
My concern is the fact that between exchange and completion, anyone could break into the property, be it 3rd party squatters or the mortgagors and whilst my expertise in litigation is limited, I know it takes time to evict said squatters/mortgagors. The client will then be in breach of contract if unable to evict them before the completion date.
Thankfully, I have yet to face this problem personally and it is only a small risk but it only takes one such occurrence for a mortgagee to change its policy.
Failure to provide a guarantee of vacant possession is not something most purchasers would readily accept but there is a way around this. The best solution is to exchange and complete on the same day and the buyer can of course inspect the property immediately before exchange and completion takes place to ensure it is vacant.
When Aldermore completed a mortgage advance in January 2013 to Mrs Rana, there was nothing particularly remarkable about the transaction.
This was a loan facility to be secured over 3 properties registered in the name of the borrower’s sister and already charged to the Clydesdale Bank. The properties were to be transferred into the borrower’s name, the existing debt to Clydesdale be repaid, and Aldermore to take first legal charges over the security properties. Mrs Rana the borrower and transferee was raising additional capital from the transaction.
Lender’s solicitors released funds to the borrower’s solicitors against undertakings for completion.
Although solicitors did pay over the balance directly to the borrower, regrettably they misappropriated the sums which were required to pay off the Clydesdale. Clydesdale were not repaid, and understandably refused to discharge their security.
Aldermore sought and recovered £1.796 million compensation from the Law Society Compensation Fund which covered the majority but not all of their losses. In fact Aldermore were still looking at an actual losses of £368,000 and they sought to recover these from the mortgage borrower.
At first instance, in the High Court, their claim against the borrower was dismissed, although the Court agreed that the borrower should repay £78,193.64 being the sum received by her from the transaction. But the Court maintained that the borrower could not be contractually liable for any of the losses as the mortgage transaction had never been completed. Aldermore appealed. The Court of Appeal agreed.
• The essential element of a remortgage transaction included the redemption of prior mortgages.
• Unlike with a purchase transaction, the event of completion is the transfer of title to the property, in a refinance transaction the essential element is the creation of a new, first legal charge.
• As completion had not taken place the borrower had no contractual liability to Aldermore.
An update on Etridge
Mrs Brown was the legal owner of a welsh farm. Though registered as the owner to the legal title, the farm was in fact occupied by her son. Mrs Brown had not lived there since 1987. She regarded the property as her sons. So when her son requested her to enter into a mortgage of the property to secure facilities he had obtained from HSBC, she agreed. Following default by the son, HSBC issued possession proceedings, placing reliance on a certificate of independent legal advice obtained, confirming, that Mrs Brown had received independent legal advice. The certificate was provided by the solicitor who also acted for the son in connection with the borrowing.
The doctrine of undue influence allows a Court to intervene where a relationship of trust, confidence, reliance, dependence or vulnerability exists. Specifically in relation to lending cases, it is common for a party to charge their asset for the benefit of a family member. Etridge stands as the leading case and main guidance for banks who are said to have been put on enquiry as to risk of undue influence in every case where the relationship between the guarantor/mortgagor of the property and the debtor is a non-commercial one.
Mrs Brown argued that the mortgage was unenforceable by reason of fact that HSBC had failed to meet the minimum requirements set out in Etridge. She maintained that she had received no direct contact from the Bank, nor the solicitor, before signing up to the charge. She also maintained that she had received no legal advice notwithstanding the certificate produced.
HSBC argued that having received the certificate from a solicitor which confirmed that independent legal advice had been given they were entitled to rely on it. Any failings in the advice given, they said, was a matter for Mrs Brown to take up with her solicitors, but having complied with Etridge, they said, the charge was enforceable; Mrs Brown’s claims lay elsewhere.
HSBC’s documentation and records were sadly lacking. They may well have taken the steps required by Etridge but they were unable to show this.
The charge was determined as being unenforceable by reason of the Bank’s failing to meet or show that it had met Etridge guidelines. HSBC was unable to obtain possession. In a helpful judgment, further clarification on Etridge was given, which included the following recommendations which all banks and lenders would be well advised to follow.
1. The lender should engage with the mortgagor directly to obtain details of the solicitor of her choice,
2. The lender should notify the chargor directly that it will require written confirmation from a solicitor that the nature, content and effect of the documents and transaction have been fully explained to her,
3. The lender shall explain directly to the mortgagor that their reason for so doing is to preclude the mortgagor from disputing the legally binding effect of the charge.
4. The lender should record and document all of the above.
5. As regards the solicitor providing certificate, that solicitor should consider all conflicts of duty and confirm, inter alia, that they have explained the reason for the advice, the nature and seriousness of the documents, and alternatives which arise. The meeting between solicitor and client should take place face to face.
Advice to Lenders
1. Consider internal documentation, and the recording of your contact with mortgagor in these circumstances. Engagement should take place as early as possible in the process, certainly in advance of execution, and of course any such engagement should be independent of the borrower.
2. Ensure that certificates of advice are up to date, comprehensive, and fit for purpose.
The Restriction I am referring to is a Form K Restriction normally worded as follows:
“Restriction: No disposition of the registered estate is to be registered without a certificate signed by the applicant for registration or his conveyancer that written notice of the disposition was given to XYZ Limited being the person with the benefit of an interim charging order on the beneficial interest of Joe Bloggs made by the Newport County Court on 13th January 2015 (Court ref 7XY1234)”.
The wording of the Restriction seems to suggest that by serving notice, a seller will satisfy the terms of the Restriction and a purchaser will be registered as the new owner.
However, there is more to it than that. XYZ Limited obtained an Interim Charging Order against Mr Bloggs.
Therefore, even though it does not have a legal interest in the land, it does have an equitable or beneficial interest, i.e. an interest in the proceeds of sale. The company must therefore be repaid when the property is sold by the owners. This is on the assumption that XYZ Limited obtained a Final Charging Order of course.
It is correct that the purchaser will be able to register the title in his or her name free of the Restriction simply by providing a copy of the notice served on XYZ Limited. However, the seller still needs to deal with the underlying debt.
The seller and his solicitors will hold the sale funds as Trustees and the seller will be responsible for repaying the Charging Order in full.
Simply serving notice and thinking that the solicitor’s job is done will likely lead to further action against the seller and, in turn, a potential negligence claim against the solicitor.
Any lender with a first mortgage can add advances onto its debt, in priority to other registered interests, where;
• There is an agreement in place between chargees, or
• He has no notice of subsequent interest (and his charge so permits), or
• There is a contractual obligation in the mortgage to make further advances.
This is known as the doctrine of “tacking”.
But what happens when a lender has renewed the loan facility without seeking the agreement of a subsequent charge holder. It is quite common in renewals for interest to be rolled up, capitalised, and for renewal fees to be applied to the account.
Is the priority of the renewed facility, and the charges within, vulnerable to subsequent charge holders?
Well, the Court of Appeal has this month provided some useful guidance to clarify the position.
In the matter of Urban Ventures -v-Thomas, the Court gave careful consideration to the meaning of “further advances” in the context of anti-tacking provisions and in particular, circumstances where the original loan facility has been renewed.
The Court held that a renewal will not amount to a new replacement advance, (i.e. losing priority) even where accrued but unpaid interest and fees have been added and included in the new principal sum under the new facility, in cases where;
1. No money had passed to the borrower on renewal.
2. There was no understanding between lender and borrower that the principal had been repaid and another loan re-lent.
3. The capitalised interest represented interest not yet paid, which interest fell to be secured by the first legal charge.
Clearly it is preferable to have all registered chargees enter into a Deed of Priority or Inter-Creditor Agreement to prevent disputes between registered charge holders over amounts and priority. In so doing, enforcement is more easily regulated. But it does remain open to dispute that fees charged on subsequent renewals (which do not arise under the terms of the original facility letter), might be considered outside the context of these provisions, (therefore unable to be tacked onto the original mortgage debt in priority to second or subsequent security).
So where an original facility agreement does allow for renewals of facility, take care to set out the level of renewal fees, and other terms for renewal, to avoid potential dispute by subsequent charge holders over priority.
In a recent speech by Sir James Munby, at the Family Law Bar Association, he announced that there are revolutionary reforms underway, one being that people will be being able to divorce online from next year. The reform is aiming to work towards achieving a paperless court over the next four years.
With the increasing numbers of litigants in person, moving to a digital word, could be said to be the way of the future, and the court system has to move with the times. The process from start to finish will be conducted online and the future is to achieve a digital court, with proceedings being issued online and even some proceedings, including the final hearing be conducted online from the comfort of your own home. However, the more complex and heavy cases will continue to be conducted in a court room.
In an ever increasing digital world, moving into a new phase of radical reform to a digital court will of course have its pros and cons. No doubt there will be many sceptics who are weary of the changes, but given that we live in a digital world, which has changed the way in which companies and individuals alike do business, surely such a change in the court process is inevitable.
Victoria Constanti – firstname.lastname@example.org
A scenario which I have come across when acting for lenders in connection with property sales involves the following entries at the Land Registry:
1. Equitable charge to ABC Limited.
2. Legal charge to our lender client.
The question is, which one has priority and will be entitled to receive the funds due first if the property is sold? I have discovered that many conveyancers do not know the answer to this and in all honesty, the position is not as simple as it may seem. It is however a very important point, especially if there is insufficient equity to repay both and for example, our client has taken possession to sell the property.
In the above scenario, the answer is that further information is required. It depends on the date each charge was created. Notice that I said “created”, not “registered”. Unlike registered legal charges, an equitable charge is not afforded any priority against competing financial charges on the basis of when it was registered against the title alone.
Had the above entries been reversed, the legal charge would always have priority regardless of when it was created.
The date of creation is the important date when considering an equitable charge. If the equitable charge was created on 8th February 2015 but the legal charge was created on 7th February 2015, the legal charge would have priority despite the fact that the former was registered first. The main statutory provisions for this are Sections 28 and 32 Land Registration Act 2002 (“LRA”).
If the equitable charge was created and registered before the legal charge, it would have priority as registering it against the title preserves any priority it may have.
When dealing with competing legal charges, the position is much simpler in accordance with section 48 LRA in that the first registered charge has priority.
LENDINVEST COMPLETES FASTEST MORTGAGE DEAL IN THREE DAYS
– Believed to be bridging market’s fastest ever completion
– Advantage of speed taken, while keeping underwriting standards high
London, 2 February 2016 – LendInvest, the leading online lender for short term property finance, has completed its fastest ever bridging finance deal.
Within three working days, the lender was able to move from initial enquiry to full drawdown of a £590,000 facility based on a 60% LTV.
LendInvest was launched to reinvent the mortgage, bringing technology to this largely offline market for the first time. The business’ experienced team believes this is the UK bridging market’s fastest-ever completion where the lender and borrower were unknown to one another before application.
The borrower was introduced by Target Capital and LendInvest worked closely with Brightstone Law, a frequent legal adviser to LendInvest on transactions.
Having been unable to negotiate an extension to an expiring development loan with her existing high street lender, the borrower urgently sought bridging finance to cover the completion of her house conversion project. Post-completion, the borrower intends to move to a longer-term buy-to-let mortgage. The property in question began as an old-fashioned three-bedroom, end of terrace house with surrounding land in East London. It has been extended and renovated to become a modern, seven-bedroom home for a renting family.
Matt Tooth, Head of Distribution at LendInvest, said: “Credit must go to our broker, legal and valuation colleagues whose help was integral to completing this deal within the tightest of all time constraints. The case was very well presented by the borrower and her broker, which enabled our team to promptly and confidently approve the proposal within hours. Equally, we instructed a valuation that was turned around and shared with all parties electronically within hours.
“We are delighted to lead the way on speeding up safely the mortgage application process. However, too many delays and mistakes still taint the industry’s reputation. With this deal setting a benchmark, we hope that before too long, speed becomes the norm in an industry that embraces the power of technology to streamline the underwriting process.”
Magnus Duke Dadzie, the business development manager that led on the deal for LendInvest, added: “One complication in this deal arose when the borrower discovered that her passport – a key document required by our underwriting team – had expired. Our technology-based, decision-making process isn’t a linear, box-ticking exercise; while we waited for the applicant to renew her passport and supply it to us, we were able to progress with other aspects of underwriting and searches so that time was not lost and deadlines were met.”
— Ends —
Carmen Murray, PR Manager at LendInvest – mailto:email@example.com/ 020 3846 6820
LendInvest is the leading online marketplace for short term property lending and investing. The company was spun out of Montello Bridging Finance, the established bridging finance provider, in summer 2013.
LendInvest aims to bring the speed, efficiency and transparency of marketplace lending to the mortgage market for the first time. In the last two years, LendInvest has originated over £500 million of loans to landlords and developers for terms lasting one month to three years, making it one of the most active short-to-medium term mortgage lenders in the UK.
LendInvest is authorised and regulated by the Financial Conduct Authority and in July 2015, it became the first peer-to-peer platform to be rated by a regulated European credit rating agency.
All loans are secured by a registered first charge against property in the UK and the company has consistently provided returns to investors between 6-9% per annum.