Solicitors – Breach of trust – Mortgage – Appellant bank instructing respondent firm of solicitors in connection with remortgage transaction – Respondent erroneously paying insufficient sum to prior mortgagee to redeem mortgage – Remaining funds paid to borrowers – Appellant’s charge registered as second charge – Borrowers defaulting – Proceeds of sale of property insufficient to repay indebtedness to appellant – Respondents admitting breach of trust – Extent of remedy – Whether extending to whole loan amount – Appeal dismissed
In 2006, the appellant bank agreed to lend £3.3m by way of a mortgage loan to be secured by a first legal charge over the borrowers’ home. An existing charge over the property in favour of another lender was to be redeemed on or before completion. The respondent firm of solicitors, which acted for both the appellant and the borrowers on the transaction, obtained a redemption figure of £1.23m from the other lender in respect of the existing mortgage and paid that sum to it out of the loan funds provided by the appellant. The respondent failed to notice that the redemption figure related to only one of two accounts and was therefore approximately £300,000 less than was needed to redeem the other lender’s charge. It remitted the balance of the loan funds to the borrowers.
The other lender later consented to the registration of the appellant’s security as a second charge, postponed to its own first legal charge. The other lender subsequently repossessed the property and sold it for £1.2m, out of which the appellant received only £887,697.
The appellant brought proceedings against the respondent for breach of trust. It sought to recover approximately £2.5m from the respondent, representing the entire outstanding loan amount less the sum that it had received from the proceeds of sale of the property. In the courts below, the respondents were found to have acted in breach of trust by paying to the borrowers funds that should have gone to redeem the other lender’s charge. However, the appellant was held to be entitled to recover only the amount of that payment as the loss that it had suffered as a result of the breach: see [2012] EWHC 35 (Ch); [2012] EWHC 35 (Ch) and [2013] EWCA Civ 45; [2013] PLSCS 51.
The appellant appealed. It contended that the respondent had been under a duty to hold the loan funds on trust and apply them for the purposes of the trust, and that, where the underlying commercial transaction had never been completed owing to the respondent’s misapplication of the trust funds and failure to redeem the other lender’s charge, the appellant was entitled to have the trust funds reconstituted in full.
Held: The appeal was dismissed.
The respondent had held the money advanced by the appellant on trust for the purpose of performing its contractual obligations. It had breached its custodial duties in respect of the money entrusted to it when it released the balance of the loan funds to the borrowers without retaining sufficient to redeem the other lender’s charge, when it should have paid to the other lender the full amount required for that purpose, in return for an undertaking to issue a redemption certificate.
The basic right of a beneficiary was to have the trust duly administered in accordance with the provisions of the trust instrument, if any, and the general law. Where there was a breach of that duty, the purpose of any remedy was either to put the beneficiary in the same position as if the breach had not occurred or to vest in the beneficiary any profit that the trustee might have made by reason of the breach. Placing the beneficiary in the position that it would have been in but for the breach might involve restoring the value of something lost by the breach or making good the financial damage caused by the breach. What had to be identified in each case was the content of any relevant obligation and the consequences of its breach. The equitable principle was that the beneficiary should compensate for any loss that it would not have suffered but for the breach.
In the instant case, the parameters of the trust were defined by the contract out of which it arose. The proper performance of the respondent’s obligations, of which the trust formed part, would have resulted in the respondent paying to the other lender the full amount required to redeem its charge and the appellant holding security for an additional £300,000 of its loan. The loss to the trust as a result of the respondent’s breach, assessed at the date of trial, was the pecuniary value of the difference between a first-ranking security and one that was postponed to the other lender’s charge. The appellant was liable to that extent.
It would be unreal and artificial to say that there had been a loss of £2.5m to the trust fund by reason of the respondent’s conduct, since most of that sum would have been lost even if the respondent had applied the trust fund in the way that the bank had instructed it to do. To hold the respondent responsible for such loss involved effectively treating the unauthorised application of trust funds as creating an immediate debt between the trustee and the beneficiary, rather that conduct meriting equitable compensation for any loss thereby caused. In the absence of fraud, which might give rise to other public policy considerations, it was not appropriate to impose or maintain a rule that gave redress to a beneficiary for loss that would have been suffered even if the trustee had properly performed its duties.
Although the respondent had not “completed” the transaction in compliance with the requirements of the CML Handbook, as a commercial matter the transaction was completed when the loan moneys were released to the borrowers. Where a solicitor held money on trust as an incident of a commercial transaction, it could be required to restore moneys paid away until the transaction was completed, but it could not be required to do so after that point. The trust had come into being for the purpose of a commercial transaction that had in practical terms been completed, leaving no active obligations for the trustee to perform. The appropriate remedy where the trust was no longer in subsistence was the payment of compensation directly to the beneficiary. It was inappropriate to require the trustee to reconstitute the trust fund; instead, compensation was payable in the amount of the loss to the trust fund: Target Holdings Ltd v Redferns (a firm) [1996] AC 421 affirmed.
Jeremy Cousins QC, Nicholas Davidson QC and John Brennan (instructed by Moran & Co, of Tamworth) appeared for the appellant; Graeme McPherson QC, Sian Mirchandani and Nicole Sandells (instructed by Mills & Reeve LLP) appeared for the respondent.
Sally Dobson, barrister
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