Australia: Client lunch comes back to bite - solicitor found liable for $2.3 million for negligent advice in Abu-Mahmoud v Consolidated Lawyers

Last Updated: 5 August 2015
Article by Craig Holland and Melissa Fenton
Most Popular Article in Australia, August 2015

In brief - Advice provided over client lunches found to be in breach of duty

In May 2015 the Supreme Court of NSW found a solicitor liable for $2.3 million in damages for negligent corporate restructuring and tax minimisation advice provided during two client lunches.

Advice allegedly related to restructuring of property development company

In May 2015, Justice Garling of the Supreme Court of NSW delivered judgment in Abu-Mahmoud v Consolidated Lawyers Pty Ltd [2015] NSWSC 547, finding against a solicitor who provided advice in relation to the restructuring of a property development company.

The advice alleged to have been provided by the solicitor to the plaintiff was related to the restructuring of his corporate affairs, and in particular, to a tax liability of approximately $400,000 incurred by Fairchild Developments Pty Ltd, a company of which the plaintiff was a director and shareholder.

Relevantly, Fairchild's only significant asset was a retail shopping complex in Fairfield. The Fairfield property had been purchased with money loaned to Fairchild by the St George Bank.

The plaintiff's full financial arrangements were complex and are unnecessary to set out, so long as it is noted that the plaintiff's various companies, including Fairchild, had borrowed several million dollars from St George Bank. The loan was secured in part by a personal guarantee.

Solicitor alleged to have given advice on minimising tax liability

The plaintiff alleges that he met with the solicitor on two occasions at a restaurant in Granville ("the Granville meetings") for the purpose of obtaining legal advice in relation to avoiding any personal liability to the ATO.

It was alleged that the solicitor gave the following advice ("the advice"):

  • That the plaintiff and his business partners should incorporate a new company.
  • The new company should purchase the Fairfield property at the lowest possible (but still commercial) price from Fairchild.
  • The plaintiff and his business partners should resign as directors of Fairchild and appoint a director "who has nothing to lose".
  • The $400,000 tax liability would remain with Fairchild, allowing the plaintiff and his business partners to escape personal liability.

The incoming director should then place Fairchild into voluntary administration and subsequently liquidation. Fairchild would be wound up with the tax liability outstanding, the practical effect being that the liability would be avoided.

Advice overlooks ATO's powers and effect of defaulting on bank loan

There were a number of problems with the advice.

One of the most prominent was that the ATO had the power to issue notices to the plaintiff and his business partners that would make them personally liable for the tax liability, i.e. the restructuring scheme would not clear the plaintiff of personal liability as intended, because the ATO could pursue the plaintiff personally if it desired.

The second major problem with the advice was that the appointment of a liquidator to Fairchild was an event of default under the terms of Fairchild's loan agreement with the bank. The effect of default was that the balance of the loan would become payable immediately. The plaintiff had provided a personal guarantee on that loan.

Company placed into administration, leading to default on bank loan

On 15 October 2007, Fairchild exchanged contracts on the Fairfield property with the newly incorporated NorthAxis Pty Ltd. Settlement was to occur on 15 April 2008. Next, the plaintiff and his business partners vacated their positions as directors of Fairchild and on 16 November 2007 Fairchild was placed into voluntary administration.

Because the voluntary administration was an automatic event of default under the terms of the St George Bank loan, on 28 November 2007 the bank appointed receivers and managers over Fairchild.

Property eventually sold for less than sum outstanding on loan

As mortgagee, St George Bank would not allow the sale of the Fairfield property to proceed "without 100% repayment of the debt due to them". The sale was also complicated by a caveat that had been placed on the property by a tenant of one of the shops due to an ongoing dispute in relation to a lease.

Numerous issues plagued the sale of the Fairfield property and the sale eventually fell through, with the property being sold to another party for a sum less than the amount outstanding on the loan. The property developer's personal guarantee was called upon to satisfy the outstanding amount of the loan.

The property developer claimed against the solicitor, alleging that the advice he had provided was negligent.

Solicitor denies giving advice on company restructure

The evidence put forward by the plaintiff developer and the solicitor recounted two very different versions of events.

It was the plaintiff's case that the solicitor provided him with certain advice at the Granville meetings. The solicitor denied giving the advice at all and asserted that he was never retained in relation to the restructuring of Fairchild.

It was the solicitor's evidence that his brother, an accountant and registered liquidator, had provided the advice to the plaintiff at one of the Granville meetings. The solicitor's brother denied giving the advice but otherwise generally could not recall the meeting (seven years having passed since).

Difficulty proving content of solicitor's advice in absence of file notes

It was uncontentious that the solicitor had acted for the plaintiff in various matters over time, including in relation to negotiating leases for the Fairfield property and acting on the attempted sale of the Fairfield property to NorthAxis Pty Ltd.

Against this background, the solicitor had major difficulty leading evidence limiting the nature and scope of his retainer and the advice that he did or did not provide. The difficult task was made even more so by the absence of any contemporaneous notes confirming the advice given.

His Honour Garling J was reluctant to accept the solicitor's evidence in the absence of contemporaneous records. His Honour ultimately found that he could not accept the solicitor's evidence unless it was "independently corroborated or else is a statement against his own interest."

Court finds that advice created immediate liability and was in breach of duty

His Honour accepted the plaintiff's evidence that certain advice was provided and he found that the advice was negligent. It was determined that Fairchild was solvent at the time of the advice and could have continued to trade and meet the loan repayments to the St George Bank.

The outcome of the advice was to make the debt owed to the bank fall due immediately i.e. it turned a contingent liability into an immediate liability that could not be met. The advice was in breach of duty and negligent as it failed to achieve what it sought to do and created an immediate liability that otherwise did not exist. The advice exposed the plaintiff to a significant risk, a risk that materialised.

Judgment was entered in favour of the plaintiff for an amount of $2,335,593.18, plus legal costs.

Significance of documenting instructions received and advice given

This decision reinforces the courts' general attitude towards a solicitor's failure to keep contemporaneous records of their advice and instructions. It has been repeatedly expressed by the court that documenting instructions and advice given is a task expected of the ordinary prudent solicitor.

In this case, a failure that no doubt contributed to the lack of file notes was that the meetings took place in a restaurant.

His Honour Garling J's opening remarks at paragraph 9 of the reasons summarise his views:

That such a significant sum of money by way of claimed damages could turn on two such meetings of which there is no contemporaneous note, is surprising. Whilst it may be congenial, informal and relaxing for a solicitor to meet with a client in such circumstances, this case demonstrates the pitfalls of attempting to provide serious advice about serious matters in such a setting.

Keeping file notes important for risk management for all professions

In the absence of a contemporaneous record, it is immensely difficult for a solicitor to defend any allegations that may later be made about advice given or instructions received. If a contemporaneous record of that meeting existed that, for example, recorded the advice in relation to the leases, then the solicitor would have great support for a finding that the advice he gave was limited to those matters and the topic of restructuring was not broached.

While this case related to a solicitor, it is an important reminder for all professionals, including accountants, who regularly provide advice to clients. As a matter of risk management, all advice and instructions should be documented in a file note and, ideally, followed up with a written advice to the client.

This decision also serves as a warning to all professions to maintain a professional setting (such as the office) for the taking of instructions and giving of advice when there are serious matters or large sums of money at stake.

For further information, please contact:

Melissa Fenton
Professional indemnity
Colin Biggers & Paisley

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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Authors
Craig Holland
Melissa Fenton
 
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