The recent High Court decision in Bofinger v Kingsway Group
Limited  HCA 44 allowed the guarantors to claim
equitable compensation from the first mortgagee and in so doing
placed them ahead of the second and third mortgagees.
B & B Holdings Pty Ltd
("Borrower") carried on business as a
real estate developer. The Borrower obtained finance from three
lenders, all of whom took mortgages over the same real properties
owned by the Borrower. A first ranking mortgage was granted to
Kingsway Group Pty Ltd ("Kingsway"), a
second ranking mortgage to Reckley Pty Ltd
("Reckley") and a third ranking mortgage
to John Skehan ("Skehan").
Each of the three loans was guaranteed by Mr and Mrs Bofinger
(the "Bofingers"), both were directors
of the Borrower. Each guarantee was in turn secured by first,
second and third mortgages over the family home and an investment
unit owned by the Bofingers. The court made no reference to any
priority or inter-creditor agreement between the mortgagees.
Following default by the Borrower, the Bofingers voluntarily
sold their properties, applying the net proceeds of sale (in the
vicinity $1.5 million) to Kingsway to reduce the first loan. All
three mortgages over the Bofingers' properties were discharged
Thereafter, Kingsway exercised its power of sale over some of
the properties mortgaged by the Borrower in order to satisfy the
amount outstanding under the first loan.
Having satisfied the balance of its debt, Kingsway paid the
surplus sale proceeds to Reckley as second mortgagee. Kingsway also
delivered to Reckley the certificates of title to the two unsold
properties of the Borrower together with a discharge of
Kingsway's mortgage for each of the unsold properties.
The Claim By The Guarantors
Kingsway did not, as the Bofingers contend it should have done,
account to the Bofingers so that they might recoup what they had
paid as sureties of the Borrower's indebtedness. The primary
case of the Bofingers was that Kingsway has distributed the surplus
in breach of the constructive trust in which the surplus was held
for them as sureties.
The Bofingers, by reason of the fact that they had sold their
own properties and applied the proceeds in reduction of
Kingsway's debt, claimed to be entitled, as guarantors of that
debt, to the benefit of the security (i.e. the surplus proceeds and
unsold properties) held by Kingsway after its debt had been
discharged in priority to Reckley (and Skehan) pursuant to the
principles of subrogation in equity and s 3 of the Law Reform
(Miscellaneous Provisions) Act 1965 (NSW).
The High Court overturned the Court of Appeal's decision and
accepted that the surplus money was held by Kingsway on
constructive trust for the Bofingers. Citing as its authorities
Giumelli v Giumelli(1999) 196 CLR 101 and
Jones v Southall & Bourke Pty Ltd (2004) 3 ABC (NS) 1,
the court held that the constructive trust included the obligation
of a defaulting party to make restitution by personal rather than a
The High Court concludes at  – : "On 8
February 2006 the first mortgagee was obliged in good conscience
both to account to the appellants for surplus moneys and securities
it held and not to undertake or perform any competing engagement in
that respect without prior release by the appellants. These
obligations were fiduciary in character ... In respect of its
misapplication of the surplus moneys and securities and the
consequent loss to the appellants the first mortgagee is to be
treated as a constructive trustee to the extent that it must
account to the appellants as a defaulting fiduciary. It is
unnecessary to seek to determine upon the agreed facts whether the
first mortgagee was a trustee in a fuller sense which afforded the
appellants a beneficial interest in the assets in
The High Court further found that the terms of the second
guarantee did not constitute a waiver of the rights to the surplus
moneys although it appears that more specific drafting could have
Finally, the High Court rejected the line of English authority
on the law of subrogation in the context of its relationship to the
doctrine of unjust enrichment.
In view of the decision:
mortgagees holding surplus funds need to enquire as to
the potential entitlement of guarantors before making any
payment to the next ranking mortgagee;
mortgagees need to consider widening the terms of their current
priority and inter-creditor documents to ensure that
guarantors' rights are waived and, most importantly, to
ensure that all guarantors are parties to these documents;
second and subsequent mortgagees need to consider expanding the
waiver provisions in their guarantee documents to ensure that the
guarantors waive any rights of subrogation in respect to prior
mortgages and charges.
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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