UK: Privy Council Considers Presumption Of Undue Influence In Context Of Bank's Security Rights

The Board of the Privy Council has dismissed a claim of undue influence against a bank in relation to a mortgage deed entered into as security for a loan made by the bank: Nature Resorts Ltd v First Citizens Bank Ltd (Trinidad and Tobago) [2022] UKPC 10.

This decision will be of broader interest to financial institutions faced with claims seeking to void financial contracts on the grounds of undue influence. It provides a useful application of the test for undue influence set out in Royal Bank of Scotland plc v Etridge (No 2) [2001] UKHL 44 [2002]. As a reminder, Etridge established that there are two requirements for establishing the (rebuttable) presumption of undue influence. First, there must be a relationship of influence. The second requirement is that the transaction must not be readily explicable on ordinary motives, If those two requirements are satisfied, so that there is a presumption of undue influence, the burden of proof shifts and it is for the party seeking to uphold the transaction to rebut the presumption by showing that the other party was not acting under undue influence (i.e. that the other party exercised free and independent judgment) when entering into the transaction.

In the present case, the Board concluded that the Trinidad & Tobago Court of Appeal was entitled to reach the view that it had that, in relation to the deed of mortgage, the customer was not acting under the undue influence of the bank's lawyer - on the facts, he was exercising a free and independent judgment, which rebutted the presumption of undue influence that the Court of Appeal established existed. However, the Board expressed concerns with the approach taken by the Court of Appeal in establishing that there was a presumption of influence which the Bank needed to rebut. The Court of Appeal had found that the transaction was not readily explicable as the company had not derived any benefit from it. The Board noted that viewing the company as distinct from its sole shareholder (who had derived a benefit) was the incorrect approach to have taken.

We consider the decision in more detail below.

Background

The claimant company, with a sole shareholder, owned land in Tobago purchased in 2000 for the purpose of developing an eco-resort. The land was bought with the assistance of silent investors. In 2008, the shareholder agreed to sell 75% of the shares in the company to two individuals. To facilitate their purchase of the shares, the two individuals applied to the defendant bank (the Bank) for a loan. The Bank agreed to the loan on the condition that there would be a charge over the shares to be acquired, and a mortgage as security over the land.

The Bank instructed a Caribbean lawyer to prepare the deed of mortgage and the assignment of shares. The deed of mortgage was executed and signed by the shareholder as director of the company. However, the loan was not repaid by the two individuals. The Bank decided to exercise its power of sale under the mortgage and agreed a sale of the land in July 2011.

The company subsequently brought a claim against the Bank alleging that the deed of mortgage with the Bank was voidable (and had been avoided by the company) because of the undue influence exercised over the shareholder by the lawyer. Previously, the lawyer had been instructed by the shareholder in the incorporation of the company and after its incorporation was made a director.

The Bank denied the claim.

Decision of the High Court of Trinidad and Tobago

The High Court found in favour of the Bank and dismissed the claim (see judgment).

The High Court noted that there were two categories of undue influence: actual and presumed. It found that there was no evidence of actual undue influence on the facts. It then considered whether there was a presumption of undue influence by applying the test in Etridge, namely (i) whether there was a relationship of influence and (ii) whether the transaction could be readily explicable by ordinary motives. The High Court also concluded that there was no presumption of undue influence. Neither of the two necessary elements for establishing the presumption of undue influence had been made out by the company. As to the first limb of the test, there was no relationship of attorney and client as between the lawyer and the company/the shareholder. The lawyer had been acting on the instructions of the Bank in drawing up the deed of mortgage. Furthermore, there was no relationship of influence because the evidence did not show that the shareholder reposed trust and confidence in the lawyer. Additionally, the lawyer had not obtained any benefit from the mortgage deed.

As to the second limb of the test, the deed of mortgage was readily explicable - which the sale of the shares which the loan and mortgage facilitated - enabled the shareholder to pay money to his silent investors and enabled various debts of the company to be paid off.

The company appealed to the Court of Appeal.

Decision of the Court of Appeal of Trinidad and Tobago

The Court of Appeal found in favour of the Bank and dismissed the claim (see judgment).

The Court of Appeal upheld the lower court's decision, but adopted different reasoning. It decided that there was a presumption of undue influence, but that this was rebutted by the Bank.

The Court of Appeal said that the two requirements for establishing the presumption of undue influence had been met. Firstly, the company/shareholder were clients of the lawyer and accordingly there was an irrebuttable presumption of a relationship of influence. Secondly, the mortgage deed was a transaction that called for an explanation. That was because the company derived no benefit from the mortgage deed and it was the company that was exposed to the risk that its only asset could be sold by the Bank if the two individuals to whom the money was lent failed to repay the loan.

However, the Court of Appeal found that the presumption of undue influence was rebutted on the facts. The shareholder was an educated businessman who would have fully understood the risks involved in entering into the mortgage as security for the loan, and he would have appreciated that a sale of the land could affect the value of the shares he retained.

An appeal was made to the Board by the company. The Bank cross-appealed as to whether the decision of the Court of Appeal was correct in finding that there was a presumption of undue influence that the Bank needed to rebut.

Decision of the Board of the Privy Council

The Board found in favour of the Bank and dismissed the claim for the reasons explained below.

The presumption of undue influence

The Board was of the view that the Bank's cross-appeal should succeed because there was no presumed undue influence of the lawyer over the company/the shareholder in respect of the deed of mortgage.

The Board highlighted that it had concerns with the Court of Appeal's reasoning in relation to the presumption of undue influence being established. It noted that it could lead to situations where a solicitor provides advice to a client, if the client then enters into a disadvantageous commercial transaction with a third party, the client would be able to invoke the law of undue influence to set those transactions aside.

The Board commented that an ordinary commercial transaction such as a mortgage should rarely be regarded as one that is not readily explicable on ordinary motives merely because it turns out to be disadvantageous. On the facts, the Board noted that the mortgage enabled the shareholder to receive payment for his shares, without which the sale would have fallen through. It was unrealistic to ignore (as the Court of Appeal had) the fact that the shareholder (as opposed to the company) benefitted from the transaction, and wrong for the Court of Appeal to take the view that the deed of mortgage was not readily explicable. Accordingly, the Board said that there was no presumption of undue influence that needed to be rebutted in this case as the transaction was readily explicable.

Entitlement of Court of Appeal to decide that the presumption of undue influence was rebutted

The Board said that the Court of Appeal was entitled to decide that the presumption of undue influence (assuming that it was established) was rebutted on the facts. The Court of Appeal had been shown by the Bank that, in relation to the deed of mortgage, the shareholder was not acting under the undue influence of the lawyer, i.e. that he was exercising a free and independent judgment.

The Board underlined that it found it hard to believe that a businessman of the shareholder's experience would not understand that the deed of a mortgage which was being entered into with the bank could lead to the sale of the land and that this would affect the value of the shares in the company which the landowner retained. The Board noted, as per Etridge, that those engaged in business can be regarded as capable of looking after themselves and understanding the risks involved in the giving of security.

Accordingly, for all the reasons above, the Board found in favour of the Bank and dismissed the claim.

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