Judgment Kleinwort Benson LTD. v. Lincoln City Council
Kleinwort Benson LTD. v. Mayor etc. of the London Borough of Southwark and Others
Kleinwort Benson LTD. v. Birmingham City Council
Kleinwort Benson LTD. v. Mayor etc. of the London Borough of Kensington and Chelsea and Others
(On Appeal from the Queens Bench Division of the High Courts of Justice)

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    When a judge decides a case which comes before him, he does so on the basis of what he understands the law to be. This he discovers from the applicable statutes, if any, and from precedents drawn from reports of previous judicial decisions. Nowadays, he derives much assistance from academic writings in interpreting statutes and, more especially, the effect of reported cases; and he has regard, where appropriate, to decisions of judges in other jurisdictions. In the course of deciding the case before him he may, on occasion, develop the common law in the perceived interests of justice, though as a general rule he does this "only interstitially", to use the expression of O.W. Holmes J. in South Pacific Co. v. Jensen (1917) 244 U.S. 2095, 221. This means not only that he must act within the confines of the doctrine of precedent, but that the change so made must be seen as a development, usually a very modest development, of existing principle and so can take its place as a congruent part of the common law as a whole. In this process, what Maitland has called the "seamless web", and I myself (The Search for Principle, Proc. Brit. Acad. vol. LXIX (1983) 170, 186) have called the "mosaic", of the common law, is kept in a constant state of adaptation and repair, the doctrine of precedent, the "cement of legal principle", providing the necessary stability. A similar process must take place in codified systems as in the common law, where a greater stability is provided by the code itself; though as the years pass by, and decided cases assume a greater importance, codified systems tend to become more like common law systems.

    Occasionally, a judicial development of the law will be of a more radical nature, constituting a departure, even a major departure, from what has previously been considered to be established principle, and leading to a realignment of subsidiary principles within that branch of the law. Perhaps the most remarkable example of such a development is to be found in the decisions of this House in the middle of this century which led to the creation of our modern system of administrative law. It is into this category that the present case falls; but it must nevertheless be seen as a development of the law, and treated as such.

    Bearing these matters in mind, the law which the judge then states to be applicable to the case before him is the law which, as so developed, is perceived by him as applying not only to the case before him, but to all other comparable cases, as a congruent part of the body of the law. Moreover when he states the applicable principles of law, the judge is declaring these as constituting the law relevant to his decision. Subject to consideration by appellate tribunals, and (within limits) by judges of equal jurisdiction, what he states to be the law will, generally speaking, be applicable not only to the case before him but, as part of the common law, to other comparable cases which come before the courts, whenever the events which are the subject of those cases in fact occurred.

    It is in this context that we have to reinterpret the declaratory theory of judicial decision. We can see that, in fact, it does not presume the existence of an ideal system of the common law, which the judges from time to time reveal in their decisions. The historical theory of judicial decision, though it may in the past have served its purpose, was indeed a fiction. But it does mean that, when the judges state what the law is, their decisions do, in the sense I have described, have a retrospective effect. That is, I believe, inevitable. It is inevitable in relation to the particular case before the court, in which the events must have occurred some time, perhaps some years, before the judge's decision is made. But it is also inevitable in relation to other cases in which the law as so stated will in future fall to be applied. I must confess that I cannot imagine how a common law system, or indeed any legal system, can operate otherwise if the law is be applied equally to all and yet be capable of organic change. This I understand to be the conclusion reached in Cross and Harris on Precedent in English Law, 4th ed., from which I have derived much assistance, when at p. 33 they ask the question: "what can our judges do but make new law and how can they prevent it from having retrospective effect?" This is also the underlying theme of Lord Coulsfield's evidence to the Scottish Law Commission quoted in para. 3.14 of their Discussion Paper No. 99, Judicial Abolition of the Error of Law Rule and its Aftermath (1996) (which I have read with interest and respect) in which, in the light of the decision of the Inner House in Morgan Guaranty Trust Co. of New York v. Lothian Regional Council 1995 S.C. 151, and especially the notable judgment of my noble and learned friend Lord Hope of Craighead in that case, they reconsider and resile from their previous proposal that Scots law should adopt a "settled understanding of the law" provision along the lines proposed by our own Law Commission. The only alternative, as I see it, is to adopt a system of prospective overruling. But such a system, although it has occasionally been adopted elsewhere with, I understand, somewhat controversial results, has no place in our legal system. I wish to add that I do not regard the declaratory theory of judicial decision, as I have described it, as an aberration of the common law. Since I regard it as an inevitable attribute of judicial decision-making, some such theory must, I imagine, be applied in civil law countries, as in common law countries; indeed I understand that a declaratory theory of judicial decision applies in Germany, though I do not know its precise form.

    It is in the light of the foregoing that I have to ask myself whether the Law Commission's "settled understanding of the law" proposal forms part of the common law. This, as I understand the position, requires that I should consider whether parties in the position of Kleinwort Benson were mistaken when they paid money to local authorities under interest swap agreements which they, like others, understood to be valid but have later been held to be void. To me, it is plain that the money was indeed paid over under a mistake, the mistake being a mistake of law. The payer believed, when he paid the money, that he was bound in law to pay it. He is now told that, on the law as held to be applicable at the date of the payment, he was not bound to pay it. Plainly, therefore, he paid the money under a mistake of law, and accordingly, subject to any applicable defences, he is entitled to recover it. It comes as no surprise to me that, in the swaps litigation, it appears to have been assumed that money paid pursuant to interest rate swap agreements was paid under a mistake which, in Westdeutsche Landesbank Girozentrale v. Islington London Borough Council [1994] 4 All E.R. 890, 931E, was inevitably held by Hobhouse J. to have been a mistake of law and so, on the law as it then stood, irrecoverable on that basis. Not surprisingly, there is very little previous authority on the question whether in such circumstances the money has been paid under a mistake of law; but such authority as there is supports this view. The case most frequently cited in this context is Henderson v. Folkestone Waterworks Co., briefly reported in (1885) 1 T.L.R. 329. This case is referred to in para. 2.65 of the Law Commission's Consultation Paper No. 120, and was relied on in argument by Mr. Underhill Q.C. on behalf of the respondent local authorities. In my opinion, however, it does not assist his argument. The plaintiff was rated by the defendant water company at a rate which was legal under a decision which was subsequently reversed by the House of Lords. He then sought to recover the excess; in answer to the defendants' argument that the payment was voluntary and so irrecoverable, he claimed that he paid the money under compulsion. This argument was rejected by a Divisional Court, consisting of Lord Coleridge C.J. and A. L. Smith J., on the ground that the money, having been paid voluntarily under a mistake of law, could not be recovered back. The only passage relied on is contained in an expostulation, in the course of argument, by Lord Coleridge, who had been party to the decision reversed by the House of Lords, when he said: "I had held the contrary, and two eminent Judges agreed with me. Can that be put as ignorance of law?" Little or no importance can however be attached to this intervention in the present context, since both members of the Court rejected the plaintiff's claim on the ground that the money was paid voluntarily under a mistake of law, and was therefore irrecoverable.

    In Derrick v. Williams [1939] 2 All E.R. 559, following the reversal by the House of Lords in Rose v. Ford [1937] A.C. 826 of the decision of the Court of Appeal that damages could not be recovered for loss of expectation of life, the plaintiff brought a fresh action seeking to recover such damages notwithstanding that in a previous action on the same facts he had taken out of court money paid in on the basis that no such damages were recoverable. The Court of Appeal held that he could not do this, and dismissed the second action. But in the course of his judgment Sir Wilfrid Greene M.R. made it plain that the plaintiff had acted under a mistake of law in taking the money out of court in the first action. He said, at p. 565E:

     "It was a mistake of law, and consisted of the fact that the plaintiff was under the belief that the law as laid down by this court in Rose v. Ford was correctly laid down. In that he was wrong, and he is asking the court to say that, having acted upon the basis of a mistaken view of the law, now that the law has been enunciated by the highest tribunal, he is entitled to make another attempt. That is a thing which, it seems to me, cannot be permitted on principle."

    The same view is expressed by Professor Burrows in his Law of Restitution, 4th ed. (1993) at pp. 118-119, where he points out that in the common law the jurisprudential tradition is that "changes" are retrospective. He continues:

      "On this retrospective view the payor did make a mistake of law at the time he made the payment and, in accordance with the proposed abolition of the mistake of law bar, he would prima facie be entitled to restitution."

He then proceeds to rehearse the arguments for and against legislative change of the law in this respect.

    The question then arises whether, having regard to the fact that the right to recover money paid under a mistake of law is only now being recognised for the first time, it would be appropriate for your Lordships' House so to develop the law on the lines of the Law Commission's proposed reform as a corollary to the newly developed right of recovery. I can see no good reason why your Lordships' House should take a step which, as I see it, is inconsistent with the declaratory theory of judicial decision as applied in our legal system, under which the law as declared by the judge is the law applicable not only at the date of the decision but at the date of the events which are the subject of the case before him, and of the events of other cases in pari materia which may thereafter come before the courts. I recognise, of course, that the situation may be different where the law is subject to legislative change. That is because legislation takes effect from the moment when it becomes law, and is only retrospective in its effect to the extent that this is provided for in the legislative instrument. Moreover even where it is retrospective, it has the effect that as from the date of the legislation a new legal provision will apply retrospectively in place of that previously applicable. It follows that retrospective legislative change in the law does not necessarily have the effect that a previous payment was, as a result of the change in the law, made under a mistake of law at the time of payment. (I note in parenthesis that in Commissioner of State Revenue v. Royal Insurance Australia Ltd. (1994) 69 A.L.J.R. 51, the High Court of Australia was divided on the question whether the retrospective legislation there under consideration had the effect that a previous payment had been made under a mistake of law.) As I have already pointed out, this is not the position in the case of a judicial development of the law. But, for my part, I cannot see why judicial development of the law should, in this respect, be placed on the same footing as legislative change. In this connection, it should not be forgotten that legislation which has an impact on previous transactions can be so drafted as to prevent unjust consequences flowing from it. That option is not, of course, open in the case of judicial decisions.

    At this point it is, in my opinion, appropriate to draw a distinction between, on the one hand, payments of taxes and other similar charges and, on the other hand, payments made under ordinary private transactions. The former category of cases was considered by your Lordships' House in Woolwich Equitable Building Society v. Inland Revenue Commissioners [1993] A.C. 70, in which it was held that at common law taxes exacted ultra vires were recoverable as of right, without the need to invoke a mistake of law by the payer. Moreover reference was made, in the course of the hearing, to the various statutory provisions (usefully summarised in the Law Commission's Consultation Paper (Law Com. No. 120) at pp. 74-84) which regulate the repayment of overpaid tax. For present purposes it is of interest that, in the case of some taxes (including income and corporation tax), no relief is given "in respect of an error or mistake as to the basis on which the liability . . . ought to have been computed where the return was in fact made on the basis of or in accordance with the practice generally prevailing at the time when the return was made:" see the proviso to section 33(2) of the Taxes Management Act 1970.

    Two observations may be made about the present situation. (I of course have it in mind that this is the subject of proposals for legislative reform contained in the Law Commission's Report (Law Com. No. 227), but your Lordships are concerned with the law as it stands at present.) The first observation is that, in our law of restitution, we now find two separate and distinct regimes in respect of the repayment of money paid under a mistake of law. These are (1) cases concerned with repayment of taxes and other similar charges which, when exacted ultra vires, are recoverable as of right at common law on the principle in Woolwich, and otherwise are the subject of statutory regimes regulating recovery; and (2) other cases, which may broadly be described as concerned with repayment of money paid under private transactions, and which are governed by the common law. The second observation is that, in cases concerned with overpaid taxes, a case can be made in favour of a principle that payments made in accordance with a prevailing practice, or indeed under a settled understanding of the law, should be irrecoverable. If such a situation should arise with regard to overpayment of tax, it is possible that a large number of taxpayers may be affected; there is an element of public interest which may militate against repayment of tax paid in such circumstances; and, since ex hypothesi all citizens will have been treated alike, exclusion of recovery on public policy grounds may be more readily justifiable.

    In the present case, however, we are concerned with payments made under private law transactions. It so happens that a significant number of payments were in fact made under interest rate swap agreements with local authorities before it was appreciated that they were void; but the number is by no means as great as might conceivably occur in the case of taxes overpaid in accordance with a prevailing practice, or under a settled understanding of the law. Moreover the element of public interest is lacking. In cases such as these I find it difficult to understand why the payer should not be entitled to recover the money paid by him under a mistake of law, even if everybody concerned thought at the time that interest rate swap agreements with local authorities were valid.

    Of course, I recognise that the law of restitution must embody specific defences which are concerned to protect the stability of closed transactions. The defence of change of position is one such defence; the defences of compromise, and settlement of an honest claim (the scope of which is a matter of debate), are others. It is possible that others may be developed from judicial decisions in the future. But the proposed "settled understanding of the law" defence is not, overtly, such a defence. It is based on the theory that a payment made on that basis is not made under a mistake at all. Once that reasoning is seen not to be correct, the basis for the proposed defence is, at least in cases such as the present, undermined.

    I wish further to add that the proposal that a payment made under a settled understanding of the law, later proved to be erroneous, should be irrecoverable, does not depend upon the lapse of any period of time after the date of the payment in question. Take the present case. Suppose that, shortly after the payment by Kleinwort Benson to a local authority of the first sum due under an interest rate swap contract, it transpires that the contract was ultra vires the local authority and so void, and that the sum so paid was therefore not due. Let it also be assumed that there have been relatively few transactions of this kind with local authorities, but enough for it to be said that that sum was paid on the basis of a settled understanding that the money was lawfully due. I find it difficult to accept that, for that reason alone, the payment would be irrecoverable as having been paid under a mistake of law. Indeed it is an remarkable feature of the proposed principle that, the longer ago the payment was made, the less likely is it to have been made under a settled understanding of the law. An appropriately drawn limitation statute would surely produce a more just result. This is a point to which I will return later in this opinion.

    For these reasons alone, therefore, I would reject the argument of the local authorities on this point. But I wish to refer also to the insecure foundation upon which the proposed provision is based, arising from the difficulty of defining the circumstances in which it should apply. The New Zealand statutory provision (section 94A(2) of the Judicature Act 1908) excludes relief in respect of "any payment made at a time when the law requires or allows, or is commonly understood to require or allow, the payment to be made or enforced, by reason only that the law is subsequently changed or shown not to have been as it was commonly understood to be at the time of payment". The Western Australian statutory provision (section 23(2) of the Law Reform (Property, Perpetuities and Succession) Act 1962) takes the same form. It is recognised, however, that the concept of "common understanding" of the law has given rise to difficulty (see, e.g., Bell Bros. Pty. Ltd. v. Shire of Serpentine--Jarrahdale [1969] W.A.R. 155) and, on this score at least, the statutory provision has been the subject of criticism. In this country the Law Commission has attempted to improve on the New Zealand statute by referring not to a common understanding of the law, but instead to a "settled view of the law" which has been departed from by a subsequent judicial decision. However, as Mr. Southwell Q.C. pointed out in argument, there could be much scope for argument over what constituted a settled view of the law. Take the case of interest rate swap agreements. These were assumed by the banks (and indeed by others concerned) to be within the powers of local authorities; but this assumption appears to have been based on practical grounds, rather than on advice about the legal position. Nor do the local authorities appear to have addressed the legal position until after the matter was raised by the Audit Commission in 1987, over five years after agreements of this kind began to be entered into by local authorities. Had the point arisen under a statute in the form recommended by the Law Commission, it would have been necessary to consider whether the above circumstances gave rise to a "settled view of the law." It is only necessary to pose the question to realise how difficult it would have been to answer it in the present case, and very possibly in the case of other payments made under private transactions. For this reason alone it comes as no surprise that the Law Reform Commission of British Columbia decided (see their Report No. 51 (1981) at pp. 68 et seq.) not to recommend the adoption of any such provision in that Province, though they also considered (at p. 72) that the New Zealand statutory provision "goes far beyond what is required". The Law Reform Committee of South Australia (see their Report No. 84 (1984) at p. 31) likewise did not recommend the adoption of any such provision, though three years later the Law Reform Commission of New South Wales (see their Paper No. 53 (1987) at paras. 5.20--5.29) proposed the legislative adoption of a similar but not identical provision. In Scotland, as I have already recorded, the Scottish Law Commission at first recommended its adoption, but later resiled from that recommendation. That this whole topic is one of great difficulty can perhaps best be seen in the Scottish Law Commission's Discussion Paper No. 99, in which the rival arguments for and against legislative reform are rehearsed in some detail, and the difficulties exposed. This division of opinion does not encourage statutory adoption of a provision in these or comparable terms, still less its recognition as part of the common law of this country.

    Issue IB--Honest receipt: This issue arises from a principle proposed by Brennan C.J. (then Brennan J.) in David Securities Pty. Ltd. v. Commonwealth Bank of Australia (1991-1992) 175 C.L.R. 353 at p. 399. It reads as follows:

      "It is a defence to a claim for restitution of money paid or property transferred under a mistake of law that the defendant honestly believed, when he learnt of the payment or transfer, that he was entitled to receive and retain the money or property."

This principle was expressly proposed in order to achieve a degree of certainty in past transactions. As Brennan C.J. said (at p. 398): "Unless some limiting principle is introduced, the finality of any payment would be as uncertain as the governing law."

    In this part of the law there has long been concern, among common law judges, about what is sometimes called the finality of transactions, and sometimes the security of receipts. This concern formed a significant part of the amalgam of concerns which led to the rule that money paid under a mistake of law was irrecoverable on that ground. Now that that rule has been abrogated throughout the common law world, attention has of course shifted to the formulation of appropriate defences to the right of recovery. The principle proposed by Brennan C.J. is, I believe, the most far-reaching of the defences to the right of recovery that has yet been proposed.

    Anything which falls from Brennan C.J. is, of course, entitled to great respect. But I have to state at once that this proposal seems to have been stillborn. Of the judges who sat with Brennan C.J. on the David Securities case, none supported this proposal. I know of no judicial support which the proposal has since received, nor of any support from any of the Law Commissions which have considered this part of the law. The reason for this lack of support is, I believe, that the proposal is generally regarded as being wider than is necessary to meet the perceived mischief.

    I start from the proposition that money paid under a mistake of law is recoverable on the ground that its receipt by the defendant will, prima facie, lead to his unjust enrichment, just as receipt of money paid under a mistake of fact will do so. There may of course be circumstances in which, despite the mistaken nature of the payment, it is not regarded as unjust for the defendant to retain the money so paid. One notable example is change of the defendant's position. Another is the somewhat undefined circumstance that the payment was made in settlement of an honest claim. Yet, Brennan C.J.'s proposed defence is so wide that, if it was accepted, these other defences would in practice cease to have any relevance in the case of money paid under a mistake of law. Moreover in many cases of this kind the mistake is shared by both parties, as for example in the case of the appeals now under consideration. In such cases, recovery by the plaintiff would automatically be barred by Brennan C.J.'s proposed defence. So sweeping is the effect of the defence that it is not perhaps surprising that it has not received support from others.

    In my opinion, it would be most unwise for the common law, having recognised the right to recover money paid under a mistake of law on the ground of unjust enrichment, immediately to proceed to the recognition of so wide a defence as this which would exclude the right of recovery in a very large proportion of cases. The proper course is surely to identify particular sets of circumstances which, as a matter of principle or policy, may lead to the conclusion that recovery should not be allowed; and in so doing to draw on the experience of the past, looking for guidance in particular from the analogous case of money paid under a mistake of fact, but also drawing upon the accumulated wisdom to be found in the writings of scholars on the law of restitution. However, before so novel and far-reaching defence as the one now proposed can be recognised, a very strong case for it has to be made out; and I can discover no evidence of a need for so wide a defence as this. In particular, experience since the recognition of the right of recovery of money paid under a mistake of law in the common law world does not appear to have revealed any such need.