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Judgments - Royal Bank of Scotland v. Etridge (AP)

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    35. If the freedom of home-owners to make economic use of their homes is not to be frustrated, a bank must be able to have confidence that a wife's signature of the necessary guarantee and charge will be as binding upon her as is the signature of anyone else on documents which he or she may sign. Otherwise banks will not be willing to lend money on the security of a jointly owned house or flat.

    36. At the same time, the high degree of trust and confidence and emotional interdependence which normally characterises a marriage relationship provides scope for abuse. One party may take advantage of the other's vulnerability. Unhappily, such abuse does occur. Further, it is all too easy for a husband, anxious or even desperate for bank finance, to misstate the position in some particular or to mislead the wife, wittingly or unwittingly, in some other way. The law would be seriously defective if it did not recognise these realities.

    37. In O'Brien's case this House decided where the balance should be held between these competing interests. On the one side, there is the need to protect a wife against a husband's undue influence. On the other side, there is the need for the bank to be able to have reasonable confidence in the strength of its security. Otherwise it would not provide the required money. The problem lies in finding the course best designed to protect wives in a minority of cases without unreasonably hampering the giving and taking of security. The House produced a practical solution. The House decided what are the steps a bank should take to ensure it is not affected by any claim the wife may have that her signature of the documents was procured by the undue influence or other wrong of her husband. Like every compromise, the outcome falls short of achieving in full the objectives of either of the two competing interests. In particular, the steps required of banks will not guarantee that, in future, wives will not be subjected to undue influence or misled when standing as sureties. Short of prohibiting this type of suretyship transaction altogether, there is no way of achieving that result, desirable although it is. What passes between a husband and wife in this regard in the privacy of their own home is not capable of regulation or investigation as a prelude to the wife entering into a suretyship transaction.

    38. The jurisprudential route by which the House reached its conclusion in O'Brien's case has attracted criticism from some commentators. It has been said to involve artificiality and thereby create uncertainty in the law. I must first consider this criticism. In the ordinary course a bank which takes a guarantee security from the wife of its customer will be altogether ignorant of any undue influence the customer may have exercised in order to secure the wife's concurrence. In O'Brien Lord Browne-Wilkinson prayed in aid the doctrine of constructive notice. In circumstances he identified, a creditor is put on inquiry. When that is so, the creditor 'will have constructive notice of the wife's rights' unless the creditor takes reasonable steps to satisfy himself that the wife's agreement to stand surety has been properly obtained: see [1994] 1 AC 180, 196.

    39. Lord Browne-Wilkinson would be the first to recognise this is not a conventional use of the equitable concept of constructive notice. The traditional use of this concept concerns the circumstances in which a transferee of property who acquires a legal estate from a transferor with a defective title may nonetheless obtain a good title, that is, a better title than the transferor had. That is not the present case. The bank acquires its charge from the wife, and there is nothing wrong with her title to her share of the matrimonial home. The transferor wife is seeking to resile from the very transaction she entered into with the bank, on the ground that her apparent consent was procured by the undue influence or other misconduct, such as misrepresentation, of a third party (her husband). She is seeking to set aside her contract of guarantee and, with it, the charge she gave to the bank.

    40. The traditional view of equity in this tripartite situation seems to be that a person in the position of the wife will only be relieved of her bargain if the other party to the transaction (the bank, in the present instance) was privy to the conduct which led to the wife's entry into the transaction. Knowledge is required: see Cobbett v Brock (1855) 20 Beav 524, 528, 531, per Sir John Romilly MR, Kempson v Ashbee (1874) LR 10 Ch App 15, 21, per James LJ, and Bainbrigge v Browne, 18 Ch D 188, 197, per Fry J. The law imposes no obligation on one party to a transaction to check whether the other party's concurrence was obtained by undue influence. But O'Brien has introduced into the law the concept that, in certain circumstances, a party to a contract may lose the benefit of his contract, entered into in good faith, if he ought to have known that the other's concurrence had been procured by the misconduct of a third party.

    41. There is a further respect in which O'Brien departed from conventional concepts. Traditionally, a person is deemed to have notice (that is, he has 'constructive' notice) of a prior right when he does not actually know of it but would have learned of it had he made the requisite inquiries. A purchaser will be treated as having constructive notice of all that a reasonably prudent purchaser would have discovered. In the present type of case, the steps a bank is required to take, lest it have constructive notice that the wife's concurrence was procured improperly by her husband, do not consist of making inquiries. Rather, O'Brien envisages that the steps taken by the bank will reduce, or even eliminate, the risk of the wife entering into the transaction under any misapprehension or as a result of undue influence by her husband. The steps are not concerned to discover whether the wife has been wronged by her husband in this way. The steps are concerned to minimise the risk that such a wrong may be committed.

    42. These novelties do not point to the conclusion that the decision of this House in O'Brien is leading the law astray. Lord Browne-Wilkinson acknowledged he might be extending the law: see [1994] 1 AC 180, 197. Some development was sorely needed. The law had to find a way of giving wives a reasonable measure of protection, without adding unreasonably to the expense involved in entering into guarantee transactions of the type under consideration. The protection had to extend also to any misrepresentations made by a husband to his wife. In a situation where there is a substantial risk the husband may exercise his influence improperly regarding the provision of security for his business debts, there is an increased risk that explanations of the transaction given by him to his wife may be misleadingly incomplete or even inaccurate.

    43. The route selected in O'Brien ought not to have an unsettling effect on established principles of contract. O'Brien concerned suretyship transactions. These are tripartite transactions. They involve the debtor as well as the creditor and the guarantor. The guarantor enters into the transaction at the request of the debtor. The guarantor assumes obligations. On the face of the transaction the guarantor usually receives no benefit in return, unless the guarantee is being given on a commercial basis. Leaving aside cases where the relationship between the surety and the debtor is commercial, a guarantee transaction is one-sided so far as the guarantor is concerned. The creditor knows this. Thus the decision in O'Brien is directed at a class of contracts which has special features of its own. That said, I must at a later stage in this speech return to the question of the wider implications of the O'Brien decision.

The threshold: when the bank is put on inquiry

    44. In O'Brien the House considered the circumstances in which a bank, or other creditor, is 'put on inquiry.' Strictly this is a misnomer. As already noted, a bank is not required to make inquiries. But it will be convenient to use the terminology which has now become accepted in this context. The House set a low level for the threshold which must be crossed before a bank is put on inquiry. For practical reasons the level is set much lower than is required to satisfy a court that, failing contrary evidence, the court may infer that the transaction was procured by undue influence. Lord Browne-Wilkinson said ([1994] 1 AC 180, 196):

    'Therefore in my judgment a creditor in put on inquiry when a wife offers to stand surety for her husband's debts by the combination of two factors: (a) the transaction is on its face not to the financial advantage of the wife; and (b) there is a substantial risk in transactions of that kind that, in procuring the wife to act as surety, the husband has committed a legal or equitable wrong that entitles the wife to set aside the transaction.'

In my view, this passage, read in context, is to be taken to mean, quite simply, that a bank is put on inquiry whenever a wife offers to stand surety for her husband's debts.

    45. The Court of Appeal, comprising Stuart-Smith, Millett and Morritt LJJ, interpreted this passage more restrictively. The threshold, the court said, is somewhat higher. Where condition (a) is satisfied, the bank is put on inquiry if, but only if, the bank is aware that the parties are cohabiting or that the particular surety places implicit trust and confidence in the principal debtor in relation to her financial affairs: see Royal Bank of Scotland Plc v Etridge (No 2) [1998] 4 All ER 705, 719.

    46. I respectfully disagree. I do not read (a) and (b) as factual conditions which must be proved in each case before a bank is put on inquiry. I do not understand Lord Browne-Wilkinson to have been saying that, in husband and wife cases, whether the bank is put on inquiry depends on its state of knowledge of the parties' marriage, or of the degree of trust and confidence the particular wife places in her husband in relation to her financial affairs. That would leave banks in a state of considerable uncertainty in a situation where it is important they should know clearly where they stand. The test should be simple and clear and easy to apply in a wide range of circumstances. I read (a) and (b) as Lord Browne-Wilkinson's broad explanation of the reason why a creditor is put on inquiry when a wife offers to stand surety for her husband's debts. These are the two factors which, taken together, constitute the underlying rationale.

    47. The position is likewise if the husband stands surety for his wife's debts. Similarly, in the case of unmarried couples, whether heterosexual or homosexual, where the bank is aware of the relationship: see Lord Browne-Wilkinson in O'Brien's case, at p 198. Cohabitation is not essential. The Court of Appeal rightly so decided in Massey v Midland Bank Plc [1995] 1 All ER 929: see Steyn LJ, at p 933.

    48. As to the type of transactions where a bank is put on inquiry, the case where a wife becomes surety for her husband's debts is, in this context, a straightforward case. The bank is put on inquiry. On the other side of the line is the case where money is being advanced, or has been advanced, to husband and wife jointly. In such a case the bank is not put on inquiry, unless the bank is aware the loan is being made for the husband's purposes, as distinct from their joint purposes. That was decided in CIBC Mortgages Plc v Pitt [1994] 1 AC 200 .

    49. Less clear cut is the case where the wife becomes surety for the debts of a company whose shares are held by her and her husband. Her shareholding may be nominal, or she may have a minority shareholding or an equal shareholding with her husband. In my view the bank is put on inquiry in such cases, even when the wife is a director or secretary of the company. Such cases cannot be equated with joint loans. The shareholding interests, and the identity of the directors, are not a reliable guide to the identity of the persons who actually have the conduct of the company's business.

The steps a bank should take

    50. The principal area of controversy on these appeals concerns the steps a bank should take when it has been put on inquiry. In O'Brien Lord Browne-Wilkinson, at [1994] 1 AC 180, 196-197, said that a bank can reasonably be expected to take steps to bring home to the wife the risk she is running by standing as surety and to advise her to take independent advice. That test is applicable to past transactions. All the cases now before your Lordships' House fall into this category. For the future a bank satisfies these requirements if it insists that the wife attend a private meeting with a representative of the bank at which she is told of the extent of her liability as surety, warned of the risk she is running and urged to take independent legal advice. In exceptional cases the bank, to be safe, has to insist that the wife is separately advised.

    51. The practice of the banks involved in the present cases, and it seems reasonable to assume this is the practice of banks generally, is not to have a private meeting with the wife. Nor do the banks themselves take any other steps to bring home to the wife the risk she is running. This has continued to be the practice since the decision in O'Brien's case. Banks consider they would stand to lose more than they would gain by holding a private meeting with the wife. They are, apparently, unwilling to assume the responsibility of advising the wife at such a meeting. Instead, the banking practice remains, as before, that in general the bank requires a wife to seek legal advice. The bank seeks written confirmation from a solicitor that he has explained the nature and effect of the documents to the wife.

    52. Many of the difficulties which have arisen in the present cases stem from serious deficiencies, or alleged deficiencies, in the quality of the legal advice given to the wives. I say 'alleged', because three of the appeals before your Lordships' House have not proceeded beyond the interlocutory stage. The banks successfully applied for summary judgment. In these cases the wife's allegations, made in affidavit form, have not been tested by cross-examination. On behalf of the wives it has been submitted that under the current practice the legal advice is often perfunctory in the extreme and, further, that everyone, including the banks, knows this. Independent legal advice is a fiction. The system is a charade. In practice it provides little or no protection for a wife who is under a misapprehension about the risks involved or who is being coerced into signing. She may not even know the present state of her husband's indebtedness.

    53. My Lords, it is plainly neither desirable nor practicable that banks should be required to attempt to discover for themselves whether a wife's consent is being procured by the exercise of undue influence of her husband. This is not a step the banks should be expected to take. Nor, further, is it desirable or practicable that banks should be expected to insist on confirmation from a solicitor that the solicitor has satisfied himself that the wife's consent has not been procured by undue influence. As already noted, the circumstances in which banks are put on inquiry are extremely wide. They embrace every case where a wife is entering into a suretyship transaction in respect of her husband's debts. Many, if not most, wives would be understandably outraged by having to respond to the sort of questioning which would be appropriate before a responsible solicitor could give such a confirmation. In any event, solicitors are not equipped to carry out such an exercise in any really worthwhile way, and they will usually lack the necessary materials. Moreover, the legal costs involved, which would inevitably fall on the husband who is seeking financial assistance from the bank, would be substantial. To require such an intrusive, inconclusive and expensive exercise in every case would be an altogether disproportionate response to the need to protect those cases, presumably a small minority, where a wife is being wronged.

    54. The furthest a bank can be expected to go is to take reasonable steps to satisfy itself that the wife has had brought home to her, in a meaningful way, the practical implications of the proposed transaction. This does not wholly eliminate the risk of undue influence or misrepresentation. But it does mean that a wife enters into a transaction with her eyes open so far as the basic elements of the transaction are concerned.

    55. This is the point at which, in the O'Brien case, the House decided that the balance between the competing interests should be held. A bank may itself provide the necessary information directly to the wife. Indeed, it is best equipped to do so. But banks are not following that course. Ought they to be obliged to do so in every case? I do not think Lord Browne-Wilkinson so stated in O'Brien. I do not understand him to have said that a personal meeting was the only way a bank could discharge its obligation to bring home to the wife the risks she is running. It seems to me that, provided a suitable alternative is available, banks ought not to be compelled to take this course. Their reasons for not wishing to hold a personal meeting are understandable. Commonly, when a bank seeks to enforce a security provided by a customer, it is met with a defence based on assurances alleged to have been given orally by a branch manager at an earlier stage: that the bank would continue to support the business, that the bank would not call in its loan, and so forth. Lengthy litigation ensues. Sometimes the allegations prove to be well founded, sometimes not. Banks are concerned to avoid the prospect of similar litigation which would arise in guarantee cases if they were to adopt a practice of holding a meeting with a wife at which the bank's representative would explain the proposed guarantee transaction. It is not unreasonable for the banks to prefer that this task should be undertaken by an independent legal adviser.

    56. I shall return later to the steps a bank should take when it follows this course. Suffice to say, these steps, together with advice from a solicitor acting for the wife, ought to provide the substance of the protection which O'Brien intended a wife should have. Ordinarily it will be reasonable that a bank should be able to rely upon confirmation from a solicitor, acting for the wife, that he has advised the wife appropriately.

    57. The position will be otherwise if the bank knows that the solicitor has not duly advised the wife or, I would add, if the bank knows facts from which it ought to have realised that the wife has not received the appropriate advice. In such circumstances the bank will proceed at its own risk.

The content of the legal advice

    58. In Royal Bank of Scotland Plc v Etridge (No 2) [1998] 4 All ER 705, 715, para 19, the Court of Appeal set out its views of the duties of a solicitor in this context:

    'A solicitor who is instructed to advise a person who may be subject to the undue influence of another must bear in mind that it is not sufficient that she understands the nature and effect of the transaction if she is so affected by the influence of the other that she cannot make an independent decision of her own. It is not sufficient to explain the documentation and ensure she understands the nature of the transaction and wishes to carry it out: see Powell v Powell [1900] 1 Ch 243, 247, approved in Wright v Carter [1903] 1 Ch 27. His duty is to satisfy himself that his client is free from improper influence, and the first step must be to ascertain whether it is one into which she could sensibly be advised to enter if free from such influence. If he is not so satisfied, it is his duty to advise her not to enter into it, and to refuse to act further for her in the implementation of the transaction if she persists. In this event, while the contents of his advice must remain confidential, he should inform the other parties (including the bank) that he has seen his client and given her certain advice, and that as a result he has declined to act for her any further. He must in any event advise her that she is under no obligation to enter into the transaction at all and, if she still wishes to do so, that she is not bound to accept the terms of any document which has been put before her: see Credit Lyonnais Bank Nederland NV v Burch [1997] 1 All ER 144.'

    59. I am unable to accept this as an accurate formulation of a solicitor's duties in cases such as those now under consideration. In some respects it goes much too far. The observations of Farwell J in Powell v Powell [1900] 1 Ch 243, 247, should not be pressed unduly widely. Powell v Powell was a case where strong moral pressure was applied by a stepmother to a girl who was only just twenty one. She was regarded as not really capable of dealing irrevocably with her parent or guardian in the matter of a substantial settlement. Farwell J's observations cannot be regarded as of general application in all cases where a solicitor is giving advice to a person who may have been subject to undue influence.

    60. More pertinently, in In re Coomber, Coomber v Coomber [1911] 1 Ch 723, 730, Fletcher Moulton LJ summarised the general rules applicable to cases of persons who are competent to form an opinion of their own:

    'All that is necessary is that some independent person, free from any taint of the relationship, or of the consideration of interest which would affect the act, should put clearly before the person what are the nature and the consequences of the act. It is for adult persons of competent mind to decide whether they will do an act, and I do not think that independent and competent advice means independent and competent approval. It simply means that the advice shall be removed entirely from the suspected atmosphere; and that from the clear language of an independent mind, they should know precisely what they are doing.'   

    61. Thus, in the present type of case it is not for the solicitor to veto the transaction by declining to confirm to the bank that he has explained the documents to the wife and the risks she is taking upon herself. If the solicitor considers the transaction is not in the wife's best interests, he will give reasoned advice to the wife to that effect. But at the end of the day the decision on whether to proceed is the decision of the client, not the solicitor. A wife is not to be precluded from entering into a financially unwise transaction if, for her own reasons, she wishes to do so.

    62. That is the general rule. There may, of course, be exceptional circumstances where it is glaringly obvious that the wife is being grievously wronged. In such a case the solicitor should decline to act further. In Wright v Carter [1903] 1 Ch 27, 57-58, Stirling LJ approved Farwell J's observations in Powell v Powell [1900] 1 Ch 243, 247. But he did so by reference to the extreme example of a poor man divesting himself of all his property in favour of his solicitor.

    63. In Royal Bank of Scotland Plc v Etridge (No 2) [1998] 4 All ER 705, 722, para 49, the Court of Appeal said that if the transaction is 'one into which no competent solicitor could properly advise the wife to enter', the availability of legal advice is insufficient to avoid the bank being fixed with constructive notice. It follows from the views expressed above that I am unable to agree with the Court of Appeal on this point.

    64. I turn to consider the scope of the responsibilities of a solicitor who is advising the wife. In identifying what are the solicitor's responsibilities the starting point must always be the solicitor's retainer. What has he been retained to do? As a general proposition, the scope of a solicitor's duties is dictated by the terms, whether express or implied, of his retainer. In the type of case now under consideration the relevant retainer stems from the bank's concern to receive confirmation from the solicitor that, in short, the solicitor has brought home to the wife the risks involved in the proposed transaction. As a first step the solicitor will need to explain to the wife the purpose for which he has become involved at all. He should explain that, should it ever become necessary, the bank will rely upon his involvement to counter any suggestion that the wife was overborne by her husband or that she did not properly understand the implications of the transaction. The solicitor will need to obtain confirmation from the wife that she wishes him to act for her in the matter and to advise her on the legal and practical implications of the proposed transaction.

    65. When an instruction to this effect is forthcoming, the content of the advice required from a solicitor before giving the confirmation sought by the bank will, inevitably, depend upon the circumstances of the case. Typically, the advice a solicitor can be expected to give should cover the following matters as the core minimum. (1) He will need to explain the nature of the documents and the practical consequences these will have for the wife if she signs them. She could lose her home if her husband's business does not prosper. Her home may be her only substantial asset, as well as the family's home. She could be made bankrupt. (2) He will need to point out the seriousness of the risks involved. The wife should be told the purpose of the proposed new facility, the amount and principal terms of the new facility, and that the bank might increase the amount of the facility, or change its terms, or grant a new facility, without reference to her. She should be told the amount of her liability under her guarantee. The solicitor should discuss the wife's financial means, including her understanding of the value of the property being charged. The solicitor should discuss whether the wife or her husband has any other assets out of which repayment could be made if the husband's business should fail. These matters are relevant to the seriousness of the risks involved. (3) The solicitor will need to state clearly that the wife has a choice. The decision is hers and hers alone. Explanation of the choice facing the wife will call for some discussion of the present financial position, including the amount of the husband's present indebtedness, and the amount of his current overdraft facility. (4) The solicitor should check whether the wife wishes to proceed. She should be asked whether she is content that the solicitor should write to the bank confirming he has explained to her the nature of the documents and the practical implications they may have for her, or whether, for instance, she would prefer him to negotiate with the bank on the terms of the transaction. Matters for negotiation could include the sequence in which the various securities will be called upon or a specific or lower limit to her liabilities. The solicitor should not give any confirmation to the bank without the wife's authority.

    66. The solicitor's discussion with the wife should take place at a face-to-face meeting, in the absence of the husband. It goes without saying that the solicitor's explanations should be couched in suitably non-technical language. It also goes without saying that the solicitor's task is an important one. It is not a formality.

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