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Priorities


Charging order and legal charge

Close Asset Finance Ltd v Taylor
CA (Ward LJ, Smith LJ, Lloyd LJ)
22 May 2006 (Lawtel)

Facts

C obtains a money judgment against T which it secures by way of charging order over T’s beneficial interest in a property. T subsequently charges the property by way of legal mortgage to D. An order for sale was made but the proceeds were insufficient to pay both C and D.

Although D’s charge was later in time, as a legal charge, it overreached C’s interest. C challenged D’s advance and sought an account of the money provided by D. The judge ordered preliminary issues as to:
  • Whether the burden was on C to establish that the money was not secured by the legal charge; and
  • Whether the burden could be discharged by C proving that the money was not actually paid by D to T.
First instance

The judge held that the burden was on C to establish that the money was not secured by legal charge, and that the burden could not be discharged by proving that D had not paid the money to T.

Appeal

On appeal, the Court of Appeal held that the second question should have been answered in the affirmative since it was open to C to seek to discharge the burden by proving that the sum was not paid by D to T. An inquiry was ordered as to the amount due and owing under the mortgage between D and T with C to be treated as a party to that inquiry.

Comment

An unusual case. The significant point is that on the particular facts, C, an equitable chargee, having lost out in principle on priorities, it was still able to challenge the validity of the underlying loan between D, the later legal chargee and T, the borrower.


Construction of documents

El Ajou v Stern
[2006] EWCA Civ 165

Introduction

What is the effect on priorities where a mortgage has been discharged but not paid in full?

Company and contract lawyers may be familiar with the plight of Mr El Ajou, an Arab businessman, who lost a fortune in a share dealing fraud in the mid-80’s. He brought a claim against Dollar Holdings on the basis of knowing receipt of the proceeds of the fraud, but failed at first instance because he was unable to establish that Dollar Holdings possessed the requisite degree of knowledge. Following a successful appeal to the Court of Appeal (El Ajou v Dollar Holdings plc [1994] 2 All ER 685), Mr El Ajou was entitled to damages, interest and costs of around £5.5M.

Facts

One of Dollar Holdings’ only worthwhile assets was a development site in Brussells, but by December 1996 it had granted an option to a sister company to purchase the site. Negotiations continued with a Mr Stern, who had the day to day control of the affairs of Dollar Holdings and its associated companies. He ultimately agreed an “Assignment” designed to regulate the distribution of the proceeds of sale of the Brussells site, and which was intended to secure repayment of the judgment debt. However, an associated company (Manhattan) had also granted certain mortgages over the site. Before the site was sold, the mortgages had been discharged, but the underlying obligations had not been paid in full. Stern therefore refused to pay out, on the basis that the underlying obligations ranked in priority to Mr El Ajou’s claim. The question was largely one of construction of the Assignment. At first instance, Warren J found against Stern. Stern appealed.

Recital (F) of the Assignment provided as follows:
    “It is anticipated that on the conclusion of the sale of the Brussells Property…Manhattan…shall have a separate claim against the buyer of the Brussells Property for the purposes …of the purchase for Manhattan…remaining after payment in full of the obligations secured by mortgages on the Brussells Property specified in recital (I) below”
It was argued that although the mortgages had been fully discharged, the underlying obligations had not yet been paid in full, so that Manhattan’s ‘claim’ which was to form the subject of the assignment to Mr El Ajou, either had not yet arisen, or if it had, it was worthless.

A couple of other points were raised on the appeal, including a point that interest, although ordered to be paid, had not been pleaded. Reliance was placed on CPR 16.4 which it is said imposed a mandatory requirement to plead interest.

Held

Carnworth LJ, giving the leading judgment of the Court of Appeal said he remained wholly unpersuaded on the construction point. The assignment had to be construed in its commercial context. The starting point was the long-unsatisfied judgment debt of over £5M. The Brussells property offered the opportunity of satisfying it in part, but only to the extent of any surplus over prior encumbrances. Appeal to “commerciality” did not assist either party. What mattered was not “commerciality” in the abstract, but the commercial context of this particular agreement.
The reasonable observer, alive to the background of this assignment, is unlikely to have contemplated a situation in which the obligations would survive detached from their securities. The judge was entitled to arrive at the same result by reference to the “natural meaning” of the relevant provisions.

As to the interest point, Carnworth LJ said that it was without substance. “Section 35A Supreme Court Act 1981 undoubtedly gave the judge the power to award interest. The rules regulate the exercise of the power, they do not take it away.”

Comment:

The facts of the case are pretty well impenetrable. The significance though is that any agreement to regulate priorities and the order of distribution of proceeds of sale, where mortgages as prior encumbrances, are involved, must clearly cater for the possibility of the mortgages having been discharged but not paid in full. Otherwise, as the Court of Appeal has said, the only reasonable view to take is that once discharged, the mortgages go, once and for all, and cannot be asserted as a subsisting prior encumbrance.


Estoppel

Scottish & Newcastle plc v Lancashire Mortgage Corporation Ltd
[2007] EWCA Civ 684

Introduction

Priorities of mortgages is one of those impenetrable subjects that occupies whole chapters of books that are usually never looked at. Thankfully, priorities in respect of mortgages of registered land is, or at least should be, relatively straightforward. By section 48 Land Registration Act 2002 (replacing s 29 Land Registration Act 1925), registered charges rank in the order shown in the register (rather than the order in which they are created). Unfortunately, the register is not bullet-proof, and the order of priorities can be affected by estoppel.

Facts

Mr P owned a club, and he and his wife owned a house. The club owed S & N over £58,000, which was secured by a charge on the club. Mr P wanted to re-finance the debt by taking a loan from LMC for £30,000, from which he would pay S & N £20,000 with the balance payable monthly over 10 years, secured on the house. LMC were only prepared to lend the money on the security of a first registered charge over the club and the house.

There was no issue as to the charge over the club. The issue concerned the house.
  • On 6 October 1999, Mr & Mrs P executed a legal charge over the house in favour of LMC, who registered the charge on 17 November 1999.

  • On 7 October 1999, Mr and Mrs P executed a legal charge over the house in favour of S & N. They applied to have their charge registered on 15 November 1999, at a time when LMC did not have the protection of a priority search.
Under what was then s 29 Land Registration Act 1925, S & N’s legal charge had priority over LMC’s because it was registered first.

Mr and Mrs P subsequently fell into arrears and LMC obtained an order for possession. The net proceeds of sale were insufficient to meet both LMC’s and S & N’s claims in full. SMC asserted priority. LMC sought a declaration that they had priority. The claim was based on estoppel – either estoppel by convention, that the parties had proceeded on an assumed state of affairs that LMC would be entitled to a first registered charge, or alternatively proprietary estoppel.

First instance

The case was fact sensitive, and the trial judge had to consider the sequence of dealings which were principally between Mr P’s solicitor and S & N’s solicitor on the one hand, and Mr P’s solicitor and LMC’s solicitor on the other, but he was able to hold that S & N knew that LMC would only advance money on the security of a first registered charge; alternatively that S & N acquiesced in this arrangement. Either way, he held that S & N would be estopped from denying LMC’s priority and ordered rectification of the register to reflect the priority of LMC’s charge ahead of S & N’s. S & N appealed.

The appeal

The Court of Appeal upheld the judge’s findings of fact. Although there had been no direct communication or contact between S & N and LMC prior to the execution of their respective charges, Mr P’s solicitor had effectively conveyed to each lender the position of the other, so that S & N were plainly aware that LMC were intended to take a first registered charge. This was also acknowledged in post-completion correspondence.

As to proprietary estoppel, it was held that this was a case of passive acquiescence, rather than positive representation, encouragement or promise.

Further, there was no contravention of the general principle that estoppel cannot be used to circumvent a statute (s 2 Law of Property (Miscellaneous Provisions) Act 1989) for three reasons:
    (1) Section 2 applies to contracts. This case was pleaded and argued solely on estoppel;
    (2) The substantive effect of the proprietary estoppel was not the disposition of an interest in the house, but a variation in the beneficial interests of the parties in the net proceeds of sale of the house;
    (3) Section 2(1) does not affect the creation or operation of a constructive trust. The doctrine of estoppel operates to modify s 2(1) in the same way (Yaxley v Gotts [1999] EWCA Civ 3006).
As to the alternative ground of estoppel by convention, it was held that this form of estoppel does not apply to a representation or promise made by one party to the other as to future conduct, which is relied on and acted by the other to his detriment. In the present case, the crucial question of the priority of legal charges related not to a shared assumption by the parties about an existing state of affairs, but to a future state of affairs, which would only come into existence once LMC made the advance and the legal charges had been executed.

Accordingly, the Court upheld the judge’s finding of proprietary estoppel, but not estoppel by convention.

Rectification of the register

As to relief, it was unnecessary to rectify the register since the registration correctly reflected the priority of the legal charges in accordance with the Land Registration Act. It was sufficient that an appropriate notice should be added to the register to reflect the order of the court.

Accordingly, the appeal would be dismissed, and the judge’s order varied. LMC is entitled to be paid in full before any payment to S & N from the proceeds of sale of the house.


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