Experts divided over landmark case that sets out binary test to protect vulnerable borrowers

The Supreme Court has ruled a bank had a duty to investigate whether a woman was acting under the influence of her partner when the couple took out a remortgage, in a landmark case that extends protection for vulnerable people at risk of economic abuse by their partners.

The ruling has divided experts, with some welcoming the certainty of the decision and others saying it will cause confusion and create ‘a substantial burden’ for lenders.

The decision of the Supreme Court judges in Waller-Edwards v One Savings Bank Plc reflects the approach of the court in Etridge, which establishes the protocol for lenders to carry out due diligence related to any potential undue influence in joint non-commercial borrowing in surety cases.

Etridge protocol normally applies when one borrower guarantees the debts of the other, or loans are taken against jointly owned property to the financial benefit of only one borrower. In these cases, the lender is ‘put on notice’ to ensure independent legal advice is taken, that both borrowers are informed about the risks of the transaction and they are each proceeding voluntarily.

The protocol doesn’t normally apply in joint borrowing cases where the loan jointly benefits both parties (as upheld in the Pitt case). In non-commercial hybrid cases, which involve joint borrowing and surety where both parties are jointly liable (such as financing for a car or house), the bank is not normally expected to be put on inquiry, but rather to establish the intended purposes of a loan granted to joint borrowers.

But now, the Supreme Court has held that the correct legal test for non-commercial hybrid transactions is binary, not fact-based: either the surety is present, or it is not.

In the case, Catherine Waller-Edwards argued she had been subjected to undue influence by her ex-partner, Nicholas Bishop, when they took out a joint remortgage. Prior to meeting Bishop, a property developer, Waller-Edwards owned her home outright and had substantial savings but was emotionally vulnerable.

Over the course of the two-year relationship, Bishop persuaded Waller-Edwards to exchange her home and savings for a property he was building, in which she had a 99% beneficial interest. Successive sums were raised on the property, including a re-mortgage of £384,000 from One Savings Bank.

The bank agreed to the remortgage for the purposes of paying £200,000 off a previous mortgage, £142,000 to purchase another property, with £40,000 to be used to settle debts belonging to Bishop.

Instead, Bishop used £233,000 to pay off an existing mortgage, with the rest of the money funding his divorce from his ex-wife. The relationship then broke down and Bishop left the shared home. When the mortgage fell into arrears, the bank commenced repossession proceedings, which Waller-Edwards defended on the grounds of undue influence.

The County Court, High Court and Appeal Court all accepted undue influence was present in a relationship of trust, but held that the bank – which was unaware that Waller-Edwards had a 99% beneficial interest in the property based on the information given at the time of application and had therefore classed the borrowing as joint, not surety – had not been put on inquiry and therefore not required to follow the Etridge protocol in respect of the influence.

In its dismissal of Waller-Edwards’ appeal, the Court of Appeal examined the hybrid transaction as a whole to decide whether the loan was being made for the purposes of the borrower with the debts, rather than jointly. It held that the loan was indeed joint borrowing for joint purposes – a ‘test of fact and degree’ the five Supreme Court judges unanimously agreed had been wrong.

The Court of Appeal was also wrong to focus on the purpose of the loan, the Supreme Court held. Crucially, the decision rests on whether one borrower has, for no personal gain, taken on a legal liability for which they are otherwise not responsible. A creditor is put on inquiry in any non-commercial hybrid transaction where, on the face of the transaction, there is a more than a minimal element of borrowing which serves to discharge the debts of one of the borrowers and so might not be to the financial advantage of the other.

However, while the decision establishes ‘a workable simplicity’ that will allow banks to apply a routine and effective approach to all hybrid cases, without requiring officials to exercise judgment, experts are divided on the impact it will have.

Jennifer Richardson, financial crime partner at Blackfords LLP, suggested that rather than offering clarity, the ruling raised questions on who it would affect. She commented:

“This significantly increases the liability on lenders to undertake checks in respect of those it is lending to, however the decision also raises a lot of questions about how this will be applied in the case of mortgage brokers, for example. Will this liability extend to them as well? Should this lead to a more stringent regulatory regime?

“Solicitors for example are often expected to identify similar situations when dealing with clients, and face regulatory investigations by the SRA if they fail to do so. It may be that we see a similar tightening of regulation amongst lenders as a result of this case.”

Liam Bell, real estate disputes partner at Fladgate, said the decision will be ‘a huge disappointment’ to lenders, who have been keenly monitoring the progress of the case and its potential impact on joint borrowing.

He added:

“In allowing the appeal, the Court has confirmed that there is an additional burden on lenders in so-called ‘hybrid’ borrowing cases. These cases arise where a mortgage is made available to joint borrowers for more than one purpose, one of which is to the financial advantage of one borrower only – such as the classic case of a wife guaranteeing repayment of her husband’s debts.

“Lenders will now always be treated as being ‘on notice’ of possible undue influence in such situations – even if that is only one small part of a wider, multi-purpose loan. To prevent the transaction from being set aside, a lender will need to ensure that the ‘surety’ borrower’s consent is being given without improper pressure from the other borrower. 

“Until now, lenders were entitled to consider the transaction as a whole when assessing whether a loan was being made primarily for one borrower’s purposes. However, the Supreme Court’s decision now means that any element of surety lending (other than truly trivial ones) will require the lender to take a number of practical steps (known as the ‘Etridge protocol’) to ensure that its security remains enforceable.

“This is likely to place a substantial administrative burden – and additional legal risk – on lenders who are already facing challenging economic and competitive conditions.”

But Nigel Clayton, a barrister and mediator specialising in mortgage law, said common sense had been restored.

He commented:

“The Supreme Court has now confirmed that in all cases the test is a binary one. Either there is an element of surety, in which case the Etridge guidelines have to be followed, or there is not, and the Court particularly emphasised that it is how the transaction looks to the lender (not the court, on a later occasion).

“This will be welcome news both for lenders, whose underwriting departments need certainty, albeit there will now, inevitably be an increased number of referrals for independent legal advice in accordance with the Etridge guidelines, and for borrowers who, in any cases in which there is identified a surety element, will be given some measure of protection.”