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Breach of trust: the new contributory negligence avoidance scheme for lenders

04 January 2013.

In the current climate, the majority of claims we are instructed to defend solicitors against, are being brought by lenders, in the conveying context.

In a conveyancing transaction, the solicitors hold the mortgage advance received from the lender in their client account.  This money is held on trust for the mortgage company and is to be transferred, subject to various factors, such as valid completion taking place.  Where the money is wrongly transferred, this arguably gives rise to a claim for breach of trust. The basic principle for a breach of trust claim is based on equity: that the beneficiary (i.e. the lender) is entitled to be compensated for any loss he would not have suffered but for the breach of the solicitor.

Where a lender is trying to claim back monies paid from solicitors, primarily the defence is contributory negligence – arguing that the lender did not act in accordance with their lending criteria in making the advance in the first place, and/or the lending criteria breached safe lending practices, and/or the lender did not act as a prudent lender.  Indeed the Paratus case has recently confirmed that lenders can be found as much as 60% contributorily negligent.

If however, breach of trust is established, there is no need for a lender to show that the solicitor acted negligently or in breach of contract. The lender can recover the full loss suffered, without any deduction for contributory negligence. It is therefore far more beneficial for a lender to sue for breach of trust, hence the increasing trend in bringing such a claim against solicitors.

What can a solicitor do if found to be in breach of trust?

As more and more lenders are bringing claims for breach of trust against their solicitors, it is important to note that there is some relief available under the Trustee Act 1925.

Section 61 of the Act provides as follows:

'If it appears to the court that a trustee, whether appointed by the court or otherwise, is or may be personally liable for any breach of trust, whether the transaction alleged to be a breach of trust occurred before or after the commencement of this Act, but has acted honestly and reasonably, and ought fairly to be excused for the breach of trust and for omitting to obtain the directions of the court in the matter in which he committed such breach, then the court may relieve him either wholly or partly from personal liability for the same.'

Under this provision, the court has discretion as to whether or not it grants relief. To obtain relief: (i) the solicitor must have acted both reasonably and honestly and; (ii) the Court must consider that it would be fair to excuse the solicitor, having regard to all the circumstances of the case.  The burden of proof falls on the solicitor who is seeking relief.

In order to show reasonableness, the solicitor must demonstrate that he or she treated the trust property in a way that a prudent man of business would deal with his own property. Unpaid trustees are more likely to find themselves excused under this provision than solicitors acting as trustees. However, whether the discretion will be exercised ultimately depends on the facts of each case.

A tough approach by the Courts?

In the recent case of Lloyds TSB Bank plc v Markandan & Uddin [2012] EWCA Civ 65 (click here to read...), a firm of solicitors was denied relief under the Act for breach of trust because it did not carry out its duties to the required standard.  The lender was therefore entitled to the entirety of the losses it had suffered as a result of the borrower's mortgage fraud.

If one considers the facts of this case, although the law firm in question was as much of a victim of the fraud as the lender, their conduct throughout the transaction was far below what should be expected of a law firm and in fact, monies were paid over before completion had even taken place. In addition, the property was not even really for sale, and the 'seller's solicitors' were a bogus office of an existing firm which had been invented by fraudsters, all of which the Court felt the solicitors ought to have been alive to.    Ultimately, the Markandan case doesn't really take the debate as to when the Court's discretion might be exercised very much further.  One would hope that, in cases where a lender is using breach of trust as a tactical weapon to usurp otherwise very legitimate defence arguments, a Court may be persuaded to exercise the discretion in the defendant's favour, and a test case is awaited eagerly.