Borrowers punished for behaving unconscionably in taking advantage of a lender’s mistake

The New South Wales Supreme Court decision of Citigroup v Wernhard [2019] NSWSC 132 considers whether certain conduct by the borrowers was unconscionable (as against a lender). Borrowers sold one of three properties that was held as security for loans to them, but the lender mistakenly released mortgages over all three. The borrowers noticed the mistake, subsequently sold another property without informing the lender and used the proceeds as they wished. The Court considered whether this conduct of the borrowers was unconscionable and whether the borrowers should re-mortgage the remaining property to the lender.

In Citigroup v Wernhard [2019] NSWSC 132, the Court was asked to determine whether certain conduct by borrowers was unconscionable. When the Wernhards sold one of three properties that Citigroup held as security for loans to them, Citigroup released mortgages over all three. The Wernhards immediately noticed the mistake, but Citigroup remained ignorant for 4 years. During that time, the Wernhards sold another property without informing Citigroup and used the proceeds as they wished. The Court considered whether the conduct of the Wernhards was unconscionable and whether the Wernhards should re-mortgage the remaining property to the lender.

Background

1. In 2005, Citigroup loaned money to the Wernhards and took first registered mortgages over three properties as security: two investment properties located at Raymond Terrace and South Tamworth and their residence at Watanobbi.
2. In 2012, the Wernhards wished to sell the Raymond Terrace security property.  Citigroup instructed its solicitors to discharge its mortgage over the Raymond Terrace property, but to leave the mortgages over the other two properties in place.  By error, Citigroup’s solicitors handed over the certificates of title of all three properties and releases of the mortgages over all three. The releases were promptly registered.
3. Very shortly after settlement, the Wernhards became aware of the mistake, but did not inform Citigroup. Citigroup continued to act as if it had security over two properties (instead of none).
4. In May 2013, the Wernhards sold the South Tamworth property without informing Citigroup. The proceeds were then used as the Wernhards saw fit, including to pay repayments on their loans from Citigroup.
5. Citigroup finally noticed its mistake in 2016 and demanded that the Wernhards re-execute a mortgage over the last remaining property.  The Wernhards refused.
6. In July 2017, the Wernhards stopped making repayments and were in default from that time.

Citigroup’s Claim

Citigroup’s claim was based on unilateral mistake of delivering two certificates of title and two releases that it did not intend to deliver at settlement.

The Court noted that, as the Wernhards had notice of the mistake when they sold the South Tamworth property this was “a classic basis for the exercise of the Court’s jurisdiction to relieve for mistake”, subject to any successful defence or counterclaim.

The Wernhards’ Defence

The Wernhards raised numerous matters in defence. These included that Citibank had failed to give notice of its own mistake, the demand to re-mortgage the remaining property was intimidatory, Citibank’s mistake was evidence of matters raised in the Hayne Royal Commission, and that to obtain a new mortgage Citibank had to follow the processes of initiation of a facility and security, but had not done so.

The Court rejected all of the Wernhards’ arguments, noting that they had acted unconscionably in selling the South Tamworth property without advising Citibank, which was entitled to demand its security be reinstated to the extent possible.  The Court also observed that matters raised in the Hayne Commission were not relevant to whether the Wernhards had a defence.

The Wernhards’ Counterclaim

The Wernhards also counterclaimed on the basis that the freezing of the facilities had caused them loss in relation to a community organisation they were the managers of and for which they operated a truck, using one of the facilities to do so. The Court rejected the counterclaim, reiterating that Citibank was entitled to freeze the accounts and that generally its actions were in response to the Wernhards’ unconscionable conduct.

Orders

The Court made a declaration that the remaining property was subject to an equitable mortgage to Citibank and ordered the Wernhards to execute a mortgage in registrable form within 28 days.

Key Takeaway

The Court will punish unconscionable conduct by either party to loan transactions, including unconscionable conduct by a borrower.

Authored by: 

Guy Edgecombe, Partner

Craig Melrose, Solicitor