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When is the Door Closed? Recent Case Boosts Lenders’ Rights By Lisa Dorman & Prudence Allan | August 2009 Area of Expertise | Commercial Disputes & Insolvency

Summary In Sam Management Services (Aust) Pty Ltd v Bank of Western Australia Ltd [2009] NSWSC 676 (17 July 2009) the Court looked at when a Bank’s refusal to agree to a partial refinance and release of securities was unreasonable and unfair. It also examined whether the failure to allow partial refinancing created a clog on the equity of redemption.

Who Does This Impact? Banks, lenders and borrowers

What Action Should Be Taken? In circumstances where credit is scarce and lending is tight, there will inevitably be an increase in disputes over refinancing. It is important for lenders to be aware of when they may be criticised for not allowing a customer to partially refinance.

The Facts Prior to May 2007, Sam Management Services (Aust) Pty Limited (SMS) had a number of consolidated loans with the Bank of Western Australia Ltd (the ‘Bank’). In May 2007, the Bank offered to provide SMS with consolidated banking facilities totalling $24,742,000. The offer was accepted. Two of the facilities were due to expire in October 2007, a third in March 2009 and the balance at dates thereafter. At the end of October 2007, SMS did not pay back the amounts due on the facilities that had expired. An arrangement was made with the Bank to extend those particular facilities on a month to month basis. In April 2008, the Bank wrote to SMS and expressed concern that it was in breach of its undertakings by failing to provide particular financial information to the Bank and recommended that SMS seek a refinance of the total facilities elsewhere within a specified period of time.

The Claim SMS argued that the Bank was informed in May 2008, on separate occasions, of a desire to effect a partial refinance with another lender. It alleged that the Bank had acted in breach of an express term of the loan, or alternatively breach of an implied term of the loan to the effect that the Bank would permit SMS to refinance part of the debt with another lender and obtain release of some of the securities held. It was further argued that the refusal to allow partial refinancing constituted a ‘clog’ on the equity of redemption. SMS further argued that because it was a requirement of the loan that the amount lent not exceed 60% of the valuation of the properties the inverse was true. That is, if the loan was less than 60% of the security held, it could demand the return of the securities held.

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When is the Door Closed? Recent Case Boosts Lenders’ Rights by Lisa Dorman & Prudence Allan

The Bank denied it had acted unfairly or unreasonably and that its dealings with SMS were not in breach of the Code of Banking Practice. The matter was expedited on the basis that the Bank was unable to take action in relation to its security until the proceedings were determined.

The Decision Justice Rein determined that there was nothing in the correspondence which suggested that from April 2008 to the present day, SMS ever sought the Bank’s agreement to a partial refinancing. His Honour found that the Code of Banking Practice applied to the Bank and imposed on it, an obligation ‘to act fairly and reasonably’ towards SMS, having regard to the conduct of the customer and the terms of the loan agreement. The loan agreement required all of the securities listed to be provided for the loan and that the alleged implied term that the Bank would allow part of the securities to be released on a partial refinance, was inconsistent with that provision. The Court found that the failure of SMS to repay the amounts due on the expired facilities and unfulfilled promises to repay the amounts due, rendered SMS in default. SMS agreed to refinance the whole of the facility and did not at any time inform the Bank it could not do so. The proposition that the expired facility had not been repaid because of the Bank’s failure to act fairly and reasonably, was also rejected. Furthermore, SMS had not and did not in the present application, present an actual proposal for partial refinancing. Accordingly, the Court was unable to say whether the Bank, in refusing to accede to such a proposal, would be acting in breach of the duty to act reasonably. In the absence of a specific proposal from SMS there would be no utility in the Court in making a declaration. Accordingly, his Honour determined that the application against the Bank be dismissed. In doing so, his Honour found that the Bank had not acted unreasonably and that as at August 2008, there was no partial refinancing option available to SMS from any lender that it was seeking to pursue.

Clog on the Equity of Redemption A mortgagor, having repaid a loan, has a right to recover the property and attempted restrictions on that right are generally inoperative1. His Honour identified two reasons why the principle did not apply to the case before the Court, namely: •

The Bank did not seek to fetter SMS from redeeming its property. What it sought to do was have SMS repay the loan and relied on a contractual provision that it was entitled to retain all security until the debt was paid in full; and

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When is the Door Closed? Recent Case Boosts Lenders’ Rights by Lisa Dorman & Prudence Allan

The failure to pay the amounts due on the expired facilities in October 2007, coupled with the unfulfilled promises to reduce the debt by other means would be sufficient to rebut any assertion of unconscientious conduct. Further, SMS had not asked the Bank to release any particular security to permit refinancing of some of the facilities, therefore no particular security had been identified over which a clog existed.

Implications The case highlights that when a customer fails to repay an expired facility, the Bank is entitled to press for immediate repayment. There is no obligation on a lender to agree to partial discharge of security; particularly in circumstances where no proposal for partial discharge is submitted by the borrower. Inconvenience to the borrower does not amount to unfair or unreasonable conduct by the lender.

Update An appeal by SMS to the NSW Court of Appeal was subsequently unsuccessful. In the judgment delivered on 7 October 2009, Hodgson JA, Young JA and Sackville AJA dismissed the appeal and found that there had been no breach by the Bank of the Code of Banking Practice (Sam Management Services (Aust) Pty Limited v Bank of Western Australia Limited [2009] NSW CA 320).

Endnotes 1

At paragraph [79] see Lift Capital Partners Pty Ltd –v- Merrill Lynch [2009] NSWSC 7 at [106] – [137] per Barrett J

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When is the Door Closed? Recent Case Boosts Lenders’ Rights by Lisa Dorman & Prudence Allan

For more information, please contact: Lisa Dorman Senior Associate T: 02 8257 5734 lisa.dorman@turkslegal.com.au

Prudence Allan Lawyer T: 02 8257 5755 prudence.allan@turkslegal.com.au

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When is the Door Closed? Recent Case Boosts Lenders' Rights