This is an important case for all solicitors acting for lenders taking security. It also provides a salutary lesson when dealing with redemptions and has a useful summary of the law relating to breach of trust claims and the appropriate remedy.
Here the lender was seeking to recover the balance of an advance which it said was paid away to the borrowers in breach of trust.
At the outset it should be noted that once a conveyancing transaction has been completed the client has no right to have the solicitor’s client account reconstituted as a trust fund (see Target Holdings Ltd v Redferns  AC 421
as per Lord Browne- Wilkinson).
AIB’s borrowers sought a remortgage advance of circa £ 3 million on their home valued at around £ 4 million. There was a first charge in favour of Barclays Bank to be redeemed from the advance. Barclays were owed circa £1.5 million on two accounts.
Before completion the solicitors were given a redemption figure circa £1.23m. They paid that to Barclays and the remainder of the advance to the borrowers.
The solicitors failed to notice that the redemption figure related to only one of the two accounts and insufficient to redeem the Barclays mortgage. The reader is referred to the judgment as to the facts surrounding the redemption. The solicitors whilst acting in good faith admitted that they were negligent.
As is standard the Solicitors provided a Certificate of Title as per Rule 6(3) of the Solicitors Practice Rules 1990 which noted
"Except as otherwise disclosed to you in writing…we have investigated title to the property, we are not aware of any other financial charges secured on the property which will affect the property after completion of mortgage and, upon completion of the mortgage, but you and the mortgagor … will have a good and marketable title to the property … free from prior mortgages or charges …which title will be registered with absolute title.”
The sum sent to Barclays was insufficient to discharge its secured debt and it subsequently refused to remove its charge. The defendant was not able to register AIB’s charge until it was in a position to redeem Barclays’ charge.
In April 2008, AIB and Barclays entered into a deed of postponement by which Barclays permitted AIB’s charge to be registered as a second charge on the property, limiting its priority in respect of its own charge to circa £274k, plus interest, costs and expenses. That was less than the balance outstanding by reason of payments that the borrowers had made.
AIB obtained judgment against the borrowers for circa £3.5 million, and an order for possession of the property which was sold for £1.2 million. £300,000 was paid to Barclays in satisfaction of their first charge, and the balance (after costs) of £867,697.78 to AIB. Bankruptcy orders were made against the Borrowers.
AIB’s claim was that the solicitor acted in breach of trust by paying away the advance, which was admitted was held as trust money, without obtaining a first charge. As a result the solicitors were liable to reconstitute the trust fund of £3.3m, credit being given for £867,697 recovered, with a liability of about £2.4m before interest.
The solicitors argue that payment was not a breach of trust, or if it was their liability was limited to the loss in the value of the bank’s security caused by their failure to pay off the whole of Barclays’ secured debt. In other words £300,000 paid to Barclays from the sale proceeds.
There were two issues for the court to consider:
1 Did the defendant act in breach of trust in releasing the Advance Monies.
2 If so, to what remedy, if any, was the Claimant entitled to?
Breach of Trust.
The starting point was Target Holdings Ltd v Redferns  AC 421
where a solicitor had paid away monies to a third party. Lord Browne- Wilkinson analysed the principles on which a court would order restoration of trust monies wrongly paid away, or compensation in lieu. He stated at page 435
"The depositing of money with the solicitor is but one aspect of the arrangements between the parties, such arrangements being for the most part contractual. Thus, the circumstances under which the solicitor can part with money from client account are regulated by the instructions given by the client: they are not part of the trusts on which the property is held.
I do not intend to cast any doubt on the fact that moneys held by solicitors on client account are trust moneys or that the basic equitable principles apply to any breach of such trust by solicitors.
But the basic equitable principle applicable to breach of trust is that the beneficiary is entitled to be compensated for any loss he would not have suffered but for the breach. I have no doubt that, until the underlying commercial transaction has been completed, the solicitor can be required to restore to client account moneys wrongly paid away. But to import into such trust an obligation to restore the trust fund once the transaction has been completed would be entirely artificial.
To impose such an obligation in order to enable the beneficiary solely entitled (i.e. the client) to recover from the solicitor more than the client has in fact lost flies in the face of common sense and is in direct conflict with the basic principles of equitable compensation.
In my judgment, once a conveyancing transaction has been completed the client has no right to have the solicitor’s client account reconstituted as a "trust fund.”.
On the first issue HHJ David Cooke noted
1 the terms on which a solicitor is authorised to pay out monies held in his client account are to be determined by construction of his contract of retainer. Thus Lord Browne Wilkinson held that they are regulated by the retainer rather than being terms of the trust. However a payment out of monies in breach of those terms of the retainer that governs the authority to pay would amount to a breach of trust.
2 not all the terms of the solicitor’s retainer relate to their authority to pay out monies from client account. A payment of money at a time when the solicitor is in breach of one of these other terms will not necessarily amount to a breach of trust
3 The court’s task is to construe the terms of the retainer in order to ascertain what authority they confer on the solicitor to pay out money that they hold on trust for the client.
4 In the present case, the written terms of the retainer did not deal explicitly with the precise circumstances in which the solicitor could pay out the money. It was necessary to fill in any gaps using the ordinary basis of construction. The reader is referred to the judgment for a more detailed analysis.
5 The defendant’s instructions authorised them to pay to Barclays such sum as was required to procure a release of its charge, and to pay the balance to the borrowers. Had they complied with their instructions they would have £1.5m to Barclays and £1.8m to the borrowers. However they paid £1.2m to Barclays and £2.1m to the borrowers. In so doing they committed a breach of trust as payment was made contrary to the authority they had been given.
What was AIB’s remedy? On their behalf it was argued that the defendant held the advance on trust to be released only against a first legal charge. A first legal charge was never provided. What the bank received was a second legal charge, but a second charge.
It was submitted that was a different asset altogether. Counsel for AIB drew an analogy with a trustee who was authorised to buy a new car, but spent trust funds on a second hand one instead. Therefore it would not be an authorised use of funds and the trustee would be liable to reconstitute the fund by paying the whole price back. In this case, the solicitors had never obtained a first charge and so were not authorised to disburse any of the advance.
This was rejected by HHJ Cooke. He noted the solicitors’ instructions to obtain a first charge required them first to obtain a duly executed charge in favour of the bank, which they did, and then to apply the advance so that the charge took effect as a first charge. The only precondition to the release of any funds was the receipt of a valid form of charge.
HHJ David Cooke noted that it did not necessarily follow that the whole of the payment out of £3.3m was made in breach of trust.
The difference between what the defendant did and what it ought to have done if it had complied with its instructions was that £300,000 should have been paid to Barclays. Instead it was paid to the borrowers. In HHJ Cooke judgment that was the extent of the breach of trust committed.
However, it was not a breach of trust to pay £1.2m to Barclays. That payment was made as partial performance of the authority and obligation to discharge Barclay’s secured debt. Neither was it a breach of trust to pay £1.8m to the borrowers. That was the sum to which they were entitled. The breach consisted of the failure to retain an additional £300,000 and apply that to discharge of Barclays debt.
AIB was entitled to reconstitution of the trust fund by repayment of the amount wrongly paid away.
Where as here the breach consists of failure to discharge a prior mortgage, with the result that the claimant’s interest has been postponed to Barclays debt to the extent of the capital, plus interest and charges subsequently accruing due to Barclays and also secured by its charge, the claimant is entitled to equitable compensation for the additional amounts accruing due to Barclays, which have increased the amount secured in priority to the claimant’s interest.
The claimant had to give credit for the amounts paid by the borrowers to their Barclays account, since these have had the effect of reducing the loss caused by the defendant’s breach of trust.
Thus the defendant’s liability at the date at which Barclays charge was eventually redeemed would be the amount paid at that date to Barclays circa £274k.
Here a simple mistake led to very serious consequences for the lender. More importantly, no doubt the Solicitors insurers having to meet substantial costs.
There is much to command the wisdom of hindsight. Had the solicitors re checked any redemption figure from their instructions and sought further instructions from AIB a claim could have been averted.
Whilst it was not raised practitioners should note section 61 Trustee Act 1925 which provides
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.