Undue influence – solicitors’ duties post-Etridge
Many negligence claims have arisen as a result of solicitors viewing their role in the execution of third-party charge documentation as little more than a formality.
The important House of Lords decision in Royal Bank of Scotland v Etridge was delivered on 11 October 2001.
As a result, all conveyancing lawyers should consider carefully their procedures when faced with a transaction where a third party provides security for another person's borrowing.
The risk to solicitors' professional indemnity cover remains acute.
Etridge involved a wife claiming that she had charged her interest in the matrimonial home as a result of the undue influence of her husband.
Whilst the decision has to some extent clarified the scope of the solicitors' duties and set out what is required of the lender, this arrangement does still present all parties with exposure to risk and this has not in any way been reduced following the House of Lords decision.
Can you advise?
Whilst Etridge does contemplate that the same solicitor can act for both parties and the lender in an administrative capacity, the first decision for the solicitor is whether they should be acting at all.
The risk of conflict is extreme when attempting to reconcile Lord Nicholls' comments concerning the provision of full information with a client who in many cases may not wish for the documentation to be fully explained.
When the third party realises that the home will be at risk to secure the other person's borrowing, there may be some reluctance to sign.
If advising the third party, the solicitor will be acting for the third party alone and so must consider carefully whether there is a conflict of duty or interest and whether it would be in the best interests of that client to accept the instructions.
If the third party is a wife, she may well have an interest in supporting the husband's business as it is the source of the family's income.
In such cases the wife may, despite the risks, have a good reason to sign the charge.
Many solicitors will, however, be reluctant to advise in such circumstances.
The law lords stressed the importance of bank finance in the business world and stated that "finance raised by second mortgages on the principal's home is a significant source of capital for the start up of small businesses".
So in order to facilitate the development of embryonic businesses, solicitors will no doubt still be asked to witness charge documentation.
What steps should the solicitor take to ensure that the obligation of independent advice is properly discharged?
Who is your client?
The solicitor must ensure that the client wishes and intends to instruct the solicitor.
It must be established that there is no conflict of interest and that it is the third party (and not the borrower) who is the client.
Full financial information
The solicitor must obtain full financial information concerning the borrower's account. This will normally include (para 79 of Lord Nicholls' judgment) information on:
- the purpose for the new facility
- the current indebtedness
- the amount of the current overdraft facility, and
- the amount and terms of any new borrowing
together with a copy of any application form.
Lord Nicholls stated that "it should become routine practice for banks if relying on confirmation from a solicitor for their protection to send to the solicitor the necessary financial information".
The solicitor must be satisfied that they have the necessary expertise to interpret or advise on the detailed financial information.
The solicitor must explain to the client the purpose for which the solicitor has become involved and that the bank, should it ever become necessary, will rely upon the solicitor's involvement to counter any suggestion that the client did not properly understand the implications of the transaction (para 64).
After explaining the documents, it is the client's rather than the solicitor's decision as to whether or not to proceed.
Core minimum requirements
Lord Nicholls summarised at paragraph 65 of the judgment the core minimum requirements for advice which typically will include:
- the nature of the documents and the risk that the client will lose the home if the borrower's business does not prosper, and even the possibility that the client could be made bankrupt;
- the seriousness of the risks involved by reference to the purpose, amount and terms of the new facility and whether the client understands the value of the property being charged and if there are any other assets out of which repayment could be made if the business fails;
- the fact that the lender may alter the terms of the loan including increasing the amount borrowed without reference to the client;
- asking whether the client is content for the solicitor to write to the bank confirming that the solicitor has explained the nature of the documents to the client and the practical implications they may have;
- discussing whether the client wishes the solicitor to negotiate with the bank on the terms of the transaction (e.g. limitation on the amount borrowed);
- providing the advice at a face to face meeting in the absence of the borrower and giving the advice using non-technical language;
- explaining that the client does have a choice on whether to sign the charge/guarantee or to consent to mortgage with the decision being up to the client alone.
However, it must be appreciated that additional requirements may become appropriate depending on the specific facts of the case.
It should be appreciated by the solicitor that "the solicitor's task is an important one. It is not a formality"(Lord Nicholls, para 65).
To comply properly with the House of Lord's judgment, guidance is likely to take several chargeable hours.
The advice given should be recorded in a full attendance note and confirmed in detail in writing in a letter sent promptly after the meeting.
A draft letter is available on the Law Society website.
All conveyancing solicitors should be certain that before advising on third party charges:
- they have the necessary expertise
- there is no conflict
- there is no suspicion of undue influence or impropriety
- the bank provides full financial information
- the advice covers, at the very least, the core minimum requirements
- the advice is confirmed in writing
In addition, the solicitor should check if the firm's indemnity insurers have any additional requirements or have issued any guidance.
Finally it is up to the solicitor to exercise their skill and judgement in each individual case to decide whether to act.
A solicitor who is acting for the borrower should not agree to advise the third party if there is a real possibility that the advice would be that the third party should not execute the charge/guarantee or consent to mortgage.