Mortgagees: Recent extension of the duty to act in good faith in selling mortgaged property.

It is not everyday that iconic Australian film characters such as Darryl Kerrigan make their way into judgments from the Supreme Court. Even less likely is to find such characters quoted alongside Shylock from the Merchant of Venice.  However, Justice Vickery of the Victorian Supreme Court had occasion to refer to both in the very recent decision of Nolan v MBF Investments Pty Ltd [2009] VSC 244 (Nolan). The issue in the proceedings was conveniently summarised by his Honour in the following passage:

'The issue raises the question as whether the interest of the mortgagor in his family home was merely an emotional interest unprotected by s.77(1) [of the Transfer of Land Act 1958 (Vic)]. Such an 'interest' may be typified by the popular Australian film "The Castle" (1997) in which the central character Darryl Kerrigan says in a key passage in the screenplay:

They don't get it. They're judging the place by what it looks like, and if it doesn't have a pool, or a classy front, or a big garden. And because of that it's not worth saving. But it's not a house, it's a home. It's got memories, great memories! It's a place for the family to turn to, come back to.'

Section 77(1) of Transfer of Land Act 1958 (Vic) (Victorian TLA) provides relevantly that:

(1) If within 1 month after the service of [a notice or demand under s.76] or such other period as is fixed in such mortgage or charge the mortgagor... [does] not comply with the notice or demand the mortgagee... may, in good faith and having regard to the interest of the mortgagor... sell [the mortgaged land]... (Emphasis added)

The mortgagee's 'good faith' duty

The inclusion, in Section 77(1) of the Victorian TLA, of the emphasised words above is unique to Victoria and Queensland in the relevant torrens land legislation. In Western Australia, the equivalent provision of the Transfer of Land Act 1893 (section 108) does not expressly condition the mortgagee's right to sell mortgaged property (where a default notice has been properly issued) by reference to notions of good faith or the interest of the mortgagor. 

However, there still remains, throughout Australia, a common law requirement that a mortgagee acts in good faith when exercising a power of sale: Barns v Queensland National Bank Limited (1906) 3 CLR 925; Forsyth v Blundell (1973) 129 CLR 477. 

Prior to the Nolan decision, the duty to act in good faith had not been extended past an obligation:

• to obtain a reasonable market value;
  
  
• to only realise so much property as is necessary to discharge a mortgagor's obligation; and
  
  
• not to 'wilfully and recklessly deal with the property in such a manner that the interests of the mortgagor are sacrificed': Barns v Queensland National Bank Limited (1906) 3 CLR 925 at 944.

Extensions of the 'good faith' duty

The facts that led to a mortgagee sale in Nolan were complex.  For the purposes of appreciating the argument concerning the duty of good faith, it is worth noting the following key facts:

• The mortgaged property initially comprised one large lot that was, with the consent of the mortgagee, subdivided into three smaller lots.
  
  
• Two of the three lots (Lot 2 and Lot 3) were vacant land (one containing gardens and one containing a tennis court).  The other lot (Lot 1) contained the principal place of residence of the mortgagor (Mr Nolan), his wife and 5 children.
  
  
• All three lots comprising the security property were advertised for sale by way of auction. 
  
  
• Various expert opinions were sought as to the likely sale prices and the best order in which to sell the lots so as to ensure that the mortgagee's debt was repaid in full. Those opinions suggested that if Lot 2 and Lot 1 (the family home) were sold the proceeds of sale would be sufficient to discharge the mortgagor's indebtedness to the mortgagee and it would therefore be unnecessary to sell Lot 3 (the remaining vacant land). Those opinions also suggested that it may have been possible (depending on the sale price) for the proceeds of sale of both vacant lots to discharge the mortgagor's indebtedness.
  
  
• For several months prior to the auction, the solicitors for Nolan and other representatives on behalf of Mr Nolan requested on numerous occasions that the mortgagee sell the two vacant lots first so as to potentially avoid the need to sell the family home on Lot 1. They also requested that if the mortgagee insisted on selling the family home (which they believed would be unconscionable) that the mortgagee should then sell the remaining vacant lot at auction.
  
  
• Just prior to the auction, the mortgagee, in consultation with various advisors, determined that the auction should proceed by first offering the vacant Lot 2 (the anticipated highest value lot) followed by the family home, Lot 1 (the next highest valued lot) and, if necessary, Lot 3 last.
  
  
• The mortgagee, mortgagor and some of the relevant experts consulted attended at the auction. The first lot sold was Lot 2 (a vacant lot) which sold for a value far in excess of the experts' opinions on its likely sale price. At that point, based on the experts' previous opinions, a sale of Lot 3 (the remaining vacant lot) would have been likely to yield sufficient sale proceeds to pay out the mortgagor's debt.
  
  
• In accordance with the mortgagee's decision prior to auction, Lot 1 (the family home) was then auctioned for a sale price sufficient to discharge the debt owing to the mortgagee.
  
  
• In accordance with the mortgagors' wishes (to sell the remaining vacant lot if the family home was sold) the mortgagee then sold the remaining vacant lot (Lot 3) at auction.

Mr Nolan brought an application seeking compensation against the mortgagee for breaching section 77(1) claiming that the mortgagee failed to act in good faith and failed to have regard to the interests of Mr Nolan in effecting the sale in the manner set out above. 

Vickery J's judgment is extensive. His Honour goes so far as to consider the construction of section 77(1) and the right to protection from arbitrary interference with a person's home in the light of International Law including, the Universal Declaration of Human Rights, the International Covenant on Economic, Social and Cultural Rights and the Charter of Human Rights and Responsibilities Act 2006 (Vic).

It was also necessary for His Honour to determine the nature of Mr Nolan's interest in the property. This required a finding as to the extent of Mr Nolan's 'bundle of rights' in the property which, accordingly to His Honour, included:

• a right to redeem the property by paying off the debt due;
  
  
• a right to occupy the dwelling on the property;
  
  
• a contractual right, pursuant to the mortgage, to remain in possession of the mortgaged property until possession was granted to the mortgagee; and
  
  
• a right to the use and enjoyment of the property.

Ultimately, His Honour found that the mortgagee's actions in continuing with a sale of the family home in circumstances where Lot 2 sold for such a significant amount and the sale of Lot 3 would have been sufficient to pay out the debt owing was:

'undertaken deliberately and with full knowledge of the relevant facts, including the impact its decision would have on Mr Nolan and his family. In exercising its power of sale in the way it did, [the mortgagor] carried into effect the indirect object of destroying Mr Nolan's legal interest in the land by depriving him of full ownership of the property by the exercise of his right of redemption.  [The mortgagor's] decision also had the effect of evicting Mr Nolan and his family from occupation of the land and dwelling house situated on the land.

               ...

[The mortgagor] completely disregarded Mr Nolan's interest in the property, namely his right to redemption which, if exercised as it would have been on the sale of Lots 2 and 3, would have resulted in him retaining Lot 1 as an unencumbered estate.  Further, the use and enjoyment of the dwelling house situated on Lot 1 for home occupation, which had been so assiduously brought to the attention of [the mortgagor] over the months preceding the auction sale, was lost.'

Applicability generally

Whilst the Nolan decision involved the proper construction of section 77(1) of the Victorian TLA, its implications are far reaching.  In particular it has significant application to the common law duty imposed on mortgagees to act in good faith especially when dealing with a sale of property that includes a family home.  It is important to bear in mind, when considering a mortgagee sale, matters other than simply the price that is to be obtained.  Lenders should ensure that:

• they do not sell more property than is necessary in order to discharge a mortgagor's debt; and
  
  
• they do not wilfully disregard all the interests of a mortgagor including the interests that arise from the right to possession and occupation of property and the right to any surplus sale proceeds.

Agents acting for mortgagees in possession along with receivers are also required to act in good faith in exercising a power of sale. This is because section 420A(1) of the Corporations Act, which provides that a controller must exercise reasonable care with respect to the sale price of property, does not replace the common law duty of good faith: Florgale Uniforms Pty Ltd v NAB Ltd (2004) 22 ACLC 1. 

If you would like more information on the above, please contact Alison Robertson on 9288 6872 or alison.robertson@lavanlegal.com.au or Simon Majteles on 9288 6763 or simon.majteles@lavanlegal.com.au.