New Zealand Credit Law Bulletin - Vol 5, No 5, June 2005
A free, plain English review of recent law and items of interest for creditors, produced by Hattaway & Associates Ltd, Credit Consultants. To subscribe, visit the New Zealand bulletin index and enter your details on the right
Plain language disclaimer:
This bulletin is not legal advice. Do not make decisions on legal matters based on a brief commentary. Instead, get professional legal advice.
In this issue:
- Bankrupting someone who uses a number of different aliases
And bankrupting someone for only $4458. - Who has priority - buyer or mortgagee?
A complex but fascinating case - Collecting from trustees where the trust itself is not liable
Yet another reason not to be a trustee - Consequences and self-fulfilling prophecies
An article by Peter Hattaway, first published in the Mercantile Gazette in September 2004
1. Bankrupting someone who uses a number of different aliases
Sircombe v Auto Wholesalers Cars (unrep., CIV-2003-488-129; HC, Whangarei; 2 December 2003)
On 4 August 1995, Auto Wolesalers entered into an HP agreement with Harry Nicholas Howard for a 1978 Ford Falcon motor vehicle for the sum of $9,000. Finance was provided through Auto Wholesalers to the extent of $6,050. The agreement was signed by Mr Howard in the presence of the proprietor of Auto Wholesalers, Mr Brian Noble.
When he didn’t pay, judgment was entered against “Harry Nicholas Howard aka Harry Foster” for $4,458. Bankruptcy proceedings followed and he was made bankrupt in 2003. The Official Assignee took the view that Harry Nicholas Howard, Harry Foster and Harry Nicholas Sircombe are one and the same person.
Harry Nicholas Sircombe applied for an order annulling the bankruptcy. He consistently denied that he was the person who entered into the HP agreement, though he admitted he also used the name Harry Foster. The Master adjourned the application to give Sircombe time to apply to set aside the judgment. The most interesting aspect of the case is perhaps the fact that a creditor would bankrupt someone for $4,458. It’s not clear what happened after the adjournment, but 18 months on, Harry Nicholas Sircombe is still on the Insolvency & Trustee Service website database - http://www.insolvency.govt.nz/pls/web/dbssiten.main - as an undischarged bankrupt.
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2. Who has priority - buyer or mortgagee?
Lombard Finance & Investments Ltd v Albert Street Ltd (CIV 2004-404-2120; HC, Auckland, 10 September 2004)
This is a complex one, but fascinating once you understand it. Bear with it!
Go-Forward Ltd owned land bordered by Albert and Wolfe Streets in Auckland. The properties had two mortgages secured against them. The first was from Lombard Mortgage Nominee Co Ltd, the second was from Bridgecorp Finance Ltd. On 31 July 2002 Go-Forward entered into an agreement to sell 13 Albert Street to Albert Street Limited for $900,000. (Albert Street Limited was subsequently acquired by Axis Wolfe Limited (“Axis”).) The price was considerably less than the properties were mortgaged for. Bridgecorp had priority for the first $900,000 therefore Lombard Mortgage looked like recovering none of its money.
The settlement date was set for December 2003. Between July 2002 and December 2003, the property doubled in value.
Unfortunately for Axis, it didn't take steps to protect its interest as purchaser by putting a caveat on the title. In between the agreement for sale and purchase and the settlement, on 11 March 2003, Go Forward gave a third mortgage to Lombard Finance. This was to secure a line of credit to Go-Forward's parent company, the Aribu Group. The mortgage was registered on the title a week later. Axis then lodged a caveat (which effectively freezes all dealings with the property until it is removed) against 13 Albert Street to protect their purchase rights to the property. (If they'd lodged it earlier, Lombard wouldn't have been able to register the third mortgage.)
Go-Forward was then put into liquidation.
In December 2003, Axis attempted to complete the purchase of the property. Under the agreement Go-Forward was to discharge all mortgages. However, Go-Forward was in liquidation and had no money to repay and discharge the mortgages (which were much more than Axis's purchase price).
The lenders refused to release their securities over the property until they had been paid. Lombard Finance gave notice to Go-Forward that it would sell the property in a mortgagee sale. However, in order to sell, Lombard needed the caveat removed. Axis refused to withdraw their caveat. It was a stalemate.
Lombard applied to the High Court for removal of the caveat. The court had to decide whether Axis’s interests as a purchaser could defeat a mortgagee’s power of sale. (In other words, who was entitled to benefit from the increase in value of the property?)
An unconditional agreement for purchase of land allows to ask the court to order that the vendor must hand over the property. However, statutory rights will override the purchaser's rights. In this case, s37 of the Land Transfer Act says that the order of registration is paramount to the priority of claims on the property. Here, because the third mortgage was registered before the caveats, the mortgage had priority. The only exception to this is where the earlier registration is acquired by fraud (section 182 of the Land Transfer Act).
In terms of fraud, the law requires “a deliberate or dishonest trick causing an interest not to be registered”. Axis alleged a cunning scheme to take advantage of the increase in value of the property. Lombard Mortgage would recover nothing from the sale to Axis at $900,000. However, if one of the Lombard companies (Lombard Finance) took a third mortgage, got priority ahead of Axis, and was then in a position to sell via mortgagee sale, for say, $1.8 million, the Lombard group would get all or most of its money back on the two loans. Lombard Finance wouldn't get anything from the mortgagee sale, but Lombard Mortgage would.
As evidence of the fraud, Axis alleged that the third mortgage was in fact a worthless security because Lombard Finance would not be able to recover anything from the mortgagee sale, given that it was third in priority to the funds.
The court noted that, “on the face of it, Lombard Finance may have taken a questionable or worthless security”. Nonetheless, the court needed further evidence and analysis before an element of fraud could be decided. In the end, the court held that Axis had an arguable case of fraud and declined the removal of the caveat. This was on the condition that Axis commenced proceedings to enforce their rights of purchase within 28 days. If it failed to do so, the caveat would be removed, and Lombard would be allowed to exercise their power of sale.
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3. Collecting from trustees where the trust itself is not liable
ASB v Davidson (CA95/03, 8 October 2004)
Mr and Mrs Davidson and their solicitor, Mr Alderslade, were all trustees of the Aquatic Trust. The trust opened a bank account with the ASB. Between October 1999 and April 2001 Mr Davidson, apparently acting on behalf of the trust, took out three standby letters of credit from ASB. A standby letter of credit is the bank guaranteeing that it will pay its customer's debts up to a certain amount, if the customer fails to pay.
The third letter was issued in favour of WestpacTrust to secure the borrowing of Leisure Corp Holdings Ltd. Leisure Corp Holdings Ltd was the trust’s commercial trading entity. The other two trustees knew nothing of the letters until Leisure Corp was placed into liquidation. The trustees claimed that none of the letters were authorised by the trust. They had not been authorised by all of the trustees, a fundamental requirement. The third letter of credit was called on and ASB paid WestpacTrust $200,000.
Each letter was obtained by Mr Davidson without the signatures of the other two trustees. ASB, knowing that the letters were issued in favour of a trust, were under an obligation to ensure that all trustees had agreed to the issue of the letters of credit. Trustees, under law, must act unanimously in dealing with the trust.
ASB, however, claimed that the trustees had breached their obligations under the ASB’s normal terms and conditions of banking. As part of ASB’s terms and conditions, customers of the bank are under an obligation to notify the bank immediately if they were aware of anything that was wrong with their account. ASB claimed that the trustees had knowledge of the letters of credit that were issued, and then failed to notify the bank of the problem with them. ASB proved that the bank had mailed, to the Trust’s post office box, confirmation of each of the three letters of credit. This confirmation included an up-to-date account statement which listed the deductions of bank fees for the letters of credit. A term of ASB’s general banking contract also stated that when a letter is sent to a trust’s address, it is taken as “effective communication” to all trustees of a trust. So, despite two of the trustees not knowing anything about the letters of credit, the bank argued that they were deemed to have “constructive” knowledge of them under the bank's ASB terms and conditions.
Given this knowledge and the subsequent failure to notify the bank, the bank argued that the trustees had therefore consented to the letters of credit.
At the High Court trial the judge said that because the correspondence was addressed to the trust and sent to the trust’s postal address, it could not be correspondence to the bank's customers. A trust cannot, the judge ruled, be a customer of the bank. The trustees, as real people, are the bank's customers. The correspondence was not addressed personally to each trustee; therefore the trustees were taken to have never received notification of the letters of credit.
ASB appealed. The Court of Appeal followed the High Courts decision. The court stated that ASB was not able to recover from the trust “by the back door”. The judge said that the bank could not use clauses in the banking contract to get around the fact that two of the trustees were unaware of the transactions. ASB knew the three trustees were part of the Aquatic Trust and they knew that trustees must act unanimously in all matters affecting the trust. The court refused to allow ASB to recover against the trust.
However, Mr and Mrs Davidson had also signed a deed of indemnity to the ASB as part of a separate restructure of the trust's finances. None of the documentation mentioned the letters of credit, but it "included, among other things, an indemnity for all existing and future indebtedness of the Trust to the ASB, or incurred by the ASB on behalf of the Trust."
The High Court refused to find them liable under the indemnity. That court said because the trust had never incurred any obligation (as it was only Mr Davidson acting purportedly on behalf of the trust, not the trust as a whole), there was no obligation which the Davidson’s could be liable. However, the Court of Appeal disagreed. Glazebrook J said that the indemnity “clearly applies, on its plain wording, to a situation where there was never any obligation on the part of the customer (the trustees)…[therefore] there is clear liability on the part of Mr and Mrs Davidson in relation to the indemnity.” Even though the trust wasn’t liable, the Davidsons were. This is the value of a deed of indemnity, as opposed to a guarantee. Guarantors are only liable if the principal debtor is legally liable.
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4. Consequences and self-fulfilling prophecies
I was listening to collection phone calls in a client’s call centre recently. One of the things that became apparent was that the collectors were failing to explain the consequences of non-payment to their customers. In some consumer call centres, as few as half the promises to pay are kept. In such an environment, telling people about the consequences if they fail to keep their promise of payment is almost always the right thing to do. You want the customer to realise that not paying is a bad idea.
Having said this, much of this article is about how this can be counterproductive if you do it the wrong way!
In a seminar the other day, a woman told me, “when people are lying to me, I can smell it.” She was an experienced credit manager with plenty of life experience and I’m sure she’s right – she generally can tell when people are lying to her, even over the phone.
However, one of the things that we have to watch out for in this situation is what psychologists call self-fulfilling prophecies. This is the idea that your expectation is communicated to the other party and then influences their behaviour.
Our expectations often influence outcomes. So, for example, a credit controller who expects a customer to get angry may unconsciously harden his approach in dealing with the customer. This provokes the customer, who becomes angry, but if it hadn’t been for the credit controller’s approach, he wouldn’t have. The credit controller’s expectation becomes a self-fulfilling prophecy.
Or, take a father who wants his daughter to study hard to prepare for exams. He tells her, “I don’t want you going out with your friends when you should be studying!” The risk is that the message the daughter who had in fact been intending to do the right thing takes from this is, “Dad thinks I’ll go out with my friends when I should be studying.” She then works on living up (or perhaps that should be down) to his expectation. Or perhaps it’s more that she feels he won’t be too disappointed if she does that since that’s what he really expects.
Let’s come back to our original credit manager: if one of her customers tells her that he will pay, but she doesn’t think he’ll keep his word, what does she do? The common response is to let him know the consequences if he doesn’t pay. It’s very easy to do this in such a way that a customer who in fact would have kept his promise gets the message, “she doesn’t expect me to keep this promise,” and is then less concerned about keeping his word. When he fails to pay, the credit manager is unaware that she has helped to ensure this result.
Remember that I said that explaining the consequences of failing to pay is almost always the right thing to do. However, there are lots of variations to this basic rule;
1. If you’re good enough, there may be ways to say it so that you don’t sound as if you expect them not to pay – letting them know the consequences while giving them impression that of course they will pay. For example, you might use good cop bad cop to explain that you’re only telling them this because you have to, not because you think they won’t pay.
2 . You may be better to confront them with your belief that they won’t pay and thrash it out on the spot. If your rapport with the customer is good and you can say things with a laugh in your voice, perhaps it can be done without offence. In fact, there is a persuasion technique known as “inoculation” which involves getting the person you’re dealing with to make a commitment, then attacking that commitment so that they defend it and therefore make a stronger commitment.
Creditor John, I need this paid straightaway.
John Yeah, okay. I’ll send you a cheque.
Creditor John, you wouldn’t be having me on would you?
John No. No, honestly, I’ll send you a cheque for the full amount.
It’s important not to start too aggressively with this confrontation approach. It has to be a weak attack (you wouldn’t be having me on would you?) that the debtor can easily defend, rather than a strong attack such as, “I don’t believe you’re going to send the cheque” which, if it catches him by surprise, he might just agree to. You don’t want him to say, “no, I’m not really intending to pay you.”
3. There are also things you can do with customers you don’t expect to pay. Simply make it easier to pay, harder not to pay. If you think they are unlikely to post a cheque, offering to pick it up is a simple way of making it easier to keep their word and harder not to keep their word.
One of the collectors I sat with recently was dealing with consumer debts where the next stage was legal action. One of the calls this collector took was from a woman who was clearly telling him what he wanted to hear and unlikely to be able to make the amount she was promising. She sounded somewhat hopeless. His response was to tell her that if she didn’t pay, he was going to sue. This was a complete waste of time.
The better tactic was to make it easier for her to pay, and harder for her not to pay. Push the payments down to a “do-able” level and push to get it set up via an automated method.
I particularly like the way one of our Australian presenters makes it harder for a problem customer to use the excuse of forgetting a promise to pay. She calls the customer the day before and tells them, “our computer system went down and we lost some data. Was it today or tomorrow you were going to pay?” Of course, they say, “tomorrow”. Not only does she remind them of their imminent payment, but she does it without implying that she doesn’t expect the payment. She therefore avoids the trap of the self-fulfilling prophecy.
