Mortgage set aside for undue influence

LAW REPORT 27 June 1996

Credit Lyonnais Bank Nederland NV v Burch; Court of Appeal (Lord Justice Nourse, Lord Justice Millett, Lord Justice Swinton Thomas) 20 June 1996

A relationship of trust and confidence between an employee and her employer was capable of giving rise to a presumption of undue influence in the context of a mortgage entered into by the employee as security for the employer's debts.

The Court of Appeal dismissed an appeal by the plaintiff, Credit Lyonnais Bank Nederland NV, against the decision of Mr Recorder Harrod, sitting in Willesden County Court on 13 November 1995, who dismissed the bank's claim against the defendant, Helen Burch. The claim was for possession of her flat and repayment of debts under a mortgage entered into as security for the debts of her employer, Andrea Pelosi, and his company, AP International Travel Ltd (API).

Kathryn Purkis (Blake Lapthorn & Co, Fareham) for the bank; Yvonne Green (Beauchamps) for Miss Burch.

Lord Justice Nourse said that Miss Burch, then aged 18, began working for Mr Pelosi in 1982. He was 10 years older and she trusted him. As well as working for him by day, she did baby-sitting at his home in the evenings and visited the family at weekends and for holidays in Italy.

In June 1990 his tour operating company, API, for which she was then working, was in financial difficulties. Mr Pelosi asked her to put up her flat, which she had bought in 1985, as collateral security for API's overdraft with the plaintiff bank. She agreed to do so.

The bank's solicitors, Belmont & Lowe, wrote to Miss Burch, advising her to take separate legal advice about the documents she would sign and the potential risks of doing so.

Miss Burch wrote back stating she was fully aware of the implications of the transaction. "I also understand that such guarantee is unlimited both in time and amount, and I wish to offer such guarantee on this basis."

The recorder found that Mr Pelosi had either prepared her reply or told her what to say. The transaction was duly completed on 3 August 1990. The obligations assumed by Miss Burch were onerous in the extreme.

API's financial difficulties were not resolved and it went into liquidation. Mr Pelosi's house was sold and he went to live in Italy. The bank, having unsuccessfully pursued him for the company's debts, proceeded against Miss Burch.

In her defence she alleged, inter alia, that she had been induced to enter into the legal charge through the undue influence which Mr Pelosi had exerted over her, and that the bank or its solicitors were on notice, actual or constructive, of this.

The recorder found that there existed between Mr Pelosi and Miss Burch such a relationship of trust and confidence as to raise a presumption of undue influence. The bank knew that Mr Pelosi was putting forward, as the provider of collateral security for a possible debt of pounds 270,000, an employee of his company who had no interest in it as shareholder or director. He held that that was notice of facts which put the bank on inquiry.

The astonishing feature of this case was that under the terms of the legal charge Miss Burch was required not simply to pledge her home as security for a pounds 20,000 extension to API's overdraft; she was required to guarantee without limit repayment of all API's borrowings from the bank, past, present and future, together with interest, commission, charges, legal and other costs.

On these facts, a case could well have been made for setting it aside as an unconscionable bargain. The unconscionability of the transaction was still of direct materiality to the case on undue influence. Since it was so manifestly disadvantageous to Miss Burch, the bank could not be said to have taken reasonable steps to avoid being fixed with constructive notice of Mr Pelosi's undue influence over her when neither had the potential extent of her liability been explained to her nor had she received independent advice.