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Supreme Court confirms subrogation against third party beneficiary

Supreme Court Print publication

20/11/2015

Walker Morris reported previously on the Court of Appeal’s 2013 decision that a lender with defective security was entitled, through subrogation, to an unpaid vendor’s lien over a property on the basis that the owner had been unjustly enriched at the lender’s expense. The owner appealed that decision and the Supreme Court has now given judgment. Banking Litigation specialist explains.

Legal and Factual Background

Full background to the case of Bank of Cyprus UK Limited v Menelaou [1] can be found by clicking here. In summary, the lender had a charge worth £2.2m over the owner’s (Melissa Menelaou, “Melissa”) parents’ house. Her parents wished to downsize and also assist Melissa buy a house in her own name. They agreed with the lender that it would release its charge over their house and allow £875,000 to be paid toward Melissa’s purchase of her own house. In return, the lender would obtain a charge over Melissa’s house. Melissa thought the £875,000 was being gifted to her and was unaware of the lender’s charge and her signature on the mortgage deed was forged. Upon discovery, Melissa sought removal of the lender’s charge.

The Lender argued that it was entitled to be subrogated to an unpaid vendor’s lien – that is, an equitable remedy that reverses unjust enrichment. It arises in circumstances where a vendor (or seller) has exchanged contracts for the sale of a property. Upon exchange a lien arises, entitling him to require the purchaser to buy the property and to pay the purchase price. As security for his lien the vendor is entitled to a charge over the property. If a third party then pays the purchase price, he is entitled to be subrogated to the unpaid vendor’s lien. In this case the lender claimed that, as it had provided all of the purchase price through its release of £875,000 from the sale of the parent’s house, it was entitled to be subrogated so that it had a charge over the property, despite Melissa not having signed the mortgage deed.

The Court of Appeal had been satisfied that Melissa had been unjustly enriched at the lender’s expense and agreed to the lender’s requested remedy. Melissa appealed to the Supreme Court.

Supreme Court Decision

The Supreme Court dismissed Melissa’s appeal. It confirmed that this was a case of unjust enrichment, and Melissa had been enriched at the expense of the lender. Melissa became the owner of the property only after the lender had agreed to release its security over Melissa’s parents’ house in exchange for a charge over Melissa’s property. Without the lender making this decision, Melissa would have been unable to purchase the property. The Supreme Court held that there was a sufficient causal connection between the Lender’s loss and Melissa’s benefit as it was all part of the same scheme to sell the parents’ house and purchase Melissa’s.

The appropriate remedy was therefore that the lender be subrogated to the unpaid vendor’s lien, which:

  • reinstated Melissa’s liability under the charge;
  • reversed Melissa’s unjust enrichment; and
  • enabled the lender to enforce its interest in the property by sale.

WM Comment

This case has always attracted significant interest, as there has previously been no authority concerning whether a lender is entitled to the remedy of subrogation from an agreement to release a security interest, as opposed to an advancement of new funds. Despite the fact that the lender here did not advance any new funds per se, the Supreme Court held that there was a clear and direct link between the lender and the money used to purchase the property.

This decision will be welcomed by lenders. It is confirmation by the Supreme Court of an available remedy in a situation where a third party beneficiary is unjustly enriched following a lender releasing its security. Lenders will be reassured that this is so even if that party does not know about the lender’s interest.

However, there is no substitute for perfect or perfected security at the outset of any transaction. Lenders should always remain cautious that full and adequate security, or full repayment, is taken before either advancing new funds or releasing security.

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[1] [2015] UKSC 66