Claims of unconscionable conduct are a constant threat for lenders.  Lenders may feel confident that a guarantor secures the debt repayment, only to find the guarantees struck out as unconscionable. 

Therefore, many lenders now structure their facilities to avoid guarantees by listing parties as co-borrowers.  However, a new line of cases may have extended the principles of unconscionable conduct to parties other than guarantors.

Relevant Facts

In Bank of Western Australia Ltd v Abdul & Anor [2012] VSC 222 (Abdul), the Bank of Western Australia (Bankwest) advanced funds under five separate facilities totalling approximately $18 million (inclusive of interest). 

Four of the facilities were extended to corporate borrowers of which Mr Abdul had control. Mr and Mrs Abdul (Abdul Companies) guaranteed these facilities.  The fifth facility was extended to Mr and Mrs Abdul personally (Abdul Facility).

Even though the Abdul Companies did not hold the Abdul Facility, Bankwest was aware of the purpose of the loan. It was to fund a business conducted within the Abdul Companies’ operations.

The borrowers defaulted on the loans and Bankwest demanded payment of all sums owing to it.  The demands were not paid and Bankwest began proceedings to recover the funds.

The Garcia Principles and Unconscionable Conduct

There is an established principle of equity that applies to a wife who is a volunteer guarantor for a loan facility. It states that she will not have given a valid and enforceable guarantee if there is little or no evidence to suggest that:

• she was able to understand what she was signing,
• the document was explained to her,
• she was able to obtain independent legal advice.

This principle stems from the four-pronged test put forward by the High Court in Garcia v National Australia Bank (1998) 194 CLR 395.

This article provides a summary of the principle. 

Garcia Principles applied by the Court to Abdul

1. Understanding the Effect

   There was no evidence to suggest that Mrs Abdul understood the nature of the documents she was signing. She was not involved in the running the Abdul companies. At most Mrs Abdul completed administrative tasks.  The Bank did not ask her to examine the documents in any detail. The evidence suggests she had a large pile of documents placed in front of her with tabs to show where she should sign.  The fact that she had previously signed guarantees did not indicate she understood what the guarantees meant.

2. Voluntary Transaction

   It is an existing principle that where the wife has an interest in a company through a shareholding, and where her husband conducts the business and she has no real involvement, a guarantee given by the wife over the company’s debts is involuntary. The evidence suggests Mrs Abdul did not have any real part in running the companies and therefore her guarantee must have been voluntary.

3. Husband and Wife Relationship

   Bankwest knew Mr and Mrs Abdul were husband and wife. Therefore, it was likely Mrs Abdul would trust her husband in matters of business. And that Mr Abdul may not have explained commercial matters fully to his wife.

4. Lender did not take Steps to Explain the Transaction

   The evidence suggests Mrs Abdul received the documents in a large pile; she was just was told where to sign. She did not have the documents individually explained to her. There was no evidence that the lender instructed her to seek legal advice on the documents.

The court in Abdul therefore held that in relation to the Abdul Companies, Mrs Abdul (as a traditional guarantor on the facilities) had not given a valid and enforceable guarantee. As a result it could be set aside on the grounds of unconscionable conduct.

Extending the Garcia Principles

Later cases suggest that the High Court’s position in Garcia need not only apply to traditionally-structured guarantees. Facilities with different structures that in substance amount to unconscionable guarantees could also be included:

For example, consider the position of Santow JA and Campbell JA in Elkofairi v Permanent Trustee Co Ltd [2002] NSWCA 413:

“Here the lender lends under a transaction where the money is intended to go to the husband, though framed in terms rendering husband and wife jointly liable as co-principals.  Such a situation may, in the eye of equity, involve a transaction of guarantee or, as sometimes described, constructive suretyship.”

Further, Nettle JA in Narain v Euroasia (Pacific) Pty Ltd (2009) 26 VR 387, followed this reasoning (though noted the court’s position in Elkofairi that it wasn’t for an intermediate appellate court to extend the Garcia principle):

“Were it not for Elkofairi, I should have thought that it was open to this court to construe Yerkey as capable of application to instruments apart from suretyship which operate to a wife’s husband’s advantage or confer a voluntary benefit on him.”

The Abdul Facilities

The court considered the position of Mrs Abdul in relation to the Abdul Facility, as a co-borrower, not a guarantor.  As noted, Mr and Mrs Abdul used the facility to fund further operations of the Abdul Companies.

Mrs Abdul was a volunteer, given that Mr Abdul controlled the Abdul Companies. Her inclusion was merely to secure the facility by her personal liability. Further, there was no evidence that she obtained legal advice, nor had the documents been explained to her above and beyond what was done for the Abdul Companies.

The Court decided that in substance, if not form, the Abdul Facility was identical to the Abdul Companies. Therefore, Mrs Abdul’s liability as borrower under the Abdul Facility was void due to unconscionable conduct.

Conclusions

The principle from Bank of Western Australia Ltd v Abdul & Anor shows that a party to a loan who giving a guarantee (notwithstanding the legal form of the loan) will still be able to access the equitable remedy of unconscionable conduct as previously defined in Garcia. 

Therefore, it is important for lenders to be wary of co-borrowing husbands and wives. This especially applies when there is an unfair balance of power between the parties. Lenders should look beyond the structure of a borrowing company into the roles performed by each party. 

The best step to prevent unconscionable conduct unravelling a facility is making sure the transaction parties get independent legal advice.

You can find the full case for Bank of Western Australia Ltd v Abdul & Anor [2012] VSC 222 here. 

Please contact our office if you would like assistance structuring a secured loan facility.

Related articles:

Unconscionable Conduct: Can a Lender Protect Itself?

Court Reduces Amount Guaranteed by Volunteer Wife

This publication is for your general information and interest only. It is therefore not intended to be comprehensive, and does not constitute and must not be relied on as legal advice. You must seek advice tailored to your specific circumstances.