Can new rights for sellers bind mortgage companies?

What consequences will the Supreme Court’s decision in Scott v Southern Pacific Mortgages Ltd have in practice? Paul Heely, banking and finance partner at TLT, the lead firm in the group litigation and acting for the principal respondent lender in the appeal, considers the issues.

Scott v Southern Pacific Mortgages Ltd [2014] UKSC 52, [2014] All ER (D) 251 (Oct)

The present appeal was one of ten test cases in which the defendant home owners (the vendors) were persuaded to sell their properties to purchasers who promised the vendors the right to remain in their homes after the sale. The purchasers bought the home with the assistance of mortgages from lenders, who were not given notice of the promises to the vendors. The purchasers defaulted on the loans and the lenders sought possession of the homes. The Supreme Court held that the vendors had acquired no more than personal rights against the purchasers when they agreed to sell their properties on the basis of the purchasers' promises that they would be entitled to remain in occupation. Accordingly, the vendors did not have interests whose priority was protected by virtue of the Land Registry Act 2002, s 29(2)(a)(ii) of, and Sch 3, para 2.

What were the key features of this appeal?

Ultimately there was one question for the Supreme Court—prior to the completion of the sale of a residential property can the buyer grant to the seller a new interest in it that binds the mortgage company that is funding the purchase? This threw up various legal arguments about trusts, equitable estoppel and land registration law. The Supreme Court decided that any new right that was created for the seller could not bind the mortgage company. This will be a relief to lenders, many of whom are involved in the hundreds of civil cases on hold pending this judgment.

What is the significance of this decision in terms of the conflict between right to possession and right to continue occupation?

Lenders need to know the market value of a mortgaged property in order to decide whether to lend on it. But value can be dramatically affected by someone having a right to occupy. For many years the law has carefully balanced the lender’s requirement for certainty of the value of their security, with the need to give some occupiers rights even if those rights are not formally recorded on the public Land Register. The outcome of this case ensures that the current delicate balance of those competing interests remains. This is subject to workable and practical checks that any responsible lender or purchaser can be expected to make.

How did the Supreme Court approach the arguments in this case?

To work out what rights were created and when, the Supreme Court examined conveyancing transactions from a practical and logical point of view. For instance, by finding that a buyer cannot grant to their seller an interest that is superior to their own interest. There was also an adoption of the approach taken by the courts below that the buyer cannot create an interest in the property at any time before their mortgagee’s interest is created. Put another way, the mortgage had to be created in order that the purchase could then complete. The purchase had to complete before the seller’s new interest in the property (under the tenancy) could be created.

What is the broader significance of this decision?

If Mrs Scott’s legal arguments had succeeded, Southern Pacific would not be able to recover all of the money it lent on the property and, more widely, the risks lenders face when deciding to lend would have dramatically increased. That would almost certainly have affected the cost and availability of new residential mortgages, and at a time when a healthy and stable housing market is crucial to the wider UK economy. The decision keeps lenders' lending risks manageable at a time when the recovery of the UK economy from recession depends on lenders being willing and able to lend.

The case also emphasises the move towards e-conveyancing, where property transactions are dealt with quickly and efficiently online with few additional checks. This is the direction conveyancing has been going in for some time and the law, professionals and land registration systems have been gearing up towards this goal. If Mrs Scott had won her appeal e-conveyancing would have had to take a giant step back.

What will this decision mean for the future of equity release schemes?

The case highlights the reasons why sale and rent back schemes were all but outlawed in 2010 due to the potential for abuse, deception and exploitation. Equity release arrangements concern different consumer protection issues and are not directly impacted by the decision.

What should lawyers do next?

Sale and rent back cases that are currently on hold can now proceed, bringing to an end litigation that has held both occupiers and lenders in limbo. Lenders’ lawyers should engage with the tenants concerned to manage the conclusion of their dispute without further unnecessary costs.

More generally, lawyers who act for both, and property buyers and lenders in conveyancing transactions must be sure to make their clients aware of any issues that may have a bearing on their willingness to go ahead with the purchase or mortgage.

For more information on the implications of the case, refer to the Purpose Built blog: Victims of sale and rent back scheme to lose homes – test case

Interviewed by Neasa MacErlean.

The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.

First published on LexisPSL Banking & Finance. Click here for a free trial.