Credit Lyonnais Bank Nederland NV v Burch [1996] EWCA Civ 1292 (20 June 1996)

A junior employee was persuaded by her employer to mortgage her flat as unlimited security for the company's overdraft of up to £270,000. The Court of Appeal set aside the mortgage, finding the bank had constructive notice of the employer's undue influence over the employee and the transaction was manifestly disadvantageous.

Facts

Miss Helen Burch, a junior employee earning £12,000-£14,000 annually, worked for AP International Travel Ltd (API), a company controlled by Andrea Pelosi. In 1990, when API faced financial difficulties, Mr Pelosi asked Miss Burch to provide security for the company’s overdraft with Credit Lyonnais Bank Nederland NV. She agreed to execute a legal charge over her flat (valued at £100,000 with £30,000 mortgage) as security.

The legal charge was in the bank’s standard form, containing an unlimited personal covenant guaranteeing all of API’s present and future borrowings without limit in time or amount. The company’s existing overdraft limit was £250,000, being extended to £270,000. Miss Burch was never told the extent of API’s indebtedness or the overdraft limit. The bank’s solicitors advised her to seek independent legal advice, but she declined after consulting with Mr Pelosi, who prepared her response letter.

API subsequently went into liquidation and Mr Pelosi moved to Italy. The bank demanded payment of over £60,000 from Miss Burch.

Issues

Primary Issues

1. Whether a relationship of trust and confidence existed between Mr Pelosi and Miss Burch giving rise to a presumption of undue influence.

2. Whether the bank had constructive notice of such undue influence.

3. Whether the bank had taken reasonable steps to avoid being fixed with such notice.

Judgment

Relationship of Trust and Confidence

The Court of Appeal upheld the Recorder’s finding that a relationship of trust and confidence existed between Mr Pelosi and Miss Burch, sufficient to raise a presumption of undue influence. Lord Justice Millett explained that while the employer-employee relationship does not automatically fall within Class 2A of undue influence cases, it is capable of developing into a relationship of trust and confidence.

Lord Justice Nourse noted that the Recorder’s findings about how Miss Burch’s letter of 18th July came to be written suggested this could have been treated as actual undue influence.

Notice to the Bank

The court held that the bank knew Miss Burch was merely an employee with no interest as shareholder or director, and knew the transaction was manifestly to her disadvantage. Lord Justice Millett stated that the bank had actual notice of facts from which the existence of a relationship of trust and confidence could be inferred.

Reasonable Steps

The court found the bank had not taken reasonable steps. It was not enough merely to advise Miss Burch that the mortgage was unlimited in time and amount without telling her the extent of API’s current borrowings and the overdraft limit. Furthermore, it was necessary that she actually receive independent legal advice, not merely be advised to seek it.

Unconscionability of the Transaction

Lord Justice Nourse observed that the transaction was so harsh and unconscionable that it could arguably have been set aside directly against the bank as an unconscionable bargain. He noted:

Under the terms of the legal charge Miss Burch was required not simply to pledge her home as security for the £20,000 extension; she was required to pledge it without limit. Worse than that, she was required to enter into a personal covenant guaranteeing not simply repayment of the additional £20,000, nor even repayment up to the new limit of £270,000; she was required to guarantee without limit repayment of all API’s borrowings from the Bank, present and future and of whatever kind.

Lord Justice Millett stated:

This transaction cannot possibly stand… No court of equity could allow such a transaction to stand… it was one which, in the traditional phrase, ‘shocks the conscience of the court.’

Implications

This case extends the O’Brien principles beyond husband-wife and cohabitee relationships to employer-employee relationships where trust and confidence has developed. It establishes that:

1. The nature of a transaction may itself justify the inference that a relationship of trust and confidence exists, particularly where the transaction is extravagantly improvident.

2. Banks cannot discharge their duty merely by advising guarantors to seek independent advice; they must ensure such advice is actually obtained.

3. Independent legal advice must address the propriety of the transaction, not merely ensure the guarantor understands its terms.

4. Banks using standard unlimited guarantee forms without regard to individual circumstances act at their peril.

5. Where no competent solicitor could advise entering into such a transaction, the bank cannot rely on the guarantor’s failure to obtain advice.

Verdict: Appeal dismissed. The legal charge was set aside as unenforceable against Miss Burch due to the bank’s constructive notice of undue influence exercised by Mr Pelosi.

Source: Credit Lyonnais Bank Nederland NV v Burch [1996] EWCA Civ 1292 (20 June 1996)