When you have two caveators both claiming the same money, who gets paid first?

This was one of the several issues decided by the Supreme Court of New South Wales in The application of Sutherland and Arnautovic [2014] NSWSC 821.

Case summary

Freddy Funder extended credit to Henry and Henrietta Homeowner. Freddy’s terms included a charging clause, which granted him an interest in the family home as security for repayment. However, Freddy never got around to lodging a caveat in respect of this interest.

Some time later, Henry and Henrietta broke up. Henrietta engaged a divorce lawyer, Larry Lawyer. Larry’s costs agreement also included a charging clause. Larry did some work for Henrietta, eventually sending her a bill for $102,406.89.

Meanwhile, Henry went bankrupt. The family home was sold, and the net proceeds of sale came into the hands of Freddy’s bankruptcy trustees. Freddy Funder immediately produced his charging clause and demanded that the trustees hand the net proceeds of sale over to him.

Larry Lawyer objected, produced his charging clause, and said that the proceeds of sale of Henrietta’s share should go to him. He pointed out that, at the time Henrietta signed him up, Freddy hadn’t lodged a caveat to alert others to his interest in the land. He said that, in those circumstances, it would be unfair for Freddy to be paid in front of him.

Decision

Generally, with equitable interests in land (such as charges or unregistered mortgages), the creditor whose interest was created earliest gets the first bite of the pie.

However, an exception to this arises when that creditor has engaged in “disentitling conduct”. Broadly speaking, this means conduct that would make it unfair, in all of the circumstances, not to give priority to a later creditor.

In certain circumstances, failure to lodge a caveat may satisfy this test. Oddly, it all depends on the conduct of the later creditor – specifically, whether or not the later creditor actually relied on the apparently “clean” title search when deciding whether or not to extend credit.

Proof of reliance is the key.

If Larry Lawyer had obtained and relied upon a title search at the time he entered into his costs agreement with Henrietta, he could complain that he had been misled by Freddy’s failure to lodge a caveat. He could say that, had he known there was another creditor lined up in front of him, he would never have extended credit to Henrietta. This would probably get him over the line.

However, what if Larry did not rely on the absence of other caveats when deciding whether to accept instructions from Henrietta? What if his evidence was, effectively, that he would have accepted Henrietta as a client whether there had been a competing caveat or not? If that was his position, he could hardly blame Freddy for not lodging a caveat.

Surprisingly, that is indeed how Larry’s evidence came out in Sutherland and Arnautovic case. Under cross-examination, Larry conceded that he did not rely on a title search at all when entering into his costs agreement with Henrietta. He said, in effect, that he did not usually bother getting a title search when his prospective client had told him there would be enough equity to cover his fees.

Because of Larry’s lack of actual reliance, the court said that Freddy’s failure to lodge a caveat did not matter, as it did not enter into Larry’s decision to extend credit. Consequently, the court awarded the sale proceeds to Freddy.

Conclusion

The question, “Which caveator has first bite at the pie?”, will rarely have a straightforward answer. It is certainly not as straightforward as “first to register, wins”. The answer will often turn on the question of reliance, which can be a complex question. Legal advice will often be required – preferably from lawyers who know all about equitable interests in land.

Final point

The names of the protagonists have been changed in the above summary. Readers who click through to read the case will discover that Freddy Funder’s real name was in fact…

(wait for it…)

“Reliance”

One suspects the irony was rather lost on poor Larry 🙁