Legal Watch:Professional IndemnityDecember 2014 – Issue 003

In This Issue:

• Plexus succeed in dismissing claim against valuer on limitation grounds

• Plexus defeat multi-million pound professional negligence claim against brokers

• Third party insurer to pay costs of negligent will

• Supreme Court backs negligent solicitors in limiting damages

Plexus succeed in dismissing claim against valuer on limitation grounds

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On 13 November 2014, Plexus Law successfully appealed against the refusal of a summary judgment application on behalf of a valuer.

The reported case of Toombs v Bridging Loans concerns a property valuation provided by the appellant, Toombs (T), for the respondent, Bridging Loans Limited (B). Summary judgment was granted in favour of T on the basis that B’s professional negligence claim was time-barred.

T had allegedly overvalued a property which was the security provided for a mortgage advanced by B. The court held that B’s cause of action against T accrued on the date when the loan was to be repaid under the terms of the mortgage deed, but no repayment was received from the borrower. That was the point at which it became clear that the borrower’s covenant held insufficient value and therefore the point at which B suffered loss.

BackgroundT was instructed to value a property for secured lending purposes. T valued the property at £750,000 and, allegedly in reliance on that valuation, B entered into a mortgage deed by which it agreed to advance £500,000 to the borrower for a six-month term.

The advance was made on 3 November 2006. Under the terms of the mortgage deed, the borrower did not have to make any repayments until the end of the six-month term. It was therefore required to repay the capital advanced, together with interest accrued thereon, on 3 May 2007. The borrower failed to make the required repayment by the due date. On 11 May 2007, B sent the borrower a letter of default giving it until 27 May 2007 to pay the whole amount due, which then stood at just over £540,000. The borrower did not pay that sum, or

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any sum, by the deadline imposed by the letter of default and B repossessed the property shortly afterwards.

B alleged that T had acted in breach of contract and/or its duty of care when valuing the property at £750,000, because the true value of the property at that time was £450,000. B alleged that it had lost £895,000 plus accruing interest as a result of T’s breach of contract and/or negligence and it issued proceedings against T on 16 May 2013.

Plexus Law applied for summary judgment to be entered in T’s favour on the basis that B’s claims were statute barred. That application was dismissed at first instance, but T was granted permission to appeal.

The judgmentIt was common ground that the claim for breach of contract was statute barred.

The main issues were (i) whether the primary six-year limitation period in respect of negligence claims under section 2 of the Limitation Act 1980 (“the Act”) had expired before the proceedings were issued, and (ii) whether B could rely on the secondary three-year limitation period under section 14A of the Act. The secondary limitation period runs from the earliest date on which a claimant first had both the knowledge required for bringing an action in negligence in respect of the relevant damage and a right to bring such an action. B submitted that it did not have the relevant knowledge within the meaning of s14A to trigger the secondary limitation period until December 2012, when it had obtained a retrospective valuation which supported its case on the alleged overvaluation.

When giving judgment on the appeal, HHJ Seymour QC confirmed that, in relation to primary limitation in negligence claims by lenders against valuers, the position was governed by Nykredit Mortgage Bank Plc v Edward Erdman Group Ltd (Interest on Damages)(1997). In that case, the House of Lords held that the damage necessary for the cause of action to accrue was first suffered when the amount of the debt exceeded the combined value of (i) the security and (ii) the borrower’s covenant.

B argued that the negligence claim issued on 16 May 2013 was not statute barred because the primary limitation period did not start to run until 27 May 2007, being the date on which the borrower should have repaid the capital advanced, and any interest due, with reference to the demand made in the letter of default, as that was the first date on which it suffered any loss. However, HHJ Seymour QC found that loss arising from the negligence alleged against T was first sustained on 3 May 2007, when the borrower failed to repay the advance on the repayment date provided for by the mortgage deed. He held that this was the point when it had become clear that the borrower’s covenant held insufficient value and that B had not adduced any other evidence that was capable of showing that the borrower’s covenant had any value at that date.

HHJ Seymour QC also found that B was unable to rely upon section 14A of the Act as it had demonstrated that it had the requisite knowledge more than three years before proceedings were issued when, in accordance with the pre-action protocol for professional negligence claims, it had sent a Preliminary Notice in 2007 and a Letter of Claim in 2009 which set out its case.

Although B did not obtain the retrospective valuation it relied on to quantify the extent of the overvaluation alleged against T until 2012, this did not change the fact that, by the time B sent the preliminary notice, it had all the information it needed to bring a claim. Uncertainty as to the quantification of loss was insufficient reason not to issue proceedings. B could therefore not rely on s14A of the Act and its claims were dismissed on the basis that they had no real prospect of success because they were statute barred.

B has subsequently applied to the Court of Appeal for leave to appeal HHJ Seymour QC’s judgment.

Commentary It is likely that there will be more cases where lenders seek to bring claims close to or past the expiry of the relevant limitation period, as over six years have now passed since the collapse of Lehman Brothers and the height of the credit crunch, being the events which have triggered the

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majority of the lenders’ claims. This case demonstrates the approach that the court will take in respect of the complex issue as to when and how to value a borrower’s covenant. It also demonstrates that it is very difficult for a claimant to argue that it did not have sufficient knowledge to bring a claim after it has served a Letter of Claim under the pre-action protocol.

Toombs was represented by Stephen Innes of 4 New Square, instructed by Graeme Bass of Plexus Law.

Toombs v Bridging Loans Limited LTL 14.11.14, HHJ Seymour QC

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Plexus defeat multi-million pound professional negligence claim against brokersPlexus Law also had success this autumn in the matter of Eurokey Recycling Ltd v Giles Insurance Brokers Limited. We released an e-alert at the time and the decision has since been widely reported in the insurance and legal press.

The Commercial Court dismissed in full a multi-million pound professional negligence claim against insurance brokers, Giles, who were represented by Plexus Law.

The dispute focused on the alleged under-insurance of Eurokey’s business, stock, plant and machinery. A major part of the claim relates to business interruption cover and the judgment provides useful guidance on a broker’s duties when advising clients on business interruption cover.

BackgroundThe claimant, Eurokey Recycling Ltd (E), operated a substantial waste recycling business in Leicestershire. Its turnover rose substantially from about £3.2m in 2005 to £17m for the year ended August 2009. Giles arranged a policy in 2010 which covered, among other things, premises, stock, machinery and business interruption.

In May 2010 there was a fire at E’s main premises, which caused extensive damage. After the fire, it became apparent that E was significantly under-insured for both stock and machinery cover and for business interruption cover. E sought damages for over £3m and made a claim for lost profits for over £13m.

The claim was in respect of a commercial combined policy arranged by Giles with a Lloyd’s syndicate acting through its agent, Paladin Underwriting Agency Ltd. The trial was limited to liability.

E contended that it had been under-insured because Giles had negligently advised it. E averred that the alleged negligence caused insurers to threaten avoidance of cover by reason of under-insurance. It claimed the shortfall

between its settlement with insurers and the sum it says it would have recovered had it been properly advised and insured, together with consequential losses.

The insurance cover had been obtained on the basis of a market presentation completed by Giles in accordance with instructions provided by E. This included an anticipated turnover for the next 12 months of £11m, but it later transpired that the actual turnover figures were much higher.

The day after the inception of the policy, E emailed draft company accounts to Giles for onward transmission to a credit finance company in support of a loan application to pay the premium. E did not provide any instructions in relation to the accounts.

Giles forwarded the accounts to the credit finance company without reading them. These accounts actually showed a turnover in excess of £17m for the year ended 31 August 2009, over £6m more than the £11m estimate provided by E to Giles and by Giles to the insurers in the market presentation.

The fact that E was grossly underinsured was not in dispute between the parties.

JudgmentThere were significant disputes of fact between the parties as to the discussions that had taken place at meetings in 2009 and 2010 prior to obtaining the cover. However, the court preferred the defendant’s witness evidence and all claims were dismissed in their entirety.

Mr Justice Blair decided that there had been no breach of duty by Giles. Giles had provided adequate advice to E on its insurance requirements, including business interruption cover and the information provided to the insurers in the market presentation and the cover obtained, reflected E’s instructions. The broker was under no duty to interrogate the information he was given.

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On the facts, Giles was also not under a duty to review the draft accounts provided after the inception of the policy, because E had not asked him to do so and there was nothing to put the broker on notice that the information was material to the cover obtained or called into question its adequacy.

The court clarified that the principles applicable to business interruption cover include:

1. Whilst a broker is not expected himself to calculate the business interruption sum insured or choose an indemnity period, both of which are matters for the commercial client, the broker must provide sufficient explanation to enable the client to do so;

2. In order to provide sufficient explanation, the broker will need to take reasonable steps to ascertain the nature of the client’s business and its insurance needs;

3. The broker has a duty to take reasonable steps to ensure the client fully understands the term ‘insurable gross profit’;

4. The broker is neither required nor expected to conduct a detailed investigation into a client’s business. However, the broker’s duty is not diminished because his firm may offer an enhanced service at additional cost;

5. The nature and scope of a broker’s obligation to assess a commercial client’s business interruption insurance needs will depend upon the particular circumstances of the case, including the client’s sophistication, and the number of times the broker has met the client in the past;

6. In that regard, although business interruption insurance is for commercial clients, the level of client sophistication will vary enormously. It cannot be assumed that an SME will have any understanding of the nature of the insurance;

7. Although as a matter of common sense a client may not need annual repetition of advice previously given and understood, this assumes that the responsible personnel remains the same. The giving of advice also needs to be properly demonstrated by documentation;

8. If a client who appears to be well informed about his

business provides a broker with information, the broker is not expected to verify that information unless he has reason to believe that it is not accurate;

9. Having satisfied these obligations, where a broker is given express instructions as to the cover to be obtained, he must exercise reasonable care to adhere to those instructions.

The court concluded that, on balance, Giles had provided an adequate explanation of business interruption cover in the relevant period. Further, the figures recorded by Giles for both the sum insured for business interruption and turnover were provided by E, and Giles had no reason to suppose that they were inadequate. Furthermore, the indemnity period had been fixed on E’s instructions, and reflected the period it considered it would take to get its business up and running after an incident. Accordingly, the claimant’s case in relation to business interruption failed.

CommentaryThe outcome of the eight-day trial is welcomed by brokers and their insurers as it establishes on the facts that a broker is not expected to interrogate information received from clients, unless the broker has reason to believe it is inaccurate. It can be sufficient for a broker to act as a mere post box when he receives information for transmission to a third party after the inception of an insurance policy.

The judgment also provides useful guidance on the scope of a broker’s duties when advising clients on business interruption cover. The broker succeeded in this claim, but it is clear that the broker’s duties are onerous, particularly in relation to the placement of business interruption cover. The extent of the duty will vary according to the facts of the case and, in particular, on the level of sophistication of the commercial client. It is also best practice for brokers to retain documentary evidence of the steps taken to advise their clients on cover, including records of advice given in meetings. The onus is likely to be on the broker to show this.

Simon Beckwith and Mark Ratcliff of Plexus Law acted on behalf of Giles Insurance Brokers.

Eurokey Recycling Limited v Giles Insurance Brokers Limited [2014] EWHC 2989 (Comm)

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Third party insurer to pay costs of negligent willProfessional indemnity insurers should heed the decision by the Supreme Court in Marley v Rawlings (2014) as in this case, the costs order was made directly against the third party insurer. The usual ‘loser pays’ rule was not applied as that was considered unjust in the circumstances and the costs order was made directly against the insurer of a non party, in order to circumvent further litigation. In considering an appropriate costs order, the court also scrutinised the terms of the CFAs, requiring the parties to vary the terms to achieve a fair outcome.

BackgroundThe decision relates to a contested will where the husband and wife, Mr and Mrs Rawlings, had drafted identical wills, but erroneously signed the wrong ones. They had intended to leave their respective estates to each other and, if the other had already died, to Mr Marley. Mr Marley was their informally adopted son and the residual beneficiary of the will if it was valid. When their solicitor visited the couple for the purpose of executing their wills, he accidently presented them with, and each had signed, the will intended for the other.

When the husband died, the mistake was noticed and their biological sons (the Rawlings), disputed the validity of the will and contended that they should inherit under the rules of intestacy. Both the High Court and Court of Appeal concluded that the wills were invalid, but Marley successfully appealed to the Supreme Court. In January 2014 the Supreme Court decided that Marley was entitled to inherit the estate of £70,000.

Nine months later, the Supreme Court made an order for the costs of the proceedings in all three courts, which exceeded the value of the estate.

Marley’s primary contention was that the Rawlings brothers should pay his costs of the proceedings, including the two appeals, in addition to paying their own costs. This followed the usual rule that the losing party pays the winner’s costs.

The Rawlings’ case was that both parties’ costs should be paid out of the estate, or in the alternative, that the solicitor (or his insurer) should be ordered to pay the costs, as he was responsible for the oversight which resulted in the litigation. The solicitor was insured for such liabilities by his professional indemnity insurers. He was not however a party to the litigation, but his insurers were permitted to make submissions on costs.

The costs judgmentThe court noted authorities which supported the argument that, where there is an unsuccessful challenge to a will, and that challenge was reasonable, the costs should be borne out of the estate. However, the court found that it would be unfair to settle the parties’ costs from the estate, as this would cause Marley to suffer a loss. Consideration was then given to making a costs order against the solicitor or his insurers.

The solicitors for the insurers argued that (i) a court should always be wary before making a costs order against a third party; (ii) it would be odd to require the solicitor to pay the Rawlings’ costs, given that he owed no duty of care to them; and (iii) it was not the solicitor’s fault that the Rawlings had chosen to fight the case. They took their chance in hostile litigation and lost.

A crucial factor for the court was that the solicitor’s insurer had agreed to indemnify Marley’s costs of the appeal. When Marley intimated a claim against the solicitor, the insurers required him to bring the rectification proceedings to seek to mitigate his loss. This placed them in the position of a third party funder.

The Supreme Court unanimously held that the insurers should pay the costs of all parties in the High Court and Appeal Court. In relation to the Supreme Court appeal costs, the insurers should pay Marley’s costs and Rawlings’ disbursements including counsel’s fees, subject to counsel foregoing any success fee entitlement under their CFAs.

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The Supreme Court explained that it had made the costs order against the insurer directly, in order to circumvent further litigation. The court was of the view that the Rawlings brothers were not unreasonable in taking the proceedings all the way to the Supreme Court as evidenced by their success in the lower courts. In such cases, where both parties had a reasonable argument to make, it was quite common for all the costs to be taken from the estate. However, if such an order was made, Marley would then need to recover any costs paid out of the estate from the solicitor, who in turn would be indemnified by his insurer. The costs order therefore had the effect of avoiding further litigation.

When considering the terms of the party’s CFAs, the court concluded that there was no liability to pay Rawlings solicitors’ fees under the CFA as they had not won the litigation. However, the Rawlings brothers were still obliged to pay disbursements including counsel’s fees, which were also subject to a CFA and uplift. The court considered that it would be inappropriate if any costs order resulted in Rawlings’ counsel receiving a success fee, as the Rawlings were unsuccessful in the litigation. Therefore, after persuasion from the court, counsel for the Rawlings brothers agreed to disclaim any entitlement to any uplift.

CommentaryIt is not unusual for a court to make a costs order against a party who is funding the litigation or who was responsible for the litigation. Although the third party insurer owed no duty to the Rawlings brothers, the court found that the solicitor’s insurers were effectively acting as a third party funder and it seems that this was a determinative factor.

The court was satisfied that the solicitor had no defence to a damages claim intimated by Marley. The costs order was pragmatic in that it prevented the need for the estate to embark on further litigation to seek reimbursement from the solicitor and his insurers.

Terry Michael Marley v Terry Rawlings and another [2014] UKSC 51

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Supreme Court backs negligent solicitors in limiting damagesWe first reported on AIB Group (UK) Plc v Mark Redler & Co in 2012, following the decision of HH Judge Cooke and then again in July 2013, following the Court of Appeal decision. The Supreme Court recently handed down its judgment and, in so doing, clarified the nature and extent of the equitable principles of compensation for breach of trust claims. The Supreme Court unanimously backed the defendant law firm’s arguments to limit the compensation awarded. It held that equitable compensation for breach of trust means compensation for the loss actually caused by and flowing from the breach in question; no more.

BackgroundMark Redler & Co represented the bank, AIB Group (UK) Plc, and the borrowers, Mr and Mrs Sondhi, in a £3.3m re-mortgage transaction. Their property, valued at £4.25m, was already subject to a £1.5m mortgage in favour of another bank, Barclays. AIB instructed Redler & Co (R) to pay the advance to discharge the existing mortgage and enable AIB’s mortgage to be registered as a first legal charge. The solicitors were given a redemption figure for one of the two Barclays accounts which they mistakenly took to be the total figure. As the redemption statement they obtained from Barclays related to only one of the mortgage accounts, it was insufficient to discharge the existing mortgage.

Consequently, the solicitors paid surplus funds of £300,000 to the Sondhis instead of sending it to Barclays to fully discharge the first charge. AIB were relegated to the rank of second mortgagee with the consequence that the amount of the bank’s exposure was greater than it should have been.

Subsequently the Sondhis defaulted and the property was repossessed. Barclays sold the property for £1.2m and retained the £300,000 it was owed, with AIB receiving the balance of £867,000.

AIB alleged that R acted in breach of trust, breach of fiduciary duty, breach of contract and negligence. The issue was how much AIB was entitled to recover from R.

The bank sought to recover the full amount of its loan less the proceeds of sale of the property, even though it would still have made the advance, on the security of the property, had the solicitors not acted in breach of trust. AIB argued that its claim was not restricted to damages for breach of retainer, but submitted that it was entitled to recover the full amount of its loan less the £867,000 recovered. AIB therefore sought damages of £2.5m for breach of trust. They argued that if, for any reason, a trustee misapplies the trust fund, or part of it, he must immediately reconstitute the trust fund in full.

R contended that their liability was limited to the amount by which the bank suffered loss by comparison with its position if the solicitors had done as they should, which was to discharge the Barclays debt in full.

Court of AppealThe Court of Appeal (CA) held that HHJ Cooke had erred in finding that R had only committed a breach of trust in relation to that part of the re-mortgage advance, which was paid to the borrower instead of being used to discharge a first legal charge on the property. The CA held that the solicitors were in breach of trust in respect of the whole of the £3.3m mortgage advance.

It was settled law that the effect of s10.3 of the CML Handbook was that the solicitors had no authority to release AIB’s loan money, other than on the express direction of AIB, except upon completion of the relevant transaction. The completion of the re-mortgage transaction required the solicitors to be in receipt of a solicitor’s undertaking, or unconditional confirmation from Barclays that the advance monies would be applied by it in redemption of its charge,

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before releasing the advance. They were not authorised to release funds without such documents. The underlying commercial transaction was never completed because the shortfall in the payment needed to redeem Barclays’ charge was never paid.

The Court of Appeal held that the lower court’s calculation of the equitable compensation payable to the lender was correct. The CA followed the decision in Target Holdings v Redferns (1996) and awarded AIB £300,000 equitable compensation for breach of trust.

Supreme CourtLord Toulson and Lord Reed each gave judgments, and Lord Neuberger, Lady Hale and Lord Wilson agreed with their reasoning.

The speech of Lord Browne-Wilkinson in Target, was analysed, explained and upheld as good law. The Supreme Court held that where the breach of trust occurred in the context of a commercial transaction such as the present, Target established the correct approach to the assessment of equitable compensation. Equitable principles of compensation, although not identical to causation and remoteness at common law, can recognise the loss actually suffered by the beneficiary from the breach of trust, and base the compensation recoverable upon a proper causal connection between the breach and eventual loss.

When assessing equitable compensation, the court should look at what has actually been suffered as a result of the breach. The time of assessment of loss is the loss at the date of trial, with the benefit of hindsight. The foreseeability of loss is generally irrelevant, but the loss must be caused by the breach of trust, in the sense that it must flow directly from it. The court therefore held that AIB was only entitled to the £274,000 it had lost as a result of the solicitors underpaying Barclays.

Recovery of the £2.5m would be a windfall, since most of that loss was caused by AIB’s decision to lend on inadequate security and the subsequent drop in the property market. Those problems would have caused a loss even if R had done exactly as required under the terms of the trust and

its contractual retainer. AIB was limited to recovering the difference between the value of the security it should have obtained under a first legal charge and what it actually got under its second legal charge. AIB had enjoyed less security for its loan than would have been the case had there been no breach of trust. If the solicitors had not breached their duties, the charge would have been worth some £274,000 more than it was. That was the bank’s loss in equity and at common law.

The true loss due to the breach of trust was the same as the measure of damages in contract and negligence, save that there was no duty to mitigate and no scope for a reduction for contributory negligence.

CommentaryThe Supreme Court has confirmed that causation does have an important role to play in equitable compensation, whether the trust in question is traditional or commercial.

The measure of compensation is the difference between what the beneficiary ought to have received and what he has in fact received as a result of the diminution in the trust fund.

Trust beneficiaries, including lenders, cannot recover losses that would have been suffered even if the trustee had done exactly what was required under the terms of the trust. Equitable compensation greater than that would result in a monetary award which reflected neither loss caused nor profit gained by the wrongdoer and would be penal, as well as against policy and principle.

The rules of equity cannot be used to achieve results which lack justice and common sense. To treat a failure to obtain a charge as negating authority to release funds would enable lenders to seek the entire advance and obtain immunity from commercial losses. Paradoxically, the lender could be better off than had the retainer been observed.

As Lord Toulson commented: “there is something wrong with a state of the law which makes it necessary to create fairy tales.”

AIB Group (UK) Plc v Mark Redler & Co Solicitors (A Firm) [2014] UKSC 58

The information and opinions contained in this document are not intended to be a comprehensive study, nor to provide legal advice, and should not be relied on or treated as a substitute for specific advice concerning individual situations. This document speaks as of its date and does not reflect any changes in law or practice after that date. Plexus Law and Greenwoods Solicitors are trading names of Parabis Law LLP, a Limited Liability Partnership incorporated in England & Wales. Reg No: OC315763. Registered office: 8 Bedford Park, Croydon, Surrey CR0 2AP. Parabis Law LLP is authorised and regulated by the SRA.

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