Kyabram Property Investments v Murray; Murray v Duddy [2004] NSWSC 298

The defendants (“borrowers”) were a husband and wife, who obtained a loan from the plaintiffs (“the lenders”) to finance the purchase of a property (“the farm property”).

The circumstances were that the borrowers had already contracted to purchase the farm property but did not have the necessary finance to complete the purchase. Accordingly, the borrowers were faced with the situation of either quickly obtaining the necessary finance to complete the purchase or risk losing their deposit and liability for breach of contract.

The borrowers eventually arranged a loan with the lenders wherein two properties were mortgaged as security for the loan. The properties were (1) the farm property, which was the subject of the purchase, and (2) another property which the borrowers owned (“the second property”).

At the time the loan was granted, the understanding of the two parties was that:

1. the farm property was to be leased out to third parties for a period of four years at an annual rental of $200,000. The rental income was to be applied to the interest repayments;

2. the $200,000 rental income will completely satisfy the interest repayments under the loan;

3. the two properties had a value, which gave the borrowers a debt to security ratio of 50%; and

4. the second property was to be improved by the borrowers and then sold to reduce the loan to a manageable level.

Although the farm property was leased on the day the purchase was completed, the tenants defaulted on lease payments shortly thereafter, having only paid $90,000. No further lease payments were made with the result that the borrowers undertook to farm on the property but at sustained losses. The borrowers eventually defaulted on the interest repayments.

The lenders sought orders from the court to enter into possession of the mortgaged property and judgment for the amount outstanding on the loan. The borrowers cross-claimed seeking entitlement to equitable relief in relation to the mortgages, on the basis the transactions were unconscionable or, alternatively, on the basis that they are entitled to relief under the Contracts Review Act 1980.

Relief on the basis of unconscionability

In Commercial Bank of Australia v Amadio (1983) 151 CLR 447, Mason J at 467 held that:

If A having actual knowledge that B occupies a situation of special advantage in relation to an intended transaction, so that B cannot make a judgment as to what is in his own interest, takes unfair advantage of his (A’s) superior bargaining power or position by entering into that transaction, his conduct in doing so is unconscionable.

After looking at the following factors, Shaw J found that the borrowers “were under an element of real and tangible disadvantage in making a judgment as to what was in their own best interests” and as such it was unconscionable for the lenders to enforce the mortgage [note this finding was reversed on appeal in Kyabram Property Investments Pty Ltd v Murray [2005] NSWCA 63]:

1. His honour accepted that only the lenders had available to them, the profit and loss statements from the previous owner of the farm, which showed that the farm had not returned a net income of $200,000 per annum in any of the preceding five years. Hence, the lenders should have known that the prospective lease of the property for an annual rent of $200,000 was unsustainable, knowledge of which the borrowers did not have;

2. There was an inequality in bargaining power. The borrowers need quick financing and had exhausted much of their other options; and

3. Despite the borrowers having agricultural experience, they were out of depth in assessing a project of this kind.

Relief under the Contracts Review Act

As the remedies under the Contracts Review Act essentially overlap with the grants of equitable relief for unconscionable conduct, his honour did not make any orders pursuant to the Contracts Review Act.

Shaw J, nevertheless, found that the transactions were entered in circumstances of unfairness because of the above reasons and following additional factors [note this finding was also reversed on appeal in Kyabram Property Investments Pty Ltd v Murray [2005] NSWCA 63]:

1. The lenders could and should have engaged in further and more extensive inquiries as to the viability of the proposed leasing arrangement;

2. The lenders were adequately protected, having adequate security, but the borrowers were vulnerable; and

3. The lenders entered into arrangements that were not capable of fulfillment by the borrowers.

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