Solicitors’ PI: innocent solicitors are financially liable in property fraud case

In a surprising decision of the Court of Appeal in Dreamvar (UK) Limited v Mishcon de Reya, it has been held that a buyer’s conveyancing solicitors who had not been negligent in their conduct of the transaction and had acted honestly and reasonably should, nevertheless, be liable to the innocent buyer for the damages arising from a fraudulent property transaction and not afforded the protection of section 61 of the Trustees Act 1925.

Background

In 2014, Dreamvar (a small property development company) instructed Mishcon de Reya (“MdR”) in connection with its proposed purchase of a London property. The purported owner/seller of the property was, in fact, a fraudster. Mary Monson Solicitors (“MMS”) represented the purported seller. MdR and MMS arranged for completion to take place in accordance with the Law Society’s Code for Completion by Post (“the Code”). The completion monies of £1.1 million were transferred from MdR to MMS in the usual way. However, when the completion monies were paid on by MMS to its client, they were misappropriated by the fraudster. Dreamvar was unable to trace the completion monies to recover them and was left with no title to the property.

Chancery Court decision

Dreamvar brought claims against (1) MdR alleging negligence and breach of trust; and (2) MMS alleging breach of warranty of authority (that it had the authority of the real owner and had exercised reasonable care and skill in establishing its client’s identity), breach of trust and breach of undertaking.

MMS admitted that they had not carried out the appropriate identity checks in respect of their fraudster client. However, the court dismissed all claims against MMS.

The court found that MdR had not acted negligently because: (1) it was reasonable for MdR to assume that MMS had carried out the necessary identity checks (MdR had no way of knowing that MMS had not carried them out properly); and (2) there was no obligation on MdR to seek an undertaking from MMS concerning the identity of its client. MdR admitted that it had acted in breach of trust for releasing Dreamvar’s completion monies in the absence of a genuine completion.

In considering whether to grant MdR relief from breach of trust under section 61 of the Trustee Act 1925, the court considered whether MdR had acted honestly and reasonably and “ought fairly to be excused”. Whilst the court found that MdR had acted honestly and reasonably, it refused to grant MdR relief and emphasised the importance of “balancing the relative effects or consequences of breach of trust”. It said that the breach of trust had been “disastrous” for Dreamvar who could not absorb such a loss and had no insurance. It decided that Dreamvar’s only “practical remedy” was against MdR, who had PI insurance that would cover the whole of the loss. However, the judge opined that, if he was wrong and MMS was liable to Dreamvar for breach of trust, he would have exercised his discretion to grant relief to MdR.

Court of Appeal decision

In a combined judgment with P&P Property Ltd v Owen White & Caitlin LLP, the Court of Appeal was asked, among other issues, to consider: (1) whether the court was wrong to have dismissed the breach of trust claim against MMS; and (2) if so, whether MdR should be granted relief under section 61. The Court of Appeal’s conclusion was as follows:

• Breach of trust: The Court of Appeal overturned the first instance decision and decided that MMS was, with MdR, also liable for breach of trust.In reaching its decision, the Court of Appeal considered that the “ultimate question [was] whether at the point when the purchase money [was] released by the [seller’s] solicitors to his client the solicitor has the authority of the purchaser to make the payment even if the transaction is not a genuine sale”. The Court of Appeal found that, absent a genuine sale, MMS has no such authority to pay the monies away.
• Relief under s 61 Trustee Act 1925:A majority of the Court of Appeal did not agree with the first instance judge’s view that, if MMS was found liable for breach of trust, MdR should be granted relief under section 61.MdR was not granted relief under section 61 by the Court of Appeal who said that the question of apportioning liability as between MdR and MMS could be achieved through contribution proceedings by MdR against MMS.

Dissenting, Lady Justice Gloster rightly, in our view, said that: (1) on the facts, primary responsibility for failing to check the identity of the seller lay with MMS; (2) the fact that MdR had PI insurance should not result in it bearing financial responsibility for Dreamvar’s loss; and (3) a contribution claim against MMS would prolong the proceedings.

The Court of Appeal also opined on the following issues which are relevant to conveyancing practice under the Code:

• Breach of undertaking: pursuant to paragraph 7.1 of the Code, the seller’s solicitor undertakes to have the seller’s authority to receive the purchase money on completion.Contrary to the first instance finding, the Court of Appeal confirmed that by giving such an undertaking, the seller’s solicitor is undertaking that it has the real owner’s authority to receive the purchase money on completion. MMS had, consequently, given and breached that undertaking and were liable to Dreamvar for breach of undertaking.
• Breach of warranty of authority: the Court of Appeal confirmed that the seller’s solicitor, by signing the contract on their client’s behalf, warrants that they act on behalf of the real owner of the property and not an individual who is purporting to be the owner of the property. In the event that such a warranty was relied on, the seller’s solicitor would be strictly liable to the buyer’s solicitor in the event that the seller’s solicitor was a fraudster. On the facts of P&P, it was held that there was no material reliance on any such warranty and so the seller’s solicitor was not liable.
• Negligence: the Court of Appeal clarified that, absent an assumption of responsibility or an undertaking or assurance to the contrary, a seller’s solicitor in an arm’s length transaction does not owe the purchaser a duty of care in relation to the adequacy of the due diligence performed on their client’s identity. Dreamvar did not, therefore, have a right of action in negligence against MMS.

Comment

The Court of Appeal’s decision will continue to cause huge concern in the solicitors market. We think it is likely to be appealed to the Supreme Court. Beyond providing a stark warning to seller’s solicitors of the importance of properly checking their clients’ identity, it confirms that essentially conveyancing solicitors (both buyer and seller) now act as guarantors of fraudulent property transactions.

Despite the Court of Appeal’s clear public policy motivations behind both its interpretation of the Code and denial of relief under section 61 of the Trustee Act, the decision will likely result in higher insurance premiums for conveyancing firms. We anticipate that the decision will lead to the Law Society undertaking a review of conveyancing practice and the Code and assessing the allocation of risk in the context of identity fraud.

In light of the Court of Appeal’s decision:

• the solicitors of both sellers and buyers will be in breach of trust if the buyer’s money is released when the transaction is not genuine;
• sellers’ solicitors should take extra care when checking their clients’ identity. Even if they acted reasonably and honestly, whether relief under section 61 of the Trustee Act will be granted is very uncertain;
• reference to “seller” in the undertakings given by the seller’s solicitor under the Code means the genuine seller;
• sellers’ solicitors should avoid signing a document on behalf of a party to a document because there will be a breach of this warranty of authority if the solicitor’s client is not the real person named in the document; and
• sellers’ solicitors should also be wary of giving assurances that they have properly carried out anti-money laundering checks.

Further reading:

Dreamvar (UK) Ltd v Mishcon de Reya [2016] EWHC 3316 (Ch).

P&P Property Ltd v Owen White & Catlin LLP [2018] EWCA Civ 1082.

Law-Now Solicitors’ PI: innocent solicitor ordered to pay damages following £1m property fraud.