B2/2005/2551
Neutral Citation Number: [2006] EWCA Civ 694
IN THE SUPREME COURT OF JUDICATURE 
IN THE COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM GLOUCESTER  COUNTY COURT
(HIS HONOUR JUDGE HARINGTON)
 
Royal Courts of Justice 
Strand 
London, WC2 

Thursday, 4th May 2006
 
B E F O R E:
LORD JUSTICE CHADWICK
LORD JUSTICE THOMAS
LORD JUSTICE LLOYD
- - - - - - - - - - - - - - - - - - - - -
ANDREW DUTTON & ANR
CLAIMANTS/APPELLANTS
- v -

DAVIS & ANR
DEFENDANTS/RESPONDENTS
- - - - - - - - - - - - - - - - - - - - -
(DAR Transcript of 
Smith Bernal Wordwave Limited
190 Fleet Street, London EC4A 2AG
Tel No:  020 7404 1400  Fax No: 020 7831 8838
Official Shorthand Writers to the Court)
- - - - - - - - - - - - - - - - - - - - -
MR D MITCHELL (instructed by Messrs Hallmarks, 4/5 Sansome Place, WORCESTER, 
WR1 1UQ) appeared on behalf of the Appellant.

MR A TROUPE (instructed by Messrs Davey Franklin Jones, Bearland House, Longsmith Street, GLOUCESTER, GL1 2HJ) appeared on behalf of the Respondent.
- - - - - - - - - - - - - - - - - - - - -
J U D G M E N T 
1.	LORD JUSTICE LLOYD:  In this appeal the question is as to the true legal nature of a transaction between the appellants, who were claimants below, and the two respondents, who were the first two defendants below, which took place on 12 September 2003 and is contained in three documents.  In particular, the question is whether despite its appearance it constitutes, in effect, a mortgage.  

2.	Mr Andrew Dutton, the first appellant, was once a solicitor.  His practising certificate was withdrawn in 2000 and in February 2003 he was struck off the roll.  In 1998, his first marriage broke down and in February 1999 he was ordered to pay to his first wife a lump sum of £30,000 in return for the transfer to him of her interest in the matrimonial home which had been bought in 1997.  That home was Longmead Farm, Birtsmorton, Malvern, Worcestershire and that is the property which is the subject of the transaction at issue in this appeal.  I infer that he did pay that sum.  In November 2001, he married his second wife, who is the second appellant.  The property, however, remained in his sole name.  In 2000, he wanted to sell and to move to a smaller property.  According to the judgment, the property was put on the market in 2002, but no purchaser was found, and Mr Dutton decided at that stage, that in order to make it more saleable, it would be a good idea to do some work to it, which was likely to cost some £20,000.  He did not have that money at hand.

3.	Moreover, the property was already subject to a mortgage to Barclays Bank for some £100,000 and was subject to charges or cautions in favour of the Legal Services Commission and to other individuals amounting, according to the judgment, to an approximate figure of some £35,000 in addition to the Barclays secured debt.  Barclays had brought mortgage possession proceedings.  Mr Dutton asked a Mr White, who was the fourth defendant and a solicitor, to act for him in the potential sale of the property and he also asked him for suggestions as to how he might raise finance for the purposes of making the improvements to the property.  It seems that Mr White suggested that Mr Dutton might approach Mr Davis, the first respondent.  He is described as a business consultant who helps to raise finance for companies and to introduce mortgage lenders.  

4.	Mr Dutton and Mr Davis met for the first time in June 2003.  At that stage, the idea that they came up with was a re-mortgage of the property.  Mr Dutton applied to a particular possible lender for a re-mortgage advance of about £280,000.  This application was turned down in July and it seems possible from what was said that this failure was because it turned out that Mr Dutton and his wife had, in the mortgage application, falsely stated the amount of their own income, whereas in fact at least Mr Dutton was at that time on state benefits.

5.	On 18 August 2003, a possession order was made in the county court in the Barclays Bank mortgage possession proceedings, suspended for 28 days on condition of the payment to Barclays of a sum in excess of £15,000.  Mr Dutton’s next idea to get himself out of this further enhanced financial crisis was a sale to a friendly neighbour, a Mr Hill, at £250,000 with a right to buy the property back on a fairly open-ended basis.  That proposal came to nothing.  

6.	Mr Mitchell, appearing for the appellants, suggested that that transaction would in truth have been a loan, but it seems to me that we know far too little about it to come to any particular conclusion as to what its true nature would have been if it had ever been documented and concluded.  Mr Dutton and Mr Davis met again on 2 September 2003,  Mr Dutton suggesting to Mr Davis that the latter should in effect take the place of Mr Hill in the proposed transaction.  The two men discussed this idea and where they got to was the idea of a transfer of the property to Mr Davis, or maybe Mr and Mrs Davis, it matters not, at a price of £250,000 and the grant to Mr Dutton of two options to repurchase the property and also the grant to Mr and Mrs Dutton of an assured short-hold tenancy in the meantime, under which they would be entitled to stay in the property.  Immediately after that meeting, Mr and Mrs Davis went away for a short holiday for about a week.  On 12 September, a further meeting took place at the offices of Mr White attended by Mr and Mrs Dutton, Mr and Mrs Davis and Mr White.  

7.	Mr Davis had prepared an offer letter.  Mr White had prepared an instrument of transfer of the property and he had also prepared an assured short-hold tenancy agreement.  During the meeting, Mr and Mrs Dutton left Mr White’s offices to see a Miss Miller, a solicitor with the firm of Madge Lloyd and Gibson, who was independent of Mr and Mrs Davis and of Mr White, to obtain whatever independent legal advice they needed or wanted.  In the presence of Miss Miller, Mr Dutton signed a document headed “Declaration of Solvency”, which starts with a declaration that “By a transfer of even date, I sell the property, Long Mead Farm for £250,000”, and it goes on to assert that from an examination of his accounts, records, statements and other papers, it is ascertained that his debts and liabilities do not exceed the value of his personal assets exclusive of the value of his share in that property.  He asserted that he was able to pay all his debts without the aid of the value of his share in the property.  

8.	Having seen Miss Miller, Mr and Mrs Dutton returned to the meeting and the documents were signed and completed.  We do not have the transfer but it is not suggested that there was anything unusual about it.  It was not, of course, preceded by a contract for sale, but it will have appeared to be a straightforward transfer of the property to Mr and Mrs Davis for a consideration of £250,000.

9.	Mr and Mrs Dutton remained in possession but they did not exercise either of the options in accordance with their respective terms.  Mr Dutton now seeks to recover the property, or at any rate to establish as a precursor to recovering the property that he is entitled to redeem on payment of £250,000 and whatever else may be due.  That involves the proposition that the transaction, despite its appearance, was really a mortgage under which he has an equitable right of redemption.  

10.	In the proceedings which he brought in the Gloucester County Court, he challenged the transaction on several bases, including undue influence, and by a very late amendment that the transaction was a sham.  None of those succeeded.  The one issue which arises on the appeal is a defence that was introduced by a late, but not a very late, amendment, namely that on its true construction the transaction is in the nature of a mortgage.  That is a point that assumes that the documents were intended to have the legal effect which they do have on their true construction.

11.	Courts of equity have traditionally been careful to endeavour to ensure that something which is in reality a transaction by way of loan upon security, with a conveyance to a lender by way of security for the repayment of money, is not wrongly characterised as an absolute conveyance.  Historically a mortgage of a freehold estate was effected by a conveyance, subject to a legal right of redemption, which might well be expressed in limited form; equity attached to that or imposed upon it an equitable right of redemption which was much more general.  Since the Law of Property Act 1925, it has not been the case that mortgages of land are effected by the assignment or transfer of the freehold estate, but it is true that there is sometimes difficulty in distinguishing between an outright sale with the right to repurchase on the one hand, and an assignment by way of security subject to a right of redemption on the other.  

12.	The historical position is well summarised in a passage from Coote’s Law of Mortgages in the 1927 Edition, which was cited by Knox J in his decision in Re Curtain Dream plc [1990] BCLC 925 at 936-7, which I do not need to read.  As that case and another to which we were taken shows, the point tends to arise nowadays in the field of corporate and business finance, not in relation to land but in relation to either chattels or choses in action and in particular book debts, where the desire to avoid coming within one or another system of statutory regulation is likely to be the driving force.

13.	Thus in Welsh Development Agency v Export Finance Co Ltd [1992] BCLC 148, a question arose whether a transaction relating to goods between an exporter and the defendant, as a financier, associated with sales by the exporter to third-party purchasers, amounted to a true sale by the exporter to the defendant or merely a loan by the defendant to the exporter secured on the goods or their proceeds, in which case it would have been void as an unregistered charge over book debts.  

14.	At page 160, Dillon LJ considered first the possibility of a case based on the proposition that the written agreement was a sham intended to mask the true agreement, but he went on at page 160 at E to say this:

“But the question can also arise where, without any question of sham, there is some objective criterion in law by which the court can test whether the agreement the parties have made does or does not fall into the legal category in which the parties have sought to place their agreement.”

15.	He then refers to cases of lease and licence, where there are a number of tests that the law is able to apply, to distinguish one from the other.  It was asserted to the Court of Appeal in that case on behalf of Welsh Development Agency that there are in the authorities clearly laid down criteria for what is a charge, that all those criteria were present in the case of the transaction that the court had to consider, and that therefore that transaction was necessarily as a matter of law a charge, whatever the parties may have called it, and whatever they may have thought it was.  Dillon LJ rejected that proposition in a passage at page 161F as follows:

“In my judgment there is no one clear touchstone by which it can necessarily and inevitably be said that a document which is not a sham and which is expressed as an agreement for sale must necessarily, as a matter of law, amount to no more than the creation of a mortgage or charge on the property expressed to be sold.  It is necessary therefore to look at the provisions in the master agreement as a whole to decide whether in substance it amounts to an agreement for the sale of goods or only to a mortgage or charge on goods and their proceeds.”

16.	Dillon LJ proceeded to cite a passage from the speech of Lord Herschell in McIntyre v Crossley Brothers Limited [1895] AC 457 at 462-3, from which I would extract the following two sentences:

“But there is no such thing, as seems to have been argued here, as looking at the substance, apart from looking at the language which the parties have used.  It is only by a study of the whole of the language that the substance can be ascertained.”

Further support for that approach came more recently from Lord Wilberforce in his speech, from which Dillon LJ proceeded to quote, in Lloyds & Scottish Finance Ltd v Cyril Lord Carpet Sales Limited [1992] BCLC 609 where he said at 617:

“My Lords, the fact that the transaction consisted essentially in the provision of finance and the similarity in result between a loan and a sale, to all of which I have drawn attention, gives to the appellants’ arguments an undoubted force.  It is only possible, in fact, to decide whether they are correct by paying close regard to what the precise contractual arrangements between them and the respondents were.”

17.	Gibson LJ agreed and I need not cite from his judgment.  Staughton LJ also agreed on this point and at page 186C, going to some extent over ground Dillon LJ had traversed, he says this:

“There are in my opinion two routes by which this principle [the principle that transactions take the effect that they appear to have] can be overcome.  The first, which I will call the external route, is to show that the written document does not represent the agreement of the parties.  It may, if one wishes, then be called a sham, a cloak or a device.  The second is the internal route, when one looks only at the written agreement in order to ascertain from its terms whether it amounts to a transaction of the legal nature which the parties ascribe to it.”

18.	He rejected, as had the other members of the court, the idea that there was a sham and as he said at 187D, he left the external route and turned to an internal consideration of the master agreement itself and said:

“This must be carried out on the basis that the parties intended to be bound by its terms and by nothing else.”

19.	Further reinforcing that at 188A he said:

“In my judgment the correct process, when one is following the internal route, is to look at the operative parts of the document, in order to discover what legal transaction they provide for.  If some parts appear to be inconsistent with others in this respect, a decision must be made between the two.  That is what I understand by ascertaining the substance of the transaction.”

20.	Knox J had said very much the same in Re Curtain Dream plc, which I have already referred to, at page 935.  That case was not specifically commented on in the Welsh Development Agency case because it was then under appeal, but the appeal, I understand, did not proceed to a decision.  

21.	With that guidance, I turn to the documents that we have to consider in the present case.  The first is the transfer, as to which I have said all that needs to be said.  The second is the assured short-hold tenancy, which has an unexplained feature in that although dated 12 September 2003, it is expressed to be for a term of six months starting on 1 July 2002, but it seems plain that that was simply a slip, possibly in the course of word processing, and that it was in reality a six-month term starting on 12 September 2003.   It is otherwise unexceptional.  

22.	The third document on which much turns is the letter prepared by Mr Davis addressed to Mr and Mrs Dutton, which is expressed as an offer and which had at the end of it not only Mr Davis’ signature, but a space for Mr and Mrs Dutton to sign under the words, “We have read understand and accept the above offer”.  Our papers do not include a copy signed by Mr and Mrs Dutton, but Mr Mitchell on their behalf confirmed that there had been a copy which they signed.  

23.	The letter refers to the transfer and to the assured short-hold tenancy.  More importantly, for the present purposes, it refers to the two options which I have already mentioned.  In paragraph 1 on the first page, after the references to the transfer and the tenancy, it says this:

“You will also be granted an option to purchase the property after five months but before the expiry of six months at a price of £250,000 less the aggregate sum of all rent payments made during the period.  However, any defaults in rent will be added to the purchase price upon exercising the option by the aggregate amount of any defaults.”

24.	There is a reference to rent and it proceeds:

“Please note that the option will be granted to yourselves personally and will not be transferable.”

25.	On the following page, the details of the first option are amplified a little by it being stated that the cost of the option of £25,000 to be paid as to £2,500 initially, and the balance upon electing to exercise the option.  Purchase may then take place once the price of the option has been fully paid.  The second option is described to start with in paragraph 2 on the first page as follows:

“A second option to purchase the property will be available to you provided you elect to take this offer of an option within one week either way of the expiry of the previous option.  Coincidentally, the assured short-hold tenancy will be continued for a further six months at a rental of £1,750 for as long as the option persists.  The option to repurchase will expire immediately if the rent due is not paid within 21 days of the due date.  Would you please note that there is a penalty upon your using the further option in the form of my costs, fixed and agreed at outset in the sum of £10,000.  This is because if the second option is taken up, it will be under circumstances where the property is now under a conventional mortgage with a penalty clause upon early repayment of that mortgage which I would have to pay.”

26.	The details of the second option are then further amplified as follows:

“Option price £250,000 to be elected within one week (either way) of the expiry of the previous option.  Period of option: six months.  Cost of option: £25,000 to be paid as for the first option, £2,500 initially and balance upon electing to exercise the option.”

27.	Then there are these words to which importance was attached below:

“At the end of the second option period, no further option will be granted since cost and complexity, coupled with the fact that you will by then have been unable to be in a position to exercise the option for a whole year, mean that the deal will come to an end.”

28.	Then the letter contains a passage about access to the premises during the tenancy.  It goes on to say:

“You will be responsible for all your own legal costs and my costs, agreed at outset as follows:  for the initial period of six months, the sum of £4,250, payable at outset.  For the second period of option (if exercised) the sum of £10,000 as previously mentioned.”

29.	What the document does not say, but apparently did happen and it is common ground was agreed, was that Mr and Mrs Dutton would pay not only Mr Davis’ legal costs but also the stamp duty on the transfer at £250,000 to him. It is said to be of significance that £250,000 was the top of the band at which stamp duty was payable at 1%, whereas if the price had been any higher, the stamp duty payable would have been ad valorem at 3%.  

30.	The pleaded case for saying the transaction was really a mortgage, and that this was demonstrated by the options, was introduced by an amendment in a paragraph 27 of the particulars of claim which became the first of two paragraphs so numbered.  The factors relied on according to the pleading are first that the price set was determined by reference to what Mr Dutton required to pay off his debts and other liabilities and not by reference to the market value of the property;  secondly, that the price payable on the options was calculated so as to ensure that if they were exercised, money paid by Mr Davis to the Duttons would be repaid with a fee for his trouble and his expenses; and thirdly, the proposition that the market value was significantly higher than the consideration of £250,000.

31.	In addition, though without specific reference in the statement of case, Mr Dutton relies on the fact that the stamp duty and the defendant’s costs were paid by the claimant, which he says is unusual for a sale, though usual for a mortgage.  He refers to the financial pressure to which he was subject.  He refers to the role of Mr White, the solicitor, and he refers to the fact that Mr Davis was responsible for formulating the terms of the options and that the terms of those options are by no means clear.  

32.	Mr Mitchell particularly relies in support of these propositions, on a passage in Fisher and Lightwood’s: Law of Mortgage 11th Edition paragraph 1.16 under the heading “Test for Meaning of Instrument”, which refers, with a citation by and large of cases from the 19th century and earlier, to a number of matters as being relevant to the consideration of whether the transaction is truly to be regarded as a sale or as a mortgage.  Among those are the inadequacy of the consideration to the value of the property, the payment by one party or the other of the costs of the transaction, circumstances of pressure upon a grantor where he is insolvent or represented by the same solicitor as the grantee; it is said that that last matter is a factor which would materially influence the court in construing an apparently absolute or conditional sale as a mortgage, where in the absence of such circumstances the mere insufficiency of price will be given little weight.  That particular proposition is one for which no authority is cited in the footnotes.

33.	The inadequacy of the consideration, if it were a sale, is Mr Mitchell’s primary point.  In relation to this, there was a single joint expert who gave a valuation of £440,000 to the property on 12 September 2003 on the basis of the usual assumptions as to leisurely marketing and a market value at £365,000 at that time, if the sale had to be completed within a shorter period of 90 days.  He did not offer a valuation on the basis of an immediate forced sale without a survey.  

34.	The judge referred at page 6 of his judgment to the first defendant’s evidence, which was that, in his subjective terms, the sum was below the market value, but it was not unreasonable because he was being asked to buy the property at short notice and without a survey.  The judge said in the context of his consideration and rejection of undue influence, that the defendants were obtaining a valuable asset at a reduced price, but that he accepted the first defendant’s evidence that the price being paid was not unreasonably low.  

35.	If, of course, the transaction was a mortgage, then the market price is irrelevant and it would be fair to say that the consideration passing was more to be dictated by the question of what Mr Dutton needed to raise.  Equally, if the transaction was one under which Mr Dutton was confident that he was going to be able to get the property back by virtue of the exercise of one or other of the options which was at the same price, then equally, the price was perhaps not particularly relevant.  

36.	That at any rate is the first of the factors that Mr Mitchell invites us to have regard to and to which the judge referred.  The claimants continued in occupation of the premises, but that of course was consistent not only with a mortgage but also with the situation where they had an assured short-hold tenancy and they had the hope, expectation or possibility of a repurchase under the options.  

37.	So far as the incidence of costs and stamp duty are concerned, it is fair to say that the payment by the vendor of the purchaser’s costs and stamp duty is unusual, but it is a matter of negotiation and this was, on any footing, a somewhat unusual transaction.  The pressure to which Mr Dutton was subject seems to me to be a matter which was neutral in terms of the true interpretation of the transaction.  It was, of course, the reason for the transaction and it was the reason for a somewhat unusual transaction.  

38.	I do not myself see how either that or the part, such as it was, played by Mr White can have any bearing on the approach of the court following what Staughton LJ described as the internal route in the Welsh Development Agency Case, whereas it might be highly relevant if one was considering either an undue influence case or a case of sham.

39.	Correspondingly, the point about the provenance of the drafting of the option seems to me to be an external factor which has no bearing on the construction or effect of the transaction.  Mr Mitchell pointed out that it might be relevant on the basis of the contra proferentem principle, and if that principle came to be of any relevance then, of course, Mr Davis was the proferens in relation to the offer and no doubt in relation to the other documents.  

40.	I can accept Mr Mitchell’s proposition that if either of the two options had been sought to be exercised in a valid manner, there might have been all sorts of issues and debates as to precisely how that was to operate if the parties did not agree, but I cannot myself see how that goes to the true nature of the transaction.  

41.	In the course of the judge’s judgment, he considered Mr Mitchell’s case in this respect at page 18 through to the top of page 19.  He rejected the sham argument, as I have said.  He referred to the parties regarding the transaction as a genuine sale and I can see that Mr Mitchell may be justified in saying that the subjective opinion of the parties is arguably irrelevant to the question of the true construction.  He referred to the fact that Mr Dutton sought to exercise the option and I can see that that is a factor which is neutral.  He also referred to the fact that the point came up by way of a late amendment and implied that that had some relevance as going to Mr Dutton’s understanding of the legal position. That seems to me to be a forensic point on which I doubt that the judge placed any particular weight, I would not have been, perhaps, fair to place a great deal of weight on that given the fact that this sort of point would depend on legal advice and, whatever Mr Dutton’s legal skills may have been, I dare say he was not familiar with paragraph 1.16 of Fisher and Lightwood on the Law of Mortgage.  

42.	The judge refers to the clear and unambiguous language of the documents, especially in relation to the options and the clear warning that at the end of the second option period, no further option would apply.  Those words of warning are words to which Mr Mitchell attaches importance, in particular the words “that would be the end of the deal” to which Mr Mitchell asks: “Well, what is the deal?”  Clearly that word was being used in a rather general sense, and it seems to me that in its context it was quite clear, as the judge thought that it was quite clear, that that would be the end of Mr Dutton’s opportunity to get the property back.

43.	The judge did not refer in terms to the fact that Mr Dutton paid Mr Davis’ costs and stamp duty, nor did he refer to the issues of financial pressure, the role of Mr White and the source of the drafting.  We have not been referred to all of the cases cited in the passage in Fisher and Lightwood to which I have referred for the catalogue of relevant matters, although as it happens, Mr Troupe referred to two of them in his skeleton argument of which we have the benefit, and so have considered two of them.  

44.	Of the cases cited in the footnote, one dates from 1675 and the others from dates between 1831 and 1862. It seems to me more satisfactory to rely on the modern statement of the approach in Welsh Development Agency v Export Finance and to proceed by looking at the terms of the transaction in the light of the surrounding circumstances relevant to interpretation, but not otherwise in the light of circumstances more relevant to a case of undue influence or sham.  

45.	I should have said that permission to appeal was refused by the judge and was refused on the paper application by Hallett LJ but was granted by myself following the renewal of the application at an oral hearing.  I was then persuaded by Mr Mitchell’s submissions that the judge had arguably been influenced by a number of irrelevant subjective matters and might arguably have failed to take into account some relevant objective matters, in particular the incidence of costs and stamp duty.

46.	Looking at the matter in the light of the more extensive consideration of the points that has been possible on a full appeal, it seems to me that, although those comments that Mr Mitchell makes about the judgment are accurate, the judge was not in any way led into error on the one hand by his reference to some subjective matters which are of limited relevance, nor by his failure to refer to the incidence of costs and stamp duty on the other hand.

47.	It seems to me that Mr Mitchell seeks to rely on matters that are not of relevance following the internal route, to use Staughton LJ’s phrase, and in my judgment, despite Mr Mitchell’s submissions, it is now clear that the judge came to the right conclusion for by and large the right reasons and I would dismiss the appeal.

48.	LORD JUSTICE THOMAS:  I agree.

49.	LORD JUSTICE CHADWICK:  I also agree.

Order: Appeal dismissed.