Reliance on property title searches and claims by unregistered third parties

Articles, Loan + Securities

The recent decision in Hutson v Roufeil [2020] NSWSC 864 is a timely reminder of the exceptions to the principle of indefeasibility of title, particularly  for mortgagees whose security can be affected by the claims of a third party with an interest not recorded on title.

Indefeasibility of title

An understanding of how the current system of title operates is essential for anyone dealing with real property securities.

The current system of title, known as Torrens title, revolves around the fundamental principle of registration. Any party who is registered on title as the owner of the property is assumed to have the absolute legal title to the property.

In NSW, indefeasibility arises by virtue of section 42 of the Real Property Act NSW 1900 (Act), which states that the registered proprietor at the time of registration shall hold the land “absolutely free from all other estates and interests”.

The practical effect of this is that it allows any interested parties, such as purchasers or mortgagees, to rely on the information recorded on the title.

Priority of registration is subject to the in personam exception to indefeasibility of title and this article discusses the circumstances in which the exception arose.

The in personam exception

Rights in personam usually arise out of prior conduct of the registered proprietor. One example is a purchaser under a contract for sale who enforces the contract against the vendor. In this case, the vendor cannot use the registered title to defend against the claim.

In order to establish an in personam exception, the following must be established:

  1. the claim is based on a recognised legal or equitable cause of action – in Hutson v Roufeil, this cause of action is the established equitable action of estoppel by convention;
  2. the cause of action must give rise to a remedy that affects the registered proprietor’s title;
  3. the remedy must not be inconsistent with the policy and purpose of the Torrens system; and
  4. it would be unconscionable to allow registration to defeat the claim.

Some common situations where exceptions arose involve:

  • contractual agreements with the registered proprietor, which grant an interest in land;
  • claims based on an equitable doctrine, such as undue influence, estoppel or unconscionable dealing; and
  • an undertaking by the registered proprietor to be bound by an unregistered interest. 

Facts

The facts of Hutson v Roufeil are not uncommon. Any mortgagee who regularly enforces registered mortgages is likely to have been faced with similar circumstances at some point.

The first and second plaintiffs in Hutson v Roufeil were the receivers and managers appointed by the lender. The lender held a registered mortgage over certain property that was owned by a bankrupt. The first defendant in the proceedings was the trustee of the bankrupt estate, and the second defendant was the father of the bankrupt.

The lender’s mortgage secured payment for two facilities totalling $8,500,000. Some time prior to the proceedings, the borrower committed an event of default and the lender served Statutory Default Notices proposing to exercise their power of sale.

Following the expiry of the notices, the plaintiff commenced proceedings in October 2019 seeking an order for possession of the property in question. Although the first defendant did not file a defence, he advised the second defendant may have an interest in the property. A title search over the property was conducted which revealed the second defendant had lodged a caveat over the property. Once the second defendant was joined to the proceedings, he pleaded he had an unregistered proprietary interest over four lots comprising the property, being a life estate.

The basis for the second defendants pleading was pursuant to a Deed of Agreement that was executed in November 2000 (Deed). The terms of the Deed granted the second defendant an interest in part of the property for the remainder of his life. 

Issues

The main issue the court was required to determine was whether the second defendant had an interest in the property in priority to the bankrupt’s registered interest which was subject to the security.

The second defendant claimed that a cause of action existed by way of an estoppel by convention, which constitutes an in personam exception to the indefeasibility of the lender’s title.

Relevant Law

There was no dispute between the parties as to the relevant law applying to an in personam exception.

Both parties agreed that an in personam exception can overcome section 42 of the Act. The court referred to the case of Smilevska v Smilevska (No 2) [2016] NSWSC 397 which has authority in this regard, stating:

To acquire title with the mere notice of an unregistered interest is not enough to raise a personal equity… But a personal equity may be raised where additional factors exist that indicate that the person taking title under the Torrens system agrees to be bound by the unregistered interest.

Likewise, both parties agreed on the elements constituting estoppel by convention. The established convention was summarized in Moratic Pty Ltd v Lawrence James Gordon & anor (2007) 13 BPR 24713 as requiring the following:

  1. the plaintiff must adopt an assumption as to the terms of its legal relationship with the defendant;
  2. the defendant must adopt the same assumption;
  3. both parties must conduct their relationship on the basis of the mutual assumption;
  4. each party must know or intend that the other party act on the basis; and
  5. departure from the assumption must cause detriment to the plaintiff.

Result

Ultimately, the defendants failed to establish all of the above elements and the plaintiffs were granted possession of the remaining four lots over the property.

The Court was not satisfied that the lender was aware of the life estate at the time of lending funds to the Borrower. As they were not aware of the interest, they could not possibly agree to be bound by it. This is critical for the second, third and fourth element identified above.

“In order for any relationship or alternative ‘arrangement’ to be established, it would be necessary for the defendant to establish awareness on the part of the lender of the existence of a life estate…and an agreement by the lender to be bound by the unregistered interest.”

Takeaways

Although in the case the lender was able to take possession of the property free from any encumbrances, it is still important to be aware of the circumstances that give rise to an in personam exception.

A key takeaway for mortgagees is to go beyond the title search prior to advancing any funds to a borrower. This is particularly important in circumstances where the proprietor has provided some form of agreement or indication that another party may have an interest in the land.

It is not enough for the lender to merely acknowledge these documents without an understanding of what they do and rely on the title search to assume a property is unencumbered.

For example, in the current case the result would have been different if the proprietor was able to establish two factors:

  • the lender was aware of the unregistered proprietary interest prior to advancing funds; and
  • despite the interest, the lender agreed to advance funds to the borrower.

In these circumstances, the in personam exception to indefeasibility would apply and the lender would be unable to take possession of the four lots subject to the property interest of the second defendant.

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