Case Note: VULNERABLE SURETIES, A BANK’S RESPONSIBILITY AND THE O’BRIEN-ETRIDGE PRINCIPLES

• Date: 01 December 2005
• Author: LOW Kee Yang LLB (National University of Singapore), LLM, PhD (King’s College, London); Associate Professor of Law, Singapore Management University.
• Citation: (2005) 17 SAcLJ 455
• Published date: 01 December 2005

The Bank of East Asia Ltd v Mody Sonal M [2004] 4 SLR 113

The subject of a bank’s responsibility for a debtor’s misconduct towards a surety is as important as it is controversial. The two momentous decisions of the House of Lords in Barclays Bank Plc v O’Brien[1994] 1 AC 180 and Royal Bank of Scotland Plc v Etridge (No 2)[2002] 2 AC 773 have dramatically altered the law. Further, in the latter case, Lord Nicholls of Birkenhead proposed further and even more radical changes to the law. In The Bank of East Asia Ltd v Mody Sonal M, the Singapore High Court was faced with the issue of whether the bank was affected by the alleged undue influence exercised on the sureties. This case comment examines the Singapore decision and, in particular, whether it clarifies the applicability of the O’Brien-Etridge principles and propositions.

I. Introduction

1 The scenario is a familiar one: a proposed borrower desirous of a loan facility from a bank is asked to provide security in the form of a guarantee by a spouse (or some other family member) or a mortgage of the matrimonial home. The security sought is eventually given, but not without some form of pressure or improper conduct on the part of the borrower. Upon the default of the borrower, the bank’s claim on the guarantee or mortgage, almost invariably, is met by the surety’s protest that the borrower was guilty of wrongdoing and that the bank was tainted by such wrongdoing. In this scenario, the judge’s two primary tasks of ascertaining the facts and ascertaining the law are both difficult ones.

2 At the basic level, the fact-ascertainment task involves the usual difficulties of evidence and proof, such as: Did the alleged acts of

wrongdoing take place?1 Did the bank have notice of the acts of the borrower? Did the bank’s official explain the document to the surety? And, in seeking answers to these and other questions, the judge has to decide who to believe and what to believe. In the process, he (or she) constructs what he thinks is the dynamic picture of the case before him. With this picture, he perceives the elements of justice and injustice of that scenario. But the exercise or experience of perceiving is by no means easy, for this is a situation, essentially, of two more or less innocent parties — the bank and the surety. Fundamentally, the guilty party is the borrower and in a claim by the bank against the surety, the court has the invidious task of deciding which of the two parties is more deserving. Logically, the more innocent party should be the more deserving one. But there is another angle. In deciding the fairness or unfairness of a particular situation, it is also relevant, and necessary, to consider the benefit to the parties; here, the focus is on the benefit to the surety.2 And this aspect is, perhaps surprisingly, complex and controversial.

3 The judge’s second task is to ascertain the law on the subject. Readers with some familiarity with the law in this area will be aware of the substantial developments made as well as proposed by the House of Lords in the landmark decisions in Barclays Bank Plc v O’Brien3 and Royal Bank of Scotland Plc v Etridge (No 2).4 Together, the two cases have established a new framework of principles5 that govern the legal position between the bank and the surety in situations where the principal debtor is guilty of some misconduct towards the surety in the obtaining of the guarantee or mortgage. And the framework is quite a complex one, as we shall see later. Even more momentous than the legal principles decided by the two cases are the judicial opinions regarding the future path of the law in this area, and on these one should keep a watchful eye.

4 Bearing these in mind, we now consider the recent High Court decision in The Bank of East Asia Ltd v Mody Sonal M.6

II. The facts

5 The Bank of East Asia Ltd (“the bank”) granted overdraft facilities to MTM Trading Pte Ltd (“the company”). The facilities were secured by a joint and several guarantee by three individuals — a certain Manharlal Mody, his daughter, and his wife — and a mortgage given by the company. All three were directors of the company, and the daughter and wife were shareholders as well, holding 10% and 20% of the shares respectively. Following the default by the company, the mortgaged property was sold and the bank claimed the outstanding balance of $639,293.19 from the three sureties. (The company was subsequently wound up.) The main defence of the daughter and the wife (the first and third defendants, respectively) was that the guarantee was procured by the undue influence of Mr Mody, and the bank had notice of the misconduct.

6 To this end, they averred that the company was run by Mody and his son, and that they (the daughter and the wife) were not involved in the company, apart from signing documents on Mody’s instructions. They also alleged that they reposed trust and confidence in Mody and that he was always the dominant personality whom they were not allowed to question. They further alleged that the guarantee was manifestly disadvantageous to them in that they had nothing to gain and everything to lose.

III. The law

7 Judical Commissioner Andrew Ang began his legal discourse by citing the classifications of undue influence laid down in Bank of Credit and Commerce International SA v Aboody,7 namely Class 1 (actual) undue influence and Class 2(A) and Class 2(B) (presumed) undue influence. He then pointed out that in surety cases, the debtor’s misconduct affects the bank if either the bank had notice, actual or constructive, of the debtor’s wrongdoing or the debtor had acted as the bank’s agent in obtaining the guarantee. He then cited8 the oft-quoted passage of Lord Browne-Wilkinson in O’Brien:9

[A] creditor is put on inquiry when a wife offers to stand surety for her husband’s debts by the combination of two factors: (a) the transaction

is on its face not to the financial disadvantage of the wife; and (b) there is a substantial risk in transactions of that kind that, in procuring the wife to act as surety, the husband has committed a legal or equitable wrong that entitles the wife to set aside the transaction.

It follow [sic] that unless the creditor who is put on inquiry takes reasonable steps to satisfy himself that the wife’s agreement to stand surety has been properly obtained, the creditor will have constructive notice of the wife’s rights.

8 His honour proceeded to consider Etridge and cited at length from Lord Nicholls of Birkenhead’s judgment on the issue of whether a wife’s guarantee is to be regarded as manifestly disadvantageous to her. He then mentioned how Lord Nicholls had concluded that the above passage of Lord Browne-Wilkinson’s was to be taken to mean that a bank was put on inquiry whenever a wife offered to stand surety for her husband’s debts. He further quoted:10

Moreover, as with wives, so with other relationships.… This suggests that, in the case of a father and daughter...