Legal Blog
Trouble
There are times in the professional life of every real estate lawyer when trouble walks through the door. In Cook v. Craig, an unreported 2001 decision of the Ontario Superior Court of Justice, trouble came in the form of a 63 year-old female with a grade 10 education who, at the time of a mortgage transaction, had no income and was subsisting on social assistance payments of $700 per month. As you read this lead-in, you say to yourself: “Whoops, there goes another otherwise valid mortgage.” Do not get ahead of us; not everything is black and white.
ILA Given
Our story commences in 1987. A woman and her estranged spouse had agreed by way of a separation agreement that the woman would become the owner of a house but would ensure that her estranged spouse was removed from his covenant on the mortgage. In 1993, that mortgage matured and the woman went to a broker to obtain a new mortgage to pay out the existing one. We assume that the existing mortgagee had refused to allow the estranged spouse to be removed from the covenant, probably for good reason because the prospective new mortgagee, National Trust, insisted on more security than that provided by the house.
This was easily arranged; the woman had since re-married and went to her new-found mother-in-law (“MIL”) who agreed to provide her house as additional security. MIL was the female named in the lead paragraph. The broker insisted that MIL obtain independent legal advice. The lawyer, who acted for MIL, daughter-in-law, and National Trust, arranged for another lawyer to give the independent legal advice. He did so and the advice was “sufficient and effective for this purpose.”
New Mortgage
In 1995, the National Trust mortgage came due. However, it was not until 1996 that the same mortgage broker obtained a replacement mortgage from mortgagee no. 3, an individual. The same lawyer acted and, again, acted for all of the parties. The National Trust mortgage had a principal of $76,000 with interest at 11% per year. Mortgage no. 3 had a principal of $78,000 with interest at 11% per year. MIL again gave a collateral mortgage. This time, the lawyer did not arrange for independent legal advice. Presumably, he felt that the mortgages were virtually identical and, accordingly, this new advice would be unnecessary.
It seems, however, that no one told MIL, at the time of the granting of mortgage no. 3, that realty taxes were in arrears of $3,351, the National Trust mortgage had arrears of $1,941, and there were hydro arrears of $1,045. We have to assume that the daughter-in-law paid all of these arrears on or before closing because the additional principal amount of $2,000 would not have covered all of the arrears, the mortgage brokerage fees, and the legal fees associated with the new mortgage. We also assume that the solicitor would not have closed the mortgage transaction without the arrears paid.
Inevitable Defence
Mortgage no. 3 went into default. The mortgagee sold daughter-in-law’s house but there were significant expenses to be deducted from the sale proceeds: $16,000 for repairs made to the house to help effect a sale; $10,000 for realty tax arrears; and $17,000 for costs of the sale, such as real estate commission and legal fees. In addition, interest had accumulated. When all was said and done, there was still a deficiency of $58,000 when mortgagee no. 3 turned his sights on MIL.
MIL claimed that she did not understand her responsibilities under the mortgage. She thought that she was liable under mortgage no. 2 for only one year and that at the end of that year, her daughter-in-law would “either be required to get another ‘backer’ or sell the subject property.”
Inevitable Decision
It did not matter that MIL had received independent legal advice three years before mortgage no. 3. It did not matter that the protestations as to her lack of knowledge sounded hollow given that initial independent advice. She was a 63 year-old unsophisticated, uneducated welfare recipient whose sole asset was about to go up in smoke. The judge held that she should have had independent legal advice and the lawyer who had acted for all parties had a duty to ensure that MIL had all of the facts (e.g. the arrears) at the time she signed mortgage no. 3.
The judge held that most of the repairs and the realty tax arrears were necessitated by events occurring after the giving of mortgage no. 3 and that had MIL been given all of the facts, she would have insisted that daughter-in-law’s house be sold to pay out National Trust. The fact that she would never have insisted on this did not deter the judge. He did not want MIL to lose her home and, therefore, made findings of fact to support his feel for the equities in the action.
Moral
The fall guy in this action was the lawyer who acted for everybody. He should have known that the situation called for independent legal advice, not so much as to inform MIL, but to protect the mortgagee. We do not doubt that mortgagee no. 3 will be looking to him for the mortgage shortfall.
A financial institution might not have the same luxury as the individual investor. It is the financial institution that should know who has to receive independent legal advice and who does not. Financial institutions are in many cases more sophisticated in this type of matter than the lawyers they use.
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GOOD DEFENCE
There are times when a guarantor has no good defence to an action to enforce a guarantee. However, what if the original debtor has complaints about the actions of the financial institution? Can the guarantor adopt these complaints as a defence in the guarantee action? The case of Thomson v. Quality Mechanical Services Inc., an unreported 2001 decision of the Ontario Superior Court of Justice, is instructive.
Negligence
Shareholder A decided to cut shareholder B out of a corporate business by opening a new corporate business on his own account and signing cheques on the old business without obtaining the necessary signature of shareholder B. Shareholder B sued shareholder A and joined the bank as a defendant alleging that the bank allowed shareholder A to negotiate the cheques in contravention of the business’ agreement with the bank.
The problem with the action of shareholder B was that the complaint regarding the unauthorised use of cheques should really have been made by the old business; it was the old business that had entered into the contract with the bank, not its shareholders. This is exactly what the judge decided. The judge noted that there was no material before him to suggest that “the bank was aware beyond the signature card of the plaintiff’s existence.”
Home Free
Banks are not necessarily off the hook on all occasions. This decision related to a situation in which the bank was not intimately bound up in the affairs of the corporation. However, the judge referred to Court of Appeal decisions in which banks were held liable for their actions based on misrepresentation. As in all cases, it depends upon the facts.