Duress and Undue Influence in Contract Law PDF

7 Duress and Undue Influence LEARNING OUTCOMES When you have completed this chapter, you should be able to: explain and discuss the law relating to duress and undue influence; advise businesses of the main legal issues involved in co...

7 Duress and Undue Influence LEARNING OUTCOMES When you have completed this chapter, you should be able to: explain and discuss the law relating to duress and undue influence; advise businesses of the main legal issues involved in contractual variations (eg in terms of consideration and economic duress); assess the legal and practical implications for financial institutions, where security is being offered in a situation where there is a risk of undue influence. As the essence of agreement (upon which contract law is based) is that the parties freely consent to the agreed terms, it follows that a party who has been forced into a contract by threats or undue pressure should not necessarily be bound by it. Note we are only talking about some sort of improper pressure. A party cannot generally complain about ordinary commercial pressure or mere inequality of bargaining power. It is only where there has been duress or undue influence that a contract will be voidable, thus giving the innocent party the option to rescind it. 7.1 Duress 7.1.1 What constitutes duress in contract law? Traditionally, duress was confined to violence or illegitimate threats of violence or damage to property which effectively coerced the other party into entering a contract or varying a contract. A case which involved threats of physical violence is Barton v Armstrong AC 104. Armstrong had threatened to kill Barton, if Barton did not buy his shares in the company. Barton agreed to do so, but not only because of the threats to his life. There was evidence to suggest that he thought it to be a satisfactory business arrangement in any event (he believed it would prompt the company’s principal lender to advance further money to it). Nevertheless, it was held that Barton should not be bound by the agreement. Lord Cross of Chelsea made it clear that duress need not be the only reason why the innocent party entered the contract. He said: … if Armstrong’s threats were ‘a’ reason for Barton [entering the contract] he is entitled to relief even though he might well have entered into the contract if Armstrong had uttered no threats to induce him to do so …. It was for Armstrong to establish, if he could, that the threats he was making … in fact contributed nothing to Barton’s decision to sign. So traditionally duress was some sort of violence, illegitimate threat or pressure, and the burden of proof was on the party alleging it. 165 Contract In practice, threats of physical violence to encourage a person to enter into a contract are quite rare. In the commercial world, illegitimate threats to a person’s economic or business interests are far more common. But illegitimate threats need to be distinguished from straightforward hard bargaining, such as threats to take business elsewhere, sell to a competitor, or not to give a discount in future, which may amount to acceptable commercial pressure. To amount to economic duress, the threat must be an improper threat (ie a threat to breach a contract or commit a tort). It can sometimes be difficult to draw a distinction between legitimate commercial pressure and illegitimate threats. One case in which economic duress was established is Atlas Express v Kafco 1 All ER 641. The claimants were a road haulage company. The defendants were a small firm of manufacturers. The defendants had managed to secure a contract with Woolworths stores around the country. The defendants entered into a contract with the claimants whereby the claimants agreed to transport the defendants’ goods to the various Woolworth stores. The goods were to be transported in cartons, and the defendants agreed to pay £1.10 per carton. The contract did not specify how many cartons the defendants would supply per load. For the first load the defendants supplied 200 cartons. The claimants had expected more. They thought there would be 400–​600 cartons. The claimants refused to make any more deliveries unless the defendants agreed to pay a minimum of £400 per load. The defendants were a small business. It would have been difficult for them to find another haulage company to deliver to Woolworths on time. If the goods were not delivered on time, their business relationship with Woolworths would have been ruined. They therefore agreed to pay the extra amount, but in the event did not do so. When sued for the extra money, Kafco successfully defended the claim on the basis that the agreement to pay more money had been obtained by economic duress. Kafco’s agreement had been obtained by illegitimate pressure and Kafco had had no practical alternative but to agree. It would have been very difficult for Kafco to find someone else to deliver the goods, and if the goods had not been delivered, Kafco’s customer, Woolworths, would have sued Kafco and would not have dealt with them again. In other words, Kafco had no practical choice but to concede. An alternative argument raised by Kafco was that Atlas had given no consideration for its promise to pay more money on the basis that Atlas was simply performing an existing contractual duty (Stilk v Myrick (1809) 2 Camp 317 –​Chapter 2). The argument succeeded. It is important to note that Atlas Express v Kafco was decided before Williams v Roffey 1 QB 1, CA, where the Court decided that performing an existing contractual obligation owed to the other contracting party can be good consideration for a promise of more money, provided the person promising the money obtains a practical benefit in return. However, the principle in Williams v Roffey could not in any event have been used to allow Atlas Express to recover the extra money. Why not? The principle in Williams v Roffey can only apply where the promise is not obtained as a result of fraud or duress. (In Williams v Roffey the defendant did not argue that there had been duress.) The fact that Atlas Express had used duress to obtain the promise from Kafco meant that the principle in Williams v Roffey could not be used to allow Atlas Express to recover the extra money. The duress made the renegotiation voidable. The early cases on economic duress emphasised that there must be coercion of the will so as to vitiate consent (Pao On v Lau Yiu Long AC 614). However, it may be misleading to say that duress is based on consent being vitiated so that the resulting act is not voluntary. The person alleging duress does consent. The problem with the contract is not the lack of consent, but the fact that the consent was obtained by improper pressure. 166  Duress and Undue Influence Given that the courts are no longer emphasising consent being vitiated as the key aspect of duress, more attention may have to be paid to the nature of the pressure in order to decide whether this pressure is illegitimate. Illegitimate pressure includes unlawful threats, such as a threat to commit a crime or a tort, or a threat to break a contract. (In Atlas Express v Kafco, Atlas Express were threatening to break their contract when they said they would not deliver the goods unless they were paid more money.) In the case of Carillion Construction Ltd v Felix (UK) Ltd BLR 1, Dyson J summed up the ingredients needed to establish economic duress as follows. The ingredients of actionable duress are that there must be pressure: (a) whose practical effect is that there is compulsion on, or a lack of practical choice for, the victim; (b) which is illegitimate; and (c) which is a significant cause inducing the claimant to enter into the contract. Dyson J also said that, in determining whether there has been illegitimate pressure, the court will take into account a range of factors. These include: whether there has been an actual or a threatened breach of contract; whether the person allegedly exerting the pressure has acted in good or bad faith; whether the victim had any realistic practical alternative but to submit to the pressure; whether the victim protested at the time; and whether they affirmed and sought to rely on the contract. Dyson J emphasised that illegitimate pressure must be distinguished from the rough and tumble of the pressures of normal commercial bargaining. A case in which the court considered and applied the Carillion guidelines (and also the principle laid down in Williams v Roffey) is Adam Opel GmbH and Renault SA v Mitras Automobile (UK) Ltd EWHC 3205 (QB), in which the renegotiation was held to be voidable due to duress. More recently, the Supreme Court in Pakistan International Airline Corporation v Times Travel (UK) Ltd UKSC 40 considered economic duress in depth. It effectively confirmed the Carillion guidelines by endorsing that there are three elements to economic duress: (i) an illegitimate threat/pressure by the defendant; (ii) the illegitimate threat/pressure caused the claimant to enter the contract/contractual variation; and (iii) the claimant must have had no reasonable alternative but to concede to the threat/pressure. Note that the Supreme Court in this case also discussed at length lawful act duress (ie whether lawful (albeit unreasonable) demands can amount to illegitimate pressure for the purpose of economic duress). However, lawful act duress is beyond the scope of this textbook. 7.1.2 Effect of duress and remedy Duress, like misrepresentation (which you considered in the previous chapter), makes an original or renegotiated contract voidable. However, unlike for misrepresentation, there is no remedy of damages. Rescission is the only available remedy for duress. Remember that the easiest way to rescind a contract, or variation to a contract, is for the innocent party to notify the other party that it wants to rescind. But what if it is impossible to find the other party, or the other party refuses to return money or property? Well, if the other party cannot be traced then one option open to the innocent party is to notify the police. In any event, an innocent party may apply to court for an order of rescission. But there are bars to rescission, and in cases involving duress if one, or other of them, applies, it means that the innocent party will have no recourse for having been improperly coerced 167 Contract into the contract or contractual variation: rescission is the only remedy for duress. The bars to rescission (which you looked at in Chapter 6) are: (a) affirmation; (b) undue delay; (c) where an innocent purchaser has already acquired an interest in the property; (d) where it is impossible to substantially restore goods or property, eg property has been consumed or destroyed. One case in which rescission was barred is North Ocean Shipping v Hyundai Construction Co (The Atlantic Baron) QB 705. The case involved the construction of a ship. Building started, but the shipbuilders demanded more money and threatened to stop work unless the claimants agreed to pay the extra money. The claimants agreed to pay the extra money as they had no practical choice but to concede to the demand. They desperately needed the ship to be finished on time as they had made a contract to hire out the ship on completion. The ship was delivered on time and the shipbuilders were paid in full. Eight months later the claimants asked for repayment of the extra money on the grounds of duress. (The shipbuilders had provided consideration for the extra money and so consideration was not an issue.) The court held that there was economic duress, but it refused to rescind the variation on the bases of both affirmation and undue delay. The court found that when the payment was made, there was no longer any pressure on the claimants, as market conditions had changed and there was no likelihood that the shipbuilders would refuse delivery. Payment therefore amounted to affirmation. Also, the claimants had left it too long (eight months) before asking for the return of their money. Thinking back to Atlas Express v Kafco, what would have been the most sensible thing for the ship owners to have done once the ship had been delivered and the pressure taken away? Simply not to have paid the extra money. Then, if and when the ship owners were sued, they could have raised duress as a defence. Note, in both Atlas Express v Kafco and The Atlantic Baron, that it was only the later variation which was affected by the duress, and therefore only the variation (ie the promise to pay the extra money) which was capable of being rescinded, not the original contract. Duress –​summary To establish duress, the innocent party must establish that there has been an illegitimate threat which left them with no practical choice and which was a significant factor in inducing them to enter the contract or variation (Carillion Construction Ltd v Felix (UK) Ltd). The effect of duress is to make the contract (or variation) voidable. Rescission is the remedy available to a victim of duress, provided it is not barred (eg by undue delay or affirmation (The Atlantic Baron)). Rather than rescind as such, we have also seen that duress can be used as a defence if the other party tries to enforce the renegotiated terms or otherwise claim damages for breach (Atlas Express v Kafco). 7.2 Undue influence Undue influence, like duress, makes a contract voidable. The remedy is rescission, and the same bars apply as for duress. There is, like duress, no remedy of damages, and so if rescission is barred, a victim of undue influence has no remedy. Undue influence consists not of threats or violence, but of influence which goes beyond what is regarded as acceptable. Just as it can be difficult to decide where legitimate commercial pressure ends and economic duress begins, it can be difficult to say at what point acceptable influence becomes ‘undue’ influence. The approach adopted by the law is to identify 168  Duress and Undue Influence relationships which are unequal and then to consider whether the transaction resulted from the dominant person abusing that relationship. Thinking back to duress, you may recall that the onus is on the innocent party to prove duress. That is not necessarily the case with undue influence, because as well as actual undue influence (ie proved on the facts), there is presumed undue influence. Basically, undue influence will be presumed where there is a fiduciary relationship (ie a relationship of trust and confidence) between the parties and a transaction which calls for explanation. As undue influence tends to be something which goes on ‘behind closed doors’, it will often be very difficult to prove, so most innocent parties will try to raise a presumption of undue influence. We shall now consider both types of undue influence in the context of established case law. 7.2.1 Actual undue influence Here the claimant must prove that the defendant used undue influence. This might be difficult to do as it is often one person’s word against another’s, ie the evidence of the innocent party against that of the influencing party. One case in which the evidence of the innocent party (supported by a witness) was preferred to that of the influencing party (who was found to be ‘not completely credible’) is Daniel v Drew EWCA Civ 507. Mrs Drew was an elderly lady who intensely disliked confrontation and was afraid of her nephew and the prospect of going to court. So, when he told her to sign the contract under the threat of taking court action, she had felt unable to refuse. Unlike duress, the threat may be entirely legal, such as, in this case, taking court action. 7.2.2 Presumed undue influence For undue influence to be presumed, there must be a relationship of trust and confidence and the transaction must be one that calls for an explanation. The need for these two things to be established in order to raise a presumption of undue influence was laid down by the House of Lords in Royal Bank of Scotland v Etridge (No 2) 4 All ER 449. This is now the leading case on undue influence. We shall now consider each element in turn. 7.2.2.1 Relationship of trust and confidence In certain categories of relationship (eg solicitor and client, doctor and patient), it is irrebuttably presumed that one party places trust and confidence in the other. This is also the case with parents and children (under 18) and religious advisers and followers, but not, however, with the relationship of husband and wife. In any case, such as husband and wife, where the relationship is not presumed to be one of trust and confidence, the innocent party will have to prove it was in fact a relationship of trust and confidence. For example, a wife may be able to prove that she actually did place trust and confidence in her husband in relation to financial matters. One case where a relationship of trust and confidence was established is Tate v Williamson (1866) 2 Ch App 55. In this case, the defendant became financial adviser to an extravagant Oxford undergraduate who was being pressed by creditors. Having recommended the sale of the undergraduate’s estate, the defendant offered to buy it for £7,000 without disclosing that it was in fact worth double that amount. The offer was accepted and the conveyance executed. The sale was later set aside as the defendant had wrongfully exploited, to their own advantage and knowledge, the commanding position in which the defendant stood. The undergraduate had taken the advice without questioning it. Another, more recent case in which a relationship of trust and confidence was established on the facts is O’Sullivan v Management Agency Ltd QB 428. Here the relationship of trust and confidence was between Gilbert O’Sullivan, a young, unknown singer/​songwriter and his manager. 169 Contract 7.2.2.2 The transaction must call for an explanation, ie the transaction is not readily explicable by the relationship between the parties To raise any presumption of undue influence, however, it is not enough for there simply to be a relationship of trust and confidence between the parties. In addition, the transaction which the parties enter into must be such that it is not readily explicable by the relationship between them, ie the transaction must call for explanation (Royal Bank of Scotland v Etridge (No 2)). 7.2.2.3 Rebuttable presumption Lastly, note that as with most presumptions, the presumption of undue influence is rebuttable. For example, it could be rebutted if there was evidence to show that the innocent party had taken independent advice. Figure 7.1 sets out the steps for establishing undue influence. Figure 7.1 Is there undue influence? IS THERE ACTUAL UNDUE INFLUENCE PROVED ON THE FACTS ? NO IS THERE A RELATIONSHIP OF TRUST AND CONFIDENCE PRESUMED AS A MATTER OF LAW? NO YES IS THERE A RELATIONSHIP OF YES TRUST AND CONFIDENCE ON THE FACTS? YES DOES THE TRANSACTION ‘CALL FOR EXPLANATION’? NO YES PRESUMPTION RAISED NO – CAN IT BE REBUTTED? NO YES UNDUE INFLUENCE PROVED NO UNDUE INFLUENCE 170  Duress and Undue Influence 7.2.3 Undue influence and the position of third parties 7.2.3.1 Establishing the basic principles The law on undue influence has become important over recent years in relation to the notion of tainting a contracting party (typically a commercial lender) with the undue influence of a third party. Example Husband Undue Wife (Debtor) influence Bank Loan Husband (Creditor) agreement Security Wife Bank agreement (Surety) Husband defaults on the loan Bank seeks to enforce the security agreement for the loan against the wife Wife argues that the security agreement should be set aside (ie rescinded) on the basis of undue influence The bank argues that the undue influence was not exerted by it, ie the other contracting party to the security. It was exerted by the husband (third party debtor) and so should not affect the contract between the bank and the wife. Let us take a look at the typical situation (outlined above) in more detail and consider the legal, practical and commercial issues it raises. A husband’s business needs an injection of capital, and he approaches a commercial lender for a loan. The lender is prepared to advance the money, subject to taking security by way of a charge over the matrimonial home. As the matrimonial home is owned jointly by husband and wife, the wife will need to be a party to the security agreement and as such a surety, ie a person who gives security for the debts of another. As a result of the husband’s undue influence, the wife signs the relevant documentation and the husband gets the money needed for the business. The husband’s business has problems: the loan is not repaid, and the lender seeks to enforce its security and repossess the matrimonial home. It is at this stage that the wife alleges undue influence by the husband and that the security agreement should be set aside (ie rescinded) as a result. If the security agreement is set aside, the lender will have lost its security and will be left suing the husband as an unsecured creditor. If the security agreement is not set aside, the lender will repossess the matrimonial home and the wife will effectively be left homeless. The dilemma in this type of situation is that there are two innocent parties, the wife and the lender. To what extent, if any, should either, or both of them, be offered protection by the law? It would clearly be unfair to a lender if it was always affected by the undue influence of the husband. Also, as a matter of commercial reality, small businesses need loans, and lenders will often insist they are secured, and the main asset that can be offered as security is the matrimonial home. Consequently, lenders need to be able to take security with some reassurance that they will be able to enforce it if necessary. On the other hand, what about the wife? The wife trusted the husband and only signed the documentation because he told her to do so. The wife was unaware of the risks and practical implications involved. 171 Contract Barclays Bank v O’Brien 1 AC 340 Until the case of Barclays Bank v O’Brien, the general view was that a commercial lender would not be affected by the undue influence of a third party debtor unless the debtor had been acting as agent for the lender in obtaining security for the loan (we looked at agency in Chapter 2). There were flaws with the agency theory. For example, the aim of a potential debtor is to get the loan they require; whereas the aim of a creditor is to ensure repayment of the loan. On that basis, why would a creditor use the debtor as its agent to get security for the loan? Their interests are at odds. Lord Browne-​Wilkinson in Barclays Bank v O’Brien introduced the idea of notice, ie if the creditor had actual or constructive notice of the debtor’s impropriety, it would be tainted with it, and any security contract obtained as a result would be voidable. Constructive notice in this context is not the same as the constructive notice in land law. In this situation, the creditor will have constructive notice if it ought to have been put on inquiry of the risk of undue influence by the debtor and it did not take reasonable steps to ensure that the surety was aware of the implications of what they were signing. We shall look in detail later at when a creditor will be put on inquiry, and what are the reasonable steps it should take to ensure the surety (in our example the wife) is aware of the risks, especially in the context of Royal Bank of Scotland v Etridge (No 2) 4 All ER 449 (the leading case in this area). For the moment, it is enough that you know that if the creditor had notice (actual or constructive) of the impropriety by the third party debtor, the creditor will be tainted with it and any security can be set aside. CIBC Mortgages plc v Pitt 4 All ER 433 A case in which the lender did not have actual or constructive notice is CIBC Mortgages plc v Pitt. Here, the wife was able to prove actual undue influence by the husband. Mr Pitt had wanted to raise a second mortgage on the matrimonial home in order to finance share dealings. Mrs Pitt was not convinced, but eventually, worn down by her husband’s persistence, she signed the mortgage application. Unfortunately for Mrs Pitt, the application did not state the true purpose of the loan. For all intents and purposes, it was a straightforward mortgage transaction to finance the purchase of a holiday home, and as a result there was nothing to alert the lender to any risk of impropriety. The House of Lords held that Mrs Pitt was not entitled to have the transaction set aside as against the lender as it had no notice (either actual or constructive) of the undue influence. Lord Browne-​Wilkinson thought it would go against practical common sense to say that lenders should be fixed with constructive notice of possible undue influence in every transaction involving husband and wife, as it would make such transactions impossible. On every purchase, if a home is in joint names, the bank or building society would have to meet the wife separately from the husband, advise the wife about the nature of the transaction and the need to take legal advice separate from the husband. This would not benefit the average married couple and would discourage institutions from lending. Lord Browne-​Wilkinson distinguished a joint advance (as in CIBC Mortgages v Pitt) from a situation where a wife stands as surety for the husband’s debts, on the basis that in the latter case there is an increased risk of undue influence having been exercised. On the face of it, a guarantee by a wife of the husband’s debts is not for the wife’s benefit. This is relevant in deciding whether the bank has constructive notice of the undue influence. Royal Bank of Scotland v Etridge (No 2) 4 All ER 449 The leading authority on this area is now the House of Lords decision in Royal Bank of Scotland v Etridge (No 2). This is another case where the wife argued that the bank had 172  Duress and Undue Influence constructive notice of the husband’s undue influence and so should not get possession of the house. This argument failed because the solicitor acting for Mrs Etridge had confirmed to the bank, in the event falsely, that the solicitor had advised about the content and effect of the charge. The bank was entitled to rely on the solicitor’s confirmation, and there were no further steps that the bank could reasonably have been required to take. The House of Lords confirmed that if the creditor had actual or constructive notice of the debtor’s undue influence then the security contract obtained as a result would be voidable. The House of Lords also stated that a creditor will have constructive notice if it ought to have been put ‘on inquiry’ and did not take reasonable steps to ensure that the surety was aware of the implications of what was being signed. The House of Lords discussed the circumstances in which a creditor would be put ‘on inquiry’ and the sort of reasonable steps it should take to protect itself where it had been put on inquiry about the risk of undue influence. Lord Nicholls said that if a wife acts as surety for the husband’s debts then the bank is put on inquiry. On the other hand, if money is advanced to a husband and wife jointly (as in CIBC Mortgages v Pitt), the bank is not put on inquiry, unless the bank is aware the loan is being made for the husband’s purposes alone. Note: later in his judgment Lord Nicholls said that banks should be put on inquiry in every case where the relationship between the surety and the debtor is non-​commercial, unless money is being advanced to a husband and wife jointly. So in the example at 7.2.3.1, the bank would automatically be on inquiry as the relationship between the debtor (the husband) and the surety (the wife) is clearly non-​commercial and the money is not being advanced to them jointly –​it is being advanced to the husband for his business. A bank can satisfy the requirement to take reasonable steps in two ways. First, if it insists that the wife attend a private meeting with a representative of the bank at which the wife is: told of the extent of liability as surety; warned of the risk the wife is running; and urged to take independent legal advice. (In exceptional cases, the bank, to be safe, has to insist that the wife is separately advised (see Credit Lyonnais v Burch discussed at 7.2.3.2 below).) Secondly, if the bank gets written confirmation from a solicitor that the wife (surety) has been independently advised and been made aware of the inherent risks. Not surprisingly, it is this second option which banks now tend to prefer: it transfers the risk of inadequate advice from the bank to a solicitor. Written confirmation from a solicitor that the wife has been independently advised guarantees that the security transaction will be upheld. In the Etridge case, Lord Nicholls also made it clear that the same principles would apply if there had been some other wrongdoing on the part of the debtor, such as misrepresentation. In fact, this is what had happened in the O’Brien case, as Mr O’Brien had misrepresented the amount and duration of the loan. 7.2.3.2 Cases not involving husbands and wives Although most of the cases have involved a husband taking advantage of his wife, the principles apply equally to other relationships. One case which did not involve a husband and wife is Credit Lyonnais Bank Nederland NV v Burch 1 All ER 144. The case involved a relationship between an employer (who owned the business) and a junior employee. The employee remortgaged their flat (valued at £100,000) to secure the unlimited liabilities of the employer’s business in which the employee had no financial interest. The bank’s solicitors wrote to Miss Burch on several occasions and told her that she should seek separate legal advice before entering the transaction, emphasising that the document she was being asked 173 Contract to sign was unlimited as regards amount and time. Miss Burch acknowledged receipt of the letters and confirmed that she was aware of the implications of the deal. When the business failed, and the bank tried to enforce the agreement against the employee, she pleaded undue influence. The court decided that there was a presumption of undue influence. It was held that the bank was precluded from enforcing the security. In the circumstances, the bank had not done enough to satisfy itself that the employee’s consent to the deal was freely given. The transaction was so disadvantageous to the employee that the bank should not have proceeded unless and until the bank had explained to her the full extent of the business’s borrowing and its overdraft limit. Nor should it have done so until the employee had actually received independent legal advice. Thus, the security was unenforceable against her. The decision in Burch demonstrates that in some circumstances it will not be enough for a creditor to urge a surety to take independent legal advice. It must insist that the surety does so, or otherwise not take the proposed security. The position of lenders in relation to undue influence exerted by third-​party debtors is summarised in Figure 7.2. Figure 7.2 The effect of undue influence on the lender WHAT IS THE EFFECT ON THE LENDER? IS THERE UNDUE INFLUENCE? YES DOES LENDER HAVE ACTUAL NOTICE OF UNDUE INFLUENCE? NO IS THE RELATIONSHIP BETWEEN THE DEBTOR AND NO THE SURETY NON- COMMERCIAL? YES YES LENDER IS ‘ON ENQUIRY’: NO HAVE REASONABLE STEPS THEN BEEN TAKEN? NO YES SURETY MAY RESCIND SURETY LENDER CAN ENFORCE SURETY AGREEMENT (NB EQUITABLE BARS) AGREEMENT 174  Duress and Undue Influence Put together Figures 7.1 and 7.2 above and you have a suggested structure for tackling problem questions involving undue influence by a third-​party debtor in the context of secured lending. Suggested structure 1. Define undue influence. 2. Was there undue influence? (a) Actual undue influence? This may be difficult to prove. (b) Presumed undue influence? Is there a relationship of trust and confidence, either by its nature or otherwise on the facts? Does the transaction call for explanation? Can any presumption of undue influence be rebutted? 3. Position of the bank. If there has been undue influence, will this affect the bank? (a) Did the bank have actual or constructive notice? Explain what is meant by constructive notice. (b) Bank should be regarded as put on inquiry in every case where the relationship between a surety and debtor is non-​commercial and not for their joint benefit (Royal Bank of Scotland v Etridge (No 2) ). Apply to the facts. (c) Did the bank take reasonable steps to satisfy itself that the practical implications of the transaction had been brought home to the party alleging undue influence? Apply to the facts. (d) What if the bank did/​did not take reasonable steps? Is rescission barred? Undue influence –​summary Like duress, the effect of undue influence is to make a contract voidable, and the only remedy is rescission. Unlike duress, there is no established definition, and undue influence may be presumed. It will be presumed where there is a relationship of trust and confidence, a transaction which calls for explanation and nothing to rebut the presumption. Where the undue influence has not been exerted by the other contracting party (eg the lender in relation to a second mortgage) but by a third party, the contract will nevertheless be voidable if the contracting party had notice (actual or constructive) of the undue influence. A contracting party (such as a lender) will have constructive notice if it should have been put on inquiry as to the risk of undue influence and did not take reasonable steps to ensure that the other party was aware of the implications of what they were signing (Royal Bank of Scotland v Etridge (No 2)). The House of Lords in Royal Bank of Scotland v Etridge (No 2) said that a creditor will be put on inquiry in every case where the relationship between the debtor and surety is non-​ commercial (except where money is being advanced to a husband and wife jointly). This case also set out what the creditor had to do in order to take reasonable steps to ensure that the other party was aware of the implications of what they were signing. Typically, the reasonable steps will be to ensure that the surety is independently advised by a solicitor, and that the solicitor sends a written confirmation of this. We have looked at duress and undue influence. There now follows an Activity on these topics. 175 Contract ACTIVITY 1 Problem question on economic duress and undue influence This activity is in two parts. In Part 1 you will consider a question on economic duress, and in Part 2 you will consider a question on undue influence. In your answer, please include references to relevant cases. PART 1 Facts George is in the business of importing Persian carpets from the Middle East into the UK. He sold a consignment of the carpets to Threadworths Department Store, his main customer, and agreed to arrange delivery of the carpets to six Threadworths stores in different parts of England on Monday, 6 June. He rang up Mercator Carriers (a haulage firm which he regularly uses) and they agreed to pick up the carpets from George’s warehouse and deliver them to the six stores on Monday 6 June at a total price of £300. On Friday 3 June, Mercator telephoned George and told him that they had made a mistake in calculating the mileage involved. As a result, the agreed price of £300 was incorrect and they were substituting a new price of £500. When George protested, they replied that if he refused to pay the extra they would cancel the agreement. However, if he agreed to pay extra, they would make an extra delivery of carpets to other stores in those areas. George spent the rest of Friday and the weekend ringing up other haulage firms, but none could do the job at such short notice. He also rang up Threadworths, who were very unsympathetic and told him they would never buy his carpets again if he delivered the consignment late. Early on Monday morning, George telephoned Mercator and told them that they had left him with no choice but to agree to their terms. He asked them to make additional deliveries to two other shops near to one of the Threadworths stores. Mercator made all the deliveries and George paid them £500. Now, two weeks later, George is having second thoughts and wants to reclaim the extra £200. Explain George’s legal position. COMMENT Variation. The parties have purported to vary their contract. The same elements are needed for variation as for the formation of a contract, ie agreement, intention and consideration. As the parties have basically agreed and are in business (so contractual intention is presumed), the main issue is consideration. Consideration. Mercator must have provided consideration for George’s promise of more money. Define. Consideration can be defined as the price the claimant pays for the defendant’s promise. The basic rule is that consideration must be sufficient, but it need not be adequate (Chappell v Nestlé). Just performing an existing contractual obligation has been held to be insufficient consideration for a promise of more money (Stilk v Myrick). However, in this case, Mercator are doing more than they had originally agreed to do (they are making extra deliveries), so there will be consideration for George’s promise of more money (Hartley v Ponsonby). (Note: it is not necessary to consider Williams v Roffey because Mercator have obviously done more than they had agreed to do. It is not a case where Mercator have just performed their contractual obligations.) 176  Duress and Undue Influence Duress. Even though Mercator have given consideration for George’s promise, George may avoid paying if the promise was obtained by economic duress. What is meant by economic duress? Economic duress must be distinguished from legitimate commercial pressure. Economic duress usually involves an improper (unlawful) threat, and the innocent party has no practical alternative but to agree. Burden of proof. George must establish there has been economic duress. The facts here are very similar to those in the case of Atlas Express v Kafco (except that in Atlas Express the court also held there was no consideration for the promise of more money as Altas Express was not doing anything extra in return for increased payment). In Atlas Express there had been an improper threat to break the contract unless more money was paid, and Kafco would have found it very difficult to find someone else to deliver the goods. If the goods had not been delivered, Kafco’s customer would not have dealt with them again. This is very similar to the situation involving George and Mercator. Mercator have also made an improper threat to break the contract, and George found it impossible to find someone else to deliver the goods at such short notice. Also, George’s main customer, Threadworths, said they would never buy his carpets again if they were delivered late. It seems as if there has been economic duress, and this conclusion is supported by considering the guidelines in Carillion Construction Ltd v Felix (UK) Ltd. The ingredients of actionable economic duress are: an illegitimate threat/​pressure; compulsion on, or a lack of practical choice for, the victim; the threat/​pressure was a significant cause inducing the claimant to enter the contract. After considering the facts of Atlas Express v Kafco and the above guidelines, it does seem as if there has been economic duress. Effect of economic duress. Duress renders a contract voidable, ie it is a valid contract until the innocent party avoids (rescinds) it. Here, it was only the variation that was brought about by duress, so only the variation is voidable. The main contract still stands. George wants to rescind the variation for the payment of the extra money and recover the extra £200. Rescission will be possible unless a bar to rescission applies, eg affirmation or delay. In The Atlantic Baron, both of these bars applied. However, here George has only waited two weeks. This is unlikely to be long enough to bar rescission. However, George has paid the extra £200, unlike in Atlas Express v Kafco. This might be a bar as in The Atlantic Baron, although unlike in that case George did protest and the subsequent delay was much shorter. Conclusion. It looks as if the variation to pay the extra £200 may be voidable for economic duress. If so, George should be able to rescind the contract and recover the extra money. PART 2 This part of the activity deals with undue influence. Facts Kate and Steve are an unmarried couple. Kate is a consultant at the local hospital, and Steve runs a small manufacturing business in which Kate has no interest. Steve arranged a large overdraft facility for the business with Quality Finance Company. He was to guarantee repayment, and his liability to the finance company was to be secured by a second 177 Contract mortgage on the house, which he owns jointly with Kate. A representative from Quality Finance visited them at home and left the papers, suggesting that Kate take some time to think the matter over. Kate said she would discuss the matter with Steve as she left financial arrangements up to him. A few days later, Steve reminded her about the papers. As usual, she signed the papers without reading them. She had not taken independent legal advice. Steve has fallen behind with the repayments, and last week they received notice that Quality Finance has started possession proceedings. Explain Kate’s legal position. COMMENT Undue influence consists of influence which goes beyond what is regarded as acceptable. Was there undue influence? Actual undue influence. The burden of proof would be on Kate to show actual undue influence by Steve. This can be difficult to do, and there is little evidence of actual undue influence on the facts, eg, there is no evidence of overbearing, improper pressure. We are just told that he reminded her about the papers. It would depend on how he reminded her. Presumed undue influence. It is probably easier to establish presumed undue influence. Kate would have to prove that she placed trust and confidence in Steve and that the transaction called for an explanation, ie it was not readily explicable by the relationship between the parties (Etridge). Applying these principles to the facts, it seems that Kate could prove that she placed trust and confidence in Steve. We are told that she was used to leaving all financial matters to him, and it seems she usually signed business papers without reading them. Also, the second condition seems to be satisfied, as the transaction was to provide security for a large overdraft facility for a business in which she had no interest. It seems very likely that there will be a presumption of undue influence. There is no suggestion that she obtained independent legal advice which could rebut this presumption. It is now necessary to consider whether the finance company will be affected by the undue influence of Steve. The position of the finance company. It does not look as if Quality Finance had actual notice. Following the approach adopted by Lord Nicholls in Royal Bank of Scotland v Etridge (No 2), it seems that Quality Finance will have constructive notice of Steve’s undue influence and Kate’s right to set aside the transaction. This is because the relationship between Steve and Kate is non-​commercial and the loan was not for their joint benefit. There is no evidence that the finance company took reasonable steps to satisfy itself that the practical implications of the transaction had been brought home to Kate. The finance company should have had a private meeting with Kate. The finance company did not warn Kate of the risks involved. Also, there is no indication that the representative told Kate to get independent legal advice or that she did in fact consult a solicitor. He just told her to take a few days to think it over, and Kate said she would discuss it with Steve as she left financial arrangements to him. Alternatively, the finance company could rely on confirmation from a solicitor, acting for Kate, that they had fully explained the financial risks and nature of documentation to her. There is no indication that this occurred. Effect of undue influence. Undue influence makes a contract voidable. It seems that the contract can be set aside, and the finance company will be unable to enforce the mortgage against Kate. The finance company would still be able to sue Steve on the original loan as an unsecured creditor. 178  Duress and Undue Influence SUMMARY In a commercial context, you have seen how economic duress can impact on contract formation but more particularly on contractual variations. You have looked at the practical and legal options when there has been duress. In contrast to duress, you will appreciate that undue influence does not necessarily have to be proved by the innocent party. In some circumstances, a presumption of undue influence will be raised. You also looked at how a lending institution can be tainted with the undue influence exerted by a third-​party debtor, and hopefully you will have formed a view as to whether the law in this respect is fair. 179