Are there any recent decisions about the priorities between mortgagees?

  • Author : Bill Stark - 12-04-2013

Late in 2012, the Full Federal Court was called upon to look at the issue of priorities between first and second ranking mortgagees.

Background
Naxatu Pty Limited v Perpetual Trustee Company Limited [2012] FCAFC 163 was a dispute between Naxatu, the second mortgagee and Perpetual (the first mortgage holder), in respect of units owned by Sterling Estates Development Corporation Pty Ltd (Sterling).

Perpetual also held a number of mortgages over other units owned by Sterling and some of those units had second mortgages in favour of Bridgecorp Financial Ltd (Bridgecorp).  

Perpetual and Bridgecorp had a priority agreement which limited Perpetual’s priority under its first mortgage to $9.4 million, and provided that Bridgecorp would receive its money after that amount was paid to Perpetual (the Bridgecorp Agreement).

Perpetual sold some of the secured properties and paid a portion of the proceeds to Bridgecorp under the Bridgecorp Priority Agreement.


 

Naxatu claimed that the payments to Bridgecorp diminished the value of Naxatu’s mortgages, in breach of Perpetual’s duty to Naxatu.  Naxatu relied on the rule in Hopkinson v Rolt* in asserting that its second ranking mortgages should have priority over Perpetual’s mortgages.  The rule provides that the priority of a first mortgagee whose mortgage secures all moneys owing by the mortgagor, is relegated to third priority for any further advances made after the first mortgagee became aware of the existence of a second mortgagee. The argument requires the Court to accept that the payments by Perpetual to Bridgecorp were further advances under Perpetual's first mortgage.

Foster J dismissed Naxatu’s claim under Hopkinson v Rolt because the Perpetual did not have notice of Naxatu's mortgage at the time it made further advances. 

Before equity will regard it as fraudulent for a first mortgagee to insist on its priority for subsequent advances, it is necessary that it have had actual notice of the subsequent mortgage.

The Full Court decided that the rule in Hopkinson v Rolt applies when the first mortgagee has notice of the second mortgagee and either party makes any further advances.  In other words, the rule is not limited to further advances made by the second mortgagee and it is not dependent on when the mortgagees become aware of further advances made by either mortgagee.  The Full Court also decided that the rule can be limited by an agreement between the mortgagees, such as a priority agreement.

Marshalling
Naxatu also relied on the doctrine of marshalling in correspondence before the commencement of the proceeding, although not at trial.

Dowsett J (at paragraph 61) concluded that this doctrine was the only possible basis for Naxatu's claim against the Bridgecorp properties.

The doctrine was stated by Lord Eldon as (quoted in Miles v Official Receiver in Bankruptcy [1963] HCA 24; (1963) 109 CLR 501, by the High Court (Dixon CJ, Menzies and Windeyer JJ) :

If a party has two funds ... a person having an interest in one only has a right to resort to the other, if that is necessary for the satisfaction of both . ... So that it shall not depend upon the will of one creditor to disappoint another.

Thus, if the first mortgage lender has a first mortgage over property A and B and the second mortgage lender only has a second mortgage over property B and the first sells property B and takes all the money (leaving the second mortgage lender with nothing), the second mortgage lender is allowed to sell property A (even though he has no mortgage). This is because he stands in the shoes of the first mortgage lender.

The Full Court concluded that Naxatu lost in this case because the doctrine of marshalling imposes no obligations on the first mortgage lender.

Conclusion
Naxatu shows that a number of these old rules relating to lending still apply in the modern context.  

The case is a reminder that where a mortgagee has notice of another mortgage over the same property, the mortgagee should ensure that it does not make further advances to the borrower without negotiating a deed of priority with the other mortgagee. 

About the Author

Bill Stark

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