7. Form of the contract

Updates and background for this project (Digest)

• Introduction
• Should a guarantee be in writing?
• Plain English and legibility of documents
• Submissions to Issues Paper 17
• Conclusion
  

INTRODUCTION

7.1 In the recent past, contract documents securing loans, such as guarantees and mortgages, have been expressed in, to use Acting Justice Spender’s words in Australian and New Zealand Banking Group Ltd v Volmensky, “characteristically complex, convoluted, and legalistic language.” ¹

7.2 The language used has not been the only difficulty guarantors have faced in grappling with documents. In the Volmensky case, the mortgage contained 41 covenants extending “over five pages of cramped printing”. The first clause alone contained over 600 words and was “entirely bereft of any form of punctuation”.²

7.3 In another case, Commonwealth Bank of Australia v Gough, Justice Sully described the mortgage in question as:

…cumbersome in form and unintelligible to any person who is not a trained lawyer. Indeed, I would not be surprised to find many a trained lawyer unable to come to grips easily with the convoluted language of portions of the mortgage documents.³

Experienced Counsel initially had difficulty even identifying the relevant clauses, let alone their exegesis or proper explanation. How could lay people, the more so if only educated to the degree that the Karams were, be expected to understand its complex obscurities without proper legal advice?⁴

7.6 This chapter considers the extent to which some of the difficulties, misunderstandings and hardships that can arise from third party guarantees can be attributed to the impenetrability of guarantee and mortgage documents. Such an inquiry has at its core a focus on taking a preventive approach to third party guarantees, rather than on remedial measures. The Commission recommends that the Model Law should adopt provisions in the Consumer Credit (New South Wales) Code (“Consumer Credit Code”) and the Consumer Credit (New South Wales) Regulations (“Consumer Credit Regulations”) to ensure the lucidity and legibility of guarantee documentation. It is hoped that these changes will make guarantee documentation more accessible to the layperson so that the guarantor need not be so heavily reliant on legal advice and interpretation, or otherwise left in a state of confusion and uncertainty as to the potential obligations that have been accepted by signing the guarantee.

7.7 This evaluation of the form of the documentation proceeds on the assumption that guarantees are in writing. However, whether this is, or should be, a requirement for a guarantee to be enforceable is a preliminary question that needs resolving.

SHOULD A GUARANTEE BE IN WRITING?

7.8 Section 50(1) of the Consumer Credit Code expressly requires that a guarantee of a consumer credit contract be in writing. A guarantee not in writing is unenforceable.

7.9 For guarantees of other categories of credit, such as small business guarantees, there is no such statutory requirement. While the Statute of Frauds 1677 (Imp) operates in some Australian States to require a guarantee to be in writing,⁷ it no longer applies in New South Wales.⁸

7.10 The Code of Banking Practice (“Banking Code”) does not specifically require that guarantees be in writing. However, that is arguably implied from the requirement in clause 28.4 that the guarantee include a statement that the Code applies to the guarantee, and the commitment contained in clause 28.6 that the lender will ensure that the guarantee is signed in the absence of the debtor.

7.11 In the Commission’s view, there are compelling reasons for insisting that the guarantee be in writing and that it be unenforceable unless it is in writing and signed by the guarantor. Misunderstandings commonly arise in the course of completing the transaction, and the law relating to the guarantee of another’s debt is complex, with potentially serious consequences, especially for guarantors, in the event of a breach of obligation. Obviously, only a guarantee in writing can be signed by the guarantor and contain the warnings and notices that the Commission has recommended, in Chapter 6,⁹ that it contain. Moreover, on the question of written documentation, there is no sound reason for distinguishing between guarantees of consumer credit contracts and guarantees of other credit contracts. Lastly, the Banking Code is only a voluntary code. Accordingly, the Commission recommends that the provisions of s 50 of the Consumer Credit Code be extended to apply to all guarantees.

Recommendation 7.1

The Model Law should adopt the provisions of s 50 of the Consumer Credit Code requiring a guarantee to be in writing.

The common law

7.12 Chapter 2 explains the common law doctrine of unconscionability as a basis for setting a contract aside, in whole or in part.¹⁰ As is noted there, unconscionable conduct applies in situations where the guarantor is under a special disadvantage or disability in relation to the other parties to the transaction so that there is “an absence of any reasonable degree of equality between them”.¹¹ While certain personal characteristics, such as “poverty or need of any kind, sickness, age, sex, infirmity of body or mind, drunkenness, illiteracy or lack of education” and a “lack of assistance or explanation where assistance or explanation is necessary” ¹² may be indicators of special disadvantage, there are other relevant indicators. One of these is the form and content of the contract. However, the disadvantage resulting to the aggrieved party must be evident to the other party and that disadvantage must be exploited in circumstances where it is prima facie unfair to do so before relief can be granted.¹³ This usually requires proof that the lender knew of the disability or could infer it from the facts available.¹⁴

7.13 Various statutes allow a court, when determining whether a guarantee is unconscionable or unjust, to take into account factors such as the objective intelligibility of the language in which the document is expressed or the ability of a person to understand the document. These statutes include the Consumer Credit Code,¹⁵ the Contracts Review Act 1980 (NSW) (“Contracts Review Act”),¹⁶ the Fair Trading Act 1987 (NSW)¹⁷ and the Australian Securities and Investments Commission Act 2001 (Cth).¹⁸

Consumer Credit Code

7.14 The application in New South Wales of the Consumer Credit Code has significantly reduced the incidence of unintelligible documentation in relation to consumer credit transactions. However, it is important to bear in mind that the requirements set out below do not apply to guarantees of business loans.

7.15 A guarantee covered by the Consumer Credit Code must be in writing.¹⁹ Section 164A of the Consumer Credit Code permits “any contract, mortgage or guarantee referred to in [the] Code” to be made in accordance with laws relating to electronic transactions,²⁰ although specified transactions or documents may be excepted by regulation. An exception has been made in relation to a guarantee under a credit contract where the guarantor is a natural person or strata corporation.²¹ Pursuant to s 39A of the Consumer Credit Regulations²² such guarantees must not be made or given by electronic communication.

7.16 The Consumer Credit Code Regulations contain provisions with respect to the content of guarantees and the way they are expressed, and a guarantee is not enforceable unless it complies with these regulations.²³ A guarantee, other than a document transmitted by electronic communication, must be easily legible;²⁴ clearly expressed;²⁵ and with a print or typeface of at least 10 points.²⁶ A guarantee transmitted by electronic communication must also be easily legible and clearly expressed,²⁷ and must conform with the regulations as to content, legibility and accompanying information.²⁸ Section 39 of the Consumer Credit Regulations provides that, if an electronic document contains any image, message, advertisement or other feature, these: must not distract the recipient, or reduce or interfere with his or her ability to understand the documentation; and must be readily distinguishable from the transaction. In addition, the recipient must be able to scroll through the whole of the document and the credit provider must provide full address (not a post office box) and telephone contact details.

7.17 If a provision of a guarantee does not comply with the requirements of the Consumer Credit Code and its regulations, a court may prohibit the lender from using terms that are the same or similar to the offending provision in future guarantees.²⁹

Contracts Review Act

7.18 The Contracts Review Act allows a court to grant relief in relation to a contract or part of a contract that is “unjust in the circumstances ... at the time it was made”.³⁰ In Australian and New Zealand Banking Group Ltd v Volmensky, the court held that the form of the mortgage contract in question constituted unfairness under the Contracts Review Act.³¹ Justice Spender described the Contracts Review Act as being concerned with two classes of injustice: procedural and substantive injustice.³² His Honour noted that “the former is concerned with the methods used to make the contract while the latter is concerned with the unjust consequences or effects of the contract”.³³ However, his Honour emphasised that it is “the contract or its provisions which must be unjust”,³⁴ not particular transactions under the contract.

7.19 The court found that the contract constituted unfairness both as to procedural and substantive matters, basing its conclusion on, among other things, the circumstances in which the mortgage was entered into, and the form of the mortgage. In regards to the form of the mortgage, his Honour commented:

[h]ad the Bank set out to create a document which was intended to achieve a high degree of confusion in the mind of the ordinary but intelligent lay reader, and to be largely incomprehensible to most members of the public, it has achieved that objective.³⁵

… if they elect to use documents which, by the way in which they are expressed, are difficult to understand - and continue to do so years after the Contracts Review Act has become law - they run the risk of making themselves vulnerable, in appropriate cases, to applications under the Act.³⁶

7.21 The empirical study conducted by the Commission and the University of Sydney (“Lovric and Millbank”) examined the intelligibility and legibility of security documents. Despite noting that plain English documentation appears to be more common than it was in the past,³⁷ Lovric and Millbank found that some lawyers still feel that the documentation remains complex, and that loan and mortgage documents have increased dramatically in size. A solicitor who participated in the study gave some useful observations:

Over 18 years in practice, I have seen loan and mortgage documents increase dramatically in size, various forms of independent advice certificates come and go and the occasional case where a guarantor successfully escaped liability. By and large, financiers seem to respond to successful defences of guarantee cases by focusing on closing ‘loopholes’ in their loan documents or pushing more responsibility on to solicitors to provide a back-stop, through use of certificates. We now have very complicated ‘plain English’ documents often (including) ‘all moneys’ securities and Consumer Credit Code disclosures which run for many pages but which average borrowers cannot understand. At the end of the day I think lenders need to accept more responsibility for their lending practices and, if they lend to ‘high risk’ clients, they should accept the fact that they will lose out sometimes.³⁸

7.23 Tied in with the issue of providing guarantors with documentation more easily read and understood was the question of providing better information about the guarantee. Lovric and Millbank found that these related issues arose through the entire course of their consultations and surveys. Chapter 6 examines in detail issues relating to information and advice, but it is relevant in this context to note briefly some of the experiences of those surveyed. The approach of protecting guarantors “by throwing more paper at them”⁴² was doubted by some, while others thought that a greater use of plain English documentation, with clear warnings, would assist. Over half of the respondents to the guarantor survey said that more written and spoken information would have assisted them at the time they signed up to be a guarantor.⁴³

SUBMISSIONS TO ISSUES PAPER 17

7.24 Issues Paper 17 asked whether guarantees, including those for business loans, should be subject to technical specifications such as minimum font size and so forth, and be required to be comprehensible, clear and concise.⁴⁴

Technical specifications

7.25 The majority of submissions supported making guarantees subject to technical specifications such as plain English expression, legibility and minimum font size.⁴⁵ These requirements were seen to be in the interest of all parties.⁴⁶ Two submissions, while supporting a requirement for minimum font size, considered that requiring guarantees to be comprehensible, clear and concise involved subjective assessment, and that following minimum procedures, such as giving verbal explanations to guarantors (in the absence of the borrower), would ensure that there would be no need to legislate for comprehensible, clear and concise contracts of guarantee.⁴⁷

7.26 The Australian Finance Conference submitted that, while there has been a general trend in the finance industry towards the use of plain English, it remains difficult to translate some legal concepts into simple language.⁴⁸ There has also been a concern that attempting to simplify the language of complex documents increases the risks of conveying meanings inaccurately, thereby opening the way for legal challenge. Real property mortgages, which contain clauses covering technical issues and rules with long legal histories, are particularly difficult to put into plain English. The Australian Finance Conference also raised the issue of the costs associated with changing documentation and removing superseded documents from circulation. In relation to regulation of technical specifications, it did not consider this to be necessary.

Consequences of failure to comply with formalities

7.27 There was considerable disagreement in the submissions on what should be the consequences of failing to comply with certain formal requirements.

7.28 Some submissions did not support making a guarantee unenforceable for failure to comply with formal requirements.⁴⁹ One submission preferred to make it an offence that the requirements were not complied with and make failure to comply a relevant consideration in determining if there has been, for example, unconscientious dealing.⁵⁰

7.29 Other submissions suggested that if certain minimum requirements were not adhered to, the guarantee should be capable of being made unenforceable.⁵¹ One submission justified this approach on the grounds that the power imbalance between borrowers and lenders “is such that borrowers have little or no ability to negotiate the terms of the loan”.⁵²

CONCLUSION

7.30 As the evidence in the Lovric and Millbank study suggests, despite plain English documentation appearing to be more common than it was in the past, guarantee and mortgage documents remain complex and appear to have increased dramatically in size. A drafting style that is convoluted, or documentation that appears to be impenetrable, even if it is in actual fact written plainly, will deter many guarantors from reading the documents, relying instead wholly on the advice of others. It is far better for guarantors to read the documentation for themselves, with their own understanding of the transaction underpinning their obtaining of advice.

7.31 The Commission considers, therefore, that the Model Law should contain provisions designed to prevent unfairness related to the form of the documents arising in the first place. At present, “small business” guarantee transactions are vulnerable to the vagaries of legal and commercial drafting. The majority of submissions supported making guarantees subject to technical specifications such as plain English expression, legibility and minimum font size. These requirements were seen to be in the interest of all parties. The Consumer Credit Code and the Consumer Credit Regulations appear to be operating well in compelling standards of comprehension and legibility. The Commission has concluded, therefore, that the Model Law should adopt the provisions of the Consumer Credit Code and Consumer Credit Regulations that require a guarantee to be in writing, easily legible, clearly expressed, and with a print or typeface of at least 10.

7.32 The Commission does not believe, however, that there should be a general provision that a guarantee is unenforceable if it fails to comply with requirements to be “easily legible and clearly expressed”. These aspects involve qualitative assessments, as pointed out in submissions, as well as depending on the response and understanding of the individual guarantor. Compliance of the guarantee documentation should be tested on a case-by-case basis. Accordingly, the Commission prefers to rely on a provision similar to s 70 of the Consumer Credit Code giving a court the power to reopen unjust transactions. Section 70(g) provides that, in determining whether a transaction is unjust, the court may have regard to the form of the guarantee and the intelligibility of the language in which it is expressed; and s 71 empowers a court to issue a variety of orders when it reopens an unjust transaction. Unjust guarantees are the subject of Chapter 11 of this Report.⁵³

RECOMMENDATION 7.2

The Model Law should adopt the requirements in s 162 of the Consumer Credit Code and s 39 and 39A of the Consumer Credit Regulations relating to the legibility and language of guarantees and notices.

1. Australian and New Zealand Banking Group Ltd v Volmensky (1995) ANZ Conv R 202 at 207 (Spender AJ).

2. Australian and New Zealand Banking Group Ltd v Volmensky (1995) ANZ Conv R 202 at 207 (Spender AJ). See also Australian and New Zealand Banking Group Ltd Banking Group v Capper [2001] NSWSC 946 at [31]. In that case, commenting on the readability of security documents relied on by the bank in the course of its application for summary judgment and possession, Master Harrison said: “I might add that the guarantee is in tiny print, and for example, the wording of paragraph (1) is unintelligible. The document is illegible”.

3. Commonwealth Bank of Australia v Gough (1993) ASC ¶56-247 at ¶58,521. Sully J upheld the guarantee. Mrs Gough’s appeal to the Court of Appeal was dismissed: Gough v Commonwealth Bank of Australia (1994) ASC ¶56-270.

4. Karam v ANZ Banking Group Ltd [2001] NSWSC 709 at [215].

5. Challenger Management Investment Ltd v Davey [2002] NSWSC 430, Exhibit A in the trial.

6. This aspect, however, was not commented on by Acting Justice Cripps. The defendants, in a cross claim, sought to rely on grounds that the enforcement proceedings taken by the plaintiff were unconscionable; or that it acted unconscionably within the meaning of the Trade Practices Act 1974 (Cth); or that the mortgages were unjust within the meaning of the Contracts Review Act 1980 (NSW). The main basis for these claims was that the defendants had not received independent legal advice and did not understand the nature of the transaction they were entering into. His Honour did not find in their favour.

7. Statute of Frauds 1677 (Imp) s 4 (emphasis added): “And be it further enacted that from and after the said 24th day of June [1677] no action shall be brought whereby to charge any executor or administrator upon any special promise, to answer damages out of his own estate; or whereby to charge the defendant upon any special promise to answer for the debt, default or miscarriages of another person; or to charge any person upon any agreement made upon consideration of marriage; or upon any contract or sale of lands, tenements or hereditaments, or any interest in or concerning them; or upon any agreement that is not to be performed within the space of one year from the making thereof, unless the agreement upon which such action shall be brought, or some memorandum or note thereof shall be in writing, and signed by the party to be charged therewith, or some other person thereunto by him lawfully authorized.” Both the Statute of Frauds 1677 (Imp) and the Statute of Frauds Amendment Act 1828 (Imp) were received into Australia under s 24 of the Australian Courts Act 1828 (Imp). For a full discussion of the development of the requirement of writing see New South Wales Law Reform Commission, Community Law Reform Program: Fourteenth Report - Representations as to Credit (Report 57, 1988) at para 2.1-2.15.

8. It was repealed by s 8(1) of the Imperial Act Application Act 1969 (NSW).

9. See Chapter 6, Recommendations 6.4, 6.5, 6.8.

10. See para 2.5-2.7.

11. Commercial Bank of Australia Ltd v Amadio (1983) 151 CLR 447 at 474 (Deane J).

12. Blomley v Ryan (1956) 99 CLR 362 at 405 (Fullagar J).

13. See Commercial Bank of Australia Ltd v Amadio (1983) 151 CLR 447 at 474 (Deane J).

14. This position can be compared with that under the Contracts Review Act 1980 (NSW), which permits a court to intervene where the disability was not known to the other party: see para 2.21.

15. See Consumer Credit (New South Wales) Code s 70(2)(g).

16. Contracts Review Act 1980 (NSW) s 9(2)(g) and (i).

17. Fair Trading Act 1987 (NSW) s 43(2)(c).

18. Australian Securities and Investments Commission Act 2001 (Cth) s 12CB(2)(c), 12CC(2)(c), 12CC(3)(c).

19. Consumer Credit (New South Wales) Code s 50.

20. Consumer Credit (New South Wales) Code s 164A(1), inserted into the Consumer Credit (Queensland) Act 1994 (Qld) by Consumer Credit and Trade Measurement Amendment Act 2006 (Qld) s 8.

21. Exempted guarantees are those to which the Consumer Credit (New South Wales) Code applies under s 9 of the Code.

22. Inserted into the Consumer Credit Regulation 1995 (Qld) by Consumer Credit Amendment Regulation (No 1) 2006 (Qld) s 9.

23. Consumer Credit (New South Wales) Code s 50(4).

24. Consumer Credit (New South Wales) Code s 162(1)(a).

25. Consumer Credit (New South Wales) Code s 162(1)(c).

26. Consumer Credit (New South Wales) Regulations s 39.

27. Consumer Credit (New South Wales) Code s 162(1A)(a) and (c).

28. Consumer Credit (New South Wales) Code s 162(1A)(b).

29. Consumer Credit (New South Wales) Code s 162(2).

30. Contracts Review Act 1980 (NSW) s 7. Chapter 2 explains in detail the provisions of the Act relevant to guarantees: see para 2.26-2.27.

31. Australian and New Zealand Banking Group Ltd v Volmensky (NSW, Supreme Court, No 15542/1992, Spender AJ, 14 December 1994, unreported), reported in part in (1995) ANZ Conv R 202 at 207.

32. Australian and New Zealand Banking Group Ltd v Volmensky (NSW, Supreme Court, No 15542/1992, Spender AJ, 14 December 1994, unreported), reported in part in (1995) ANZ Conv R 202 at 207.

33. See West v AGC (Advances) Ltd (1986) 5 NSWLR 610 at 620 (McHugh JA).

34. See West v AGC (Advances) Ltd (1986) 5 NSWLR 610 at 621 (McHugh JA).

35. Australian and New Zealand Banking Group Ltd v Volmensky (NSW, Supreme Court, No 15542/1992, Spender AJ, 14 December 1994, unreported), reported in part in (1995) ANZ Conv R 202 at 207.

36. Australian and New Zealand Banking Group Ltd v Volmensky (NSW, Supreme Court, No 15542/1992, Spender AJ, 14 December 1994, unreported), reported in part in (1995) ANZ Conv R 202 at 207.

37. J Lovric and J Millbank, Darling Please Sign This Form: A Report on the Practice of Third Party Guarantees in New South Wales (NSW Law Reform Commission and University of Sydney, Research Report 11, 2003) at para 5.5.

38. Lovric and Millbank at para 5.6.

39. Lovric and Millbank at para 5.7.

40. Australia, Expert Group on Family Financial Vulnerability, Good Relations, High Risks – Financial Transactions within Families and Between Friends (Report, 1996) at 32.

41. J Lovric and J Millbank, Darling, please sign this form: a report on the practice of third party guarantees in New South Wales at para 5.7.

42. Lovric and Millbank at para 5.12.

43. Lovric and Millbank at para 5.12.

44. New South Wales Law Reform Commission, Guaranteeing Someone Else’s Debts (Issues Paper 17, 2000) Question 22 at para 4.9.

45. St George Bank, Submission at 4; Commonwealth Bank, Submission at 11; NSW Legal Aid Commission, Submission at 16; Women Lawyers Association of NSW, Submission at 7; Women’s Legal Resources Centre, Submission at 9; Country Women’s Association of NSW, Submission; Financial Counsellors’ Association of NSW, Submission at 3; Ryde-Eastwood Financial Counselling Service, Submission at 6; C O’Donnell, Submission at 1-2. NSW Department of Fair Trading, Submission at 3.

46. Commonwealth Bank, Submission at 11.

47. NSW Young Lawyers, Submission at 6; Women Lawyers Association of NSW, Submission at 7.

48. Australian Finance Conference, Submission at 17.

49. St George Bank, Submission at 4.

50. St George Bank, Submission at 4.

51. Women Lawyers Association of NSW, Submission at 7; Women’s Legal Resources Centre, Submission at 9; NSW Young Lawyers, Submission at 6; Ryde-Eastwood Financial Counselling Service, Submission at 6.

52. Women’s Legal Resources Centre, Submission at 9.

53. See especially Recommendation 11.6.