IWC Industries Pty Ltd v Sergienko

[2021] NSWCA 292

Background

This appeal involved a factually complex priority dispute between two equitable interest-holders in a residential property at Killarney Heights, NSW.  The dispute was in substance between the second appellant, DK Excavation and Concreting Pty Ltd (DKEC) and the first respondent, Mr Sergei Sergienko (Sergienko).  DKEC, which was owned and controlled by Daniel Klisovic (Klisovic), was the beneficiary of the DKEC Trust.  The trustee during all relevant times was the second respondent, AXL Financial Pty Ltd (AXLF), which took no part in the proceeding.

In November 2016, Klisovic wished to purchase the property in question from the vendor, Zahr Properties Pty Ltd.  Klisovic was unable to settle the sale and was advised by his finance broker to incorporate DKEC and the DKEC Trust for the purposes of entering into a new contract.  For reasons that are not clear, AXLF, which was controlled by Mr Harmstorf (who had no connection with Klisovic), was appointed as trustee of the DKEC Trust, and AXLF had broad powers to deal with property of the DKEC Trust under the relevant trust deed.  Relevantly, Klisovic was warned by his solicitor not to trust AXLF.

AXLF entered into a contract to purchase the property in December 2017 and the sale settled in February 2018.  There was conflicting evidence as to the source of the funds used by AXLF to purchase the property, and the primary judge concluded that there was insufficient evidence to find that Klisovic ever in fact paid for the property (or for the units in the DKEC Trust themselves).

AXLF had been involved in a separate dispute with Sergienko and on 9 April 2018, as part of a settlement deed resolving that dispute, AXLF granted Sergienko an equitable mortgage over the property to secure amounts owing under the deed.  Sergienko’s solicitor had searched the title to the property prior to entry into the deed and found that no caveats had been lodged against the property.  Sergienko subsequently lodged a caveat against the property and later received the certificate of title.

Sergienko brought the proceedings against AXLF seeking relief in relation to breaches of the settlement deed, including an order that AXLF execute a mortgage over the property in registerable form.  On their own application, IWC (which by then had replaced AXLF as trustee of the DKEC Trust) and DKEC were both joined as defendants and brought a cross-claim seeking a declaration that AXLF held the property on trust for DKEC as beneficiary of the DKEC Trust.  The dispute was therefore between DKEC’s earlier equitable interest in the property as beneficiary under the DKEC Trust, and Sergienko’s later equitable interest in the property as unregistered mortgagee.

The primary judge (Hammerschlag J) concluded that Sergienko’s interest had priority over DKEC’s interest.  His Honour found that although Sergienko’s interest arose later in time, DKEC had engaged in postponing conduct by arming AXLF with authority to grant a mortgage over the property, and Sergienko had acquired his interest for value and without notice of DKEC’s interest.  IWC and DKEC appealed the decision.

Findings on appeal

Gleeson JA (with whom Bathurst CJ and Ward JA agreed) dismissed the appeal and agreed that DKEC had engaged in postponing conduct which had the consequence of subordinating DKEC’s interest to Sergienko’s.  His Honour set out a detailed summary of principles relating to priority disputes between equitable interest holders and canvassed the state of the authorities.  However, the interesting aspect of the decision concerned the application of those principles including the scope of the rule in Shropshire’s case, the nature of DKEC’s postponing conduct and the relevance of DKEC’s failure to lodge a caveat.

The rule in Shropshire’s case

Decisions such as Abigail v Lapin [1934] AC 491 and Heid v Reliance Finance Corporation (1983) 154 CLR 326 are authority that an equitable interest holder who “arms” an owner of property with the power to deal with their property and encumber it will be found to have engaged in “postponing conduct” that will disentitle the equitable interest-holder to priority against a subsequent interest holder without notice.  The rule in Shropshire’s case (Shropshire Union Railways and Canal Co v The Queen (1875) LR 7 HL 496) provides an exception to this principle in respect of a beneficiary who allows a trustee to hold the beneficiary’s indicia of title (such that a beneficiary will not be taken to have engaged in postponing conduct simply by reason of having property owned and controlled by a trustee).

Their Honours found that the rule in Shropshire’s case remained good law in Australia.  Importantly, however, their Honours noted that the rule was not absolute and remains subject to the qualification that an act, neglect or default on the part of the beneficiary of a trust can still postpone the beneficiary’s prior equity to that of a later interest-holder.

DKEC’s postponing conduct

Their Honours held that the principal question to ask, in assessing whether conduct of an equitable interest-holder constituted postponing conduct, is whether the risk of some deception of the kind engaged in by the owner was reasonably foreseeable.  In that context, the Court held that DKEC had empowered AXLF by the terms of the trust deed to deal adversely with the property through a transaction of the type entered into by AXLF with Sergienko – and that the commercial circumstances of the transaction should have alerted Klisovic to the fact that he could not have any confidence that AXLF would act in DKEC’s interests in acquiring the property.

The Court held that there were four indicia in this case that suggested that Klisovic should have been so alerted.  First, Klisovic had no connection with or knowledge of AXLF, and had never met Mr Harmstorf.  Second, Klisovic knew that DKEC had not paid any money towards the purchase of the property or the units in the trust.  Third, Klisovic had been warned by his solicitor that AXLF was untrustworthy and that the solicitor’s instructions had been withdrawn by AXLF without Klisovic’s permission.  Fourth, Klisovic was unaware of how the purchase of the property was being funded by AXLF.  In all of those circumstances, the Court held that it was reasonably foreseeable that AXLF might deceive Klisovic in its use of the property, and that it was no answer that AXLF exceeded the limits of its authority in granting the mortgage to Sergienko.

In those circumstances, the Court held that DKEC had engaged in disentitling conduct causing its equity to be postponed to Sergienko’s.

Failure to lodge a caveat

Because the Court held that DKEC had engaged in disentitling conduct, it did not need to decide whether the failure to lodge a caveat could also constitute such conduct.  However, Gleeson JA made a number of instructive comments in obiter about such a failure.

His Honour repeated the well-established principle that the mere failure of the holder of a prior equitable interest in land to lodge a caveat cannot in and of itself constitute disentitling conduct.  Such a failure is, however, one of the circumstances to be considered in combination with others in determining whether it is inequitable that the prior equitable interest holder should retain his or her priority.

His Honour considered whether, in order for the principle to apply, there had to be some established conveyancing practice for the particular type of equitable interest holder to lodge a caveat.  For example, in Jacobs v Platt Nominees [1990] VR 146, the failure to lodge a caveat protecting an option to purchase land was not considered to be determinative because there was no settled conveyancing practice for option-holders to lodge caveats.  Despite this, his Honour considered that the consequences of a failure to lodge a caveat should not depend on evidence of prevailing conveyancing practice, and referred to the High Court’s encouragement for the lodgement of a caveat as a matter of course whenever an equitable interest is acquired (Black v Garnock (2007) 230 CLR 438 at [52], [80], [83]-[84]).

His Honour ultimately concluded that in this case, because the commercial circumstances of the transaction should have alerted DKEC to the need to lodge a caveat to protect its interest as beneficiary, its conduct in failing to do so was also postponing conduct.  Whilst this is, to some extent, circular, it provides a timely reminder of the Court’s firm views about the importance of caveats, and the broad circumstances in which caveats ought now to be lodged.

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