In Re North East Property Buyers Litigation  EWHC 2991 (Ch) the English High Court was asked to determine three preliminary issues in nine test cases. In these cases there was a range of mortgagees, but in all cases, the mortgagees were seeking possession of properties following default by borrowers. The borrowers were all nominees for North East Property Buyers (NEPB) who had acquired their properties as part of sale and leaseback arrangements and in each case the acquisition of the property had been financed. The seller occupiers (the former registered proprietors) did not vacate the properties at the time of the sale and leaseback transactions and were disputing the mortgagees' rights to repossess the properties as a consequence of substantial arrears having amounted in respect of the loans. This objection was on the basis that their actual occupation of the properties constituted overriding interests in the properties that had priority over any rights to repossess that the mortgagees may have obtained. There has already been a raft of litigation on similar issues, several of which the judge considered in his deliberations. The House of Lords decision Abbey National v Cann  AC 56 (Cann) was taken as the starting point and its effect on the subsequent cases, in particular, the use in Redstone v Welch & Jackson  EG 98 (Redstone) was important on deciding the preliminary issues in the test cases.
The Legal Background
Cann concerned a situation where Mr Cann sought funding for a house purchase purporting (in respect of his funding application) to acquire the house for his own use, but in fact doing so for occupation by his mother and her future husband. In that case the mortgagee sought possession when Mr Cann defaulted on mortgage payments. His mother claimed that she had an equitable interest in the house by virtue of proprietory estoppel (a means by which property rights can be created). Since she had been in occupation at the time of acquisition by Mr Cann and before the charge to the mortgagee was signed, she claimed to have an overriding interest in the property in terms of section 70(1) (g) of the Land Registration Act 1925 (1925 Act). She claimed that such an interest gave her an equitable interest which had priority over the interest of the mortgagee. The case was argued all the way to the House of Lords based on the belief that her overriding interest was established during the brief time between Mr Cann acquiring title and signing the charge. The House of Lords rejected such an argument. The view was asserted that where funding is required for a purchase, acquiring title and granting the charge are "one indivisible transaction" i.e. there would be no "moment in time" when Mr Cann had title to the legal estate, free of the charge.
The judge in the test cases then considered decisions where circumstances varied from Cann but where the decision was followed. The case of Nationwide v Ahmed  70 P & CR 381 (Ahmed) clarified that the status of overriding interest was reserved only to actual proprietary interests and so rights under a contractual licence were not sufficient to become overriding interests. Moreover, for the purposes of the test cases, Ahmed emphasised the concept that a transfer and a charge formed an indivisible transaction (so no legal interest could be created between the transfer and the charge) so even a proprietary interest would not give rise to an overriding interest in terms of section 70(1)(g) of 1925 Act that would take priority over the rights of the mortgagee.
Referring then to the Court of Appeal case, Whale v Viasystems  EWCA Civ 480, the judge noted in particular the approach that Cann was regarded as "settled law", but the opinion in the Court of Appeal was that its effect was not limited to the circumstances that arose in Cann. Rather, it could apply in other cases where there was the matter of deciding priority between competing equitable interests that arose, albeit the outcome would depend on the merits of each individual case.
Looking at the facts in Redstone, the judge took the view that there were sufficient similarities to the test cases for the legal reasoning in that case to be considered. In Redstone, the mortgagees were seeking repossession from occupiers who had been registered proprietors, but who had entered into sale and leaseback agreements and the funding of that had been secured by legal charges over the property. The decision in Redstone was a county court decision and although it claimed to apply Cann it appears to have taken the principle of the "indivisible" nature of an acquisition and charge, applied it to a sale and leaseback and based on timing, concluded that the rights of the occupier under the sale and leaseback had priority over those of a mortgagee. The party acquiring title in the sale and leaseback part of the transaction is deemed to have taken title to the property subject to the equitable rights of the occupiers. The impact of this for the mortgagee is that his charge was only ever capable of being taken over the property as encumbered by the occupiers' equitable rights: the purchaser not having had an unencumbered estate over which a charge could be granted!
The Land Registration Act 2002 (the 2002 Act) was enacted to update the land registration system and to provide more certainty for the owners of registered interests in land. The legislative intention was for the register to provide as accurate a record of the title to property as possible. However, the concept of overriding interests that have priority over registered dispositions of land (a concept created by the 1925 Act) has not been removed under the 2002 Act albeit the rights are limited in some respects.
The overriding interest referred to in Cann was the interest of a person in actual occupation in terms of s 70(1)(g) of the 1925 Act. For the purposes of the current test cases, the occupiers were claiming overriding interests, known as interests that override a registered disposition under the 2002 Act.
Section 29(1) of the 2002 Act provides that the priority of certain interests may be protected if the interests affected the estate immediately before a disposition of land (in these cases the transfer and charge). Section 29(4) was also discussed. This provides that where a leasehold estate is granted out of a registered estate (even where it is not a registrable disposition) it will be deemed to be registered. The effect of this is that such a lease would postpone another interest affecting the estate whose priority had not been protected. Some of the leases in the test case were for a period less than seven years and so were not capable of registration. In addition, they fell outside the scope of Schedule 3 of the 2002 Act. The question for the test cases was whether section 29(4) operated to treat these leases as if they were registered.
Sale and leaseback arrangements
The circumstances vary between the nine test cases, but generally, each tenancy agreement was prepared in advance of the sale and the completion of the sale (and mortgage) and the leaseback again took place on the same day. The mortgagees were informed that the properties were being sold on a "buy to let" basis with assured shorthold tenancies of 6 months' duration being contemplated. In fact, a wide range of length of tenancies were agreed with the occupiers, with one a period of ten years and another "for life". In some cases, the occupier was not aware of the existence of a loan to NEPB. It was NEPB defaulting on mortgage repayments that prompted the action by the mortgagees and there was no dispute over the fact that significant arrears were due.
The three principal preliminary issues for determination were:
- Could the interests of the occupiers properly be considered "interests that override a registered disposition" affecting the title of NEPB as owner, whereby the mortgagees' rights to the property would be subject to the leases?
- Could the interpretation of section 29(4) of the 2002 Act mean the tenancy agreements would obtain priority over the legal charges if the mortgagees did not have the benefit of a priority search, or even if they did?
- If the mortgagees did have priority, could that priority "be adversely affected by notice..."?
Adjudicating the competing interests
The judge approached the matter by considering each of the preliminary issues in turn. Counsel for both sides put forward their arguments, for determination by the Court based on the effect of the 2002 Act and the recent court decisions. Despite having "considerable sympathy with the occupiers", the judge, Judge Behrens, agreed with the arguments of the Counsel for the mortgagees.
On the first point, Counsel for the occupiers argued that the occupiers' interests arose at the time the sale and leaseback agreements were entered into. The view was formed that the agreements must have been exchanged before completion of the overall sale and leaseback transactions. The second part of their argument was that the decision in Cann as developed in Redstone resulted in the outcome that the interest over which there was a charge was, title subject to the occupiers' equitable rights. However, the judge followed the line of reasoning in Cann, holding that where a purchaser relies on funding for an acquisition, the two aspects are an "indivisible transaction". It cannot be the case that even for a moment the new owner can be regarded as having acquired the right to create interests in land that would be given priority over those of the mortgagee following the all but simultaneous funding part of that transaction.
The judge did not agree with the legal reasoning in Redstone. In terms of the argument in Redstone, the sale and leaseback and the mortgagee's interest in the property would be competing with each other for priority. The judge clarified his reasoning further commenting, "There cannot in law be a "dead heat" between two mutually inconsistent and competing interests over a legal estate in land. There must be a priority as between them." He highlighted from the various authorities that "a person claiming an equitable interest cannot normally get priority".
As regards the timing of the various contracts, the judge confirmed that where contracts are exchanged on the same day as completion (as was the reality in the test cases) there could be no "moment in time" between exchange and completion in which to create other interests. Furthermore, looking at the rights of the various parties, the occupiers were owners up to the moment of sale. NEPB had no right to possession and so prior to completion could not grant a proprietary right to possession by virtue of the leaseback contracts. Any equitable rights granted by the leaseback contracts could be no more than personal rights and as such could not constitute interests that override a registered disposition. The judge was also of the view that the occupiers (as sellers at the time of completion) transferred any right they had to the property by virtue of the provisions in section 63 of the 1925 Act where a transfer of title with full title guarantee passes "all the estate, right, title, interest… in, to or on the property…"
The second issue was quickly dealt with since most of the leases that this would apply to did not cause any practical problems for the mortgagees regaining possession. It was also the case that the mortgagees in almost all cases did have the benefit of a priority search. The judge focused on various sections of the 2002 Act and highlighted that they applied to the grant of a legal lease from a legal estate (created upon registration). In fact, the tenancies in the cases before him were granted prior to registration and therefore at the time of grant could only have been equitable tenancies as the grantor of the leases only had an equitable interest at that time. The judge was of the view that the second part of the issue, namely, distinguishing the outcome based on whether or not the mortgagees had the benefit of a priority period was therefore irrelevant, as section 29 of the 2002 Act only apply to legal leases which did not exist. He also made the point that if the view adopted in the Redstone case was preferred to his view, i.e. that the leases had effect as if they were registered, they still would not gain priority over the mortgagees interests given that in the test cases the mortgagees had the benefit of a priority period and section 72 of the 2002 Act (dealing with priority protection) protects their rights as their interests were registered within the period of the priority search.
As regards the third of the preliminary issues, the argument put forward on behalf of the occupiers was, in fact, quickly dismissed by Counsel for the occupiers at the time of his own oral submissions. Counsel did accept that knowledge, on the part of the agents for the mortgagees of the sale and leaseback arrangements, was of no consequence. Needless to say, Counsel for the mortgagees were also of the view that notice was not relevant. Quoting Lord Wilberforce in the case Williams & Glyn's Bank v Boland  AC 487, 584 A-D, which argument was further endorsed by the judge in the test case,
"… the law as to notice as it may affect purchasers of unregistered land, whether contained in decided cases, or in a statute … has no application even by analogy to registered land."
It was made clear that notice whether actual or constructive had no part to play. The matter of whether the mortgagees priority could be adversely affected is governed solely by the provisions of the 2002 Act and whether or not the occupiers' interests were capable of being interests that override a registered disposition according to the criteria set out in the 2002 Act.
Impact on occupational tenants
There are ninety or so other similar cases currently awaiting the outcome of the test cases.
Also given the personal circumstances likely to be affected, and the judge's variance with the legal reasoning of Judge Worster in Redstone, the judge clearly recognised that his decision was likely to be regarded as controversial. He indicated that he would be willing to grant leave to appeal in respect of the first two of the preliminary issues.
In the event that the conclusions of the preliminary issues which was "no" in response to each of the three questions, is ultimately accepted as the outcome, there will be an obvious impact on sale and leaseback arrangements. In the commercial property sector, it would be unusual for the completion not to be structured so as to give the lender priority but the real issue is the lack of safeguards for residential occupiers of property in sale and leaseback arrangements. Occupiers, on the basis of such a decision, may unexpectedly find themselves dispossessed of their properties in circumstances where lenders seek to realise security granted by their landlords. There may be instances where good covenant strength on the part of the tenant enhances the investment value of a property that is to be repossessed, but for most of the residential sector, a mortgagee is more likely to be seeking vacant possession for the purpose of the sale.