Client Update: Regulation & Compliance – 9 July 2008
Issues for financiers when providing credit to
individuals for business or investment purposes
In brief: A
recent New South Wales Court of Appeal decision has highlighted the need for
financiers to have sophisticated systems and procedures in place when providing
credit to individuals for business or investment purposes. The reason for this is to avoid
having to prove that the Consumer Credit Code does not apply to
such transactions. Partner John Gallimore (view CV) and Senior Associate Scott Mackay explain.
The NSW Court of Appeal held in Bahadori v Permanent Mortgages Pty
Ltd1 that a credit contract was entered into when some, but not
all, of the documentation intended for the transaction had been signed. A
'credit contract' was created because the acceptance of initial documentation
gave rise to an arrangement, being part of a 'series or combination of contracts
or contracts and arrangements' (the definition of 'contract' in the Consumer
Credit Code). The date of acceptance of the contract was held to be the date of
acceptance of the first arrangement in the series. Unfortunately for the
financier in this case, the 'business purpose' declaration provided for in
section 11(2) of the Code wasn't signed until after that date.
The presumption in s11 of the Code (that the Code applies to credit contracts
with individuals unless the contrary is established) is only reversed if a
'business purpose' declaration is provided by the borrower
before the credit contract is entered into.
The lesson for financiers when providing credit to individuals for business
purposes is that their systems and procedures must ensure that a valid 'business
purpose' declaration is obtained before any documentation
(sometimes merely an exchange of correspondence) amounting to a 'credit
contract' is entered into. Obtaining a declaration at the same time as the
customer signs such a credit contract is insufficient.
If a declaration does not precede the credit contract being entered into, the
financier has to prove that the Code does not apply, should the customer
subsequently raise the issue.
The case also contains some useful observations on when a financier may have
reason to believe a 'business purpose' declaration is incorrect. The facts
that:
- the employment history and statement of assets and
liabilities of the debtors did not indicate receipt of any income other than
wages and, in particular, did not indicate the debtors had any income from any
business or investments;
- the statement of assets and liabilities did not
indicate the debtors were proprietors of any business or had any assets in the
nature of investments; and
- the financiers knew that the bulk of the credit was to be used to
refinance an existing mortgage over the debtors' home,
meant that the
financiers had reason to believe the loans were in fact to be applied wholly
or predominantly for personal, domestic or household purposes. Financiers need
to carefully consider all the information in their possession to determine
whether they have reason to believe a 'business purpose' declaration is
incorrect.
The court considered a submission that the relevant 'business purpose'
declaration was invalid because it contained some additional wording not in the
form of declaration prescribed in the regulation to the Code. This argument was
rejected. The court said:
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The position might well be different if any additional provisions
contained in the documents signed by the appellants over and above the
contents of the form required by the Regulations had had the effect of
qualifying the terms of the required form or reducing or negativing the
impact that it was intended to make on the consumer. |
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This is useful guidance, but care still needs to be exercised if any
additional language is to be added to the prescribed form.
The recent consultation draft of the Consumer Credit
Code Amendment Bill 2007 (Qld) also raises further concerns for financiers in
relation to s11 declarations. It was proposed in that draft that the section be
amended to abolish such declarations, and for the presumption that credit is
governed by the Code to be rebutted only if the financier has specifically made
inquiries about the purpose of the credit and those inquiries resulted in the
financier receiving information that the loan was for business purposes. This
proposal has been heavily criticised both by the credit industry and consumer
groups. See our
Focus: Regulation & Compliance – October 2007 for further comment
on this proposal. The Ministerial Council on Consumer Affairs has agreed to make
refinements in the areas proposed in the consultation draft, but it remains to
be seen how it will decide to deal with testing purpose given the number and
nature of the submissions made on this issue.
The timing and effectiveness of s11 'business purpose' declarations (should
they survive) also arises in connection with s63 of the Personal Properties
Securities Bill 2008 (Consultation Draft), where security cannot be taken over
an individual's after-acquired property without the individual's specific
approval, unless a s11 'business purpose' declaration has been made in relation
to, and before, the property is acquired.
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[2008] NSWCA 150.
For further information, please contact:
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