N4368

PAPUA NEW GUINEA
IN THE NATIONAL COURT OF JUSTICE

WS No. 583 OF 2006

BETWEEN

CREDIT CORPORATION (PNG) LIMITED
Plaintiff

AND:

DAVID NELSON
Defendant

Waigani: Kandakasi, J.
2010: 17th June
2011: 24th August

FINANCIERS AND CLIENTS – Duty of financiers – Financiers have duty to be transparent, fair and open with their clients – Duty to ensure terms of the contract are fair and reasonable - When negotiating and entering into an agreement with a client financiers under a duty to ensure clients get independent legal advice as to its fairness and legalities.
CHATTEL MORTGAGES – Nature of – Mortgages are mortgages only – Mortgagor has right of redemption until contract of sale signed with a third party – Right of redemption cannot be clogged or fettered – Higher interests rates and charges without justification could amount to unjust enrichment and a clog or fetter on mortgagor's right of redemption –Provisions allowing for higher interest rates and charges amount to a clog or fetter on mortgagors right of redemption and are unenforceable – Inequality in bargain power leading to a mortgage may render mortgage unenforceable.
Cases Cited:
Papua New Guinean Cases:

Rage Augerea v. Bank South Pacific Ltd (2007) SC869
Steven Naki v. AGC (Pacific) Ltd, (2005) N2782
Peter Kondowa v. Reuben Elozah (2002) N2406
Fly River Provincial Government v. Pioneer Health Services Ltd (2003) SC705
Golobadana No 35 Ltd v. Bank of South Pacific Limited (formerly Papua New Guinea Banking Corporation) (2002) N2309
Negiso Investments Limited v. PNGBC Limited (2006) N3104
Dr. Florian Gubon Trading as Gubon Lawyers v. Pacific Mobile Communication Limited (2003) N2439 
Overseas Cases Cited:

Crickmore v. Freestone [1870] 40 L.J. Ch. 137

Counsel:
I. Mambei, for the Plaintiff
G. Elai, for the Defendant

24th August, 2011

1. KANDAKASI J: This is a chattel mortgagee's action to take possession of a motor vehicle, being the subject of a mortgage for the purposes of recovering a balance of monies lent to the mortgagor, Mr. David Nelson following the latter's default in repaying parts of the monies lent. 

Issue of Determination

2. An issue has arisen as to whether the rate of interest on the loan and default penalty interests charged by the Company is reasonable and is therefore not an unreasonable impediment to Mr. Nelson's right as a mortgagor to redeem his property. According to the plaintiff, Credit Corporation (PNG) Limited's (the Company) pleadings and from the evidence in the Court file, it is clear that interest on the loan was fixed at 28% while an interest rate of 33% was fixed for any default on the repayment. The issue presented is grounded on the decision of the Supreme Court in Rage Augerea v. Bank South Pacific Ltd. The Court suggested and the parties agreed to go into written submissions which the Court would consider and come to a decision when ready. This constitutes the Court's decision on the issue. 

3. In short, the precise issues for the Court to determine are:

(a) Whether the interest of 28% charged by the Company on the loan and the 33% for the default penalty is reasonable; and

(b) Whether the default interest rates imposed by the Company is a clog or fetter on the Defendant's right to redeem his vehicle? 

Relevant Facts

4. The relevant facts are not in dispute. On 25th November 2002, the Company and Mr. Nelson entered into a commercial loan and chattel lease agreement. Under that agreement, the Company lent Mr. Nelson K37,750 to purchase a motor vehicle, an Hyundai Sonata Sedan. Mr. Nelson agreed to repay the loan with interest at 28% by monthly installments of K3,560.03 per month for 12 months. That was secured with a chattel mortgage over the vehicle in favour of the Company. 

5. It was a term of the agreement that if Mr. Nelson defaulted in his repayment obligations, the whole of the balance of the principle amount of the loan, any stamp duty owing and interest shall become immediately payable on demand. A penalty interest rate of 33% on the total amount owing would be imposed and charged until full repayment. 

6. All went well with Mr. Nelson making the agreed installment payments, until 12th November 2003 when he fell into areas in the sum of K4, 299.81. By the time Mr. Nelson fell into arrears, he had repaid a total of K43, 579.78 from the initial loaned amount of K37, 750. Despite these repayments, the Company took out Court proceedings, OS 498 of 2005 - Credit Corporation (PNG) Ltd v. David Nelson. Pending the Company withdrawing those proceedings to proceed by pleadings and a resolution of the proceedings thus proceeded with, the Company successfully secured orders for a seizure of the vehicle the subject of the mortgage and had it locked up for a considerable period. 

The Relevant Law

7. There is no issue and I accept that, the parties relationship was one governed by contract law. They had a written agreement (mortgage) which the Company claims Mr. Nelson is in breach of. That is on account of a failure to pay K4, 299.81. Given that, the Company says it is entitled to enforce the mortgage. 

8. In support of its claim, the company relies on the decisions of the National Court in Steven Naki v. AGC (Pacific) Ltd, and Peter Kondowa v Reuben Elozah. These cases are authority for the proposition that, where it is evident that, the parties entered into a written agreement which consists of a chattel mortgage, it is a legally binding and enforceable contract. Hence, the parties are thus bound by the terms of the contract. That is however, conditional on the existence of the essential elements of a contract such as an intention to create a legally binding contract which is supported by a passing of valuable consideration between the parties. Where such an agreement is breached, the Court would readily assess and award damages to the innocent party.

9. I accept that the foregoing is the general position at law. There is however cases in which, the law refuses to recognize and enforce a contract. A good example of that is for instances, a contract entered into in breach of or without meeting important, relevant and applying statutory requirements such as ss. 59 and 61 of the Public Finances (Management) Act 1995. The Supreme Court decision in Fly River Provincial Government v. Pioneer Health Services Ltd makes that position clear. 

10. Specifically, on the enforcement of mortgage contracts, by mortgagees for alleged defaults by mortgagors, is the decision of the Supreme Court in the Augerea case. Given its direct relevance, I drew the parties' attention to that decision and asked them to make submissions on its effect on this case, particularly when the Company here is amongst other things, seeking to enforce a contract that has an interest rate of 28% and a default interest rate of 33%. 

11. The Augerea Case, was a case in which the Bank South Pacific (BSP) as a mortgagee, exercised its powers based on an alleged default in a repayment of monies lent to the Augereas by the then Papua New Guinea Banking Corporation which BSP took over. BSP alleged that the default came about despite alleged numerous default notices. It proceeded to issue proceedings in the National Court and managed to get the Court to sign summary judgment in the sum of K128,380.99 from an initial loan of K25,000.00. On appeal from that judgment, the Augerea's established to the satisfaction of the Supreme Court that, there was only one default notice; BSP did not keep proper records of the loan account; failed to have the loan regularly reduced by the full amounts of each repayment and BSP failed to demonstrate that the amount of interests and charges charged and added on to bring to the total of K128,380.99 allegedly owing was reasonable and fair. Further, the Augerea's demonstrated to the satisfaction of the Supreme Court that, they took serious steps toward repaying the total owing on the loan so as to redeem their property but BSP ignored them and proceeded to exercise its mortgagee powers. Accordingly, the Supreme Court upheld the appeal. In so doing, the Court made a number of important points.

12. The first point the Court made was in respect of the bank's duty to maintain proper records. In respect of that, the Court said:

"In our view, all banks have a duty to maintain and keep accurate records and accounts of their customers and keep the customers regularly and accurately informed of all activity and the status of their accounts on a monthly basis. This is necessary for the sake of transparency, avoiding surprises and to avoid mistakes or any anomalies of the kind identified in this case from being carried over and instead have them detected earlier on and rectified. This is the least a bank can do given that, they alone have control over their charges and fees and the calculation of interests and application of them to a customer's account. A bank's customer usually has no control over these things. Where errors or anomalies appear, banks also have a duty to provide a satisfactory explanation for them and correct them without delay and at no costs and penalty against the customer unless the customer forced the error at the first place on the bank."

13. The second point the Court made was in relation to a mortgagor's right to redeem his or her property. The Court endorsed the summation of the relevant principles of law in my decision in Golobadana No 35 Ltd v. Bank of South Pacific Limited (formerly Papua New Guinea Banking Corporation). The relevant principles are as follows:

"(a) 'The right of a mortgagor to redeem his property is a fundamental characteristic of all mortgagees. "Redemption is of the very nature and essence of a mortgage, as mortgages are regarded in equity. It is inherent in the thing itself."… 

(b) Equity guards jealously the right of the mortgagor to redeem and whenever it is faced with the challenge "will not permit any devise or contrivance designed or calculate to prevent or impede redemption." This accord well with the age-old principle in the law of mortgages that "Once a mortgage always a mortgage:"…

(c) There are numerous authorities dealing with clogs or fetters on the equitable right of redemption. These authorities reveal a number of principles:

(i) Firstly, a mortgage cannot be made irredeemable, and equity will not permit any devise or contrivance being part of the mortgage transaction or contemporaneous with it calculated to prevent or impede redemption…. However, there is nothing preventing the mortgagor from giving to the mortgagee by a separate transaction and independent from the granting of the mortgage an option to purchase the property…. Of course, whether the grant of the option is part and partial of the mortgage transaction is to be determined as a matter of substance rather than form. As the mere separation of the documents will not of itself affect the existence of a "clog" on the equity of redemption…;

(ii) Secondly, the right to redeem cannot be rendered nugatory or illusory;

(iii) Thirdly, in the area of "collateral advantages," the authorities do allow for collateral advantages to be given by a mortgagor to a mortgagee in consideration for a loan to him or her. Such collaterals could be upheld only if they are "not either (1) unfair and unconscionable, or (2) in the nature of penalty clogging the equity of redemption or (3) inconsistent with or repugnant to the contractual and equitable right to redeem;

(iv) Finally, there are cases that could be classified as miscellaneous areas. In these areas some authorities have shown a reluctance to uphold a covenant that seeks to clog or unnecessarily fetter a mortgagor's right of redemption. These include covenants for a repayment of a greater amount than that advanced…. Similar positions have been taken in cases containing covenants requiring a payment of a higher rate of interest upon default which may be seen as a penalty…. Other cases have indicated a preparedness to strike down covenants in mortgages that seemed to impose unreasonable time periods for late redemption…. Furthermore, some authorities have indicated a preparedness to strike down covenants which seek to prevent a mortgagor from redeeming his property on the contractual date for repayment,… and as earlier noted after the contractual date for repayment. 

(d) The right in a mortgagor to redeem exists until a contract of sale has been signed between a mortgagee and a third party in the case of a mortgagee exercising his right of sale'."

14. Applying these principles to the case before it, the Supreme Court noted that BSP had been charging an interest rate of 17.2% per annum and changed it to 25.25 % and again to 22 % from an initial agreed rate of 6%. This amongst others increased the Augereas' indebtedness to the Bank from a small amount of K25, 000 that increased to K128, 380.99, which made no allowance for the Augereas repayments. The Court noted that BSP was claiming well over 100% recovery on its initial loan of K25,000. In respect of these interest rates, the Supreme Court observed that:

"These interests as far as we can see, were unreasonably high and were obviously intended to penalize the Augereas rather than a reasonable arrangement for a recovery of what the Bank lent and the Augereas agreed to repay with interests and charges. As has been clearly demonstrated by what happened, these unreasonable interest rates and charges that were imposed against the Augerea's and the Bank's attitude effectively prevented the Augereas as mortgagors from redeeming their property." 

15. Thirdly, the Supreme Court noted that, whilst there was an agreement between the Augereas and the Bank for an application of the kind of charges and interest rates the Bank charged and imposed, it found that, "the Bank's actions did amount to a serious penalty, through which the Bank was trying to unjustly and unreasonably enrich itself over and above what was reasonably due to it." The Court went on to find that, "the default provisions and the Bank's attitude as clearly unreasonable impediments, clogs or fetters on the Augereas as mortgagors' right of redemption of their property". On that basis, the Court declared "the interest rates and charges and the kind of attitude shown by the Bank should not be permitted, allowed or enforced in a just, fair and democratic society such as ours."

 16. Fourthly, the Supreme Court found that the parties were not in an equal bargaining position at the time of signing the initial loan agreement and the subsequent variations to the agreement. The Court noted that, there was a serious imbalance between the parties because BSP "had its legal and experienced loan or lending team working for it and advancing its cause whilst the Augereas were mere employees with no independent legal advice". Additionally, the Court noted that, there was no evidence of BSP "requiring and in fact ensuring that the Augereas were legally represented or did have independent legal advice on the terms of the loan and the mortgage before accepting the loan from the Bank." The Court went on to note that:

 "Even if they had legal advice, that would not have made any difference because the reality of the situation was that the Augerea's were in a no win position because the banks usually set the interest rates and terms of the loan and are usually not flexible. A customer would therefore have no choice but to accept such terms. If that was not the case, the burden was on the Bank to provide evidence of a fairly negotiated loan and mortgage, but it did not provide any such evidence." 

17. Finally, the Supreme Court took into account the implications of the Fairness of Transactions Act 1993. The Court noted that, Parliament passed that legislation out of a concern around issues of fairness and equality of parties bargaining positions during negotiations leading to agreements. The Court also noted that, the Act was considered and applied in the case of Negiso Investments Limited v. PNGBC Limited and Dr. Florian Gubon Trading as Gubon Lawyers v. Pacific Mobile Communication Limited. The Supreme Court noted that: 

"The Act allows for a review of agreements or contracts that are considered unfair. As was observed in the second case, the Act did not introduce something that was new. It merely reinstated and reaffirmed the position at common law which has already been adopted and applied by the courts in our jurisdictions as in the case of Kora Gene v. Motor Vehicles Insurance (PNG) Trust…... Appling those principles the Courts have already struck down agreements that were considered unfair because of inequality in the bargaining powers of the parties. 

Present Case: (a) Consideration

18. In this case, the Company argues that, Mr. Nelson was no ordinary person. He is an educated man and man of some standing in society. He was made aware of his defaults both by default notices and court proceedings, namely OS 498 of 2005. The company further points out that, despite that, Mr. Nelson did not pay up and a period of four years passed following the issuance of the mentioned proceedings. The Company further points out that, it has spent a total of seven years since 12 November 2003 trying to recover what was due to it. 

19. I note from the pleadings and the material before the Court, there is no contest that the Company is a well established company in the country. The Company is in the business of lending money to others, companies and individuals alike. What the Company lends is usually secured by mortgages. On the other hand, Mr. Nelson is an individual. Although he is educated and is a man of standing in society, there is no suggestion that he is a lawyer or if not, he had the assistance of a lawyer in the negotiations leading to the mortgage agreement or that, Company ensured that, Mr. Nelson sought and secured independent legal advice on the terms of the mortgage agreement and their practical effect before accepting them. There is also no evidence, that Mr. Nelson is familiar with chattel mortgages either generally or the particular terms of the mortgage and as such, he accepted them with full knowledge and proper understanding.

20. Additionally, I note that, the Company has not pleaded nor has it adduced any evidence before the Court, which suggest that the interest rates 28% and 33% are fair and reasonable. This is critically important given the kind of interest rates the banks and financial institutions give to their customers who go to them for interest bearing deposits. To those who deal with the banks and other financial institutions, it is commonly known and I can take judicial notice that, the banks and financial institutions give to their client interests at rates much lower than the rates they imposed against their clients at say 33%, as in this case or 22% as noted by the Supreme Court in the Augereas Case. On top of such high interest rates, the banks and financial institutions are these days charging all sorts of fees and charges, even for basic transactions such as deposits and withdrawals which were previously free as is still the case in other countries.

21. In this case, according to Company's own pleadings, Mr. Nelson's actual default was K4,299.81. That was after he had made a total repayment of K43,579.78 form the initial loan of K37,750.00. Hence, if we work only on the basis of the principle amount lent and repaid, Mr. Nelson fully repaid the principle amount lent as well as an extra of K5,829.78 which could account for interests and other charges. However, the Company's own pleadings show that an amount of over K10,000 was added to Mr. Nelson's loan account on account of interests, legal costs, and other bank charges and fees. This obviously caused Mr. Nelson to be in arrears according which, the Company claims caused it to issue proceedings to recover the amounts due and owing and have the vehicle the subject of the chattel mortgage impounded. 

22. The Company's actions deprived Mr. Nelson from enjoying the use of the vehicle and effectively denied him from redeeming his property. Further, the Company after having recovered the principle loan amounts and a substantial part of the interests and charges added thereto, could have taken a more fair and reasonable and most economical approach such as a write off of the small amount of the debt or sue for the debt and have that attached to Mr. Nelson's salary or have the loan re-arranged. Instead, the Company took the most drastic step of taking out court proceedings and seized Mr. Nelson's vehicle and kept it over a considerable period of time. This resulted in more unnecessary costs which I assume has gone well past the amounts the Company was chasing, which unless the Court otherwise orders, the Company would seek to recover against Mr. Nelson, thereby adding more unreasonable financial burden on him.

23. Whilst the Company as a financial institution was entitled to exercise its legal right, it has an obligation to demonstrate to the satisfaction of the Court that:

(a)	terms of the chattel mortgage are reasonable and fair; and

(b)	were clearly understood and accepted by Mr. Nelson; and

(c)	the terms were fairly negotiated and arrived at between the parties; and

(d)	the parties were on equal footing at the time of the negotiations and signing of the loan agreement; and 

(e)	the steps the Company took to enforce his legal rights were fair and reasonable.

24. The Company failed to make out such a case. It was necessary for the Company to demonstrate to the satisfaction of the Court that, all that the Company did was fair and reasonable and that, they did not amount to an unreasonable clog on Mr. Nelson as the mortgagor of his right to redeem his property. In the circumstances, I find that the interest rates of 28% as well as the default penalty rate of 33% are unreasonable fetters or clogs on Mr. Nelson's right to redeem his property. If the interest rate was lower and anywhere near to the kind of interest Banks and financial institutions allow for interest bearing depositions which is usually lower than 10%, Mr. Nelson would have fully paid for the principle loan amount with the interests and charges added thereto. This would have left him with no default and he would have long used and enjoyed his property, the motor vehicle. I would thus strike down parts of the agreement that allows for the 28% and 33% interest rates.

25. I also find that the means employed by the Company to recover the amounts due and owing which was insignificant considering the repayment of the principle and interests and charges, was also unreasonable and amounts to a penalty in that, it has the effect of effectively preventing Mr. Nelson from redeeming his property and continue its use and enjoyment. Fairness therefore dictates that the Company should not be permitted to continue any further with its proceedings to avoid further unnecessary costs to the parties and unnecessarily taking up of the Court's time.

26. Having regard to the foregoing, I direct the Plaintiff to consider what to do with its proceedings and return to the Court with a confirmed position. I fixed 14th September 2011 at 9:30 for a return of this matter. I reserve the question of costs until return of the matter.

_______________________
Pacific Legal Group: Lawyers for the Plaintiff 
Mambei & Associates Lawyers: Lawyers for the Defendants