The guarantors heavily invested in a unit complex on the Gold Coast financed by the bank, renting them out as holiday units through their company. They owned a number of other investments on the Gold Coast and their home in Victoria, financed by BOQ. The manager of the complex decided to sell them the management rights which they purchased, together with two additional units, with finance from the bank.
The Judge found that there were some glaring ommissions and false assumptions in the financial reports in relation to the management rights business, and that a prudent bank employee ought to have identified the fact the borrower would not be able to repay.
The guarantors alleged that during negotiations for the loan, the bank had represented that the financial report provided for the management rights business proved they could afford the loan. They would not have caused their company to buy the management rights in the absence of that representation. The Judge favoured the bank’s evidence and concluded that the bank manager was doing no more than communicating approval of the loan.
However, the Judge did find that the bank was in breach of its duties under the Banking Code of Conduct for failing to notify the guarantors that the borrower could not afford the loan.
The loan agreement incorporated the Banking Code of Conduct and therefore, the bank owed the borrowers a duty of care pursuant to clause 25.1 of the Code which is termed as follows:
Before we offer or give you a credit facility (or increase an existing credit facility), we will exercise the care and skill of a diligent and prudent banker in selecting and applying our credit assessment methods and in forming our opinion about your ability to repay it
The Judge considered this such a significant legal issue in the banking industry that it requested the pro bono scheme to appoint a barrister to assist the Court, as the borrowers were unrepresented at trial.
The Judge held that clause 25.1 of the Banking Code was incorporated into the guarantee because:
The guarantee was a guarantee made by individuals securing a loan to a small business under the Banking Code;
Under clause 28.3 of the Banking Code, any guarantee must include a statement that the relevant provisions of the Banking Code are incorporated into the guarantee; amd
Clause 25.1 is a relevant clause to a guarantee because “any guarantor has a material interest in whether the bank, exercising the care and skill of a diligent and prudent banker, has formed an opinion that the borrower will be able to repay the loan sought”
The Judge also held that clause 25.1 of the Banking Code goes beyond the previously recognised duties of banks. The Judge interpreted the clause so that it requires the bank to exercise all due care and skill in assessing the borrower’s ability to repay. As they failed to identify the problems with the financial report, and ought to have, the bank had failed to exercise all due care and skill.
If the bank acted with all due care and skill, the purchase of the management rights would not have proceeded. Further, the guarantors would not have have been liable under the guarantee, and would not have paid out the significant sums they contributed to their company to keep the business running. Accordingly, the bank was found to have caused the guarantors loss and damage in the amount of their liability under the guarantees and those additional sums.
Lenders who have adopted the Banking Code of Conduct should beware that if they fail to properly review the financials of a borrower they may be liable to the guarantor for breach of duty. The guarantor may therefore be able to avoid their obligations pursuant to the guarantee, and the bank may be liable for additional damages suffered.
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