Greater standardisation of contracts could save lenders thousands in legal fees

Every loan is different, but the way the law treats loans in default is based on a limited number of case precedents.

When designing bespoke contracts therefore, lenders are often ‘designing-in’ a greater likelihood of contractual failure should there be a problem. Furthermore, too few lenders consider the counter arguments from a borrower‘s solicitor when they are contesting the contract.

The issue is not limited to contracts with borrowers. It also covers the relationship suppliers have with their borrowers. The most expensive cases often involve solicitors, surveyors and even brokers, as a contractual failing typically limits recovery due to negligence.

A common example of a contract failing to achieve its desired outcome is when a termination clause is either not included or poorly worded. We have seen cases where the borrower has deliberately or inadvertently omitted information in an application which meant that the loan was declined. For example, when a borrower was the subject of a criminal investigation and a proceeds of crime restriction was in the process of being entered against the security.

Termination clauses should also be more robust so lenders can rely on them to quickly recover their security. This is especially true in the short term and with regards to development finance where interest rates are generally higher and when defaults can mean significant losses.

Contractually the expiry of the mortgage also needs addressing. For example, what happens when a borrower dies, is seriously ill, unemployed or insolvent? Can third parties make payments? In these circumstances the third parties have not gone through due diligence and by continuing to accept payments a lender can create a DeFacto loan arrangement that could be challenged further down the line.

Failings of lenders’ contractual terms were highlighted in the Dreamvar v Mishcon de Reya case. The lender’s contract omitted instructions for the buyer and his solicitor to hold completion funds on trust until completion was achieved and a fraud occurred. While such contractual terms could not prevent the fraud, or the solicitor’s negligence, it could have enabled the lender to make quicker and more significant recoveries, as the liability would have fallen on the borrower’s solicitor and their PI provider.

Contracts also need greater detail with respect to surveyors’ obligations. Specifically, the requirement for surveyors to quote three to five comparable properties/ developments etc, and, also detail how long lenders can rely on any given report.

Consideration should also be given to the future of the loan and whether it may be part of a securitisation or other means of transferring the beneficial interest. This includes wording to confirm that a surveyor’s or solicitor’s professional duty extends to anyone who may rely on their opinion /report to provide funding. This could mean the difference between being able to reach a quick commercial agreement or needing to issue proceedings and have satellite litigation on what should only be a technical defence. This adds costs (not least the £10,000 issue fee) and a delay in excess of 12 months to get the cash.

Finally, greater consistency in contracts can be beneficial for the likes of development/commercial loans and can mean a smoother process for the release and repayment of funds leading to reduced legal, receiver and asset manager fees. Also, if everyone is clear about the lender’s powers, then, should an issue arise, the relationships with contractors/builders can help preserve the value of the asset for the benefit of the lender as well as that of the borrower.

In conclusion, while we are never likely to have completely standardised contracts, having greater consistency could prevent many issues down the line and ensure surveyors and solicitors can follow a standard process.