Pepper New Zealand (Custodians) Ltd v Donovan Trustee Company no.1 Ltd [2014] NZHC 180 (18 February 2014)

Last Updated: 28 September 2014

IN THE HIGH COURT OF NEW ZEALAND TAURANGA REGISTRY

CIV 2012-470-944 [2014] NZHC 180

BETWEEN PEPPER NEW ZEALAND (CUSTODIANS) LTD Applicant

AND DONOVAN TRUSTEE COMPANY NO. 1 LTD

First Respondent

DONOVAN TRUSTEE COMPANY NO. 2 LTD

Second Respondent

JOHN GRAHAM KENNETH BOLTON Third Respondent

Hearing: 2, 3 and 4 September 2013

Counsel: F Collins for Plaintiff (2 September 2013 only)

B Elliott and K Donovan, both in person (with leave) for First and Second Respondents

J G K Bolton, in person, Third Respondent

K Stephen for Attorney-General

Judgment: 18 February 2014

_{JUDGMENT OF HEATH J}

This judgment was delivered by me on 18 February 2014 at 4.30pm pursuant to Rule

11.5 of the High Court Rules

Registrar/Deputy Registrar

Solicitors:

Gibson Sheat, PO Box 2966, Wellington Crown Law, PO Box 2858, Wellington Copy to:

_{J G K Bolton, Rotorua}

PEPPER NEW ZEALAND (CUSTODIANS) LTD v DONOVAN TRUSTEE COMPANY NO. 1 LTD [2014] NZHC 180 [18 February 2014]

Who is entitled to surplus funds from a mortgagee sale?

[1] Pepper NZ (Custodians) Ltd (Pepper) was the first mortgagee of a property at

37 Collingwood Street, Tauranga. The mortgage fell into arrears. In November

2011, the property was sold at mortgagee sale. Pepper received $240,000 from the sale.

[2] After payment of Pepper’s debt and the costs of sale, a surplus of

$110,271.70 remained available for distribution. There are two claimants to the surplus, which is presently held on interest-bearing deposit. Pepper issued interpleader proceedings to enable the question of entitlement to the surplus funds to be resolved.

[3] Donovan Trustee Company No. 1 Ltd (as trustee of the Phillip Roderick Donovan Trust) and Donovan Trustee Company No. 2 Ltd (as trustee of the Joan Donovan Family Trust) (to which I shall refer collectively as the Trusts) are one of the claimants. They were, at the time of the mortgagee sale, the registered proprietors of the property. The other is Mr Bolton, a person who had a registered second mortgage over the property. Mr Bolton alleges that a debt of $200,000 is secured by his mortgage. If Mr Bolton is owed $200,000 and that sum is secured by

an enforceable mortgage, his claim will prevail.¹

[4] The issues that require resolution are:²

(a) Is Mr Bolton’s registered mortgage defeated by fraud?³

(b) If the mortgage were valid, is there an unpaid debt owing to Mr

_{Bolton that is secured by it?}

¹ _{Property Law Act 2007, s 185.}

² _{Relevant legal principles are set out at paras [15]–[16] below.}

³ See Frazer v Walker [1967] NZLR 1069 (PC).

Background facts

[5] On 21 March 1954, Mr Phillip Donovan (Phillip) and his wife, Joan, purchased the Collingwood Street property as trustees of the Trusts. The trustees held a beneficial ownership as to one half on behalf of each of the two Trusts.

[6] Phillip and Joan Donovan had four children: their sons Michael and Kerry and their daughters, Moira (now Elliott) and Linda (now Jones). On 6 July 1993, Phillip and Michael, were appointed as trustees of each of the Trusts. Michael retired as a trustee on 11 March 1999 and his brother Kerry, was appointed as a trustee in his place.

[7] On 3 May 2002, Kerry was removed as a trustee of the Trusts. He was replaced by Michael. From 6 June 2002, until the mortgagee sale in November

2011, Phillip and Michael were the registered proprietors of the Collingwood Street property. Although not able to be disclosed on the title to the property,⁴ they held the property as trustees for each of the two Trusts.

[8] On 25 July 2003, Phillip and Michael entered into an agreement with TEA Custodians (Pacific) Ltd for a loan of $117,000. This was secured by first registered mortgage. Its existence was not disclosed to Michael’s siblings. Subsequently, that mortgage was transferred to G E Custodians Ltd, and later to Pepper.

[9] Joan died on 14 April 2006. On 5 May 2006, Phillip appointed the remainder of his children to be trustees of the Trusts. However, no steps were taken to transfer the property into the names of the new trustees. Instead, Phillip and Michael continued to be shown as registered proprietors on the title.

[10] On 3 March 2008, Phillip’s daughter, Moira, was contacted by an admission co-ordinator at the rest-home at which Phillip was living. She was inquiring about Phillip moving to a dementia ward. On 3 April 2008, Phillip was examined by a psychiatric registrar. Moira held an enduring power of attorney in respect of his health and welfare. As a result of the diagnosis, the power of attorney was activated.

From that time, Phillip resided in a secure dementia ward in at the Melville Home, in

Tauranga.

[11] On 10 January 2009, about nine months after Phillip’s admission to the secure ward, he (together with Michael) allegedly executed a second mortgage in favour of Mr Bolton, together with a term loan contract under which Mr Bolton was to advance a sum of $200,000 on an interest free basis, with a repayment date of 10

February 2009. Mr Bolton believed that any advance would be secured by mortgage. A document purporting to be a mortgage in favour of Mr Bolton showed a priority limit of $500,000. No moneys were advanced by Mr Bolton on or before

10 February 2009.

[12] According to Michael, he and his father signed the mortgage, but not a loan agreement. Ms Heather Stacey is shown as the witness to the signatures on both the mortgage and the loan document. She did not give oral evidence, despite being the subject of a subpoena issued by Mr Bolton. He told me that she could not be located. While I indicated that if any of her proposed evidence was critical to my findings I would adjourn the hearing to allow her to be called, that has not proved to be necessary.

[13] On 29 January 2009, Michael was adjudged bankrupt, on the application of the Commissioner of Inland Revenue.

[14] Phillip died on 19 November 2009.

Legal principles

[15] If the mortgage were established to have been signed by the registered proprietors of the Collingwood Street property, and an outstanding debt is found to be secured by it, Mr Bolton has an indefeasible right to the surplus money as second mortgagee. Under the indefeasibility principle, his interest as a mortgagee is paramount, in the absence of fraud being established.⁵

[16] To establish fraud, for the purpose of defeating an indefeasible interest, actual dishonesty must be proved.⁶ A registered mortgagee will only be fixed with knowledge of fraud if actually complicit in it, or with knowledge imputed by virtue of an agent’s acts.⁷

[17] Because of the prima facie indefeasible character of the mortgage, the Trusts bear the onus of proving that it is invalid by reason of fraud. Mr Bolton was not present when Michael arranged for the mortgage to be signed on 10 January 2009. Therefore, he does not know whether Phillip actually signed the document. Further, knowledge of incapacity on the part of Phillip on that date could only be imputed to Mr Bolton if Michael, with knowledge of Phillip’s incapacity, were treated as his agent.

[18] On the other hand, Mr Bolton bears the onus of proving both that he paid

$200,000 to Michael and that it is secured under the mortgage. There are two parts to this issue. The first is whether the $200,000 was actually advanced. The second is whether, if it were advanced, it is secured under the 10 January 2009 mortgage.

[19] The standard of proof in each case is on the balance of probabilities. However, in a case involving an allegation of fraud, account must be taken of the gravity of the allegation.⁸

Execution of the mortgage

[20] Phillip’s patient notes for 10 January 2009 suggest that he was found wandering in the early hours of that morning and put back to bed. At about 6am a “sticky eye” was noted, which became “very red” at about 2pm. At 9pm he was described as “quite restless”, though “energetic” and “pushing chairs around”.

[21] On 25 February 2009, Phillip was admitted to Tauranga Hospital. The admission notes suggest he was suffering “obvious severe dementia, with confusion

_{disorientation and receptive and expressive language impairment”.}

⁶ _{Assets Co Ltd v Mere Roihi [1905] AC 176 (PC) at 210.}

⁷ _{Nathan v Dollars & Sense Ltd [2008] NZSC 20; [2008] 2 NZLR 557 (SC) at para [49].}

⁸ T v M (1985) 2 NZFLR 462 (CA) at 463–464 (Woodhouse P, with whom Richardson J and Sir

Thaddeus McCarthy agreed).

[22] Although the mortgage was dated 10 January 2009, Mr Bolton did not suggest that the sum of $200,000 was advanced at that time. His final position was that it was paid in cash to Michael, in early June 2009. Mr Bolton contends that is the amount secured by the mortgage. Registration of the second mortgage was effected on 3 June 2009, by Ms Heather Jacobs, an acquaintance of Michael.

[23] Following a requisition, Ms Stacey (the witness shown on the mortgage) completed, on 25 June 2009, a statutory declaration in which she identified Phillip as the person signing the mortgage on 10 January 2009. She stated that he appeared to be “of sound mind” and “did freely and voluntarily sign the instrument”. I infer that she was of the same opinion in respect of Phillip’s condition when he signed the loan agreement, which she also witnessed.

[24] The only direct evidence of what occurred when the mortgage was signed was that given by Michael. In an affidavit sworn on 23 August 2012, Michael deposed that he had made clear to his siblings that he wanted to purchase the Collingwood Street property from the deceased estate. To achieve that end, he said that he arranged for Mr Bolton (whom he described as a “colleague”) to lodge a registered second mortgage with “an agreed nil associated loan or formal loan documents” so that when he repaid the existing first mortgage (on purchase of the property) the second mortgage would take its place. His ultimate goal was to ensure that security over the property was retained. If that were true Michael and Mr Bolton were colluding, to provide Michael with a mechanism to obtain control over the property, (in all likelihood) to the detriment of his siblings.

[25] Michael stated that when the first mortgage fell into arrears he learnt of Mr Bolton’s claim to surplus funds and demanded that he discharge the second mortgage. However, Mr Bolton declined to do so.

[26] Michael acknowledged, in oral evidence, that he and his father signed the mortgage on 10 January 2009. He said that he did not recall where the document was signed, but believed it was either at 33C Fourth Avenue in Tauranga, or at the facility in which Phillip was residing.

[27] Michael deposed that he did not tell his father much about the second mortgage. He took that stance because, he said, it was never intended that any debt would attach to it.⁹ Michael confirmed that he did not tell his siblings about the proposal to mortgage the property. Michael thought that Ms Stacey was the witness to execution of the mortgage. He described her as a “long-time friend” of Mr Bolton’s.

[28] Michael acknowledged that he wrote the detail of the mortgage into it and that the signatures were those of himself and his father. On the balance of probabilities, I find that Phillip did sign the mortgage. Although Michael denied that any loan contract was signed, it seems inherently improbable that a document bearing the same date as the mortgage, apparently signed by both Michael and Phillip (as borrowers) and Mr Bolton (as lender), and witnessed by the same person who was present when the mortgage was signed would have been brought into existence if it had not been intended that the two documents would be signed together. I find that both Michael and Phillip signed the loan contract of 10 January

2009.

[29] When asked whether he thought Phillip had decision-making capacity at the time the mortgage was signed, Michael answered that he would not have had the capacity to take out a loan, but that was never intended. As far as the mortgage was concerned, Michael did not consider that relevant because, in his view, no money was to be secured by it.

[30] I am satisfied from the circumstances in which Michael says the mortgage was signed (being the same as those in which I find the loan agreement to have been executed) that he was acting in his own interests. While the Supreme Court has held that a mortgagor can be an agent of the mortgagee for the purpose of procuring a

signature and arranging for a document to be registered,¹⁰ I am satisfied that,

whatever the reason for the transaction in issue in this case, it was instigated by

Michael and that he was acting solely as agent of the mortgagors when arranging for his father to sign the mortgage. Thus, Michael’s knowledge of likely incapacity

⁹ _{See para [24] above.}

¹⁰ Nathans v Dollars & Sense Ltd [2008] NZSC 20; [2008] 2 NZLR 557 (SC) at para [24].

cannot be attributed to Mr Bolton. That conclusion is supported by evidence that, while a blank form of mortgage was provided by Mr Bolton to Michael, it was Michael who took responsibility for filling out the details in his father’s presence.

[31] Michael was an unsatisfactory witness. The events in issue were caused through his attempts to further his own interests.¹¹ The fact that the mortgage was signed less than three weeks before he was adjudged bankrupt confirms that his motivations were personal in nature. In my view, he did not care whether what he was doing would likely harm his father’s or siblings’ interests.

[32] Generally, I am not prepared to make any findings of fact on the basis of (what I regard as) Michael’s unreliable evidence. There are three exceptions to that proposition: statements contrary to his personal interests, evidence corroborated by contemporary documents and those parts that are confirmed by other witnesses whose evidence I accept.

[33] On the question of Phillip’s capacity on or about 10 January 2009, I heard evidence from Dr Erick Riedl, a medical officer with the “Mental Health and Addiction Service – Older Persons” department of Tauranga Hospital. In a statement dated 17 April 2013, he said:

I have been asked to comment on Mr Donovan’s capacity to sign a document on 10^th January 2009. Since August 2007 he had been seen by two of our registrars and by Dr Andrew Wilkinson, consultant old age psychiatrist. He had a diagnosis of a mixed vascular and Alzheimer’s type dementia, which was severe enough for him to be treated in a secure dementia unit. Mr Donovan had donated an enduring power of attorney for health and welfare to his daughter, Moira Donovan, and this was activated by Dr Davin Tan, psychiatric registrar on 3^rd April 2008. Indicating at this time, Mr Donovan would have wholly lacked capacity. Mr Donovan was admitted under my care to Tauranga Hospital on 25^th February 2009 and discharged on 15^th April 2009. During the period in hospital, Mr Donovan presented with an obvious severe dementia, with confusion disorientation and receptive and expressive language impairment; and although his capacity was not formally assessed, the [enduring power of attorney] having been activated, it was quite clear that he would have lacked capacity if we had asked the question.

As to Mr Donovan’s capacity on the 10^th January 2009, it is my opinion that it would be extraordinarily unlikely that Mr Donovan had regained capacity on this date following the activation of the [enduring power of attorney] in

April 2008, and progressed to obviously lacking capacity at the time of his admission to hospital a month later.

[34] In oral evidence, Dr Riedl was asked to expand upon his evidence. He opined that it would have been “very unlikely” that, on 10 January 2009, Phillip would have been able to understand concepts associated with the property he owned and his ability to dispose of it. At that time, Phillip was residing in a (locked) secure dementia unit. Dr Riedl thought it would have been “apparent to anyone having a conversation with [Phillip] that he wasn’t all there”.

[35] Dr Riedl was questioned by Mr Bolton. Specifically, Mr Bolton put to Dr Riedl the declaration made by Ms Stacey that, as at 10 January 2009, she believed that Phillip “appeared to be of sound mind and did freely and voluntarily sign the instrument”. Dr Riedl responded that he thought “to most people” that it would have been “reasonably apparent that [Phillip] did not have a sound mind” but acknowledged that it was “possible” that someone seeing him on a “good day” might have thought that he did. The impression I gained from Dr Riedl’s evidence was that while it was possible, it was unlikely that an objective and rational third party might have formed that view.

[36] On a balance of probabilities, I consider that it is unlikely that Phillip had capacity to enter into a mortgage as at 10 January 2009. Nevertheless, on the basis of Dr Riedl’s concession, I am prepared to accept that Ms Stacey (as witness to Phillip’s signature on the mortgage) honestly believed that Phillip did have contractual capacity on 10 January 2009.

[37] I find that Michael is likely to have known that his father lacked such capacity but arranged for him to execute the mortgage regardless. Having said that, Mr Bolton is not bound by Michael’s knowledge, given my finding that Michael was not acting as his agent at the relevant time.¹²

[38] For those reasons, although I find that Phillip lacked contractual capacity at the relevant time, knowledge of that cannot be sheeted home to Mr Bolton. Nor did Mr Bolton exert any undue influence over Phillip; he dealt only with Michael. I hold

that registration of the second mortgage creates an indefeasible interest in the Collingwood Street property in favour of Mr Bolton, in respect of any moneys that remain secured by it.

Is any debt secured by the mortgage?

[39] Despite the term loan contract having been signed by Michael and Phillip at the same time as the mortgage, on 10 January 2009, Mr Bolton’s evidence was that he paid $200,000 in cash to Michael in early June 2009 at 33C Fourth Avenue, Tauranga. The June date is around the time that the mortgage was presented for registration. A contemporary payment around that time is more likely than not.

[40] The 10 January 2009 term loan contract specified a principal sum of

$200,000 lent by Mr Bolton to Phillip and Michael, to be repaid on 10 February

2009, with a penalty interest rate of 20%. It specified a registered security over land, the legal description for which matches the Collingwood Street property. The sum of

$200,000 was to be repaid on 10 February 2009 at a specified address in Tauranga.

[41] Confusingly, a second term loan contract, also dated 10 January 2009, was also put into evidence; this time witnessed by Ms Coggins and showing a principal sum of $160,000.¹³ That document purports to be signed by Michael and Phillip.

[42] Mr Bolton also produced a term loan contract dated 3 June 2009. On that document, Michael is shown as the borrower and Mr Bolton as the lender. It was brought into existence after Michael was adjudged bankrupt.¹⁴ Phillip is not a party to that agreement, and did not sign it. The document identifies an amount of

$90,000 to be advanced. It purports to be executed by Michael in the presence of Ms

Coggins.

[43] None of the witnesses provided any satisfactory explanation for the existence of three loan contracts, two dated 10 January 2009 and one of 3 June 2009.

¹³ Compare with paras [11] and [12] above.

[44] Mr Bolton was asked about the alleged payment of $200,000 in cash. He recounted bad experiences with banks and the fact that he traded in valuable motorcycles. The type of motorcycles to which he referred (a Vincent Black Knight, a Vincent Black Shadow, a Vincent Lightening and a Vincent Repeat) are indeed valuable. It is not inconceivable that Mr Bolton could have obtained cash in excess of $200,000 from such sales. The availability of assets of that type, and the likelihood of sales, was confirmed by another witness, Mr Gordon Stacey, Ms Stacey’s brother.

[45] The question is whether I am satisfied on Mr Bolton’s evidence that he advanced the sum of $200,000 to Michael and that that sum was secured under the mortgage. Assuming that the money was advanced around 3 or 4 June 2009, it was advanced at a time when Phillip was still alive.¹⁵ But, Phillip is not a party to that agreement and there is no evidence that he knew of its existence.¹⁶

[46] The operative clause of the mortgage states:

Operative Clause

In consideration of the mortgagee providing, or agreeing to provide, financial services to or for the accommodation of the mortgagor, the mortgagor and the covenantor (if one is included) hereby covenant and agree with the mortgagee that the provisions of Memorandum Number 1995/4004 registered in the Land Registry Office for the above district shall be deemed to be incorporated herein together with the terms of any attached Annexure Schedule AND for the better securing to the mortgagee the payment of the moneys hereby secured (as hereinafter defined) and compliance by the mortgagor with the terms of this mortgage the mortgagor hereby mortgages to the mortgagee all the mortgagor’s estate and interest in the land in the above Certificate(s) of Title.

[47] The original mortgage was not produced in evidence. Nor was a copy of the full terms and conditions. The only original document of 10 January 2009 was the cover page of the mortgage as registered, together with Ms Stacey’s statutory declaration in relation to the witnessing of the signatures of Phillip and Michael. On a balance of probabilities, I am satisfied that the operative clause of the mortgage enabled both money provided at the same time as execution of the mortgage and

later advances under the contemporary loan agreement¹⁷ to be secured under the mortgage. Were that not so, no meaning could be given to the words “or agreeing to provide”.

[48] Intuitively, the suggestion that Mr Bolton paid a sum of $200,000 to Michael in cash seems inherently unlikely. But, there is confirming evidence to suggest that cash was advanced in that manner, at some time between April and June 2009. Mr Stacey gave evidence of being called by Mr Bolton to attend to witness the handing over of cash to Michael. In an affidavit sworn prior to the hearing, he said that occurred “some time in April 2009” and that the money was handed over at 33C Fourth Avenue, Tauranga.

[49] The location of this event supports evidence given by Mr Bolton. Mr Stacey gave oral evidence that Mr Bolton counted from a box 20 bundles of cash, each containing $1000. He did not see any loan contract exchanged. On Mr Bolton’s and Mr Stacey’s evidence, I consider it is likely that a meeting did take place at which a substantial amount of cash was handed over to Michael by Mr Bolton. Given that this occurred after his bankruptcy, it would have been in Michael’s best interests to obtain cash from a non-traceable source. I am prepared to accept that the amount involved was $200,000, notwithstanding the absence of any documentary trail as to the origin or final destination of that sum.

[50] Nevertheless, there is an important factor that militates against any money advanced by Mr Bolton being secured under the mortgage advanced on 3 or 4 June

2009. No moneys were advanced at a time proximate to Phillip’s execution of the loan contract and mortgage of 10 January 2009; nor by the intended date for repayment of 10 February 2009. Even though it refers to a sum of $90,000, the later execution of the June 2009 loan contract supports the view that the money was intended to be advanced under that agreement, rather than the earlier one of 10

January 2009. When the June 2009 loan contract was signed, only Michael was a party. From a legal perspective, the evidence suggests a new arrangement was entered into in June 2009 between Mr Bolton and Michael. A loan to Michael is not

_{the same as a loan to Michael and Phillip, especially as the mortgage was over a}

¹⁷ Namely the agreement of 10 January 2009, to which reference is made in para [11] above.

property which they owned as joint trustees. To be secured by the mortgage, any June 2009 advance had to be to both of the registered proprietors who gave the mortgage over the Collingwood Street property. There is no evidence about what Michael did with the money.

[51] I find that there is no outstanding debt to Mr Bolton that is secured under the second mortgage. That means that the surplus from the first mortgagee’s sale must be being paid to the Trusts, as former registered proprietors of the Collingwood Street property.

[52] While Mr Bolton believed the advance was secured, the documentation does not support that view. The shady nature of the dealings between Michael and Mr Bolton, coupled with the informal and shoddy documentation have led to this outcome. Mr Bolton will, however, be entitled to prove for the debt in Michael’s bankruptcy, for whatever that may be worth.

Pepper’s costs

[53] To date, Pepper has deducted its solicitor and own client costs from the surplus funds. It asserts that its mortgage document permits that to be done, and also relies on r 4.64 of the High Court Rules that creates a presumption that an applicant in interpleader proceedings is entitled to indemnity costs.

[54] Pepper recognises that the quantum of any award may need to be assessed by the Court, by reference to their reasonableness. Mr Collins, on Peppers behalf, accepted that issue might require resolution after I had determined to whom the surplus should be paid. There was evidence of inefficiencies in relation to Pepper’s conduct after the mortgagee sale that may well reduce the amount of costs reasonably payable.

Result

[55] For those reasons, I make a declaration that the surplus funds held by the solicitors for Pepper shall be paid to the Trusts, as the former registered proprietors of the Collingwood Street property.

[56] I make a declaration that Pepper is entitled to have its reasonable solicitors and own client’s costs paid out of the surplus funds before distribution to the former registered proprietors. I reserve the amount. I invite Mr Collins, for Pepper, to file a memorandum, to be served on the former registered proprietors, identifying the costs that it now seeks to claim. In the absence of agreement, the parties shall apply to the Registrar to convene a telephone conference, at which I shall determine how best to resolve outstanding questions.

[57] As the Trusts and Mr Bolton were self-represented, no orders for costs are made as between those parties.

[58] I thank Mr Stephen for his valuable assistance as amicus curiae. I record that the Attorney did not seek costs.

[59] I direct the Registrar to forward a copy of this judgment to the Official

Assignee in case any of its content is relevant to the administration of Michael’s

_bankruptcy.

_{P R Heath J}

Delivered at 4.30pm on 18 February 2014