[1996] A.C. 669, [1996] 2 All E.R. 961
House of Lords (3-2)
(main majority speech Lord Browne-Wilkinson; main minority speech
Lord Goff)
Summary , importance of the case, background to the case, facts, decision
Bank's argument, authorities relied on by bank
Majority view, Lord Goff's dissent
Applications of Westdeutsche, Conclusions
See also (on same level) Sinclair v. Brougham, Creation of trusts , Resulting trusts (generally)
Times report (tested 21 Apr 98): http://www.the-times.co.uk/news/pages/tim/96/05/30/timlawlaw01001.html?1023673
The main point of this case is the firm statement that trusts depend on the conscience of the recipient (or legal owner) being affected. Automatic resulting trust arguments were rejected, as was the notion that a voluntary transferor of legal title is presumed to retain equitable title in the absence of positive evidence that he/she intends to transfer it.
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See also Sinclair v. Brougham.
This page was last updated on 23 Sep 99.
The case is authority for the following propositions:
1. The basis of all trusts is conscience.
2. The notion of equitable title has no meaning unless there is a separation of legal and equitable titles. Where one person is absolutely entitled to the property, equitable rights are encompassed within the legal title. It follows that where a resulting trust is set up, it is not correct to see the settlor as starting with legal and equitable title, parting with legal title and retaining equitable title. The equitable title is instead created on the transfer of legal title, because the conscience of the recipient is affected.
3. It is possible to have a separation of legal and equitable titles without there being a trust. The most important circumstance is where an innocent volunteer takes trust property. The volunteer takes subject to the trust, but is not a trustee. By contrast, a knowing receiver is a trustee, because equity imposes on his or her conscience.
4. An initial fiduciary relationship is required to trace in equity (at any rate Re Diplock [1948] Ch 465 was approved, from which I suggest this conclusion can be deduced).
5. The two categories of resulting trust set out in section 2.4 are exhaustive. These are narrower than the older Vandervell categories. The categorisation of resulting trusts probably does not form part of the ratio of the case, however, and in any case, the conscience requirement is overriding, so that there will be no resulting trust unless the person with legal title is aware of the circumstances giving rise to the trust.
6. The common law has no power to award compound interest, and it is awarded in equity only where a fiduciary relationship is established.
Westdeutsche is most definitely not a case where the court strove to bend the law to reach a fair conclusion, very much in contrast to the earlier House of Lords decision in Sinclair v Brougham [1914] AC 398. There is really little doubt that all the justice in the case was on the side of the bank, but the local authority won its appeal to the House of Lords, the main difference between the majority and minority views being the extent to which equitable jurisdiction was sufficiently flexible to do justice. Moreover, Sinclair v Brougham, where a flexible view of equitable jurisdiction had been adopted, was overruled, Lord Browne-Wilkinson taking a view of the case which would have led to very unjust results.
Top of case, Up one level to table of cases, Up one level to trusts page , creation of trusts (same level)
See also Sinclair v. Brougham.
This page was last updated on 03 May 98.
In 1983 the sitting Conservative Government was returned to power with a majority that until very recently looked very large. The Conservative Government was committed to reducing all forms of public expenditure, but the Conservative Party was less successful at local level, and many local authorities remained Labour-controlled. Some of these local authorities were less concerned with reducing public expenditure, regarding the provision of public services as of higher importance.
When central government reduced grants to local authorities, local authorities were forced to increase rates if they wished to maintain their levels of expenditure. Central government responded by rate-capping local authorities, to force them to reduce public expenditure. Local authorities then attempted to borrow money, and central government responded by prohibiting most conventional forms of borrowing by local authorities. By 1987, however, it appeared that swap agreements (which had appeared in international finance in about 1981) could be used effectively to enable local authorities to borrow money without attracting the statutory controls. Such an agreement was at the centre of the Westdeutsche case.
A detailed analysis of swap agreements is beyond the scope of this book, but the general principles are relatively easy to explain. In the following example, the figures used are very similar to those in Westdeutsche itself, so in explaining the principle we are in effect explaining how the swap agreement in the case could be used to enable the local authority to borrow money, in the (mistaken) belief that it was not within the statutory prohibition.
There are two parties to a swap agreement, a fixed rate and a floating rate payer, and the agreement is centred on a notional capital sum. Suppose, for example, the fixed rate payer agrees to pay to the floating rate payer 9.5 per cent per annum on a notional capital sum of £25 million, while the floating rate payer agrees to pay to the fixed rate payer the current market rate on the same notional sum. The current market rate may be determined as (for example) the London Interbank Offered Rate, or LIBOR. Obviously, an agreement of this type is only likely to be sensible if the current market rate is about 9.5 per cent. Clearly however, if the LIBOR rate rises above 9.5 per cent, the floating rate payer will pay more to the fixed rate payer than vice versa, whereas the reverse will be the case if the LIBOR rate falls below the fixed rate of (in this example) 9.5 per cent. Obviously, only the net gains to each party are paid in practice.
Swap agreements are thus essentially a means of gambling on interest rates, but they can also be used for conventional commercial purposes. For example, in Hazell v Hammersmith and Fulham London BC [1992] 2 AC 1 (on which see further below), a local authority which had borrowed money at fixed interest rates entered into swap agreements in the belief that interest rates would fall, thereby effectively giving itself the benefit of a floating rate loan. Swap agreements may also be used to guard against exchange rate fluctuations, and can be useful, for example, where a British trader has to borrow US dollars, and wishes to guard against the effect of large exchange rate and interest fluctuations.
Swap agreements can also be adapted, and used to borrow money. Suppose, for example, the above example is varied, and the fixed rate payer agrees to pay only 7.5 per cent. If the market rate is around 9.5 per cent, then unless there are very sharp market fluctuations, the floating rate payer will always be paying out to the fixed rate payer. This does not seem sensible on the face of it, but if the fixed rate payer agrees also to advance to the floating rate payer a capital sum, say of £2.5 million, the "loan" can effectively be repaid by payments under the swap agreement. This is exactly the type of arrangement that was used in Westdeutsche, the swap agreement being for ten years’ duration.
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See also Sinclair v. Brougham.
This page was last updated on 03 May 98.
The case arose from a swap agreement between a bank and a local authority. In a quest to raise money to avoid the effects of rate-capping, Islington Borough Council entered into a swap agreement, whose purpose was to advance money to the local authority in such a way as not to attract legislative controls, with Westdeutsche Landesbank Girozentrale (a bank). Islington were the floating rate payer and Westdeutsche the fixed rate payer on a notional capital sum of £25 million, and as in the above example, Westdeutsche advanced £2.5 million to Islington in return for a reduction in the fixed rate payment (the rate was fixed at 7.5 per cent, when market rates were approximately 9.5 per cent).
The effect of the £2.5 million advance was to allow Islington to obtain an up front payment uninhibited (or so it was thought) by the relevant statutory controls. The reduction (compared with normal market rates) in the fixed interest rate ensured that the local authority, as floating rate payer, at market rates, would always be paying the bank net under the swap agreement, after the initial advance. This was effectively how the loan and interest were to be repaid.
After the initial advance was made to the local authority, the local authority mixed the money with its own in a bank account which became overdrawn soon afterwards. The effect of paying the money into a mixed account was that the bank necessarily could no longer assert legal title to the money, since as we saw in section 19.3, the common law will not trace into mixed bank accounts. When the account became overdrawn, it was no longer possible to identify, even in equity, any of the money which had been paid into it.
Both parties entered into the swap agreement on the basis that it constituted an enforceable contract, but in Hazell v Hammersmith and Fulham London BC [1990] 2 QB 697 the Divisional Court (whose decision was eventually upheld in the House of Lords: [1992] 2 AC 1) held such agreements to be ultra vires. The effect of that decision was to render the agreement between Westdeutsche and Islington void ab initio. By the time of this decision, about half the capital sum had been repaid under the swap agreement, by the local authority, but about half remained outstanding. The bank claimed back the remainder of its advance on the basis that there had been a total failure of consideration. The council resisted even this claim in the lower courts, partly on the basis of Sinclair v Brougham [1914] AC 398, and partly on the grounds that here there was no consideration, because the contract was void, rather than a failure of consideration. This argument did not succeed in the lower courts, and the local authority abandoned it on the appeal to the House of Lords.
The bank also claimed compound interest on the outstanding sum, and succeeded both at first instance and in the Court of Appeal (both reported at [1994] 4 All ER 890). The simple interest part of the claim raised no particular difficulties once the money had and received claim had been conceded, and in the House of Lords, the local authority accepted that they came under an obligation to repay Westdeutsche not only the capital sum advanced, but also simple interest (simple interest being provided for in limited circumstances by statute). However, they appealed against the bank’s claim for compound interest, on the grounds that there is no power to award compound interest at common law, that the equitable jurisdiction to do so is confined to fiduciary relationships, and that there was no fiduciary relationship here. It may seem rather trivial to appeal to the House of Lords on the difference between simple and compound interest, but over a period of several years on quite a large sum, the difference could be quite considerable.
The bank claimed that they were entitled to compound interest whether or not there was the local authority held the money in a fiduciary capacity, but also claimed that the local authority as resulting trustee, and hence as fiduciary for them.
It is material (as will become apparent in the ensuing discussion) that the swap agreement was declared void in Hazell v Hammersmith only after the account into which the advance had been paid had become overdrawn.
Top of case, Up one level to table of cases, Up one level to trusts page , creation of trusts (same level)
See also Sinclair v. Brougham.
This page was last updated on 03 May 98.
The House of Lords held, by a 3-2 majority, that the bank was not entitled to compound interest. The majority view was that the equitable jurisdiction to award compound interest depended on the existence of a trust or other fiduciary relationship. Lord Browne-Wilkinson cited Wallersteiner v. Moir No. 2, and La Pintada. He also observed that though the legislature had twice made provision for interest, it had made no provision for compound interest, which therefore depended on equitable jurisdiction. In equity compound interest can be awarded where there is a breach of fiduciary duty, because it is assumed that the fiduciary will have made compound interest on any profits made, but this equitable jurisdiction does not extend beyond fiduciaries. Therefore the bank had to argue the existence of a trust or other fiduciary relationship, and none could be found in the case.
This was the essential difference between the majority and minority opinions. The minority view was that compound interest could be awarded anyway, even in the absence of a trust or other fiduciary relationship. All their Lordships were agreed, however, that there was no fiduciary relationship in the case.
Top of case, Up one level to table of cases, Up one level to trusts page , creation of trusts (same level)
See also Sinclair v. Brougham.
This page was last updated on 07 May 98.
Mail Paul Todd: toddpn2@cf.ac.uk