Contract Fraudulent Misrepresentation

OBLIGATIONS 1: CONTRACT LAW

Do you agree with the dissenting judgment in Shogun Finance Ltd v Hudson [2003] UKHL 62; [2004] 1 AC 919?

INTRODUCTION

The House of Lords’ decision in Shogun Finance Ltd v Hudson [2003] UKHL 62 implicitly cautions against the hazards associated with exchange of title in the purchase of second-hand goods. It establishes risk is not mitigated where the contract of sale is induced by virtue of fraudulent misrepresentation. This essay dislikes the overall tone of the dissenting decision which reflects a willingness to overcome doctrines of contract law in such a way as to avoid leaving two essentially duped victims of a fraudster pitted against one another with the result that the most disadvantaged victim is left with no claim. Although the arguments submitted by the dissenting Lords raise questions of fairness and equity, this essay supports the majority decision illustrating overcoming a lack of common sense is not supported by principles of contract law.

THE LAW AND SHOGUN V HUDSON

In English law a fundamental mistake can be critical to a contract but not always, because the question always turns on whether or not there is a meeting of minds. The position is less clear when mistakes as to identity of the parties to the contract occur. Essentially, in order for a mistake to render the contract void, it must be a fundamental mistake to the extent that it is operative and functioned to induce the contract. English contract law with respect to mistake is blurred by equitable principles designed to preserve commercial bargains made in good faith.

Mistake

It is virtually impossible to distinguish the principles of fundamental mistake in the law of contract from principles of misrepresentation. For instance, when one compares the definition and consequences of fraudulent misrepresentation to Article 4(103) of the Principles of European Contract Law, 1998 it is difficult to reconcile these tenets of law with the dissenting judgments in Shogun Finance v Hudson. Article 4(103) allows for a contract to be avoided on the grounds of mistake if the mistake arose out of “information given by the other party” or that “other party knew of the mistake and that “it was contrary to good faith and fair dealing” or knew the innocent party was mistaken and the “other party knew” that had the innocent party been aware of the mistake they “would not have entered into the contract” or would have insisted on vastly different terms. Clearly, the defendant cannot argue he was mistaken since he took no steps to ascertain the title to the vehicle such as through an HPI check. If he had done so, he would have discovered that the title to the vehicle was not entirely cleared.

Applying the principles enshrined in Article 4(103) it is difficult to argue had the plaintiff known the fraudster was not in fact Mr. Patel they would have gone on to conclude the contract with the fraudster. Moreover, the exceptions provided for in Article 4(103)(2) cannot be reasonably applied to the facts of the Shogun case. Article 4(103)(2) provides that in cases of fundamental mistake a party is not at liberty to “avoid the contract if” his or her mistake “was inexcusable” or “the risk of the mistake was assumed”. However, this part of Article 4(103) cannot be read in isolation.

Misrepresentation

When read together with Article 4(103)(1) and the requirement of good faith, Article 4(103)(2) will not excuse a party who specifically deals in bad faith, particularly one who makes a fraudulent misrepresentation for the sole purpose of inducing the innocent party into parting with goods under a contract for hire purchase. So, a person who trades in used goods assumes “the risk of the mistake”. The same cannot be said of the hire purchase company, however, who runs a credit check against identification. The latter cannot be reasonably said to be assuming the risk that he is dealing with a fraudster.

Lord Millett, however, takes an approach that appears to invoke Article 4(103)(2) by adapting the position taken in Atiyah’s Introduction to the Law of Contract which argues that a person who parts with goods on the promise of a cheque submitted by a stranger assumes the risk and it is largely unfair to permit him to place “the burden” of the risk on “the innocent third party”. This argument has its merits but is inconsistent with the principles of fraudulent misrepresentation, most significant in the Shogun case. It is a firmly established principle once fraud can be substantiated, the innocent party who has been induced into a contract by virtue of such fraud is entitled to rescind the contract. The plaintiff was in fact induced by fraudulent misrepresentation to accept a cheque from the fraudster, and trusting in the credit check conducted against a false identification. For all intents and purposes the cheque was not submitted by a mere stranger, as far as the plaintiff knew, but by someone who survived a credit check.

The law of contract recognises certain exceptions to the right to rescind a contract on the grounds of misrepresentation. In the Shogun case one exception arises; circumstances in which an innocent third party acquires the property in question. This exception, however, cannot nullify the law’s intention that an injured party induced to part with property by virtue of fraudulent inducement under a contract is entitled to be placed in the position that he was in prior to the fraudulent misrepresentation. The injured party is entitled to recover all losses reasonably foreseen or not. The difficulty with the dissenting judgments is that they do not make an attempt to reconcile these diametrically opposed principles of law and focus too narrowly on the rights of the innocent third party with little, if any, regard for the rights of the injured party under the initial contract.

Identity or Attributes

The majority decision applied the ruling in Cundy v Lindsay [1878] 3 AC 459. It was held in this case when one party makes a mistake identifying the other party, rather than that party’s attributes, intending to contract with someone else altogether, and the other party is aware of this, the contract is void on the grounds of mistake. Lords Nicholls and Millett take the position that if the contract is negotiated praesentes, it is presumed that the mistaken party’s intention is to contract with the person present. In a typical case, a party claiming a mistake is operative is required to prove that:

• They intended to contract with another person;

• The party that they contracted with was aware of that intention;

• Identity was critical to the contract; and

• Reasonable steps were taken to verify the other person’s identity.

Each of these elements is substantiated to the satisfaction of the majority of Lords in the Shogun case. Moreover, as previously discussed, the law of fraudulent misrepresentation permits such a contract to be voided. The dissenting Lords hold fast to principles in contract law that protect the rights of the innocent third party and provides an exception to the right to rescind the contract generally voidable on the grounds of mistake or fraudulent misrepresentation. However, the exception does not arise when the injured party under the original contract intended to contract with another party altogether.

Hire Purchase Act, 1964 and The Written Contract

Section 27 of the Hire Purchase Act 1964 provides that when a “motor vehicle” is purchased by virtue of a “hire-purchase agreement” and before the vehicle is “vested in the debtor” he passes the vehicle to “another person” and that other person buys the vehicle in good faith and does not have notice of the hire-purchase agreement:

“…that disposition will have effect as if the creditor’s title to the vehicle has been vested in the debtor immediately before that disposition”.

In recognising there are two innocent injured parties in the Shogun case, Lord Nicholls argues Section 27 of the Hire Purchase Act 1964 provides protection for the injured third party who purchases a vehicle such as in this case. Lord Nicholls argues in attempting to discern whether or not the contract for the hire-purchase agreement was dependent upon whether or not the mistake was as to identity or attributes, leads to an injustice. He adds it makes little sense to hinge the innocent third party’s rights on the “precise” methods used by the fraudster to induce the contract for hire purchase.

Whilst this argument has merit it still does not withstand the common law position that pays high regard to a contract in writing and the meeting of minds. The courts have taken the position that the written contract provides the best evidence of the parties’ intention. In applying this tenet, the majority decision maintains the plaintiff had only intended to contract with Mr. Patel and not the fraudster. In applying these principles, Section 29(4) of the Hire Purchase Act proves relevant to the facts of Shogun.

Lord Hobhouse puts forward under Section 29(4) the debtor is the person to whom the car “has been bailed” under the hire-purchase agreement. Lord Hobhouse goes on to state that the relevant question for the court is the construction and application of Section 29(4) of the Hire Purchase Act 1964 “to the facts of this case”. The question essentially becomes whether or not the fraudster was a debtor under the hire-purchase agreement. By taking this approach, the majority Lords reach the conclusion the fraudster is not a debtor within the meaning of the Hire Purchase Act, 1964. The name of the debtor is contained in the hire purchase agreement and that is the person with whom the plaintiff intended to contract with. As such, title to the vehicle never left the plaintiff since the vehicle was sold to Mr. Patel. The only way in which Section 27 could have provided relief for the defendant, as an innocent third party, is if the purchase had been concluded with Mr. Patel.

The difficulty for the law Lords in the Shogun case is drawing a distinction between what constitutes the credit worthiness of the actual purchaser and what constitutes the actual details of the fraudster. The Shogun case does not just involve a mistake as to credit worthiness; and therein lays the difference. In King’s Norton Metal Co. Ltd. v Eldridge and Co. Ltd. (1897) 14 TLR 98 it was held that a mistake as to credit worthiness would not rise to such a level as to render a contract void. In the Shogun case it has gone beyond that. The credit check related to the person named in the contract rather than the person falsely holding himself out to be the party with whom the plaintiff intended to contract with.

CONCLUSION

The position taken by the dissenting judges in Shogun Finance v Hudson is far too protective of the injured third party who assumes the risk of purchasing a second-hand car when he or she could have easily purchased the vehicle from a reputable authorised dealer. Moreover, the decision takes a position that ignores the fundamental principle of contract law with respect to the dynamics of the written contract which unmistakably identifies the intentions of the actual parties to the contract. The plaintiff contracted with Mr. Patel and only Mr. Patel was capable of passing title to Mr. Hudson. While recognising and upholding the original contract leaves both Mr. Hudson and Shogun Finance Ltd with no remedy against Mr. Patel, the risk taken by the defendant was far less reasonable than the risk taken by the plaintiff. He took the risk of purchasing from a virtual stranger with whom he had no real grounds to trust. The finance company, on the other hand, took a reasonable risk within the limits of fair commercial practice. In determining which party assumed the greater loss, it is only fair to weigh-up the conduct of the parties and the extent to which such conduct could be excused.

REFERENCE LIST

1. Chandler, A., Devenney, J. and Poole, J. (2004). “Mistake as to Identity and the Threads of Objectivity.” Journal of Obligations and Remedies Vol. 3 No. 1, pp. 7-22
2. Furmstan, M.P., Cheshire, G.C. and Fifoot, C.H.S. (2001). Furmstan, Cheshire and Fifoot’s Law of Contract. UK: LexisNexis, pp. 257-263
3. Phang, A., Lee, P. And Koh, P. (2004). “Mistaken Identity in the House of Lords.” 63 Cambridge Law Journal 24
4. Smith, S. (2006). Atiyah’s Introduction to Contract Law. Oxford: Oxford University Press, pp. 84-86
5. Treitel, G.H. (2003). Treitel on the Law of Contracts. London: Sweet and Maxwell, pp. 310-326

TABLE OF STATUTES CITED

1. Principles of European Contract Law, 1998
2. Hire Purchase Act 1964

TABLE OF CASES CITED

1. Car and Universal Finance Co. Lts. V Caldwell [1961] 1 QB 525
2. Cundy v Lindsay [1878] 3 AC 459
3. Doyle v Olby (Ironmongers) Ltd. [1969] 2 QB 158
4. King’s Norton Metal Co. Ltd. v Eldridge and Co. Ltd. [1897] 14 TLR 98
5. Lake v Simmons [1927] AC 487
6. Lewis v Avery [1971] 3 All ER 907
7. Phillips v Brooks [1919] 2 KB 243
8. Shogun Finance Ltd v Hudson [2003] UKHL 62; [2004] 1 AC 919
9. Wales v Wadham [1977] 1 WLR 199