December Causation clear for IFAs? Rubenstein v HSBC [2012] EWCA Civ 1184

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1 December 2012 Causation clear for IFAs? Rubenstein v HSBC [2012] EWCA Civ 1184 After speaking to an independent financial adviser (IFA) in the HSBC Mr Rubenstein had placed 1.25million into an AIG Enhanced Variable Rate Fund (EVR Fund) in 2005, which failed in 2008 largely because of the US sub-prime crisis. The adviser believed he was only providing factual information about the EVR Fund during that consultation; Mr Rubenstein believed he was receiving advice not just information but also the adviser s opinion about the EVR Fund s suitability for Mr Rubenstein. On 12 September 2012 the Court of Appeal (CA) overturned a significant element of the first instance decision that Mr Rubenstein s loss was caused not by the bank s wrong advice, but by the collapse of Lehman Brothers and the resulting run on AIG matters the trial judge ruled had not been reasonably foreseeable in The CA found instead that the loss was caused by the bank s failure; where a loss results from the specific risk from which an adviser was under a duty to protect an investor (namely adverse market movements affecting securities), that loss was not unforeseeable. The facts In September 2005, Mr Rubenstein, a solicitor, wanted to place 1.25million in an account with minimal risk to capital but with a higher return than was available in a usual deposit account. The HSBC adviser told him about AIG s EVR Fund. Mr Rubenstein made clear that he could not afford to accept any risk to the principal amount, and the adviser said the EVR Fund was the same as cash deposited in an account. After hearing that, Mr Rubenstein placed the entire 1.25million in the EVR Fund. Following the Lehman collapse in 2008 Mr Rubenstein lost some 180,000. He claimed redress from HSBC calculated as if the adviser had been giving him regulated advice. The decision of the High Court The trial judge s decision was that the adviser had indeed given advice despite the bank s protestation that it had only given information/completed this transaction as execution-only. He also ruled that that advice was negligent as the EVR Fund was not the same as cash on deposit, but was in fact exposed to market forces. However, the court accepted HSBC s argument that in 2005 the prospect of a run on AIG (which happened in late 2008) was so remote that no financial adviser would have been required to point it out as posing a risk to capital. The judge concluded that the loss was not caused by the IFA s negligence. The loss was not reasonably foreseeable by HSBC and was too remote to be recoverable as damages for breach of contract or in tort. 1

2 The Court of Appeal disagrees In the leading judgment, Rix LJ found that the trial judge confused the risk of default by AIG with the risk arising from general market collapse/illiquidity. He found that the loss was not caused by the run on AIG but by the collapse in the market for the securities in which the EVR Fund was invested (which was foreseeable, and provided for in the product s literature). It was: the bank s duty to protect Mr Rubenstein from exposure to market forces It is wrong in such a context to say that when the risk from exposure to market forces arises, the bank is free of responsibility because the incidence of market loss was unexpected. The CA held that, where a bank is under a duty not to put a retail customer in an investment exposed to market forces, and where loss occurred due to such forces, the loss is not too remote however unforeseeable that might have been at the time of the advice. Rix LJ did not agree with the High Court s reliance that the fund would have been perceived as without risk in 2005, commenting that nearly all the greatest losses come out of a cloudless sky. Comment The CA overturning the causation aspect of the first instance decision was not unexpected many commentators regarded it as perverse that advisers could be negligent in this way (exposing no-risk investors to market forces) but escape having to pay any compensation. In the short window between the first instance decision and the CA s decision, lawyers for defendant banks and IFAs may have been able to argue Rubenstein was authority for the general proposition that entirely unexpected catastrophic events affecting investments should not be for them to compensate. Although that window is now closed for claims like Mr Rubenstein s (an individual whose money should not have been exposed to markets at all) it may still be open to argument, in BLM s view, in a case where the investor was indeed happy to take some investment risk, when the true extent of that risk was only revealed by some unforeseeable event. It will be interesting to see how this plays out in the forthcoming Keydata litigation. Leonie Salter Who has authority, within a limited company, to instruct solicitors? Newcastle International Airport Ltd v Eversheds LLP [2012] EWHC 2648 (Ch) 2/10/2012 The judge emphasised that it is of critical commercial importance that solicitors should be entitled to rely on apparently authorised agents of the company. The decision is helpful to solicitors (and other persons or parties dealing with a company) in emphasising that, where someone has been authorised to represent the company in a particular capacity, there is no general requirement to look behind that authority. The facts Eversheds solicitors had drafted revised service contracts for the two executive directors of the claimant company, Newcastle International Airport Ltd (NIAL). It received instructions from the CEO of NIAL, who was one of the two executive directors. Under the terms of those contracts the executive directors (including the CEO) subsequently received multi-million pound bonuses. The size of these bonuses came as a shock to the majority shareholders of NIAL. NIAL sued Eversheds on the basis that it ought not to have accepted instructions from the CEO because of an evident conflict of interest, and should instead have dealt directly with the chair of NIAL's Remuneration Committee. 2

3 However, the chair had authorised the CEO to instruct Eversheds, and Eversheds' evidence that it was not unusual for executive directors to give solicitors instructions on such issues was not challenged. The decision The judge had no difficulty in finding that the CEO had apparent authority to instruct Eversheds. Such authority could not be displaced unless it were irrational or unreasonable for Eversheds to rely upon it, which was not the case. Responsibility for the losses lay with the non-executive directors in failing to perform their duties. Given that (amongst other matters) the chair had been sent a draft of the proposed contracts for approval, and that she had shown little inclination to read any documents of a legal nature which were sent to her, the judge found that the claim would have failed in any event on grounds of causation and/of a break in the chain of causation. The claim was dismissed. Comment The judge attributed the failings which led to the claim to the non-executive directors, rather than the defendant solicitors. Nevertheless, the very fact that the claim proceeded to trial emphasises the need for clear communications between solicitors and their corporate clients as to their respective roles, as well as proper communication within the corporate structure. The contracts of the non-executive directors (as is not uncommonly the case) excluded liability for any acts carried out in office, and in the circumstances any potential claimant is likely to look more closely at those with deep pockets. The terms of the judgment also highlight the danger of non-lawyers failing to read contracts or other legal documents which they are sent for review on the basis that these are legalese when in fact anyone who read them carefully should have been in no doubt as to their meaning and likely effect. It has been reported that NIAL are considering an appeal. Andrew Plunkett Beware the Jackson litigation minefield Over the last few years there has been an increase in claims and complaints concerning costs advice, particularly around Conditional Fee Agreements (CFAs). From April 2013, litigation funding arrangements are going to change again, leaving litigation solicitors facing a funding minefield. Abolition of CFA uplift and ATE insurance premium recovery Success fees in CFAs and the premiums for After the Event (ATE) legal costs insurance will no longer be recoverable from the losing party. Instead, from 1 April 2013, successful parties will have to pay their own success fee, capped at 25%, and bear their own ATE premium. s will have to be careful when setting the success fee to avoid claims arising. Damages Based Agreements (DBAs) DBAs will be introduced, permitting solicitors to take a proportion of damages as fees (between 25% to 50% depending on the type of case, and no cap on appeal). BLM anticipates teething problems once the reforms come into effect and solicitors start to operate DBAs, reducing the damages which clients will recover. 3

4 10% increase in general damages In Simmons v Castle the Court of Appeal (CA) issued guidelines for a general increase in damages of 10% for cases where judgment is given after 1 April On 10 October 2012, the CA modified its decision: the 10% uplift will apply to claims for pain and suffering, loss of amenity, physical inconvenience and discomfort, social discredit, mental distress or loss of society of relatives a description which could well include professional negligence claims. To avoid complaints from aggrieved clients, solicitors need to factor in the 10% increase when advising clients to settle, including the effect of any offers under Part 36 of the Civil Procedure Rules (CPR). Qualified One Way Costs Shifting (QOCS) s will also have to consider the effect of QOCS in personal injury claims. Whilst claimants who lose will not have to contribute towards defendants costs as long as they behave appropriately (there is to be no minimum payment by a losing claimant) QOCS protection can be lost in certain circumstances, such as where the case had no merit. The principles set out in CPR Part 36 (offers to settle) would override QOCS protection, but only up to the level of damages recovered. There is a risk that if a Part 36 offer is not beaten by the claimant, the blame for the loss of perhaps all of the claimant's damages will be made against the solicitor who advised the client not to accept the offer. Increased sanctions under CPR Part 36 If the position regarding QOCS were not complicated enough, the sanctions under CPR Part 36 are themselves being reformed to encourage early settlement. There is to be an additional penalty to be paid by a defendant who does not accept a claimant s offer to settle where the court gives judgment for the claimant that is at least as advantageous as an offer the claimant made to settle the claim. This additional sanction is to be calculated as 10% of damages or 10% of costs for non-damages claims. The sanction is to be subject to a tapering system for claims over 500,000 but the maximum sanction is still likely to be as high as 75,000. This presents a risk again for solicitors advising on offers. Claims avoidance There is still considerable uncertainty as to how the reforms will be implemented and the consequences. Some issues may be ironed out by the Rules Committee. It all means litigation solicitors should tread very carefully when advising on new forms of funding available from April Peter Causton Wasted costs against solicitors Lessons from Tinseltime v (1) Eryl Roberts (2) M & JT Davies (3) Denbigshire County Council (4) Welsh Assembly Government and Gavin Edmondson [2012] EWHC 2628 (TCC). The judgment of HHJ Davies provides a useful review of case law on wasted costs, and restates the test to be applied in deciding whether to make a wasted costs order against a non-party solicitor. Facts The claimant manufactured tinsel. Production was interrupted when workmen employed by the first defendant caused dust to get into machinery. A claim was pursued on behalf of the claimant by the law firm Gavin Edmondson under a CFA. A preliminary issue trial took place to consider whether the correct claimant was brining the claim following an assignment of rights between the claimant and another company. 4

5 It was held by HHJ Davies that the claimant did not have a cause of action against the third and fourth defendants. The result was to bring the claims against the third and fourth defendants to an end and strike out the most substantial of the financial claims advanced by Tinseltime. Tinseltime was ordered to pay the costs of all the defendants before the remaining, more modest, claims could be pursued. The costs were in the region of 240,000; they were never paid and Tinseltime had no money or assets for the defendants to attack. The defendants all brought an application for wasted costs and/or a non-party costs order against Gavin Edmondson. It was argued that the solicitor should have advised the claimant that he was unlikely to be successful which would have prevented the claim from being made and the defendants incurring all the costs. In addition, it was said that as Gavin Edmondson was operating under a CFA and had funded over 20,000 of disbursements, it ought to be considered as a non-party funder and be responsible for the adverse costs. Judge s findings HHJ Davies declined to make Gavin Edmondson responsible for any of the defendants costs: Wasted costs Sections 51(5) and (6) of the Senior Courts Act 1981 states that a court has a discretion to make a wasted costs order if it is established that a legal representative has been guilty of improper, unreasonable or negligent acts or omissions resulting in wasted costs. The judge did not accept that Gavin Edmondson had acted in this manner and refused to allow that application to proceed any further. Non-party costs The judge, after analysing the case law, stated the test to be: 1 In all the circumstances it is just to make a non-party costs order; this is a fact-specific enquiry. 2 A solicitor must be shown to have acted beyond or outside his role as a solicitor conducting litigation. The judge held that just because a solicitor acts under a CFA and therefore stands to benefit financially from the success of the litigation does not of mean that he has acted beyond or outside his role as a solicitor and should not, therefore, be considered as a non-party funder and responsible for the adverse costs. Lessons for practitioners The case emphasis the fact that non-party costs and wasted costs orders against solicitors will rarely be awarded. Also, any claim ought to be proportionate compared to the additional time and costs that will be incurred in bringing it, and be capable of being dealt with at a hearing in hours and not days. In addition, the procedure should not be used to bring a claim in negligence via the back door which will necessitate a forensic examination of all the work undertaken. Practitioners and their insurers can take comfort from the decision that just because a case does not go their way, they will be left to pick up the adverse costs. Ben Parks Partner Who would challenge an FOS decision? In recent months the courts have furthered the perception that a successful challenge to a decision by the Financial Ombudsman Service (FOS) will be a rarity. In R (Green) v The Financial Ombudsman Service Limited [2012] EWHC 1253 a complaint arose from a financial advisor s recommendation in relation to pension drawdown arrangements. Mr Justice Collins 5

6 agreed with the FOS that the advisor had misled his clients as to the risks associated with the scheme but inferred that he did not agree with the FOS s decision that, if properly advised, the clients would not have entered into the scheme. Nevertheless, he emphasised that whether or not I would have been persuaded that causation had been established is not the relevant test and that he could only quash the decision if the FOS could not reasonably have arrived at the conclusion it did, based on the facts. The FOS s decision on causation was not irrational and the review was dismissed. Mr Justice Collins referred to the inevitable difficulties in establishing that a decision is irrational when the FOS has been given a wide discretion because the court must respect the expertise and the powers expressly conferred by Parliament. Those powers are wide. The FOS was established pursuant to the Financial Services and Markets Act 2000, section 225(1) of which states: This part provides for a scheme under which certain disputes may be resolved quickly and with minimum formality by an independent person. In dealing with complaints the FOS is required, by virtue of section 228(2), to determine them by reference to what is, in the opinion of the ombudsman, fair and reasonable in all the circumstances of the case. In doing so, it will take into account relevant law and regulations but is not bound by them. It therefore has a wide discretion, but one which must be exercised reasonably. The fact that the FOS is not bound to follow relevant law saw an appeal to the European Court of Human Rights in Heather Moor & Edgecomb Ltd v UK 1550/09 [2011] ECtHR The ECtHR upheld the Court of Appeal s decision that the European Convention on Human Rights was not offended. It also held that the lack of an oral hearing did not render the FOS s procedure unlawful. Challengers of the FOS s decisions face an uphill struggle. The mechanism for challenge is judicial review but in most cases the challenger will need to establish that the FOS s decision was irrational such that no reasonable person acting reasonably could have made it a difficult test, particularly if the courts are reluctant to interfere too readily. The FOS was designed to resolve complaints quickly and with minimum formality, and its wide discretion is necessary to achieve this. As a result, the FOS s outcomes are unpredictable and the uncertainty can cause concern to businesses. An advisor who complies with all relevant laws, regulations and codes of practices is not, in theory, immune to complaints being upheld against him. Unfortunately for firms, the wide discretion afforded to the FOS leaves them with very little guidance as to how the FOS will determine a complaint, and very little recourse if they disagree with the decision. Jennifer Bebbington Who compensates for bad investment advice? Emptage v Financial Services Compensation Scheme Ltd The Financial Services Compensation Scheme (FSCS) has been found to have under-valued a compensation claim for poor investment advice in a ruling that could potentially have wider ramifications. Background The claimant was advised by an independent financial adviser (IFA) to switch the 40,000 repayment mortgage she had on her home (in the UK) to an interest-only 110,000 mortgage. She could then invest the 70,000 proceeds into a property in Spain; this investment would generate sufficient return to pay off the increased mortgage on the UK home. 6

7 The claim Unfortunately, because of the Spanish property collapse, the value of the claimant s property plummeted meaning she could not pay off the 110,000 mortgage. She brought a claim against the IFA but recovery was not possible as it was insolvent and did not have valid professional indemnity cover. The FSCS stepped in. It upheld the complaint, and awarded approximately 12,000 in compensation. The FSCS reasoned that it could only award compensation in relation to direct loss from the mortgage advice and not in relation to the advice to invest in the Spanish property; that advice was unregulated. Judicial review The claimant pursued a judicial review of the decision of the FSCS. The High Court held that the FSCS had arrived at the wrong conclusion in awarding such low compensation and had misdirected itself. The FSCS was under a duty to provide fair compensation for loss caused by the particular breach and the losses flowing from it. The negligent advice should have been taken to be the full package of advice received; it was inappropriate to divide the losses into protected and unprotected elements. The High Court decided that the right solution would be to restore the claimant to the position she would have been in but for the negligent advice. The 12,000 award clearly did not come close to the position that she would have been in had she continued with her repayment mortgage. The FSCS has therefore been ordered to reconsider the amount awarded. Implications Whilst the FSCS has been given leave to appeal the decision, if it stands, the case may have implications for similar cases. The way in which compensation is assessed for poor advice and the commensurate effect on the FSCS s industry levy could be significant. Victoria Clarke Editors Chris Fitton chris.fitton@blm-law.com Berrymans Lace Mawer LLP 2012 Disclaimer This document does not present a complete or comprehensive statement of the law, nor does it constitute legal advice. It is intended only to highlight issues that may be of interest to clients of Berrymans Lace Mawer. Specialist legal advice should always be sought in any particular case. Information is correct at the time of release. 7