Bankers thinking the UK municipality swaps debacle of the 1980s is behind them can think again. A recent House of Lords case has managed to extract more mileage from it, and create legal history. The case, Kleinwort Benson v Lincoln County Council, has reversed a 200-year old legal principle that “ignorance of the law is no excuse”, quoted by lawyers as “ignorantia non excusat lex”. Under this principle, a party is unable to claim in his defence that he misunderstood or overlooked a statute or case. As a matter of public policy, this is rightly regarded as correct. However, what happens if the law is in flux?
This was the question raised by the Kleinwort Benson case, decided at the end of last year. The bank had made payments under interest rate swaps that subsequently turned out to be void because the counterparties – UK local authorities (ie, public municipalities) – lacked legal capacity to enter into contracts of that nature. This was the effect of Hazell v Hammersmith & Fulham which was decided in 1992.
By then, the bank had made payments to four local authorities under different swap arrangements and these payments had been regarded by all concerned as validly made. It was only subsequently that Hammersmith & Fulham London Borough Council claimed successfully that it should be excused from making payments under its swaps contracts, because these had been entered into ultra vires, ie, it was beyond its legal powers to do so.
Kleinwort Benson, having made the payments at a time when local authorities were considered to have the power to enter into swaps contracts, now wanted its money back. Everyone’s understanding of local authorities’ vires had subsequently been proved wrong. The bank argued that it should not now be prevented from recovering payments that it would not otherwise have made. At the time it had made those payments, Kleinwort Benson, like everyone else, had believed the swaps contracts to be valid and binding.
A further complication was the timing of the bank’s case. Under English law, a plaintiff is prevented from bringing a case if the facts giving rise to it are more than six years old. However, under the Limitation Act 1980, a plaintiff can bring an action within six years of the date on which it discovered or should have discovered its mistake. The bank had made the payments under the swaps more than six years previously. But if it could argue that time should only run from the date of the Hazell case – from which the new understanding of local authorities’ vires flowed – the bank’s claim would still fall within the limitation period.
This was why the bank pursued its case on the basis of mistake in law rather than a more conventional claim for moneys “had and received”, ie, improperly kept by the other party. Even so, its chances looked slim under the age-old “ignorantia non excusat lex” principle.
The bank persisted because the tide of law on this principle was moving. Certainly, it no longer applies in the case of a mistake of fact and a Law Commission report had already suggested in the early 1990s that the mistake of law rule should itself be discarded. The question was whether the House of Lords would do what the Law Commission had advised the legislature to do some time before.
In the event the Lords sided with Kleinwort, on the mistake-of-law point and also on the bank’s argument over the limitation period. All five law lords agreed that the mistake of law principle should go. But two of them believed that a payment made under a settled understanding of the law should not be recoverable – and this is the problem with the decision.
One of the dissenters, Lord Lloyd, said: “One consequence is that in all those cases where the House of Lords overruled a previous decision of the Court of Appeal it would be open to those who entered into transactions in reliance on the previous decision to seek to re-open their transactions.” His fellow dissenter, Lord Browne-Wilkinson added, in respect of the limitation point: “On every occasion when a higher court changed the law by judicial decision, all those who made payments on the basis that the old law was correct would have six years in which to bring a claim.” And, he noted, they would have that right “however long ago such payments were made” – since they couldn’t be expected to be aware of their right to claim until the new interpretation had itself been decided.
The Kleinwort Benson case report is silent on whether the local authorities in question have the money to pay the bank back. Assuming that they haven’t – 10 years after receiving it – the case, although appearing to do justice to the bank’s position, has penalized parties that received money and spent it in the belief (correct at the time) that it was theirs; the bank, meanwhile, would have made adequate provision for the payments knowing that at the time it was obliged to make them. Lord Lloyd said of Kleinwort Benson v Lincoln County Council: “This is a consequence which, in the commercial field at any rate, I view with alarm.”
The subject matter of a mistake of law can be almost anything where the terms of a contract can be said to have been misunderstood. It is very wide indeed. The majority seem to have recognized this when they envisaged that legislation would be required to reduce the limitation period during which a claim could be brought from six years after the mistake of law was made. Parties to commercial transactions face the horror of closed transactions being reopened anything up to six years after the law has been changed (not just six years after the transaction took place). Given the need for legislative intervention, the House of Lords might have been better off deciding the case in accordance with accepted law. Such an outcome would have galvanized the government into adopting the Law Commission’s proposed bill.
But the majority argued that the Law Commission’s view had been flawed since the mistake in question is not a mistake as understood in common parlance: the mistake is caused by a change in law, not by a failure to know what the law should have been. This seems unnecessary nitpicking. But if your deal looks like being unpicked by litigation, keep some of your winnings in reserve.
