Mistakes will happen: English Court of Appeal clarifies the test for rectification for common mistake

The Court of Appeal has handed down judgment in the case of FSHC Group Holdings Ltd v GLAS Trust Corporation Ltd1, which concerned whether or not two deeds should be rectified on the basis that they did not reflect the parties’ common intention.

Background to the appeal

The background to this claim concerned a complex corporate transaction which took place in 2012, pursuant to which FSHC Group Holdings Ltd (“FSHC“) had agreed to provide security as part of the transaction.

However, in 2016 it became apparent during a review of the security documentation that an assignment of the benefit of a shareholder loan (being the security which should have been in place) had not been executed. In order to correct the omission, FSHC entered into deeds (the “Deeds“) to accede to two pre-existing security agreements, although it later became apparent that these agreements went further than the provision of security and imposed additional and onerous obligations on FSHC.

FSHC issued a Part 8 claim seeking rectification of the Deeds. Although GLAS Trust Corporation Ltd was not the original security agent (and therefore was not a party to the original claim), it was subsequently added to the litigation following its appointment as security agent earlier this year.

First instance decision

At first instance, the late Mr Justice Carr made the factual finding that when the Deeds were executed, it was both parties’ subjective understanding and intention only to provide the previously omitted security and that the parties had not intended to impose any additional obligations on FSHC. The judge also held that an objective observer would have reached the same view based on the background facts and communications between the parties. Consequently, the judge found in favour of FSHC.

This decision was appealed by the defendant (the “Security Agent“) on the basis that, whilst not challenging the judge’s factual findings, the test for rectification was purely objective and, on that basis, an objective observer would have concluded that the parties had intended the additional obligations to be binding on FSHC.

Court of Appeal’s decision

At the outset of the Court of Appeal’s judgment, it was noted that there was “uncertainty and dissatisfaction”surrounding the law around rectification for common mistake – particularly following obiter comments previously made by Lord Hoffman in relation to this issue in Chartbrook Ltd v Persimmon Homes Ltd2 in which he expressed the view that the test was wholly objective and the parties’ actual subjective intentions were irrelevant.

Consequently, the central issue to be decided by the Court of Appeal was whether the legal test for common intention is subjective or (as the Security Agent contended) objective.

In its judgment, the Court of Appeal undertook a detailed examination of the case law, noting that the “jurisdiction of the Court of Chancery to correct mistakes in written instruments by rectification can be traced back to its roots in canon and Roman law”. The Court also considered issues of public policy and injustice before reaching its conclusion.

Ultimately the Court of Appeal concluded that Lord Hoffman’s remarks in Chartbrook did not accurately state the law and that, in order to establish a claim for rectification, a party must prove that the document failed to give effect to either:

  1. a prior concluded contract, in which case the terms of the prior contract must be objectively determined; or
  2. a common intention shared by (and communicated between) the parties, such that it can be shown that as a result of the communication between them, the parties understood each other to share the common intention.

In reaching this decision, the Court of Appeal also explained that the doctrine is derived from an equitable principle of good faith such that a party will not be allowed to enforce the terms of a written contract when that would be against conscience because it was inconsistent with the parties’ mutual intentions at the time of contracting.

In light of the Court of Appeal’s findings on the law and on the basis that the first instance findings on the facts were not challenged on appeal, the appeal had to fail.

Comment

This judgment serves as a helpful clarification of the law around rectification for common mistake in the context of there being a significant amount of conflicting case law in relation to this area. Subject to the decision being appealed to the Supreme Court, there are now clearly defined tests which are to be applied by the courts when considering this issue.

However, it should be noted that this clarification of the law does not mean that rectification will now be easier to obtain. In fact, the opposite is true on the basis that in the absence of a prior concluded contract, a claimant will need to establish not only that it had a particular intention but that the defendant shared that intention and that the parties understood each other to share that intention. Given the evidential difficulties involved in establishing a common mistake, a claimant may want to have regard for the following practical steps in the context of future transactions:

  • ensure (where possible) that any discussions (both internally and externally with the opposing side) about the purpose of important clauses are contemporaneously recorded in writing;
  • have in place and maintain good processes in relation to document “version control” so it is easier to see how clauses developed and evolved over the course of the negotiation;
  • after the transaction is completed, give careful consideration to document retention and avoid destroying any documents which may contain unique or personal notes (to the extent they may be material), which may be evidence of a party’s subjective intention.

Finally, this decision serves as a useful reminder that parties entering into contracts should pay careful attention to the wording of the document (and any other documents to which the contract refers) to ensure that the express rights and obligations set out in the contract accord with their understanding of the agreement more generally.

Ian McDonaldJonathan Cohen and Miles Robinson, Mayer Brown

This article was first published on  August 16 on lexology.com

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