Commonly, a mortgagor may wish to pay out or "redeem" a mortgage before all liabilities have crystallised, or in circumstances where the payout figure is disputed. In some cases, the mortgagor may wish to pay the sum under protest and signify an intention to later sue the mortgagee. The risk for the mortgagee is that if it discharges the mortgage prior to the crystallisation of liabilities under the mortgage, or any proceedings instituted by the mortgagor, the mortgagee does not have any security to cover its costs.

It is a well-established principle that where a mortgagee is entitled to security for its costs under the mortgage document, and anticipates account proceedings from the mortgagor, the mortgagee is entitled to require security for its legal costs prior to discharge (Project Research Pty Ltd v Permanent Trustee of Australia Ltd (1990) 5 BPR 11, 225; Overton Investments Pty Ltd v Cuzeno RVM Pty Ltd [2003] NSWCA 27). The court in Korda & Anor v Silkchime Pty Ltd [2010] WASC 155 confirmed that an entitlement to secure costs was not limited to circumstances where the mortgagor wished to redeem their mortgage but extended to other mortgagor proceedings claiming damages.

Further, it is not necessary for the mortgagor to have actually commenced proceedings for the mortgagee to require security as a condition for the discharge of mortgage, as confirmed in Australia and New Zealand Banking Group v Mishra [2012] NSWSC 1333. In that case the Supreme Court of New South Wales considered that serious threats to file a cross-claim by the borrowers against ANZ were sufficient in the latter's justification to require security prior to the mortgage being discharged.

The form the security will often take is for the mortgagor to pay the amount of the contingent liability or a reasonable estimate of the contingent liability into court (Overton Investments Pty Ltd v Cuzeno RVM Pty Ltd [2003] NSWCA 27; Australia and New Zealand Banking Group v Mishra [2012] NSWSC 1333). However, the mortgagor may provide alternative forms of security, such as a mortgage over another property or a deed of release in respect of any outstanding claims against the mortgagee.

These principles were confirmed in a recent South Australian Supreme Court decision of Luna Property Pty Ltd & Anor v Australia and New Zealand Banking Group Ltd [2015] SASC 137. In that case, Luna Property was provided a loan facility by ANZ which was extended several times and expired on 31 May 2015. Whilst Luna Property sought to pay the amount owed and discharge the loan, it also threatened to dispute line fees and break costs payable, the total of such claim said to be $5 million. ANZ held an all-monies mortgage which secured all money owing "now or in the future; actually or contingently." It was held by the Court that money being owed contingently was wide enough to cover future legal costs. ANZ argued that a discharge would deprive it of its security interest, which covered contingent liabilities of anticipated legal fees to defend any proceedings brought by the mortgagor. Judge Dart ordered the discharge of the securities by ANZ but required Luna Property to pay the sum of $348,293.90 into Court to represent the reasonably estimated legal costs to defend the anticipated litigation. The Court allowed this amount and said the security represented a "generous estimate" of the amount to defend anticipated proceedings. Judge Dart acknowledged that whilst the case concerned the payout of a mortgage, the entitlement to security extended to other actions claiming damages arising from the lender and borrower relationship.

This recent case confirms that a mortgagee is entitled to secure its possible future entitlement to costs before it becomes obliged to discharge its securities. In cases where the amount of the contingent liability is not easily ascertainable, it is prudent for mortgagees to generously estimate their costs to ensure they are not out of pocket by reason of an inadequate provision of security.