On 18 June 2013, the Court of Appeal handed down its judgment in Emptage v FSCS  EWCA Civ 729 holding that the Financial Services Compensation Scheme Ltd (“the FSCS”) had acted unlawfully in awarding too little compensation to a Ms Charmaine Emptage who had received negligent mortgage advice from a mortgage broker.
In what has been hailed a test case concerning the proper scope of the FSCS’s discretion in the quantification of compensation claims for mortgage mis-selling, the Court of Appeal grappled with the issue of what losses Ms Emptage, having been poorly served by her adviser Berkshire Financial Services Ltd (“BFS”), could properly recover under the compensation scheme.
The decision is likely to have implications for the way the FSCS assesses compensation claims for poor investment advice. It is will be of obvious interest to those practising in the regulatory judicial review sphere as well as professional liability lawyers.
Mark Cannon QC and Can Yeginsu of 4 New Square, instructed by Manley Turnbull Solicitors, appeared for the successful respondent, Ms Charmaine Emptage.
Ms Emptage and her partner Mr Ball lived at a property in Berkshire (“the Berkshire Property”) which was subject to a repayment mortgage in Ms Emptage’s name, with an outstanding balance of around £40,000 and about 10 years left to run. In 2005, a Mr Sharratt of BFS advised them to enter into the following transactions in order to improve their situation.
The first was a remortgage of the Berkshire Property for a much larger sum on interest-only terms. The second was the purchase of a (yet-to-be-built) property in Spain (“the Spanish Property”) with the proceeds of the remortgage. The hope was that the Spanish Property would provide rental income and capital to service and redeem the increased interest-only mortgage, and yield a surplus. Unfortunately, the Spanish Property’s value plummeted to virtually zero and Ms Emptage was unable to redeem her new mortgage. Ms Emptage brought a claim as a result of the bad advice she had been given. Neither BFS nor BIA could meet Ms Emptage’s claim themselves and neither had any responsive insurance. Accordingly, Ms Emptage and Mr Ball made a complaint to the Financial Ombudsman Service (“FOS”), which referred their case to the FSCS.
Advising about mortgages, when they are first legal charges, on land at least 40% of which is used as a dwelling by the borrower, is a regulated activity. But advising about purchasing property, whether in the UK or not, is not a regulated activity. The FSCS provides compensation only in respect of regulated activity.
The Mortgages and Home Finance: Conduct of Business sourcebook (“MCOB”) contained provisions setting out the manner in which advisers should conduct themselves. MCOB 4.7.2R stated, briefly, that a firm should try to ensure a mortgage is suitable for a borrower. A mortgage will not be suitable for a borrower if she does not have the means to repay the loan on the agreed terms.
The Compensation sourcebook (“COMP”) provides that the FSCS may pay compensation for any claim only to the extent that it considers “that the payment of compensation is essential in order to provide the claimant with fair compensation.” More precise guidance was to be found in a FSCS approved statement of policy, known as MAA/3, which says that the “underlying principle is to provide the level of compensation which is essential in order to be fair”, which will usually mean putting the claimant back into the position she would have been in, absent the bad advice.
In June 2010, the FSCS rejected Ms Emptage’s the complaint, saying that it was based on Mr Sharratt’s advice to purchase property in Spain, which was not a regulated activity.
After further correspondence, in August 2010 the FSCS accepted that Mr Sharratt had failed properly to consider and advise on the suitability of an interest-only mortgage in light of their circumstances and the recommended repayment method of purchasing the Spanish Property. After seeking some further information, the FSCS suggested compensation for fees and additional monthly costs incurred. But no offer was made in respect of any losses associated with the purchase of the Spanish Property as this was an unregulated transaction. In December 2010, the FSCS proposed compensation in the sum of £11,522.98. This left an outstanding mortgage balance of over £98,000, which Ms Emptage and Mr Ball could not pay unless they sold the Berkshire Property.
Ms Emptage sought judicial review of the FSCS’ decision, succeeding at first instance before Haddon- Cave J ( EWHC 2708 (Admin)) who found that the FSCS had misdirected itself and acted irrationally in reaching the compensation award that it did. The FSCS appealed the decision and the matter came before the Court of Appeal in May 2013.
The issues before the Court of Appeal were as follows:
- What was the nature of Mr Sharratt’s breach of duty?
- What were the losses flowing from Mr Sharratt’s breach of duty?
- In calculating fair compensation, had the FSCS acted outside its discretion?
- Should Ms Emptage give credit for the mortgage monies she had received?
The Court of Appeal’s decision
In his leading judgment, with which Sullivan and Underhill LJJ agreed, Moore-Bick LJ refused the FSCS’s appeal. Ms Emptage was entitled to recover her full loss.
The nature of Mr Sharratt’s breach of duty
Moore-Bick LJ identified that “the central question was whether the breach of duty was to be characterised as giving bad advice in relation to a mortgage or giving bad advice in relation to an investment in land.”
He found that the mortgage advice was unsuitable “not because she could not meet the monthly interest payments, but because she had no prospect of paying back the loan if her investment failed to live up to expectations.”
Accordingly, he viewed Mr Sharratt’s bad advice about the interest only mortgage as inextricably bound up with the purchase of the Spanish Property. The mortgage advice had been bad largely because the investment advice had been bad.
The losses flowing from Mr Sharratt’s breach of duty
The Court of Appeal found that the losses relating to the Spanish Property flowed from Mr Sharratt’s advice in relation to mortgaging the Berkshire Property. This was an inevitable consequence of construing Mr Sharratt’s mortgage advice as part and parcel of recommending the purchase of the Spanish Property.
The FSCS’s discretion
Despite the FSCS’s efforts to submit otherwise, the Court of Appeal found that, as a matter of fact, the FSCS had not exercised any discretion. It had considered itself bound to offer Ms Emptage no more than it had offered her.
The Court of Appeal agreed with Haddon-Cave J that, in assessing loss, the FSCS proceeded on a false basis. It would therefore seem that even if the FSCS had sought to exercise a discretion not to compensate Ms Emptage in respect of losses relating to the Spanish Property, such a decision would have been outside its discretion, being based on a misunderstanding of the nature of the breach of duty.
Credit for the mortgage monies
Relying on the House of Lords’ decision in R v Investors Compensation Scheme Ltd, ex parte Bowden  1 A.C. 261, the FSCS said that Ms Emptage should give credit for the mortgage monies she had received.
In Bowden, investors had been persuaded to enter into mortgages in order to have capital to invest in bonds. The mortgage loans were increased by the accruing interest. The contract provided that no payments would become due provided that the total of the outstanding capital and interest did not exceed a certain percentage of the value of the property. A fall in the markets and a rise in interest rates led to investors facing difficulties. Investors complained to the FSCS’ predecessor (“the ICS”) which made offers of compensation. The House of Lords held that the ICS was entitled to deduct from the compensation packages any sums received, whether at the outset or by way of income from the investment.
Moore-Bick LJ held that an application of Bowden to Ms Emptage’s case would oblige her to give credit for the value of the Spanish Property (of which there was none). But it would not oblige her to give credit for the monies she invested in the Spanish Property, because her loss was the loan on the Berkshire Property, which she had no prospect of repaying. There was therefore no risk of double recovery.
The FSCS has indicated that it is not minded to appeal the Court of Appeal’s decision to the Supreme Court. Aside from providing invaluable guidance as to the lawful exercise of discretion, the decisions of the High Court and the Court of Appeal in Emptage also serve as reminders of the importance of establishing precisely the breach of duty in a claim against a professional. The construction of Mr Sharratt’s breach of duty was of crucial importance in this case and was at the heart of the differences between the parties. Particularly in cases where there has obviously been a breach of duty and the parties might not engage in argument on the point, one should be slow to focus on quantum issues without clarifying the nature of the breach of duty.