Westdeutsche Landesbank Girozentrale v Islington London Borough Council [QBD (Comm)]

Court:House of Lords
Judge:Lord Goff of Chieveley, Lord Browne-Wilkinson, Lord Slynn of Hadley, Lord Woolf, Lord Lloyd of Berwick
Judgment Date:07 Jun 1996, 07 Jun 1996
Jurisdiction:England & Wales

[1996] UKHL J0522-2

House of Lords

Lord Goff of Chieveley

Lord Browne-Wilkinson

Lord Slynn of Hadley

Lord Woolf

Lord Lloyd of Berwick

Westdeutsche Landesbank Girozentrale
(Repondents)
and
Council of the London Borough of Islington
(Apppellant)
1

OPINIONS OF THE LORDS OF APPEAL FOR JUDGMENT IN THE CAUSE

Lord Goff of Chieveley

My Lords,

2

This appeal is concerned with a transaction known as an interest rate swap. Under such a transaction, one party (the fixed rate payer) agrees to pay the other over a certain period interest at a fixed rate on a notional capital sum; and the other party (the floating rate payer) agrees to pay to the former over the same period interest on the same notional sum at a market rate determined in accordance with a certain formula. Interest rate swaps can fulfil many purposes, ranging from pure speculation to more useful purposes such as the hedging of liabilities. They are in law wagers, but they are not void as such because they are excluded from the regime of the Gaming Acts by section 63 of the Financial Services Act 1986.

3

One form of interest rate swap involves what is called an upfront payment, i.e. a capital sum paid by one party to the other, which will be balanced by an adjustment of the parties' respective liabilities. Thus, as in the present case, the fixed rate payer may make an upfront payment to the floating rate payer, and in consequence the rate of interest payable by the fixed rate payer is reduced to a rate lower than the rate which would otherwise have been payable by him. The practical effect is to achieve a form of borrowing by, in this example, the floating rate payer through the medium of the interest rate swap transaction. It appears that it was this feature which, in particular, attracted local authorities to enter into transactions of this kind, since they enabled local authorities subject to rate-capping to obtain upfront payments uninhibited by the relevant statutory controls.

4

At all events, local authorities began to enter into transactions of this kind soon after they came into use in the early 1980s. At that time, there was thought to be no risk involved in entering into such transactions with local authorities. Financially, they were regarded as secure: and it was assumed that such transactions were within their powers. However, as is well-known, in Hazell v. Hammersmith and Fulham London Borough Council [1992] 2 A.C. 1 your Lordships' House, restoring the decision of the Divisional Court, held that such transactions were ultra vires the local authorities who had entered into them. It is unnecessary for present purposes to examine the basis of that decision; though I wish to record that it caused grave concern among financial institutions, and especially foreign banks, which had entered into such transactions with local authorities in good faith, with no idea that a rule as technical as the ultra vires doctrine might undermine what they saw as a perfectly legitimate commercial transaction. There then followed litigation in which banks and other financial institutions concerned sought to recover from the local authorities with which they had dealt the balance of the money paid by them, together with interest. Out of the many actions so commenced, two were selected as test cases. These were the present case. Westdeutsche Landesbank Girozentrale v. Islington Borough Council, and Kleinwort Benson Ltd. v. Sandwell Borough Council. Both cases came on for hearing before Hobhouse J. Your Lordships are concerned only with the former case. In a powerful judgment Hobhouse J. held that the plaintiffs ("the Bank") were entitled to recover from the defendants ("the Council") the net balance outstanding on the transaction between the parties, viz., the difference between the upfront payment of £2.5m. paid by the Bank to the Council on 18 June 1987, and the total of four semi-annual interest payments totalling £1,354,474.07 paid by the Council to the Bank between December 1987 and June 1989, leaving a net balance of £1,145,525.93 which the judge ordered the Council to pay to the Bank. He held the money to be recoverable by the Bank either as money had and received by the Council to the use of the Bank, or as money which in equity the Bank was entitled to trace into the hands of the Council and have repaid out of the Council's assets. He decided that the Bank's right to restitution at common law arose from the fact that the payment made by the Bank to the Council was made under a purported contract which, unknown to both parties, was ultra vires the Council and so void, no consideration having been given for the making of the payment. The decision by the judge, which was affirmed by the Court of Appeal, raised important questions in the law of restitution, which are of great interest to lawyers specialising in this field. Yet it is an extraordinary feature of the present appeal to your Lordships' House that the judge's decision on the substantive right of recovery at common law does not fall for consideration by your Lordships' House. The appeal of the Council is confined to one point only — the question of interest.

5

The judge ordered that the Council should pay compound interest on the sum awarded against them, calculated at six-monthly rests from 1 April 1990 to the date of judgment. The Court of Appeal affirmed the judge's decision to award compound interest but, allowing a cross-appeal by the Bank, ordered that interest should run from the date of receipt of the upfront payment. Both the judge and the Court of Appeal held that they were entitled to invoke against the Council the equitable jurisdiction to award compound interest, on the basis that the Bank was entitled to succeed against the Council in an equitable proprietary claim. The foundation for the Bank's equitable proprietary claim lay in the decision of this House in Sinclair v. Brougham [1914] A.C. 398. Since that decision has for long been controversial, the Appellate Committee invited argument on the question whether the House should depart from the decision despite the fact that it has stood for many years.

6

The shape of the case

7

Once the character of an interest swap transaction has been identified and understood, and it is appreciated that, because the transaction was beyond the powers of the Council, it was void ab initio, the basic question is whether the law can restore the parties to the position they were in before they entered into the transaction. That is, of course, the function of the law of restitution. I feel bound to say that, in the present case, there ought to be no difficulty about that at all. This is because the case is concerned solely with money. All that has to be done is to order that each party should pay back the money it has received — or, more sensibly, to strike a balance, and order that the party who has received most should repay the balance; and then to make an appropriate order for interest in respect of that balance. It should be as simple as that. And yet we find ourselves faced with a mass of difficult problems, and struggling to reconcile a number of difficult cases.

8

I must confess that, like all the judges who have been involved in these cases, I too have found myself struggling in this way. But in the end I have come to realise the importance of keeping my eyes on the simple outline of the case which I have just described; and I have discovered that, if one does that — if one keeps one's eyes open above the thicket of case law in which we can so easily become enclosed — the solution of the problem in the present case becomes much more simple. In saying this, I do not wish in any way to criticise the judges who have been grappling with the case at first instance and in the Court of Appeal, within the confines of the doctrine of precedent by which they are bound. On the contrary, they are entitled to our gratitude and respect. The masterly judgment of Hobhouse J., in particular, has excited widespread admiration. But it is the great advantage of a supreme court that, not only does it have the great benefit of assistance from the judgments of the courts below, but also it has a greater freedom to mould, and remould, the authorities to ensure that practical justice is done within a framework of principle. The present case provides an excellent example of a case in which this House should take full advantage of that freedom.

9

The three problems

10

There are three reasons why the present case has become so complicated. The first is that, in our law of restitution, there has developed an understanding that money can only be recovered on the ground of failure of consideration if that failure is total. The second is that because, in particular, of the well known but controversial decision of this House in Sinclair v. Brougham [1914] A.C. 398, it has come to be understood that a trust may be imposed in cases such as the present where the incapacity of one of the parties has the effect that the transaction is void. The third is that our law of interest has developed in a fragmentary and unsatisfactory manner, and in consequence insufficient attention has been given to the jurisdiction to award compound interest.

11

I propose at the outset to devote a little attention to each of these matters.

12

(1) Total failure of consideration.

13

There has long been a desire among restitution lawyers to escape from the unfortunate effects of the so-called rule that money is only recoverable at common law on the ground of failure of consideration where the failure is total, by reformulating the rule upon a more principled basis; and signs that this will in due course be done are appearing in judgments throughout the common law world, as appropriate cases arise for decision. It is fortunate however that, in the present case, thanks (I have no doubt) to the admirable researches of counsel, a...

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