The Supreme Court has handed down judgment in Patel v Mirza [2016] UKSC 42. The lead judgment was by Lord Toulson JSC. Full judgment text available here.
The case involved the use of a spread-betting account to speculate on price movements of Royal Bank of Scotland Plc (“RBS”) shares. The account holder (the appellant) intended to use inside information for this purpose, via contacts at RBS. The information in this case was a government statement about RBS that may have led to profits on its share price.
The buyer (the respondent) made an outlay of funds totalling £620,000. When the account holder no longer expected the said inside information to materialize, he did not return the £620,000 to the buyer, since it had been paid to a third party. The buyer failed to recover these sums from that third party and so sued the account holder for the £620,000. The account holder’s main contention was that the claim should fail because of the illegality of the arrangement.
The Supreme Court concluded that a claimant who satisfies the requirements of a claim for unjust enrichment should not be debarred from enforcing that claim on the ground that the failed consideration was unlawful. A claimant can recover sums paid under an illegal arrangement, so long as restitution is possible, as it simply returns the parties to the position they would have been in had no such illegal arrangement been made, whilst preventing the defendant being unjustly enriched.
The Supreme Court declined to follow Tinsley v Milligan [1994] 1 AC 340, which applied the rigid ‘reliance’ test, viz that a party to an illegal contract cannot enforce a claim against his counter-party if he has to rely on his own illegal conduct as an element of his claim. The rigid approach often led to incoherent and arbitrary results. Instead, the Court should make a more flexible assessment of whether the public interest would be harmed by enforcement of the illegal contract. Relevant factors included (a) the underlying purpose of the prohibition which was illegally contravened, (b) public policy and (c) whether denial of the claim would be proportionate, bearing in mind that punishment was not a concern of the civil courts.
On these facts, the mischief at which the offence of insider trading was aimed at was market abuse. Since no such activity occurred, there was no public policy basis to bar the return of money which had previously been intended to be used for that purpose.
This ‘re-writing’ of the law on illegality, based on balancing a range of factors and ultimately making a value judgment, was rejected by a minority of the Supreme Court (Lord Sumption, Lord Clarke and Lord Mance).
Defence of Illegality
Lord Toulson JSC
[2] Illegality is a wide concept “Illegality has the potential to provide a defence to civil claims of all sorts, whether relating to contract, property, tort or unjust enrichment, and in a wide variety of circumstances.”
[5] “It is unclear to what extent the doctrine of illegality applies to a contract whose object included something which is in some respect unlawful, or the performance of which will involve some form of illegality, but not in a way which is central to the contract.”
[1] Lord Mansfield said in Holman v Johnson (1775) 1 Cowp 341, 343 that “no court will lend its aid to a man who founds his cause of action upon an immoral or an illegal act”.
[9] The central issue in this case was whether Lord Mansfield CJ’s maxim precludes a party to a contract tainted by illegality from recovering money paid under the contract from the other party under the law of unjust enrichment. On the one hand, it can be argued that the maxim applies as much to such a claim as to a claim in contract, and that the count must give no assistance to a party which has engaged in any form of illegality. On the other hand, it can be argued that such an approach would not advance the public policy which underlies Lord Mansfield CJ’s maxim, once the underlying policy is properly understood.
[15] In endorsing Gloster LJ’s conclusion in the Court of Appeal, Lord Toulson points out that it is also necessary to consider whether the policy underlying the rule which made the contract illegal would be defeated by allowing the claim for restitution. In this case, the mischief at which the offence of insider trading was aimed at is market abuse. If no such activity occurred, there is no public policy basis to bar the return of money which had previously been intended to be used for that purpose.
Lord Kerr of Tonaghmore JSC
[126] Lord Kerr recognised the defence of illegality, reflected in the maxim “ex turpi causa” as an expression of policy, rather than principle.
[127] For Lord Kerr, it is necessary to identify the policy considerations which outweigh an applicant’s right to a remedy. If courts concentrate on the illegal nature of the contract to the exclusion of other considerations, it could result in inconsistent legal and moral terms as propositions of law.
Lord Neuberger of Abbotsbury PSC
[174] Lord Neuberger stated that “when faced with a claim based on a contract which involves illegal activity (whether or not the illegal activity has been wholly, partly or not at all undertaken), the court should, when deciding how to take into account the impact of the illegality of the claim, bear in mind the need for integrity and consistency in the justice system, and in particular (a) the policy behind the illegality, (b) any other public policy issues, and (c) the need for proportionality”
Lord Mance JSC
[204] Lord Mance’s view was that the law on illegality should not generally be rewritten. Such an approach , Lord Mance holds, is suggested by Lord Toulson JSC.
[206] Lord Mance concludes his objection to a rewritten law on illegality by pointing out that: a new approach which incorporates a wide range of factors in considerations of illegality will introduce novel dimensions, including the making (by courts) of value judgements with respect to claims of public interest when deciding whether to allow the defence of illegality to succeed.
Lord Clarke of Stone-Cum-Ebony JSC
[214] Lord Clarke advocates a limiting of the court’s power to deny recovery on the ground of illegality to well defined circumstances. In the absence of such circumstances, claimants should not be deprived of the opportunity to obtain damages for wrongs or to put themselves in the position in which they should have been. There is no need to replace this with an open and unsettled range of factors.
Lord Sumption JSC
[265] In a clear rejection of any balancing exercise, Lord Sumption points out that he“… cannot agree with the conclusion of Lord Toulson JSC (para 109) that the application of the illegality principle should depend on “the policy factors involved and… the nature and circumstances of the illegal conduct, in determining whether the public interest in preserving the integrity of the justice system should result in the denial of the relief claimed.”
For Lord Sumption, “this is far too vague and potentially far too wide to serve as the basis on which a person may be denied his legal rights.”
The Reliance Test – Tinsley v Milligan [1994] 1 AC 340
[18] Tinsley v Milligan is a seminal case which holds that a court would not assist an owner in recovering property if the owner had to rely on hisher own illegality to prove title.
[23] Tinsley v Milligan led to the Law Commission conducting comprehensive reviews of the law of illegality, as well as proposals for addressing what the commission perceived as unsatisfactory features. This was analysed under four heads: 1) complexity 2) uncertainty 3) arbitrariness and 4) lack of transparency.
Lord Toulson JSC
[110] The reliance test expressed in Tinsley v Milligan [1994] 1 AC 340 bars the claimant if he/she relies on the illegality in order to bring the claim. This test has been criticised and Tinsley should no longer be followed.
[15] Lord Toulson points out that the reliance test expressed in Tinsley v Milligan does not have universal application. A defence of ex turpi causa does not always apply in all circumstances where a claim involves reliance on the claimant’s own illegality.
Lord Kerr of Tonaghmore
[133] Lord Kerr of Tonaghmore endorses Lord Toulson JSC, by outlining a move away from the rule-based approach exemplified by Tinsley v Milligan and adopting a more flexible approach, which takes into account the policy reasons that favour or militate against recognition of the illegality defence.
Lord Neuberger of Abbotsbury PSC
[161] Lord Neuberger’s concern is that attempts to lay down clear rules, such as the reliance test in Tinsley v Milligan, are not to be welcome. The approach to cases involving illegality have been policy driven, thereby making strict rules inappropriate.
[181] “The justification for the decision of the majority in Tinsley v Milligan was, as Lord Toulson says, that it would have been disproportionate to have refused to enforce Miss Milligan’s equitable interest in the relevant property on the grounds of her illegal activity, and the policy behind the law making the activity in question illegal was not infringed by acceding to her claim.
Lord Mance JSC
[189] For Lord Mance, Tinsley v Milligan is an example of the illegality principle’s demise. This is because it confirmed that legal title to property could pass under an illegal contract and that equitable title was capable of recognition. The court’s recognition of the equitable title was, however, made subject to the pre-condition that the claimant could avoid reliance on illegality by relying on a procedural presumption. At the same time the court was prepared to ignore the fact of the parties’ illegal intentions.
[199] Instead of the above approach, Lord Mance posits that illegality remains a bar to relief, only in so far as illegality is relied upon to benefit from an otherwise illegal contract.
Lord Clarke of Stone-Cum-Ebony JSC
[221] Lord Clarke concludes the court’s position by stating that some of the reasoning in Tinsley v Milligan can no longer stand. Lord Clarke adopts this view on the basis of Lord Sumption JSC’s judgement at paras 236-239 and Lord Mance JSC at paras 199 – 201.
Lord Sumption JSC
[236] The problem about the reliance test for Lord Sumption is not the test itself but the way it was applied in Tinsley v Milligan.
[238] For Lord Sumption, whether an equitable title arises depends on the intention of the parties. The true principle is that the application of the illegality principle depends on what facts the court must be satisfied about in order to find an intention giving rise to an equitable interest. It does not depend on how those facts are established.