The application of the defence of non est factum: an exploration of its limits and boundaries.

• Author: Chew, Charles Y.C.
• Position: Australia

CONTENTS I INTRODUCTION II THE NATURE OF THE DOCTRINE OF NON EST FACTUM III NON EST FACTUM 1N THE CONTEXT OF GUARANTEES--A CRITICAL ANALYSIS IV APPLICATION OF NON EST FACTUM IN GUARANTEE CASES: RESTRICTIONS AND LIMITATIONS V THE PLEA OF NON EST FACTUM IN GUARANTEE CASES: DIMINISHED AND CIRCUMSCRIBED VI CONCLUSION I INTRODUCTION

Non est factum is a defence which may be available to someone who has been misled into signing a document which is fundamentally different from what he or she intended to execute or sign. Accordingly, where the defence is established, the signing party may be able to escape the effect of the signature by arguing that the agreement was void for mistake. (1) This article is concerned with evaluating the limits and breadth of the defence as it is applied to contracts of guarantees, which are perhaps the most common form of security used in the business world today.

It is usually thought that the guarantor or surety knows that the guarantee secures the repayment of the borrower's loan and that dissatisfaction with the borrower's financial position is probably the reason for the creditor's stipulation that a contract of guarantee be entered into. The use of guarantees can be one of a number of ways of dealing with the sub-prime mortgage crisis, which has created a credit crunch that has a devastating effect on banks and financial markets and has pushed the major economies into a recession. (2) The fact that the Australian Government (like those of other developed countries) has decided to guarantee bank customers' deposits (as part of a stimulus package) to raise public confidence in the financial system following the world economic downturn means that it can no longer afford to rely on the usual claim that the banks are always secure, well regulated and capitalised. In this way, the Government has battled to prop up the banks, committing billions of dollars in the process. Yet action on the current scale has never been tried before and nobody knows when it will have an effect-let alone how much difference it will make. (3)

In a specific situation, where one party has signed a contract of guarantee, believing it to be something different from what it actually is, that party may be able, as alluded to earlier, to rely on the doctrine of non est factum to have the document set aside for mistake. Without such a defence, the mistaken party may be liable under a document appearing to be valid and binding. The rationale for the defence of non est factum is that in truth, the document has not been executed at all.

The article also questions the significance of the plea as a doctrine and its application. It is important to know, for example, that the extensive disclosure by the creditor as required by the Banking Code of Practice and the Consumer Credit Code may have the indirect effect of reducing the application of non est as a defence at law, since guarantors will now have less opportunity for claiming that they were under a misapprehension as to the terms of the guarantee. It is possible, under some circumstances, that a mistaken party who is unable to obtain relief by reason of non est factum may be able to set aside the guarantee for other reasons such as a breach of the creditor's duty of disclosure, misrepresentation, or unconscionable conduct which are wider in scope and are more likely to give a remedy. (4)

II THE NATURE OF THE DOCTRINE OF NON EST FACTUM

The modern boundaries of the doctrine of non est factum can be found in Saunders v Anglia Building Socie (5) where the House of Lords restated the principles governing the availability of the defence. Stated in general terms, the criteria for a successful plea are the following:

* The person relying on the defence usually must belong to a class of persons who, through no fault of their own, are unable to have any understanding of the purport of a particular document, because of blindness, illiteracy or some other disability. (6)

* The signatory must have made a fundamental mistake as to the nature of the contents of the document being signed, having regard to the intended practical effect of the document; and the document must be radically different from the one the signatory intended to sign. (7)

The principles of Saunders were followed in Petelin v Cullen (8) where the High Court stated that the person seeking relief 'must know that he signed the document in the belief that it was radically different from what it was in fact'. (9) The court considered the scope of the defence of non est factum but indicated the narrow class of persons who are entitled to rely on the defence--namely, those who are unable to read owing to blindness or illiteracy or some disability and who through no fault of their own are unable to have any understanding of the purport of a particular document and who must rely on others for advice as to what they are signing. (10)

The defendant in Petelin has to show that he signed the document in the belief that it was radically different from what it was in fact and that his failure to read and understand it was not due to carelessness on his part. The court pointed out that there is a heavy onus on a defendant who wishes to establish the defence of non est factum as this plea is an exceptional defence. (11)

It appears from the circumstances of this case that where the respondent's conduct was not innocent, the question of carelessness on the part of the appellant in terms of not taking reasonable precautions did not become a relevant issue. This being the case, the appellant's defence of non est factum was able to succeed and the respondent's suit for specific performance had to fail.

The plea will remain to be limited in its application. (12) In fact there has been an increasing tendency, particularly in Australia, to disallow the plea where the person signing had some idea about the nature of the document and what it was dealing with, even though he or she may have been unclear, or even mistaken, as to the nature of some of the obligations created by the instrument, or as to the particular class to which it belonged. (13) It is even possible that if guarantors become mistaken about the terms of the guarantee, they may be aware of the general nature of the transaction in which case they will probably be unable to show that the document was fundamentally different from what they thought it to be. It is conceivable that many of the cases which have been previously decided on the basis of a successful plea of non est factum would now be decided according to the traditional rules of misrepresentation, mistake and unconscionability. (14)

III NON EST FACTUM IN THE CONTEXT OF GUARANTEES--A CRITICAL ANALYSIS

There is a heavy onus on a person seeking to rely upon the plea of non est factum due no doubt to the very strict requirements which have to be fulfilled. It is not surprising, therefore, to know that the plea failed where the defendant was not included in the limited class and had been careless in failing to read a power of attorney signed by him. (15) The plea also failed where the evidence showed that a mortgagor (guarantor) was aware of the nature of the guarantee signed and that the mortgage provided security for a loan to the mortgagor's son. (16)

In Avon Finance Co Ltd v Bridger (17) the majority of the English Court of Appeal rejected the guarantors' defence of non est factum commenting that it was not possible on the facts of the case to find that the guarantors had 'exercised such reasonable care as was appropriate in the circumstances in entering into the transaction'. There, a chartered accountant in a good practice had on his coaxing made his elderly parents unwittingly execute a second mortgage over their home in order to secure his debt. When the son's payments fell into arrears, the plaintiffs sought to recover the loan by bringing an action for possession against the defendants who relied on the defence of non est factum. The Court of Appeal was not willing to enforce a transaction entered into without independent advice where the terms of such a transaction were unfair and where there had been an inequality of bargaining power together with undue pressure exerted on one party or for the benefit of the other. In the circumstances, the son had brought undue pressure to bear on the defendants by misleading them as to the nature of the documents both for his own benefit and that of the plaintiffs, and accordingly, the defendants' bargaining power was impaired by their ignorance of the true situation. For these arguments, the court would not uphold the transaction and the appeal was accordingly dismissed. (18)

In PT Ltd v Maradona Pty Ltd (19) we have a case that deals with the effect of a successful defence of non est factum on a guarantee and mortgage. The decision indicates an important difference between this defence and defences based on mental incapacity. Lack of mental capacity does not itself invalidate the transaction unless the other party had actual or constructive notice of the incapacity. An important difference between that defence and non est factum is that in the latter the actual execution of the document is impugned.

In September 1985 Maradona borrowed $500,000 from Equity Mortgage Fund, secured by various guarantees, and by a mortgage over a property and a guarantee by a Mrs Thompson. The borrower defaulted in payment and the lender sought to enforce the security and the guarantees. The plaintiff PT Ltd was an assignee of the mortgage from the original lender.

The guarantors used several defences all of which...