Kleinwort Benson v Birmingham (1996) – A counterparty’s good hedging is not a defence against paying them

Kleinwort Benson Ltd v Birmingham City Council [1996] 4 All ER 733

Summary

In an unjust enrichment case, there was no defence of passing on available for a local authority to use against an unjust enrichment claim, showing to what extent enrichment of the defendant must be at the expense of the claimant.

The judgment can be found here.

Introduction

A bank, Kleinwort Benson Ltd (“the bank”), paid Birmingham City Council (“the authority”) in an interest rate swap agreement that was entered into on 23 September 1982 and ran until September 1987. Pursuant to the decision of the House of Lords in Hazell v Hammersmith and Fulham Council, the agreements were declared to be ultra vires and void in September 1987. The bank then sought to recover £353,321.91 as the net amount of payments that it made to the authority, under the swap agreement dated 23 September 1982.

The local authority then claimed the defense of “passing on”, after applying for leave to amend its points of defence. The authority argued that they did not have to repay the money advanced because the bank had ‘passed on’ its losses through money it had received from third parties, described as counterparties, under hedging contracts. The authority’s reasoning was that if the bank had made either no loss or no substantial loss, then the unjust enrichment case should fail, so they do not receive a windfall gain.

Judgment                                            

The Court of Appeal rejected the premise that there could be a passing on defence for two main reasons. First and foremost, the payments that were received by the bank – under the hedging contracts – were not casually connected with the payments of the bank under the swap contract. Evans LJ referred to the fact that this defence is expressly rejected in Australia and Canada, citing Mason v New South Wales (1959) 102 CLR 108 and Kingstreet Investments Ltd v New Brunswick (Finance) [2007] 1 SCR 3 respectively amongst other examples. Evans LJ thus disagreed with the decision of the Lord Groff to leave the passing on defence’s validity unquestioned and stated that this is not an acceptable defence, outlining its many problems, especially when the plaintiff is a bank.

Secondly, unjust enrichment claims are not subject to a restriction on the defendant’s gain that it must correspond with loss. Restitutionary laws are, in principle, concerned with remedying the gains of the defendant and not the losses of the claimant. Saville LJ stated that “His obligation to return the money is not based on any loss the payer may have sustained, but on the simple ground that it is unjust…”, irrespective of other circumstances that the plaintiff might find themselves in if they were to receive restitution in the face of an unjust enrichment claim, for example, a windfall gain.

Morritt LJ then concurred, with all three judges agreeing to reject the defence of passing on to be rejected in this instance, but open-ended for other claims for recovery of tax/other duties.

Application

This case poses the question of whether the defence of passing on should exist in English law, but shows that within the context of swap contracts that have been deemed ultra vires and void – it should not be allowed.

The case was one of a number of ‘Kleinwort Benson v Local Authority’ cases that were heard in a joint appeal in the House of Lords. The appeal was dismissed in a 3-2 verdict, although the Lords recommended leaving the matter to Parliament to ultimately legislate one way or the other.

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