Who is entitled to the surplus proceeds of sale by the first mortgagee?

In Bofinger v Kingsway Group Limited [2009] HCA 44, the High Court of Australia decided that the guarantors of a mortgage were entitled to be repaid money they paid to the first mortgagee before the surplus proceeds of the first mortgagee’s sale of the properties (about $700,000) were paid by the first mortgagee to the second mortgagee.

The guarantors claimed that the first mortgagee in paying the surplus to the second mortgagee was obliged to account to them as constructive trustee for the surplus and was liable to pay equitable compensation for paying the surplus to the second mortgagee.

The guarantors were the husband and wife directors of the borrower company which was in liquidation. They gave guarantees to the first, second and third mortgagees.

Normally a guarantee will contain a clause which stops guarantors claiming rights (including rights of subrogation to repayment of money paid under the guarantee) against the debtor in competition with the creditor.

The High Court noted that the wording of the guarantee in favour of the second mortgagee failed to exclude the right of subrogation in respect of payments to the first mortgagee (as against the second mortgagee) with the guarantors having the benefit of any doubt about the construction of the guarantee.

It was also relevant that the second and third mortgagees in agreeing to the sale by the first mortgagee had not protected their position by obtaining an agreement from the guarantors and first mortgagee expressly excluding the guarantors’ rights to repayment by the first mortgagee.

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