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Equitable Accounting - Some Basic Principles

09 Mar 2017

Equitable Accounting - Some Basic Principles

Introduction & summary

When (mainly but not always) unmarried couples separate there can be a dispute over the house they lived in. Each may claim a share and commonly (but not always) the percentage shares are determined in advance at the time of purchase. But what happens about contributions (money towards the mortgage, or for alterations to the house) after separation? How does the law determine a fair outcome between separated parties in such circumstances? By a process of what is called equitable accounting. A court would go through this process when it had decided a property should be sold and the net proceeds of sale divided between the co-owners. By equitable accounting, the court makes fair adjustments to each party's share to reflect post-separation contributions.

Under the umbrella title of equitable accounting three issues are commonly encountered : claims for occupation rent, mortgage payments (capital and interest) and major improvements to a property.

Readers of this paper have to bear in mind the difference between pre- and post TLATA 1996 ('TLATA') rules. Before TLATA the courts applied the former 'equity jurisdiction'.

Equitable accounting

When couples separate and the house they lived in is divided, some reckoning is often required to determine sums owed but arising during the period after separation (whether the house was owned as joint tenants or tenants in common). The case of Bernard v Josephs [1982] 1 Ch 391 at 405, described equitable accounting in the following way:-

"When the proceeds of sale are realised there will have to be equitable accounting between the parties before the money is distributed. If the woman has left, she is entitled to receive an occupation rent, but if the man has kept up the mortgage payments, he is entitled to credit for her share of the payments; if he has spent money on recent redecoration which results in a much better sale price, he should have credit for that, not as an altered share, but by repayment of the whole or a part of the money he has spent. These are but examples of the way in which the balance is to be struck."

Any payments that are made as a result of the principle described above do not make any changes to the shares each party is entitled to. However, the proceeds of sale each party receives becomes the fund out of which sums payable as equitable accounting come. The court will decide whether any money which is payable between the parties will be made before or after the net proceeds of sale are distributed. The only difference to this principle could be this : In Oxley v Hiscock [2004] EWCA 546, to determine the size of a beneficial interest the whole course of dealing is considered. It is undecided yet whether this exercise includes sums that would otherwise be claimed under equitable accounting rules.

Occupation Rent

Cohabiting couples have a right to possession of their co-owned property (ie to occupy it). Consider s.12 TLATA which provides :

12 The right to occupy.

(1) A beneficiary who is beneficially entitled to an interest in possession in land subject to a trust of land is entitled by reason of his interest to occupy the land at any time if at that time—

(a)the purposes of the trust include making the land available for his occupation (or for the occupation of beneficiaries of a class of which he is a member or of beneficiaries in general), or

(b)the land is held by the trustees so as to be so available.

(2) Subsection (1) does not confer on a beneficiary a right to occupy land if it is either unavailable or unsuitable for occupation by him.

(3) This section is subject to section 13.

If the right of one of the owners to occupy the property is restricted in any way then the party who remains in occupation may become liable to pay a notional rent for his or her occupation of the other's share of the property. Effectively, the occupation rent relates the remaining party's use of the absent party's share of the property.

When can a party claim an occupation rent?

An owner's occupation of a property is 'restricted' if they are excluded from it. Exclusion triggers the right to an occupation rent.

When has an exclusion taken place? How can you recognise an exclusion for the purposes of a claim for an occupation rent? What acts or events give rise to an exclusion?

In Dennis v McDonald [1982] Fam 63, violence towards a person entitled to occupy, and who was forced to leave, justified the payment of an occupation rent to the departing party.

In Re Pavlou [1993] 1046 Mr and Mrs Pavlou bought a house for £12,500 with a mortgage of £9,500. The parties separated and the wife remained in sole occupation, and paid the mortgage instalments as they fell due. Eventually Mrs Pavlou obtained a decree nisi of divorce, and less than a year later the husband was made bankrupt. The joint tenancy was thereby severed, and they then owned the property as tenants in common in equal shares. It was agreed that there would have to be an order for sale and an equitable accounting. The husband's bankruptcy meant that questions of equitable accounting arose between the husband's trustee in bankruptcy and the wife. Mr Justice Millet stated, at 1050:-

"I take the law to be of the following effect. First, a court of equity will order an inquiry and payment of occupation rent, not only in the case where the co-owner in occupation has ousted the other, but in any other case where it is necessary to do equity between the parties that an occupation rent should be paid. The fact that there has not been an ouster or forceful exclusion is therefore far from conclusive. Secondly, where it is a matrimonial home and the marriage has broken down, the party who leaves the property will, in most cases, be regarded as excluded from the family home, so that an occupation rent should be paid by the co-owner who remains. But that is not a rule of law; that is merely a statement of the prima facie conclusion to be drawn from the facts. The true position is that if a tenant in common leaves the property voluntarily, but would be welcome back and would be in a position to enjoy his or her right to occupy, it would not normally be fair or equitable for the remaining tenant in common to charge him or her with an occupation rent which he or she never expected to pay."

The first point to make is that this case concerned a married couple where the husband had left voluntarily but where it was clear the marriage was at an end and the parties separation reflected the realities that the marriage was at an end : someone was always going to move out. There was a point in the case where Mrs Pavlou would have welcomed back her husband. In such cases, it may not be appropriate for the absent party to charge 'rent' for use of his share where he could have returned to use it himself. However, even where someone has left for a reason which is not obvious (eg because of violence) this does not prevent the court enquiring into whether there should be some accounting. The reasons for a party to leave a home can be more nuanced, than where violence has not been used against them. However, the service of a divorce petition should be taken as definitive :

"…the presentation of a petition for divorce by the party remaining in occupation of the matrimonial home should normally be taken to signify a refusal to take the other party back into the matrimonial home and a willingness to pay an occupation rent thereafter."

Where the separated couple were not married, and there is no violence, when can it be said that an occupation rent arises? What if one of the other parties leaves to form another relationship, but the remaining party wants him/her back?

In Byford v Butler [2003] EWHC 1267 (Ch), [2004] 1 FLR 56, there had been no relationship breakdown at all - therefore no triggering event where one party left the property. The husband had been made bankrupt and the trustee in bankruptcy failed to bring proceedings in respect of the matrimonial home for many years. The husband remained living at the home until his death. However, the court decided the widow still had to pay an occupation rent. The property had increased in value substantially over the period of time the widow and her husband lived at the property after he was made bankrupt.

Eventually the trustee sought possession and the widow tried to claim back the mortgage interest payments she had made over many years. The trustee tried to cancel this out with a claim for occupation rent.

Was it fair for the trustee to claim a half share of the increase in value and an occupation rent? (If a trustee chose not to obtain possession of a property - or delayed in doing so - which increased in value, was it fair to claim the increase in value and an occupation rent?). The court decided that the widow had benefited for many years from the half share vested in the trustee in bankruptcy, who was not able to occupy the property for the benefit of the creditors. Therefore, even though there was no restriction on the husband's occupation for until his death, the husband's trustee stood in a different position.

The position of a trustee in bankruptcy and a claim for an occupation rent received further clarification in French v Barcham [2008] EWCH 1505 (Ch). A claim for an occupation rent can only be made by someone whose right to occupy has been restricted. A trustee in bankruptcy will never have lived in the property which is the subject of the dispute. Under TLATA therefore, he cannot claim compensation under s.13(6) (see below). The court accepted in this case that the pre-TLATA equity jurisdiction would apply to assist the trustee.

Therefore, equitable accounting functions as a means of achieving fairness between parties even in a case where there has not been a classic exclusion.

What is the correct approach to calculating the right occupation rent?

It is normally a market rent that is used as a guide. If this cannot be agreed expert evidence would have to be obtained. However, do note that the convention (as happened in Byford v Butler) is for the occupation rent to be set-off against mortgage interest payments made by the occupier. Where the owners are entitled to 50% each the sums are easy. Consider the following scenarios (where B remains in occupation, paying the mortgage and having made improvements post-separation) :

Where ownership is split 50:50

A claims 50% of the occupation rent from B who remains in the property

B claims 50% of the mortgage repayments from A since separation

B claims 50% of the cost of improvement to the property from A since separation

Where ownership as between A and B is split 75:25

A claims 75% of the occupation rent from B who remains in the property

B claims 75% of the mortgage repayments from A since separation

B claims 75% of the cost of improvement since separation

Where ownership as between A and B is split 25:75

A claims 25% of the occupation rent from B who remains in the property

B claims 25% of the mortgage repayments from A since separation

B claims 25% of the cost of improvement since separation

Whatever percentage division applies do not assume that occupation rent and mortgage payments are of the same value and cancel each other out. The rental value of the property on the open market does need to be considered (especially if it is large and in a desirable area, say) whereas the mortgage payments may be modest.

Does the presence of children make a difference?

In Dennis v McDonald (a pre-TLATA case) it was held that the occupying party would still be liable to pay an occupation rent even though they were caring for children.

In Stack v Dowden [2005] EWCA Civ 857, [2006] 1 FLR 254 the Court of Appeal was satisfied that it had the power under s.13(4) TLATA to regulate the payments of occupation rent.

13 Exclusion and restriction of right to occupy.

(1) Where two or more beneficiaries are (or apart from this subsection would be) entitled under section 12 to occupy land, the trustees of land may exclude or restrict the entitlement of any one or more (but not all) of them.

(2) Trustees may not under subsection (1)—

(a) unreasonably exclude any beneficiary’s entitlement to occupy land, or

(b) restrict any such entitlement to an unreasonable extent.

(3) The trustees of land may from time to time impose reasonable conditions on any beneficiary in relation to his occupation of land by reason of his entitlement under section 12.

(4) The matters to which trustees are to have regard in exercising the powers conferred by this section include—

(a) the intentions of the person or persons (if any) who created the trust,

(b) the purposes for which the land is held, and

(c) the circumstances and wishes of each of the beneficiaries who is (or apart from any previous exercise by the trustees of those powers would be) entitled to occupy the land under section 12.

(5) The conditions which may be imposed on a beneficiary under subsection (3) include, in particular, conditions requiring him—

(a) to pay any outgoings or expenses in respect of the land, or

(b) to assume any other obligation in relation to the land or to any activity which is or is proposed to be conducted there.

(6) Where the entitlement of any beneficiary to occupy land under section 12 has been excluded or restricted, the conditions which may be imposed on any other beneficiary under subsection (3) include, in particular, conditions requiring him to—

(a) make payments by way of compensation to the beneficiary whose entitlement has been excluded or restricted, or

(b) forgo any payment or other benefit to which he would otherwise be entitled under the trust so as to benefit that beneficiary.

(7) The powers conferred on trustees by this section may not be exercised—

(a) so as prevent any person who is in occupation of land (whether or not by reason of an entitlement under section 12) from continuing to occupy the land, or

(b) in a manner likely to result in any such person ceasing to occupy the land,unless he consents or the court has given approval.

(8) The matters to which the court is to have regard in determining whether to give approval under subsection (7) include the matters mentioned in subsection (4)(a) to (c).

Note s.13(4) and the matters to which the court must have regard. By way of compensation (see s.13(6) TLATA) a court can order payments for occupation rent to be paid. However, the discretion to do so has to be exercised in accordance with the factors listed in s.13(4). The fact that the property may be providing a home for the children militates away from ordering an occupation rent to be paid. Conduct is important however. In the Court of Appeal hearing in Stack v Dowden Lord Justice Chadwick noted that had the remaining party (who was caring for children) been deliberately delaying a sale the outcome may have been different.

It was said by two judges in Stack v Dowden in the House of Lords appeal that rare would be the cases where outcomes pre- and post-TLATA would be different. This just underscores the point that outcomes will be fact sensitive.

How does the law help the party who continues to pay the mortgage after the other party has left?

The answer to this separates out into issues concerning 'capital' and 'interest'. Repayment mortgages involve paying capital and interest together. By paying capital, an owner's interest in a property increases. There are some who pay 'interest only' mortgages. Where interest only is paid, the money borrowed from the bank or building society to buy the property does not reduce at all.

Re Pavlou is an example of where a party who has made capital repayments is entitled to claim them. Essentially, the capital repayments have increased the value of the beneficial share that is co-owned and a non-contributing party should not be entitled to take advantage of that contribution to which he has played no part. The judge in that case also commented favourably about interest payments but this has been more controversial. Against the judge's comment in Re Pavlou is this comment from another in an earlier case : Suttill v Graham [1977] 1 WLR 819 where Lord Justice Ormrod stated :

"So far as my recollection goes, it has been the normal practice in this class of case to allow the occupying spouse to take credit for the repayments of capital but not of interest, because he or she has had the benefit of the use of the house."

In Re Gorman (A Bankrupt) [1990] 1 WLR 616, Mr Justice Vinelott stated :

"That practice is not, of course, a rule of law to be applied in all circumstances irrespective of, on the one hand, the amount of the mortgage debt and the installments paid, and on the other hand, the value of the property and the amount of the occupation rent that ought to be fairly charged. It is a rule of convenience and more readily applies between husband and wife or cohabitees than between a spouse and a trustee in bankruptcy of the other co-owner. Moreover, although the practice as recorded in Suttill v Graham [1977] 1 WLR 819 is to set the interest element in mortgage installments against a notional occupation rent, leaving the party paying the mortgage installments free to charge a due proportion of any capital repayments against the share of the other, I can see no reason why, if an account is taken, the party paying the installments should not be entitled to set a due proportion of the whole of the installments paid against the share of the other party. The mortgagee will normally have a charge on the property for principal and interest and a right to possession and sale to enforce his charge. The payment of installments due under the mortgage operates to relieve the property from the charge and gives rise to an equitable right of contribution by the co-owner who has not paid his due proportion of the installments."

In effect, the court was not ruling out the claiming of interest by a mortgage paying co-owner to set-off against occupation rent. The interest element of mortgage repayments could be claimed on a contribution basis against the absent owner.

When these rules apply is highly fact dependent. There is no hard and fast set of rules. Again, the aim of equitable accounting is to achieve financial fairness between co-owners, one of whom has remained in the property after the separation.

The treatment of improvements made to the property

Distinctions need to be drawn between cosmetic improvements on the one hand and structural changes (extensions, conversions and major fittings) on the other. Case-law is clear that valuing such claims is achieved by taking the lower of (a) the cost of doing the work and (b) the increase in value (Re Pavlou). The non-paying owner will contribute a percentage (reflecting his % share) to the lower of the two values. This will come from his share of the proceeds of sale.

Which court?

Disputes will usually be heard in the High Court or County Court. The Land Registry Adjudicator (an increasingly popular forum) has jurisdiction to determine claims for a beneficial interest (under a resulting or constructive trust) a la Lloyds Bank v Rosset. However, the Land Registry Adjudicator cannot order a sale nor (in the writer's view) make orders about equitable accounting so the issues explored in this article should remain in the High Court or County Court.

Carl Fender