Unfair contract terms and the burden of knowledge…

On 28 May 2020, the first case on unfair contract terms for bank contracts was handed down by the Federal Court of Australia in Australian Securities and Investments Commission v Bendigo and Adelaide Bank Limited [2020] FCA 716 (ASIC v Bendigo and Adelaide Bank Limited). The court found certain clauses in the contract’s terms and conditions to be unfair within the meaning of section 12BG(1) of the Australian Securities and Investments Commission Act 2001 (Cth) (ASIC Act) and declared them void from the outset. The impact this case has on lending institutions that may have similar (quite ubiquitous) clauses in their contracts (e.g. indemnities) cannot be underestimated.

Unfair contract terms have been the focus of regulators and industry bodies alike in recent years. In March 2018, ASIC released a report identifying the types of terms in standard contracts for consumers that could potentially raise concerns under the unfair contract terms law. This article outlines the elements of unfair contract terms provisions for business lending contracts, what we know from ASIC’s guidance, what we know from the case of ASIC v Bendigo and Adelaide Bank Limited, and the implications for affected lenders who rely on these clauses.

UCT Regime for Business Contracts

Since 1 July 2010, ASIC has been able to deal with unfair terms in standard form consumer contracts for financial products and services, including credit products like home loans. From 12 November 2016, the unfair contract terms provisions applying to consumers under the Australian Consumer Law and the ASIC Act were extended to cover standard form ‘small business’ contracts e.g. business loans (UCT Regime).

Section 12BF provides that the UCT Regime applies to contracts for the supply of financial goods or services where:

• a party to the contract is a ‘small business’ which employs fewer than 20 people; and
• the ‘upfront price payable’ does not exceed $300 000, or $1 million if the contract is for more than 12 months.

Section 12BG provides that any terms in such contracts which meet the following criteria may be considered ‘unfair’ by a court:

• the term would cause a ‘significant imbalance’ in the parties’ rights and obligations arising under the contract;
• the term is not reasonably necessary to protect the legitimate interests of the party that would benefit from its inclusion i.e. the bank; and
• the term would cause financial or other detriment (e.g. delay) to a small business if it were to be applied or relied on.

In deciding whether a term is unfair, a court must take into consideration the extent to which the term is transparent and the contract as a whole. Once found to be an unfair term, the court has the power to make various orders including declaring all or part of the contract void, varying the unfair terms, and refusing to enforce those terms. A term that is void would be treated as if it never existed while the contract remains intact in so far as to operate without it. In effect, parties to the contract would not be able to rely on a term that is declared unfair by a court.

What Could Constitute UCT

In ASIC v Bendigo and Adelaide Bank Limited, the court found that clauses which fell within the following categories were unfair:

• Indemnity clauses – where the customer may be liable for the liability, loss or costs suffered or incurred by the Bank;

The customer must compensate the Bank if any liability is incurred in relation to circumstances which are, amongst other things, not of material risk to the Bank, not in the customer’s control, and could have been mitigated by the Bank.

• Event of default clauses – where the Bank can declare an event or circumstance as constituting the customer’s default which would in turn allow the Bank to take certain actions e.g. cancelling the loan facility;

The Bank can call a default and subsequently take disproportionate actions such as cancelling the loan facility and making the outstanding sum payable immediately or on demand under the same unfair circumstances as above and does not permit the customer to remedy the default.

• Unilateral variation and termination clauses – where the Bank can vary the upfront price and financial services supplied or terminate the contract; and

The Bank has a one-sided discretion to cancel or reduce the loan facility even though the customer is compliant with their loan repayments, and to impose a termination fee on the customer regardless of the reason for termination.

• Conclusive evidence clauses – where the Bank’s certificate is conclusive evidence of the amount owed unless the customer proves otherwise.

The Bank can place an evidential burden on the customer upon matters which the Bank is better positioned to provide evidence for.

In deciding whether a term is unfair in each of the categories mentioned above, the court mainly drew upon the following criteria:

• whether the terms would cause a significant imbalance in parties’ rights and obligations: s 12BG(1)(a);
• whether the terms would cause detriment to a party if relied upon: s 12BG(1)(c); and
• whether the terms were transparent: s 12BG(3).

The table we have prepared below explains in detail Justice Gleeson’s reasoning in applying these criteria to the clauses in the categories listed above. (Any entities or individuals who use these types of clauses in their documentation may be well advised to study the table to consider if any of the clauses in their document fall within or may fall within these categories.)

In addition, the court found that each of the terms fell within the examples of unfair terms listed in section 12BH of the ASIC Act. The court also considered the contract as a whole in accordance to section 12BG(2)(c) of the ASIC Act and found that there was nothing in the contract which mitigated the unfairness caused by each of the terms.

The industry also has further guidance from ASIC, which has explained that in considering the transparency of a term, ‘Terms hidden in the fine print, or terms that are phrased in legal or complex language, may not be transparent. However, a term that is transparent could still be unfair’. Concerning the assessment of the fairness of a term in the context of the contract as a whole, ASIC elaborated that, ‘For example, a potentially unfair term may be counterbalanced if additional benefits are offered under the contract to the small business. This means that a term could be unfair in one contract but not unfair in another’.

Implications and Next Steps

It is important to note that the clauses were found to be unfair due to the particular way they were drafted, and not because they fell within a particular category e.g. they were an indemnity. The point to be taken away is that terms falling under these categories may now be under greater scrutiny and present a higher chance of being challenged. As a consequence, companies that have the above types of clauses in their contracts need to review them now.

ASIC Commissioner Sean Hughes addressed the urgency for banks to act in response to the outcome of the case. Mr Hughes said, ‘ASIC is committed to protect small business owners of Australia from unfair terms in loan contracts, particularly where business borrowers are confronted with inflexible standard terms. Yesterday’s judgment shows that ASIC will take the necessary steps to enforce the law’. He also warned that, ‘Importantly, insurance firms should be preparing to extend these obligations in insurance contracts.’

For now, lenders who are lending to small businesses and are applicable to the UCT regime should review their contractual documentation to make sure that they are compliant. In turn, insurers will need to undertake the same process (and we are aware that many are already well on their way into this journey).

Our Banking & Finance and Regulatory teams have deep experience in this space and would be happy to assist you. Please reach out to your usual Gadens’ contact if you would like any further information.

Table 1:

Case: Australian Securities and Investments Commission v Bendigo and Adelaide Bank Limited [2020] FCA 716

Legislation: Australian Securities and Investments Commission Act 2001 (Cth)

Authored by:

Craig Green, Partner
Shantal Evans, Partner
Victor Asoyo, Partner

The authors would like to thank Jenn Loh for her assistance and research in preparing this article.