Fact: in the UK, small businesses comprise 95% of all businesses and two-thirds of householders own their own homes. Finance raised by second mortgages on those homes is a significant source of capital for the start-up of small businesses.
Here's a typical scenario. A wife is asked to sign a charge over the family home to support her husband's business obligations. She signs the charge without fully understanding the risks involved. The husband's business fails, the lender enforces its charge and the family home is lost.
The law has always offered the wife protection in circumstances where she signs a charge or guarantee as a result of the misrepresentations or undue influence of her husband. Indeed, this protection has been extended to unmarried couples (homosexual and heterosexual), employers and employees, nephews and elderly aunts.
Of course, this is very unsettling for lenders who need to know exactly what they must do to prevent the wife from later challenging the security (and having it set aside) in the courts. Unfortunately, a string of cases such as Barclays Bank O'Brien  created confusion amongst lenders in this regard.
In O'Brien, the Law Lords suggested that lenders warn the wife (at a private meeting at which the husband was not to be present) of the extent of her potential liability, the risks involved for her and the fact that she should get independent legal advice. Later decisions place more emphasis on the need for independent legal advice which created uncertainty.
At last the Law Lords, in Royal Bank of Scotland Etridge (2001), have provided clarity to lenders and their lawyers as to the steps they need to take when faced with a transaction where there is a risk of undue influence.
In Etridge, the House of Lords acknowledged the problem of the lender itself advising the wife on her position. There remained a risk that the lender would provide only token advice and that the wife would still not be fully aware of all the practical implications of the loan for her future. Following Etridge it is clear that the lender will now be on inquiry of the risk of undue influence in any transaction where the relationship between the borrower and the surety is non-commercial. This is most likely to occur whenever a wife stands as surety for her husband's debts or vice-versa; whenever the lender has notice of a relationship between the borrower and the surety; and where the wife becomes surety for the debts of a company whose shares are held by her and her husband, regardless of the level of the wife's shareholding or whether she is a director or the secretary of the company.
However, the lender will not be on inquiry where a loan is made to the husband and wife jointly, unless the lender is aware that the loan is not being made for their joint purposes, but for the husband's purposes alone. The courts will consider that 'those engaged in business' will be able to look after themselves and are capable of understanding the risks.
Once the lender is on inquiry of the risk of undue influence, what steps should it take to protect its position by satisfying itself that the wife has understood the practical implications for her of the loan? The lender will be expected to take reasonable steps (see box). There is little a lender can do to protect itself from an allegation of 'actual' undue influence by the husband, whether or not independent legal advice is obtained. Actual undue influence occurs where a husband applies pressure or coercion to his wife, physical or otherwise.
These new requirements on disclosure by the bank will only apply to security documents entered into after the October 11 2001. Etridge also goes into great detail on the advice that solicitors should provide. This article is focused more towards the perspective of the lender but it is worth noting that a solicitor will be expected to explain the following:
His role and why it is necessary for him to be involved The nature of the documents and the consequences of signing them How serious the risks involved are, the extent of the wife's exposure, how long it will last and how the bank will enforce its security That the wife has a choice as to whether or not to proceed and ensure that she wishes to do so The solicitor should also make sure that the wife is happy for him to write to the bank confirming that he has given her the advice.
Steps the lender must take
The lender may still wish to advise the wife itself at a meeting (at which her husband is not present) but this step alone will not to satisfy the obligation on them to make sure the wife has received independent legal advice. The lender should seek confirmation from an independent solicitor that s/he has informed the wife of all the risks and practical implications involved. The lender can rely on this step alone provided there is no reason to expect that the advice the wife has received is inappropriate. The lender wishing to rely upon confirmation from an independent solicitor should write to the wife directly and tell her the following information:
That it will require confirmation from an independent solicitor acting for her that the nature of the documents she is signing and that the practical implications of signing have been fully explained to her That she will be legally bound when she has signed the documents That she should nominate a solicitor to act for her, independently of her husband, to give the requested confirmation to the lender That her husband's solicitor may act for her but she is free to instruct a different solicitor if she wants to and would be well-advised to do so The lender should provide any necessary financial information requested by the independent solicitor that will help him to advise the wife properly. The lender will need to consider each transaction carefully to determine what information is needed on each occasion but this will ordinarily include minimum information such as the reasons for the loan, a copy of the application, the amount and terms of the loan, the current amount of the husband's debts and the amount of the husband's current overdraft.
If, unusually, the lender believes that the wife has been misled by her husband or is not entering into the transaction of her own free will it should tell the solicitor why. The lender will need to obtain the husband's consent to provide the information requested by the independent solicitor. If he refuses the lender should not proceed.
The lender should ensure that it receives the confirmation in writing from the wife's solicitor.