A. The View that Unjust Enrichment Can Never Lead to Proprietary Restitution

It is first necessary to consider the arguments made by those who propose that the question of proprietary restitution depends on whether or not the transferor intended to transfer title to the recipient. For the most part, these writers take the view that a claim for unjust enrichment will normally result in an action for personal restitution, and that a constructive trust is only available where the claimant bases their claim on a “want of title” which is seen as a separate action.Footnote ²¹ These writers generally accept that proprietary restitution will be available for cases of unauthorised transfers, although they would distinguish an unauthorised transfer from cases of mistake where the claimant has made a conscious decision to make the transfer.Footnote ²² The significance of this is that those who have adopted this approach have generally argued that constructive trusts will rarely, if ever, be available for mistaken transfers.Footnote ²³ A number of these writers accept that a proprietary interest may arise as a result of rescinding a fraudulently induced transfer, although even then it is apparent that these writers are not entirely convinced by this possibility.Footnote ²⁴ This rescission analysis is considered further on in this article.Footnote ²⁵ For present purposes, this section will focus on the views of Swadling who would restrict proprietary restitution to cases of unauthorised transfers, leaving the deceived or mistaken transferor with merely a personal claim for restitution.Footnote ²⁶ Swadling's approach rests on the premise that unjust enrichment and property are discrete and exclusive categories, without any overlap. Importantly, Swadling argues that where the claimant has authorised a transfer, title to the money will pass to the recipient regardless of whether the transfer was made under a mistake or was induced by deception.

There are two reasons for departing from Swadling's refusal to accept the possibility of proprietary restitution in cases of mistake. The first reason relates to the question of how the views of Swadling “fit” with the case law. Swadling concedes that this position is one that would involve regarding some of the existing case law as wrongly decided.Footnote ²⁷ This can be demonstrated by considering how the courts have actually been applying proprietary restitution in cases of fraudulently induced transfers. For example, it is evident that the claim would provide priority in insolvency as demonstrated by Commerzbank Aktiengesellschaft v IMB Morgan plc, where many of the claimants had apparently been unaware that they had been the victims of fraud.Footnote ²⁸ Despite the fact that there were insufficient funds to repay all of the creditors, the claimants who could show that they were victims of fraud were awarded proprietary claims.

The second reason for departing from Swadling's general proposition that proprietary claims are not available for mistaken payments or fraudulently induced transfers is that the passing of title does not preclude a new equitable title from coming into existence in response to other factors. For Swadling, the focus is solely on the actions of the claimant as under his approach it is only where the claimant has not intended to transfer the money to the recipient that proprietary restitution will be available to protect the title of the claimant.Footnote ²⁹ In other words, by focusing purely on the intention of the claimant, it precludes any consideration of the behaviour of the recipient in the establishment of a proprietary interest. One can agree with Swadling's argument that a mistake or a fraudulently induced transfer will normally be effective to defeat the original title of the transferor, but that does not need to lead to the conclusion that a new title for the transferor cannot be created in the appropriate circumstances.

B. Unjust Enrichment Theorists

In sharp contrast to the position taken by Swadling, a number of unjust enrichment scholars have argued that proprietary restitution is, or at least should be, available for claims arising from unjust enrichment.Footnote ³⁰ Notably, in the context of mistaken payments, the question of proprietary restitution under the unjust enrichment approach is claimant-orientated as it focuses on the absence of the claimant's fully informed consent.Footnote ³¹ The oft-cited decision in Chase Manhattan is purportedly an example of proprietary restitution for unjust enrichment.Footnote ³² The facts are well known; the claimant bank mistakenly paid $2 million to the defendant bank, which then entered liquidation before the money was repaid. Goulding J. concluded that the money was held under a trust as the transferor retained an equitable interest in the money. As mistake is a recognised “unjust factor”, this decision has been used to support the proposition that proprietary restitution is generally available for other unjust factors, except in cases where the unjust factor is a subsequent failure of consideration.Footnote ³³

The problem with arguing that Chase Manhattan establishes the general availability of proprietary restitution for mistaken transfers is that it is not reflected in the case law.Footnote ³⁴ One such example is Fitzalan-Howard (Norfolk) v Hibbert, where the recipient entered administration before there was an opportunity to repay a mistaken payment.Footnote ³⁵ In other words, this case appears to be very similar to Chase Manhattan. Tomlinson J. explained that the issue of whether proprietary restitution was available was a “difficult” one, but that it was not necessary to conclusively deal with the issue as it had not been argued by the claimant.Footnote ³⁶ Nonetheless, Tomlinson J.'s judgment indicated that proprietary restitution would not be available from the outset, and moreover that the success of such a claim would depend on the state of mind and the actions of the defendant after the payment was received.Footnote ³⁷ In another recent decision, Pertemps Recruitment Partnership Ltd. v HMRC,Footnote ³⁸ Arnold J. concluded that mistaken payments, which were received by a recruitment agency, formed part of the assets of the recipient company. The clients who had made these payments did not have any proprietary interest in the mistaken payments, and would only have been entitled to a personal claim for restitution.

Admittedly, one may take the view that the more recent case law is wrong. Nevertheless, if the Chase Manhattan decision does stand for the general availability of proprietary restitution in cases of unjust enrichment, a workable model needs to be developed to explain when it is and is not available. In Birks' earlier writings, he conceded that the availability of proprietary restitution had “never been clearly stated”.Footnote ³⁹ Even today, the issue remains unsettled.Footnote ⁴⁰ Birks, for example, advocated what he referred to as the “pro-proprietary future” whereby proprietary restitution would be available for all cases of vitiated transfers.Footnote ⁴¹ This would arguably be a case of “proprietary overkill”, particularly when commentators such as Swadling and Calnan have objected to the availability of proprietary restitution even in cases of fraudulently induced payments.Footnote ⁴² Another leading unjust enrichment lawyer, Burrows, has presented a more restrained approach that would allow proprietary restitution where the claimant has not “taken the risk of insolvency”, which would operate in cases such as mistaken payments or fraudulent transfers but not in others such as failure of consideration.Footnote ⁴³ However, as a test for determining when proprietary restitution would be available, it does not seem to provide sufficiently clear guidance. One could argue that someone takes the risk of insolvency the second that they pay their money over to another individual, even if the transfer was induced by a fraudster. As Duggan explains, “it could just as plausibly be argued that the risk of fraud is an incident of contracting”.Footnote ⁴⁴ A transferor whose consent is vitiated because they were operating under a mistaken belief always takes at least some risk, even where proprietary restitution will be available, as the money might not be recoverable if, for example, it has been transferred into an overdrawn account.Footnote ⁴⁵

Moreover, there are cases of failure of consideration where one could argue that the claimants did not consciously take the risk of insolvency. In particular, in cases involving consumer purchases, there is very little room for a consumer to negotiate a contract whereby they will stand as a secured rather than an unsecured creditor.Footnote ⁴⁶ Accordingly, Chambers has stated that “[i]t is not obvious why a provider who believes ‘that the recipient will perform his part of the bargain’ is any more of a risk-taker than a mistaken payer”.Footnote ⁴⁷ As a justification for providing proprietary restitution, this would imply that a proprietary claim could be available in other claims of unjust enrichment, which is not supported by the current case law and could also operate to the detriment of others whose claims may be just as deserving as the mistaken payer. Obviously, it would be impractical and would fundamentally change the nature of insolvency law if claimants were afforded proprietary restitution for subsequent failures of consideration.Footnote ⁴⁸ However, it is hard to see how the mistaken payer has any more justification to have the benefit of proprietary restitution except for the elementary fact that there are likely to be many less mistaken payers than those who would seek restitution on other grounds.Footnote ⁴⁹

An additional problem with the unjust enrichment approach is that the principle of “taking the risk of insolvency” could just as easily be reinterpreted as a justification for not providing proprietary restitution in cases involving mistaken payments. This is demonstrated by Sherwin, who states that removing the proceeds of a mistaken payment from the assets of the defendant could impact on others who have certainly not taken the risk of insolvency.Footnote ⁵⁰ For example, “[i]f C is a tort creditor, C has taken only the risks inherent in interacting with other human beings”.Footnote ⁵¹ Since there may very well be other creditors who have not taken the risk of insolvency, this undermines the preference given to the mistaken payer by the unjust enrichment approach. Burrows has previously referred to the “the somewhat tangled English position on proprietary restitution for mistake”Footnote ⁵² and, given the issues created under the “taking the risk of insolvency” approach, a clearer justification needs to be found before one can explain when proprietary restitution should be available for mistaken payments.

C. The “Rescission” Analysis

An alternative approach which seeks to explain the availability of proprietary restitution is the rescission analysis. This approach was first adopted by Millett J. in El Ajou v Dollar Land Holdings plc Footnote ⁵³ and more recently by Rimer J. in Shalson v Russo Footnote ⁵⁴ and Etherton J. in London Allied Holdings Limited v Lee.Footnote ⁵⁵ The rescission approach has found academic support from Häcker.Footnote ⁵⁶ Häcker describes this as the power model of “proprietary restitution”, where the order for proprietary restitution originates from the claimant's decision to rescind the original transfer.Footnote ⁵⁷ As with the proprietary analysis favoured by Swadling, and also the unjust enrichment analysis, the rescission approach seeks to justify an order for proprietary restitution by focusing on the position of the claimant. The idea behind rescission is that title to the money passes to the recipient, but the transferor has a power to ask for the return of the money. According to Häcker, up until the transfer is rescinded, the transferor enjoys a “mere equity” in the asset, meaning that the title can be defeated by any subsequent equitable interests. Once rescission is made, the effect of rescinding the transfer is that it permits the claimant to trace their interest into substitute assets and provides priority in insolvency (supposedly even where rescission occurs after insolvency).Footnote ⁵⁸

The first concern that can be raised against this rescission analysis is that it provides an apparently simple answer to the question of proprietary restitution, but one which may ultimately create more uncertainty in this area of law. As Worthington has noted, “[a]lmost every aspect of rescission is now contentious”.Footnote ⁵⁹ For example, it has been questioned whether rescission responds to the choice of the claimant or to the order of the court.Footnote ⁶⁰ Another issue of uncertainty concerns the nature of the claimant's interest. Whereas Häcker contends that rescission gives rise to a “mere equity” before rescission,Footnote ⁶¹ others have taken the view that a “trust” is imposed from the outset.Footnote ⁶² Furthermore, the adoption of the rescission analysis does not provide a concrete answer to one of the key issues in this area of law. Notably, Häcker's model does not provide any clear solution to the vexing question of whether or not proprietary restitution is available for non-induced mistaken payments. In fact, Häcker has contended that this is one of the benefits of the power model.Footnote ⁶³ Given the importance of establishing a clear set of rules for the availability of proprietary restitution in cases of mistaken transfers, it is questionable whether the lack of a clear answer to the main issue where there continues to be disagreement can, in fact, be regarded as beneficial.

The rescission analysis is also likely to create unnecessary uncertainty in the identification of title to money. It has already been explained that the case law does not support proprietary restitution in all instances of mistake,Footnote ⁶⁴ but there is also a significant problem in treating the transferor's interest as a “mere equity” from the outset. As noted above,Footnote ⁶⁵ in a recent tax dispute, it was held that mistaken payments are to be regarded as belonging to the recipient.Footnote ⁶⁶ The transferors of the overpayments merely would have had a general claim for personal restitution. This might seem to accord with the rescission analysis, as it suggests that the transferor's interest is a “mere equity”, and therefore title to the transferred money does not fall back into the transferor's assets until rescission. However, it is arguable that, for tax purposes, a “mere equity” would appear to be regarded as forming part of the assets of the transferor. Worthington takes this view of Vandervell v IRC, and would seem to regard the interest in the transferor's option to repurchase those shares as constituting a “mere equity”.Footnote ⁶⁷ In Vandervell, the House of Lords held that the transferor had not fully divested himself of his beneficial interest in the shares as the trustees enjoyed an option to repurchase the shares. This option simply represented the ability to enforce the return of the shares, in essence operating no differently from the “mere equity” advocated by Häcker. This conclusion is also supported by Jerome v Kelly, where the House of Lords concluded that, for tax purposes, the vendors of a piece of land had not fully disposed of their interests until the completion of the contract as the contract could have been rescinded before completion.Footnote ⁶⁸ If that is the case, the rescission analysis results in a legal paradox. For example, a fraudulent payment would be regarded as forming part of the assets of the recipient, as well as at the same time forming part of the transferor's assets. This is why the rescission analysis is problematic, as in many cases it is important to determine at any given point of time which party has the best “title” to money. In short, the rescission analysis is likely to cause more complications than solutions in this area.

The second concern is whether the authorities support the proposition that rescission for mistaken or fraudulently induced transfers will always provide the claimant with priority in cases where rescission occurs after insolvency.Footnote ⁶⁹ This is due to the simple fact that most of the cases which have supported the proprietary effect of rescission in cases of insolvency have involved either land or chattels, not money.Footnote ⁷⁰ There are two possible explanations for the lack of proprietary restitution in cases of rescinded money transfers. Calnan has commented that “rescission can only have a personal, and not a proprietary, effect in the case of payments of money”.Footnote ⁷¹ Calnan's reasoning is that, in bank transfers, the debiting and crediting of accounts means that the recipient does not receive the same thing that was transferred from the claimant. If rescission is concerned with returning the parties to their original position, then it will be impossible when money is substituted or mixed – a view which was shared by Lord Mustill in Re Goldcorp.Footnote ⁷² The second explanation comes from Millett L.J., writing extra-judicially.Footnote ⁷³ According to Millett, it may be the case that the rules on rescission are subject to the same restriction that applies to other equitable doctrines such as specific performance, which would only operate where the subject matter of rescission consists of unique property. If so, that would preclude rescission from having any proprietary effect in cases involving money transfers. This restriction would provide a serious defect in the rescission analysis, particularly as Millett L.J. is the same judge who introduced the rescission analysis in the earlier case of El Ajou.Footnote ⁷⁴ Indeed, except for recent cases that would have been decided in the same way under the approach presented in this article, rescission after insolvency does not appear to have a proprietary effect in cases involving money transfers. Importantly, where the subject matter of rescission has been in the form of a money transfer, the authorities suggest that the claimant will not enjoy priority where rescission is made after insolvency. For example, this was one of the arguments made by the claimants in Re Goldcorp.Footnote ⁷⁵ In Goldcorp, the Privy Council rejected the possibility that rescission could provide the transferor with an interest which could take priority in insolvency.Footnote ⁷⁶ Furthermore, if we turn our attention to the impact of rescission in the context of money paid in return for shareholdings, cases such as Tennent v City of Glasgow Bank further demonstrate that the claimant certainly does not gain priority unless rescission precedes the act of insolvency.Footnote ⁷⁷ Since there are clear examples of proprietary restitution in the context of mistaken transfers providing priority in insolvency before the claimants have had an opportunity to rescind, this would highlight a serious limitation of the rescission analysis.Footnote ⁷⁸

It should be noted that, just as cases such as Re Goldcorp and Tennent are problematic for the rescission analysis,Footnote ⁷⁹ they may appear to be problematic for the proprietary restitution analysis in this article.Footnote ⁸⁰ If one party misleads the transferor into believing that a contract will be performed in a way that will provide a secured investment, but fails to take the necessary steps to do this, then it would appear to fulfil the requirements of a mistaken transfer coupled with the inevitable knowledge and wilful misconduct of the recipient.Footnote ⁸¹ This is arguably what happened in Re Goldcorp and proprietary restitution was not available. The appropriate solution to this issue can be found in the significance of the contract and the circumstances surrounding the transfer. Whilst the contract is capable of being performed, there is no possibility of proprietary restitution.Footnote ⁸² This reflects what could be labelled the “subsidiarity” of claims for restitution,Footnote ⁸³ by preventing a claim of proprietary restitution from arising whilst the contract is still capable of being performed.Footnote ⁸⁴ This does not mean that a claimant cannot bring the contract to an end and then make a claim for proprietary restitution, but it does preclude proprietary restitution until the contract has in fact been rescinded.Footnote ⁸⁵ One can demonstrate this by comparing Re Goldcorp to cases such as Halley v Law Society and Campden Hill Ltd. v Chakrani, where the contracts were never capable of being performed.Footnote ⁸⁶ In the latter two cases, proprietary restitution was available before the claimants attempted to terminate the contracts. Although this may appear to be the same reasoning as used in the rescission analysis, it should be noted that the still performable contract is the reason why proprietary restitution is not available. Importantly, the analysis presented here provides an explanation of why, in cases where the contract can still be performed, the act of rescinding the contract must occur before the recipient becomes insolvent.Footnote ⁸⁷ Thus, the live contract is a bar to proprietary restitution and an act of rescission merely removes the limitation provided by a contract that can still be performed.

D. The Views of Lord Browne-Wilkinson and McFarlane

Finally, it is necessary to discuss Lord Browne-Wilkinson's dicta in Westdeutsche Landesbank Girozentrale v London Islington Borough Council, which has more recently found support from McFarlane.Footnote ⁸⁸ This provides a significant departure from the above approaches to proprietary restitution by focusing on the defendant's position, rather than the position of the claimant. In Westdeutsche, Lord Browne-Wilkinson indicated that proprietary restitution is available in cases where the recipient is aware of the defect in transfer.Footnote ⁸⁹ This is evident by two comments made by Lord Browne-Wilkinson in Westdeutsche, both of which have proven controversial.Footnote ⁹⁰ The first comment was his Lordship's suggestion that “when property is obtained by fraud equity imposes a constructive trust on the fraudulent recipient”.Footnote ⁹¹ Admittedly, this seems to circumscribe the equitable tracing rules, although this argument will be dealt with further on by demonstrating that the courts are merely paying “lip service” to these rules and in practice they are not applied by the courts.Footnote ⁹² The second comment by Lord Browne-Wilkinson was that, if the recipient of a mistaken payment realises that the money was paid under a mistake, they are bound by conscience to hold that money for the claimant.Footnote ⁹³ This has undoubtedly been a controversial statement, as Birks and Chambers have argued that this should not be followed on the basis that it would create uncertainty.Footnote ⁹⁴ McFarlane has sought to defend Lord Browne-Wilkinson's approach in Westdeutsche, stating that three propositions can be drawn.Footnote ⁹⁵ First, the transaction must involve B's loss of a right and A's acquisition of a right. This would be covered by a transfer of title to money. Second, there is no legal basis for A to have the benefit of the right. In cases of mistaken payments and fraud, this can be demonstrated by showing that B's intention was vitiated. Thirdly, A must know that he has acquired the right and the facts which show that there is no legal basis for A to continue to enjoy the benefit of the right.

One complication with this suggestion is that knowledge on its own seems insufficient as a reason for justifying proprietary restitution.Footnote ⁹⁶ For example, it is notable that in Cox v Paxton, Lord Chancellor Eldon indicated that knowledge of the circumstances would not be sufficient to establish a claim for proprietary restitution.Footnote ⁹⁷ In Cox, a clerk had embezzled money from the claimants and invested the money in insurance policies which were now in the hands of the defendants. His Lordship stated that the defendant's knowledge of the clerk's actions meant that the “morality of it is obvious: but that cannot be the foundation of a rule in Equity”.Footnote ⁹⁸ Swadling provides another example by referring to Diplock L.J. in Port Line Ltd. v Ben Line Steamers Ltd. where it was stated that “notice … is a shield not a weapon of offence. It protects an already existing equitable interest from being defeated by a purchaser for value without notice. It is not itself the source of an equitable right”.Footnote ⁹⁹ Furthermore, there is case law that demonstrates knowledge alone is insufficient to establish proprietary restitution. In Fitzalan-Howard v Hibbert Footnote ¹⁰⁰ and Pertemps v HMRC,Footnote ¹⁰¹ the recipients had knowledge that they had received a mistaken payment. Nevertheless, proprietary restitution would not have been available despite the knowledge of the recipient. This does not mean that knowledge is irrelevant in determining proprietary restitution. Indeed, most of the discussion in the case law illustrates that the state of mind of the recipient is of central importance when identifying whether proprietary restitution will be available.Footnote ¹⁰² The problem is that the Lord Browne-Wilkinson/McFarlane analysis is missing an integral ingredient; in other words, knowledge is a necessary but not sufficient requirement.Footnote ¹⁰³ The case law can only be understood once we recognise that it is also necessary to show that the recipient has breached the duty that is established by knowledge.

A. Knowledge

There are two reasons for accepting the relevance of knowledge in the context of proprietary restitution for mistaken payments. Firstly, although knowledge alone does not create proprietary rights in equity,Footnote ¹¹³ it is apparent that knowledge can be integral in establishing rights in equity. The most obvious example is the personal claim for knowing receipt (or, to use its more recent nomenclature, “unconscionable receipt”), whereby knowledge is an integral element in establishing personal liability for the receipt of trust property.Footnote ¹¹⁴ Even when this has been reformulated as unconscionable receipt, the emphasis is still on the extent of the recipient's knowledge.Footnote ¹¹⁵ Admittedly, Birks has argued that knowing receipt is essentially the equitable version of unjust enrichment, with knowledge being relevant to the defence rather than the cause of action.Footnote ¹¹⁶ Nevertheless, the vast majority of the case law on knowing receipt has emphasised the knowledge element as a key ingredient in the cause of action rather than the defence.Footnote ¹¹⁷ Another action in equity that requires knowledge, at least to some degree, is dishonest assistance.Footnote ¹¹⁸ Dishonest assistance is not founded on unjust enrichment, as the defendant need not be enriched, and is more commonly referred to as a wrong-based claim.Footnote ¹¹⁹ Although in Royal Brunei Airlines v Tan it was stated by Lord Nicholls that “‘knowingly’ is better avoided as a defining ingredient of the principle”, nonetheless when his Lordship defined the requirement of dishonesty it was stated that “[a]n honest person would have regard to the circumstances known to him”.Footnote ¹²⁰ Whilst the above actions are personal claims, they do show that the defendant's knowledge can be one of the necessary ingredients in establishing causes of action in equity. Secondly, there is considerable authority which indicates that knowledge creates an equitable duty when it operates in the context of a mistaken transfer. For example, there is a well established line of authority which establishes that financial institutions have an equitable duty to disclose information in assisting the recovery of the proceeds of mistaken transfers.Footnote ¹²¹ Moreover, there is also authority to support the proposition that the recipient who has knowledge of the mistaken transfer also owes an equitable duty to the claimant. In the Privy Council opinion in Colonial Bank v Exchange Bank of Yarmouth, Lord Hobhouse took the view that “when the defendants were told that a mistake was made, an equity was fastened upon them not to alter the position of the fund until the mistake could be repaired”.Footnote ¹²² In an earlier case, Freeman v Jeffries, Bramwell B. also made reference to a “duty of repayment” which would only arise when the defendant had notice of the mistake.Footnote ¹²³ Similarly, in Ashmole v Wainwright, Lord Denman stated that “as to equity, when the defendants had received such notice as they did, both from the attorney and from the language of the particulars, it was their duty to pay back the sums which they had no right to retain”.Footnote ¹²⁴ A final example is provided by Rowlatt J. in H Clapham v JB Culucundis.Footnote ¹²⁵ Although the claim before the court was one for personal restitution for a mistaken payment, the judge discussed the possibility of proprietary restitution. It was stated that, if the recipient had knowledge of the mistake, then the money would have represented “a fund in his hands that he would have had to hand back in specie”.Footnote ¹²⁶ There is more than enough support to establish that a separate duty, not based on unjust enrichment, arises when a recipient has knowledge that the payment was made under a mistake.

A final comment concerns the role of knowledge. It is important to clarify the degree of knowledge that is required. It was stated by Chambers Q.C. in Papamichael v National Westminster Bank plc that actual knowledge is required.Footnote ¹²⁷ Furthermore, Virgo has argued that a restrictive approach should be adopted in regards to proprietary restitution for mistaken transfers, “because of the adverse effect they have on the defendant's creditors”.Footnote ¹²⁸ This would also explain why proprietary restitution will not arise in cases where the recipient has a genuine belief that they are entitled to keep the payment.Footnote ¹²⁹ In contrast, Collins J. in Commerzbank indicated that the test for determining the availability of proprietary restitution was the same as the one used to establish knowing receipt.Footnote ¹³⁰ This would have the benefit of harmonising knowledge for both personal and proprietary claims in equity, although that would appear to translate the requirement of knowledge into a requirement of unconscionable receipt. This would prove controversial, as Birks rejected any role for “conscience” in establishing claims for proprietary restitution on the basis that it would be “too vague”.Footnote ¹³¹ Indeed, there is much to be said for avoiding a term which does not help us to identify the factual circumstances in which proprietary restitution is available.Footnote ¹³² Nevertheless, given the use of “unconscionability” in the application of the defence of change of position in unjust enrichment claims, it may be an inevitable consequence that there will always be an element of flexibility in determining the required state of mind of the recipient in cases of restitution.Footnote ¹³³ It is suggested in this article that the better view would be to require knowledge, whilst also accepting that knowledge can be inferred, particularly where the recipient has gone to some lengths to keep the money out of the hands of the claimant. This is because the courts may be reluctant to find that a recipient has acted with the same level of knowledge that would be required to show dishonesty, due to the stigma that this finding creates.Footnote ¹³⁴ Furthermore, in many cases, it may be difficult to show actual knowledge, so it would avoid prolonging litigation if it was possible to establish proprietary restitution by a pragmatic inference that the recipient knew that the money should have been repaid. An example is Getronics, where Master Whittaker inferred knowledge without direct evidence.Footnote ¹³⁵ At the very least, it should be possible to infer knowledge for the purposes of proprietary restitution and this would avoid the uncertainty that could be created by the role of unconscionability.

B. Wilful Misconduct

The immediate issue is to explain why the breach of the duty should require wilful misconduct and not a different standard such as negligence. A negligence standard was suggested in the recent case of Fitzalan-Howard by Tomlinson J. where the judge indicated that the point in time when a constructive trust would arise “might be the point at which he could reasonably be required to have acted”.Footnote ¹³⁶ It is contended in this article that the standard of wilful misconduct is more appropriate than a negligence standard. This is because the adoption of a standard of “wilful misconduct” avoids an inconsistency. If the carelessness of the claimant is not sufficient to establish proprietary restitution, then it is difficult to see why mere carelessness of the recipient should be sufficient.

The adoption of the phrase wilful misconduct in this context borrows from the terminology used in Armitage v Nurse, where Millett L.J. discussed the meaning of this term in the context of breach of trust.Footnote ¹³⁷ Behaviour can be described as “wilful misconduct” when the individual “either consciously takes a risk that loss will result, or is recklessly indifferent whether it will or not”.Footnote ¹³⁸ There are two benefits provided by adopting this language in determining breaches of the duty identified in this article. One benefit is that this is a phrase that the courts are already familiar with and there is a body of case law that can be used to assist in determining whether or not a recipient has acted with wilful misconduct. But the most important benefit, as will be seen in the penultimate section below, is that this analysis provides the best “fit” with the case law. A clear example would be where the transfer was induced by fraud. In these cases, the recipient will have knowledge and it will be evident that, from the moment of receipt, the recipient is treating the fund as their own with no intention to make restitution.Footnote ¹³⁹ Another example would be making an immediate transfer to another person or another bank account of the same amount which has been received.Footnote ¹⁴⁰ A final example where wilful misconduct may arise is where a recipient knows that the immediate return of the money is a pressing concern, and has sufficient time to make restitution, but makes no attempt to return the money before personal restitution becomes impossible.Footnote ¹⁴¹

In many cases, knowledge and wilful misconduct will go hand in hand, but they are not always conterminous. This is important for two reasons. For one, the additional element of wilful misconduct provides a higher degree of certainty by focusing on the actions of the recipient. This requirement will often provide an identifiably observable moment in time when proprietary restitution arises, which otherwise would be difficult to identify if the question was merely about the state of mind of the recipient. The second reason for separating knowledge and wilful misconduct in this way is that the breach of the recipient's duty provides a much stronger justification for the availability of proprietary restitution than knowledge alone does. This is important, as an obvious objection to the argument presented in this article would be that proprietary restitution takes the money out of the hands of any third party creditors.Footnote ¹⁴² According to Swadling and Birks, such an objection would not be one that the courts should concern themselves with; that is a question for the legislature, and here we are dealing with questions of who is entitled to property.Footnote ¹⁴³ Nevertheless, if one does accept the relevance of the impact of proprietary restitution on other parties, it should be noted that there is a long tradition in the courts of equity of recognising proprietary rights in response to wrongful acts, such as fraud or more generally criminal acts.Footnote ¹⁴⁴ The principle has always been clearly stated that no one (not even creditors) should benefit from the fraud of another,Footnote ¹⁴⁵ as stated by Lord Eldon in Huguenin v Baseley: “I should regret, that any doubt could be entertained, whether it is not competent to a Court of Equity to take away from third persons the benefits, which they have derived from the fraud, imposition, or undue influence, of others.”Footnote ¹⁴⁶ Although the wilful misconduct of the recipient's duty to maintain the fund should not necessarily be regarded as an instance of fraud, there is at least some support for the proposition that it deserves similar treatment. For example, deliberately taking advantage of a claimant's error has previously been described as being “equivalent to fraud”,Footnote ¹⁴⁷ and it has been stated that equity would intervene “where one party to the transaction, being at the time cognizant of the fact of the error, seeks to take advantage of it”.Footnote ¹⁴⁸ The wilful misconduct of the recipient is not the same as acting fraudulently in the strictest sense, but it would fit within the wider concept of “equitable fraud”, which includes “any breach of the sort of obligation which is enforced by a court that from the beginning regarded itself as a court of conscience”.Footnote ¹⁴⁹

It is argued here that the appropriate response to the recipient's wilful misconduct is the recognition of a claim for proprietary restitution.Footnote ¹⁵⁰ One reason why proprietary restitution is appropriate is that there needs to be a distinction between the consequences of the breach of duty and the pre-existing and separate right of the claimant to restitution for unjust enrichment. If the failure to maintain the fund simply created another personal claim against the recipient, this would make the duty almost empty of content as it would have little practical benefit given the pre-existing claim for restitution on the basis of unjust enrichment. If knowledge and wilful misconduct are to have practical significance, the legal response must be stronger than merely providing another personal claim against the recipient. Another reason for the proprietary response is that it flows from the nature of the duty. Knowledge creates a primary right for the claimant to have the fund maintained until personal restitution is made. The primary right does not itself establish a right to have the return of the specific money that was transferred,Footnote ¹⁵¹ so there would not be a breach of duty if the recipient repaid the claimant with money from a separate source and retained the direct proceeds of the mistaken payment.Footnote ¹⁵² Importantly, it is the breach of the primary right that brings into play the secondary right; if the recipient will not maintain the fund until restitution is made, the court will do the next best thing and impose a constructive trust over the traceable proceeds of the mistaken payment. As Smith has noted, “Equity … routinely turns an obligation relating to a particular asset into a kind of proprietary right”.Footnote ¹⁵³ This idea that a breach of a duty can create a proprietary response is reflected in the recent Supreme Court decision in FHR European Ventures LLP v Cedar Capital Partners LLC, where a constructive trust was recognised for profits made in breach of a fiduciary’s duty to their principal.Footnote ¹⁵⁴ It is only an incremental step to further develop these authorities so that proprietary restitution applies not just to fraud and breaches of fiduciary duty, but to any cases where the recipient's actions would be relevant in demonstrating wilful misconduct of their duty to preserve the money received.

A. The Tracing Issue

One possible problem with the availability of proprietary restitution in cases of mistaken transfers is that the law of tracing involves two interlinked set of “illusory rules”, both of which would limit the ability of a claimant to trace payments. The two set of illusory rules are, firstly, that at common law one cannot trace into mixtures and, secondly, that the alternative method of tracing in equity is only available where there has been an initial fiduciary relationship. The shortcomings of these rules must be dealt with before we can achieve clarity in this area of law.

The first illusory rule is that, at “common law”, it is only possible to trace into substitute assets and that the tracing process comes to an end once the money has been mixed with other money.Footnote ¹⁶⁶ “Equitable tracing”, on the other hand, has no such problem tracing money into mixtures. Although the equitable tracing rules are more favourable than the common law rules, the second illusory rule is that equitable tracing is only available in limited circumstances. In Re Diplock, Lord Greene stated that equitable tracing is only available where there is an initial fiduciary relationship, such as in a trust or agency situation.Footnote ¹⁶⁷ It is contended in this article that these illusory rules should give way to a unified set of tracing rules that applies to mixtures of money even in the absence of any fiduciary duty. In fact, there are clear indications in the more recent case law that money can be traced into mixtures even where there has not been any initial fiduciary duty.Footnote ¹⁶⁸ A recent example is Barclays Bank plc v Kalamohan, where Proudman J. concluded that a mistaken transfer which had been received by a customer of the claimant bank was held under trust.Footnote ¹⁶⁹ In other words, it would be possible to trace through mixtures. According to the judge, the defendant “was acting in breach of fiduciary duty and the moneys were received by or on behalf of the defendants in circumstances where it would be unconscionable for them to retain them”.Footnote ¹⁷⁰ This conclusion was reached despite the fact that the defendant was not acting in a genuine fiduciary capacity, but was merely a customer of the claimant bank.Footnote ¹⁷¹ As Norman has previously noted, it is questionable “whether it is desirable to keep on conjuring up fiduciary relationships in this fashion”.Footnote ¹⁷² Arguably, the courts are merely paying “lip service” to the requirement of a fiduciary relationship, which is misleading and is bound to lead to wider confusion about the “fiduciary” concept.Footnote ¹⁷³ In light of decisions such as Kalamohan, it must now be acknowledged that one can trace money into mixtures even when there is no initial fiduciary relationship.Footnote ¹⁷⁴ This conclusion is not just reached on the basis of Kalamohan. Footnote ¹⁷⁵ Other recent examples include Commerzbank AG v IMB Morgan plc,Footnote ¹⁷⁶Getronics v Logistic & Transport Consulting,Footnote ¹⁷⁷ and Bank of Ireland v Pexxnet.Footnote ¹⁷⁸ In each of these cases, the claimant's money could be traced, even in the absence of any initial fiduciary relationship and irrespective of any mixing that occurred.Footnote ¹⁷⁹

It is not just in cases of fraud where we see the courts allowing claimants to trace through mixtures, regardless of whether there has been a breach of fiduciary duty. This is worth noting as Fox has argued that tracing will not be available for most mistaken payments as, according to Fox, the money will only be traceable after the recipient has knowledge.Footnote ¹⁸⁰ Applying this reasoning, unless the recipient is aware of the mistake from the outset, the claimant would not be able to trace the money if it is mixed before the recipient knows about the defect in transfer.Footnote ¹⁸¹ If this is the correct interpretation of the case law, it would mean that proprietary restitution could still arise in most cases of fraudulently induced transfers but proprietary restitution would rarely be available in other cases of mistaken payments. However, this does not correlate with Chase Manhattan Bank NA v Israeli-British Bank (London) Ltd., or the more recent decision in Getronics v Logistic & Transport Consulting.Footnote ¹⁸² In Getronics, there was some doubt whether the recipient had induced a mistaken payment, but Master Whittaker still proceeded on the basis that the recipient was unaware of the defect in transfer until after it had received the mistaken payment. Nonetheless, the money could still be traced through subsequent mixtures.Footnote ¹⁸³ To explain the availability of tracing in cases like Getronics, it is important to keep in mind that in tracing the claimant is seeking to trace assets that are “causally and transactionally” linked to their original property.Footnote ¹⁸⁴ That process is not made impossible merely because the initial proprietary interest of the claimant comes to an end upon receipt. There are two issues here; identifying the property in question, which is achievable through tracing, and then asserting a proprietary right under a constructive trust, which is established through a proprietary claim. To put the argument another way, if A makes a gift of £100 to B, who then mixes the money with other funds in B's bank account, the usual response is that A cannot trace the money. But, if Foskett v McKeown is correct, and the tracing rules are rules of evidence, that is not the appropriate way of analysing the situation.Footnote ¹⁸⁵ The more appropriate analysis is that A can trace, but that would ultimately prove to be pointless. As Sheehan has explained, “[t]racing is linked to no particular cause of action. Indeed we can trace even if we have no cause of action”.Footnote ¹⁸⁶ This is further evidenced by the fact that the courts are prepared to trace mistaken payments even in cases where it has not been fully established that the claimant does in fact have a proprietary right to recover the money.Footnote ¹⁸⁷ Therefore, it is more appropriate to separate questions of tracing from questions of whether the claimant actually does have a proprietary interest. To do otherwise would be to conflate the evidentiary process with the cause of action.Footnote ¹⁸⁸ Moreover, in a mistaken payment, the claimant at least has an initial interest in the money before payment. Although the claimant's original title to the mistaken payment ends at the point of the transfer, there is at least a point in time where there is an identifiable sum of money from which the tracing process can begin.Footnote ¹⁸⁹ The ability to trace this money does not become impossible so long as we have a starting point where we can identify an initial fund that we are seeking to trace. Support for this analysis can be found in El Ajou, which concerned the tracing of money paid through accounts in jurisdictions that do not recognise the trust concept.Footnote ¹⁹⁰ Although Millett J. rejected the relevance of the location of the accounts, his judgment indicated that tracing would not be defeated even where the claimant could not assert an equitable charge over each account that the money passed through. To quote Millett J.; “[a]n English court of equity will compel a defendant … to treat assets in his hands as trust assets if, having regard to their history and his state of knowledge, it would be unconscionable for him to treat them as his own.”Footnote ¹⁹¹ So long as there is a fund in the hands of the recipient that is “causally and transactionally” linked to the original mistaken payment, then the claimant should not be denied the benefit of proprietary restitution where there has been a breach of the recipient's duty.

B. Defences and Personal Claims Arising from Proprietary Restitution

The final issues that remain to be clarified are, firstly, the relevant defences to a claim for proprietary restitution and, secondly, the nature of any personal claim that arises as an alternative to proprietary restitution. In relation to the first point, when talking about an initially innocent recipient who subsequently obtains knowledge and who has acted with wilful misconduct, there is no need for any separate defences to proprietary restitution because sufficient protection is already “built-in” (so to speak) in the requirements of knowledge and wilful misconduct. Moreover, under the approach here, proprietary restitution requires the availability of a pre-existing right to restitution under unjust enrichment, so if the money is transferred to a second innocent recipient before proprietary restitution arises, then the claimant will normally be restricted to a personal claim for restitution against the initial recipient.Footnote ¹⁹² The only uncertainty is what happens with innocent recipients who subsequently receive the traceable proceeds after proprietary restitution arises. To clarify, once the duty is breached and proprietary restitution arises, the fund is no different to any other form of trust and can be followed and traced into the hands of subsequent recipients. If the continued existence of the proprietary claim was restricted to cases where the fund is still in the hands of a wrongdoer, it would only serve to repeat the complications created by the “mere equity” analysis. Furthermore, from a practical perspective, in most cases the reason why the money has been transferred to a subsequent recipient is inextricably linked with the deliberate breach of duty that has justified the imposition of the trust in the first place.Footnote ¹⁹³ In complicated cases of fraud, where the money is transferred between multiple accounts, it would be too onerous to require a claimant to demonstrate that each recipient had the requisite knowledge and had acted with wilful misconduct. In light of this, the most appropriate means of buffering the impact on third party recipients is to ensure that innocent recipients are provided with sufficient defences. In regard to innocent recipients, the claim for proprietary restitution can be defeated by a good faith purchaser.Footnote ¹⁹⁴ It also seems that change of position may also be available to a party who relies on the payment in good faith,Footnote ¹⁹⁵ although there is some doubt about this.Footnote ¹⁹⁶ As the operation of proprietary restitution in the context of mistaken transfers depends on wrongdoing, it would be preferable to make the change of position defence available to innocent recipients in addition to the defence of purchasing in good faith. This would limit the impact of proprietary restitution on innocent recipients and creditors.

In relation to the second issue, it is evident that proprietary restitution does not preclude a personal claim as an alternative, as demonstrated by the decision in Jones v Churcher.Footnote ¹⁹⁷ It is also apparent that personal claims in this context could be framed using the language of both “knowing receipt” and “unjust enrichment”.Footnote ¹⁹⁸ In most scenarios, the language used makes little difference to the outcome of the case. The requirements of knowing receipt are satisfied by the “unconscionable” receipt of a third party, which would also normally preclude the availability of the change of position defence for the purposes of a claim in unjust enrichment.Footnote ¹⁹⁹ The main relevance of the terminology is whether an innocent third party recipient of the fund after proprietary restitution has been triggered would be liable where they no longer retain the traceable proceeds of the claimant's money, but are nonetheless still enriched. In the one case where this was relevant, the court seems to have taken the view that there was no claim on the basis of continuing enrichment. In Bank of America v Arnell,Footnote ²⁰⁰ money had been transferred under a counterfeit cheque to the account of a company owned by the first defendant, who then transferred this money to his personal account. The first defendant then sent the money to the account of the fourth defendant, who had innocently received the money. The fourth defendant initially retained £750 but then spent this money on general expenses. Therefore, she would not have had any personal liability under knowing receipt, but she would have been liable under unjust enrichment as an ordinary expenditure, such as this, would not constitute a change of position.Footnote ²⁰¹ Despite her continuing enrichment, no order was made for her to pay the claimant £750. Again, since the operation of proprietary restitution in the context of mistaken transfers is primarily concerned with preventing wrongdoing, it is preferable to adopt the position that buffers the impact on innocent parties. Therefore, as Arnell demonstrates, there should be no liability for continuing enrichment once proprietary restitution is triggered and it would thus be preferable to classify any personal claim against subsequent recipients as based on knowing (or unconscionable) receipt.Footnote ²⁰²

A. Examples where the Requirements of Proprietary Restitution Were Present

The requirements of knowledge and wilful misconduct are readily satisfied in cases where the recipient has fraudulently induced the transfer.Footnote ²⁰³ In cases of fraud, where the recipient has knowledge from the outset, all of their subsequent dealings with the mistaken payment will be coloured by that fraudulent motive. From the moment of receipt, it will be evident that the recipient will be treating the money as their own without intending to make restitution. This establishes the basis for proprietary restitution. However, proprietary restitution would not arise from the outset where a fraudster induces the payment to be received by a separate innocent party.Footnote ²⁰⁴ Whilst the award of proprietary restitution is justified on the basis of wrongful conduct, the key is not the presence of any wrongful conduct (which would make the principle too wide in application), but rather the wrongful conduct of the recipient.

The more controversial proposition is that the recipient's knowledge and wilful misconduct can also provide the basis for proprietary restitution for instances of non-induced mistaken payments. It is at this point that we can return the focus to the decision in Chase Manhattan.Footnote ²⁰⁵ In Chase Manhattan, the claimant had mistakenly paid money to the recipient, who entered into liquidation before the money was returned. Although the reasoning in Goulding J.'s judgment needs to be rejected in light of the analysis presented in this article, it cannot be ignored that the outcome of the decision was regarded as correct by Lord Browne-Wilkinson in Westdeutsche.Footnote ²⁰⁶ The benefit of the approach adopted in this article is that the facts of Chase Manhattan would allow a claim for proprietary restitution if one accepts that the recipient not only had knowledge but had also acted with wilful misconduct in performing their duty to maintain the fund. In Chase Manhattan, it was concluded by Goulding J. that the recipient had knowledge of the mistake for nearly an entire month before petitioning for a winding up order. Under the approach presented in this article, this would establish the initial duty to maintain the fund until restitution was made. Following the central premise of this article, however, more would be required than mere knowledge of the mistake to constitute a breach of this duty. It is contended that, on the reported facts, the recipient's actions should have been sufficient to be regarded as wilful misconduct. The recipient was already in financial difficulty at the time of receiving the mistaken payment; indeed, it was noted by Goulding J. that the impending bankruptcy of the recipient bank was known to its employees.Footnote ²⁰⁷ The inaction of the recipient, in the circumstances, provides the basis for a breach of their duty to maintain the fund. The case of Re Thellusson is a useful illustration of how the failure to take positive steps to protect someone else's rights to recover money would call for the intervention of equity.Footnote ²⁰⁸ In that case, a recipient had arranged a loan with the claimant. Atkin L.J. concluded that the recipient's subsequent knowledge of his impending bankruptcy meant that he “ought as a just man then to have restored the money”.Footnote ²⁰⁹ This was because the recipient would be aware that “the money would go straight into the possession of the Official Receiver, and that the sweeping away of his assets in bankruptcy would make it impossible for him to comply with his covenant to repay”.Footnote ²¹⁰ There is a similar issue in Chase Manhattan. The recipient had sufficient knowledge of the mistaken payment and knowledge of the dire financial position which made the winding up the company an imminent eventuality. Moreover, the failure to make restitution during the month between the knowledge and the winding-up order made the possibility of personal restitution impossible. This is for the simple reason that, when a winding-up order is made, any attempt to return the money would in any case be void.Footnote ²¹¹ As a result, it should be possible to regard the actions of the recipient in Chase Manhattan as constituting “wilful misconduct”. To further illustrate this, in Lewis v Great Western Railway Company, the court had to deal with the term “wilful misconduct” in relation to the defendant's duty to carry the claimant's goods. In defining the nature of the duty, Brett L.J. stated that “if he does, or omits to do something which everybody must know is likely to endanger or damage the goods, then it follows that he is doing that which he knows to be a wrong thing to do”.Footnote ²¹² Applying this reasoning by analogy, if one accepts the existence of a duty to maintain the fund to ensure restitution of the mistaken payment, Chase Manhattan is a good example of a recipient failing to act in circumstances where continued inaction of the recipient was clearly going to endanger the fund.Footnote ²¹³

The decision in Chase Manhattan was also applied by Dillon J. only a year later in the unreported case of Pendray Sousa v Parselt Ltd., in finding a constructive trust in relation to a series of overpayments.Footnote ²¹⁴ Although Dillon J. at one point seemed to conclude that the overpayments were held under constructive trust from the outset, the availability of the constructive trust can be better justified by applying the approach in this article. In Pendray Sousa, the first defendant had received a number of overpayments. It was concluded that the first defendant had knowledge of the overpayments and had little intention of returning the money. Subsequently, the recipient transferred this money into two bank accounts that belonged to another defendant. This transfer was described as having the purpose of taking the monies “further away” from the claimants and, moreover, that the transfer was “a device to assist Mr Parsons in cheating Mr George Pendray and keeping the money away from him”.Footnote ²¹⁵ On the basis of the defendant's actions, Dillon J. concluded that this money was fixed with a constructive trust – a conclusion that can only make sense if it is recognised that there was not a constructive trust available from the outset but that a constructive trust had arisen at a later point in time, namely when the first defendant breached their duty by attempting to keep the money out of the reach of the claimant.

The analysis presented in this article is further reflected in the aforementioned Getronics case.Footnote ²¹⁶ Firstly, it was concluded that the defendants must have known at some point that the payments were made under a mistake.Footnote ²¹⁷ Secondly, and importantly, the money was then paid to two other companies which were owned by the initial recipients. As with Pendray Sousa above, these transfers constituted a deliberate attempt to prevent the claimant from recovering the money by taking the funds further from the reach of the claimant. This supports the proposition that proprietary restitution is available in cases of mistaken payments where the recipient has knowledge that the money was paid under a mistake and has acted with wilful misconduct in their duty to maintain the fund.

B. Examples where these Requirements Were Absent

The reliability of this analysis is further demonstrated by returning to Fitzalan-Howard v Hibbert.Footnote ²¹⁸ As noted earlier, this case is similar to Chase Manhattan except for the fact that the court was unprepared to find that the mistaken payment was held under a constructive trust.Footnote ²¹⁹ In Fitzalan-Howard, a substantial sum was mistakenly paid to the recipient, who was notified of the mistake. The defendant had an opportunity to repay the money, but there was no obvious need for urgency. A few days later, the defendant's creditors withdrew their support and the bank applied its rights of set-off against the account where the mistaken payment had been received – an event which had not been anticipated by the defendants.Footnote ²²⁰ Although knowledge was present before this event, the defendant had not foreseen the exercise of the bank's right of set-off nor the fact that personal restitution would become impossible in this event.Footnote ²²¹ This provides a significant distinction with Chase Manhattan where in that case the delay was much longer and the defendant was fully aware of the impending bankruptcy but failed to take any steps to return the money.

Furthermore, in Pertemps v HMRC,Footnote ²²² it again makes sense that the mistaken payments were not regarded as being subject to proprietary restitution. The recipient did have knowledge that it had received mistaken payments, but was fully prepared to return the money to its agents. In Pertemps, there were no circumstances which made immediate repayment a pressing concern, and the recipient had taken steps to ensure that sufficient money would be available for claims by the agents. There was, thus, no act of wilful misconduct to justify treating the money as being subject to proprietary restitution.