Illegality and unjust enrichment

The Supreme Court in Patel v Mirza [2016] UKSC 42 has reviewed the doctrine of illegality and sought to clarify the extent to which it applies in civil proceedings.

It has long been established that illegality can provide a defence to civil claims under English law. As Lord Mansfield stated in Holman v Johnson (1775) 1 Cowp 341, “no court will lend its aid to a man who founds his cause of action upon an immoral or an illegal act.”

However, the limits of this doctrine have often been considered to be unclear and its application inconsistent. As Gloster LJ stated in Patel v Mirza in the Court of Appeal, it is almost impossible to ascertain or articulate principled rules from the authorities relating to the recovery of money or other assets paid or transferred under illegal contracts”.

In the 2015 case of Jetivia v Bilta¹, the Supreme Court touched on the question of illegality in connection with the issue of corporate attribution: Lord Neuberger commented that the defence of illegality needed to be addressed by the Supreme Court “as soon as appropriately possible” given the problems identified above. A year, later a nine-member Supreme Court was faced with an appeal directly concerning illegality in Patel v Mirza: this time in connection with an unjust enrichment claim. The Court was required, in particular, to consider whether the principle of illegality operates so as to prevent a party to a contract tainted by illegality from seeking restitution of money paid under the contract. The Court also took the opportunity to look at the doctrine of illegality more generally.

The facts of the case were that the Respondent had given the Appellant £620,000 to bet on a bank’s share price on the basis that the Appellant expected to be in receipt of inside information. However, the Appellant never received the inside information he had been expecting and as a result, the bet was never placed.

The Appellant did not return the £620,000 to the Respondent and when sued by him for that sum, argued that the Respondent’s claim should fail because of the illegality affecting the contract. He succeeded at first instance; the decision was overturned by the Court of Appeal and the Appellant subsequently appealed to the Supreme Court.

The Supreme Court unanimously agreed that the appeal should be dismissed and that the Respondent was entitled to restitution of the £620,000. However, there were differences in the reasoning that was applied by the Justices.

The majority cited two policy reasons as to why illegality exists as a defence to civil claims: (i) a person should not profit from their own wrongdoing; and (ii) the law should be coherent rather than self-defeating and should not condone illegality. With these underlying considerations in mind, in determining whether the public interest would be harmed by enforcing a claim where to do so would be harmful to the legal system, the court had to consider the following factors.

• The underlying purpose of the prohibition that was being transgressed and whether that purpose would be enhanced by denial of the claim.
• Any other relevant public policy on which the denial of the claim might have impact.
• Whether the denial of the claim would be a proportionate response to the illegality. It was noted that civil courts (contrasted with the criminal courts) were primarily concerned with determining private rights and obligations and although they should not undermine the effectiveness of the criminal courts, they should equally avoid imposing additional penalties which were disproportionate to the nature and seriousness of any wrongdoing.

Various factors would potentially be relevant to that determination. Examples given included the seriousness of the conduct, whether it was intentional and a comparison with the conduct of the other side. However, Lord Toulson made clear that although there was no fixed or definitive list, this did not mean that the court was free to decide the matter in an undisciplined way.

Applying these principles and considerations to the facts of the case, the majority agreed with the approach of Gloster LJ in the Court of Appeal: namely, to determine whether the policy underlying the rule which rendered the contract illegal would be ‘stultified’ if the claim were allowed. The majority took the view that there was no policy reason why the Respondent should forfeit the money paid to the Appellant given that he was seeking to unwind the arrangement as opposed to profit from it. Generally, where a claimant has satisfied the requirements for an unjust enrichment claim, the claim should not fail merely because the money which was the subject of the claim had been advanced for an unlawful purpose. On the facts of the case, the mischief that the ban on insider trading was aimed at, preventing market abuse, had not occurred and accordingly there was no obvious policy reason why the money should not be returned.

Lords Neuberger, Mance, Clarke and Sumption similarly took the view that provided restitution could be achieved and the result was consistent with public policy and proportionality, a claimant should be able to recover money paid under a contract to carry out an illegal activity.

In so reasoning, the Supreme Court rejected the previously applicable test, from the case of Tinsley v Milligan [1994] 1 AC 340, that operated to bar a claim which had been brought in reliance on an illegality. Indeed, in rejecting the reliance test, Lord Toulson noted that unless a statute provides otherwise, it is possible for property to pass under a transaction which is illegal as a contract.

The one significant area of difference between the Court members’ judgments arose out of Lord Toulson’s reasoning (with which the majority agreed) that in determining whether it would be disproportionate to dismiss a claim on grounds of public policy, various factors could be relevant: such as the seriousness of the conduct, whether it was intended, whether both sides were equally culpable or how central it was to the contract. In contrast, Lords Mance, Clarke and Sumption were of the view that conceptually, this changed a legal principle into an exercise of discretion, and from a practical perspective would lead to uncertainty and arbitrariness in this area of the law.

The result reached in the appeal is unlikely to cause consternation. On the facts, it is difficult to make a case for why the Appellant should enjoy a windfall by being able to retain the £620,000 given to him by the Respondent.

The reasoning and rejection of Tinsley v Milligan adds flexibility to the principle of illegality – and could in turn lead to fairer outcomes. While it could be argued, as the minority have done, that that this increases the possibility for uncertainty, given that illegality is concerned with questions of public policy, it is hard to see how it could be otherwise. Moreover, the doctrine of illegality had previously been rife with uncertainty. The fact that the Court will have regard to various factors need not turn the law into a question of discretion, but should instead provide a greater degree of guidance as to how illegality will be applied in practice.