Buck stops with borrowers

Personal Finance

Judge Robert Taylor's ruling that the manager of Lloyds Bank in Henley had actively encouraged Julia Verity and Richard Spindler to borrow money to buy a house to restore and re-sell at a profit may have gladdened the hearts of millions of customers who enjoy seeing a bank get its comeuppance.

Financial institutions will be equally happy to see the banks discomforted. These institutions compete with the banks and independent financial advisers and are liable for bad advice. They often feel the banks take unfair advantage of their relationship with customers to sell a range of services that may not actually be competitive.

Lloyds Bank insists that the case is unique and has no implications at all. The manager said he had assumed at the time - some seven years ago now - that the couple had a surveyor or adviser and were not relying just on him for advice. But he seems to have visited the house, been to the couple's own home, admired their skill in decorating and generally given his approval to the project. Certainly, the couple claim he encouraged them and the judge believed their version of events.

The crucial issue that the decision to make a loan does not by itself constitute advice to proceed or provide a guarantee was established in the 1958 case of Woods v Martins Bank (now part of Barclays Bank) and this has not been challenged.

In the circumstances, Lloyds Bank sees no point in appealing, and says the cardinal principle on which banks lend remains intact.

The decision to make a loan is a risk which all lenders have always taken since time immemorial. Lending rates reflect the degree of risk implicit in the project and the amount of security the borrower can offer. But a loan is not the same thing as a joint venture.

Providing the credit is not the same as agreeing to participate in a project, still less to guarantee its financial success.

The decision to grant a loan does not constitute a guarantee to the borrower, nor is it advice to proceed. If it did, then Third World countries could sue international banks for several hundred billions in compensation on top of the billions the banks have been forced to write off when the loans went bad. The Reichmann brothers would be able to sue the lending banks for the losses they suffered on building Canary Wharf and still expect to buy the building back on the cheap.

Lloyds Bank claims that it has not altered its instructions to managers in the light of the judgment. They will continue to follow bank rules to assess a proposition and ask probing questions about the viability of the project.

And they will ask customers whether they have considered various financial options and taken specific and general risks into consideration. But even if the bank considers the proposal an acceptable risk, the decision to proceed must always be left to the customer.

Perhaps this is just as well. If the decision to lend money ever did come to constitute advice to the borrower to proceed with the proposal, no bank manager would ever dare to approve a single proposal. In the long run, one of the more significant aspects of the case is the judge's reported remark that the manager should have told the couple plainly that their proposal was not a wise one and that they should forget about it.

With hindsight that is perfectly clear, but not everyone shared the view way back in 1988 that the property market was about to collapse.

Paradoxically, one of the actual consequences of the judgment could be to make banks reluctant to give borrowers any guidance at all in case they are subsequently blamed for talking customers out of an opportunity for the profitable use of credit.