Are asset-based lending a responsible form of lending or simply unreasonable conduct…?
In terms of Jams 2 Pty Ltd v Stubbings  VSCA 200, the Victoria Court of Appeal considered and clarified the principles of unconscionability, including statutory unconscionability. Additionally, Justices Beach, Kyrou, and Hargrave had to determine whether “asset-based lending” was permitted in the private lending industry.
What is Asset Based Lending?
Beach, Kyrou, and Hargrave JJA summarized asset-based lending as follows: :
“…involves lending against the value of the assets securing the loan, regardless of the borrower’s ability to repay the loan from his own income or other assets. No credit risk analysis other than calculating the loan amount to security value ratio is undertaken by the lender.
The lender has provided two loan facilities to Victorian Boat Clinic Pty Ltd (the Borrower). The loans were guaranteed by Stubbings (the Guarantor), as well as mortgages on properties owned by the borrower and the guarantor. The loan was primarily for the purchase of property in Fingal.
The borrower had minimal income, with no assets other than the two properties on which he had granted a mortgage to the lender. Moreover, the Borrower did not have sufficient funds to pay Fingal’s bail.
The lender received certificates of legal and financial advice, signed by the lawyer and the accountant, who provided advice to the guarantor regarding the loan facilities.
In September 2015, the two loans were repaid to the Borrower and the Fingal property liquidated. After two monthly installments, the Borrower defaulted on its loan facility with the lender and the lender sought to enforce its loan agreements.
Course of the trial
The trial judge questioned the asset-based lending system and found that the loan, mortgage and security had been obtained through inadmissible conduct and ordered the facility to be terminated.
As the guarantor was unemployed and had no property other than his personal home, the trial judge noted :
“Anyone with a modicum of intelligence, who was aware of the real nature of the loan and of Mr. Stubbings’ situation, would not have proceeded with the loan. It was to end in severe loss and damage to Mr. Stubbings”.
On appeal, the Court reversed the original ruling and noted that asset-based lending was not inherently unreasonable. In addition, the Court was required to consider  “relevant factor in deciding whether a given loan resulted from unreasonable conduct”.
The Court held that the lender was entitled to rely on the legal and financial certificate, :
“…both as evidence that Stubbings had consulted a lawyer and an accountant for advice and as to the veracity of the matters set forth in the certificate” and determined that they “should therefore not be settled with knowledge of Stubbings’ personal and financial circumstances such that default on the loans was unavoidable, as the trial judge appears to have found”.
Beach, Kyrou and Hargrave JJA, referred to comments by Gageler J in Australian Securities and Investments Commission v Kobelt  18 and applied His Honor’s rationale to the “proper test”, replacing the previous test of “moral obscenity” or “moral filth”.
Judge Gaegelar’s judgment clarified the statutory unfairness test, which applies to Section 12CB of the ASIC Act and Section 21 of the ACL. Simply put, the test requires a court to consider all of the conduct before justifying sanctions.
The Victorian Court of Appeal approvingly recited Judge Gageler’s dicta in Kobelt regarding the new test as follows :
“The applicable test is a normative test involving the assessment of whether the conduct in question is “so outside societal norms of acceptable business behavior that it warrants condemnation as conduct offensive to the conscience”; in that a court should only take the serious step of calling out conduct as impermissible when it is satisfied that the conduct is “offensive to a conscience informed by a sense of what is right and proper according to values which may be recognized by the court to be prevalent in contemporary Australian society”.
On February 26, 2021, the Guarantor successfully obtained special leave to appeal the decision of the Victorian Court of Appeal to the High Court of Australia, which will deal with asset-based lending issues and what constitutes unreasonable conduct in the context of the guarantee/mortgage.
As the law currently stands, lenders are entitled to rely on certificates of independent legal and financial advice without further investigation. Further, asset-based lending is not inherently unreasonable, however, lenders should require borrowers and guarantors to provide proof that they have obtained independent legal and financial advice, particularly when deciding not to not make their own inquiries into the borrower’s ability to repay the facility. .