Terminating for Undisclosed Encumbrances

Introduction

The disclosure of encumbrances on a property is essential in conveyancing. Under the Terms of the standard Real Estate Institute of Queensland’s (REIQ) Contract for Houses and Residential Land, a buyer may terminate a contract up until settlement if there are unrevealed encumbrances. Encumbrances do not always appear on a title search and may not be apparent without diligent searches. This insight will look at the definition of encumbrances, the information a seller is compelled to disclose, the legal basis for a buyer terminating for undisclosed encumbrances, and how both parties in a conveyance can protect themselves from undisclosed encumbrances. Fundamentally, as is the case with many conveyancing issues, diligent searches and the presence of deftly drafted special conditions in a contract can mean a smooth conveyance for both buyer and seller. Standard Law Co is here to ensure you conduct the right searches, have the optimal special conditions to protect your rights, and have the highest standard of advice on the consequences of an undisclosed encumbrance.

What are Encumbrances?

Encumbrances come in many shapes and forms. They can benefit the land; they can burden the land. They can be registered and unregistered. They can be granted through statute or by written agreement.

Encumbrances that benefit the lot refers to encumbrances located on adjoining lots that provide a benefit to another lot. Let’s say that you live in Lot A, which sits directly behind another lot, Lot B. To get to Lot A from the street, a driveway has been constructed which passes through Lot B to Lot A. This easement benefits Lot A. In this scenario, the owner of Lot B would have an encumbrance on their lot which burdens their land.

Not all encumbrances are registered. Short leases, equitable mortgages and easements discussed in the example above may not be registered. Commonly, statutory encumbrances are not always registered on the title. Statutory encumbrances refer to the infrastructure that is required for the maintenance of a home. These encumbrances could be the power lines above a house and the drainage and sewerage pipes that run above and below the land. Parties, such as the local council, Energex and Urban Utilities, are conferred a right under statute to build and maintain services. These services can be so old that they are not registered on the title. Whether they are registered or not, you cannot freely remove these structures from your property.

Must a seller disclose encumbrances?

As the seller, you must be in a position at settlement to hand over a title free from undisclosed encumbrances to the buyer. Clause 7.2 of the Terms of Contract in a REIQ Contract for Houses and Residential Land provides that “The Property is sold free of all Encumbrances other than the Title Encumbrances and Tenancies”. Clause 1.1(2)(o) defines “encumbrances” as including unregistered and statutory encumbrances and Security Interests. This means that you should list, in the reference schedule of the contract under “Matters Affecting Property”, all encumbrances which will remain after settlement, including any encumbrances not currently registered on the title. Accordingly, you do not have to disclose a mortgage that will be discharged upon settlement. This list must be detailed and specific, it is not sufficient for a seller to reference a search that will be completed prior to settlement or the title search.

The importance of disclosing encumbrances cannot be overstated. In the case of Aughton v Wilkie [2010] NSWSC 1462, Aughton paid $280,000 to Wilkie to enter into a development deal over some land at South Tweed Heads owned by Wilkie. Aughton was later awarded damages in the sum of $280,000 when it was discovered that the land was burdened by a large mortgage, which Wilkie had failed to disclose.

Can a buyer terminate for undisclosed encumbrances?

Clearly, the consequences of failing to disclose encumbrances should not be underestimated. A buyer has the right to terminate a contract if an encumbrance is discovered that was not previously divulged, due to the defect in title. This right is encapsulated in clause 7.5 of the standard REIQ contract, which requires the mistake to be material. Material, in this sense, meaning that the buyer is not getting what they bargained for,¹ or alternatively, that they wouldn’t have entered into the contract if they had not known about the defect.² The buyer may also sue the Seller for damages (cl 9.1, 9.3 of the standard REIQ contract). Further, the buyer may terminate the contract up until settlement, even if the contract has become unconditional. Evidently, it is important, as a buyer, to know what you are buying, but it is essential that a seller knows exactly what they are selling.

How can you protect yourself from undisclosed encumbrances?

The presence of undisclosed encumbrances can affect both parties in a conveyance. If you are selling your property, you may be wondering how you can protect yourself against a buyer from terminating due to undisclosed encumbrances. If you are a buyer, you may be wondering how you can find out if there are any undisclosed encumbrances to a given lot. As with many issues in conveyancing, these concerns can be abated with diligent searches and the presence of deftly drafted special conditions. For a thorough analysis into diligent searches, please see our insight entitled “Why Due Diligence is Important”.

Essentially, both parties should undertake searches on a property to understand what they are buying or selling. Both parties should utilise Dial Before You Dig, which is a free national referral service for information on the location of underground infrastructure. This should identify the location of any services on the land which would be the subject of a statutory easement. Other searches for encumbrances include a Town Planning search and the Personal Property Securities Register. For sellers, it is best to disclose as much as you can to minimise the risk of a buyer terminating. For buyers, searches will reveal to you any encumbrances not divulged by the seller. To complement this strategy, Standard Law Co will help you draft your conveyancing contract to include a condition on encumbrances. Whether you are selling or buying, we can ensure your rights are protected from the drafting of the contract to the settlement.

1. Liverpool Holdings Ltd v Gordon Lynton Car Sales Pty Ltd [1978] Qd R 279.
2. Re Glenning [1987] 2 Qd R 523.