Schools Leasing Showdown

Funders with experience in the education sector have for some time been aware of arguments that as a matter of law finance leases with local authority schools may not be enforceable on the grounds that they are ultra vires, and to compound this many schools have threatened legal action claiming repayment of sums paid under such leases. Many tens of millions of pounds are involved and the issue has led to many funders retreating from this type of business altogether.

We have been involved in advising numerous funders on the ultra vires issue in schools since it first surfaced in 2009. The issues are complex, and as far as we are aware despite many hundreds if not thousands of cases in which the issue has been raised, there has yet to be a contested trial or any determination by the courts as to the validity of the various arguments involved.

However, we are aware of two live cases which have now been started in the High Court and we recently conducted a mediation for a funder in another case in which the issue directly arose.

Claims management companies are involved in a growing number of these cases and it seems inevitable that there will soon be a showdown in court when the legal issues will be determined once and for all.

It is true that many funders have to date settled cases in which the issue has been raised, but in our experience this is where there is credible evidence of serious misrepresentation by suppliers. It will be interesting to see whether funders are quite as willing to settle cases where there has been no misconduct by the supplier.

The basis of attacks on finance leases taken out by schools is that, as creatures of statute with highly prescribed powers, they are simply not empowered to enter into such leases, which are therefore outside their powers or in legal terms “ultra vires”.

This argument is indeed strong where grant-maintained schools have entered into finance leases, but in recent years many schools have converted into academies and it is far from clear that there is any proper basis for the ultra vires doctrine in the case of academies. This is for two reasons: –

(1) The ability of schools to enter into contracts is governed by statutes and regulations, which expressly prescribe the school’s powers as a public body and which make express reference to borrowing powers; on the contrary, any restrictions imposed on academies are a creature of contract, namely the relevant Funding Agreements and the Academies Financial Handbook, which is a crucial distinction;

(2) whereas local authority schools are creatures purely of statute, academies are limited companies governed by the Companies Act 2006.

So, notwithstanding the apparent prohibition against finance leases set out in the Academies Financial Handbook, it is far too simplistic to assume that the ultra vires doctrine applies to academies at all. Indeed an argument exists that the guidelines set out in the Academies Financial Handbook are themselves ultra vires because they directly contradict the central rationale of academies, which in the words of the Handbook are expected “to take full control of their own financial affairs” (paragraph 1.4) and have “full authority to perform financial transactions which are deemed to be in the… normal course of business” (paragraph 2.5).

The next point to consider is whether the Hire Agreement in question involved a finance lease at all. The 90% rule in SSAP 21 supposedly defining a finance lease may not apply if a residual value position has been taken or if the transaction involved an upgrade of previous deals. This issue may require expert accountancy evidence, but it should not be conceded at the outset that the prohibition against a school entering into a finance lease applies to the relevant Agreement.

Even if the ultra vires argument applies and a finance lease is involved, there are a number of defences available to funders. In particular, there are four relevant points which can often be relied on in support of a funder’s claim to enforce a Hire Agreement or in total or partial defence of a claim against a funder for repayments of sums paid.

The school may well have warranted by the senior officers who signed the Agreement (such as the Head teacher and Finance Director) in terms such as that “you have checked that it has been properly completed, that the information you have provided is accurate”.

In these circumstances the legal doctrine of estoppel applies: there is no need for any detailed legal analysis of the doctrine, it is simply a case of the law refusing to allow a party to “blow hot and cold” at the same time.

Secondly, the school will often by its conduct have clearly affirmed the validity of the Agreement by making numerous payments and continuing to use the equipment.

Whilst in some cases there may arise issues relating to the quality or suitability of the equipment supplied, there are also many situations where there has been no complaint about the quality of the equipment or its suitability for the school’s requirements. If it transpires that complaint was made as a result of the encouragement of a claims management company, sometimes many months after the inception of the Agreement, it is likely that the court would take a very dim view of the ultra vires argument being raised at that point.

If a Hire Agreement is indeed void, then although there are no contractual payments due, the funder should still be able to claim a quantum meruit (“what it is worth”) for services provided in hiring the equipment.(( Craven-Ellis v Canons Limited [1936] 2KB 403, CA)).

Provided that the cost of the equipment to the funder did not greatly exceed market value this doctrine should provide substantial comfort for funders in the event of the ultra vires argument succeeding, and in many cases a funder should have no fear of the outcome of a claim for repayment by the school, which depends to a degree upon the court’s view of the fairness of the situation as between the funder and the school.

Even if all the above arguments were to fail and there was still a balance due to the school from the funder, there is a defence of change of position available to a defendant who is the subject of a claim for repayment of monies paid under mistake. The principle was stated by Lord Goff in Lipkin Gorman v Karpnale Limited [1991] 2 AC:-

“… where an innocent defendant’s position is so changed that he will suffer an injustice if called upon to repay or to repay in full, the injustice of requiring him so to repay outweighs the injustice of denying the plaintiff restitution …

… the defence is available to a person whose position has so changed that it would be inequitable in all the circumstances to require him to make restitution, or alternatively to make restitution in full.(( Pages 579f and 580f)) ”

Here the funder has changed its position by purchasing the equipment from the supplier on the assumption that the Hire Agreement would be valid, and in some cases this would involve an additional benefit to the school in enabling it to upgrade by discharging existing finance arrangements with other funders.

Even if the ultra vires argument were to succeed against all these defences, a funder may well have a claim against the signatory of an Agreement for breach of an implied warranty of authority that the school was authorised to enter into the Hire Agreement.

Any reluctance by funders to pursue such individuals would normally be overcome by the fact that at common law they would have a clear indemnity from the school in respect of any liability which is established against them personally should that be necessary.

It would appear that after many years of the protagonists treading around the issue of schools leasing, it is the impetus of the claims management industry which is likely to bring matters to a head by achieving a resolution in the courts.

It is to be hoped that all the arguments set out above will be carefully considered by funders when weighing up the risks of litigation, and that ultimately the courts will take a robust view of the merits of these claims.

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