What is a Sham Contract?
Occasionally it is alleged that a contract is a sham. But what is a sham contract and how do the Courts deal with them? A recent NSW Supreme Court decision answers these questions:
Louise Cassar and her son Jake were registered as tenants in common in equal shares in land at Catherine Field in NSW (the Property).
On 19 January 2017 Jake was declared bankrupt, following which his interest in the property vested in Mr Palmer, Jake’s trustee in bankruptcy. Mr Palmer threatened to obtain an order for sale of the Property.
On 20 September 2017, in separate legal proceedings, default judgment was entered against Mrs Cassar, and she was ordered to pay $445,000 to the plaintiffs (Mrs Cassar’s debt), which she could not afford. When Mrs Cassar did not pay, the plaintiffs threatened to obtain an order for sale of the Property.
However Mrs Cassar wanted to profit from the development of the Property.
So she made the following arrangement with Mr Marjan, a long-time personal and business associate:
- on 21 September 2017 (the day after the default judgment against her) Mrs Cassar entered into a contract to sell her interest in the Property to Marjan Corporations Pty Ltd (the Marjan contract) for $3.5 million
- Marjan would purchase Jake’s half share in the Property from Jake’s trustee in bankruptcy
- Marjan would ensure that at the time of settlement of the purchase of Jake’s half share, Mrs Cassar’s debt was also paid out
- at the same time the Marjan contract would be rescinded, so that Marjan owned half of the Property as a tenant in common with Mrs Cassar.
The plaintiffs contended that the Marjan contract was a sham contract, which did not effect a transfer of Mrs Cassar’s interest in the Property. Accordingly the plaintiffs sought an order for sale of the Property.
Mrs Cassar and Marjan contended that the Marjan contract was intended to operate according to its terms (that is, it effected a transfer of Mrs Cassar’s interest in the Property to Marjan) and therefore prevented the sale of the Property sought by the plaintiffs.
A ‘sham’ transaction in one where the steps take the form of a legally effective transaction but the parties intend that the transaction should not have the apparent legal consequences, or any legal consequences.
The test for whether a transaction is a sham is whether there was a common intention among the parties to the transaction to give to others the appearance of creating legal rights and obligations different from the actual legal rights and obligations which they intended to create.
The Court’s Decision
The Court found that the Marjan contract was a sham because it did not reflect the true agreement between Mrs Cassar and Marjan and was not intended to operate according to its terms:
- there was no intention to transfer Mrs Cassar’s share in the Property to Marjan
- rather the common intention of Mrs Cassar and Marjan was to own the Property together and jointly develop it for their mutual profit.
The following facts were considered significant:
- the Marjan contract was entered into urgently, 1 day after default judgment against Mrs Cassar
- the purchase price under the Marjan contract significantly exceeded a known valuation of Mrs Cassar’s interest in the Property (no more than $1.9 million). The inflated purchase price was designed to encourage Jake’s trustee in bankruptcy, and the plaintiffs not to take steps to sell the Property, as if the Marjan contract was genuine it would not have been in their interests to do so
- settlement did not occur under the Marjan contract
- Mrs Cassar and Mr Marjan applied for a loan from NAB to fund the purchase only when Marjan was joined to the legal proceeding, which was a month after the settlement date nominated in the Marjan contract
- NAB was not told that Marjan intended to purchase Mrs Cassar’s interest in the Property, as opposed to the whole of the Property
- Mr Marjan admitted under cross-examination that any loan funds from NAB would be used to pay out Jake’s trustee in bankruptcy, and the plaintiffs, and that Marjan would become the half-owner of the Property with Mrs Cassar.
The Court held that the Marjan contract did not create any interest in the Property, ordered that a caveat lodged by Marjan be removed, and ordered that the sale of the Property proceed, as sought by the Plaintiffs.
This case shows that a Court will not take a contract at face value, if it appears not to reflect the true agreement between the parties. Sham contracts will not be recognised or enforced by the Courts.
See Camden Nurseries Pty Ltd v Aussie Growers (Aust) Pty Ltd  NSWSC 1770 (15 December 2017).
Greg Carter is a freelance litigation lawyer based in Perth, specialising in fixed-fee commercial dispute resolution.
Greg offers a FREE consultation and a ‘no obligation’ quotation.
For more information please call Greg on 0422 406 929 or email firstname.lastname@example.org.
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