Q: What happens if a married couple own a house and the husband goes bankrupt?
A: The wife’s share is protected under the Doctrine of Exoneration, because the essence is that any loan obtained for the sole benefit of one party should be satisfied first from that parties’ share. The outstanding amounts will then be deducted from the remaining parties’ share, but only where the benefiting party is unable to pay.
Q: Can you run through an example?
A: The doctrine is complex and really deserves legal advice based on your actual facts. Let’s go through an example.
Case Study: Husband and wife own a family home together (worth $900,000) which they have recently obtained a mortgage over ($600,000). However, the mortgage has been used for the sole benefit of the husband for his personal business. The business fails and the parties default on the mortgage causing the husband to enter bankruptcy. The family home is sold and the bank recovers the $600,000 leaving $300,000 in proceeds of sale. How are the proceeds of sale to be distributed?
Simplistically, most people would assume that the husband and wife would share in the proceeds, $150,000 each. However, the Doctrine of Exoneration provides a presumption of the parties’ intention when obtaining the mortgage. Where a number of parties provide security for a loan, parties which do not receive a benefit are deemed to be acting as sureties to the loan only. Accordingly, the wife in this scenario would be considered to be a ‘surety’ who is only obliged to pay any shortfall. The husband, being the principal borrower, will therefore be liable in the first instance for the mortgage amount.
In the above example, the wife as surety should receive $300,000 rather than $150,000. This is the application of the Doctrine of Exoneration; it provides a presumption of the parties’ intention and their roles when entering the transaction. However, the overriding factor of the Doctrine of Exoneration is that the mortgage or loan must directly benefit one party and it will not arise where both principals of the loan are beneficiaries.
It is important that individuals are careful to not mix business and personal loans where the security is a jointly owned asset. The Doctrine of Exoneration should only apply where the parties are able to produce evidence of the separation of assets and loans. Finally, the Doctrine is a presumption only and may be rebutted by other evidence.