In this recent decision, the Court of Appeal considered whether the cost of breaking an interest rate hedging arrangement was recoverable by a lender in circumstances where it brings a successful professional negligence claim against a firm of valuers.


Mortgage Agency Services Number One Limited (the “Lender”) instructed Edward Symmons LLP (the “Valuer”) to provide valuations of two properties known as 216 Sussex Gardens W2 and 32A to 36 Kilburn High Road NW6 (the “Properties”). The Lender advanced sums to commercial borrowers in reliance on the Valuer’s valuations of these Properties.

Following drawdown, the borrowers failed to meet the contractual repayments due under the loans in question and it was discovered that the Valuer had provided valuations of the Properties which were substantially higher than their actual worth at the time.

Interest Rate Swaps

There are various ways in which a lender can internally or by external agreement, manage the risk of lending at a fixed rate of interest in the commercial market. An interest rate swap typically involves a contract whereby a lender will agree to pay to a counterparty a fixed rate of interest on a designated sum and in return the counterparty agrees to pay a floating rate of interest on that sum. In this way, a lender can manage exposure to fluctuations in interest rates.

In order to hedge the risk of lending to the borrowers at a fixed rate of interest (common with commercial lending), the Lender made a number of interest rate swap arrangements at various stages of the loans.

In relation to the Sussex Gardens property, the Lender initially managed its risk by matching the sum lent to a perpetual interest bearing shares issue. The Lender did not in fact enter into a fixed for floating interest rate swap (with HSBC), arguably attributable to the loan in question, until after the borrower had defaulted. Though the Lender should have treated the loan as irrecoverable in December 2007, this interest rate swap was not broken by the Lender until 25 May 2010 (when the Lender did in fact treat the loan as ‘lost’).

In the case of the Kilburn High Road property, the Lender took out a fixed for floating interest rate swap with Société Générale to match the value of the loan. For its own reasons, the Lender broke this interest rate swap and thereafter managed its exposure to vagaries in interest rates by matching the loan against its own reserves. Eleven months after the borrower defaulted on the loan secured over this property, the Lender entered into a further fixed for floating interest rate swap with HSBC to match the loan. Though the Lender ought to have treated this loan as lost in December 2008, the interest rate swap was only broken by the Lender in May 2012 when the lender did in fact treat the loan as ‘lost’.

First Instance

It was the Lender’s position that had the Valuer provided a true and accurate market valuation of the Properties, it would not have made the loans in question. As part of the claim brought against the Valuer, the Lender sought to recover the cost it had incurred in breaking its various hedging arrangements as a consequence of the borrowers’ default (the “Break Costs”). It was the Lender’s position that this cost formed part of the total cost to it of funding the loans which was now recoverable from the Valuer. Though negligence was admitted by the Valuer, the Valuer contested the recoverability of the Break Costs claimed.

At first instance, the Deputy Judge struck out the Lender’s claim for recovery of the Break Costs on two grounds. The first of the two grounds was that the loss to the Lender had already exceeded the cap on damages, as laid down in South Australia Asset Management Corp v York Montague Ltd [1997] A.C. 191 i.e. that damages cannot exceed the difference between the original valuation of a property and its true market value at that time (the “SAAMCo Cap”). Secondly, the Deputy Judge found that no cost of funding was recoverable in law in any event.

The Lender appealed the decision.


On appeal, it was accepted that before applying a SAAMCO Cap, some cost of funding a loan will form part of the recoverable loss in a ‘no transaction’ case such as this. The true dispute between the Lender and Valuer was therefore about the recoverability of the Break Costs incurred by the Lender as a constituent element of the cost of funding the loans it had advanced. It was this question which was the focus of the Lender’s appeal.

Mr Mark Howard QC, for the Lender, submitted that the correct approach to adopt in determining whether break costs are recoverable in such circumstances is to make reference to the interest rate swap market. For Mr Howard, if such a swap market can be shown to exist, it makes no difference that a lender may not have entered into an interest rate swap arrangement with an external counterparty or alternatively, sought to manage its risk internally. Mr Howard further contended that the cost of breaking an interest rate swap arrangement is an inevitable consequence of entering into an external or internal swap arrangement and that such costs are a necessary part of the cost of lending.

The Valuer’s position, as conveyed by Mr Mark Simpson QC, was that the only cost of funding which was recoverable in these circumstances was the variable rate of interest from time to time incurred. Mr Simpson submitted on behalf of the Valuer that even if a hedging arrangement with a third party could be shown to have existed until default, the cost of breaking the arrangements in question was not a true measure of loss but a decision the Lender made for its own reasons. It was further Mr Simpson’s contention that the Break Costs should be irrecoverable because it was the default of the borrowers which caused the cost to be incurred and not the negligence of the Valuer.

In recognising the need for expert opinion, the Court of Appeal decided to allow the Lender’s appeal against the order of the Deputy Judge and found that parties should be allowed to proceed to trial.


Whether a lender can recover the cost of breaking an interest rate hedging arrangement from a negligent valuer remains unclear. The Trial Court’s decision is likely to have wide implications for the commercial lending market and will be eagerly anticipated by both indemnity insurers and lenders.

For further information, please contact Georgina Squire or the Partner with whom you usually deal.