Treasury-owned Northern Rock Asset Management (NRAM plc) has suffered a landmark defeat in a High Court case brought to establish the validity of unsecured loans made by the bank.

NRAM - the remains of the former bank - is considering whether to appeal, but in a statement confirmed it had set aside £261m to cover its potential liability for refunding interest paid by borrowers.

The judgment is likely to trigger a scramble by banks’ in-house counsel to review their own loan documentation from the period.

The defendants were two individual borrowers, but the outcome is relevant to tens of thousands of loans made between 1999 and March 2008. Each NRAM borrower is set to receive a payout of about £6,000 as a refund on interest payments.

The loans were part of a product called the ‘Together Mortgage’. This was 95% secured mortgage, with some or all of the rest unsecured and falling within the range of £25,000-£30,000. The defendants borrowed the maximum, and the action was brought against them to resolve a dispute between NRAM and 41,000 other borrowers.

The court was asked to decide if the loans fell under section 77A of the Consumer Credit Act 1974. The court decided it was in breach of the act, and therefore failed in its duties to the defendants. Mr Justice Burton concluded the claimant had been in breach of the act.

Giving judgment in NRAM plc v and (1) Jeffrey Patrick McAdam (2) Ann Hartley, Burton J said the claimant ‘was in breach of its obligations under the agreement by virtue of its failure to indemnify the defendants in respect of its breach of section 77A’.

Stephen Rosen, specialist in financial services litigation at City firm Collyer Bristow, told the Gazete: ‘The decision is a blow for Northern Rock (NRAM). It is also a blow for taxpayers because they are the ones that have to foot the bill for the money to be refunded for what was just a technical mistake.’

Rosen added that the case ‘reveals, yet again’ that the 1974 act is a trap for the ‘unwary lender’. ‘Other lenders will have been considering whether their own lending schemes potentially fall into the same trap.’

Ashurst acted for the claimant. The defendents were represented by Simmons & Simmons.