Head 26: Rights in Security

Question 1

What is a right in security?

Answer 1

“Any right which a creditor may hold for ensuring payment or satisfaction of his debt, distinct from and in addition to his right of action and execution against the debtor under the latter’s personal obligation.”

Question 2

What are the two types of right in security?

Answer 2

There are two types:
⁃ Personal security (caution)[ Not important in relation to property law. It is a guarantee from another person. ]
⁃ Real security (security over assets)

Question 3

What is a real right in security?

Answer 3

A real right which enables creditor to sell particular asset (eg house) in event of default.

Question 4

What is the relevance of a real right in security?

Answer 4

Being real it (normally) prevails over

(a) purchasers from debtor [So the security sticks to the asset, not the person.] and

(b) other creditors of debtor. This can be referred to as the “preservative function” of real security.
⁃ Note also the “signalling function and the hostage function

Question 5

What is the signalling function?

Answer 5

By giving security you are ‘signalling’ that you are creditworthy and you will pay the debt.

Question 6

What is the hostage function?

Answer 6

The asset is acting as a hostage - until you repay the loan the hostage (asset) is not released.

Question 7

What is the test of security?

Answer 7

Insolvency. Valid security works in insolvency. Invalid does not. If no debtor ever became insolvent, rights in security would not exist.

Question 8

How can you distinguish (a) true right in security from (b) functional security?

Answer 8

⁃ In a true right in security, there are two real rights in the thing: the real right of ownership, which the debtor has, and the (subordinate) real right of security (jus in re aliena), which the creditor has.
⁃ In a functional security, there is only one real right, namely ownership, which is normally vested in the creditor. (Compare, however, where a trust is used as a security). The debtor has no real right at all, but merely a personal right to be made owner, when the debt is paid. Whilst he may be regarded as owner in a functional sense, in law he is not. The creditor is functionally a secured creditor, but in law he is owner. Ownership is used as security.
⁃ Examples of functional securities are hire purchase, retention of title and the assignation in security for incorporeal property.
⁃ [See commercial notes for more!]

Question 9

What is the publicity principle?

Answer 9

⁃ Made real, either by possession by the creditor (pledge, lien) or by registration (standard security, floating charge). A standard security is registered in GRS or Land Register. Floating charge in Companies Register (soon to be Register of Floating Charges: see Bankruptcy and Diligence (Scotland) Act 2007 s 38(3)). Deposit of title deeds?

Question 10

What is the principle of real liability?

Answer 10

Contrast personal liability. Transfer of security subjects normally affects neither the real right or personal right.

Question 11

What is the principle of accessoriness?

Answer 11

⁃ The debt is the primary thing. The security exists merely in relation to the debt. A real right which is accessory to a personal one. The debt could exist without the security but not the security without the debt.
⁃ But note, this rule is not strictly enforced - you could have a security for an overdraft (there might be no overdraft today but this is a potential overdraft - once you do go into overdraft the bank could recover the money by enforcing the security).
⁃ See eg Nisbet’s Creditors v Robertson (1791)

Question 12

Nisbet’s Creditors v Robertson (1791)

Answer 12

⁃ Contract to smuggle goods from the Netherlands to Scotland. The person importing the goods granted a security over land which the seller could enforce is he didn’t pay.
⁃ The court held that a smuggling contract is illegal and therefore there was no valid debt and thus there was also no valid security.

Question 13

How can you distinguish transfer of a secured thing from a transfer of security?

Answer 13

If a security is transferred[ Sometimes lenders buy portfolio’s of mortgages from other lenders.] then the debt must also be transferred (by assignation)

Question 14

What are the types of security?

Answer 14

⁃ voluntary (express, consensual, conventional, ex voluntate) or
⁃ involuntary: (a) tacit (legal, arising by operation of law, ex lege) (e.g. McKichen v Muir (1849) J Shaw 223) or (b) judicial i.e. diligence or (c) authorised by specific statute.

Question 15

McKichen v Muir (1849) J Shaw 223

Answer 15

The Muir family were going to a ball in a neighbouring town. They booked into an inn where they took some refreshments. They then changed for the ball and left their ordinary clothes in their room. On returning from the ball their was a dispute with the innkeeper as to the amount of the bill. The family refused to pay whereupon the innkeeper retained their clothes. The innkeeper said that he had a right of lien over the clothes. The family went to court for damages but the court held that the innkeeper was within his rights - he was entitled to asset a lien.

Question 16

How are securities ranked?

Answer 16

⁃ More than one security over same asset usually possible.
⁃ The general rule of ranking is ‘prior tempore potior jure’.
⁃ Primo loco, secundo loco, tertio ……. ultimo loco. [ This is just Latin terms for different ranking.]
⁃ Pari passu ranking is equal ranking - this occurs if the securities become real rights at exactly the same time or there is a ranking agreement.

Question 17

What are restricted and unrestricted securities?

Answer 17

Some securities general or unrestricted ie creditor can charge asset with any debt due to him by that debtor. Others special or restricted i.e. creditor can charge only certain debts to that asset. “All sums due and to become due.”

Question 18

How can securities be enforced?

Answer 18

⁃ Security can generally be enforced by sale. (Is this an exception to the principle of nemo plus?)
⁃ Obligation to get best price[ This is because otherwise a bank could e.g. sell a house worth £1m for £100k if their debt was only worth £100k.]. Balance returned to debtor, or to other secured creditors if there is excess after the sale.
⁃ Bankruptcy of debtor. If asset worth more than debt, creditor paid in full and balance goes to trustee in sequestration or liquidator. (Creditor cannot recover more than 100%.) If asset worth less than debt, creditor takes value of asset and is unsecured ordinary creditor for the deficiency.

Question 19

What is the doctrine of catholic and secondary creditors?

Answer 19

Where one creditor (the “catholic” creditor) has security over two pieces of property and there is another creditor (the “secondary” creditor”) with a postponed security over one of these certain rules apply. Szepietowski v The National Crime Agency [2013] UKSC 65.

Question 20

Szepietowski v The National Crime Agency [2013] UKSC 65.

Answer 20

S owned several property in charge to the bank, but the Agency said that each had been acquired with the proceeds of criminal activity. The parties had settled the claim by the grant of a second charge in favour of the Agency. However when that property was sold, the bank’s first charge (securing money also recoverable under other charges) left insufficient value to clear the sums payable to the Agency under the agreement. The Agency had obtained orders for the equitable marshalling of the debts in favour of the Bank so as to leave sufficient equity to pay the sum due. HELD: The defendant’s appeal against the order in favour of the Agency succeeded. The peculiar situation here was that the second charge in favour of the agency did not, as in all reported cases, secure a debt as such, but only a contingent liability.

Question 21

What is the express security that can be granted over heritable property?

Answer 21

Since 1970, essentially the only type of express security over heritable property is the standard security.

It is an express hypothec over immoveable property.

Question 22

How are standard securities regulated?

Answer 22

Standard securities are regulated by the Conveyancing and Feudal Reform (Scotland) Act 1970.

Question 23

Where are standard securities registered?

Answer 23

Requires registration in the Sasine/Land Register: s 9. See Charge Certificate[ This will be covered in lecture on 1 April.].

Where the granter is a company it must also[ This is dual registration.] be registered in the Companies Register: Companies Act 2006 s 878 (but the law may be changed: see Companies Act 2006 s 893).

Question 24

Who remains the owner of heritable property with a standard security?

Answer 24

As it is a true right in security, debtor remains owner. Two real rights in same thing.
⁃ The debtor’s real right as owner and the creditor’s subordinate real right.

Question 25

What can a standard security be over?

Answer 25

It is over real rights in land (s 9(2)).
⁃	Real right in land is defined in s 9(8)(b) as a real right capable of registration e.g.:
⁃	ownership
⁃	registered long lease
⁃	standard security itself
⁃	NOT a short lease.

Question 26

What are the model forms for standard securities?

Answer 26

Model forms for standard securities are found in Schedule 2 of the 1970 Act.
⁃ Form A includes the debt contract whereby the debtor undertakes to repay the loan (typically used in residential properties)
⁃ Form B does not include the debt contract (typically used in commercial properties)

Question 27

How are standard securities ranked?

Answer 27

Normal rules - ranking is prior tempore potier jure. So they are ranked by date of registration in the Land Register.

Question 28

What happens when there is more than one standard security?

Answer 28

Standard securities are almost always for all sums due to the creditor - they are unrestricted. But this gives rise to an issue where there is more than one standard security.
⁃ Example. House worth £150k. Lender A has an all sums standard security over the house for the loan of £100k. Knowing the house is worth £150k lender B would be happy to learn £50k in return for a standard security. However if then A lends another £50k, lender A will take priority since it is an al sums security.
⁃ Under s 13 lender B can protect himself by serving a notice on lender A. The effect of this notice is to restrict lender A’s priority to:
⁃ 1) the original advance
⁃ 2) to interest and expenses on that advance
⁃ 3) any further sum that A is contractually obliged to advance.[ So if lender A has agreed that a further advance of £50k will be made in the future then this would take priority over lender B.]

Question 29

What are the standard conditions of a standard security?

Answer 29

⁃ These are set out in schedule 3 of the 1970 Act (and these are incorporated into every standard security by s 11(2)).
⁃ NB the parties can generally vary the standard conditions but some of the conditions about enforcement cannot be varied (lender’s typically have their own set of conditions which are registered in the books of council and session).

Question 30

What are some examples of standard conditions?

Answer 30

⁃ Obligation for the property to be insured
⁃ Ban on letting without the creditor’s consent (if the owner grant’s a lease without the creditor’s consent the creditor can reduce the lease - this happened in Trade Development Bank v Warriner & Mason 1980)

Question 31

What are the three enforcement options?

Answer 31

At the moment there are 3 options:
⁃ 1) Calling up notice (s 19)
⁃ Requires the debtor to repay the whole debt within 2 months
⁃ 2) Notice of default (s 21(1) and (2))
⁃ Lender requires the debtor to remedy any default within 1 month or the security will be enforced.
⁃ 3) Right to apply to the sheriff for enforcement (s 24)

Question 32

Can the three enforcement options be combined?

Answer 32

It was always thought that these three options were interchangeable and could even be combined. However, in the case of *RBS v Wilson 2010 the court held that:
⁃ For monetary default you must use a calling up notice. This means that notices of default are limited to non-monetary defaults (e.g. for failure to insure, leasing without permission).

⁃ This has been further complicated by the Home Owner and Debtor Protection (S) Act 2010 which amends the 1970 Act so that in the case of residential properties you must go to court.
⁃ So for residential properties you must use a calling up notice followed by going to court.

Question 33

What is the obligation to obtain the best price?

Answer 33

Found in s25. This is based upon the common law to protect the debtor and any postponed creditors.

Question 34

Distribution of proceeds of sale (s 27)

Answer 34

⁃ (1) The money which is received by the creditor in a standard security, arising from any sale by him of the security subjects, shall be held by him in trust to be applied by him in accordance with the following order of priority–
⁃ (a) first, in payment of all expenses properly incurred by him in connection with the sale, or any attempted sale;
⁃ (b) secondly, in payment of the whole amount due under any prior security to which the sale is not made subject;
⁃ (c) thirdly, in payment of the whole amount due under the standard security, and in payment, in due proportion, of the whole amount due under a security, if any, ranking pari passu with his own security, which has been duly recorded;
⁃ (d) fourthly, in payment of any amounts due under any securities with a ranking postponed to that of his own security, according to their ranking,
⁃ and any residue of the money so received shall be paid to the person entitled to the security subjects[ The debtor.] at the time of sale, or to any person authorised to give receipts for the proceeds of the sale thereof[ I.e. if the debtor has gone insolvent back to the trustee in sequestration or liquidator.].”

Question 35

What is foreclosure?

Answer 35

Foreclosure (s 28)
⁃ This has a narrow meaning and simply means taking ownership of the property (where the creditor applies to court to become owner of the land and only happens if the creditor can’t sell it)

Question 36

What is assignation?

Answer 36

• s 14
• You can transfer a standard security by assignation under s 14. The assignation must be registered in the Land Register or Register of Sasines.
  ⁃ NB the debt must be assigned too.

Question 37

What is redemption?

Answer 37

• s 18

⁃ This is the right to pay off the loan early. Sometimes this is contracted out of.

Question 38

What is discharge?

Answer 38

• s 17

This is the deed of extinction of the standard security.

Question 39

What is restriction?

Answer 39

• s 15

A deed of restriction limits the land to which the security applies. e.g. A builder has granted a standard security over a development and then sells off a plot. The lender will be willing to discharge the security for the first plot in return for some of the purchase price, but will want to keep the security intact for the rest of the land. So a restriction limits the territorial scope of a standard security to certain land.

Question 40

What are charging orders?

Answer 40

Charging orders may be imposed on your properties - typically by local authorities (e.g. often on tenements). If the local authority has served a statutory notice for repairs and the owners don’t repair and the authority gets the repair done then they will register a charging order and that is in effect a security over the tenement or other property for the cost of the work. It means that you can’t sell your flat until you pay.

Question 41

What security is taken over corporeal moveables?

Answer 41

Pledge (pignus)

Question 42

What is Pledge (pignus)?

Answer 42

This is an express security over corporeal moveables.

Delivery (actual or constructive or symbolic) is required to create a pledge.

For constructive delivery there must be intimation to the custodian (Inglis v Robertson & Baxter 1897).
⁃ NB in relation to bills of lading intimation to the custodian is not necessary *Inglis v Robertson & Baxter (1897)

Consumer Credit Act 1974 covers pledges where debtor is individual. (Pawnbroking.) See http://www.thenpa.com/.

Question 43

Can a pledgee sell?

Answer 43

In principle, no - you need court authority to sell.
⁃ However there are two important exceptions:
⁃ 1) The contract may provide for a power of sale.
⁃ 2) Licensed pawnbrokers have a statutory power of sale [don’t need to know the provision]

Question 44

What is Lien?

Answer 44

Tacit security over corporeal moveables. Repairer, warehouser, carrier, hotelier (innkeeper).

Most liens are special (i.e. restricted). However, some (e.g those of solicitors and bankers) are general (i.e. unrestricted).

The creditor needs permission from court to sell, unless agreed in the contract.

Question 45

Can Lien be taken over land?

Answer 45

The conventionl view is that lien is only over corporeal moveables. However there are some cases over land - in principle there is no reason why you couldn’t.

Question 46

McGraddie v McGraddie [2010]

Answer 46

Comment in this case that you couldn’t have a lien over land.

Question 47

Wilmington Trust Co v Rolls Royce plc [2011]

Answer 47

Court there was a dictum stating that you can have a lien over land. (Apparently this judge had read Andrew Steven’s book).

Question 48

What happens where there is a hypothec?

Answer 48

Debtor retains possession. (For floating charges see below and heritable securities see above.)

Question 49

Why are express hypothec’s limited?

Answer 49

Express hypothecs are very limited because of the lack of publicity:
⁃ Ship mortgage registered under Merchant Shipping Act 1995.
⁃ Aircraft mortgage registered under Civil Aviation Act 1982 and Mortgaging of Aircraft Order 1972.

Question 50

What are tacit hypothecs?

Answer 50

⁃ Various maritime hypothecs (English maritime liens) eg for salvage and wages.
⁃ Landlord’s hypothec.
⁃ Commercial leases. Bankruptcy and Diligence etc (Scotland) Act 2007 s 208[ Since the BAD Act this has been limited to commercial leases.] (And see lectures on leases.)

Question 51

Where were floating charges introduced in Scotland?

Answer 51

Floating charges were introduced to Scotland by the Companies (Floating Charges) (Scotland) Act 1961. Receivership was introduced by the Companies (Floating Charges and Receivers) (Scotland) Act 1972.

Question 52

What is the current legislation governing floating charges?

Answer 52

The current legislation is the Companies Act 1985 and the Insolvency Act 1986, as amended and the Companies Act 2006 but major changes would be introduced by part 2 of the Bankruptcy and Diligence etc (Scotland) Act 2007[ But these provisions have not been brought into force due to the objection of the banks.].
⁃ 1985 Act ss 462-464[ This concerns the creation of floating charges.]. 1986 Act ss 51-53, 55, 57, 60, 61[ This concerns the effect of floating charges on insolvency - don’t worry about these for property law.].

Question 53

Who can grant a floating charge?

Answer 53

Certain corporate debtors only (companies, LLPs).

Question 54

What does a floating charge ‘float over’?

Answer 54

A floating charge floats over the “Whole property and undertaking” i.e. whole patrimony of company. Covers all assets whether real or personal moveable or immoveable, corporeal or incorporeal.

As assets acquired, charge covers them without any new juridical act by debtor. As assets disposed of, charge ceases to cover them, without any juridical act of discharge by creditor. On sale, asset sold no longer subject to charge, but price is.

Question 55

When must floating charges be registered and where?

Answer 55

Floating charges must be registered within 21 days in Charges Register: Companies Act 2006 s 859A. But see 2007 Act s 38[ This was supposed to mean that floating charges are only created on registration - but since it has not been brought into force this is not the law.].

Question 56

When are floating charges created?

Answer 56

s 859E - floating charges are created on delivery but…
⁃ [You have 21 days following delivery of the charge document from the debtor to the creditor to register in the Charges Register (part of the Companies Register) During these 21 days the charge is valid but it is not publicly available.]

Question 57

How does attachment operate?

Answer 57

Attachment (crystallisation) by either
⁃ (1) liquidation or
⁃ (2) receivership.
⁃ Attachment makes charge equivalent to “fixed security” i.e. real. When acquiring charged assets, no discharge needed provided that charge unattached.

Question 58

How has the power of floating charge holes to appoint receivers for charges been limited?

Answer 58

Enterprise Act 2002 ss 248-255 greatly limit the power of floating charge holders to appoint receivers for charges created since 15 September 2003, as well as abolishing the preference of the Crown for tax[ Tax used to have priority over floating charges but this is no longer the case.].

Question 59

How are Company charges to be registered?

Answer 59

⁃ Most securities[ Including standard securities.] granted by companies must be registered within 21 days in Charges Register: Companies Act 2006 s 859A.
⁃ This means that eg standard securities require to be registered twice.
⁃ But the Companies Act 2006 s 893 should be used to end the double registration rule.

Question 60

What are the proposed reforms to the law on security over corporeal moveables?

Answer 60

There have been periodic proposals to reform the law on security over corporeal moveables.

Scottish Law Commission, Discussion Paper on Moveable Transactions (Scot Law Com Disc Paper No 151, 2011). Proposes the introduction of a new registered security over corporeal and incorporeal moveable property which would be known provisionally as the Register of Moveable Transactions.

Longer term project on reform of heritable security.