Charges and Debentures
Written by 17th September 2014on
Changes Under The Act
The Companies Act 2014 (the "Act") will make significant changes to the categories of charges that are affected by company law when its provisions become effective, which is expected to occur in June 2015.
Section 408 of the Act will introduce a definition of "charge" for the purposes of the charge registration and priority provisions of the Act. The definition of "charge" is drafted broadly to include any mortgage or charge in any agreement (written or oral) that is created by a company over an interest in any property of that company, and includes a judgment mortgage where the provisions of the Act have relevance to judgment mortgages, but the definition excludes mortgages and charges created over certain specified categories of assets and claims ("excluded charges").
There is a substantial overlap between the excluded charges and financial collateral within the meaning of the European Communities (Financial Collateral Arrangements) Regulations 2010 (as amended) (the "Financial Collateral Regulations"). As the Financial Collateral Regulations contain provisions to simplify enforcement of a financial collateral arrangement and exempting financial collateral arrangements from registration requirements (including the requirement to deliver charge particulars to the Companies Registration Office ("CRO")), it makes sense to exclude financial collateral arrangements from the priority and registration provisions of the Act. Unfortunately, the Act appears to exclude from its protections charge arrangements that are not protected under the Financial Collateral Regulations. This position could result in changes in the measures that recipients of security take to protect security rights where it is not clear that they benefit from the protections of the Act or those of the Financial Collateral Regulations.
Under the Companies Acts 1963 to 2013, specified categories of charges must be registered within 21 days of their creation in order to be enforceable as against a liquidator of the company creating the charge or any creditor of that company. The categories of charges include charges on land, book debts, a ship or aircraft, goodwill, intellectual property and floating charges. If a charge does not come within a specified category, it is not registerable.
Solicitors are cautious about whether a charge could come within a specified category. For example, charges on shares and rights (principally, dividend rights) deriving from shares are registered typically because of a concern that a declared dividend on a share could constitute a book debt or that permission to use dividends until the charge holder becomes entitled to enforce the share security could result in the share charge having a floating charge element. This practice has persisted even after introduction of the Financial Collateral Regulations, possibly because of concerns that insufficient control is being taken over dividend entitlements to bring that element of the charge within the control requirements of the Financial Collateral Regulations.
Section 408 of the Act provides that "charge” for its registration and priority provisions (Part 7 of the Act) means a mortgage or a charge created by a company, in an agreement (written or oral), that is created over an interest in any property of that company (and in section 409(8) and sections 414 to 421 of the Act includes a judgment mortgage) except for the "excluded charge" categories, which are a mortgage or a charge, in an agreement (written or oral), that is created by a company over an interest in –
- money credited to an account of a financial institution, or any other deposits;
- shares, bonds or debt instruments;
- units in collective investment undertakings or money market instruments;
- claims and rights (such as dividends or interest) in respect of any thing referred to in any of the foregoing paragraphs; or
While the excluded charges correspond substantially to financial collateral arrangements within the meaning of the Financial Collateral Regulations and benefit from the Financial Collateral Regulations as a result, there are significant respects in which excluded charges encompass security arrangements that are not covered by the Financial Collateral Regulations. In particular, excluded charges given by one trading company to an individual or another trading company (where neither party to the security arrangement is a central bank, financial institution, public authority or other regulated financial services provider) will not have the benefit of the Financial Collateral Regulations.
Also, the Financial Collateral Regulations stipulate that security protected by them should be "in the possession or under the control of" the recipient of the security. Arguably, the holder of a floating charge does not have sufficient control over debt proceeds paid into a bank account for the Financial Collateral Regulations to apply. The debt proceeds when credited to a bank account will also be an excluded charge under the Act and will not benefit from the registration and priority protections in the Act as a result. Where the recipient of the charge is also the bank providing the account to which debt proceeds are credited, that bank may make its claim to the debt proceeds more certain by adding set off provisions and contractual provisions permitting the charge recipient to cancel the charge provider's right to make withdrawals until payment of the debt secured by the charge. Where the recipient of the charge is not the bank providing the account to which the debt proceeds are credited, it is likely that the charge recipient will require that bank to give a written acknowledgement of the interest that the charge recipient has in the account balance.
It is possible that recipients of excluded charges will seek to protect those excluded charges by means other than CRO registration. For example, when the Act takes effect, charges on shares (including rights, such as dividends, related to the shares) will be excluded charges, but it is possible that recipients of share charges will take the precaution of serving a stop notice on the company that has issued the charged shares to prevent dealings in the charged shares without prior notification to the charge recipient.
There is merit in introducing a charge registration system for companies that deals comprehensively with charges and mortgages created by a company regardless of the company assets affected by those charges and mortgages. These merits have been undermined to an extent, however, by introducing categories of excluded charge, particularly as the excluded charge categories do not correspond exactly with financial collateral arrangements protected by the Financial Collateral Regulations. Where solicitors doubt that either the Act registration and priority provisions or the Financial Collateral Regulations protections apply to their client's charge, they may well explore other ways to protect the charge.