Priority of Charges
Written by 21st July 2014on
The Companies Bill 2012 (the "Bill") proposes significant reform to the current rules that determine which of two registerable charges created by a company over the same property should be given priority.
The Bill will introduce, for the first time, statutory priority rules under which priority will be conferred by reference to the date of receipt by the Companies Registration Office ("CRO") of those particulars of the charge that are required to be delivered to the CRO. For any company charge, if that date of receipt is earlier than the date (or time, if particulars of two charges are received on the same date) on which particulars of a competing charge are received by the CRO, that charge will have priority over the competing charge even if the date of creation of the competing charge will have been earlier than the date of creation of that charge. This rule will apply regardless of existing judicial rules for determining priority, but (a) the rule will be excluded to the extent that other legislation sets out rules for determining the priority of security interests over property of the type affected by the competing charges and (b) charge holders will be permitted to agree priorities different to those resulting from the Bill provisions.
The provisions of the Companies Acts 1963 to 2013 do not deal with priority between competing charges created by a company over the same property but do require particulars of each registerable charge to be delivered to the CRO within 21 days of creation of that charge if that charge is to be enforceable against a liquidator of the company and its creditors. Therefore, where the issue of priority of competing charges arises at present, the courts determine that issue by reference to judicial rules that have developed as part of the common law.
Generally, priority is given to security interests by reference to date of creation (first created ranks first) but there are exceptions to this rule, notably when the first charge holder has failed to take measures that a prudent charge holder would take to put others on notice of the security held and another person has given value (typically, by way of loan) for a subsequent charge and has taken that subsequent charge without notice of the charge given in favour of the first charge holder. In addition, priority of security interests over certain types of property may be determined on the basis of statutory rules specific to that property. For example, the priority of security interests over registered land is determined by date of registration under the Registration of Title Act 1964 and the Land Registry rules.
Section 412 of the Bill provides that the priority of charges created by a company will be determined by reference to the date of receipt by the CRO of the particulars of that charge that are required to be delivered to the CRO (the "prescribed particulars") except where statutory provisions other than those of the Bill determine priority and subject the rights of the charge holders to agree between themselves that different priorities will apply to the charges.
Therefore, whenever the CRO will receive prescribed particulars of a charge on a date (or a time if particulars of two charges are ever received on the same date), that charge will have priority over every other charge affecting the same property for which the CRO will receive prescribed particulars at a later date or time irrespective of the dates of creation of the charges.
The priority that the Bill gives to receipt by the CRO of the prescribed particulars of a charge will become very clear where a company or potential lender will decide to avail of the two stage registration process by sending particulars of intention to create a charge to the CRO within 21 days of the date on which it will be created followed by a notice stating that the charge has been created which must be received by the CRO not later than 21 days after receipt by the CRO of the particulars of intention to create that charge. The Bill provides in Section 412 (3) that priority of the charge will relate back to the date on which the CRO will have received particulars of the intention to create it even though there will be no charge in existence on that date.
The introduction of statutory rules for determining the priority of competing security interests based on earliest receipt of prescribed particulars of a charge by the CRO is to be welcomed as it simplifies the determination of priority considerably and in a manner that should be within the control of the company and the charge holder. The new rules are also consistent with rules that apply already to registered land. It is likely that delivery of the prescribed particulars of the charge to the CRO will become a standard completion condition so that the CRO will receive those prescribed particulars contemporaneously with the first advance of the loan secured by the charge.
While the Bill will give the option to deliver particulars in advance of creating the charge, it is possible that that option could prove to be an unwelcome complication. Section 410 (2) of the Bill (if enacted as drafted) would permit a potential lender to deliver to the CRO particulars of an intention by a company to create a charge. Doing so could (a) have a detrimental impact on negotiations that the company could be conducting with other lenders, (b) undermine the confidentiality required for the company to successfully complete acquisition negotiations and (c) possibly interfere with the company's ability to deal with its assets given the concerns that third parties dealing with the company will likely have that the priority of a security interest will relate back to a time prior to completion of their dealing when the CRO first received particulars of the intention to create that security interest. Therefore, with a view to ensuring that interference with the company's business is kept to a minimum until such time as the company has contracted for a loan and security, it might have been preferable for the drafters of the Bill to stipulate that it is only open to the company itself to deliver particulars of an intention to create security. That system could be open to abuse by the company, however, as companies in distressed financial circumstances could elect to deliver particulars of an intention to create security with a view to giving a misleading impression of the credit worthiness and financial health of the company.
Generally, the option to register before security has been created does not seem to be a response to failings in the current system and introduces (without defining) uncertain concepts such as "the company's intention to create the charge", which could conceivably be exploited to the disadvantage of the company or its creditors.