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In
finance Finance is the study and discipline of money, currency and capital assets. It is related to, but not synonymous with economics, the study of production, distribution, and consumption of money, assets, goods and services (the discipline of f ...
, a security interest is a
legal right Some philosophers distinguish two types of rights, natural rights and legal rights. * Natural rights are those that are not dependent on the laws or customs of any particular culture or government, and so are ''universal'', '' fundamental'' a ...
granted by a
debtor A debtor or debitor is a legal entity (legal person) that owes a debt to another entity. The entity may be an individual, a firm, a government, a company or other legal person. The counterparty is called a creditor. When the counterpart of this ...
to a
creditor A creditor or lender is a party (e.g., person, organization, company, or government) that has a claim on the services of a second party. It is a person or institution to whom money is owed. The first party, in general, has provided some property ...
over the debtor's property (usually referred to as the ''
collateral Collateral may refer to: Business and finance * Collateral (finance), a borrower's pledge of specific property to a lender, to secure repayment of a loan * Marketing collateral, in marketing and sales Arts, entertainment, and media * ''Collate ...
'') which enables the creditor to have recourse to the property if the debtor defaults in making payment or otherwise performing the secured obligations. One of the most common examples of a security interest is a
mortgage A mortgage loan or simply mortgage (), in civil law jurisdicions known also as a hypothec loan, is a loan used either by purchasers of real property to raise funds to buy real estate, or by existing property owners to raise funds for any ...
: a person borrows money from the bank to buy a house, and they grant a mortgage over the house so that if they default in repaying the loan, the bank can sell the house and apply the proceeds to the outstanding loan. Although most security interests are created by agreement between the parties, it is also possible for a security interest to arise by
operation of law The phrase "by operation of law" is a legal term that indicates that a right or liability has been created for a party, irrespective of the intent of that party, because it is dictated by existing legal principles. For example, if a person dies wi ...
. For example, in many
jurisdiction Jurisdiction (from Latin 'law' + 'declaration') is the legal term for the legal authority granted to a legal entity to enact justice. In federations like the United States, areas of jurisdiction apply to local, state, and federal levels. J ...
s a mechanic who repairs a car benefits from a
lien A lien ( or ) is a form of security interest granted over an item of property to secure the payment of a debt or performance of some other obligation. The owner of the property, who grants the lien, is referred to as the ''lienee'' and the per ...
over the car for the cost of repairs. This lien arises by operation of law in the absence of any agreement between the parties. Most security interests are granted by the person who owns the property to secure their own indebtedness. But it is also possible for a person to grant security over their property as collateral for the debts of another person (often called ''third party security''). So a parent might grant a security interest over their home to support a business loan being made to their child. Similarly, most security interests operate to secure debts or other direct financial obligations. But sometimes a security is granted to secure a non-financial obligation. For example, in construction a
performance bond A performance bond, also known as a contract bond, is a surety bond issued by an insurance company or a bank to guarantee satisfactory completion of a project by a contractor. The term is also used to denote a collateral deposit of good faith mo ...
may secure the satisfactory performance of non-financial obligations. The different types of security interest which can arise and the rights which they confer will vary from country to country.


Rationale

A secured creditor takes a security interest to enforce its rights against
collateral Collateral may refer to: Business and finance * Collateral (finance), a borrower's pledge of specific property to a lender, to secure repayment of a loan * Marketing collateral, in marketing and sales Arts, entertainment, and media * ''Collate ...
in case the debtor defaults on the obligation. If the debtor goes bankrupt, a secured creditor takes precedence over unsecured creditors in the distribution. There are other reasons that people sometimes take security over assets. In shareholders' agreements involving two parties (such as a
joint venture A joint venture (JV) is a business entity created by two or more parties, generally characterized by shared ownership, shared returns and risks, and shared governance. Companies typically pursue joint ventures for one of four reasons: to acces ...
), sometimes the shareholders . It is sometimes suggested that banks may take
floating charge A floating charge is a security interest over a fund of changing assets of a company or other legal person. Unlike a fixed charge, which is created over ascertained and definite property, a floating charge is created over property of an ambulato ...
s over companies by way of security - not so much for the security for payment of their own debts, but because this ensures that no other bank will, ordinarily, lend to the company; thereby almost granting a monopoly in favour of the bank holding the floating charge on lending to the company. Some economists question the utility of security interests and secured lending generally. Proponents argue that secured interests lower the risk for the lender, and in turn allows the lender to charge lower interest, thereby lowering the cost of capital for the borrower. Detractors argue that creditors with security interests can destroy companies that are in financial difficulty, but which might still recover and be profitable. The secured lenders might get nervous and enforce the security early, repossessing key assets and forcing the company into bankruptcy. Further, the general principle of most insolvency regimes is that creditors should be treated equally (or '' pari passu''), and allowing secured creditors a preference to certain assets upsets the conceptual basis of an insolvency. More sophisticated criticisms of security point out that although unsecured creditors will receive less on insolvency, they should be able to compensate by charging a higher interest rate. However, since many unsecured creditors are unable to adjust their "interest rates" upwards (tort claimants, employees), the company benefits from a cheaper rate of credit, to the detriment of these non-adjusting creditors. There is thus a transfer of value from these parties to secured borrowers. Most insolvency law allows mutual debts to be set-off, allowing certain creditors (those who also owe money to the insolvent debtor) a pre-preferential position. In some countries, "involuntary" creditors (such as
tort A tort is a civil wrong that causes a claimant to suffer loss or harm, resulting in legal liability for the person who commits the tortious act. Tort law can be contrasted with criminal law, which deals with criminal wrongs that are punishable ...
victims) also have preferential status, and in others environmental claims have special preferred rights for cleanup costs. The most frequently used criticism of secured lending is that, if secured creditors are allowed to seize and sell key assets, a liquidator or bankruptcy trustee loses the ability to sell off the business as a
going concern A going concern is a business that is assumed will meet its financial obligations when they become due. It functions without the threat of liquidation for the foreseeable future, which is usually regarded as at least the next 12 months or the spec ...
, and may be forced to sell the business on a break-up basis. This may mean realising a much smaller return for the unsecured creditors, and will invariably mean that all the employees will be made redundant. For this reason, many jurisdictions restrict the ability of secured creditors to enforce their rights in a bankruptcy. In the U.S., the
Chapter 11 Chapter 11 of the United States Bankruptcy Code (Title 11 of the United States Code) permits reorganization under the bankruptcy laws of the United States. Such reorganization, known as Chapter 11 bankruptcy, is available to every business, wheth ...
creditor protection, which completely prevents enforcement of security interests, aims at keeping enterprises running at the expense of creditors' rights, and is often heavily criticised for that reason. In the
United Kingdom The United Kingdom of Great Britain and Northern Ireland, commonly known as the United Kingdom (UK) or Britain, is a country in Europe, off the north-western coast of the continental mainland. It comprises England, Scotland, Wales and ...
, an administration order has a similar effect, but is less expansive in scope and restriction in terms of creditors rights. European systems are often touted as being pro-creditor, but many European jurisdictions also impose restrictions upon time limits that must be observed before secured creditors can enforce their rights. The most draconian jurisdictions in favour of creditor's rights tend to be in offshore financial centres, who hope that, by having a legal system heavily biased towards secured creditors, they will encourage banks to lend at cheaper rates to offshore structures, and thus in turn encourage business to use them to obtain cheaper funds.


Overview

Under
English law English law is the common law legal system of England and Wales, comprising mainly criminal law and civil law, each branch having its own courts and procedures. Principal elements of English law Although the common law has, historically, b ...
and in most
common law In law, common law (also known as judicial precedent, judge-made law, or case law) is the body of law created by judges and similar quasi-judicial tribunals by virtue of being stated in written opinions."The common law is not a brooding omniprese ...
jurisdictions derived from English law (the United States is the exception as explained below), there are nine major types of proprietary security interests: #'true' legal mortgage; #equitable mortgage; #statutory mortgage; #fixed equitable charge, or bill of sale; #floating equitable charge; #pledge, or pawn; #legal lien; #equitable lien; and #hypothecation, or trust receipt. The United States also developed the conditional sale of personal property as another form of security interest, which is now obsolete. Security interests at common law are either ''possessory'' or '' nonpossessory'', depending upon whether the secured party actually needs to take possession of the collateral. Alternatively, they arise ''by agreement'' between the parties (usually by executing a security agreement), or ''by operation of law''. The evolution of the law of nonpossessory security interests in personal property has been particularly convoluted and messy. Under the rule of '' Twyne's Case'' (1601) transferring an interest in personal property without also immediately transferring possession was consistently regarded as a fraudulent conveyance. Over two hundred years would pass before such security interests were recognized as legitimate. The following discussion of the types of security interest principally concerns English law. English law on security interests has been followed in most
common law In law, common law (also known as judicial precedent, judge-made law, or case law) is the body of law created by judges and similar quasi-judicial tribunals by virtue of being stated in written opinions."The common law is not a brooding omniprese ...
countries, and most common law countries have similar property statutes regulating the common law rules.


Types

Security interests may be taken on any type of property. The law divides property into two classes:
personal property property is property that is movable. In common law systems, personal property may also be called chattels or personalty. In civil law systems, personal property is often called movable property or movables—any property that can be moved fr ...
and
real property In English common law, real property, real estate, immovable property or, solely in the US and Canada, realty, is land which is the property of some person and all structures (also called improvements or fixtures) integrated with or aff ...
. Real property is the land, the buildings affixed to it and the rights that go with the land. Personal property is defined as any property other than real property.


"True" legal mortgage

A legal mortgage arises when the assets are conveyed to the secured party as security for the obligations, but subject to a right to have the assets reconveyed when the obligations are performed. This right is referred to as the " equity of redemption". The law has historically taken a dim view of provisions which might impede this right to have the assets reconveyed (referred to as being a "clog" on the equity of redemption); although the position has become more relaxed in recent years in relation to sophisticated financial transactions. References to "true" legal mortgages mean mortgages by the traditional common law method of transfer subject to a proviso in this manner, and references are usually made in contradistinction to either equitable mortgages or statutory mortgages. True legal mortgages are relatively rare in modern commerce, outside of occasionally with respect to
shares In financial markets, a share is a unit of equity ownership in the capital stock of a corporation, and can refer to units of mutual funds, limited partnerships, and real estate investment trusts. Share capital refers to all of the shares of ...
in companies. In England, true legal mortgages of land have been abolished in favour of statutory mortgages. To complete a legal mortgage it is normally necessary that title to the assets is conveyed into the name of the secured party such that the secured party (or its nominee) becomes the legal titleholder to the asset. If a legal mortgage is not completed in this manner it will normally take effect as an equitable mortgage. Because of the requirement to transfer title, it is not possible to take a legal mortgage over future property, or to take more than one legal mortgage over the same assets. However, mortgages (legal and equitable) are nonpossessory security interests. Normally the party granting the mortgage (the ''mortgagor'') will remain in possession of the mortgaged asset. The holder of a legal mortgage has three primary remedies in the event that there is a default on the secured obligations: #they can foreclose on the assets, #they can sell the assets, or #they can appoint a receiver over the assets. The holder of a mortgage can also usually sue upon the covenant to pay which appears in most mortgage instruments. There are a range of other remedies available to the holder of a mortgage, but they relate predominantly to land, and accordingly have been superseded by statute, and they are rarely exercised in practice in relation to other assets. The beneficiary of a mortgage (the ''mortgagee'') is entitled to pursue all of its remedies concurrently or consecutively. Foreclosure is rarely exercised as a remedy. To execute foreclosure, the secured party needs to petition the court, and the order is made in two stages (''nisi'' and ''absolute''), making the process slow and cumbersome. Courts are historically reluctant to grant orders for foreclosure, and will often instead order a judicial sale. If the asset is worth more than the secured obligations, the secured party will normally have to account for the surplus. Even if a court makes a decree ''absolute'' and orders foreclosure, the court retains an absolute discretion to reopen the foreclosure after the making of the order, although this would not affect the title of any third party purchaser. The holder of a legal mortgage also has a power of sale over the assets. Every mortgage contains an implied power of sale.'' Deverges v Sandeman, Clark & Co''
902 __NOTOC__ Year 902 ( CMII) was a common year starting on Friday (link will display the full calendar) of the Julian calendar. Events By place Europe * Spring – Adalbert II, margrave of Tuscany, revolts against Emperor Louis I ...
1 Ch 579
This implied power exists even if the mortgage is not under seal. All mortgages which are made by way of deed also ordinarily contain a power of sale implied by statute, but the exercise of the statutory power is limited by the terms of the statute. Neither implied power of sale requires a court order, although the court can usually also order a judicial sale. The secured party has a duty to get the best price reasonably obtainable, however, this does not require the sale to be conducted in any particular fashion (i.e. by auction or sealed bids). What the best price reasonably obtainable will be will depend upon the market available for the assets and related considerations. The sale must be a true sale - a mortgagee cannot sell to himself, either alone or with others, even for fair value; such a sale may be restrained or set aside or ignored. However, if the court orders a sale pursuant to statute, the mortgagee may be expressly permitted to buy. The third remedy is to appoint a receiver. Technically the right to appoint a receiver can arise two different ways - under the terms of the mortgage instrument, and (where the mortgage instrument is executed as a deed) by statute. If the mortgagee takes possession then under the common law they owe strict duties to the mortgagor to safeguard the value of the property (although the terms of the mortgage instrument will usually limit this obligation). However, the common law rules relate principally to physical property, and there is a shortage of authority as to how they might apply to taking "possession" of rights, such as shares. Nonetheless, a mortgagee is well advised to remain respectful of their duty to preserve the value of the mortgaged property both for their own interests and under their potential liability to the mortgagor.


Equitable mortgage

An equitable mortgage can arise in two different ways – either as a legal mortgage which was never perfected by conveying the underlying assets, or by specifically creating a mortgage as an equitable mortgage. A mortgage over equitable rights (such as a beneficiary's interests under a trust) will necessarily exist in equity only in any event. Under the laws of some jurisdictions, a mere deposit of title documents can give rise to an equitable mortgage. With respect to land this has now been abolished in England, although in many jurisdictions company shares can still be mortgaged by deposit of share certificates in this manner. Generally speaking, an equitable mortgage has the same effect as a perfected legal mortgage except in two respects. Firstly, being an equitable right, it will be extinguished by a bona fide purchaser for value who did not have notice of the mortgage. Secondly, because the legal title to the mortgaged property is not actually vested in the secured party, it means that a necessary additional step is imposed in relation to the exercise of remedies such as foreclosure.


Statutory mortgage

Many jurisdictions permit specific assets to be mortgaged without transferring title to the assets to the mortgagee. Principally, statutory mortgages relate to land, registered aircraft and registered ships. Generally speaking, the mortgagee will have the same rights as they would have had under a traditional true legal mortgage, but the manner of enforcement is usually regulated by the statute. Hypothecation, or "trust receipts" are relatively uncommon forms of security interest whereby the underlying assets are pledged, not by delivery of the assets as in a conventional pledge, but by delivery of a document or other evidence of title. Hypothecation is usually seen in relation to bottomry (cf. bills of lading), whereby the bill of lading is endorsed by the secured party, who, unless the security is redeemed, can claim the property by delivery of the bill.


Equitable charge

A fixed equitable charge confers a right on the secured party to look to (or appropriate) a particular asset in the event of the debtor's default, which is enforceable by either power of sale or appointment of a receiver. It is probably the most common form of security taken over assets. Technically, a charge (or a "mere" charge) cannot include the power to enforce without judicial intervention, as it does not include the transfer of a proprietary interest in the charged asset. If a charge includes this right (such as private sale by a receiver), it is really an equitable mortgage (sometimes called charge by way of mortgage). Since little turns on this distinction, the term "charge" is often used to include an equitable mortgage. An equitable charge is also a nonpossessory form of security, and the beneficiary of the charge (the ''chargee'') does not need to retain possession of the charged property. Where security equivalent to a charge is given by a natural person (as opposed to a corporate entity) it is usually expressed to be a bill of sale, and is regulated under applicable bills of sale legislation. Difficulties with the Bills of Sale Acts in Ireland, England and Wales have made it virtually impossible for individuals to create floating charges.


Floating charge

Floating charges are similar in effect to fixed equitable charges once they crystallise (usually upon the commencement of liquidation proceedings against the chargor), but prior to that they "float" and do not attach to any of the chargor's assets, and the chargor remains free to deal with or dispose of them. The U.S. equivalent is the floating lien, which unlike the floating charge, can be given by any kind of debtor, not just corporate entities.


Pledge

A pledge (also sometimes called a pawn) is a form of possessory security, and accordingly, the assets which are being pledged need to be physically delivered to the beneficiary of the pledge (the ''pledgee''). Pledges are in commercial contexts used in trading companies (especially, physically, commodity trading), and are still used by
pawnbrokers A pawnbroker is an individual or business (pawnshop or pawn shop) that offers secured loans to people, with items of personal property used as collateral. The items having been ''pawned'' to the broker are themselves called ''pledges'' or ...
, which, contrary to their old world image, remain a regulated credit industry. The pledgee has a common law power of sale in the event of a default on the secured obligations which arises if the secured obligations are not satisfied by the agreed time (or, in default of agreement, within a reasonable period of time). If the power of sale is exercised, then the holder of the pledge must account to the pledgor for any surplus after payment of the secured obligations. A pledge does not confer a right to appoint a receiver or foreclose. If the holder of pledge sells or disposes of the pledged assets when not entitled to do so, they may be liable in conversion to the pledgor. The major flaw with the pledge is that it requires physical possession by the pledgee, which traps a business pledgor in a paradox. Unless the pledgee literally occupies the same premises as the pledger, the collateral once transferred is unavailable for the pledgor to operate its business and generate income to repay the pledgee. Lawyers in many jurisdictions tried to get around this problem with creative devices like conditional sales and trust receipts (see below) with varying results.


Legal lien

A legal lien, in many
common law In law, common law (also known as judicial precedent, judge-made law, or case law) is the body of law created by judges and similar quasi-judicial tribunals by virtue of being stated in written opinions."The common law is not a brooding omniprese ...
systems, includes a right to retain physical possession of tangible assets as security for the underlying obligations. In some jurisdictions it is a form of possessory security, and possession of the assets must be transferred to (and maintained by) the secured party. In the case of a possessory lien, the right is purely passive. In the case of a possessory lien, the secured party (the ''lienor'') has no right to sell the assets - merely a right to refuse to return them until paid. In the United States, a lien can be a nonpossessory security interest. Many legal liens arise as a matter of law (by common law or by statute). It is possible, however, to create a legal lien by contract. The courts have confirmed that it is also possible to give the secured party a power of sale in such a contract, but case law on such a power is limited and it is difficult to know what limitations and duties would be imposed on the exercise of such a power.


Equitable lien

Equitable liens are slightly amorphous forms of security interest that arise only by operation of law in certain circumstances. Academically it has been noted that there seems to be no real unifying principle behind the circumstances that give rise to them. An equitable lien takes effect essentially as an equitable charge, and arises only in specified situations, (e.g. an unpaid vendor's lien in relation to property is an equitable lien; a
maritime lien The maritime lien is one of three ''in rem'' claims capable of being brought under UK Admiralty Law. Whilst being a common law instrument, it has been codified under s.21(3) of the Senior Courts Act 1981 along with s.21(2) and s.21(4), its statu ...
is sometimes thought to be an equitable lien). It is sometimes argued that where the constitutional documents of a
company A company, abbreviated as co., is a legal entity representing an association of people, whether natural, legal or a mixture of both, with a specific objective. Company members share a common purpose and unite to achieve specific, declared ...
provide that the company has a lien over its own shares, this provision takes effect as an equitable lien, and if that analysis is correct, then it is probably the one exception to the rule that equitable liens arise by operation of law rather than by agreement.


Conditional sale

Another form of security interest which flourished in the United States in the late 19th century and the first half of the 20th century was the conditional sale, the ancestor of what U.S. lawyers now call the purchase money security interest (PMSI). It was popular in that era among creditors for two reasons. First, most U.S. states had imposed numerous onerous restrictions upon chattel mortgages in order to protect debtors (at a time
debtor's prison A debtors' prison is a prison for people who are unable to pay debt. Until the mid-19th century, debtors' prisons (usually similar in form to locked workhouses) were a common way to deal with unpaid debt in Western Europe.Cory, Lucinda"A Histori ...
s were being abolished but were still within the memory of most persons then living), and second, all U.S. states in that era also had strict anti-usury laws. Conditional sales, at least initially, were seen to be free of both of those problems. Under pressure from creditors and their lawyers, U.S. courts gradually developed a highly technical distinction between an absolute, unconditional sale, in which the seller simply became another unsecured creditor of the buyer, and a conditional sale, in which the sale of the goods was made dependent upon some condition (such as payment of the price in installments). Thus, the buyer's breach of a material condition, in turn, made it possible for the seller to declare the contract had ended, that the '' status quo ante'' should be restored, and to repossess the goods accordingly. Since the buyer had breached, he had forfeited his right to reimbursement of any portion of the price already paid, or in the alternative, those payments could be regarded as a crude form of rent for the use of the goods. As conditional sales became popular for financing industrial equipment and consumer goods, U.S. state legislatures began to regulate them as well during the early 20th century, with the result that they soon became almost as complex as the older forms of security interests which they had been used to evade.


Security interest vs. general obligation

Some obligations are backed only by a security interest against specific designated property, and liability for repayment of the debt is limited to the property itself, with no further claim against the obligor. These are referred to as " nonrecourse obligations". Other obligations (i.e., recourse obligations) are backed by the full credit of the borrower. If the borrower defaults, then the creditor can force the obligor into bankruptcy and the creditors will divide all assets of the obligor. Depending on the relative credit of the obligor, the quality of the asset, and the availability of a structure to separate the obligations of the asset from the obligations of the obligor, the interest rate charged on one may be higher or lower than the other.


Perfection

Perfection of security interests means different things to lawyers in different jurisdictions. * in
English law English law is the common law legal system of England and Wales, comprising mainly criminal law and civil law, each branch having its own courts and procedures. Principal elements of English law Although the common law has, historically, b ...
, perfection has no defined statutory or judicial meaning, but academics have pressed the view that it refers to the attachment of the security interest to the underlying asset. Others have argued cogently that ''attachment'' is a separate legal concept, and that perfection refers to any steps required to ensure that the security interest is enforceable against third parties. * in
American law The law of the United States comprises many levels of codified and uncodified forms of law, of which the most important is the nation's Constitution, which prescribes the foundation of the federal government of the United States, as well as va ...
, perfection is generally taken to refer to any steps required to ensure that the security interest remains enforceable against other creditors or other parties, including a bankruptcy trustee in the case of the debtor's
bankruptcy Bankruptcy is a legal process through which people or other entities who cannot repay debts to creditors may seek relief from some or all of their debts. In most jurisdictions, bankruptcy is imposed by a court order, often initiated by the debto ...
. The second definition is becoming more frequently used commercially, and arguably is to be preferred, as the traditional English legal usage has little purpose except in relation to the comparatively rare true legal mortgage (very few other security interests require additional steps to attach to the asset. Security interests frequently require some form of registration to be enforceable in connection with the chargor's insolvency).


"Quasi-security"

There are a number of other arrangements which parties can put in place which have the effect of conferring security in a commercial sense, but do not actually create a proprietary security interest in the assets. For example, it is possible to grant a power of attorney or conditional option in favour of the secured party relating to the subject matter, or to utilise a retention of title arrangement, or execute undated transfer instruments. Whilst these techniques may provide protection for the secured party, they do not confer a proprietary interest in the assets which the arrangements relate to, and their effectiveness may be limited if the debtor goes into
bankruptcy Bankruptcy is a legal process through which people or other entities who cannot repay debts to creditors may seek relief from some or all of their debts. In most jurisdictions, bankruptcy is imposed by a court order, often initiated by the debto ...
. It is also possible to replicate the effect of security by making an outright transfer of the asset, with a provision that the asset is re-transferred once the secured obligations are repaid. In some jurisdictions, these arrangements may be recharacterised as the grant of a mortgage, but most jurisdictions tend to allow the parties freedom to characterise their transactions as they see fit. Common examples of this are financings using a stock loan or repo agreement to collateralise the cash advance, and title transfer arrangements (for example, under the "Transfer" form English Law credit support annex to an ISDA Master Agreement (as distinguished from the other forms of CSA, which grant security)).


The law in different jurisdictions


European Union

The laws relating to taking and enforcing security vary by country, and depend on whether it derives from
common law In law, common law (also known as judicial precedent, judge-made law, or case law) is the body of law created by judges and similar quasi-judicial tribunals by virtue of being stated in written opinions."The common law is not a brooding omniprese ...
or civil law. In the
European Union The European Union (EU) is a supranational union, supranational political union, political and economic union of Member state of the European Union, member states that are located primarily in Europe, Europe. The union has a total area of ...
, the ''Financial Collateral Arrangements Directive'' provides for ''appropriation'' as a remedy for securing financial collateral. In the
United Kingdom The United Kingdom of Great Britain and Northern Ireland, commonly known as the United Kingdom (UK) or Britain, is a country in Europe, off the north-western coast of the continental mainland. It comprises England, Scotland, Wales and ...
, this has been introduced under the ''Financial Collateral Arrangements (No.2) Regulations 2003'' where the assets subject to the mortgage are "financial collateral" and the mortgage instrument provides that the regulations apply. Appropriation is a means whereby the mortgagee can take title to the assets, but must account to the mortgagor for their fair market value (which must be specified in the mortgage instrument), but without the need to obtain any court order. In 2009, the
Judicial Committee of the Privy Council The Judicial Committee of the Privy Council (JCPC) is the highest court of appeal for the Crown Dependencies, the British Overseas Territories, some Commonwealth countries and a few institutions in the United Kingdom. Established on 14 Aug ...
ruled that as a matter of English law: #Appropriation is much closer to sale than it is to foreclosure. It is in effect a sale by the collateral-taker to himself, at a price determined by an agreed valuation process. #It is not necessary, for a valid appropriation, for the collateral-taker to become a registered holder of the shares. #Commercial practicalities require that there should be an overt act evincing the intention to exercise a power of appropriation, communicated to the collateral-provider. The principles under which equitable relief may be sought, where appropriation has been exercised under English law, were expressed in 2013 in ''
Cukurova Finance International Ltd v Alfa Telecom Turkey Ltd , , , , and were a series of judicial decisions of the Judicial Committee of the Privy Council, one of which ( 013UKPC 2) is a leading case on the remedy of appropriation for security interests that was introduced into United Kingdom law under t ...
''.


United States (the Uniform Commercial Code)

In the late 1940s, the United States (U.S.) legal community arrived at a consensus that the traditional common law distinctions were obsolete and served no useful purpose. They tended to generate too much unnecessary litigation about whether the creditor had selected the correct type of security interest. There was a growing recognition that the different types of security interests had developed only because on the one hand, many judges thought there was something inherently wrong with allowing a person, either out of desperation or foolishness, to summarily encumber all his or her personal property as collateral for a loan, but on the other, debtors and creditors would attempt to reach a desired result by any means necessary, even if that meant resorting to creating multiple security interests to cover different types of personal property. There was also the problem of the above-mentioned early English cases that regarded such security interests as fraudulent conveyances and failed to recognize that they had legitimate uses in a modern industrial economy. Therefore, because the very history of security interests demonstrated that judicial resistance to enforcing broad security interests ''would not stop'' debtors from trying to give them as inducement to creditors to extend financing, and that they were socially useful under the proper circumstances, the better choice was to make the law of security interests as clear and simple as possible. The result was Article 9 of the
Uniform Commercial Code The Uniform Commercial Code (UCC), first published in 1952, is one of a number of Uniform Acts that have been established as law with the goal of harmonizing the laws of sales and other commercial transactions across the United States through U ...
(UCC), which regulates security interests in ''personal property'' (as opposed to real property) and establishes a unified concept of a ''security interest'' as a right in a
debtor A debtor or debitor is a legal entity (legal person) that owes a debt to another entity. The entity may be an individual, a firm, a government, a company or other legal person. The counterparty is called a creditor. When the counterpart of this ...
's property that secures payment or performance of an obligation. Article 9 was subsequently enacted, although not entirely without variations, by the 50 states,
District of Columbia ) , image_skyline = , image_caption = Clockwise from top left: the Washington Monument and Lincoln Memorial on the National Mall, United States Capitol, Logan Circle (Washington, D.C.), Logan Circle, Jefferson Memoria ...
, and most
territories A territory is an area of land, sea, or space, particularly belonging or connected to a country, person, or animal. In international politics, a territory is usually either the total area from which a state may extract power resources or a ...
. Under Article 9, a security interest is created by a security agreement, under which the debtor grants a security interest in the debtor's property as
collateral Collateral may refer to: Business and finance * Collateral (finance), a borrower's pledge of specific property to a lender, to secure repayment of a loan * Marketing collateral, in marketing and sales Arts, entertainment, and media * ''Collate ...
for a
loan In finance, a loan is the lending of money by one or more individuals, organizations, or other entities to other individuals, organizations, etc. The recipient (i.e., the borrower) incurs a debt and is usually liable to pay interest on that ...
or other obligation. A security interest grants the holder a right to take a remedial action with respect to the property, upon occurrence of certain events, such as the non-payment of a loan. The creditor may take possession of such property in satisfaction of the underlying obligation. The holder will sell such property at a
public auction In public relations and communication science, publics are groups of individual people, and the public (a.k.a. the general public) is the totality of such groupings. This is a different concept to the sociological concept of the ''Öffentlichk ...
or through a private sale, and apply the proceeds to satisfy the underlying obligation. If the proceeds exceed the amount of the underlying obligation, the debtor is entitled to the excess. If the proceeds fall short, the holder of the security interest is entitled to a deficiency judgment whereby the holder can institute additional legal proceedings to recover the full amount unless it is a
non-recourse debt Nonrecourse debt or a nonrecourse loan (sometimes hyphenated as non-recourse) is a secured loan (debt) that is secured by a pledge of collateral, typically real property, but for which the borrower is not personally liable. If the borrower defau ...
like many mortgage loans in the United States. In the U.S. the term "security interest" is often used interchangeably with "
lien A lien ( or ) is a form of security interest granted over an item of property to secure the payment of a debt or performance of some other obligation. The owner of the property, who grants the lien, is referred to as the ''lienee'' and the per ...
". However, the term "lien" is more often associated with the collateral of real property than with of personal property. A security interest is typically granted by a "security agreement". The security interest is established with respect to the property, if the debtor has an ownership interest in the property and the holder of the security interest conferred value to the debtor, such as giving a loan. The holder may "perfect" the security interest to put third parties on notice thereof. Perfection is typically achieved by filing a financing statement with government, often the secretary of state located at a jurisdiction where a corporate debtor is incorporated. Perfection can also be obtained by possession of the collateral, if the collateral is tangible property. Absent perfection, the holder of the security interest may have difficulty enforcing his rights in the collateral with regard to third parties, including a trustee in bankruptcy and other creditors who claim a security interest in the same collateral. If the debtor defaults (and does not file for bankruptcy), the UCC offers the creditor the choice of either suing the debtor in court or conducting a disposition by either public or private sale. UCC dispositions are designed to be held by private parties without any judicial involvement, although the debtor and other secured creditors of the debtor have the right to sue the creditor conducting the disposition if it is not conducted in a "commercially reasonable" fashion to maximize proceeds from the sale of the collateral. Article 9 is limited in scope to personal property and fixtures (i.e., personal property attached to real property). Security interests in real property continue to be governed by non-uniform laws (in the form of statutory law or case law or both) which vary dramatically from state to state. In a slight majority of states, the deed of trust is the primary instrument for taking a security interest in real property, while the
mortgage A mortgage loan or simply mortgage (), in civil law jurisdicions known also as a hypothec loan, is a loan used either by purchasers of real property to raise funds to buy real estate, or by existing property owners to raise funds for any ...
is used in the remainder. The
Uniform Law Commission The Uniform Law Commission (ULC), also called the National Conference of Commissioners on Uniform State Laws, is a non-profit, American unincorporated association. Established in 1892, the ULC aims to provide U.S. states (plus the District of C ...
's attempt during the 1970s to encourage the enactment of uniform land transaction laws was a catastrophic failure.


Commonwealth

As noted above, UCC Article 9's core insight was that the traditional distinctions were hopelessly obsolete, which was highly influential elsewhere and inspired the enactment of the '' Personal Property Security Acts'' throughout Canada during the 1990s. Although Ontario was the first province to enact such a law in 1990, all other Canadian provinces and territories followed the example set by
Saskatchewan Saskatchewan ( ; ) is a Provinces and territories of Canada, province in Western Canada, western Canada, bordered on the west by Alberta, on the north by the Northwest Territories, on the east by Manitoba, to the northeast by Nunavut, and on t ...
's PPSA enacted in 1993. The PPSAs are generally similar to UCC Article 9. However, they differ substantially on several issues such as the treatment of rental property, and the effectiveness of a financing statement after a debtor changes its name. Quebec has not enacted a PPSA but the sections of the 1994 Quebec Civil Code governing hypothecs were clearly influenced by the PPSAs and Article 9, and the province has made further amendments to the Civil Code to make possible more types of transactions that are already available in Article 9 jurisdictions. In turn,
international development International development or global development is a broad concept denoting the idea that societies and countries have differing levels of economic or human development on an international scale. It is the basis for international classificatio ...
experts recognized in the mid-1990s that reform of the law of security interests was a major reason for the prosperity of both Canada and United States, in that it had enabled their businesses to finance growth through forms of secured lending which simply did not exist elsewhere. The
International Monetary Fund The International Monetary Fund (IMF) is a major financial agency of the United Nations, and an international financial institution, headquartered in Washington, D.C., consisting of 190 countries. Its stated mission is "working to foster glo ...
, the
World Bank The World Bank is an international financial institution that provides loans and grants to the governments of low- and middle-income countries for the purpose of pursuing capital projects. The World Bank is the collective name for the Inte ...
, and other international lenders began to encourage other countries to follow Canada's example as part of the
structural adjustment Structural adjustment programs (SAPs) consist of loans (structural adjustment loans; SALs) provided by the International Monetary Fund (IMF) and the World Bank (WB) to countries that experience economic crises. Their purpose is to adjust the co ...
process (a consultation process often required as a condition of their loans). The Canadian PPSAs were subsequently followed by the New Zealand Personal Property Securities Act 1999, the Vanuatu Personal Property Securities Act 2008, the Australia Personal Property Securities Act 2009, the Papua New Guinea Personal Property Security Act 2012, the Jersey Security Interests Law 2012 (covering intangible personal property only), the Samoa Personal Property Securities Act 2013, and the Jamaica Security Interests in Personal Property Act 2013. The Canadian, New Zealand and Australian acts all followed the UCC's pragmatic "function over form" approach and borrowed extensive portions of Article 9's terminology and framework. However, New Zealand, as a
unitary state A unitary state is a sovereign state governed as a single entity in which the central government is the supreme authority. The central government may create (or abolish) administrative divisions (sub-national units). Such units exercise only th ...
, only needed to enact one act for the whole country and was able to create a single nationwide "register" for security interests. While the U.S. enacted Article 9 at the state level and Canada enacted its PPSAs at the provincial level, Australia, another common law federation, deliberately implemented its new security interest law at the federal level in order to supersede over 70 state laws and create a national register similar to New Zealand's.


Civil law

The first major attempt to bring the benefits of UCC Article 9 to civil law jurisdictions was launched by the
European Bank for Reconstruction and Development The European Bank for Reconstruction and Development (EBRD) is an international financial institution founded in 1991. As a multilateral developmental investment bank, the EBRD uses investment as a tool to build market economies. Initially fo ...
in 1992, which resulted in the EBRD Model Law for Secured Transactions in 1994. However, the EBRD Model Law's approach to the entire subject differed radically from UCC Article 9, and it was also quite limited. For example, it did not have provisions for purchase money security interests. Nearly all Central and Eastern European countries undertook reform of their secured transactions laws in the 1990s and 2000s, although most of them either came up with ''ad hoc'' indigenous solutions or followed the EBRD Model Law to some extent. Only Albania, Kosovo, and Montenegro attempted to closely follow the UCC Article 9 approach. In 2002, the
Organization of American States The Organization of American States (OAS; es, Organización de los Estados Americanos, pt, Organização dos Estados Americanos, french: Organisation des États américains; ''OEA'') is an international organization that was founded on 30 Apri ...
promulgated the Model Inter-American Law on Secured Transactions, in response to a rapidly growing body of empirical evidence that the chronic failure of Latin America's legal systems to support modern asset-based financing is a primary reason for the region's economic instability. The OAS Model Law attempted to import many of the best parts of UCC Article 9 into the Latin American civil law sphere, but with extensive revisions for that region's unique problems. The OAS Model Law has been enacted to some extent in several countries, including Mexico (2000, 2003, and 2010), Peru (2006), Guatemala (2007), and Honduras (2009). To date, only Honduras has been able to fully enact and actually implement the OAS Model Law in a manner faithful to the spirit of UCC Article 9, in the sense of unifying security interests and making them easily visible on a public registry. At the launch of the Pathways to Prosperity in the Americas initiative in San Jose, Costa Rica on March 4, 2010, then-U.S. Secretary of State
Hillary Clinton Hillary Diane Rodham Clinton ( Rodham; born October 26, 1947) is an American politician, diplomat, and former lawyer who served as the 67th United States Secretary of State for President Barack Obama from 2009 to 2013, as a United States sen ...
stressed that "the United States is committed to working with our Pathways partners to modernize laws that govern lending so that small and medium size businesses can use assets other than real estate as collateral for loans," and generously praised Honduras for its aggressive reform efforts. Separately, after the issue of secured transactions reform was recommended to the United Nations Commission on International Trade Law in 2000 by the
Secretary-General Secretary is a title often used in organizations to indicate a person having a certain amount of authority, power, or importance in the organization. Secretaries announce important events and communicate to the organization. The term is derived ...
, UNCITRAL eventually prepared a Legislative Guide on Secured Transactions as a recommendation to all countries, which ended up structured as a "political compromise" between "sharply divergent" legal systems. Therefore, although it was obviously inspired by UCC Article 9, the Legislative Guide did not closely conform to Article 9's terminology or structure. The Legislative Guide uses different terminology for even the most basic concepts. For example, it uses the term "security right" in lieu of "security interest". On December 11, 2008, the Guide was subsequently endorsed by the 67th plenary meeting of the
United Nations General Assembly The United Nations General Assembly (UNGA or GA; french: link=no, Assemblée générale, AG) is one of the six principal organs of the United Nations (UN), serving as the main deliberative, policymaking, and representative organ of the UN. Curr ...
in Resolution 63/121, which took effect January 15, 2009.United Nations General Assembly
A/RES/63/121
11 December 2008.


See also

*
Collateral Collateral may refer to: Business and finance * Collateral (finance), a borrower's pledge of specific property to a lender, to secure repayment of a loan * Marketing collateral, in marketing and sales Arts, entertainment, and media * ''Collate ...
*
Debenture In corporate finance, a debenture is a medium- to long-term debt instrument used by large companies to borrow money, at a fixed rate of interest. The legal term "debenture" originally referred to a document that either creates a debt or acknowle ...
*
Floating charge A floating charge is a security interest over a fund of changing assets of a company or other legal person. Unlike a fixed charge, which is created over ascertained and definite property, a floating charge is created over property of an ambulato ...
* Hypothec *
Lien A lien ( or ) is a form of security interest granted over an item of property to secure the payment of a debt or performance of some other obligation. The owner of the property, who grants the lien, is referred to as the ''lienee'' and the per ...
*
Ship hypothec In a ship mortgage (common law) or ship hypothec ( civil law term, covering also a maritime lien), a shipowner gives a lender (or mortgagee) a security interest in a ship as collateral for a mortgage loan. Similar to other types of mortgage ...
*
Mortgage law A mortgage is a legal instrument of the common law which is used to create a security interest in real property held by a lender as a security for a debt, usually a mortgage loan. '' Hypothec'' is the corresponding term in civil law jurisdi ...
*
Negative pledge Negative pledge is a provision in a contract which prohibits a party to the contract from creating any security interests over certain property specified in the provision. Negative pledges often appear in security documents, where they operate to ...
*
Nonrecourse debt Nonrecourse debt or a nonrecourse loan (sometimes hyphenated as non-recourse) is a secured loan (debt) that is secured by a pledge of collateral, typically real property, but for which the borrower is not personally liable. If the borrower defa ...
* Perfection (law) *
Pledge Pledge may refer to: Promises * a solemn promise * Abstinence pledge, a commitment to practice abstinence, usually teetotalism or chastity * The Pledge (New Hampshire), a promise about taxes by New Hampshire politicians * Pledge of Allegianc ...
* Quistclose trust * Second lien financing *
Secured transaction In finance, a secured transaction is a loan or a credit transaction in which the lender acquires a security interest in collateral owned by the borrower and is entitled to foreclose on or repossess the collateral in the event of the borrower's ...
* Tacking (law) *
Uniform Commercial Code The Uniform Commercial Code (UCC), first published in 1952, is one of a number of Uniform Acts that have been established as law with the goal of harmonizing the laws of sales and other commercial transactions across the United States through U ...


Notes


References


Further reading

* * * * * *


External links


Department of Business Small Firm Loan Guarantee scheme
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