UK: A New Approach to the Registration of Company Charges – the Law Commission’s Consultation Paper

This July the Law Commission issued Consultation Paper No. 164 entitled Registration of Security Interests: Company Charges and Property other than Land. The Paper outlines plans for the wholesale reform of the existing system of registration for company charges under the Companies Act 1985 (‘the Act’). The current system, which has its origins in the Companies Act 1900 and its late nineteenth-century antecedents, has been criticised for many years. Previous attempts at reform, though, have failed, most notably the amendments to ss.395-408 of the Act, which were incorporated into the Companies Act 1989 but never enacted.

The Law Commission began by identifying the two main objectives behind the system of charge registration. The Commission decided that these were:

1) to give potential creditors of a company and third parties notice of which assets a company has charged (‘the public notice function’); and

2) to determine priority between the interests of secured creditors over charged company assets.

The Commission considers the current system to be seriously deficient in both these respects. Their proposals are designed to provide greater certainty to creditors about who will have priority and to clarify and extend the role played by the Register in providing the public with notice of charges.

The New Registration System

Firstly, the reforms will extend the range of registrable charges beyond those listed in s.396(1) of the Act to include ‘quasi-security’ interests such as assignment of earnings, hire-purchase agreements and retention of title clauses. This change reflects the fact that, though they differ in form from traditional securities, quasi-securities have the same practical effects on company assets and should therefore be registered. The new Companies Act will only list those charges that will not require registration such as possessary securities.

The Commission also proposes that those charges already listed in a specialist registry, such as the Land Registry, will not need to be registered in the Company Charges Register as well. It is suggested that these specialist registries might transfer charge information to the Charges Register themselves.

The registration procedure itself will be revolutionised with the introduction of electronic notice-filing. Instead of completing Form 395 and sending it and the charging document (plus fee) to Companies House, a chargeholder will complete a simple ‘financing statement’. This will involve filling out an on-screen electronic form requiring the following basic details:

- the identity and addresses of the parties

- a generic description of the property subject to the charge

- a statement that the chargor has consented to the filing (if the statement is not being submitted by the chargor)

- the period of the charge’s validity

- whether it is a fixed or floating charge

- confirmation that the chargor is the beneficial owner of the asset.

The financing statement will then be entered directly onto the Register, which will be publicly available on-line. There will be no need for a certificate of registration. To prevent fraudulent entries being made in the Register, the Commission proposes that there should be a criminal penalty for providing false or misleading information.

The new registration system will be voluntary and the penalties on companies for non-registration contained in s.399(3) of the Act abolished. It is anticipated, though, that creditors will make sure that company charges are registered as quickly as possible to secure their priority against subsequent secured creditors.

Finally, the Commission is considering abolishing the requirement for a company to keep its own charges register. The Paper notes that most companies do not keep their registers up to date anyway. However, given the reduced amount of information required in the financing statement, the Commission is also considering granting various rights to the debtor company, other creditors and third parties to request further information from the secured creditor concerning its charge.

New Rules on Priority: Goodbye to the “Invisibility” Period

Under the current system the date of a charge’s registration does not constitute a ‘priority point’ in determining the priority between secured creditors. Charges are ranked in order of the date of their creation (execution) not registration. This coupled with the fact that a company has 21 days in which to register a charge creates uncertainty. A potential creditor of a company who looks at the Register cannot be sure that any charge he takes over the company’s assets will have priority over all other charges except those already registered. It may be that the company has executed an earlier charge that has yet to be registered within the time period. Even if this charge is registered after our creditor registers his charge, because it was executed first it will take priority.

The Commission regards it as unfair that a creditor should lose priority to a charge that he could not have discovered through a search on the Register. It also recommends that companies should be able to guarantee to a potential creditor that their proposed charge will take priority at the negotiation stage. Therefore the Commission proposes the following:

1) the date of registration for a charge, not the date of its execution, will become the relevant date in determining the priority between charges. Registration will become the ‘priority point’;

2) there should be no time limits for the registration of charges. The old 21-day limit will be abolished; and

3) creditors will be able to register charges before they are entered into with the company. Thus a creditor will be sure that, should the company grant him a charge, his charge will take priority. The proposals do not set any limits on how far in advance of its execution a ‘provisional’ financing statement could be submitted.

Furthermore, chargeholders will no longer have to register charges individually, but instead could register a whole series of charges in one go - even charges yet to be granted. The aim is to reduce the administrative burden imposed on chargeholders by the registration requirements.

Priority: The Floating Charge and the Purchase-Money Exception

The Commission’s proposals are designed to make the date of filing the financing statement the key factor in determining priority between different charges. This has led it to overhaul the existing rules concerning priority between fixed and floating charges. Currently fixed charges take priority over floating charges, even where the floating charge has been registered prior to the fixed charge. To prevent this nearly all floating charges contain negative pledge clauses. Under the new system floating charges will have the same priority as fixed charges, doing away with the necessity for negative pledge clauses. For all charges, fixed or floating, date of registration will in future determine priority.

There will be an exception to this rule for those charges that the Paper identifies as ‘purchase-money interests’. Purchase-money interests involve a creditor providing money to a company so that it can acquire a new asset and in return securing a charge over that new asset. An example of this might be under a hire purchase agreement. It is proposed that these creditors should get priority over their particular assets above general secured creditors of the company, irrespective of the date of filing of their interest. Quasi-securities that amount to money-purchase interests will also get this priority over earlier registered charges.

Finally, under the proposals, chargeholders will also now be required to register the crystallisation of a floating charge, something that was not previously required.

Registration and the Rights of Third Parties

The Paper aims to clarify the law where a third party purchases from a company an asset of that company which is still encumbered with a charge. The current legal position is complicated by the interplay of registration with the equitable doctrine of notice. In summary, at present, if the fixed charge is unregistered, then a purchaser may still be bound by a charge if he has actual notice or constructive notice of its existence. Conversely, purchasers are generally bound by registered charges on assets. This is because most purchasers are deemed to be fixed with constructive knowledge of the contents of the Register. However case law has not specifically identified which types of purchasers will be fixed with constructive knowledge and which groups will not.

Under the Law Commission’s proposals, purchasers would no longer be bound by unregistered charges. This would be irrespective of whether or not they had actual knowledge of the charge. However, most purchasers of company assets would be bound by a registered charge. There would, though, be an important exception for purchasers who had bought assets ‘sold in the ordinary course of a business’. These purchasers would take free of the charge unless they had actual knowledge that the sale was in breach of the security arrangement.

Conclusion

The Law Commission’s proposals for the reform of the charges registration system represent a bold design for the future. Naturally they also leave a number of questions unanswered: how early into negotiations, for example, will creditors be allowed to register their proposed charges? How would the system deal with the situation where two creditors were in negotiations with the same company and both wished to register their charge? What exactly does ‘sold in the ordinary course of business’ mean and would such an exception for purchasers work in practice? Hopefully by the time these proposals are incorporated into a new Companies Bill we shall have answers to these important questions.

The content of this article does not constitute legal advice and should not be relied on in that way. Specific advice should be sought about your specific circumstances.