Amending credit terms? Is your security still effective?
A recent case reminds a secured creditor to be cautious where it become aware that a third party has also extended secured credit to its debtor.
A recent case reminds a secured creditor to be cautious where it become aware that a third party has also extended, or proposes to extend, secured credit to its debtor.
Whilst most obviously this will affect banks, it may also affect any individual, company or other person which extends credit to another on a secured basis, whether by way of loan or trade credit.
If you are a secured creditor, you may be at risk of losing to a later creditor your prior right to be repaid from the proceeds of property charged in your favour.
Many secured creditors are content to rely on being “first in time” to ensure that they retain prior security where credit is subsequently extended to their debtor by a third party. Alternatively, they may require that a basic Deed of Priority is put in place, to govern the priority of the creditors’ security.
Creditors should consider a review of the priority documentation where they provide a further line of credit. It is tempting to rely on ‘all monies security’ taken when the original credit line was put in place. Whilst this will usually ensure that all credit, under original and further lines, will be secured, there remains a risk that a new creditor’s security may “leap-frog” the earlier security to the extent it relates to the further credit line.
The concept of ‘tacking’ allows a first charge holder to “tack” a further advance to its original loan, such that the further advance ranks ahead of an advance made by a second charge holder after the original advance but before the further advance. This right can however be lost where the prior creditor becomes aware of the second-ranking security. Many seasoned creditors are alive to the loss of priority that can result where new credit is provided in these circumstances, but few will consider the impact on priority where there is a simple amendment to the original credit documentation – and no ‘new monies’ are actually provided.
Has a second charge been granted?
The Court of Appeal’s recent decision in Urban Ventures Limited v Thomas and others has alerted us to the possibility that an amendment or restatement of the terms on which credit was originally extended, may result in the creditor unwittingly losing priority. It is imperative that a creditor reviews its priority position when making any amendment (whether providing new monies or simply amending existing credit lines), particularly where it has become aware that the debtor has granted a charge to a third party.
Urban Ventures prompts a consideration, at amendment, of (1) whether such amendment constitutes a ‘further advance’; and (2) if so, in what order are the creditors expecting to be repaid?
In this case, the first-ranking lender amended its original facility agreement to roll up interest and charge additional fees. In the view of the second-ranking lender, the amendment of the facility letter constituted a further advance which should not rank in priority to its loan.
The Court of Appeal decided unanimously that amendments to the original facility agreement to allow for interest roll up and additional charges did not amount to a new contract and no further advances were deemed to have been made. The first lender therefore retained priority.
However, such amendments could (in other cases) be deemed as further advances. Creditors’ reliance on “all monies” security does not circumvent this issue and we would advise all secured creditors (particularly those who rank first) to seek legal advice when:
- drafting the initial credit terms, security and priority documentation;
- extending any additional credit; and
- making any amendments to the terms on which credit is made available (however minor they appear to be).
If you are interested in finding out more about this or any other banking or finance issue, please contact Patricia Grinyer, Partner, Corporate department on 0151 243 9527 or email email@example.com.