Asset finance: time for reform

Moveable transactions law enables both businesses and individuals to use their assets to raise finance by selling debts or by granting security over moveable property. As such, it is of great economic significance.

For example, a business may wish to acquire funding by transferring to a financial institution its claims to payment of its customer invoices. This would be done by means of an assignation. Alternatively, it may want to retain assets such as vehicles, equipment and intellectual property, but use these as collateral to obtain loan finance. Individuals might wish to use art work or vehicles to secure finance. 

The existing Scottish law in this area is badly outdated, unduly restrictive and unclear in some important respects. Parts of it are little changed from Roman law, and the principal relevant statute on assignation is the Transmission of Moveable Property (Scotland) Act 1862. As long ago as 1897, Gloag and Irvine (Law of Rights in Security, 187-188) called for reform on the basis of the English Bills of Sale Acts. It was announced in the 2017 Queen’s Speech that bills of sale are to be replaced with a new form of security called “goods mortgages”. Yet, apart from the introduction of the floating charge in 1961, reform is still awaited in Scotland. Recent years have seen reform in many other jurisdictions including Australia, Belgium, France, Jersey and Malawi, leaving Scotland even further behind in terms of modern international standards. 

The state of the current law has real-life impact. As Colin Borland of the Federation of Small Businesses has said: “Today’s small businesses need a commercial environment that lets them raise finance against business assets quickly and easily. The current law is rooted in the past and doesn’t reflect how business is now done.” 

Scope of the report

In December 2017 the Scottish Law Commission published its Report on Moveable Transactions (Scot Law Com no 249). This was the culmination of one of the most complex projects ever carried out by the Commission. It was assisted by a large advisory group, including many of the leading solicitors working in the area. The report is a substantial one and consists of three volumes, including a draft bill extending to 124 sections. 

The report considers three main areas of moveable transactions law: 

(i) assignation of claims; 

(ii) security over corporeal moveable property; and

(iii) security over incorporeal moveable property.

Area (i) involves the assignation (transfer) of “claims”, i.e. a right to the performance of an obligation. This is usually the right to be paid money, such as under an invoice. Such rights can be sold, thus helping a business’s cash flow. Another common transaction is the assignation of rents in order to obtain loan finance. The report includes monetary claims in relation to land within its scope. 

Area (ii) involves security over corporeal (tangible) assets, such as vehicles, equipment, whisky and livestock. Such assets can be used to secure loans at less cost because there is less risk to the lender as the asset can be sold if the loan is not repaid.

Area (iii) involves security over incorporeal (intangible) moveable assets and in particular financial instruments and intellectual property. The latter includes copyright, trade marks, design rights and patents. 

Problems with the current law

The problems are well known. If a business wishes to assign its unpaid invoices to a financial institution in order to raise finance, there has to be written intimation (notification) of the assignation to every invoiced customer. This is cumbersome, expensive and often impractical. In particular, it cannot be done in respect of future claims, such as invoices due by future customers, where the debtor cannot yet be identified. Some Scottish businesses write their contracts under English law in an effort to avoid the need for intimation. The inadequate nature of the law of assignation also causes difficulties in other transactions, such as project finance, assignation of rents and securitisations. 

The only way to use incorporeal moveable property for security (other than by means of a floating charge) is to transfer it into the name of the creditor. Unlike under English law, there is no such thing as an equitable fixed charge or equitable mortgage. For example, intellectual property must be transferred to the lender and complicated license-back arrangements put in place. Shares in a company similarly have to be transferred to the lender and the lender registered as shareholder. Again, contractual arrangements have to be used to deal with the consequences of transfer, such as entitlement to dividends and voting rights.

Effectively the only “fixed” security over corporeal moveables (rather than a floating charge) is pledge. Where consumers are granting it this is known as “pawn”. It requires delivery of the encumbered property to the creditor. This is commercially impractical, as businesses require possession of their assets to trade. In Scotland there is no equivalent to the bills of sale legislation in England & Wales, and no such thing as a chattel (goods) mortgage.

Floating charges are only available to corporate debtors. Sole traders and partnerships cannot grant them. They give a relatively low ranking in insolvency and the Commission understands that lenders therefore charge more than they would if they could take a “fixed” security.

Approach to reform

There have been several previous attempts to reform the law in this area in Scotland which have been unsuccessful. The Commission has sought to learn from this and its scheme is designed to give parties a wider range of options rather than to depart from existing familiar concepts. In particular, radical reform along the lines of the USA Uniform Commercial Code, article 9, which takes a functional approach to security rights, is not recommended. 

Reform of assignation

Volume 1 of the report makes recommendations in relation to the law of assignation of claims. Registration would be an alternative to intimation for the assignation of a claim. The option of registration would facilitate the assignation of future claims. Assignations could be registered in a new register (“Register of Assignations”). This would be electronic and would be administered by Registers of Scotland. The Register of Assignations would be searchable electronically, primarily by reference to the assignor’s details.

The rules on intimation of assignations would also be modernised, and in particular electronic intimation would be facilitated. It would be confirmed that assignations can be subject to a condition which must be satisfied before the assignation takes effect. It would also be made clear that in an intimation of an assignation it is possible to instruct the debtor to continue to perform to the assignor. Debtors who perform to the assignor in good faith, because they are unaware of the assignation, would be protected. As at present, the parties to a claim could provide for it to be unassignable. 

Reform of security over moveable property

Volume 2 of the report makes recommendations in relation to the law of security over corporeal and incorporeal moveable property. A new registered “fixed” security called a “statutory pledge” would be introduced in respect of corporeal moveable property, such as vehicles, equipment, whisky and livestock. The property would not require to be delivered to the creditor. It would not be possible to grant a statutory pledge over aircraft or ships because the law already provides for special types of security right over these assets. 

The statutory pledge would also be available in respect of certain types of incorporeal moveable property. While the Commission recommends that initially it should be restricted to intellectual property and financial instruments, it would be possible for the Scottish ministers in future to extend it to other incorporeals. Using a statutory pledge would mean that the property would not have to be transferred into the name of the creditor.

While primarily aimed at businesses, the statutory pledge could be used by consumers to raise finance against assets they already own (above a level to be prescribed by Scottish ministers), where hire-purchase is not available.

The rules on possessory pledge would also be clarified. In particular it would be made clear that this type of pledge could be created by constructive delivery, i.e. by intimation to a third party holder, such as a warehouse. The case of Hamilton v Western Bank (1856) 19 D 152, which states otherwise, would be consigned to history. There would be a generally uniform enforcement regime for possessory and statutory pledges, with a range of remedies including sale, lease and licensing. Enforcement against a private individual would require a court order.

A new register (“Register of Statutory Pledges”) would be established. Like the Register of Assignations, this would be electronic and run by Registers of Scotland. It would be possible to update the Register of Statutory Pledges to take account of amendments, transfers and discharges of statutory pledges. The Register would be searchable electronically, primarily by reference to the details of the party that provided the security. But it would also be possible to search by reference to the unique numbers of certain assets, notably motor vehicles.

Floating charges would be retained. It would no longer be possible to create agricultural charges, currently a little-used security, but floating charges could be used instead.

Next steps

It is to be hoped that the Scottish Government will consult on the report in the near future. When the Commission consulted on an advanced version of its draft bill in July 2017, the Law Society of Scotland stated: “We are aware that there is strong support for these changes across the profession and would encourage the Scottish Government to bring forward legislation in this area in line with the Commission’s recommendations.” 

I would encourage all members of the profession with an interest in the area to respond to the consultation and help to bring about much-needed improvement to our moveable transactions law.