Court revises law on diligence as affecting receivership

A 40 year old Inner House decision on the effect of arrestment of a company's property on the subsequent appointment of a receiver has been overruled by a five judge bench.

The court held that the 1977 case Lord Advocate v Royal Bank of Scotland, which ruled that arrestment was not an “effectually executed diligence” in terms of what is now s 60(1)(b) of the Insolvency Act 1986, was wrongly decided and should not be followed, despite this provision having twice been re-enacted in the same terms since that case.

The new decision, MacMillan v T Leith (Developments) Ltd, considered the effect of an inhibition rather than an arrestment, but the court considered that the same reasoning applied by analogy to both. The defenders, who were housebuilders, granted a floating charge to a bank in 2000. The pursuer and his late wife bought a plot in 2005, and after taking entry to their house in 2006, raised an action of damages for breach of contract relating to the construction of the house, registering a notice and letters of inhibition on the dependence. Decree by default was granted in 2010. Receivers were appointed by the bank in 2011.

It was agreed that the whole of the debt due to the bank as at the date of the receivership was incurred after the inhibition. The pursuer sought declarator that the inhibition was an “effectually executed diligence” and that, when distributing the proceeds of sale of the defenders' assets, the sums due under the decree fell to be paid prior to any distribution of the balance to the bank. In any event, the inhibition provided a priority over the debt due to the bank.

The Lord Ordinary decided that he was bound by the Royal Bank case to reject the first proposition, but that since at common law inhibition conferred a priority over post-inhibition advances made by a fixed security holder, the same must apply to advances made by a floating charge holder. The defenders appealed the ruling on the second point and the pursuer cross-appealed on the first.

Unanimously the court refused the defenders' appeal and allowed the pursuer's cross-appeal. Full opinions were delivered by Lord President Carloway and Lord Drummond Young; Lords Menzies, Brodie and Malcolm agreed with Lord Carloway.

In his opinion the Lord President said that lawyers and others working in the field of debt recovery would clearly understand “diligence” as including an inhibition, which was the diligence executed in respect of the heritable property of a debtor, even if it created no real right and would require an adjudication to provide the creditor with a heritable title.

The majority in Royal Bank however did not regard an arrestment not followed by a furthcoming as “effectually executed” diligence, because it did not create a real right and was superseded by the crystallisation of the floating charge. But Lord Carloway said that this did not give proper effect to those words, which simply meant that the arrestment was “properly laid and, quantum valeat, not ultimately struck down by a liquidation within 60 days”: it “effectively drives a coach and four through the common law of diligence in circumstances in which the statutory wording was... intended to be a saving provision designed to achieve the opposite effect”.

Whether the re-enactment of the same words meant that Parliament had effectively adopted the decision was a “question of circumstances”, and might have to give way to the rule that words should be given their grammatical and ordinary sense. The provision had not been reviewed prior to its re-enactment; practice on this point was not certain, and further, “It would be odd indeed if this court considered that Lord Advocate v Royal Bank of Scotland had been wrongly decided as a matter of law, but declined to overrule it because of subsequent practice.”

The Lord Ordinary had been correct on the second point.

Lord Carloway also observed that the situation was unlikely to arise in many cases in the future, because of changes in the law relating both to receivers and to inhibitions.

Click here to view the opinions.