Jersey & Guernsey Law Review – June 2007

SHORTER ARTICLES AND NOTES

BANK ACCOUNTS: SECURE OR INSECURE?[1]

Ian Jones

Introduction

1 The introduction of the Security Interests (Jersey) Law 1983 (“the 1983 Law”), removed any doubts as to whether or not intangible moveable property could be used as security. The implementation of this regime has, as Robertson rightly says, greatly facilitated commercial business in Jersey.[2] Robertson somewhat understates the matter when he expresses surprise that the Royal Court has only been asked to consider the law on one occasion,[3] and even then only on a discrete point of interpretation.[4] It is in fact astonishing that the Royal Court has only been asked to consider the 1983 Law on one occasion when we take into account the inherent problems of the Law as drafted and the implications such problems could have for practitioners in Jersey.

2 This issue has been considered by Professor Sir Roy Goode, at the request of the Jersey Financial Services Commission, in a paper outlining his proposals and advice for a complete re-enactment of the Law.[5] This paper analyses the provisions relating to security interests in many other jurisdictions[6] and proposes a combination of the most relevant and best though out provisions to facilitate the drafting and implementation of a more comprehensive, certain and comprehensible Jersey security interests law.

3 Whilst his paper is comprehensive, Professor Goode does not make a discrete analysis of the taking of security over bank accounts in Jersey or the unique legal matrix involved in taking security over this class of asset. Consequently various issues unique to Jersey law, and specific to security over bank accounts are overlooked in his analysis and do not receive the detailed consideration necessary for the potential reform that any re-enactment of the Law should consider.

4 This discussion will focus on the discreet areas that such an all encompassing review was unable to consider -

(1) the nature of the problems that the 1983 Law has highlighted in relation to bank accounts;

(2) the impact that such problems could have for the Jersey legal system and the probable results of any future litigation thereon;

(3) the practical and commercial solutions already found to counter these potential problems; and

(4) how such problems can either be mitigated or overcome in any redrafting of the Law.

The nature of the problem – control of accounts

5 There are two distinct areas in the 1983 Law regarding the control of bank accounts that give rise to ambiguity -

(1) the Law makes inadequate provision for a secured party, who is also the account bank of the debtor, to take security by way of control over the bank account of the debtor;[7] and

(2) the provisions of the Law that allow security to be taken over a bank account by way of assignment lack clarity.[8]

6 Both areas, which in a superficial analysis of the 1983 Law are seemingly innocuous and unproblematic, create a mine field of legal issues which, if they were ever to be litigated in Jersey, could lead to considerable discomfort for practitioners and professional indemnity insurers alike.

Problem 1 – control by the account bank

7 In order to take security over a bank account by control, the account bank must be granted control of the account[9] pursuant to a security interest agreement. It is not uncommon in these situations for the security agreement to provide for the account bank to allow the debtor to operate the account.

8 The question this position raises is: can a security interest be said to have been created at the point at which the agreement is signed? More simply put, if the debtor maintains control of the bank account over which he is purporting to create security, how is it possible for the bank to be deemed to have security over the account, i.e. while the debtor is able to operate the account can the account bank be said to have control as a matter of law? Until the point at which an event of default occurs, causing or permitting the account to become blocked and placing the asset under the full control of the bank as secured party, the bank cannot be held to have security over the bank account.

Problem 2 – security by assignment

9 In order to take security over a bank account where the secured party and the account bank are different parties, it is only possible to achieve this by way of an assignment. As with the situation outlined above it would be, if not common, not unusual for the debtor to be permitted to operate the account freely, until such time as an event of default occurred and the secured party blocked the account to enforce its security.

10 The ambiguity here is that it is uncertain that a security interest can be said to have been created at the point at which the agreement is signed and notice of the assignment is served. If the debtor’s operation of the bank account constitutes control (and, if it does not, it is difficult to know what would constitute control) of the bank account to which it has purported to assign title, does that constitute a valid assignment for the purposes of the 1983 Law? It is doubtful that one can assign anything effectively without actually surrendering control over it. It is surely correct that, until the point at which an event of default occurs and the account becomes blocked (or at the very least a right to block the account arises), and the asset is under the full control of the bank, the bank cannot be held to have security by way of an assignment over the bank account.

The impact of the problem and potential litigation

11 Although neither the questions raised about control by an account bank nor the issues involved with security by assignment has been litigated in Jersey, litigation on both points has occurred in the jurisdiction of England and Wales. English law does not bind the Jersey courts, but has often been argued in the Jersey courts and sometimes found persuasive. For this reason the following English cases may indicate a possible path that litigation in Jersey may take.

Problem 1 and ‘Spectrum’[10]

12 The issue of the debtor being free to operate his own bank account until an event of default occurs, and more importantly, whether or not a security interest under article 2(5) of the 1983 Law can be said to exist or not until an event of default occurs if the debtor does maintain control over the account, has not as yet been considered by the Jersey Court. The House of Lords opinion in National Westminster Bank PLC v Spectrum Plus Limited[11] effectively considered the question of whether a security interest can be created over a bank account where the debtor is left free to operate the account until an event of default occurs. As the 2003 Law is silent on the degree of control necessary to create a valid security interest, the English authority may prove a valuable analysis for these purposes.

13 Many would doubtlessly argue that the principal issue considered by the House of Lords in Spectrum – namely whether the charge taken by National Westminster Bank under a debenture was a fixed nor a floating charge – is of no relevance to and has no application in Jersey; the jurisdiction creates a form of statutory security interest which is unique in character, which is neither a fixed or a floating charge, therefore making the issue as decided moot.[12] Such a view is simplistic and ignores the content of the opinion given by Lord Scott.[13] He explains that in a situation where a debtor purports to grant security over a particular asset to a secured party (in this case a bank) but nevertheless remains free to deal with the asset, then this must be characterised as a floating charge.[14]

14 Consider the following example of a common commercial situation: a taxi firm wishes to borrow a substantial amount of money from a bank. The Bank is prepared to lend the money to the taxi firm but only provided it is granted a security interest over the bank account that the taxi firm holds with it. It will take security by way of control in accordance with article 2(5) of the 1983 Law. The bank account is the only account the firm uses and it needs to be able to operate it freely as this is the account into which its income is paid into and out of which its expenses come. It would not be able to trade effectively if use of the account were restricted. Therefore the bank will take security over the account (in the sense that it will sign the relevant contracts with the taxi firm) but will agree only to take control of the account, and stop the taxi firm being able to make withdrawals, upon the occurrence of an event of default.

15 There is a clear analogy to be drawn between the situation Lord Scott outlines in his analysis and the taking of security over a Jersey bank account by control, as described above. An advocate could draw this comparison by arguing that the correct analysis in Jersey should be that if a debtor retains control over the account, a bank which purportedly enjoys the benefit of a security interest over a bank account by control, does not in fact have a security interest at all. In the absence of any Jersey authority on the subject, combined with the relevance of Spectrum, a Jersey court may be persuaded to rule that until the right of the debtor to use the account has been terminated the bank cannot be said to have security interest.

Problem 2 and ‘Gatoil’

16 Whilst the above analogy is doubtless persuasive in situations where the bank has a security interest by control, it would be obtuse to argue that the opinions advanced in Spectrum could be convincingly argued to apply to situations where security was taken over an account by assignment. This is not considered in the judgment.

17 There is doubt that as a matter of Jersey law it is possible to assign title to an asset (again in this case a bank account) while retaining control of that asset. Arguably an assignment cannot be viewed as valid or effective in a situation where control is maintained by the assignor over the assigned assets. If a bank has been assigned title to an account, but has no power to control the account, the assignment is at best nominal and at worst ineffective. There is also no Jersey authority on this issue and again, the Jersey courts may be minded to turn to English case law for guidance.

18 The leading English case on this point is Gatoil Anstalt v Ommenial Ltd. (the Balder).[15] Unlike Spectrum, an argument that this case is not relevant or applicable could not be advanced. One of the issues considered concerned a deed of assignment of a charter-party. This assignment contained a proviso which stated that until an event of default occurred and was ongoing all the benefits and rights arising out of the charter-party would accrue to the assignor. In other words, notwithstanding the assignment, the assignor did not surrender the benefit of the assigned asset. Mocatta J held that such a proviso in effect suspended the assignment, thus invalidating it until an event of default occurred.[16] In effect, the court found that an assignor maintained control of the asset was inconsistent with an assignment of title; the assignment was conditional upon the event of default occurring.

19 Returning to the example of the taxi firm looking to grant a security interest over its operating account, if it does so by way of assignment and in accordance with article 2(6) of the 1983 Law, this case could be persuasive as to the argument that an assignment will not as a matter of Jersey law be valid if the assignor maintains control of the asset. It appears that the bank – while it may have signed an agreement which states that it has a ranking security interest – in fact cannot be said to enjoy the benefit of a security interest until such time as an event of default occurs, detrimentally affecting its security ranking.

20 The position in Gatoil perhaps has a better chance of acceptance in the Jersey courts as there is relevant Jersey authority in the shape of Pothier’s authoritative views.[17] When discussing an assignment of a debt, Pothier provides support for the proposition that it is possible to assign a bank account.[18] However he also suggests that once someone who owes a debt has notice that that debt has been assigned elsewhere, he may no longer pay his creditor. Applying Pothier’s reasoning to a bank account, it follows that once a bank account has been assigned and notice of that assignment given to the account bank, the bank account holder should no longer able to discharge the debt except under the assignment (and only to the secured party). Further support for this proposition comes from the maxim donner et retenir ne vaut. If an account holder assigns his account to a secured party but keeps back for himself the enjoyment of the monies standing to the credit of the account, that is incompatible with his assignment. For a person to assign something effectively under Jersey law it is necessary for him completely to dispossess himself of it, and this is clearly not the case where he maintains an ability to operate the account.

21 If, under the terms of an assignment, the assignor is permitted to maintain control of the asset it will not be a valid assignment, and nor therefore can it be said that the bank will have a security interest over the account, as there will be no compliance with article 2(6) of the 1983 Law. Any person taking security over a bank account by way of an assignment, (the terms of which allow the account holder to maintain control of the account), as a matter of Jersey law will not have a security interest at the time when the agreement is signed. It will only have security when the debtor is no longer able to operate the account.

Practical and commercial solutions

22 Thus far the discussion has focussed on an analysis of the law relating to bank accounts and the inherent problems that exist. However, this analysis has been performed theoretically without any consideration of the practical and commercial realities of this jurisdiction. Should any of the issues raised above ever come before the Jersey court, it is likely that many security interests, particularly where bank accounts are concerned, could be ruled as not yet existing, or as being invalid and the secured party having no ranking security at all. Any litigation which gave rise to such a ruling would have an adverse effect upon the finance industry in Jersey. Whatever the potential effect, and however problematic and uncertain the law may be, the fact is that no litigation has ever occurred in Jersey because both banks and lawyers find practical solutions to both problems outlined above.

Problem 1

23 In taking article 2(5) security, the account bank and the secured party are one and the same; the account bank has total access to the account over which the debtor has given security. If the debtor begins to experience financial difficulties, it is likely that the account bank will be one of the first parties to be aware of such difficulties. Moreover, it is likely that the secured party and the debtor (who are also the bank and its customer) have an established and ongoing relationship. This makes it unlikely that the bank or the customer will ever let the situation deteriorate to the extent necessary for either an event of default to occur, or for the bank actually to have to enforce the security.

Problem 2

24 Similarly, where the bank takes article 2(6) security it is likely that the bank and the debtor have some form of relationship and thus the same practical considerations outlined above would apply; the need to enforce security will probably never arise as the pre-existing relationship between the bank and debtor will result in a more commercial solution being adopted than having to enforce security and then to litigate any dispute which may arise.

25 Moreover, in a situation where the bank as secured party has no existing relationship with the debtor, and has no intention of establishing a relationship above and beyond what is necessary, it would be usual for the bank to take security over all of the assets of the debtor, including real property, which may well be outside the jurisdiction and thus not affected by the 1983 Law. The point being that if the secured party did need to enforce its security and there was a problem with its Jersey bank account security under the 1983 Law, the likelihood is that through enforcement of the remainder of the security package the bank will recover any losses it may incur. The lack of effective Jersey security, from a global perspective, may not therefore present a commercial problem.

26 While this is certainly evidence that the 1983 Law is useful as drafted, and as previously stated positively does facilitate commercial transactions in Jersey, the fact remains that the Law can only be described as effective and useful in spite of its problems. It is surely not ideal that the 1983 Law is not entirely effective, and creates a legal matrix of considerable doubt as to how one is able to take security over bank accounts and how to ensure that it is effective. The lack of certainty currently makes it very difficult to provide meaningful legal advice without heavy qualification; any opinion on bank account security is an opinion of uncertainty and as such is not useful to the client.

Solutions to the problems

27 The solutions to these problems lie in a redrafting of the 1983 Law so that it is clear what steps need to be taken in order to take effective security over a bank account at the moment when the agreement is signed. With regard to both problem 1 and problem 2, the situation where the debtor maintains actual control of the bank account after having purported to grant either control or an assignment over the account to the secured party is akin to the English concept of a floating charge.[19] This is not a concept which is recognised in Jersey. The result is that until a fixed charge can be established, in accordance with the 1983 Law – where a bank account is concerned, once the account is blocked and the debtor is no longer free to operate it – there is no Jersey security.

28 However there is no reason, as there is no Jersey authority on the subject, to restrict the analysis of Jersey security interest law by way of analogy with a fixed and/or a floating charge. Why should the debtor’s maintaining control over the account once he has purported to assign title or grant control over it be necessarily inconsistent with being above to establish a security interest? It is submitted that it should not be so.

29 This is not to say that the solution is to take the English concept of a floating charge and import it into a redraft of the 1983 Law. On the contrary, floating charges are not the answer. Not only would any such importation certainly over-complicate the law, it would also bring with it a train of doctrinal hindrances which are best avoided. The redraft of the 1983 Law needs to provide a mechanism for a debtor to grant effective and enforceable security over its bank account, whilst maintaining control of it. If the law provides that it is able to do this, either in favour of its account bank or another bank, and sets out the procedural steps it needs to take and the legal hoops it needs to jump through, then there will be no doubt that the security which is granted is both effective and enforceable. There is no need to complicate the establishment of a security interest by requiring an assignment.

30 One objection is that even if the 1983 Law is redrafted as proposed and the resultant situation is more certain, it will be of little benefit to a bank if the debtor, being free to deplete the account and thus dilute the value of the security, does so. The security that the bank has in that situation, as far as the bank account is concerned, is worthless. This would not improve the current situation. If however the approach outlined above is taken towards a redraft of the 1983 Law, making it clear that a security interest does exist notwithstanding the fact that the debtor is able to control the account, as least it can be said without any doubt that as a matter of law the bank has a ranking Jersey security interest. The bank in this situation will not have to contend with any claims or arguments being made that it never had an effective or enforceable security interest in the first place.

Conclusion

31 There is ample scope to redraft the 1983 Law to remove the doubts that currently exist around the taking of security over bank accounts. The excessive ambiguity causes lawyers to go to considerable lengths to ensure that their advice is qualified so as to remove any liability they may have regarding the effectiveness of Jersey security interests over bank accounts, casting doubt on the utility of such advice. At the moment the advice that is given seems to be designed more to benefit the lawyer than the client. This uncertain position is unsatisfactory for both lawyers and clients and is not suitable or sufficient for Jersey as the leading offshore provider of financial legal services. For this reason an already commercially practical law should be updated and redrafted in order to overcome current legal difficulties.

Ian Jones has qualified as a barrister and is employed as a trainee by Mourant du Feu and Jeune in the Corporate and Banking and Funds Departments.

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[1] This article was the winner of the first Jersey Law Review essay competition for students in 2006.

[2] Robertson, Security agreements – the need to specify (2004) 8 Jersey Law Review 85

[3] Ibid

[4] EMTV & Merchandising AG v Bayerische Landesbank & others [2003] JLR 80

[5] Professor Sir Roy Goode QC, The Reform of Jersey law relating to security interests in intangible moveables” 5^th April 2003 (as amended 8^th July). See also Goode, Commerical Law, Penguin 2004; Legal problems of credit and security Sweet and Maxwell, 2003.

[6] Ibid page 8. In particular Professor Goode focuses on North America, Canada and New Zealand.

[7] Article 2(5): a security interest in a moneys held in a bank account is created where the bank which holds such account for its customer is the secured party and has control of such account pursuant to a security agreement and its customer and the debtor are one and the same person.

[8] Article 2(6): a security interest in any intangible moveable property other than a lease is created where the secured party (on some other person on the secured party’s behalf other than the debtor or some person on behalf of the debtor) – (a) has pursuant to a security agreement title to the collateral; and (b) has complied with the requirements of paragraph (8) as to the giving of notice.

[9] In this instance the account bank and the secured party are always one and the same.

[10] For discussion of this case, see Baird and Sidle, Spectrum Plus – House of Lords decision – a cloud with a silver lining Insolvency Intelligence, 2005; Flood, Spectrum Plus – legal and UK practical implications, International Company and Commercial Law Review, 2006; Lowe and Beale, The Spectrum decision – bad news for banks, Journal of International Banking Law and Regulation, 2005.

[11] [2005] UKHL 41 The issue for decision by the House of Lords (HL) was whether Siebe Gorman and Co Ltd v Barclays Bank Ltd, [1979] 2 Lloyd’s Rep 142 was wrong and should be overruled and in particular whether a debenture creating a fixed charge over book debts which only required that the proceeds of the payment of book debts should be paid into an account with National Westminster Bank and that such book debts should not otherwise be factored, discounted, charged or assigned created a fixed or floating charge. As drafted, the debenture left Spectrum free to collect book debts and to draw on the account into which it was obliged to pay the proceeds of book debts for business purposes. The debenture in Siebe Gorman was drafted in the same way. In Siebe Gorman it was held at first instance that the effect of the debenture created a fixed charge on the proceeds of the debts as soon s they were received, which prevented the company from disposing of an unencumbered title to them without the bank’s consent and secondly, the bank would have had the right to assert its lien under the charge on the proceeds of the book debts paid into the account. The HL in Spectrum held that this was wrong as this overlooked the fact that the account into which the proceeds of the book debts was paid was the company’s current account with the bank, which the company was free to operate for its own business within the agreed limits of its overdraft. A restriction on the disposition of book debts which allows the collection and free use of the proceeds is inconsistent with the fixed nature of the charge; it allows the debt and its proceeds to be withdrawn from the security by the act of the company collecting it. On the other hand, if the terms of a debenture are such as to require that the chargor pay all its collected debts into the bank and prohibit the company drawing on the account (so the account is blocked), then a charge on debts expressed to be a fixed charge would take effect as such. The key, therefore, to the characterisation of a charge over book debts as fixed or floating will depend on the control of the chargee over the proceeds of the book debts once paid.

[12] The traditional description of a floating charge which distinguishes it from a fixed charge is that (1) it is a charge on a class of assets of a company, present and future; (2) that class is one which, in the it ordinary course of the company’s business, would be changing from time to time; and (3) it is contemplated by the charge that, until some future step is taken by or on behalf of those interested in the charge, the company may carry on its business in the ordinary way so far as concerns the particular class of assets. See also Levy, Fixed with a floating charge – some implications of spectrum for banks, Insolvency Intelligence, 2005.

[13] National Westminster Bank PLC v Spectrum Plus Limited [2005] UKHL 41, paragraph 76 onwards.

[14] National Westminster Bank PLC v Spectrum Plus Limited [2005] UKHL 41, paragraph 107: “I respectfully agree. Indeed if a security has Romer LJ’s third characteristic I am inclined to think that it qualifies as a floating charge, and cannot be a fixed charge, whatever may be its other characteristics. Suppose, for example, a case where an express assignment of a specific debt by way of security were accompanied by a provision that reserved to the assignor the right, terminable by written notice from the assignee, to collect the debt and to use the proceeds for its (the assignor’s) business purposes, i.e. a right, terminable on notice, for the assignor to withdraw the proceeds of the debt from the security. This security would, in my opinion, be a floating security notwithstanding the express assignment. The assigned debt would be specific and ascertained, but its status as a security would not. Unless and until the right of the assignor to collect and deal with the proceeds were terminated, the security would retain its floating characteristic. Or, suppose a case in which the charge were expressed to come into existence on the future occurrence of some event and then to become a fixed charge over whatever assets of a specified description the chargor might own at that time. The contractual rights thereby granted would, in my opinion, be properly categorised as a floating security. There can be no difference in categorisation between the grant of a fixed charge expressed to come into existence on a future event in relation to a specified class of assets owned by the chargor at that time and he grant of a floating charge over the specified class of assets with crystallisation taking place on the occurrence of that event. I endeavoured to make this point in Smith (Administrator of Cosslett (Contractors) Ltd v Bridgend County Borough Council [2002] 1 AC 336, 357, para 63. Nor, in principle, can there by any difference in categorisation between those grants and the grant of a charge over the specified assets expressed to be a fixed charge but where the chargor is permitted until the occurrence of the specified event to remove the charged assets from the security. In all these cases, and in any other case in which the chargor remains free to remove the charged assets from the security, the charge should, in principle, be categorised as a floating charge. The assets would have the circulating, ambulatory character distinctive of a floating charge”.

[15] [1980] 2 Lloyd’s Rep 489. It is important to note that this case was not cited in Spectrum. It was concerned with an assignment of a charterparty where notice of the assignment had not been given. There was a proviso to the assignment which provided that, except during any notice period (i.e. where there was a default), all moneys payable under the charterparty should be paid to the assignor and all other rights and benefits would accrue to and be enforceable by the assignor.

[16]Ibid at pages 7-8. The effect of that proviso, as it seems to me, is that it puts in suspense the right of assignment given by the first part of that clause except for any notice period.

[17] Traité du Contrat de Vente Partie VI, Chapitre IV, tome 3.

[18] According to Pothier, the legal nature of a debt as a personal right of a creditor meant that it could be neither assigned nor sold, but jurists had created a way of assigning debts by making the assignee of the debts the mandataire of the creditor, whereby the debtor would be bound to tender the debt to the mandataire instead of the creditor. As the monies standing to the creditor of a bank account are a debt owed by the account bank to the account holder, it is not unfair to argue that Pothier provides support for the notion of assigning a bank account.

[19] See footnote 10.

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