Security over bank accounts can be an important aspect of a security package in banking transactions. We set out below five key things to be aware of in relation to bank account security in Scotland now and once the Moveable Transactions (Scotland) Bill (MTB) comes into force.
1. Current practice
Currently, under Scots law security can be created over a bank account balance by assignation and intimation (notice) to the bank which holds the account (the account bank) - the account holder (assignor) is assigning its claim against the bank for payment of the credit balance to the security holder. This is how security is taken in syndicated deals, where the account bank and the security holder are not the same entity (or are acting in different capacities).
In bilateral arrangements, where the account bank is also the security holder, the document is commonly called an account 'pledge' and will authorise the account bank to apply the account balance towards payment of the secured liabilities on default and may include restrictions on withdrawals by the account holder.
2. Scots common law issues
Scots common law issues arise in relation to current bank account security which mean that:
- there is a risk that the security is ineffective where the assignor retains some control over the account, such as the ability to pay out monies or otherwise deal with the account. The account should be blocked in order for effective security to be created;
- where the account bank is also the security holder the security generally relies instead on the operation of set-off; and
- where the account bank is not the security holder (or is acting in a different capacity, for example as security trustee), displacement of the account bank's rights of set off is required.
To address these issues, where possible, a floating charge is also commonly taken and, where the assignor is able to deal with the account, further intimation is given at the point when the security holder wishes to put the account beyond the control of the assignor (for example, on an event of default).
Retention of control over the account by the assignor would not impact the effectiveness of bank account security created under the MTB assignations regime, however the interaction of the MTB with the Financial Collateral Arrangements (No. 2) Regulations 2003 (FCARs) has yet to be ironed out.
3. Bank account balances could be financial collateral
As well as representing the amount of a claim for payment, money credited to a bank account is 'cash' under the FCARs. Cash is one form of 'financial collateral' and may form part of a 'financial collateral arrangement' (each as defined in the FCARs).
There are two types of financial collateral arrangement – a title transfer financial collateral arrangement and a security financial collateral arrangement. A security financial collateral arrangement requires the security holder to have 'possession' or 'control' of the account balance (the FCARs do not define these terms). A title transfer financial collateral arrangement, on the other hand, does not specifically require the assignee to have possession or control but does, as its name suggests, require the transfer of the legal and beneficial ownership in the account balance to the assignee.
Interpreting the FCARs with certainty is particularly challenging, especially in the context of their application to a Scots law assignation in security. It may not be clear which of the two categories of financial collateral arrangement a particular assignation in security of a bank account, or a particular account pledge, will fall into, if indeed it falls into either.
4. Financial collateral arrangement or not – does it matter now?
Currently, whether or not a bank account security amounts to a financial collateral arrangement doesn't make a whole lot of difference in practice. Although the FCARs disapply the Companies Act 2006 requirement to register a charge where the charge is created under a financial collateral arrangement, in practice bank account security granted by a company is nevertheless registered due to the uncertainty around the interpretation of the FCARs and the potential consequences of failing so to register.
5. Financial collateral arrangement or not – does it matter under the MTB regime?
Yes (potentially). The significance of whether or not a bank account security is a financial collateral arrangement could be more important in practice once the provisions of the MTB are in force. Just as the MTB is bringing in welcome, important and modernising changes to assignations (which apply equally, in principle, to assignations in security), under the current drafting of the MTB, assignations in security of claims which are a financial collateral arrangement will not benefit from the provisions of the MTB's assignations regime.
The Law Society of Scotland and others have sought for the current drafting to be amended such that the MTB provisions are without prejudice to the FCARs given the lack of clarity around what a financial collateral arrangement covers. This would enable assignations in security of bank accounts to benefit from the MTB's new rules around assignations, including the ability to create the security right by registration of the assignation in security in the Register of Assignations.
Next steps
The MTB presents an opportunity to modernise and clarify current practice in relation to bank account security.
It is hoped that the MTB will be amended as it passes through the Scottish Parliament to enable bank accounts to be effectively assigned in security using the new MTB assignations provisions.
Key elements of the MTB assignations regime are detailed here.
Contributors
Partner
Senior Associate
