"A veritable maze" was how Professors Gretton and Reid described the enforcement provisions of standard securities. It is for that reason that the Scottish Law Commission's (SLC) discussion paper on the reform of the law of heritable securities is a very welcome publication.
The law in relation to heritable securities needs to be clear and easily understood. Unfortunately, in many areas the current law is too complex and as the authors of the discussion paper note "it may be open to debate whether even after exhaustive study they really make sense." Let's look at some of the ways in which the SLC want to see the law improved.
The SLC's first discussion paper, published in June 2019, focused on creation, assignation and extinction of heritable securities. This second paper is likely to generate most interest with its focus on default and post default issues. However, there is no 'quick fix' here. There will be a third paper published in early 2023 looking at sub-security arrangements and security in respect of non-monetary obligations before the SLC draws matters together in a single report and draft Bill, to be published in 2025.
A Streamlined Scheme
The SLC has helpfully reviewed the current law, considering the policy intentions behind the original statutory provisions and how the courts have then interpreted those provisions over the years. On the whole, the current law is criticised for producing too much uncertainty and being overly complex. Therefore, the SLC is proposing a more streamlined scheme by which the security holder would enforce the secured obligation and exercise its security.
The paper is clear that its approach to the project as a whole is one of “evolution, not revolution,” recognising that although the current law can clearly be improved upon, it is not fundamentally broken. The changes are designed to improve the process and ensure that it is more closely aligned with the policy objectives behind the original legislation.
One of the main problems identified was when the debtor is said to be in default, thereby triggering the ability of the security holder to exercise its remedies under the security. The definition of 'default' is unnecessarily complex and as a result it is not always clear when and how a default has occurred.
The proposal is that a security holder may only exercise remedies under a standard security where there is a failure to perform the secured obligation (e.g. missing a monthly payment) or in such circumstances as are agreed between the parties (e.g. a failure to perform obligations arising under the security itself). In those situations the security holder must serve on the debtor a new form of notice, called the “default notice”. This would significantly simplify the correct process where there are different notices depending on the type of default. If the debtor remains in default following expiry of the default notice, the security holder may generally proceed to exercise the available remedies without having recourse to the court. The ability to exercise remedies without a court order, subject to some exceptions noted below, is thought to reflect an approach "most in keeping with modern commercial reality."
The paper seeks views on the content of the default notice, on whom it needs to be served, the time limits for compliance and, of particular interest to lawyers, clarification on the methods of service.
Enhanced Debtor Protection Measures
One of the situations where a security holder would need a court order to exercise remedies under the security is where enhanced debtor protection measures apply. These currently apply where the security property is used to any extent for residential purposes by the debtor. The SLC is seeking views on only requiring such enhanced measures where (1) the debtor and/or owner of the security property is a natural person and (2) the security property comprises or includes a dwelling house. It is suggested that this would clarify current uncertainty around the phrase "to any extent for residential purposes" and more closely align with the policy intention behind the legislation.
The SLC is also recommending changes to when a security holder may seek decree of ejection in order to remove a person in occupation of the security property. Ejection is often sought as part of the enforcement process but is currently provided for through a combination of the Heritable Securities (Scotland) Act 1894 and common law. The paper suggests that the 1894 Act be disapplied to standard securities, and provision for ejection made in any new legislation, making the only basis for ejection under a standard security the relevant statutory provision. The SLC also recommends clarifying the position with regard to removing private residential tenants and also any liability for the occupants' movables left behind in the security property, both of which have been the subject of uncertainty under the current law.
While these are the main proposals, the SLC also invites comment on other areas that will be of interest including:-
- The introduction of a duty to conform with reasonable standards of commercial practice when exercising a standard security. The paper notes that some members of the SLC's advisory group were against this proposal on the basis of the already extensive regulation to which security holders are subject and that such a duty might result in uncertainty regarding what is required to comply with it. It will be interesting to see what reaction this proposal receives.
- Clarification of when a heritable creditor is “in lawful possession”. The point at which lawful possession is established has many practical implications for the security holder. It has been suggested that “taking possession” be defined to mean taking action to physically secure the land or buildings in which the security is held, including taking possession through a third party such as a tenant.
- Clarification of the treatment of the debtor's liabilities that have fallen due prior to the security holder’s entry into possession and whether the same position should be adopted in relation to accrued claims of the debtor.
- That the title of a purchaser from a security holder should be free from any challenge resulting from (a) the secured obligation ceasing to exist prior to registration of the disposition; or (b) any irregularity in the process by which the security holder’s power of sale was established. This protection would be available where (i) the purchaser paid value for the security property and (ii) the purchaser is in good faith. The purchaser will not be in good faith if they have constructive knowledge that the process by which the security holder's power of sale was established was not valid ex facie. Given the streamlined enforcement process proposed, the SLC does not think requiring sight of the default notice and proof of service, or sight of the court decree to verify their validity would be unduly burdensome.
- Clarification on the relationship between the security holder’s statutory right to recover the expenses of exercising the security and litigation expenses as determined by the court or agreed between the parties.
The opportunity to improve and clarify the law around enforcement of heritable securities is extremely welcome. For many operating in this area the current provisions are simply no longer fit for purpose. It is clearly going to be some time before we see any of these proposals enacted, but now is the opportunity to influence reform in this area. The SLC has asked for comments on the discussion paper, to be submitted by 1 April 2022.