Part E Guarantees and Security, 34 Charges Over Ships
- Regulation of banks — Mortgage — Security interest
34.01 Ships, like aircraft, are by their nature international pieces of equipment which will periodically be found in different parts of the world. However, and in contrast to the position for aircraft,1 there is no international convention which seeks to deal with the recognition and enforcement of ship mortgages created under foreign systems of law.
English Ship Mortgages
(a) the Registrar General of Shipping and Seamen is required to maintain a register of British ships;2
(b) entries in the register must reflect the requirement that property in a ship is divided into 64 shares.3 Ownership can therefore be divided by shares, but this is only rarely encountered in practice;
(c) the register is maintained in four parts. Parts II, III, and IV consist of fishing vessels, small ships, and vessels registered under the bareboat charter provisions contained in (p. 630) section 7 of the 1995 Act.4 Part I of the register will therefore include larger, cargo vessels,5 and the present section accordingly focuses on Part I;6
(d) a vessel may only be entered on Part I of the register if its owners are British citizens or subjects, or companies incorporated in the United Kingdom or any British possession. Persons or companies from the EEA are also eligible for these purposes;7
(e) where the Registrar is satisfied that a ship qualifies for registration and all appropriate documentation has been provided to him, then he is required to register it and to issue a certificate of registry.8 Registration is generally for a period of five years, but may be renewed;9 and
(a) a ship or a share in it may be made a security for the repayment of a loan or the discharge of any other obligation;12
(b) the mortgage must be in a prescribed form;13
(c) the Registrar must enter the mortgage on the ship’s register, including the date and time of registration;14
(d) as noted above, the registration of a vessel may expire after five years, and it would then be removed from the register. However, this does not affect the validity of any undischarged mortgage which remains on the register;15
(e) in order to protect lenders from environmental liabilities, it is specifically provided that a mortgagee is not to be treated as an owner of the vessel;16
(f) it should be appreciated that under the Companies Act 2006, a ship mortgage must also be lodged at Companies House within 21 days after the date of its (p. 631) creation,17 if it is created by a company incorporated in the United Kingdom. Failure to register a ship mortgage in this way will render it void against a liquidator, administrator or any creditor of the mortgagor. No such requirement applies if the mortgagor is incorporated abroad;18
(g) the holder of a registered mortgage has power to sell the ship to recover overdue monies, but a second or subsequent mortgagee may only do so with a court order;19
(h) although it is not proposed to deal with the subject in detail, it should be appreciated that the security offered by a registered ship mortgage may be significantly impaired by the existence of maritime liens. These do not require registration and constitute valid, preferential claims against the vessel regardless of notice or any other matter.20 Maritime liens include (i) wages and other amounts contractually due to the master and the crew,21 (ii) costs incurred by the master for the benefit of the vessel and within the scope of his authority, (iii) liens for salvage, and (iv) liens covering damage for collisions.22 The mortgagor remains in possession of the vessel for use in the ordinary course. As a result, the mortgagor may carry our repairs where necessary and the lien for these costs will take priority over the mortgage.23 There may thus be significant claims which will enjoy priority over a registered mortgage. However, the holder of a lien may lose his rights if he fails to assert them in the context of a judicial sale of the vessel24 or if he fails to pursue them with reasonable diligence.25 It may be noted that, so far as the English courts are concerned, whether a particular claim can be characterized as a ‘maritime lien’ and thus enjoys priority is determined by the law of the place of arrest of the vessel.26 In other words, maritime liens are seen as a matter of procedure from an English law perspective and will be given effect regardless of the system of law applicable to the mortgage.27 It may, however, be argued that a maritime lien should be viewed as a form of proprietary security, with the result that such a lien should be governed by the law of the place where it arose.28
(p. 632) 34.05 Until the mortgagor defaults on the loan, he is entitled to exclusive possession of the vessel and to enter into contracts relating to its use. He can do so even though these engagements will result in the creation of maritime liens which will rank in priority to the mortgage,29 although the mortgagee may intervene if the mortgagor has no reasonable prospect of discharging those liabilities,30 or if the action taken by the mortgagor is otherwise detrimental to the security.31 If the mortgagee is aware of, and acquiesces in, the engagements entered into by his borrower, he does not thereby become liable for the obligations thereby assumed.32
34.06 It should be appreciated that these rules apply to security over the vessel itself, since the prescribed form of ship mortgage is similarly so limited. This, of itself, will not be sufficient, and a lender will also require security over:
(a) the proceeds of any insurance policies in the event of serious damage or loss;
(b) the benefit of any charter hire (or rental income); and
(c) any requisition compensation payable in the event that the vessel is appropriated for public use (eg in time of war or unrest).
34.07 This aspect of the security is usually created by means of a deed of covenant, creating security over the items just described. Since these will usually amount to assignments of payment or monetary obligations, it is important to ensure that the security is properly perfected. There are various aspects to this process:
(a) the priority of successive assignments of a chose in action is governed by the date on which notice of the security is given to the relevant obligor.33 It is thus important that notice is given as soon as the security is taken or, at least, as soon as it becomes apparent who is obliged to make the payments concerned; and
(b) it must also be recalled that insurances may expire and may be replaced. It is therefore important for the lenders to obtain appropriate undertakings from the owner’s insurance brokers to ensure that their interest is at all times noted on the applicable policies.
34.08 A lender intending to take a mortgage over a registered vessel may lodge a 30-day priority notice with the Registrar and, if he does register a mortgage within that period, then the priority of the mortgage operates from the date of the notice (rather than that of the mortgage itself), so that it will rank ahead of any other mortgage registered on an intervening date.34
34.09 Subject to the procedure noted above, the priority of competing mortgages will be determined by reference to their respective dates of registration.35
34.10 In general terms, an English court will only be concerned with the validity and effect of a mortgage over a foreign ship if an attempt is made to arrest and sell the vessel on its arrival into a British port.
34.11 It is not necessarily easy to reconcile the rules of private international law with some of the practicalities in this sphere. In particular, physical assets are treated as situate in the country in which they are found at any relevant time, and the validity of any transfer, mortgage, or other dealing with that asset will be governed by the law of that place,36 but it does not really seem to prescribe an appropriate, alternative rule for this particular class of asset. It has been suggested that a merchant ship may at some times be deemed to be situate at her port of registry,37 but that this would only apply when the ship is on the high seas. The actual situs would apply when the vessel is in territorial waters. This may be satisfactory for some purposes, but it is not acceptable in the case of transfers of, or security over, a vessel, which will invariably be achieved at the port of registry through procedures broadly similar to those described above in relation to British ships. Thus, even if the ship is in British waters at the point of time at which a mortgage is filed in her home registry, it would be convenient if the validity of the security should be determined by reference to the law of the home registry (ie and not by reference to English law as the physical lex situs).
34.12 As in the case of aircraft, however, this position does not prevail. The English courts have continued to view a ship as an ordinary chattel with the result that the validity of a transfer or mortgage must be determined by reference to the physical lex situs of the vessel as at the date of the transaction concerned.38
Enforcement of Ship Mortgages
34.13 As noted earlier, a ship mortgage may operate as security for the payment of a debt or the discharge of any other obligation.39 However, the mere occurrence of an event of default under a loan agreement may not of itself be sufficient to justify enforcement of the ship mortgage. This step can only be taken when there is a default in respect of a monetary obligation.40 Consequently, if the primary default is of a non-monetary character (eg a failure to maintain the ship in a seaworthy condition, or to effect insurances), then the mortgagee must first exercise his acceleration rights, so as to convert the default into a monetary obligation.41
(p. 634) 34.14 The mortgagee has the usual duties of a secured lender when taking enforcement proceedings and seeking to realize its security, and will thus have to secure the best price reasonably obtainable.42 Nevertheless, a sale will often have to be preceded by the arrest of the vessel,43 and the sale will then take place under the supervision of the court (eg by means of an auction). In that event, the proceeds of sale are paid into court and the mortgagee’s interest in the vessel is replaced by a corresponding charge over, or interest in, those proceeds.44 Accordingly, subject to the prior payment of any maritime liens for which judgment may have been obtained,45 the lender would be entitled to redeem his own mortgage and would then have to account for the surplus to subsequent mortgagees or the borrower (as the case may be). Although the sale by the court deprives the mortgagee of a degree of control over the realization process, it nevertheless has certain benefits. Since the purchaser acquires title through a court order, that title will be unimpeachable.46 Furthermore, the mortgagee cannot be answerable to the owner for the adequacy of the price realized as a result of the court-driven process.47
34.15 Recognizing the international nature of the market for assets of this kind, the court may order the sale of the vessel for a price expressed in a foreign currency48 although, in fairness to all of the parties who may have a claim against the proceeds, this should presumably be a freely transferable and convertible currency.
34.16 As already noted, the holder of a registered ship mortgage enjoys certain powers of sale.49 The mortgagee may generally sell at the best price reasonably available at any given time and does not owe any duty to take account of the interests of the mortgagor in determining the timing of the sale.50 He may therefore defer the exercise of that power, especially in the context of a depressed market where a sale. As a consequence—and even in the context of a particular type of vessel for which there may only be a very narrow or specialized market—the mortgagee is not obliged to allow a particular amount of time or to appoint multiple brokers to promote the sale.51 The mortgagee accordingly enjoys various other rights pending the sale:
(a) The lender can take control of the vessel by dismissing/appointing the master.52
(p. 635) (b) The lender is entitled to receive the payment of freight/charter hire, and to apply the proceeds in payment of expenses and the repayment of the secured debt.53 In practice, as noted earlier,54 the benefit of the ship’s earnings will have been specifically assigned to the lender under the terms of a deed of covenant. It will therefore be necessary to give notice to the relevant obligors, if this has not already been done.
(c) The mortgagee may manage the vessel by entering into new charters and other income-earning arrangements, but must do so on a conservative basis so as not to put the asset at risk, for example, by sending it into a war zone.55
(d) The mortgagee will become responsible for expenses arising from the future use of the vessel,56 although these would usually be added to the secured debt.
1 See the discussion in Chapter 33 above.
6 Note that fishing vessels entered on Part II of the register can only be mortgaged if they have full registration, and small ships on Part III are outside the regime for registration of ship mortgages.
10 Regulations 43 and 44 of the 1993 Regulations. Note that this instrument is not a ‘bill of sale’ within the scope of the Bills of Sale Act 1878, since the definition of that expression specifically excludes ‘transfers or assignments of any ship or vessel or any share thereof’. The more general effect of this legislation has been noted in relation to foreign aircraft: see para 33.13 above.
12 See para 7(1) of Sch 1 to the 1995 Act. A seller of a vessel may take a mortgage over it to secure any deferred instalments of the purchase price. In such a case, however, his claims as mortgagee may be limited or compromised by any claims that the buyer may assert (eg by way of set-off against the price) in respect of its own rights under the sale and purchase agreement. For a case in which this type of situation arose, see Indigo International Holdings Ltd v Owners and/or Demise Charterers of the vessel ‘Brave Challenger’  EWHC 3154 (Admin).
18 See the discussion of s 859A of the Companies Act 2006 at paras 27.18–27.26 above.
27 This view has been adopted in a number of countries. See, for example Transol Bunker BV v MV Andrico Unity (1989) 4 SA 325 (South Africa); The Betty Ott v General Bills Ltd  1 NZLR 655 (New Zealand, later reversed by legislation); Morlines Maritime Agency Ltd v The Skulptor Vuchtich 1998 AMC 1727 (Federal Court of Australia).
33 ie in accordance with the rule in Dearle v Hall (1828) 3 Russ 1. That rule has been discussed at paras 30.10–30.13 above.
37 See n 36 above.
39 See para 34.04 above.
41 On acceleration rights under facility agreements, see the discussion at para 20.46 above.
42 On this principle, see Fisher and Lightwood, para 30.32, citing Gulf and Fraser Fisherman’s Union v Calm C Fish Ltd  1 Lloyd’s Rep 188; Den Norske Bank AS v Acemex Management Ltd  1 All ER (Comm) 904;  EWCA Civ 1559.
43 The lawfulness of an arrest must generally be determined by reference to the law of the country in which the order for the arrest is made: see Anton Durbeck GmbH v Den Norske Bank  EWHC 2497 (Comm).
49 See para 9 of Sch 1 to the 1995 Act, noted at para 34.04(g) above.
50 Den Norske Bank v Acemex Management Co Ltd  1 All ER (Comm) 904;  EWCA Civ 1559. It appears from this case that the duty to obtain the best price reasonably available does not require the mortgagee to transfer the ship to other locations in search of an improved bargain, since this would involve both costs and risk of loss. It may be that the mortgagee’s discretion as to timing is in some respects now constrained by the decision in Palk v Mortgage Services Funding plc  Ch 330;  2 All ER 481, noted at para 32.30 above. However, it must be doubtful whether cases decided in a residential mortgage context should be imported into a shipping or commercial context.
54 See para 34.06 above.