What is a security assignment?
When granting security for a loan, it is common for a borrower to assign to the lender the benefit of its rights under any agreements it has or will enter into. This includes specific agreements already in place and other agreements it might enter into from time to time.
Legal or equitable?
An assignment can be legal or equitable. For an assignment to be a legal assignment, it must be:
- absolute rather than by way of charge only;
- in writing and signed by the assignor; and
- notified to the relevant third party against whom the assignor could enforce its rights (i.e. the other party to the contract being assigned).
If an assignment does not satisfy the above, it will be equitable, which means that the lender would usually need to have the assignor join it in any future legal action relating to the contract. Sometimes an assignment will be equitable in any event, because of the nature of the right being assigned.
For a lender, it is generally preferable to have the right to take action on its own without having to get the assignor involved. However, lenders are often reluctant to deal with the contract when everything is going well, so may allow the assignor to continue to deal with it until a default or enforcement.
Absolute or by way of security?
Whether or not an assignment of rights under an agreement is absolute will depend on the wording used in the security document, including the form of notice of assignment. The most effective approach is to ensure the assignment states that it is absolute and assigns all “right, title and interest” in the relevant agreement, with a provision for re-assignment when the lender has been repaid. However, stating that it is absolute is not in itself enough for it to be an absolute assignment. A court will look at the entire agreement, notice and at the arrangement between the parties. A lender who allows the assignor too much free reign to continue to deal with the contract should bear in mind that their assignment may only be equitable until further steps to transfer control of the contract to the lender are taken.
A recent case put security assignments under the microscope. The claimant was an SPV set up to develop a mixed use development. It entered into a contract with the defendant, a construction company, who would refurbish the development.
The construction company argued that the developer had no right to issue adjudication proceedings against it in the developer’s own name. The construction company said that this was because at the time the claim was made the developer had assigned the benefit of a contract entered into between them to a third party lender.
The developer won significant damages.
The case included discussion of 3 key issues relating to assignments in lending transactions:
- first, the court considered whether the wording in the debenture actually assigned the contract given that it had not been entered into when the debenture was granted
- second, it considered the detail of the wording in the notice and whether it suggested that the assignment was absolute or by way of charge
- third, it considered the issue of re-assignment of the rights under the contract back to the developer on repayment of the loan.
What did the court find?
The developer argued there was no assignment of the contract because the debenture was worded in a way that meant they continued to benefit from it, rather than the bank benefiting from it. In any event, they argued that even if there had been a legal assignment, the rights under the contract had been re-assigned when the loan was repaid.
The court found there was an equitable assignment of the contract when the contract was entered into, which became a legal assignment when the notice of assignment was served on the construction company. The court further found that it was an absolute assignment so that any remedies and rights under the contract passed to the lender.
Finally, the court found that the rights under the contract had been equitably re-assigned back to the developer by the time it started adjudication proceedings even though notice of re-assignment hadn’t been served (so there was no legal re-assignment). The result was that the lender did not have to be joined in the adjudication proceedings.
It is usual for the assignment clause in security documents to contain a right for the assignor to redeem the assignment on repayment of all amounts due to a lender. This would usually be covered in a deed of release. Parties should ensure that a deed of release includes a provision for re-assignment, as well as release of other security. But, how many borrowers who have sent a notice of assignment to the other contracting party under an agreement serve a notice of re-assignment on that other party?
This case serves as a reminder that it is good practice to ensure that the deed of release contains a re-assignment provision and also that a notice of that re-assignment is sent to any third parties who received notice of the original assignment, particularly on the occasions where security is taken by way of an absolute assignment.
For the full transcript of the judgement please see: Mailbox (Birmingham) Ltd v Galliford Try Construction Ltd  EWHC 67 (TCC)
This blog post was written by Richard Cowan, for further information, please contact:
Richard Cowan, senior associate, Banking & Finance
T: 0161 836 7807