The relationships between secured creditors and insolvency practitioners is a well-trodden path. Fixed and floating charges are standard fare, particularly with the now common practice of Berkeley Applegate Orders (Re Berkeley Applegate (Investment Consultants) Ltd 1989) which allow a court to exercise discretion to award recovery of costs and expenses associated with the securing, management and realisation of fixed charge assets. However, the way that the practitioners interact with the secured creditors will have a substantial impact on how the court will look at costs and expenses.
What is a lien?
As a reminder, a lien is an equitable charge arising from a contractual right or interest. They are a wholly different to the common forms of security office holders are used to dealing with. Liens are not strictly security in the sense of fixed and floating charges – and remember that the concept of floating charges is not recognised in numerous other jurisdictions.
The common misconception associated with liens is that the registration of the Unilateral Notice (UN1) at HM Land Registry creates the lien. The lien is actually created by the interest conferred by a contract dealing with the land, or part thereof. The UN1 merely registers the interest and puts a liquidator or administrator on notice; likewise, the absence of a UN1 does not mean there is no lien.
How do they work?
The concept of liens is commonly found in off-plan property sales, legally defined as ‘unitised property ownership schemes’. The last 20 years has seen a proliferation of property development schemes where funding is raised by off-plan sales to investors. This is often in foreign jurisdictions, particularly in the hotel and student housing sectors, commonly in the form of contracts to create leasehold interests in rooms, once the development is completed.
Issues arise where a development does not complete, or in some cases even get off the ground, or funds raised are squandered or misapplied despite the contracts often warranting that the funds will only be used to meet costs of development.
Once an investor enters into a contract for lease – usually for a substantial deposit or a percentage of the final contract price – the interest created gives rise to the lien. Most investors will be pointed in the direction of a law firm tasked with representing them in their ‘investment’, dealing with the contract aspects and handover of funds to the “selling” developer. At this stage UN1s will, or should, be registered, giving rise to an order of priority between individual investor’s liens and secured creditor interests.
When the development falters, the developing company commonly ends up in liquidation or administration. An administrator has paragraph 71 of Schedule B1 Insolvency Act 1986 to fall back on, which is commonly coupled with an application for a Berkeley Applegate Order to meet the costs and expenses associated with the management and realisation of the fixed charge asset.
However, a fixed charge receiver, or LPA receiver or liquidator, does not have access to Paragraph 71 as Schedule B1 relates to administration only, and will instead have to make an application for relief against the equitable charge holders.
When making the application for relief, whether pursuant to Paragraph 71 or otherwise, an office holder must apply the rule in Eason v Wong (2017) EWHC 209. In that case, brought by liquidators, the court ruled that:
- The investors’ liens were equitable charges and lien holders were secured creditors to the extent of monies paid over
- The property could be sold by the liquidators, free of the liens
- The liens attach to the proceeds of sale.
The court required a calculation for the purpose of distribution of sale proceeds, to ensure that the liens were treated correctly alongside the secured creditors. For this purpose, UN1s assist in identifying the order of interests which may mean that you end up with different classes of distribution amongst lien holders depending on the priority and where any secured creditors sit in the order.
We recently dealt with an administration involving a proposed mixed-use development consisting of residential units and hotel rooms, the latter being subject to off-plan sale contracts for long leases, involving almost 200 investors.
A lien can only apply against that proportion of the proceeds of sale that relates to the contracted part of the development. In this case the development was not built, and we sold the development site for £2.25m. It was necessary to calculate the percentage square footage of the whole proposed development, before then establishing how and in what order that percentage of the proceeds of sale would be distributed between the lien holders and secured creditors. When undertaking that calculation, the administrator also had to establish and then ignore square footage for larger common areas.
In short, it is to a degree an inexact science often complicated by the sheer number of investors involved.
Recommendations to assist
- Ensure you have contacted the office holders and provide details of investments as soon as possible
- Consider surrender. On a completed or near-complete development this is more attractive as contracts may have further onerous obligations
- Office Holders may find that tracing and communicating with lien holders is onerous in terms of time and costs – a court application may be more time and cost-effective
- Ensure that you have registered a UN1.