Mortgage security – do we have agreement?

By Alan Johnston September 08, 2015 Full Credit

We all know that if we want to borrow money from a bank, the first question you will be asked is: “What security can you offer?”

While you may think that your grandmother’s rocking chair, or your stamp collection, should do nicely, in essence the bank really wants to know if you own property – i.e. land and, better still, land with a building on it.

But what about the supplier or merchant who is providing goods and services on an almost daily basis, generally unsecured, and who is often expected by the customer to supply unlimited credit, without so much as a blade of grass to fall back on as security in the event of default?

It has long been the bane of the Credit Manager that, while banks and other lenders not only have such property security in place before they become exposed to customer debt, they also have access to regular financial statements from their client to monitor the business’s performance and determine that it is still solvent and profitable.

And yet the merchant has no such insight, is often ridiculed if such a suggestion of access is raised, and yet is still expected to expose themselves to as much debt – if not more – than the bank or any other secured lender, even though they have no debt protection!

During my time as a Credit Manager in the building industry supply sector, it was common for the merchant to be the largest single investor in a customer’s business – and that included the bank’s and owner’s equity. In other words, in the event of the failure of the customers’ business, the merchant had the most to lose and the least amount of security to fall back on.

 

LOOKING FOR SECURITY?

Which brings me to the key point of this article – how can you get the best security for your debt, while not upsetting the delicate relationship between you and your client?

While some of my earlier articles have delved into the areas of Personal Guarantees, and PPSR registrations – both of which help to mitigate risk around debt – neither gives a guarantee of payment in the event of business failure, or gives the level of protection achieved from a registered mortgage.

Now, before the naysayers scream that such a mortgage is nigh near impossible for a product supplier to get agreement to, just bear in mind that nearly all the major building supply merchants and many associated suppliers in the building game have been using these clauses in their credit documentation for some years now and with real success.

I even came across a situation recently where the local plumber had incorporated an Agreement to Mortgage clause in his standard trading Terms & Conditions.

Only recently, Magson’s Hardware Ltd (trading as Mitre 10 MEGA Henderson) was successful in recovering a large amount of debt after the collapse of Starplus Homes, due to clauses in the documentation allowing Magson’s to register Equitable Mortgages over several of the many properties owned by Starplus at the time of its demise.

However the following advice should be taken into account when considering incorporating such clauses:

A mortgage doesn’t have to be signed and registered at the time of the credit relationship being set up. All that is needed is for the appropriate clause(s) to be inserted in your Credit Agreement T&Cs at the time of sign-up, giving you an immediate right to take a mortgage if you require one. This can be qualified by inserting the words in the event of default to make acceptance more palatable to the debtor (borrower.)

Be aware though that you do need to be careful about the wording used. In a recent case (Building Choices Ltd v Carpe Diem Contracting Ltd (in Liq) (2015) NZHC 1266), the plaintiff relied on clauses that referred to their right to request a mortgage, if deemed necessary.

The action failed as, in the words of the presiding Associate Judge: “The distinction is between the immediate creation of a charge over any land owned [by the customer], on one hand, and an agreement [by the customer] to grant a mortgage at a future time if requested to do so, on the other hand.”

A valid Agreement to Mortgage should be contrasted with a mere right to request a mortgage. The former is capable of supporting a caveat, the latter isn’t.

Agreements to Mortgage can be an effective way to secure payment, and recover your debt. However this is a technical area and therefore well worth discussing with your legal advisor beforehand.


Alan Johnston is General Manager, CreditWorks Data Solutions Ltd, and has been involved in credit management for over 35 years. In 2011 he was presented with the NZCFI Credit Professional of the Year Award, for his achievements within the credit industry. Email him at alan.johnston@creditworks.co.nz or call him on 09 520 8133 to find out more.

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