Extract taken from 'The Lending and Secured Finance Review' – edition 5
Credit support and subordinationi Security
Nigerian law recognises various types of security interests. These security interests may be created over movable assets (tangible and intangible) and immovable assets (real estate) located in Nigeria. These interests may be taken in the form of a mortgage, charge, pledge, lien or assignment, depending on the type of property.Real estate or immovable property
Security over an immovable asset may be granted by way of a mortgage or a charge. A mortgage over land or other immovable assets may be created by way of a legal or equitable mortgage. A legal mortgage involves a transfer of the legal title in the immovable asset by the mortgagor to the mortgagee as a security for the payment of the mortgagor's debt. However, an equitable mortgage of an immovable asset is created by the mortgagor or borrower depositing the title deeds to the property with the lender, with or without a memorandum of deposit. An equitable mortgage creates a personal right against the mortgagor, which cannot be exercised without an order of the court.
A fixed or floating charge may also be created on an immovable property. A fixed charge is created over a specific immovable property of the chargor, thereby restricting the right of the chargor to deal with the asset without the consent of the chargee. However, a floating charge may be taken over a whole or specific immovable property owned by the chargee. A floating charge does not attach to a specific asset until there is a specific event that will cause the charge to crystallise.
To create an enforceable legal mortgage or a fixed charge over an immovable property, the security interest must be duly perfected as required under Nigerian law. The deed creating the legal mortgage or the fixed charge is required to be stamped (with ad valorem stamp duty being payable) and the consent of the governor of the state where the land is situated must be obtained. In addition to the requirement that the deed must be registered at the relevant land's registry, where the party providing the security is a company, the deed must be registered at the Corporate Affairs Commission (CAC).Shares
Similarly, security may also be taken over shares of a company incorporated in Nigeria by way of a mortgage or a charge. To take a legal mortgage over shares, the mortgagor must transfer legal title to the shares to the lender, on the condition that the shares will be transferred back to the borrower on repayment of the loan. The lender must be registered in the company's register of members as the owner of the shares. An equitable mortgage of shares is created by depositing the share certificates with the lender or a security trustee appointed by the lender. Where an equitable mortgage is created, legal title to the shares is not transferred to the mortgagee (bank or security trustee).
Security can also be taken over shares by way of a fixed or a floating charge. Under Nigerian law, there is no requirement to register a share charge at the CAC where the nature of the security created is a fixed charge or a legal mortgage. A floating charge over shares, however, is required to be registered at the CAC. Though a fixed charge over shares is not a registrable instrument, certain practitioners have increasingly been filing a fixed charge as a miscellaneous document at the CAC, to notify third parties that conduct a search on the records of the company creating the charge of the existence of the charge. To facilitate enforcement of the security, lenders usually require the borrowers to execute a blank share transfer form.
Security may also be created over shares that are dematerialised and kept with a central depository. The company that operates Nigeria's central depositary for listed shares is the Central Securities Clearing System (CSCS). A memorandum executed by both parties requesting the CSCS to place a 'lien' on a specific quantity of shares, or all the shares of an account owner, is required to be forwarded to the CSCS. 'Lien' is used in this sense as a description for the security interest that is created over the shares or account. Legally, the nature of the security interest that is created is a floating charge over the shares and, as such, will require registration of the interest at the CAC if the party granting the security is a company.
Also, an undated letter signed by the party creating the security, authorising the lender to sell the shares in the event of default at the expiration of the loan due date, must be given to the lender, as the CSCS would require this document if the lender wishes to realise the security.
There is an erroneous practice in Nigeria of creating a pledge over shares. An asset can only be pledged if it is transferable by delivery of possession. Usually, the owner of the shares has a share certificate that evidences entitlement to the shares concerned. This is not, however, a document of title, as legal title only passes to the lender when he or she becomes the registered holder of the shares rather than mere possessor of the share certificate. Thus, where a party purports to create a pledge over shares, the legal effect of that is a floating charge, which could be held to be void for lack of registration.Bank accounts
Under Nigerian law, a security interest may be created over the money in bank accounts by way of a fixed or floating charge. A fixed charge is created over deposits in bank accounts where the parties expressly state that they have created a fixed charge over the bank account, which must be adequately and sufficiently described in the security document; and the bank or security trustee must have control of how the funds deposited into that account are managed or dealt with.
Where the charge created on the security is a floating charge, the chargor controls the charged accounts until the charge crystallises into a fixed charge following certain events stipulated under the security document. A floating charge over cash deposits will require registration at the CAC. The registration must be preceded by the payment of stamp duty on the document creating the charge, usually at an ad valorem rate.Other assets used as security
Security can be created over intellectual property, such as patents, trademarks, copyright and designs. Usually, parties execute a deed setting out the terms and conditions on which the security is granted.
Security may also be created over a company's claims and receivables, which can be by way of an assignment, or a floating or fixed charge. Assignments must be in writing and must be preceded by the payment of stamp duty on the deed of assignment, at an ad valorem rate and registered with the CAC.Costs of perfection of security interests
Where the security is immovable property, the consent of the governor of the state where the property is situated must be obtained, and this usually attracts the payment of a fee that varies from state to state. Once the governor's consent has been granted, the security interest over the land must be registered at the relevant state's lands registry, which also attracts a fee that varies from state to state.
With respect to companies creating security over their assets, a registration fee of 1 per cent of the sum secured is required to be paid to the CAC where the company is a private company, and a registration fee of 2 per cent of the sum secured where the company is a public company.
The stamp duty payable on a debenture deed or deed of share charge is 0.375 per cent of the secured amount. In respect of security by way of assignment, the stamp duty payable on the deed of legal mortgage and assignment is at an ad valorem rate of 1.5 per cent.
Nigerian law recognises the rights of parties to commercially structure their transactions to allow the security documents to be stamped for an initial amount and then subsequently upstamped for additional sums. Consequently, on a large financing, parties may agree for the security documents to be stamped to cover a certain value, which may be less than the value of the amount that has been borrowed.ii Guarantees and other forms of credit support
Guarantees are a common form of security used in finance transactions. A guarantee must be in writing (or evidenced in writing) and signed by the guarantor or a person authorised by the guarantor. Where no consideration has been furnished for issuing the guarantee, it must be granted by way of a deed.
In accepting corporate guarantees, it is important to ensure that the issuance of the guarantee, as well as its value, is permitted under the articles of association of the guarantor.Negative pledges
Negative pledges are designed to mitigate risk to lenders by prohibiting the borrower from creating security or quasi-security over its property, without first obtaining the prior consent of the lender or granting the lender commensurate or similar security as well.
The most common forms of quasi-securities used in Nigeria include hire purchase agreements, retention of title clauses in contracts, conditional sale agreements, negative pledges and letters of comfort.iii Priorities and subordinationPriorities
Security interests are typically ranked and given priority according to the date of their creation and their nature – whether legal or equitable. Generally, a legal interest will rank in priority over an equitable interest.
A fixed charge will usually have priority over a floating charge, unless the terms on which the floating charge was granted prohibited the company from granting any latter charge having priority over the floating charge and the person in whose favour the latter charge was granted had actual notice of that prohibition at the time when the charge was created.
Where more than one creditor has the same type of security interest – for instance, where there are two legal interests over the asset of the borrower – the security interest that was registered first will rank ahead of the subsequent secured party.
With respect to security created over the assets of a company incorporated under the laws of Nigeria, where the security is not registered within 90 days of the date of creation or another prescribed period, the security becomes void against the liquidator of the company and other third-party creditors, but not the company.Subordination
Ordinarily, contractual subordination is recognised and enforceable under Nigerian law. Creditors may agree among themselves to contractually vary the order of priority, or waive or subordinate their security interests to those of other creditors. Creditors may enter into a contractual subordination arrangement whereby junior creditors agree to subordinate their payment rights to the payment of debts due to senior creditors or agree to turn over monies collected from the debtor to the senior creditors.
However, there is significant risk that these subordination arrangements would not be enforceable in winding-up proceedings commenced against the debtor company. This is because the legal rights accruing to junior creditors in bankruptcy are not affected by such arrangements and a liquidator is not bound to adhere to the subordination arrangement. Under Nigerian bankruptcy laws, all unsecured creditors are ranked pari passu and the liquidator is required to distribute the assets of the insolvent company among them equally. Different rules apply to secured creditors, as they are entitled to enforce their security in satisfaction of the debt, even if the borrower is in liquidation.
Intercreditor agreements are contracts between two or more creditors agreeing in advance on how their competing interests in their common borrower will be dealt with. It could contractually restrict junior creditors from commencing enforcement proceedings against the debtor company, provided that any of the obligations owed to senior creditors are outstanding. In the event of a breach, the senior creditors may have a right to proceed against the junior creditors and claim any proceeds received by the junior creditors pursuant to the terms of the intercreditor arrangement.
CBN Circular No. BSD/DIR/GEN/LAB/10/009 on the Review of the Limit on Foreign Currency Borrowings by Banks (the Circular), dated 13 February 2017, stipulates that all foreign currency borrowings by a Nigerian bank must be subordinated debts with prepayments allowable only upon obtaining prior approval of the CBN. The Circular, however, does not stipulate the categories of foreign currency borrowings that are required to be subordinated and to what they should be subordinated. More clarity is therefore required from the CBN on the issue, especially as the Companies and Allied Matters Act, the Nigeria Deposit Insurance Corporation Act, the Banks and Other Financial Institutions Act and the Bankruptcy Act already set out the position under Nigerian law in relation to the priority of bank debts. Pursuant to these laws, the ranking of the debts of a Nigerian bank in the event of an insolvency is as set out below:
- liquidator expenses;
- depositor funds;
- preferential debts, including:
- all local rates and charges due from the company at the relevant date that became due and payable within 12 months next before that date;
- deductions under the National Provident Fund Act 1961;
- wages or salaries of any clerk or servant of the company;
- wages of workers or labourers;
- accrued holiday remuneration payable to clerks, servants, workers or labourers on termination of employment, or in the event of death; and
- worker's compensation (this does not apply if a company is being wound up voluntarily for reconstruction or amalgamation with another company, or if the rights due in respect of the compensation accrued before the relevant date under the Workmen's Compensation Act);
- secured debts;
- unsecured debts; and
- shareholders debt.