19 October 2011
The decision as to which law should apply to the security documentation relating to a ship mortgage is never a straightforward choice. Although the law which governs a ship mortgage is determined by the flag of registry, a different law is often chosen to apply to the underlying security documentation. Norwegian and English law have both been popular choices even though the procedure for the enforcement of ship mortgages is very different in each of these
The procedure for enforcement of a ship mortgage under English law is based on a
contractual right. Thus, the rights of a mortgagee are derived from specific terms agreed with the mortgagor. Typically, the loan documentation will identify those events of default by the mortgagor which give rise to the right on the part of the mortgagee to take enforcement action.
Identifying an event of default is not always straightforward because, in practice, certain
defaults are difficult to prove, such as those relating to a breach of a material adverse change clause which has been drafted in deliberately wide terms.
Service of notice and demand
Having identified the event of default, the next step is to ensure that a notice and demand is properly served on the mortgagor in accordance with the terms of the mortgage. Any failure to comply strictly with the mortgage terms may result in the notice being invalid.
Once a valid demand has been served and a reasonable time has passed for the mortgagor
to make repayment arrangements, the mortgagee may enforce the mortgage. This is
commonly done by the mortgagee taking possession of the vessel. The mortgagee's main objective in taking possession will often be to sell the vessel as quickly as possible. However, until such time as a sale can be arranged, it may be necessary for the mortgagee to employ a commercial manager to operate the vessel for a short period.
Under English law it is not necessary for the mortgagee to obtain a court order to repossess the vessel if the terms of the mortgage grant the mortgagee the right to repossess the vessel following a demand. The mortgagee may engage specialist firms to assist with obtaining physical possession of the vessel, or appoint a Law of Property Act receiver to do this on its behalf. Once possession is obtained and the decision to sell is made, the mortgagee is usually obliged to
sell the vessel for the best price reasonably obtainable. If it fails to do so, it may face claims from the mortgagor and other creditors.
In order for the mortgagee to sell the vessel it need not hold title in the vessel because the terms of the loan and mortgage documents usually grant powers of sale to the mortgagee to sell the vessel either in its own right or as an attorney of the mortgagor. While following this course has the benefit of speed, it cannot be used if the mortgagor disputes the event of default and/or
the repossession of the vessel. Further, if the mortgagor has other creditors, these will need to be paid off before the mortgagee can proceed with the sale of the vessel.
In order to avoid disputes over the sale of the vessel and to ensure that there is a sale with clean title, many mortgagees prefer to arrest the vessel and to sell it through a court.
Effect of insolvency
If the mortgagor is the subject of insolvency proceedings at the time of enforcement, all legal proceedings against the mortgagor are suspended. Although as a result the mortgagee is prevented from seeking enforcement through court proceedings, secured creditors (eg, the mortgagee) remain free to enforce their security and retain the proceeds of enforcement in priority to the claims of unsecured creditors, provided that they do not require the assistance of the courts for such enforcement.
On the other hand, if the mortgagor is in the process of an administration, a moratorium is created during which no proceedings, including any enforcement of security, can be taken without the consent of the appointed administrator or the court. Thus, after an administration order has taken effect, even if the mortgagee is seeking to enforce the mortgage without the court's involvement, enforcement is possible only with the consent of the administrator.
When choosing the governing law for the underlying security documents for a ship mortgage, it is important to be aware of the procedures that will need to be followed in the event that enforcement is necessary. Under English law the contractual agreement between the parties entitles the mortgagee to take possession of the vessel where there is a default and, if it chooses to do so, the mortgagee may sell it without intervention from the court.
Speed and flexibility is important and English law, which entitles a mortgagee to enforce a right of possession, enables the mortgagee to seize the vessel and then consider its options. This may be particularly important where the vessel is trading in international waters and there are practical restrictions on commencing enforcement action against the mortgage in any relevant foreign
jurisdiction. English law proceeds on the basis that it will uphold the contractual bargain agreed by the parties and the courts will take steps to enforce that bargain when called on to do so.
(1) For an examination of the Norwegian law relating to the enforcement of ship mortgages, please see "Enforcing ship mortgages under Norwegian law".