Bank finance and regulation. Multi-jurisdictional survey. Malta. Enforcement of security interests in banking transactions.

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1 Bank finance and regulation Multi-jurisdictional survey Malta Enforcement of security interests in banking transactions Leonard Bonello Ganado & Associates Advocates Part I - types of security 1. What are the most common types of security in banking transactions in your jurisdiction (eg, standard security package)? Please provide a brief characteristic of each type of security. The most common types of security in banking transactions involving Maltese debtors or guarantors are pledges and hypothecs (whether general or special). Mortgages are also common in banking transactions however these are limited to the shipping and aviation industry. Generally speaking, the security package will vary depending on the type of financing transaction. By way of example, if the banking transaction consists of an asset financing transaction within the aviation and shipping industry, the mortgage over the vessel/aircraft will constitute the bulk of the security package. On the other hand, if the type of financing transaction is an acquisition financing it is common to obtain security from the shareholders of the Maltese debtor in the forms of a pledge of shares over the shares of the Maltese entities as well as direct forms of security over the assets of the Maltese debtor. These market practices and how security packages vary according to the kind of financing transaction will be analysed further on in this questionnaire under the various sub-headings. Pledge This is one of the most common forms of security used under Maltese law especially in crossborder transactions. A pledge is particularly attractive since it has a high ranking and is available in relation to a number of movable assets whether tangible or intangible including shares, receivables, bank accounts and various other assets. The right of preference granted to the pledgee depends on the transfer of the possession of the asset to the creditor or to a third party custodian. In relation to pledges, one must distinguish between tangibles and intangibles. If the asset being pledged is tangible, the pledge is constituted by the delivery to the creditor of the thing pledged or of the document conferring the exclusive right to the disposal of the thing (such as a bill of exchange). If however the asset being pledged consists of an intangible in relation to which there is no such document conferring the exclusive right to its disposal, the privilege granted to the pledgee shall not arise unless the

2 pledge results from a public deed or a private writing and either notice of the pledge has been given by a judicial act served on the debtor of the debt or other right or such debtor has in writing acknowledged the pledge. It is market practice to document the pledge by means of a private writing and to obtain the debtor s acknowledgement in writing. It is also important to note that in the case of shares and securities there are additional publication steps to be taken which will be described hereunder. Hypothec A hypothec is a right created over the property of a debtor or of a third party for the benefit of the creditor as security for the fulfilment of an obligation. A hypothec may be either general of special. A general hypothec is a floating type of security which does not attach to any specific asset of the security grantor but instead attaches to a fluctuating pool of assets being all the property present and future of the security grantor. This floating nature of the general hypothec has the advantage of allowing security to be taken over assets such as stock and inventory which are fluctuating in the ordinary course of business and which would be difficult to subject to specific forms of security but on the other hand has the disadvantage that assets subject to a general hypothec may be disposed of and that the pool of assets may be easily diminished. It is only upon enforcement that the pool of assets subject to the general hypothec is crystallised and the assets subject to the general hypothec become identifiable. A special hypothec is available only in very limited circumstances, all of which are, for the time being, related to immovable property. The advantage of the special hypothec is that it attaches to a specific asset or assets and will continue to affect the property to which it is subject even if such property passes into the hands of third party. As opposed to the general hypothec, the special hypothec grants a droit de suite to the creditor. All hypothecs are to be constituted by means of a public deed drawn up by a notary public and will rank according to date of registration. In taking such forms of security one must keep in mind that there are registration fees to be paid for filing of the hypothecs in the Public Registry which roughly amount to 0.1 per cent of the secured obligation. In the case of hypothecs granted to secure an obligation which is hugely in excess of the asset base of the security grantor, it is common to insert a cap in the hypothec to minimise on the registry fees. Furthermore, there are also notarial fees to be paid. It is important to note that the distinction between general and special hypothecs lies simply in the assets to which they attach and the droit de suite. Such distinction is immaterial for ranking purposes. A previous holder of a general hypothec will still rank ahead of the holder of a special hypothec over real estate in virtue of its prior registration, notwithstanding its general nature. Mortgage As opposed to pledges and hypothec which find their roots in Malta s Civil law history, mortgages are a relatively recent introduction into our law and have been introduced to initially accommodate the needs of the maritime industry and subsequently those of the aviation industry. As opposed to mortgages in common law jurisdictions, a mortgage under Maltese law does not constitute a transfer of title to the creditor but is a special charge over the vessel/aircraft which remains in the ownership of the mortgagor.

3 Notwithstanding the fact that ownership is retained by the mortgagor, the mortgage is still a very strong form of security as it shall have preference on the said vessel, over all other debts, claims or interest of any other creditor of the bankrupt, or of any curator, trustee or receiver acting on behalf of any other creditors. It is important to note that mortgages rank according to the date and the time at which each mortgage is recorded in the Shipping Register or the Aircraft register as the case may be. The registration charges involved are minimal: registration of a mortgage over a vessel costs 465 Euro and in relation to the registration of a mortgage over an aircraft there are currently no registration costs involved. 2. In relation to the following types of assets, please provide the types of security that can be created or granted in your jurisdiction and give details of any registrations required: (a) Real estate; The only forms of security in relation to real estate currently consist of general and/or special hypothecs. As described above, the main difference is that the special hypothec will follow the property in the hands of a third party but the general hypothec will not. It is common to constitute a general and a special hypothec through the same public deed so as to enjoy the benefits of the general hypothec fluctuating nature and the specific nature of the special hypothec. (b) Charging assets (inventory, stocks etc); It is theoretically possible to pledge inventory and stock but to do so would require the transfer of possession of these assets. Due to the fact that the collateral provider would wish to keep possession of these assets and dispose of them in its ordinary course of business this is not a very practical solution. For these reasons, a general hypothec is typically granted in relation to such assets. (c) Movables; The general hypothec will provide a floating type of security on all assets present and future of the grantor (including movables). The pledge on the other hand provides a specific and higher ranking form of security. Please see our replies to question 1 above. (d) Shares; The pledging of shares is a very common form of security in financing transactions. Apart from the explanation set out in our replies to question 1 above, the pledging of shares is further regulated by the provisions of the Companies Act (Chapter 386 of the Laws of Malta). The Companies Act distinguishes between the pledging of shares in a listed-company and the pledging of shares in a non-listed company. The most common scenario is of a private or public company which is not listed. In this case, the pledge of shares shall not be effective in relation to a third party before registration of a notice of the pledge to be delivered by the pledgor or the pledgee to the Registrar of Companies

4 within fourteen days of the granting of the pledge. The parties also have an obligation to notify the company whose shares have been pledged within the same timeframe. In the case of listed entities, the pledgor or the pledgee have to deliver within fourteen days of the granting of the pledge a certified copy of the signed pledge agreement to the Maltese regulated market as well as a notification to the company whose securities have been pledged. The pledge of shares in a listed entity shall be effective in relation to a third party only from the date of delivery of the signed pledge agreement to the Maltese regulated market. (e) Rights under contracts (receivables); As stated in our reply to question 1 above, there are different requirements to constitute a pledge over a tangible movable or the document conferring the exclusive right to the disposal of a movable on the one hand and an intangible on the other. Rights under a contract may be pledged by means of a public deed or a private writing, and the privilege or preference granted to the pledge at law will arise upon notice by a judicial act served on the debtors of the right pledged or upon such debtor acknowledging the pledge in writing. Furthermore, where such right arises from a document, the person granting the pledge shall be required to deliver the document to the creditor. There is one exception to the requirement to deliver the document and that is when the document is a public deed as this is available in the public registry. (f) Bank accounts; Since a bank account is essentially a debt owed to the account holder, the same requirements mentioned in (e) above apply. (g) Financial instruments (eg, securities); In the case of securities issued by a Maltese company, the same requirements specified in (d) above in relation to Shares apply including the distinction between listed and non-listed securities. (h) Intellectual property; Security interests on intellectual property rights are not commonly put in place in Malta, although admittedly these rights have considerable value and creditors occasionally express an interest in taking security over such rights. In their current forms the intellectual property registers do not allow for annotations of security interests to be entered into the respective register. We are however, aware of circumstances where a pledge was constituted over such rights by transferring the title to such assets to a third party or to a trustee. (i) Plant and machinery; There is currently no specific form of security for plant and machinery. Where the assets of a Maltese company include plant and machinery of considerable value creditors typically resort to a general hypothec. (j) Other assets.

5 Please see our replies to question 1 for mortgages over vessels and aircrafts. 3 Can a trustee or security agent be used in your jurisdiction, or must security be granted in favour of all lenders? Is the parallel debt clause concept recognised in your jurisdiction? For the purposes of Maltese law, a distinction has to be made between a security trustee and a security agent, although we understand that these two terms are sometimes used interchangeably in international practice. In the case where a trust is created, security may be granted in the trustee s sole name (with an indication that it is acting in its capacity as security trustee) irrespective of the number of lenders and irrespective of any transfer of loans which take place post-registration. If however, there is no trust arrangement and there is an agency in place, all principals of the agent have to be listed and registered with the consequence that any change of interest in the security would require amendments to the particular register. Accordingly, it is much more beneficial to put in place a security trust. The concept of parallel debt is not specifically regulated under Maltese law however it is used in many banking transactions especially syndicated transactions. We are of the view that a parallel debt provision would be recognised in Malta. 4. Please explain the latest amendments to the law governing secured transactions in your jurisdiction. Are there any amendments which will be introduced in the near future (within one to two years) which might have an impact on the legal framework of secured transactions? Please also explain recent practical developments regarding secured transactions in your jurisdiction. By virtue of a legislative amendment to the Civil Code of Malta, a framework has been created whereby special hypothecs may be granted over designated movables. The power to designate the movables over which special hypothecs may be granted has been given to the Minister responsible for justice and as far as we are aware up to this date no movables have been designated as yet. There are also a number of legislative proposals in the pipeline which are particularly relevant to this questionnaire. It is envisaged that over the coming months Maltese will accede to The Convention on International Interests in Mobile Equipment, and its Protocol on Matters Specific to Aircraft Equipment (more commonly known as the Cape Town Convention) with the consequential changes required by the Convention. It is also proposed and envisaged that over the coming months legislative amendments will be carried out to introduce the concept of security by way of title transfer for movables, whether tangible or intangible.

6 Part I enforcement of security 1. Please explain briefly general rules of enforcement of security indicated in answer to the Question 1 in Part I above (excluding rules in a bankruptcy or insolvency proceeding see Question 3 below). In your answer please explain whether specific security may be enforced only through judicial proceedings or whether extra-judicial methods are also available. Furthermore, please provide estimate of costs (if they create significant obstacle in enforcement, including applicable taxes and any other duties/ costs) and timing for enforcing such security. Please also explain degree of difficulty (eg, burdensome formalities, whether enforcement requires actions of a state body) in enforcing security. Also please explain whether taking security by an entity from other jurisdiction influences possibility of establishing security and its enforcement. As a general rule, security interests are enforceable through judicial enforcement proceedings with some exceptions which also allow non-judicial methods of enforcement for security interests. There are a number of variables which will determine the extent of the costs of enforcement and therefore it is difficult to estimate such costs upfront without a closer analysis of the nature of the assets subject to the security interest and the amount of the claim for which the security is being enforced. Pledge The general provisions relating to pledge found in the Maltese Civil Code provide that, the secured creditor cannot dispose of the thing pledged in case of non-payment, but he may cause the thing to be sold by auction under the authority of the court. The general rule is that the court, if satisfied that the debt is certain, liquidated and due will cause the thing to be sold by auction. If however the thing pledged has a stock exchange or market price, the court may order that the sale of the thing pledged be carried out by means of a public broker or a bank or other banking institution to be appointed by the court instead of judicial sale by auction. There are further mechanisms which apply in the case of shares and securities and which will be analysed below. Hypothec A hypothec may only be enforced through judicial enforcement proceedings. In so far as it secures a debt certain, liquidated and due, the hypothec also qualifies as an executive title in certain circumstances which means that it can be enforced without the requirement of obtaining a prior judgment. In cases of a facility as opposed to a loan, the Maltese Courts have not accepted that a hypothec securing such a facility would constitute an executive title and therefore the Maltese Courts would also have to intervene to determine whether the debt is certain, liquidated and due before proceeding to the judicial sale by auction of the assets encumbered by the hypothec. Mortgage The mortgage being a form of security which does not have its roots in Civil law is probably the most creditor friendly form of security currently available to creditors in Malta. In the event of

7 default of any term of condition of a registered mortgage or any ancillary document, the mortgage may, upon giving notice to the mortgagor: a) take possession of the ship, aircraft or share therein; b) have power to sell the ship, aircraft or share in respect of which he is registered as mortgagee; c) apply for any extensions, pay fees, receive certificates, and generally do all such thing in the name of the owner as may be required in order to maintain the status and validity of the registration of the ship or aircraft. Where the mortgage secures a debt certain, liquidated and due, the registered mortgage will be deemed to be an executive title. On the other hand, if the debt is not certain, liquidated and due, the mortgagee shall specify the sum due at the time of enforcement by means of an affidavit served on the mortgagor, subject to the right of the interested party to contest such amount. 2. Please explain briefly specific features (if any) of enforcement of security established over following types of assets: (a) Real estate; Please see comments made on Hypothecs above. (b) Charging assets (inventory, stocks etc); Please see comments made on General hypothecs above. (c) Fixed charge over movables; Please see comments made on Pledge above. (d) Shares; The pledging of shares is further regulated by the provisions of the Companies Act. Without prejudice to the right of the pledge to apply for judicial sale of the securities, the pledge of shares shall be entitled to (i) dispose of the shares pledge in his favour; or (ii) appropriate and acquire the securities himself, in settlement of the debt due to him. The Companies Act allows for the value of the shares to be established by agreement between the pledgor and the pledgee on condition that such consensus on the value of the shares is established after notice of default has been given by the pledgee to the pledgor. In the absence of agreement between the parties, the fair value for the sale or appropriation of the shares shall be determined by a certified public accountant appointed by the Courts on the application of the pledgee. (e) Rights under contracts (receivables); Please see comments made on Pledge above. (f) Bank accounts;

8 Please see comments made on Pledge above. (g) Financial instruments (eg, securities); Please see comments made on Shares. (h) Intellectual property; Please see comments made on Pledge above. (i) Plant and machinery; Please see comments made on Hypothecs above. (j) Other assets. Please see comments made on Mortgages above. 3. How does a commencement of bankruptcy or insolvency proceedings influence the rights of the security holder to enforce its rights? In bankruptcy or insolvency proceedings, what are the suspect periods, is claw-back possible, and what other types of rights (tax debts, employees, etc) have preference over security granted? Please explain briefly specific features (if any) of enforcement of security established over following types of assets in a bankruptcy or insolvency proceeding: The general principal is that the commencement of bankruptcy or insolvency proceedings affects judicial enforcement proceedings that are in progress. The enforcement proceedings concerning the assets covered by the security are suspended. This is done to protect the general principle that the property of a debtor is the common guarantee of his creditors, all of whom have an equal right over such property unless there exist between the lawful causes of preference. As described hereunder under the heading Other assets, a Mortgage is treated differently than a hypothec or a pledge in the case of commencement of bankruptcy or insolvency proceedings. Claw-back provisions exist under Maltese Company Law providing for a six month suspect period. There is also another general rule found in Malta s Civil Code which is applicable across the board. This rule, called the actio pauliana, basically establishes that any creditor may challenge any act made by the debtor in fraud of that creditor s claims. (a) Real estate; Hypothecs have a relatively low ranking. It is generally considered that the holder of hypothec will rank just ahead of the unsecured creditors. In the case of real estate, since there is no higher ranking form of security in respect of such an asset this effectively means that it is a relatively strong form of security. (b) Charging assets (inventory, stocks etc);

9 Due to the fluctuating nature of the assets it is common to take a floating form of security over these assets in the form of a general hypothec. Since the general hypothec does not attach to any specific asset, some assets forming part of the pool may also be subject to a higher ranking form of security such as a pledge. (c) Fixed charge over movables; Holders of a pledge over movables enjoy a privileged debt over the thing which he holds as a pledge. The claims secured by a pledge are satisfied, with priority over other creditors, from proceeds of sale of the encumbered asset. (d) Shares; Please refer to comments made on Fixed charge over movables. (e) Rights under contracts (receivables); Please refer to comments made on Fixed charge over movables. (f) Bank accounts; Please refer to comments made on Fixed charge over movables. (g) Financial instruments (eg, securities); Please refer to comments made on Fixed charge over movables. (h) Intellectual property; Please refer to comments made on Fixed charge over movables. (i) Plant and machinery; Please see provisions in relation to Charging assets above. (j) Other assets. The Merchant Shipping Act provides that any judicial sale proceedings instituted by any registered mortgagee shall not be interrupted or in any way hindered by any curator in bankruptcy, whether voluntary or compulsory, or any liquidator or receiver of the shipowner for any cause other than a cause that could be set up by the owner. Similar provisions also apply to aircraft mortgages. 5. Are there any specific features or problems of enforcement proceedings if the security is granted to a trustee or security agent or the parallel debt structure is used? As stated in Part 1 to this questionnaire, it is much more beneficial to put in place a security trust arrangement than a security agency arrangement. It is our view that there are no specific problems which occur since a security trustee faces the same challenges during the enforcement proceedings as any other owner of security. The distribution of those proceeds

10 between the various creditors is then a contractual matter between the trustee and the beneficiaries of the trust. 6. Please explain the latest amendments to the law governing secured transaction in your jurisdiction in relation to a bankruptcy or insolvency proceeding. Are there any amendments which will be introduced in the near future (within one to two years) which might have impact on the legal framework of the enforcement of secured transactions in the light of insolvency law? Please also explain recent practical developments regarding secured transactions in your jurisdiction in relation to insolvency law. As described in Part 1 of this survey, a number of amendments are envisaged to be introduced due to (i) Malta s accession to the Cape Town Convention and (ii) the possible introduction of security by way of title transfer under Maltese law. The latter proposal especially will, if legislated, introduce and facilitate further non-judicial forms of enforcement typically associated with title transfer arrangements thus increasing the options of secured creditors taking security over assets situate in Malta and making Malta a more creditor-friendly jurisdiction.