When a company borrows money, lenders face the risk that the company may default on repayment. Security interests protect lenders by giving them rights over specific company assets. If the company fails to repay, the secured lender can enforce against those assets rather than competing with other unsecured creditors.
Companies can grant various forms of security over their assets. The most important for company law purposes are CHARGES - which can be either fixed or floating. Understanding the distinction is crucial as it affects priority, enforcement rights, and vulnerability in insolvency.
A fixed charge is a security interest over specific, identifiable assets. The key characteristic is that the chargor (company) CANNOT deal with the charged assets without the chargee's (lender's) consent. The lender has CONTROL over the assets.
[2005] UKHL 41
A bank took a charge over book debts described as "fixed". However, the company was permitted to collect debts and pay proceeds into its ordinary current account, which it used freely in the course of business.
The House of Lords held the charge was FLOATING, not fixed. What matters is the SUBSTANCE of the arrangement, not the label. For a fixed charge over book debts, proceeds must be paid into a BLOCKED account controlled by the lender.
The key test for a fixed charge is whether the chargee exercises actual CONTROL over the charged assets. Freedom to deal with assets in the ordinary course indicates a floating charge.
The label parties give to a charge is not determinative. Courts look at whether the lender exercises ACTUAL CONTROL over the assets. If the company can deal with assets freely, it is a floating charge regardless of what the documentation says.
A floating charge is a security interest over a class of assets that the company is free to deal with in the ordinary course of business. The charge "floats" over changing assets until it "crystallises" (becomes fixed) upon a specified event.
[1903] 2 Ch 284
A company granted security over its assets. The court needed to determine the nature of a floating charge.
Romer LJ identified three characteristics of a floating charge: (1) it is over a CLASS of assets present and future; (2) the assets in the class will CHANGE from time to time; (3) the company may deal with assets in the ordinary course UNTIL crystallisation.
The classic definition of a floating charge - a charge over a changing class of assets where the company retains freedom to deal until crystallisation.
Crystallisation is when a floating charge becomes fixed and attaches to the specific assets then owned by the company. Once crystallised, the company can no longer deal freely with those assets.
Floating charges rank AFTER fixed charges, preferential creditors (employees' wages, pension contributions), and the prescribed part (ring-fenced for unsecured creditors). They are also vulnerable to invalidation under s.245 IA 1986 if created shortly before insolvency.
| Feature | Fixed Charge | Floating Charge |
|---|---|---|
| Control | Lender has control over assets | Company free to deal in ordinary course |
| Assets | Specific, identified assets | Class of changing assets |
| Priority | Ranks first (subject to registration) | Ranks after fixed charges and preferentials |
| Vulnerability | Not subject to s.245 IA 1986 | May be void under s.245 IA 1986 |
| Prescribed part | Not subject to | Subject to prescribed part set-aside |
| Dealing | Cannot deal without consent | Can deal until crystallisation |
| Typical assets | Land, machinery, IP | Stock, debtors, cash |
The court looks at the SUBSTANCE of the arrangement. Key question: does the chargor have freedom to deal with the assets without reference to the chargee? If yes, it is floating. If the chargee exercises genuine control, it is fixed.
[2001] 2 AC 710
A New Zealand company granted a charge over book debts expressly described as "fixed". The company was free to collect debts and use proceeds in its business.
The Privy Council held the charge was FLOATING despite being labelled fixed. The nature of a charge depends on the RIGHTS created, not the label. The company's freedom to use proceeds was incompatible with a fixed charge.
Confirms Re Spectrum Plus approach: substance over form. Courts will look past labels to determine the true nature of the security arrangement.
A company that creates a charge must deliver particulars of the charge, together with a certified copy of the instrument creating the charge, to the Registrar for registration WITHIN 21 DAYS beginning with the day after the charge is created.
The 21-day period begins on the day AFTER the charge is created. If documents are not delivered within this period, the charge is void against a liquidator, administrator, or creditor unless the court grants an extension under s.859F.
The court can extend time for registration under s.859F if satisfied the failure was accidental or due to inadvertence, or not prejudicial to creditors, or on other grounds it is just and equitable. The extension is usually granted subject to the rights of parties acquired before registration.
If a charge is not registered within 21 days, it is VOID against: (a) a liquidator of the company, (b) an administrator of the company, and (c) a creditor of the company. The charge remains valid as between the chargor and chargee.
Failure to register is catastrophic for lenders. In insolvency, they lose priority and become unsecured creditors who typically receive pennies in the pound. This is why lenders invariably register charges themselves rather than relying on the company.
When a company has granted multiple charges over the same assets, priority determines which lender is paid first from the proceeds of those assets. The general rule is that charges rank in order of creation ("first in time, first in right"), but there are important exceptions.
| Situation | Priority Rule |
|---|---|
| Two fixed charges | First created ranks first (assuming both registered) |
| Fixed vs floating | Fixed ranks first even if created later |
| Two floating charges | First created ranks first |
| Unregistered vs registered | Registered ranks first |
| Fixed with negative pledge | Fixed ranks first if later chargee had notice |
A negative pledge is a term in a floating charge prohibiting the company from creating later charges ranking ahead of or equally with it. If a later fixed chargeholder has ACTUAL NOTICE of the negative pledge, the floating charge will have priority despite the general rule.
(1828) 3 Russ 1
Multiple creditors claimed priority over the same fund. The question was which assignment took priority.
Priority between competing equitable assignments depends on the order of giving NOTICE to the debtor/trustee, not the order of creation of the assignments.
The rule in Dearle v Hall: first to give notice has priority. This can affect priority between competing charges over receivables where the Dearle v Hall rule applies.
When a company defaults, secured lenders have several enforcement options depending on the type of security and the terms of the charge document. The main options are appointing a receiver, taking possession, or exercising a power of sale.
Administrative receivers were appointed under floating charges covering substantially all company assets. The Enterprise Act 2002 ABOLISHED this right for charges created on or after 15 September 2003 (with limited exceptions for capital markets, PPP projects, etc.).
Under the Law of Property Act 1925, a charge over land can include a power to appoint a receiver. LPA receivers are agents of the company (not the lender) and have power to collect income and manage the property. They do NOT have power to sell without a court order unless the charge document grants this.
A qualifying floating charge holder (charge over whole or substantially whole of company's property) can appoint an administrator out of court by filing prescribed documents. This is now the primary route for secured lenders seeking to enforce and/or rescue the company.
Floating charges created in the run-up to insolvency may be INVALIDATED under s.245 IA 1986. This prevents companies from preferring certain creditors by granting them floating charges shortly before collapse.
A floating charge created within the RELEVANT TIME is invalid except to the extent of new value provided. The relevant time is: (a) 12 months before onset of insolvency for unconnected persons, or (b) 2 years for connected persons. For unconnected persons, the company must also be unable to pay debts at the time or become so as a result.
A person is "connected" with a company if they are a director, shadow director, or associate of a director. Associates include spouses, relatives, partners, and companies controlled by them. The 2-year period applies to these persons without needing to prove inability to pay debts.
Lenders can protect themselves by: (1) taking a FIXED charge where possible (s.245 doesn't apply); (2) ensuring all consideration is "new value" not past debt; (3) confirming the company is solvent when granting the charge.
Charges may also be challenged as transactions at an undervalue (s.238 IA 1986) if granted for inadequate consideration, or as preferences (s.239 IA 1986) if they put a creditor in a better position than they would otherwise be in winding up.
Before advancing funds, lenders conduct due diligence to assess the borrower's existing charges and ensure their proposed security will have the intended priority. This involves searching Companies House and reviewing existing charge documents.
Companies must keep a register of charges at their registered office (s.859Q CA 2006). This must contain a copy of every instrument creating a charge and be available for inspection. Failure is an offence.
In practice, security is usually documented in a DEBENTURE - a single document creating multiple fixed and floating charges over all company assets. This provides comprehensive security and includes various covenants and undertakings.