Banking security law. Asia Pacific

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3 Banking security law in Asia Pacific A Norton Rose Fulbright Guide

4 Banking security law in Asia Pacific Acknowledgements The chapters on Australia, China, Hong Kong, Indonesia, Singapore and Thailand have been provided by Norton Rose Fulbright and its associate office. We gratefully acknowledge the assistance of the law firms who have contributed to the chapters on India, Japan, Malaysia, Philippines, South Korea and Vietnam. These firms are identified at the start of each chapter and further details are given at the end of the guide. Contents Australia 10 China 18 Hong Kong 26 India 32 Indonesia 38 Japan 48 Malaysia 60 Philippines 68 Singapore 74 South Korea 80 Thailand 88 Vietnam 96 Contacts 102 Contributing law firms Norton Rose Fulbright

5 Topics Introduction We are pleased to present the third edition of Banking security law in Asia Pacific. This guide forms part of our key Asia Pacific publication series which currently includes M&A law in Asia Pacific, Joint ventures protections for minority shareholders in Asia Pacific and Doing business in Asia Pacific. The ability to take and grant effective security is an essential requirement for financial institutions and corporate borrowers alike as it is a keystone of secured lending. The purpose of this guide is to provide a summary and a comparative overview of banking security law systems in the Asia Pacific region. We hope this guide will be a helpful source of information. Whilst there are many similarities between some jurisdictions, there are surprisingly wide variations within the region. Having said that, it is noticeable that many countries are reforming security legislation in an effort to improve and simplify the process of taking security. On the other hand, although the systems for taking security may be improved, the practical difficulties in enforcing security in quite a number of jurisdictions only serves to undermine the main purpose of taking security in the first place. In an effort to encourage corporate financial transparency, most countries operate comprehensive debtor registries and a failure to register security may result in the security being void as against creditors and liquidators in the event of an insolvency. However, a number of jurisdictions do not operate any such registries which can complicate a security taking exercise. Most jurisdictions operate asset based registries which will ensure priorities as between creditors but many such registries are not centralised and can be complex. Some jurisdictions do not recognise the concept of private ownership of land and instead grant land use rights. In a surprising number of jurisdictions, a mortgage of land will not extend to buildings on that land. A number of jurisdictions do not recognise the concept of floating charges which can complicate taking security over intangible and changeable assets. Many countries have insolvency regimes that recognise the priority of secured creditors but others have insolvency rehabilitation systems that can delay or prevent secured creditors from enforcing security. It is worth noting that some jurisdictions do not recognise trust law and security agency concepts and this could add a layer of complexity in terms of taking effective security in these jurisdictions. For international financiers and corporate borrowers alike, it is important to understand and appreciate that whether taking or granting security in Asia Pacific requires a specialised and customised approach for each jurisdiction. Concepts or structures that may be effective in one jurisdiction may prove ineffective and unworkable in others. For that reason, it is vital to retain legal advisers who have both international and regional law expertise in Asia Pacific. The information contained here is as accurate and up-to-date as possible as at 31 December The guide is simply a summary of the key issues relevant to taking security and is not a substitute for legal advice. If you would like to discuss any of the issues raised here, please get in touch with us. A number of countries in the region operate foreign ownership restrictions in industry sectors considered to be of strategic importance. These restrictions may adversely affect the ability of an offshore lender from either taking or enforcing security. This type of often fast changing regulation is beyond the scope of this guide but it is a noticeable aspect of many Asia Pacific jurisdictions. Norton Rose Fulbright 5

6 Banking security law in Asia Pacific Topics 01 Main types of corporate security provider 02 Common forms of commercial security 03 Main types of corporate security asset 04 Internal approvals required for granting security rights 05 Regulation of commercial secured lending 06 Registration and perfection of security 07 Granting guarantees 08 Prohibitions on providing financial assistance 09 Insolvency risk periods 10 Enforcement of security rights 11 Priority of secured creditors in the event of insolvency 12 Choice of governing law 13 Existence of a trust or equivalent concept 14 Exchange control on remittances 15 Withholding tax 6 Norton Rose Fulbright

7 Australia

8 Banking security law in Asia Pacific Australia Introduction Australia s banking industry is sophisticated and subject to effective regulation and reporting requirements. The Commonwealth of Australia is a federation comprising six States and two Territories. Some variations in property and security law exist between Commonwealth, State and Territory legislation, but in the case of security these have been greatly reduced since the implementation of the Personal Property Securities Act 2009 (Cth) (PPSA). The long-awaited registration commencement time for the PPSA finally occurred on 30 January 2012, and introduced a national system for the registration of security interests in personal property. The PPSA is modelled on laws in Canada and New Zealand and has its origins in Article 9 of the US Commercial Code. It fundamentally changes the law in Australia on security interests in personal property and on priorities between competing security interests. The application of the PPSA is an evolving and largely untested area of law. This article refers to the position as it appears from the legislation, but, at the time of writing, there is little experience of how the law will be applied in practice. Personal property is almost all property, whether tangible or intangible, that is not land. Fixtures and water rights are not personal property, nor are certain statutory rights such as mining licences and certain local government approvals. The list of excluded statutory rights varies between jurisdictions within Australia and continues to develop. The PPSA takes a functional approach to security interests. A security interest is an interest in personal property provided for by a transaction that in substance secures payment or performance of an obligation, without regard to the form of the transaction or the identity of the person who has title to the property. Some arrangements ( deemed security interests ) are regarded as security interests under the PPSA which were not previously considered to be security interests; for example, long term leases of goods (being known as PPS Leases), certain consignments and the transfer of accounts and chattel paper. The PPSA introduces new priority rules using concepts of attachment and perfection. Registration is one means of perfecting a security interest. The PPSA regime is not confined to companies and extends to individuals. 8 Norton Rose Fulbright The main types of corporate security provider The Corporations Act 2001 (Cth) (CA) governs the incorporation and registration of companies in Australia and the registration in Australia of companies that are incorporated outside Australia (Foreign Companies). A company needs to be registered in Australia in order to carry on business in Australia. Registration and regulation of Foreign Companies are covered by Division 2 of the CA. Companies can act as trustees of trusts and often enter into security in that capacity. Common forms of commercial security The PPSA effect The PPSA does not abolish pre-existing types of security interest over personal property, but their distinctive features retain little significance under the new scheme, so there will normally be no need to identify a mortgage or a charge as such in a security document, except if the security document covers non-ppsa property. Document names are changing to reflect this, so what used to be called a fixed and floating charge is now known as a general security agreement. A security document in respect of a specific asset is no longer called for example a charge over shares, but a specific security agreement. A document referring to a charge, a legal mortgage or an equitable mortgage over personal property will be read as creating a security interest. The features of different types of security are set out below in case it is necessary to consider them in relation to property that is not personal property under the PPSA (fixtures, for example), but they will be irrelevant where security interests in personal property are concerned. New and deemed security interests The PPSA covers not only interests that would have been recognised as security interests before the legislation came into effect, but also a variety of interests that would not. Particular examples of the types of arrangement that may now give rise to security interests are conditional sale agreements, retention of title terms and many leases. The consequence of these arrangements creating a security interest is that, if registration requirements are not complied with, the legal owner of the property may find that other creditors rights rank ahead of the owner s own rights to its property. For most security interests, failure to perfect the security interest will result in the security interest vesting in the grantor of the security interest if certain insolvency events occur (for example, if an administrator or liquidator is appointed). Transitional issues Caution is required during the transition from the old system to the new. For example, a holder of a security interest that

9 Australia was registered under the old system is generally protected under the new system, but needs to re-register its interest within two years of the registration commencement time, unless the security interest was migrated from an existing register to the new PPS Register. Generally, security interests that were registered as company charges on the register of charges maintained by the Australian Securities and Investments Commission were migrated to the new PPS Register. Not all existing registers were migrated. Secured parties need to claim migrated securities as their own if they have not already done so. A creditor under an arrangement that was not treated as a security interest pre-ppsa (see new and deemed security interests above) must register its interest as soon as possible, if it has not already done so, to protect its priority against its counterparty s other creditors. Land mortgage by way of statutory charge A mortgage may be created over Torrens Title Land (Torrens land). Torrens land mortgages are a form of statutory charge because there is no transfer of title. However, they are commonly referred to as legal mortgages. The Torrens system is a particularly effective form of asset registration which facilitates taking security over real property. Each Australian State and Territory has its own real property legislation, title registration offices, prescribed form and requirements for mortgages and dealings over Torrens land. Legal mortgage A legal mortgage can be taken over assets to which it is possible to have legal title, including land (other than Torrens land), intellectual property rights, plant and machinery, other tangible property (including ships and aircraft), shares, financial instruments, choses in action (such as debts or rights under contracts, effected by way of assignment). In most of these examples, the PPSA concept of a security interest makes it unnecessary to consider the features of a legal mortgage. Equitable mortgage An equitable mortgage can be created in circumstances where there is a legal assignment of an equitable interest, an equitable assignment of a legal interest or an equitable assignment of an equitable interest. Generally, an equitable mortgage will exist where the full legal formalities have not been satisfied to effect a legal transfer but will nevertheless be recognised by equity, or where there is an agreement to create a legal mortgage over future assets. Again, the PPSA concept of a security interest now renders this level of analysis unnecessary in most cases. Fixed charge A fixed charge can be taken over present and future assets in circumstances where the chargor retains control and possession of the charged asset and the chargee obtains a right to secure payment of the debt from realising the charged property. The PPSA does not distinguish between the features of a fixed charge and a mortgage, whether legal or equitable. The important distinction is between a security interest in circulating assets and a security interest in noncirculating assets. Circulating assets and the floating charge As a result of the PPSA, the notion of a fixed and floating charge has been discarded in favour of a charge over circulating and non-circulating assets. The concept of crystallisation relevant to floating charges is redundant for personal property under the PPSA. However, the priority consequences of taking security over circulating assets are similar to those under a floating charge security over circulating assets will rank behind preferred claims. The factors that denote a circulating asset possession and/or control are the same as those that characterised a floating charge. Possessory security Pledges are not commonly used in Australian corporate financing transactions given the need for the transfer of actual or constructive possession and availability of other types of security interest. Main types of corporate security assets Land and improvements Land in Australia is predominantly Torrens land. The Torrens system of land registration can be described as a system of title by registration rather than a system of registration of title. Each Australian State and Territory has its own legislation governing real property and mortgages over land and prescribing the form of mortgage to be registered in that State s or Territory s land titles. A register of titles is maintained by each State or Territory separately and legal title to the land is only acquired upon an actual recording of a transaction being made in that register. Registration itself creates the title and, except in certain limited circumstances, the rights of the registered title holder are not affected by any person claiming any earlier interest in the land. However, it is important to appreciate that the indefeasibility of title established by the system does not exclude the possibility of a right of action for a personal remedy as between the original parties to a transaction. Norton Rose Fulbright 9

10 Banking security law in Asia Pacific A mortgage of Torrens land does not involve a transfer of ownership of the land in question. Despite this, mortgagees are generally granted the same rights as general law mortgagees (such as the remedies of sale and foreclosure) and, practically, the mortgage operates as a general law legal mortgage (discussed above) does. A mortgage needs to be registered in order to be an effective legal mortgage and to ensure priority. A Torrens title mortgage may be created over freehold or leasehold interests or over the rights under another mortgage. Additionally, the mortgage itself can be dealt with as a separate interest in land so that it can be assigned, transferred or mortgaged. Some land continues to be held under the general law rather than under the Torrens system and such land is termed general law land or old system land. An old system transaction requires the examination of documents and deeds relating to all historic dealings in the land the subject of the transaction to establish an unbroken chain of title (or the good root of title ) to that land. The PPSA does not currently cover fixtures, although it is not clear whether fixtures as referred to in the PPSA are the same as fixtures in general law. Personal Property Securities Everything that is not either land or excluded property is personal property for the purposes of the PPSA. Although, in most cases, it is no longer important whether a security interest is a mortgage, a charge or something else, it is necessary to be aware of considerations that affect attachment and perfection of security interests over different types of property. Without attachment and perfection, a security interest cannot be enforced. Shares/marketable securities Unlisted shares are investment instruments under the PPSA. Listed shares are intermediated securities and not investment instruments. It is possible to perfect a security interest in either by exercising control over the collateral. What amounts to control is described in detail in the PPSA for example, in relation to investment instruments, the secured party could be registered on the share register of the relevant company as the holder of those shares or (more usually) hold the share certificates and transfer form allowing the shares to be transferred into its name upon enforcement. When taking security over shares, it is advisable to review the constitution of the company whose shares are being granted as security to ensure that there are no restrictions on 10 Norton Rose Fulbright the transfer of shares. Restrictions can be overcome by appropriate amendments to the constitution. The transfer of shares while a company is in administration or after a winding up has commenced may be restricted by the CA. Intermediated securities listed on the Australian Stock Exchange commonly use a scripless clearing and settlement system known as the Clearing House Electronic Subregister System (CHESS). The legal title holder appears on the register. To achieve control of intermediated securities which are subject to a security interest, lenders usually take a security interest in conjunction with a sponsorship agreement (which is effectively a direct agreement (known more commonly in Australian as a tripartite agreement ) between a grantor, a secured party and the entity that is a CHESS participant). Intellectual property The most common types of intellectual property in Australia are trade marks, patents, registered designs, plant breeders rights and copyright. It is possible to create a security interest in any of these, or in a licence of them. The important point to bear in mind when registering a security interest in intellectual property is whether the property is identified by serial number. If it is, and it is consumer property, the registration details must include the serial number(s) in the description of the collateral. If the property is commercial, it is possible but not essential to describe it by reference to serial number(s), in order to perfect the interest. However, it is still prudent to describe it by serial number, because a buyer or lessee can take intellectual property free of a security interest in the intellectual property if the property may be identified by a serial number, and a search of the register by reference to the serial number immediately before the sale or lease of the property would not disclose a registration that perfected the security interest. Bank accounts The PPSA has removed the doubt that previously existed about whether a bank can take a security interest over an account held with itself. This is now expressly permitted. Rights of set-off are not treated as personal property and are therefore not regulated by the PPSA. A flawed asset arrangement, on the other hand, may be a security interest and, therefore, registrable. Receivables or book debts An issue with security interests in receivables is the interaction between a purchase money security interest (a PMSI ) and what is described in the PPSA as a non-pmsi in accounts. Despite the super-priority enjoyed by a PMSI in other circumstances, if the criteria set out in the legislation

11 Australia are met for a security interest arising out of a receivables financing arrangement, the non-pmsi may take priority. Additional factors to consider include whether the receivables can be identified, whether the terms of the relevant agreement permit assignments or security to be granted, rights of set-off and retention of title issues. Contractual rights (including insurance policies) Whether a security interest can be granted over contractual rights requires a review of the nature and terms of that contract and of sections 78 to 81 PPSA. The following are important considerations when deciding whether rights under a particular contract can be the subject of a security interest: the nature of the contract and in particular, whether it is of a personal nature and whether an assignment would change the nature of that contract whether the contract includes any prohibitions on assignment or the granting of security if a prohibition exists, whether consent can be obtained from the other party. Even if the contract contains a prohibition or restriction on assignment, it may be possible to take a security interest, depending on the application of sections 78 to 81 PPSA. If the contract is covered by those provisions, a restriction or prohibition on transfer is not enforceable against a third party transferee. The relevant provisions are thought to be aimed at factoring and some securitisation arrangements, but the drafting may be wide enough to affect other situations. A transfer in breach of a restriction or prohibition would render the transferor liable to the counterparty for breach of contract. Since it might be open to the counterparty to terminate the contract as a result of the breach by the transferor, it is unlikely that would-be transferees of valuable contracts will simply choose to ignore restrictions or prohibitions. If a financier wants to ensure that the contractual rights are able to be dealt with effectively once the security is enforced (for example to ensure it can effectively utilise step-in rights, a direct agreement with the counter-party to the relevant contract may be required. Subject to any specific legislation relating to the particular type of insurance to be offered as security and any term of the insurance contract to the contrary, an insured person generally may transfer (and, therefore, grant a security interest in) the right to recover the proceeds under the policy. Internal approvals required for granting security rights In determining whether a corporate security provider will be bound by its security, it is important to consider matters such as: whether the company has the capacity to enter into the transaction if so, whether the directors have authority to bind the company under its constitution if so (i) whether the directors would be in breach of their fiduciary duty to the company by entering into the transaction (ii) whether the financier has notice (including constructive notice) of this fact (commonly referred to as the commercial benefit issue). Directors of Australian companies have duties both under the CA and at law to act in good faith, in the company s best interests and for a proper purpose. If a transaction is not for the benefit of the company, then it may amount to exercise of a power for an improper purpose. A financier with actual or constructive notice that a director is in breach of his or her fiduciary duties to the company runs the risk that the security may be set aside, leaving the financier holding the secured assets on trust for the company and its creditors. This is particularly important where a subsidiary or an associated company gives either a guarantee or a security over its assets for the borrowings of another member of its group of companies. Corporate benefit is a question of fact not of law. To reduce the risk of a transaction being found to be voidable, ratification by the directors and members should be obtained, although member ratification will not rescue the guarantee if the company is insolvent when the guarantee is given. In the case of a wholly owned subsidiary, s.187 CA provides that a director of such a subsidiary (with an appropriate provision in its constitution expressly authorising that director to act in the best interest of the holding company) is taken to act in good faith and in the best interests of the subsidiary if he or she acts in good faith in the best interests of the holding company and the subsidiary is not insolvent at the time of acting and doesn t become insolvent Norton Rose Fulbright 11

12 Banking security law in Asia Pacific because of the director s act. However, this leaves open the issue of whether the acts of the directors are vulnerable to challenge as not being for a proper purpose irrespective of ratification by the members. It should also be noted that a public company cannot provide financial benefit to its related parties unless the giving of that benefit falls within applicable exemptions under the CA or is approved by that company s members and is provided within 15 months of the approval. Regulation of commercial secured lending In general, there is no regulation of commercial secured lending in Australia. However notification or registration procedures may apply under the Banking Act or the Financial Sector (Collection of Data) Act. There is no approval or regulation that applies to the taking of commercial security, except in certain circumstances, lenders may have to comply with disclosure requirements when seeking to take guarantees from individuals. A foreign lender should be aware of the application of the Foreign Acquisition and Takeovers Act 1975 (Cth), which may require the foreign lender to lodge a statutory notice with the Australian Treasurer if it wishes to take security over certain types of Australian property. The Australian Treasurer has around 40 days from receipt of the statutory notice to make a decision on the matter and the security should not be taken before that decision is made. There are statutory exemptions for security taken for the purposes of a money lending agreement, but the exemption will not apply if a foreign government owns 15 per cent more of the foreign lender, in which case taking security will require the Australian Treasurer s prior approval. The examination of foreign government transactions is a matter of policy rather than law, and there is no timeframe for the Australian Treasurer s decision. A foreign lender may need to seek APRA s authorisation to engage in financial business (which includes lending) in Australia if it is not an authorised deposit-taking institution and its name includes the word bank. Lending to small businesses may also be subject to the Code of Banking Practice (for banks that subscribe to it). Granting guarantees In commercial finance transactions, it is possible for companies to provide upstream, downstream and crossguarantees. Financiers almost always obtain an indemnity in the same document as the guarantee which (unlike a guarantee) has the benefit of being a primary obligation and is generally enforceable even if the obligation being guaranteed is not. Guarantees may be all moneys or limited to specific obligations, a specific amount or a particular asset. If the guarantor is a company, issues of corporate benefit should be considered and, if it is a public company, the rules on related party transactions may apply. A guarantee is not in itself a security interest that ought to be registered on the PPSR. However, guarantees often include other clauses especially suspense account provisions and turnover trusts that may give rise to a security interest. Prohibitions on providing financial assistance There are restrictions on a company providing financial assistance (which may include finance, loans or guarantees) for the acquisition of shares in itself or its holding company. This applies even if the holding company is incorporated outside Australia. Companies can give financial assistance if they comply with the procedure prescribed in the CA (known as the whitewash procedure ), if they are exempt or if the giving of assistance does not materially prejudice interests of the company or members or the company s ability to pay its creditors. The whitewash procedure involves getting a resolution from members of the relevant companies pursuant to the CA. The notice of members resolutions must be lodged with ASIC at least fourteen days before the financial assistance is given. Insolvency risk periods In any insolvency, there are a number of issues to be taken into account, which may affect the rights of both secured and unsecured creditors. The exact extent of a secured creditor s rights will depend on the nature of the security held by the creditor and the type of insolvency proceeding. Failure to register a security interest that is required to be registered under the PPSA will result in the collateral over which the security interest was granted vesting in the grantor on the grantor s insolvency. In some circumstances, an external administrator of an insolvent company may seek to avoid transactions entered into by that company. Also, restrictions may apply to taking proceedings or enforcing rights against a company in administration or liquidation. Security taken over an insolvent company s assets may be subject to challenge by an administrator or liquidator for example for 12 Norton Rose Fulbright

13 Australia lack of registration within required time limits; absence of consideration; lack of corporate benefit; inadequate execution; the security being regarded as a voidable transaction ; and the security not being provided with the company s authority. Two common types of voidable transactions are described below. An uncommercial transaction, according to s.588fb CA, is one entered into when the company was insolvent and that a hypothetical reasonable person in the company s circumstances would not have entered into. Regard may be had to the benefits and detriments to the company of entering into the transaction, and benefits to other parties. The appropriate test is to examine whether there was a bargain of such magnitude that it could not be explained by normal commercial practices. A liquidator may set aside this type of transaction if it is entered into within six months of the appointment of the liquidator, or within four years if the transaction was with a related party. It is a defence if the creditor had no reasonable grounds for suspecting that the company was insolvent at the time the benefit was received. An unfair preference, under s.588fa CA, is a transaction between an insolvent company and a creditor, by which the creditor receives more for an unsecured debt than would have been received if the creditor had had to prove for it in the winding up. As with uncommercial transactions, a liquidator may set aside such transactions if entered within six months of the appointment of the liquidator, or within four years if the transaction was with a related party. Also, as with uncommercial transactions, it is a defence if the creditor had no reasonable grounds for suspecting that the company was insolvent at the time the benefit was received. Enforcement and priority of security rights Enforcement is largely a matter governed by the agreement between the debtor and the creditor, and it is possible to contract out of certain of the enforcement provisions in the PPSA unless the collateral is used predominantly for personal, domestic or household purposes. In the absence of enforcement provisions in the security document, the law provides standard remedies for the creditor if the security needs to be enforced. However, as there are invariably limitations with standard statutory remedies, effective enforcement often depends on the terms of the security. The enforcement provisions of the PPSA supplement the remedies already available to secured parties. To be enforceable, a security interest in personal property must attach to the collateral. In order to attach, the grantor must have rights in the property or the power to transfer rights in the property to the secured party, and the secured party must provide value, or the grantor must confer a security interest though its actions. Enforceability against third parties requires possession or control by the secured party or a written agreement signed or accepted by the grantor. The type of security interest is irrelevant to the means by which a security interest may be enforced under the PPSA. This represents a significant departure from the pre-ppsa regime. Outside the PPSA regime, the availability of different methods of enforcement depends on the type of security interest. Enforcement methods principally relevant to security interests in land include possession, sale and foreclosure, although foreclosure is rarely used in practice. The issue of enforcement often arises in the context of a corporate insolvency procedure. Receivership is by far the most common procedure used as a vehicle for enforcement. It involves the appointment of an insolvency practitioner by the holder of an enforceable security interest either privately or by a court. Voluntary administration is typically commenced by the directors of a company on the grounds that the company is insolvent, but it may also be commenced by a creditor that holds enforceable security over the whole or substantially the whole of the company s property. Priority of security interests under the PPSA The PPSA introduces new priority rules for competing security interests, based on the concept of perfection. The new rules are so far untested. Perfection is a process which requires that the security interest is attached to the collateral and is enforceable against third parties. Registration is one way to finalise perfection of a security interest. The other ways to perfect a security interest are by possession or control. Perfection is most important if the grantor of a security interest becomes insolvent. In Australia, with some exceptions, personal property subject to an unperfected security interest will vest in the grantor if certain insolvency events occur for example, if the grantor is wound up or made bankrupt, or an administrator is appointed. In other words, unless the financier has registered its interest on the PPS Register or taken possession or control of the secured assets, the financier s security will not be enforceable against a liquidator or administrator of the grantor. Norton Rose Fulbright 13

14 Banking security law in Asia Pacific Special rules about priority apply in some cases, for example: The PPSA gives a super-priority for registered purchase money security interests (PMSIs). A PMSI is a security interest in collateral that secures the purchase price for collateral, or secures the finance enabling the acquisition of the collateral. A lessor or bailor of goods under a PPS Lease and a consignor under a commercial consignment will also have a PMSI. However, there are very tight timeframes for registering a PMSI to get the benefit of this super-priority. The PPSA contains special rules about agricultural interests, accessions, processed or commingled goods, intellectual property and debt factoring. A security interest in some types of property (such as shares whether certificated or dematerialised and ADI accounts) can be perfected by control. If the security interest is perfected by control, it will take priority over security interests in the same property that are perfected by other means. The Commonwealth or a State or Territory may declare that the priority of certain statutory interests is to be determined under the law of the Commonwealth, that State or Territory rather than under the PPSA, effectively displacing PPSA priority rules. This has been done in relation to many statutory liens and charges in the various jurisdictions, and it is not consistent between jurisdictions. Priority of secured creditors in the event of insolvency A secured creditor with a perfected security interest will normally be entitled to enforce its security, even if a judicial winding up order has been made. Circulating assets, however, will usually be first used for distribution to certain preferential creditors such as employees. A holder of a security interest in circulating assets should still take priority over the general body of unsecured creditors. is located in the case of goods, and where the grantor is located, in the case of intangibles. The PPSA contains rules to help identify where personal property is located and the applicable governing law. Existence of a trust or equivalent concept The use of private and commercial trusts is well established in Australia. Security trusts are also commonly used in multi-lender financing transactions as a mechanism to hold security for the common benefit of secured creditors. Exchange control on remittances While technically still regulated, in a practical sense Australia s foreign exchange system has minimal restraint. The currency was floated in 1983 and, generally, banks are authorised to deal in foreign exchange and can operate foreign currency accounts. Apart from matters such as taxscreening, the remaining exchange controls are generally concerned with foreign investment in Australia, the export of notes and coin, anti-money laundering and enforcement of financial sanctions against particular countries or persons. Withholding tax Subject to certain exemptions and any applicable doubletax treaties, withholding tax is generally payable at the rate of ten per cent on the gross amount of interest payments made by an Australian resident (including an Australian based permanent branch of a non-resident) borrower to a non resident (including an overseas based permanent branch of a resident) financier. Mortgage duty New South Wales is the only remaining Australian state to impose mortgage duty on secured lending arrangements. Mortgage duty is expected to be abolished on 1 July Choice of governing law Parties to a contract are free to choose any governing law they wish so long as it is in good faith, legal and is not against public policy. The choice must be clear and unambiguous. It will only affect the contractual aspects of a document. The law that governs a security interest will generally be determined according to where the collateral 14 Norton Rose Fulbright

15 China

16 Banking security law in Asia Pacific China Introduction A relatively comprehensive legal framework for the regulation of taking security in the People s Republic of China (PRC) was established with the introduction of the People s Republic of China Security Law in 1995 (SL). Since then, security law in the PRC has steadily evolved, with the implementation of the PRC Property Law in 2007 (PL) and various other regulations governing foreign security (see details below). A regulatory regime has grown up administered by a range of government bodies, including the Ministry of Commerce and its local approval authorities (MOFCOM), the State Administration for Industry and Commerce (SAIC), the housing and land administration authorities and the State Administration of Foreign Exchange (SAFE, the major regulator of the foreign exchange control regime of China). The types of asset that can be secured have increased and the processes for perfection and enforcement of security have increasingly become well-regulated and harmonised with international practices and norms. Main types of corporate entity Domestic companies and Foreign invested enterprises are the two main types of corporate entity groupings. Domestic companies Limited liability companies: in these companies investors assume liabilities towards the company but only to the extent of their respective capital contributions. The company is liable, to the extent of all its assets, for its debts. Significantly, although investors are referred to as shareholders, the company does not issue or allot any shares. Instead, the investor s equity interest in the company is represented by its percentage holding in the registered capital of the company. The company is required to issue to each investor shareholder an investment certificate indicating the capital contribution and the total registered capital of the company. However, there is no standard form of investment certificate. Companies limited by shares: corporate vehicle in which share capital is issued and allotted by using share certificates and where a shareholder s liabilities is limited to the extent of the shareholding and the company is liable, to the extent of all its assets, for its debts. PRC Company Law (CL) regulates domestic companies. Establishing either a limited liability company or a company limited by shares requires registration with the national or local SAIC. Foreign invested enterprises (FIEs) By definition, FIEs are PRC incorporated enterprises with foreign investment. Most FIEs are limited liability companies. However, given that FIEs are additionally regulated by a set of PRC foreign investment laws, they are, for these purposes, treated as a separate sub-set. PRC Company Law applies to FIEs where the foreign investment laws are silent. However, the foreign investment laws take priority where there is any conflict between the two sets of laws. There are three main types of FIE: Equity joint venture (EJV): an enterprise established in the PRC through the joint investment of at least one Chinese party and at least one foreign party. The ratio for distribution of profits and sharing of losses is dependent upon each partner s respective equity interest in the registered capital of the EJV. Cooperative joint venture (CJV): a cooperative enterprise set up in the PRC also through the joint investment of at least one Chinese party and at least one foreign party. It can either be a separate legal entity, separate from the partners; or it may be structured with no separate legal entity, each partner being responsible for the profits and losses of the CJV in accordance with the terms and conditions previously agreed upon in contract between the partners. The major difference between an EJV and a CJV is that a CJV offers greater flexibility for the parties to decide the terms of the investment and the distribution of profits to investors. Wholly foreign-owned enterprise (WFOE): an enterprise set up in the PRC and wholly-owned by one or several foreign investors. A WFOE, in most cases, is a limited liability company. The liability of foreign investors will be limited to their subscribed capital. Common forms of commercial security Mortgage Must be in writing and the mortgage agreement must specify the type and amount of the underlying obligation secured; the mortgage term, particulars of the mortgaged property and its use rights; and the scope of the security covered by the mortgage. Although default enforcement provisions can be included, the agreement should not expressly provide for the transfer of legal ownership in the event of default. 16 Norton Rose Fulbright

17 China Pledge Must be in writing and the pledge agreement must provide for the type and amount of the underlying obligation secured; a term for performance of the debtor s obligations; particulars of the pledged property; the scope of the security covered by the pledge; the time for delivering the pledged property and other consensual matters. As with mortgages, a pledge agreement should not provide for transfer of legal ownership in the event of default. Assignment Assignments of contract are not expressly provided for as a way of security under the SL. However, contractual rights may be assigned under the PRC Contract Law (Articles 79 and 80), which provides that a party may assign some or all of its rights under a contract to a third party by notifying the obligor of such assignment. The parties may agree that such assignment may only come into effect subject to certain conditions including, amongst others, occurrence of any events of default by the obligor under any other documents, such as a facilities agreement. This conditional transfer of contractual rights may work in a similar manner as an agreement to assign rights under a contract under HK law or English law. Assignments are not straightforward. Firstly, an assignment by a domestic entity to a foreign entity may cause problems with SAFE and liaison with SAFE is required at the outset of a transaction. Secondly, certain contractual rights may not be assignable depending on the type of contract, legal restrictions or the contractual terms. Accordingly, legal advice should always be taken prior to agreeing an assignment. Other security Although the PL introduced a form of floating mortgage, that can be taken over future production equipment, raw materials and semi-finished products, it does not operate in exactly the same manner as a conventional floating charge in common law jurisdictions. Proprietary liens and security deposits are widely used in the PRC but they are not often encountered in a corporate lending scenario. Main types of corporate security asset Land and buildings Stated-owned land use rights: generally speaking, land in urban areas is owned by the State, whilst land use rights can be owned individually. Significantly, land ownership rights cannot be mortgaged whereas land use rights can. There are two types of state-owned land use rights Granted land use rights: these may be granted by the State on payment of a premium. Once granted, they may be sold, leased or mortgaged upon satisfaction of certain conditions. Granted land use rights are evidenced by a Land Grant Contract and a Land Use Rights Certificate issued by the local Land Bureau (LB). The title document for a building is a Property Ownership Certificate issued by the Real Estate Administration Authority (REA). In certain places of the PRC, the functions of the LB and the REA are consolidated within one governmental authority. Allocated land use rights: these rights are allocated to the user by the State (in most cases for public interest purposes) and no payment of premium is involved. Significantly, allocated land use rights may not be mortgaged unless various conditions are satisfied and approvals obtained from the LB and/or the REA. Although security can be taken by way of mortgage over some immoveable property, such as buildings and other attachments to land, there is a prohibition on mortgaging the following rights and assets: land ownership rights land use rights relating to collectively owned land educational, medical and other public welfare facilities of non-profit making organisations, such as schools, kindergartens, hospitals and other social organisations property to which the ownership is unclear or in dispute property that has been sealed up, seized or is subject to supervision and control and other unmortgageable property. Building and land use rights should be mortgaged together. If not, they should be deemed to have been mortgaged together. Buildings that are newly constructed on land after the mortgage of the land use right will not be included in the security. Tangible moveable property Security can be taken over moveable property either by mortgage or pledge. The effectiveness of a mortgage of moveables is not dependent upon registration. Norton Rose Fulbright 17

18 Banking security law in Asia Pacific Generally speaking, pledges over moveables are comparatively easy to perfect. Physical delivery of the moveables to the pledgee and a contract in writing are all that is required. The cooperation of the pledgor is not needed on enforcement. The pledgee has the right and ability to sell the pledged goods in the event of default, and the pledgor has little chance of preventing this. In practice, the pledgee will appoint a collateral manager to take possession of the moveables on his behalf in order to address the inconvenience of possessing and retaining the moveable assets. Shares and equity interest Pledges over shares, fund units or equity interests are widely used in the PRC. However, care must be taken to ensure that shares or an equity interest are transferable without restrictions; that equity interests in an FIE to be pledged have been capitalised; and that the registration requirements and necessary approvals are obtained from the competent local counterparts of MOFCOM and SAIC. Intellectual property Security over intellectual property rights can be taken by pledge which will be effective as from the date of registration with the relevant administration authorities. Bank accounts Security can be taken by way of a pledge. Under the SL, funds in the account for a pledge over a bank account must be ascertained and identified at the time of perfection of the pledge which precludes a pledge over future funds. In consequence, most commercial banks will seek to take a pledge over a special account in conjunction with a pledge over receivables. The special account will be set up for the specific purpose of receiving income generated from the business operation of the pledgor and will be in the possession of and under the effective control of the creditor bank. Taking a pledge over a special account does not have an explicit regulatory basis. However, taking a pledge over receivables in accordance with the PL will provide a lender with more definitive rights to future funds. Receivables The Measures for the Registration of Pledge over Receivables defines receivables as the right of a party (usually the borrower) to ask a third party to make payments as a consideration of offering goods or services by the borrower, including existing and potential money claims and the proceeds thereof, but not including the right to claim payment due under bills or other negotiable securities. The borrower may pledge its rights over such receivables in favour of a creditor as a security. Since the PL came into force, the Credit Reference Centre (CRC) of the People s Bank of China (PBOC) has been operating an online registration system for pledges made over receivables. Examples of receivables include those arising from: the sale of goods; the supply of water, power, gas and heat; the leasing of moveable and immoveable property, the provision of services; and the fees charged for the use of transportation routes such as highways and bridges. There is an increasing trend amongst banks to register receivable pledges with the CRC, even when using special account pledges for the greater protection that it affords. However, a problem identified with pledges over receivables is that registration with the CRC, which is key to their efficacy, is dependent on the pledgee providing it with accurate and, where necessary, updated information of the pledgor. Failure to do so will lead to the pledge registration becoming ineffective. For instance, there is a clear danger of a pledgor recklessly or intentionally failing to notify a pledgee of its change of name, leading to the pledge falling away. In addition, pledges over receivables automatically terminate at the end of an agreed registration period up to a statutory limit of five years. The pledgee has the right to extend a pledge over receivables by another five years. However, considering that a pledgor may naturally be unwilling to extend a pledge after the initial five years have elapsed, there is an inherent weakness in any pledge over receivables that is intended to attach to any mid-term to longterm obligation of the debtor. Contractual rights Security may be taken by way of assignment or mortgage but as mentioned above, assignments are not straightforward. Mortgages can be created over certain contractual operation rights in land, such as waste disposal land which has been obtained by way of an invitation of bids, auction, public consultations, etc. This is a mortgage similar to the mortgage over land use rights as discussed above. Other intangible rights A pledge can be created over intangible rights such as bills of exchange, cheques, promissory notes, bonds, certificates of deposits, warehouse receipts and bills of lading and will become effective either on delivery of the title certificate or where there is no title certificate, on registration at the relevant administrative department. 18 Norton Rose Fulbright

19 China Internal approvals required for granting security rights The legal representative (LR) of a company is the responsible person who has the power, as a matter of law, to represent the company in various activities of the company, and the LR s name is required to be shown on the company s Business Licence. The LR may be the chairman of the board, an executive director or the general manager of the company. Generally speaking, a contract signed by the LR binds the company, unless the counterparty knows or ought to know that the LR has exercised rights beyond that authorised by the company. In short, an LR is the alter ego of the company and has wide powers to enter into contracts binding the company. The LR may also authorise another person, such as a general manager, to act as his representative by a written power of attorney. Notwithstanding the powers of the LR, the legal contract entered into by a PRC company should also be affixed with the official stamp of the company in order to avoid any dispute over authorisation. Providing security for third parties will require board resolutions or, as the case may be, a shareholders resolution depending on and in accordance with the articles of association. Where a third party is an existing shareholder then shareholder approval must be obtained but excluding any votes that might be exercisable by that third party shareholder. Regulation of commercial secured lending A Chinese entity receiving foreign loans (Foreign loans) or granting security for the obligations of a foreign entity or in favour of a foreign entity (Foreign security), is subject to extensive legal regulation including the latest SAFE Notice Concerning the Administration of Foreign Security Provided by Chinese Institutions (New regulation) coming into force on 30 July 2010, which introduced significant changes to the previous regulatory regime governing Foreign security granted by Chinese institutions. Financing and non-financing foreign security Foreign security is categorised to include foreign security of a financing nature (Financing foreign security) and foreign security of a non-financing nature (Non-Financing foreign security), which are treated differently in many respects. Financing foreign security is defined to mean the foreign security provided in respect of an underlying contract which is of a debt-financing nature, which includes but is not limited to the security provided for loans, the issue of bonds and financing lease. Non-Financing foreign security is defined to mean any foreign security other than Financing foreign security, including, for example, quality guarantees, project completion guarantees, tender guarantees, advancepayment guarantees, deferred payment guarantees and performance guarantees under a contract for the sale and purchase of goods. Foreign security provided by banks Chinese registered banks may provide Financing foreign security within the annual foreign security balance quota approved by SAFE (Quota) without being subject to a case-by-case approval. Chinese registered banks are free to provide Non-Financing foreign security without being subject to any Quota or SAFE approval provided that they comply with the overall regulatory risk control requirements and either the secured party or the beneficiary is a Chinaincorporated enterprise or a foreign entity set up or owned (directly or indirectly) by Chinese-registered institutions. Chinese-registered banks must conduct monthly filings with their local SAFE for foreign security they provide. Such filings will be regarded as due registration of the foreign security concerned and SAFE will not provide any additional foreign security registration certificates. Foreign security provided by non-bank financial institutions and ordinary enterprises Non-bank financial institutions and ordinary enterprises may apply for the Quota (covering both Financing and Non- Financing foreign security) by following the same Quota application procedures as banks provided they qualify the various requirements under the New regulation. Non-bank financial institutions and ordinary enterprises that do not fall under the Quota administrative regime mentioned above are subject to case-by-case approval from SAFE for each foreign security it wishes to provide. Chinese-registered non-bank financial institutions and ordinary enterprises shall conduct a case-by- case registration with their local SAFE within 15 days of the execution of the relevant foreign security contract. From a legal perspective, relevant approval and registration certificates issued by a local SAFE should be effective documents to evidence that the foreign security has been duly provided. Norton Rose Fulbright 19

20 Banking security law in Asia Pacific Registration and perfection of security The registration and perfection requirements for security interests set out below are additional to, and do not replace SAFE s registration and approval requirements. Mortgage over a land use right (land with no structures or buildings): must be registered with the local LB. A mortgage over real property, (land with buildings or structures), must be registered with the local REA. A mortgage over woodland must be registered with the local Forestry Administration Authority. In each case, the mortgage will only come into effect when it is duly registered. A mortgage over contractual operation rights in land should be registered with the competent LB or REA. Mortgage over tangible moveable property may be registered as follows: equipment and other moveable property (including raw materials, semi-finished products, products): with the local SAIC vehicles: with the vehicle registration authority aircraft (including aircraft under construction): with the Civil Aviation Administration of China vessels (including vessels under construction): with the Administration of Maritime Safety where the vessel s register is held. Although the effectiveness of a moveables mortgage is not dependent on registration, without such registration the mortgagee will not be able to challenge the interest of a bona fide third party in the mortgaged assets. Pledges over the following assets should be registered and perfected as follows: moveables: registration not required and will take effect on transfer of possession shares in a listed company: must be registered with the Securities Depository and Clearing Institution shares or equity in a non-listed company: must be recorded in the register of shareholders and must be registered with the SAIC equity in an FIE: must be approved by the other investors of the FIE; approved by MOFCOM and registered with the local SAIC. All the above pledges (other than moveables) will come into effect when they are duly approved and registered. bank accounts: notice must be given to the bank with which the pledgor opens the bank account receivables: must be registered with the CRC and will only come into effect when registered bills of exchange cheques, promissory notes, bonds, money orders, warehouse receipts or bills of lading: will take effect on transfer of possession of the relevant title certificate or otherwise should be registered with the relevant administrative departments where there is no title certificate in which case the pledge will take effect when registered fund units: should be registered with the Securities Depository and Clearing Institution and will take effect when registered. Granting guarantees There are two types of guarantee: Ordinary guarantee: the guarantor assumes the guarantee responsibility when the debtor fails to pay the debt. Significantly, the guarantee cannot be enforced until a creditor first exhausts its remedies against the principal debtor. Joint and several liability guarantee: in contrast to an ordinary guarantee, both the guarantor and the debtor assume joint and several liability over the debt so that a creditor can enforce the guarantee as soon as the principal debtor is in default and does not have to exhaust its remedies against the principal debtor. Wherever a guarantee is silent as to liability, it will automatically be deemed to be a joint and several liability guarantee. Generally speaking, there is no regulatory restriction on a PRC enterprise providing downstream, upstream or crossstream guarantees for a domestic debt. However, restrictions do exist in respect of providing upstream or cross-stream Foreign security. A Chinese-registered enterprise (referring to either a domestic enterprise or an FIE which is not a financial 20 Norton Rose Fulbright