Legal Consequences of Granting a Security Interest in Your Business’ Land in England

Running a business will inevitably involve borrowing money, and there can be legal consequences if you grant a security interest over your business’ land. The most common kind of security interest is the mortgage. This article will explain what a security interest entails, your business’ obligation to the lender and the lenders’ rights in the land. 

What is a Security Interest?

A security interest is a special kind of agreement between a borrower and lender. Often, you will need to provide some kind of security for a loan, such as security over land, property or certain valuable assets. With a secured loan, the lender has an entrenched degree of protection. If the borrower defaults on the loan, the lender has certain legal rights to the property (or other asset used as security). Ultimately, secured lending puts the lender in the strongest position. 

A secured loan is the opposite of an unsecured loan, which is where the lender simply has a claim against the borrower alone. If the borrower defaults, the lender can only pursue the borrower and cannot seek to recover the lost funds through any of the borrower’s property. 

Kinds of Security

Security interests come in different flavours. The law typically distinguishes between four forms of security:

• charges;
• pledges; 
• liens; and
• mortgages.

What makes one form of security different from another is the rights the lender obtains in the borrower’s property. For example, a charge grants the lender the right to restrict the borrower from doing something with the property. Alternatively, a pledge grants the lender the right to physically possess the property while its legal title remains with the borrower. 

Further, a mortgage transfers the legal title of the property to the lender while the borrower gets to keep possession of the property. If the borrower defaults, the lender already has the legal right to take possession of the property and sell it because the legal title (evidence of ownership to the land) already rests with the lender.

Security in Land

Mortgages are not the only kind of security interest a borrower can grant a lender over its land. However, there are two reasons why mortgages are the most common kind of security in land:

• it grants the lender the most powerful rights in the property; and 
• land is often the most valuable piece of property a borrower owns. 

The following section considers the practical implications of granting a mortgage over your land.

Effects of Granting a Mortgage 

Transfer of Title

When a mortgage is created over your business’ land, you effectively transfer the legal title to the land to the lender. In strict legal terms, you give the lender, typically a bank, a superior right over the legal title to the property. This restricts your ability to sell the property (without the lenders’ permission). 

In a mortgage, the idea behind transferring the title of your land to the lender is to secure your obligation to repay the loan. 

Lenders’ Rights

When a borrower grants a lender a mortgage over its land, the lender gains certain rights, including:

• the right to commence a debt action for nonpayment; and 
• the right to take possession of the property. 

Commencing a Debt Action 

In practice, your business’ mortgage agreement gives the lender the right to commence a debt action against the borrower for the loan amount. Where the borrower refuses to pay the lender, this right means the court will summarily order the borrower to make a payment. 

Most businesses that default on their mortgage do not have enough cash to repay the loan. Therefore, mortgages also grant the lender a separate right of possession. 

Right of Possession 

The legal effect of the lender obtaining the legal title to the business’ land is that they have an automatic right to take possession of the land. A lender taking possession of your business’ land means two different things depending on whether or not you have a tenant leasing the land from you. 

If you do, then possession means that the lender has the right to redirect any money usually paid to you by your tenant to the lender. The lender can then apply the rental money to your debt. Alternatively, if there is no tenant in place, the lender can expel you of your right to occupy the premises. 

Importantly, the lender can exercise the right of possession even where the borrower has observed the terms of the loan. The exception is where the lender has contracted itself out of these rights. In practice, a lender is unlikely to take any enforcement action against you unless you have defaulted under the terms of the mortgage. 

Other Rights 

A mortgage also gives the lender the right to:

• appoint a receiver; and 
• exercise their power of sale.

Key Takeaways

In nearly all cases, if a lender takes a security interest in your business’ land, it will be through a mortgage. This is because a mortgage is the most powerful security interest you can grant in your property, ensuring the lender has the strongest chance of repayment. Granting a lender a mortgage over your business’ land is defined as transferring the legal title to the lender while you retain possession of the land. By transferring your title, the lender has the right to take possession of the property. In practice, the lender will only exercise the right to take possession if you default under the terms of the loan. The lender can also force a sale of the land, initiate a debt action, or appoint a receiver if you default under the terms of the mortgage-backed loan. 

If you need help with your security or loan agreement, our experienced contract lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today on 0808 196 8584 or visit our membership page.

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