WHAT IS THE SECURED TRANSACTION ACT (Act) ?
The Secured Transactions Act, No. 17 of 2024, certified on April 1, 2024, establishes a new institutional framework and regulatory structure for secured transactions involving movable property in Sri Lanka.
This legislation repeals of the previous Secured Transactions Act, No. 49 of 2009.
What are the Primary Objectives of the Act –
The primary objectives of the Act are, inter alia, to regulate secured transactions in movable property through the establishment of the Secured Transactions Registration Authority (the Authority), to determine priorities among creditors with competing security rights, and to establish and maintain a Register of Security Rights in Movable Property (the Register).
SCOPE AND APPLICATION OF THE ACT
What transactions are covered by the Act?
The Act applies to every transaction that, in substance, creates a security right in movable property, regardless of its form or the title holder of the collateral. This includes, but is not limited to, transactions such as chattel mortgages, conditional sales, debentures, fixed charges, floating charges, pledges, trust indentures, and trust receipts.
It also covers assignments, consignments, leases, or transfers of chattel paper used to secure payment or performance, transfers of accounts or chattel paper (even if not securing an obligation), and leases exceeding one year in term (even if not securing an obligation).
What transactions are not covered by the Act?
The Act specifies several exemptions. These include non-consensual liens granted under any other law or recognized by courts as non-consensual, transfers of interests in contracts of annuity or insurance policies (with an exception for rights to money payable as indemnity for loss/damage to collateral), assignments of wages, salary, or emoluments where prohibited by law; transactions subject to the Pawnbrokers Ordinance (Chapter 90); and payments under financial contracts related to settlement (excluding termination receivables).
Interests in immovable property (such as mortgages or leases of such property), except for interests in a fixture or the assignment of a right to payment under a mortgage, charge, or lease, provided this assignment does not transfer the assignor’s interest in the immovable property.
The Act also excludes the transfer of an interest in goods registered under specialized statutes like the Motor Traffic Act (Chapter 203), the Merchant Shipping Act, No. 52 of 1971, or the Civil Aviation Authority of Sri Lanka Act, No. 34 of 2002.
INSTITUTIONAL FRAMEWORK
What is the Secured Transactions Registration Authority (the Authority)?
The Act makes provisions for the establishment of the Authority. The Authority is a body corporate with perpetual succession. It’s role is to facilitate and regulate secured transactions in movable property. It is required to, inter alia, register security rights in movable property under the Act, register the rights of judgment creditors, determine policies for the registration system maintained by the Credit Information Bureau (CRIB).
What is the governance structure of the Authority?
The administration and management of the Authority are vested in a Board of Directors (the “Board”). The Board consists of:
- The Governor of the Central Bank of Sri Lanka (or nominee), who serves as the Chairperson.
- The Secretary to the Treasury (or nominee).
- The Chairman and a Director of the CRIB (or nominees).
- The Registrar of the Authority (Registrar).
The Registrar is responsible for the general supervision of all registrations required under the Act. The Registrar and all other officers and employees of the Authority are deemed to be public servants for the purposes of the Penal Code (Chapter 19).
CREATION AND ATTACHMENT OF SECURITIES
How to create a security right under the Act?
A security right becomes effective and enforceable between the parties and against third parties, when it becomes attached. Attachment occurs when:
- value is given
- the debtor has rights in the collateral or can transfer those rights
- the debtor has signed an agreement describing the collateral, or the collateral is in the possession of the secured party.
The security agreement may secure property acquired after the agreement is entered into (after-acquired property), but the security right only becomes enforceable when the debtor acquires a right to that property. Exceptions exist for future crops, where a security right shall not be created in crops that become growing crops more than one year after the agreement, unless it is a right given in conjunction with a lease, purchase, or mortgage of immovable property and for consumer goods excluding accessions, unless acquired within 10 days of value or secured for a personal guarantee.. Security agreements may also contain provisions to secure ‘future advances’, provided that the maximum amount is specified in the agreement.
PERFECTION OF SECURITY RIGHTS
What are the methods for perfection under the Act?
Possession –
Possession of the collateral by the secured party perfects a security right in chattel paper, goods, instruments, certified securities, and money. For this purpose, the collateral must be actually delivered into the secured party’s possession and custody and continue to remain ostensibly and bona fide in that possession until enforcement is sought.
Registration –
Registration of a security right under the Act perfects any type of collateral. A security right perfected by possession maintains temporary perfection for the first ten days after the collateral comes under the debtor’s control, if the collateral (instrument, certificate, document of title, or goods) is made available to the debtor for purposes like sale, collection, presentation, processing, or storage. After this ten-day period, the security right must be perfected under the general provisions of the Act.
What about perfection of proceeds from collateral?
A security right automatically extends to identifiable or traceable movable property derived directly or indirectly from dealing with the collateral (“proceeds”), even if not covered by the security agreement. The security right continues in the original collateral unless the secured party explicitly or implicitly authorized the dealing free of the security right. If the security interest in the original collateral was perfected, the security right in the proceeds is a continuously perfected security right. However, if the original collateral was perfected by a method other than registration, the perfection in the proceeds becomes unperfected ten days after the debtor acquires the interest in the proceeds, unless the security right in the proceeds is independently perfected under the Act.
What happens if a security right is unperfected ?
An unperfected security right is subordinate to a perfected security right and to the interest of a creditor who has registered a notice of judgment with the Registrar while the security right was unperfected. An unperfected security right is also ineffective against an assignee in insolvency proceedings if the right remains unperfected at the time of bankruptcy, or against a liquidator appointed under the Companies Act, No. 07 of 2007, if the interest is unperfected when the winding up order is made.
PRIORITY RULES
Priorities –
The Act sets out general rules governing priority conflicts between competing security rights in the same collateral.
- Registration vs. Registration:
Priority between security rights perfected by registration is determined by the date of registration, irrespective of the date of perfection. Earlier registration has priority. - Registration vs. Possession:
Priority between a security right perfected by registration and one perfected by possession depends on whether registration occurred before possession was taken. - Unperfected vs. Unperfected
Priority between unperfected security rights is determined by the date the security rights were created.
Priority in Special Circumstance –
Future Advance –
The priority established by registration generally applies to all future advances. However, priority over a judgment creditor who registers a notice of judgment is limited to advances made ‘before’ the judgment creditor registered the notice, or advances made ‘before’ the secured party acquired knowledge of that registration, or advances made according to a pre-existing statutory requirement or legally binding obligation, plus reasonable costs for collateral protection/preservation.
Acquisition Security Rights (ASR) –
ASR (which includes a security right securing the price of collateral, value given to enable the debtor to acquire the collateral, or a lease for a term over one year) have special priority.
Inventory – has priority over other security rights given by the same debtor if the ASR was perfected when the debtor obtained possession, AND the ASR secured party provided written notice to all previously registered secured parties regarding the acquisition security right.
Not inventory’ – has priority if it was perfected before or within ten days after the debtor obtained possession (for tangible collateral) or within ten days after the ASR was created (for intangible collateral). A buyer of goods who buys them in the ‘ordinary course of business’ takes the goods free of any security right given by the seller, even if that right is perfected and the buyer knows of it, unless the buyer was aware the sale constituted a breach of the security agreement]. Similar protection is given to a lessee leasing goods in the ordinary course of business]. The Act also details priority rules concerning ‘fixtures’ (goods affixed to immovable property) and ‘accessions’ (goods installed in or affixed to other goods). A secured party who holds a priority interest in a fixture or accession may remove it upon default, provided they reimburse those with an interest in the immovable property or the whole goods for the cost of repairing physical injury caused by the removal, excluding diminution in value.
REGISTRATION SYSTEM
What is the role of the Authority and CRIB?
The powers and duties pertaining to registration are carried out by the Authority. The electronic Register (of security rights and movable property) is established, maintained, and operated by CRIB.
The Register can be searched easily and promptly using the debtor’s unique identification number, the financing statement number, or other prescribed criteria.
What are financing statements?
The financing statement is the document that perfect registration. The financing statement must include:
- The debtor’s name;
- The debtor’s unique identification number;
- The secured party’s name and address;
- A description of the collateral;
- The duration of the filing; and
- The maximum amount of the obligation secured; and
- Such other information as may be prescribed.
It must be filed in the prescribed form.
The person filing must confirm that the underlying security agreement has been made or that the debtor consents to the filing. A financing statement can be filed before or after the security agreement (except when the collateral consists of consumer goods).
When is registration confirmed?
A financing statement becomes registered when the Registrar assigns a date, time, and a unique number (the “financing statement number”) to it. The registration of a financing statement does not, however, constitute constructive notice or actual knowledge of its existence or contents to any person. The registration is generally invalid if it contains an erroneous unique identification number that prevents discovery. Otherwise, defects do not affect validity unless a reasonable person is likely to be materially misled. Registered statements can be amended, extended, or discharged by filing an ‘amendment statement’. If a registration is extended, the effective time and date for determining priority remains that of the initial registration.
Can a debtor amendment the finance statement?
Where certain conditions are met (e.g., the secured obligation is performed, or the financing statement describes collateral that is not subject to the agreement), the debtor may issue a ‘requirement notice’ to the secured party to file an amendment statement or discharge the registration. If the secured party fails to comply or initiate court proceedings within fourteen working days, the person issuing the notice may file the appropriate amendment statement themselves.
What are the consequences for incorrect filing?
If any person files a financing statement without reasonable cause, confirming a non-existent security right or unauthorized debtor consent, the debtor has the right to recover damages for any loss or damage that was reasonably foreseeable as resulting from the improper filing. Similarly, the debtor can recover damages if the secured party fails to forward a copy of the verification statement within ten working days of receipt.
RIGHTS AND DUTIES OF PARTIES
What are the duties imposed on secured parties under the Act?
A secured party in possession of collateral must exercise reasonable care in its custody and preservation. Reasonable expenses incurred for obtaining, maintaining possession, and preservation are chargeable to the debtor and secured by the collateral. The secured party may use the collateral only as provided for in the security agreement, for preservation purposes, or according to a court order.
What are the rights of a debtor under the Act?
The debtor or their authorized representative has the right to request, via written notice, certain information from the secured party, including a written statement of the amount of indebtedness, a description of the collateral, or a true copy of the security agreement. The secured party must respond within fifteen days of receiving the notice, subject to the advance payment of a prescribed fee (although a debtor is entitled to a free reply once every six months). Failure by the secured party to respond without reasonable excuse, or providing an incorrect response, leads to liability for any foreseeable loss or damage. A Magistrate’s Court has the power to order compliance with the debtor’s request.
For further information, please contact:
Manjula Sirimanne, Partner, D. L. & F. De Saram
desaram@desaram.com
