Trade finance has increased the importance of secured lending. There is a clear understanding of the variety of assets that can be used as collateral. The use of dynamic assets such as accounts receivable and inventory as collateral is common. The increase in trade and the growing sophistication of legislation propelled the change. Additionally, with trade came the need to adhere not only to Vietnamese legal and trade practices, but also to international ones. Clearly, the security arrangements crafted in Vietnam are closer to international standards.
This article discusses the use of a company’s assets, such as receivables and inventory, as collateral to finance trade.
Secure operations
General rules on secured transactions between a debtor and a lender first appeared in the Civil Code of 2005[1]. These rules reflected then-recent developments in secured transactions. Prior to the 2005 Civil Code, secured transactions were classified according to the nature of the asset. Movable property had been used as security in a “pledge” while immovable property had been used as security in a “mortgage”. Under the Civil Code 2005, whether a secured transaction was a pledge or a mortgage depended on whether the obligee was in possession (pledge) or not in possession (mortgage) of the collateral. The rules followed this concept even after the Civil Code of 2015[2] Has entered into force.
Under current rules, the secured interest that is created on inventory and receivables is considered a mortgage, because ownership of inventory and receivables remains with the customer – for example, raw materials used in production. This changes, of course, if the secured obligation is not satisfied when due and possession is taken by the obligee. However, whether a property is movable or immovable no longer controls. But it is still relevant to understand the deposit requirements.
Perfecting a Mortgage
The law does not require a mortgage on inventory or receivables to be registered to be effective. However, without registration, the priority of mortgages over unregistered assets can be successfully challenged by a third party who has an interest in the same assets. Another risk is that debt secured by an unregistered security may be treated as unsecured debt if the underlying asset is pledged to another lender who then registers its security. According to the 2015 Civil Code, a lender’s secured interest in registered property will take priority over an unregistered interest in the property. In the event that both mortgages have been duly registered, the lenders’ guarantee ranks according to the date of registration. It is obviously advisable for a lender to insist that the security it creates be registered, in order to ensure its priority.
There are several registration issues that a lender will want to consider. First, the current system for registering a warranty is far from perfect. A mortgage on inventory or accounts receivable, for example, must be registered with the National Secure Transactions Registration Agency (“NRAST”), while a secured interest in immovable property such as land, houses or buildings must be registered with the Land Registry Office of the Provincial Ministries of Natural Resources and Environment (“Land Registry Office”). We point out a simple problem that arises from this dual registration system. Many inventories, such as building materials and fixtures, end up becoming part of a house or building, that is, they are attached to real estate. Similarly, plants and crops are considered property attached to the land – immovable property – but they are certainly moveable property after they are harvested. Unfortunately, there is no referral rule between the two registration systems. Therefore, it is uncertain whether a security that has been registered with the Land Registry Office and which then becomes personal property, will be recognized in the same way as if it had been registered with NRAST, or vice versa. poured. We assume not.
Secondly, although access to registered movable property information is quite easy through the NRAST online database, there is not yet a comprehensive online database to track the mortgage status of a property. immovable. Current practice is for a lender to send a letter to the land registry office requesting information.
Security Agreement
Although registering a mortgage can give the lender some assurance that they will be able to collect their debt when the debtor is in default, there is no substitute for a general security agreement. The language of a security agreement for dynamic underlying assets such as inventory and receivables is often tailored to a specific fact and security situation.
For example, security agreements with collateral inventory will have special record keeping and reporting requirements. There are notification requirements if there is an intention to dispose of the assets. An agreement may require that proceeds from the sale of inventory or payment of receivables be accounted for separately. The agreement may provide that the proceeds, once received, will be deposited in an account separate from the client’s own accounts and to which separate rules apply. An agreement on supplements, modifications and changes to the underlying assets must also be entered into and registered with NRAST.
If receivables are pledged, in the event of default by the debtor, a lender should reserve the right to collect the receivables directly from the debtor’s customer. The lender may also ask the debtor’s client to pay default interest. It is also important to ensure that the lender can charge any outstanding debt to the debtor.
This is a brief discussion of security as used in trade finance in Vietnam. We anticipate that over time, the practice and sophistication of this form of asset-based financing will continue to evolve.