Secured creditors enjoy significant advantages when a debtor company becomes insolvent. Secured assets are outside of the scope of any liquidation for most purposes, and secured creditors typically have priority over unsecured creditors, as set out in the Personal Property Securities Act 1999 (PPSA).
There are, as always, exceptions. For example, s 93 of the PPSA provides that a common law lien arising from the provision of materials or services in respect of goods (e.g. the lien that a mechanic might have over a car they have repaired, to secure payment of their fee) can rank ahead of security interests in the same property.
In its decision in Maginness v Tiny Town Projects Ltd (Tiny Town),1 the High Court expanded that principle beyond s 93. It ruled that intending purchasers who had advanced money as part of a purchase price for goods have an equitable lien, even if property in the goods never passed, and that equitable lien takes priority over a secured creditor’s interest in the goods.
The Tiny Town Case
The case arose from the liquidation of Tiny Town Projects Limited, which manufactured tiny homes. When liquidators were appointed to Tiny Town, it was in the process of constructing tiny homes for six prospective purchasers. Each of the prospective purchasers had signed a contract, and either partly or wholly paid the purchase price for their home. Because the homes had not been completed, the Court held that property in the homes remained with Tiny Town. As a result, the prospective purchasers were not yet “buyers” for the purposes of s 53 of the PPSA (which would have entitled them to take title free of security interests).
Because property in the homes remained with Tiny Town, and s 53 did not apply, Tiny Town’s secured creditors asserted that they had priority to the tiny homes.
An equitable lien?
The purchasers argued that equity should recognise a lien in the tiny homes, up to the value of the funds they had advanced. They also argued that the lien took priority over the registered security interests.
An equitable lien enables a party to resort to a specific asset as security for the discharge of a liability owed to the lien-holder by the asset’s owner. An equitable lien survives the liquidation of the asset owner. It does not arise by agreement between the parties, but instead arises as a matter of law in respect of claims “which equity considers the [asset owner] is in conscience bound to perform in order to do justice between the parties”.
The Court has never before recognised a lien in the circumstances arising in this case. However, the High Court decided that the developing principles of equity enable and support the imposition of an equitable lien. The Court emphasised that:
“…an important feature [of the case] is that the partly constructed tiny homes are readily identifiable as having been applied to the separate contracts with the individual purchasers they relate to. … The company could not, in any sensible commercial sense, have sold the tiny homes to anyone other than the identified purchasers. … In those circumstances I consider equity’s response should be to support an equitable lien over the partly completed homes in favour of the purchasers to the extent of the value of the purchase moneys paid by the individual purchasers.”
The priority contest: registered security interest v unregistered equitable lien
The next question was who had the priority claim: the registered security interest, or the unregistered equitable lien?
Section 23(b) of the PPSA provides that the PPSA does not apply to liens arising by operation of law. The Court held that this provision applies to equitable liens. It further held that, as the PPSA did not apply, the equitable liens had priority over the security interests held by Tiny Town’s creditors. The Court’s reasoning was that “such priority is consistent with or analogous to the priority provided [to] the other types of non-consensual lien by s 93” of the PPSA.
By reasoning from analogy from s 93, the Tiny Town decision significantly expands the exception contained within that section.
Prospective purchasers’ interests are largely protected when they become a “buyer” of the property, as s 53 PPSA provides that they then take free of prior security interests granted by the seller. Until property passes, however, prospective purchasers would generally rank behind the registered security interests. There are exceptions if the secured creditor has ceded priority to the subsequent purchasers, or it would otherwise be unconscionable for it to assert its priority, but there was no detailed consideration of whether that happened in this case.
In the absence of those considerations, especially in the absence of a recognised category of lien, the secured creditor might have expected its interest to prevail. Both secured creditors and prospective purchasers will need to re-assess that position in light of the Tiny Town decision.
For prospective purchasers, the decision provides the prospect of relief in the event of liquidation. For secured creditors, it is likely to be an unwelcome result, given that they may not have the priority they expected to have.
If you have any questions or require any other guidance, please contact our team or your usual Bell Gully adviser.