Assignment of Sale Proceeds Not an Interest in Land, Hong Kong Court Rules

Hong Kong’s Court of Final Appeal confirmed in a recent appeal ruling that an assignment of sale proceeds of an immovable property did not create any interest in land.

The case of Winland Finance Ltd v. Gain Hero Finance Ltd [2022] HKCFA 3 concerned a competing priority of two interests - a loan agreement in favour of Winland Finance Ltd. (Winland); and a charging order in favour of Gain Hero Finance Ltd. (Gain Hero).

Background

Tang Shung Ching Sabin (Tang) was the registered owner of a flat and a car parking space (Property) in Lung Cheung Court, No. 29 Broadcast Drive, Kowloon constructed under a Government's housing scheme for civil servants. Tang took assignment of the Property from The Financial Secretary Incorporated (FSI) in 2004.

The assignment was subject to a non-alienation covenant which could usually be removed upon application and payment of a premium to FSI. The non-alienation covenant prohibited Tang from selling and mortgaging the Property without previous written consent of FSI. To secure the performance of the non-alienation covenant, Tang entered into a legal charge of the Property in favour of FSI.

Without applying for FSI consent, Tang obtained loans from (amongst others) Winland and Gain Hero by using the Property as "security". The legal documentation for this type of loan, which involves an immovable property subject to non-alienation covenant, commonly may comprise three components: a loan agreement, an assignment of the sale proceeds of the immovable property, and an irrevocable power of attorney given by the owner in favour of the lender granting power of sale. None of the components has the effect of creation of a mortgage or charge over an immovable property – but whether they constituted a breach of the non-alienation covenant was not an issue in this court case.  

In the case of Winland, HK$2.2 million was lent to Tang under a loan agreement dated 23 July 2014 (which had all the 3 components mentioned above) (Winland Agreement), which was registered in the Land Registry against the Property.

In the case of Gain Hero, HK$1 million was lent to Tang under a loan agreement dated 27 November 2014 (Gain Hero Agreement), and also registered in the Land Registry against the Property.

Shortly thereafter, Tang defaulted in repayment of the loan due to Gain Hero. In June 2015, Gain Hero obtained judgment against Tang and a charging order nisi against the Property. The charging order nisi became absolute in August 2015. Both charging orders nisi and absolute (charging order) were registered in the Land Registry, which Gain Hero applied to court to enforce by way of sale of the Property. Pursuant to the court's order for sale, the Property was eventually sold for HK$10.8 million.

Disputes

The order for sale stipulated that (amongst others), sale proceeds of the Property should be applied to discharge all encumbrances ranking immediately prior to Gain Hero's charging order – and the surplus would then be applied to discharge the sum secured by the charging order.

Winland claimed that it had priority over Gain Hero to the surplus because the Winland Agreement was registered prior to the Gain Hero Agreement and the charging order.

Judgment

At the Court of First Instance (CFI), Deputy High Court Judge Keith Yeung SC ruled in favour of Gain Hero ([2019] HKCFI 771). 

It was held that the Winland Agreement only created at best an equitable charge on future proceeds of sale of the Property; did not create any interest in land; and was therefore not registrable in the Land Registry under the Land Registry Ordinance. The registration of the Winland Agreement was ordered to be vacated from the Land Registry.

On other hand, the charging order – which was a statutory charge created by s.20A of the High Court Ordinance – did create a charge on the beneficial interest held by Tang in the Property. Therefore, Gain Hero had priority to the surplus of sale proceeds over Winland. The CFI's decision was affirmed by the Court of Appeal (CA) ([2021] HKCA 576).

At the Court of Final Appeal (CFA), the issue was who had the priority to sale proceeds of the Property? Winland as the earlier assignee of sale proceeds of the Property? Or Gain Hero as the later chargee of the charging order?

Winland argued that:

1. The charging order could only be enforced by an order for sale of the Property pursuant to s.20B of the High Court Ordinance.
2. Therefore, the charging order gave Gain Hero only the right to apply the sale proceeds of the Property to satisfy the debt secured by the charging order.
3. Between Winland and Gain Hero, it was a competition of priority to the sale proceeds (not a competition of priority of interest in land).
4. Since the Winland Agreement operated as an assignment of sale proceeds in the Property, and was created earlier than the charging order, Winland should have priority to the sale proceeds over Gain Hero.

The CFA dismissed the appeal. In judgment of the CFA, Chief Justice Cheung ruled:

1. There was no appeal from the CFI's decision that the Winland Agreement did not create any interest in land. When the charging order was granted to Gain Hero, the Property was not incumbered by the Winland Agreement.
2. On the other hand, the charging order did create interest in land and was registrable. It was incorrect to say that the charging order merely gave the chargee the right to sale proceeds. 
3. The Winland Agreement operated as an assignment of Tang's future entitlement to the sale proceeds of the Property to Winland. Tang's entitlement to the sale proceeds ranked after Gain Hero as chargee under the charging order. It followed that Winland's position could not be better than Tang's, and must also rank after Gain Hero's.

Commentary

It is now affirmatively clear that an assignment of sale proceeds does not create any interest in land and is not registrable in the Land Registry. In future, it is expected that the Land Registry will refuse to register an instrument which operates as an assignment of sale proceeds. 

If a lender as an assignee of sale proceeds cannot win in the priority race over a subsequent chargee under a charging order, it may however take proactive steps to set aside such charging order before it becomes absolute.

As discussed in the CA's judgment, one of the factors that the court should consider when making a charging order is "whether any other creditor of the debtor would be likely to be unduly prejudiced by the making of the order” under s.20(3) of the High Court Ordinance. The CA suggested that if Tang was insolvent at the time the charging order was made, the making of the charging order may have an impact upon the fair distribution of Tang's assets for unsecured creditors – and this may justify refusal of the making of the charging order.