In re Bank of Credit and Commerce International SA (No 8)

A secured creditor may claim directly against the principal debtor without first enforcing security supplied by a third party. Insolvency set-off operates automatically, but requires strict mutuality and a pecuniary cross-demand. A depositor’s charge over a deposit does not create personal liability for the secured debt or permit a third-party set-off.

A bank may take an equitable charge over a debt which it owes to its customer. The debt remains the customer’s chose in action, subject to the bank’s proprietary security interest and the customer’s equity of redemption. The bank’s insolvency does not convert that charge into one over the deposited money, nor enable the depositor to direct that the deposit discharge another person’s debt.

The joint liquidators of In re Bank of Credit and Commerce International SA (No 8) sought directions concerning two test cases. The bank had lent money to companies and had received additional security consisting of charges over deposits beneficially owned by third parties associated with the borrowers.

The Court of Appeal, in the decision reported at [1996] Ch. 245, considered a charge by a bank over its own indebtedness conceptually impossible, but held that the contractual restriction on withdrawal of each deposit nevertheless created effective security as a flawed asset. The borrowers appealed in conjoined appeals.

The central issue was whether the liquidators could recover the loans in full without first applying the deposits, leaving the depositors to prove in the liquidation, or whether insolvency set-off or equitable principles discharged the borrowers to the extent of the deposits.

Held, unanimously, dismissing both appeals. Lord Hoffmann delivered the leading speech. Lord Goff of Chieveley, Lord Nicholls of Birkenhead, Lord Hope of Craighead and Lord Hutton agreed with his reasons.

1. Per Lord Hoffmann, a secured creditor ordinarily has a choice of remedies. It may sue the principal debtor without first resorting to its security. Payment of the debt releases the security, but the depositor remains subject to the ordinary consequences of the bank’s liquidation.

2. Per Lord Hoffmann, rule 4.90 of the Insolvency Rules 1986 operates automatically when its conditions are satisfied. It extinguishes the mutual claims and leaves only the balance. Mutuality is strict: the debt owed to a third-party depositor cannot be set off against the borrower’s liability, even with the parties’ consent. The separate legal personalities of the depositor and borrower could not be disregarded.

3. Per Lord Hoffmann, the security documents created no personal liability on the depositors’ part. They were effective through the restriction on repayment and, contrary to In re Charge Card Services Ltd. [1987] Ch. 150, through an equitable charge over the deposits. A depositor’s claim against the bank is a chose in action and therefore property. The bank can hold a proprietary security interest in that debt without merger because the depositor retains title subject to the charge and an equity of redemption.

   The descriptions of a bank’s supposed lien in Halesowen Presswork & Assemblies Ltd. v. National Westminster Ltd. concerned the possessory meaning of “lien”; they did not preclude every proprietary interest in a debt owed by the secured party. Whether a bank deposit constituted a book debt requiring registration under sections 395 and 396(1)(e) of the Companies Act 1985 was left open.

4. Per Lord Hoffmann, rule 4.90 requires at least a right to make a pecuniary demand. A right to appropriate property under one’s control, or to obtain discharge from a liability, is insufficient. The depositors therefore could not manufacture a post-liquidation set-off by directing the bank to apply their deposits to the borrowers’ debts. Such an arrangement would conflict with pari passu distribution.

5. Per Lord Hoffmann, the money deposited became the bank’s property. The charges attached instead to the depositors’ debts against the bank. The bank’s insolvency was consequently no breach of duty in its capacity as chargee. It could restore the security by releasing the charge, which in any event ceased when the secured debt was paid. Its inability to repay the deposit in full was irrelevant to restoration of that security.

6. Per Lord Hoffmann, marshalling was unavailable. That doctrine concerns competing creditors of the same debtor where one may resort to more than one fund and the other to only one. Here there was only one principal debt, owed to the bank, and no equity required the bank to enforce the third-party deposits before proceeding against the borrowers.

• House of Lords: The conjoined appeals were dismissed unanimously. The decision reported as In re Bank of Credit and Commerce International SA (No 8) [1996] Ch. 245 was left undisturbed in result, although its reasoning that a charge over the bank’s own indebtedness was conceptually impossible was rejected.
• Court of Appeal: The court held that the purported proprietary charge was conceptually impossible, but that the contractual restriction on withdrawal of the deposits created effective security as a flawed asset.
• Origin: The proceedings began as an application by the joint liquidators for directions, using two sets of lending and third-party deposit arrangements as test cases.