Pledge is bailment of goods, by way of security, for payment of a debt, or performance of a promise, against some loans [Section 172]

Person who delivers the goods as security is pledgor or pawner Person to whom the goods are so delivered is pledgee or pawnee In pledge, only the possession is given to the pledgee; the ownership still remains with the pledgor

Till the amount of loan is repaid, no other creditor, person or authority, including the government, can take possession of such goods Bank of Bihar vs State of Bihar and Others (1971, Comp. Case 591) As the pledge is also a kind of bailment itself (but, delivered as security against some loan), all other provisions of law, pertaining to bailment, will likewise equally apply in all the cases of pledge, too.

Mai

aract ri tics ristics

il r t

f Pl
il ent, that is,

These re si

those of ; it

(a) Deli er f constr cti e.

ay e eit er act al r

(b) Goods are deli ered as ledge, as security against some loan, and t ese goods must be returned to t e ledgor, on repayment of t e loan amount in full, it interest and ot er charges. (c) he specific goods pledged, must be returned.

Duti s
(a)

f Pl

(si il r t t

se f B il r)

o take due care of the goods pledged

(b) Not to make any unauthorised use of the goods pledged (c) Not to mix up the pledgors goods ith his own, failing which he must pay different types of damages where such mixed up goods can be separated or not separated (d) o return pledged goods or to deli er them as per pledgors direction, without demand, immediately after loan is repaid on demand, or when falling due. Otherwise, pledgee must compensate pledgor for any loss, destruction or deterioration of goods caused thereby o return any accretion (addition) to the bailed goods

(e)

Ri
1.

ts

f a Pl

cti

o sue pledgor, when he fails to repay his debt, or defaults in completion of performance, as promised o retain possession of goods pledged, as a collateral security against the advance o sell pledged goods after giving reasonable notice, regarding the intended sale within a certain date, giving an opportunity to the debtor to repay the loan, within the stipulated time

2.

3.

Ri hts of a Pled ee [ ection

4. To sue the pledgor for recovery of the balance amount, after the sale, or to return the surplus amount, if any  If pledged goods are sold without giving a reasonable notice, such sale will be valid, but the pledgee must pay damages to the pledgor.  Before the actual sale, the pledgor has the rights: (i) To supervise the sale proceedings, to see to it that the goods fetch a reasonable price; and, (ii)To meet his obligation by way of a last chance. But he must repay the entire dues on the loan amount, and not at the lower settled price

Rights t

ue f r

me

ther

laims: e.g.

(a) For damages caused due to -discl sure of faults, defects and abnormal character, like explosive or fragile nature of goods pledged (b) For loss suffered due to defective title of the pledgor (c) For expenses incurred to preserve goods pledged (d) For injury to the goods pledged, or their deprivation by a third party, his claim covers owners rights in full, and not limited to his own interest (loan amount) alone (e) Right of lien; of articular lien on pledged goods; and also of general lien, for any other dues, but such general lien, is available only for bankers, factors, wharfingers, attorneys of High Courts, and policy brokers. [ ecti n

Rights of a Pledgor
(a) o claim return f the ledged goods immediately, after repayment of the entire dues, without making any specific demand (b) o receive reasonable notice of the ledgees intention to sell the pledged goods, due to nonpayment of the entire dues, within the specified time. Otherwise, the pledgor can claim damages for any loss caused thereby. Such sale, without notice, however, is hel vali (c) o recei e surplus amount of the sale proceeds, if any, left after the settlement of the entire dues

Rights of a Pledgor (Continued)

(d) o redeem his goods as a final opportunity before the sale, but only against full repayment of the entire dues, and not merely at the value of final sale deal (e) o claim any addition or accrual arising to the pledged goods, like dividend or bonus shares, calf born to the pledged cow, etc. (f) o claim damages, if the pledgee fails to take due care of goods pledged

Duties/Obligations of a Pledgor
(a) o disclose material fault, extraordinary risks, or explosive or fragile nature of the goods pledged, or else to pay damages caused directly thereby, whether such fault was known to the pledgor or not. (b) Liability for any loss sustained by the pledgee, due to any defect in pledgors title to the pledged goods. (c) o repay to the pledgee, any extra-ordinary expenses (not necessary expenses), for preservation of the pledged goods. (d) o repay any shortfall still outstanding, after the sale of the goods pledged.

Pledge by Non-owners
(a) Pledge by Mercantile Agent (i) If goods are already in his possession and, with the consent of the real owner, or by endorsement of the document to title to goods, but only while acting as a mercantile agent, in ordinary course of business, (i.e. from his usual place of business, during the usual business hours). It is presumed that he has express authority from the owner to pledge the goods. (ii) Such pledge will be valid only if the pledgee accepts such pledge in good faith, and not having any notice that the mercantile agent did not have the authority to pledge the goods. he onus of proof of good faith, and having no notice of lack of authority, is on the person or party, disputing the validity of such pledge.

Pledge by Non-owners

(Continued)

(b) Pledge by the seller, in possession of the goods after the sale, and by the buyer who obtains possession of the goods with the consent of the seller, before the sale ut, pledgee must have acted in good faith, thereof. and without notice of previous sale of the goods, or of the sellers lien on the goods. [ ection 30 of the Sale of Goods Act 30]. (c) Pledge by a person in possession of the goods under a voidable contact, provided: i. ii. Contract had not been rescinded by the person, (having the option to do so) before the pledge; and Pledgee had acted in good faith and without notice of any defect in the title of the pledgor, in the pledged goods.

Pledge by Non-owners

(Continued)

(d) Pledge by one of the many co-owners of the goods, if he is in sole possession thereof, but with the consent of all the remaining co-owners. (e) Pledge by a person having limited interest, upto his own interest therein. [Section 179].

Advantages of

ledge

(i) Goods pledged remain in actual and continued possession and control of the creditor, and thus, avoiding manipulation and/or misappropriation of the pledged goods, or of pledging same goods to some other creditor. (ii) Security of pledge has priority over the charge of hypothecation, though created earlier, provided the pledgee had no knowledge thereof. (iii) Pledgee can sell pledged goods, without intervention and permission of Court, after giving a reasonable notice to pledgor, regarding the intended sale.

Advantages of

ledge

(iv) If borrower becomes insolvent, the creditor can sell the pledged goods and claim for the balance amount, still due for payment. ut, the pledgee must take all possible precautions and safeguards before accepting and storing the pledged goods, and also to exercise continued vigilance and supervision over the pledged goods, always.

Appendix 16.1: Pledge, Hypothecation, and Mortgage: A Comparison

(i) Fixed (specific) vs Floating (fluid, fluctuating, changing) Charge  In pledge, the charge is specific and fixed (on specific goods. But, in hypothecation, it is a floating charge, i.e. goods in the companys godown(s) or factory premises, etc., or in transit, automatically get charged (hypothecated) to the bank. But, the moment these are taken out of the companys godowns, factory premises, etc., and/or from the possession of the company, such goods automatically get released, out of the hypothecation charge.

(ii) Sale of Goods Pledged vs Hypothecated Pledgee can sell the goods pledged, without prior permission of Court, if the pledgor fails to pay the debt, in time     But, only after giving a reasonable notice of such intended sale. Pledgor has the right to redeem [Section 177] But, in hypothecated goods, prior specific written order of a competent Court, is required Sale of hypothecated goods, without the Court permission, is possible, if the charge of hypothecation is subsequently got converted into the charge of pledge, by signing of a pledge letter, by the pledgor.

(iii) Priority of Pledge over Hypothecation Charge of pledge, created after hypothecation, has priority thereto, provided the pledgee did not now, and did not have any notice of the prior charge of hypothecation.

Registration of the Charge(s) of Hypothecation

Under Section 125 of the Companies Act, 1956, the charge of hypothecation of stocks of inventories and book debts is required to be registered with the Registrar of Companies concerned. Application and legal agreement documents, should be `filed in the office of Registrar of Companies concerned, by the borrower or creditor, within 30 days, from the date of the execution of the legal documents, on Form8, in triplicate.

Registration of the Charge(s) of Hypothecation

(Continued)

Application for modification or satisfaction of charge, however, is submitted on Form-10 and Form-17, respectively, in triplicate.
Under Section 12 of the Companies Act-195 , the date of otice of the Charge is the date of e ecution of the agreement documents, for creation of the charge, for computing the date and time of its registration.

Registration of the Charge(s) of Hypothecation

(Continued)

Priority between Charges of Hypothecation- Charge created earlier, but filed for registration afterwards (But, within 30 days): Such charge (executed earlier) will have priority over the other; even if filed for registration subsequently (But, within 30 days of the execution of the agreement documents). herefore, banks, before granting any advance to a Company, against charge of pledge or hypothecation, undertake a thorough search in the office of the Registrar of Companies, to ascertain, whether any of the goods, now being charged to the bank, are already charged to some other creditor(s).

Registration of the Charge(s) of Hypothecation

(Continued)

Further, after 30 days of submitting the application with documents in the Office of Registrar of Companies, for registration of charge, a second search is conducted in Registrars office, to verify that no other prior charge on the goods, already charged, have been registered subsequently, but within 30 days of the banks charge.

Registration of the Charge(s) of Hypothecation

(Continued)

Registration is deemed to be a due public notice and thus, any subsequent charge, on the goods concerned, even by way of pledge, will not have any priority, over such hypothecation charge. Usually, formal recording in the office of the Registrar takes some time. herefore, banks must look into all other documents filed with the Registrar of Companies, still lying pending for registration.

Registration of the Charge(s) of Hypothecation

(Continued)

Only such documents need to be verified which are filed upto one month after the execution of documents by bank. his is so, because of one of the following two reasons: i. Either, the documents (though got executed before the bank) have not been registered with the Registrar of Companies, within 30 days; ii. Or, these documents have been executed, after the bank. iii. Better, if banks will make searches in the office of the Registrar of Companies, at regular half-yearly or yearly intervals.

Registration of the Charge(s) of Hypothecation

(Continued)

Possession and Ownership In pledge, the possession of goods pledged is with the pledgee. But, in hypothecation, the possession of goods remains with the hypothecator. However, the ownership of such goods remains with pledger/hypothecator, in both the cases.

Distinction between Pledge and Hypothecation vs. Mortgage

 Charges of pledge and hypothecation are created in respect of movable goods or items only (NOT in the cases of immovable goods or items). But, the charge of mortgage is created in regard to immovable property (e.g. land and building, immovable items of plants and machinery).

Mort ages are broadly of two types: 1. Registered Mortgage, and 2. Equitable Mortgage (by way of deposit of original title deeds).

Why Equitable Mortgage?

(a) Because, stamp duty in equitable mortgage is nominal, i.e. it is to be stampled as a simple agreement, and not ad val rem (according to the value, i.e. amount of the documents). (b) Because, charge of equitable mortgage, is registered with the Registrar of Companies, which, in itself, has the effect of a public notice, as in the case of hypothecation.

How is Equitable Mortgage created?

 Directors of the Company, duly authorised by the Companys resolution, to create equitable mortgage, come to Bank Managers office.  hey then actually hand over the title deed, in original, to Branch Manager, stating that they hereby deliver the title deed to the bank, on behalf of the company, with the intention and purpose of creating equitable mortgage on the same.

 Thereupon, Bank Manager accepts title deed accordingly, and keeps it in his personal custody, on behalf of the Bank.

How is Equitable Mortgage created?

 Two witnesses, both necessarily being Bank Officers only, stand as witnesses, and sign in the Branch Document Register, along with the Bank Manager.  Title deed is delivered along with a title deed delivery letter, so as to evidence, in writing, that the title deed was actually delivered to the Bank Manager for the aforesaid purpose (and not that it was left behind by mistake).  Moreover, a proforma letter, printed as Inland Letter, signed by Directors, is also required to be posted later, per Registered Post, evidencing free will of the Directors, in signing and delivering title deed (not under coercion, etc.)

Immovable Items of Machinery

As per Transfer of Property Act, all immovable property, including immovable items of machinery, must be mortgaged Pledge and hypothecation is permitted only for movable goods and movable items of machinery). Machinery, embedded to earth, is immovable, if removable only after digging the earth. But, if its four iron frames/angles only are embedded to earth, and the four legs of say, a lathe machine, are tightened thereto, with nuts and bolts, easily removable, the machine is considered as movable.

Primary and Collateral (Additional) Securities

 Assets purchased out of the loan amount itself are primary security (like inventories and sundry debtors, financed by way of working capital loan; and fixed assets, purchased out of term loan). Any other additional securities, are known as collateral (or additional) securities.

Primary and Collateral (Additional) Securities

Additional securities are obtained by way of: i. Third party guarantee, and/or

ii. Equitable mortgage of some fixed assets or immovable properties, in addition to those purchased out of the term loan; and/or iii. By way of pledge/hypothecation of current assets, already charged against working capital loans, by way of the second charge thereon.