August 2008

Lawyers familiar with real property mortgage security will be aware that where a debtor, being the owner of an interest in real property ("Realty"), promises its creditor that the debtor will provide the creditor with a mortgage or charge against the Realty, such promise is treated as creating an immediately existing (security) interest in the Realty.  That is, a promise is treated as being a kin to the creation of a mortgage charge even before the debtor - at some point in the future - fulfills its promise by providing an actual mortgage charge in favour of the creditor.  Such immediately created interest in the Realty is frequently referred to as a species of "equitable mortgage".  As such, the making of such promise by the debtor is sufficient to justify and support the filing of a caveat against the debtor's title, such filing thereby establishing the priority of the creditor's "equitable mortgage" thus created.

But what about a situation where a debtor owning real property promises its creditor that the debtor will not mortgage, charge or create any similar security interest in the Realty?  Does such (negative) promise, often called a "negative pledge", create an immediate interest in land in favour of the creditor sufficient to entitle the creditor to register a caveat against the debtor's title?  The writer is aware of some solicitors who believe that a negative pledge creates an immediate interest in land sufficient to justify the registration of a caveat, and, that in the past, the Manitoba Land Title System has on occasion permitted the filing of caveats based on negative pledges. However, it is the writer's view that a negative pledge - without more - does not create an interest in land, thus eliminating the possibility of a creditor filing a caveat against the debtor's title; additionally the writer has been advised that the Land Titles system will not currently accept a caveat based on a negative pledge.  This is not to say that a negative pledge is an invalid undertaking between the parties to it - it is a legitimate covenant (or perhaps contractual undertaking) between the creditor and the debtor.  A negative pledge is sometimes used where the breach of the covenant by the debtor allows the creditor to accelerate repayment in full of the debtor's indebtedness, with the consequent entitlement of the creditor to commence to realize its real and/or personal property securities.

Note the writer's use of the words "without more" above. If a negative pledge is combined with a promise by the debtor to actually provide mortgage security in favour of the creditor at some point in the future, such an arrangement, or at least the part comprising the promise to provide the security at some point in the future, would constitute an interest in land caveatable by the creditor against the debtor's title.  But the creditor and its solicitor must be very careful in the wording they employ in this situation; if the debtor's promise is to provide mortgage security to the creditor upon the creditor making a demand to receive such security, such a promise would not be an interest in land, unless and until the creditor actually demanded that the mortgage security be provided to it.  On the demand being made, an interest in land would arise and the creditor could then file a caveat, although if the mortgage security was forthcoming after the demand was made, registration of the actual mortgage security would be sufficient (in most instances) without the creditor having to file a "preliminary" caveat.

Given the foregoing, a creditor would be well advised to combine a negative pledge with a promise by the debtor to provide mortgage security against the debtor's Realty by some specified deadline (presumably not too far in the future).  If the deadline arrived and the creditor felt sufficiently comfortable in continuing the existence of the debt without the acquisition of actual mortgage security, the creditor could agree to extend the time by which it had to receive mortgage security to some (again not too far in the future) new deadline date.  However, such an arrangement might leave the creditor open to the argument that the priority originally established by the creditor's caveat becomes lost upon the expiry of the original promise and that the creditor should be obliged to discharge its original caveat and file a new one based on the "extended promise".  In this situation, it is arguable that the priority of the "extended promise"  (ie as an interest in the debtor's Realty) would be subordinate to all claims and interests against the Realty which have arisen between the filing of the original promise's caveat and the filing of the creditor's new caveat giving notice of the "extended promise".