Most will well agree that the onslaught of the global economic crisis in 2008/09 accentuated the importance of understanding how the financial condition of banks affects loan growth and credit expansion.
Although according to the Bank of Tanzania’s Financial Stability Report 2011 banks in Tanzania suffered negligible impact from the crisis, it is highly germane that liquidity within the banking and financial sector is maintained.
A reduction in funding liquidity causes significant distress in the economy with companies on the brink of insolvency lagging behind on their trade credits. An upsurge in such trends frequently drives the increase in non-performing loans (NPLs) thereby leaving banks largely exposed.
To redress this effect, banks may find it necessary to resort to various debt recovery measures, including receivership.
A widely-held view is that a receiver and manager appointed out of court by a bank wields extensive power over the assets of a debtor secured in a mortgage or debenture instrument, which read together with the deed of appointment, typically stipulates that the receiver and manager appointed will act as the agent of the debtor.
Viewed from the bank’s perspective, this is a decisively important stipulation which clarifies that the receiver and manager is not an agent of the bank and that, as principal, the bank is not liable for the acts and defaults of a mortgagee in possession (MIP).
Conceivably, one of the basic reasons why banks may choose to appoint a receiver and manager, rather than enter into possession as a mortgagee, is rooted in the concept of equity. In equity, mortgagees, once they entered into possession, were more susceptible to account, in pronounced strictness, for the rents and profits derived and for what they might, excepting willful default, have derived during their possession.
Such an account could give raise to a counterclaim and thwart a mortgagee’s prayer for summary judgment.
In order, therefore, to circumvent this challenge, from the 1800s onwards, mortgagees developed a technique by which they could escape liability to a mortgagor as a MIP. The technique involved inserting a clear contractual provision to the effect that any receiver would always be the agent of the mortgagor, rather than of the mortgagee/bank.
Indeed, in the case of Gosling v. Gaskell  A.C. 575, Lord Davey (as he then was) opined that there “can be no doubt that, at the date of appointment, the receiver, though nominated by the mortgagees, became, both in fact and in law, the agent of the mortgagor [debtor].
That he was so by the express terms of the power under which he was appointed is undisputed. The purpose for which he was appointed was in order to make provision for payment of the mortgage debts, which was a purpose of the [mortgagee]”.
That the courts have unwaveringly declined to debunk the agency as a legal fiction is evident from the fact that a hundred-and-one years later, in 1998, Hon. Mackanja, J (as he then was) acknowledged and agreed, in the the case of Calico Textiles Industries Ltd (Acting through Nimrod Elireheemah Mkono, a duly appointed Receiver and Manager) v. Zenon Investments Ltd, Registrar of Titles and NBC, High Court of Tanzania at Dar es Salaam, Misc. Civil Cause No. 10 of 1998 (unreported), that the debenture under which Mr. Mkono was appointed rightly declared that the receiver and manager is the agent of the debtor.
It is not surprising, therefore, that until now, banks provide in the mortgage or debenture instrument and the deed of appointment that the receiver and manager is appointed as the agent of the debtor.
Off the top of one’s head, this agency, fittingly described as one of “convenience”, may appear somewhat strange given that the agency is notably distinct from the well-known tenets of agency law.
In addition, the strange nature of the agency can be seen from the fact that the desires of the bank are a lot different from those of the debtor: Whereas the bank’s biggest desire is to get its loaned funds back as quickly as possible, the debtor’s biggest desire is to see the secured asset dispose of for the steepest price it can fetch.
The desire for the asset to sell for the steepest price it can fetch is normally driven by directors and guarantors aiming to limit their personal liability to the bank if the loan is not completely discharged by the proceeds from the disposal of the asset.
In reality, it is this kind of situation created by the strange agency position that puts pressure on the receiver and manager. The effect of appointing the receiver and manager as the agent of the debtor is, however, to release the bank from the liabilities of a MIP and to make the debtor assume the liability for the acts and defaults of the receiver and manager.
It needs to be underscored that the agency was described in R v Board of Trade ex parte St Martins Preserving Co Ltd  1 QB 603 as being “special and limited in its character”. The agency is special in that, with the exception of the bank which made the appointment, the principal (debtor) cannot dismiss the receiver and manager. The agency is limited in that its overarching role is to safeguard the bank from the liability of a MIP.
Professor Finn (as he then was) scrutinized this contrivance in his work ‘Fiduciary Obligations’ (Sydney: Law Book Company, 1997) and determined that there’s no rationale for imposing fiduciary obligations where, even though the receiver and manager accepts to act for a mortgagee/bank, the mortgagee/bank is able to control what powers he can execute.
Professor Finn added that since a receiver and manager is made the agent of the mortgagor/debtor, the receiver–mortgagor/debtor relationship becomes one founded upon agreement and escapes the imposition of general fiduciary obligations.
What’s more is that the agency of a receiver and manager will run during the course of the receivership unless and until the debtor goes into liquidation; although this does not affect the receiver and manager’s power to deal with and realise secured assets.
A receiver and manager will also ordinarily insist on a broad indemnity from the appointing bank in connection with all liabilities, including his remuneration and any costs and expenses incurred while acting in that position.
Yet while Section 413(1) and (4) of the Companies Act, 2002 entitles a receiver and manager, in respect of those liabilities, to indemnity out of the debtor’s assets, such entitlement is only as good as the value of the secured assets. Hence, just in case there’s a deficit, the bank will bear the burden of these liabilities.
Against the backdrop of this time-honored historical justification for the appointment of a receiver and manager as an agent of the debtor, it is vitally important to consider how the Income Tax Act, 2004, the Companies Act, 2002, and the Mortgage Financing (Special Provisions) Act, 2008 may impact on this agency and the perspicacity of the conventional manner of appointment.
One of the key issues that arise in receivership relates to unpaid income tax. According to Section 116(3) of the Income Tax Act, 2004 (‘ITA 2004), income tax that is due or will become due by a debtor to the Tanzania Revenue Authority (TRA) must be set aside and remitted to the TRA after payment of any debts having priority over income tax. So, then, what debts have priority over income tax?
The claims of banks, as secured creditors, under any floating charge created by the debtor and paid out of the charged assets have a higher priority than preferential debts such as government taxes and rents. This is in accordance with Section 367(6) of the Companies Act, 2002 (‘CA 2002’). But it should be noted that the position of fixed charges is not explicitly provided for in the CA 2002.
This means there is no basis of giving priority to preferential debts over debts secured by fixed assets; thus, put simply, income tax is not a debt that receives priority over debts secured by a fixed charge.
Nevertheless, by utilizing Section 117 of the ITA 2004, the TRA may gain the benefits of a statutory charge. Under this provision, the TRA may issue a notice in writing to any third party who owes/holds, or may subsequently owe/hold money, to or for and on behalf of a debtor requiring the third party to pay, on account of and to the extent of the income tax due by the debtor, the money directly to the TRA on the date specified in the notice so that the money may be applied towards reducing or eliminating the debtor’s tax liability.
In light of this provision, the TRA could take the view that where any money is owed by the buyer of a debtor’s asset(s) subject to a fixed charge to the receiver and manager, the buyer’s obligation, thereupon, to pay the TRA under the notice is unfettered. This view would apply to a sale by a receiver and manager appointed in the conventional manner as the agent of the mortgagor and the mortgagor is served by the TRA with the notice for unpaid income tax.
However, the result would be different in the case of a sale by a mortgagee (bank) or if the receiver and manager was unmistakably appointed as an agent of the bank, as here the bank would owe the debt, thereby negating the efficacy of the notice. This is why banks should, going forward, think wisely about the most efficacious way of enforcing security interests if aware of unsettled tax liability owed by a debtor to the TRA.
A second, but related, key issue in the milieu of receivership is the tax liability of a receiver and manager acting as trustee of a bankrupt person (debtor). Section 52 of the ITA 2004 imposes an obligation upon trustees, in respect of any income derived in their capacity as trustees. Thus, the receiver as trustee for a debtor is liable to tax that arises in the course of the trusteeship.
This brings to the fore the crucial question as to whether tax must have been assessed before a trustee can set aside money to pay the tax, which is or will become due by the debtor as a result of the trusteeship?
Interestingly, the TRA’s view to this question could be that the obligation to set aside money can arise in respect of tax that’s yet to be assessed. This view is guided by the notion that, on the whole, a trustee will be in possession of adequate information or at a minimum be entitled to access information to compute the tax that will become due upon deriving income in the capacity of trustee.
Still, there may be a big difference between a receiver and manager’s access to information, as a trustee, and the information that’s in fact obtainable by a receiver and manager.
A third key issue is whether a receiver and manager, who disposes of a capital gains tax (CGT) asset as a debtor’s agent, is obliged under Section 116(3) of the ITA 2004 to set aside money to pay the CGT which is, or will become, due as a result of disposing of that asset?
Here, the TRA’s view could be that any increase in the value of an asset prior to the appointment of the receiver and manager does not affect the amount of the gain. Likewise, the TRA could take the view that the gain arises right from the occurrence of the CGT event.
This will be of particular interest to banks, receivers and managers, and in-house legal counsels. Banks are indubitably concerned with the view that, by the operation of Section 117 of the ITA 2004, the TRA has a priority over a debtor’s assets secured under a fixed charge, since, as mentioned above, the position of fixed charges is not explicitly provided for in the CA 2002.
It will also be of interest to see if the TRA will reject the idea that a MIP does not assume a fiduciary relationship with the mortgagor/debtor; and is not, in general, a trustee of the debtor for the purpose of Section 52 of the ITA 2004.
Bearing in mind the misgivings that banks may have, it must be noted that there’s no ambiguity about Section 116(5) of the ITA 2004, which provides that the receiver includes any person who, with respect to an asset located in Tanzania, is a MIP. With this provision, it is entirely clear what the TRA’s approach may be where a deed of appointment expressly states that the receiver and manager is appointed as the agent of the bank, rather than the debtor.
A fourth key issue that may arise in receivership relates to the requirement for a bank’s consent to transfers, assignments and leases as set out under Section 123 of the Mortgage Financing (Special Provisions) Act, 2008. Where the mortgaged property is for commercial leasing purposes, it will often be leased to tenants.
The impact of this provision on a receivership where the receiver and manager is appointed as the agent of the debtor is that, a lease signed after registering a mortgage is invalid unless the bank has consented to the lease before it is registered.
On the one hand, if the bank has consented, it cannot override the tenant’s interests under the lease, on the other hand, if the bank has not consented to the subsequent lease, the lease will not be binding on the bank.
However, notwithstanding that a bank has not consented to a lease, the validity of the lease as between landlord and tenant stays unaffected.
This can create difficulties where a receiver and manager, appointed as a debtor’s agent, seeks to enforce a right to possession of the leased property on the basis that the bank, which appointed the receiver and manager, has not consented to the lease. It is quite clear that the result would be different where the bank or its agent (rather than the receiver and manager as the debtor’s agent) makes a claim for possession.
From the above, it follows that the express appointment of a receiver and manager as the bank’s agent, will sidestep the reasoning put forward by tenants that may have inked agreements with the debtor, as lessor, without the mandatory consent of the bank.
A fifth issue that may arise is amendment of the lease provisions, which may have been acknowledged and accepted by the mortgagor (i.e. lessor/debtor) and the tenant, without the consent of the bank. Ongoing concern exists around the efficacy of an amendment of a lease, made without a bank’s consent, against a receiver and manager who has been appointed as the agent of the mortgagor.
Basically, a bank consenting to a lease consents to the entire lease including the rent charged to the tenant. This is why the rent charged is expected to be under close monitoring if the income from the lease is efficiently covering mortgage repayments.
A bank is, possibly, not bound by amendments to a lease between lessor and lessee, where those amendments were effected after the bank had consented to the lease. But this must be read thoughtfully due to the position of a bank, as mortgagee, under Section 128(5) of the Mortgage Financing (Special Provisions) Act, 2008; and more so, if at the time of amending the lease, the lessor, as mortgagor, was in default under the mortgage.
All the same, a bank would not be bound by an amendment to a lease, to which that bank did not consent.
In addition, an amendment to a lease, where the lease has been originally consented to by a prior registered mortgagee, will not bind the bank regardless of the nature of the amendment, in the absence of the bank’s consent to the amendment.
As a result, if a mortgagor/debtor entered into a validly amended lease agreement with a tenant, the mortgagor’s receiver and manager cannot argue that the amendment is not binding on them. Moreover, a tenant may not be required to pay the original rent to the receiver and manager.
In view of this, there are consequences that emanate from a decision to appoint a receiver and manager as the agent of the debtor. Given the prevailing economic conditions, a huge discount in rent will be a matter of concern especially if extended to a number of tenants in big commercial premises such as Mlimani City shopping complex, TanHouse Office Tower, Viva Towers, IT Plaza, etc. The need for caution by banks and their in-house legal counsels should be straight obvious.
In conclusion, the cogency of the conventional manner of appointing a receiver and manager as an agent of the debtor is, in the above specific instances, questionable and may be detrimental pecuniary-wise to banks.
While the conventional manner of appointment may be suitable in many situations, in other settings the outcomes may well be unfavourable to the interests of the bank making the appointment. In the absence of proper due diligence regarding tax liability, consents and amendments to leases, a decision to follow the conventional manner may turn out to be embarrassing for in-house legal counsel and the bank.
The key issues discussed in this article all embody circumstances where the appointment of a receiver and manager made expressly in the non-conventional manner as the agent of the mortgagee/bank, rather than the debtor, maybe to the advantage of the bank.
Quintessentially, antediluvian concerns about the liabilities of a MIP should not consistently decree the manner of appointment by a bank in the absence of giving careful thought about the real circumstances that may arise in a receivership.