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Under a typical loan agreement, a lender will lend money to a borrower, in return for the borrower repaying the money by a certain date, with interest.

If the borrower doesn’t repay by the due date, the lender can sue them in court. However, suing someone in court is a long and expensive process and doesn’t usually help the lender get their money back – this is because, when a borrower fails to repay their loan, it’s usually because they are in financial difficulty and simply don’t have the money to make their loan repayment.

To protect the lender from the above scenario, the lender will require the borrower to provide “security” for the loan before the loan is made. This involves the borrower granting a security interest, over all or some of its assets, to the lender to secure its obligations under the loan. This means, if the borrower fails to repay the loan, the lender can take those assets and sell them to get their money back.

A common everyday example is a loan to buy a property – the lender will lend the borrower money to buy the property, and the borrower will grant a security interest in that property to the lender (called a mortgage). If the borrower doesn’t repay the loan, the mortgage allows the lender to take the property and sell it to get its money back.

The distinction between these types of finance comes down to the purpose for which the finance will be used. The purpose will dictate how the terms of the finance need to be structured to ensure the finance supports, rather than hinders, the borrower’s business objectives.

Real estate finance supports commercial real estate activities like purchasing land, development, construction, and holding developed property. Its users are typically property developers and investors. Security under a real estate finance facility is typically a real property mortgage over the land, as well as all-asset security over the rest of the borrower’s property.

Corporate finance assists with general business operations, including operating expenses (working capital for cashflow) and capital expenditure (acquiring, maintaining or upgrading fixed assets like property, plant and equipment). Security under a corporate finance facility is typically all-asset security over all of the borrower’s property.

Asset and equipment finance is used to acquire specific assets or equipment for commercial use. Security under this type of facility is typically over the financed asset itself (as a purchase money security interest, or PMSI), and general all-asset security over the rest of the borrower’s property.

Real property is land, and anything permanently attached to it, including:

• The land – includes the ground, everything attached to it above and below the surface (buildings, minerals) and naturally occurring elements like trees and crops.
• Structures – homes, offices, factories, buildings, and any other permanent structures affixed to the land.
• Fixtures – objects that are permanently attached to the land, such as built-in cabinets, plumbing, light fixtures.

Personal property is essentially everything that is not real property, including:

• Tangible assets – physical objects you can touch and move such as clothes, vehicles, furniture, appliances, electronics, jewellery, pets, consumables (i.e. food, office supplies).
• Intangible assets – non-physical assets with monetary value such as intellectual property (i.e. patents, copyrights, trademarks), financial instruments (i.e. stocks, bonds), contractual rights (i.e. leases, licences, royalties), goodwill (i.e. the reputation and value associated with a business).

Perfecting a security interest is when a lender (or a person with the benefit of a security interest) takes specific legal steps to strengthen their claim to the property secured under a security interest. Basically, this strengthens the lender’s security interest and makes it superior to that of other creditors who have not taken these steps. If the borrower defaults under the loan and the lender decides to enforce its security (i.e. take the property and sell it to get its money back), the lender will have priority to the proceeds of sale over the other creditors (meaning it gets paid first).

There are multiple ways to perfect a security interest, but the specific method to use depends on the type of property involved:

• Registration – this involves registering the details of the security interest on the appropriate public register. For interests in personal property, registration must be made on the Personal Property Securities Register (or PPSR). For real property, registration must be made on the land register managed by the land titles office of the state/territory where the real property is located. The rationale for this, is that it enables any member of the public to search the register and discover if a security interest exists in that property, so they can make an informed decision about transacting with that property beforehand.
• Possession – for some types of tangible personal property, taking physical possession of it will amount to perfection. The rationale for this, is that when a person takes a security interest in personal property, it is prudent for them to physically inspect the property as part of their due diligence process, prior to transacting. If someone else has possession of the property when they go to inspect it, this should be sufficient to alert them to the existence of a security interest in the property (thereby enabling them to make an informed decision about transacting with the property).
• Control – for certain types of intangible personal property (i.e. investment securities or bank accounts), taking control will amount to perfection. This differs to possession because the assets themselves (being intangible) can’t be physically held, and ownership is generally evidenced by the ability to control them. For example, a lender can take control of investment securities (such as shares in a company) by holding onto the title certificates, or take control of a bank account by entering into an agreement with the bank (called an account control deed) where the bank agrees to take the lender’s instructions over the account holder.

Many businesses operate through multiple corporate entities (such as companies and trusts), each with specific roles and responsibilities in the operation of the overall business. This is referred to as the “corporate structure” or the “corporate group”.

In a financing context, different entities in the group will have different roles in the financing arrangement (i.e. as borrower, security provider, or both).

It is crucial to consider the corporate structure in a financing arrangement for several reasons:

• Restrictions on business activities – finance documents usually restrict what a borrower or security provider are allowed to do (such as granting security over assets, paying dividends to shareholders, and buying or selling assets – this can also extend to the whole corporate group). If not carefully considered, these restrictions can unintentionally hinder the day to day business activities of the group, impacting profitability in the long term. It is important to strike a balance between protecting the lender’s interests, and aligning with the group’s ongoing business needs.
• Avoid unintended defaults – inconsistencies between unrelated agreements across the group, can inadvertently trigger defaults under the finance documents (and vice versa). A default can entitle the lender/other party to demand repayment of the loan/terminate the agreement and enforce any security – causing significant disruption to business operations and potentially leading to significant financial loss for the borrower group.
• Commercial benefit – a lender must ensure that security providers receive adequate commercial benefit from granting the lender any security (otherwise the security is at risk of being unenforceable). Understanding the corporate structure will allow a lender to identify whether a commercial benefit is received or not, and make changes to the security package if needed.
• Prevent “leakage” in the security package – understanding the structure will help a lender identify any “gaps” in the proposed security package, to prevent the group from being able to transfer assets outside the scope of the lender’s security.