What is an Encumbered Property?
An encumbrance refers to a legal claim or liability attached to a property which restricts owner’s ability to transfer title of property. A property can be encumbered by a charge or other registered or overriding interest in the property.
In order to determine whether a property is encumbered, one may conduct a search at the Lands Registry, or the Companies Registry (to confirm whether there is a debenture that has been created over all the assets of a company if the seller is a company).
Requirement for Consent to Transfer Encumbered Property
- Consent to Transfer an encumbered property
Section 87 of the Land Act and Section 59 of the Land Registration act both provides that if a charge contains a condition, express or implied that Chargee prohibits the Chargor from, transferring, assigning, leasing, or in the case of a lease, subleasing the land, without the consent of the Chargee, no transfer, assignment, lease or sublease shall be registered until the written consent of the Chargee has been produced to the Registrar.
- Whose obligation is it to obtain consent to transfer an encumbered property?
As per section 87 of the Land Act and Section 59 of the Land Registration Act, it is notable that it is the Chargor’s and/seller’s obligation to obtain the written consent of the Chargee prior to selling any land/ townhouses/apartments/units erected on the encumbered property these includes off-plan properties.
This is further stipulated in the case of Innercity Properties Limited Vs. Housing Finance & 3 others HCCC No. E030 of 2020 where Majanja, J held as follows: “The interested parties’ case is that they purchased their apartments from the plaintiff and that they have paid the purchase price and are in possession thereof….they have not shown that they have a legal claim against the bank since the bank is the Chargee, it must give consent to the Plaintiff to sell the property. The interested parties have not shown that they received the bank’s consent to purchase the apartments or that they paid any money since they have not established a legal claim against the bank, the court cannot issue an injunction in their favour…”
In as much as it is the vendor’s obligation to obtain the Chargee’s consent to sell a charged property, the purchaser should ensure that the consent is obtained on a timely manner in order to ensure that its interest in the property are protected.
- When/at what point should the vendor obtain the consent to transfer an encumbered property?
Once the purchaser conducts its due diligence and identifies that a property is charged, the purchaser should insist that the seller should obtain the consent of the Chargee to transfer the property prior to the purchaser paying any deposit. The High Court in a recent Ruling in the case of Peter Gatete Wangai & 13 others vs. Capital Realty Ltd and Housing Finance Co. Ltd, ELC Case No. 123 of 2019 indicated that where a property is charged it is incumbent on the purchaser to ensure that the Vendor has obtained the chargee’s consent to sell the property to the purchaser prior to the purchaser committing their money. In this case the Vendor had charged the entire property to the bank to secure the financing from the bank. The vendor thereafter developed the property into various townhouses and sold the said houses to the purchasers/plaintiffs. The vendor defaulted on its facility and the Bank sought to exercise its power of sale. The purchasers/plaintiffs thereafter moved to court to seek an injunction to prevent the Bank from exercising its power of sale on the grounds that they are the beneficial purchasers for value. In refusing to grant an injunction, Angote J. stated that “…. The Plaintiffs must have been aware that the suit property was charged, and that for any sale to be valid, the Chargee was required to give his consent. All the Plaintiffs were required to do was to conduct an official search on the suit property and insist on the consent of the Chargee before committing their money. They seemed to have missed this crucial step, which is a basic requirement in this kind of transaction.”
For a sale to be recognized by a Chargee and in law, the Chargor is required to forward an original sale agreement to the Chargee for consent which consent should be endorsed on the agreement for sale.
Off plan sales have also become very popular for many Kenyans because of the discounted prices that are offered by developers. Again, this offers a flexible payment plan as the buyer can pay for the unit in instalments during the development phase. When financing developers many lenders insist on a developer procuring a certain percentage of pre-sales before draw down on the facility. It appears that in such cases, if the borrower/developer defaults in its obligations under the charge, and the Chargee decides to exercise its statutory power of sale, even these pre-sales buyers would not be protected unless where the Chargee had consented to the sales in writing. In such cases, it is important to provide under the Agreement for Sale that if the vendor/developer obtains financing from a financier then they shall notify the purchaser and obtain the lender’s consent as soon as the financier issues the developer/vendor with a letter of offer.
What are the Consequences of Not Obtaining the Consent to Transfer a Charged Property?
- Non-registration of the Instrument of Transfer
A person becomes a registered owner of a property when their name is entered in the register at the Lands Registry and a Certificate of Title issued in the proprietor’s name. Section 59 of the Land Registration Act and Section 87 of the Land Act however provides that where the consent of a Chargee to transfer the property to a purchaser has not been obtained, then the Registrar shall not register the instrument of transfer in the name of the purchaser. The purchaser will therefore not have a registrable interest.
- The Chargee may exercise its power of sale in case of default despite the sale of the property to third parties
If the Chargor/vendor defaults on its facility or fails to obtain the consent of the Chargee to sell the property to the purchaser then the Chargor defaults on its obligations under the charge to the Chargee and the Chargee may exercise its power of sale despite the sale of the units/houses/ properties to third parties.
Courts of law have been adamant in requiring a purchaser to procure the consent of a Chargee in compliance with the above provisions of the Land Act 2012 and the Land Registration Act, 2012. For instance, the High Court of Kenya has recently in the case of Capital Realty Limited vs Housing Finance & Legacy Auctioneering Services Civil Case No. 6 of 2020 where the plaintiff obtained a loan from the first defendant to develop townhouses for sale to third parties and defaulted on its loan. The first defendant proceeded to exercise its power of sale of the townhouses. The plaintiff moved to court to seek an injunction to stop the first defendant from exercising the power of sale on the grounds that the townhouses had been sold to third parties who are bona fide purchasers for value and that the first defendant was aware of the sale of the townhouses. In refusing to grant an injunction, the High Court stated that there was no evidence that the plaintiff obtained the first defendant’s written consent before the sales were undertaken and therefore the purchasers did not have a registrable property right or interest superior to that of the first defendant over the charged property and that the purchasers only recourse is for indemnity against the first defendant and not against the charged property.
A charge is an overriding interest within the meaning of Section 28 (g) of the Land Registration Act which means that the rights and interest of a Chargee in the Encumbered Property are rights in rem and therefore remain superior to any other interest even where there is a sale, transfer or any other disposition in the property.
Legal Protections for the Purchasers/Developers in case of transfer of charged property
- Consent to sell to be obtained on execution of the Agreement for Sale
The purchaser should prior to paying the purchase price, require the financier to sign an Instrument of Consent consenting to the sell of the property to the purchaser and agreeing to sign the discharge of charge in respect of the sold property. In order to ensure that the financier is also protected, the instrument of consent can provide that the consent is conditional on the purchaser paying the full purchase price in accordance with the terms of the Agreement for Sale. The financier should also be required under the instrument of consent to confirm that they are aware and in agreement of the manner in which the purchase price is to be paid by the purchaser. So that once the purchaser pays the full purchase price, then the purchaser would have been discharged from its obligations.
- Condition Precedent in the Agreement for Sale
The purchaser can insist on inclusion of a condition precedent clause in the Agreement for Sale which provides that the taking of effect of the Agreement and paying of deposit is conditional to the financier granting its consent to the sell of the property. This will ensure that the purchaser is protected prior to the purchaser committing their deposit. It will also ensure that the developer will be protected from unnecessary suits that may arise due to failure to obtain the consent to transfer the property.
- Application for Damages in Case Consent of Chargee to Sell Not Obtained
A purchaser/developer, on payment of the purchase price without procuring the consent of the charge, may institute civil proceedings against the Chargor to demand for a refund together with monetary damages.
The purchaser may also require the developer/vendor to take out an insurance cover over the property pending the transfer of the property to the purchaser. The insurance should cover cases of exercise of power of sale by a Chargee in case of default on the charge (if possible).
We trust that the foregoing is informative and helpful. If you require assistance in structuring your sale transaction or restructuring your sale transaction where consent to sell has not been obtained, please contact us and we will be happy to offer commercially viable and practical solutions.