ITIC IN THE NEWS: Secondhand Woes - article by Andrew Jamieson in latest edition of The Baltic magazine

To see the article as it appears in The Baltic, please click here. The article can be found on page 78:

This year has seen the publication by BIMCO and the Norwegian Shipbrokers Association of SALEFORM 2012 a revised version of the industry’s main contract for the sale of second hand tonnage.

One of the new features of SALEFORM 2012 relates to the holding of deposits. The explanatory notes explain that in recent years opening a bank account has become increasingly difficult and time consuming. This means that other parties including brokers are holding funds in escrow.  In recent years ITIC has seen an increasing number of sale and purchase brokers being asked to hold deposits on behalf of the buyers and sellers.

The deposit provisions of SALEFORM 2012 cover the needs of a variety of escrow account providers (such as banks and law firms) and were not written specifically for brokers. Historically shipbrokers providing this service have usually done so under the terms of a written side letter signed by both the buyers and sellers. These escrow agreements normally cover both how the money is to be held and the grounds upon which it is to be released.

Although SALEFORM 2012 provides a space for the identity of the “Deposit Holder” to be inserted that does not make them a party to the agreement. There is nothing to stop brokers from continuing to have a separate “escrow agreement” with the parties. If they do so then it is important that the SALEFORM 2012 provisions are reviewed and if necessary amended to avoid any issues.

SALEFORM 2012 has been drafted on the basis that the Deposit Holder will open a specific account for the transaction. This provision is obviously applicable when a bank or other Deposit Holder opens a separate account in the names of both parties. In practice shipbrokers (and others) may not open a specific account.

The Baltic Code provides that members of the Baltic Exchange acting as brokers are required to operate a separate bank account for clients. Escrow agreements often specify that the money will be held separately from the funds of the broker. The parties will accordingly be protected if the broker should become insolvent.

Under SALEFORM 2012 the confirmation by the Deposit Holder that the account has been opened is one of the triggers for the buyers’ obligation to lodge the deposit. If the broker is using a general client account as opposed to setting up a specific account the provisions of SALEFORM 2012 should be amended to reflect this.

SALEFORM 2012 states the account is to be “interest bearing”. The explanatory notes observe that “The account must be capable of earning interest which is to accrue to the Deposit though it must be appreciated that the interest rate may be as low as 0%”. The obligation is likely to be interpreted as an obligation to have the money held on the terms available for immediately available deposits. Any interest on the money is to be credited to the buyers.

Once the deposit has been lodged the most obvious concern is that the broker could incorrectly release the funds and therefore face a liability. SALEFORM 2012 refers to the deposit being released in accordance with joint written instructions of the parties. That is simple and with most closings there is really little risk. The situation becomes far more complicated if there is a dispute. The contract may provide that one party receives the deposit if the other is in default but clearly the broker, faced with accusation and counter accusation can not be expected to adjudicate who is right.

Many escrow agreements in current use provide that, as an alternative to a joint written instruction, the Deposit Holder will release the funds in accordance with a final and unappealable decision of an arbitration tribunal or court. The difficulty with such wording is that the broker is not in a position to assess whether such an award is final and unappealable.

If a dispute arises then the broker should seek advice. Most court systems have a process where a person holding funds as a stakeholder can either pay disputed funds into court or otherwise ask the court to determine the issue. Sometimes a provision that the broker has the option at anytime to pay the funds into court is added to an escrow agreement.

There are a number of other protections that can be built into a specific escrow agreement. Brokers frequently ask about obtaining an indemnity from the principals. This will not prevent the broker being liable “come what may” but it is common to see something along the following lines:-

QUOTE

The buyers and sellers jointly and severally agree:-

i)  to indemnify the broker upon first demand against all losses, 
  liabilities, costs and claims and demands arising out of and in
  connection with our holding of the funds in accordance with his
  Escrow agreement; and

ii)  that the broker’s only obligation is to hold the funds upon the terms set out in this Escrow agreement.  We will have no liability or any act or omission taken or not taken by us in good faith. For the avoidance of doubt it is the burden of the party alleging we have acted in bad faith to produce evidence thereof.

UNQUOTE

The potential for a claim against the broker for negligence can be reduced by appropriate wording but not wholly eliminated. It is not however simply a question of being at fault. If a dispute arises the wholly innocent Deposit Holder can be faced with aggressively worded conflicting legal demands for the funds. Legal costs can quickly increase. Deposit Holders need to make sure they are covered by their insurers if they are dragged into a dispute.  ITIC treats holding deposits as part of the usual course of business of a sale and purchase broker and would assist the broker. Other insurers may not consider acting as a deposit holder is covered under their policies and the position should be checked.