Pledge may be defined as the bailment of goods as security for payment of a debt or performance of a promise. Bailment means the delivery of goods by one person to another for some purpose, under a contract that the goods shall, when the purpose is accomplished, be returned or otherwise disposed of according to the directions of the person delivering them. The person, who delivers the goods, as security is called thc ‘pledgor’ and the person to whom the goods are so delivered is called the ‘pledgee’. The ownership remains with the pledgor. It is only a qualified property that passes to the pledgee. He acquires a special priority and lien which is not of ordinary nature and so long as his loan is not re aid no other creditor or ‘authority ‘ can take away the goods or its price.
A pledge is created only when the goods are delivered by the borrower to the lender or to someone on his behalf with the intention of their being treated as security against the advance. Delivery of goods may, however, be actual or constructive. It is constructive delivery where the key of a godown in which the goods are kept or documents of title to the goods are delivered. Similarly, where the goods continue to remain in the borrower’s possession but are agreed to be held as a ‘bailee’ on behalf of the pledgee and subject to the pledgee’s order, it amounts to constructive delivery and tantatmounts to valid pledge.
Under English Law, however, the delivery of documents of title to goods (except a bill of lading) by the owner of the goods to the lender is not considered as a valid pledge.
Advantages of Pledge
To a banker, pledge is perhaps the most satisfactory mode of creating a charge on securities. It offers the following advantages :-
- The goods are in the possession of the bank and, therefore, in case the borrower makes a default in payment, they can be disposed of after a reasonable notice.
- Stocks cannot be manipulated as they are under the banker’s possession and control.
- In the case of insolvency of the borrower, bank can sell the goods and prove for the balance of the debt, if any.
- There is hardly any possibility of the same goods being charged with some other party if actual possession of the goods is taken by the banker.
Who may Pledge ?
Besides owner of the goods, any of the following persons may .create a valid pledge :
1. Mercantile agent who is in possession of goods or documents of title to goods, with the consent of the owner.
2. A person who has obtained possession of goods under a voidable contract and that contract bas not been rescinded at the time of the pledge.
3. A seller who continues to be in possession after sale, with the consent of the buyer.
4. A buyer in possession of the goods, with the consent of the seller, after agreement to sell but before completion of sale.
5. A pledgee may create a valid pledge by repledging the goods and the pledge is valid to the extent of his interest in the said
Rights of a Pledgee
If the pledgor fails to pay his debt or complete the performance, of obligation at the stipulated time, the pledgee can exercise any of the following rights :
1. bring a suit against the pledgor upon the default in redemption of the debt or performance of promise and retain possession of goods pledged as collateral security; or
2. sell the things pledged on giving the pledgor reasonable notice of sale.
In case, the goods pledged when sold do not fully meet the amount of the debt, the pledgee can proceed for the balance. If, on the other hand, there is any surplus, that has to be accounted for to the pledgor.
Before sale can be executed, a reasonable notice must be given to the pledgor so that;
(a) the pledgor may meet his obligation as a last chance.
(b) he can supervise the sale to see that it fetches the right price
Allahabad High court held that reasonable notice means a notice of intended sale of t security by the creditor within a certain date so as to afford an opportunity to the debtor to pay up the amount within the time entioned in the notice. Notice of sale is essential even where the agreement specifically excludes it.
However, the sale made by the pledgee. without giving a reasonable notice to the pledgor is not void, i.e., cannot be set aside. The pledgee will be liable to the pledgor for the damages.
In addition to the rights mentioned above, a pledgee has following rights:
- It is the duty of the pledgor to disclose any defects or faults in the goods pledged which are within his knowledge. Similarly, if the goods are of an abnormal character say, explosives or fragile, the pledgee must be informed. In case the pledgor fails to inform such faults or abnormal character of the goods pledged, any damage as a result of non-disclosure shall have to be compensated by the pledgor.
2. The pledgee has a right to claim any damages suffered because of the defective title of the pledgor.
3. A pledgee’s rights are not limited to his interests in the pledged goods. In case of injury to the goods or their deprivation by a third party, he would have all such remedies that the owner of the goods would have against them.
4. A pledgee has a right to recover any extraordinary expenditure incurred for the preservation of the goods pledged.
Duties of a Pledgee
1. The pledgee is required to take as much care of the goods pledged to him as a person of ordinary prudence would, under similar circumstances, take of his own goods of a similar nature.
2. The pledgee must not put the goods to an unauthorized use.
3. The pledgee is bound to return the goods on payment of the debt.
4. Any accruals to the goods pledged belong to the pledgor and should be delivered accordingly. Thus, for example, if the security consists of equity shares and the company issues bonus shares to the equity shareholders, the bonus shares are the property of the pledgor and not the pledgee.
Rights and duties of a Pledgor
I. The pledgor has a right to claim back the security pledged on repayment of the debt with interest and other charges.
2. The pledgor has a right to receive a reasonable notice in case the pledgee intends to sell the goods and in case he does not receive the notice he bas a right to claim any damages that may result.
3. In case of sale, the pledgor is entitled to receive from the pledgee any surplus that may remain with him after the debt is completely paid off.
4. The pledgor has a right to claim any accruals to the goods pledged.
5. If any loss is caused to the goods because of mishandling or negligence on the part of the pledgee, the pledgor has a right to claim the same.
1. A pledgor must disclose to the pledgee any material faults or extraordinary risks in the goods to which the pledgee may be exposed.
2. A pledgor is responsible to meet any extraordinary expenditure incurred by the pledgee for the preservation of the goods.
3. Where the pledgee has exercised his right of sale of goods, any shortfall has to be made good by the pledgor.
4. The pledgor is liable for any loss caused to the pledgee because of defects in his (pledgor’s) title the goods.
Banker as the Pledgee
A Banker when accepting goods under pledge should take a letter pledge from the customer to include the following declarations:
1. That the bank shall have a pledge upon all the goods and documents of title delivered to him by the customer or his agent.
2. That the goods are being pledged as a continuing security to cover the existing and future debt, i.e., the amount of the loan, interest and expenses.
3. That the customer shall keep the goods insured against fire.
4. That the customer shall not repledge or otherwise encumber any of the goods pledged till the continuance of this agreement.
5. That the customer undertakes to submit periodical statements of stocks and to allow at his cost inspection by the bank from time to time of the goods as well as the borrower’s records.
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