Illustration: Bank has granted Customer an overdraft facility of £100, which is fully drawn down. Customer then creates a subsequent mortgage in charge of Friend to secure a loan of £50 made by Friend at the same time, with Friend giving notice of the mortgage to Bank. Customer then pays a cheque for £60 into the account and subsequently pays in a further cheque for £40. He then draws £100 from the account. At the end of the transaction, £100 remains owing from Customer to Bank. But, what is the priority between Bank and Friend? The answer is that Bank is entitled to priority in respect of advances made to Customer before it receives notice of Friend’s mortgage, but not in respect of advances made afterwards. Note that the credits of £60 and £40 received into the account have discharged the £100 which was owing at the time Bank received notice of Friend’s mortgage. When the further £100 was drawn by Customer, it therefore represented new money lent by Bank after it had received notice of Friend’s mortgage. The £100 owing to Bank therefore ranks behind the £50 owing to Friend – even though the actual amount of the overdraft is the same as it was before Bank received notice of Friend’s mortgage.

Thus, in Deeley [1912], A mortgaged land to the bank, to secure an overdraft on A’s current account and then, subsequently, he mortgaged it to his sister to secure a loan. After the bank had notice of the sister’s loan, the bank continued to operate the current account in the normal way. The HL held that the payment into the account discharged all indebtedness owed by A to the bank at the time the bank received notice of the sister’s mortgage and thus the sister had priority over the bank. This rule in Clayton’s Case [1816] is a presumption of fact. Thus it can be rebutted by evidence to show that it was not the intention of the parties to apply it. Needless to say, the normal practice for banks who receive notice of a subsequent charge is to close their accounts with the customer and to open new accounts which are then operated on a credit basis. This ensures that the amount lent at the time notice was received is not reduced by subsequent credits into the account. In Deeley [1912] the manager of the bank failed to comply with the bank’s rules to that effect. Needless to say, all modern banking documents specifically provide the contrary intention that is necessary to exclude Clayton’s Case; accordingly, even if the creditor does not close the existing account and open a new one, it will normally be deemed to have done so with the effect that future credits to the account will not go to discharge the debt incurred at the time notice was given. But, if there is a private loan arrangement it is sometimes worth checking whether there are provisions to show an intention that Clayton’s Case should not apply. Source: Taking Security: Law and Practice (Richard Calnan; Jordans; £95). © Practical Lawyer