Secretary for Justice v. Global Merchant Funding Ltd
Read the full judgment text of HCMA 716/2013 on BabelCite. This High Court CFI judgment was delivered on 2 April 2015.
1. I agree with the judgment of Kwan JA. For the reasons set out in her judgment, the appeal is dismissed with costs to the respondent. Of the questions posed for this Court in the Case Stated, Question 1: “Did I err in holding that the MCA is not a loan within the meaning of section 2 of the Ordinance (the Money Lenders Ordinance, Cap. 163)?” is answered in the negative. It is not necessary to answer either of the other questions.
Cited by 3 cases · Cites 1 case
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HCMA 716 /2013 IN THE HIGH COURT OF THE HONG KONG SPECIAL ADMINISTRATIVE REGION COURT OF APPEAL MAGISTRACY APPEAL NO. 716 OF 2013 (ON APPEAL FROM ESS NO. 43438 OF 2011) ________________________ BETWEEN
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________________________ Hon Lunn VP: 1.I agree with the judgment of Kwan JA. For the reasons set out in her judgment, the appeal is dismissed with costs to the respondent. Of the questions posed for this Court in the Case Stated, Question 1: “Did I err in holding that the MCA is not a loan within the meaning of section 2 of the Ordinance (the Money Lenders Ordinance, Cap. 163)?” is answered in the negative. It is not necessary to answer either of the other questions. Hon Kwan JA: 2.This is an appeal by way of case stated brought by the Secretary for Justice. The appeal arises from the acquittal by Li Kwok Wai, Permanent Magistrate, on 13 July 2012 of a charge laid by an information against Global Merchant Funding Limited (“GMF”) under section 29(1)(a) of the Money Lenders Ordinance, Cap 163 (“MLO”) for carrying on business as a money lender without a licence on and between 9 May and 21 October 2011. One business of GMF at the material time was to advance funds in the form of Merchant Cash Advance (“MCA”) to merchants including small and medium enterprises in Hong Kong. The magistrate found that the prosecution failed to prove that MCA is a loan controlled under the MLO and that GMF did not operate a money lending business as alleged in the summons laid on behalf of the Secretary for Justice. 3.The Secretary brought this appeal pursuant to section 105 of the Magistrates Ordinance, Cap 227, contending that the magistrate’s determination was erroneous in point of law. With the agreement of both sides on 4 March 2014, Line J directed the appeal to be heard by the Court of Appeal pursuant to section 118(1)(d) of that ordinance. 4.The magistrate signed the Case Stated on 5 November 2013. These three questions of law arising from the acquittal were stated for the opinion of the court:
5.It is common ground that the key question in this appeal is question 3. GMF’s leading counsel, Mr Simon Westbrook, SC[1], submitted that the answers to questions 1 and 2 will not affect the correctness of the acquittal. Mr Clifford Smith, SC[2] for the prosecution did not dissent from this. So I will address the key question first. Before I do so, it is necessary to set out the relevant facts and material contractual provisions. The facts 6.The summons charged that between 9 May 2011 and 21 October 2011, at the place of business of GMF in Wanchai, it carried on business as a money lender without a licence. 7.The following facts were taken from the facts admitted under section 65C of the Criminal Procedure Ordinance, Cap 221, and accordingly found as proved by the magistrate. 8.GMF was incorporated in Hong Kong in August 2008 and commenced business in March 2009. One business of GMF at the material time was to make MCA to merchants. Among its target customers were retailers of fashion and catering business, as well as any other business that accepted credit card payments by their consumers. At no time was GMF licensed to carry on business as a money lender. 9.At all material times, by way of agreement, called the Merchant Cash Advance Sale and Purchase Contract (“MCA Contract”), and as provided for by the terms thereof, GMF purchased a fixed amount of the merchant’s future credit card receivables, known as the “Purchased Amount”. The price paid by GMF was in the form of a one-off upfront MCA, known as the “Purchase Price”, which was at a discount to the Purchased Amount. The merchant arranged for GMF to collect the Purchased Amount through the merchant’s credit card processing bank, whereby GMF received a fixed percentage of the merchant’s credit card sales until the Purchased Amount was collected in full. 10.On or about 9 May 2011, Lam Ching (“Lam”) trading as Amy House entered into an MCA Contract with GMF. Amy House was a fashion shop and Lam its sole proprietor. On 11 May 2011, in accordance with the MCA Contract, Lam received $80,000 as the Purchase Price from GMF. Between May and October 2011, the credit card sales of Amy House were split by the processing bank between GMF and Amy House and GMF collected the Purchased Amount in the total sum of $97,600. On 22 October 2011, GMF notified Amy House by letter that the MCA transaction had been completed. 11.Unionjoy Enterprise Limited (“Unionjoy”) entered into an MCA Contract with GMF on 18 May 2011. It was engaged in the business of selling clothing. On 19 May 2011, in accordance with the MCA Contract, Unionjoy received $50,000 as the Purchase Price from GMF. Between May and September 2011, the credit card sales of Unionjoy were split by the processing bank between GMF and Unionjoy and GMF collected a total sum of $60,000 as the Purchased Amount. On 3 September 2011, GMF notified Unionjoy by letter that the MCA transaction had been completed. 12.Big Food Yamagimachi Diet Limited (“Big Food”) entered into an MCA Contract with GMF on 25 May 2011. Big Food was engaged in the catering business. In accordance with the MCA Contract, Big Food received $300,000 from GMF as the Purchase Price on 3 June 2011. Between May and October 2011, the credit card sales of Big Food were split by the processing bank, Wing Lung Bank, between GMF and Big Food and GMF collected a total sum of $375,000 as the Purchased Amount. On 21 October 2011, GMF notified Big Food by letter that the MCA transaction had been completed. 13.The staff of GMF had explained the MCA product to Amy House, Unionjoy and Big Food in accordance with the contract signed. It was made clear to Amy House, Unionjoy and Big Food that this was not a loan but a sale and purchase agreement as per the contract terms. Amy House, Unionjoy, Big Food did not, nor did any other merchant, make any complaint to the police about the MCA product marketed by GMF. 14.The magistrate also found that at the material time GMF had provided a brochure of 13 pages to potential merchant customers, giving a description of the MCA product. The brochure was headed “The Newest Source of Cash for Hong Kong Businesses” and page 3 set out four bullet points about MCA:
The contractual provisions (a) The MCA Contract 15.The MCA Contract, which was headed “Sale and Purchase of Future Card Receivables” (defined in the contract as the “Transaction”), contained these material provisions:
(b) The Terms and Conditions 16.The Buyer and the Seller executed the MCA Contract subject to the Buyer’s standard Terms and Conditions annexed to the contract. The Terms and Conditions contained these relevant provisions:
Question 3: is MCA a loan within the meaning of section 2 of the MLO (a) The test 17.One starts with the definitions of “loan” and “interest” in section 2 of the MLO. Section 2(1) provides that in the MLO, unless the context otherwise requires:
18.Mr Smith submitted that the Purchase Price under the MCA Contract is an advance and clearly comes within the definition of a loan in section 2, and the Purchased Amount, being in excess of the Purchase Price and payable in respect of the advance, falls within the definition of interest in the same section. This is correct as far as the economic effect of the transaction is concerned. But what matters here is the legal effect of the transaction. As stated in Chitty on Contracts, vol II, Specific Contracts (31st ed), at §§38-256 and 38-257,
19.It is trite law that “in determining the legal categorisation of an agreement and its legal consequences the court looks at the substance of the transaction and not at the labels which the parties have chosen to put on it” (Welsh Development Agency v Export Finance Co Ltd [1992] BCLC 148 at 160b, per Dillon LJ). However, it is also pertinent to bear in mind that the task of looking for the substance of the parties’ agreement may arise in a case where the written agreement is a sham intended to mask the true agreement, and also in a case without any question of sham. It is not in dispute that we are in the latter situation. 20.Here, the court looks for “some objective criterion in law” by which it can test whether the agreement the parties have made does or does not fall into the legal category in which the parties have sought to place their agreement (Welsh Development Agency, supra at 160f). In this kind of situation, one should look “only at the written agreement” in order to ascertain from its terms whether it amounts to a transaction of the legal nature which the parties ascribe to it, instead of seeking to discover from extrinsic evidence the true agreement where there is a sham. In other words, it is an “internal consideration” of the agreement itself, on the basis that the parties intended to be bound by its terms, and by nothing else (Welsh Development Agency, supra at 186d and e, and 187e per Staughton LJ). 21.Where there is no one clear touchstone by which it can necessarily and inevitably be said that a document which is not a sham and which is expressed as an agreement for sale and purchase must necessarily, as a matter of law, amount to a loan, it is necessary to look at the provisions in the agreement as a whole to decide whether in substance it amounts to an agreement for sale and purchase of future receivables or an agreement for a loan, see by analogy the words of Dillon LJ in Welsh Development Agency, supra at 161f to g. 22.As Lord Wilberforce said in Lloyds & Scottish Finance Ltd v Cyril Lord Carpets Sales Ltd [1992] BCLC 609 at 617f to g:
23.As to whether the court is free to disregard the labels which the parties have attached to a transaction in determining the substance of it where there is no question of sham, it is permissible to have regard to the labels or descriptions used in the agreement. Dillon LJ had this to say in Welsh Development Agency, supra at 162i:
24.And Staughton LJ said this in the same case at 188a to b:
25.Lastly, it is helpful to have regard to what Mayo J said in Pang Kam Yiu t/a Tai Kung Weaving Factory & Ors v Edward Wong Finance Co Ltd [1985] 2 HKC 62 at 64I to 65C, specifically in the context of deciding whether a transaction is a loan within section 2 of the MLO:
(b) Salient features of the transactions 26.Before I consider applying the test to the transactions in question, it is appropriate that I should mention some salient features about them. There is no controversy about these features. Mr Smith did not contend that was not what the transactions purported to be, although he maintained that the substance and legal effect of the transactions are that they were loans and not contracts of sale and purchase. 27.The transactions are different from the traditional forms of discounting such as bill discounting, block discounting and the sale of book debts, which are concerned with invoices and debts already in existence. The subject matter of the transactions is future receivables or expectancies. They are incapable of assignment at law but equity recognizes an assignment of rights of property not yet in existence provided valuable consideration is given and the right to the chose in action is sufficiently identifiable under the agreement. As stated by Lord Watson in Tailby v Official Receiver (1888) LR 13 App Cas 523 at 533:
28.An effective contract to transfer specified future property is one by which so soon as that future property comes into existence, a transfer of it is effected without the need for any further act. And the contract is regarded as a present assignment, albeit of future debts, and therefore the rights of the factor take effect from the date of the agreement not the later date when the debt comes into existence (The Law of Personal Property Security, by Beale, Bridge, Gullifer and Lomnicka at §5.113). 29.In this instance, valuable consideration was given before the future receivables came into existence. Under the MCA Contract, the “Purchase Price” or MCA was paid by GMF to the merchant upfront at the outset of the transaction. It was also clear from the contract which property was intended to be transferred, without the need for further identification or appropriation. This was done by specifying the exact percentage of the merchant’s periodic batch settlements with the credit card processor that will be collected by GMF, as expressly stipulated in the MCA Contract and the MCA Processing Instruction Letter (called “Split Settlement”), until the total amount of the future receivables has been collected in full. So, the requirements of an effective contract to transfer specified future property are met. 30.Another salient feature is that the future receivables relate to credit card transactions. This relies on the established contractual relationship that provides for the liability of the credit card processor to pay the merchant, and is a separate and independent contractual relationship from one which the merchant’s customer had with the credit card processor and one which the customer had with the merchant. The three bilateral contracts in credit card transactions have been recognized by the courts, most notably in In re Charge Card Services Ltd [1989] 1 Ch 497, where Browne-Wilkinson V-C gave this explanation at 509C to F:
31.So, from the perspective of the MCA contracts, what was purportedly acquired by GMF was the obligation of the credit card processor to pay the merchant under the merchant’s agreement with the card processor (referred to as “the Processing Contract” in the Terms and Conditions; the Processing Contract between Big Food and Wing Lung Bank was produced as exhibit P14), and which the merchant gave an irrevocable authorization in the MCA Processing Instruction Letter to the credit card processor to deduct the Split Settlement from each periodic batch settlement and pay into GMF’s designated account. It is relevant to note that the Processing Contract specifically contemplated the possibility of the merchant assigning its rights under the agreement, and expressly provided in clause 12 that the merchant cannot assign the benefit of the agreement without the prior written consent of the card processor. 32.By the underlying contractual scheme in credit card transactions, the credit card processor had bound the merchant to accept the card and had authorized the cardholder to pledge the credit of the card processor. By the signature of the cardholder on the voucher, the merchant was bound to accept the card in payment, the card processor was bound to pay the merchant, and the cardholder was bound to pay the card processor. The cardholder’s obligation to the merchant was absolutely, not conditionally, discharged by the merchant accepting the voucher signed by the cardholder, thus reflecting the popular perception of the role of credit cards in modern retail trade as “plastic money” (In re Charge Card Services Ltd, at 513G to H, 517B to C). There is therefore no question of GMF pursuing cardholders. The receivables relate solely to future debts that may be owed by the card processor to the merchant. (c) Applying the test 33.I turn to consider how the test should be applied in the present case. 34.The terms of the contract expressly provided for an agreement of sale and purchase of future receivables, not a loan. The agreement of a discount at the outset, with no interest to be charged regardless of how long it takes for the Purchased Amount to be collected in full by GMF, is entirely consistent with a sale and purchase transaction, but inconsistent with a loan transaction with interest accruing from day to day on the outstanding amount. 35.There is no question of the written agreement being a sham to mask the true agreement. In determining the substance of the agreement, it is permissible to have regard to the words the parties had used in the agreement to describe the transaction. The burden lying on the prosecution to establish that the transactions expressed in terms of sale were in substance loans is a heavy one (Welsh Development Agency v Export Finance Co Ltd [1991] BCLC 936 at 949d, per Browne-Wilkinson V-C). As Lord Wilberforce said in Lloyds & Scottish Finance Ltd v Cyril Lord Carpets Sales Ltd at 615a to b:
36.The courts’ approach has been to uphold freedom of contract. In the absence of a sham, parties were permitted to structure transactions in whatever way they choose, and features which could be said to be indicative of a secured loan were explained away as not inconsistent with a sale. A comprehensive summary of the approach in reported cases was given in The Law of Personal Property Security, by Beale, Bridge, Gullifer and Lomnicka at §2.30:
37.Faced with this body of authorities, Mr Smith pointed to other features in the transaction to support his contention that the transactions ought to be re-characterized as loans. He relied on clauses 10 and 11 of the MCA Contract. Under clause 10, if the first Split Settlement was not collected by GMF within seven days of the payment of the Purchase Price to the merchant, GMF would be entitled to modify or terminate the contract and the merchant would be obliged to return the Purchase Price to GMF immediately. Under clause 11, if the Actual Weekly Collection Rate is less than the Historical Weekly Collection Rate by 20% or more, GMF may demand payment of a sum of money to make up the deficit, in which event the merchant must pay this sum within seven days, or terminate the contract whereupon the entire then remaining balance of the Purchased Amount shall become immediately payable by the merchant to GMF. 38.In the situations falling within clause 10 or 11, there is no one against whom GMF could proceed to recover the Purchased Amount except the merchant, or a guarantor of the merchant’s own obligations. There are no customers against whom GMF could proceed and no possibility of proceeding against the card processor in these situations if there have been no credit card transactions, or if the credit card transactions are not enough to generate the cash flow needed to pay the Purchased Amount. 39.Hence, Mr Smith submitted that the merchant’s liability to pay GMF is not one that arises by way of recourse in the event of a failure of some third party debtor to pay a debt that has been sold to GMF. Rather, the merchant’s liability can arise only where there is a falling off in the number or value of credit card transactions. So, in substance the transaction does no more than provide a means for GMF to recoup its cash advance, plus the difference between that amount and the Purchased Amount, out of a possible or hoped for income stream in the form of periodic batch settlements that may become due to the merchant from possible future credit card transactions. But if the income stream does not materialize, or fails to flow sufficiently swiftly, GMF has no redress other than to demand immediate payment from the merchant. 40.Where there is the sale of a right to enforce a debt or other obligation against a third party, the seller might also give his own guarantee or be liable under a right of recourse, the subject matter of the sale nevertheless remains the obligation of a third party. But under the MCA Contract, so Mr Smith submitted, GMF does not acquire any right to recover the Purchased Amount from anyone except the merchant or a guarantor of the merchant’s own liability. This he said is incompatible with a sale and purchase transaction, there being no debt, whether present or future, that could be the subject matter of a sale. And the fact that the merchant arranges to make payment through the card processor does not alter the nature of the merchant’s liability, which is that of a borrower under an agreement for an advance. 41.It seems to me this is looking at the transaction the wrong way round and fails to take into account the transaction as a whole. The MCA Contract was structured for the purchase by GMF of a clearly identified and recognizable chose in action, namely, the obligation on the part of the card processor to pay the merchant under the Processing Contract the amount spent by the merchant’s customer with a credit card at the merchant’s card terminal. The Purchased Amount is to be collected from the card processor, by the merchant giving an irrevocable authorization to the card processor to pay the Split Settlements into GMF’s designated account until the Purchased Amount has been collected in full. The primary source of recovery of the Purchased Amount is not the merchant but the card processor. 42.The fact that the financier has another right of recourse against the merchant is nothing new in the sale and purchase of book debts, as demonstrated in reported cases. Such a right of recourse does not change the character of the transaction. As Mr Westbrook has submitted, the fact that GMF has no third party debtor other than the merchant to have recourse to if the Purchased Amount of future credit card receivables failed to materialize is an issue which would arise in any contract for the assignment of future goods not yet in existence at the time of the signing of the agreement. Mr Westbrook prayed in aid these words of Lord Wilberforce in Lloyds & Scottish Finance at 616g to h, which I think are apposite to the present situation:
43.Likewise, the recourse provisions in clauses 10 and 11 are to ensure that GMF received the whole of what it had bought, should the receivables not produce their face value. Further, clause 11 is to ensure an adequate or constant rate of return to GMF, by agreeing with the merchant the speed at which the future receivables should be delivered and making provision for recourse or compensation if the merchant should fail to deliver the receivables on time. They do not alter the nature of the contract of sale and purchase or turn it into a loan. Again, to borrow the words of Lord Wilberforce in Lloyds & Scottish Finance at 617g, what was provided for in these clauses can be “fitted into the contractual framework which that agreement set up with such reasonable adaptions as should be needed in commercial practice and as should not transfigure the nature of the contract”. 44.For the above reasons, the magistrate did not err in holding that the MCA is not a loan within section 2 of the MLO. The appeal by way of case stated should be dismissed. 45.The other two questions are peripheral to the disposal of this appeal. I propose to deal with them briefly. Question 1: the absence of a definite time for payment 46.Mr Smith submitted that to come within the definitions of “loan” and “interest” in section 2 of the MLO, it is not a requirement that there should be a definite time for payment, or that the rate of interest should be ascertainable by reference to a definite time for payment. In any event, the terms of the MCA Contact (the combined effect of clauses 6, 7 and 11) were such that the payment was required to be made within a measurable time, failing which GMF could enforce remedies against the merchant. So, the magistrate was in error in holding that in the absence of a definite time for repayment, an important hallmark of a loan is lacking. 47.It is not necessary to decide whether the above contentions of Mr Smith are correct in law. If the combined effect of clauses 6, 7 and 11 is as contended by him, the pertinent consideration is whether this should alter the nature of the agreement from sale and purchase to one of lending. For the reasons given in respect of question 3, I do not think the MCA Contract should be re-characterized as an agreement for a loan. 48.It is not necessary to answer question 1. Question 2: inability to comply with sections 18 and 19 of the MLO 49.Section 18(2)(i) of the MLO requires a memorandum to be made and signed stating the rate of interest charged on the loan expressed as a rate per cent per annum. Section 19(1)(a) requires the money lender on demand to provide a statement showing the amount of principal of the loan and the rate per cent per annum of interest charged. The magistrate held that GMF’s inability to comply with these provisions, by reason of the impossibility of calculating the interest rate expressed as a rate per cent per annum, indicates that the MCA transaction is not a loan. 50.Mr Smith submitted that an inability to comply with sections 18 and 19 does not indicate that the transaction is not a loan, as it is open to the money lender to seek an exemption under section 33B, if he can show that this would be commercially justifiable and unobjectionable. 51.This seems to be a circular argument, as it presupposes that the transaction is a loan. It does not add anything to ascertaining the substance and legal effect of the transaction. 52.It is not necessary to answer question 2. Conclusion 53.I would answer question 3 in the Case Stated in the negative and dismiss the appeal with costs. It is unnecessary to answer questions 1 and 2. Hon D Pang J: 54.I agree with the judgment of Kwan JA.
Mr Clifford Smith SC & Mr Anthony Chan SPP, for Secretary for Justice, for the Appellant/Plaintiff Mr Simon Westbrook SC & Mr Derek C L Chan, instructed by Tanner De Witt, for the Respondent/Defendant [1] Appearing with Mr Derek C L Chan [2] Appearing with Mr Anthony Chau, SPP [3] This figure and other figures mentioned in the contract are taken from the MCA Contract of Amy House. [4] The Retrieval Percentage for Amy House was 25%. [5] In the case of Amy House, the guarantee was given by the sole proprietor of the business, i.e. the same individual who was the Seller. [6] This is referred to in the brochure as “remedy payment”. [7] For similar analyses, see Goode on Commercial Law (4th ed), pages 787 to 788; The Law of Personal Property Security, by Beale, Bridge, Gullifer and Lomnicka (2007 ed), §§1.25 and 1.26 [8] In Lloyds & Scottish Finance, in the passage just quoted [9] Re George Inglefield Ltd [1933] Ch 1 at 27 | ||||||||||||||||||||||||
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