Commentary: Rule 35 Mortgaged ships
New buildings and the purchase of ships are unlikely to be self-financed. Money is lent by banks or other financial institutions against the mortgage of the ship. As the ship constitutes security for the loan, the lender of the money has an insurable interest in the ship.
The most obvious interest is to have the ship insured for Hull & Machinery risks up to its full value. Should the ship be lost, the total loss compensation replaces the ship as security for the loan. This is achieved by the Loss Payable Clause in the Hull policy.
Hull insurance in The Swedish Club is also valid for the benefit of the Mortgagee but does not provide more extensive rights for the Mortgagee than for the Assured.
It is also important for the Mortgagee that the ship has and maintains full P&I Insurance. According to the International Convention on Maritime Liens and Mortgages and similar domestic legislation, a number of important liabilities are protected by maritime liens which have a higher ranking priority than the mortgage on the sale of the ship at public auction.
Should such liabilities lack sufficient insurance cover, the corresponding part of the ship’s value is consumed to satisfy the claimant. The value of the ship as security for the mortgage is reduced accordingly and may even disappear altogether.
35.2 Cover of Mortgagee’s interests
35.2.1 Cover under this Rule
The Member can elect for the Mortgagee either to be covered as a Joint Member or as a Co-assured with the respective rights and liabilities that come with each. The cover afforded by the Club will not provide the Mortgagee with better rights than the Member.
The cover for the Mortgagee is subject to the same exclusions and limitations as apply to the Member’s cover. The Mortgagee’s position as a Joint member or a Co-assured is dependent upon the Member’s/mortgagor’s behaviour. If, for instance, Rule 11 Section 1 or any other exclusion of cover applies, the Mortgagee is without cover and has no separate right(s) under these Rules.
35.2.2 Cover under a Mortgagee’s Interest insurance
It is possible to establish a separate, independent right for a Mortgagee through Mortgagee’s Interest Insurance. Upon request, such a cover can be provided by the Club.
This renders the insured Mortgagee unaffected by any acts or omissions of the Member, which deprives him either partly or fully of cover under these Rules.
Mortgagee’s Interest Insurance is used to protect a mortgagee’s interests under the Hull, War and P&I policies.
35.3 Effect of pay-to-be-paid principle
As ought to be apparent from 35.1 above, it is in the Mortgagee’s interest that claims which rank higher in priority than the ship’s mortgage are eliminated by payment under the P&I Insurance. It follows from Rule 2 (see the comments under 2.10) that it is a condition for compensation under these Rules that the Member has paid the claim first. If the Member lacks the means to effect a settlement of a claim on account of insolvency and if the Mortgagee’s position is threatened by a public sale of the ship to satisfy the claim, the Club may exercise its discretion not to insist on the pay-to-be-paid principle and agree to settle the claim direct to the claimant. Such a payment would not include the deductible, which is uninsured according to Rule 2. It may also require the Mortgagee to pay or to provide acceptable security for any unpaid premiums or other sums due from the Member to the Club, as the Club would be entitled to set-off the Member’s debts against the compensation under Rule 13.
35.4 Club protection of the Mortgagee’s position
By notification in writing to the Club of his interest in the entered ship, the Mortgagee may secure the co-operation of the Club to protect his position in two respects.
35.4.1 Mortgagee’s protection in relation to Member
According to item (a) of the second part of the Rule, the Club may not upon receipt of such a notification allow the Member to terminate the insurance in accordance with Rule 26 without the written consent of the mortgagee.
Furthermore, according to item (b), the Club may not allow the Member a substantial reduction of the cover without the written consent of the mortgagee. A substantial reduction of the cover might be the exclusion of certain vital risks such as crew or cargo liabilities – the reason for this will be clear from 35.1. A large increase in the amount of deductibles (uninsured according to Rule 2), or the introduction of a limitation of cover to a certain amount, would also amount to a substantial reduction of the cover.
35.4.2 Mortgagee’s protection in relation to the Club
According to the last part of the Rule, the Club may not terminate the insurance without giving notice to the Mortgagee at the same time. This means that a written notice of termination under Rule 26 must be sent both to the Member and the Mortgagee.
The times at which the notices of termination become effective are specified in Rule 26 and also apply to the Mortgagee. For the Club not to follow through with the effects of the notice of termination, the Mortgagee may have to pay any premiums or other sums due or provide security acceptable to the Club by the date stipulated by the Club.