97: Art as collateral
We recently heard that Richard Branson has offered his home, Necker Island, as security to the UK government, in the hope of obtaining a £500 million loan to support Virgin Atlantic through the current crisis. Many business owners, and other individuals, around the UK will need to source funding at this time, but may be unable or unwilling to mortgage their home. They may therefore be looking at what other forms of collateral they might offer to lenders.
During the financial crisis of 2008, we saw an increased interest in using art as collateral. Lending secured on art has the attraction of being private – unlike using real estate, the arrangement is not recorded on a public register so the world does not need to know that you, or your business, may be having financial problems. In the current financial crisis we are seeing this again – our firm has already received enquiries from UHNW individuals interested in lending to others, with the borrower’s art being used as security. Some of the issues in the current, rather unique circumstances, pose additional challenges, however, that we did not see in 2008.
There is no recognised title document to a work of art against which to secure the lending as there is for, say, real estate. As a result, the lender will need to ensure they have appropriate access to the work of art. This may lead to a conflict as the lender may wish to have the piece in their possession, and if the borrower is currently enjoying the art on the wall of their home this will probably be a deeply unappealing prospect. It also raises issues of how this will be implemented without breaching guidelines on social distancing. If the art is in storage, it might be possible to come to an agreement to instruct the storage company not to release the work without the consent of the lender. If the work is not in storage, the parties might instead enter into a Bill of Sale, which must be registered at the High Court and this registration is renewed every five years. This is complicated, but can be a useful way to ensure the borrower can keep the work in their possession and removes the cost of storage from the arrangement.
In this time of social distancing, it will be a challenge to arrange for the art work to be inspected to confirm its authenticity and to provide a condition report as well as its value. Mixed into this is provenance and the proof of ownership. If the art was bought by the borrower from a reputable dealer or auction house it should be possible to overcome this, but any valuation provided without physical inspection of the art is likely to be hedged with caveats resulting in a very conservative loan to value that is unlikely to be more than 50% of the low auction estimate.
The lender also needs to consider how they might recover the loan if the borrower becomes a financial casualty of the current pandemic. Art is notoriously illiquid and there will be a time lag to sale. The better known auction houses offer auctions for each genre of art as little as twice a year – and currently of course, we do not know when auctions will be allowed again. Once the auction does happen, there is no guarantee the work will sell. Another option is a private sale which does provide more flexibility but is less transparent in testing the market. In the face of the 2008 financial market crisis investors turned to art as an alternative investment. This resulted in an increase in value in certain genre over a period of time. However as with stocks and shares, past performance is no indicator of future value.
Art can certainly be an attractive option for borrowers where other avenues have been exhausted, though they need to be aware that the current difficult circumstances might pose some quite specific challenges for lenders to get sufficiently comfortable to part with their cash.
This article first appeared in CampdenFB.com