Distinctions regarding priority of payment, effectiveness against third parties, and choice of security enforcement under Vietnamese law

In civil relations, the use of security for performance of obligations is a crucial tool to safeguard the lawful interests of parties involved in a transaction. Pursuant to Article 292 of the 2015 Civil Code, security measures include pledge, mortgage, deposit, collateral security, escrow, title retention, guarantee, fidelity guarantee, and lien. Each of these measures has distinct characteristics regarding form, conditions of creation, and legal effect, thereby establishing a safeguard mechanism for the fulfillment of civil obligations. 

Currently, Vietnamese laws on secured transactions provide regulations concerning priority of payment, priority of effectiveness against third parties, and priority of enforcement options. However, distinguishing and applying these rules in practice remains challenging due to the complexity and intersection of legal concepts. This article provides an in-depth analysis of the abovementioned categories, highlighting their distinctions and application under the prevailing legal framework. 

1. Priority in effectiveness against third parties

Effectiveness against third parties is a critical factor ensuring that a secured transaction binds not only the contracting parties but also has legal validity against other persons. This serves as the legal basis for determining priority in the event of disputes concerning secured property. 

According to Article 297 of the 2015 Civil Code and Article 23 of Decree No. 21/2021/ND-CP, a security interest becomes effective against third parties when the security agreement is legally effective and: 

• If subject to registration, the effect arises from the time of registration with the competent authority; 

• If not subject to registration (e.g., pledge, deposit, escrow), effectiveness against third parties arises upon the secured party’s possession or control over the secured property; 

• For security deposits, effectiveness arises when the asset is deposited into a blocked account at a credit institution. 

For example, if an individual mortgages land use rights to a bank and completes registration at the Land Registration Office, the mortgage takes effect against third parties from the time of registration. Conversely, if a business pledges goods to a bank, the effect against third parties arises once the bank takes possession and control of the goods. 

2. Priority of payment

Priority of payment determines which secured parties has the right to be paid first when the same asset secures multiple obligations. 

Pursuant to Article 308 of the 2015 Civil Code, when one asset secures several obligations, the order of priority is based on effectiveness against third parties, specifically: 

• If all security interests are effective against third parties, priority is determined by the time such effectiveness arises; 

• If only some security interests are effective against third parties, then the obligations with such effect shall be paid first; 

• If none are effective against third parties, priority is based on the time of creation of the security interest. 

The parties may agree to alter this order of priority; however, a subrogated creditor only enjoys priority to the extent of the original secured party’s priority. 

For example, a mortgages a house to Bank X in January 2023 and to individual Y in March 2023. Bank X registers the security interest immediately, while individual Y does not. Upon enforcement, Bank X will be paid before individual Y. 

3. Priority in choosing security enforcement measures

This concept refers to the right to select which security measure to enforce when a single obligation is secured by multiple types of security. 

According to Article 5 of Decree No. 21/2021/ND-CP, a single obligation may be secured by multiple security measures. Accordingly: 

• The enforcement method shall follow the parties’ prior agreement; 

• If no such agreement exists, upon default, the secured party has the right to choose one or more security interests to enforce concurrently. 

For example, if a business both mortgages a factory and pledges goods to a bank to secure a loan, and the borrower defaults, the bank may choose to enforce the pledged goods first for faster recovery or initiate auction procedures for the mortgaged factory—at its sole discretion, absent a contrary agreement. 

The three aspects discussed above, priority of effectiveness against third parties, payment order, and choice of enforcement measures, play an essential role in ensuring the legal safety of secured civil transactions and protecting the parties’ rights. A thorough understanding and effective application of the priority rules in secured transactions enable businesses to proactively manage secured assets, increase debt recovery rates, optimize enforcement options, and minimize the risks of legal disputes. 

Related articles:

1/ Regulations on Payment in Transactions for the Sale and Purchase, Lease-Purchase of Future-developed residential houses and construction works

2/ Simultaneous Application Of Penalty For Violations And Late Payment Interest For Violation Of The Time Limit Of Payment Obligations In Commercial Contracts

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