As the global economic recession grows, so does the number of vessel arrests by maritime creditors. We highlight below four trends observed in the vessel arrest cases that are multiplying in the U.S. Some of these trends are tied to the particularities of the COVID-19 recession. Others resurface at every economic downturn. It is particularly important for preferred ship mortgagees to be aware, and beware, of these trends.
First, vendors may be more willing to move to arrest vessels during these uncertain times. For example, a New York marina has arrested multiple vessels docked on its premises for non-payment of its fees. This development is significant because the claims of some vendors may take priority over preferred mortgages. Under U.S. law, maritime liens for necessaries provided to vessels in the U.S. take priority over foreign (i.e., non-U.S. flag) ship mortgages. Maritime liens for necessaries provided outside the U.S. are generally subordinate to preferred mortgages, but the priority of preferred mortgage liens is subject to certain exceptions that are not always well delineated. Whether the arrester’s claims are subordinate or not, it is critical for the mortgagee to intervene in the arrest action. Otherwise, the mortgagee could lose its mortgage lien as a result of the action, without receiving any portion of the proceeds of the sale of the vessel. However, timely intervention can be challenging, especially because the arrester is not always required to notify the mortgagee. Publication of a notice of arrest in a local newspaper may constitute sufficient notice under U.S. law. Prudent lienholders thus maintain a close watch on the trading patterns of vessels, and, if a vessel remains in a port for a longer time than usual, monitor court dockets to be ready to intervene and preserve their claims.
Second, substitute custodians play an important role due to the partial closure of the U.S. Marshals Service during the pandemic. In the Southern District of New York (which includes the borough of Manhattan in New York City), the U.S. Marshals Service was unable to arrest vessels throughout the spring, at a time when federal courts issued many new admiralty warrants. Federal courts held that the COVID-19-related unavailability of the U.S. Marshals Service justified granting requests for the appointment of substitute custodians and substitute process servers. Plaintiffs thus retained companies specialized in the niche field of vessel arrest and custody to execute the warrants.
Third, defaults and judicial sales have been relatively frequent in recent arrest cases. In a healthier economy, the mere execution (or threat) of a vessel arrest is often enough to obtain payment from the owners. In the current context, owners have limited access to financing. Their ability to bond vessels and defend arrest cases may be constrained by the lack of liquidity.
Fourth, the entire procedure is digitalized, from the pre-arrest court hearing on the phone to the auction of the vessel via video conference. And of course, all pleadings and orders are e-filed. The use of Zoom for judicial sales makes it easier for non-U.S. bidders to participate. We have seen Zoom bids by U.S. and foreign ship owners as well as companies engaged in the business of short term trading and scrapping vessels. This creates yet another risk for preferred mortgagees: the vessel could be sold, free and clear of all liens, at a depreciated price, leaving them with few remedies other than a possible deficiency claim against the owner. In many cases, the owner is a one-ship company with no assets other than the ship. To protect mortgagees against this risk, U.S. courts tend to permit ship mortgagees to credit bid their debt, i.e., to use it as a currency in the auction of the vessel. The ability to credit bid is at the discretion of the court and must be sought by the mortgagees prior to the sale.
The economic uncertainty brought about by the COVID-19 crisis will likely remain for at least the short-term future. Although we have not yet seen many ship owners seek bankruptcy protection in the U.S., this could be the next trend. A prudent mortgagee should closely monitor not only the financial strength of its borrowers, but also the trading of the vessels so that it can intervene in any arrests as needed to protect its interests.