What Should You Include in Your UCC Collateral Description?
A perfected security interest is nothing without a collateral description. A properly perfected security interest requires compliance with Article 9, which includes a Security Agreement and the subsequent filing of the UCC-1 Financing Statement with collateral descriptions in both. In today’s post, we’ll review what to include in a UCC collateral description.
What Is a Sufficient Collateral Description According to Article 9?
First, what is collateral? Collateral can be either tangible or intangible. Some forms of tangible collateral are consumer goods, equipment, inventory and farm products. Some forms of intangible collateral are instruments which include any written evidence of the right to receive money, documents of title and receipts, chattel paper, accounts, general intangibles, healthcare receivables and supporting obligations.
Then, what makes a collateral description sufficient? Article 9-108 provides the following:
(a) Except as otherwise provided… a description of personal or real property is sufficient, whether or not it is specific, if it reasonably identifies what is described.
(b) [Examples of reasonable identification.]
Except as otherwise provided in subsection (d), a description of collateral reasonably identifies the collateral if it identifies the collateral by:
(1) specific listing;
(3) except as otherwise provided in subsection (e), a type of collateral defined in [the Uniform Commercial Code];
(5) computational or allocational formula or procedure; or
(6) except as otherwise provided in subsection (c), any other method, if the identity of the collateral is objectively determinable.
Watch Out for these Common Collateral Mistakes
Collateral descriptions will vary based on the collateral used to secure the credit; however, there are key pieces of information that are sometimes overlooked or inadvertently omitted.
- Don’t Forget the After-Acquired Collateral: phrases like “now owned or hereafter acquired” or “now existing and hereafter arising” are technically not required under Article 9, but experts agree it is smart to include the phrasing so as to not limit recovery.
- Don’t Add Limiting Language: be careful when identifying collateral located at a specific address or acquired within a certain time frame. Adding limits to the language could do more harm than good. (Check out this post for an example of limitation by address.)
- Say What You Mean, Mean What You Say: be aware of what may or may not be included in “all compassing” phrases such as “all proceeds thereof.” If you expect the security interest to include all accounts/accounts receivable, it’s best to include those terms in the collateral description.
Remember 1st Source Bank?
Remember the 1st Source Bank case? In this case, the key issue was whether the language describing specific heavy machinery and “all proceeds thereof” included the debtor’s accounts and accounts receivable.
1st Source Bank arranged for the lease or sale of certain equipment to K & K Trucking and J.E.A. Leasing (Debtors), which was subject to a security interest that was described in the UCC filing according to the above language. The terms “accounts” and “accounts receivable” were not included in the description of the collateral.
Subsequent to the 1st Source Bank UCC filing, the Debtors entered financing contracts with several other banks. These other banks, in turn, filed UCCs which specifically identified “all accounts receivable now outstanding or hereafter arising” as part of the collateral description. When the debtor defaulted, these banks took control of the collateral, including the accounts receivable. 1st Source Bank objected based on its claimed priority security interest.
The issue before the court was whether the language referring to “all proceeds thereof” was sufficient to put future creditors on notice that 1st Source Bank held a security interest in “accounts” and “accounts receivable.”
The court determined “all proceeds thereof” did not include “accounts” and “accounts receivable.”
Why? Because “Although the statutory definition of the term ‘proceeds’ appears admittedly broad, accepting [1st Source Bank]’s interpretation of the statute would render the term ‘accounts’—a category defined separately in Chapter 9—meaningless. See Tenn. Code Ann. § 47-9-102(a)(2).”
Consequently, 1st Source Bank’s security interest was not perfected with respect to accounts and accounts receivable, providing the other banks a priority status even though their filings were recorded after 1st Source Bank.
Collateral is Key
Because the collateral that underlies a security interest is the key protection afforded to creditors in the case of debtor default or bankruptcy, collateral must be properly described in UCC filings. The description of collateral needs to put prospective creditors on notice so that prospective creditors have reason to inquire further about existing security interests. Be careful, there’s a fine line between being too specific and too generic.