Service Area: UCC Services

Name Change Could Jeopardize Your Security Interest

Posted on September 17, 2018 by - Credit Risk Management, UCC Financing Statements

Be Careful, Your Security Interest May Be in Jeopardy if Your Customer’s Name Changes

The accuracy of critical data within your UCC Financing Statement can make or break your security interest. Unfortunately, one critical piece of data can change quickly and even worse, it can easily go unnoticed: a change in your customer’s name.

Names change, it happens.

Perhaps your customer is an individual and has recently married or divorced, or maybe your customer has opted to change its corporation’s name based on brand recognition. Whatever the reason, names change and if you have filed a UCC to properly perfect your security interest, you may need to take swift action to ensure your security interest remains perfected.

First, What Does Article § 9-503 Address

Article § 9-503 provides guidance on how to correctly identify your customer within the UCC Financing Statement.

In compliance with § 9-503, if your customer is a registered entity, your customer’s name must appear on the UCC exactly as it appears in the public organic record.

If your customer is an individual, first determine whether the state has implemented Alternative A or Alternative B:

Alternative A: if the debtor holds an unexpired driver’s license, the Financing Statement must list the debtor’s name as it appears on the unexpired driver’s license. (If the debtor does not have a driver’s license, the Financing Statement should list the “individual name” of the debtor or the debtor’s surname and first personal name.)

Alternative B: the debtor’s driver’s license name, the debtor’s actual name or the debtor’s surname and first personal name may be used on the Financing Statement.

Most states implemented Alternative A, which means your customer’s name must appear on the UCC exactly as it appears on his/her unexpired driver’s license.

OK, What Happens if My Customer’s Name Changes?

As a best practice, we recommend amending your UCC filing if your customer’s name changes. There may be situations where an amendment is not “required,” but it’s a risk to not amend. If you are unsure whether you want to amend your filing, I would recommend you determine whether the name change renders your filing as seriously misleading.

What is Seriously Misleading?

According to § 9-506 (b), a Financing Statement that “fails sufficiently to provide the name of the debtor in accordance with Section § 9-503 (a) is seriously misleading.” OK, succinct yet vague. How would you know whether the UCC sufficiently identifies your customer? Three words: Standard. Search. Logic.

“Standard Search Logic” is the holy grail of determining whether a filing is seriously misleading. Search logic is created, determined & managed through an algorithm – not entirely unlike a typical Google search, although a Google search is very flexible and the parameters for this search logic are narrower.

In 2015, International Association of Commercial Administrators (IACA) released the revised Model Administrative Rules, which include a specific section that is frequently referred to as “standard search logic.”

One rule for standard search logic is 503.1.2 “No distinction is made between upper and lower case letters.” This means that the debtor’s name could be entered as ABC COMPANY INC or ABC Company Inc, and both are acceptable.

Another rule addresses punctuation: 503.1.3 (b) “Punctuation marks and accents are disregarded. For the purposes of this rule, punctuation and accents include all characters other than the numerals 0 through 9 and the letters A through Z (in upper and lower case) of the English alphabet.”

IACA recognizes the general idea of “noise words”. Typically noise words include “and,” “the,” “inc” and “co.”  Although noise words are addressed in the Model Administrative Rules, the list of actual noise words are determined by each individual filing office. This difference by jurisdiction could mean that a filing that would not be seriously misleading in Virginia may be seriously misleading in Georgia, based on the individual search logics.

Like I said, risky. Which is why it may be in your best interest to set a standard business practice to amend a filing any time you encounter a customer name change.

You’ve Got 4 Months

Article 9 – 507(c) provides a 4 month window to amend the filing for a debtor name change that may be considered “seriously misleading.” If the change in your customer’s name makes the filed Financing Statement “seriously misleading,” UCC Section 9-507(c) states the Financing Statement will only be effective for collateral acquired prior to the name change or within four months following the change.

This rule applies even if the you have not received actual or constructive notice of the name change from your customer. You can prevent a UCC from becoming unperfected on collateral acquired beyond this 4 month window by filing an amendment to the Financing Statement with the new business name of your customer.

How Will I Know if The Name Has Changed?

Of course, there is the issue of knowing when your customer’s name changes. In a perfect world, your customer would notify you of name and address changes, but we certainly don’t live in a perfect world. NCS offers corporate monitoring and driver’s license monitoring, which provide alerts when there are changes in your customer’s name.

Prefer to manage it on your own? Create a schedule to periodically check the Secretary of State where your customer is registered or obtain a copy of the current driver’s license and review the information on incoming payments: bonus, the check may have the new name AND the new address.

Retail Bankruptcy and the Impact on the Landlord

Posted on August 24, 2018 by - Credit Risk Management, In Other Commercial Credit News

Bankruptcy, Bankruptcy Everywhere. Landlord, Landlord Have No Fear

Landlords are impacted by retail bankruptcy, too! The hot topic continues to be retail bankruptcies – with no signs of slowing down. We’ve previously discussed what retail bankruptcies mean for creditors who supply inventory, but what about the landlord? Most brick and mortar stores are leased by the retail entity; very few retailers own the building in which they are located.

Read on to learn more about what landlords can do to protect themselves in commercial bankruptcies.

Look Out for the Automatic Stay

The automatic stay is an injunction that stops any and all collection activity against the bankrupt entity and the automatic stay goes in to effect as soon as the bankruptcy petition is filed. The automatic stay impacts ALL creditors, whether supplying an inventory of board games or leasing the property to the bankrupt entity.

However, a landlord may have some remedies available, so long as the landlord seeks bankruptcy court approval first.

In an excellent article by Lars Fuller, Unique Challenges for Commercial Landlords Posed by Large-Scale Retailer Bankruptcies, Fuller explains the actions for which the landlord will need court approval:

  • Changing the locks on the premises or engaging in other self-help remedies.
  • Commencing or continuing to prosecute an action to evict the debtor.
  • Sending notices to the debtor to terminate the lease or revoke a right of lease renewal (even if the lease allows the landlord to take that action).
  • Demanding payment of past due rent.

Know the adage “easier to ask for forgiveness than permission?” Yeah, that doesn’t apply to this situation. If you fail to obtain court approval, prior to taking any of the above actions, you may be subject to fines, damages or even held in contempt of court, according to Fuller.

What about the Cash?

We recently discussed DIP financing, and Fuller recommends “Landlords should also review budgets because they often provide the first signal regarding the debtor’s intentions for the Chapter 11 case, including whether it will be maintaining or closing stores and on what timetable.”

And, while you are reviewing those budgets, check to see whether the budget allows for rent payments under administrative claims.

Accept or Reject?

Section 365 of the Bankruptcy Code is specific to the treatment of leases in a bankruptcy. Fuller provides four key issues for landlords regarding the treatment of their leases in bankruptcy:

  • Ensuring payment of post-petition rent and other lease charges, including stub rent.
  • The effect on the landlord of an assumption of the lease versus a rejection of the lease.
  • The circumstances under which the debtor can assign the lease, including the conditions particular to assigning shopping center leases.
  • Timing and other strategic considerations.

Ultimately, the bankrupt entity has an opportunity to review its leases and decide whether it is a lease they want to maintain (i.e. reject or accept). The debtor has up to 210 days to make decisions on their leases; decisions should be made within 120 days of the bankruptcy filing, but an extension may be granted for an additional 90 days.

Obviously, money is a driving factor for bankruptcy – if a debtor has some leases that are costlier or more restrictive than others, they will take this as a chance to reject or renegotiate those costly leases. A more favorable lease, such as one that is in a great location & likely seen as appealing to prospective buyers, will likely be assumed or accepted by the debtor. It should come as no surprise, landlords benefit from leases that are assumed or accepted versus those that are rejected.

Pro Advice

Fuller recommends landlords carefully review the bankrupt entity’s pleadings to “discern its intentions for its leases and then evaluate the benefit of joining forces with other landlords or pursuing rights individually.” My recommendation: Make sure you have legal representation! Don’t take on the challenge of legal documentation on your own.

DIP Financing: What Is It? Who Provides It?

Posted on August 17, 2018 by - Credit Risk Management, In Other Commercial Credit News

DIP Financing: What Is It? Who Provides It? What If You Filed a UCC?

DIP stands for Debtor in Possession. When a business files for chapter 11 bankruptcy protection, the existing management or ownership maintains possession and control of its business. However, the bankrupt entity needs financing to keep its business operational throughout the bankruptcy process. One way for a bankrupt entity to obtain cash is through DIP Financing.

Unfortunately, if a business is on the brink of bankruptcy, lenders aren’t usually eager to extend a loan to the business. To be fair, a lender’s hesitation to lend to a bankrupt entity is not unlike my hesitation to touch a hot stove – you know the risk and you know the consequences.

Given the risks of lending to bankrupt businesses, the Bankruptcy Code affords would-be lenders various perks, often including the benefit of a priority security interest.

In his article, DIP Financing: How Chapter 11’s Bankruptcy Loan Rules Can Be Used To Help A Business Access Liquidity, Bob Eisenbach mentions the perk of a priority security interest:

“When the debtor company has lined up a lender, it files a motion seeking Bankruptcy Court approval of the DIP financing. Typical DIP financing terms include a first priority security interest, a market or even premium interest rate, an approved budget, and other lender protections.”

The concept of priority over subsequent creditors may be referred to as a priming lien. Marshall S. Huebner, in Debtor-in-Possession Financing, further advises lenders may “insist on a first-priority priming lien on the debtor’s inventory, receivables, and cash (whether or not previously encumbered), a second lien on any other encumbered property, and a first-priority lien on all of the debtor’s unencumbered property.”

Who Provides DIP Financing?

Does this financing come from a random bank? Not necessarily. In fact, DIP financing often comes from prepetition lenders. According to Market Trends, Recent Deal Terms in Retail DIP Financing, author Jordan Myers refers to this as “defensive” financing.

“Prepetition lenders, rather than new third-party lenders, are a frequent source of DIP financing to retail debtors. They do so, in part, to protect their position against possible priming liens—a practice known as “defensive” DIP financing. “

What About Creditors with a Properly Perfected Security Interest: UCCs?

The American Bankruptcy Institute states a creditor with a properly perfected security interest has priority over DIP.

“…[I]f a secured creditor is perfected as of the petition date, its security interest trumps the DIP, and the estate benefits from the secured creditor’s collateral only after the secured creditor is repaid. However, if the secured creditor is not perfected as of the petition date, then the DIP prevails and the secured creditor shares pro rata with other unsecured creditors.”

Confused? ABI has a bubbly example!

“Consider this hypothetical: Donald the debtor owns a case of fine champagne. Your client, Cartman Corp., just won a lawsuit against Donald. You send out the sheriff to pick up the champagne to satisfy the claim. Under California law, once the sheriff lays his hands on the champagne, you’ve got a lien; other states may date the lien from the time you send your order to the sheriff, or perhaps even from the time you win your lawsuit. To recap: If some secured creditor is perfected before Cartman Corp. gets its lien, then that secured creditor gets first dibs in the champagne. Otherwise, first dibs go to the Cartman Corp.”

Takeaway? While DIP Financing holds significant benefits for the lender, a properly perfected security interest is certainly in a better position than an unsecured creditor. File UCCs!

Retail Bankruptcies and Their Impact on Consigned Goods

Posted on August 10, 2018 by - In Other Commercial Credit News, UCC Financing Statements

Retail Bankruptcies and Their Impact on Consigned Goods

The next time you take a trip to your favorite retailer, stop for a moment and think about the various goods for sale. Did the retailer order and pay up front for 100 pairs of tennis shoes, hoping it will sell every pair to recoup their costs + profit?

Not likely.

In most retail situations, the retailer obtains goods from various suppliers and the suppliers provide those goods on a consignment basis. Essentially, the supplier provides the goods to the retailer and the supplier maintains title to the goods until the retailer sells the goods. Once the retailer sells the goods, the supplier invoices the retailer for the cost of the goods sold. If the retailer doesn’t sell the goods, the retailer can simply return the goods to the supplier.

Although it’s not widely practiced, a supplier can and should ensure it takes appropriate action to perfect its security interest if supplying goods on consignment.

Article 9 & Consignment

Consignments hover somewhere between Articles 2 & 9 of the Uniform Commercial Code. We focus on what falls under Article 9. How do you know if the consignment falls under Article 9?

“UCC Section 9-102(a) (20), states the following:

Consignment means a transaction, regardless of its form, in which a person delivers goods to a merchant for the purpose of sale and:

(A) the merchant:

(i) deals in goods of that kind under a name other than the name of the person making delivery;

(ii) is not an auctioneer; and

(iii) is not generally known by its creditors to be substantially engaged in selling the goods of others;

(B) with respect to each delivery, the aggregate value of the goods is $1,000 or more at the time of delivery;

(C) the goods are not consumer goods immediately before delivery; and

(D) the transaction does not create a security interest that secures an obligation.”

Edwin E. Smith provides a great example in his article Understanding Consignments in Retail Bankruptcies.

“There are a number of consignment transactions that fall outside of the UCC definition. For example, I might take my bicycle to the consignment shop for sale by the shop. Since the bicycle is a consumer good in my hands before delivery, the consignment falls outside of the UCC definition. Or I may take my office desk chair used in my business to the consignment shop for sale. The office chair is not a consumer good in my hands since I use it in my business. However, if the chair’s value is less than $1,000, the consignment would fall outside of the UCC definition. The shop may use the term “consignment” in its name and may advertise on its website that it deals with consigned goods. In that case, a consignment to the shop may fall outside of the UCC definition since the consignee may be ‘generally known by its creditors to be substantially engaged in selling the goods of others.’”

Why File a UCC? One Word: Bankruptcy

When you sell on consignment and fail to perfect a security interest, you will join the pool of unsecured creditors if your customer files for bankruptcy protection.

“If the consignor does not file the financing statement, the consignee’s interest in the consigned goods is subordinate to a lien obtained by a creditor of the consignee using the judicial process.[23] Article 9 refers to that creditor as a “lien creditor.”[24] If the consignee became a debtor in a bankruptcy case, the consignee’s bankruptcy trustee under Section 544(a) of the Bankruptcy Code has the status of a hypothetical lien creditor. The trustee may use that status to set aside an unperfected consignment interest and treat the consignor’s claim to the goods as a general unsecured claim.”

Unsecured creditors may think they have a ‘fallback plan’ of reclamation or administrative claims under section 503(b)(9) of the bankruptcy code. But Smith reinforces that reclamation rights and administrative claims are only available to those who sold to the debtor. Technically, consignment is not a sale.

What can a creditor do if no security interest exists? Here are parting words from Smith:

“The consignor can take the position that the consignment falls outside of the UCC definition of the term “consignment,” usually because the consignee is “generally known by its creditors to be substantially engaged in selling the goods of others.” If the consignor is successful in that argument, the consignor, as owner of the goods, will, as mentioned above, prevail as to the goods over the claims and interests of creditors and the bankruptcy trustee of the consignee. However, that position depends on facts that may or may not favor the consignor and will lead to expensive and time-consuming litigation. A consignor’s understanding of the commercial law rules applicable to consignments, including those of the UCC, and careful planning by the consignor should avoid these types of disputes.”

Or – don’t risk it.

Always perfect a security interest. Always!

Unsecured Creditors in Retail Bankruptcy Lose Out

Posted on July 16, 2018 by - Credit Risk Management, Mechanic's Liens & Bond Claims, UCC Financing Statements

The Importance of Being a Secured Creditor in Today’s Retail Climate

In today’s highly credit-based economy, the looming threat of debtor bankruptcy is more prominent than ever.  A number of well-known retailers, such as Bon Ton, Toys R Us, Nine West and Winn Dixie, have recently succumbed to insolvency, leaving their creditors in a vulnerable position.

As a creditor, it is important to ask yourself “In what ways can our company mitigate risk in today’s volatile credit environment?” To answer this, let’s tackle two key questions:

  • What is the difference between a secured & an unsecured creditor?
  • Do secured creditors actually get paid more in the event of customer bankruptcy?

Secured vs Unsecured

It’s essential to start by understanding the fundamentals; specifically, the difference between a secured and unsecured creditor.

A secured creditor has a security interest over some or all the assets of its debtor. A security interest can be obtained through prominent credit tools such as Mechanic’s Liens, Bond Claims and UCCs (just to highlight a few). In the event of the debtor’s bankruptcy or default, secured creditors:

  • Have payment priority over their unsecured counterparts
  • Are in the best possible position for getting paid

An unsecured creditor is a party who extends credit without a collateral security. If the debtor files for bankruptcy, it’s only after the claims of secured creditors are satisfied that the unsecured creditor will receive payment.  Oftentimes, those who fall under the unsecured creditor group collect very little money, if any, from the distribution of assets.

While the bankruptcy code is fairly complex, and insolvencies vary case by case, here is payout priority in its simplest form:

Payout Priority in Chapter 11 Bankruptcy

  1. Secured Creditors (e. creditors who have a perfected security interest)
  2. Administrative Expenses (e. costs associated with filing & processing the bankruptcy)
  3. Unsecured Creditors (e. creditors without a security interest)

Secured Creditor Success Stories!

In recent bankruptcy news, Rue21, inc. ET AL., a specialty fashion retailer of girls’ and boys’ apparel, filed for protection under Chapter 11 of the U.S. Bankruptcy code.  This was largely attributed to a challenging commerce environment characterized by increased pressure from competitors, changing consumer tastes, and an under-performing online presence.

When Rue21 filed for bankruptcy protection on May 15, 2017, it had just over $300,000,000 in assets, and nearly $700,000,000 in liabilities.  Obviously, there were not enough funds to pay all creditors their owed amounts, however, in this case and many others, the secured creditors were first to get paid.  With this particular example, under the Rue21’s reorganization plan, secured creditors recovered 100 percent of the allowed claims while the unsecured creditors only recovered about 3 percent.

We see a similar scenario play out with Katy Industries, a leading manufacturer, importer, and distributor of commercial cleaning and consumer storage products, who filed for bankruptcy on May 14, 2017. The company was unable to meet the obligations of its creditors, with nearly $56 million of debt! In this case, secured creditors recovered the total amount of allowed claims (100 percent) while unsecured creditors faced a recovery rate of only 9.6 percent.

As with many other things in life, when it comes to debtor bankruptcy, not much is guaranteed. However, case after case we see secured creditors having payment priority and receiving greater funds than unsecured creditors.  Simply speaking, the bankruptcy laws require that secured creditors are paid first; take the steps needed to secure your rights!

UCC Filing Collateral Descriptions and Interpreting “And All”

Posted on July 9, 2018 by - UCC Financing Statements

UCC Filing Collateral Descriptions and Interpreting “And All” – With a Dab of Fixture Filings

The U.S. Bankruptcy Court in Missouri recently determined a creditor’s priority in collateral at one address and priority in a blast booth installed on another property, based on the creditor’s properly perfected security interest. Bonus? The Court also reviewed whether a blast booth meets the 3 parameters of a fixture.

Parties Involved & a Bit of Background

To make it a bit easier to understand a somewhat confusing case, here’s a breakdown of the parties involved:

  • Primary Lender: Bancorpsouth Banc (BB)
  • Debtor 1: 8760 Service Group, LLC (8760), sole managing member is Buck Barnes
  • Debtor 2: Pelham Property, LLC (Pelham), sole managing member is 8760
  • Surety issued performance & payment bonds to 8760: Hudson Insurance Company (Hudson)
  • Bankruptcy Trustee (Trustee)

BB was the primary lender for debtors 8760 and Pelham. According to the Court, Pelham was the obligor on the loan from BB, and 8760 was the guarantor. In consideration for the loan, debtors granted BB a security interest in inventory, equipment and A/R. BB filed a UCC to perfect its security interest. The initial UCC was filed in 2014, and a subsequent amendment was filed in 2015.

Hudson issued a performance & payment bond for 8760, and as collateral for the bonds, 8760 granted a security interest in its inventory, equipment and A/R. Hudson filed a UCC to perfect its security interest in 2017.

Both creditors, BB in 2015 & Hudson in 2017, were granted a security interest in the debtor’s inventory, equipment and A/R. So, who has priority? Based simply on “first in time, first in right,” BB would have priority. However, if BB’s collateral description makes its UCC seriously misleading, Hudson jumps to the front of the line.

BB’s Collateral Description, too Vague?

The primary issue was whether BB’s collateral description was sufficient, or if its UCC was seriously misleading. Hudson, 8760 and Pelham argued that because BB’s collateral description included a street address, it was restricted to only collateral located at that address.

Collateral Description from 2015 UCC:

“All Accounts Receivable, Inventory, equipment and all business assets, located at 1803 W. Main Street, Sedalia, MO 65301.”

and included an additional page with:

“the above collateral, whether now owned or hereafter acquired, together with all supporting obligations, proceeds, products, software, accessories and accessions, including, but not limited to the items listed…”

 As you can see, the collateral description includes a street address. What you may not see, and I admittedly did not see initially, is the collateral description can be interpreted one of two ways, depending on how you understand the words “and” and “all.”

Hudson argued the collateral description was limited to A/R, inventory, equipment and business assets ONLY located at 1803 W. Main Street.

Whereas, BB argued the collateral description included ALL accounts receivable, inventory, equipment AND ALL business assets located 1803 W. Main Street.

Fortunately for BB, the court was persuaded by its argument. BB’s collateral description should have prompted Hudson to further investigate, when Hudson went to file its UCC 2 years after BB.

“The ‘and’ in the collateral description between ‘[a]ll Accounts Receivable, Inventory, equipment’ and ‘all business assets, located at 1803 W. Main Street, Sedalia, MO 65301’ could at least have given Hudson an indication that all assets were covered by a prior lien and cause it to inquire into the collateral description contained in the security agreement.”

The result? BB has priority.

“Thus, [BB’s] collateral description in the financing statement was not seriously misleading and was sufficient to put Hudson on notice that it should inquire into the extent of [BB’s] lien. Because [BB] indisputably filed prior to Hudson, it holds a first priority security interest in 8760’s non-office equipment and inventory.”

Blast Booth Bonus: is it a Fixture?

8760/Pelham’s assets included a blast booth. Hudson argued the booth should be considered equipment and not a fixture. While the argument is moot because BB has already been granted priority in all assets, the court did review whether the booth is equipment or fixture.

In its opinion, the court cites the 3 requirements, set forth by Missouri Supreme Court, an item must meet to be deemed a fixture: annexation, adaption, and intent of the annexor.

The court advised an item is annexed if it is, in some way, physically attached to the real property. Adaptation exists, if the building was designed specifically to accommodate the item or if the “alleged fixture was necessary for the particular use to which the premises are devoted.” And lastly, intent of the annexor, is whether the intention existed for the item to become an integral part of the real property.

“[T]he Blast Booth was bolted into the concrete floor of the 5105 Pelham Drive building and the building was specifically designed to incorporate the Blast Booth by installing special trenches for augers in the concrete floor. He testified that if the Blast Booth was removed the trenches would have to be covered or filled with concrete and the bolts would have to be cut off flush with the floor and driven down into the concrete floor to repair the area where the Blast Booth was located. Further, he testified that when Debtors installed the Blast Booth in the building he did not intend for the Blast Booth to ever be removed.”

Therefore, the blast booth met the parameters: it was affixed to the property, the building was built to accommodate it, there was no intention for it to be removed.

Blasting Booth = Fixture

Note: This case was rather interesting, and it wasn’t limited to the items discussed above. You can read the full text here: IN RE 8760 SERVICE GROUP, LLC, Bankr. Court, WD Missouri 2018

Secretary of State Errors and Your Security Interest

Posted on June 18, 2018 by - UCC Financing Statements

Do You File UCCs? What Happens to a Security Interest When the Secretary of State Makes an Error?

Compliance with Article 9 of the Uniform Commercial Code is critical to perfect your security interest. But, what happens if you comply with Article 9 and take the proper steps to perfect your security interest, only to have the Secretary of State incorrectly index your filing? Errors and mistakes happen.

“The Secretary of State does make mistakes occasionally…and either the searcher or the filer must suffer the consequences in priority based upon those mistakes.”

Read today’s post to learn more about indexing errors and how Article 9 protects creditors when the recording office makes a mistake.

The Bankruptcy Case of The Feed Store, LLC

The Feed Store, LLC (Debtor) obtained a loan from Peoples Bank, N.A. (Bank) and in consideration of the loan, the parties executed a promissory note and security agreement. Within the security agreement, Debtor granted Bank a security interest in “all inventory, chattel paper, accounts, equipment and general intangibles, together with all proceeds, accessions, additions, replacements and substitutions related thereto.”

April 23, 2012, Bank filed a UCC-1 with the West Virginia Secretary of State (WV SOS) to perfect its security interest. Unfortunately, WV SOS incorrectly indexed Bank’s UCC filing, by assigning the same instrument number to two different documents, one of which was Bank’s UCC filing.

The indexing error went unnoticed until March 14, 2017, when WV SOS entered a statement that it issued one instrument number to two different filings and would issue a new instrument number for Bank’s filing. Then, April 12, 2017, Bank filed a continuation, within the 5 year period.

Meanwhile, in December 2016, Debtor filed for bankruptcy protection under Chapter 7.

In March 2017, the bankruptcy trustee filed a complaint, alleging Bank’s security interest was seriously misleading, because the filing did not appear in a search via WV SOS database. Further, the trustee argued the constitutionality of “West Virginia Code § 46-9-517, which ‘imposes the risk of filing-office error on those who search the files rather than on those who file.’”

Someone Has to “Suffer the Consequences”

According to the court opinion, “The Trustee alleges that the effect of West Virginia Code § 46-9-517 deprives him, as a judicial lien creditor, of priority over Peoples Bank’s lien without constitutionally-sufficient notice…” I won’t dwell on the constitutionality of the law, but as the legal opinion states someone must “suffer the consequences.” In other words, someone wins & someone loses.

In this case, the filing did not appear in the search, because WV SOS incorrectly indexed the filing, not because Bank failed to properly complete its filing. It would, of course, have been different if Bank incorrectly identified Debtor on its Financing Statement.

Mistakes & errors exist, and fortunately Article § 9-517 accounts for indexing errors: “The failure of the filing office to index a record correctly does not affect the effectiveness of the filed record.”

Although the trustee doesn’t believe it should suffer for the indexing errors of WV SOS, the court was not persuaded by trustee’s argument that it be the filer’s responsibility to catch these errors.

The court stated that based on trustee’s logic, filers would have to routinely run searches on their various filings, and “Even if the filer maintained their statement with diligence, a searcher may obtain a windfall if it were to look for prior liens at a time when the filer’s financing statement was mis-indexed and before the filer caught the mistake and corrected it.”

Article 9 is designed to protect creditors who take proper steps to perfect a security interest.

Bank is the Winner & Reflective Searches Are a Best Practice

Ultimately, Bank complied with the requirements of Article 9 and its security interest remained properly perfected, much to Trustee’s dismay.

As a best practice, creditors should always conduct a reflective search after filing a UCC. It’s easy for mistakes to occur, and if caught early, the mistakes can be corrected, potentially alleviating disputes such as today’s case.

What is a reflective UCC search? “A reflective UCC search confirms that a UCC filing was recorded. The reflective search returns a jurisdictional report by debtor name reflecting all UCC filings through the date of your recorded UCC filing. This search also lists previous secured creditors by filing date to help determine your filing position.” – Conduct a Reflective Search After Every UCC Filing

Security Interests in Liquor Licenses OK in Pennsylvania

Posted on May 21, 2018 by - UCC Financing Statements

Security Interests (UCC Filings) in Liquor Licenses OK in Pennsylvania

Yes, creditors can take a secured interest in a debtor’s liquor license in Pennsylvania, according to one recent Bankruptcy Court decision.

The Case

In 2014, M&T Bank (M&T) loaned B&M Hospitality (B&M) $85,000. In consideration of the loan, M&T executed a Security Agreement and filed a UCC-1, identifying the collateral as B&M’s liquor license.

In 2017, B&M filed for bankruptcy protection under Chapter 7 and, subsequently, a Bankruptcy Trustee (Trustee) was assigned to the case.

In bankruptcy proceedings, the essential role of the Trustee is to take charge of the debtor’s estate. Some responsibilities include managing the liquidation of the debtor’s assets and ensuring proper distribution of the proceeds to the various creditors.

In this case, the Trustee filed a motion to liquidate B&M’s assets and the Trustee stated there were no liens on the liquor license. As you can imagine, M&T piped up and provided proof of its security interest in B&M’s liquor license.

Eventually, the Trustee and M&T agreed the liquor license would be sold for $175,000. However, until the court confirmed whether M&T’s security interest was valid, the Trustee would escrow the amount owed to M&T ($55,166.54) from the proceeds of the sale.

Arguments Before the Court: Can a Security Interest in a Liquor License Exist?

The two primary questions brought before the court were whether Pennsylvania law permitted the granting of a security interest in a liquor license and whether M&T properly perfected its security interest.

First, can a liquor license be collateral for a security interest?

The Trustee believed no security interest exists, because prior to the 1987 amendments, the Pennsylvania Liquor Code provided “…that liquor licenses constitute a privilege and not property.”

Unfortunately for the Trustee’s argument, in 1987 there was an amendment to the Pennsylvania Liquor Code, which defined a liquor license as “property between third parties and the licensee.” This amendment has not changed, and the Liquor Code still identifies a liquor license as property.

“The plain language of the 1987 amendment characterizes a liquor license as property between a licensee and a third party and as a privilege between a licensee and the Board. 47 P.S. § 4-468(d)… based solely upon the text of the 1987 amendment, the Court concludes that, as between a licensee and a third party, a liquor license constitutes property under Pennsylvania law.”

And, as we know, UCCs are all about perfecting a security interest in personal property!

Second, is a security interest valid if the collateral description on the Financing Statement is different than the collateral description on the Security Agreement?

Next the Trustee argued that M&T failed to properly perfect its security interest, because M&T didn’t specifically call out the liquor license in the collateral description on the UCC Financing Statement. Although, M&T did call out the liquor license in its Security Agreement.

Let’s look at the collateral descriptions on the UCC and the Security Agreement:

UCC Financing Statement

“all assets of the debtor, whether now existing or hereafter acquired or arising, wherever located”

Executed Security Agreement

“general intangibles limited to that certain restaurant liquor license number R-1140 issued by the Pennsylvania Liquor Control Board” and “all proceeds of collateral of every kind and nature in whatever form, including, without limitation, both cash and noncash proceeds resulting or arising from the sale or other disposition by the Borrower of the collateral.”

Does the collateral description, in either document, meet the three keys? The judge reviewed the case against these three requirements:

(1) value has been given,

(2) the debtor has rights in the collateral or the power to transfer rights in the collateral to a secured party, and

(3) the debtor has authenticated a security agreement which provides a description of the collateral

Has value been given? Yes!

Does the debtor have rights to the collateral? According to PA law, yes!

Does the Security Agreement identify the collateral? Indeed, it does!

The Court Says: Drink Up!

M&T took the proper steps and perfected its security interest, and the court determined M&T should be paid with the proceeds of the sale of the debtor’s assets.

“Ultimately, Pennsylvania law clearly allows third parties to create security interests in Liquor Licenses. M&T followed all the requirements to create and perfect a lien on the Liquor License and is entitled to proceeds from its sale in the amount of its secured claim.”