Service Area: Collection Services

Collateral Description in UCC Filings: a Case from Tennessee

Posted on June 17, 2014 by - UCC Financing Statements

Collateral Description in UCC Filings: a Case from Tennessee

A recent case decided by the Sixth Circuit Court of Appeals, 1st Source Bank v. Wilson Bank and Trust et al., 2013 WL 5942056 (No. 13-5088), provides an example of the importance of properly describing collateral in a UCC filing to perfect a security interest. In the case, the key issue was whether or not the language describing specific heavy machinery and “all proceeds thereof” was sufficient to include the debtor’s accounts and accounts receivable.

What Was Included in the Collateral Description?

In 2004, 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 into financing contracts with a number of other banks.

These other banks, in turn, filed UCCs which specifically included “all accounts receivable now outstanding or hereafter arising” as part of the collateral description.

When the debtor defaulted on the financing arrangements, these banks took control of the collateral, including the accounts receivable.  1st Source Bank objected based on its claimed priority security interest.

What Did the Court Say?

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/or “accounts receivable.”

Generally, the legal standard for description of collateral in a UCC filing is that it “reasonably identify what is described.”  Courts have interpreted this as meaning that it must be sufficient to create a reason to inquire further about the existence of a security interest in the collateral.

The court addressed the argument that “all proceeds thereof” in the UCC was sufficient to encompass “accounts” and “accounts receivable.” The court noted that Chapter 9 of the Tennessee Uniform Commercial Code (UCC) defines “accounts” separately.

The court determined that the term “proceeds” must refer to something different or the use of the term “accounts” would become superfluous.  The court also relied on the commentary to Article 9 that indicated the term “proceeds” was not to be construed particularly broadly, so it did not make sense to have it include all monies generated by the equipment.

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.

Getting It “Just Right” Can Be a Challenge

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 must be sufficient, to provide notice to prospective creditors of the property encumbered by a prior security interest.

On the other hand, the description should not be so specific and narrow that key forms of collateral are not encompassed within the description in the UCC Financing Statement.  A creditor with a senior security interest can forfeit a priority position when the UCC collateral description is defective.

The Importance of Monitoring Debtor Name Changes under UCC Section 9-507(c)

Posted on May 28, 2014 by - UCC Financing Statements

The Importance of Monitoring Debtor Name Changes under UCC Section 9-507(c)

If a name change by a debtor makes a filed financial 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 creditor has not received actual or constructive notice of the name change from the debtor.

A creditor can prevent a UCC from becoming unperfected on collateral acquired beyond this four month window by filing an amendment to the financing statement with the new business name of the debtor.

The Case

Gugino v. Wells Fargo Bank Northwest (In re Lifestyle Home Furnishings, LLC), demonstrates the consequences of failing to monitor a debtor’s name change.  In Gugino v. Wells Fargo Bank Northwest, Wells Fargo Bank Northwest (“Wells Fargo”) provided a secured loan to Factory Direct LLC (“Factory”) and to perfect its security interest, Wells Fargo filed a UCC-1 Financing Statement.

On May 7, 2007, approximately three and a half years after the filing of the UCC to perfect Wells Fargo’s security interest, Factory changed its name to “Lifestyle Home Furnishings, LLC.”  Factory did not provide notice of any kind to Wells Fargo and because Wells Fargo was unaware of the name change, it failed to amend its financing statement.

Thirteen months after the name change, Factory filed for Chapter 7 bankruptcy protection. The trustee (Gugino) challenged Wells Fargo’s security interest in an adversary proceeding.  The trustee contended that the security interest was unperfected for collateral acquired more than four months after the name change, because the name in the UCC filing was “seriously misleading”.

The court granted the trustee’s motion for summary judgment allowing the trustee to avoid Wells Fargo’s security interest.

The information included in a UCC Financing Statement may change, even after a security interest has been properly perfected, and depending on the nature of the information that changes, a creditor may need to take action to further protect its security interest.

Best Practice

Creditors need to exercise diligence in monitoring debtors for changes of their name and address, not only to maintain a security interest, but because it is imperative to consistently evaluate your risks when extending credit.

You Schwinn Some, You Lose Some: File a UCC, Even if It is Temporarily Secured by Possession

Posted on May 13, 2014 by - UCC Financing Statements

You Schwinn Some, You Lose Some: File a UCC, Even if It is Temporarily Secured by Possession

A security interest may be perfected by taking possession of the property that constitutes the collateral; however, this type of security interest is only intended to be short-term.

A case involving Schwinn Cycling and Fitness, Inc.*, is a great example of why you should file a UCC even if your security interest is temporarily secured by possession.

Expeditors International of Washington, Inc. (“Expeditors”), the creditor in this case, shipped goods for Schwinn Cycling and Fitness, Inc. (“Schwinn”), the debtor.

The agreement between the parties indicated that Expeditors had a security interest in all of Schwinn’s property in creditor’s possession, custody and control.

A Few Important Facts

  • Within 20 days prior to Schwinn’s bankruptcy filing, Expeditors had some of Schwinn’s property in its possession & the property was then provided to Schwinn during this same 20 day window.
  • Expeditors did not file a UCC Financing Statement within the 20 days of transferring the collateral to Schwinn.

The Contention

Expeditors contended it had a security interest perfected by possession prior to Schwinn’s bankruptcy petition, so the security interest remained perfected during the pendency of the bankruptcy.

The bankruptcy trustee contended the security interest became unperfected because Expeditors did not file a UCC Financing Statement, making the security interest avoidable in bankruptcy.

The court agreed that under the version of the Uniform Commercial Code in Colorado, where the case arose, Expeditors continued to have a temporarily perfected security interest in the collateral, for twenty days after transferring the collateral back to Schwinn.

However, the court also agreed that after the twenty day window the security interest became unperfected because no financing statement was filed.

Expeditors argued the temporary perfection of its security interest extended indefinitely, because Schwinn filed for bankruptcy during the twenty day window, so the automatic stay froze priority upon initiation of insolvency proceedings.

However, the court indicated that this type of short-term perfection was not intended to continue throughout the duration of a bankruptcy proceeding, which could last for years.

The court distinguished prior cases that involved a bankruptcy filing during the twenty day window. In those cases a UCC had been filed, therefore subsequent creditors could not claim to have been misled by “secret security interest”.

The Best Practice

Generally, a UCC Financing Statement that meets the requirements should always be filed.  The most effective way to protect a security interest is to have UCC professionals prepare a financing statement and comply with other perfection procedures.

Filing a Bankruptcy Proof of Claim as a Secured Creditor

Posted on May 1, 2014 by - Credit Risk Management

Filing a Bankruptcy Proof of Claim as a Secured Creditor

In the event of a debtor’s bankruptcy, secured creditors are paid before unsecured creditors; therefore, creditors want to file a Proof of Claim as a secured creditor whenever possible.

What is a Secured Creditor?

The United States Bankruptcy Court defines a secured creditor as “a creditor holding a claim against the debtor who has the right to take and hold or sell certain property of the debtor in satisfaction of some or all of the claim.”

Properly executing a mechanic’s lien, bond claim or UCC, grants the creditor a secured interest, which increases the likelihood of payment in the event of a bankruptcy. Mechanic’s Liens, Bond Claims & UCCs are credit tools, proven to put creditors in the best possible position to get paid, but they aren’t the only tools available. A creditor may also be considered secured if there is a Corporate Guarantee or Personal Guarantee in place.

What is a Proof of Claim?

A Proof of Claim, per The United States Bankruptcy Court, is “a written statement and verifying documentation filed by a creditor that describes the reason the debtor owes the creditor money. “

The Proof of Claim is filed by creditors, in order to notify the bankruptcy court there is money owed to them by the debtor. Typically a Proof of Claim will include the amount of the claim, the basis for the claim, whether or not it is a secured claim and of course, backup documentation supporting the claim.

Beware!

Although the Proof of Claim form may seem straightforward, here are a few common missteps:

  • Be on Time! Too often, creditors miss the bar date to file.
  • Know your Claim! Including all amounts owed for all accounts and affiliates is a must.
  • Secured or Unsecured, that is the Question? Know whether or not you are a secured creditor and file properly.

Did You Know?

A creditor can have a secured & unsecured claim in the same bankruptcy! If you need assistance with filing your Proof of Claim or have questions on how to become a secured creditor, please contact us.