Secured Transactions | Czarnetzky | Fall 2014
When a person/entity borrows money from a lender, and, to secure repayment of the debt, the debtor pledges some property. If the debtor does not repay the debt, the lender can simply take the property in which they have the security interest to satisfy the debt that the debtor has defaulted upon.
Process whereby a person puts up personal property to get a loan
Personal property is anything somebody is willing to pay for that is not real property
Pawnshop transactions are the most common form of secured transactions.
Point at which the security interest is enforceable between the creditor and the debtor
An interest in the debtor’s property given by the law to protect a creditor
If the debtor voluntarily grants such an interest, a consensual lien is created.
If a consensual lien is taken in the debtor’s real property, the lien is called a mortgage.
A consensual lien in personal property or fixtures is called a security interest and is governed by Article 9 of the Uniform Commercial Code. (This will be our focus!)
Method of enforcement for unsecured creditors
An involuntary lien that arises out of judicial proceedings
E.g., the creditor sues, recovers judgment, and sends the sheriff out to seize the defendant’s property
Person who has received a judgment that s/he is owed money by the defendant and is now seeking to enforce it
The defendant who has had a judgment entered against him/her saying that a person (creditor) is owed money and the creditor is now seeking to enforce it
An involuntary lien imposed by either a statute or the common law in favor of certain creditors the law deems worthy of protection
E.g., landlords, artisans repairing personal property (the garage mechanic), innkeepers, and even attorneys
The federal tax lien is considered a statutory lien
The debtor gives physical possession of the collateral to the creditor until the debt is paid.
Something pledged as security for repayment of a loan, to be forfeited in the event of a default.
The ultimate goal of any creditor taking an interest in the debtor’s collateral
The point at which the security interest becomes enforceable against the rest of the world
Creditor’s possession of the collateral
Defined in §1-201(b)(35)
An interest in personal property or fixtures which secures payment or performance of an obligation.
Includes any interest of a consignor and a buyer of accounts, chattel paper, a payment intangible, or a promissory note in a transaction that is subject to Article 9
The creditor does not physically keep the property you’ve pledged as collateral. It stays in your possession; the creditor only has a lien on it.
You didn’t use the money you borrowed to purchase the collateral. Instead, you used property that you already owned as collateral for the loan.
Article 9 of the Uniform Commercial Code (UCC) focuses on security interests in personal property. It is intended to foster commercial transaction and is not intended to be an impediment to commerce.
Consumer Aspect of Secured Transactions
Allows consumers to purchase consumer goods that they could otherwise not afford
The costs of loans in secured credit are less when you have something to pledge (something that is worth something).
With unsecured credit, the interest rates are higher because of the risk and the cost of collection by the unsecured creditor
Unsecured creditor has to go through the trouble of using once of the collection devices listed below, and even after all of that work, s/he will often be unsuccessful
Business Aspect of Secured Transactions
Traditionally how small business start the initial financing of their business and the way local inventory-based businesses finance their business
Unsecured Creditor’s Remedies
If you are an unsecured creditor, you must go through a series of steps to get the debt paid
Step 1: File a lawsuit and get a judgment (piece of paper signed by the judge saying that the UC is owed money by X)
Step 2: Enforce the judgment
There are several devices the judgment creditor can use, but all of them flow from first receiving the judgment
Option 1: Garnishment
The judgment creditor enrolls the judgment in the applicable jurisdiction and files a lawsuit against a third party who is holding property of the judgment debtor
There are 3 different scenarios where this is used
(1) Suing the JD’s employer to get the employee’s wages
(2) Suing the bank to garnish the JD’s bank account
(3) Garnish settlement or damages from a lawsuit
The debtor is not a party to the lawsuit
The only question in the lawsuit is whether the third party has the JD’s property. If the answer is yes, then they have to turn it over
Under federal and state law, you can only garnish so much of someone’s salary, but you can garnish all of someone’s bank account
This is why a JD will change their bank account when they lose a case against an UC
Option 2: Execution of the Judgment
The UC enrolls or files that judgment in a jurisdiction where the JD has some property (think of the Full Faith and Credit Clause)
The UC will ask the clerk of that court to issue a writ of execution to the sheriff for that jurisdiction. The sheriff can go get the property.
In some states, a judgment creditor gets a lien on all of the debtor’s personal property in the jurisdiction at the moment the sheriff is issued the writ of execution.
(MAJORITY) In some states, the judgment creditor does not obtain a judgment lien on the debtor’s property until the sheriff actually seizes the debtor’s personal property
The clever debtor can evade the levy by just saying the stuff is not his or by moving his person property to another location
Most common things to execute
Could also do real property or personal property that you know of
If you’re not sure whether something is the judgment debtor’s property, see Option 3 below
Option 3: Debtor’s Interrogatories
Device that the UC uses when he has tried to enforce the judgment, but he does not have good sense of what property the JD has
The UC enrolls the judgment in a jurisdiction that will have PJ over the JD (where the JD lives), and gets a judge or clerk of the court to issue a subpoena for DI to the JD requiring him to appear before the judge (or a lawyer appointed by the judge). The UC can ask anything he wants to about assets (e.g., their whereabouts), and the JD has to answer under oath
In most states, the UC can go even further than asking questions. The UC can collect anything that is on the JD that he owns: (1) cash in his wallet; (2) his watch; (3) the keys to the car parked out front. This will get the attention of the debtor, who will then ask whether there is anything they can settle this with before it goes any further (and so they can get back their stuff just taken). But a clever debtor will start asserting things like his car is subject to a lien
The only thing that you can always get is the cash on them
Problems: This can also be expensive
How Secured Credit Works
A security interest in property that you have some equity in (have not pledged it all away) exchanged for a loan will permit the bank to use self-help (a right the UC does not have)
Self-help: When the debtor defaults, the SC does not have to get a judgment like an UC would. The SC can hire his/her own repo person to get the collateral. The SC can then sell the collateral at his/her convenience
The law gives the debtor one way to get the property back:
Redemption: Pay the debt in full, including all interests accrued and the expenses
Filing bankruptcy is not as good as redemption
Chapter 2. The Scope of Article
perfect its interest under Article 9. When the consignee went into bankruptcy, the unperfected security interest was avoided. The case shows a key role of lawyers: spotting transaction where Article 9 applies and protecting their clients’ interests.
See Problem 6
Leases (WILL LIKELY BE ON EXAM)
A problem similar to the applicability of Article 9 to consignments occurs when the parties disguise a secured sale as a lease.
See Problem 7
Distinguishing Leases from Secured Transactions
If at the end of the lease period the lessee becomes the owner of the property for little or no consideration, a secured transaction and not a lease has been created.
If the contract contains a clause that permits the lessee to terminate the lease at any time and return the leased goods, a true lease has resulted. Such a right of termination is not an attribute of a sale of goods.
If the lease is for the entire economic life of the leased goods, with or without renewal, a disguised sale has occurred. This is sometimes called the junk pile test, because goods that are worthless at the end of the lease are simply tossed out.
If the parties try to write the lease so that an automatic renewal occurs, watch out for a disguised sale
E.g., Property has useful life of 10 years. Lease is for 5 years. Lease automatically renews for another 5 years at the end of the first 5 years.
See Problem 8
Gibraltar Financial Corp. v. Prestige Equipment Corp.
Gibraltar gives good example of the difficulty in distinguishing a true lease from a sale subject to a security interest. This issue arises often. A party delivers goods under a “lease”: when the recipient goes into bankruptcy, the party seeks to recover its goods. If it was true lease, the lessor is entitled to its goods back. If it was actually a secured sale (and the seller did not file a UCC-1 financing statement to perfect its security interest), the unperfected security interest is avoided in bankruptcy and the seller does not get the goods back. Distinguishing a lease from a secured sale, however, is difficult. Gibraltar clearly walks through the relevant UCC provisions, and also shows the need for development of the relevant facts.
Skipped Problem 9
Exclusions from Article 9
Section 9-109(c) covers the extent to which Article 9 does not apply.
Section 9-109(d) contains a list of types of transactions (some of which involve security interests in personal property) that for one reason or another are excluded from Article 9.
The UCC, a state statute, cannot displace federal law because of the Supremacy Clause. From the way that §9-109(c)(1) is worded, however, note that the UCC does apply to the extent that the federal statute does not answer the problem presented.
With the exception of the federal tax lien statute, most federal statutes (for example, the Ship Mortgage Act of 1920 and the Civil Aeronautics Act’s provisions on security interests in aircraft) do not cover the field and are constantly supplemented by Article 9 provisions in litigation.
Trademarks, copyrights, patents, ship mortgages, aircraft titles, railroad equipment, and some interstate commercial vehicles (such as trucks and buses registered with the Interstate Commerce Commission) are, in part, governed by federal statutes.
See Problem 10