Suggested Additional Assignments
Ethics Problem: To Seize or Not to Seize
To the Students: You are the manager of a small bank in the western United States. Your bank loaned
$75,000 to a young farmer to help him purchase a tractor, planter, and harvester for his modest-sized
organic vegetable farm. Your bank has a security interest in all of this equipment. Unfortunately, the
farmer has fallen behind on payments and is just barely staying out of bankruptcy court. It is time for him
to plant new crops and he has begged you to let him keep the equipment to do that. You have the right to
seize the collateral, but if you do, he will have no way of generating income and will go bankrupt, losing
his farm and other assets. What will you do?
Research: Security Interests
Students should assume that they are loan officers. They are considering making a loan to a retail
company–any such company that is actually located near the school. They want to use as collateral as
many of the company’s assets as possible. They must (1) research the state records to see whether there
are outstanding security interests in any or all of the company’s assets, and (2) decide how much they
would be willing to loan, by estimating the approximate worth of company assets that are not already
securing another creditor’s loan.
Research: Financing Statements
Have students pick a local company and look online at the Secretary of State’s Office website for the
UCC filings for that company. To whom does that company owe money? What has been pledged as
collateral and to whom? If you were a loan officer at a bank, what would you look at to determine
whether this company is a good risk?
Chapter Overview
Chapter Theme
Secured transactions are essential to modern commerce but create pitfalls for the unknowing. A person or
company doing business in ignorance of Article 9 risks losing goods and money.
Quotes of the Day
“All progress is based upon a universal innate desire on the part of every organism to live beyond its
income.” –Samuel Butler (1835-1902), English author. “Be not made a beggar by banqueting upon
borrowing.” –Ecclesiasticus 18:33.
Article 9: Terms and Scope
Article 9 of the Uniform Commercial Code (UCC) governs secured transactions in personal property.
Article 9 applies to any transaction intended to create a security interest in personal property or fixtures.
Article 9 Vocabulary
•Fixtures are goods that have become attached to real estate.
•Security interest means an interest in personal property or fixtures that secures the performance of
some obligation.
•Secured party is the person or company that holds the security interest.
•Collateral is the property subject to a security interest. When a dealer sells you a new car and keeps a
security interest, the vehicle is the collateral.
•Debtor and Obligor For our purposes, debtor refers to a person who has some original ownership
interest in the collateral. Obligor means a person who must repay money, or perform some other task.
Throughout this chapter, the obligor and debtor will generally be the same person, but not always.
• Security agreement is the contract in which the debtor gives a security interest to the secured party.
This agreement protects the secured party’s rights in the collateral.
•Default occurs when the debtor fails to pay money that is due, for example, on a loan or for a
purchase made on credit. Default also includes other failures by the debtor, such as failing to keep the
collateral insured.
•Repossession occurs when the secured party takes back collateral because the debtor has defaulted.
Typically, the secured party will demand that the debtor deliver the collateral; if the debtor fails to do
so, the secured party may find the collateral and take it.
•Perfection is a series of steps the secured party must take to protect its rights in the collateral against
people other than the debtor. This is important because if the debtor cannot pay his debts, several
creditors may attempt to seize the collateral, but only one may actually obtain it. To perfect its rights
in the collateral, the secured party will typically file specific certain papers with a state agency.
•Financing statement is a document that the secured party files to give the general public notice that
it has a secured interest in the collateral.
•Record refers to information written on paper or stored in an electronic or other medium.
•Authenticate means to sign a document or to use any symbol or encryption method that identifies the
person and clearly indicates she is adopting the record as her own.
Scope of Article 9
Article 9 applies to any transaction intended to create a security interest in personal property or fixtures.
Types of Collateral
The personal property used as collateral may be goods, such as cars or jewelry, but it may also be a
variety of other things:
•Instruments. Drafts, checks, certificates of deposit, and notes may all be used as collateral, as may
stocks, bonds, and other securities.
•Investment Property, which refers primarily to securities and related rights.
•Documents of Title. These are papers used by an owner of goods who ships or stores them. The
documents are the owner’s proof that he owns goods no longer in his possession.
•Account means a right to receive payment for goods sold or leased.
•Deposit Accounts. Article 9 now covers security interests in deposit accounts (money placed in
banks).
•Commercial Tort Claims. An organization that has filed a tort suit may use its claim as collateral.
Personal injuries to individuals are not covered by this article.
•General Intangibles. This is a residual category, designed to include many kinds of collateral that do
not appear elsewhere on the list, such as copyrights, patents, trademarks, goodwill, and the right to
payment of some loans.
•Chattel Paper. This is a record that indicates two things: (1) an obligor owes money and (2) a
secured party has a security interest in specific goods.
•Goods means movable things, including fixtures, crops, and manufactured homes. For purposes of
secured transactions, the Code divides goods into additional categories. In some cases, the rights of
the parties will depend upon what category the goods fall into. These are the key categories:
•Consumer goods are those used primarily for personal, family, or household purposes.
•Farm products are crops, livestock, or supplies used directly in farming operations (as opposed
to the business aspects of farming).
•Inventory consists of goods held by someone for sale or lease, such as all of the beds and chairs
in a furniture store.
•Equipment refers to things used in running a business, such as the desks, telephones, and
computers needed to operate a retail store.
Attachment of a Security Interest
Attachment is a vital step in a secured transaction. This means that the secured party has taken all of the
following steps to create an enforceable security interest:
• The two parties made a security agreement, and either the debtor has authenticated a security
agreement describing the collateral or the secured party has obtained possession or control;
• The secured party has given value to obtain the security agreement; and
• The debtor has rights in the collateral.
After-Acquired Property
After-acquired property refers to items that the debtor obtains after the parties have made their security
agreement. The parties may agree that the security interest attaches to after-acquired property.1
Perfection
There are several kinds of perfection:
• Perfection by filing
• Perfection by possession
• Perfection of consumer goods
• Perfection of movable collateral and fixtures
In some cases, the secured party will have a choice of which method to use; in other cases, only one
method works.
A financing statement is sufficient if it provides the name of the debtor, the name of the secured
party, and an indication of the collateral.
Contents of the Financing Statement
Case: Corona Fruits & Veggies, Inc. v. Frozsun Foods, Inc.1
Facts: Corona Fruits & Veggies (Corona) leased farmland to a strawberry farmer named Armando
Munoz Juarez. He signed the lease “Armando Munoz.” Corona advanced him money for payroll and
farm production expenses. Corona filed a financing statement, claiming a security interest in the
strawberry crop, and listed the debtor’s name as “Armando Munoz.” Six months later, Armando Munoz
Juarez contracted with Frozsun Foods, Inc. to sell processed strawberries. Frozsun advanced the farmer
money, and filed a financing statement listing the debtor’s name as “Armando Juarez.”
The next year, the farmer owed Corona $230,000 and Frozsun $19,600. When the farmer was unable
to make payments on Corona’s loan, the company repossessed the farmland and harvested the strawberry
crop. Both Corona and Frozsun claimed the proceeds of the crop. The trial court awarded the money to
Frozsun, finding that Corona had filed its financing statement under the wrong last name, and therefore
had failed to perfect its security interest in the crop. Corona appealed.
Issue: Did Corona correctly file its financing statement?
Holding: No, judgment for Frozsun Foods is affirmed. When a creditor files a UCC-1 financing
statement, the debtor’s true last name is critical because the financing statements are indexed
alphabetically by last name. A subsequent creditor who loans money to a debtor with the same last name
is put on notice that its lien is secondary.
11 UCC §9-204(a).
1 143 Cal. App. 4th 319. 48 Cal. Rptr. 3d 868, California Court of Appeals, 2006.
According to the court, there was substantial evidence that the farmer’s true last name was “Juarez”,
and that Corona knew this to be the farmer’s true last name. For example, Armando Munoz Juarez
provided Corona with a photo ID and Green Card with “Juarez” as his last name, the name appears on the
Farmer Agreement, a second sublease agreement, a crop assignment, Corona’s accounting records,
receipts for advances, Corona’s letter to Juarez , and the checks issued by Corona.
Minor errors in a UCC financing statement do not affect the effectiveness of the statement unless the
error renders the statement seriously misleading to other creditors. According to the court, if a search of
the office’s records using the standard search logic would have disclosed the statement, then the name
provided does not make the statement misleading.
Here, Frozsun conducted a search using “Juarez” and did not discover Corona’s financing statement.
There was no evidence that the statement would have been discovered under “Juarez” using the standard
search logic for the office. Thus, the trial court correctly held that the “Armando Munoz” name in
Corona’s financing statement was seriously misleading. It is the secured party’s (Corona’s) responsibility
to make sure the financing statement is properly filed.
Corona contends that the debtor name requirement is governed by the naming convention of Latin
American Countries because Juarez is from Mexico. The court rejected this argument because the crops
were planted in California, and the debt obligation arose in California. The naming convention, according
to the court, was legally irrelevant for UCC-1 purposes, and if accepted would seriously undermine the
concept of lien perfection.
Corona knew the farmer’s legal name was “Armando Juarez” or “Armando Munoz Juarez” and could
have protected itself by using both names on their financing statements.
Question: If Corona knew Armando Munoz Juarez’ last name was Juarez, why didn’t they use that in
their UCC-1 filing?
Additional Case: IN RE Thriftway Auto Supply, Inc.2
Facts: Star Automotive was a wholesaler of automotive parts. Thriftway Auto Supply was an auto parts
store that did business under the name Thriftway Auto Stores. Star sold auto parts, on credit, to Thriftway
and took a security interest in all of Thriftway’s inventory, accounts, furniture, and equipment. Star filed
a financing statement with the Oklahoma County Clerk, identifying the debtor as Thriftway Auto Stores.
Eighteen months later, Citizens National Bank loaned Thriftway money, based on the same collateral that
Star had secured. Before granting the loan, Citizens asked the County Clerk to search for any financing
statements under the name Thriftway Auto Supply. When the search revealed no other security interests,
Citizens extended the loan and then filed its own financing statement.
Thriftway, of course, went bankrupt. Star claimed all rights in Thriftway’s goods, but Citizens disputed
the assertion, arguing that Star’s filing had been defective and therefore gave it no rights. The trial court
gave summary judgment for Star, and Citizens appealed.
Issue: Was Star’s filing adequate?
Holding: Judgment for Star affirmed. Excerpts from the court’s opinion:
[Former §9-402, revised §9-506 states that a] financing statement substantially complying with the
requirements of this section is effective even though it contains minor errors which are not seriously
misleading. The issue before us is whether Star’s identification of the debtor in its financing
statement as “Thriftway Auto Stores,” when the debtor’s legal corporate name is “Thriftway Auto
Supply, Inc.,” is a minor error that is not seriously misleading.
The Oklahoma courts have established that the purpose of the filing system is to provide notice to
creditors that a security interest exists in the debtor’s property. A financing statement must contain
sufficient information necessary to put any searcher on inquiry. Tied into that inquiry is a
2 1994 U.S.App. LEXIS 31831, 25 UCC Rep.Serv.2d 982 Court of Appeals for the Tenth Circuit, 1994
determination of whether the prior security interest would have been discovered by a reasonably
prudent subsequent creditor.
We hold that Star’s identification of the debtor in its financing statement as “Thriftway Auto
Stores,” as opposed to “Thriftway Auto Supply, Inc.,” is a minor error that is not seriously misleading.
Our holding is based on the substantial similarity of the debtor’s legal name and the variation used by
Star. We do not presume to give any opinion as to whether any variation of the debtor’s legal name
that is any less similar than that used by Star would be a minor error and not seriously misleading.
Part and parcel of the determination of whether an error is minor and not seriously misleading is
that a subsequent creditor to whom the filing system is designed to give notice must be a reasonably
prudent creditor. We agree with the finding by both the district and bankruptcy courts that the bank
did not act as a reasonably prudent creditor in conducting such a narrow and limited search.
In this particular case, the name used by Star was substantially similar to the debtor’s true legal name
in that it contained the two most unique and descriptive words in the debtor’s true legal name,
“Thriftway” and “Auto.” A reasonably prudent creditor conducting a reasonably diligent search
would have formulated a search aimed at revealing filings under substantially similar names.
Article 9—2013 Amendments
In 2013, the authors of the UCC—The National Conference of Commissioners on Uniform State Laws
(NCCUSL)—proposed a set of Amendments to Article 9. Remember that the NCCUSL has no power to
make law. Once it creates a set of model rules, it is up to the states to decide whether or not to actually
enact the proposals. Almost all states have now adopted the changes to Article 9.
While most of these changes are so technical as to be beyond the scope of this chapter, one of the
amendments addresses the issue of what name must appear on a financing statement. Under the
Amendments, most states now require that individuals use the same name on a financing statement that is
on their driver’s license or state ID card (for non-drivers).3 For organizations, the correct name is the one
on the “public organic record,” defined as any record available for public inspection, including its charter
or limited partnership agreement.4
Perfection by Possession or Control
For most types of collateral, in addition to filing, a secured party generally may perfect by possession or
control. So if the collateral is a diamond brooch or 1,000 shares of stock, a bank may perfect its security
interest by holding the items until the loan is paid off. When the debtor gives collateral to the secured
party, it is often called a pledge: The debtor pledges her goods to secure her performance, and the secured
party (sometimes called the pledgee) takes the goods to perfect its interest.
Perfection by possession has some advantages. First, notice to other parties is very effective. No
reasonable finance company assumes that it can obtain a security interest in a Super Bowl championship
ring when another creditor already holds the ring. Second, possession enables the creditor to ensure that
the collateral will not be damaged during the life of the security interest. A bank that loans money based
on a rare painting may worry about the painting’s condition, but it knows the painting is safe if it is locked
up in the bank’s vault. Third, if the debtor defaults, a secured party has no difficulties repossessing goods
that it already holds.
3 UCC §9-503. If a person has neither kind of state ID card, then her surname and first personal name will
be required to perfect by filing.
4 UCC §102(a)(68).
A security interest in investment property, deposit accounts, letter-of-credit rights, and electronic chattel
paper may be perfected by control.5 We have described control above, in the section on attachment. In
general, control means that the secured party has certain exclusive rights to dispose of the collateral.
Perfection of Consumer Goods
The UCC gives special treatment to security interests in most consumer goods.
Care of the Collateral
The following case combines three interesting threads: collateral pledges of stock, loan-to-value
covenants on volatile assets, and the 2001 burst of the dot.com bubble.
Case: Layne v. Bank One6
Facts: Charles E. Johnson was the founder and C.E.O. of PurchasePro.com, Inc., and Geoff Layne was
its marketing director. When their internet stock went public, both officers suddenly owned shares worth
millions of dollars. To increase his liquidity, Johnson took out a loan for $2.8 million from Bank One,
and Layne borrowed $3.25 million. Each secured the loan with shares of PurchasePro stock.
The loan agreement required a loan-to-value (LTV) ratio of 50%, meaning that the value of the shares had
to be at least double the outstanding loan balance. If the value of the shares sank below the required level,
the two men could either pay off some of the loan or offer additional security. If the two borrowers failed
to remedy the problem, the Bank was entitled (but not obligated) to sell the shares. Johnson secured his
loan with $6.9 million worth of PurchasePro stock.
In February, internet stocks suddenly plummeted, and both loans immediately exceeded their LTV
ratio. Over the next few months Johnson, Layne, and the Bank spoke a number of times, with Johnson
and Layne agreeing to pledge additional collateral and also suggesting that the collateral be sold. Finally,
in July, over a four-day period, the Bank sold Johnson’s PurchasePro shares for $524,757, more than 90%
below its original worth.
Johnson and Layne sued the Bank, claiming that it failed to exercise reasonable care of the collateral.
The trial court gave judgment for the Bank, and the plaintiffs appealed.
Issue: Did the Bank exercise reasonable care of the shares?
Holding: Judgment for Bank One affirmed. Excerpts from the court’s opinion:
The Uniform Commercial Code states, “a secured party shall use reasonable care in the custody and
preservation of collateral in the secured party’s possession. In the case of chattel paper or an
instrument, reasonable care includes taking necessary steps to preserve rights against prior parties
unless otherwise agreed.” The comment to §9-207 cites to [a different treatise, the Restatement of
Security, which states “[t]he pledgee is not liable for a decline in the value of pledged instruments,
even if timely action could have prevented such decline.” . In the context of pledged stock, courts
have used this language from the Restatement to hold that “a bank has no duty to its borrower to sell
collateral stock of declining value.”
Another court stated “[a] lender in these situations merely accepts the stock as collateral . . .
Given the volatility of the stock market, a requirement that a secured party sell shares held as
collateral, at a particular time, would be to shift the investment risk from the borrower to the lender.”
We conclude that under Kentucky law a lender has no obligation to sell pledged stock held as
collateral merely because of a market decline.
Question: What is a “loan-to-value” ratio?
5 UCC §9-314(a).
6 395 F.3d 271 United States Court of Appeals for the Sixth Circuit, 2005
Answer: A loan-to-value (LTV) ratio is a provision in a loan document that requires the borrower to
Question: Can you explain LTV in the context of this case?
Question: How did this lawsuit arise?
Answer: The share value for dot.com companies like PurchasePro.com plummeted in early 2001,
Question: Which course did Johnson and Layne take?
Question: Why did the court rule for Bank One?
Answer: Because the decline in the collateral’s value was not its fault. To impose liability on the
Question: What should Johnson and Layne have done?
Answer: Try to sell the stock before its price bottomed out, use other assets to pay down the loan,
Additional Case: Reed v. Central National Bank of Alva7
When the debtor pledges securities as collateral for a loan, problems can easily arise concerning the
quality of care the creditor provided.
In Reed v. Central National Bank of Alva, the debtor borrowed money from the bank and gave convertible
debentures as collateral. The value of the debentures depended upon their timely conversion into
common stock. The conversion deadline was to occur during the life of the loan. Knowing that, the
debtor notified the bank of the conversion date, to be sure that the bank would effect the conversion. The
bank failed to take the necessary steps on time and as a result, the debentures greatly diminished in value.
Because the debentures were no longer adequate security for the loan, the bank sought additional
collateral.
Question: The security agreement fully described the collateral. It said nothing about the bank
converting the debentures. Was the bank liable for failing to convert?
Answer: Yes, the bank was liable. T he bank had a duty, under §9-207, to take reasonable care of the
Motor Vehicles and the Like
Additional Case: IN RE Johnson8
Oak Hill Bank loaned Roger and Bonnie Johnson money to buy a mobile home, which they used for
family purposes. The bank took a security interest in the vehicle. The Johnsons went bankrupt. Oak Hill
7 421 F.2d 113 Court of Appeals for the Tenth Circuit, 1970)
8 1993 U.S.App. LEXIS 23408 Court of Appeals for the Fourth Circuit,1993
had never taken steps to perfect. When the Johnsons appeared in bankruptcy court, other creditors
objected to Oak Hill’s assertion that it had a perfected security interest in the mobile home.
Question: What kind of goods was the mobile home?
Question: Why?
Answer: Consumer goods are those used primarily for personal, family, or household purposes. The
Question: What kind of a security interest did the bank have?
Question: So what?
Question: Therefore, Oak Hill won the dispute between creditors–right?
Question: Oak Hill assumed that because it had a PMSI in consumer goods, its security interest
perfected automatically. Oak Hill read the textbook too quickly. What section did the bank miss?
Question: What is the special rule concerning these items?
Question: Why does the rule make sense?
Answer: Cars and boats are easily and frequently moved. Filing could be useless for providing
Question: What was the outcome of the Oak Hill case?
Answer: The bank did not have a perfected security interest, because it had failed to have its interest
Question: Give an example of a security interest in consumer goods that would perfect automatically.
Answer: If Oak Hill had loaned the Johnsons money to purchase a nine-foot television set, the
Protection of Buyers
Buyers in Ordinary Course of Business
You Be The Judge: Conseco Finance Servicing Corp. v Lee9
Facts: Lila Williams purchased a new Roadtrek 200 motor home from New World R.V. Inc. She paid
about $14,000 down and financed $63,000, giving a security interest to New World. The RV company
assigned its security interest to Conseco Finance, which perfected. Two years later, Williams returned the
vehicle to New World (the record does not indicate why), and New World sold the RV to Robert and Ann
Lee, for $42,800. A year later, Williams defaulted on her payments to Conseco.
The Lees sued Conseco, claiming to be BIOCs and asking for a court declaration that they had sole
title to the Roadtrek. Conseco counterclaimed, seeking title based on its perfected security interest. The
trial court ruled that the Lees were BIOCs, with full rights to the vehicle. Conseco appealed.
You Be the Judge: Were the Lees BIOCs?
Holding: Judgment for Conseco. The court devoted only a few sentences to this issue. Section 9-320
enables a BIOC to take free and clear of a security interest created by the seller. Unfortunately, Lila
9 2004 WL 1243417 Court of Appeals of Texas, 2004
Williams, not the seller, created this security interest. Section 9-320 does not help the Lees, and
Conseco’s security interest is valid and enforceable.
Question: The Lees’ argument is far more persuasive. Common sense tells me they should win and I
thought the UCC tried to create reasonable, sensible results. Why Conseco win?
Answer: Lawyers have a saying: When the law is not on your side, argue the facts; when the facts
Question: What does §9-320 provide?
Question: Did the seller—New World R.V. Inc.—create this security interest?
Question: Did New World still hold Williams’ debt when the Lees purchased the RV?
Question: What does that mean?
Answer: Typically, it means that Conseco purchased Williams’ loan from New World at a discount to
Question: So although New World was an original party to Williams’ security interest, §9-320 does
not apply because New World did not create the interest.
Question: Does that leave the Lees without any legal remedy?
Buyers of Chattel Paper, Instruments, and Documents
Tele-Maker Hypothetical Case—The text offers a hypothetical case concerning Tele-Maker, which sells
500 televisions to Retailer, keeping a security interest in the sets and proceeds. Customers sign chattel
paper when they purchase on credit. The chattel paper is proceeds, so Tele-Maker’s security interest
extends to the paper. Retailer sells the chattel paper to Financer. Retailer then defaults on its obligation
to Tele-Maker.
Tele-Maker cannot repossess the televisions, because each customer was a BIOC. Tele -Maker is also
barred from seizing the chattel paper, because the buyer of chattel paper (Financer) takes it free of a
perfected security interest.
Question: What could Tele-Maker have done to prevent this disaster?
Answer: Take possession! The surest way to perfect a security interest in something as easily
transferable as chattel paper is to take it home with you. No financer will purchase chattel paper, or
Liens
A lien is a security interest created by law (rather than by agreement). State and federal law both allow
parties to assert a lien against a debtor under prescribed conditions. For example, a state may claim a lien
based on unpaid taxes; the state is giving notice to the world that it may seize the debtor’s property and
sell it. A company may claim a lien based on work performed by the debtor.
Priorities Among Creditors
Priority Involving a Purchase Money Security Interest
Question: First, some basics about priorities among creditors. On January 5, Andrew took a security
interest in Danielle’s entire inventory but did not perfect. On February 5, Peggy took a security
interest in the same inventory and perfected the same day. On March 5, Danielle defaults on all
obligations. Whose claim to the inventory has priority?
Question: Between two perfected security interests, which has priority?
Question: Article 9 creates an exception for PMSIs. What is that exception?
Comment: Why does Article 9 permit a PMSI holder to take priority over the holder of an
earlier-perfected security interest? Part of the reason is historical: under pre-Code law, many states
granted special priority to PMSI holders. The other reason is that this exception, while giving additional
rights to certain creditors (holders of PMSIs), actually benefits the debtor. This rule enables a debtor, who
already owes money to one creditor, to obtain additional merchandise from other creditors, perhaps
boosting business.
Suppose a retailer borrows money from a bank for use in remodeling its store. The bank takes a
security interest in the retailer’s inventory and perfects. When remodeling is complete, the retailer asks
the bank for additional credit to purchase merchandise. The bank refuses. Other creditors are unlikely to
lend additional money based on the same collateral, since they will be aware that the bank has a prior
claim to the inventory. The retailer, however, may be able to buy additional merchandise from a supplier
if the supplier can obtain a satisfactory security interest. Article 9 allows the supplier to take a PMSI in
the goods it sells, and then gives that PMSI priority over the earlier security interest, provided the supplier
follows the rules.
Question: What are the requirements for a PMSI to take priority over an earlier-perfected interest?
Answer: The requirements vary, depending upon whether the PMSI is an interest in inventory or
Before filing its PMSI, the secured party must check for earlier security interests and
The secured party must perfect its PMSI before the debtor receives the inventory.