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Chapter 30
Secured Transactions
INTRODUCTION
To study this chapter, students should understand two major concepts. First, they should understand why
secured transactions are necessary in business. Nearly every time a retailer makes a significant purchase, a
wholesaler buys a large quantity of stock, or a manufacturer buys raw materials necessary for production, secured
credit is involved.
Second, students should understand what a security interest is—that it is not a retention of title to goods, but a
lien on them. A secured transaction is a borrowing of money for a security interest in goods (the debtor’s property.
2 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
CHAPTER OUTLINE
I. The Terminology of Secured Transactions
UCC terminology is used in all documents in secured transactions.
• Secured party—a creditor who has a security interest in a debtor’s collateral.
• Debtor—the party who owes payment or other performance of an obligation.
• Security interest—an interest in a debtor’s collateral that secures payment or performance of an
obligation.
ENHANCING YOUR LECTURE—
SECURITY INTERESTS
Prior to the drafting of Article 9 of the Uniform Commercial Code and its adoption by the states, secured
transactions were governed by a patchwork of security devices. The following summary of these devices will
help you to understand the significance and landmark status of Article 9.
SECURITY DEVICES PRIOR TO ARTICLE 9
The security devices in use prior to the adoption of Article 9 were replete with variations that, according to
many, made no logical sense. These devices included chattel mortgages, trust receipts, conditional sales
contracts, assignments of accounts, and pledges. Additionally, each device had its own jargon. Depending
on the device used, for example, a debtor could be called variously a pledgor, a mortgagor, a conditional
vendee, an assignor, or a borrower.
ARTICLE 9 STREAMLINED THE LAW GOVERNING SECURED TRANSACTIONS
The pledge and many other types of security devices were all designed to protect creditors’ interests.
Nonetheless, creditors still faced several legal problems. For example, in many states, a security interest
could not be taken in inventory or stock in trade, such as cars for a car dealer or chocolate for a candy
CHAPTER 30: SECURED TRANSACTIONS 3
APPLICATION TO TODAY’S WORLD
Although the law of secured transactions is still far from simple, it is now—thanks to the drafters of Article
9—far more rational and uniform than it was in the days prior to the UCC. The revised Article 9, which
became totally effective in 2001, further streamlined secured transactions law by, among other things,
simplifying the filing process and allowing secured transactions documents to be filed electronically with the
appropriate government officials.
II. Creation of a Security Interest
A. BASIC REQUIREMENTS
When the requirements are met, a creditor’s rights attach to the collateral [UCC 9–203]. To have an
enforceable security interest—
B. WRITTEN OR AUTHENTICATED SECURITY AGREEMENT
A written or authenticated security agreement must describe (reasonably identify) the collateral and be
signed or authenticated by the debtor [UCC 9–102(a)(7), 9–203(1), 9–108(c)].
CASE SYNOPSIS—
Case 30.1: Royal Jewelers Inc. v. Light
Steven Light bought a $55,050 wedding ring for his fiancé Sherri Light on credit from Royal Jewelers,
Inc., a store in Fargo, North Dakota. The receipt granted Royal a security interest in the ring. Later, Royal
assigned its interest to GRB Financial Corp. Steven and GRB signed a modification agreement changing the
repayment terms. An attached exhibit listed the items pledged as security for the modification, including the
that provides a description of the collateral.” Sherri argued that the modification agreement did not “properly
4 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
authenticate” the description of the collateral, including the ring, because Steven did not sign the attached
exhibit. The court issued a judgment in GRB’s favor. Sherri appealed.
..................................................................................................................................................
Notes and Questions
Can the description of the collateral in the security agreement and the financing statement be the
What is the effect of a financing statement that fails to perfect a creditor’s interest? Whether a
party’s interest in a debtor’s collateral is perfected can have serious consequences for the creditor. A creditor
How do the documents that comprise a security agreement function as a “Statute of Frauds”? A
What sort of description in a written security agreement might be insufficient to create a security
Under what circumstances might a financing statement not be considered effective even if it does
not identify the debtor correctly? (Hint: When will a computer’s search engine find a debtor’s name
even when it is listed incorrectly?) There is a safe harbor under UCC 9–506(c).. If a search of the filing
office's records under the debtor's correct name, using the filing office's standard search logic, if any, would
C. SECURED PARTY MUST GIVE VALUE
Value is any consideration that supports a simple contract [UCC 1–201(44)]. Value can be security given
for a preexisting (antecedent) obligation or any binding commitment to extend credit.
D. DEBTOR MUST HAVE RIGHTS IN THE COLLATERAL
The debtor’s rights can represent a current or future interest. Title is not a requirement.
III. Perfection of a Security Interest
CHAPTER 30: SECURED TRANSACTIONS 5
Perfection protects a security interest against some claims of third parties who may wish to have their debts
satisfied out of the same collateral. Collateral is generally considered either tangible or intangible. The text
lists the types of property that fall into each category and the methods for perfecting security interests in them.
A. PERFECTION BY FILING
The most common method of perfecting a security interest under Article 9 is to file a financing statement
1. The Debtor’s Name
A security agreement must be filed under the name of the debtor. Slight variations are not
misleading if a name can be found by the filing office’s search methods. Other potential problems
with this requirement discussed in the text include—
• Corporations—A corporate debtor’s name on the financing statement must match its name in
the “public records” [UCC 9–503(a).
2. Changes in the Debtor’s Name
A financing statement remains effective for collateral acquired before or within four months after a
name change [UCC 9–507(b), (c)]. To perfect an interest in collateral acquired later, an amendment
to the financing statement must be filed.
3. Description of the Collateral
A security agreement’s description may be repeated in a financing statement; a security agreement
ADDITIONAL CASES ADDRESSING THIS ISSUE —
The Debtor’s Name and Description of the Collateral
Cases involving discrepancies in financing statements include the following.
• In re Banke, 275 Bankr. 317 (Bankr.N.D.Iowa 2002) (even if a security interest that a debtor purported to
grant to a bank in a boat that was titled solely in the name of the debtor’s spouse was enforceable, the bank
failed to properly perfect the interest when it filed a financing statement that identified only the debtor and not
6 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
the spouse).
• In re Payless Cashways, Inc., 273 Bankr. 789 (Bankr.W.D.Mo. 2002) (financing statements are not
“seriously misleading,” in a case involving a purchase-money security interest in the equipment of a
reorganized Chapter 11 debtor if there has been no recognizable change in the name or designation of the
entity and the creditor filed financing statements that correctly identified the debtor both before and after the
bankruptcy).
4. Where to File
Depending on the classification of the collateral, a financing statement is filed in the appropriate
state office of the state in which the debtor is located, or locally with a county official when the
5. Consequences of an Improper Filing
The secured party’s claim, in bankruptcy, is reduced to that of an unsecured creditor.
B. PERFECTION WITHOUT FILING
1. Perfection by Possession
Perfection by possession may be impractical because it denies a debtor the right to use, sell, or de-
2. Perfection by Attachment—Purchase Money Security Interest in Consumer Goods
a. Automatic Perfection
A purchase-money security interest (PMSI) can be perfected automatically when it is created
under a written security agreement.
b. Exceptions to Automatic Perfection
CHAPTER 30: SECURED TRANSACTIONS 7
• Security interests that are subject to other federal or state laws.
• Sales to businesses or other entities that do not qualify as consumers [UCC 9–311, 9–
324].
ENHANCING YOUR LECTURE—
HOW TO PERFECT A SECURITY INTEREST
The importance of perfecting your security interest cannot be overemphasized, particularly when the debt
is large and you wish to maximize the priority of your security interest in the debtor’s collateral. Failure to
perfect or to perfect properly may result in your becoming the equivalent of an unsecured creditor.
PERFECTION BY FILING
The filing of a financing statement in the appropriate location, as discussed in this chapter, is the most
common method of perfection. Generally, the moment the filing takes place, your priority is established over
the other creditors—as well as over some purchasers of the collateral and a subsequent trustee in
bankruptcy.
misleading, your security interest will not be perfected.
TRANSACTIONS OUTSIDE NORMAL BUSINESS RELATIONSHIPS
Sometimes, credit transactions occur outside normal business relationships. You may be asked, for
example, to aid an associate, a relative, or a friend. At that moment, you should reflect on your need for
security for any debt that will be owed to you.
If there is a need for security, then you should perfect your security interest, even if you believe this action
CHECKLIST FOR PERFECTING YOUR SECURITY INTEREST
1. File a financing statement promptly.
8 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
debtor transfer the collateral to your possession.
C. EFFECTIVE TIME DURATION OF PERFECTION
A financing statement is effective for five years from the date of filing [UCC 9–515]. A continuation
ADDITIONAL BACKGROUND—
What Happens When Collateral Is Moved to Another State
Generally, a properly perfected security interest in collateral moved into a new state continues to be
perfected in the new state for a period of up to four months from the date it was moved or for the period
remaining under the perfection in the original state, whichever expires first [UCC 9–103(1)(d), 9–103(3)(e)].
As for automobiles, perfection of a security interest in a motor vehicle varies according to state law, but
typically occurs only when a notation of the interest appears on the vehicle’s certificate of title. If a state does
not require a certificate of title as part of its perfection process, perfection automatically ends four months
after a car is moved into another state. When a security interest exists in a car in a state in which title
IV. The Scope of a Security Interest
A. PROCEEDS
A secured party has an automatically perfected interest in proceeds from the sale, exchange, or other
disposal of collateral [UCC 9–315]. The interest remains perfected for twenty days after the debtor’s re-
ceipt of the proceeds. When collateral is of a type that is likely to be sold, a security agreement typically
provides for extended coverage.
CASE SYNOPSIS—
Case 30.2: In re Tusa-Expo Holdings, Inc.
Tusa Office Solutions, Inc., a subsidiary of Tusa–Expo Holdings, Inc. was the largest retail dealer in new
furniture made by Knoll, Inc. As part of their deals, Tusa Office granted Knoll, Inc. a first-priority security
CHAPTER 30: SECURED TRANSACTIONS 9
interest in specified accounts receivable. Later, Tusa Office obtained a loan from Textron Financial, Inc. Knoll
and Textron agreed separately that Textron would have a first-priority security interest in all of Tusa Office’s
assets except Knoll’s collateral. Tusa Office used funds paid by its customers to pay down the loan through a
deposit-account arrangement that the parties referred to as the lockbox. This increased the firm’s credit with
Textron, which Tusa Office used to pay Knoll and thereby remain able to fill customers’ orders. When Tusa
Office filed for bankruptcy, the trustee sought to recover some of the funds paid to Knoll. The court ruled
against the trustee, who appealed.
..................................................................................................................................................
Notes and Questions
How is an interest in proceeds perfected? A security interest in proceeds perfects automatically on
perfection of the security interest and remains perfected for twenty days after the debtor’s receipt of the pro-
B. AFTER-ACQUIRED PROPERTY
This is property acquired after the execution of a security agreement [UCC 9–204(a)].
C. FUTURE ADVANCES
Future advances against a line of credit are subject to a security interest in the same collateral without
filling out and perfecting new security agreements [UCC 9–204(c)].
D. THE FLOATING-LIEN CONCEPT
Altogether, this is described as a floating lien (a lien that changes over time).
1. A Floating Lien in Inventory
2. A Floating Lien in a Shifting Stock of Goods
The concept applies to goods as they are processed from raw materials to finished goods and sold,
10 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
V. Priorities
A. GENERAL RULES OF PRIORITIES
The first interest to be filed or perfected has priority over later filed or perfected security interests. If no
interest has been perfected, the first to attach has priority.
• Perfected security interests versus unsecured creditors and unperfected interests—When a
security interest is perfected, it has priority over any unperfected interests, including priority to the
proceeds from a sale of collateral resulting fro a bankruptcy [UCC 9–322(a)(2)].
B. EXCEPTIONS TO THE GENERAL PRIORITY RULES
A perfected PMSI prevails over a previously a security interest in after-acquired collateral. Also—
1. Buyers in the Ordinary Course of Business
Takes goods free of any security interest even if the buyer knows of the interest [UCC 9–320(a)].
2. Purchase-Money Security Interest (PMSI) in Goods Other Than Inventory or Livestock
3. Purchase-Money Security Interest (PMSI) in Inventory
4. Buyers of the Collateral
• Buyers of farm products—A buyer from a farmer has priority over a perfected security interest
unless, in some states, the secured party has filed centrally an effective financing statement or
the buyer has notice before the sale.
VI. Rights and Duties of Debtors and Creditors
If a security agreement does not provide to the contrary—
A. INFORMATION REQUESTS
When filing a financing statement, a creditor can ask for a copy [UCC 9–523(a)]. A prospective creditor
can ask for information on possible perfected financing statements involving a named individual [UCC 9–
523(c), (d)].
CHAPTER 30: SECURED TRANSACTIONS 11
B. RELEASE, ASSIGNMENT, AND AMENDMENT
A secured party can release collateral and end his or her security interest [UCC 9–512], or assign the
interest to another [UCC 9–514]. Both parties must sign an amendment to a financing statement [UCC
9–512].
C. CONFIRMATION OR ACCOUNTING REQUEST BY DEBTOR
A debtor can ask about the amount of a debt as of a specific date [UCC 9–210].
D. TERMINATION STATEMENT
• When consumer goods are involved, the secured party must send to the debtor or file with the of-
VII. Default
A. WHAT CONSTITUTES DEFAULT
Because Article 9 does not define default, the parties can decide for themselves what constitutes de-
fault. Default occurs most commonly when a debtor fails to make payments or goes bankrupt.
B. BASIC REMEDIES
The creditors’ remedies are cumulative.
1. Repossession of the Collateral—The Self-Help Remedy
A secured party can take possession of collateral on default unless the security agreement states
ADDITIONAL BACKGROUND—
The Self-Help Remedy
George Salisbury III borrowed $13,000 from Colorado Central Credit Union, giving as collateral several
vehicles that he owned. Salisbury defaulted on the loan, and Colorado Central hired a repossession
company to repossess the vehicles. The repossession crew towed away one of the vehicles from Salisbury’s
property in Slater, Colorado, near the Wyoming border. The crew found two other vehicles on a ranch just
12 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
trespass itself—onto land owned by a third party—constituted a breach of the peace.
In Salisbury Livestock Co. v. Colorado Central Credit Union, 793 P.2d 470 (Wyo. 1990), the Supreme
Court of Wyoming reversed the trial court’s decision and remanded the case for trial. The state supreme
court concluded that whether Colorado Central’s entry onto Salisbury Livestock’s property was reasonable or
breached the peace was a question for the jury, and therefore the trial court’s directed verdict was
inappropriate.
2. Judicial Remedies
A secured party’s other basic remedies include proceeding to judgment on the underlying debt
C. DISPOSITION OF COLLATERAL
After default and repossession, a secured party can retain the collateral or sell, lease, or otherwise
dispose of it in any commercially reasonable manner [UCC 9–602, 9–603, 9–610, 9–620].
1. Retention of Collateral by the Secured Party
a. Notice Requirements
To retain the collateral, the creditor must notify the debtor and, in some cases, other secured
parties.
b. Objections
If the debtor or secured party objects within twenty days, the collateral must be sold.
2. Consumer Goods
3. Disposition of Collateral by the Secured Party
a. Sale Can Be Public or Private
To dispose of collateral, a public sale is not required, and there are no specific time re-
quirements.
b. Must Be Commercially Reasonable
CHAPTER 30: SECURED TRANSACTIONS 13
4. Proceeds from Disposition
Proceeds from the sale must be applied in the following order—
• Reasonable expense.
CASE SYNOPSIS—
Case 30.3: Smith v. Firstbank Corp.
Bradley Smith, on his own behalf and on behalf of the John J. Smith Revocable Living Trust, borrowed
funds from Firstbank Corp. secured with pledges of Sparton Corp. stock and other collateral. When the loans
were not paid, Firstbank sold the stock in private sales, returned the other collateral, and remitted the excess
funds collected to Smith and the trust. Alleging that the sales were not commercially reasonable because a
..................................................................................................................................................
Notes and Questions
Which of the two methods for proving that a sale was commercially reasonable is likely more
difficult to apply? Showing conformity with the practices of “reputable dealers in the trade” conclusively
What are the consequences of a party’s failure to establish that a sale of repossessed consumer
collateral was commercially reasonable? In this case, the court ruled that a secured party’s failure to
Should a court’s scrutiny of the price paid for collateral be different when the purchaser is the
14 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
secured party or someone related to the secured party? Explain. Yes. When the party who acquires the
collateral at a “commercially reasonable sale” is the secured party or someone related to the secured party (or
Why does UCC 9–627(b)(3) require that a sale be conducted in conformity with the reasonable
commercial practices among dealers in the type of property that was the subject of the disposition? If
Suppose that Firstbank had argued that private sales generally yield higher prices, and because
the stock was sold in private sales, they must have been commercially reasonable. Should the court
have ruled in favor of the bank on this ground? Explain your answer. No. Even if private sales generally
result in higher sales prices than other methods, this would not prove that the specific sale in this case
What factors did the court look at to determine reasonableness in this case? How did the court
rule on the issue in this case? In the Smith case, Firstbank Corporation, the creditor, took possession of
shares of stock in the Sparton Corporation that were owned by Bradley Smith and the John J. Smith
Revocable Living Trust, the debtors, when the debtors defaulted on their loans. Firstbank sold the shares in
ADDITIONAL CASES ADDRESSING THIS ISSUE —
Creditors’ Actions on a Debtor’s Default
Cases involving questions concerning creditors’ actions on a debtor’s default include the following.
• New Holland Credit Co. v. Madison Creek LLC, 191 F.Supp.2d 695 (S.D.W.Va. 2002) (an unproved oral
CHAPTER 30: SECURED TRANSACTIONS 15
statement by a secured creditor’s agent not to pursue a deficiency judgment if the debtor surrendered a wheel
loader that served as collateral for a loan did not waive the creditor’s right to seek the amount of a deficiency,
when contract’s unambiguous language required that all modifications be in writing and signed by both
parties; there was a question, however, as to whether the subsequent sale was commercially reasonable).
5. Noncash Proceeds
6. Deficiency Judgment
7. Redemption Rights
Before the collateral is sold (or retained in satisfaction of the debt), a debtor or another secured
party can redeem the collateral by satisfying the obligations it secures and paying the secured
party’s expenses [UCC 9–623].
TEACHING SUGGESTIONS
1. An important point for students’ understanding of which rules apply in a given secured transaction is that
the method of perfection depends on the type of collateral. Emphasize that the UCC categorizes collateral
2. From the discussion of security agreements and financing statements, students may misunderstand that
16 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
(1) Classify the collateral.
(2) Determine whether the interest was a PMSI.
(3) Determine whether a financing statement must be filed to perfect the security interest.
Cyberlaw Link
What changes might the adoption of electronic filing methods, pursuant to the provisions of re-
vised Article 9, have to the business deals underlying secured transactions? Could software or a
database serve as collateral and if so, should there be any additional limits on the electronic
repossession of the software or database? Could electronic repossession be done without first
asking a court for assistance?
DISCUSSION QUESTIONS
1. What is required for an enforceable security interest? To have an enforceable security interest: (1) unless a
2. What sort of description in a written security agreement might be insufficient to create a security
interest? Descriptions that have been held to be insufficient included an attempted security interest in “all of the
3. What is perfection? Perfection is the process by which a secured party protects his or her interest against
4. What are the methods of perfection and what determines which method is appropriate? Perfection may
CHAPTER 30: SECURED TRANSACTIONS 17
5. What determines the classification of collateral? The principal use to which property is put by a debtor
determines its classification (for instance, if a physician puts a car primarily to personal use, it is a consumer good; if
6. Do the UCC’s rules concerning collateral descriptions encourage parties to enter into security
agreements? Why or why not? The UCC’s rules do encourage parties to enter security agreements. Under the
7. What happens when a secured party and an unsecured party claim security interests in the same collat-
eral? Secured creditors generally prevail over unsecured creditors and over creditors who have obtained judgments
against the debtor but who have not begun the legal process to collect. An attached security interest (whether or not
8. What happens when two secured parties claim security interests in the same collateral? The general rule
of priority among secured parties is: The first security interest to be filed or perfected has priority over other filed or
perfected security interests. If no interest has been perfected, the first interest to attach has priority. (If a bank files a
9. What happens when a secured party claims a security interest in collateral that has been sold by the
debtor? Generally, a security interest in collateral continues after the collateral is sold unless the secured party
18 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
10. What are a secured party’s rights on a debtor’s default? A secured party’s rights on a debtor’s default in-
clude obtaining the collateral, accelerating the debt, and stopping all other credit (which normally occurs because the
secured party is the debtor’s principal source of credit). Repossessing Collateral. A secured party has a right to take
possession of collateral on default unless the security agreement states otherwise, as long as there is no breach of
CHAPTER 30: SECURED TRANSACTIONS 19
ACTIVITY AND RESEARCH ASSIGNMENTS
1. A secured party can repossess collateral on a debtor’s default, unless the security agreement states otherwise,
2. Ask students to research their state’s variations from Article 9.
EXPLANATION OF A SELECTED FOOTNOTE IN THE TEXT
Footnote 7: Shannon Hicklin bought a 1993 Ford Explorer under an installment sales contract. When she
fell three payments behind—still owing $5,741.65—Onyx Acceptance Corp. repossessed the car. It sold for $1,500 at
a private auction. After deducting costs, there was a deficiency of $5,018.88. Onyx filed a suit in a Delaware state
court to collect this amount from Hicklin. To show that the sale was commercially reasonable, Onyx offered proof only
of the price. Finding the fair market value of the car at the time of the sale to be $2,335, the court held that the sale
was commercially reasonable solely because the price was over half of this value. The court granted Onyx a
deficiency judgment, which a state intermediate appellate court affirmed. Hicklin appealed. In Hicklin v. Onyx
Acceptance Corp., the Delaware Supreme Court reversed and remanded. Under UCC 9–610(a), Onyx could prove
that its sale was commercially reasonable in one of two ways. It could show that every aspect of the sale was
conducted in a commercially reasonable manner or, under UCC 9–627(b)(3), that the sale was in accord with “the
accepted practices of reputable dealers in that type of property.” Onyx did not meet either one of these standards.
The price obtained on a sale of collateral does not prove, alone, that the sale was commercially reasonable.
Suppose that Onyx argued that it acted in good faith when it sold Hicklin’s car. Would this establish
