It may be foul, but there is no harm: Not all mistakes have dire consequences under UCC Article 9

Thompson Coburn LLP
Contact

It is an understatement to say that questionable collateral descriptions in Uniform Commercial Code (“UCC”) financing statements have spawned much litigation over many years. The drafters of the UCC have refined the law of secured transactions in attempt to provide clear guidance to lenders and borrowers on the correct manner to describe collateral in a financing statement. To be blunt, it does not take a great deal of skill or legal acumen to correctly prepare a financing statement, particularly with respect to providing a legally sufficient collateral description. However, mistakes and omissions occur, and courts are often called upon to sort out the issues and resolve the disputes as was the case in In re 8760 Service Group, LLC.

Background

There is no magic language or legalese that is required for a financing statement collateral description. Under the UCC (which is identical in most states), a description of collateral in a financing statement “is sufficient, whether or not it is specific, if it reasonably identifies what is described.” Furthermore, even if there are errors or omissions in the collateral description, the financing statement can still be effective — unless the errors or omissions make the financing statement “seriously misleading.”

Fortunately, the policy behind the law governing secured transactions under the UCC explains financing statements are meant to simply provide notice of the transaction and give enough information to subsequent potential creditors that the debtor’s property may be covered by a prior creditor’s security interest. Essentially, a financing statement is meant to provide a starting point in a subsequent creditor’s due diligence process, not the conclusion.

Discussion

8760 Service Group is a clear illustration of how the liberal policy behind the law governing UCC financing statement collateral descriptions functions in an actual dispute. U.S. Bankruptcy Judge Dennis Dow faced the issue of whether an “address restricter”, i.e., including a specific address location within the collateral description, rendered a financing statement defective to the point where it was considered seriously misleading.

In the case, the financing statement of the prior-filed creditor described the collateral as “All Accounts Receivable, Inventory, equipment and all business assets, located at 1803 W. Main Street, Sedalia, MO 65301.” The debtor and subsequent-filed secured creditor argued that the financing statement was seriously misleading because the inclusion of the address limited the scope of the collateral to only property located at the address contained in the collateral description.

Citing to the prevailing law, Judge Dow noted that the “UCC does not require a perfect collateral description,” but rather “only an ‘indication’ of such coverage.” Furthermore, Judge Dow held that, if there is ambiguity in the interpretation of the property description of a financing statement, the subsequent creditor is on notice that the property may be the collateral of the prior-filed creditor, and “the burden is on the subsequent creditor to inquire further.”

In an interesting twist, Judge Dow found that the existence of an ambiguity in the collateral description of the financing statement did not prejudice the prior-filed creditor, but instead provided sufficient notice to the subsequent-filed creditor to impose a duty of further inquiry into the nature of the secured transaction covered under the financing statement. Judge Dow pointed out that the court does not employ traditional means of statutory construction in analyzing an ambiguous financing statement because the court does not proceed to interpret the language. Instead, the court inquires whether the financing statement sufficiently describes the collateral such that “the subsequent creditor should have been on notice to inquire further into the collateral.”

Conclusion

While it is important to prepare financing statements clearly and correctly, the policy with respect to financing statement collateral descriptions under the UCC is meant to be flexible and fundamentally fair. Unlike the wisdom dispensed by Mrs. Gump — “stupid is as stupid does” — some careless errors in financing statement collateral descriptions can be overcome to save the priority position of a prior-filed secured creditor.

In contrast, the UCC policies of flexibility and fairness shown in 8760 Service Group are lost on the former secured creditors of General Motors. The mistaken termination of a financing statement can have catastrophic consequences. See, e.g., In re Motors Liquidation Co., 777 F.3d 100 (2d. Cir. 2015) (erroneous filing of termination statement that related to collateral given in connection with unrelated loan, other than that which Chapter 11 debtor was paying off, resulted in debtor's indebtedness of roughly $1.5 billion on this other loan being unsecured).

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Thompson Coburn LLP | Attorney Advertising

Written by:

Thompson Coburn LLP
Contact
more
less

Thompson Coburn LLP on:

Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
- hide
- hide

This website uses cookies to improve user experience, track anonymous site usage, store authorization tokens and permit sharing on social media networks. By continuing to browse this website you accept the use of cookies. Click here to read more about how we use cookies.