1. 19 - 127 - 1 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Chapter 27 Secured Transactions and Security Interests in Personal Property

2. 19 - 227 - 2 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Secured Transaction A transaction that is created when a creditor makes a loan to a debtor in exchange for the debtor’s pledge of personal property as security.

3. 19 - 327 - 3 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Basic Terminology Debtor – The party who owes payment or other performance of the secured obligation. Secured Party – A seller, lender, or other party in whose favor there is a security interest, including a party to whom accounts or chattel paper has been sold. Security Interest – An interest in personal property or fixtures that secures payment or performance of an obligation.

4. 19 - 427 - 4 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Basic Terminology (continued) Security Agreement – The agreement between the debtor and the secured party that creates or provides for a security interest. Collateral – The property subject to a security interest, including accounts and chattel paper that have been sold.

5. 19 - 527 - 5 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Security Interest in Personal Property Tangible personal property –Equipment –Vehicles –Furniture –Computers –Clothes –Jewelry Intangible personal property –Securities –Patents –Trademarks –Copyrights

6. 19 - 627 - 6 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Personal Property and Credit Personal property is often sold on credit –Unsecured credit No interest in collateral If debtor defaults, creditor must sue debtor –Secured credit Purchaser pledges collateral –Creditor may recover collateral in case of default

7. 19 - 727 - 7 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Secured Transaction Creditor extends credit to debtor and takes security interest. Secured party is seller, lender, or third party. Secured party can foreclose on collateral if debtor fails to pay. Governed by Revised Article 9 of the UCC.

8. 19 - 827 - 8 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Two-Party Secured Transaction Sale of Goods on Credit Secured Interest in the Goods Buyer-Debtor Seller-Lender Secured Creditor

9. 19 - 927 - 9 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Three-Party Secured Transaction Sale of Goods Buyer-DebtorSeller Lender-Secured Creditor Security Interest in the Goods Loan of Funds

10. 19 - 1027 - 10 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Personal Property Subject to a Security Agreement Goods Instruments Chattel paper Documents of title Accounts General intangibles

11. 19 - 1127 - 11 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Personal Property Subject to a Security Agreement Goods, including: –Consumer goods bought or used primarily for personal, family, or household purposes –Equipment bought or used primarily for business – Farm products including crops, livestock and supplies used or produced in farming operations

12. 19 - 1227 - 12 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Personal Property Subject to a Security Agreement (continued) Goods (continued) – Inventory held for sale or lease, including work in progress and materials – Fixtures affixed to real estate so as to become part thereof Instruments, such a checks, notes, stocks, bonds, and other investment securities

13. 19 - 1327 - 13 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Personal Property Subject to a Security Agreement (continued) Chattel paper, such as a conditional sales contract Documents of title, including bills of lading and warehouse receipts Accounts, such as accounts receivable General intangibles, such as patents, copyrights, money franchises, and royalties

14. 19 - 1427 - 14 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Written Security Agreement The agreement between the debtor and the secured party that creates or provides for a security interest.

15. 19 - 1527 - 15 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Written Security Agreement To be valid, a written security agreement must: 1.Clearly describe the collateral so that it can be readily identified. 2.Contain the debtor’s promise to repay the creditor, including terms of repayment. 3.Set forth the creditor’s rights upon the debtor’s default. 4.Be signed by the debtor.

16. 19 - 1627 - 16 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Attachment Debtor must have current or future legal right in or right to possession of collateral. Rights of secured party attach to collateral. Creditor has enforceable security interest in property. Debt can be satisfied out of collateral.

17. 19 - 1727 - 17 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman The Floating-Lien Concept A security interest in property that was not in possession of the debtor when the security agreement was executed. A floating lien can attach to: –After-acquired property –Future advances –Sale proceeds

18. 19 - 1827 - 18 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Perfecting a Security Interest Establishes the right of a secured creditor against other creditors who claim an interest in the collateral. Perfection is a legal process.

19. 19 - 1927 - 19 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Perfection of a Security Interest (continued) The three main methods of perfecting a security interest under the UCC are: 1. Perfection by filing a financing statement 2. Perfection by possession of collateral 3. Perfection by a purchase monetary security interest in consumer goods

20. 19 - 2027 - 20 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Perfection by Filing a Financing Statement A document filed by a secured creditor with the appropriate government office that constructively notifies the world of his or her security interest in personal property. Financing statements are effective for five years from the filing date. State law specifies where the financing statement must be filed.

21. 19 - 2127 - 21 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Perfection by Possession of Collateral If a secured creditor has physical possession of the collateral, no financing statement has to be filed. The creditor’s possession is sufficient to put other potential creditors on notice of his or her secured interest in the property. A secured creditor who holds the debtor’s property as collateral must use reasonable care in its custody and preservation.

22. 19 - 2227 - 22 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Perfection by a Purchase Money Security Interest in Consumer Goods An interest a creditor automatically obtains when it extends credit to a consumer to purchase consumer goods. The creditor does not have to file a financing statement or take possession of the goods to perfect his or her security interest.

23. 19 - 2327 - 23 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Summary: Methods for Perfecting a Security Interest Perfection Method How Created Financing statement Creditor files a financing statement with the appropriate government office. Possession of collateral Creditor obtains physical possession of the collateral. Purchase money security interest Creditor extends credit to a debtor to purchase consumer goods and obtains a security interest in the goods.

24. 19 - 2427 - 24 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Termination Statement A document filed by a secured party that ends a secured interest because the debt has been paid. Must be filed within one month after the debt is paid or 10 days after receipt of the debtor’s written demand (whichever occurs first).

25. 19 - 2527 - 25 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Priority of Claims Priority – The order in which conflicting claims of creditors in the same collateral are solved. The priority of claims is determined according to: 1. Whether the claim is unsecured or secured 2. The time at which secured claims were attached or perfected

26. 19 - 2627 - 26 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman UCC Rules for Determining Priority 1. Secured versus Unsecured Claims. A creditor who has the only secured interest in the debtor’s collateral has priority over unsecured interests. 2. Competing Unperfected Secured Claims. If two or more secured parties claim an interest in the same collateral but neither has a perfected claim, the first to attach has priority.

27. 19 - 2727 - 27 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman UCC Rules for Determining Priority (continued) 3. Perfected versus Unperfected Claims. If two or more secured parties claim an interest in the same collateral but only one has perfected his or her security interest, the perfected security interest has priority. 4. Competing Perfected Secured Claims. If two or more secured parties have perfected security interests in the same collateral, the first to perfect has priority.

28. 19 - 2827 - 28 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman UCC Rules for Determining Priority (continued) 5. Perfected Secured Claims in Fungible, Commingled Goods. If a security interest in goods is perfected, but the goods are later commingled with other goods and the goods become part of a product or mass and lose their identity, the security interests rank equally, according to the ratio that the cost of goods to which each interest originally attached bears to the cost of the total product or mass.

29. 19 - 2927 - 29 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Exceptions to the Perfection-Priority Rule Purchase money security interest: inventory as collateral Purchase money security interest: non-inventory as collateral Buyers in the ordinary course of business Secondhand consumer goods

30. 19 - 3027 - 30 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Default Failure to make scheduled payments when due, bankruptcy of the debtor, breach of the warranty of ownership as to collateral, and other events defined by the parties to constitute default [UCC 9-501(1)].

31. 19 - 3127 - 31 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Default and Remedies Upon default by the debtor, the secured party may reduce his or her claim to judgment, foreclosure, or otherwise enforce his or her security interest by any available judicial procedure.

32. 19 - 3227 - 32 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Default The debtor will be considered in default if they: –Fail to make scheduled payments. –File for bankruptcy. –Breach the warranty of ownership as to the collateral. –Are in violation of any event defined in the security agreement.

33. 19 - 3327 - 33 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman UCC Remedies for Default ( The UCC provides the secured party with the following remedies: 1. Taking possession of the collateral 2. Relinquishing the security interest and proceeding to judgment on the underlying debt 3. Security agreements covering real and personal property

34. 19 - 3427 - 34 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Repossession The secured party may cure the default by taking possession of the collateral. –The secured party may then: Retain the collateral. Sell or dispose of the collateral and satisfy debt from proceeds.

35. 19 - 3527 - 35 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Retention of Collateral The secured creditor may retain possession. –Must notify debtor, unless debtor renounced rights in writing. Secured creditor may not retain property if: –There is a written objection. –The goods are consumer goods and the debtor has paid 60 percent of the cash price or loan.

36. 19 - 3627 - 36 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Disposition The creditor may dispose of goods in any commercially reasonable method. The proceeds must first be applied to: –Reasonable expenses of retaking, holding, and preparing collateral for sale. –Satisfying balance owed. –Satisfaction of any subordinate claims. –Debtor gets surplus.

37. 19 - 3727 - 37 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Deficiency and Redemption The secured party may bring an action to recover any deficiency. The debtor or another secured party may redeem the collateral before the lienholder has disposed of it, entered into a contract for sale, or discharged the debtor’s obligations.

38. 19 - 3827 - 38 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Relinquishing the Security Interest The creditor may relinquish his security interest and proceed to judgment to recover underlying debt. –Usually chosen when value of collateral has been reduced below value of secured interest.

39. 19 - 3927 - 39 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Surety Arrangement Third person (surety or co- debtor) agrees to be liable for payment of another person’s debt. Surety is also called accommodation party or cosigner. Surety is primarily liable for paying principal’s debt.

40. 19 - 4027 - 40 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Guaranty Arrangement Third person (guarantor) agrees to pay debt of principal debtor if he defaults. Guarantor is secondarily liable on debt.

41. 19 - 4127 - 41 © 2007 Prentice Hall, Business Law, sixth edition, Henry R. Cheeseman Defenses of a Surety or Guarantor Guarantor or surety may allege the same defenses that the principal debtor has. The defense of fraudulent inducement to enter as guarantor/surety may be alleged. Duress may be alleged. Guarantor/surety may not assert debtor’s incapacity.