A Stitch in Time:
Secured Lending Under Revised Article 9
By W. Christopher Barrier

I. OVERVIEW
A. Purpose - Revised Article 9 to the Uniform Commercial Code ("RA9") is intended (a) to expand the types of collateral which may be encumbered pursuant to its terms, and (b) to simplify and clarify the rules for creating and perfecting those security interests, as well as those with regard to filing, enforcement and priorities.
B. Method - It does this not with isolated amendments, but with a wholesale re-writing of Article 9 its definitions section is 15 pages long, it contains many provisions formerly found in Article 8, there is an additional section, and the section numbering is different in many places.
C. Scope - This article deals with the steps your lender client (Bank) will need to take to maintain its secured status as to personal property collateral after the July 1, 2001 effective date of RA9, particularly through the transition period permitted by RA9. It focuses primarily on (1) continuations of existing loans; (2) curative requirements for certain of those loans needing attention regardless of continuation; (3) documentation issues for new loans intended to comply with RA9 after July 1, 2001, including filing requirements and offices, forms, and collateral; and (4) the new default and repossession rules.
D. Assumptions - It assumes that the security for the Bank's existing loans with which we are dealing has been perfected by filing, possession or control, and that few, if any, of its significant collateralized loans fall outside those three perfection methods. Nonetheless, it points out types of collateral
and transactions that previously were excluded from coverage by the UCC, but are brought within its scope by RA9.
E. AgLending Issues - It deals specifically with typical agricultural loans and requirements specific to that category of loans. Arkansas will remain one of the few states, if not the only state, which preserves local county filings for agricultural loans made under the UCC. Arkansas agricultural lenders would have been better served had Arkansas adopted the Model Provisions for Production Money Priorities proposed by the drafters of RA9, which are clear and direct. Perhaps a future General Assembly will remedy this oversight.

II. CONTINUATIONS.
A. Fact Pattern - Assume a loan closed December 1, 1996 made to an Arkansas corporation secured by a chattel mortgage and financing statement on restaurant equipment.
     Financing statements were filed with the Circuit Clerk and with the Arkansas Secretary of State. It is now time to file a continuation statement.
     This transaction remains subject to existing Article 9 and RA9 as well. Using the new forms (which should be absolutely standard in all states adopting RA9), the Bank merely needs to file a conventional continuation statement with the Arkansas Secretary of State, but not with the Circuit Clerk. The same procedure is applicable if the borrower is an individual and a resident of Arkansas. If it is a general partnership organized in a state with no organizational document filing requirements, and the chief executive office is in Arkansas, the procedure is the same.
B. "Birth" State Continuation Filings - If the borrower is a corporation, LLC, limited
partnership or other entity whose organizational documents must be filed, the continuation needs to be filed with the Secretary of State in its state of organization, even if no original were filed there. If that is the case, the Bank will continue its lien by filing a typical UCC-1, including a collateral description, but one which also references the earlier filing and the purpose of the current filing.
     If, for example, the borrower is a Delaware corporation with its chief executive office in Arkansas County, the original financing statement filings likely would have been made with the Arkansas Secretary of State and also the Arkansas County Circuit Clerk's UCC records. The continuation statement (as described above) will be filed neither of those offices, but instead with the Secretary of State of Delaware.
C. When To Act - These transitional steps, in the vast majority of cases, will be taken in response to the Bank's tickler system reminding its employees to prepare and file a continuation statement for a particular loan, not as a result of a review of every existing Bank loan. And in fact, RA9 preserves the effectiveness of existing filings until a continuation is needed, even if those filings would be in the wrong state had they been filed after July 1, 2001.

III. CURATIVE FILINGS AND DRAFTING.
A. Collateral Descriptions - There are, however, instances where the Bank will need to act prior to July 1, 2002, even if its loan were closed and filing made, for example, on April 1, 2001.
     RA9 does not permit generic, overbroad descriptions in security agreements, such as "everything Borrower owns" (unless that happens to be correct), or "all of Borrower's securities accounts" (even if that is true), even though the financing statement can be more general than the security agreement it
evidences.
      The security agreement must at least use the categories described in the Code, such as "accounts, equipment, and general intangibles," and if the existing agreement does not conform to those requirements, it must be corrected or it may become ineffective.
     Perhaps more seriously, if the security agreement or financing statement does not specifically include and describe certain collateral because it was previously not subject to Article 9 such as commercial bank accounts, commercial tort claims, certain insurance proceeds, or license fees the documents must be amended to include them within the year, or an intervening creditor may step in and obtain priority as to those categories of collateral.
     In new filings, a list of categories should be followed by "as currently or hereafter defined." As a practical matter, many lenders use the same description in the security agreement as in the financing statement, which is a safer approach, but, again the issue is whether the collateral description still matches the intended collateral after July 1, 2001. Filing or non-filing can also trigger the one year rule if RA9 requires filing for a category of collateral, but existing Article 9 did not, the unfiled creditor has a year to remedy that.
B. Debtor Name Issues - Whether filed as a continuation statement or as an initial filing, the filing needs to comply in all respects with RA9 for instance, in addition to correct terminology, the borrower's legal name must be stated correctly and spelled correctly, not using an assumed name or nickname. This is important because, if a later computer search does not pick up the Bank's filing, it is as if it had never been filed.
      And that depends on the search logic used by that particular office if, for example, the Bank's borrower is "Excell Elevators" but the Bank inadvertently puts in "Exell Elevators" in the name box, it could be picked up in some states and not in others. So, make sure you have verification of the correct name from a public filing, not just letterhead or phonebook.
      If the debtor is a trust with a name, use that name the way it is stated in the document creating it.
If it is a trust without a name (a relative rarity), use the trustee's name in that capacity.
     What about individuals using nicknames, their middle name and first initial? RA9 is not crystal clear, but, as a general rule, be as precise as possible Buddy Wiggins should be Wiggins, John Robert.
     As a practical matter, the Bank will want to use the statutory form because filing officers cannot refuse it and it discourages errors, but it really does not easily accommodate DBAs or nicknames unless inserted as an "additional debtor."
     The Bank may want to keep a photocopy of an individual borrower's Social Security card in its file, even if it doesn't fill in the number on the form. It can do the same with drivers' licenses, but licenses are clearly less reliable sometimes nicknames show up on them.
C. Third Party Collateral Holders - If the Bank has perfected by possession through a third party bailee and has only notified the bailee rather than having it acknowledge the Bank's interest (somewhat in the way life insurance companies acknowledge assignments), it will need to get the acknowledgment within the one year period. Likewise, if a borrower has assigned to the Bank a significant breach of contract claim as part of its collateral for a line of credit, which is made subject to the Code by RA9, a financing statement needs to be filed in that one-year period describing the claim with some specificity.
D. When To File - Filings done before July 1, 2001 which complied with RA9 automatically became effective when RA9 did. For example, if the Bank closed a loan on June 25, 2001 with a borrower that was a Delaware corporation with its chief executive office in Arkansas, it could have gone ahead and filed in Delaware instead of (or in addition to) Arkansas, rather than waiting.
     This is also relevant with reference to categories and terminology. Since "instruments" can be encumbered by a filing under RA9, including that term in a pre-7/1/01 filing worked to perfect on instruments described in the security agreement on the effective date. Likewise, since the term "account" is somewhat broader under RA9, including it in a pre-effective date filing when the security agreement clearly includes within the term collateral such as license fees (which were a general intangible until July 1) was effective.

IV. TYPICAL AG LOAN REQUIREMENTS.
     Typical agricultural liens under RA9 do not require much adjustment in thinking or procedures, but they do require some. Under RA9, a security interest in crops growing on real estate which is perfected by filing in the same manner as is utilized currently will take priority over any conflicting interests of a real estate encumbrancer.
     Production money security interests (as noted, a term lamentably absent from Arkansas's version of RA9) and traditional landlord's liens are now treated like any other extension of credit filing is required to perfect. RA9 does not appear to require legal descriptions for any of the crop lien filings, but they should be used whenever possible, and filings made in every county where the borrower farms. RA9 deletes old Section 9-312(2) (including 9 312(2)(f)) and does not really replace it with a specific agricultural lending provision. It makes sense to read RA9's provisions on purchase money security interests and inventory financing (new Sections 9 1039(b), 9-322 and 9-324) as giving a lender who finances the production of a crop that preferred status if they follow the same procedures, but RA9 could certainly be clearer in that regard and pre lending lien searches and subordinations will be more important than ever.
     The revised article does clarify that the borrower need only be "engaged in farming operations" with respect to the property pledged, rather than being an actual "farmer," and that aquaculture is a sub-category of agriculture.

V. MISCELLANEOUS ISSUES/
QUESTIONS.
     As alluded to above, there simply are a number of provisions in RA9 which, while generally helpful to lenders, will require conceptual and procedural re-thinking:
A. Signatures - In what may be the most dramatic change in Article 9, RA9 substitutes "authenticated record" for "signed writing" for almost all purposes, allowing acceptance of commitments, acceptance of extensions, and almost any other act usually done with a signed writing to be done by fax, email or similar expression of consent. The new form of financing statement can't be signed.
     If the security agreements says the lender can sign for the borrower, it can. And, if the security agreement simply calls for filing and perfection, the lender automatically has the right to cause those things to be done, with no signatures at all.
B. Accounts Redefined - "Accounts" traditionally has encompassed money due from the sale or lease of goods or provision of services, other rights to payments being general intangibles.
     Under RA9, almost all other "payment obligations" become accounts-- license fees, payments for leases of software, insurance premiums or commissions, lottery winnings, payments due for energy, and credit card receivables. However, payments under a loan participation do not, hence, no filing is required to perfect the participants' rights.
C. Floor Plan Lending - The substance of the provisions with regard to inventory, especially with regard to floor-plan lending, are basically unchanged, although RA9 does make some helpful clarifications with regard to cash proceeds of sales of inventory.
D. After-Acquired Torts - However, an after acquired property clause simply cannot apply to commercial torts since they cannot be adequately described until they actually arise. (This type of collateral is too rare to warrant an extended discussion, but think in terms of copyright infringement.)
E. Instruments - Promissory notes (and other instruments, which, definitionally, never includes credit card slips) can be assigned and a security interest perfected by filing. However, a creditor perfecting by possession will prevail over a filer, and both will prevail over a judgment creditor seeking to levy on the note. This same three-part priority system also applies to investment property (substituting control for possession), and negotiable equity securities.However, "supporting obligations" (such as guaranties) follow the debt obligation, and do not require possession or perfection.
F. Control Agreements - The concept of control utilized with reference to investment property, such as brokerage accounts, has been extended for non-consumer loans to deposit accounts. In particular, the Bank can perfect a security interest in a borrower's deposit account at another bank, using a control agreement, which should also waive that bank's right to set-off.
    Of course, deposit accounts subject to one creditor's control agreement may contain cash proceeds relating to collateral of a second creditor. In that instance, the control agreement creditor has priority. Hence, the second creditor may want to require deposit of proceeds into a specific account, as to which the lender has agreed not to accept control or exercise set-off.
    One other cautionary note: deposits of proceeds into lock-box accounts (as with asset-based line of credit loans) must be either used to pay down the debt or be returned to the debtor that's not the way to perfect on cash.
    Pledges of letter of credit rights must also be perfected by a control agreement. Physically holding the letter of credit is not enough.
    For all types of control agreement perfection, which now includes commodities accounts, you can still have more than one, but under RA9, they no longer stand on equal footing, but rather first in time prevails. Since it is a present encumbrance, a contractual security interest will prevail over the claims of a bankruptcy trustee more certainly than a mere right to set-off will.
G. Health-Care-Insurance Receivables, L/C Rights, ECP - While insurance has generally been excluded from Article 9, "health-care insurance receivables" can now be encumbered under RA9, like any other payment obligation. Likewise, letter of credit rights (but, not the right to draw on one) can be encumbered, as can electronic chattel paper (as rare as it may be in the Bank's normal operations).
H. Bond Issues - Governmental obligations which were previously excluded from Article 9 are now included in RA9, to the extent not covered by a specific statute.
I. Free Transferability - Existing Article 9 generally renders ineffective prohibitions against pledging accounts as collateral, and RA9 strengthens those prohibitions in the interest of free transferability.
    It also makes it clear that assuming debtors step completely into the shoes of their seller-assignors.
J. Name Changes - If a borrower changes its name so as to be misleading (according to the applicable search logic), collateral acquired four months after the change may be free of the perfected lien.
So, a new UCC-1 filing may be required in the new name.
     If a Delaware corporation re-domesticates to Arkansas, the resulting entity is normally a "new" debtor, but, if the surviving entity uses essentially the same name, the one-year rule can apply. However, the loss of the lien on subsequently acquired collateral may also occur.
K. Termination of Financing Statements - Since there are penalties for failure to terminate financing statements when the Bank has been paid off, obviously it will need to make sure its tickler system is active and accurate.

VI. REMEDIES/REPOSSESSION.
    As much of the litigation under old Article 9 arises in the enforcement of a security interest, RA9 was drafted to resolve past disputes. The following revisions, while not foolproof, should provide the flexibility and effectiveness that your Bank needs in dealing with default.
A. Secured Party's Options After Default - Upon default by the debtor, the secured party can take possession of or control over collateral, but cannot breach the peace in doing so. 9-503; Rev.9-609(b); Ark. Code Ann. 4-9 609(b). A secured party can collect collateral from account debtors and those obligated on the instruments ( 9 502; Rev. 9607, Ark. Code Ann. 4-9 607); sell or retain the collateral to satisfy the debts ( 9-504 and 505; Rev. 9-610 and 620; Ark. Code Ann. 4-9-610 and 620); or judicially foreclose on the collateral pursuant to local procedures ( 9 501(1); Rev. 9-601(f); Ark. Code Ann. 4-9-601(f)).
i. Collection: A secured party's collection remedy is expanded and clarified by RA9. Under Rev. 9-607(b) (Ark. Code Ann. 4 9-607(b)), a secured party that is an assignee of an obligation secured by a real estate mortgage has the right to become the mortgagee of record upon the debtor's default in order to foreclose nonjudicially on the mortgage. A secured party can also receive and apply against the secured debt funds in a deposit account over which the secured party has control. Rev. 9-607(a)(4) and (5); Ark. Code Ann. 4-9 607(a)(4) and (5). Finally, a secured party can also deduct its collection expenses for collections made in a commercially reasonable manner. Rev. 9-607(d); Ark. Code Ann. 4-9-607(d).
ii. Disposition: A secured party may sell or dispose of the collateral by a "commercially reasonable" public or private sale, applying the proceeds to satisfy the debt. 9-504; Rev. 9-610 and 615; Ark. Code Ann. 4-9-610 and 615. The obligation of commercial reasonableness cannot be waived by the debtor. 9-501(3)(b); Rev. 9-602(7); Ark. Code Ann. 4-9-602(7).
    RA9 further defines aspects of disposition and provides additional protection for other interested parties. A secured party may dispose of collateral by license (Rev. 9-610(a); Ark. Code Ann. 4-9-610(a)), may disclaim or modify disposition warranties (Rev. 9-610(e)), and must provide notification of disposition, if required, to all lienholders of the collateral disclosed through a UCC search (Rev. 9-611(b), (c), and (e); Ark. Code Ann. 4-9-611(b), (c), and (e)). In commercial transactions, ten (10) days prior notice of disposition is considered to be per se reasonable. Rev. 9-612(b); Ark. Code Ann. 4 9-612(b).
    For commercial and consumer transactions, RA9 provides "safe harbor" disposition notification forms. Rev. 9-613 and 614; Ark. Code Ann. 4-9 612(b). There is also a title clearing mechanism that
provides a transfer of record of titled collateral to a purchaser at a foreclosure sale. Rev. 9-619; Ark. Code Ann. 4-9-619.
iii. Retention of Collateral to Satisfy Secured Debt:
    Old Article 9 allows a secured party to retain collateral in satisfaction of a secured debt, subject to written notice and objection procedures. 9-501(3)(c); 9-505(2). RA9 retains and modifies this remedy. First, a secured party in a commercial transaction may retain collateral to satisfy a secured debt even when the secured party is not in possession of the collateral. Rev. 9 620(a)(3); Ark. Code Ann. 4-9-620(a)(3). The notification by the secured party of intent to retain the collateral in satisfaction may be an "authenticated" notice, rather than written, and the debtor may object in 20, not 21, days. Rev. 9-620(a) and (c); Ark. Code Ann.-9-620(a) and (c). As with old Article 9, the debtor may waive its rights to notice or agree to retention, but only after default. Rev. 9-602(10); Ark. Code Ann. 4-9-602(10). The secured party is obligated to inform other secured parties and lienholders of records of its intention to retain the collateral. Rev. 9-621; Ark. Code Ann. 4-9-621. If the debtor, other secured party, or lienholder makes a written object to retention, the secured party does not have to dispose of the collateral, but it cannot retain the collateral to satisfy the secured debt. Rev. 9-620(a)(4); Ark. Code Ann. 4-9 620(a)(4). Under RA9, the secured party may now retain the collateral in partial satisfaction of the secured debt only in commercial (not consumer) transactions. Rev. 9-620; Ark. Code Ann. 4- 9-620.
    The process of retaining collateral in satisfaction will not be recognized unless the secured party takes the affirmative steps required in Rev. 9 620. Rev. 9-620(b); Ark. Code Ann. 4-9-620(b).
    Consistent with old Article 9 is the prohibition on retaining collateral in satisfaction with certain consumer goods where a significant part of the purchase price of certain consumer goods has already been paid. Rev. 9 620(e); Ark. Code Ann. 4-9-620(e).
B. Application of noncash proceeds - If a secured party receives noncash proceeds (defined at Rev. 9-102(a)(58)) through the process of collection or disposition, the secured party may value these proceeds and apply them to the debt in a commercially reasonable manner. Unless the secured party's failure to value and apply such proceeds to the secured debt is commercially
unreasonable, the secured party may reduce and collect or dispose of the proceeds, as RA9 collateral, until they have been converted to cash for application of the secured debt. Rev. 9-608(a)(3) and 615(c); Ark. Code Ann. 4-9-608(a)(3) and 615(c).
C. Surplus or deficiency - In a secured transaction that is a sale of accounts, chattel paper, payment intangibles, or promissory notes, unless otherwise agreed, the debtor is not entitled to a surplus nor liable for a deficiency. Rev. 9-608(b) and 615(e); Ark. Code Ann. 4-9-608(b) and 615(e).
D. Non-compliance - RA9 adopts what is known as the "rebuttable presumption" rule for commercial transactions where the secured party fails to comply with the enforcement provisions of Article 9. In the event a secured party forecloses improperly, and then brings an action for a deficiency against the debtor, RA9 presumes that the value of the collateral equals the entire secured debt unless the secured party can rebut this presumption. Rev. 9-626(a)(3); Ark. Code Ann. 4-9-626(a)(3).
    Revised Article 9 does not specify the process to be used in consumer transactions.
E. Status of guarantors - RA9 requires that disposition notifications be given to guarantors and secondary obligors. Rev. 9-611(c)(2); Ark. Code Ann. 4-9 611(c)(2). This notification cannot be waived by the guarantor or secondary obligor until after default. Rev. 9-624(a); Ark. Code Ann. 4-9-624(a). If the guarantor or secondary obligor is not known to the secured party, the secured party is not liable for failure to notify. Rev. 9 628(a) and (b); Ark. Code Ann. 9-628(a) and (b).
F. Insider dispositions - RA9 protects the debtor from situations where a secured party, someone related to a secured party, or a secondary obligor acquires collateral at a foreclosure sale which collects proceeds that are significantly lower than the proceeds that would have been realized through comparable sale to an unrelated purchaser. RA9 defines a person related to a secured party at 9-102(a)(63). See Ark. Code Ann. 4-9 102(a)(63). If such a sale takes place, the deficiency that remains must reflect a credit to the debtor for the higher amount of proceeds that would have been paid through a sale to the hypothetical unrelated purchaser. Rev. 9-615(f); Ark. Code Ann. 4 9-615(f).
G. Consumer provisions - RA9 contains many provisions with special rules governing consumer transactions. A consumer transaction is defined as a transaction where an individual incurs an obligation primarily for personal, family, or household purposes, a security interest secures the obligation, and any of the collateral is held primarily for personal, family, or household purposes. Rev. 9-102(a)(26); Ark. Code Ann. 4-9-102(a)(26).
    Consumers receive various special notices in connection with foreclosure. For example, the 10 days per se reasonable notice rule for notice of the secured party's disposition of collateral does not apply to consumer collateral. Rev. 9-612(b); Ark. Code Ann. 4-9-612(b). A consumer debtor must be provided with an explanation of the calculation of any deficiency owed prior to the secured party's demand for payment of such deficiency. Rev. 9-616; Ark. Code Ann. 4-9-616. A secured party cannot retain collateral in possession of a consumer debtor and cannot retain such collateral in partial satisfaction of a secured debt. Rev. 9-620(a)(3) and (g); Ark. Code Ann. 9-620(a)(3) and (g). A consumer debtor can never waive his right of redemption, even following default. Rev. 9-624(c); Ark. Code
Ann. 9-624(c). Finally, the courts are free to adopt any rule (i.e., rebuttable presumption, offset, or absolute bar) when it comes to deficiencies in consumer transactions; the "rebuttable presumption" rule governing deficiencies in commercial transactions does not apply. Rev. 9-626(a); Ark. Code Ann. 4 9-626(a).
H. Exclusions - The enforcement provisions in Part 6 of RA9 do not apply to true co-signors or buyers of accounts, chattel paper, payment intangibles, or promissory notes, except a buyer's obligation to use commercial reasonableness in collecting collateral when the buyer has a right of chargeback on uncollected collateral or full or limited credit recourse to the debtor. Rev. 9-601(g) and 607(c); Ark. Code Ann. 9-601(g) and 607(c).
I. "Commercial Reasonableness" - Each aspect of the foreclosure sale must be "commercially reasonable." Rev. 9-610(b); Ark. Code Ann. 9-610(b). A low price alone does not render a sale not "commercially reasonable," but such a price suggests that a court should carefully scrutinize all parts of the disposition. Rev. 9-610; Ark. Code Ann. 9-610.
J. "Good Faith" - The definition of "good faith" in RA9 is consistent with the revisions to other UCC articles, and includes "honesty in fact and the observance of reasonable commercial standards of fair dealing." Rev. 9 102(a)(43).

SUMMARY:
(1) Revised Article 9 broadens its scope as to what may be encumbered pursuant to it, and expands certain existing categories, notably "accounts."
(2) It expands the definition of "proceeds," to cover distributions on stock and licensing
proceeds, with the same result.
(3) It extends the Article 8 concept of "control" to deposit accounts and letters of credit.
(4) It expands the definition of "purchase money security interest" and clarifies priorities among competing PMSI lenders, although at the cost of less certainty in traditional crop production lending.
(5) It makes perfection easier by permitting filing on instruments, by reducing the need for an inked debtor signature, by simplifying where to file, and clarifying the rules on collateral descriptions.
(6) It eliminates local filing except for fixtures, timber and agricultural products, and standardizes forms and rules for central filings.
(7) It encourages certainty and uniformity in foreclosure situations.(8) It makes collateral more easily pledgable, including deposit accounts.
(9) It provides for a manageable transition period.
    Once fully implemented, Revised Article 9 will benefit lenders and borrowers alike (but generally not trustees in bankruptcy).