TOYO TIRE (U.S.A.) CORPORATION

THE NEW UCC ARTICLE 9 – TAKING AND PERFECTING SECURITY INTERESTS

Presented By WILLIAM B. CREIM

THE NEW UCC ARTICLE 9

Article 9 of the Uniform Commercial Code, which deals with security interests and UCC filing, has changed. The changes took effect July 1, 2001, in most states. As a creditor, you should take action now to maximize your security interests.

New Article 9 makes it easier for creditors to take and perfect security interests. Creditors who have not taken security interests in the past due to complicated filing requirements and costs may now decide to use security interests to help manage and reduce their credit risks. By taking the steps described in this article, creditors can maximize their security interests and meet the New Article 9 filing requirements.

Key Changes

The key changes impacting creditors are as follows:

• The place of filing for UCC Financing Statements will be based on where the Debtor is organized or registered – NOT the location of the collateral. Filings against sole proprietors should be done in the state of the sole proprietor’s principal residence.
• County and Multiple filing requirements are eliminated for most types of collateral.
• In some states UCC filings can be done on-line electronically.
• Debtor’s signature is not required on the UCC filing if the creditor has "authenticated" the grant of security interest.
• Priority rules become complicated: A creditor may need to search several states to determine its priority in debtor collateral.
• The “Dual Status” approach is approved – A creditor may take a Purchase Money Security Interest AND a broader security interest.

Overview

The New Article 9 makes it much easier for creditors to perfect security interests through UCC filings. Many cumbersome filing requirements have been simplified or eliminated. Under the New Article 9, creditors who have never taken security interests due to the complicated filing requirements may now decide to take security interests to help manage and reduce their credit risks.

Prior Law

A security interest is a type of lien taken by a creditor in personal property of a debtor. The creditor typically has the debtor sign a Security Agreement – a contract between the creditor and debtor in which the debtor grants the creditor a lien against specific collateral held by the debtor (e.g., the inventory the debtor buys from the creditor on open account terms). The Security Agreement establishes the creditor’s rights against the debtor. By filing a UCC-1 financing statement (for most types of collateral), the creditor “perfects” its security interest and establishes its rights in the debtor’s collateral against all other creditors of the debtor. A creditor who takes a security interest in the “inventory” it sells to a debtor (inventory means goods the debtor intends to sell to others) has a “purchase money security interest” in that inventory.

Under the prior law a creditor could obtain a first priority security interest in that inventory in the following ways:

1. Having the debtor sign a security agreement granting the creditor a purchase money security interest in the inventory;
2. Perfecting the security interest by filing a UCC-1 financing statement in all states where the debtor collateral was located. Some states required state and county filing;
3. Conducting UCC searches in all relevant states and counties to determine what other creditors have security interest covering the inventory; and
4. Giving written notifications to these prior secured creditors (“purchase money notification”). This notification is typically done with a one-page form letter to the prior secured creditor identifying the debtor, the creditor and describing the inventory collateral subject to the purchase money security interest.

Upon completion of these four steps, the creditor had a first priority purchase money security interest in the inventory it sells to the debtor. This means that the creditor has a first priority position in its inventory if the debtor files bankruptcy or goes through a bulk sale. It also makes it easier for the creditor to recover its inventory from the debtor if the debtor fails to pay the creditor for the goods.

Perfecting Security Interests Under the New Law

The main difficulties a creditor encounters under the current law is illustrated by the following example:

Joe Credit works for Widgetmaster, Inc. Widgetmasters sells widgets to Debtco, Inc. Debtco is incorporated in Delaware, and does business in 37 states (but not Delaware). Under the prior law, Joe needed to file UCC-1 financing statements in all 37 states where Debtco does business, in addition to extra county filings in many states, to perfect its security interest. Joe then needed to conduct UCC searches in all 37 states plus all relevant counties. Finally, Joe had to review the search results from all these states and counties and give purchase money notification to all creditors with prior perfected security interests covering Widgetmasters, Inc. inventory. This was a massive undertaking for overworked (and underpaid) Joe Credit.

Under New Article 9, Joe’s company will only need to file a UCC-1 financing statement against Debtco with the State of Delaware. Until June 30, 2006, Joe will still need to conduct a UCC search in Delaware (where Debtco is incorporated) and the other 37 states to determine where to send purchase money notification letters.

Action Steps to Take Now

A creditor who uses security interests should take the following action now to maximize its security interests:

1. Determine the state of incorporation for all its debtors which are corporations or LLCs. The creditor also needs to verify the state of principal residence for its sole proprietor debtors.
2. Determine each debtor’s identification number (not the tax identification number) from the debtor or the debtor’s state of incorporation or organization.
3. File UCCs in any states where a new filing is required to perfect the security interest (i.e. if the creditor has no current filings in the debtor’s state of incorporation, file now). File "In Lieu-of" filings to keep your priority from other states.
4. Update your form Security Agreement to include authentication language so that you can make future filings without having to obtain the debtor’s signature.
5. Consider including a debtor grant of security interest and authentication language in your company’s credit application, dealer agreements, etc.

Conclusion

New Article 9 makes it easier for creditors to take and perfect security interests. Creditors who have not taken security interests in the past due to complicated filing requirements and costs may now decide to use security interests to help manage and reduce their credit risks. By taking the steps described in this Article, creditors can maximize their security interests and meet the New Article 9 filing requirements.

Bill Creim and Jane Fennelly are attorneys with the creditors’ rights law firm Creim Macias Koenig & Frey LLP. Telephone (213) 614-1944.