Secured Transactions Outline 2nd Half

Spring 2006
Professor James McGrath
I.

Assignment 11: Tracing Collateral Value during Bankruptcy

A. Distinguishing Proceeds from After Acquired Property
i. Article 9 permits a secured creditor to trace the value of its collateral through concepts such as proceeds or products.
ii. Also, allows the secured creditor to pick up additional collateral by means of an after-acquired property clause.
iii. No distinction is made in the two if it is clear that the property qualifies under one of the ideas.
iv. Bankruptcy Code 552 permits the secured creditor to trace the value of its collateral, but the rules on
picking up additional collateral are narrower than those in Article 9.
1. Once a debtor is in bankruptcy, the secured creditor can no longer pick up additional collateral by means of
an after-acquired property clause.
2. No additional collateral through after-acquired property. 552(a)
3. Tracing is limited to five concepts: proceeds, product, offspring, rents, or profits. 552(b)
4. Secured creditor can keep what collateral value it has at the time of the filing of the bankruptcy case, even
if it is transformed, but cannot acquire additional collateral value during bankruptcy.
5. Policy: Once bankruptcy stays creditors from collecting on its debts, it must safeguard its entitlements
a. A debtor may not use assets belonging to the bankruptcy estate in favor of one creditor over
anothersuch proceeds must be shared among all the creditors.
i. A debtor in bankruptcy cannot use property of the estate to pay one pre-petition
unsecured claim without paying other claims of the same kind pro rata.
ii. To permit debtors to use unencumbered property of the estate to buy property that
would then be collateral for preexisting debts would enable particular secured
creditors and thereby deprive unsecured creditors of their expectancy in
unencumbered values.
b. 552 permits orders based on the equities of the case. 552b allows the court leeway to
fashion an appropriate, equitable remedy after evaluating any expenditures by the estate
relating to proceeds and any related improvement in position of the secured party.
v. Methods for taking into account the respective contributions of the debtor and creditor to post-petition
revenues.
vi. In re Delbridge
1. Facts: Dairy farmer was arguing that for the purpose of his Ch. 11 bankruptcy, milk was not the product of
cows, that it was the product of the dairy farmer, and the cow functioned like a machine in which the
farmer had to place feed and make decisions. The attorney had done it to keep away the inequity of the
secured creditor getting all the profits from milk produced post-petition.
2. Issue: Whether the transformations of proceeds from collateral must always go to the secured creditor
without regard to the fairness to the debtor.
3. Decision: No, this is a reason to apply the equities of the case language of 552(b). Technically, the milk
was encumbered because it is the produce of a cow, but 552(b) allows the court leeway.
4. Rule: The purpose behind the equities of the case rule of 552(b) is, in a proper case, to enable those who
contribute to the production of proceeds during Ch. 11 to share jointly with pre-petition creditors secured
by proceeds.
5. Rationale: Equities can be considered without making the court look silly and mangling the language. The
provision allows the court to evaluate any expenditures by the estate relating to proceeds and any related
improvement in position of the secured party. The granting of tracing statutes is subject to other chapters of
the code.
6. Rule: The basic rule is that secured creditor is entitled to part of the produce from the collateral in the same
proportion as depreciation of the collateral relates to all expenses incurred in making the produce.
7. Four Possible Definitions of Proceeds:
a. UCC 9-102(64)Texas Rule
b. Definition in the 1978 Bankruptcy Code ( the former UCC 9-306)
c. The Delbridge Testthe ratio of depreciation of the collateral to all expenses that went into the
proceeds.
d. The Hotel Sierra Vista Testreceipts minus expenses.
vii. Notes after the case

1.

B.

Debtors can be reimbursed for expenditures made to generate the post-petition revenue, and whatever
remains is collateral.
2. E.g. Hotel payments not rent of hotel but actually accounts payable for services rendered; thus, not the
proceeds of secured creditors collateral.
3. No after acquired property 552(a); otherwise, re-organization would have been impossible for businesses.
4. Why this tortured reasoning? Tortured the language and lawfailed to use the equities clause in 552(b).
viii. In re Hotel Sierra Vista Limited Partnership
1. Facts: Sierra Vista defaulted in its loan for building the hotel in Arizona and the Secured Creditor began
foreclosure. S.V. filed bankruptcy Ch 11 and moved to have post-petition revenues sequestered. The court
heard the motion but did not decide the issue. Then they ordered S.V. to sequester the post-petition
revenues to pay for operating expenses. While in the final cramdown of the plan, the Bankruptcy Court
initially said that post-petition revenues were cash collateral, they denied them to the secured creditor based
on the fact that secured creditor had not proven the extent of its interest in the collateral.
2. Issue: Whether hotel revenues post-petition are all cash collateral automatically due the Secured Creditor.
3. Decision: No, reversed and remanded to use the formula to calculate the value of the secured creditors
collateral.
4. Rule: A party seeking to prove the extent of its interest under Bankruptcy Code 363(p)(2) must do the
following two things:
a. Prove it has a perfected security interest in post-petition revenues to which its liens still attach.
b. Prove the amount of money to which its liens attach.
5. Rationale: Hotel methods of accounting will permit the identification of the revenues generated by the
rooms and those generated by services. Determination of the net revenues will require allocation of direct
and indirect expenses in proportion to each category of revenue. The rule changed in the middle of this
case.
6. You cant take all the revenues. Some represent services that must be separated out.
7. I surmise that the real reason certain courts agonized over the meaning of this section is that they didnt like
the result that would have occurred had they played the music the way it read. In their view, if the postpetition milk were indeed encumbered by the lenders pre-petition lien, the farmer would be considerably
less likely to successfully reorganize.
If Property is proceeds under Article 9 definition of that term, does that mean it is proceeds within the meaning of
Bankruptcy Code 552(b)?
i. No, State law does not define federal bankruptcy law.
i. Four Views of the Scope of the Secured Creditors Rights to Proceeds Under 552(b) are Plausible
1. May be entitled to proceeds as defined in UCC 9-102(a)(64)
2. proceeds as defined under 1978 Official Text of Article 9
3. Only that portion of proceeds that are collateral under the Delbridge test.
4. Only the net proceeds derived from use of the collateral as specified in Hotel Sierra Vista.

C.

Cash Collateral in Bankruptcy

i. Rule: The debtor or trustee in a bankruptcy case is generally permitted to use the secured creditors collateral.
363(c)(1) and (b)(1).
1. E.g. If the collateral is a factory, the trustee or debtor may operate the factory.
2. Rule: The debtor or trustee may also use highly liquid collateral such as the money in a bank account or the
rents that are paid by tenants in an apartment buildingCash Collateral.
3. When used, the trustee or debtor must provide adequate protection to the secured creditor against its
loss or decline. Bankrptcy. Code 361 Appropriate Orders for Adequate Protection.
a. Use of Cash Collateral is a more immediate threat to secured creditors value than use of an
apartment building or factory.
b. Typical Solution: Protection comes in the form of a lien placed on other property in the estate.
c. An order of the bankruptcy court permitting the use of cash collateral and granting a lien in
the resulting inventory as adequate protection can bridge the gap left by the definition in 9102(a)(64)
i. Not limited to Tracing Rules. The court can grant a lien on property totally unrelated to
the collateral the debtor or trustee uses.
ii. Notice is required to the S.C. and the opportunity for a hearing before the debtor or
trustee can use cash collateral. 363(c)(2).
iii. Must obtain an order from the bankruptcy court authorizing the use of cash
collateral because they have to be able to spend to operate.
iv. No way to protect the value, may mean no way to stay in business.
D. Problems Assignment 11
E. 11.1. Horse/collateral wins $50k purse. Between race and when the track pays the debtor/owner of the horse, debtor files
bankruptcy. Is secured creditors claim to the purse stronger, weaker or unchanged. (as compared to same situation if debtor
does not file bankruptcy). Unchanged because 552(a) does not apply to the purse. The purse may or may not be proceeds.
Whether or not the secured creditor gets the money prior to bankruptcy depends on if it is proceeds and 552(b) does not
change that. 552(b) stands for two things: one is that the security agreement that grants a security interest in after-acquired
property, proceeds, products, offspring, or profits extends to these acquired by the estate after filing bankruptcy, and two, the
courts can apply equitable remedies.

F.

G.

11.2. Polly, after filing bankruptcy, worked 28 hours @ $65/hr. Secured creditor has security interest inn equipment,
inventory and accounts. Does security interest reach the payment for Pollys labor? No. 552(a) Except as provided in
subsection (b) property acquired by the estate after the commencement of the case is not subject to any lien resulting from
any security agreement entered into by the debtor before the commencement of the case. (except proceeds)

11.3. ELP has security interest in Golans copier ($35k). Copier is destroyed in a fire. Golan files bankruptcy. Insurance
company pays Golan $35k. Golan then wrote $2k and $32k checks, leaving $6k in the bank account. What is ELPs
collateral? The insurance check is a proceed. ELP could move for adequate protection from other collateral. ELP may
be able to have the expenditure of the $32k check set aside, depending upon what it went for. ELPs collateral is the $6000
left in the bank and perhaps the new copier. 552(b)(1) except as provided in sections 363, 506(c), 522, 545, 547 and 548 of
this title, if the debtor and an entity entered into a security agreement before the commencement of the case and if the
security interest created by such security agreement extends to property of the debtor acquired before the commencement of
the case and to proceeds, products, offspring, or profits of such property, then such security interest extends to such proceeds,
products, offspring, or profits acquired by the estate after the commencement of the case to the extent provided by such
security agreement and by applicable non-bankruptcy law, except to any extent that the court, after notice and a hearing and
based on the equities of the case, orders otherwise. (2) Rents
H. 11.4. Globus holds security interest against Hotel Sierra. The collateral description includes the real property, equipment,
inventory, and all income, rents, royalties, revenues, issues, profits, fees, accounts, and other proceeds (including without
limitation, room sales and revenues from sales of services, food and drink.) Post petition, Hotel Sierra has:
i. Revenues
ii. Under Hotel Sierra - Net room revenues which is 0. Food and drink revenues are not proceeds.
iii. If the court follows Delbridge, how much is cash collateral? It would only be the depreciation on the hotel0, so
cash collateral is 0.
iv. If the court reads 552(b)(2) literally, how much is cash collateral? $510k, the amount paid for the use or
occupancy of roomthe gross room revenues without deductions for any expense.

I.

J.
K.

11.5. Your client Globus Finance owns a security interest in Pine Manor Apartment Building mortgage is 900,000, building is
worth 700,000. Pine Manor filed a motion to use cash collateral during Ch. 11 Bankruptcy. Globus security interest extends
to rents and proceeds of the building and was perfected prior to filing of Ch. 11. Parties expect 10,000 per month rent.
Logans wants you to get aggressive with Pine Manor. Pine Manor wants you to sign a consent to the cash collateral use. A)
What was the amount of Globus secured claim at the time Ch. 11 was filed? $700,000. b) Was Global entitled to accrue
interest on that amount? No. c) Will the 10,000 in rent received in the first month after filing be Globus collateral? Yes, per
bankr. Code 552(b). d) If he court permits Pine Manor to use the cash collateral, to what protection is Globus entitled?
Adequate protection. How will they provide? They cantthey have nothing else.

Code Sections.
Bankr. Code 362(d) On request of a party in interest and after notice and a hearing, the court shall grant relief from the stay
provided under subsection (a) of this section, such as by terminating, annulling, modifying, or conditioning such stay.
L. Bankr. Code 363(c)(2) The trustee may not use, sell, or lease cash collateral under paragraph (1) of this subsection unless
(A) each entity that has an interest in such cash collateral consents; or (B) the court, after notice and a hearing, authorizes
such use, sale, or lease in accordance with the provisions of this section.
M. Bankr. Code 363(e) Notwithstanding any other provision of this section, at any time, on request of an entity that has an
interest in property used, sold, or leased, or proposed to be used, sold, or leased, by the trustee, the court, with or without a
hearing, shall prohibit or condition such use, sale, or lease as is necessary to provide adequate protection of such interest.
This subsection also applies to property that is subject to any unexpired lease of personal property (to the exclusion of such
property being subject to an order to grant relief from the say under 362.

N.

Bankr. Code 549(a) Except as provided in subsection (b) or (c) of this section, the trustee may avoid a transfer of property
of the estate(1) that occurs after the commencement of the case; and (2)(A) that is authorized only under other sections; or
(B) that is not authorized under this title or by the court.
O. Bankr. Code 552 Post-petition effect of security interest (a) [P]roperty acquired by estate or by the debtor after the
commencement of the case is not subject to any lien resulting from any security agreement entered into by the debtor before
the commencement of the case. (b)(1)if the debtor and an entity entered into a security agreement before the
commencement of the case, and if the security interest created by such security agreement extends to property of the debtor
acquired before the commencement of the case and to proceeds, products, offspring, or profits of such property, then such
security interest extends to such proceeds, products, offspring, or profits acquired by the estate after the commencement of
the case to the extent provided by such security agreement and by applicable non-bankruptcy law, except to any extent that
the court, after notice and a hearing and based on the equities of the case, orders otherwise. (2) if the debtor and an entity
entered into a security agreement before the commencement of the case and if the security interest created by such security
agreement extends to property of the debtor acquired before the commencement of the case and to amounts paid as rents of
such property or the fees, charges, accounts, or other payments for the use or occupancy of rooms and other public facilities
in hotels, motels, or other lodging properties, then such security interest extends to such rents and such fees, charges,
accounts, or other payments acquired by the estate after the commencement of the case to the extent provided in such security
agreement, except to any extent that the court, after notice and a hearing and based on the equities of the case, orders
otherwise.
P. UCC 9-315(b) When commingled proceeds identifiable. Proceeds that are commingled with other property are
identifiable proceeds: (1) if the proceeds are goods, to the extent provided by 9-336; and (2) if the proceeds are not goods,
to the extent that the secured party identifies the proceeds by a method of tracing, including application of equitable
principles, that is permitted under law other than this article with respect to commingled property of the type involved.

II.

Assignment 12: The Legal Limits on What May Be Collateral.

A. The Legal Limits on What Can Be Collateral
i. Article 9 places no express limits on what may serve as collateral.
ii. It defines and authorizes the use of broad categories such as equipment and general intangibles
iii. However, Article 9 makes broad descriptions of collateral such as all personal property of the debtor, ineffective;
however, this can eventually happen stringing together a list of categories expressly sanctioned by Article 9.
iv. Transactions involving real estate and insurance as collateral are not included in Article 9 to yield to otherwise
conflicting bodies of law.
v. UCC 9-204(b) says that after acquired property clause does not attach to consumer goods acquired more than ten
days after the lender makes the loan.
1. After acquired clauses also do not reach commercial tort claims.
2. UCC 9-204(b) arguably does place limits on what may serve as collateral. It provides that an after-acquired
property clause does not attach to consumer goods acquired more than ten days after the lender makes the
loan.
a. For example: Lender finances a lawn mower and takes a security interest in lawn mowers, now
owned or thereafter acquired. The financed lawn mower breaks and the debtor buys a
replacement. The lenders security interest does not reach the replacement mower.
b. Also, after acquired property clauses do not reach commercial tort claims. The purpose of the limit
is to prevent debtors from pledging valuable lawsuits before they have any idea what those law
suits might be.
c. If you do not put commercial tort claims and instead but something like Debtors cause against
former employee for slander you may still be able to attach
vi. UCC 1-201(37) defines security interest as an interest in personal property or fixtures. State law
defines fixtures such that they have to be property.
1. Items must be property or they cannot qualify as collateral.
2. However, there are many things of significant monetary value that are not property that have caused
a doctrinal metaphysical result.
B. Property that Cannot Be Collateral
i. Property of a Personal Nature
1. Rule: It is inappropriate for creditors to take and enforce non-possessory, non-purchase money security
interests in property that is highly personal in nature and has little resale value.
2. This argument weakens the further from the body the property goes. Prevails as to furniture, appliances,
household furnishings, UNLESS THEY ARE OF SUBSTANTIAL VALUE.
3. Policy:
a. Mean spirited nature of the process
b. Repossession was not so much an effort to collect the debt from the proceeds of the sale of
collateral as it was to make good on a threat to deprive the debtor of its use.
c. The chances for conflict in such repossessions is high, making them difficult for the legal system
to deal with
4. The Exemptions, in state law and under bankruptcy afforded debtors on their consumer goods only apply to
collection efforts of unsecured creditors. The exemption laws themselves do not bar either the grant or
foreclosure of security interests in debtors homes, tools of trade, clothing, household goods or wedding
rings.
5. History: In the 60s, Companies in the consumer finance industry borrowed money from banks at low rates
of interest and used it to make small loans to consumer debtors at higher rates. To protect themselves from
default, they took blanket security interests in the borrowers household goods. When the debtors defaulted,
they threatened to and sometimes did repossess the goods.
6. Bankruptcy Code 522(f)
a. Permits debtors who file bankruptcy to avoid non-possessory, non-purchase-money security
interests in property listed in that section, if the interest prevents the debtor from taking advantage
of an exemption otherwise available.
b. Security interests in property in the possession of a secured creditor are excepted from 522(f)
avoidance. (Like a pawnshop or where the bank keeps the secured jewelry in its vaults).
c. Purchase-Money Security Interests in personal items are also excepted from 522f avoidance.
(Like Sears purchases).The rationale is that repossessed items are more likely of value to a seller
who is in the business of selling such items.

d.

522f authorizes avoidance only of a lien that impairs an exemption to which the debtor would
have been entitled were the lien not in existence. That restricts its protection to categories of
property exempt from the claims of unsecured creditors under state or federal law.
i. Such property must be both exempt and of a type listed in 522f.
ii. The most important difference between the two sets of protections is that the exemption
laws typically protect both homes and automobiles but 522f protects neither.
iii. Also, 522f only protects assets of debtors who are in bankruptcy.
iv. 522f does not prohibit the taking of a security interest in the property or its enforcement
against a debtor outside bankruptcy. The FTC published regulations that prohibit both
actions.
7. Bankr. Code 522(f)(1)(B) Notwithstanding any waiver of exemptions but subject to paragraph (3), the
debtor may avoid the fixing of a lien on an interest of the debtor in property to the extent that such lien
impairs an exemption to which the debtor would have been entitled under subsection (b) of this section, if
such lien isa non-possessory, non-purchase money security interest in any(i) household furnishings,
household goods, wearing apparel, appliances, books, animals, crops, musical instruments, or jewelry that
are held primarily for the personal, family, or household use of the debtor or a dependent of the debtor; (ii)
implements, professional books, or tools, of the trade of the debtor or the trade of a dependent of the
debtor; or (iii) professionally prescribed health aids for the debtor or a dependent of the debtor.
b. Federal Trade Commission, Trade Regulation Rules
i. The FTC regulations which restrict the Unfair credit practice of non-possessory and non-purchase-money security
interests in household goods are enforced by bring actions for civil penalties or for cease and desist orders against
violators.
ii. There is no private remedy under federal law but state regulations allow private actions against persons engaged in
unfair trade practices which include injunctions, actual damages, small civil penalties in the range of $50 to $300,
and modes attorney fees.
iii. The FTC regulation is both broader and narrower than 522f. Practically, this discourages generally the use of nonpurchase money Article 9 security interests in consumer finance.
c. Future Income of Individuals.
i. A direct attempt to create a security interest in future income of an individual is called assignment of wages.
ii. Article 9 does not apply. The reason is that these assignments present important social issues that other law
addresses.
iii. Non-UCC law in most states restricts the assignment of wages as security or bars it altogether.
iv. When some states permit them, they frequently limit them using one or more of the following devices.
1. Assignments of wages cannot be made in consumer transactions
2. Wages can only be assigned after they are earned
3. Assignments of wages cannot exceed a certain percentage of the debtors income.
v. FTC 444.2(3) prohibits the taking of security interests in future wages
1. unless the assignment is revocable by the debtor; or
2. unless it is part of a payroll deduction or preauthorized payment plan.
vi. Rule: Once an individual debtor files bankruptcy, any encumbrance of his or her earnings from personal services
performed after the commencement of the case is void and of no further effect.
vii. Debtors bankruptcy will defeat any security interest in future wages.
viii. Policy Against Wage Assignment
1. Debtors with encumbered future incomes will have less incentive to work and tend to become public
charges. Debtors should decide what obligations to undertake and what to secure them with. We want
debtors to emerge from bankruptcy with a fresh start.
ix. Pension Rights: The requirements that make pension plans eligible for tax breaks also make the funds ineligible to
serve as collateral for a loan.
1. In re Green
a. Facts: The plaintiff had participated in Wal-Mart Profit Sharing Plan since 1978 and had $100,000
worth of value built in it. He and his wife had granted a security interest in the plan to United
Savings and Loan Association for the value of promissory notes totaling 45,000 dollars. Both the
debtors and Wal-Mart argued that the anti-alienation provisions of the plan created a
spendthrift trust preventing the attachment of United Savings security interest. Wal-Mart
argued that ERISA required that all such plans contain an anti-alienation clause for non-tax status
and were afraid that the attachment would cause them to lose theirs.

b.
c.
d.

Issue: Whether pension plan totals can be attached to security interests prior to being withdrawn.
Decision: No.
Rule: Anti-alienation provisions prohibit the attachment of a security interest to retirement plans
with preferential tax treatment until the funds are in fact withdrawn, at which time they can be
reached by creditors.
e. Rule: When ERISA plan funds are withdrawn, they can be reached by creditors to satisfy their
claims, even though they are the proceeds of ERISA plan funds.
2. In order to qualify for favorable tax treatment, however, the plan must provide that the beneficiary cannot
borrow against his or her interest.
3. When withdrawn before retirement, the beneficiary must pay taxes on the money withdrawn plus a tax
penalty equal to 10% of the amount withdrawn.
4. While some support the policy behind this tax penalty and restriction against its use of the collateral saying
that it could be foreclosed on and the person be destitute at retirement; however, some say that it
should be a matter of personal choice because there could be important reasons to borrow against.
The Tax Penalty is a compromise between the two views.
x. Exception to Using Pension Rights as Collateral
1. shall provide that benefits provided under the plan may not be assigned or alienated(3) (A) Paragraph
(1) shall apply to the creation, assignment, or recognition of a right to any benefit payable with respect to a
participant pursuant to a domestic relations order. Each pension plan shall provide for the payment of
benefits in accordance with the applicable requirements of any qualified domestic relations order. [The
section goes on to define a qualified domestic relations order at length.
2. Exceptions to alienation depend on the party who is attempting to reach the property in question
(beneficiaries of qualified domestic relations orders rather than ordinary creditors)(QDRO). Qualified
Domestic Relations OrderDivorce.
D.
FUTURE PROPERTY AS COLLATERAL
i. Under both UCC and real property law, a debtor can grant a security interest in property he does not yet own.
1. Security interest will not attach until the debtor acquires an interest in the property
2. An individual debtor ordinarily cannot effectively encumber his or her future earnings from personal
services, but a business debtor, whether a corporation or individual, can encumber future earnings of the
business.
a. The business debtor does this by encumbering accounts, including after-acquired accounts, chattel
paper, money, and bank accounts the income the business will receive over time.
b. When customers later obtain services on credit or for cash, the security interest attaches to the
accounts, chattel paper, money, or bank accounts thus created or augmented.
c. A business that has thus encumbered its future income can escape the encumbrance by filing
bankruptcy.
d. An after acquired property clause ceases to be effective once the debtor files. The creditor is
entitled only to the proceeds, products, offspring, rents, or profits of the collateral existing at the
time of the filing.
e. Valuable Non-Property As Collateral
i. When debtor grants a security interest in (non-property) license. The security interest cannot attach to the license,
but it can attach to proceeds from the license. debtors rights to proceeds from future sale of the license
ii. Licenses: Most licenses are by law non-property. The purpose of this classification is a government decision that the
particular license, right, or medallion should exist only for the public convenience and retains the right to revoke it
any time it ceases to be for the public convenience.
iii. They are rarely revoked, the restrictions on their transfer are rarely enforced, and they are routinely bought and sold
for
huge sums of money.
f. The property and non-property approach
i. The inquiry is whether the item is property under state law.
ii. In Jackson v. Miller 93 BR 421 (1988), the court held a security interest in a liquor license to be void and of no
effect.
The court relied on state law that said the license shall continue as a personal privilege granted by the
board and nothing
therein shall constitute the license as property. Any security interest taken in future
liquor licenses were invalid.
g. The Policy Oriented Approach these courts examine the consequences of permitting or not permitting the taking of
security interests in the particular items

i. They tend to permit the use of licenses as collateral, reasoning that the grant of the security interest in no way
restricts the governments right and ability to cancel a license the existence of which no longer serves the public
convenience.
ii. Rationale is that the license can be property between the licensee and the secured creditor without being property
between the government and the licensee.
h. Franchise Agreements
i. Assignment of a franchise is contingent upon the franchisors willingness to issue a new franchise to the assignee
upon surrender of the franchise currently owned by the assignor.
i. In re SRJ Enterprises, Inc., 23 Bankr. Ct. Dec. 1630 (1993)
i. OVERVIEW: Nissan franchisee is in bankruptcy and wishes to transfer his franchise to Rohrman. The agreement was
to terminate SRJs franchise, permit Rohrman to acquire as consideration, and if no acquisition, no sale. SRJ
acquired a Nissan franchise and entered into a financing arrangement with NBD to purchase new vehicle inventory.
SRJ subsequently obtained additional financing from Success Bank. The SRJ filed for Ch. 11. SRJ filed a motion
for an order approving the sale of its assets to Rohrman. Court entered this order; and also indicated that SRJ would
voluntarily terminate its Nissan franchise upon receipt of 125,000 from Rohrman as consideration for terminating its
franchise. SRJ argues the termination fee is not proceeds of the franchise because SRJ did not assign or transfer the
franchise agreement to Rohrman; all they did was terminate.
ii. ISSUE: whether the $ 125,000 payment to the Debtor for the voluntary termination of its franchise (the "Termination
Fee") is unencumbered or, instead, subject to the perfected security interest of NBD or Success.
iii. OUTCOME: The Rohrman purchase contract and the Termination Fee constitute proceeds of that intangiblethe
franchise. The termination fee represents consideration paid for the disposition of the franchise, and therefore,
either proceeds of NBDs lien on contract rights or any other personal property or Success lien on general
intangibles.
iv. RULE: There is no requirement that the collateral be transferred or disposed of to anyone; rather proceeds include
any amount received for disposition of collateral, even if disposition is by termination.
v. RATIONALE: Under SRJ Enterprises, the judge wants us to think of un-encumberable property, such as franchises,
licenses, and pension rights, as having the potential to produce property that can be encumbered. That potential is
itself encumberable a sort of shadow property.
j. Defeating the Limits on What May Be Collateral.
i. Debtors can create security interest in
1. The proceeds that come into existence when debtors sell those licenses and franchises and
2. The revenues that debtors derive from the use of their licenses and franchises
ii. Debtors can grant security interests in both kinds of collateral long before they come into existence. The sum of the
value coming from the use and ultimate disposition of the licenses and franchises is necessarily equal to the value of
the franchises and licenses themselves.
iii. An interest in the value of a franchise is not quite as good as an interest in a franchise. The former does not entitle
the secured creditor to foreclose, take over the franchise, and run the business itself to maximize the profits. But it is
a lot better than nothing.
iv. It does not assure that a bankruptcy court will honor the security interest if the license or franchise is exchanged for
something else of value during bankruptcy.
K. RESTRICTIONS ON THE GRANT OF SECURITY INTERESTS MADE INEFFECTIVE
i. 9-408 renders contracts and laws that attempt to restrict the grant of security interests in general intangibles
ineffective.
1. The purpose of this was to expand the range of collateral available for the protection of secured creditors.
2. Debtors can grant security interests in intangibles, despite contract provisions and even laws prohibiting
such grants.
3. The secured parties cannot enforce their security interests to the detriment of the party protected by the
contract provision or law, but the secured parties can sit back and wait for liquidation of the collateral.
4. UCC 9 protects only the right to grant the interest, and if the state law provides that the particular right is
not property then 9-408 does not apply.
l. In re Chris-Don, Inc., 44 Bankr. Ct. Dec. 168 (2005)
i. OVERVIEW: Debtor signed a security agreement which granted an interest in his intangibles. Debtor filed
bankruptcy and the trustee sold the liquor license for $155k and held as proceeds awaiting a determination of the
validity of liens attaching the proceeds.
ii. ISSUE: Whether a liquor license is a general intangible subject to security interest attachments for the purposes of
bankruptcy. No.

iii. RULE: A liquor license is not property, and therefore not a general intangible, except in regard to state and federal
tax liens and federal due process requirements.
iv. DISCUSSION: For a liquor license to be a general intangible, it must first be found to be personal property. The clear
legislative pronouncement that liquor licenses are not property has been consistently supported by case law, all of
the cases holding that a license to sell intoxicating liquor is not a property right.
m. Assignment 12 Problems
i. 12.1. Client bank is contemplating $20MM loan to TV station. Client wants a security interest in each of the
following items. Can it get such an interest, and, if so, how should the security agreement describe the collateral?
Electronic equipment used in broadcasting. Yes. Equipment, proceeds, replacements now possessed or afteracquired. Peacock logo, which is protected by trademark and cost $15k to design. Yes. General Intangibles and
intellectual property. Could list trademark registration numbers. Broadcast license. Yes. General Intangibles and
goodwill now existing or after-acquired. Even though cannot attach the license itself, by listing it as collateral,
creditor may attach proceeds if it is sold. . Reputation. No. Probably not property. Stations cause of action against
former employee for slander. Yes. Claims? Description by type is insufficient for commercial tort claim (to
prevent security interest in claims that havent happened yet) but since this claim is existing, by listing this claim
specifically in the security agreement, it can be collateral. $7.3MM advertising revenues station is expected to earn
from its operations in the remainder of the current year. Yes. Accounts, including after-acquired accounts, chattel
paper, money, and bank accounts. Accounts automatically means after-acquired accounts. But the station can
prevent attachment to any future earnings by filing bankruptcy.
ii. 12.2. Bank made the loan and the TV station defaulted and filed bankruptcy. At the time of filing, the station owned
nothing not on the list in 12.1. Balance owing clearly exceeds the present value of all assets. What steps do you
take for Bank? File proof of claim and security agreement. Move to lift stay (under 362(d)) if station is not going
to reorganize. Could move to lift the stay because debtor has no equity and all property is collateral for Bank.
(Bankruptcy Code 362(d)). But might be better to let the trustee sell the business in whole to maximize value.
Remember the secured creditor cannot attach and sell the license. Lifting the stay and foreclosing causes the
business to close and FCC to revoke license which dissipates goodwill the most valuable asset.
iii. 12.3. Client bank plans to lend $125k to Finkel to buy Harrys Bar. Bar consists of furniture, fixtures (including
mounted Rhino head), and leasehold, but most valuable asset is its liquor license, worth about $80k. State law
provides that the license is not property. Licensing Board maintains that the licenses are not property and cannot
be sold, but the board almost always grants a new license to a qualified person who buys a bar from an existing
licensee. a. What should the Bank take as security? Everything, including general intangibles, goodwill, and
going concern value. Furniture, fixtures, leasehold, general intangibles, and liquor license. b. What can
Bank do to realize the value of this license if Finkel defaults? Bank cannot be assured of realizing the value of the
license if Finkel defaults. Foreclose on the collateral, buy in at the sale, and apply for a liquor license. (If Finkel is
going to sell, wait until he sells and attach the proceeds)c. Would there be any advantage in requiring that Finkel
form a corporation to buy Harrys bar? Could the license be issued to a corporation? (probably not) But, a security
interest in the stock of the corporation may preserve other rights that are not property. Also, if you foreclose on
the stock and seize the corporation itself, you get any other debts of the corporation.
iv. 12.4. Creditor wants to take a security interest in debtor/clients pension plan interest. Desmond understands that his
attempt to grant a security interest in the pension rights may have adverse tax consequences, but says they wont be
as bad as his pending financial collapse. Should you send creditor the workout proposal including the security
interest in the pension plan? Security interest in ERISA plan would be ineffective. 29 U.S.C. 1056(d). Cannot grant
a security interest in a pension plan.
v. 12.5. Pirosky owes a considerable amount of money on charge cards, charge accounts, and personal loans. Creditor
giving her most trouble is IFF. Pirosky borrowed $2,500 from IFF 2 years ago. Interest is 36% (max. permissible
by law) and the balance is now $3,000. Pirosky signed a security agreement with IFF granting a security interest in
the following items. Can IFF legally take an interest in them? :
1. video game set ($200)
Yes
2. collection of pictures drawn by her children (no market value) No
3. old family photos (market value unknown) yes
4. jewelry ($500)
Yes
5. Toyota ($2,000) Yes
6. Computer ($500) Yes
7. And any replacements or substitutions If it is consumer goods unless the secured party acquires rights in
them within 10 days after the secured party makes the loan. If she buys a replacement within 10 days, I get
it , but if she doesnt, then it is not mine.

8.

9.

Has IFF done anything illegal? Yes, unless the drawings and photos are works of art. It is an unfair act
or practice for a lender or retail installment seller to take or receive from a consumer a non-possessory
security interest in household goods other than purchase money security interest. Except electronics, art,
jewelry (except wedding rings), and antiques. works of art. A pawn shop could take a possessory
security interest in childrens art because they take possession.
b. The video game broke and Pirosky replaced it. Does IFF have a security interest in the new video
game? No, unless the game broke and was replaced within 10 days..c. IFF threatens to foreclose on the
collateral if Pirosky doesnt pay $200, which she doesnt have. What do you advise? Under bankruptcy
she keeps everything but the Toyota.

III.

Assignment 13 The Gateway to Remedies: Default, Acceleration, and Cure Under State Law
Default
i. Creditors have access to their remedies only if the debtor defaults. 9-601(a)
ii. If creditors try to start remedies before there is default, they are wrongful and liable for damages.
iii. Defaultthe debtors failure to pay the debt when due or otherwise perform the agreement between the debtor and
creditor.
iv. Security agreements define default precisely and expansively which favors the creditors.
v. As to the substance of the definition, the interests of secured creditors and their debtors are in conflict it is in
precisely those situations where secured creditors want to exercise remedies that debtors want contract protection
against them. The conflict is usually resolved in favor of the secured creditor.
B.
When is Payment Due?
i. Most defaults acted upon happen because of the debtors failure to pay.
ii. Common Arrangements for Repayment.
1. Installment Loans
a. Installment Loans: A loan is an installment loan if the parties contemplate that the debtor will
repay in a series of payments. Usual in equal payments. Typically, real estate mortgages and car
loans are due in installments
b. Debtor will repay the loan in a series of payments.
c. Most payments in the series are equal, though they can be unequal.
d. Usually chosen by lenders who finance the object.
e. Protects the debtor from arbitrary action of the secured creditor.
f. Is a sort of enforced budgeting
2. Single Payment Loans
a. Loans made payable on a particular day.
b. The parties expect that the debtor will have the money on the expected date.
c. An understanding exists that if the debtor does not have the money on the proposed date, if they
are in good financial standing, the bank will renew the loan for an additional period, without
requiring actual payment. Rolling the Note; Rollover. However, the bank usually has no legally
binding obligation to rollover.
3. Payable on Demand: The debtor will pay the loan whenever the bank demands the money. Calling the
Loan. On demand loans: The debtor will pay the loan whenever the bank demands the money. The
making of such a demand is referred to as calling the loan.
a. In most of these cases, if the banker calls the loan without warning, then the debtor most likely
wont be able to pay.
b. Even though this is the case, most loans are issued this way.
4. Lines of Credit.
a. A line of credit is where the bank contracts to lend up to a fixed amount of money (the line limit)
as the debtor needs it. Under most line arrangements, the debtor borrows the money simply by
writing a check on its bank account. The bank covers all overdrafts up to the limit of the line of
credit by drawing against the line, and charges the debtor interest on the money only from the time
it pays the money out. As the debtor receives revenues from its operations, it uses the money to
pay down on the line, thereby stopping accrual of interest
b. A business need for capital may vary over timeretail for the Christmas season.
i. Though they could sell stock and raise the revenue, it would not be cost effective, cost
them more to carry the loan.
ii. They could take out a loan, but they have to pay interest on a loan they may or may not
need.
iii. The solution is the line of credit.
c. In a line of credit, the bank contracts to loan a fixed amount of money; and the business accesses
the money by writing a check on their account.
d. They only have to pay interest when they actually take the money.
e. All payments could be made from the line of credit or the business can actually have
accounts paid to the bank that will reduce the line of credit.
f. However, there is a due date for the loan to be paid. There can be a rollover or on demand.
g. A debtor operating under a line may have no cash of its own; all payments may be made from the
line and all revenues applied to the line.
A.

h. In some arrangements, the debtor does not even have a bank account. It pays bills by sending
instruction to the bank; the bank writes and mails the checks, charging them to the debtors loan
account. When the debtor receives payments from customers, it forwards the payments to the
bank, which logs them in as loan payments.
i. Some banks require that the line debt fall due at a particular date during the debtors off season. A
debtor who can pay the line to zero each year will not mind doing so.
C. Acceleration and Cure
i. Acceleration: In the event of default by the debtor in any obligation under the repayment contract, the Creditor may,
at its option, declare all of the payments immediately due and payable. The creditor can then enforce the entire
obligation in a single lawsuit. An acceleration usually ends the installment debtors ability to retain the collateral and
permits the creditor to get out of the installment lending arrangement
1. Under common law: where there are installment payments due, you would have to sue for each default,
month after month, or year after year.
2. Right to cure v. right of redemption: right to cure is before acceleration and only includes the past due
amounts plus interest and fees. Redemption occurs after acceleration and usually includes the balance of
the loan along with interest and fees.
3. Acceleration clauses are a provision in an installment agreement that opts out of the common law rule
ii. Under state law, if the debtor has just defaulted on two months worth of payments, that would be all that could be
sued for.
iii. Most creditors require a provision for acceleration to opt out of the common law.
iv. Creditor may at its option declare all the payments immediately due and payable.
v. Acceleration eliminates the debtors ability to cure default.
vi. If the debtor cures the default before acceleration, he can continue in the agreement as before.
vii. Debtors retain the common law right to redeem the property by paying the whole amount due before foreclosure, but
this is rare.
D. Limits on the Enforceability of Acceleration Clauses
i. Rule: If the grounds for acceleration are merely that the secured creditor deems itself insecure (insecurity clause),
the creditor has the right to accelerate only if it in good faith believes the prospect of payment or performance is
impaired.
ii. Limits on Enforceability of Acceleration Clauses: A secured creditor can exercise its right to accelerate for even a
tiny or fleeting default in payment. But if the grounds for acceleration are merely that the secured creditor deems
itself insecure, the creditor has the right to accelerate only if it in good faith believes the prospect of payment or
performance is impaired. 1-208.
iii. JR Hale Contracting Co. v. United New Mexico Bank at Albuquerque
1. Facts: Hale Contracting had entered into numerous revolving bank accounts with the bank, which were
routinely renewed on or about the due date despite the fact that the company frequently was late a number
of days or even weeks in making its payments. The note at issue for $400,000 was issued in Nov. 1982
with an interest payment due on March 1, 1983, with the note being due in July of 83. A clause in the
agreement said that the bank could foreclose without demand or any type of notice. Toward the end of
February, Hale Construction approached the bank about another loan because the $400,000 line of credit
was fully drawn. The company had not made the March 1 interest payment on it, and though the
representative of Hale brought a blank check to the meetings, he forgot and was not reminded to pay it.
The bank judged from financial statements provided to it that Hale was too risky and wanted to call the
loan. However, to keep Hale cooperative, they did not disclose this fact until they actually called the loan.
They even refused to allow the interest payment owed them, which they used as the default. They collected
the amount in two weeks by calling in accounts and setting off the debt with other of Hales accounts. The
company argued that the conduct of the bank constituted waiver, modification, and estoppelthe conduct
of the bank negated the express clause.
2. Issue: Whether a secured creditor is required to give notice upon demand or call of a loan, and whether a
belief that the client is not able to pay is sufficient to prove a good faith belief that they are insecure.
3. Decision: Yes, and no, Reversed and Remanded.
4. Holding: Although under the agreement, he was technically in default, his payment scheme was not out of
the ordinary and they had waived it by accepting late payments..
5. Rule: When a party accepts a late payment on a K without comment he waives the default that existed;
with repetition his actions may suggest an intention to accept late payments generally.

6.

E.

F.

Rule: One party to a K will use his past commercial dealings with another party as a basis for the
interpretation of the other partys conduct.
7. Rule: Silence may form the basis for estoppel if a party stands mute when he has a duty to speak.
8. Rule: The debtor has the burden of proof in disproving good faith.
9. Rule: A party may accelerate payment or performance only if he in good faith believes that the prospect of
payment or performance is impaired.
10. RULE: If a lender accepts partial payment on a loan after it has already accelerated, the lender will be
estopped from acceleration and claiming default.
11. TX has adopted the UCC definition of good faith that provides good faith means honesty and fairness and
the observance of reasonable, commercial standards of fair dealing.
The Debtors Right to Cure
i. A debtor has a right to cure a default by paying the amounts then due.
ii. If a debtor cures before the creditor accelerates, the necessary sum may be small.
iii. Rule: Once acceleration has occurred, a debtor cannot cure, but can redeem, only by paying the entire amount of the
accelerated debt.
iv. Old Republic Insurance Co. v. Lee
1. Facts: The Lees had missed three payments and the bank notified them that the debt was being declared in
default and the whole amount was due. Lee sent a check for the missing payments, but the bank returned it.
Lee filed an answer to the banks suit to foreclose saying that the mortgage should be reinstated on the basis
of the payment that he tendered.
2. Procedure: The trial court granted the motion to reinstate finding that there was substantial equity in the
mortgage and that the first mortgage was current
3. Issue: Whether a debtor can cure after acceleration.
4. Decision: No, reversed.
5. Rule: A mortgagor, prior to the election of a right to accelerate by the mortgage holder upon the occurrence
of a default, may tender the arrears due and thereby prevent the mortgage holder from exercising his option
to accelerate. However, once the mortgage holder has exercised his option to accelerate, the right of the
mortgagor to tender only the arrears is terminated.
6. RULE: If a creditor has the ability to accelerate under contract, it is their option when to accelerate after
default.
v. Some statutes allow cure and reinstatement of the original loan terms by payment of only the arrearages even after
the creditor has exercised his right to acceleration. To protect homes and other items the legislature deems need
protection.
1. Reinstatement will usually be on the condition that the debtor pays costs and expenses incurred by the
creditor in effectuating the acceleration.
2. Reinstatement provisions are usually limited to home mortgages, consumer borrowers, or to other
circumstances the legislators believe most require such legislation
The Enforceability of Payment Terms
i. Issue: Are harsh payment terms enforceable? Can debtors contract to be at the mercy of their secured creditors?
ii. Doctrine of Lender Liability
iii. KMC v. Irving Trust, Co.
1. Facts: KMC had a $3.5 million line of credit with the bank secured by all its assets; the promissory note
was payable on demand. KMC sought to draw $800,000 and without prior notice, Irving refused to make
the advance claiming it felt insecure. KMC was attempting to sell the business, and without the advance
was unable to do so. The refusal killed the opportunity for the sale and insured KMCs demise. KMC was
awarded the cost of the business on the implied covenant of good faith.
2. OUTCOME: The jury found Irving lianle and fixed damages at $7.5 millions, the entire value of KMCs
business, Irving appealed. The 5th Circuit upheld the verdict
3. IRVINGS DEFENSES: KMC was already collapsing anyway, and refusing to honor KMCs draw was no
different from honoring the draw and immediately making a demand for the entire $3.5 million, which
Irving had the right to do under the demand promissory note.
4. RULE: There is implied in every contract an obligation of good faith which, in the case of calling a loan,
includes notice if necessary to the proper execution of the contract.
5. Rationale: The court said that this duty of good faith imposed on Irving Trust the duty to give KMC notice
before refusing to advance fundsmainly because their continued existence was at the whim of the bank.
This court equated on demand with acceleration and decided it required a showing of good faith.

6.

REASONING: This obligation to act in good faith would require a period of notice to KMC to allow it a
reasonable opportunity to seek alternate financing, absent valid business reasons precluding Irving from
doing so. Just as Irvings discretion whether or not to advance funds is limited by an obligation of good
faith performance, so too would be its power to demand repayment.
7. INSECURITY CLAUSE: A clause that says we can call the loan if they feel like there is a good chance that
they wont be able to collect on the loan. This requires good faith.
iv. Kham & Nates Shoes No. 2, Inc. v. First Bank of Whiting.
1. Facts: Shoes opened a $300,000 line of credit with the bank in a K that provided for cancellation on five
days notice and that nothing provided herein will constitute a waiver of the Banks right to terminate the
financing at any time. Debtor quickly took $75,000; then the bank mailed a letter stating it would make
no more advances. However, it did not make demand and continued honoring draws. The ultimate debt
was $164,000.
2. Procedure: Bankrptcy. judge held that the creditor had acted inequitably in terminating the line of credit
and subordinated the banks security interest to that of others, rendering it uncollectible.
3. Issue: Whether a creditor may be acting in bad faith when they act arbitrarily even when acting in
accordance with an express provision.
4. Decision: No. Vacated and Remand.
5. Rule: Good faith is a compact reference to an implied undertaking not to take opportunistic advantage in
a way that could not have been contemplated at the time of drafting, and which therefore was not resolved
explicitly by the parties. When the contract is silent, principles of good faithsuch as the UCCs standard
of honesty in fact, and the reasonable expectations of the tradefill the gap. They do not block the terms
that actually appear in the contract.
6. Rule: Inequitable conduct in commercial life means breach plus some advantage taken.
7. Rationale: Parties in a contract are not each others fiduciaries, they are not bound to treat customers with
the same consideration reserved for their fiduciaries.
8. Similar to Employment at Will Contracts: The employer can sack his employee at any time and does not
have to show just cause.
G. Procedures After Default
i. Remedies for Lender: The creditors choice among these remedies is often based on the creditors assessment of
the likelihood that the debtor will resist, the creditors appraisal of the strength of the debtors defenses, if any, and
the manner in which the sufficiency of those defenses will be determined in each remedial procedure.
1. Judicial remedies
a. Judicial remedies are slow.
b. Replevin is quick but may have disastrous results.
2. Self-help
a. Repossession without judicial process
b. Notification of account debtors
c. Refusal to make further advances under a line of credit.
ii. UCC 9-607 Companys account debtors make payments directly to the bank
1. Self help with non-goods collateral, upon default the secured party is entitled to notify the account debtor to
make payment to her rather than the debtor in default.
H. Problems. Pg. 229
i. 13.1. Pat missed two payments on truck loan. Contract includes acceleration clause. Pat noticed the missed
payments before receiving notice and sent a check. Bank returned the check with a note that the entire balance was
due. Pat wants to know if bank can get away with this. Legally, acceleration occurs when the decision is made to
accelerate!! Acceleration is probably effective because of the K which states missing two payments is a default and
upon default at the secured partys option, the entire balance of the loan should become payable.b. What if bank
accelerated the loan on their books before receiving the check, and cashed the check. Not necessarily waiver, issue
is when bank decided to accelerate, so if bank decided to accelerate before receiving the check, can still accelerate.
(but banks will generally return the check) The deposit of the check could effectively be a waiver of acceleration;
however, she could not rely on the acceptance as a waiver because of the acceleration notice attached.
ii. 13.2. Arts mortgage payment was due on 10/1, today is 10/7, and he has not made the payment. Security
agreement provides debtor is in default if debtor shall have outstanding an amount exceeding one full payment
which has remained unpaid for more than 10 days after the due date. Contract also has acceleration clause. a. Is
Art in default? NO b. If Art makes no payments, when will he go into default? November 11 (because the amount
past due from 10/1 to 11/1 is equal to one months payment) c. If Art makes no payments, what will be the order of

events? When is the last time he can make this and subsequent payments without serious repercussions? What are
those repercussions? Default, Acceleration, Foreclosure, Foreclosure sale; the last time he can cure is before
acceleration possibly Nov. 10. He loses the property. d. What difference would it make if Arts case were governed
by Illinois reinstatement statute? Under Ill. Statute, Art can cure by bringing payments up to date plus expenses
such as attorney fees within 90 days.
iii. 13.3. Macklin Mortgage wants to foreclose $60k note to Lance. Lance has failed to provide proof of insurance as
required by contract for past 2 years. Lance is a strong debtor, but Macklin is having financial difficulty. a. Does
Macklin have the right to call the loan?Issue comes to, would it be commercially reasonable fair dealing for
Macklin to accelerate for failure to provide proof of insurance for 23 days?Macklin probably waived proof of
insurance for last year.Too soon to imply waiver for this year (23 days).b. Are you willing to represent Macklin?
No. c. If you have to continue, what do you advise? Send notice of acceleration.
iv. 13.4. Teresa wants to start a business that will require capital of $150k at peak periods and $75k at low periods. She
thinks to keep her capital needs down to that level she will need to use extensive unsecured credit, buy her inventory
on credit, and pay her suppliers a little slower than the 60 90 days they want. Bank has offered $150k line of
credit.a. Teresa is surprised that the line of credit would be payable on demand, but banker assures her that the
bank isnt going to do anything unreasonable. What do you advise? Are there any terms that might be agreeable
to Teresa and the bank? The requirement of notice needs to be in the K. b. Teresa is also bothered that she will be
signing a note for $150k, but only drawing $75k. Teresa is still only liable for the amount taken.On demand
means the bank can demand whenever they want, do not need insecurity or default. At will is synonymous
with deems itself insecure.
v. 13.5. Bank wants to accelerate on debtor who is in default, but loan officer wants to give debtor 30 days notice.
Loan is $150k, Collateral is: inventory $60k, Equipment $20k, Leasehold $10-20k. Should they accelerate and if
so, how much notice. Risk is that the collateral will disappear during notice period. Could move for replevin. Best
advice is no notice.

IV.

Assignment 14: Default, Acceleration, and Cure Under Bankruptcy Law.

A. Review
i. State law generally enforces the K between the debtor and secured creditor regarding default, acceleration, and cure.
ii. Without a statute to the contrary, under state law generally once acceleration has occurred, it is irreversibleno
option to cure.
iii. Requires consideration of state and bankruptcy law together.
iv. Creditors rights are found in state law, but debtors rights are found in bankruptcy law.
1. These two sets of laws combine to create a system in which the debtor who has the ability to cure a default
and make the installment payments generally will have the opportunity to do so; to get that opportunity, the
debtor must go into bankruptcy.
v. Under bankruptcy, a debtor who has the ability to cure a default and make installment payments generally will have
the opportunity to do so.
vi. Bankruptcy protection of the debtor who has suffered an acceleration of installment debt occurs in two stages:
1. In the first stage, which extends from the filing of the bankruptcy case until confirmation, the automatic
stay protects the debtor from foreclosure while the debtor attempts to formulate a plan.
2. In the second stage, confirmation of the debtors plan reverses the acceleration, the debtor cures its default,
and the installment payment contract between the debtor and creditor is reinstated.
vii. In re Moffett (Tidewater Finance Co. v. Moffett)
1. Facts: Moffett purchased a car from Hendrickson Honda who then assigned their rights to Tidewater
Finance, who immediately perfected the security interest. For the first year, all payments were made in a
timely manner, but M. defaulted for two months and T. per the security agreement repossessed the car. M
then filed Ch. 13 Bankruptcy on the same day the car was repossessed and demanded that the car be
returned.
2. Issue: Whether a debtor who has already had collateral repossessed will be given the opportunity to cure
upon filing bankruptcy because of the automatic stay. Whether Tidewater Finance and the repossessed
vehicle are subject to the automatic stay and turnover provisions of the Bankruptcy Code.
3. Decision: yes.
4. Holding: The Bankruptcy Court was correct in ordering T. to turn over the vehicle to Moffit.
5. Rule: Any entity that possesses property that the bankruptcy trustee may use, sell, or lease under the
Bankruptcy Code is required to turn over or account for the property.
6. Rule: Once a debtor files Ch. 13 Bankruptcy, the Bankruptcy Code automatically stays any act by parties to
exercise control over, or to enforce a pre-petition or post-petition lien against property of the bankruptcy
estate.
7. Rule: UCC 9-609 The debtor has the right to redeem the vehicle at any time before the creditor has
disposed of it, and a duty is imposed upon the secured creditor to notify debtor of any planned disposition
at least 10 days prior to disposing of it. Plus the secured creditor must advise the debtor of their right to
redemption. UCC 9-611, 9-612.
8. Rule: UCC 9-623(b) a debtor may redeem collateral by tendering fulfillment of all obligations secured
by the collateral as well as reasonable expenses from repossessing and holding the collateral.
9. Rule: The debtor may exercise his right to redemption by operation of a Bankruptcy Estate.
10. Rule: Before requiring the party to turn over property to the trustee, court must insure that the creditors
interest in the property is adequately protected.
11. Rationale/Policy: These measures are to facilite a debtors successful rehabilitation.
B.
STAGE 1: PROTECTION OF THE DEFAULTING DEBTOR PENDING REORGANIZATION
i. When debtor files bankruptcy petition an automatic stay against collection and foreclosure is instantly imposed by
operation of law.
ii. The stay continues until the property is no longer in the Bankruptcy Estate, or effectively, until the plan is
confirmed.
iii. A debtor who provides adequate protection to the secured creditor will be permitted to use the collateral while the
case is pending.
iv. Adequate protection is protection against decline in value during the bankruptcy case, not from the time of the loan.
1. Use of collateral does not itself trigger an obligation to make the installment payments that fall due during
the bankruptcy case.
v. Differences:
vi. Chapter 13
1. Requires debtors to file plans within 15 days after filing the petition; extended only for cause shown.

2. The debtor must commence making plan payments not later than 30 days after filing the case.
vii. Chapter 11
1. Debtors need not begin making plan payments under the plan until the plan is confirmed by the court
(usually about a year.)
2. The debtor may have to make payments to furnish adequate protection only if the collateral is declining in
value and the debtor cannot or does not want to furnish adequate protection in the form of additional
collateral.
3. Under Ch. 13 payments must be made during the plan period, whereas Ch. 11 is unlimited.
4. Confirmation of the Debtors Plan Reverses the Acceleration and the Default is cured and the
installment relationship is reinstated.
5. Reinstatement and cure is a process accomplished at confirmation of a plan or reorganization in either Ch
13 or Ch 11. Distinguished from Modification.
C.
STAGE 2: REINSTATEMENT AND CURE
D. Modification
i. Modification is sometimes referred to as rewriting the loan. It is accomplished through confirmation of a plan that
provides for it.
ii. The payments must be at least equal to the amount of the claim plus interest at the market rate from the effective
date of the plan until the payments are made.
iii. The minimum amount the debtor must pay on a modified secured claim is determined in two steps:
1. Determine the amount of the allowed secured claim; and
2. Formulate a schedule for payments that will have a value, as of the effective date of the plan, not less than
the amount of the allowed secured claim.
iv. The debtor must propose to pay the full amount of the secured claim together with the interest at the market rate.
v. In Chapter 11, payments can extend over any period of time that is fair and equitable (like 20-30 years on a
mortgage).The plan must reinstate the maturity of that part of the claim that remains outstanding after cure, as such
maturity existed before such default. You cannot do a modification on your principal residence under Chapter 11.
vi. In Chapter 13, payments can extend only over the period of the plan.
1. For debtors with below-median incomes: 3-5 years for cause.
2. For debtors with above-median incomes: 5 years or less.
3. The Bankruptcy code 1322(c)(2) prohibits modification of principal home mortgages except for those who
can afford to pay the loan over a 5 or less year period.
vii. By contrast, REINSTATEMENT AND CURE always means a return to the repayment terms agreed upon.
viii. Rule: when a default is cured and terms for payment are reinstated the debtor takes on two obligations:
1. Any payment that was due on a date after the reinstatement remains payable on its original due date; and
2. Any payment that is overdue as of the reinstatement date is part of the obligation to cure.
E. Reinstatement and Cure Under Chapter 11
i. A class of claims (likely each claim) is unimpaired if the debtors proposed treatment of the class under its plan
complies with four requirements:
1. The debtor must cure any default that occurred before or after the commencement of the case (usually a
lump sum at effective date).
2. Future payments remain due at times specified in the original contract.
3. Debtor pays creditor any damages incurred through reasonable reliance on the breached contract.
4. Plan must not otherwise alter legal, equitable, or contractual rights from original agreement
a. Ex: if contract stipulates reasonable attorney fees, that term must continue.
ii. If a class of claims is unimpaired under a Chapter 11 plan, the holder is presumed to have accepted the plan and is
not entitled to vote on it. If it is confirmed, it can be imposed on the holder over his objection.
iii. Bankruptcy Code 1124(2)
iv. A class of claims is unimpaired if the debtors proposed treatment of the class under its plan complies with the
following FOUR requirements:
1. Debtor must cure any default that occurred before or after the commencement of the bankruptcy case.
Though no deadline is specified, courts have generally held that it should be in a lump sum at the effective
date of the plan.
2. Future payments remain due at the times specified in the original K. ( The plan must reinstate the maturity
of that part of the claim that remains outstanding after cure, as such maturity existed before such default.)
3. Debtor must compensate the secured creditor for damages incurred through reasonable reliance on the
breached repayment K.

4.

F.

Must not alter the legal, equitable, or contractual rights to which the claim entitles its holder. (If originally
attys fees were going to be paid in the event of a default, that must still remain true in the plan.)
v. Rule: If a class of claims is unimpaired under a Ch. 11 plan, the holder of the claim in the class is conclusively
presumed to have accepted the plan and is not entitled to vote on it. 1129 (a)(8)
vi. Can be imposed on the holder of the unimpaired claim over its objection
vii. Reinstatement and Cure v. Modification: Modification keeps the debtor from making a lump sum payment
effectuated by confirmation of the plan. However, Reinstatement and Cure preserves the interest rate of the loan.
viii. Why choose cure and reinstatement over modification and cramdown under Bankruptcy Code 1129(b)(2)(A)(i)
1. If there is only a mortgage on the debtors home, then modification is prohibited.
2. Debtor wanted to preserve some favorable term in the original contract that would not be available in
cramdown.
a. E.g. a lower interest rate. If he cant come up with the money and modifies, the creditor may go to
current interest rate which would be higher.
Reinstatement and Cure Under Chapter 13
i. Bankr. Code 1322(b) (d): A Chapter 13 plan may provide for the curing of any default within a reasonable time
and maintenance of payments while the case is pending on any secured claim on which the last payment is due after
the date on which the final payment under the plan is due. (the last payment of your original loan is due after the last
date of your bankruptcy plan payment. Reinstatement doesnt have to be paid within the period of the plan as long
as you cure within a reasonable time.) You can do bothnot cure up front in a lump sum. But still retain your
original payment plan and interest. If you modify, payments cannot extend beyond the life of the plan.
ii. Under Ch 11 you either modify or you cure and reinstate. Cure means you pay everything that is in arrears
on the effective date. Under Ch. 13, you can modify or reinstate and Cure, but cure can be within a reasonable time
and not the effective date. Ch. 13, if you modify, it has to be within the plan period. Ch. 11, the modification can be
outside the plan period, can extend over a period of time that is fair and equitable.
iii. Four Requirements:
1. The debtor must cure any default that occurred before or after the commencement of the case (only within a
reasonable time: months or years)(cannot exceed the period of the plan).
2. Future payments remain due at times specified in the original contract.
3. The courts must look to applicable non-bankruptcy law to determine the amount necessary to cure
damages.
4. Plan must not otherwise alter legal, equitable, or contractual rights from original agreement
iv. 1322(b)(5)
1. It imposes the same FOUR requirements with some differences as Ch 11:
a. Debtor need only cure any default that occurred before or after the commencement of the
Bankrptcy. Case within a reasonable time.
i. Need not be in a lump sum on the effective date of the plan.
ii. However, cure cannot extend beyond the period of the plan.
iii. Courts consider the size of the arrearage and the debtors ability to pay in determining
whether a particular proposal reasonable.
b. Future payments remain due at the time they were due in the original contractreinstate the
maturity as it existed before the default.
c. Does not expressly require the payment of damages incurred by the secured creditor, but directs
the courts to look to applicable non-bankruptcy law to determine the amount necessary to cure.
1322(e) Some states require interest; some dont.
d. Cannot alter the legal, equitable, or contractual rights of the secured creditor.
2. Debtors are much more likely to use cure and reinstatement in Ch. 13 because it gives a longer period to
pay than a modification that must be paid within the year term of the plan.
3. Modification is prohibited on the security interest in real property that is the debtors principle residence.
Reinstatement is the only means to save the home after acceleration has occurred.
4. Nobelman v. American Savings Bank, 508 US 324 (1993)
a. OVERVIEW: The supreme court gave this mortgagee protection provision an expansive reading. In
that case, American Savings held a $71,000 purchase money mortgage against the Nobelmans
condominium, which was worth only $23,500.
b. OUTCOME: The court held that the Nobelmans could not, in their Chapter 13 plan, modify even
the unsecured portion of American Savings claim. To save their $23,500 home, the court ruled the
Nobelmans had to pay $71,000.

G.

H.
I.

J.
K.

L.
M.

N.

O.

When is it Too Late to File Bankruptcy to Reinstate and Cure? A debtor can reinstate and cure a default and acceleration
even though the deadline for doing so under state law has passed before the debtor invokes bankruptcy procedure.
Bankruptcy does not just preserve rights existing under state law, it recognizes rights that state law does not.
i. In re DeSeno
1. Facts: The secured creditor, Mid-Atlantic National Bank held a security interest in the debtor, Ms.
DeSenos, home. They obtained a foreclosure judgment on the mortgage and the court issued a writ of
execution authorizing the sheriff to sell the property on March 2. However, Ms. DeSeno got a
postponement until March 30 and on March 25 filed for relief under Ch. 11 Bankruptcy. On Sept. 9, MidAtlantic filed a motion to lift the stay.
2. Procedure: The bankruptcy court said that the stay should not be lifted. The district court reversed and
remanded. The Debtor appealed.
3. Issue: Whether the Bankruptcy stay under federal law trumps foreclosure under state law even where the
debtor doesnt file bankruptcy until after foreclosure judgment.
4. Decision: No.
5. Holding: The foreclosure judgment has ended the right to cure the default on the mortgage and the secured
creditor may lift the stay.
6. Rule: Both Ch. 11 and Ch. 13 authorize a debtors bankruptcy plan to provide for the curing or waiving of
any default.
7. 1322(b) (5) authorizes a cure of a default only in contractual relationship which ceases to exist following
a foreclosure judgment.
8. Rationale: The foreclosure judgment makes the entire amount of the debt immediately due and payable out
of the proceeds of the sale of the property. .
9. 1123(a) A plan shall(5) provide adequate means for the plans implementation, such as satisfaction
or modification of any lien; cancellation or modification of any indenture or similar instrument.
10. The foreclosure judgment is not a judicial lien but a security interest that may be modified under Ch. 11.
11. The court is reversed to the extent that it held that the debtor could not modify the foreclosure
judgment in the Ch. 11 plan. (At this time you could do it under Ch 11; now you cant do it under
either one.)
12. After the judgment of foreclosure, but before the sale reinstatement is allowed under Ch. 11.
Modification of 1322 by adding (c) A default on the debtor principal residence may be cured until the residence is sold at
a foreclosure sale.
1123 Contents of the Plan (b) Subject to subsection (a) of this section, a plan may
i. (1) impair or leave unimpaired any class of claims, secured or unsecured, or of interests;
ii. (5) modify the rights of holders of secured claims, other than a claim secured only by a security interest in real
property that is the debtors principal residence, or of holders of unsecured claims, or leave unaffected the rights of
holders of any class of claims.
BINDING LENDERS IN THE ABSENCE OF A FIXED SCHEDULE FOR REPAYMENT
The debtors right to cure and reinstate under bankruptcy law is of no avail to debtors in pay on demand or line of credit
situations. Cure and reinstatement only restores the debtor contract rights the debtor enjoyed before default.
i. Debtors whose lines of credit were repayable on demand or at a specific time that has passed have no contract rights
that bankruptcy could restore.
ii. The debtors are protected only through the ability to modify the claim or to use the respite of reorganization
proceedings to find a willing substitute lender.
For modification to yield substantial benefits to the debtor, there must be a substantial loan outstanding at the time of
bankruptcy.
The automatic stay prevents secured creditors from trying to collect after a bankruptcy filing money they advanced to a
debtor before the filing. But nothing in bankruptcy law or practice requires a lender to make advances during or after
bankruptcy even if the lenders have contracted to make those advances. BR 365(c)(2)
Finding a substitute lender may not be out of the question.
i. Many lenders actively seek relationships with borrowers who are in bankruptcy. Some demand a higher price. Some
see a benefit to lending to debtors who are stripping away their other debt and have good collateral to offer.
Assignment 14 Problems.
i. 14.1 How does a knowledge of bankruptcy change your reaction to Walt Rebels request for more time?
Rebel could file bankruptcy and reorganize. Rebel probably doesnt have money to cure, but could modify. Even
though the note is payable on demand, the stay under bankruptcy would still be effective.

ii. 14.2 a) Dave says Bank can lend Teresa $150,000 she needs on golf equipment. Choose between (both fixed
amount) demand note 2% or prime plus 3.25% on an arrangement that provides for 30 days notice.
1. Prime plus 2% demand note: This is probably better, because she can always file bankruptcy and get a
modification.
2. Prime plus 3.25%, 30 days notice before call: This is simply a higher rate with little help. The thirty day
notice is only if you are not in default.
iii. Bank is offering a line of credit instead.
1. Prime plus 2%, demand note:
2. Prime plus 3.25, 30 days notice before call: This would be better because she can rely on the ability to
draw money she needs. . Disadvantage of the line of credit is that if not fully drawn it can be cut off at any
time.
iv. 14.3 Spivak borrowed $80k on 30 yr fixed mortgage @ 8%. Spivak made 29 monthly payments and then missed #
30 and all payments since. Lender has filed for foreclosure. Current rate is 11% Willard is 7 months past due.
WILLARD SPIVAK
RATE
PAYMENT
ARREARAGE
BEFORE ACCERLERATION 8%
$587.02
$4,109.14
NOW
Default Rate
All Due Now
$78,026.04 & $4,109.14
CHAPTER 13
1322b2 unavailable
MODIFICATION
CHAPTER 13 REINSTATE
Contract 8%
$587.02
$4,109.14
AND CURE *** BEST PLAN
$114.14
Payable in reasonable
time
CHAPTER 11
Unavailable
MODIFICATION
1123(b)(5)
CHAPTER 11 REINSTATE
Contract 8%
$587.02 in one year
$11,153.38 to cure
AND CURE
19 months
Plan is not confirmed for
12 months + 7 months
arrearage.
v. (b) What is the minimum Willard must pay to keep the house and when
1. 587.02 per month, as scheduled.
2. 114.14 per month for three years.
vi. (c) Same situation as Willard, except Winonas mortgage balloons two years from now.
1. Can she reinstate and cure in Chapter 13? 1322(b)(5)
WINONA WILLIAMS
RATE
PAYMENT
ARREARAGE
BEFORE ACCERLERATION 8%
$587.02
$4,109.14
NOW
Default Rate
All Due Now
$78,026.04 & $4,109.14
CHAPTER 13
1322b2 unavailable
MODIFICATION
CHAPTER 13 REINSTATE
No 1322 Last payment is
No
no
AND CURE
due before the end of the
plan.
CHAPTER 13
Lose the rate
Will probably cost too
MODIFICATION***YES
much to do this
CHAPTER 11
1124(b)(5) Not home
$587.02 in one year
$11,153.38 to cure
MODIFICATION***NO
mortgages
19 months
Plan is not confirmed for
12 months + 7 months
arrearage.
CHAPTER 11
You can probably save it
Under bankruptcy, she will
REINSTATEMENT AND
in the short term but it
probably have difficulty
CURE****YES
probably wont help her
refinancing.
because of the balloon

vii. D) if she rented the house out: on a literal reading, since it would no longer be her principal residence, she could
probably modify. But it looks like a shady deal and she would pay lots of money.
viii. E) Willard made a deal with Gateway to repay at $6,000 and is about to default again.
WILLARD SPIVAK
RATE
PAYMENT
ARREARAGE
BEFORE ACCERLERATION 8%
$587.02
$4,109.14
WILLARDS DEAL
11%
$761.86
$6,000 at 6 months
CHAPTER 13
Not available principal
MODIFICATION
residence
CHAPTER 13 REINSTATE
Contract 8%
$587.02
$4,109.14
AND CURE *** BEST PLAN
$114.14
Payable in reasonable
time
CHAPTER 11
Not available principal
Unavailable
MODIFICATION
residence
1123(b)(5)
CHAPTER 11 REINSTATE
Contract 8%
AND CURE
P.

14.4 What advice to the Noblemans about their condo? Dont reinstate. You would pay $71k for a $23k condo. If they
had anti deficiency judgment statutes, you could advise them to buy it back from the bank at a lower price (the bank might
find them less of a risk at a lower price).
i. What would you advise American Savings about this condo? Foreclose?

V.

Assignment 15: The Prototypical Secured Transaction

a. Some forms are very short while others are more complex and lengthy.
A. Strategies and motivation differ from one kind of secured transaction to another and with the attitudes of different participants
to the same kind of transaction.
B. The Parties
i. Lender and Borrower
ii. Deutshe Financial Services
1. Commercial finance company
2. Lends against all kinds of business assets.
3. Specializes in Floorplanning
a. Financing the purchase of inventory that is on a dealers showroom floor.
C. Approval of the Loan
i. Application
ii. A credit report on receipt of application
1. Duetsches Expert Credit Systemsimulates the evaluation of a senior loan officers. Review of the
applicants qualifications for credit.
iii. Set a time for closing the transaction after approval.
D. Documenting the Loan
i. Applicant may have (should have??) discussed the loan agreements with his or her lawyers.
ii. Prior to meeting an Article 9 search occurs to find previous financers.
iii. List of all inventory already in the possession of the debtor.
iv. Examination of books and records to see how they are kept.
v. Required Documents:
1. the Security Agreement
2. a Sample Form Statement of Transaction
3. the Financing Statement
4. the Personal Guarantee
E. Security Agreement and Statement of Transaction
i. In this case, the lender must approve the vendors from whom the debtor will purchase inventory.
ii. The bank may refuse to do business with a vendor who has defaulted on a loan with them.
iii. Decide to keep the financial terms general in the security agreement as they will be affected by factors existing at
the time of the advance. (Line of Credit Loan)
iv. Dealer must mail a Statement of Transaction to the Bank and unless they object in writing within 15 days, they will
be bound by the transaction and the Statement will be here incorporated by reference for inclusion in the K terms.
v. If the Dealer objects to the terms of the Statement of Transaction, they need to function according to the last terms
with which they agreed, but they should be aware that this can result in the refusal of the bank to make more
advances.
vi. The security or collateral include a laundry list and a clause to include after-acquired property.
vii. Specifies where the collateral is to be kept.
viii. 30 day notice of significant change in the character and identity of the business.
ix. Collateral may only be rented, leased, demonstrated, transferred, or used by permission of the bank.
x. The bank retains the certificate of title of all inventory financed by them.
xi. Dealer must provide the bank with annual financial statements upon their completion. The information must be
accurate and the dealer must acknowledge the banks reliance on the information in the financial statements.
xii. Dealer Must
1. Pay all taxes due
2. Immediately notify of loss, theft, or damage of collateral
3. Keep the collateral insured for its full insurable value under a property insurance policy with a company
acceptable to the bank.
a. The bank must be named as a loss payee
b. The Dealer must provide the bank with written evidence of insurance.
4. If the Dealer fails to pay taxes or get insurance, the bank will pay for these things but it will become a debt
immediately payable by the dealer.
xiii. Bank has an irrevocable license to do the following:
1. Inspect and account for collateral
2. Verify Dealers compliance with the agreement

3. Examine and copy dealers books and records.

xiv. The principal indebtedness owed on any collateral is due when any one of the following occur:
1. Lost, stolen, or damaged.
2. Pay-as-Sold terms financingsold, transferred, rented , leased, or otherwise disposed or matured.
3. In strict accordance with any curtailment plan.
xv. Scheduled Payment Program financing in strict accordance with the payment schedule.
xvi. When otherwise required by any terms in writing between the parties.
iii. If the bank determines that the outstanding debt owed exceeds the aggregate wholesale invoice price of Collateral
in the Dealers possession, Dealer will immediately pay upon demand the difference.
iv. Any acceptance of immediate past due obligations discovered during a collateral audit are not to be construed as a
waiver or amendment of terms of the financing program. NO WAIVER.
v. Proceeds from Collateral are to be held in trust for the bank. Payments will be sent to banks collection office.
vi. The bank may apply payments as follows:
1. Reduce finance charges first, then principal, regardless of Dealers instructions.
2. Principal payments may be applied to earliest invoice for collateral and in all events first to collateral which
is stolen, lost, sold damaged, rented, leased, or otherwise disposed or accounted for.
vii. Dealer pays finance charges on the outstanding principal debt.
1. computed on a 360 day year
2. multiply the daily charge by the actual number of days in the billing cycle.
3. accrue from the invoice date of the collateral until the bank receives full payment of t he principal debt
Dealer owes in each item.
4. Daily chargeDaily rate multiplied by the Average Daily balance
5. Daily rateannual rate divided by 360 or the monthly rate divided by 30
6. Average Daily BalanceThe sum of the outstanding principal debt owed on each day of the billing period
for each item divided by the actual number of days in the billing cycle.
viii. $100 charge for each check returned for insufficient funds. Does not waive the default caused by the check; it just
covers the banks administrative costs.
ix. Dealer will receive a monthly billing statement and it will list all charges due and will be an ACCOUNT STATED
unless bank receives Dealers written objection within 15 days of its mailing to the dealer.
x. Late fee will be assessed if payment is not received by the 25th of each month. ($5 or 5% of the finance charge
may change to conform to applicable law.)
xi. Default if:
1. breach of any terms, warranties or representation s in the agreement, statement of transaction to which the
dealer has not objected, or any agreement between the parties
2. Any guarantor does any of the above in any guaranty or other agreement with the bank.
3. inaccurate representation, statement, report or certificate made to the bank.
4. Fails to pay any portion of debt when due
5. Dealer abandons collateral
6. Default by dealer or guarantor to any third party
7. Money judgment issues against dealer or guarantor
8. Attachment, sale , or seizure issues or is executed against any assets of the Dealer or any guarantor.
9. Undersigned dies while operating business as a sole proprietorship or any partner dies while operating as a
general or limited partnership.
10. Any guarantor dies
11. Dealer or any guarantor cease existence as a corporation, partnership, or trust
12. Cessation or suspension of business by dealer or guarantor
13. General assignment for the benefit of creditors made by d. or g.
14. Insolvency or involuntary or voluntary bankruptcy or state insolvency law by D or G.
15. Receiver appointed for D or Gs assets.
16. Guaranty of the debt to bank is terminated.
17. Dealer loses franchise, permission, license or right to sell or deal in the collateral.
18. D or G misrepresent D or Gs financial condition or organizational structure.
19. Any collateral becomes subject to a lien, claim, encumbrance or security interest prior or superior to the
banks.
xii. In the event of a default:
1. At any time, at the banks election, without notice or demand to dealer do any ONE of the following:

2.

Declare all or any part of the debt owed immediately payable, including all costs and expenses of collection
activity. Including and without limitation all attys fees.
3. Exercise any rights under applicable law including and without limitation the right to possess, transfer, and
dispose of collateral and the right to cease extending credit shall not be construed as limiting these
remedies.
4. Must segregate and keep the collateral in trust for the bank and cannot dispose of it (sell, rent, lease, further
encumber) and must keep it in good repair.
5. Upon oral or written demand, will immediately deliver collateral to the bank in good order and repair or
without notice or demand the bank may take the property, together with all related documents.
6. May without notice apply a default finance charge to Dealers outstanding indebtedness equal toe the
default rate specified in the agreement, or at the lesser of 3% per annum above the rate in effect
immediately prior to the default, or the highest lawful K rate of interest permitted under applicable law.
xiii. All banks rights and remedies are cumulative. Failure to exercise any of them will not waive any of the rights and
remedies available for past, current, or future default.
xiv. If the bank conducts a private sale of the collateral, to 10 or more distributors of the type of collateral, any sale in
bulk or in parcels within 120 days is a commercially reasonable sale.
1. 7 or more days prior written notice will be commercially reasonable notice of any public or private sale.
2. If the bank disposes of other collateral not contemplated, its commercial reasonableness will be judged by
state law.
xv. Give bank an irrevocable power of attorney to do any of the following
1. execute or endorse checks, financing statements, instruments, Certificates of Title and Statements of Origin
pertaining to the collateral.
2. supply any omitted information and correct errors in any documents between the parties
3. do anything dealer is obligated to do
4. initiate and settle any insurance claim
5. do anything to preserve and protect collateral and the banks rights and interests therein
xvi. May provide dealers credit information to any third party.
xvii. Agreement may be terminated at any time by written notice received by the other party.
xviii. If the bank terminates, the dealer agrees that
1. if they are not in default30 days prior notice of termination is reasonable and sufficient (although in some
instances shorter periods can be reasonable and sufficient.)
2. if they are in default, no notice is required.
3. Will not be relieved of any obligation prior to the termination by the termination .
4. Bank will retain all rights until the debt is paid.
xix. Dealer cannot assign his interest in this agreement without prior written notice of the bank.
xx. Protects and binds all heirs, representatives, successors and assigns.
xxi. All agreements or commitments to extend or renew credit or refrain from enforcing payment of a debt, must be in
WRITING.
xxii. Oral agreements are null and void and have no force whatsoever.
xxiii. An invalid provision in the contract still leaves all other provisions in tact and valid.
xxiv. This agreement will only supplement and amend previous security agreements with the bank.
xxv. In the case of conflict in terms, the terms of this agreement govern.
xxvi. Dealer agrees to pay all of the banks reasonable attys fees and expenses incurred by the bank in enforcing rights
hereunder.
xxvii. Binding Arbitrationprovided that the parties would submit all disputes between them to binding arbitration
through the National Arbitration Forum or the American Arbitration Association.
xxviii. If the arbitration clause is invalid or unenforceable, any legal proceeding with respect to any Dispute will be tried in
a court of competent jurisdiction by a judge without a jury.
xvii. The bank distributed no money at the closing, and there is no Statement of Transaction for Bonnie to approve.
F. The Financing Statement
i. For filing in the Uniform Commercial Code filing system of the state.
ii. Gives public notice that the bank claims a security interest in inventory.
G. The Personal Guarantee
i. Though loans were made to the business, the bank required that the owner make personal guarantee of the payment.
ii. Rationale:
1. If borrower cannot repay, the owners might.

2.

Gives the lender a right to obtain a judgment against the owner and proceed against their assets just as
though they had borrowed the money.
3. Sometimes secured by property owned by the owner.
4. To insure cooperation from the owners in the event of default.
a. Interest in business becomes worthless so there is no incentive if they cant be held personally
liable.
b. Avoid or minimize the judgments that can be taken against them.
c. On the side of the creditor if there is competition for the assets.
d. Desire to avoid any stigma with bankruptcy may motivate him.
H. Purchase of Inventory
i. Chooses a manufacture who deals with the same bank as the buyer.
ii. The Floorplan Agreement
1. The bank has a deal that if it purchases for the dealer from the manufacturer and has to repossess them, the
manufacturer will buy the product back at full price from the bank.
2. We will deliver an invoice to you of what was purchased.
a. Meaning we transfer all rights to the dealer contingent upon your financing the deal.
b. Our title is free and clear of all liens and encumbrances
c. Merchandise is in salable condition
d. Subject of a bona fide order by the dealer and that the dealer has requested that it be financed by
you.
e. Has been shipped not more than 10 days prior to the invoice.
I.
Breach of Warranties
i. We will pay an amount equal to the total unpaid balance owed to you on Merchandise that is the subject of the
breach.
ii. Reimburse you for all costs and expenses incurred by you a s a direct or indirect result of the breach, including but
not limited to attys fees.
J. Your Acceptance
i. Issue an approval number or draft because you are only bound to finance the merchandise you accept and only if
1. it is delivered to dealer within 30 days
2. you received our invoice within 10 days from the date of delivery to the Dealer, and
3. you have not revoked your acceptance prior to the shipment of the merchandise to the dealer.
K. In the Case of Repossession
i. We will repurchase in accordance with the following terms and conditions:
1. regardless of its condition at the point where you repossess it or where it otherwise comes into your hands.
ii. Due and payable immediately in full. Total owed to you or our invoice price, whichever is greater. and all costs and
expenses incurred by you including attys fees.
iii. We wont assert any interests in until the amount is paid in full.
iv. Advantages
1. Bankgets to sell back property on repossession
a. Shorelinethe 100% financing makes it more attractive for the dealers, and they are only doing
what they would have to do anyway if they sold the boats.
2. DealerBonnie gets a larger line of credit and they can finance more
a. She can get subsidiesperiods of little or no interest
L. The Buy
i. Contacts the bank to obtain approval of the purchase.
ii. Bank gives the manufacturer an approval number
iii. Manufacturer ships merchandise and sends the invoice to the bank
iv. Bank records the loan on the bank.
M. The Sell of Inventory
i. Profit will be added to the invoice price .
ii. Under a Pay-as-Sold agreement; dealer will send in payment immediately
N.
Monitoring the Collateral
i. If the dealer uses the money instead of paying the loan it is caught by inspections of collateral.
ii. Must see all the merchandise at the same time.
iii. He checks the serial numbers and checks off all he financed and that he has no record of its sale.
iv. Comes unexpectedly

O.
P.

Assignment 15 Problems
15.1. As atty for bank, you have been asked to comment on floor-checking procedures for loan of $185MM against 160MM
pounds of soybean oil stored in outdoor tanks. Floor checker goes to outdoor storage tanks and sticks a 40 ft. pole into the
tank to determine depth and then calculates volume. Do you see any problems? Could be something in the middle of the
tank occupying space. Could be water below the oil.
Q. 15.2. Car dealer who had financing arrangements with several banks showed the same cars as collateral to numerous banks.
What could lenders have done to protect themselves? All do floor checks at the same time. Can check VIN numbers.
R. 15.3. Client bank is considering changing policy so as not to require personal guarantees because in 9 of 10 cases, the
judgment we might recover on a personal guarantee would be uncollectible. Personal guaranty provides 2 incentives to
debtor:1. protect personal assets 2. avoid stigma of bankruptcy. The guarantees assure cooperation after the debtor gives
up on the business; they just wont walk away from a failing business.
S. 15.4. Bonnies business is not going well and she has started juggling boats. On the floor check this morning she was 5
boats short, a total of $50k. Deutsche has declared Bonnie in default and demanded that she surrender the 20 Shoreline boats
remaining in its possession. Bonnie has come to the realization that the business cannot survive. a. Does Deutsche have the
right to repossess the boats? Yes b. If Bonnie surrenders the boats without a fight, what do you think will happen to her?
Could be criminally liable for the missing boats. c. Does Bonnie have the power to keep these boats? If so, how? For how
long? Could file bankruptcy. Could threaten breach of peace to forestall repossession until she can file bankruptcy only until
the bank can show that she cant provide adequate protection, in which case Deutsche can get the stay lifted. d. What advice
do you give Bonnie? Could you (ethically) tell Deutsche that Bonnie will return the boats if they do not pursue criminal
charges? Whether or not to pursue criminal charges is not up to Deutsche, its up to the DA.
T. 15.5. As an arbitrator you have been assigned a case in which Deutsche seeks to enforce provisions of the Agreement for
Wholesale Financing against a dealer who signed it 5 years ago. The dealers (debtor) attorney argues that the contract is
void for lack of consideration, and illusory because nowhere in it does Deutsche agree to make a loan or necessarily do
anything else. What do you think of these arguments? Deutsche lent money and charged fees. The transaction statements
are incorporated by reference. Trying to say that the K is not enforceable minus consideration.

VI.

Assignment 16: The Personal Property Filing Systems

a. Competition for the Secured Creditors Collateral
i. This regulates the relationship between a secured creditor and others who may claim the same collateral.
ii. What must the secured creditor do to prevail over these new adversaries? And how effective will they be? And how
expensive is it to enforce it?
iii. Sometimes debtor participates and sometimes not.
b. Issue: Which creditor prevails against others who also have rights superior to those of the debtor?
c. Questions of Priority
i. Perfection is giving the public notice of the claim by a proper method.
ii. General Rule is that priority goes to first to file or perfect.
iii. Rationale is that later lenders will know of the first lender and adjust [how much & at what rate they lend]
iv. Methods of Perfecting:
1. Filing
2. Possession
3. Control
4. Automatic perfection
v. Because possession is a method of perfecting, just checking the filing system does not ensure that you are first. You
must also make sure that another creditor does not have possession.
vi. If there is more than one lien against collateral, each will have a priority Commonly labeled first, second, or third
vii. A lien with priority higher than another is referred to as the senior or prior lien and the other is referred to as the
subordinate or junior lien.
viii. If the value of the collateral is insufficient to pay all of the liens against an item of collateral the junior liens
yield to the senior ones.
ix. Each creditors lien is a relationship between an obligation and an item of collateral; priority is the relationship
between these relationships.
x. Priority can exist between creditors who do not have liens. (Unsecured Creditors get priority by K amongst one
another.)
xi. Contracts establishing priority among unsecured creditors are rare because most debtors encumber all their property
with liens, which have priority over all unsecured debt.
xii. Only one way to resolvecould be resolved by pro rata share, status of the competing creditors, or permitting
creditors to trace and recover value that they supplied to the debtor.
xiii. Liena relationship between a debt and property that serves as collateral.
d. Remedy for Default: If debtor fails to pay the debt, the creditor can foreclose on the lien, force a sale of the collateral, and
have the proceeds of the sale applied to payment of the debt.
e. Peerless Packing Co. v. Malone & Hyde, Inc.
i. Facts: Twelve companies that supplied groceries to a wholesaler of grocery products, Mr. Kizer, appealed a directed
verdict for his secured creditor Malone and Hyde. Mr. Kizer negotiated an agreement with M and H to buy the
grocery store. He was allowed to use the trade name and subleased the store and bought equipment for $200,000
and had $187,000 in additional inventory. In exchange, Mr. K gave a promissory note for $387,000 secured by an
interest in the present or after-acquired property. M and H, secured creditor, met all the requirements of the UCC for
perfecting its lien. The store opened and sold some goods in addition to the ones supplied by the appellee secured
creditor. These were supplied by the twelve appellant companies, who delivered on an open-account credit to the
store. They did not, however, obtain purchase money security interests. The store eventually failed, and one of Ks
rent checks bounced. The secured creditors told K. they were going to take the store back, so he could either
voluntarily sign everything over or they could take everything he had. K signed the store over and transferred all of
his rights in the store, equipment, and inventory to the secured creditor, and the s.c. released K from all obligations.
They assumed ownership of the store and sent a letter to the twelve appellants stating that they had realized their
secured interest free of liability to any third parties. The appellants sued K for the unpaid accounts and also sued the
S.C. for a theory of unjust enrichment, for compensatory and punitive damages. Mr. K discharged his obligation in
bankruptcy.
ii. Procedure: Trial court granted the appellee S.C. a directed verdict.
iii. Issue: Whether a secured creditor with priority can be unjustly enriched when it consumes value and collateral
belonging to another secured or unsecured creditor without compensation to that creditor.
iv. Decision: No. Affirmed.
v. Rule: A theory of unjust enrichment is not applicable in a case that is governed by the UCC.

vi. Rationale: The purpose and effectiveness of the UCC would be substantially impaired if interests created in
compliance with UCC procedure could be defeated by application of the equitable doctrine of unjust enrichment.
vii. Rationale: Although the result of disallowing an equitable unjust enrichment claim in such a case may appear harsh,
the unsatisfied creditors, could have protected themselves either by demanding cash payment or by taking a
purchase money security interest in the goods they delivered.
f. How do Creditors Get Priority?
i. Liens rank in the chronological order in which they were created.
ii. Exceptions are in favor of liens such as property taxes.
iii. Once the priority of a lien is established, any lien created thereafter will be subordinate.
iv. Makes it possible for a creditor to know how it will fare in later competitions.
v. Liens it will rank behind are already in existence, so the prospective lender can obtain information about them and
contract with the holder regarding their disposition.
vi. To insure that the prospective lender can discover a lien that will have priority over its own, the laws under which
liens are created almost invariably condition priority on the holder taking steps to make existence of the lien
public and easily discoverable:
vii. Ways to PERFECT THE LIEN:
1. Filing notice in a public records system established for that purpose
2. Taking possession of the collateral
3. Taking control of the collateral by means of the stake holders agreement to hold for the secured creditor
4. Posting notice on the property where it will be seen by persons dealing with the property.
viii. Secured creditors usually choose to perfect liens by public filing.
ix. An unsecured creditor receives an execution lien by reducing its claim to a judgment, obtaining a writ of execution,
and having the sheriff levy on the assets.
1. The levy both creates the lien and perfects it by the sheriffs possession.
x. Perfection: a series of steps that the holder of a lien must take to give public notice and thereby establish priority.
xi. Time: Because priority is based on time, it is important to document that time.
1. When officers receive notice, they immediately stamp and date the form with the time received.
2. The sheriff who seizes property pursuant to a writ of execution will immediately record the date and time of
seizure.
3. Records can be used to prove these dates and times when disputes arise.
4. However, perfection can be achieved at times in a way that precludes recording the time and date, in which
case the time and date can be proven with other evidence.
5. Dates and times will determine the priority of liens.
g. The Theory of the Filing System.
i. The filing system is the means used to communicate the possible existence of a lien from a creditor who has one to
a creditor who is thinking of acquiring one.
ii. The filing system gives constructive notice; however, it is supposed to give actual notice to the intended creditor.
iii. Each creditor must leave a to whom it may concern message in the form of a FINANCING STATEMENT. UCC 1
iv. Filers search the records to see whether prior secured creditors left messages for them.
v. Prospective creditors must know that the system exists and that there may be messages waiting for them.
vi. Many consumers and small business people are not aware this system exists.
vii. If lenders fail to participate in the system, even later filings or extended credit can come before them.
viii. If they fail to find a lien that existed before them, they will have their security interest subordinated to it.
ix. Highly imprecise, expensive, and difficult to use.
x. If lenders fail to file, it creates a significant risk that the lien will be avoided by a trustee in bankruptcy.
xi. Failure to search can lead to disaster if the debtor has granted a security interest previously to a competing creditor
and fails to mention that fact in the application.
xii. Many creditors are still lax in searching or dont search at all.
h. The Multiplicity in Filing Systems
i. The filing system is complicated by the fact that there are many message centers.
ii. Each county in the United States maintains a real estate recording system in which not only real estate mortgages,
but also Art. 9 fixture filings are filed. UCC 9-501(a) (1)
iii. Many counties also have separate systems for property tax liens, local tax liens, and money judgments.
iv. All states except Georgia and Louisiana have state UCC filing systems, with local UCC filing offices in each
county that can be searched through a statewide index.

v. All states maintain certificate of title systems for the filing of security interests in automobiles, and some have
separate ones for boats and mobile homes.
vi. Some states have filing systems for special types of collateral such as liquor licenses.
vii. The federal government maintains additional filing systems for patents, trademarks, copyrights, aircraft, and
ship mortgages.
viii. International negotiations are under way for a world filing system.
ix. Separate offices have little or no communication between each other.
x. If the secured creditor leaves the message in the wrong message center, the message almost certainly will be
ineffective.
xi. If the later lender searches only in the wrong office, it will miss whatever messages were left in the right office.
xii. Statutes specify which message center is required. With both state and national filing systems, uncertainties and
overlaps are inevitable.
i. National Peregrine, Inc. v. Capitol Federal Savings and Loan Association of Denver.
i. Facts: This is an appeal from a decision of the bankruptcy court. Cap Fed extended to NPI a $6MM line of credit
secured by NPIs film library. Both the security agreement and the U.C.C.-1 financing statements describe the
collateral as all inventory consisting of films and all accounts, contract rights, chattel paper, general intangibles,
instruments, equipment, and documents related to such inventory, now owned or hereafter acquired by the debtor.
Cap Fed filed U.C.C.-1 financing statements in CA, CO, and UT, but not with the U.S. Copyright office. NPI filed
bankruptcy, and then amended its complaint, contending that the banks security interest in the copyrights to the
films in NPIs library and in the accounts receivable generated by their distribution were unperfected because Cap
Fed failed to record its security interest with the Copyright office. NPI claimed that, as a debtor in possession, the
trustee had a judicial lien on all assets in the bankruptcy estate, including the copyrights and receivables.
ii. Procedure: On appeal from Bankruptcy Court.
iii. Issue: Is a security interest in a copyright perfected by an appropriate filing with the United States Copyright Office
or by a UCC-1 financing statement filed with the relevant secretary of state?
iv. Rule: The copyright act provides that any transfer of copyright ownership or other document pertaining to a
copyright may be recorded in the U.S. Copyright Office. A transfer under the Act includes any mortgage or
hypothecation of a copyright whether in whole or in part and by any means of conveyance or by operation of law.
v. Rule: Compliance with a national registration scheme is necessary for perfection regardless of whether federal law
governs priorities.
vi. Rule: Even in the absence of express language, federal regulation will preempt state law if it is so pervasive as to
indicate that Congress left no room for supplementary state regulation, or if the federal interest is so dominant
that the federal system will be assumed to preclude enforcement of state laws on the same subject.
vii. Rule: The comprehensive scope of the federal Copyright acts recording provisions, along with the unique federal
interests they implicate, support the view that federal law preempts state methods of perfecting security interests in
copyrights and related accounts receivable.
viii. Rationale: The federal copyright laws ensure predictability and certainty of copyright ownership, promote national
uniformity, and avoid the practical difficulties of determining and enforcing an authors rights under the differing
laws and in the separate courts of the various courts.
ix. Rationale: The allusion to belts and suspenders of the lower court as justifying the filing in either place is
inappropriate here because this would increase the level of uncertainty.
x. The Copyright statute specifically mentions hypothecations: Distinguished assignment of royalties as not having to
be filed with the federal system, but income having to be because it is associated with the copyright itself.
j. A federal filing is not sufficient to perfect a security interest in a trademark.
k. Aircraft and railroad federal filing systems preempt state filing systems.
l. Patents do not preempt the UCC and can be filed with state. This is an omission.
m. In re: Pasteurized Eggs Corporation.
i. Rule: 544 of the Bankruptcy Code allows the debtor to assume the role of a hypothetical lien creditor and avoid
any unperfected security interest.
ii. Rule: Whether a security interest is perfected is generally a state law issue, even where the secured party is a patent.
iii. Rule: A security interest in a patent is generally perfected where the assignor has complied with state UCC
requirements but has not recorded the security interest with the Patent Trademark Office. Perfection of a security
interest in a patent requires filing a UCC-1 in accordance with state law.
iv. Rationale: The Patent Act does not preempt the UCC with respect to perfection of security interests, because the
Patent Act addresses filings only with respect to transfers in ownership but not with regard to security interests. (No
reference to hypothecation whereas the Copyright Act specifically lists it.)

n. Methods and Costs of Searching

i. In many filing offices, only employees are permitted access to records.
1. The lender or lawyer must fill out forms precisely specifying the search requested and send it to the filing
officer.
2. In other offices, a member of the public can come in and do the search.
3. Most lenders and lawyers do not deal directly with the filing officer; they hire a service company to order
or conduct the search for them.
a. Serve as Intermediaries between the lender and the lawyer.
b. Will accept search requests by telephone
c. A company employee may either go to the office and conduct the search or order it over the
counter.
d. May also use a local correspondent. title or escrow company.
e. The party ordering the search pays two fees, that of the filing officer and that of the search
company. Filing officer fees are set by state statute. Service company fee is determined by the
service company or its correspondent.
f. An additional name, or variation will likely double the fee. Copies of the filing will increase the
cost.
g. Filing is usually a little cheaper than searching, but not much. Sometimes if a lawyer does the
filing, the fee is even more increased.
h. However expensive, the fees remain small when compared to the amounts of money involved in
commercial lending transactions.
o. If a lawyer is unsure about which office to file in, then he should file in more than one.
i. Use a knowledge of the law and judgment as to likely consequences.
p. Assignment 16 Problems
q. 16.1. Felicia hired you to collect arrearages her ex-husband Leonard owes her. Leonards only possession is a car worth
$10k. You obtained a judgment on the alimony & child support arrearages. When Leonard ignored the judgment, Felicia
authorized you to have the sheriff seize the car. In investigating the car, you learn that 3 months ago Leonard signed a
security agreement granting Bernie an interest in the car to secure another debt. Leonard and Bernie immediately recorded
notice of Bernies lien on the certificate of title for the car. a. Now where does Felicia stand? She is unsecured because
Bernie has perfected his lien.b. Can you go ahead with the execution levy? Should you? Yes and No. If Sheriff seizes the
car and sells it, Bernie gets the first $12k of proceeds.
r. 16.2. Sergio bought a street vending cart from Winchell, paying $1k cash and signing a promissory note for $1k. Winchell
filed for bankruptcy and GFC, who had perfected a lien against the cart when it loaned Winchell $2,500, demanded
possession of the cart from Sergio. a. What do you tell Sergio? Can argue that Winchell did not make the sale to Sergio in
good faith if he did not disclose the lien, could argue Winchell defrauded Sergio knowing he was going to file bankruptcy.
Determine how much Winchell still owed GFC, maybe you can negotiate that Sergio pay the $1k he owed Winchell to GFC
instead. 9-315(a). A security interest continues in collateral notwithstanding sale unless the secured party authorized the
disposition free of the security interest. Even though Sergio is a bona fide purchaser for value, the cart is still subject to the
lien. b. Would it help your case if you discovered that GFC repossessed 3 vending carts in the past 12 months, each time
from a defrauded buyer? Probably not.
s. 16.3. You have been assigned to order U.C.C. filings and searches in anticipation of client lending against the following
collateral. In what filing system or systems will you make the filings and conduct the searches?a. Tools used at debtors
service station. Secretary of State or as provided by state law. b. Patent. Governed by state law, file with Secretary of State
or as provided by state law Article 9 does not apply to the extent tat a statute, regulation or treaty of the united States
preempts the article. File in the secretary of states and the US patent office. If you are unsure at all file everywhere you can.
There is no penalty to file in more than one place. Its actually a good policy. d. Rare auto dealers inventory of automobiles,
some autos that are not for sale, accounts receivable, and all of the dealers rights to its American Originals trademark.
i. Inventory file financing statement with Secretary of State
ii. Autos not for sale indicate on certificates of title
iii. Accounts receivable file financing statement with Secretary of State
iv. Trademark file financing statement with Secretary of State
t. 16.4. Lawyer is concerned that debtor might encumber property at any time, even while debtor is negotiating loan. Should
he do U.C.C. filings or searches first? Filings (notice filing) File First, then dont disburse funds until after you search a
week later, by which time any filings before yours should show up in your search..