Part V Perfecting an Article 9 Security Interest
Chapter 24 Continuing Perfection -- Changes as to the Use of the Collateral or in the Location of the Collateral or the Debtor; Security Interests in Proceeds
A. Relocation of the Debtor or the Collateral Within a State
Under former Article 9 difficulties could arise where a security interest was properly perfected by a local filing and the debtor's residence or the use or location of the collateral changed. For example, if a creditor properly perfected a security interest in farm equipment by filing in the county of the debtor's residence as required by former section 9-401(1)(a) (Second Alternative) and the debtor moved to another county later creditors could be misled in that a search of the records in the county to which the debtor had moved would not disclose the filing. Nevertheless, under former section 9-401(3), the filing in the county from which the debtor had moved continued to perfect the security interest (until the filing lapsed or was terminated). Such problems largely go away under new Article 9 because there is local filing under new section 9-501(a) only as to certain real estate related collateral.
A second question under former Article 9 was what should happen if a secured creditor relied on automatic perfection as to a purchase money security interest in consumer goods and subsequently the debtor began using the collateral in the debtor's business. The change was potentially misleading in that filings as to consumer goods were local but those as to equipment were central. Former Article 9 did not expressly answer the question, but there was a consensus that a new filing was not needed.
A third question arising under former Article 9 was whether a financing statement properly filed to perfect a security interest in inventory was effective to perfect the security interest if the debtor began using the collateral in its business rather than holding it for sale. Again there was no answer provided by former Article 9, but there was wide agreement that the original filing was effective.
More generally, there was a "rule " that if a filing was proper under the circumstances extant at the time a security interest attached then the filing continued to be effective despite a change in circumstances that would have required a different filing initially. This result makes sense and the rule should apply under new Article 9 as well. Note that the rule protects the secured party only where the initial filing is proper. However, there were exceptions to this general rule. These exceptions are explored in this chapter.
B. The Effect of Relocation of the Debtor or Collateral from One State to Another
1. Generally
Determining the effect of a relocation of the debtor or the collateral on continued perfection requires a complete understanding of the rules governing perfection as an initial matter because a change in location of the debtor or the collateral can mislead potential creditors only where the debtor's location or the location of the collateral governed perfection before the change. To illustrate, if the location of the collateral or the debtor requires central filing in State A and the collateral or the debtor moves to State B and the location of the debtor or the collateral in State B would require a central filing in State B then the move is misleading to potential creditors.
As a first step, you should review the discussion in Chapters 6 (Choice of Law), 13 (Overview of Perfection by Filing), 15 (Perfection by Possession (Including Documents of Title)) and 17 (Perfection as to Goods Subject to Certificate of Title Legislation) as to various choice of law rules. While doing so you should note that under new Article 9 the law of the state where the debtor is located is the general choice of law rule governing perfection, but that there are significant qualifications to this rule.
2. Relocation of the Debtor from One State to Another
Relocation of the debtor is a potential problem only in situations where the debtor's location determines the law governing perfection meaning, for the most part, the state in which a financing statement must be filed. Under former Article 9 the law where the debtor was located governed perfection only as to security interests in pure intangibles and mobile goods and security interests in chattel paper that were perfected by filing rather than possession. Where a debtor relocated to another state a creditor had four months from the date of the relocation to reperfect a security interest in the collateral.
The four-month period was designed to give a creditor time to learn that a debtor had moved and to reperfect in the state to which the debtor had relocated (although it was a good question whether creditors realistically could be expected to act within the time allowed even if they attempted to monitor a debtor's whereabouts (for example, by noting changes of address on payments), which they obviously should do. If a creditor failed to reperfect within the four-month period perfection was not continuous and the security interest was deemed unperfected as against a person who became a purchaser after the debtor relocated.
New Article 9 retains the scheme requiring a secured party to reperfect within four months after a debtor relocates in a situation where the debtor's location governs perfection of a security interest. As was seen in Chapter 13 (Overview of Perfection by Filing), the "general rule" of new Article 9, under new section 9-301(1), is that the law of the state where the debtor is located governs perfection and non-perfection (i.e., dictates the state in which a creditor should file). The new Article 9 rules for dealing with situations where a debtor relocates are found in new section 9-316.
New section 9-316(a) indicates how long a security interest perfected in one state continues to be perfected in another state on the happening of certain events, including a relocation of the debtor. Under new section 9-316(a)(2), perfection continues for four months after the debtor relocates. This four-month "grace period " is a carryover from that in former Article 9. It should be noted that new section 9-316(a) deals with events other than relocation of the debtor. Thus, under new section 9-316(a)(1) perfection ends when a financing statement lapses or otherwise ceases to be effective in the state where the financing statement was filed.
Under new section 9-316(a)(3), perfection continues for one year after a transfer of collateral to a person in another state who becomes a debtor (either as a result of the transfer or by becoming bound to the security agreement entered into by the transferor, i.e., becomes a "new debtor").
Of special importance is the fact that the rules found in new section 9-316(a) apply only where perfection and nonperfection are governed by the law where the debtor is located. The prefatory language of new section 9-316 refers to "a security interest perfected pursuant to the law of the jurisdiction in Section 9-301(1) . . . ." In particular, where the law of the jurisdiction that has issued a certificate of title covering goods governs perfection and nonperfection then the four-month rule does not apply. Certificate of title situations are considered in subpart B(3)(b) below.
New section 9-316(b) specifies what a secured party must do to continue perfection beyond the periods stated in new section 9-316(a) and what happens if a secured party fails to act timely to continue perfection. Under new section 9-316(b), if a security interest is reperfected in the jurisdiction whose law governs because of a change and reperfection is accomplished in the new jurisdiction before the end of the earliest of any applicable stated period, then perfection is continuous from the date the security interest was perfected in the state from which the debtor relocated (or action resulting in a new debtor was taken). However, under new section 9-316(b), as was also true under former section 9-103(3)(e), if the security interest is not reperfected before the end of the earliest of any applicable stated period, then the security interest is deemed never to have been perfected against a purchaser for value of the collateral.
The rules in new section 9-316(b) mean that if a secured party delays action to reperfect beyond the time periods provided for in new section 9-316(a) -- in the case of a relocation of the debtor, within four months after the change in the debtor's location -- then the security interest can be subordinated by a creditor who takes a security interest in the collateral, even one who does so during the time the security interest was perfected.
As was true under former Article 9, new section 9-316(b) requires perfection under the law of the jurisdiction that governs because of the change. A move by a debtor to another state (or a transfer of collateral) often will be unauthorized and constitute a default, giving a secured party the option to repossess the collateral rather than refile in the new jurisdiction, at least as to tangible collateral. As to reperfection by refiling, recall that under new section 9-509(b), execution of a security agreement authorizes a secured party to file a financing statement. Similarly, under new section 9-509(c), a transferee of collateral in which a security interest continues under new section 9-315(a)(1) authorizes the security party to file a financing statement covering the collateral.
You may test your understanding of the new Article 9 rules governing relocation of a debtor in the next three problems.
Problem 24.1 (interactive)
Donald Debtor resides in and does business as a sole proprietorship in Tucson, Arizona. Donald borrows from Western Bank and gives Western a security interest in Debtor's accounts, existing and later-acquired. Western files a financing statement covering accounts in the Secretary of State's office in Arizona.
Is Western's security interest in the accounts perfected under new Article 9?
If Donald later moves to Albuquerque, New Mexico, but continues to do business in Tucson, will the security interest still be perfected under new Article 9? If Western's security interest is perfected after the move to New Mexico, for how long is it perfected?
What must Western do to assure continuous perfection after that period of time?
Problem 24.2 (interactive)
Southwestern Bank lends to Super Stuff, Inc. and takes a security interest in Super Stuff's accounts, existing and later-acquired. Super Stuff is incorporated in Arizona but does business in New Mexico and California as well as Arizona. Southwestern perfects its security interest by filing a financing statement covering accounts in the Secretary of State's office in Arizona. At the time of the loan, Super Stuff's chief executive office is in Phoenix, Arizona.
Is Southwestern's security interest in Super Stuff's accounts perfected under new Article 9?
Subsequently, Super Stuff moves its chief executive office to Albuquerque, New Mexico. Does Southwestern's security interest continue to be perfected? If so, for how long?
Problem 24.3 (interactive)
Assume the facts of Problem 24.2 but that the debtor, Super Stuff, is a general partnership. Subsequent to Southwestern Bank's filing in Arizona, Super Stuff moves its chief executive office to Albuquerque, New Mexico.
Do your answers to the questions posed in Problem 24.2 change?
If Southwestern's filing in Arizona does not lapse and is not terminated but Southwestern does not re-perfect in New Mexico within the four-month period after Super Stuff relocates to New Mexico what happens?
As noted earlier, new section 9-316 also deals with transfer and new debtor cases. Consider the next two problems.
Problem 24.4 (interactive)
Delia Debtor, an individual residing in Tucson, Arizona, purchases a stereo for use in her business on credit from Sid Seller. Sid takes an interest in the stereo to secure the unpaid price of the stereo. Sid perfects by filing in Arizona. The security agreement executed by Delia provides that the stereo may not be removed from Tucson without the express written consent of Sid. Without Sid's knowledge, Delia moves to San Francisco, California.
Does Sid's security interest continue to be perfected after Delia moves to California?
If Sid's security interest is perfected in California without further action by Sid, for how long is it perfected?
What action must Seller take to achieve continuous perfection beyond that period of time after Delia's move to California?
What happens if Sid does not take the required action to continue perfection?
Now, suppose instead of moving to California, Delia sold the stereo to Teresa Transferee in San Francisco, California. Would Sid's security interest be perfected in California?
If Sid's security interest is perfected in California, for how long is it perfected?
What happens to Sid's security interest if Sid does not reperfect in California before the shorter of the two time periods provided for in new section 9-316(a) expires?
Problem 24.5 (interactive)
Assume the original facts of Problem 24.4. Assume further, however, that Delia Debtor bought the stereo for personal use and Sid Seller did not file. Would these changes in the facts alter your answers to the question of how Delia's move to California affects the perfection of Sid's security interest in the stereo? Assume again the foregoing facts (that Sid took a security interest in the stereo sold to Delia, that Delia bought for personal use and that Sid did not file a financing statement) but that instead of moving to California, Delia sold the stereo to Teresa Transferee in California.
Would the argument made earlier in this problem that Sid's security interest never became unperfected under new section 9-316(b) continue to be persuasive?
3. Movement of Collateral from One State to Another
As discussed earlier, movement of the collateral affects perfection only where the law governing perfection and nonperfection depended initially on the location of the collateral (rather than the location of the debtor). The situations where location of the collateral (a "situs rule") governs perfection and nonperfection are conveniently divided into cases involving collateral other than goods covered by a certificate of title and those involving goods covered by a certificate of title.
a. Collateral Other Than Goods Covered by a Certificate of Title
As was noted in Chapter 15 (Perfection by Possession (Including Documents of Title)), under new section 9-301(2), the law of the state where the collateral is located governs perfection and nonperfection as to security interests that are perfected by possession. The location of the collateral rule applies only where a security interest in the collateral can be perfected by possession under new section 9-313(a). As discussed in Chapter 15, perfection by possession is possible only as to collateral that falls into what have been referred to as the goods and quasi goods categories. Included in these categories are goods, instruments, money, certificated securities, and tangible chattel paper.
What happens when collateral a security interest in which has been perfected by possession in one state is then moved to another state is governed by new section 9-316(c). The operation of new section 9-316(c) may be illustrated by examining movement of goods other than goods covered by a certificate of title.
Consider the next three problems.
Problem 24.6 (interactive)
The facts of Problem 15.1 in Chapter 15 (Perfection by Possession (Including Documents of Title) were as follows: Delia Debtor is an individual residing in Arizona. Delia gives a security interest in a valuable painting to Lisa Lender who also is an individual residing in Arizona. Lisa takes possession of the painting in Arizona. As seen in that problem, Arizona law governs perfection of Lisa's security interest because under new section 9-301(2), the law of the location of the collateral governs perfection as to a possessory security interest.
Is the security interest in the painting perfected? If so, for how long?
Problem 24.7 (interactive)
The facts of Problem 15.2 in Chapter 15 were that Lisa Lender had taken a security interest in a painting and had taken possession of the painting but Lisa resided in New Mexico and took possession of the painting in New Mexico. As was seen in that problem, the law of New Mexico governs perfection because the law of the location of the collateral governs perfection under new section 9-301(2).
Is the security interest in the painting perfected?
Problem 24.8 (interactive)
In Problem 15.3 in Chapter 15 the facts were that Lisa Lender took possession of a painting in Arizona and then moved to California taking the painting with her. It was seen that the law of California governs perfection of the security interest in the painting because the law of the location of the collateral governs perfection as to a possessory security interest under new section 9-301(2).
If the security interest was perfected by possession in Arizona, does the security interest in the painting remain perfected when Lisa moves to California?
If the security interest in the painting was perfected by possession under Arizona law and also is perfected by possession under California law, is the security interest in the painting continuously perfected?
If the security interest in the painting was perfected by possession under Arizona law but would not be perfected by possession under California law, would Lender have some time period within which to perfect in California? See new section 9-316(c).
Generally speaking, the law regarding perfection by possession of the jurisdiction to which collateral is moved will be the same as the law of the jurisdiction from which the collateral was moved and the security interest will be perfected in the jurisdiction to which the collateral is moved. There could, however, be differences in the law as between the two jurisdictions, especially where the collateral is physically in the possession of a third party. As to such third-party-possession cases new section 9-313(c) and Chapter 15 (Perfection by Possession (Including Documents of Title)) should be consulted.
In the rare case where a security interest is perfected by possession under the law of the jurisdiction from which the collateral was moved but is not so perfected under the law of the jurisdiction to which the collateral is moved under new section 9-316(c) there is no grace period during which action to perfect the security interest in the state to which the collateral is moved will result in continuous perfection.
It should be kept in mind that the rules just discussed regarding changes in possession apply to security interests in collateral other than goods covered by a certificate of title. The next subsection deals with security interests in goods covered by a certificate of title.
b. Goods Covered by a Certificate of Title Law Requiring Perfection by Lien Notation
The question here is what happens to perfection when goods, especially vehicles, in which security interests have been perfected by "lien notation" are moved to another state that also issues a certificate of title under a law requiring that a security interest be noted on the title for it to be perfected. As noted in subpart B(2), in other than certificate of title situations, specifically, where perfection and nonperfection are governed by the law of the jurisdiction where the debtor is located as per new section 9-301(1) then different rules apply.
Generally speaking, under former Article 9, the law of a state issuing a certificate of title requiring lien notation governed perfection and nonperfection until four months after a vehicle covered by the certificate of title was registered in another state or until the certificate of title was surrendered. But, exactly what should happen when the state to which a vehicle was moved issued a "clean title" (one on which a security interest had not been noted), especially if the certificate of title issued by the state from which the vehicle had been moved was surrendered, was not at all clear.
New Article 9 undertakes to resolve the uncertainties existing under former Article 9. It does so primarily by making clear that although problems tend to arise only where goods covered by a certificate of title issued by one state are moved to another state, the critical event is not the relocation of the collateral, as such, but rather the fact that goods cease to be covered by a certificate of title issued by one state and become covered by a certificate of title issued by another state.
As noted in Chapter 17 (Perfection as to Goods Subject to Certificate of Title Legislation), under new Article 9, section 9-303(c), the law of a state that has issued a certificate of title covering goods governs perfection of a security interest in those goods. Moreover, under new section 9-303(b), goods are covered by a certificate of title from the time of an application for a certificate of title and a tender of any required fees until the certificate ceases to be effective under the law of the issuing state or the goods become covered by a certificate issued by another state.
Assume, for example, a security interest in a vehicle that is covered by a certificate of title issued by State A. Under new section 9-303(c) the law of State A governs perfection and nonperfection. If the security interest is noted on the title issued by State A then the security interest is perfected. See new 9-311(b) and Chapter 17 (Perfection as to Goods Subject to Certificate of Title Legislation). Under new section 9-303(b) the vehicle is covered by the certificate of title issued by State A so long as the certificate is effective under the certificate of title law of State A and under new section 9-303(c) State A's law governs perfection and nonperfection so long as the vehicle is covered by the certificate of title issued by State A.
Now, suppose that State B issues a certificate of title covering the vehicle. Normally this will happen only when the vehicle is taken from State A to State B and registered in State B. However, as we saw in Chapter 17 the application of the choice of law rule of new section 9-303(c) is not dependent on any nexus of the goods with a state issuing a certificate of title. Under new section 9-303(a) it is enough to trigger the choice of law rule of new section 9-303(c) that a state has issued a certificate of title that covers the goods.
In any event, under new section 9-303(c), as soon as the vehicle in the example is covered by the certificate of title issued by State B the law of State B governs perfection and nonperfection. Under new section 9-303(b) the vehicle is covered by the certificate of title issued by State B from the time the application for the title was made and any required fees were tendered. Further, under new section 9-303(b), the vehicle ceased to be covered by the certificate of title issued by State A when the vehicle became covered by a certificate of title issued by State B and the law of State A no longer governs perfection and nonperfection.
The question here is whether the security interest in the vehicle continues to be perfected when State B issues a certificate of title covering the vehicle and the vehicle is no longer covered by the title issued by State A. It might appear that if, for example, the security interest were not noted on the State B title that the security interest would not be perfected under the law of State B (which we may assume requires lien notation). However, State B's law includes other provisions of new Article 9 that we have yet to examine, namely, new sections 9-316(d) and (e).
Technically, new sections 9-316(d) and (e) operate in situations other than those where a security interest was originally perfected by lien notation, but it is difficult to envision today a case where perfection in goods subject to a certificate of title law would be perfected in any other way. Moreover, on the facts of the example we have been considering the security interest was perfected in State A by having the security interest noted on the State A title.
Under new section 9-316(d), except as qualified in new section 9-316(e), if a state issues a certificate of title covering goods in which there is a security interest that is perfected when the goods become covered by that certificate of title, then the security interest continues to be perfected until the security interest would have become unperfected under the law of the other jurisdiction had the certificate of title not been issued and the goods not have become covered by the later certificate of title.
If, as could happen, the law of the state issuing the earlier title provides that if another state issues a certificate of title covering the vehicle then a security interest becomes unperfected then a security interest becomes unperfected as a matter of applying the law of the state issuing the earlier title as required by new section 9-316(d). See Example 8 in Official Comment 5 to new 9-316.
In the example we have been using, if perfection ceased under the law of State A, for whatever reason, then according to new section 9-316(d) the security interest does not "remain" perfected and is perfected only if the security interest was noted on the certificate of title issued by State B, in which case the security interest is perfected under new section 9-311(b) as adopted in State B.
As noted above, new section 9-316(d) is subject to new section 9-316(e). Under new section 9-316(e) a security interest becomes unperfected as against a purchaser of the goods for value and is deemed never to have been perfected as against such a purchaser if the security interest is not perfected by lien notation under new section 9-311(b) or re-perfected by repossession under new section 9-313(b) before the end of the shorter of the following two periods:
(1) the time when the security interest would have become unperfected under the law of the state under which it was perfected
or
(2) the end of four months after the goods are covered by the certificate of title.
The meaning of new sections 9-303, 9-316(d) and 9-316(e) together can be understood by applying them to the earlier example. In that example, a security interest in a vehicle was perfected under the law of State A by having the security interest noted on a certificate of title covering the vehicle. The vehicle is then taken to State B and State B issues a certificate of title covering the vehicle. Under new sections 9-303 and 9-316(d), the security interest perfected in State A continues to be perfected in State B as long as perfection does not cease under the law of State A.
This result obtains even though the law of State B governs perfection and nonperfection when State B issues a certificate of title covering the vehicle and even if the security interest is not noted on the title issued by State B and to that extent is not perfected under the law of State B. This is an important point because it protects the secured party against the claims of lien creditors and a trustee in bankruptcy.
However, new section 9-316(d) is qualified by new 9-316(e). Under new section 9-316(e) for a security interest to be perfected against a purchaser of the vehicle for value the secured party must act to reperfect under the law of State B, either by having a lien noted on the title issued by State B or by repossessing the vehicle (thereby reperfecting by possession) and the lien notation or repossession must occur before the security interest becomes unperfected under the law of State A or the end of the four-month period from the time of the issuance of the State B title, whichever is earlier.
If the security interest is not perfected or reperfected within the time allowed by new section 9-316(e) the security interest will be deemed unperfected against a purchaser for value of the vehicle who purchases the vehicle any time after the vehicle becomes covered by the State B title.
The case of In re Custer, 50 UCC Rep. Serv. 2d 608 (Bkcy ND Iowa 2003), presents an interesting fact situation within which the application of new sections 9-316(d) and (e) might have been explored but was not. In Custer, a South Dakota dealer sold a vehicle to an Iowa purchaser under an installment contract that created a security interest in the vehicle. The contract contained a notice that the contract would be assigned to a creditor that actually financed the purchase. The vehicle was delivered to the debtor/buyer on April 26, 2002. The dealer applied for a South Dakota title and the title was issued in the dealers name on May 10, 2002.
The dealer then provided the debtor with the South Dakota title so that the debtor could obtain an Iowa certificate of title on which the security interest could be noted. However, the debtor delayed applying for the Iowa certificate of title and it was not until May 31, 2002 that an Iowa title noting the security interest was issued. In the meantime, on May 9, 2002, the debtor filed bankruptcy.
The court noted that if the security interest had been perfected within twenty days after the debtor took possession then under new section 9-317(e) and BRA § 546(b), even if the perfection occurred after bankruptcy was filed, something that BRA § 362(b)(3) would allow, the trustee could not have avoided the security interest. The court concluded, however, that because the security interest had not been perfected within the twenty-day period, new section 9-317(e) and BRA § 546(b) did not apply, the perfection on May 31, 2002 violated the automatic stay and was ineffective because BRA § 362(b)(3) did not permit such perfection.
Further, because the security interest was unperfected it could be subordinated by a lien creditor under new section 9-317(a)(2) and, consequently, the trustee could avoid the security interest under BRA § 544(a). As to the avoidance of security interests by a trustee under BRA § 544(a), see Chapter 26 (Secured Party Versus Lien Creditor; Future Advances; Bankruptcy).
Insofar as the courts analysis rests on the assumption that the security interest was not perfected until May 31, 2002, its application of the controlling new Article 9 sections and the corresponding sections of the BRA is correct. Moreover, the court correctly concluded that under new section 9-303(c) Iowa law governed perfection and non-perfection of the security interest.
However, if the security interest was noted on the South Dakota title and, therefore, was perfected under South Dakota law on May 10, 2002, then under new sections 9-316(d) and 9-316(e), as enacted in Iowa, the security interest would continue to be perfected under Iowa law unless it became unperfected under South Dakotas certificate of title law.
If the security interest was perfected under South Dakota law and did not cease to be perfected under Iowa law then the security interest would have been perfected before the end of twenty-day period after the debtor received possession and the creditor should have had the benefit of new section 9-317(e) and BRA §§ 546(b) and 362(b)(3).
Moreover, because a trustee is a lien creditor and not a purchaser for value within the meaning of new section 9-316(e), the creditor would have been protected even if there was no perfection in Iowa by having the security interest noted on the Iowa title within four months after the issuance of the Iowa title.
Although it is increasingly unlikely that a certificate of title will not have a security interest created and perfected in another state noted on it, the issuance of "clean titles" through fraud or mistake is still possible. Clean titles are thought to be particularly problematic as to non-dealer buyers of vehicles and former Article 9 offered special protection to non-dealer buyers in clean title situations. New Article 9 also protects non-dealer buyers but it does so to a lesser extent than did former Article 9.
Thus, under new section 9-337(1), a non-dealer buyer of goods who gives value and receives delivery of the goods without knowledge of an outstanding security interest perfected in another state after a certificate of title that does not show the outstanding security interest or contain a statement that the goods may be subject to a security interest not shown on the title takes free of that security interest. The addition of the qualification that a non-dealer buyer is subject to (does not take free of) a perfected security interest if a certificate of title contains a statement to the effect that there may be an outstanding security interest not shown on the certificate diminishes the protection that was given to non-dealer buyers under former Article 9.
New Article 9, unlike former Article 9, includes some protection for secured parties in clean title situations. Thus, under new section 9-337(2) a secured party who without knowledge of an outstanding security interest properly perfects a security interest by lien notation after the issuance of a clean title or a title that does not contain the requisite disclaimer has priority over a party who holds a security interest perfected in another state.
As explained in Chapter 17 (Perfection as to Goods Subject to Certificate of Title Legislation), the risk of fraud resulting in clean title difficulties is less where a certificate of title law provides that the title shall be issued to and held by the secured party until the secured debt is paid (i.e., in lien holder states). However, a determined debtor still may exploit differences in state laws to obtain a clean title and clean titles also can be issued by mistake. Therefore, so long as paper titles are used new section 9-337 will continue to be important.
As also explained in Chapter 17, some states are replacing paper titles with electronic titles. It remains to be seen how such a change will impact the incidence of fraud. If the electronic titles are employed only to the extent that a vehicle is subject to a security interest and a paper title is issued when the secured debt is paid or when the state agency charged with issuing titles receives satisfactory evidence that the debt has been paid, a debtor could defraud the state agency into issuing a clean paper title (and, again, mistakes are sometimes made).
You may test your understanding of the not uncomplicated scheme governing the continuation of security interests in goods covered by certificate of title statutes in the next two problems.
Problem 24.9 (interactive)
Western Bank finances Donald Debtor's purchase of a vehicle in Arizona. On January 2nd, Western takes a security interest in the vehicle and timely submits the application and fee needed to obtain an Arizona certificate of title covering the vehicle. Arizona issues a certificate of title on which the security interest is noted. On February 2nd, without getting Western's consent, as mandated by the security agreement, Donald moves to California and applies for a California title and a California certificate of title covering the vehicle is issued. Three months later, on May 2nd, Donald files bankruptcy. May the trustee in bankruptcy avoid Western's security interest in the vehicle under BRA section 544(a) (assume that a trustee may avoid a security interest that is not perfected on the date of bankruptcy)?
Now, assume these additional facts: At the time of the application for the California title Donald surrendered the Arizona title and under Arizona law surrender of an Arizona title in connection with an application for a certificate of title in another state causes a perfected security interest to become unperfected. May the trustee in bankruptcy now avoid Western's security interest in the vehicle under BRA section 544(a) (assume that a trustee may avoid a security interest that is not perfected on the date of bankruptcy)?
What further information is required to decide whether a trustee could avoid Western Bank's security interest under BRA section 544(a) after the Arizona title is surrendered and the California title is issued?
If the Arizona title had not been surrendered (and no other event that would have ended perfection under Arizona law took place) then Western Bank's security interest would be perfected on May 2nd. Why so?
But, the Arizona title was surrendered and as a result Western Bank's security interest was no longer perfected under Arizona law. Why is this not the end of the inquiry?
Problem 24.10 (interactive)
Assume the facts of Problem 24.9 qualified as follows:
- February 2nd: Donald obtained a California title but the Arizona title was not surrendered and perfection under Arizona law continued under new section 9-316(d);
- February 2nd: Western Bank's security interest was not noted on the California title;
- May 2nd (three months after the California certificate of title was issued): Rather than filing bankruptcy , Debtor sold the vehicle to Hot Deals, a dealer in used motor vehicles;
- Western does not learn what has happened to the vehicle until five months after the issuance of the California title (July 2nd).
Is Hot Deals subject to Western's security interest? Assume, as will be explained further in Part VI, the answer to the question turns on whether Western's security interest is perfected.
Assume again the facts of Problem 24.9 as qualified above -- Donald obtained a California title but the Arizona title was not surrendered, perfection under Arizona law did not cease when the California title was issued, and Western Bank's security interest was not noted on the California title -- but assume further that Western Bank learns what has happened to the vehicle and repossesses the vehicle from Hot Deals one week after the sale by Donald Debtor to Hot Deals (which is thirteen weeks after the California title was issued).
Is Hot Deals subject to Western Bank's security interest?
Suppose that Donald Debtor sold the vehicle to Byron Buyer who is a buyer other than a person in the business of selling vehicles. What would happen in such a case?
C. Continuous Perfection as to Proceeds
1. Generally
As explained in Chapter 9 (The Specifics of Enforceability -- After-Acquired Property, Proceeds and Future Advances), under new section 9-315(a)(2), a security interest attaches to proceeds, as defined in new section 9-102(a)(64), that are identifiable as proceeds (i.e., traceable to the original collateral) without the need for action directed to the proceeds by the secured party. As for perfection, we saw in Chapter 16 (Perfecting Security Interests in Proceeds and Other Later Acquired Property) under new section 9-315(c) a security interest in proceeds is perfected automatically if the security interest in the original collateral was perfected.
However, as was stressed in Chapter 16 under new Article 9 a security interest in proceeds becomes unperfected after twenty days unless certain conditions are met. A secured party of course will wish to assure that perfection as to proceeds continues beyond the twenty-day period and is continuous in the sense that it dates from the time of perfection of the security interest in the original collateral.
2. The Conditions under which a Security Interest in Proceeds Is Continuously Perfected
Under new section 9-315(d)(2), as was true under former section 9-306(3)(b), a security interest in proceeds that are identifiable cash proceeds continues to be perfected beyond the period of automatic perfection without further action by the secured party. "Cash proceeds" are defined in new section 9-102(a)(9) as "money, checks, deposit accounts or the like." The rule for cash proceeds of investment property in former section 9-306(3)(c) has been eliminated, presumably because it was deemed unnecessary.
New section 9-315(d)(1) retains the "same place filing" rule of former section 9-306(3)(a). Under new section 9-315(d)(1), if a filed financing statement covers the original collateral, the proceeds are collateral in which a security interest may be perfected by filing a financing statement in the office where the financing statement covering the original collateral was filed and the proceeds were not acquired with cash proceeds, then the security interest in the proceeds is perfected beyond the twenty days (until the filing lapses or is terminated).
Therefore, for example, a security interest in accounts that are proceeds of inventory subject to a security interest perfected by filing is perfected continuously from the date of filing as to inventory because a filing as to the accounts as original collateral would be made in the same place as the filing as to the inventory.
Certain additional observations about the "same place filing" rule under new section 9-315(d)(1) are in order. Under former section 9-306(3)(a), if proceeds were acquired with cash proceeds the "cash interval" limitation would be triggered and there would be continuous perfection as to the proceeds only if "the description of collateral in the financing statement indicate[d] the types of property constituting proceeds."
Thus, for example, if inventory collateral was sold for cash and the cash was used to purchase equipment, the security interest in the equipment would be continuously perfected under the same place filing rule only if the financing statement described the collateral as "equipment" as well as "inventory."
The qualifying language (that there is continuous perfection in a cash interval situation only if the financing statement indicates the types of property constituting proceeds) has been eliminated from new section 9-315(d)(1). According to the drafters, the result intended by the qualifying language found in former section 9-306(3)(a) is achieved through the generally applicable perfection rules of new section 9-315(d)(3).
Thus, new section 9-315(d)(3) provides that a security interest in proceeds becomes unperfected on the 21st day after the security interest attaches to the proceeds "unless: . . . (3) the security interest in the proceeds is perfected other than under subsection (c) [the automatic perfection for a limited time rule] when the security interest attaches to the proceeds or within 20 days thereafter." See Official Comment 5 to new section 9-315.
Understanding what the drafters are saying requires some explanation. Recall that under new section 9-315(c), if the security interest in the original collateral was perfected, then a security interest in proceeds is automatically perfected and under new section 9-315(d) this automatic perfection continues for at least twenty days and will continue beyond the twenty days if action is taken to perfect the security interest in the proceeds as if it were original collateral.
To illustrate, if a financing statement covers only inventory and the inventory is sold and cash is received and the cash is used to acquire equipment, then the security interest in the equipment is perfected automatically for twenty days when the security interest in the equipment attaches (i.e., when the equipment is acquired) and will continue beyond the twenty days only if the secured party files a financing statement covering equipment within the twenty-day period.
In this regard it should be noted that new section 9-509(b)(2) authorizes such a filing. However, a security interest in property that constitutes proceeds may be perfected otherwise than automatically. Specifically, the security interest may be perfected according to the usual perfection by filing rules. Thus, in the foregoing example, if the financing statement covered equipment as well as inventory, then the security interest in the equipment would be perfected because the financing statement covered it as original collateral, without regard to the automatic perfection rule of new section 9-315(c).
Of course, there must be a security interest in the equipment if there is to be a perfected security interest in the equipment. Under new section 9-315(a)(2), a security interest in the equipment attaches automatically to the extent that the equipment is identifiable proceeds. Stated differently, under new section 9-315 (as described in the official comment referred to above), continuous perfection in proceeds acquired with cash proceeds can result from the automatic attachment of a security interest to identifiable proceeds together with the rule that a security interest, however it comes to attach, is perfected if there is an effective filing covering the property that constitutes proceeds. See Example 2 in Official Comment 5 to new 9-315.
Under the foregoing analysis, the security interest in the property acquired with cash proceeds does not attach to the property as after-acquired original collateral but as proceeds. If it attached to the property as after-acquired original collateral then the security interest would not be enforceable under BRA § 552 as to property acquired after a debtor filed bankruptcy. Because the security interest attaches to the property as proceeds it would be continuously perfected and would be enforceable in bankruptcy.
A final point about the same place filing rule and the cash interval limitation should be made. Recall from Chapter 14 (The Nitty Gritty of Filing) that new section 9-504(2) permits the use of an "all assets" or "all personal property" description in a financing statement. A creditor who uses such a super generic description assures that a security interest in property acquired with cash proceeds will be continuously perfected provided only that the creditor is able to identify the property as proceeds. However, a debtor may be unwilling to authorize a financing statement containing a super generic description because of the effect of such a filing to limit the ability of the debtor to get credit from other parties.
Moreover, as also was explained in Chapter 8 (The Specifics of Enforceability -- A Security Agreement Authenticated by the Debtor or Its Equivalent), a super generic description is not sufficient in a security agreement and it is arguable that authentication of a security agreement describing the collateral as inventory or equipment or both does not authorize a creditor to file a financing statement using an "all assets" or "all personal property" description within the meaning of new section 9-509(b).
Recall that under new section 9-315(c) perfection as to proceeds for the twenty-day period requires that the security interest in the original collateral have been perfected. Where the perfection as to the original collateral was accomplished by filing, it would be possible for the twenty-day period to be shortened by a lapse of the filing as to the original collateral except that new section 9-315(e) provides that the security interest in the proceeds remains perfected for twenty days or until the filing as to the original collateral ceases to be effective whichever is later.
Under new section 9-311(b) perfection accomplished by compliance with a certificate of title law or federal law is the equivalent of filing. Therefore, proceeds of collateral a security interest in which is perfected by compliance with a certificate of title law or federal law is continuously perfected under new section 9-315(d)(1) insofar as the conditions of that provision, other than perfection by filing a financing statement, are met.
You may consider the new Article 9 scheme governing the continuation of security interests in proceeds beyond the twenty-day period during which there is automatic perfection in the next problem.
Problem 24.11 (interactive)
Parts R Us, Inc. is an Arizona Corporation that sells new and used automobile parts. Southern Bank finances Parts R Us' inventory of parts and has taken a security interest in Parts R Us' inventory of parts, existing and after-acquired. The security interest was perfected by filing in the Secretary of State's Office in Arizona a financing statement describing the collateral as "inventory." Parts R Us sells automobile parts to a variety of buyers. The sales produce (a) an unsecured contract evidencing the debt for the price of a part; (b) a contract such as that in (a) that is secured by an interest in the part; (c) a check that is marked as a down payment on a part and has been placed in Parts R Us' cash drawer; (d) a general bank account in which another check such as that in (c) has been deposited; (e) a used alternator traded in on a new alternator that Parts R Us adds to its used parts inventory; (f) equipment purchased with a check drawn on the general bank account in (c).
Does Southern Bank have a security interest in the unsecured contract evidencing the debt for the price of the part that is perfected continuously beyond the 20-day period of automatic perfection provided for in new sections 9-315(c) and (e) without further action by Southern?
Why is Southern Bank's security interest in the unsecured contract perfected beyond the 20-day period of automatic perfection without further action by Southern?
Does Southern Bank have a security interest that is perfected continuously beyond the 20-day period of automatic perfection provided for in new sections 9-315(c) and (e) without further action by Southern in the contract evidencing the debt for the price of the part that contains a security interest to secure the price of the part?
Why is Southern Bank's security interest in the in the contract evidencing the debt for the price of the part that contains a security interest to secure the price of the part perfected beyond 20-day period of automatic perfection without further action by Southern?
Does Southern Bank have a security interest that is perfected continuously beyond the 20-day period of automatic perfection provided for in new sections 9-315(c) and (e) without further action by Southern in the check that is marked as a down payment on a part and has been placed in Parts R Us' cash drawer?
Why is Southern Bank's security interest in the check that is marked as a down payment on a part and has been placed in Parts R Us' cash drawer perfected beyond 20-day period of automatic perfection without further action by Southern?
Does Southern Bank have a security interest that is perfected continuously beyond the 20-day period of automatic perfection provided for in new sections 9-315(c) and (e) without further action by Southern in the general bank account in which another check such as that in (c) has been deposited?
On what does a conclusion that Southern Bank has a security interest in the check deposited in a general bank account that is perfected continuously beyond 20-day period of automatic perfection under new sections 9-315(c) and (e) without further action by Southern depend?
Does Southern Bank have a security interest that is perfected continuously beyond the 20-day period of automatic perfection provided for in new sections 9-315(c) and (e) without further action by Southern in the used alternator traded in on a new alternator that Parts R Us adds to its used parts inventory?
Why does Southern Bank have a security interest in the trade-in that is perfected beyond the 20-day period of automatic perfection without further action?
Does Southern Bank have a security interest that is continuously perfected beyond the 20-day period provided for in new section 9-315(d) without further action by Southern in the equipment purchased with a check drawn on the general bank account?
Why is it that Southern Bank does not have a security interest in the equipment acquired with cash proceeds that is perfected outside the 20-day period provided for in new section 9-315(d) without further action by Southern by operation of new section 9-315(d)(3)?
If Southern Bank's financing statement covered "equipment" as well as inventory, would Southern have a security interest in the equipment that is perfected continuously beyond the 20-day period provided for in new section 9-315(d) without further action by Southern?
What is it that could keep Southern Bank from having a security interest in the equipment that is perfected continuously beyond the 20-day period provided for in new section 9-315(d) without further action by Southern even if its financing statement covers "equipment" (thereby making continuing perfection under new section 9-315(d)(3) possible)?
Suppose that Southern Bank filed a financing statement indicating the collateral as "all Debtor's business assets." If Southern could prove the equipment constituted proceeds would Southern's security interest in the equipment be perfected beyond the 20-day period without further action by Southern.
Assuming the original facts of Problem 24.11 (that Southern Bank's financing statement described the collateral as "inventory") and further assuming that Southern could prove the equipment purchased with the check drawn on the bank account constituted proceeds, what would Southern have to do to assure continuing perfection of that security interest under new section 9-315(d)(3)?
If Southern Bank perfects a proceeds interest in the equipment purchased with the check drawn on the bank account after the expiration of the 20-day period provided for in new section 9-315(d) by filing a financing statement covering "equipment" then the security interest in the equipment purchased with the check drawn on the bank account is perfected from the date of the filing of the financing statement covering the equipment. True or false?
If Part R Us acquired additional auto parts with a check drawn on a bank account containing proceeds from the sale of inventory and Parts R Us added the auto parts to its inventory would there be a security interest in the additional auto parts that is perfected beyond the 20-day period?
To the extent that the security interests in any of the collateral in Problem 24.11 are continuously perfected beyond the 20-day period provided for in new section 9-315(d) by operation of one of the exceptions in new section 9-315(d), will perfection continue indefinitely?
CASE COMMENTARY
In re Judith Baker, 430 F.3d 858 (7th Cir. 2005)
The Epicentre Strategic Corporation-Michigan v. Perrysburg Exempted Village School District, 2005 WL 3060104 (N.D. Ohio 2005)
In re Clayson, __ B.R. __, 2006 WL 864299 (Bkcy W.D.N.Y March 24, 2006)
Counseller v. Ecenbarger, Inc., 834 N.E.2d 1018 (Ind. App. 2005)
Genesee Regional Bank v. Palumbo, 779 N.Y.S.2d 883 (N.Y. Supreme Court 2005)
Retenbach Constructors, Inc. v. CM Partnership, 639 S.E.2d 16 (N.C. App. 2007)
2009-02-01 update