THE
NEW UCC ARTICLE 9:
A PRIMER ON ATTACHMENT AND PERFECTION
UNDER THE 2001 REVISED LAW OF SECURED TRANSACTIONS
FOR REAL ESTATE LAWYERS
by C. Grice McMullan and Kimberly A. Taylor*
On July 1, 2001, which is upon us all, significant changes will become effective in Article 9 of Uniform Commercial Code (the "UCC"). Article 9 of the UCC governs secured transactions. Virginia's current version of Article 9 of the UCC is located at Va. Code § 8.9-101 through § 8.9-507; the revisions are located at Va. Code § 8.9A-101 through § 8.9A-709. (For purposes of this article, all cites to the UCC are to the Virginia UCC; the addition of an "A" after § 8.9 denotes a citation to revised Article 9.)
There is a pervasive need for all Virginia lawyers generally, and certainly commercial real estate lawyers, to be familiar with the pending changes. With good intentions to educate all of us as to these changes, numerous seminars have been scheduled through the winter and spring of this year. As is well understood by any lawyer trying to meet demanding schedules, many of you will have been unable to attend these seminars, and it is urged when time permits that you do attend seminars on this topic as soon as possible. In the meantime, it is hoped that this article will at least provide you with some necessary knowledge (and comfort) until you have time to learn more about revised Article 9.
We suspect that for most of the lawyers practicing real estate law who will read this article, there is only a knowledge of the UCC's Article 9 on a "need to know" basis. Therefore, except for those among us who also double up as lawyers representing lenders, and especially asset based lenders, the best way to present the changes that will take place would be to: (a) first familiarize readers in a general way with the basic current and future classifications of collateral; (b) then provide an explanation of how the collateral is currently and will be on July 1, 2001 "attached" or enforceable between a "secured party" (usually a lender of funds or provider of some other benefit) and a "debtor" (usually a borrower or a person receiving some benefit); and finally (c) discuss the way collateral is now and will be "perfected" in order that lien priority can be established against third parties.
However, a review in depth of the foregoing explanations of the existing secured transactions law and then all of the changes to it would be more extensive than what would be allowed for an article in this Fee Simple edition. Therefore, what we have elected to present is only a brief mention of some of the changes to the classifications of collateral used to secure obligations and then a discussion of the general concept of how attachment works now and will work under the July 1, 2001 revisions. We will then explain how the important task of perfecting a security interest in collateral being used to secure obligations will work once the revisions to our UCC Article 9 become effective. Even so, we will hit only the highlights of a very extensive and complicated area of our laws, which at the time when we write this article consists of the current law of secured transactions, the law of secured transactions as it will be after July 1, 2001, and various laws designed to "transition" us from the current laws to those used after July 1, 2001.
Much of what has been written so far on the UCC Article 9 revisions has focused only on the transition issue. To many real estate lawyers who may not work on a constant basis in the area of secured transactions, presentations on just the transition provisions can be confusing, because many of the basics concerning attachment and perfection have been forgotten due to lack of the need to use them. Without a recent review of the current law and pending new law on attachment and perfection, we think that being told what the transition rules are is information that may be quickly forgotten, in the best case, and misunderstood, in the worst case. Accordingly, we decided that the best approach for lawyers just beginning to learn about the Article 9 revisions is to review first the basic concepts of attachment and perfection. Once this is done, it is hoped that the lawyer preparing to become competent in this area will have a solid foundation to explore further the transition issues and Revised Article 9's new statutes.
In order to allow you to explore in more depth what we are discussing, we will refer during our discussions in this Article to various relevant current and revised statutes within Article 9 and elsewhere within the Virginia UCC. Also where changes have been made from the current law, these changes will be pointed out, often by referencing only the new statutes caused by the Article 9 revisions.
I. COLLATERAL COVERED BY UCC ARTICLE 9
As all of you know, Article 9 governs "transactions, regardless of form, that create a security interest in personal property or fixtures by contract." See Va. Code §§ 8.9-102(1), 8.9A-109(a). The scope of Article 9 is thus intended to cast a very wide net and bring in all consensual grants of security interests in everything other than dirt, bricks and mortar. Thereafter, Article 9 proceeds to weed out certain types of security interests by means of specific exclusions. See id. §§ 8.9-104, 8.9A-109(c).
Most happily for real estate lawyers, while the revisions to Article 9 have expanded the breadth of security interests covered by it, the expansion does not invade the boundary between real property and personal property. However, the scope of Article 9 has been expanded to include, among other things, deposit accounts (except in consumer transactions), healthcare insurance receivables, commercial tort claims, sales of payment intangibles and promissory notes (such as in factoring situations), and statutory agricultural liens.
Most of you will be familiar with the exclusion from Article 9 coverage of "the creation or transfer of an interest in or lien on real property, including a lease or rent there under." Id. § 8.9-104(j). Carved out of that exclusion, however, are fixtures. The inclusion of fixtures within Article 9 is continued in the revisions to Article 9. See id. § 8.9A-109(c)(11). A security interest in rents, leases, and mortgages thus is still governed by real property law and not by Virginia's UCC. Fixtures, on the other hand, are governed by the UCC as to the priority of security interests in them.
Of course, fixtures are the type of asset governed by Article 9 that is most familiar to real estate lawyers. Fixtures are defined in the UCC as "goods that have become so related to particular real property that an interest in them arises under real property law." Id. §§ 8.9-313(1)(a), 8.9A-102. In essence, that definition defaults to real property law to determine what is a fixture. The comments to Article 9 help to define fixtures by pointing out what collateral does not constitute fixtures, such as ordinary building materials, which prior to incorporation are either equipment or inventory and after incorporation into the building are real estate, and ordinary equipment that does not become attached to the real estate, such as furniture. Id. § 8.9A-334 comment 3.
Furthermore, as most of us already know, a secured party wishing to preserve its rights in fixtures is not required to perfect a security interest in fixtures according to Article 9. An encumbrance upon fixtures can be created pursuant to real property law. Id. §§ 8.9-313(3), 8.9A-334(b). However, a fact that may not known to many of us is that priority among creditors with rights in fixtures will be governed by Article 9 regardless of whether the security interest arose under Article 9 or under real property law. Id. §§ 8.9-313, 8.9A-334.
Once the assets, i.e. collateral, that will be subject to Article 9 have been identified, the next step is to classify that collateral in Article 9 terms. Many of the classifications under Article 9 are ones unfamiliar to the real estate lawyer, because they are seldom used. Even so, it is necessary to at least point out that under Article 9, collateral is classified as either goods, documents of title (such as bills of lading), instruments, investment property, accounts, deposit accounts, chattel paper, letters of credit, letter of credit rights, general intangibles, money, or commercial tort claims. It is extremely important to classify accurately collateral, because the types or categories of collateral are used throughout Article 9, especially in making a determination as to how a security interest may or must be perfected. One of the classifications that real estate lawyers do run across more frequently than not is the classification called "goods." The classification of goods breaks down into four separate categories: farm products, consumer goods, equipment, and inventory. Another classification that real estate lawyers are likely to encounter is the classification known as general intangibles.
Examples of some of the sub-classifications of goods and general intangibles that a real estate lawyer is likely to encounter, which would be controlled by Article 9 law and not real estate law, are the following: furniture, furnishings such as draperies and unattached machinery would be classified as equipment; office and learning supplies would be inventory; and security deposits and contract rights such as builder's warranties would be general intangibles.
II. THE SECURITY AGREEMENT AND ATTACHMENT
Once the collateral that is involved in a transaction has been identified as being subject to Article 9 and has been classified, the next step is to cause "attachment" of the collateral to occur, which will thereafter allow the lawyer to "perfect" the security interest – the ultimate goal in properly securing the collateral. Thus, as a first step, attachment of the collateral must occur. If the security interest has attached to the collateral, it is enforceable against the debtor; if it has not attached, it is not enforceable at all. Id. §§ 8.9-203, 8.9A-203. Thereafter, if perfection is achieved, it will ensure that the lien of the secured party is enforceable against most third parties that acquire a lien in the collateral subsequent to the secured party. We will deal with attachment in this section and perfection in the next.
An Article 9 security interest attaches when all of the following events have occurred:
Let us review each of these requirements, except the land description requirement, in turn. We will also discuss other Article 9 concepts that arise in the context of attachment: proceeds, after-acquired property and future advances.
Value Given. Value in the context of Article 9 is broader than the contractual concept of "consideration." Value includes giving a security interest in total or partial satisfaction of a pre-existing debt. It also includes binding commitments to extend credit. Id. § 8.1-203(44). No change that would be effective on July 1, 2001 has been made to this Article 1 definition.
Debtor has Rights in the Collateral. For purposes of Article 9, the debtor need not own the collateral. It is sufficient if the debtor has some limited rights to the collateral. Of course, the security interest would then attach only to the limited rights the debtor has or has the power to transfer. See id. §§ 8.9A-203 comment 6, 8.9A-202. In addition, the debtor, for purposes of this section of Article 9, may not necessarily be the primary obligor on the underlying loan. It is the party with rights in the collateral granting the security interest. Id. § 8.9A-102(28). Thus, the primary obligor could be a corporation and the collateral securing the loan could belong to the president of the corporation or its sole shareholder. The president or sole shareholder in such a case would then be the "debtor" who would have rights in the collateral.
Security Agreement. No particular form is required for a security agreement. It can be contained in the promissory note, the deed of trust, or a loan agreement. It must, however, contain language granting a security interest. While no "magic language" is required, a present grant of a security interest should be evident from the words. For instance, a UCC-1 financing statement has all of the information required to be in a security agreement. It is "authenticated" by the debtor (1), it describes the collateral, and it may describe the land. Indeed, by the very act of authenticating a financing statement, one could argue that it is implicit that the debtor intended to grant a security interest in the described collateral to the secured party. Nonetheless, this alone is not sufficient unless it contains granting language of some kind. See, e.g., In re Kilton Motors, Inc., 117 B.R. 87 (Bankr. D. Vt. 1990); In re Arctic Air, Inc., 200 BR 533 (Bankr. D.R.I. 1996).
It should be noted that a security agreement is not required for attachment if collateral is in the possession of the secured party "pursuant to the debtor's security agreement," or the collateral is deposit accounts, electronic chattel paper, investment property, or letter of credit rights over which the secured party has control. Va. Code § 8.9A-203(b)(3). As will be discussed later in this article, it is unlikely that the type of assets in a real estate transaction that would be subject to an Article 9 security interest would be amenable to possession by the secured party in lieu of a written security agreement. Since this is the case, we will not focus on the alternatives to a written security agreement.
Description of Collateral. The security agreement must contain a description of the collateral being secured. Under §§ 8.9A-108, 8.9-110, the security agreement's description of collateral need not be exact and detailed (i.e. serial numbers), but must reasonably identify the collateral that is subject to the security interest. On the other hand, a super-generic description such as "all assets" or "all personal property" is not sufficient for a security agreement. (That would, however, be a sufficient description for a financing statement under revised Article 9. Id. § 8.9A-504). It is sufficient if the security agreement lists the collateral by category, such as all equipment, inventory, and accounts.
Proceeds. In Article 9 parlance, proceeds means, among other things, any property acquired upon the sale, lease, exchange, or other disposition of collateral that is subject to a security interest, anything collected or distributed on account of the collateral, and insurance proceeds upon the loss or destruction of the collateral up to the value of the collateral. Id. §§ 8.9-306(1), 8.9A-102(a)(64). There is no need to put a statement in the security agreement providing for a security interest in the proceeds of collateral. The attachment of a security interest in collateral automatically gives a secured party rights to the identifiable proceeds. Id. §§ 8.9-203(3), 8.9A-203(f).
After-Acquired Property. After-acquired property is property in which the debtor had no rights at the time of the loan transaction, but in which it subsequently acquires rights. In order for a security interest to attach to that type of collateral, there must be an affirmative statement in the security agreement creating or providing for a security interest in after-acquired property. It is sufficient to insert the phrase "now owned or hereafter acquired" in the security agreement's description of collateral. Id. §§ 8.9-204(1), 8.9A-204(a). Such a statement is not required in the financing statement for perfection of a security interest in after-acquired property.
Future Advances. If appropriate, a security interest in collateral may also secure future obligations owed by the debtor to the secured party. Those future obligations or advances do not need to be made pursuant to a commitment made or even be seriously contemplated at the time the security agreement was entered into. Id. §§ 8.9-204(3), 8.9A-204(c). All that is required is a statement in the security agreement whereby the debtor grants the security interest to secure future advances. As should be evident, when representing debtors, it is important to focus on the language in the security agreement. It could be so broad that the agreement grants the security interest to secure any and every other obligation of any kind ever owed by the debtor to the secured party. This is a clause that bears close examination to ensure that it accords with the intent of the parties at the time the contract is entered into.
Review of the Requirements of a Security Agreement:
III. PERFECTION
OF A SECURITY INTEREST
IN ARTICLE 9 COLLATERAL BY FILING
Having dealt briefly with the concept and general requirements of how collateral is attached, we now will describe the process and requirements for perfecting liens that have attached to collateral by the process of filing financing statements. Before describing the concept of filing as a method of perfection, however, we should mention briefly other methods of achieving perfection.
A security interest is perfected under Article 9 when it has attached and all applicable requirements for perfection have been met. Id. §§ 8.9-303(1), 8.9A-308(a). These requirements can occur in any order.
Generally, there are four methods by which to perfect a security interest: filing, possession, control, and automatic perfection. This section will concentrate on the filing method of perfection, because the other methods of perfection are generally not appropriate for a typical real estate transaction. Most tangible personal property subject to a security interest in a typical real estate transaction is necessary to the operations of the debtor and thus cannot realistically be possessed by the secured party in order to perfect a security interest. Control is a method of perfection typically used for deposit, securities and commodities accounts. Automatic perfection, other than for short periods of time for temporary transitions, only applies to purchase money security interests in consumer goods.
Thus, to perfect most security interests in a real estate transaction, the secured party will typically file. To state that the filing method will be used, of course, raises the questions of what, where, and when to file.
A. What to File – Requirements of the Financing Statement
To perfect a security interest by filing, the secured party files a standard form UCC-1 financing statement. Under current Article 9 (§ 8.9-402(1)), in order to be effective, that statement must contain the following information:
Under revised Article 9, the debtor need not authenticate the financing statement, and the addresses of the debtor and secured party are not requirements for effectiveness, but merely for filing, as discussed below. In addition, there are certain other items which must be in a financing statement or the filing office will reject the filing. However, if the filing office accepts the filing even in the absence of these items, the financing statement is still effective to perfect a security interest. Compare id. § 8.9A-502 with id. § 8.9A-516(c). Those items are:
Let us now describe in further detail the kinds of information that are required.
1. Name of the Debtor
Revised Article 9 requires the exact legal name of the debtor. If the debtor is a "registered organization," then the only sufficient name of the debtor is the name indicated on the public record of the debtor's state of organization. Id. § 8.9A-503. If the debtor is an entity that is not a registered organization, then the legal name of the entity is required, however determined. The financing statement does not need to contain a trade name or any other name used by the debtor or the names of any of the debtor's partners or members. A financing statement can include multiple debtors on a single financing statement. Id. § 8.9A-503(e). In that case, the financing statement would be indexed separately by the State Corporation Commission under each debtor's name.
The question then arises as to what is a "registered organization?" A registered organization is a new concept under revised Article 9. It is defined to mean any entity "organized solely under the laws of a single state or the United States and as to which the state or the United States must maintain a public record showing the organization to have been organized." Id. § 8.9A-102(a) (70). Generally speaking, it is an entity that must be registered with the state in order to exist, such as a limited liability company or corporation. It does not include entities, such as general partnerships, that may file information, but are not required to register with the State Corporation Commission in order to exist. We will revisit this concept in Section III.B.1, which deals with the issue of where to file the financing statement.
Revised Article 9 has a more stringent accuracy requirement with regards to the name of the debtor than is implicit in current Article 9. Like current Article 9, revised Article 9 contains a savings provision stating that minor errors in a substantially complying financial statement do not render the financial statement ineffective unless those errors make the financial statement seriously misleading. Id. §§ 8.9-402(8), 8.9A-506(a). However, revised Article 9 goes on to state that an error in the debtor's name is seriously misleading unless you could find the financing statement in the filing office by using the filing office's standard search logic. Id. § 8.9A-506(b)(c).
2. Name of Secured Party
A financing statement can name more than one secured party. It can also name only the secured party's representative, such as a collection agent for the secured party. In the latter case, it is not necessary that the financing statement identify the secured party or state that the representative is acting as a representative. Id. § 8.9A-503(d). The stringent requirements with respect to the exact registered name of the debtor are not applied to the name of the secured party. That is because it is not essential to be able to retrieve a financing statement in a computer research using the secured party's name as the search criteria. The secured party's name is included so the filing office knows who is authorized to file amendments, continuation and terminations statements and so third parties know whom to contact to ask about the state of the collateral lien.
3. Addresses of the Debtor and Secured Party
Under current Article 9, the addresses of the debtor and secured party are required for the effectiveness of the financing statement. Compare id. § 8.9-402(1) with id. § 8.9A-502(a). Under revised Article 9, they are not. This does not, however, obviate the need for including those addresses. Under revised Article 9, the filing office is required to reject a filing that does not contain these addresses. Id. §§ 8.9A-516(b), 8.9A-520(a). However, in the event the filing office does accept a financing statement without these addresses, the financing statement is still effective.
The reason for this change is to force the secured party to change this defect in the financing statement, rather than having it falsely rely upon a filed, but ineffective, financing statement to perfect its security interest. If the filing office follows revised Article 9 and rejects the financing statement, it notifies the secured party that there is a defect in that statement so that the secured party can remedy it. If the filing office does not reject the statement, it is effective as filed.
4. Description of Collateral
The requirement with respect to the description of collateral in a financing statement is far more lenient than in a security agreement. Anything that satisfies the description requirement of a security agreement will also satisfy the requirement of a financing statement. Id. § 8.9A-504. In fact, often the schedule of collateral attached to the security agreement will be attached to the financing statement as well. This level of specificity is not required, however. An indication that the financing statement covers "all assets" or "all personal property" is sufficient. Id. § 8.9A-504.
This distinction between the requirements of the security agreement and the financing statement can be explained by reference to the purpose of the documents. The security agreement is the document that actually creates the security interest. Thus, normal principles of contract interpretation apply, including the requirement of definiteness. In other words, a person looking at the security agreement should be able to reasonably ascertain what property is subject to the security interest. The financing statement, on the other hand, serves a different function. It operates to place third parties on notice that some property of the debtors may not be lien-free. In essence, it says "check with the secured party before accepting a security interest in this collateral."
5. Real Property Related Collateral
For fixtures, timber to be cut, and minerals to be extracted, the description of the collateral in the financing statement must state that it covers that type of collateral. Thus, an "all assets" statement is not sufficient. Something more is required, such as "fixtures," "timber to be cut," or "minerals to be extracted." Id. § 8.9A-502(b). The financing statement must also contain a description of the real property sufficient to give constructive notice of a deed of trust if the description were contained in the deed of trust. Id. § 8.9A-502(b)(3). A legal or metes and bounds description is not required – a street address may due in most circumstances. See id. § 8.9A-502 comment 5. Again, this suffices to put third parties on notice that they need to inquire further.
It should be remembered that a mortgage or a deed of trust that is duly recorded and satisfies the requirements listed above is effective as a financing statement filed as a fixture filing. Id. § 8.9A-502(c). A mortgage or a deed of trust that does not meet the requirements of id. § 8.9A-502 may be still be sufficient to create an encumbrance on the fixtures under real property law. However, the encumbrance created by the mortgage or deed of trust does not qualify as a fixture filing and may lose priority to a subsequently filed fixture filing. See id. § 8.9A-334(e)(2) (such as fixtures that are readily moveable factory or office machinery and equipment not primarily used or leased to use in the operation of real property).
6. No Authentication by the Debtor is Required
The laundry list in revised Article 9 of the requirements for a financing statement does not include authentication by the debtor, as is required in current Article 9. (Compare id. § 8.9-402(1) with id. § 8.9A-502(a).) Instead, revised Article 9 states that a filing is only effective if it is filed by a person authorized to file it. Id. § 8.9A-510(a). Section 8.9A-509 states that a person is authorized to file a financing statement if the debtor authorized the filing in an authenticated record. An authenticated security agreement, ipso facto, authorizes the filing of a financing statement covering any collateral described in the security agreement or the proceeds of that collateral, whether or not the proceeds are covered by the security agreement.
This change is not merely the result of moving to electronic records. For electronic filing, the debtor could still authenticate an electronic record of a security agreement by means of a registered e-mail address or public or private key. The change reflects a preference for completely eliminating signatures from these records as irrelevant. The theory is that the document that needs evidence of authentication is the document with contractual significance – the security agreement. A filed financing statement that covers collateral not covered by the security agreement has no effect. It creates no lien on that collateral and grants the secured holder no rights to that collateral vis a vis the debtor or third parties.
7. Identifying Information About the Debtor
Some additional information about the debtor is required on the financing statements under revised Article 9. Id. § 8.9A-515(b). First, it must indicate whether the debtor is an individual or an entity. If an individual, the financing statement must specify the last name so the filing office can accurately index it; the SCC no longer has to ascertain whether David Lee or Lee David is the correct name. If the individual is an entity, then the financing statement must identify the type of entity (partnership, limited liability company, etc.) and the state of organization. Finally, it must also give the organizational identification number assigned by the SCC to that entity or state that none has been assigned. This information will all help to specifically index the filing and also help to assess whether you are filing in the appropriate place to begin with. As with the address of the secured party and debtor, the failure to include this information is grounds for the filing office to reject the filing. If filed, however, the statement is effective without the information.
8. Review of the Requirements of a Financing Statement
B. Where to File the Financing Statement
The question of where to file a financing statement must be broken down into two parts: what state and where within the state.
1. Choice of Law Among States
The choice of law has changed significantly in revised Article 9. No longer is the analysis predicated on the category of collateral, except with respect to the real property related collateral category. Now, choice of law is governed generally by the location of the debtor for perfection of the property and by the location of the collateral for the effect of perfection. (2)
Remember, by determining the jurisdiction whose law governs perfection of the collateral you are generally stating that to the extent you will perfect by filing, you need to file in that state.
Under current Article 9, a choice of law analysis asks the question: Is the collateral (1) documents, instruments and "ordinary" (i.e., "non-mobile" goods), (2) goods covered by a certificate of title, or, with respect to the more prevalent categories of collateral, (3) accounts, general intangibles, and mobile goods. The first category of collateral is governed by the laws of the jurisdiction in which the collateral is located. The second category is governed by the titling state. The third category of collateral is governed by the state in which the debtor is located. Id. § 8.9-103. This determination of governing law has led to problems when certain kinds of collateral are moved from one state to another. Generally, that problem has vanished under revised Article 9.
Under revised Article 9, the general rule is that the law of the jurisdiction in which the debtor is located governs questions relating to perfection. In other words, if you are going to perfect a security interest by filing, you will file in the debtor's home state. One important exception to that rule is for real estate related collateral, such as fixtures, timber to be cut, or minerals to be mined. For that type of collateral, the location of the land governs as it does currently. Id. § 8.9A-301(3)(4).
Thus, to ascertain the state in which you should file the financing statement, ask two questions: is the collateral real estate related, and where is the debtor located. If the collateral is real estate related, such as fixtures, file in the state where the land is located. If it is not, file in the state where the debtor is located. Id. § 8.9A-301(1), (3)(A). That, of course, requires an answer to the question of where the debtor is located. Under current Article 9, we look to the state where the debtor has its chief executive offices if it is an entity or where he has his residence if he is an individual. Id. § 8.9-103(3)(d). Under revised Article 9, while individuals are still deemed located in the state of their residence, the answer for many entities has changed. Id. § 8.9A-307(b).
For entities, you must first determine whether the entity is a "registered organization." As discussed previously, a registered organization is an entity "organized solely under the law of a single state or the United States and as to which the state or the United States must maintain a public record showing the organization to have been organized." Id. § 8.9A-102(A)(70). A registered organization is an entity whose very existence depends on a filing in a public record. As also stated previously in Section III.A.1, not every organization that files information about itself with the State Corporation Commission is a "registered organization." For example, general partnerships are not registered organizations even when they file statements of partnership authority or assumed name certificates, because the existence of the partnership does not depend on the filing of that record. In contrast, limited partnerships, limited liability companies and corporations are creatures of statute that only come into existence by the filing of a public record. They are therefore "registered organizations."
Another twist in the definition of a registered organization is the requirement that it be organized "solely" under the law of the single state or the United States. Id. § 8.9A-102(A)(70). Virginia allows dual organization and registration of a corporation. Thus, a corporation may be at the same time a Delaware corporation and a Virginia corporation. Since that duly incorporated or registered entity is not organized "solely" under the laws of a single state, it is not by definition a registered organization. As one can see, that is a minor exception to the rule (albeit with major implications as to achieving perfection when dual incorporation has occurred). The concept of "dual incorporation" therefore strongly suggests an added requirement of due diligence in the future as to determining where to file. (3)
If the debtor is an individual, the law of the jurisdiction of the debtor's principal residence governs perfection. Id. §§ 8.9A-301(1), 8.9A-307(b)(1). If the debtor is a registered organization, the law of the state under which that entity was organized governs questions of perfection. Id. §§ 8.9A-301(1), 8.9A-307(f). If the debtor is an entity that is not a registered organization, choice of law is governed by the jurisdiction of the organization's place of business if it has only one place of business or chief executive office if it has more than one. Id. §§ 8.9A-301(1) & 8.9A-307(d)(2), (3). This latter analysis is the current Article 9 analysis. But you only get to that analysis if the debtor is not a registered organization.
2. Where Within the State to File
The question of where within the state to file a financing statement has been greatly simplified by revised Article 9. Generally speaking, revised Article 9 has done away with dual filing. On and after July 1, 2001, most financing statements will be filed centrally with the exception of financing statements relating to real property related collateral, which will be filed locally. Id. § 8.9A-501(a).
Collateral that is or is about to become fixtures need not be filed locally in a fixture filing. A security interest in fixtures can be perfected by a financing statement filed centrally at the State Corporation Commission. Id. § 8.9A-501(a)(2). However, if the secured party chooses not to file a fixture filing, it may lose the priority it would have had over a subsequent encumbrancer or owner of the real property. Id. § 8.9A-334(e). Thus, most secured parties should also continue to file locally with a fixture filing. Note that a security interest in timber to be cut or minerals to be extracted must still be filed locally.
Under current Article 9, Virginia has a mixed dual central local filing system. A financing statement for farm related collateral is filed in the land records in the debtor's county or city of residence. If the collateral is other real estate related collateral, the financing statement is filed in the land records in the county or city where the collateral is located. In all other cases, the financing statement is filed centrally at the State Corporation Commission and may be required to be filed locally in the county or city where the debtor has a place of business if the debtor has only one county or city in which it does business. Id. § 8.9-401(1).
In short, while the choice of law analysis may have been complicated under the revisions to Article 9, choice of filing office has been greatly simplified.
3. Where to File under Section 8.9A- 307
C. When to File
Most real estate lawyers file the financing statements at the same time they record the deeds – after the closing. There is a good reason, however, to pre-file the financing statements. This is because you can take advantage of the rule that the priority of a security interest perfected by a filed financing statement dates back to the earlier of the time the security interest was perfected or the time of filing. Id. §§ 8.9-312(5)(a), 8.9A-322(a)(1).
Remember that for a security interest to be perfected it must have attached and all steps necessary for perfection must have occurred. Id. §§ 8.9-303(1), 8.9A-308(a). Attachment generally requires a signed security agreement describing the collateral, the giving of value, and the debtor having rights in the collateral. Id. §§ 8.9-203(1), 8.9A-203(b).
The debtor usually has rights in the collateral prior to the closing. The lender may have given value prior to the closing if it gave a binding loan commitment at some earlier stage. See id. § 8.1-201(44). The security agreement, however, is usually not signed until the closing. When it is, the security interest then attaches.
If perfection is to be accomplished by filing a financing statement, the filing process can occur prior to attachment. For example, at the letter of intent stage or some time during due diligence and negotiation of the documents, a simple UCC-1 form can be filed. If the transaction in question never closes, the security interest never attaches since there is no signed security agreement. If the security interest has not attached, it cannot be enforced against the debtor, and it also cannot be perfected. Thus, there is no legal significance to the financing statement. Of course, if the intended transaction never materializes, the "non-debtor" will want the almost- secured party to file a termination statement, since any future secured creditors of the "non-debtor" will demand a clear priority.
If, however, the deal does close, then the priority of the secured party will date back to the time of filing, even though the filing was made before the security interest even attached. Why is that valuable? It eliminates the problem of an intervening secured party perfecting a security interest in the same collateral between the time the title and asset search was conducted (usually days or weeks before closing) and the time of closing.
Another reason to pre-file is to preserve super-priority in certain types of security interests – purchase money security interests. A purchase money security interest ("PMSI") is one which secures the obligation incurred to purchase goods or software. Id. §§ 8.9-107, 8.9A-103. It is either taken by the seller of the collateral to secure all or part of the purchase price, or it is taken by a lender to secure a directly traceable advance given to a debtor to purchase the collateral. Id. Under certain circumstances, a PMSI will have priority over a prior perfected security interest. The reason for this is to encourage inventory and equipment financing to debtors who may have given blanket liens to other creditors.
A PMSI in equipment (indeed all goods except inventory and livestock) has priority over a prior perfected security interest if the PMSI is perfected within 20 days after the debtor receives possession of the collateral. Id. §§ 8.9-312(4), 8.9A-324(a). In other words, the financing statement must be on file no later than 20 days after delivery. Similarly, a PMSI in goods that become fixtures has priority over a prior perfected security interest if the PMSI is perfected within 20 days after the goods become fixtures. Id. §§ 8.9-313(4)(a), 8.9A-334(d). A PMSI in inventory has no 20 day grace period; it has priority only if it is perfected at the time the debtor receives possession and only if the purchase money secured party notified the prior conflicting secured party of the PMSI. Id. §§ 8.9-312(3), 8.9A-324(b).
One change in revised Article 9 may affect this process. Under current Article 9, a financing statement is not effective unless it is signed by a debtor. Id. § 8.9-402(1). Revised Article 9 has eliminated that requirement and provides instead that the filing is only effective if it was filed by a person entitled to file it. Id. §§ 8.9A-502, 8.9A-510(a). A person is authorized to file an initial financing statement only if the debtor authorizes it in a signed writing. Therefore, by signing the security agreement, the debtor authorizes the filing. Id. § 8.9A-509.
It is our opinion that usually it is a good habit to engage in the pre-filing of financing statements.
IV. CONCLUSION
It is hoped that by providing this presentation on the fundamental principles of attachment and perfection, both as these concepts exist under current law and as they will exist under the July 1, 2001 revisions, the readers of this Article will have a stronger understanding of the transition rules governing attachment and perfection after the revisions become effective.
*C. Grice McMullan and Kimberly A. Taylor are partners in the firm of Thompson & McMullan. Mr. McMullan has specialized in commercial real estate law for 30 years, is an Area Representative to the Real Property Section of the Virginia State Bar, and is a member of the Real Estate Section Council of the Virginia Bar Association. Ms. Taylor is a Virginia Commissioner to the National Conference of Commissioners on Uniform State Laws and has practiced and taught commercial law for 15 years.
(1)By authentication we mean not just a signature by the debtor is allowed, but also any form of execution or adoption of a symbol, encryption or similar process with the present intention to identify the person doing the authenticating to adopt or accept a record. Id. § 8.9A-102(a)(7).
(2)Another one of the more prominent changes made by revised Article 9 is the separation of the choice of law analysis relating to perfection from that relating to priority and the effect of perfection. In other words, under revised Article 9, Delaware law may govern the question of how to perfect, but Virginia law may govern the priority of the security interest perfected under Delaware law. Compare Va. Code §§ 8.9A-301(1), 8.9A-301(3)(C) with id. § 8.9-103.
(3)In doing due diligence, a lender should not only get the certified articles of incorporation or organization, but also receive at a minimum a certification/warranty that the debtor is not also registered in any other state or foreign jurisdiction.