A Wisconsin bankruptcy court has ruled that an "assignment" of insurance renewal commissions was a security interest rather than an outright sale of the commissions, so that the bank's failure to file a UCC financing statement allowed the customer's trustee in bankruptcy to avoid the assignment. The court also ruled that the bank's security interest in a third-party promissory note was unperfected because, although the bank made a UCC filing, the bank checked the wrong box on the financing statement and thus designated the debtor as an "organization" rather than an individual. All in all, it was not a good day for the bank.
We continue to see a strong flow of securitized real estate mortgages, born of the "mortgage meltdown" and still in the process of foreclosure. One big lesson coming from this litigation is that the secured lender's right to foreclose is very much dependent on the law of negotiable instruments under Article 3 of the UCC. That's because the "mortgage follows the note" and any defect in the transfer of notes through the pipeline can knock the creditor out on "standing" grounds. As illustrative examples, we offer two recent judicial decisions. The first case, from Florida, involves the "lost note" problem; the second deals with the "allonge" problem. In both cases, correctly applying the rules of UCC Article 3, the court ruled in favor of the secured lender's standing to foreclose the mortgage.
A significant recent decision from the Sixth Circuit tests the power of a trustee in bankruptcy to avoid allegedly fraudulent transfers of funds from the now-bankrupt debtor (Teleservices) to its depository/lending bank. Meoli v. The Huntington National Bank, 848 F.3d 716 (6th Cir. 2017).
In the world of consumer financial services, few issues have generated more controversy than the validity of consumer arbitration agreements that contain a waiver of the right to bring a class action. It was back in 2011 when the U.S. Supreme Court ruled on the issue. In a 5-4 decision written by Justice Scalia, the High Court held that class action waivers are enforceable under the Federal Arbitration Act, which preempted California's judicial rule that such waivers are unconscionable as a matter of state contract law. The case involved a mobile phone contract, but its rationale clearly applies to other consumer financial products, from secured installment loans to bank deposit agreements. AT&T Mobility LLC v. Concepcion, 131 Sup. Ct. 1740 (2011).
In a recent New York case, the court ruled that a check stated by the drawer to be in "full payment" of a disputed debt did not constitute an accord and satisfaction when it was cashed by the payee because the payee had indorsed the check "without prejudice" before depositing it. Under New York law, that indorsement trumped the "full payment" designation contained in a letter written by the drawer. Significantly, the New York rule has recently been changed by New York's long-delayed adoption of amendments to the UCC that eliminate the effect of a "without prejudice" indorsement and thus encourage the use of "full payment" checks as a form of alternative dispute resolution. New York was very slow in adopting these amendments, but it seems clear that they would overturn the recent judicial decision, bringing New York into alignment with the other states on this important issue.
“Is the nation better served when banking products are provided by institutions subject to ongoing supervision and examination? Should a nonbank company that offers banking-related products have a path to become a bank?” On December 2, 2016, the Office of the Comptroller of the Currency posed these questions in a whitepaper entitled, Exploring Special Purpose National Bank Charters for Fintech Companies (the “Whitepaper”). The OCC sought public comment on its proposal to grant special purpose charters to various financial technology (“fintech”) companies that do not fall within the typical definition of a bank and by January 17, 2017 had received over 100 comment letters.
The lead story in the February 2017 newsletter suggests that a debtor could waive in a security agreement the prohibition in UCC 9-610(c)(2) on the secured party's purchasing at its own private disposition. The story points to the absence of 9-610(c)(2) in the list of pre-default, non-waivable provisions found in 9-602. We should have mentioned that this is not the position taken by the drafters of the 2010 amendments to Article 9. The reason why 9-610(c)(2) is not mentioned in 9-602 as a non-waivable provision is because a secured party buying collateral at its own private disposition is treated as a "strict foreclosure" under 9-620, and the strict foreclosure provisions are not waivable. See Comment 3 (last paragraph) to 9-602 and Comment 7 (last paragraph) to 9-610. The bottom line for the Texas case is that the court reached the right conclusion, but for the wrong reason. We regret that we did not make that point in the story.
In a notable recent decision, a Texas bankruptcy court has ruled that several motor vehicle loans cross-collateralized with two personal motor vehicles of the Chapter 13 debtors were subject to "cramdown" and were not protected by the "hanging paragraph" found in Section 1325 of the Bankruptcy Code. The key to the court's ruling was that the secured lender (a credit union) was not protected from cramdown because the lender did not have any "purchase-money security interests" based on the cross-collateralization. In re McPhilamy, 91 UCC Rep. 2d 913 (Bankr. S.D. Tex. 2017).
In our prior story, we featured a recent Texas decision where a motor vehicle financer did not get the benefit of the "hanging paragraph" because of cross-collateral provisions in its secured lending documentation. In another variation on that theme, a Mississippi court has ruled that a vehicle financer who initially had a PMSI lost that precious status when it refinanced the loan in order to pay off two unrelated unsecured loans. In reaching that result, the Mississippi court invoked the "transformation rule" and rejected the "dual-status" rule.
In In re TSAWD Holdings, Inc., 2017 Bankr. LEXIS 610 (Bankr. D. Del. 2017), the court addresses a number of bankruptcy and UCC issues on a motion to dismiss. The Delaware court denied the Motion because of the existence of a perceived factual dispute over the applicability of Article 9 of the UCC. Though the case discusses issues relating to the scope of the court's constitutional jurisdiction, consignments under the UCC, and attachment of security interests, the most interesting aspect of this particular case is the ability of parties to contract their way around, into, or out of the scope of Article 9.
In a well-reasoned decision, the Eighth Circuit Bankruptcy Appellate Panel has ruled that a seller's right to reclaim cattle, delivered to the buyer but not paid for, is subordinated to the security interest of the buyer's financer. In reaching this conclusion, the court does a good job of harmonizing the priority rules of the UCC with the requirements found in a special state statute dealing with livestock bills of sale. We think the decision is correct in every way.
One of the enduring principles of secured lending law is that the "mortgage follows the note." Thus, even though a lender may think it has a perfected security interest in a piece of real estate through a recorded mortgage or deed of trust, failure to perfect against the note itself—by taking possession or filing a UCC financing statement—spells doom for the lender. That lesson was learned the hard way in a recent bankruptcy case from Oregon. We think the decision hits the target in the middle.
In a notable decision from Texas, the majority partner in a single-asset limited partnership sold the minority partner's interest in a private foreclosure sale, using the debt that was allegedly owed to the partnership by the minority partner as the basis of a credit bid. The court ruled that such a foreclosure sale was flatly prohibited by UCC 9-610(c)(2), which forbids the secured party from buying the collateral at a private sale unless the collateral is of a kind that is customarily sold on a recognized market or is "the subject of widely distributed standard price quotations." So a public auction sale was required for disposition of the partnership minority interest. The majority partner contended that the requirement of a public sale had been waived, but the court found that there was no such waiver. The court awarded actual damages to the minority partner of $520,278, plus exemplary tort damages of $1,040,576, though it denied recovery of attorney's fees. It was not a good day for the majority partner/secured lender.
In a recent decision, the Iowa Supreme Court considered what happens to the interests of participants in a loan when, as part of a Purchase and Assumption Agreement prior to the liquidation of the lead bank, the lead bank sells collateral surrendered voluntarily by the borrower. The Iowa court ultimately ruled that the participation agreements were "true sales", not secured loans.
In our prior story about the very recent Iowa Supreme Court case, we saw the importance of the outright sale/secured loan dichotomy in litigation involving loan participations. For a look at the importance of the dichotomy in another jurisdiction—Iowa's next-door neighbor—consider a Minnesota bankruptcy court decision which involves the following question: If Lender A makes a loan to Lender B secured by all of Lender B's assets, does the collateral include amounts owing by Lender B's borrowers on loans in which Lender B acts as lead lender and other parties act as participants? The answer depends on whether the relationship between Lender B and the participants is truly a “participation” arrangement or a loan by the participants to Lender B. In the Minnesota case, the court finds that (1) the arrangements were "true" participations rather than secured loans, and (2) Lenders A and B intended to exclude all participation interests from Lender A's collateral.
A 2017 Indiana bankruptcy court decision appears to be the first reported case to construe the "driver's license" rule for identifying individual debtors on UCC financing statements. In doing so, the court correctly construes the 2010 amendments to Article 9 and underscores the advantages of states that have adopted Alternative A to UCC 9-503(a)(4), which makes the debtor's driver's license the gold standard for UCC filing.
A recent Mississippi bankruptcy court ruling underlines the perils of relying on commercial tort claims alone as a description of contract rights in secured lending. In re Mississippi Phosphates Corp., Adv. No. 16-06001-KMS (January 3, 2017). The case does not involve a security interest in commercial tort claims. But it involves contract rights based on commercial tort claims which are relevant to taking a security interest in these claims.
Codifying basic contract assignment principles, UCC 9-406(a) provides:
Two important decisions—one from the California Supreme Court and one from the Ninth Circuit—have put big dents in tribal payday lending programs and could have far-ranging consequences for tribal sovereign immunity.
In a recent case from Ohio, the court ruled that the assignee of a home mortgage (U.S. Bank) was not entitled to enforce the mortgage through a foreclosure action because there was no evidence that the mortgage assignee was in possession of the mortgage note, or was entitled to enforce it in spite of the lack of possession, as allowed by Ohio's version of UCC 3-309. Since enforceability of the mortgage was dependent upon enforceability of the note, the bank was not entitled to foreclose. The case would have come out differently had Ohio enacted the 2002 amendments to the UCC, which give greater protection to non-holders who seek to enforce lost promissory notes. In any case, we think the Ohio decision is problematic.