Imagine this scenario: A Commercial Lender acting as the Collateral Agent (“Collateral Agent”) for a syndicated loan elects not to file a UCC-1 Financing Statement for the collateral securing the loan. Due to economic fallout of COVID-19, the loan’s borrower (“Debtor) defaults prompting the Collateral Agent to foreclose on the collateral to satisfy Debtor’s obligations under the loan. But Debtor’s economic troubles are not limited to this loan, and now the Collateral Agent finds itself scrambling with Debtor’s other creditors to enforce their contractual rights.
Unsurprisingly, this messy situation is not uncommon in industries devastated by COVID-19. In difficult economic times, secured lenders should protect all collateralized transactions by filing UCC-1 Financing Statements (i.e. “Perfecting” the secured lender’s interest).
Commercial lenders often extend credit under loans, backed or secured, by Debtor’s personal property. This personal property is known as “collateral” and in the event of Debtor’s failure to perform under the loan, the lender, or Collateral Agent if a group of lenders, enjoys the right to foreclose on the collateral.
The State of New Jersey has adopted the Uniform Commercial Code, Section 9, which governs these secured transactions, and codified them in N.J.S.A. 12A:9-101 et. seq. The process of securing collateral to back a loan is relatively straightforward. Securing the collateral is known as “Attachment” and generally a lender will have an enforceable security interest in collateral if: 1) value has been given, 2) Debtor has rights in the collateral or power to transfer rights in the collateral to a secured party, and 3) Debtor has authenticated a security agreement sufficiently describing the collateral. N.J.S.A. 12A:9-203.
“Attachment” allows a secured lender to foreclose on the collateral should the Debtor default under the loan agreement. However, a secured lender should record or “perfect” their security interest to ensure priority over other creditors regarding the collateral. Without establish priority, the case may arise where the collateral securing a lender’s interest under a loan agreement has been disposed of or otherwise exhausted by third-parties thereby weaking the secured lender’s position. The general presumption is that perfection should be done by filling a UCC-1 Financing Statement except in enumerated instances. N.J.S.A. 12A:9-310(a).
While a secured lender can still foreclose on collateral with a non-perfected security interest, the potential nightmare of a non-perfected security interest, especially in changing economic times, should encourage a commercial lender to undergo this perfunctory step. Filing allows a secured lender to pursue foreclosure remedies in the event of Debtor’s default. In New Jersey, a Debtor is not limited to foreclosure, but a Debtor can pursue other cognizable remedies, such as moving for a Judgment and utilizing collection mechanisms, in the event of Debtor’s default.
Lenders who forego filing a UCC-1 Financing Statement can still perfect their security interest through other means; although this is uncommon. Enforcing loan obligations in the event of a default is difficult enough. A secured lender should not make this process more cumbersome; they should perfect their security interest.
Karpus Law, LLC is a boutique, full-service law firm providing legal representation throughout New Jersey. Our Business & Commercial Law practice is geared towards businesses operating in the small and mid-cap marketplace.
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