Security – general
Security agreements Is it possible to create a security interest over all assets of an entity? If so, would a single security agreement suffice or is a separate agreement required for each type of asset? As a general matter, a security interest can be created in almost any type of asset (subject to limited statutory or regulatory exceptions). The laws applicable to the attachment, perfection and enforcement of a security interest vary depending on the type of asset and any special regulatory regime applicable to the borrower.
The attachment and perfection of security interests in most types of personal property are governed by Article 9 of the Uniform Commercial Code, a model statute that has been enacted in each state (with important variations among states). ‘Personal property’ generally includes tangible goods, accounts, general intangibles and commercial tort claims.
For assets within the scope of Article 9, a single security agreement can be used to grant a security interest in all of the borrower’s interests in such assets, including acquired property. The security agreement must:
- be in writing;
- be authenticated;
- expressly provide for the grant of the security interest; and
- include a sufficient description of the collateral.
The Uniform Commercial Code includes a set of rules describing what constitutes a sufficient description. The requirements for a sufficient description in the security agreement differ from the requirements for a sufficient description in a UCC-1 filing. Assuming that value has been given and the debtor has rights in the collateral, the entry into a written security agreement meeting the requirements outlined above is sufficient to create a security interest that is enforceable against the debtor. In order for the security interest to be enforceable against third-party creditors in a bankruptcy proceeding or other third parties with competing liens in the borrower’s assets outside of bankruptcy, the borrower and lenders must take certain additional steps to perfect the security interest. For assets within the scope of Article 9 of the Uniform Commercial Code, perfection can generally be achieved for certain assets by filing an appropriate UCC-1 financing statement. However, certain assets may be perfected only by taking specialised actions (eg, obtaining control). In addition, security interests in certain assets may be perfected by more than one method and the method chosen may result in a secured party having priority over another secured party.
Security interests in real estate are governed by non-uniform state real estate law. In addition, the perfection of security interests in certain types of personal property is specifically excluded from the Uniform Commercial Code and is governed by other federal or state laws, including aircraft and related assets, ships, railroad rolling stock and motor vehicles. In addition, perfection of security interests in intellectual property is governed by federal law in certain respects.
Release of security What are the formalities for releasing security over the most common forms of assets? The release of a security interest is typically effected either through a written agreement between the borrower and secured parties or, if the loan documentation so provides, automatically upon the satisfaction of relevant conditions. There are also provisions of the Uniform Commercial Code relating to the release of security interests in certain situations. In addition, a security interest typically attaches to the proceeds from sale of collateral.
Usually the security agreement contains a section describing the procedure for documenting the full or partial release of the secured party’s security interest, requiring the lender (or, in a syndicated deal, the collateral agent) to execute a written release upon the borrower’s payment in full of the loan obligations. Some security agreements provide for the automatic release of security interests upon the payment in full of the borrower’s loan obligations, although even in such cases, borrowers typically prefer to document the release of the security interest in writing, as acquirers and future lenders usually want written evidence of the release. The release of a security interest is often documented in a ‘payoff letter’ executed at the time of release.
If the security interest being released was perfected through the filing of UCC-1 financing statements, UCC-3s are filed at release to terminate the outstanding UCC-1s. In the case of perfection by possession (eg, for certificated securities perfected by control), the certificated securities are returned by the secured party to the borrower.
The procedure for terminating a security interest in real property varies by state, but typically involves the lender’s delivery to the borrower of a ‘satisfaction of mortgage’ document and the filing of a copy with the relevant real estate recording office.
In the case of security interests in intellectual property, the parties also typically enter into separate release agreements, which are filed with the US Copyright Office or US Patent and Trademark Office, as applicable.
Asset classes used as collateral for security
Real estate Can security be granted over real estate? If so, what are the most common forms of security granted over real estate and what is the procedure? Yes, security can be grated over most forms of real property, including partial interests (eg, leaseholds). The creation and enforcement of security interests in real property are governed by state law and vary significantly by state. Most commonly, the security interest is granted by the borrower’s signing and acknowledging a promissory note and a mortgage describing the property in sufficient detail. In order to perfect its security interest, the lender must file the mortgage with the local real estate recording office.
Machinery and equipment Can security be granted over machinery and equipment? If so, what are the most common forms of security granted over this kind of property and what is the procedure? Yes, machinery and equipment generally fall within the scope of Article 9 of the Uniform Commercial Code and the security interest can typically be perfected by filing a UCC-1 financing statement.
Receivables Can security be granted over receivables? If so, what are the most common forms of security granted over this kind of property and what is the procedure? Yes, the creation of a security interest in most receivables falls under the scope of Article 9 of the Uniform Commercial Code. A security interest in receivables is generally perfected by filing a UCC-1 financing statement.
Financial instruments and cash Can security be granted over financial instruments? If so, what are the most common forms of security granted over this kind of property and what is the procedure? Yes, the creation and perfection of a security interest in financial instruments fall under the scope of the Uniform Commercial Code. The procedure for perfecting a security interest in financial instruments depends on the type of financial instrument. Common ways to perfect a financial instrument include executing a control agreement, filing a UCC-1 and taking possession of the instrument.
Can security be granted over cash deposits? If so, what are the most common forms of security granted over this kind of property and what is the procedure? Yes, the creation and perfection of a security interest in deposit accounts are governed by Article 9 of the Uniform Commercial Code. A security interest in a deposit account is perfected by control, which is typically accomplished by the secured party, obligor and depository bank executing a tri-party deposit account control agreement.
Intellectual property Can security be granted over intellectual property? If so, what are the most common forms of security granted over this kind of property and what is the procedure? Yes, security can be granted over intellectual property in the United States. As best practice, most lenders both file UCC-1s to perfect the security interest in the intellectual property and make appropriate federal filings with the US Copyright Office or the US Patent and Trademark Office, as applicable. In transactions where intellectual property is an important part of the borrower’s business and a significant component of the collateral package, particular attention should be paid to evaluate legal issues surrounding the grant of security in the intellectual property.
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