2015 annual convention secured creditor...

2015 Annual Convention

Secured Creditor Remedies Video Replay

1.0 General CLE Hour

April 29 – May 1, 2015 ♦ Sandusky

FEATURED SPEAKER

Victoria E. Powers Ice Miller LLP Columbus, Ohio Ms. Powers received her BA from Mount Holyoke College and her JD from the University of California Hastings College of Law. Her professional memberships include the U.S. Bankruptcy Court Southern District of Ohio (Local Rules, Forms, and Procedures Committee), U.S. Court of Appeals for the Sixth Judicial Council (Merit Selection Panel), American Bar Association (Business Law Section; Litigation Section; Bankruptcy and Insolvency Committee), Ohio State Bar Association (Bankruptcy Subcommittee), Columbus Bar Association (Bankruptcy Committee), American Bankruptcy Institute (Commercial Fraud Committee; Director of Membership), International Women’s Insolvency and Restructuring Confederation–Central Ohio Chapter, California State Bar Association (Inactive), Commercial Law League of America, and Columbus Bar Foundation. Ms. Powers is a partner of her firm and co-chair of the Bankruptcy and Financial Restructuring Group. She focuses her practice in the areas of complex chapter 11 bankruptcy, corporate trust and municipal default, litigation, foreclosure and receivership, creditor remedies, out-of-court workouts, business and asset sale transactions, and health law-related matters. Ms. Powers is the coauthor or author of a number of publications, and is a frequent presenter on topics related to her areas of practice. For additional information, please visit www.icemiller.com.

John D. Robinett Ice Miller LLP Columbus, Ohio Mr. Robinett received his BA from Muskingum University and his JD from Case Western Reserve University School of Law. His professional memberships include the American Bar Association (Business Law Section; Legal Opinion Committee; Audit Response Committtee) and the Ohio State Bar Association. Mr. Robinett is a partner in the Business Group of his firm. He focuses his practice on representing lenders and borrowers in complex commercial financing transactions covering a wide range of industries, including manufacturing, retail, nonprofit and government agencies, health care, and hospitality. These commercial financing transactions include revolving lines of credit and term loans, construction and real estate development and acquisition financing, letters of credit and reimbursement transactions, secured transactions and forbearance, and other credit workouts. Mr. Robinett also has extensive experience in legal opinion letters issued in these financing transactions, including acting as local counsel in the State of Ohio for multistate and international transactions. He is a frequent speaker on topics related to his areas of practice. For additional information, please visit www.icemiller.com.

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Selected Secured Creditor Remedies and Issues • 1.1

1 Selected Secured Creditor Remedies and Issues

Prepared and Presented By: Victoria E. Powers

Ice Miller LLP Columbus, Ohio

Prepared By:

Daniel M. Anderson Tyson A. Crist

Erik J. Stock Ice Miller LLP

Columbus, Ohio

Secured Creditor Remedies

I. Introduction1

A. What is a secured creditor?

A secured creditor is a person or party who is owed a debt that has collateral to back the payment due. The debtor’s obligation to pay on the debt is supported by the value of the collateral. The debt is secured only to the value of the collateral, however, and to the extent the collateral is worth less than the amount of the debt, the debt is secured only to the value of the collateral, and is the creditor has an unsecured or deficiency claim for the portion of the debt that exceeds the value of the collateral. Security for debts can include items sometimes overlooked, such as a right of setoff. In the bankruptcy context, a right of setoff or recoupment can make a significant difference.

1 This chapter is just that: a chapter; it is not an exhaustive treatise. This chapter offers opinions and recommendations of an informative nature, and should not be considered as legal or financial advice. As to any specific matter or transaction, readers should consult their own attorneys and other professional advisors to discuss their specific circumstances.

1.2 • Secured Creditor Remedies

B. Why be secured?

Secured creditors have many advantages over unsecured creditors. The advantages include the obvious—a higher likelihood of repayment in full—as well as some less obvious advantages, in the event a bankruptcy is filed, such as the right to require adequate protection of the secured creditor’s interest in the collateral, possible right to payment of interest and other charges, and the ability in most cases to successfully defend a preference action.

C. Some methods for becoming a secured creditor.

1. Consensual liens in personal or real property.

The easiest way to become a secured creditor is to require that the obligor provide some collateral for the debt that will be incurred, including a security interest in personal property such as a security interest in goods sold or a “blanket” interest in all of the debtor’s personal property, or a lien on real property such as a mortgage. Details regarding taking and perfecting a security interest in personal property are contained elsewhere in these course materials. Note that creditors must be careful when adding security after the time the original debt is incurred. Adding collateral after the fact might be subject to avoidance powers once a bankruptcy is filed, or under state preference law.

2. Setoff and recoupment.

The right to set off two debts against one another is governed by state law. Citizens Bank of Maryland v. Strumpf, 516 U.S. 16 (1995); In re SemCrude, L.P., 399 B.R. 388 (Bankr. D. Del. 2009). Setoff permits parties that owe each other debts to apply those mutual debts against each other, avoiding the necessity of the parties actually having to pay one another. Setoff requires “mutuality”—that there be debts mutually owing between the two parties. A right of setoff that exists under state law survives the filing of bankruptcy by either party.

The Bankruptcy Code specifically provides that, with certain exceptions, it does not affect any right of a creditor to offset a pre-bankruptcy debt owing by the creditor to the debtor against a claim of the creditor against the debtor that also arose pre-petition. 11 U.S.C. § 553(a). The automatic stay of Bankruptcy Code § 362, however, continues to be in effect with respect to a right of setoff, and the creditor must obtain bankruptcy court authority to effect a setoff through a motion for relief from the stay. See, e.g., Matter of Corland Corp., 967 F.2d 1069 (5th Cir. 1992); In re Ealy, 392 B.R. 408 (Bankr. E.D. Ark. 2008).

Recoupment requires that the two debts in question arise out of the same transaction, and is often described as being in the nature of a defense to a claim. In re Wentz, 393 B.R. 545 (Bankr. S.D. Ohio 2008); In re HQ Global Holdings, Inc., 290 B.R. 78 (Bankr. D. Del. 2003). While setoff is subject to the automatic stay, recoupment is not. In re Dunning, 269 B.R. 357 (Bankr. N.D. Ohio 2001). Additionally, a right to recoupment will survive a sale free and clear of liens, claims, and encumbrances under Bankruptcy Code § 363. See, e.g., In re Buckeye Steel Castings Co., Inc., 306 B.R. 186 (6th Cir. B.A.P. 2004).


Both setoff and recoupment have the practical effect of turning a claim into a secured claim in the sense that, even post-bankruptcy, a right to setoff or recoupment elevates a claim to one that must be paid up to the value of the setoff or recoupment right, regardless of whether other general unsecured claims are to be paid in full.

In 1995 the U.S. Supreme Court confirmed a bank’s right to place an administrative freeze on a debtor’s checking account pending resolution of the bank’s right of setoff without violating the automatic stay. Citizens Bank of Maryland v. Strumpf, 516 U.S. 16 (1995). Strumpf and cases after Strumpf confirm that the administrative freeze itself is not a taking of the debtor’s property, but merely a temporary refusal by the bank to pay over funds while the bank determined its right to set off those funds and to seek relief from the stay in connection with any such right.

For a setoff to be valid, mutuality of debt must be established. Where a debt arises post-petition, no mutuality of debt exists and therefore no right of setoff exists. See, e.g., In re Harris, 260 B.R. 753 (Bankr. D. Md., 2001). The right of setoff by a bank with respect to a debtor depositor’s funds applies only to funds deposited into the bank account prepetition. See, e.g., In re Schwartz, 213 B.R. 695 (Bank. S.D. Ohio 1997); In re Nase, 297 B.R. 12 (Bankr. W.D. Pa. 2003).

Accordingly, a bank must act quickly and with full understanding of the setoff right and the requirements of the Bankruptcy Code and case law in effectively taking advantage of setoff rights and the Strumpf ruling.

Note that many banks will find that they have a secured claim in depositor’s funds by virtue of a security interest granted to the bank by the depositor at the time of the opening of the account. See, e.g., In re Harris, 260 B.R. 753.

3. Mechanics’ liens.

a. General requirements of the Ohio lien statutes.

A mechanics’ lien provides the lien-holder with rights of a secured creditor. In granting mechanics’ liens to laborers and material suppliers, Ohio Rev. Code § 1311.02 “prevents the owner of the property from obtaining the benefit of its improvements and any consequent increase in its value at the expense of an unpaid laborer or material supplier.” Guernsey Bank v. Milano Sports Enterps., LLC, 177 Ohio App. 3d 314, 324-325, 894 N.E.2d 715 (Ohio Ct. App., Franklin Cty., 2008). Generally, the Ohio private mechanics’ lien statutes require subcontractors and material suppliers2 to complete the statutorily prescribed steps in order to perfect a valid mechanics’ lien.3

2 The private lien statutes require different classes of lien claimants to take different steps in order to perfect valid liens. Specifically, original contractors, construction managers, and laborers must take different steps from subcontractors and material suppliers. This chapter addresses only those statutes and requirements pertaining to subcontractors and material suppliers.

3 See Ohio Rev. Code §§ 1311.04 – 1311.07.


Courts will strictly construe the requirements in determining whether a lien attaches. Guernsey Bank v. Milano at 325.

A subcontractor or material supplier may complete the statutory steps in any order. However, specific deadlines exist for accomplishing each step. With regard to all private mechanics’ liens except those arising in connection with one- or two-family dwellings, residential units of condominium property, or oil and gas wells,4 Ohio Rev. Code § 1311.06(B)(3) provides that the subcontractor or material supplier must file the affidavit of mechanic’s lien within 75 days of the date on which such subcontractor or material supplier last performed work on or furnished materials for the projects.

The deadline for preparation and service of the notice of furnishing, on the other hand, depends upon whether and when the owner, part owner, or lessee filed a notice of commencement. In order to preserve its full lien rights, the subcontractor or material supplier generally must serve the notice of furnishing within 21 days after the first date the subcontractor or material supplier provides work or materials.5 Ohio Rev. Code § 1311.05(A). A subcontractor or material supplier, however, need only file a notice of furnishing to preserve his or her lien rights if the owner, part owner, or lessee has recorded a notice of commencement. Ohio Rev. Code § 1311.05(H). Ohio Rev. Code § 1311.04(A) requires the owner, part owner, or lessee who contracts for labor, work or materials to record a notice of commencement in the office of the county recorder for each county in which the real property to be improved is located prior to the performance of any labor or work or the furnishing of any materials. The notice of commencement must be in substantially the form provided at Ohio Rev. Code § 1311.04(B).

As a subcontractor is under no duty to serve a notice of furnishing until a notice of commencement has been filed, any delay in the filing of the notice of commencement will extend the deadline for the filing of notices of furnishing. Ohio Rev. Code § 1311.04(I) provides that if the owner, part owner, lessee or designee fails to record the notice of commencement prior to the commencement of work or furnishing of materials, the time within which a subcontractor or material supplier may serve a notice of furnishing is extended until 21 days after the notice of commencement has been recorded. Thus, if a notice of commencement was not filed until after the subtrade began providing work or materials, the 21-day deadline in which such subtrade must serve its notice of furnishing begins on the date the notice of commencement was filed, rather than on the date that the subtrade first provided work or material. A subcontractor or material supplier is not required to

4 Special provisions exist with regard to liens against one- and two-family dwellings and oil and gas well. Liens against family dwellings are discussed below.

5 A notice of furnishing served more than 21 days after the subcontractor or material supplier first performed work or labor or furnished material at the site of the improvement will preserve the subcontractor or material supplier’s lien for rights for amounts owing for labor and work performed or materials furnished within the 21-day period immediately preceding the filing, but does not revive any prior lien rights for labor or work performed or materials furnished before such period. Ohio Rev. Code § 1311.05(D)(1).


serve a notice of furnishing to preserve lien rights for the period before the notice of commencement is recorded. Ohio Rev. Code § 1311.04(I). Liens under §§ 1311.01-1311.22 for work performed or materials supplied prior to the recording of the notice of commencement are effective from the date the first visible work is performed or materials are supplied by the first original contractor, subcontractor, worker or supplier. After a notice of commencement is recorded, with some exceptions, the liens are effective from the date of recording of the notice of commencement. Ohio Rev. Code § 1311.13; Guernsey Bank v. Milano at 329-330.

A notice of commencement will expire six years after its filing date unless it specifies otherwise. Ohio Rev. Code § 1311.04(S).

b. Home construction contracts.

Ohio Rev. Code § 1311.04(O) provides that Ohio Rev. Code § 1311.04, governing the requirements for the notice of commencement, does not apply to any improvement made pursuant to a “home construction contract” as defined in § 1311.011 of the Ohio Rev. Code except when a lending institution (defined in § 1311.011(A)(3)) requires that a notice of commencement be recorded as part of the financing for the home construction contract and the home construction contract is secured by a mortgage on the subject real estate. In that instance, the owner, part owner or lessee may file a notice of commencement, in which case the attachment, continuance and priority provisions of § 1311.13 apply, but the notice of furnishing provisions of § 1311.05 do not.

Similarly, Ohio Rev. Code § 1311.05(E) states that § 1311.05, governing the requirements with respect to the notice of furnishing, does not apply to any improvement made pursuant to a “home construction contract” as defined in § 1311.011 of the Ohio Rev. Code.

c. Affidavit of lien for family dwelling or condo unit.

Although home construction contracts are exempted from the provisions of the Ohio Rev. Code requiring a notice of commencement and a notice of furnishing, the requirements with respect to the affidavit of mechanics’ lien apply. Ohio Rev. Code § 1311.06(B)(1) requires a subcontractor or material supplier to file for record an affidavit of mechanics’ lien within 60 days from the date that the last labor was performed or material furnished when the lien arises in connection with a one- or two-family dwelling or unit of a residential condominium association. A copy of such an affidavit of mechanics’ lien will have to be served on the owner, part owner, or lessee of the property.

d. Oil and gas wells.

For projects that are for oil or gas well construction, operation, or repairs, or are for altering, repairing, or constructing oil derricks, oil tanks, or leasehold production pipelines, Ohio Rev. Code § 1311.021(A) gives a subcontractor or material supplier a lien to secure payment of the contract on the oil and gas lease or leasehold estate, or if there is none, the oil or gas produced and the proceeds thereof, along with a lien


on all material located on the production site or used in connection therewith. Under § 1311.021(B), however, a lien is not effective against a purchaser or pipe line carrier of the oil or gas produced until a copy of the affidavit of lien is delivered by certified mail to the purchaser or carrier. Pursuant to § 1311.021(C), a mechanic’s lien claimant is not required to record a notice of furnishing, nor is the owner, part owner, or lessee required to record a notice of commencement. The lien claimant has 120 days after the last work or the last materials were provided to perfect the lien by recording an affidavit of lien.

4. Judicial liens.

If the obligor has not paid on a debt when due, an unsecured creditor can turn the debt into a secured debt by suing on the debt, reducing the debt to judgment, then filing a certificate of judgment lien. Ohio Rev. Code § 2329.02 provides that any judgment or decree rendered by any court of general jurisdiction within the State of Ohio, including district courts of the United States, shall be a lien upon lands and tenements of each judgment debtor within any county from the time a certificate of such judgment is filed in the office of the clerk of the court of common pleas of such county. This will put the creditor into the position to foreclose on real property in the county where the judgment lien is filed.

II. Selected Secured Creditor Remedies

A. State court remedies of creditors secured by real property

The Ohio Rev. Code provides remedies for creditors secured by real property—including mortgages and judicial liens that have been certified. Article 9 of the Uniform Commercial Code, adopted in Ohio at Ohio Rev. Code § 1309.01 et seq., provides that Article 9 does not apply to the creation or transfer of an interest of a lien on real estate.

A creditor secured by real property has the right to seek foreclosure. Ohio Revised Code § 1311.16 specifically provides that a person holding a mechanics’ lien may proceed against the owner, the improvement, and the land. In Ohio, foreclosure can be a time-consuming process, but the end result is that the real property can be sold free and clear of liens on the property, so long as proper procedures are followed.

1. Steps to follow in a foreclosure proceeding.

a. Confirm that the plaintiff is the current owner and holder of the note and mortgage, which is required for standing to file the foreclosure. See Federal Home Loan Mortg. Corp. v. Schwartzwald, 134 Ohio St. 3d 13, 2012-Ohio-5017 (standing must be established at the time the complaint is filed). Assemble copies of the note and mortgage, along with all riders, modifications, amendments, and assignments.

b. Order either a preliminary judicial report or commitment for an owner’s fee policy of title insurance [see 1.c., below] to identify any additional holders of liens or interests in the subject property.


c. Prepare and file a complaint in foreclosure naming all lienholders and other interested parties, including the County Treasurer; prepare and file instructions to the clerk of courts. The clerk of court prepares the summons and mails the complaint to the defendants by certified mail.

d. Within 14 days after filing for foreclosure of residential real estate consisting of one to four single family units, file the preliminary judicial report issued on behalf of a title insurance company. The report must be effective within thirty days prior to the filing of the complaint, and meet the other requirements of Ohio Rev. Code § 2329.191. Practice will generally be to file the preliminary judicial report along with the complaint. The cost of the report will be taxed as a cost in the case. If the real estate to be sold consists of more than four single-family units or of commercial real estate, the plaintiff must file either a preliminary judicial report or may opt to file a commitment for an owner’s fee policy of title insurance. If the insurance commitment option is chosen, the commitment must have an effective date within 14 days of the filing of the complaint and meet the requirements of Ohio Rev. Code § 2329.191.

e. Service must be obtained upon all defendants. The Ohio Rev. Code provides a number of means for obtaining service if the original service is returned to the clerk. If a good address cannot be obtained, notice is done by publication. Ohio Rev. Code § 2703.141 provides that the publication must be made once a week for three consecutive weeks instead of as provided by Civil Rule 4.4.

f. Once the complaint is filed, lis pendens is effective and means that anyone who takes an interest in the property is subject to the litigation (this is a change from prior law). Ohio Rev. Code § 2703.26; Martin, Rochford & Durr v. Lawyer’s Title Ins. Corp., 86 Ohio App. 3d 20, 619 N.E.2d 1130 (Ohio App. 9th Dist., 1993).

g. Defendants have 28 days after service of process in Ohio state courts to answer, move or plead, with a few exceptions (e.g., the United States has longer to answer).

h. After service is completed, a supplemental title search is completed. Any intervening lienholders must be joined. Under Ohio Rev. Code § 2329.191, the plaintiff must submit either a final judicial report (if a preliminary report was filed) or an update of the title search filed along with the insurance commitment, updating the state of the title through the date of lis pendens prior to any order or judgment entry to a court ordering sale of real estate.

i. If a defendant has failed to answer move or plead, then a motion for default judgment should be filed. If a defendant files an answer, it is common to seek judgment against the defendant through a motion for summary judgment.

j. Prepare, serve and file judgment decree in foreclosure and praecipe for order of sale.

k. The clerk prepares order of sale and delivers it to the sheriff.


l. After the return of the order of sale and prior to the confirmation of the sale, the plaintiff must file an invoice for the cost of the title insurance policy, commitment cost and any cancellation fees. The costs will be taxed as costs in the case.

m. Three independent freeholders must appraise the property. The sheriff will hire three appraisers who live in the county to complete the appraisal.

n. All parties must be given notice of the sale, and the property must be advertised for sale. Ohio Rev. Code § 2329.23 provides the required contents of the advertisement and notice of sale for the sale of lands and tenements in a municipal corporation. Ohio Rev. Code § 2329.26 requires advertisement for at least three weeks in a newspaper of general circulation in the county.

o. The sheriff conducts the sale. Bidding starts at two-thirds the value determined by the appraisers, or if there is a superior lien, then at two-thirds of the difference between the appraised value and the amount of the superior lien. In Ohio, while there is nothing in the Ohio Rev. Code that indicates either way whether the sale can be stopped, generally, the sheriff’s office will not stop the sale absent a court order directing them to stop it, as they are subject to a court order to sell. As Ohio counties move toward electronic filing, it is becoming more difficult to obtain a last-minute order vacating a foreclosure sale. The parties to a foreclosure should be aware that such orders may take two or three days to obtain in an electronic filing jurisdiction.

p. The sheriff has 60 days to make return of the sale proceeds.

q. Following return of the sale proceeds, an entry of confirmation of sale must be submitted to the court, directing the distribution of the proceeds of sale. Once the order is entered, Ohio Rev. Code § 2329.36 requires the plaintiff’s attorney, within seven days, to prepare and deliver a deed for the purchaser to the sheriff. If the secured party will have a deficiency claim, the creditor should obtain a judgment of the amount of the deficiency.

r. Ohio Rev. Code § 2329.33 provides that the obligor’s right of redemption runs to the time of confirmation of the sale. In order to redeem the property, the obligor must pay or cause to be paid the amounts full amount of the judgment together with all costs, including poundage (a percentage of the monies actually realized and paid to the sheriff), plus current statutory interest.

Note that the Consumer Financial Protection Bureau (CFPB) has issued new mortgage-servicing rules that become effective January 10, 2014. The regulations are incorporated into Regulation Z for the Truth in Lending Act (TILA) and into Regulation X for the Real Estate Settlement Procedures Act (RESPA), and very generally provide for enhanced homeowner access to information regarding their loan. The new rules include many changes for mortgage servicers that are applicable when a consumer files bankruptcy. The new regulations are available at the CFPB website, www.consumerfinance.gov.

http://www.consumerfinance.gov/


2. Receivership.

Ohio Rev. Code § 2735.01, the general Ohio receivership statute, is supplemented by specific sections of the Ohio Rev. Code. The general statute governs the appointment of receivers in Ohio and provides for the appointment of a receiver in certain specified cases:

a. Action by vendor to vacate fraudulent purchase of property or a creditor to subject property, or a fund to his claim, or where a party has shown a probable right to a fund and that it is in danger of being lost.

b. In an action to foreclose a mortgage, if it appears the property is in danger of being damaged, or if the condition of the mortgage has been broken and the property is probably insufficient to discharge the debt.

c. After judgment, to carry it into effect.

d. After judgment, to dispose of property according to the judgment, or preserve it pending appeal, or when execution has been returned unsatisfied and the judgment debtor refuses to apply property to satisfy judgment.

e. When a corporation has been dissolved, or is insolvent, or is in imminent danger of insolvency.

f. In all other cases where receiver has been appointed by usages of equity.

An action to obtain appointment of receiver must be ancillary to some other remedy, and appointment of a receiver must not be the sole object sought. Id.; Hoiles v. Watkins, 117 Ohio St. 165, 157 N.E. 557 (Ohio 1927); Kuenning v. Broad & High Corp., 28 Ohio Misc. 211, 276 N.E. 2d 675 (Common Pleas, Franklin Cty., 1971). Notice must be given, but may be waived or dispensed with when that the delay required to give notice may result in irreparable loss. Railway v. Jewett, 37 Ohio St. 649. The appointment of a receiver is appropriate when the mortgage expressly provides for such appointment. See The Federal Land Bank of Louisville v. DeRan, 74 Ohio App. 365, 365-68 (Ohio Ct. App., Sandusky Cty. 1944); Metropolitan Savs. Bank v. Papadelis, 1995 WL 542214 (Ohio Ct. App., Medina Cty. 1995); see also Harajli Mgmt. & Invest., Inc. v. A&M Invest. Strategies, Inc., 167 Ohio App. 3d 546, 2006-Ohio-3052. Appointment of a receiver is appropriate when the condition of the mortgage has not been performed and the property is likely insufficient to discharge the mortgage debt. Id.

3. Pending receivership legislation.

Sub. H.B. 9 is currently pending in the Ohio legislature, which would make a number of changes to the Ohio receivership statutes, primarily in Chapter 2735. Among the statutory changes the bill would make are:

a. Codify that receivers may sell property free and clear of liens, and it will set forth a uniform process by which courts may authorize such sales in order to ensure that due process is afforded to all parties. It will also provide a statutory framework on which title insurers can rely to insure clear title state-wide.


b. Address valuation, minimum bids, multiple offers and requests for “break-up” fees for unsuccessful purchasers.

c. Create a new statutory right of redemption, clarify when confirmation of a sale is required, and clarify that a sale by receiver is a separate process from, and is in lieu of, an execution sale under Chapter 2329.

d. Codify that a receiver may be appointed by a court on the basis of written consent by the mortgagor, or to enforce a contractual assignment of rents and leases.

e. Codify new provisions to specify the property or affairs for which a receiver may be appointed (particular property versus all the affairs of an entity), depending on the basis for the appointment.

f. Expressly permit receivers to enter into contracts for construction and to complete construction, so long as existing lien rights will not be impacted.

g. Clarify the types of costs and expenses that shall be treated as administrative expenses of a receivership, including any costs of construction, and allow courts to require deposits to cover such construction costs from certain parties.

B. Article 9 Remedies of Creditors Secured by Personal Property; Forbearance; Lender Liability

Article 9 remedies and forbearance issues are discussed elsewhere in these course materials. Secured as well as unsecured creditors should be aware of rights of garnishment, applicable exemption statutes, and rights to have the sheriff levy on personal property.

The term “lender liability” describes a variety of theories that have been used by borrowers and sometimes by parties doing business with a borrower against the lender, often when the lender is enforcing rights following default. Theories include breach of the covenant of good faith, undue control of the borrower, breach of fiduciary duty, breach of contract, and fraud.

Lender liability claims were litigated with some fervor in the 1980s, and there were decisions in the Sixth Circuit holding lenders liable under various theories. See, e.g., KMC Co., Inc. v. Irving Trust Co., 757 F.2d 752 (6th Cir. 1985); Melamed v. Lake Cty. Nat’l Bank, 727 F.2d 1399 (6th Cir. 1984).

More recently, Ohio courts have been reluctant to embrace these claims. See, e.g., Ed Schory & Sons, Inc. v. Society Nat’l Bank, 75 Ohio St. 3d 433 (1996) (upholding dismissal of bad faith claims against bank where bank had done no more than stand on its right to require payment of the borrower’s contractual obligations); Needham v. Provident Bank, 110 Ohio App. 3d 817 (Cuyahoga 1996) (A lender’s exercise of rights under its loan agreement; cannot form the basis of a claim of bad faith); and Citizens Nat’l Bank of Ripley v. Karsnak, 1992 WL 12776 (Brown App. Jan. 27, 1992) (Ohio Rev. Code § 1301.14, which imposes a duty of good faith


upon holders of instruments which can be accelerated when the holder deems itself insecure, does not apply where the acceleration is due to a breach of a specific provision in the instrument).

While lender liability theories have not gained much traction in recent years in Ohio courts, they are not completely gone. For example, in Thayer v. Diver, 2009-Ohio-2053 (Lucas App.), the court noted that while “Ohio courts have not yet imposed lender liability under the instrumentality theory, they have been willing to consider the facts of individual cases under the test set forth in Krivo [Indus. Supply Corp. v. National Distillers & Chem. Corp., 483 F.2d 1098 (5th Cir. 1973)].” 2009-Ohio-2053 at *71.

In recent years, Bankruptcy Courts have been willing to equitably subordinate claims of secured lenders if the Court finds egregious inequitable conduct by the lender. In Credit Suisse v. Official Committee of Unsecured Creditors (In re Yellowstone Mountain Club), Case No. 08-61570-11, Adv. No. 09-00014 (Bankr. D. Mont. May 13, 2009) (Docket No. 289), the court was troubled by the bank’s reliance on a property appraisal that the court found to be based on projections of future financial performance with no foundation in historical reality. The court noted what it considered a pattern in similar loans by the bank that had also failed, and held that the bank had acted out of “naked greed.” Note that based on agreement of the parties following entry of the court’s decision, the court’s order was vacated and accordingly is of no precedential authority.

In re TOUSA, Inc., 680 F.3d 1298 (11th Cir. 2012), discussed briefly in the Avoidable Transfers section of these materials, is viewed by some as another signal that courts are willing to rule against secured lenders where the court concludes that the lender has been careless in its due diligence in pursuit of generating substantial fees. Some view TOUSA and Yellowstone Mountain as portending a return to a willingness of bankruptcy courts to find lenders liable when they do not, in the court’s view, follow a completely defensible process in a loan transaction or a workout.

In the 1980s, Helen Davis Chaitman published several articles on lender liability, including “The Ten Commandments for Avoiding Lender Liability,” 22 Uniform Commercial Code Law Journal 3 (1989). Ms. Chaitman’s “Ten Commandments,” which included advice such as “Thou Shalt not Make a Sudden Move, Thou Shalt Honor Thy Commitments, and Thou Shalt Not Run Thy Borrower’s Business,” provide enduringly useful guidance to lenders, and have been reworked by a subsequent commentator to be applicable to rules for workouts.

C. Selected bankruptcy issues for secured creditors.

1. Proofs of claim.

Secured Creditors must establish their claim in a bankruptcy. Filing a proof of claim is not mandatory, but failure to file may to prohibit a creditor from participation in distribution from the bankruptcy estate, although a secured party cannot be stripped of the value of collateral without notice and due process. See In


re Kinion, 207 F.3d 751 (5th Cir. 2000). A proof of claim is filed pursuant to § 501 of the Bankruptcy Code. In a Chapter 11 bankruptcy, a proof of claim is deemed filed under § 501 if the claim appears in the debtor’s filed schedules, unless the claim is scheduled as contingent, disputed or unliquidated. Under Bankruptcy Rule 3001(f), a proof of claim is prima facie evidence of the validity of the claim; however once an objecting party produces evidence rebutting the claim, the burden of proof shifts to the claimant to produce evidence to establish the validity of the claim. In re Gran, 964 F.2d 822 (8th Cir. 1992); In re Stauder, 396 B.R. 609 (Bankr. M.D. Pa. 2008). Once an objection is filed to a proof of claim, the ultimate burden of proof rests with the claimant. See, e.g., Raleigh v. Illinois Dep’t of Revenue, 530 U.S. 15 (2000).

2. Use of the creditor’s cash collateral.

“Cash collateral” is defined in the Bankruptcy Code as cash, negotiable instruments, documents of title, securities, deposit accounts, or other cash equivalents whenever acquired in which the estate and an entity other than the estate have an interest. 11 U.S.C. § 363(a). The Code prohibits the debtor from using cash collateral unless the court authorizes such use, after notice and a hearing (opportunity for a hearing), or the entity with an interest in the cash collateral consents to the use. 11 U.S.C. § 363(c). If the debtor is not authorized to use cash collateral, the debtor must segregate and account for any cash collateral in the estate’s possession. 11 U.S.C. § 363(c)(4). Use of cash collateral is often, and should be, a matter of negotiation between the secured creditor and debtor. A secured creditor will enter into an agreement with the debtor permitting use of cash collateral on agreed terms.

3. Adequate protection of the creditor’s interest.

If the debtor is permitted the use of the secured creditor’s cash collateral, the creditor is entitled to “adequate protection” of its interest in the assets to be consumed. “Adequate protection” is discussed in § 361 of the Bankruptcy Code, which provides that whenever a party is entitled to adequate protection of an interest in property, the adequate protection may be provided by (1) cash payments to the creditor to the extent of the decrease in value of the property, (2) a replacement lien on other property of the estate, and (3) granting other relief. 11 U.S.C. § 361; see also In re Norton, 347 B.R. 291 (Bankr. E.D. Tenn. 2006). A creditor who is granted adequate protection that turns out to be inadequate is afforded a super-priority administrative expense claim under 11 U.S.C. § 507(b). See, e.g., In re Wilson-Seafresh, Inc., 263 B.R. 624 (Bankr. N.D. Fla. 2001).

4. Challenges to secured status.

a. Improper perfection.

Perfection as to third-parties under UCC Article 9 requires both an authenticated security agreement and a UCC-1 financing statement. See Caterpillar Fin. Serv. v. Peoples Nat’l Bank, N.A., 710 F.3d 691 (7th Cir. 2013) (noting that UCC-1 financing statement and subordination agreement were insufficient to establish an enforceable security interest in the absence of a security agreement).


When preparing a UCC-1 financing statement, care should be taken to use the debtor’s correct legal name. If an incorrect name is used in a financing statement, such that a standard search of the Secretary of State’s records would not locate the financing statement, then the statement is “seriously misleading” and ineffective. See In re Pretzer, 100 B.R. 879 (Bankr. N.D. Ohio 1989). Note: that effective July 1, 2013, Ohio Rev. Code § 1309.503(A)(4) requires that individual debtors be identified in a UCC-1 financing statement by using the name on their driver’s license or state-issued identification card. Failure to do so may render a financing statement “seriously misleading.”

Also, there are limits to what constitutes proceeds of collateral. For example, profits and accounts receivable resulting at least in part from a debtor’s use of equipment in which a creditor has a security interest does not automatically make the profits and accounts receivable part of the creditor’s collateral. In Swope v. Commercial Savings Bank, 489 B.R. 688 (N.D. Ohio 2013), a bankruptcy court determined that accounts receivable from nuclear diagnostic services were not proceeds of nuclear diagnostic camera and security agreement did not specifically identify accounts receivable as collateral.

b. Avoidable transfers.

Secured parties need to be aware of and take into consideration the risks involved in structuring or restructuring a financial transaction. A secured party may lose its secured status if the granting of the collateral can be avoided as a preference or a fraudulent transfer. For example, when an existing debt is subsequently secured within ninety days of a bankruptcy filing date, the bankruptcy estate is likely to be able to avoid the granting of the security interest or lien as a classic preferential transfer under § 547 of the Bankruptcy Code. The preference risk does not mean that a creditor should not try to become a secured creditor but the risk should be recognized.

Similarly, the grant of security to a secured creditor has been held to constitute an avoidable transfer. In Senior Transeastern Lenders v. Official Committee of Unsecured Creditors (In re TOUSA, Inc.), 680 F.3d 1298 (11th Cir. 2012), the Eleventh Circuit held that where there was no benefit to the corporate subsidiaries in a transaction involving a loan to the corporate parent, the grant by the subsidiaries of security interests in their assets to the parent’s lender could be avoided as a fraudulent transfer. In that case, the lender argued that the benefits to the subsidiaries were not direct, but instead were indirect benefits. The court found that the lender had not met its burden of proof to establish the indirect benefit.

5. Sale of the creditor’s collateral.

A debtor may sell property of the estate in which a creditor has an interest outside the ordinary course of the debtor’s business, upon notice and a hearing (11 U.S.C. § 363(b)), or in the ordinary course of the debtor’s business, without notice or a hearing (11 U.S.C. § 363(c)), but may only sell assets free and clear of the secured creditor’s interests if (1) applicable non-bankruptcy law would permit the sale free and clear, (2) the secured creditor consents to the sale, (3) the property will be sold


for an amount in excess of the value of all of the liens upon and security interests in the property, (4) the claimed interest in is bona fide dispute, or (5) the creditor could be compelled to accept a money satisfaction of the interest. 11 U.S.C. § 363(f).

Bankruptcy Code § 363 sales have become a popular means addressing the problems of a Chapter 11 debtor. Under § 363(f) of the bankruptcy code, a debtor may seek Bankruptcy Court authority to sell its assets “free and clear of interests.” Section 363 sales deal with a wide array of issues and are very diverse. Every § 363 sale is unique, and each bankruptcy court6 may take its own approach to handling the multitude of complex issues presented. Secured creditors need to pay close attention and familiarize themselves with the particular approach taken by the relevant bankruptcy court (including any decisions by the controlling circuit court of appeals) in a particular case. A debtor under Chapter 11 of the U.S. Bankruptcy Code is not permitted to sell any assets outside the ordinary course of business without the approval of the bankruptcy court. Court approval is required, but a debtor generally needs only to show a “sound business purpose.” See Stephens Indus., Inc. v. McClung, 789 F.2d 386, 390 (6th Cir. 1986).

A debtor’s § 363 motion is usually heard on no less than 20 days of notice, but may be heard and granted sooner under certain circumstances. In September 2008, sales of several of the assets of Lehman Brothers Holdings, Inc. were authorized in just a week. Despite the Lehman Brothers example, a § 363 sale being approved in less than twenty days is clearly the exception and not the norm. Indeed, Federal Rule of Bankruptcy Procedure 6003 specifies that in order for the bankruptcy court to grant relief regarding “a motion to use, sell, lease, or otherwise incur an obligation regarding property of the estate” within twenty days after the filing of the petition, there must be a finding that the relief sought is “necessary to avoid immediate and irreparable harm.”

When assets of the debtor’s estate are sold “free and clear of interests,” the claims and interests in those assets attach only to the proceeds of the sale upon the closing of the transaction. Secured creditors do not lose their liens; their liens attach to the proceeds of the sale, which remain with the debtor’s estate. Upon the closing of the sale, holders of claims and interests can look only to the proceeds, and the purchaser is protected from most successor liability claims, although the precise scope of this protection is uncertain and varies from circuit to circuit.

While some courts are willing to enter orders purporting to cut off successor liability claims (See, e.g., In re Medical Software Solutions, 286 B.R. 431 (Bankr. D. Utah 2002)), even those courts require a showing that no buyer is willing to buy without such a provision. Moreover, some courts conclude either that they have no jurisdiction to affect claims by a non-debtor entity against another non-debtor entity (See Zerand-Bernal Group v. Cox, 23 F.3d 159 (7th Cir. 1994)), or that any attempt to extinguish such claims requires specific prior notice to the affected creditors (See In re Savage Industries, Inc., 43 F.3d 714, 721 (1st Cir. 1994)).

6 The bankruptcy courts in the United States are divided into judicial districts, with one or more districts within each state. Each district forms part of 1 of 12 circuits. Within a particular circuit, each bankruptcy court is bound by decisions from the court of appeals for that circuit.


Unless a stay pending appeal is obtained, appeals of § 363 sales are generally moot, because § 363(m) of the Bankruptcy Code provides that the reversal, vacation, or modification of an order approving a sale does not affect the validity of the sale. However, a 2008 Ninth Circuit Bankruptcy Appellate Panel decision has cast doubt upon the finality of § 363 sales absent a stay pending appeal, as well as the “free and clear” doctrine. See Clear Channel Outdoor, Inc. v. Knupfer (In re PW, LLC), 391 B.R. 25 (9th Cir. BAP 2008). In Clear Channel Outdoor v. Knupfer, the Bankruptcy Appellate Panel for the Ninth Circuit held that a § 363 sale could not be free and clear of junior liens unless the sale price was greater than the value of all of the liens on the property. The court also declined to find that the appeal was moot, even though § 363(m) provides that the reversal of the order approving the sale does not affect the validity of the sale to an entity that purchased in good faith. The court concluded that the provision in the order that the sale was free and clear of liens was not essential to the sale. The buyer did not agree with this conclusion.

A subsequent decision out of a bankruptcy court in the Ninth Circuit has cut away somewhat from the Clear Channel opinion. That case is In re Jolan, Inc., 403 B.R. 866 (Bankr. WD Wash. 2009). The Jolan case suggests that it is possible to get around the problems of the Clear Channel opinion by offering proof that, under applicable state law, a foreclosure would wipe out a junior lien holder. More recently, the Sixth Circuit Bankruptcy Appellate Panel has adopted a broad interpretation of the § 363(m) mootness standard, disagreeing with the Clear Channel court on the mootness issue. In re Nashville Senior Living, LLC, 407 B.R. 222, 231 (6th Cir. BAP 2009), affirmed, 620 F.3d 584 (6th Cir. 2010).

6. Credit bidding in a cram-down plan.

Bankruptcy Code § 363(k) provides that at a § 363(b) sale of property subject to a lien, the lienholder may credit bit at the sale, unless the court for cause orders otherwise. The Bankruptcy Code’s plan confirmation provisions specify that the court shall confirm a proposed plan if all applicable requirements of § 1129(a) are met, except that an impaired class of creditors has not accepted the plan and “if the plan does not discriminate unfairly, and is fair and equitable,” with respect to each impaired, non-accepting class.

Unfair discrimination is not defined or described in the Bankruptcy Code. Case law provides generally that the purpose of the unfair discrimination standard is to prohibit unequal treatment to similarly situated creditors. See, e.g., In re Trenton Ridge Investors, LLC, et al., 461 B.R. 440, 495 (Bankr. S.D. Ohio 2011).

Section 1129(b)(2) sets forth what is required to be “fair and equitable”. Section 1129(b)(2)(A) contains the fair and equitable standard with respect to a class of secured claims, and requires that the plan provide:

(i)(I) that the holders of such claims retain the liens securing such claims, whether the property subject to such liens is retained by the debtor or transferred to another entity, to the extent of the allowed amount of such claims; and


(II) that each holder of a claim of such class receive on account of such claim deferred cash payments totaling at least the allowed amount of such claim, of a value, as of the effective date of the plan, of at least the value of such holder’s interest in the estate’s interest in such property;

(ii) for the sale, subject to section 363(k) of this title, of any property that is subject to the liens securing such claims, free and clear of such liens, with such liens to attach to the proceeds of such sale, and the treatment of such liens on proceeds under clause (i) or (iii) of this subparagraph; or

(iii) for the realization by such holders of the indubitable equivalent of such claims.

For several years, a body of case law developed that read the three subsections of § 1129(b)(2)(A) to allow the plan proponent to sell property under a plan pursuant to subsection (iii) and not subsection (ii) of § 1129(b)(2)(A). Accordingly, the plan proponents would be required to provide the secured creditor with the “indubitable equivalent” of its claim, but could prevent the secured creditor from credit bidding as provided for under § 1129(b)(2)(A)(ii).

The Fifth and Third Circuits held that the plan proponent could choose to eliminate a secured creditor’s right to credit bid under 1129(b)(2)(A)(ii) and 363(k) by opting to meet the “indubitable equivalent” test of § 1129(b)(2)(A)(iii). These courts applied a “plain meaning” approach in ruling that the terminal “or” in § 1129(b)(2)(A) has an unambiguously plain meaning. The Fifth Circuit stated that because the three subsections of § 1129(b)(2)(A) are joined by the disjunctive “or,” they are alternatives. Bank of N.Y. Trust Co. v. Official Unsecured Creditors’ Committee (In re Pacific Lumber Co.), 584 F.3d 229, 245 (5th Cir. 2009). As alternatives, any of the three subsections could be chosen as a means to meet the “fair and equitable” requirement, and indubitable equivalence could be determined by judicial evaluation of the collateral. Pacific Lumber, 584 F.3d at 248-249. The Third Circuit in Philadelphia Newspapers reached the same conclusion. In re Philadelphia Newspapers, LLC, 599 F.3d 298, 318 (3d Cir. 2010). Judge Ambro dissented, arguing that the meaning of the terminal “or” was not plain, and instead the three subsections should be understood to provide the correct alternative under each described circumstance, with subsection (iii) applying the indubitable equivalent test only in circumstances not governed by subsections (i) and (ii). Philadelphia Newspapers, 599 F.3d at 324-327 (Ambro, J., dissenting).

In the Eleventh Circuit, the debtor in River Road Hotel Partners, LLC v. Amalgamated Bank (In re River Road Hotel Partners, LLC), 651 F.3d 642 (7th Cir. 2011) tried for the same result, but without success. With the split between the Third and Fifth Circuits on one hand, and the Eleventh on the other, the Supreme Court granted cert. in the River Road cases, and in May 2012 ruled that the debtor could not cram down a plan providing for a sale of collateral without permitting the secured creditor to credit bid at the sale. RadLAX Gateway Hotel, LLC et al. v. Amalgamated Bank, __ U.S. __, 132 S. Ct. 2065 (2012).


In RadLAX, the Supreme Court stated that the plan-proponent debtor’s interpretation of § 1129(b)(2)(A), which was a recitation of the holdings in Pacific Lumber and Philadelphia Newspapers, was “hyperliteral and contrary to common sense.” 132 S. Ct. at 2070. The Supreme Court applied the rule of statutory construction that “the specific governs the general,” (132 S. Ct. at 2071), and concluded that the more general language of clause (iii), a broadly worded provision that does not specifically address a free and clear sale, must give way to the more specific provision of § 1129(b)(2)(A)(ii), which spells out the requirements for selling collateral free of liens. RadLAX, 132 S. Ct. at 2070-2072. In effect, in RadLAX, the Supreme Court adopted Judge Ambro’s dissenting opinion in Philadelphia Newspapers.

7. Valuation.

a. Valuation in general.

Bankruptcy Code Section 506(a) governs the process of determining the value of a secured claim in a bankruptcy proceeding and provides generally that a claim is a secured claim to the extent of the value of the creditor’s interest in the property, with any deficiency being an unsecured claim. Section 506(a) provides further that the value of the creditor’s interest is to be “determined in light of the purpose of the valuation and of the proposed disposition or use of such property, and in conjunction with any hearing on such disposition or use or on a plan affecting such creditor’s interest.” 11 U.S.C. § 506(a)(1).

b. Valuation using sale price.

By its terms, Bankruptcy Code § 506(a) provides that the value of property of a debtor’s estate must be determined on the basis of the proposed disposition or use of that property. Associates Comm. Corp. v. Rash, 520 U.S. 953, 962 (1997) (the proposed disposition or use of the collateral is of paramount importance to the valuation question).

In addition to the proposed disposition or use of the property being valued, a Court must consider the relevant facts and circumstances surrounding the sale transaction in determining the appropriate method for valuing property under the Bankruptcy Code. See generally, Circuit City Stores, Inc. v. Pioneer Inv. Svcs. Co. (In re Pioneer Inv. Svcs. Co.), Case No. 92-5566, 1993 U.S. App. LEXIS 20710, at *18 (6th Cir. Aug. 13, 1993) (“A bankruptcy court performing a valuation analysis is to take into account all the relevant facts and assess the propriety of the various valuation methodologies as they relate to those facts.”); see also, In re Colfor, Inc., Case No. 96-60306, 1996 Bankr. LEXIS 1397, at *7 (Bankr. N.D. Ohio Sept. 18, 1996) (the method of valuation should most closely approach what actually occurred in the case). A bankruptcy court will assign weight to conflicting expert opinions on valuation, but “is not bound to accept the values contained in the parties’ appraisals; rather, it may form its own opinion of the value of the subject property after considering the appraisals and expert testimony.” In re Creekside Senior Apartments, LP, 477 B.R. 40, 61 (6th Cir. B.A.P. 2012), quoting In re Smith, 267 B.R. 568, 572 (Bankr. S.D. Ohio 2001).


In a leading case, the Fourth Circuit has ruled that the sale price of the property governs a valuation where the sale price is fair and is the result of an arm’s-length transaction. Ford Motor Credit Co. v. Dobbins, 35 F.3d 860, 870 (4th Cir. 1994).

As discussed in Dobbins, when collateral is actually sold during the bankruptcy, the determinative date for purposes of Bankruptcy Code § 506 should be the date of the sale, even when the sale was at a time subsequent to the petition date. See, e.g., In re Creekside Senior Apartments, LP, 477 B.R. at 54–55, citing Rash, 520 U.S. 953 (“Where a debtor proposes to retain property and continues to use the property in the debtor’s trade or business, the proper methodology to use in establishing ‘the amount of the secured claim . . . is the price a willing buyer in the debtor’s trade, business, or situation would pay to obtain like property from a willing seller.”); In re Joseph, 2007 WL 3355379, at *4 (Bankr. D. Conn. Nov. 8, 2007) (subsequent sale price by far best evidence of collateral’s value at time of petition); Dobbins, 35 F.3d at 871 (“[W]hen valuing secured collateral to determine whether a creditor is oversecured and thus entitled to post-petition interest pursuant to § 506(b), if the collateral has been sold, the value of the collateral should be based on the consideration received by the estate in connection with the sale, provided that the sale price is both fair and the result of an arm’s length transaction.”); Romley v. Sun Nat’l Bank (In re Two S Corp.), 875 F.2d 240, 243 (9th Cir. 1989) (Court used sale price from November 4, 1986 sale of collateral when petition was filed March 20, 1986, for purposes of § 506(b), stating “We have found no cases holding that after a single asset is sold at a commercially reasonable sale the court is still required to consider other possible methods of valuation. Rather, the cases state that the price paid at a commercially reasonable sale is the best evidence of value . . . the sale price is better evidence of the property’s value than any prior appraisals.”) (citation omitted); Noland v. Williamson (In re Williamson), 94 B.R. 958, 966 (Bankr. S.D. Ohio 1988) (Sale price used in context of both § 506(a) and § 506(b) analyses: “In view of the fact that the property has been sold and the value of the property realized by the sale, the court fails to discern that a post-sale appraisal of the property has any relevancy in establishing the value of the property for the purpose of determining the amount of the secured claim of [the secured creditor].”); In re Schreiber, 163 B.R. 327, 332 (Bankr. N.D. Ill. 1994) (A ruling that the value of collateral is conclusively fixed on the date a bankruptcy petition is filed would disregard the . . . language of 11 U.S.C. § 506(a). “In the event the property is actually sold, regardless of the purpose for valuation, valuation of the collateral should normally be based on the sale price . . .”); Matter of Plunkett, 191 B.R. 768, 779 (Bankr. E.D. Wisc. 1995) (once property is sold, the sale price is the best indicator of its value and the proper benchmark by which to determine secured status).

For purposes of making a determination of entitlement to post-petition interest under Bankruptcy Code § 506(b) and for all other purposes, when the subject collateral has been sold, the value of a secured creditor’s collateral is determined based on the amount realized by the sale, regardless of when the sale occurred.


c. Valuation on a Going Concern Basis.

This valuation method is used when the proposed disposition or use of the property is in connection with a going concern. See, e.g., In re LTV Steel Co., Inc., 285 B.R. 259 (Bankr. N.D. Ohio 2002); In re Chateaugay Corp., 154 B.R. 29 (Bankr. S.D.N.Y. 1993); In re Wendy’s Food Sys., Inc., 82 B.R. 898 (Bankr. S.D. Ohio 1988). A going concern value is “the value . . . obtainable when all the operating assets of a business are sold as an entity so that the purchaser is able to project a profit from the operation of these assets.” Wendy’s, 82 B.R. at 899–900.

A going concern valuation requires an ongoing business. In re Bellanca Aircraft Corp., 56 B.R. 339, 386 (Bank. D. Minn. 1985). Going concern value is generally thought to be the true fair market value—that which would be obtained by a willing buyer and a willing seller. See, e.g., In re Hoffinger Indus., Inc., 313 B.R. 812 (Bankr. E.D. Ark. 2004). Going concern value applies only to the property needed to operate a business. In re Tennessee Chem. Co., 143 B.R. 468 (Bankr. E.D. Tenn. 1992).

d. Liquidation valuation.

When a business is in a precarious financial condition or on its financial “deathbed,” a liquidation value should be used to value the assets. In re Intercontinental Polymers, Inc., 359 B.R. 868 (E.D. Tenn. 2005). Under these circumstances, a going concern valuation is inappropriate. See In re Art Shirt Ltd., Inc., 93 B.R. 333, 342 (E.D. Pa. 1988); accord, Gillman v. Scientific Research Prod., Inc. of Delaware (In re Mama D’Angelo, Inc.), 55 F.3d 552, 555 (10th Cir. 1995) (it is well settled that if a company is only nominally in existence, use of liquidation value rather than going concern value is appropriate); In re Thomas, 246 B.R. 500, 505 (Bankr. E.D. Pa. 2000) (assets should be valued on a liquidation basis when the company is dissolving).

If a company is only nominally extant, to treat it as a going concern would be misleading and would fictionalize the company’s true financial condition. Mama D’Angelo., 55 F.3d at 555. Liquidation value is appropriate “if at the time in question the business is so close to shutting its doors that a going concern standard is unrealistic.” Id. (quoting In re Vadnais Lumber Supply, Inc., 100 B.R. 127, 131 (Bankr. D. Mass. 1989)).

e. Valuation in a plan cram-down.

When a plan proponent seeks confirmation of the plan and the cram-down provisions of § 1129(b) are implicated, the court may be called upon to value the allowed amount of a secured creditor’s claim when the debtor will retain the collateral subject to the secured creditor’s liens under the plan. Under the Bankruptcy Code, when the debtor will retain the secured creditor’s collateral, the secured creditor is entitled to receive deferred cash payments totaling the allowed claim amount of a value, as of the plan’s effective date, of the creditor’s interest in the estate’s interest in the value of the collateral. This clause will require a determination of the present value of the secured creditor’s claim as well as an appropriate interest rate. In re Marble Cliff Crossing Apartments, LLC, 2013 Bankr. LEXIS 567 (Bankr. S.D. Ohio 2013).


f. Evidentiary concerns in valuation.

As an evidentiary matter, the owner of property is qualified by ownership alone to testify as to its value. See Lawton v. Strong, 249 F.2d 299, 302 (6th Cir. 1957); Kinter v. United States, 156 F.2d 5, 7 (3d Cir. 1946); In re Levitt & Sons, LLC, 384 B.R. 630, 646 (Bankr. S.D. Fla. 2008).

No matter what the purpose of the valuation, the best evidence of the value of collateral is the consideration to be received by the estate in an actual sale. Ford v. Dobbins, 35 F.3d at 870; L. King, 4 Collier on Bankruptcy ¶ 506.03[6][b] (16th ed. Rev. 2013).

However, in certain circumstances courts may be reluctant to value collateral at a sale that has yet to occur. See In re Yellowstone Mountain Club, LLC, 410 B.R. 658, 661–62 (Bankr. D. Mont. 2009) (finding that the inclusion of a debtor’s equity interests in the assets to be sold at an auction of the debtor’s assets adds “speculation” and “uncertainty” to the valuation of the collateral securing the creditor’s lien).

The sale price received must be reduced by the costs of the sale. Case law establishes that when the debtor does not propose to retain the collateral, or a sale of the collateral is contemplated, the costs of sale are properly deducted from the gross sale price to arrive at “the creditor’s interest in the estate’s interest” in the property for purposes of § 506(a). In re Donley, 217 B.R. 1004 (Bankr. S.D. Ohio 1998); In re Williams, 224 B.R. 873 (Bankr. S.D. Ohio 1998); see also, In re Rivers End Apts., Ltd, 167 B.R. 470 (Bankr. S.D. Ohio 1994); In re Montgomery Ct. Apts. of Ingham Cty., Ltd., 141 B.R. 324 (Bankr. S.D. Ohio 1992). However, when the debtor proposes to retain collateral under a plan of reorganization, valuation of a claim secured by the collateral should not include a deduction for hypothetical costs of sale. In re McClurkin, 31 F.3d 401 (6th Cir. 1994).

The Bankruptcy Code provides a flexible standard for measuring value by specifying that the method for completing the valuation should vary depending on the purpose and the proposed disposition of the collateral in question. As a result of this flexibility, and by definition, except for certain instances involving individual debtors (discussed below) there can be no hard-and-fast rule governing the date as of which a § 506(a) valuation should take place.

Therefore the timing of the valuation of a secured creditor’s collateral can be critical. As collateral may increase or diminish in value over time, different values may appropriately be determined at different points in a bankruptcy case. An over-secured creditor may be entitled to accrue and receive post-petition interest pursuant to Bankruptcy Code § 506(b), whereas an undersecured creditor is not entitled to post-petition interest pursuant to § 502(b)(2). This is one of the ways in which the timing of valuations can be critical.

For individual debtors in cases under chapters 7 and 13 of the Bankruptcy Code, the valuation with respect to personal property is generally determined as of the petition date. 11 U.S.C. § 506(a)(2). In circumstances where § 506(a)(2) doesn’t


apply, case law has developed regarding the proper time as of which to make valuations for specific purposes. See, e.g., In re Tenna Corp., 801 F.2d 819 (6th Cir. 1986) (petition date, not date of avoidance action, is date as of which court should conduct hypothetical Chapter 7 distribution analysis to determine 11 U.S.C. § 547 preference); In re Royal Golf Products, 908 F.2d 91 (6th Cir. 1990) (in determining extent of preference under 11 U.S.C. § 547, court ascertains net worth of debtor as of time property transferred to determine actual value of security provided); In re May Reporting Services, Inc., 115 B.R. 652 (Bankr. D.S.D. 1990) (relevant time for assessing value of secured tax claim is petition date); In re Rack Engineering Co., 212 B.R. 98, 104 n.7 (W.D. Pa. 1997) (valuation to determine adequate protection payments is done as of the petition date; determination as to whether secured creditor is oversecured is made as of the date the creditor seeks adequate protection: “The Court believes that, consistent with Indian Palms, the existence and amount of a creditor’s oversecurity should technically be calculated as of the time when adequate protection is first sought . . . which time will not necessarily coincide with the petition filing date.”) (citing In re Indian Palms Assoc., Ltd., B.C., 61 F.3d 197 (3d Cir. 1995).

Creation, Perfection, Priority, Remedies, and Enforcement • 2.1

2 Creation, Perfection, Priority, Remedies, and Enforcement of Security Interests in Personal Property Under Article 9 of the Ohio UCC (Plus Forbearance)

John D. Robinett Ice Miller LLP

Columbus, Ohio

Article 9 of the Uniform Commercial Code is the framework for secured transactions in personal property, and it is codified in Chapter 1309 of the Ohio Rev. Code.

This chapter* will cover the procedures under Ohio Rev. Code Chapter 1309 in order to create, perfect and enforce the secured party’s security interests in personal property, including a discussion regarding types/definitions of collateral, form and place of filing for financing statements and secured party remedies if the debtor goes into default. In addition, the basics of a forbearance agreement will also be covered.

I. Types of Collateral/Definitions Under Ohio Rev. Code Chapter 1309 (§ 1309.102)

A. Accession.

B. Account.

* This chapter is just that: a chapter; it is not an exhaustive treatise. This chapter offers opinions and

recommendations of an informative nature, and should not be considered as legal or financial advice. As to any specific matter or transaction, readers should consult their own attorneys and other professional advisors to discuss their specific circumstances.


C. As-extracted collateral (considered goods after extraction, but not before).

D. Chattel paper.

E. Commercial tort claim.

F. Consumer goods (sub-type of goods).

G. Deposit account.

H. Document.

I. Electronic chattel paper (sub-type of chattel paper).

J. Equipment (sub-type of goods).

K. Farm products (sub-type of goods).

L. Fixtures (sub-type of goods).

M. General intangible.

N. Goods.

O. Health care insurance receivable (sub-type of account).

P. Instrument.

Q. Inventory (sub-type of goods).

R. Investment property:

1. Securities (certificated and uncertificated).

2. Securities account.

3. Security entitlement.

4. Commodity account.

5. Commodity contract.

S. Letter-of-credit right.

T. Manufactured home.

U. Payment intangible (sub-type of general intangibles).

V. Software (sub-type of general intangibles).

W. Supporting obligation.

X. Tangible chattel paper (sub-type of chattel paper).


II. Description of Collateral Under Ohio Rev. Code Chapter 1309

A. With certain exceptions, any description of personal or real property is sufficient whether or not it is specific if it reasonably identifies what is described. Ohio Rev. Code § 1309.108.

B. With certain exceptions, a description of collateral reasonably identifies the collateral if it identifies the collateral by:

1. Specific listing;

2. Category;

3. With certain exceptions, a type of collateral defined in Ohio Rev. Code Chapters 1301, 1302, 1303, 1304, 1305, 1307, 1308, 1309, and 1310;

4. Quantity;

5. Computational or allocational formula or procedure; or

6. With certain exceptions, any other method, if the identity of the collateral is objectively determinable.

C. With certain exceptions, a description of a security entitlement, securities account, or commodity account is sufficient if it describes the:

1. Collateral by those terms or as investment property; or

2. Underlying financial asset or commodity contract.

D. A description only by type of collateral defined in Chapters 1301, 1302, 1303, 1304, 1305, 1307, 1308, 1309 and 1310 of the Rev. Code is an insufficient description of:

1. A commercial tort claim; or

2. In a consumer transaction, consumer goods, a security entitlement, a securities account, or a commodity account.

E. “All assets” or “all personal property” of the debtor description of collateral.

1. Sufficient on financing statement. Ohio Rev. Code § 1309.504(B).

2. Not sufficient in security agreement. Ohio Rev. Code § 1309.108(C).

However, a description of “all assets of the debtor, including but not limited to all accounts, chattel paper, equipment, (etc.)” is a sufficient description of collateral to the extent of the types of collateral listed. See In re Lifestyle Home Furnishings, LLC, 2009 WL 1270317 (Bankr. D. Idaho May 2009).


F. Be careful when using describing types of collateral in certain situations.

For example, a computer software program on a disc is a “general intangible”, not goods.

III. Requirements for Security Agreement and Financing Statements

A. The debtor and the secured party need to enter into a “security agreement,” which means an agreement that creates or provides for a security interest.

B. Neither the debtor nor the secured party is required to sign a financing statement, but the debtor must authorize the secured party to file a financing statement.

By authenticating a security agreement, the debtor authorizes the filing of a financing statement covering the collateral described in the security agreement. Ohio Rev. Code §§ 1309.509(A) and (B).

C. Names of the debtor and the secured party.

1. Absolutely, positively need to use exact name of the debtor on the UCC-1 financing statement; get the name of the secured party right, too, while you are at it.

a. If the debtor is a “registered organization,” need to use exact name as set forth on the debtor’s “public organic record” most recently filed with the Secretary of State’s office. Ohio Rev. Code § 1309.503(A)(1) (revised effective July 1, 2013). Don’t rely on the debtor’s name in other references in the Secretary of State’s office records or certificate of good standing.

Case in point: In re C.W. Mining Co., 2009 WL 2601246.

i. Name of the debtor under organization documents: C.W. Mining Company.

ii. Name of the debtor listed on UCC-1 by the secured party: CW Mining Company.

iii. Court held that the secured party was not perfected because search logic used by filing office did not disclose the UCC-1 filing under the name “CW Mining Company” when the debtor’s true name “C.W. Mining Company” was searched.

b. The debtor’s trade or DBA name is not sufficient. Ohio Rev. Code § 1309.503(C). Don’t ever, ever use trade or DBA names, either alone or in additional to real name.


Case in point: In re EDM Corp., 2009 WL 367773.

i. Name of the debtor under organization documents: EDM Corporation.

ii. Name of the debtor as listed on UCC-1 by the secured party: EDM corporation d/b/a EDM equipment.

iii. Court held that the secured party was not perfected because search logic used by filing office did not disclose the UCC-1 filing under the name “EDM Corporation d/b/a EDM Equipment” when the debtor’s true name “EDM Corporation” was searched.

2. Specific rules if the debtor is an individual, estate or trust. Ohio Rev. Code §§ 1309.503. Revised as of July 1, 2013.

3. A financing statement that names a representative of the secured party is sufficient even if it does not indicate the representative capacity. Ohio Rev. Code § 1309.503(D).

IV. Perfection by Filing of Financing Statements Under Ohio Rev. Code Chapter 1309; Possessory Security Interests

A. For perfection by filing, must first determine if Ohio Rev. Code Chapter 1309 governs perfection of the security interest.

1. Local law of jurisdiction where the debtor is located governs. Ohio Rev. Code § 1309.301(A).

2. Determination of where the debtor is located. Ohio Rev. Code § 1309.307.

a. Individual: principal residence;

b. “Non-registered” organization with one place of business: its place of business;

c. “Non-registered” organization with multiple places of business: chief executive office; and

d. “Registered” organization that is organized under the law of a state is located in that state.

Registered organization: corporation, LLC, limited partnership.

B. If it is determined that the debtor is located in Ohio, and therefore Ohio law governs, then the financing statement is to be filed with the Ohio Secretary of State, except if collateral is fixtures (and the financing statement is filed as a fixture filing), as-extracted collateral or timber to be cut, the financing statement is to be filed with the recorder in the county in which the fixtures, as-extracted collateral or timber to be cut are located. Ohio Rev. Code § 1309.501(A).


C. Please note, however, while collateral is located in a jurisdiction, the local law of that jurisdiction governs perfection, the effect of perfection or non-perfection, and the priority of a possessory security interest in that collateral. Ohio Rev. Code § 1309.301(B).

V. Certain Perfection Rules Under Ohio Rev. Code Chapter 1309

A. General Rule: a financing statement must be filed to perfect all security interests. Ohio Rev. Code § 1309.310(A).

B. The secured party can also be perfected by taking possession of tangible negotiable documents, goods (other than goods subject to a certificate of title), instruments, money or tangible chattel paper. Ohio Rev. Code § 1309.313(A).

C. Perfection by possession of collateral (other than certificated securities [covered by Ohio Rev. Code § 1309.313(A)] and goods covered by a document [covered by Ohio Rev. Code § 1309.312(C) and (D)]) by bailee.

In this scenario, bailee must receive notice and authenticate a record acknowledging that it holds possession of the collateral for the secured party’s benefit. Ohio Rev. Code § 1309.313(C).

D. Perfection by possession of certificated securities by bailee.

In this scenario, bailee, other than a securities intermediary, must either acquire possession of the security certificate on behalf of the secured party or, having previously acquired possession of the certificate, acknowledges that it holds for the purchaser. Ohio Rev. Code § 1309.313(A); 1308.27 (UCC 8-301).

E. Deposit accounts. Security interest in deposit accounts can be perfected only by control. Ohio Rev. Code § 1309.312(B)(1)

F. Instruments.

1. The secured party can perfect security interest by possession or filing of financing statement.

2. However, perfection by possession of such collateral will generally take priority over perfection by filing. Ohio Rev. Code § 1309.330(D).

G. Investment property.

1. The secured party can perfect security interest by filing or control under Ohio Rev. Code Chapter 1309.

2. Perfection by control of such collateral will take priority over perfection by filing.


VI. Priority of Security Interests

A. The general rules for priority of multiple security interests in

collateral (subject to exceptions) are in Ohio Rev. Code § 1309.322.

Subject to certain exceptions, priority between conflicting security interests and

agricultural liens in the same collateral shall be determined according to the

following rules:

1. Conflicting perfected security interests rank according to priority in time of

filing or perfection. Priority dates from the earlier of the time a filing covering

the collateral is first made or the security interest lien is first perfected, if there

is no period thereafter when there is neither filing nor perfection.

2. A perfected security interest has priority over a conflicting unperfected security

interest. (Sometimes, we attorneys need to have the law state the obvious!)

3. The first security interest to attach or become effective has priority if conflicting

security interests are unperfected. (Maybe not quite so the obvious, so best the

UCC states this.)

4. The time of filing or perfection as to a security interest in collateral is also the

time of filing or perfection as to a security interest in proceeds; and the time of

filing or perfection as to a security interest in collateral supported by a

supporting obligation is also the time of filing or perfection as to a security

interest in the supporting obligation.

Recent case on priority of security interests and federal tax lien: In Re: Alpha

Protective Services, Inc., Debtor; Case No.: 12-70482 JTL, Chapter 7, Adv. No. 12-

07012; U.S. Bankr. Ct., Middle Dist. Ga., Columbus Div.; decided Oct. 11, 2013.

2013 Bankr. LEXIS 4304.

The issue in this case was whether accounts receivable acquired by the debtor

more than 45 days after the filing of a notice of tax lien on the debtor’s property

may be considered proceeds of contract rights acquired by the debtor prior to the

expiration of that 45-day period, so as to give the security interest of a commercial

creditor in the receivables priority over the tax lien, pursuant to 26 U.S.C.

§§ 6323(a) and (c). The court held although the debtor’s right to payment under

contracts to provide protective services was conditioned upon future performance, it

was nevertheless a contract right. Since a contract right arises when the contract

was made, debtor’s rights to payment under the contract arose prior to filing of the

tax liens and therefore the secured party’s prior perfected security interest in

debtor’s contract rights has priority over the IRS tax liens, even though some of

payments were made 45 days after the filing of a notice of tax lien on the debtor’s

property.


B. Purchase money security interests in collateral. Ohio Rev. Code § 1309.324.

1. With certain exceptions, a perfected purchase money security interest in goods other than inventory or livestock has priority over a conflicting security interest in the same goods, and, except as otherwise provided in Ohio Rev. Code § 1309.327, a perfected security interest in its identifiable proceeds also has priority, if the purchase money security interest is perfected when the debtor receives possession of the collateral or within twenty days thereafter.

2. With respect to inventory, a perfected purchase money security interest in inventory has priority over a conflicting security interest in the same inventory if:

a. The purchase money security interest is perfected when the debtor receives possession of the inventory;

b. The purchase money Secured Party sends an authenticated notification to the holder of the conflicting security interest;

c. The holder of the conflicting security interest receives the notification within five years before the debtor receives possession of the inventory; and

d. The notification states that the person sending the notification has or expects to acquire a purchase money security interest in inventory of the debtor and describes the inventory.

VII. Enforcement of Security Interests and Secured Party Remedies

A. After default by the debtor, the secured party may reduce a claim to judgment, foreclose, or otherwise enforce the claim or security interest by any available judicial procedure, and if the collateral is documents, proceed either as to the documents or as to the goods they cover. Ohio Rev. Code § 1309.601.

“Default” is not defined in Ohio Rev. Code Chapter and is left to be agreed to by the secured party and the debtor.

B. If so agreed by the debtor and the secured party, and in any event after default by the debtor, under Ohio Rev. Code § 1309.607, a secured party:

1. May notify an account debtor or other person obligated on collateral to make payment or otherwise render performance to or for the benefit of the secured party.

a. This remedy has received much discussion on the UCC Listserve (cite given later in the materials) regarding this remedy in a hypo where the debtor (who does not deny the default) has sued the secured party for shutting down the debtor’s


business because (i) account debtors stopped paying the debtor, and (ii) account debtors began to assert offsets to their underlying contracts with the debtor. Responses to the listserve included the following:

b. “The reason one would rarely see this claim made by the debtor who gave a security interest in the debtor’s accounts is that there appears to be nothing to it.”

c. Section 9-607 comment 2 states, “Collateral consisting of rights to payment . . . is property that may be collected without any interruption of the debtor’s business[.] This situation is far different from that in which collateral is inventory or equipment, whose removal may bring the business to a halt.”

d. The Debtor may have a viable claim if the secured creditor did not proceed in a commercially reasonable manner: the secured creditor may not have acted in a commercially reasonable manner if it sent out notices to parties that it has not verified are in fact account debtors at the time of the notice. If the secured creditor sent out a “blanket” notice based on a listing of parties that had been account debtors in the past, the debtor may have a claim that the notice to parties who do not owe the debtor any amount at the time of notice constitutes interference with a contractual relationship or disparagement.

e. I wouldn’t take the step of notifying account debtors unless I had a paper trail showing the debtor had been given every opportunity to avoid such a step (such as by providing additional collateral or taking other remedial action). The goal is to deprive the debtor of any color of a claim so as to avoid the cost of defending a law suit.

f. And finally, in response to the above comment:

Why? Does good faith require the provision of every opportunity before the use of a statutorily authorized and in nearly all cases (and in the hypothetical) contractually agreed upon remedy? I think not. The Debtor is in default. The way for the debtor to avoid its dilemma was to perform its obligations. Having failed to do so, I don’t see why a lender need undertake Herculean efforts to negotiate a new deal for the defaulted borrower before protecting itself.

2. May take any proceeds to which the secured party is entitled under Ohio Rev. Code § 1309.315.

3. May enforce the obligations of an account debtor or other person obligated on collateral and exercise the rights of the debtor with respect to the obligation of the account debtor or other person obligated on collateral to make payment or otherwise render performance to the debtor, and with respect to any property that secures the obligations of the account debtor or other person obligated on the collateral.

4. If the secured party holds a security interest in a deposit account perfected by control because the secured party is the depository bank, may apply the balance of the deposit account to the obligation secured by the deposit account.


5. If the secured party holds a security interest in a deposit account perfected by control because of a control agreement or by becoming the bank’s customer, may instruct the bank to pay the balance of the deposit account to or for the benefit of the secured party.

C. Under Ohio Rev. Code § 1309.609, after default, a secured party:

1. May take possession of the collateral and without removal, may render equipment unusable and dispose of collateral on the debtor’s premises, and in connection therewith, may so act pursuant to judicial process, or without judicial process if the secured party acts without breach of the peace.

Recent Ohio case held that grant of summary judgment in favor of the secured party was not appropriate where the debtor alleged that repo company hired by the secured party may have breached the peace when after the vehicle parked in a car port had been hooked up to tow truck, the debtor came out of house and reached to unhook the vehicle and the repo agent grabbed his hands, pushed him and began screaming at him, including “I’m going to make your neighbors know about what you’re doing[;] you rich bastard, I got you.” Although the debtor then pushed back and starting yelling at repo agent, the debtor eventually backed away and repo agent drove off with the car hooked to the tow truck. Ford Motor Credit Co. v. Ryan, 2010-Ohio-4601, 189 Ohio App. 3d 560 (Ohio App. 2010).

2. If so agreed, and in any event after default, may require the debtor to assemble the collateral and make it available to the secured party at a place that is designated by the secured party and that is reasonably convenient to both parties.

D. After default, the secured party may sell, lease, license, or otherwise dispose of any or all of the collateral in its present condition or following any commercially reasonable preparation or processing. Ohio Rev. Code § 1309.610.

1. Every aspect of a disposition of collateral, including the method, manner, time, place, and other terms, must be commercially reasonable. If commercially reasonable, the secured party may dispose of collateral by public or private proceedings, by one or more contracts, as a unit or in parcels, at any time and place, and on any terms.

Recent Ohio case held that grant of summary judgment in favor of the secured party was not appropriate where appeal court found that because the secured party’s agent was allegedly present at the property to sell some of the inventory and equipment, genuine issues of material fact exist with respect to the following: (1) whether the secured party had possession of all the inventory, not just the inventory it sold, (2) whether the secured party knew that there were drums of marketable chemicals within the premises, and (3) whether the secured party breached the terms of the security agreement by failing to dispose of the chemicals in a timely fashion and in a commercially reasonable manner, pursuant to Ohio Rev. Code § 1309.610, when it allowed allegedly viable, marketable, and useable


chemicals to sit for such an extended period of time that they turned into hazardous waste; and that a genuine issue of material fact existed with respect to whether the secured party breached its duty of good faith and fair dealing, which is implied in the performance of any contract, when it allegedly had possession of inventory in which it had a security interest, but allowed the inventory to deteriorate into hazardous waste. State ex rel. Cordray v. Estate of Roberts, 2010-Ohio-2003, 188 Ohio App. 3d 306, 935 N.E.2d 450 (Ohio App. 6th Dist. 2010)

2. A secured party may purchase collateral at a public disposition; or at a private disposition, but only if the collateral is of a kind that is customarily sold on a recognized market or the subject of widely distributed standard price quotations.

3. A contract for a sale, lease, license, or other disposition includes the warranties relating to title, possession, quiet enjoyment, and the like that by operation of law accompanies a voluntary disposition of property of the kind subject to the contract, but the secured party may disclaim or modify such warranties in a manner that would be effective to disclaim or modify the warranties in a voluntary disposition of property of the kind subject to the contract of disposition.

A record is sufficient to disclaim such warranties if it indicates “there is no warranty relating to title, possession, quiet enjoyment, or the like in this disposition” or uses words of similar import.

E. Notification of disposition of collateral.

1. A secured party that proposes to dispose of collateral as described in § D above must send an authenticated notification of the disposition to the following parties as required by Ohio Rev. Code § 1309.611:

a. The debtor;

b. Any secondary obligor (such as a guarantor); and

c. If the collateral is not consumer goods, any other:

i. Person from whom the secured party has received, before the notification date, an authenticated notification of a claim of an interest in the collateral;

ii. Secured party or lienholder who, 10 days before the notification date, held a security interest in or other lien on the collateral perfected by the filing of a financing statement (safe harbor under § 1309.611(E): a secured party complies with this requirement if, at least 20 but not more than 30 days before the notification date, the secured party requests, in a commercially reasonable manner, information concerning financing statements indexed under the debtor’s name in the applicable filing office (Secretary of State or county recorder)); and


iii. Any secured party who, 10 days before the notification date, held a security interest in the collateral perfected by compliance with certain other statutes, rules or treaties.

2. No such notification, however, must be given if the collateral is perishable or threatens to decline speedily in value or is of a type customarily sold on a recognized market.

3. Whether a notification is sent within a reasonable time is a question of fact, but a notification of disposition sent after default and 10 days or more before the earliest time of disposition set forth in the notification is sent within a reasonable time before the disposition. Ohio Rev. Code § 1309.612.

4. Under Ohio Rev. Code § 1309.613, in a non-consumer goods transaction, the contents of a notification of disposition are sufficient if the notification:

a. Describes the debtor and the secured party;

b. Describes the collateral that is the subject of the intended disposition;

c. States the method of intended disposition;

d. States that the debtor is entitled to an accounting of the unpaid indebtedness and states the charge, if any, for an accounting; and

e. States the time and place of a public disposition or the time after which any other disposition is to be made.

5. In a non-consumer goods transaction, although a particular phrasing of the notification is not required, the following form of notification provides sufficient information:

NOTIFICATION OF DISPOSITION OF COLLATERAL

To: (Name of Debtor, obligor, or other person to whom the notification is sent)

From: (Name, address, and telephone number of Secured Party)

Name of Debtor(s): (Include only if Debtor(s) is/are not an addressee)

(FOR A PUBLIC DISPOSITION:)

We will sell (or lease or license, as applicable) the (describe collateral) to the highest qualified bidder in public as follows:

Day and Date: ...................................................

Time: .................................................................

Place: ...............................................................


(FOR A PRIVATE DISPOSITION:)

We will sell (or lease or license, as applicable) the (describe collateral) privately sometime after (day and date).

You are entitled to an accounting of the unpaid indebtedness secured by the property that we intend to sell (or lease or license, as applicable) (for a charge of $ ......). You may request an accounting by calling us at (telephone number).

Ohio Rev. Code § 1309.613.

6. In a consumer goods transaction, the contents of a notification of disposition are similar to the above notification requirements, with the notification itself being in more “layman’s” terms. Ohio Rev. Code § 1309.614.

F. Application of proceeds of collection or enforcement. Ohio Rev. Code §§ 1309.608 and 1309.615.

1. Generally, the secured party shall apply or pay over for application the cash proceeds of collection or enforcement in the following order:

a. Reasonable expenses of retaking, holding, preparing for disposition, processing, and disposing of collateral, collection and enforcement and, to the extent provided for by agreement and not prohibited by law, reasonable attorney’s fees and legal expenses incurred by the secured party;

b. Satisfaction of obligations secured by the security interest under which the collection or enforcement is made; and

c. Satisfaction of obligations secured by any subordinate security interest in or other lien on the collateral subject to the security interest under which the collection or enforcement is made if the secured party receives an authenticated demand for proceeds before distribution of the proceeds is completed.

2. The secured party must account to and pay the debtor any surplus, and the debtor is liable for any deficiency.

G. Rights of transferees of collateral. Ohio Rev. Code § 1309.617.

1. The secured party’s disposition of collateral after default:

a. Transfers to a transferee for value all of the debtor’s rights in the collateral;

b. Discharges the security interest under which the disposition is made; and

c. Discharges any subordinate security interest or other subordinate lien other than the liens specified in Ohio Rev. Code § 1309.109(D).


2. A transferee who acts in good faith takes free of the rights and interests described in subsection 1 above, even if the secured party fails to comply with this Ohio Rev. Code Chapter 1309 or the requirements of any judicial proceeding.

3. If a transferee does not take free of the rights and interests described in subsections a, b, and c above, then the transferee takes the collateral subject to:

a. The debtor’s rights in the collateral;

b. The security interest under which the disposition is made; and

c. Any other security interest or other lien.

Ohio Rev. Code § 1309.617.

H. Subject to certain exceptions and requirements, the secured party may accept collateral in full or partial satisfaction of the obligation. Ohio Rev. Code §§ 1309.620-.622.

1. The debtor consents to an acceptance of collateral in partial satisfaction of the obligation it secures only if the debtor agrees to the terms of the acceptance in a record authenticated after default.

2. The debtor consents to an acceptance of collateral in full satisfaction of the obligation it secures only if the debtor agrees to the terms of the acceptance in a record authenticated after default or the secured party:

a. Sends to the debtor (and other parties to which the secured party is required to give notice) after default a proposal that is unconditional or subject only to a condition that collateral not in the possession of the secured party be preserved or maintained;

b. In the proposal, proposes to accept collateral in full satisfaction of the obligation it secures; and

c. Does not receive a notification of objection authenticated by the debtor within 20 days after the proposal is sent.

3. A secured party’s acceptance of collateral in full or partial satisfaction of the obligation it secures:

a. Discharges the obligation to the extent consented to by the debtor;

b. Transfers to the secured party all of a Debtor’s rights in the collateral;

c. Discharges the security interest or agricultural lien that is the subject of the debtor’s consent and any subordinate security interest or other subordinate lien; and

d. Terminates any other subordinate interest.


VIII. Some Traps to Avoid and Tips When Enforcing Security Interests

A. There are restrictions/prohibitions on waivers and variance of rights of the debtor and duties of the secured party under Ohio Rev. Code §§ 1309.602.

But after default, the debtor can waive notification of disposition of collateral and the secured party should have the debtor acknowledge and agree in an authenticated record (such as modification or forbearance agreement) to waive notification of disposition of collateral. Ohio Rev. Code § 1309.624(A).

B. The debtor, any secondary obligor, or any other secured party or lienholder may redeem collateral pursuant to Ohio Rev. Code § 1309.623.

But after default the debtor or secondary obligor in a non-consumer goods transaction can waive its right to redeem collateral and the secured party should have the debtor (and any secondary obligor if possible) acknowledge and agree in an authenticated record (such as modification or forbearance agreement) to waive the right to redeem collateral. Ohio Rev. Code § 1309.624(C).

C. If it is established that the secured party is not proceeding in accordance with Ohio Rev. Code Chapter 1309, then a court may order or restrain collection, enforcement, or disposition of collateral on appropriate terms and conditions. In addition, a secured may be liable for damages in the amount of any loss caused by a failure to comply with Ohio Rev. Code Chapter 1309. Ohio Rev. Code § 1309.625.

D. If the secured party is enforcing its collection rights under Article 9, then the secured party should not give impression that law enforcement agencies are involved: if Secured Party is repossessing collateral pursuant to § 1309.609, don’t bring along a deputy sheriff because this may inhibit the debtor from objecting to the repossession - could be viewed as a constructive breach of the peace.

IX. UCC Article 9 Resources

A. Practice Under Article 9 of the UCC (2d Ed.), Uniform Commercial Code Committee of the ABA Section of Business Law (2013).

B. UCC Listserve: To subscribe or unsubscribe by internet, visit http://lists .washlaw.edu/mailman/listinfo/ucclaw-l or, by e-mail, send a message with subject or body ‘help’ to [email protected]

X. Forbearance Agreements

After default, rather than the secured party exercising its remedies under the

UCC and other applicable law, the secured party and the debtor may agree to enter

into a forbearance agreement when there are reasonable expectations that the

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debtor’s business will improve or other events may happen in the future that will

get the credit back to a performing basis. In a forbearance agreement, the secured

party agrees to forbear from exercising its remedies (under the UCC and otherwise)

for a certain period of time based on certain conditions. A forbearance agreement

typically covers these matters:

A. All relevant parties, including the debtor, any guarantors and non-recourse

pledgors of collateral, are signatories to, and thus bound by, the forbearance

agreement.

B. All existing defaults are listed and the debtor related parties acknowledge

and agree that the existing defaults have occurred and remedies with respect to

existing defaults are not waived.

C. All existing loan/obligations are listed and the debtor related parties

acknowledge and agree that the existing loan/obligations are outstanding and

such amounts are payable to the secured party without any offsets or other

deductions.

D. The debtor-related parties acknowledge and agree that the forbearance

does not impose upon the secured party any obligation, express or implied, to

consent to any amendment or modification of the credit documents, nor prejudice

any right or remedy that the secured party may now have or may in the future

have under applicable law and the credit documents including, without

limitation, any right or remedy resulting from any default or event of default.

E. Specific terms are agreed to (including period of forbearance, no

additional defaults, forbearance fees, additional collateral and other reports to

be provided, etc.)

F. Debtor and related parties waive notification of disposition of collateral

as permitted under Ohio Rev. Code § 1309.624(A).

G. Debtor and related parties waive any and all claims, known and

unknown, that do or may then exist against the secured party and its affiliates.

H. Except as may be modified by the forbearance agreement, the debtor

and related parties agree and confirm that the loan documents and all collateral

provided remain in full force and effect.

I. Except for the existing defaults, the debtor and related parties agree and

reaffirm that all of their respective representations and warranties made in the

loan documents and remain true, accurate and complete.


XI. Quiz Time: How Does UCC Article 9 Apply to Certain Situations and the Secured Party’s Ability to Enforce Its Security Interest in Collateral?

A. Situation 1.

To secure a loan from SP1, D grants a security interest in all of its assets to SP1 and SP1 perfects its security interest by filing a financing statement in the appropriate office. Later, D files a termination statement that has not been authorized by SP1. D then approaches SP2 about another loan. SP2 does a UCC search and finding the filed termination statement, extends credit to D, which grants a security interest in all of its assets to SP2 and SP2 perfects its security interest by filing a financing statement in the same office. Of course, D goes into default on both loans and SP1 and SP2 each claim a first priority security interest in the collateral. Who wins?

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B. Situation 2.

D, an Iowa corporation, secures a loan from SP, a Virginia state chartered bank, by granting a security interest in membership interests D owns in Company X, an Ohio LLC which has not opted to have its membership interests be considered securities for purposes of UCC Article 8. SP takes physical possession of the certificates representing the membership interests, together with a transfer power. Thereafter, D files for bankruptcy. SP claims a perfected security interest in the membership interests due to its possession of the certificates and the power, but the bankruptcy trustee claims a paramount interest therein. Who wins?

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C. Situation 3.

A financing statement filed today, November 13, 2013, is effective through and including November 13, 2018, right?

___________________________________________________________________________

D. Situation 4.

D, a Pennsylvania limited partnership, secures a loan from SP1, a Vermont state chartered bank, by granting a security interest in 1000 shares D owns of Company X, a Kansas corporation. SP1 files a financing statement in the appropriate office to perfect its security interest. Several months later, D secures an additional loan from SP2, a Colorado LLC, by granting a security interest in the same 1000 shares D owns of Company X. Rather than filing, SP2 perfects its security interest by taking possession of the stock certificate and a stock power. SP2 does not do a UCC search and otherwise has no knowledge of the prior perfected security interest D granted to SP1. Which SP has the first priority position to the shares?

___________________________________________________________________________


E. Situation 5.

Same situation as Situation 4 above, but this time SP2 does a UCC search, finds the filing in favor of SP1, but goes ahead and makes the loan and take possession of the stock certificate with a stock power, knowing full well that SP 1 has a perfected security interest in the stock. Which SP has priority now?

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F. Situation 6.

D, which is a Nevada LLC, is the sole franchisee in the US to sell Robinett’s “Keys to Shooting Par Golf®” CDs at its retail stores. All of the D’s stores are located in Florida. To secure its revolving credit loan, D grants SP a security interest in all of its “inventory”, as defined in the UCC. Is the filing of a financing statement in Nevada listing the collateral as “all inventory” of D sufficient to perfect a security interest in the Robinett’s Keys to Shooting Par Golf® CDs which are physically located at D’s stores in Florida?

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G. Situation 7.

D generates accounts receivable for services rendered to an Ohio state university, and D grants to SP a security interest in its accounts receivable, including those of the state university, to secure SP’s loans to D. D defaults under the loan and SP gives notice to the state university, as an account debtor, to pay its account payable owed to D directly to SP as provided under Ohio Rev. Code § 1309.607(A)(1). Notwithstanding the receipt of such notice to pay, the state university pays the money to the D and not the SP. SP sues the state university to recover the payment made to the D as provided in Ohio Rev. Code § 1309.406. Does the state university also have to pay the amount of the account to D since it did not follow the mandate of Ohio Rev. Code § 1309.406?

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H. Situation 8.

In order to perfect a purchase money security interest in a specific piece of equipment, does a SP need to specifically describe the equipment on the UCC financing statement (e.g., “2013 Towmotor Fork Lift, Model XYZ, Serial Number 12345”), or will a general reference to the type of collateral (“all equipment”) be sufficient?

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ANSWERS

A. Situation 1.

SP1 wins because the alleged termination statement was not authorized by SP1, and therefore is not effective. §§ 9-509(d) and 9-510. The burden/risk is on searcher to confirm that a filed termination statement (or any other filing for that matter) is effective or not.

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B. Situation 2.

The trustee because the SP does not have a perfected security interest.

Under UCC § 8-103, an interest in a partnership or limited liability company is not a security unless it is dealt in or traded on securities exchanges or in securities markets, its terms expressly provide that it is a security governed by this section, or it is an investment company security. However, an interest in a partnership or limited liability company is a financial asset if it is held in a securities account.

Otherwise, an interest in a partnership or limited liability company is a general intangible and the only way to perfect a security interest as to general intangibles is by filing a financing statement.

Remember that an interest in a partnership or limited liability company may be a “security” when dealing with state and federal securities laws.

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C. Situation 3.

Maybe, maybe not. Section 9-515(a) provides that a filed financing statement is effective for a period of five years after the date of filing. So a financing statement filed today may be good through November 13, 2018, the five-year anniversary of the filing. There is case law to this effect. However, in discussing a situation involving continued effectiveness of a financing statement after a change in governing law under § 9-316, Example 2 under Comment 2 to this section in essence confirms that the effectiveness of a financing statement filed on November 13, 2013, lapses on November 12, 2013, one day before the five-year anniversary. The Ohio Secretary of State’s webpage shows the lapse date as the five-year anniversary date, not the day before.

Good practice is file a continuation statement as early as possible during the six-month period prior to lapse date so you don’t get caught “$1 million short and a day late.”

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D. Situation 4.

SP2 because § 9-328(1) states that a security interest held by a SP having control of investment property (which in this case is a certificated security) under § 9-106 of the Ohio Rev. Code has priority of a security interest held by a SP that does not have control of the investment property.

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E. Situation 5.

SP2 for the same reason. A SP with control beats another SP who perfected by the filing of financing statement, even if the SP with control has knowledge of the prior filing. This is a structural rule, based on the principle that a Secured Party should be able to rely on the collateral without question if the SP has taken the necessary steps to assure itself that it is in position where it can foreclose on the collateral without further action by the D.

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F. Situation 6.

No. Let’s work our way through the definitions of Article 9:

“Software” means a computer program and any supporting information provided in connection with a transaction relating to the program. “Software” does not include a computer program that is included in the definition of goods.

“Goods” means all things that are movable when a security interest attaches.

“Goods” does not include a computer program embedded in goods that consist solely of the medium in which the program is embedded.

“Goods” also includes a computer program embedded in goods and any supporting information provided in connection with a transaction relating to the program if (i) the program is associated with the goods in such a manner that it customarily is considered part of the goods, or (ii) by becoming the owner of the goods, a person acquires a right to use the program in connection with the goods.

“General intangible” includes payment intangibles and software.

The Robinett’s Keys to Shooting Par Golf® CDs are “software” and not “goods”; the definition of “inventory” requires that it must be “goods”; therefore, because in this scenario “software” is not “goods” but a “general intangible”, it can’t be “inventory” so the security agreement and UCC financing statement listing the collateral as inventory is not sufficient to create or perfect the hoped for security interest in the Robinett’s Keys to Shooting Par Golf® CDs.

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G. Situation 7.

Unfortunately, because we are in Ohio, the state university is able to sprint away from its liability and does not have to pay the SP to discharge its obligation under Ohio Rev. Code § 1309.406 because a 2005 decision by the Supreme Court of Ohio got the law wrong and held that UCC Article 9 did not apply to the transfer of the funds by the state university. MP Star Fin., Inc. v. Cleveland State Univ., 837 N.E.2d 758 (Ohio 2005). The rationale was based upon Ohio’s insertion of a non-uniform provision (adopted by a number of other states and which was part of former Article 9) making Article 9 inapplicable to “a transfer by a government, state or governmental unit”. To add insult to injury, the Supreme Court refused to consider the relevant comment to this UCC section, which makes it crystal clear that the Article 9 applies to this situation. But having determined that Article 9 did not apply, the Court further didn’t determine what other Ohio law would apply, such as the common law of Ohio. It would seem that the common law of contracts parallels § 1309.406 in stating, in effect, that the account debtor can’t discharge its obligation by paying the assignor after the account debtor has received notice of the assignment. See Restatement (Second) of Contracts 338(1) and comment e; Restatement of Contracts 170(2)(a).

So if you are a SP whose collateral includes accounts receivable from a governmental agency, you may need to get a written agreement from the agency that it will honor any demand to pay the accounts to the SP after a default by the debtor.

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H. Situation 8.

Ohio case law correctly held that a general description was sufficient. Specific description not required to create or perfect a security interest, purchase money or otherwise.

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