Obtaining a Uniform Commercial Code (UCC) search is a useful tool to help determine if and to what extent a company’s personal property is encumbered and the priority of a perfected security interest. However, UCC-1 financing statements (financing statements) are not indexed immediately upon filing, and search results only include filings that have been indexed. As a result, properly filed financing statements will not show up in a search for some period of time. Although it changes over time, an anecdotal review of recent searches showed that across eight jurisdictions this gap ranged from two or three days to almost three weeks. A secured lender must take this gap into account when taking and dealing with collateral.
Loan Origination
At the loan origination stage, a lender typically obtains a UCC search prior to the closing to determine the status of the potential borrower’s collateral and the priority of the security interest that will secure the new loan. However, based on this indexing gap, there is a possibility of unknown security interests or liens being of record that are senior and prior in right to the lender’s security interest yet unknown to the lender. Although this could create a huge problem, there is a way of avoiding the issue.
Often the financing statement for a new loan is filed at the time of closing. By signing the security agreement, the borrower (or guarantor) automatically authorizes the filing of a financing statement. However, the UCC expressly allows a financing statement to be filed before the security agreement is executed as long as the party that will be granting the security interest provides signed written authorization to file.
One method to obtain the needed authorization is to include it in the loan commitment letter, possibly coupled with an agreement to terminate the filing if the loan does not close. Once all parties that will be granting security interests for the loan have signed and returned the commitment letter, the lender can prepare and file or have its counsel prepare and file the financing statements for the transaction. Alternatively, although slightly later in the process, the lender or its counsel can obtain signed written authorization from the parties granting security interests at the outset of the loan document preparation stage and file the financing statements once the signed authorizations are received.
Provided the pre-closing UCC searches are long enough after the filing date to account for the indexing gap,1 the lender’s new financing statement will be included in the search, and the lender can be assured it is obtaining the priority it requires.2
Enforcement
The indexing gap is less of an issue at the enforcement stage. In most circumstances, if the lender is selling collateral at a public or private sale or accepting collateral in full or partial satisfaction of the obligation, it must provide written notice to, among others, parties holding a security interest in or other lien on the subject collateral that has been perfected by filing a financing statement. In each situation, the UCC describes the specific time frame for the needed UCC search. However, the duty to provide notice is based on financing statements that are indexed (not just filed) as of the required date. Accordingly, as long as the search was conducted at the proper time, it is irrelevant for notice purposes if there are additional financing statements that have not been indexed and, therefore, were not included in the search.3
If not appropriately addressed, the UCC filing indexing gap can interfere with a lender’s expected lien priority. However, taking appropriate pre-closing actions and properly timing searches can eliminate this risk.
The Thought Leadership Committee of Barclay Damon’s Restructuring, Bankruptcy & Creditors’ Rights Practice Area issues alerts and blogs on an ongoing basis to keep clients, colleagues, and friends up to date on important developments in the insolvency space. If you have any questions regarding the content of this alert, please contact the author, Robert Wonneberger, Thought Leadership Committee chair, at rwonneberger@barclaydamon.com, or Janice Grubin or Jeff Dove, Restructuring, Bankruptcy & Creditors’ Rights Practice Area co-chairs, at jgrubin@barclaydamon.com and jdove@barclaydamon.com.
1Other types of encumbrances may be perfected by filing in a location other than the filing location of the lender’s financing statement, and these filing locations likely have their own indexing gap. To ensure the lender’s priority, those searches must be timed so that the index date is later than the filing date of the lender’s financing statement.
2This discussion addresses only security interests and liens that are perfected by filing a financing statement in the same location as the lender’s new financing statement. For a discussion of other liens and security interests, see our previous alert, “Security Interest Priority Issues: First to File Might Not Be First in Right.”
3The detailed notice and other requirements in connection with secured party collateral sales and acceptance of collateral in full or partial satisfaction of the obligation are outside the scope of this alert. Lenders should work with experienced counsel to understand and fulfill these requirements.