Part V Perfecting an Article 9 Security Interest
Chapter 22 Perfection as to Deposit Accounts, Letter of Credit Rights and Electronic Chattel Paper
A. Generally
As noted in Chapter 21 (Perfection as to Investment Property), former Article 9 made control as the preferred mode of perfection of a security interest in investment property. Under new Article 9, control is a means of perfecting security interests in collateral other than investment property. As to certain collateral, control is the only way a security interest can be perfected.
New section 9-314(a) provides that a security interest in investment property, a deposit account, a letter-of-credit right, or electronic chattel paper may be perfected by control of the collateral. Investment property is dealt with in Chapter 21 (Perfection as to Investment Property). The other types of collateral as to which control is proper or required are treated separately below. "Control" is defined separately for each type of collateral.
It should also be understood that control can serve to render a security interest enforceable without the need for an authenticated security agreement. On this point you should review Chapter 8 (The Specifics of Enforceability – A Security Agreement Authenticated by the Debtor or Its Equivalent).
B. Deposit Accounts
As was seen in Chapter 4 (Scope of Article 9), under former Article 9 security interests in deposit accounts were covered only as proceeds and security interests in deposit accounts as original collateral were outside the scope of former Article 9. Consequently, a creditor had to perfect such interests pursuant to law outside Article 9.
As also noted in Chapter 4 new Article 9 makes a major change as to security interests in deposit accounts. Under new 9-109(d)(13), a security interest in a deposit account as original collateral, other than in a consumer transaction, is covered by new Article 9.
In Chapter 5 (Classification of Collateral), it was seen that as defined in new section 9-102(a)(29) a deposit account is essentially a general bank account. Under the definition investment property and accounts evidenced by an instrument are not deposit accounts but, contrary to former Article 9, a certificate of deposit that is not an instrument may be a deposit account.
Because deposit accounts are pure intangibles, possession is not a permissible mode of perfection of a security interest in a deposit account. As a rule, filing is a proper way to perfect a security interest in a pure intangible, see Chapter 12 (Perfection Generally), but under new section 9-312(b)(1) a security interest in a deposit account may be perfected by filing only where the deposit account is proceeds. A security interest in a deposit account as original collateral must be perfected by control.
Under new section 9-104(a), a secured party has control of a security interest in a deposit account where:
(1) The secured party is the bank at which the account is maintained;
(2) The bank has agreed in an authenticated record to comply with the secured party's instructions without further assent by the debtor; or,
(3) the secured party becomes a "customer" with respect to the account.
Article 4, section 4-104(a)(5) indicates that "customer" means "a person having an account with a bank or for whom a bank has agreed to collect items, including a bank that maintains an account at another bank." There is control under new section 9-104(b) even if the debtor has a continuing right to withdraw funds from the account. Under new section 9-314(b), perfection of a security interest in a deposit account by control dates from the time the secured party obtains control and continues only so long as the secured party has control.
In Sonic Engineering, Inc. v. Konover Construction Co. South, 51 UCC Rep Serv. 2d 844 (Conn Super Ct 2003) the court concluded that a secured party had obtained control of a deposit account pursuant to an agreement between the secured party and the bank despite the fact that the debtor had access to the deposit account.
As will be seen in Part VI, a security interest in a deposit account perfected by control has priority over a security interest in the deposit account that is proceeds and is perfected by filing.
For a helpful article explaining the many intricacies associated with deposit accounts as collateral, see Markell, From Property to Contract and Back: An Examination of Deposit Accounts and Revised Article 9, 74 Chicago Kent L. Rev. 963 (1999).
C. Electronic Chattel Paper
As explained in Chapter 5 (Classification of Collateral), there are two kinds of chattel paper, tangible and electronic. Tangible chattel paper is a form of quasi-goods a security interest in which may be perfected by filing or by possession.
What would amount to electronic chattel paper could exist under former Article 9 but would fall within the definition of general intangibles in former section 9-106 and a security interest in such collateral would have to be perfected by filing.
New Article 9 separately defines electronic chattel paper in new section 9-102(a)(31) and electronic chattel paper is excluded from the definition of general intangibles in new section 9-102(a)(42). However, because electronic chattel paper is a pure intangible a security interest in it may be perfected by filing. Under new section 9-314(a) a security interest in electronic chattel paper also may be perfected by control.
Control as to electronic chattel paper is governed by new section 9-105. The essence of new section 9-105 is that there is control as to electronic chattel paper if the chattel paper is created, stored and assigned in such a manner that:
(1) there is a single authoritative copy of the record or records of which the chattel paper consists that is unique and identifiable;
(2) the authoritative copy identifies the secured party as the assignee of the record or records;
(3) the authoritative copy is maintained by the secured party;
(4) the authoritative copy cannot be duplicated or altered without the participation of the secured party;
(5) any copy that is not the authoritative copy is readily identifiable as being unauthorized; and
(6) any revision of the authoritative copy is readily identifiable as being authorized or unauthorized.
Under new section 9-105, control of electronic chattel paper turns generally on the existence of a single authoritative copy of the electronic record or records of which the electronic chattel paper consists and the fact that copies and revisions are not possible, or at least not practically so, without the secured party's participation. Determining just when the conditions of "control" as to electronic chattel paper have been met is a matter that largely has been left by new Article 9 to business practices and developing technologies. See Official Comment 4 to new 9-105.
Control requires that there be more than an agreement between the secured party-assignee and the assignor that the latter will not change the designated assignee without the secured party’s consent. However, there can be control even when the mechanisms employed do not eliminate entirely the possibility that the secured party's interest could be subverted by the wrongful conduct of a person acting on the secured party's behalf. See Official Comment 4 to new 9-105.
Under new section 9-314(b), perfection by control of a security interest in electronic chattel paper dates from the time the secured party obtains control and continues only so long as the secured party has control.
As will be seen in Chapter 29 (Secured Party Versus Secured Party (continued)), under new section 9-330, certain purchasers of chattel paper can get priority over a security interest in chattel paper perfected by filing. Consequently, the preferred method of perfecting a security interest in electronic chattel paper is by control and for tangible chattel paper perfection by possession is advisable.
It has been observed that the electronic chattel paper provisions of new Article 9 represent a major innovation aimed at removing existing legal barriers to electronic commerce. See Winn, Electronic Chattel Paper under Revised Article 9: Updating the Concept of Embodied Rights for Electronic Commerce, 74 Chicago Kent L. Rev. 1055 (1999). In her article, Professor Winn also explores the interesting questions posed by the reality that much electronic chattel paper will result from the conversion of tangible chattel paper to electronic chattel paper.
D. Letter of Credit Rights
Former Article 9 looked to Article 5 for assistance in defining interests in letters of credit. New Article 9 separately defines a "letter of credit right" in new section 9-102(a)(51). Under this definition "letter-of-credit right" means a right to payment and performance under a letter of credit as defined in Article 5, section 5-102(a)(10). The right of a beneficiary to demand payment or performance is excluded from "letter of credit right" as defined in new section 9-102(a)(51).
The reason for the exclusion is that new Article 9 adopts the distinction between an assignment of a letter of credit and a transfer of a letter of credit. New Article 9 deals only with assignments (for security) of letter of credit rights. Transfers of a beneficiary's rights are governed by Article 5. See Official Comment 5(e) to new 9-102 and new 9-109(c)(4) (recognizing the independent and superior rights of a transferee beneficiary under Article 5, section 5-114(e)).
Under new Article 9, sections 9-312(b)(2) and 9-308(d), except insofar as a letter of credit right constitutes a supporting obligation (as defined in new section 9-102(a)(77)), a security interest in a letter of credit right may be perfected only by control.
The distinction between an assignment of a letter of credit right and a transfer of a letter of credit referred to above carries over to the definition of control as to a letter of credit right. Under new section 9-107 control as to a letter of credit right is accomplished through an agreement by which the issuer or nominated person consents to an assignment of the proceeds of a letter of credit to the secured party. Proceeds as used in new section 9-107 means the beneficiary of a letter of credit's right to receive payment under a letter of credit. See Article 5, section 5-114(a) and Official Comment 4 to new 9-107.
As with other perfection by control situations other than those involving investment property, perfection by control of a security interest in a letter of credit right begins when control is obtained and continues until control is relinquished. New 9-314(b).
Perfection of a security interest in the above-discussed collateral and the essence of the concept of control as a means of perfecting a security interest in such collateral can be gained by working through the next problem.
Problem 22.1 (interactive)
Southwestern Bank wishes to lend to Donald Debtor on a secured basis. Donald has offered the following as collateral:
(a) A general bank account in Southwestern Bank;
(b) A negotiable certificate of deposit;
(c) An interest in a written contract for the sale of equipment that evidences both the debt for the price of the equipment and a security interest in the equipment;
(d) An interest in a contract such as that in (c) that is in electronic form;
(e) A security interest in Donald's right to payment under a letter of credit (that is not a supporting obligation); and
(f) A certificated security in bearer form.
As to which items of collateral may Southwestern perfect its security interest by filing?
How should Southwestern perfect its security interests in each item of collateral?
Exactly what must Southwestern do to perfect its security interest in negotiable CD and the tangible chattel paper in the preferred manner?
Exactly what must Southwestern do to perfect its security interest in the certificated security in bearer form in the preferred manner?
Exactly what must Southwestern do to perfect its security interest in the general bank account?
Exactly what must Southwestern do to perfect its security interest in the letter of credit right?
Exactly what must Southwestern do to perfect its security interest in the electronic chattel paper in the preferred manner?
Is an authenticated security agreement required for enforceability and attachment of the security interests perfected in the preferred manner?
CASE COMMENTARY
In re Clayson, __ B.R. __, 2006 WL 864299 (Bkcy W.D.N.Y March 24, 2006)
Counseller v. Ecenbarger, Inc., 834 N.E.2d 1018 (Ind. App. 2005)
Madisonville State Bank v. Citizens Bank, 184 S.W.3d 835 (Tex. App. 2006)
2009-02-01 Update