Fundamentals of Business Law

Business

Quiz 18 :

Security Interests in Property

Quiz 18 :

Security Interests in Property

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Nero needs $500 to buy textbooks and other supplies. Olivia agrees to loan Nero $500, accepting Nero's computer as collateral. They put their agreement in writing. How can Olivia let other creditors know of her interest in the computer? (See Perfection of a Security Interest.)
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Perfection relates to the steps required be taken in order to make a security interest effective against the claims of third parties and/or to retain the effectiveness in case the grantor of the security interest defaults.
A creditor can let other creditors know of her interest in the collateral by perfecting its interest in two ways:
a) By filing a financing statement in the appropriate public office giving public notice to the third parties. Such financing statements must comprise the names of the debtor and the secured party, and the nature of the collateral covered.
b) By taking possession of the collateral until the repayment of the loan by debtor.

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Priorities. EX Services, Inc., was an excavating business. Union Bank made loans to EX, subject to a perfected security interest in its equipment and other assets, including "after-acquired property." In late 2006, EX leased heavy construction equipment from Mac's Machinery. The lease agreements required monthly payments, which EX often made late or missed. After eighteen months, Mac's demanded that EX either return the equipment or buy it. While attempting to obtain financing for the purchase, EX continued to make monthly payments. In November 2009, Mac's, which had not filed a financing statement to cover the transaction, demanded full payment of the amount due. Before paying the price, EX went out of business and surrendered its assets to Union, which prepared to sell them. Mac's objected and filed a lawsuit against Union to recover the equipment, claiming that the bank's security interest had not attached to the equipment because EX had not paid for it. Who has priority to the equipment, and why?
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Security interest provides creditors with a lien at the same time, when debtors exercise control over the goods. The facts indicate that the debtor was using the equipment in its commercial activities. The commercial use was subjected to the perfected security interest of Union.
As per the case, the debtor's interest in the equipment was not perfected. The law of priorities as set forth in Uniform Commercial Code Article 9 provides that first perfection takes priority over unperfected security interests. The creditor's interest takes priority over unperfected interests.

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Purchase-Money Security Interest. In 2007, James Cavazos purchased a new Mercedes vehicle from a dealer and gave JPMorgan Chase Bank (Chase) a purchase-money security interest (PMSI) in the car. The state recorded Chase's lien on the original certificate of title. Cavazos then forged a release of the lien against the title and received a certified copy of the original title. In reliance of that title, NXCESS Motor Cars, Inc., bought the car. It sold the car to Xavier Valeri, who granted a PMSI to U.S. Bank. NXCESS warranted that the title was free of all liens. When a new title was issued, Chase learned of Cavazos's forgery It sued Cavazos, Valeri, and U.S. Bank for conversion (see Chapter 4). It demanded possession of the vehicle and that Cavazos repay the loan. Valeri and U.S. Bank contended that they were buyers in the ordinary course of business and had good title to the Mercedes because the state provided a title free of liens and claims. Cavazos is liable on the loan, but who has the right to possess the car? Which purchase-money security interest dominates? Explain your answers. [ NXCESS Motor Cars, Inc. v. JPMorgan Chase Bank, N.A. 317 S.W3d 462 (Tex.App.-Houston 2010)]
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Facts:
Person J bought a New Mercedes-Benz from a dealer. J offered a purchase money security interest (PMSI) to JP Bank. The purchase automatically created a lien for JP Bank. JP Bank secured the lien with the State office. Later, J forged the release of the lien against the title.
Relying on this title, Company NX bought the car and sold it to Person X. NX warranted that the title was clean. X offered a PMSI to US bank. A new title was issued and JP Bank learned of the new lien and it sued J, X and US bank.
Purchase Money Security Interest:
It refers to a security interest in a property which is created automatically when a buyer purchases goods. The sale automatically creates a security interest in the purchase made. The interest enables a lender to obtain a prior ranking of the interest on the property over the other secured creditors. Section 102 (a) (2) of Uniform Commercial Code (UCC) creates an interest in purchase transactions.
Outcome:
In this case, JP bank has a lien on the car. Thus, its security interest will be given priority than the US bank. JP bank secured the lien over the car first and the bank was not aware of the forgery. Thus, US bank cannot claim its interest on the property.
US bank failed to check whether there are any liens issued over the car previously or not. Thus, JP Bank has the right to possess the car.
The Security interest that JP has in the car prevails over a security interest that US bank has over the car. As JP bank offered the money for the purchase of Mercedes Benz and immediately secured the asset by registering with the state authorities.
Thus, it can be concluded that the PMSI created in favor of JP bank dominates over the PMSI created in favor of US bank.

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What is the most common method of perfecting a security interest under Article 9?
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What is a security interest? Who is a secured party? What is a security agreement? What is a financing statement?
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The four Learning Objectives below are designed to help improve your understanding of the chapter. After reading this chapter, you should be able to answer the following questions: If two secured parties have perfected security interests in the collateral of the debtor, which party has priority to the collateral on the debtor's default?
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Priority Disputes. Redford is a seller of electric generators. He purchases a large quantity of generators from a manufacturer, Mallon Corp., by making a down payment and signing an agreement to pay the balance over a period of time. The agreement gives Mallon Corp. a security interest in the generators and the proceeds. Mallon Corp. properly files a financing statement on its security interest. Redford receives the generators and immediately sells one of them to Garfield on an installment contract with payment to be made in twelve equal installments. At the time of the sale, Garfield knows of Mallon's security interest. Two months later, Redford goes into default on his payments to Mallon. Discuss Mallon's rights against purchaser Garfield in this situation. (See Priorities.)
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The four Learning Objectives below are designed to help improve your understanding of the chapter. After reading this chapter, you should be able to answer the following questions: What is the most common method of perfecting a security interest under Article 9?
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Case Problem with Sample Answer-Default. Primesouth Bank issued a loan to Okefenokee Aircraft, Inc. (OAI), to buy a plane. OAI executed a note in favor of Primesouth in the amount of $161,306.25, plus interest. The plane secured the note. When OAI defaulted, Primesouth repossessed the plane. Instead of disposing of the collateral and seeking a deficiency judgment, however, the bank retained possession of the plane and filed a suit in a Georgia state court against OAI to enforce the note. OAI did not deny defaulting on the note or dispute the amount due. Instead, OAI argued that Primesouth Bank was not acting in a commercially reasonable manner. According to OAI, the creditor must sell the collateral and apply the proceeds against the debt. What is a secured creditor's obligation in these circumstances? Can the creditor retain the collateral and seek a judgment for the amount of the underlying debt, or is a sale required? Discuss. [ Okefenokee Aircraft, Inc. v. Primesouth Bank, 296 Ga.App. 872, 676 S.E.2d 394 (2009)] (See Rights and Duties of Debtors and Creditors.) -For a sample answer to Problem 19-4, go to Appendix G at the end of this text.
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Liberty Bank loans Michelle $5,000 to buy a car, which is used as collateral to secure the loan. After repaying less than 50 percent of the loan, Michelle defaults. Liberty could repossess and keep the car, but the bank does not want it. What are the alternatives? (See Default.)
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Disposition of Collateral. PRA Aviation, LLC, borrowed $3 million from Center Capital Corp. to buy a Gates Learjet 55B. Center perfected a security interest in the plane. PRA defaulted on the loan less than two years later and surrendered the jet. Center hired Business Air International, an aircraft broker, to sell it. Business Air reviewed the market, design, and mechanical condition of similar aircraft to arrive at a value estimate of $1.45 million. Business Air marketed the jet in trade publications, on the Internet, and by direct advertising to select customers for $1.59 million. There were three offers. The high bid was $1.35 million subject to an inspection. Center offered $1.3 million for a "cash deal, as is, where is, kick the tires, start the engines" deal. The buyer agreed. Center filed a suit in a federal district court against PRA to collect the deficiency PRA argued that the jet should have sold for $2.4 million to $2.9 million, considering the asking prices for newer aircraft. Was the sale commercially reasonable? Explain. [ Center Capital Corp. v. PRA Aviation, LLC, ____ FSupp.2d ___ (E.D.Pa. 2011)]
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The Scope of a Security Interest. Edward owned a retail sporting goods shop. A new ski resort was being constructed in his area, and to take advantage of the potential business, Edward decided to expand his operations. He borrowed a large sum from his bank, which took a security interest in his present inventory and any after-acquired inventory as collateral for the loan. The bank properly perfected the security interest by filing a financing statement. Edward's business was profitable, so he doubled his inventory. A year later, just a few months after the ski resort had opened, an avalanche destroyed the ski slope and lodge. Edward's business consequently took a turn for the worse, and he defaulted on his debt to the bank. The bank then sought possession of his entire inventory, even though the inventory was now twice as large as it had been when the loan was made. Edward claimed that the bank had rights to only half of his inventory. Is Edward correct? Explain.
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Paul Barton owned a small property-management company, doing business as Brighton Homes. In October, Barton went on a spending spree. First, he bought a Bose surround-sound system for his home from KDM Electronics. The next day, he purchased a Wilderness Systems kayak from Outdoor Outfitters, and the day after that he bought a new Toyota 4-Runner financed through Bridgeport Auto. Two weeks later, Barton purchased six new iMac computers for his office, also from KDM Electronics. Barton bought all of these items under installment sales contracts. Six months later, Barton's property-management business was failing, and he could not make the payments due on any of these purchases and thus defaulted on the loans. Using the information presented in the chapter, answer the following questions. 1. For which of Barton's purchases (the surround-sound system, the kayak, the 4-Runner, and the six iMacs) would the creditor need to file a financing statement to perfect its security interest? 2. Suppose that Barton's contract for the office computers mentioned only the name Brighton Homes. What would be the consequences if KDM Electronics filed a financing statement that listed only Brighton Homes as the debtor's name? 3. Which of these purchases would qualify as a PMSI in consumer goods? 4. Suppose that after KDM Electronics repossesses the surround-sound system, it decides to keep the system rather than sell it. Can KDM do this under Article 9? Why or why not?
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What three requirements must be met to create an enforceable security interest?
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What rights does a secured creditor have on the debtor's default?
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What is a security interest? Who is a secured party? What is a security agreement? What is a financing statement?
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The four Learning Objectives below are designed to help improve your understanding of the chapter. After reading this chapter, you should be able to answer the following questions: What three requirements must be met to create an enforceable security interest?
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The four Learning Objectives below are designed to help improve your understanding of the chapter. After reading this chapter, you should be able to answer the following questions: What rights does a secured creditor have on the debtor's default?
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If two secured parties have perfected security interests in the collateral of the debtor, which party has priority to the collateral on the debtor's default?
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Perfection. Marsh has a prize horse named Arabian Knight. In need of working capital, Marsh borrows $5,000 from Mendez, who takes possession of Arabian Knight as security for the loan. No written agreement is signed. Discuss whether, in the absence of a written agreement, Mendez has a security interest in Arabian Knight. If Mendez does have a security interest, is it a perfected security interest? Explain. (See Perfection of a Security Interest.)
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