Secured Transactions Assignment 2

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Secured TransactionsAssignment 2

Security and Foreclosure

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Chapter 1: Creditors’ Remedies Under State Law

Assignment 1: Remedies of Unsecured Creditors

Assignments 2-5: Remedies of Secured Creditors

Assignment 2: Security and Foreclosure

1. What is a security interest?

2. How does the secured creditor foreclose?

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Assignment 2: Security and Foreclosure



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Assignment 2:



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Assignment 2:


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Assignment 2:



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Basic conceptsSecurity interest: An interest in property contingent on the

non-payment of a debt.

Transactions fitting that definition are security interests

Even though the documents show an absolute transfer

Example: deed absolute

Example: bank account in secured creditor’s name

Even though the parties don’t realize they created a security interest

Even though the parties didn’t intend some security effects

Regardless of who has possession (But §2-401(1)?)

UCC § 9-109(a)(1): [T]his article applies to a transaction, regardless of its form, that creates a security interest in personal property or fixtures by contract.

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Basic conceptsSecurity interest (mortgage): (1) An interest in property

(2) contingent on the non-payment (3) of a debt.

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$50,000 loanSecured

Mortgage BlackacreDebtor

Example 1: A $50,000 loan secured by Blackacre

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$50,000 loanSecured

Mortgage

3. Debtor owes a debt ($50,000)

BlackacreDebtor


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$50,000 loanSecured

Mortgage


1. The mortgage (right to force sale) is an interest in Blackacre

BlackacreDebtor


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$50,000 loanSecured

Mortgage



2. The right is contingent on nonpayment (if Debtor pays, Secured has no right in Blackacre).

BlackacreDebtor


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$50,000 loanSecured

Mortgage



2. The right is contingent on nonpayment (if Debtor pays, Secured has no right in Blackacre).

This is a security interest.

BlackacreDebtor


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Lease of real propertySecured

Obligation to pay rent PatentDebtor

Example 2: Debtor agrees that if Debtor fails to pay rent when due, Secured will become the owner of Debtor’s patent.

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Obligation to pay rent

3. Debtor owes a debt (Obligation to pay rent)

PatentDebtor


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1. The agreement gives Secured a right in the patent

PatentDebtor


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2. The right is contingent on nonpayment (if Debtor pays, Secured has no right in the patent).

PatentDebtor


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2. The right is contingent on nonpayment (if Debtor pays, Secured has no right in the patent).

This is a security interest

PatentDebtor


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$500,000 plus optionSecured

Deed to Blackacre

Example 3: Jan 1, Debtor sells Blackacre (worth $3 million) to Secured for $500,000; Secured grants an option to Debtor to repurchase Blackacre for $600,000 by Dec 30.

BlackacreDebtor

Blackacre

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$500,000 plus optionSecured

Deed to Blackacre


Debtor

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$500,000 plus option

Deed to Blackacre

3. The option is arguably a debt because it must be exercised


DebtorBlackacre

Secured

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Deed to Blackacre


1. Secured has in interest in Blackacre (ownership)


DebtorBlackacre

Secured

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Deed to Blackacre



2. Secured’s right is contingent on nonpayment (if Debtor exercises the option, Secured has no right in Blackacre).


DebtorBlackacre

Secured

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Deed to Blackacre



2. Secured’s right is contingent on nonpayment (if Debtor exercises the option, Secured has no right in Blackacre).

Arguably a security interest.


DebtorBlackacre

Secured

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Lease and option

Promise to pay rent

Example 4: Secured leases an auto to Debtor for five years. At the end of the lease, Debtor has the right to purchase the auto for $1.

DebtorSecured

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Lease and option

Promise to pay rent

3. Debtor owes a debt (Promise to pay rent)


DebtorSecured

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Lease and option

Promise to pay rent


1. Secured has an interest in the auto (ownership)


DebtorSecured

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Lease and option

Promise to pay rent



2. The interest is contingent on nonpayment (if Debtor pays debt plus $1, Debtor will own the auto).


DebtorSecured

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Lease and option

Promise to pay rent



2. The interest is contingent on nonpayment (if Debtor pays debt plus $1, Debtor will own the auto).

This is a security interest.


DebtorSecured

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Contract to sell later

Promise to pay $30,000

Example 5: Secured agrees to sell auto to Debtor if Debtor has paid $30,000, in three years. Secured gives possession now, but retains ownership until payments have been made

DebtorSecured

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3. Debtor owes a debt (Promise to pay $30,000)


DebtorSecured

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DebtorSecured

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2. The right is contingent on nonpayment (if Debtor pays, Secured has no right in the auto).


DebtorSecured

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2. The right is contingent on nonpayment (if Debtor pays, Secured has no right in the auto).

This is a security interest. §2-401(1), page 29


DebtorSecured

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Basic conceptsRight to redeem: The debtor’s right to pay the debt and own the

property free of the security interest. If a security interest exists, debtor always has the right to redeem.

Synonymous with ownership.

Foreclosure: Termination of the right to redeem (four types)

1. Judicial foreclosure (court declares, sale by sheriff)

2. Power of sale foreclosure (no court, by trustee, real estate)

3. UCC foreclosure by sale (no court, by creditor, personalty)

4. Strict foreclosure (court declares, no sale, contract for deed)

Deed in lieu of foreclosure: Voluntary transfer of the debtor’s ownership / right to redeem to the creditor (merger doctrine)

When is a deed in lieu of foreclosure a security interest?

When secured’s right is contingent on nonpayment of a debt.

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Sale of Accounts

Citibank“debtor”

“Accountdebtors”

Debtor operates a business that generates accounts, e.g. credit cards

Creditcards

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Sale of Accounts


Accountdebtors


StoresGoods andservices

Creditcards

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Sale of Accounts


Accountdebtors


$900 millionadvances

StoresGoods andservices

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Sale of Accounts


Accountdebtors

$1.1 billionaccounts

owingDebtor operates a business that generates accounts, e.g. credit cards

$900 millionadvances

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Sale of Accounts


Accountdebtors


Debtor wants to free up capital


owing

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Sale of Accounts


Accounts

$1 billion

Accountdebtors



So Debtor sells the accounts

Buyer


owing

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Sale of Accounts


Accounts

$1 billion

Accountdebtors




Buyer

$1.1 billion accounts owing

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Sale of Accounts


Accountdebtors




Buyer

$1.1 billion accounts owing

“Without recourse”

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Sale of Accounts With Recourse


Accountdebtors




“With recourse:” If an account debtor doesn’t pay, Debtor will buy the account back for the account’s face amount

BuyerRecourseobligation

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Accountdebtors




Buyer$500

Account


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Accountdebtors




Buyer$500

Account


Citibank promises (guarantees) Buyer $1.1 billion.

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Security Interest in Accounts


$1.1 billion note,security interest

$1 billion loan

Accountdebtors

$1.1 billion Debtor operates a business that generates accounts, e.g. credit cards


So Debtor borrows against the accounts

This deal is the same as the Sale of Accounts With Recourse

SecuredParty

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Citibank“debtor” $1 billion loan

Accountdebtors




This deal is the same as the Sale of Accounts With Recourse.

Risk of nonpayment of accounts is on Citibank.

SecuredParty


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Accountdebtors




This deal is the same as the Sale of Accounts With Recourse.

Risk of nonpayment of accounts is on Citibank.

A sale of accounts with recourse is a security interest.

SecuredParty


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Accountdebtors

$1.1 billion

UCC § 9-109(a)

(1) [T]his article applies to a transaction, regardless of its form, that creates a security interest in personal property or fixtures by contract.

(3) a sale of accounts, chattel paper, payment intangibles, or promissory notes;

SecuredParty


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Originator BuyerSale of Accounts

$1 billion

Accountdebtors

$1.1 billion

Asset securitization

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OriginatorTrust

(SPE)

Sale of Accounts

$1 billion

Accountdebtors

$1.1 billion


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OriginatorTrust

(SPE)

Investors

Sale of Accounts

Investmentcertificates(“securities”)

$1 billion

$1 billion

Accountdebtors

$1.1 billion

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OriginatorTrust

(SPE)

Investors

Sale of Accounts

Traunch 1Traunch 2Traunch 3Traunch 4

$1 billion

$1 billion

Accountdebtors

$1.1 billion

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OriginatorTrust

(SPE)

Investors

Sale of Accounts


$1 billion

$1 billion

Accountdebtors

$1.1 billion

§ 9-109(a)(1) [T]his article applies to a transaction, regardless of its form, that creates a security interest in personal property

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OriginatorTrust

(SPE)

Investors

Sale of Accounts


$1 billion

$1 billion

Did this deal create a security interest?

“An interest in property contingent on the non-payment of a debt.”

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OriginatorTrust

(SPE)

Investors

Sale of Accounts


$1 billion

$1 billion

Did this deal create a security interest? No, trust owns the accounts, has the risk of loss.

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OriginatorTrust

(SPE)

Investors

Sale of Accounts


$1 billion

$1 billion


Add: Investors want guaranteed return, don’t want to engage in business

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OriginatorTrust

(SPE)

Investors

Sale of Accounts


$1 billion

$1 billion



1.Originator will “service” the accounts

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OriginatorTrust

(SPE)

Investors

Sale of Accounts


$1 billion

$1 billion




2.Originator will replace bad accounts (like recourse)

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OriginatorTrust

(SPE)

Investors

Sale of Accounts


$1 billion

$1 billion




2.Originator will replace bad accounts (like recourse)Now does the securitization create a security interest?

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OriginatorTrust

(SPE)

Investors

Sale of Accounts


$1 billion

$1 billion




2.Originator will replace bad accounts (like recourse)Now does the securitization create a security interest? Yes, sale is “with recourse” and debtor has the risk of loss.

Debtor Secured party

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OriginatorTrust

(SPE)

Investors

Sale of Accounts


$1 billion

$1 billion

This transaction creates a security interest.


Accountdebtors

$1.1 billion

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OriginatorTrust

(SPE)

Investors

Sale of Accounts


$1 billion

$1 billion

This transaction creates a security interest.

Consequence: If originator files bankruptcy, the accounts are property of the estate. Debtor can use collection proceeds to reorganize.


Accountdebtors

$1.1 billion

Basic Concepts

IssuerAsse

ts sold to

issuer

Originator (or

Originators) of assets

Underwriter who

markets securities

Investors

Services (often is the Originator)Contract

to care for or collect

assets

Securities

Securities

Securities

Basic Concepts

IssuerResiden

tial mortgag

es

First National

Bank

First National

Securities

Investors

First National Mortgage Service

CoContract to collect

mortgagesSecuritie

s

Securities

Securities

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Problem 2.1, page 36Problem 1.5, we represent Benning to collect $50,000 from Knopf

We have a security agreement naming these items as collateral:

1. Toyota automobile worth $15,000

2. Inherited house, value $275,000, mortgage $225,000

3. Day care equipment worth $25,000

4. Bank account, balance $12,265.92

a. Which can we foreclose on?

815.18 (12) “No property . . . may be claimed as exempt . . . against the claim . . . of a holder of a security interest.”

b. “Waiver” is a voluntary relinquishment of a known right.

Isn’t a security interest a “waiver of exemptions” prohibited by Wis. Stat. 815.18(6)(a)? Page 17

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Problem 2.2, Two ways to move cars

Sale Lease

Price 5,000

Down payment 0

Amount financed 18% 5,000

Monthly payment 180.77

Number of payments 36

Additional amount payable to own

0

Total payments 6,507.72

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Sale Lease

Price 5,000 Not applicable

Down payment 0





0


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Sale Lease


Down payment 0 0





0


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Sale Lease


Down payment 0 0

Amount financed 18% 5,000 Not applicable




0


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Sale Lease


Down payment 0 0


Monthly payment 180.77 180.77



0


77


Sale Lease


Down payment 0 0



Number of payments 36 36


0


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Sale Lease


Down payment 0 0





0 10


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Sale Lease


Down payment 0 0





0 10

Total payments 6,507.72 6,517.72

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Sale-Lease Distinction

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§1-203. “[A] transaction in the form of a lease creates a security interest if the consideration . . . is an obligation for the term of the lease not subject to termination by the lessee


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§1-203. “[A] transaction in the form of a lease creates a security interest if the consideration . . . is an obligation for the term of the lease not subject to termination by the lessee, and . . . [the lease is for the remaining economic life of the goods

Economic lifeLease/consideration term

Security interest


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§1-203. “[A] transaction in the form of a lease creates a security interest if the consideration . . . is an obligation for the term of the lease not subject to termination by the lessee, and . . . [the lease is for the remaining economic life of the goods by

1. Original term

Economic lifeLease/consideration term

Security interest


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1. Original term

2. Required renewal or purchase

Economic lifeLease term

Security interestMandatory renewal


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1. Original term


3. Renewal term for no (or nominal) additional consideration


Security interestFree renewal


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1. Original term



4. Option to buy for no (or nominal) additional consideration]”


Security interestOption to buy for free


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1. Original term



4. Option to buy for no (or nominal) additional consideration]”



True Lease“Meaningful reversion”

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Sale Sale


Down payment 0 0





0 10

Total payments 6,507.72 6,517.72

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Problem 2.5, page 38

Old way: We loan to a corporate borrower, take a mortgage, and

foreclose on default.

BankLoan

Mortgage

Corporateborrower

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Old way: We loan to a corporate borrower, take a mortgage, and

foreclose on default.

Loan

Mortgage

Year long foreclosure!

Bank Corporateborrower


Loan

Mortgage

Mashimoto’s new idea: We also take a security interest in the stock, foreclose against that.

Share-holder

Security interestin the stock


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Loan

Mortgage




Share-holder

Foreclosuresale of stock

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Loan

Mortgage


How much will the stock sell for?

Assume factory worth $1 million,

mortgage $1 million


Share-holder


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Loan

Mortgage


Assume factory worth $1 million,

mortgage $1 million

The value of the stock is about zero


Share-holder


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Loan

Mortgage


Bank

Nominal price



Share-holder

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Loan

Mortgage


BankBank is the shareholder

and owns the borrower.


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Loan

Mortgage


BankBank elects new

directors.


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Deedin lieu.


Bank

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Bank



Loan

Mortgage


Share-holder



Will this work to avoid mortgage foreclosure?

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Problem 2.6: Bank wants to finance homes for Muslims, but Islamic law prohibits charging interest.

Bank lends D $800,000 at 6% interest to buy $1 million home

Bank becomes D’s 80% partner

D buys home Partnership buys home

D makes 30 years of $6,000 monthly payments of principal and interest

D makes 30 years of $6,000 monthly payments to buy Bank’s share of partnership

D owns the home D owns the home

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Problem 2.6: Bank wants to finance homes for Muslims, but Islamic law prohibits charging interest.Conventional mortgage Shari’a-compliant contract


Bank becomes D’s 80% partner





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Bank becomes D’s 80% partner, invests $800,000





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D buys home




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D owns the home/foreclosure D owns the home

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D owns the home/foreclosure D owns the home/foreclosure?

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Does Bank or Partnership have an interest in property contingent on the non-payment of a debt?

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If so, what consequence?


If so, what consequence? Bank or Partnership must foreclose114








Secured Transactions Assignment 2

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