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Legal Environment
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Quotes of the Day
“All progress is based on a universal
innate desire on the part of every
organism to live beyond its means.”
Samuel Butler,
English author
“Be not made a beggar by banqueting
on borrowing.”
Ecclesiasticus 18:33
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Revised Article 9
 Article 9 of the Uniform Commercial
Code (UCC) governs secured
transactions in personal property.
 Throughout the 1990’s, revisions to
Article 9 were recommended and in
2000, the revisions were adopted.
 Revised Article 9 is now law in all
states.
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Definitions
 Fixtures: goods that have become firmly
attached to real estate.
 Security interest: interest in personal
property or fixtures that secures the
performance of an obligation.
 Secured party: party who holds the
security interest.
 Collateral: property subject to the
security interest.
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More Definitions
 Debtor: person who has some original
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ownership in the collateral.
Obligor: person who must repay money.
Security agreement: contract which
gives a security interest to the secured
party.
Default: when the debtor fails to pay
Repossession: when the secured party
takes back the collateral because the
debtor has defaulted.
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And More Definitions
 Perfection: steps the secured party must
take to protect rights in the collateral
against people other than the debtor.
 Financing statement: document filed by
secured party to give notice of security
interest in the collateral.
 Record: information on paper or other
medium.
 Authenticate: to sign a document (includes
use of symbols or electronic encryption.)
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Scope of Revised Article 9

Collateral for transactions may include,
among other things:
• Goods (Software is sometimes included in goods,
but not always.)
• Inventory
• Instruments
• Investment Property
• Documents of Title
• Accounts
• Deposit Accounts
• General Intangibles
• Chattel Paper (includes electronic chattel paper)
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Attachment of a Security
Interest
 Attachment is a vital step in a secured
transaction.
• The two parties made a security agreement
and either, (1) the debtor has authenticated
a security agreement, or (2) the secured
party has possession of the collateral.
• The secured party gave value in order to
get the security agreement.
• The debtor has rights in the collateral.
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Future Property
 After-acquired property refers to items
that the debtor obtains after the parties
have made their security agreement.
• The parties may agree that the security
interest attaches to after-acquired property.
 Proceeds: what is obtained when
collateral is sold or disposed of.
• The secured party automatically obtains a
security interest in the proceeds, unless the
security agreement states otherwise.
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Perfection
 Perfection guarantees the collateral’s
availability in case of default. It keeps
the collateral from being used for more
than one security agreement at a time.
 Types of Perfecting
• Filing a financing statement
• Possession of the collateral
• Purchase money security interest in
consumer goods (PMSI)
• Perfection of movable collateral and fixtures
(More detail about these on the next several slides.)
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Perfecting by Filing
 Contents of the Financing Statement
• A financing statement is sufficient if it
provides the name of the debtor, the name
of the secured party and a description of
the collateral.
• Names must be the registered name of an
organization or legal name of a person.
• Under Revised Article 9, if a computer
search under the debtor’s correct name
would reveal the financing statement, the
record is valid.
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Perfecting by Filing (cont’d)
 Place of Filing
• In general, state statutes require filing with
a central filing office in the state where the
debtor lives or has an office.
 Duration of Filing
• Generally, a filed financing statement is
good for five years unless the secured party
files a continuation statement within six
months prior to expiration. This extends
the protection for another five years.
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Perfection by Possession

When the debtor gives the collateral to the
secured party to hold during the time of the
loan, it is called a pledge.

The advantages to the creditor of holding the
collateral are obvious – the collateral is safe,
its location is known, it cannot be used to
secure another loan, and “repossession” is
simple.
A secured party must use reasonable care in
the custody and preservation of collateral in
her possession.
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Perfection: Consumer Goods
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
The Code gives special treatment to security
interests in consumer goods.

The purchase money security interest
(PMSI) is one taken by the person who sells
the collateral or by the person who advances
money so the debtor can buy the collateral.

A PMSI in consumer goods perfects
automatically, without filing.

A PMSI may be created only in goods,
fixtures, or software.
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Protection of Buyers
 Generally, once a security interest is
perfected, it remains effective
regardless of whether the collateral is
sold, exchanged, or transferred.
 Buyers in Ordinary Course of Business
• One who buys goods in good faith from a
seller who routinely deals in such goods.
• A BIOC takes the goods free of a security
interest created by his seller even though
the security interest is perfected.
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Protection of Buyers (cont'd)
 Buyers of Consumer Goods
• Buyer takes free of a security interest he is
not aware of, if he pays value for the goods,
he is buying for his own family or household
use, and the secured party has not yet filed
a financing statement.
 Buyers of Chattel Paper, Instruments,
and Documents
• If bought in the ordinary course of her
business, and she takes possession, she
generally takes free of any security interest.
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Priorities Among Creditors
 A a perfected security interest takes
priority over one with an unperfected
interest.
 If neither secured party has perfected, the
first interest to attach gets priority.
 Between perfected security interests, the
first to file or perfect wins.
 A secured party controlling or possessing
an instrument, deposit account,
investment property and letter-of-credit
rights wins over a party that merely filed.
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Priority Involving a PMSI
 PMSI in Inventory (goods that the seller
is holding for sale or lease in the
ordinary course of its business)
• Takes priority over a conflicting perfected
security interest (even one perfected
earlier), if two conditions are met:
– Before filing, the secured party must check for
earlier security interests and, if any, must notify
that holder concerning the new PMSI.
– The secured party must then perfect its PMSI
before the debtor receives the inventory.
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Default and Termination
 Default: when debtor fails to make
payments due or enters bankruptcy.
 Taking Possession of the Collateral
• When the debtor defaults, the secured
party may take possession of the collateral.
• The secured party can take the collateral
without a court order if it can be done
without disturbing the peace.
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Disposition of Collateral
 A secured party may sell, lease, or
otherwise dispose of the collateral in
any commercially reasonable manner.
• A debtor is liable for any deficiency
(insufficient funds to pay off the debt).
• Any surplus is to be returned to the debtor.
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Acceptance of Collateral
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If the secured party has possession, he may
notify the debtor that he intends to retain the
collateral as full or partial satisfaction of the
debt.
If the debtor does not object within 20 days, the
secured party may keep the collateral as full
payment, but not as partial.
If the debtor objects to acceptance, the
secured party must sell or otherwise dispose of
the collateral.
Consumer goods may not be repossessed if
the debtor has possession or has paid more
than 60% of the debt.
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Termination
 A termination statement is a document
indicating that there is no longer a
security interest in the collateral.
 This happens when the debtor has fully
paid off the debt.
 The termination statement must be filed
everywhere the financing statement had
been filed.
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Overview

The Bankruptcy Code has three goals:

The Bankruptcy Code is divided into eight
chapters.
• To preserve as much of the debtor’s property as
possible
• To divide the debtor’s assets between the debtor
and creditors
• To divide the debtor’s assets fairly among creditors
• Chapters 1, 3, and 5 are administrative rules that
apply to all types of bankruptcy proceedings.
• Chapters 7, 9, 11, 12, and 13 are substantive rules
that apply to specific types of bankruptcies. These
substantive chapters all have as their goal either
rehabilitation or liquidation.
Click here to see the text of the Bankruptcy Code online.
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Rehabilitation or Liquidation
 The objective of Chapters 11 and 13 of
the Bankruptcy Code is rehabilitation of
the debtor.
 When debtors are unable to develop a
feasible plan for rehabilitation, Chapter
7 allows for liquidation (also known as
straight bankruptcy).
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Bankruptcy Chapters
Number Topic
Description
Ch. 7
Liquidation
Assets are sold to pay creditors. Business
terminates, but creditors do not have rights
to future earnings.
Ch. 9
Municipal
Deals with cities (not covered in this book)
Bankruptcies
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Ch. 11
Reorganization Businesses and wealthy individuals.
Business continues and creditors may
receive current assets and future earnings.
Ch. 12
Family
Farmers
(not covered in this book)
Ch. 13
Consumer
reorganization
Creditors usually receive a portion of current
assets and future earnings.
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Chapter 7 -- Liquidation
 Filing a Petition
• Any individual, partnership, corporation, or
other business organization that lives,
conducts business, or owns property in the
United States can file under the Code.
 Petitions may be voluntary or
involuntary.
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Ch. 7 -- Voluntary Petition
 May be filed by any debtor; not
necessary to be insolvent or for
liabilities to exceed assets.
 Filed by providing a petition, list of
creditors, schedule of assets and
liabilities, claim of exemptions, schedule
of income and expenditures, and a
statement of financial affairs.
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Ch. 7 -- Involuntary Petition
 An involuntary petition must meet all the
following requirements:
• The debtor must owe at least $11,625 in
unsecured claims to the creditors who file.
• If the debtor has at least 12 creditors, three or
more must sign the petition. If fewer than 12
creditors, any one can file.
• The creditors must allege either that a
custodian for the debtor’s property has been
appointed in the prior 120 days or that the
debtor has generally not been paying debts.
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Trustee
 In order to help insure impartiality, the
U.S. Attorney General appoints a U.S.
Trustee to each region of the country.
 The trustee is responsible for gathering
the bankrupt’s assets and dividing them
among creditors.
 The U.S. Trustee calls a meeting of
creditors sometime within 20 to 40 days
after the order of relief.
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Creditors
 Unsecured creditors must submit a
proof of claim within 90 days after the
meeting of creditors.
 Secured creditors do not file proofs of
claim unless the claim exceeds the
value of their collateral.
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Automatic Stay
 An automatic stay prohibits creditors
from collecting debts that the bankrupt
incurred before the petition was filed.
 The purpose of the automatic stay is to
give the debtor time and space to make
a rational plan for paying debts without
pressure from creditors.
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Bankruptcy Estate
 Exempt Property
• The Code permits individual debtors (but
not organizations) to keep some property
for themselves.
• The federal Code can be overridden by
state laws regarding the amount of property
that may be exempt from bankruptcy.
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Voidable Preferences
 A preference is a transfer of money or
property just before filing bankruptcy.
 The trustee can void a transfer that
meets all of the following requirements:
• The transfer was to a creditor of the bankrupt.
• It was to pay an existing debt.
• The creditor received more than she would
have received during the bankruptcy process.
• The debtor’s liabilities exceeded assets at the
time of the transfer.
• The transfer took place in the 90-day period
before the filing of the petition.
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Fraudulent Transfers
 A transfer is fraudulent if it is made
within a year before a petition is filed
and its purpose is to hinder, delay, or
defraud creditors.
 A trustee cannot void pre-petition
payments made in the ordinary course
of business.
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Payment of Claims
 The trustee pays the bankruptcy estate
to the various classes of claims in the
following order of rank:
• Secured Claims
• Priority Claims (seven subcategories)
• Unsecured Claims (three subcategories)
 All creditors with Secured Claims are
paid before any in the Priority Claims
category, etc.
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Discharge
 Once a bankruptcy estate is distributed,
the creditors cannot make claims on the
debtor for money owed before filing.
 There are some circumstances that
prevent debts from being discharged,
such as repeated bankruptcy filings,
dishonesty, and conduct of some kinds
of business.
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Discharge (cont’d)
 Debts that cannot be discharged
include (among others):
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Income taxes and property taxes
Money obtained fraudulently or illegally
Recent cash advances on credit cards
Debts omitted from the bankruptcy filing
Alimony and child support debt
Fines and penalties
Some student loans
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Reaffirmation
 To reaffirm a debt means the debtor
promises to pay even after discharge.
 In order to be valid, the reaffirmation
must:
• Be in the debtor’s best interests.
• Not impose undue hardship on the debtor.
• Be accompanied by an affidavit stating that
the reaffirmation was voluntary and that the
debtor was informed.
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Chapter 11-- Reorganization
 Chapter 11 does not require a trustee;
the petitioner (called debtor in
possession) serves as the trustee. He:
• Operates the business, and
• Develops a plan of reorganization.
 A creditors’ committee watches over the
interests of the creditors.
 A committee of equity security holders
may be appointed to watch out for the
interests of the shareholders.
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Plan of Reorganization
 The debtor has 120 days to come up
with a plan that is acceptable to the
creditors.
 The creditors will usually only accept a
reorganization plan that they believe will
be better for them than liquidation.
 If they reject the debtor’s proposal, the
creditors or shareholders may submit
alternative plans.
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Confirmation of the Plan
 A confirmation hearing is held to
determine whether it should accept
the plan.
 The court will approve a plan if a
majority of each class votes in favor
of it.
 The court may approve the plan even if
the majority don’t vote for it, if the court
determines that the plan is fair.
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Discharge
 A confirmed plan is binding on the
debtor, creditor and shareholders.
 A typical plan of reorganization gives
some current assets to the creditors
and promises to pay them a portion of
future earnings.
 The debtor now owns the assets in the
bankrupt estate, free of all obligations
except those listed in the plan.
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Chapter 13 -- Consumer
Reorganization
 The purpose of Chapter 13 is to
rehabilitate an individual debtor.
 Creditors cannot use an involuntary
petition to force a debtor into Ch. 13.
 A trustee is appointed to supervise the
debtor, who remains in possession of all
assets.
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Ch. 13 -- Plan of Payment
 Plan of payment must be submitted by
the debtor within 15 days after filing the
petition. The plan must:
• Commit some future earnings to pay off
debts,
• Promise to pay all secured and priority
claims in full, and
• Treat all remaining classes equally.
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Discharge
 Once confirmed, the plan is binding on
all creditors.
 The debtor is washed clean of all prepetition debts except those provided for
in the plan, but (unlike under Chapter
7), the debts are not permanently
discharged.
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“Secured transactions are
essential to modern
commerce but create pitfalls
for the unknowing.”
“As in many areas of law,
bankruptcy law must balance
between competing interests.”
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