UCC Expert’s Corner: No Attached Collateral Description Means No Perfection

By Paul Hodnefield, Esq. | Associate General Counsel for CSC®

Those who file UCC records often provide the required collateral description on an attached schedule or exhibit rather than the designated field on the financing statement. This well-established and accepted practice can save time in the filing process and reduce transcription errors. When providing the description using an attached document, the financing statement collateral field will typically incorporate the document by reference using words such as “See Schedule A attached” or words to that effect. Those who search the records then know to look at the attached document for the collateral description.

But what happens when a financing statement purports to incorporate by reference collateral described in a document that isn’t attached? A court recently addressed this issue in the case of First Midwest Bank v. Reinbold (In re 180 Equip., LLC), 2018 Bankr. LEXIS 2482 (Bankr. C.D. Ill. Aug. 20, 2018).

In 2015, 180 Equipment, LLC (the “Debtor”) executed a First Amended and Restated Security Agreement (the “Agreement”), whereby it granted First Midwest Bank (the “Bank”) a security interest in substantially all of its assets. On April 3, 2015, the Bank perfected its security interest by filing a UCC financing statement. The Bank’s financing statement described the collateral as: “All Collateral described in First Amended and Restated Security Agreement dated March 9, 2015 between Debtor and Secured Party.” The Agreement, however, was not attached to the financing statement.

Two years later, the Debtor filed a Chapter 7 bankruptcy petition and the court appointed the Trustee. At the time of the petition, the Bank claimed it was owed more than $7.6 million. The Bank promptly brought suit against the Trustee and asked the court for a declaratory judgment that its security interest was properly perfected against the assets of the Debtor. The Trustee responded with a counterclaim, seeking to avoid the Bank’s security interest. Both parties then made cross-motions for summary judgment.

The issue before the court was whether incorporating the Agreement by reference in the financing statement sufficiently described the collateral when the Agreement was not attached to the record. The Bank claimed that its collateral description was sufficient notwithstanding the reference to an external source because it was an “other method” of describing the collateral permitted by UCC § 9-108(b)(6). That provision states that a description reasonably identifies the collateral if it identifies the collateral by “any other method, if the identity of the collateral is objectively determinable.”

Although the Agreement was not attached, the bank argued that, in a notice filing system, the reference to the Agreement would put subsequent creditors on notice that some or all of the Debtor’s property could be subject to a prior security interest. Thus, the financing statement would fulfill its notice function because an interested party would know that further inquiry was necessary to determine the identity of the collateral.

The Trustee argued that the Bank’s financing statement was deficient because the mere reference to collateral as being described in the Agreement does not suffice to indicate, describe, or reasonably identify any collateral. The Trustee further asserted that a financing statement must contain a stand-alone description of the collateral.

The court began its analysis be reviewing the Article 9 requirements for a sufficient collateral description in UCC § 9-108. It concluded that the test for sufficiency of “any other method” is whether the identity of the collateral is objectively determinable from the descriptive terms used in the financing statement.

In this case, the court found that the Bank’s financing statement failed to describe the collateral. The record on its face provided no collateral information whatsoever and therefore failed to provide notice to any third party as to what collateral was covered by the financing statement. The duty of further inquiry for third parties is only triggered when the financing statement contains a sufficient description of the collateral. Consequently, the court granted the Trustee’s motion to avoid the Bank’s security interest.

The takeaway from this case is that a financing statement fails to sufficiently describe the collateral if it merely refers to the contents of a document that is not attached to the record. Each financing statement must include its own self-contained collateral description. It might be provided in the collateral field of the UCC record or it must be incorporated by reference to an attached schedule or exhibit. The key is, the referenced document must actually be attached. Incorporating by reference a document stashed away in the secured party’s archives for the collateral description generally fails to provide notice to third parties and will normally leave the secured party unperfected.

Paul Hodnefield is associate general counsel for CSC® and is a frequent speaker and writer on UCC due diligence issues. Please feel free to contact him with questions or comments at paul.hodnefield@cscglobal.com or 800-927-9801, ext. 61730.