Many agricultural producers borrow money to successfully run their operations. Typically, the lender requires the borrower to give a security interest in property such as land, equipment or commodities before supplying the funds. This type of transaction is considered a secured transaction, which is primarily governed by Article 9 of the Uniform Commercial Code (“UCC”). In general, a secured transaction is one that creates a security interest for the creditor. Thus, the producer who borrows money from the creditor will provide a security interest in their agricultural property to the creditor. Previous articles in this series discuss the rules governing these types of transactions.
Creditors take security interests in a debtor’s property to provide themselves with the ability to enforce their interest in the collateralized property. In most cases, debtors repay their debts by the maturity date. However, if a debtor defaults on their loan, a creditor can enforce their interest to satisfy the debt owed to them.
When a creditor must enforce their interest, Article 9 provides certain rights to those creditors. One right given to the creditor is the right to take possession of the collateralized property that is in the possession of the debtor. U.C.C. § 9-609(a). Unless the parties have agreed otherwise, the creditor has the right to obtain and dispose or use the collateral in a way that satisfies the debtor’s unpaid debt. Article 9 provides creditors three different methods for collecting or repossessing collateralized property. Although each method offers certain benefits to creditors, each method also comes with its own risks.
The first is known as self-help repossession. In general, this option is the quickest and most inexpensive way the creditor can collect collateral because it does not require the creditor to use the judicial process. In other words, the creditor does not have to spend time and money obtaining a court order that grants the creditor a legal right to repossess the collateral from the debtor. Many creditors prefer to use self-help to collect collateral, but there are risks involved. Specifically, creditors may be liable to the debtor for wrongfully repossessing collateral if they breach the peace while exercising self-help.
Under Article 9, creditors may use self-help only if their repossession can be done without a “breach of the peace.” U.C.C. § 9-609(b). What constitutes “breach of the peace,” however, is not defined under the UCC, and the parties are not allowed to define what constitutes breach of the peace in their loan agreement. Accordingly, defining “breach of the peace” has been left for the courts to decide.
While several courts in various different jurisdictions have examined what constitutes breach of the peace, most courts agree that a creditor can avoid a breach of the peace if they repossess collateral at a reasonable time and in a reasonable manner. For example, many courts agree that a mere trespass, by itself, is not a breach of the peace. Actions beyond that, according to many courts, may constitute a breach of the peace. For example, several courts have routinely recognize that a breach occurs when a creditor:
- Disregards the debtor’s request for the creditor to stop the repossession;
- Is accompanied by law enforcement without a court order during the repossession;
- Removes collateral after threatening or appearing to threaten violence;
- Enters the debtor’s home or business without consent; and
- Destroys personal property of the debtor while repossessing the collateral.
If a court determines a creditor breached the peace while exercising self-help repossession, the creditor may have to pay the debtor for damages they caused while conducting the repossession of the collateral. Therefore, to avoid the risk of becoming liable to the debtor, creditors should consider ending their self-help repossession efforts if met by any resistance from a debtor.
The second way to collect collateral under Article 9 is through the judicial process. In some instances, the creditor may be unable to exercise self-help repossession because it may be impossible not to breach the peace while repossessing, or the creditor is unable to locate the collateral. Also, depending on the collateral, the creditor may not be able to physically take possession of the property. In these cases, the creditor may have to resort to the courts in order to repossess the collateral from the defaulting debtor.
Creditors using the judicial process to repossess collateral usually bring a legal action for replevin against the debtor. Replevin is a legal action brought by a party who wants to obtain property that is in another’s possession. Thus, creditors bring this action in order to obtain a court order that requires the debtor to surrender the collateral to the creditor. Unfortunately for creditors, using the judicial process to collect collateral is typically slow and expensive. On the other hand, creditors using this process are not at risk for wrongfully repossessing collateral or breaching the peace because the repossession is court-ordered. Based on the creditor’s situation, using the judicial process may be the most beneficial means of repossessing collateral from a defaulting debtor.
Debtor Assembly of Collateral
The third and final method creditors may use to collect collateral is by making the debtor assemble the collateral. Under § 9-609(c), creditors may require a debtor to assemble secured collateral and make the property available to the creditor. However, this form of collection is only available if the parties’ security agreement grants this right to the creditor.
This option may be advantageous for some creditors because the process is quick and inexpensive. Additionally, there is likely no risk of breaching the peace with this method because the creditor notifies the debtor before taking possession of the collateral, and the repossession occurs at a location that is “reasonably convenient to both parties.” U.C.C. § 9-609(c). However, there is some risk involved when creditors choose this method of collection. For example, the debtor may not be willing to comply with the creditor’s request to assemble the collateral. Also, after the creditor makes a request, the debtor may move the collateral to a location unknown to the creditor or transfer the collateral to another party. In these situations, creditors will likely have to resort to self-help or the judicial process in order to repossess the collateral.
No Possession Required
While Article 9 provides creditors three methods of physically collecting collateral, it also allows creditors to “control” certain collateral without physically taking possession of the collateral. Under § 9-609(a)(1), creditors “may render equipment unusable and dispose of collateral on a debtor’s premises….” Essentially, this method is only available if the secured collateral is equipment. The UCC defines “equipment” as “goods, other than inventory, farm products, or consumer goods.” U.C.C. § 9-102(a)(33).
Under this provision, creditors can “render equipment unusable” by making the collateral inoperable. This may require the creditor to disable some part of the equipment so they can prevent the debtor from using the collateral while the creditor is attempting to enforce their security interest and satisfy the debt. Usually, creditors choose to disable equipment in situations where physically removing the equipment from a debtor’s property would be difficult. To exercise this provision, however, creditors must use either the judicial process or self-help repossession in order to make the equipment inoperable.
For example, suppose Ellis defaults on his loan with Taylor, and Taylor wants to enforce her security interest in the combine Ellis pledged as collateral. Taylor does not want Ellis to continue using the combine, but it would likely be difficult to relocate the combine to Taylor’s property. So, Taylor decides to disable the combine’s software remotely, which makes the combine inoperable without physically damaging to the piece of equipment. With an inoperable combine still in Ellis’ possession, Taylor disposes of the combine through a public sale to satisfy Ellis’ unpaid debt.
In this example, Taylor properly exercises her rights under § 9-609(a)(1). First, the collateral in this example is equipment because Ellis’ combine is not inventory, a farm product, or a consumer good. Second, Taylor uses the self-help repossession method in order to disable the combine, and she likely did not breach the peace because she disabled the combine remotely without objection from anyone. Third, Taylor left the inoperable combine in Ellis’ possession and sold it at a public sale to satisfy the unpaid debt, as permitted under Article 9. Thus, Taylor properly enforced her interest against Ellis without having to remove the collateralized equipment from the premises.
After default, creditors gain certain rights under Article 9 so that they may enforce their security interests against a debtor. An important right given to creditors is the right to collect or repossess collateral from the debtor. In general, creditors have three methods of exercising this right. Self-help repossession is one method, which permits creditors to collect the collateral themselves as long as they do not breach the peace. Another way to collect collateral is through the judicial process where creditors typically bring an action for replevin. The third collection method available under Article 9 allows creditors to require a debtor to assemble the collateral and make the property available to a creditor. Finally, Article 9 permits creditors to control collateralized equipment by rendering the collateral unusable, but creditors must use self-help or the judicial process to properly render the equipment unusable.
Each of these methods provide different benefits and risks for creditors, so creditors should be aware of their situation in order to properly collect collateral under Article 9. If a creditor fails to properly collect collateral under any method, they may become liable to the debtor or other creditors with an interest in the same collateral.
To read the other articles of this series, click here.
For more National Agricultural Law Center resources on finance and credit, click here.
For more National Agricultural Law Center resources on secured transactions, click here.