How to Attach and Perfect a

Security Interest Under the UCC

A secured transaction is a loan or purchase that is secured by collateral. It involves a

borrower or buyer, technically known as the debtor, and a lender or seller, technically
known as a creditor, and more specifically known as a secured party. Common secured
transactions include a bank loaning a business money so the business can buy inventory,
or a company selling a business equipment on credit. In these transactions, the business is
the debtor, the bank or the selling company is the creditor, and, most likely, the inventory or
equipment will be at least part of the collateral.
Under Article 9 of the Uniform Commercial Code (UCC), which covers secured transactions,
in order for a creditor to become a secured party—that is, a party with a legal right to take
possession of collateral in the event of the debtor’s failure to pay—the creditor must take
special steps.

These steps are known as attachment of a security interest.

Moreover, in order for a secured party to more fully ensure its legal rights in the event that
other parties are asserting an interest in the same piece of collateral, the secured party
must take additional steps. These additional steps are known as perfecting a security
interest. Here we’ll look at both attachment and perfection of security interests.

Attachment

A creditor has a security interest in collateral, and becomes a secured party, if and when a
security interest “attaches.” Under the UCC, a security interest generally does not attach
unless three basic requirements are met.
In simplest form, the requirements are that:
 value be given for the security interest
 the debtor has rights in the collateral (or power to transfer the collateral to a secured
party); and
  the debtor “authenticates” a security agreement.

Let’s briefly look at each of these requirements.

Value.

A secured transaction is a contract between the debtor and the secured party. Like most
contracts, there must be an exchange of consideration between the parties. In other words,
there must be an exchange of value. In the case of secured transactions, the value given by
the secured party is usually obvious. For example, a bank gives value to a debtor when, in
conjunction with a security agreement, it loans money to the debtor to buy inventory.
Similarly, a seller gives value to a debtor when, in conjunction with a security agreement, it
sells equipment to the debtor.

Debtor’s rights in collateral.

A business may have rights in collateral either by owning the collateral prior to the secured
transaction or by purchasing the collateral as part of a secured transaction. When a
business already owns certain property, it should be clear that the business has rights in
that property, and can use it as collateral. In other cases, a business will buy items
(materials, inventory, machinery and so on) on credit and want to use those same items as
collateral. In such cases, the business will sign a conditional sales contract, which is also
considered a security agreement, and which, under UCC sales rules, will give the business
the necessary rights in the purchased items to use them as collateral. (Note: the alternative
option of having the “power to transfer” the collateral often involves relatively unusual
circumstances and is not covered here.)

Security agreement.

For purposes of attachment, the debtor must “authenticate” a security agreement. In other
words, the debtor must sign the agreement. (The UCC uses the term “authenticate” to
include the possibility of electronic signatures.) A security agreement normally will contain a
clear statement that the debtor is granting the secured party a security interest in specified
goods. The agreement also must provide a description of the collateral. Section 9-108 of the
UCC indicates generally that a description of collateral is sufficient “if it reasonably identifies
what is described.” The same section then goes on to provide a half-dozen different
possibilities for a reasonable identification, such a “specific listing,” a “category,” or a
“quantity.” While the description of collateral in a security agreement may not need to be
finely detailed, the UCC prohibits descriptions of collateral that are “supergeneric,” such as
“all the debtor’s assets” or “all the debtor’s personal property.”

The UCC recognizes that some security agreements are quite complex, and, therefore, has
various special rules regarding certain possible agreement terms. To take just one example,
a security agreement may include a clause that the collateral is to include property that the
debtor acquires after the agreement is signed. For the most part, the UCC allows parties to
use “after-acquired property” as collateral; however, the UCC does not allow after-acquired
consumer goods to serve as collateral.
The three requirements of:
giving value,
debtor rights in the collateral, and
an authenticated security agreement apply to the most common types of collateral, such as
equipment, inventory and even payments due under a contract. However, for certain less
common types of collateral, the requirements relating to an authenticated security
agreement may vary.

Perfection

A secured party perfects a security interest in order to help assure that no other party, such
as another creditor or a bankruptcy trustee, will be able to claim the same collateral in the
event that the debtor becomes insolvent. By perfecting its security interest, a secured party
seeks to gain priority over other parties regarding the collateral.

The precise details of how to perfect a security interest depend in part on the local
jurisdiction where the collateral is located.
However, generally speaking, the primary ways for a secured party to perfect a security
interest are:
 by filing a financing statement with the appropriate public office
 by possessing the collateral
 by “controlling” the collateral; or
 it's done automatically upon attachment of the security interest.

Of these four listed items, the first--filing a financing statement--is by far the most common
and important to understand.

Financing statement.

Security interests for most types of collateral are usually perfected by filing a document
known simply as a financing statement. The purpose of the financing statement, which is
filed with a public office such as the Secretary of State, is to put other people on notice of
the secured party’s security interest in the collateral. The UCC specifies what must be
contained in a financing statement:
 the name of the debtor
 the name of the secured party; and
 an indication of the collateral.

Regarding the first of these items, it is important that the name of the debtor be sufficiently
specific and accurate, because financing statements are filed under the debtor’s name. If
the name on the statement is wrong, the statement will fail to provide adequate notice to
others, and will not succeed in perfecting the security interest. Section 9-503 of the UCC
provides various, more specific rules regarding the sufficiency of a debtor’s name on a
financing statement.

For example, if the debtor is a “registered organization,” which might mean a corporation or
limited liability company organized under a particular state’s law, then the name on the
financing statement must match the name of the debtor as registered with the state.
The second required item on the statement, the name of the secured party, is generally a
straightforward matter.

Finally, as to the third item, the rules for indication of collateral on the financing statement
are largely the same as for the description of collateral on a security agreement (see
above). However, unlike with a security agreement, on a financing statement it is
acceptable to use a “supergeneric” description of collateral.
A standard form, known as Form UCC-1, is widely used by secured parties to file a
financing statement. You can easily find a sample UCC-1 online. While many financing
statements must be filed with the Secretary of State, you should check your own state’s
laws for more information.

As a final point, be aware that a financing statement can be, and sometimes is, filed
before a security interest has attached; creditors do this in anticipation of creating a
security interest, in order to make sure that the interest is perfected immediately upon
attachment.

Possession.

A security interest in many types of collateral, including “negotiable documents, goods,

instruments, money, or tangible chattel paper,” may be perfected by the secured party
possessing the collateral. However, so-called “intangible” collateral, such as accounts
receivable, cannot be perfected by possession. While “possession” is not directly defined by
the UCC in this context, it does appear to include possession not only by the secured party
but also by an agent of the secured party.

Control.

The UCC states that, “A security interest in investment property, deposit accounts, letter-of-
credit rights, or electronic chattel paper may be perfected by control of the collateral . . . .”
The meaning of “control” can vary depending on which type of collateral is involved.

For example, a secured party may have control of a deposit account if the bank, the debtor
and the secured party have all agreed that the secured party may handle the funds in that
account “without further consent by the debtor.” As another example, a secured party has
control over investment property, such as securities (shares of stock or the like), if the
property is delivered to the secured party, and, if necessary, “endorsed” (signed) to the
secured party.

Automatically upon attachment.

The most important type of security interest that is perfected immediately upon
attachment is what is known as a purchase-money security interest (PMSI) in
consumer goods.

A PMSI generally involves either:

(1) a debtor buying an item on credit from a seller where the seller will be the secured party;
or
(2) a debtor using a loan from a bank directly to buy an item from a seller, where the bank
will be the secured party.

When the debtor in one of these circumstances is buying consumer goods, the secured
party (seller or bank) does not need to file a financing statement in order to perfect the
security interest.

Note, however, that, while it may not be necessary to file a financing statement, not all
security interests in PMSIs in consumer goods are perfected upon attachment. For
example, some statutes governing certificates of title, such as for cars, require that a
security interest be indicated on the certificate in order for the interest to be perfected.

Finally, be aware that the UCC states that perfection occurs automatically upon attachment
for about a dozen other relatively unusual types of collateral. (For more information, check
UCC Section 9-309.)
Having covered the main ways to perfect a security interest, it is important to note that there
may be situations where a secured party with a perfected security interest would still have
that interest subordinated to some other party. However, in most cases, perfecting a
security interest provides very substantial protection of that interest.

Final Note

This article is based on the current version of the model Uniform Commercial Code (UCC).
However, not all states have adopted all sections of the current model UCC. Moreover, the
model UCC specifically leaves it to individual states to determine the precise wording of
certain sections. Therefore, you should always check your own state’s commercial code for
the most accurate information.
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