19 Hoosier Banker November 2014 the first time. On Sept. 9, 2009, Just Sofas filed for bankruptcy protection, owing the bank in excess of $347,000. On Oct. 12, 2010, the bank sued DPA for conversion and lost the case. Though the court found that the bank had an undisputed prior perfected security interest, it nevertheless ruled against the bank. The court noted that conversion is an intentional tort and, further, that waiver is a defense to conversion. What led to the court’s view that that bank had waived its perfected security interest? 1. The bank allegedly made loans to Just Sofas without sufficient inventory. [Note: Inventory is an underwriting issue that has nothing to do with a properly perfected security interest.] 2. The bank allegedly renewed one of Just Sofas’ loans, with the knowledge that there were liquidation sales in progress. [Note: This, too, is an underwriting issue that has no bearing on a properly perfected security interest.] 3. Just Sofas was not required to maintain its business accounts at the bank. [Note: Though this requirement is common in a loan transaction, the UCC does not require it for the creation and maintenance of a properly perfected security interest.] 4. The bank did not communicate with DPA after receiving notice of DPA’s purchase money security interest. [Note: Though communication may be a legitimate due diligence issue, the UCC does not make it a prerequisite to the continuing perfection of a properly perfected security interest.] 5. The bank took no action after Just Sofas issued NSF checks. [Note: As with the prior point, this is a due diligence issue only. There is no wording in the UCC that nullifies a properly perfected security interest, because a debtor issues a NSF check. If that were the case, thousands of properly perfected security interests would be unperfected each day.] 6. The bank failed to obtain recent income statements from Just Sofas. [Note: Yet again, this is a due diligence issue, unrelated to the continuing perfection of a UCC security interest.] From the foregoing, the court leapfrogged into the holding that “a secured-floating-lien creditor cannot simply rely on its status as the first secured creditor to protect itself against inferior creditors.” In essence the court became distracted by a loan administration issue regarding a troubled debtor – wholly apart from the requisites for perfecting and sustaining a security interest. This decision unfortunately opens the door to additional attacks by other secured creditors, trustees in bankruptcy, debtors-in-possession and regulators on properly perfected secured creditors. The ruling stands as a threat to any bank that lends on a secured basis using UCC-type collateral. t Consultants to the Financial Industry Young & Associates, Inc. Assess the impact of this potential risk using our Non-Maturity Deposit Risk Model $149 Guiding Financial Institutions For Over 35 Years • Independent Interest Rate Risk Reviews • Liquidity Planning • Strategic Planning • Capital Planning Why the Emphasis On IRR? Nearly all community banks have seen a shift in the deposit mix toward non-maturity deposit balances. When interest rates rise and the spread between non-maturity deposits and certificates of deposits widen, many will see a shift back into certificates at a higher cost to the bank.
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