Risk Management Manual of Examination Policies - FDIC

LOANS Section 3.2
In some cases, the collateral that secures an obligation
under one security agreement can be used to secure a new
loan, too. This can be done by using a crosscollateralization
clause in the security agreement.
Perfecting the Security Interest
Three terms basic to secured transactions are attachment,
security agreement and security interest. Attachment refers
to that point when the creditor's legal rights in the debtor's
property come into existence or "attach.” This does not
mean the creditor necessarily takes physical possession of
the property, or does it mean acquisition of ownership of
the property. Rather, it means that before attachment, the
borrower's property is free of any legal encumbrance, but
after attachment, the property is legally bound by the
creditor's security interest. In order for the creditor's
security interest to attach, there must be a security
agreement in which the debtor authenticates and provides a
description of the collateral. A creditor's security interest
can be possessory or nonpossessory, a secured party with
possession pursuant to “agreement” means that the
“agreement” for possession has to be an agreement that the
person will have possession for purposes of security. The
general rule is a bank must take possession of deposit
accounts (proprietary), letter of credit rights, electronic
chattel, paper, stocks and bonds to perfect a security
interest therein. In a transaction involving a nonpossessory
security interest, the debtor retains possession of the
collateral. A security interest in collateral automatically
attaches to the proceeds of the collateral and is
automatically perfected in the proceeds if the credit was
advanced to enable the purchase
A party's security interest in personal property is not
protected against a debtor's other creditors unless it has
been perfected. A security interest is perfected when it has
attached and when all of the applicable steps required for
perfection, such as the filing of a financing statement or
possession of the collateral, have been taken. These
provisions are designed to give notice to others of the
secured party's interest in the collateral, and offer the
secured party the first opportunity at the collateral if the
need to foreclose should arise. If the security interest is not
perfected, the secured party loses its secured status.
Right to Possess and Dispose of Collateral
Unless otherwise agreed, when a debtor defaults on a
secured loan, a secured party has the right to take
possession of the collateral without going to court if this
can be done without breaching the peace. Alternatively, if
the security agreement so provides, the secured party may
require the debtor to assemble the collateral and make it
available to the secured party at a place to be designated by
the secured party which is reasonably convenient to both
parties.
A secured party may then sell, lease or otherwise dispose
of the collateral with the proceeds applied as follows: (a)
foreclosure expenses, including reasonable attorneys' fees
and legal expenses; (b) the satisfaction of indebtedness
secured by the secured party's security interest in the
collateral; and (c) the satisfaction of indebtedness secured
by any subordinate security interest in the collateral if the
secured party receives written notification of demand
before the distribution of the proceeds is completed. If
requested by the secured party, the holder of a subordinate
security interest must furnish reasonable proof of his
interest, and unless he does so, the secured party need not
comply with his demand.
Examiners should determine bank policy concerning the
verification of lien positions prior to advancing funds.
Failure to perform this simple procedure may result in the
bank unknowingly assuming a junior lien position and,
thereby, greater potential loss exposure. Management may
check filing records personally or a lien search may be
performed by the filing authority or other responsible
party. This is especially important when the bank grants
new credit lines.
Agricultural Liens
An agricultural lien is generally defined as an interest,
other than a security interest, in farm products that meets
the following three conditions:
• The lien secures payment or performance of an
obligation for goods or services furnished in
connection with a debtor’s farming operation or rent
on real property leased by a debtor in connection with
its farming operation.
• The lien is created by statute in favor of a person that
in the ordinary course of its business furnished goods
or services to a debtor in connection with a debtor’s
farming operation or leased property to a debtor in
connection with the debtor’s farming operation.
• The lien’s effectiveness does not depend on the
person’s possession of the personal property.
An agricultural lien is therefore non-possessory. Law
outside of UCC-9 governs creation of agricultural liens and
their attachment to collateral. An agricultural lien cannot
be created or attached under Article 9. Article 9, however,
does govern perfection. In order to perfect an agricultural
lien, a financing statement must be filed. A perfected
agricultural lien on collateral has priority over a conflicting
Loans (12-04) 3.2-54 DSC Risk Management Manual of Examination Policies
Federal Deposit Insurance Corporation