$1.5 Billion Reasons to Double Check Your UCC-3 Termination Statements
UCC-3 termination statements are used by creditors to terminate a security interest in collateral or property after the debtor has satisfied the loan terms. A termination statement is a critical part of the lending process, and creditors must be careful when filing a termination statement, otherwise, a creditor may inadvertently lose its security interest as a result of an improper termination. JPMorgan Chase Bank (“Chase”) learned this the hard way when the debtor mistakenly filed a termination statement for a loan that had not yet been paid off.
In 2001, General Motors Corporation (“GM”) entered into a $300 million loan from a group of lenders including Chase, who acted as the administrative agent for the loan. In 2006, GM entered into a $1.5 billion loan with another group of lenders. Chase again acted as the administrative agent. For both loans, UCC-1 financing statements were filed with the Delaware Secretary of State to perfect the security interests granted to these lenders.
In 2008, GM prepared to repay the $300 million loan and contacted its counsel to draft UCC-3 termination statements. GM’s attorneys drafted three termination statements: two for the $300 million loan and one for the $1.5 billion loan. Unfortunately, GM did not catch the termination statement for the $1.5 billion loan. Neither did Chase and its attorneys, who did not object to the filing of the draft statements. All three termination statements were filed by GM.
The mistaken termination was not noticed by Chase until GM filed for Chapter 11 reorganization. Upon learning of this termination statement, Chase notified the committee of unsecured creditors that a UCC-3 termination statement relating to the $1.5 billion loan had been inadvertently filed. The committee commenced a proceeding against Chase in bankruptcy court to seek a determination that the filing of the termination statement was effective to terminate Chase’s security interest and render Chase an unsecured creditor. Chase argued that it had not authorized the termination statement since GM’s attorneys filed the termination statement. The bankruptcy court agreed with Chase and found that neither GM nor Chase intended the legal consequences of the termination statement.
The committee appealed to the Second Circuit. The Second Circuit identified two issues relating to the interpretation of UCC § 9-509(d)(1), which provides that a termination statement is effective only if the secured party of record authorizes the filing. First, the court asked what precisely must a secured lender authorize for a termination statement to be effective: must it authorize the termination, or is it enough to authorize the act of filing that has the effect? Second, did Chase grant GM’s attorneys the authority to terminate the loan or to file the termination statement?
The Second Circuit certified the first question to the Delaware Supreme Court. The court held that the creditor is ultimately responsible to review the termination statement and only authorize the filing if it is correct. It reasoned that, “[u]nder the Delaware UCC, parties in commerce are entitled to rely upon a filing authorized by a secured lender and assume that the secured lender intends the plain consequences of its filing.” Further, it stated that “[i]t is fair for sophisticated transacting parties to bear the burden of ensuring that a termination statement is accurate when filed.”
Having decided the first issue, the case returned to the Second Circuit to determine the second. It held that the termination was effective to terminate Chase’s security interest in the $1.5 billion loan. The court found that Chase granted GM’s attorneys the relevant authority to terminate the loan and file the termination statement given that (1) a director for Chase supervised the $300 million payoff and signed the loan documents on its behalf; and (2) attorneys for Chase approved each action of GM’s attorneys in paying off the loan, including approval of the three draft termination statements and their filing.
The above case demonstrates the ultimate responsibility falls on the creditor, regardless of the intent of termination or if a mistake was made. A UCC termination statement filed mistakenly is just as enforceable as a termination filed with proper intent. Creditors must exercise careful due diligence when drafting and filing termination statements. Creditors should cross-reference filing numbers of financing statements and ensure that the correct security interest is linked to the proper transaction.
This article is the second of a series of articles on UCC Statements and Security Agreements for commercial loans. Please also see the first article of the series, Typo Terminates Bank’s Security Interest for Commercial Loan, which discusses the similar theme of the creditor’s responsibility to ensure security agreements are correctly drafted and properly filed.
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