Consumer Foreclosure Under Revised Article 9

Revised Article 9 of the Uniform Commercial Code ("RA9") will go into effect in Minnesota on July 1, 2001. One of the significant areas of change is consumer foreclosure after default. This article discusses some of the major changes wrought by RA9 in this area.

1. Consumer Goods v. Consumer Transaction. RA9 deals with consumer transactions in greater detail than did the former law, and it creates another category of transaction, the consumer-goods transaction. The distinction may impact the method of foreclosure.

Under RA9, a consumer transaction occurs when an individual incurs an obligation primarily for personal, family or household purposes, and the collateral is held or acquired primarily for personal, family or household purposes. The collateral in a consumer transaction need not be exclusively "consumer goods," which are goods used or bought primarily for personal, family or household purposes, but primarily must be consumer goods. See RA9-102, cmt. 7. By contrast, a consumer-goods transaction is a consumer transaction in which all the goods securing the obligation are consumer goods.

Example: A transaction in which an obligation is incurred for personal, family, or household purposes, and which is secured primarily by consumer goods but also by equipment used in a sole proprietorship, is a consumer transaction, but not a consumer-goods transaction.

Why the distinction? A rule applying to a consumer transaction will apply equally to a consumer-goods transaction, but a rule applying only to a consumer-goods transaction may not apply to a consumer transaction. There are special rules on foreclosure on consumer goods, which are discussed below. However, the distinction between a consumer transaction and a consumer-goods transaction can be fine at best, so if in doubt, a secured party should follow the rules for a consumer-goods transaction.

2. Repossession. RA9 makes no change from prior law to the process of repossession. After default, the secured party may take possession of the collateral either with or without resorting to the courts. The secured party may not, however, proceed via self-help if doing so would result in a "breach of the peace."

3. Notice of Sale or Disposition. As under prior law, the secured party must give notice of intended sale or disposition of the collateral unless the collateral is perishable or is of the type sold on a recognized market. In a change from prior law, the secured party is required to give notice of the intended disposition of the collateral to anyone claiming a junior lien on the collateral. How does one learn who claims a lien on the collateral? A UCC search should be conducted prior to the notice of disposition being sent out. This search must be conducted not less than 20 or more than 30 days before the "notification date," which in most cases will be the date the notice of intended sale is sent to the debtor. Note that there is no requirement to give notice to a senior secured party. The better practice, however, will be to send notice to all lien creditors of record, without regard to priority.

RA9 also requires the secured party to give notice of the intended disposition of the collateral to the "debtor" (i.e., those who have an interest, other than a security interest, in the collateral, such as a pledgor) and to secondary obligors (i.e., guarantors), but not to obligors (those who primarily must make payments). This is probably not a change from current practice for most secured parties who give notice broadly.

4. Manner and Timing of the Notice. RA9 has clarified what the notice must contain. Former Article 9 gave little guidance concerning what the foreclosing secured party's notice must provide, directing only that the notice must be "commercially reasonable." RA9 contains a form of reasonable notice for a consumer-goods transaction and a form for transactions other than consumer-goods transactions. In a non-consumer transaction, the secured party has a "safe-harbor" if the notice is given after default and at least 10 days prior to the sale. If so given, the notice is not unreasonable.

5. Sale or Other Disposition. The rules concerning sale or other disposition of the collateral have not changed. The secured party is given broad discretion in selling or otherwise disposing of the collateral under RA9-610. As under prior law, every aspect of the sale or other disposition must be "commercially reasonable." RA9 clarifies the former law by explicitly stating that the secured party may dispose of the collateral by license and may disclaim or limit any warranties running with the sale or other disposition.

6. Application of Sale Proceeds. Both old Article 9 and RA9 contain similar provisions specifying the order of application of proceeds of the sale or disposition. A major change from the old law, however, is that the secured party proceeding under RA9 may withhold non-cash proceeds of a sale if doing so is commercially reasonable. See RA9-615(c). For instance, if a secured party repossesses a car and resells it on commercially reasonable credit terms, the secured party need not credit the original debtor with the sales proceeds until the payments are actually made by the buyer.

7. Deficiency - Duty to Calculate and Notify. RA9 now requires the secured party in a consumer-goods transaction to give the obligor a written explanation of the calculation of any deficiency claim. Such an explanation must be made either before or at the time the secured party demands deficiency payments from the debtor, or (if a demand for the deficiency has not yet been made) within 14 days after the secured party receives a request for an explanation. The explanation must include the following: (1) the amount of the secured obligation (as of a date not more than 35 days before repossession), (2) the amount of the proceeds from the sale, (3) the amount of the deficiency, (4) the amount and type of sale expense, (5) the amount of any credits to which the obligor is credited, and (6) the amount of the deficiency.

8. Sale Alternative - Retention of Collateral. Unlike former Article 9, RA9 permits the secured party to retain the collateral in partial satisfaction of the secured debt in a commercial transaction by complying with certain notice provisions. However, retention of collateral in partial satisfaction is not available to the secured party in a consumer transaction. Moreover, RA9 continues to require the secured party to sell, rather than retain, the collateral in consumer transactions if 60% of the sale price (with respect to purchase money security interests) or principal amount (with respect to non-purchase money security interests) has been paid.

Secured parties will need to modify their practices with respect to foreclosures immediately when the new law takes effect. The law should, on balance, benefit secured parties by bringing more certainty to some aspects of the foreclosure process, especially for consumer foreclosures.