The whole purpose of taking a security interest is to receive payment in case of a default. As such, the entire purpose of enforcement is designed to, well, enforce the security interest. Enforcement often comes as a result of a default. The purpose of this article is to explain what a default is, the potential effects of a default, and the rights associated to the secured party and the debtor after a default occurs.
Default Clauses
The law typically does not define what a default is. The U.C.C. certainly doesn’t. As a result, default is often defined and described in the security agreement made between the creditor and debtor. The creditor often drafts the agreement and as a result will define what a default is. Assuming the clause is not unconscionable, the clause can be enforceable.
As such, creditors often describe default and what constitutes a default quite broadly. For instance, a default can consist of more than a missed payment. Instead, the creditor can define default to include events where the debtor increases the risk of making payments on time, or the collateral value depreciates significantly in a short period of time. Additionally, the creditor can say that a default occurs if it “deems itself insecure.” However, enforcement of a claim of default based on insecurity must be made in good faith.
Certain jurisdictions will limit what circumstances are permissible as a basis for default. For example, certain states may say that the only proper actions of what constitutes a default is a missed payment or the value of the collateral is substantially reduced.
Acceleration
Unless otherwise stated in the security agreement, a default will only allow the secured party to recover up to the point as to remedy the default. For example, picture a debtor with a car payment. If they miss a payment, they are in default. At this point, the creditor would be allowed to repossess the car, sell it, and cover the cost. Any remaining sum of the sell would then be returned to the debtor.
The above practice is inefficient and expensive. The practice doesn’t protect the collateral of the debtor or the long-term interests of the secured party. Consequently, most security agreements include an acceleration clause. An acceleration clause simply states that once the debtor is in default, the entire debt is due. For instance, if a car payment is missed, then the entire loan of the car is due. The purpose of which is so the creditor can recover all of the costs without working through the system over and over again.
Generally, if a debtor goes into default and the loan accelerates, there is no way to “de-accelerate” the debt. However, with the permission of the creditor, the payment may be made up. Without this permission however, the only way to cure the debt is to pay the debt in full. This is true unless the law provides otherwise (most states carve out exceptions for mortgages, sometimes for car payments, or provide a period of time for the debtor to pay the debt in full).
Rights
Secured Party
Once the debtor defaults, the secured party has several rights. Ultimately, the rights are outlined in Part 6 of Article 9
- First and foremost, the ability to recover the collateral.
- 9-601(a) says that the secured party has the right to a judicial lien, foreclose, etc.
Debtor
- First and foremost, Article 9-623 does allow the debtor to redeem the collateral (by paying in full) after default.
- 9-601(d) – Any agreement by the parties.
Disclaimer
The content contained in this article may contain inaccuracies and is not intended to reflect the opinions, views, beliefs, or practices of any academic professor or publication. Instead, this content is a reflection on the author’s understanding of the law and legal practices.
