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dynamic business law essentials 3e 2016 chapter 19

Chapter 19
Secured Transactions and Bankruptcy

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

Copyright © 2016 McGraw-Hill Education.  All rights reserved.

1


Chapter 19 Ethical Dilemma
Effective October 2005, the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) represents
the most sweeping change to the United States Bankruptcy Code in almost forty years. Applauded by the credit card
industry, which had lobbied the United States Congress for several years before its enactment, the BAPCPA makes it
extremely difficult, if not impossible, for middle income Americans to file for Chapter 7 (“liquidation”) bankruptcy
(Traditionally, the United States Bankruptcy Court used Chapter 7 for debtor rehabilitation, allowing the debtor to
discharge pre-existing debts in return for his/her relinquishment of non-exempt property, and the non-exempt property
was used to partially satisfy creditor claims.) Instead, the BAPCPA channels bankrupt debtors into Chapter 13
(“reorganization”) bankruptcy, with strict restrictions against debt forgiveness.
The BAPCPA has come under criticism, in part because it allows no exceptions for unanticipated medical expenses (a
Harvard University study concluded that more than fifty percent of bankruptcies are attributable to unpaid medical

bills,) loss of employment, or financial difficulties resulting from dissolution of marriage. BAPCPA critics argue that
individuals so affected should be allowed to file Chapter 7 (“liquidation”) bankruptcy protection. Critics further contend
that without such a change in the BAPCPA, the only real discharge for many debtors will be death.
From a legal standpoint, should the United States Congress rewrite the BAPCA and create exceptions for
unanticipated medical expenses, loss of employment, or financial difficulties resulting from dissolution of marriage (and
allow the bankrupt debtor to file for Chapter 7 bankruptcy protection?) From an ethical standpoint, should not our
society “give these people a break?” Are not such people, and their financial situations, substantially different from
consumers who “max out” their credit cards on “mad shopping sprees?”
(For reference, see http://www.cch.com/bankruptcy/Bankruptcy_04-21.pdf)

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

2


Chapter 19 Internet Research Exercise
Go to http://www.thebankruptcysite.org/bankruptcy-exemptions and research the Chapter 7
bankruptcy exemptions allowed in your particular state (“Exemptions” represent property the debtor is
allowed to keep, even though he/she is filing for Chapter 7 liquidation bankruptcy.) Based on your
research, are your state’s Chapter 7 exemptions more or less generous than the federal bankruptcy
exemptions outlined in Exhibit 19-6 of the textbook?
Although bankruptcy is primarily a matter of federal jurisdiction (delegated to the federal government
in Article I, Section 8 of the United States constitution), the federal government does allow the
individual states to craft their own Chapter 7 exemptions for individuals filing in their particular state.
If the state chooses to enact its own Chapter 7 exemptions, the state can then require those filing in
its jurisdiction to use the state exemptions, or it can allow the bankrupt debtor to choose the federal
exemptions outlined in Exhibit 19-6 of the textbook. If the state chooses not to enact its own Chapter
7 exemptions, the federal exemptions apply by default.
In your reasoned opinion, should Chapter 7 bankruptcy exemptions be uniformly applied in all states
(by applying the federal bankruptcy exemptions in every state), or do you favor the idea of allowing
the individual states to craft their own Chapter 7 exemptions?

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

3


Chapter 19 Case Hypothetical
Jerry Eller purchases a laptop computer for $995 from the local Preferable
Purchase electronics store. He charges the $995 amount on Preferable


Purchase “instant credit,” and the store has guaranteed him no finance charges
if he pays the $995 amount within one year from the date of purchase.
Jerry purchased the computer for use in his business, Eller’s Civil War
Battlefield Tours, Inc. On any given week, Eller uses the laptop approximately
20 hours for the purposes of Eller’s Civil War Battlefield Tours, Inc., and 10
hours to play the online video game “Gloom” (his favorite hobby.) One year
passes, and Jerry does not pay any of the credit balance. After repeated
attempts by Preferable Purchase’s Credit Department to collect on the debt,
Jerry still refuses to pay.
Does Preferable Purchase have a perfected security interest in the laptop
computer? If not, why not? If so, what advantage(s) does that afford Preferable
Purchase?
© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

4


Chapter 19 Case Hypothetical
On September 7, 2013, Albert O’Leary extended a $10,000 loan to his
friend Corey Johnson. As security for the loan, Corey gave a
document to Albert with the following language:
“I, Corey Johnson, hereby give a security interest in my 2012 Chevrolet
Camaro to Albert O’Leary in return for his $10,000 loan to me on
September 7, 2013. Signed, Corey Johnson.”
Does Albert O’Leary have a perfected security interest in Corey
Johnson’s 2012 Chevrolet Camaro?

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

5


Secured Transactions: Definitions
•Secured Interest: Interest in personal
property/fixtures which secures
payment/performance of obligation
•Secured Party: Person/party that holds interest in
secured property
•Debtor: Person/party that has obligation to secured
party
•Security Agreement: Agreement in which debtor
gives secured interest to secured party
•Collateral: Property that is subject to security
interest

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

6


Collateral Under UCC
•Goods (Consumer goods, farm products,
inventory, equipment, fixtures, and accessories)
•Indispensable Paper (Documents of title,
negotiable instruments, investment property, and
chattel paper)
•Intangibles (Accounts, goodwill, literary rights)
•Proceeds

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

7


Creation (Attachment) of Security
Interest
Requires:
•Written Agreement: Agreement that describes
collateral and is signed by debtor
•Value: Item of value given from creditor to debtor
•Debtor Rights in Collateral: Rights of debtor over
collateral

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

8


“Purchase-Money” Security
Interest
Definition: Interest formed when
debtor uses borrowed money (e.g.,
buying on credit) from secured party to
buy collateral

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

9


“Perfected” Security Interest
Definition: Security interest in which
creditor has legally protected his/her
claim to collateral

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

10


Methods of Perfection
•Perfection By Filing: Perfection of interest by
filing financing statement with state agency
-Place and Duration of Filing: Generally,
financial statement for consumer goods must
be filed with county clerk; statement valid for
five (5) years
•Perfection By Possession: Perfection of interest
by holding collateral of debtor until loan is paid in
full

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

11


Methods of Perfection
(Continued)
•Automatic Perfection: Perfection that
automatically occurs when retailer sells a
consumer good
•Perfection of Movable Collateral: Collateral
that moves to another state must be “reperfected” after four (4) months

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

12


Perfection of Security Interests in
Automobiles and Boats:
Note interest on certificate of title

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13


Scope of Security Interest
•After-Acquired Property: Creditor has
security interest in property acquired by
debtor after security agreement made, if
clause to this effect included in agreement
•Proceeds: Creditor automatically has rights
to proceeds from sale of collateral for ten (10)
days

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

14


Termination Statement
Definition: An amendment to a
financing statement stating debtor has
no further obligation to secured party

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15


Priority Disputes
•Occur when two corporations/individuals claim
rights to same collateral:
•Secured Versus Unsecured: Secured interest
prevails
•Secured Versus Secured: Individual who
perfected his/her interest first prevails
•“Purchase Money Security Interest” (PMSI)
Conflicts: If party with perfected purchase money
security interest disputes another party, PMSI
party will almost always have right to collateral,
regardless of when agreement perfected
© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

16


Priority Disputes (Continued)
Secured Party Versus Buyer: If debtor sells his
collateral, creditor may dispute with buyer over
collateral
•Buyer in “Ordinary Course of Business”: If person
buys collateral in ordinary course of business
without realizing that it is collateral, he/she has
right to good
•Buyers of Consumer Goods: If consumer does
not know product secured, buyer’s new product is
free from security interest
•Buyers of Chattel Paper and Instruments: If buyer
purchases chattel paper and instruments, he/she
is free from security interest
© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

17


Default
Occurs when debtor fails to fulfill his/her loan;
remedies include:
•Taking possession of collateral: If debtor defaults
on loan, secured party can take possession of
collateral
-Disposition of Collateral: Creditor may sell,
lease, or transfer collateral
-Retention of Collateral: Creditor may choose to
keep collateral as payment of debt
•Proceeding to Judgment: Secured party may sue
debtor for entire amount of debt, instead of dealing
with collateral
© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

18


Bankruptcy and Reorganization

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

19


The Purpose of The Bankruptcy Act
And Its Goals
•Provide protection to creditors
•Provide opportunities for debtors to
gain a “fresh financial start”

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

20


Bankruptcy Law Is A Matter Of
Federal Jurisdiction
United States Constitution Article I, Section 8:
“Congress shall have the power…To
establish…uniform laws on the subject of
bankruptcies throughout the United States”

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

21


The Bankruptcy Abuse Prevention and
Consumer Protection Act of 2005
(BAPCPA)
•Most comprehensive change to bankruptcy
law in over 25 years
•BAPCPA Effect: More difficult for individual
debtor to qualify for Chapter 7 (Liquidation)
bankruptcy

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

22


Types of Bankruptcy Relief
•Chapter 7 Bankruptcy: Sale of debtor’s non-exempt
assets by trustee, and distribution of money to creditors
•Chapter 9: Adjustment of municipalities’ debts
•Chapter 11 Bankruptcy: Reorganization of debtor’s
financial affairs under supervision of bankruptcy court
•Chapter 12 Bankruptcy: Reorganization of family
farmer/fisherman’s debts
•Chapter 13 Bankruptcy: Reorganization of individual’s
debts
•Chapter 15: Recognition of insolvency proceedings
pending in foreign country, and relief for foreign debtors
© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

23


Bankruptcy Proceedings
•Each bankruptcy case begins with filing of
bankruptcy petition
•Once petition filed, bankruptcy court grants
automatic stay “freezing” creditor actions
against debtor’s estate (i.e., creditors’ legal
actions against debtor outside of bankruptcy
court must cease)

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

24


Chapter 7 Bankruptcy: “Voluntary”
Versus “Involuntary” Petition
•Voluntary Petition: Debtor files
•Involuntary Petition: Creditor(s) file,
forcing debtor into bankruptcy

© 2013 The McGraw-Hill Companies, Inc. All rights reserved.

25


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