Secured Transactions-part Ii: Default, Foreclosure and Bankruptcy
| Publication year | 1983 |
| Pages | 13 |
| Citation | Vol. 12 No. 1 Pg. 13 |
1983, January, Pg. 13. Secured Transactions-Part II: Default, Foreclosure and Bankruptcy
Newspaper headlines tell us that this country is in the grasp of its most severe economic crisis in half a century. A record number of business failures and bankruptcy filings unfortunately means that many businesses and individuals will be unable to repay their credit obligations. An increase in debtor default demands that the legal community have a good working knowledge of secured transaction law with its maze of rights and numerous pitfalls that may impede the creditor from realizing his collateral.
In the December 1982 issue of The Colorado Lawyer, Part I of this article dealt with the creation, attachment, perfection and priorities of security interests. This article, Part II, addresses how the creditor should handle defaults, repossessions, foreclosure sales and bankruptcy. It is intended that this article serve as a practical guide to the complex area of secured transactions and as a day-to-day tool for the practitioner.
The first topic of discussion is the unfortunate side of a debtor-creditor relationship, the default. With default may come unconscionable collection practices---the creditor's first pitfall.
If a court as a matter of law finds that a person has engaged in, is engaging in or is even likely to engage in unconscionable conduct in collecting a consumer debt, the court may grant an injunction and award the debtor any actual damages he has sustained.(fn1)
Although a court may find other activities unconscionable, the Colorado legislature has specified that a creditor engaging in the following types of conduct has acted unconscionably in collecting a debt:
a) using or threatening to use force or violence against the debtor or a member of his family;
b) communicating with the debtor or a member of his family at frequent intervals, $ at unusual hours or under other circumstances such that it is a reasonable inference that the primary purpose of the communication was to harass the debtor(s);
c) using fraudulent, deceptive or misleading representations such as a communication which simulates legal process or gives the appearance of being authorized, issued or approved by a government, governmental agency or attorney at law when it is not, or threatening or attempting to force a right with knowledge or reason to know that the right does not exist;
d) causing or threatening to cause injury to the debtor's reputation or economic status by
(i) disclosing information affecting the debtor's reputation for creditworthiness with knowledge or reason to know that the information is false;
(ii) orally communicating with the debtor's employer before obtaining a final judgment against the debtor, except as permitted by statute, to verify his employment, to ascertain his whereabouts or to request that the debtor contact the creditor;
(iii) disclosing to a person, with knowledge or reason to know that the debtor does not have a legitimate business need for the information, or in any way prohibited by statute, information affecting the debtor's credit or other reputation; or
(iv) disclosing information concerning the existence of a debt known to be disputed by the debtor without disclosing that fact; or
e) engaging in conduct with the knowledge that a court in a civil action has restrained or enjoined like conduct.(fn2)
The foregoing are only examples of unconscionable conduct. Thus, a court may determine that other practices are unconscionable and find the creditor liable.
While most creditors would not think of threatening injury to the debtor, deliberately lying or violating a court order, there are gray areas where a creditor may unwittingly incur liability. For instance, if a soldier defaults on a loan, the creditor should not contact his commanding officer to discuss the lack of payment prior to judgment because that officer may be seen as the debtor's employer. Gossip between creditors who have no intention of making the debtor a further loan might also be viewed as unconscionable.
The fact that the law is limited to consumer transactions should not lull the creditor into thinking it is safe to take these otherwise prohibited actions in "commercial" transactions. Any intentionally harassing conduct may give rise to a claim of outrageous conduct(fn3) which can hurt the creditor just as badly as a claim of "unconscionability." The best advice to the creditor is not to engage in any questionable activity.
A demand note is not technically in default until "demand" is made upon the debtor. The "demand for payment" must be made in writing and orally, if possible. Obligations which are due on a specified date need no particular declaration of default once the due date has passed.
In consumer credit transactions that have four or more installments,(fn4) after default consisting of a debtor's failure to make a required payment, a creditor may neither accelerate nor take possession of or otherwise enforce a security interest in the collateral until twenty days after a notice of the debtor's right to cure has been sent to the debtor.(fn5)
After a debtor has been in default for ten days and has not voluntarily surrendered possession of the collateral, the secured party must give the debtor notice in writing conspicuously stating the following: the name, address and telephone number of the secured party to which payment is to be made; a brief identification of the credit transaction; the debtor's right to cure the default; and the amount of payment and date by which payment must be made to cure the default.(fn6) This notice should be delivered or mailed to the debtor at his residence.
Until the expiration of the twenty-day period, the debtor may cure a default consisting of a failure to make the required payment by tendering the amount of all unpaid sums due at the time of the tender, without acceleration, plus any unpaid delinquency or deferral charges.(fn7) Cure restores the debtor to his rights under the agreement as though the default had not occurred. After the secured party has once given a notice of the debtor's right to cure within a prior twelve-month period, the debtor has no right to cure.(fn8) These notice provisions in no way prohibit the debtor from voluntarily surrendering possession of collateral nor prohibit the secured party from subsequently enforcing his security interest in the goods.
The debtor has no right to cure where a default is based on an event of default other than nonpayment. Where a creditor has reason to know that a consumer debtor intends to move out of state with the collateral, it becomes extremely important for the creditor to avoid the twenty-day notice requirements because the collateral and debtor will be long gone. A well-drawn security agreement will provide that failure to insure or removal of the collateral without the creditor's consent are events of default.
In addition, the promissory note should contain "insecurity clauses" which state that an event of default occurs whenever the creditor deems himself insecure or because he feels his collateral is impaired. Even when the loan payments are current, the creditor who can claim an event of default or use an insecurity clause will be able to repossess immediately. This ability may well make the difference between near-total recovery or total loss.
While the insecurity clause may seem to be an excellent tool to subvert the twenty-day notice provisions, a creditor should use this clause only as a last resort. If the secured party fails to prove that at the time possession was taken the secured party in good faith(fn9) had reasonable cause to believe that he was insecure or that his collateral was impaired: (a) the secured party is liable to the debtor for court costs and attorneys' fees as determined by the court; and (b) the debtor is not liable for any finance charge incurred during the period he is without use of the collateral.(fn10)
Upon default of the debtor, the secured party has many rights and remedies available, including reducing "his claim to judgment, foreclose, or otherwise enforce the security interest by available judicial procedure."(fn11) The secured party may: (1) take possession of the collateral and sell or otherwise dispose of it, as long as the disposition occurs in a commercially reasonable manner; (2) purchase the collateral at a public or judicial sale or even at private sale in some instances; or (3) in accordance with certain procedures under Article 9 of the Uniform Commercial Code ("Code"), take the collateral as satisfaction of the obligation.(fn12)
All of these rights and remedies are cumulative. A secured creditor need not choose among his various remedies and may pursue both collection methods prescribed by the Code, as well as methods allowed by other judicial processes. Even where both real and personal property secure the same debt, the secured party may proceed against both types of collateral simultaneously.(fn13)
While the Code gives the creditor a wide array of powers, it also protects the debtor. In general, when the secured party has possession of the collateral, he has a duty to use reasonable care to...
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