Personal Property Leases and the New Ucc Article 2.5
| Jurisdiction | Colorado,United States |
| Citation | Vol. 21 No. 6 Pg. 1101 |
| Pages | 1101 |
| Publication year | 1992 |
1992, June, Pg. 1101. Personal Property Leases and the New UCC Article 2.5
Colorado has enacted a new Article 2.5 of the Uniform Commercial Code ("UCC"), to become effective on July 1, 1992. Known and cited as the "Uniform Commercial Code---Leases," Article 2.5 defines and governs true leases of goods. This article begins with a brief history and overview of this new law, proceeds to a part-by-part review of Article 2.5, and concludes with some observations about the impact of the new Article.
Current leasing law is principally derived from the ancient law of bailments, with roots going all the way back to Roman law. Courts have supplemented bailments law with the common law of contracts, in combination with real property law and UCC Articles 2 and 9. While the amalgam has worked reasonably well, leasing law is different and somewhat unpredictable among the various states.
At the time the UCC was first created, equipment leasing was in its infancy. However, today, approximately one-third of all U.S. business equipment acquisitions are by lease, totalling over $120 billion annually.(fn1) The need for a uniform, codified statute now has become apparent.
Drafting of a uniform leasing statute was begun by a committee appointed by the National Conference of Commissioners on Uniform State Laws ("Commissioners") in December 1982. Originally drafted as the Uniform Personal Property Leasing Act, in 1985 the Commissioners reformulated that Act as UCC Article 2A. The official text of Article 2A was published in October 1987. It was the first new Article and first major addition to the scope of the UCC since its inception in 1952.(fn2)
Before Article 2A was officially published and released for state adoption, it already had been introduced in the California legislature. The UCC Committee of the Business Section of the California Bar Association comprehensively studied and debated the new Article, and issued an extensive report.(fn3) The report recommended adoption of the Article, but with numerous modifications. Only a few of those recommendations were incorporated into the final 1987 official text. California broke with the uniform version in adopting many of the report's recommended changes.(fn4)
In a process reminiscent of New York's role in the evolution of the original UCC in the 1950s, several other states adopted the "California changes" when passing the Article. Thus, despite extensive efforts at uniformity by the Commissioners, two basic versions of the "uniform" law were being enacted. Recognizing that uniformity would not be achieved with the original version of Article 2A, in 1990 the Commissioners amended the "Official Text" to include many of the changes recommended by the California report and similar reports by bar committees in other states, including Colorado.(fn5) In 1991, the 1990 revised version of Article 2A was introduced in Colorado as Article 2.5. With certain modifications, the revised version was passed
and signed into law on June 7, 1991.(fn6) It becomes effective July 1, 1992.
Article 2.5 applies to any transaction, regardless of form, that creates a lease of goods, including a sublease. It applies to leases of goods that are or are to become fixtures. It covers
transactions as diverse as the lease of a hand tool to an individual for a few hours and the leveraged lease of a complex line of industrial equipment to a multi-national organization for a number of years.(fn7)
Only true leases of personal property or fixtures are covered by Article 2.5. Sales with reserved security interests, even though disguised as leases, are still governed by Articles 2 and 9. The new Article is not intended to affect the characterization of transactions for non-UCC purposes. In particular, tax and accounting rules, which have been a major factor in the rapid growth of true leasing, should remain independent and unaffected.
Article 2.5 borrows heavily from Articles 2 and 9, which makes sense. The situation of a lessor and lessee with respect to the formation and performance of a personal property lease is quite similar to that of a seller and buyer of goods. The lessor's need to recover possession and dispose of leased goods following default is much like that of a secured party under Article 9. As a result, the provisions of Article 2.5 will have a decidedly familiar ring. As is the case with Article 2, Article 2.5 is a "defaulf"-type statute; that is, it applies only in the absence of a contrary provision in the agreement of the parties. Freedom of contract is specifically recognized,(fn8) and, with few exceptions, the parties can contract around the provisions of Article 2.5.
Although Articles 2 and 2.5 are alike in this regard, the transactions to which they apply, and therefore the number of issues that will be left for them to resolve, are very different. Sales transactions often are quite informal and completely undocumented. Every trip to the grocery store is governed by Article 2. Leasing contracts, on the other hand, are almost universally written and drafted by lessor's counsel. Even the casual lease of a tool from the local rental yard is the subject of elaborate (albeit unread) documentation.
Personal property leases are usually comprehensive enough to provide contractual rules for most of the issues governed by Article 2.5. As a result, Article 2.5 will probably apply only when the lessor's documentation is not properly completed, when a completely unforeseen situation arises, or when the lessor's documents are so one-sided that a court refuses to enforce them on grounds of unconscionality. Courts also may look to Article 2.5 for guidance in interpreting and applying written lease contracts in difficult situations.
Filing requirements for leases were extensively debated and considered in the original drafting process, but were ultimately rejected, except for leases of goods that are or become fixtures. Article 2.5 contains some new requirements (and some helpful new rules) for fixture filings to perfect the lessor's interest under a fixture lease.(fn9) Leases will require no other filings, but precautionary or "notice" filings under Article 9 are still permitted (and advisable).(fn10)
As the other UCC Articles, Article 2.5 is organized into parts and sections. Thus, the first section in Part 3 of Article 2.5 is CRS § 4-2.5-301. Fortunately, Colorado has published the Official Comments to Article 2.5 in the Colorado Revised Statutes. In addition, "editor's notes" to the statute point out the respects in which Colorado's Article 2.5 differs from the uniform text of Article 2A.
Most of the definitions in Article 2.5 are familiar to practitioners because they are derived from analogous provisions elsewhere in the UCC---primarily Articles 2 and 9. Other provisions of the new statute make substantive additions to the lexicon of UCC practice. These include the definitions of "lease," "security interest," "finance lease" and "consumer lease." The following discussion focuses on the new (or substantially revised) definitions of "lease" and "security interest," which are central in determining whether a transaction will be governed by Article 2.5. The definitions of "finance lease" and "consumer lease" are discussed later in this article.(fn11)
One of the recurring difficulties that courts have faced in applying UCC Article 9 is determining whether a transaction the parties have labeled a "lease" is in reality a sale with a reserved security interest dissembling as a lease. Prior to the addition of Article 2.5, the UCC did not define the term "lease." While the definition of "security interest" made reference to the "lease versus security interest" issue, it was not helpful in determining whether a particular transaction labeled a lease by the parties should instead be treated as a secured transaction. The test was whether the lease was "intended as security" by the parties. The only specific guidance provided by the definition was that a no-cost or low-cost option to acquire the goods indicated that the lease was intended as security.
In Lease Finance, Inc. v. Burger,(fn12) the Colorado Court of Appeals expanded on this statutory scheme by establishing a seven-factor test as an aid in determining the parties' intent. However, tests like the one established in Lease Finance, Inc. have come under increasing criticism in recent years because they focus on largely irrelevant indicia of ownership that may be present in either a sale or a lease. The tests fail to emphasize the key feature that distinguishes a sale from a lease---the lessor's retention of a meaningful residual interest in the leased goods.(fn13)
In response to these criticisms, Article 2.5 replaces the "intent of the parties" test with an "economic reality" test. Under this new test, if the entire value of the leased property passes to the lessee (or if any residual value may be acquired by the lessee for no or nominal consideration), the lease is a disguised security interest. Conversely, if the lessor retains the residual value (or if the lessee can acquire the residual value only on payment of a fair market option price), the transaction is a lease.(fn14)
The new Article 2.5 establishes this "economic reality" test through its new definition of "lease" and a substantially revised definition of "security interest." A "lease" is defined as
a transfer of the right to possession and use of goods for a term in return for consideration, but a...
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