You’ve probably had to provide collateral for loans in the past, but did you know you can request collateral as a seller in a transaction as well? Similar to a loan, the seller can request a type of security on a sale if the transaction involves a debt. We’ll go over a few options that are available to sellers involved in a transaction that requires the need for collateral.
The first step to securing collateral is to establish a security agreement. This can be a separate agreement or language included in the purchase or sales agreement for the transaction. Essentially, a security agreement is a document that guarantees a loan or credit by using assets or property as collateral. In this agreement, the borrower (or buyer) agrees to provide the lender (or seller) with a claim on certain assets if they default on repaying the debt. The conditions of the loan, including the collateral being used, the amount borrowed, interest rates, repayment terms, and any other relevant details are all outlined in the security agreement.
Once the security agreement is signed, the seller may request a personal guarantee and/or file a UCC lien to secure their interest for the collateral used in the transaction. A personal guarantee ties the buyer’s personal assets to the debt or obligation, making them vulnerable to potential financial losses if they default. This can include tangible business assets, personal real estate, cash from their bank accounts, or even accounts receivable from other business transactions. However, while the personal guarantee makes the buyer personally responsible for the debts, it does not consider the priority of the debt. A debtor could put the same assets up as collateral multiple times without the seller knowing.
A UCC filing can reduce risks associated with personal guarantees. A UCC lien, also known as a UCC-1, notifies other parties that a creditor has a security interest in a debtor’s property that is being used as collateral in a secured transaction. A UCC is filed in the state where the collateral is located and is effective for five years in Nevada, from the date of filing. You can file UCCs in Nevada through the Nevada Secretary of State website. In Arizona, the expiration date for UCCs is five years from the date of filing and you may file the UCC with the Arizona Secretary of State website. Once the initial UCC is filed, there are additional steps to take to be considered a “perfected” creditor. Being a perfected creditor legally establishes the priority of the seller’s security interest in the collateral. This provides the seller with protection against the buyer’s future creditors, judgment creditors, tax liens, etc. It is important to note that if two or more creditors are considered perfected, then the priority among them is usually spelled out in the UCCs, but the general rule is that the first to perfect has priority.
The UCC’s rules regarding the priority of creditors to collateral are complex and vary depending on the state. If you are considering a sale that might involve the need for collateral, it is best to discuss your concerns with an experienced business attorney who specializes in business transactions. They will be able to assess the situation and provide legal advice and options for you to secure your interest in the transaction.
