A Tale of Two Cases: Mobile Goods Require Uniformity of State Statutes

The Court of Appeals agreed that CIT had a valid security interest in the trucks. Under Article 9 of the Kansas Uniform Commercial Code, an interest in a motor vehicle can be perfected by having a lien noted on the certificate of title or by filing a “notice of security interest.” Admittedly, CIT had not met either requirement. However, the Court noted that the majority approach across states favored a “softening” of the literal requirements of state certificate of title statutes, which was consistent with the approach of Article 9. It noted further that such approach has the effect of “modernizing” the title statutes to fit better with the policies underlying Article 9. In adopting the “substantial compliance” standard of Article 9 to perfection of liens on motor vehicles, rather than the “strict compliance” approach of title statutes, the court ruled that identification of the creditor as owner on the certificate of title was sufficient because it gave adequate notice of its interest in the vehicle to other potential creditors.

The Sixth Circuit Court of Appeals took a different approach. In re Kroskie addressed perfection issues under Michigan law specific to mobile homes. The Kroskies were owners of a mobile home situated on a full cement-block crawl-space foundation. The mobile home was connected to electrical lines, a private well and a septic tank. The Kroskies had financed the mobile home approximately 10 months prior to filing for Chapter 7 bankruptcy, and the lender secured the debt by recording a real estate mortgage with the county register of deeds. The parties agreed that the mobile home was legally a fixture to the real estate. What they didn't agree on was whether the lien had been properly filed.

The bankruptcy court determined that Michigan's Mobile Home Commission Act (MHCA) was the sole method for perfecting a lien on a mobile home, regardless of its fixture status. The MHCA states that only the filing of an application with the Mobile Home Commission may perfect an interest in a mobile home. No such application was filed, and the bankruptcy court ruled that Chase, the holder of the debt, was an unsecured creditor of the Kroskies. The district court reversed, holding that the interest was perfected upon recordation of the mortgage.

The district court rationalized the interplay of the MCHA, the UCC and real property law. Under real property law, recordation of a mortgage on real estate is effective to perfect an interest in personal property affixed to that real estate. The court then noted that the UCC permits a security interest in a fixture to be perfected by filing a mortgage on the related real estate, in lieu of a UCC financing statement. It further noted that the MHCA explicitly provides that a filing pursuant to its requirements is equivalent to the filing of a financing statement under the UCC. Pulling together those three building blocks, the court ruled that alternative methods of notice filing were sufficient under state law.

The Court of Appeals would have none of that reasoning. The MHCA specifically applies to mobile homes that are affixed to real property, and because of its specificity, the court determined that statute should govern. The court rejected the argument that it was possible to harmonize the MCHA, the UCC and real estate law, stating that all “security interests in fixtures do not have to be perfected under Article 9 as do all security interests in mobile homes under the MHCA.” Furthermore, Article 9 as adopted in Michigan, expressly provides that a security interest in property subject to the MHCA can only be perfected by compliance with the statute. As opposed to the court in Charles, the Kroskie Court of Appeals was not willing to reconcile UCC notions of notice filing with the technical requirements of a certificate of title statute.

Mobile goods move easily from one jurisdiction to the next; Charles and Kroskie demonstrate the problems that may arise when states have different and oftentimes conflicting requirements for perfection of liens on these assets. A serious effort is now underway to address this problem.

For at least the past 5 years, a task force of the Business Law Section of the American Bar Association has been studying the notion of creating a uniform certificate of titles law. They recently completed a report that confirmed the perception of the finance industry: the myriad of rules for titling and perfection of security interests in mobile goods has resulted in confusion and excessive costs of doing business. Last year, in response to that report, the National Conference of Commissions on Uniform State Laws (NCCUSL) appointed a drafting committee for the purpose of creating a uniform law for adoption by the states.

The Uniform Certificate of Title Act (COTA) attempts to respond to several concerns affecting transfers of interests in motor vehicles, including differing state law treatment, use of electronic records, reduction of title fraud and the impact of revised Article 9 of the Uniform Commercial Code (It should be noted that after consideration, it was determined initially that the Act would not attempt to cover vessels and pre-manufactured homes). COTA cites the “almost universal consistency in some industry standards,” such as the use of Vehicle Identification Numbers, but indicates that these “vehicles are titled by the states under some sixteen separate types of systems,” none of which are wholly compatible.

COTA proposes a “consistent information structure” and “uniform rules” for dealing with competing interests in motor vehicles. It also attempts to bring efficiency to the administrative process of dealing with titled vehicles. For example, it encourages electronic titling, does not require transfer of title upon transfer of ownership of a vehicle, and, borrowing from UCC concepts, permits the assignee of a security interest to be perfected without being named specifically on the certificate of title. The issue raised in the Charles case is specifically addressed by allowing the name of a lessor or secured party to be noted as owner on a certificate of title for perfection purposes. Notably, it adopts the UCC philosophy of requiring errors or omissions by a secured party to be “seriously misleading” in order to defeat an otherwise valid security interest. This willingness to favor substance over form is a welcome departure from the prevailing emphasis in titling issues on technical compliance.

The current draft of COTA will be reviewed by NCCUSL at its annual meeting in August of this year. To see the current draft of this statute, go to www.law.upenn.edu/library/ulc/ulc.htm or www.nccusl.org.

Until a more uniform statutory system can be implemented, lessors and lenders must pay close attention to state variations in the treatment of mobile goods. As illustrated by the Charles and Kroskie cases, the technical requirements of title statutes can be a minefield for the lessor. In addition, not all state requirements dealing with mobile goods are actually governed by title statutes, and the concepts in these statutory schemes are not always consistent with Article 9. As a result, lessors should consider consulting local counsel in any jurisdiction where it is important that their economic interests in mobile goods be properly protected.

Nationwide uniformity of commercial laws has always been a fundamental goal of the drafters of Article 9 of the Uniform Commercial Code. One area, though, that has continually eluded standardization is perfection of liens on mobile goods. Financiers of mobile goods, including vehicles, vessels, trailer homes and modular offices, must grapple with arcane certificate of title statutes that vary widely from state to state. Other state statutes that regulate title and lien interests in mobile goods can become a trap for the unwary. The nature of mobile goods makes uniformity among state statutes a compelling issue for financiers.

Two recent Federal Court of Appeals decisions, In re Charles, 323 F.3d 841 (10th Cir. 2003) and In re Kroskie, 315 F.3d 644 (6th Cir. 2003), illustrate the perils of lien perfection on mobile assets. In re Charles, a decision of the 10th Circuit Court of Appeals, addressed a novel perfection issue in Kansas. The facts were as follows: Robert Charles entered into a “Master Lease Agreement” with The CIT Group/Equipment Financing, Inc. (CIT) which gave him a leasehold interest in several trucks. CIT was named as the owner of the trucks on the certificate of title issued by Kansas. Three years later, Charles filed for bankruptcy. The trustee in bankruptcy argued that the “Master Lease Agreement” was a disguised security agreement and that the interest in the trucks was unperfected under Kansas law because CIT was not named as a lienholder on the title certificate.

The bankruptcy court determined in favor of CIT, holding it had “substantially complied with the perfection requirements for motor vehicles under Kansas law.” The district court affirmed.

The Court of Appeals agreed that CIT had a valid security interest in the trucks. Under Article 9 of the Kansas Uniform Commercial Code, an interest in a motor vehicle can be perfected by having a lien noted on the certificate of title or by filing a “notice of security interest.” Admittedly, CIT had not met either requirement. However, the Court noted that the majority approach across states favored a “softening” of the literal requirements of state certificate of title statutes, which was consistent with the approach of Article 9. It noted further that such approach has the effect of “modernizing” the title statutes to fit better with the policies underlying Article 9. In adopting the “substantial compliance” standard of Article 9 to perfection of liens on motor vehicles, rather than the “strict compliance” approach of title statutes, the court ruled that identification of the creditor as owner on the certificate of title was sufficient because it gave adequate notice of its interest in the vehicle to other potential creditors.

The Sixth Circuit Court of Appeals took a different approach. In re Kroskie addressed perfection issues under Michigan law specific to mobile homes. The Kroskies were owners of a mobile home situated on a full cement-block crawl-space foundation. The mobile home was connected to electrical lines, a private well and a septic tank. The Kroskies had financed the mobile home approximately 10 months prior to filing for Chapter 7 bankruptcy, and the lender secured the debt by recording a real estate mortgage with the county register of deeds. The parties agreed that the mobile home was legally a fixture to the real estate. What they didn't agree on was whether the lien had been properly filed.

The bankruptcy court determined that Michigan's Mobile Home Commission Act (MHCA) was the sole method for perfecting a lien on a mobile home, regardless of its fixture status. The MHCA states that only the filing of an application with the Mobile Home Commission may perfect an interest in a mobile home. No such application was filed, and the bankruptcy court ruled that Chase, the holder of the debt, was an unsecured creditor of the Kroskies. The district court reversed, holding that the interest was perfected upon recordation of the mortgage.

The district court rationalized the interplay of the MCHA, the UCC and real property law. Under real property law, recordation of a mortgage on real estate is effective to perfect an interest in personal property affixed to that real estate. The court then noted that the UCC permits a security interest in a fixture to be perfected by filing a mortgage on the related real estate, in lieu of a UCC financing statement. It further noted that the MHCA explicitly provides that a filing pursuant to its requirements is equivalent to the filing of a financing statement under the UCC. Pulling together those three building blocks, the court ruled that alternative methods of notice filing were sufficient under state law.

The Court of Appeals would have none of that reasoning. The MHCA specifically applies to mobile homes that are affixed to real property, and because of its specificity, the court determined that statute should govern. The court rejected the argument that it was possible to harmonize the MCHA, the UCC and real estate law, stating that all “security interests in fixtures do not have to be perfected under Article 9 as do all security interests in mobile homes under the MHCA.” Furthermore, Article 9 as adopted in Michigan, expressly provides that a security interest in property subject to the MHCA can only be perfected by compliance with the statute. As opposed to the court in Charles, the Kroskie Court of Appeals was not willing to reconcile UCC notions of notice filing with the technical requirements of a certificate of title statute.

Mobile goods move easily from one jurisdiction to the next; Charles and Kroskie demonstrate the problems that may arise when states have different and oftentimes conflicting requirements for perfection of liens on these assets. A serious effort is now underway to address this problem.

For at least the past 5 years, a task force of the Business Law Section of the American Bar Association has been studying the notion of creating a uniform certificate of titles law. They recently completed a report that confirmed the perception of the finance industry: the myriad of rules for titling and perfection of security interests in mobile goods has resulted in confusion and excessive costs of doing business. Last year, in response to that report, the National Conference of Commissions on Uniform State Laws (NCCUSL) appointed a drafting committee for the purpose of creating a uniform law for adoption by the states.

The Uniform Certificate of Title Act (COTA) attempts to respond to several concerns affecting transfers of interests in motor vehicles, including differing state law treatment, use of electronic records, reduction of title fraud and the impact of revised Article 9 of the Uniform Commercial Code (It should be noted that after consideration, it was determined initially that the Act would not attempt to cover vessels and pre-manufactured homes). COTA cites the “almost universal consistency in some industry standards,” such as the use of Vehicle Identification Numbers, but indicates that these “vehicles are titled by the states under some sixteen separate types of systems,” none of which are wholly compatible.

COTA proposes a “consistent information structure” and “uniform rules” for dealing with competing interests in motor vehicles. It also attempts to bring efficiency to the administrative process of dealing with titled vehicles. For example, it encourages electronic titling, does not require transfer of title upon transfer of ownership of a vehicle, and, borrowing from UCC concepts, permits the assignee of a security interest to be perfected without being named specifically on the certificate of title. The issue raised in the Charles case is specifically addressed by allowing the name of a lessor or secured party to be noted as owner on a certificate of title for perfection purposes. Notably, it adopts the UCC philosophy of requiring errors or omissions by a secured party to be “seriously misleading” in order to defeat an otherwise valid security interest. This willingness to favor substance over form is a welcome departure from the prevailing emphasis in titling issues on technical compliance.

The current draft of COTA will be reviewed by NCCUSL at its annual meeting in August of this year. To see the current draft of this statute, go to www.law.upenn.edu/library/ulc/ulc.htm or www.nccusl.org.

Until a more uniform statutory system can be implemented, lessors and lenders must pay close attention to state variations in the treatment of mobile goods. As illustrated by the Charles and Kroskie cases, the technical requirements of title statutes can be a minefield for the lessor. In addition, not all state requirements dealing with mobile goods are actually governed by title statutes, and the concepts in these statutory schemes are not always consistent with Article 9. As a result, lessors should consider consulting local counsel in any jurisdiction where it is important that their economic interests in mobile goods be properly protected.