Revised Article 9's Assignment Provisions: An Analysis

Part One of a Two-Part Series

Chapter 4 of Revised Article 9, titled “Rights of Third Parties,” deals with several issues affecting the assignment of accounts, leases, and other contract rights. See, in particular, Sections 9-403 to 9-409. These sections replace former Sections 9-206 and 9-318 and part of Section 2A-303. This article summarizes some of the key provisions of Chapter 4 of Revised Article 9, compares these provisions to former Article 9, and describes a few recent cases under this Chapter. Note that different rules apply in a consumer transaction or if the account debtor is an individual who incurred the obligation primarily for personal, family or household purposes; this article does not address these issues. In addition, this article does not address the assignment of a health care insurance receivable.

A threshold issue is to determine the applicable governing law. The law designated by the secured party and the debtor should not necessarily apply to the relationship between the debtor and the account debtor. Revised Article 9 does not answer this question. The issue comes up, for example, in the context of the anti-assignment override provisions contained in Sections 9-406 and 9-408 discussed below. Delaware law provides that these anti-assignment override provisions do not apply to any interest in a limited partnership or limited liability company; accordingly, restrictions on the pledge of a Delaware limited partnership or limited liability company interests are effective. See Del. UCC ”9-406(i)(5) and 9-408(e)(4), Del. RULPA '17-1101(g), and Del. LLCA '18-1101(g). New York did not adopt the anti-assignment override provisions with respect to statutory restrictions contained in Sections 9-406(f) and 9-408(c). See generally Section 9-401, Comment 3.

Chapter 4's assignment provisions address four key issues:

1) Defenses and claims of the account debtor. What constitutes an enforceable waiver of defenses (Section 9-403)? Absent a waiver, under what circumstances are the account debtor's defenses and claims cut off (Section 9-404)?

2) Modification and substitution of the assigned contract. Under what circumstances are modifications and substitutions effective against the assignee (Section 9-405)?

3) Discharge of the obligation. Under what circumstances can the account debtor discharge its obligation by paying the assignor or the assignee (Section 9-406(a)-(c) and (g))?

4) Contractual or statutory restrictions on assignment. Under what circumstances can such restrictions be overridden (Sections 9-406(d)(e) and (f); 9-407; 9-408; and 9-409)?

Issue #1 ' Defenses and Claims of the Account Debtor

Section 9-403 provides that an agreement between an account debtor and an assignor not to assert against an assignee any claim or defense that the account debtor may have against the assignor is enforceable by the assignee if the assignment:

• is taken for value;
• is taken in good faith;
• is taken without notice of a claim of a property or possessory right to the property assigned; and
• is taken without notice of a defense or claim in recoupment of the type that may be asserted against a person entitled to enforce a negotiable instrument under Section 3-305(a).

Notwithstanding the foregoing, the assignee is still subject to defenses of a type that may be asserted against a holder in due course of a negotiable instrument under Section 3-305(b) (the so-called “real defenses”).

Section 9-403(f) provides that the section does not displace other law that gives effect to an agreement by an account debtor not to assert a claim or defense against an assignee. If the lease contains a “hell or high water” clause, which provides that the lessee will pay the lessor notwithstanding any claims or defenses it might have against the lessor, the assignee will stand in the shoes of the lessor and should be able to enforce this clause under ordinary contract principles (see Comment 4). This will be the case even if the assignee takes the assignment with notice of the claim or defense (and hence would not qualify under Section 9-403(b)) (see Comment 6).

An agreement that is enforceable under Section 9-403 precludes the account debtor from asserting defenses or claims against the assignee. But what happens if for some reason there is no such agreement or the agreement is held to be unenforceable? In that situation, the assignee must look to Section 9-404. That section provides that, unless an account debtor has made an enforceable agreement not to assert defenses or claims, the rights of the assignee are subject to both of the following:

• all terms of the agreement between the account debtor and assignor and any defense or claim in recoupment arising from the transaction that gave rise to the contract (“Related Claims”);
• any other defense or claim of the account debtor against the assignor which accrues before the account debtor receives a notification of the assignment authenticated by the assignor or the assignee (“Unrelated Claims”).

An example clarifies the distinction between Related Claims and Unrelated Claims. Assume that on Jan. 1 the lease is signed (“Lease #1″). On Jan. 15 the lessor delivers the equipment to the lessee and the lessee accepts the equipment. On Feb. 1 the lease, which does not have a hell or high water or waiver of defense clause, is assigned to a bank. On Feb. 2, the bank notifies the lessee of the assignment. On Feb. 15 the equipment breaks down and the lessee stops paying rent. In this example, the bank takes subject to the lessee's claim, because it arose from the transaction that gave rise to the contract (a Related Claim), notwithstanding that the claim arose after the notice. In effect, the bank “stands in the shoes” of the lessor.

Now assume that the lessor and the lessee are parties to another lease (which is not assigned to the bank) (“Lease #2″). On Feb. 28 the equipment under Lease #2 also breaks down. Lessee attempts to set off its claim relating to this equipment against its rent obligation under Lease #1. Because this claim did not arise under Lease #1, and did not accrue before the bank's notice, the bank is not subject to this claim.

The moral of the story: Unless there is an enforceable waiver of defense agreement in place, it is critical that the assignee notify the account debtor as soon as possible of the assignment in order to cut off any Unrelated Claims.

Note that under Section 9-404(b), the claim of an account debtor against an assignor may be asserted against an assignee only to reduce the amount the account debtor owes; that is, the account debtor may not raise affirmative claims against the assignee.

Issue #2 ' Modification and Substitution of the Assigned Contract

Section 9-405 governs when a modification of or substitution for an assigned contract is effective against an assignee. The basic rule is that a modification or substitution made in good faith is effective against the assignee; however, the assignee acquires corresponding rights under the modified or substituted contract. This rule allows the assignor and the account debtor to adjust their relationship notwithstanding the assignment, even to the detriment of the assignee, provided the adjustment is done in good faith. Section 9-405 does provide that the assignment may provide that the modification or substitution is a breach of contract by the assignor. While the section is silent on this, presumably the account debtor and the assignee (and the assignor) can enter into an enforceable agreement that provides that no modification or substitution will be valid without the assignee's prior written consent.

The basic rule applies to the extent that either of the following applies:

• the right to payment or a part thereof under the assigned contract has not been fully earned by performance;
• the right to payment or a part thereof under the assigned contract has been fully earned by performance and the account debtor has not received notification of the assignment.

In other words, if the assigned contract has been fully performed, and the account debtor has received notice of the assignment, then a modification or substitution that occurs after the notice is not effective against the assignee even if made in good faith. On the other hand, if the assigned contract has not been fully performed, a modification or substitution is effective against the assignee if made in good faith, even if notice of the assignment was delivered to the account debtor prior to the modification or substitution.

Issue #3 ' Discharge of the Obligation

Section 9-406(a)-(c) and (g) deal with discharge of the obligation. Section 9-406(a) sets forth the basic rule: An account debtor on an account, chattel paper, or a payment intangible may discharge its obligation by paying the assignor until, but not after, the account debtor receives notification of the assignment, authenticated by the assignor or the assignee that the amount due or to become due has been assigned and that payment is to be made to the assignee. Note that mere notice of the assignment is insufficient; the notice must also direct that payment is to be made to the assignee. After receipt of the notification, the account debtor may discharge its obligation by paying only the assignee, not the assignor.

This seemingly straightforward rule is subject to several important qualifications contained in Section 9-406(b) and (c):

• the notification is ineffective if it does not reasonably identify the rights assigned;
• at the option of the account debtor, the notification is ineffective if it notifies the account debtor to make less than the full amount of any installment or other periodic payment to the assignee even if only a portion of the account, chattel paper or payment intangible has been assigned to the assignee; a portion has been assigned to another assignee; or the account debtor knows that the assignment to the assignee is limited. 9-406(g) provides that the account debtor may not waive or vary this option;
• if requested by the account debtor, an assignee shall seasonably furnish reasonable proof that the assignment has been made; unless the assignee complies, the account debtor may discharge its obligation by paying the assignor, notwithstanding the notification.

The first bullet point is presumably easy to meet ' the assignment should identify the lease contract being assigned with enough specificity that the lessee can alert its payables department to remit payment under the right lease contract to the right assignee (eg, by identifying the master lease and the lease schedule number). The third bullet point should also be easy to meet ' the assignee can require the lessor to sign the notice, or if the notice has already gone out, have the lessor submit proof of the assignment to the lessee.

The second bullet point may prove the most troublesome for certain transactions, eg, container lease transactions where multiple items of equipment are subject to the same master interchange lease. It is not uncommon for some of the items to be financed by one lender and other items to be financed elsewhere. Presumably, the lessee and the assignee who takes a partial assignment can agree that the lessee will remit to the assignee the portion of the rent payments that relate to the assignee's assigned containers. The prohibition in Section 9-406(g) should be read to prohibit the lessor from imposing on the lessee the obligation to make partial payment to an assignee.

Note that there may be certain circumstances where the Section 9-406 discharge rules get trumped. For example, if a surety steps in and performs the obligations of the assignor, then the surety may have equitable subrogation rights superior to those of the assignee.

Issue #4 ' Contractual or Statutory Restrictions on Assignment

Section 9-406(d), (e) and (f) and Sections 9-407, 9-408 and 9-409 deal with contractual and statutory restrictions on assignment. These Sections are extremely complex. Following is a brief summary.

Section 9-406(d), (e) and (f)

These Sections deal with the assignment of, and security interests in, accounts and chattel paper (and under certain circumstances, payment intangibles and promissory notes), and render ineffective (i) a term in an agreement between the account debtor and assignor that prohibits or requires the consent of the account debtor to the assignment or the creation, attachment, perfection or enforcement of the security interest, or that provides that the assignment or security interest may give rise to a default or breach (Sections 9-406(d) and (e)) and (ii) a rule of law, statute or regulation that similarly prohibits or requires the consent of the government or account debtor to the assignment or the creation, attachment, perfection or enforcement of the security interest, or that provides that the assignment or security interest may give rise to a default or breach (Section 9-406(f)). Of course, Section 9-406(f) is subject to federal pre-emption and therefore does not override such laws as the federal Assignment of Claims Act, 31 USC '3727. In addition, watch out for non-uniform amendments to this Section (and to Section 9-408), as discussed earlier. Paradigm example: a collateral assignment of an intellectual property license by the licensor. Notwithstanding an anti-assignment clause in the license, the licensor may grant a valid security interest in its right to receive royalties under the license. (In this circumstance, the licensor is the “assignor” or “debtor” and the licensee is the “account debtor.”)

Section 9-407

This Section deals with the assignment of, and security interests in, an interest of a party under a lease, and renders ineffective a term in a lease agreement that prohibits or requires the consent of a party to the lease to the assignment or the creation, attachment, perfection or enforcement of the security interest, or that provides that the assignment or security interest may give rise to a default or breach (Section 9-407(a)). Notwithstanding the foregoing, a term in a lease agreement that provides that an assignment or security interest may give rise to a default or breach is effective to the extent that there is either: (i) a transfer by the lessee of the lessee's right of possession or use of the goods in violation of the term or (ii) a delegation of a material performance of either party to the lease contract in violation of the term (Section 9-407(b)). A lessor's creation of a security interest in its interest in a lease contract or its residual interest in the leased goods is not a material impairment under Section 2A-303(4), absent an actual delegation of the lessor's material performance (Section 9-407(c)).

Section 9-408

This Section deals with the assignment of, and security interests in, a general intangible, including a contract, permit, license, or franchise (and under certain circumstances, a payment intangible and promissory note), and renders ineffective (i) a term in an agreement between the account debtor and the debtor that would impair the creation, attachment, or perfection of the security interest, or that provides that the assignment or security interest may give rise to a default or breach (Section 9-408(a)) and (ii) a rule of law, statute or regulation that similarly would impair the creation, attachment, or perfection of the security interest, or that provides that the assignment or security interest may give rise to a default or breach (Section 9-408(c)). What is noteworthy about this Section is that, unlike Section 9-406, it does not render ineffective restrictions on enforcement. Section 9-408(d) provides that to the extent the term in the agreement between the account debtor and the debtor or a rule of law, statute or regulation would otherwise be effective, the creation, attachment or perfection of a security interest in the general intangible is not enforceable against the account debtor. Paradigm example: a collateral assignment of a non-exclusive intellectual property license by the licensee. Notwithstanding an anti-assignment clause in the license, the licensee may grant a valid security interest in its interest under the license. However, the assignee may not enforce the license against the licensor without the licensor's consent. Accordingly, while the assignee has a valid security interest as against a bankruptcy trustee of the licensee or other secured parties, it may not “step in the shoes” of the licensee vis-'-vis the licensor without the licensor's consent. (In this circumstance, the licensee is the “assignor” or “debtor” and the licensor is the “account debtor.”)

Section 9-409

This Section deals with the assignment of, and security interests in, a letter of credit, and renders ineffective a term in the letter of credit or a rule of law, statute, regulation, custom or practice that would impair the creation, attachment, or perfection of the security interest in the letter-of-credit right, or that provides that the assignment or security interest may give rise to a default or breach (Section 9-409(a)). However, similar to Section 9-408(d), Section 9-409(b) provides that to the extent the term is otherwise effective, the creation, attachment or perfection of a security interest in the letter-of-credit right is not enforceable against the applicant, issuer, nominated person or transferee beneficiary.

Comparison to Former Sections 9-206, 9-318 and 2A-303(3)

Section 9-403 is based on former Section 9-206, and Sections 9404-9406 are based on former Section 9-318. Section 9-407 is based on former Section 2A-303(3). Sections 9-408 and 9-409 are new. In particular, Section 9-408, which deals in part with restrictions on the assignability of general intangibles, has no counterpart in former Section 9-318(4), which does not address restrictions on the creation of a security interest in general intangibles other than a general intangible for money due or to become due. It is worth studying the prior sections since courts will continue to resort to prior case law under these sections.

Section 9-403/Former Section 9-206

These sections are very similar. The main difference is that Section 9-403 has been expanded to include all account debtors (defined as persons obligated on an account, chattel paper or general intangible), whereas former Section 9-206 was limited to buyers and lessees. Thus, for example, Section 9-403 would cover an agreement made by an account debtor under a service contract.

Section 9-404/Former Section 9-318(1)

These sections are very similar. Consistent with the change in Section 9-403, Section 9-404 references an enforceable agreement not to assert defenses or claims, whereas former Section 9-318(1) referenced defenses or claims “arising out of a sale.”

Section 9-405/Former Section 9-318(2)

Former Section 9-318(2) made explicit that the account debtor could agree that a modification or substitution is not effective against the assignee. This language was not carried over into Section 9-405, but presumably this was not intended to be a substantive change. In addition, Section 9-405 makes explicit that a notice can cut off the right of the assignor/account debtor to modify or substitute a fully performed contract.

Section 9-406(a)-(c) and (g)/Former Section 9-318(3)

These sections are very similar, except for Sections 9-406(b)(3) and 9-406(g) (partial assignments), which are new.

Section 9-406(d) and (e)/Former Section 9-318(4)

These sections are similar, except Section 9-406(d) and (e) go into much more detail. Section 9-406(f) is new and has no counterpart in former Section 9-318(4).

Section 9-407/Former Section 2A-303(3)

These sections are very similar.

Next month, the author will review the relevant and developing case law under Chapter 4 of Revised Article 9 and provide a checklist of “Must Do” items, particularly if you're representing the assignee of an equipment lease in a leveraged lease transaction.

Part One of a Two-Part Series

Chapter 4 of Revised Article 9, titled “Rights of Third Parties,” deals with several issues affecting the assignment of accounts, leases, and other contract rights. See, in particular, Sections 9-403 to 9-409. These sections replace former Sections 9-206 and 9-318 and part of Section 2A-303. This article summarizes some of the key provisions of Chapter 4 of Revised Article 9, compares these provisions to former Article 9, and describes a few recent cases under this Chapter. Note that different rules apply in a consumer transaction or if the account debtor is an individual who incurred the obligation primarily for personal, family or household purposes; this article does not address these issues. In addition, this article does not address the assignment of a health care insurance receivable.

A threshold issue is to determine the applicable governing law. The law designated by the secured party and the debtor should not necessarily apply to the relationship between the debtor and the account debtor. Revised Article 9 does not answer this question. The issue comes up, for example, in the context of the anti-assignment override provisions contained in Sections 9-406 and 9-408 discussed below. Delaware law provides that these anti-assignment override provisions do not apply to any interest in a limited partnership or limited liability company; accordingly, restrictions on the pledge of a Delaware limited partnership or limited liability company interests are effective. See Del. UCC ”9-406(i)(5) and 9-408(e)(4), Del. RULPA '17-1101(g), and Del. LLCA '18-1101(g). New York did not adopt the anti-assignment override provisions with respect to statutory restrictions contained in Sections 9-406(f) and 9-408(c). See generally Section 9-401, Comment 3.

Chapter 4's assignment provisions address four key issues:

1) Defenses and claims of the account debtor. What constitutes an enforceable waiver of defenses (Section 9-403)? Absent a waiver, under what circumstances are the account debtor's defenses and claims cut off (Section 9-404)?

2) Modification and substitution of the assigned contract. Under what circumstances are modifications and substitutions effective against the assignee (Section 9-405)?

3) Discharge of the obligation. Under what circumstances can the account debtor discharge its obligation by paying the assignor or the assignee (Section 9-406(a)-(c) and (g))?

4) Contractual or statutory restrictions on assignment. Under what circumstances can such restrictions be overridden (Sections 9-406(d)(e) and (f); 9-407; 9-408; and 9-409)?

Issue #1 ' Defenses and Claims of the Account Debtor

Section 9-403 provides that an agreement between an account debtor and an assignor not to assert against an assignee any claim or defense that the account debtor may have against the assignor is enforceable by the assignee if the assignment:

• is taken for value;
• is taken in good faith;
• is taken without notice of a claim of a property or possessory right to the property assigned; and
• is taken without notice of a defense or claim in recoupment of the type that may be asserted against a person entitled to enforce a negotiable instrument under Section 3-305(a).

Notwithstanding the foregoing, the assignee is still subject to defenses of a type that may be asserted against a holder in due course of a negotiable instrument under Section 3-305(b) (the so-called “real defenses”).

Section 9-403(f) provides that the section does not displace other law that gives effect to an agreement by an account debtor not to assert a claim or defense against an assignee. If the lease contains a “hell or high water” clause, which provides that the lessee will pay the lessor notwithstanding any claims or defenses it might have against the lessor, the assignee will stand in the shoes of the lessor and should be able to enforce this clause under ordinary contract principles (see Comment 4). This will be the case even if the assignee takes the assignment with notice of the claim or defense (and hence would not qualify under Section 9-403(b)) (see Comment 6).

An agreement that is enforceable under Section 9-403 precludes the account debtor from asserting defenses or claims against the assignee. But what happens if for some reason there is no such agreement or the agreement is held to be unenforceable? In that situation, the assignee must look to Section 9-404. That section provides that, unless an account debtor has made an enforceable agreement not to assert defenses or claims, the rights of the assignee are subject to both of the following:

• all terms of the agreement between the account debtor and assignor and any defense or claim in recoupment arising from the transaction that gave rise to the contract (“Related Claims”);
• any other defense or claim of the account debtor against the assignor which accrues before the account debtor receives a notification of the assignment authenticated by the assignor or the assignee (“Unrelated Claims”).

An example clarifies the distinction between Related Claims and Unrelated Claims. Assume that on Jan. 1 the lease is signed (“Lease #1″). On Jan. 15 the lessor delivers the equipment to the lessee and the lessee accepts the equipment. On Feb. 1 the lease, which does not have a hell or high water or waiver of defense clause, is assigned to a bank. On Feb. 2, the bank notifies the lessee of the assignment. On Feb. 15 the equipment breaks down and the lessee stops paying rent. In this example, the bank takes subject to the lessee's claim, because it arose from the transaction that gave rise to the contract (a Related Claim), notwithstanding that the claim arose after the notice. In effect, the bank “stands in the shoes” of the lessor.

Now assume that the lessor and the lessee are parties to another lease (which is not assigned to the bank) (“Lease #2″). On Feb. 28 the equipment under Lease #2 also breaks down. Lessee attempts to set off its claim relating to this equipment against its rent obligation under Lease #1. Because this claim did not arise under Lease #1, and did not accrue before the bank's notice, the bank is not subject to this claim.

The moral of the story: Unless there is an enforceable waiver of defense agreement in place, it is critical that the assignee notify the account debtor as soon as possible of the assignment in order to cut off any Unrelated Claims.

Note that under Section 9-404(b), the claim of an account debtor against an assignor may be asserted against an assignee only to reduce the amount the account debtor owes; that is, the account debtor may not raise affirmative claims against the assignee.

Issue #2 ' Modification and Substitution of the Assigned Contract

Section 9-405 governs when a modification of or substitution for an assigned contract is effective against an assignee. The basic rule is that a modification or substitution made in good faith is effective against the assignee; however, the assignee acquires corresponding rights under the modified or substituted contract. This rule allows the assignor and the account debtor to adjust their relationship notwithstanding the assignment, even to the detriment of the assignee, provided the adjustment is done in good faith. Section 9-405 does provide that the assignment may provide that the modification or substitution is a breach of contract by the assignor. While the section is silent on this, presumably the account debtor and the assignee (and the assignor) can enter into an enforceable agreement that provides that no modification or substitution will be valid without the assignee's prior written consent.

The basic rule applies to the extent that either of the following applies:

• the right to payment or a part thereof under the assigned contract has not been fully earned by performance;
• the right to payment or a part thereof under the assigned contract has been fully earned by performance and the account debtor has not received notification of the assignment.

In other words, if the assigned contract has been fully performed, and the account debtor has received notice of the assignment, then a modification or substitution that occurs after the notice is not effective against the assignee even if made in good faith. On the other hand, if the assigned contract has not been fully performed, a modification or substitution is effective against the assignee if made in good faith, even if notice of the assignment was delivered to the account debtor prior to the modification or substitution.

Issue #3 ' Discharge of the Obligation

Section 9-406(a)-(c) and (g) deal with discharge of the obligation. Section 9-406(a) sets forth the basic rule: An account debtor on an account, chattel paper, or a payment intangible may discharge its obligation by paying the assignor until, but not after, the account debtor receives notification of the assignment, authenticated by the assignor or the assignee that the amount due or to become due has been assigned and that payment is to be made to the assignee. Note that mere notice of the assignment is insufficient; the notice must also direct that payment is to be made to the assignee. After receipt of the notification, the account debtor may discharge its obligation by paying only the assignee, not the assignor.

This seemingly straightforward rule is subject to several important qualifications contained in Section 9-406(b) and (c):

• the notification is ineffective if it does not reasonably identify the rights assigned;
• at the option of the account debtor, the notification is ineffective if it notifies the account debtor to make less than the full amount of any installment or other periodic payment to the assignee even if only a portion of the account, chattel paper or payment intangible has been assigned to the assignee; a portion has been assigned to another assignee; or the account debtor knows that the assignment to the assignee is limited. 9-406(g) provides that the account debtor may not waive or vary this option;
• if requested by the account debtor, an assignee shall seasonably furnish reasonable proof that the assignment has been made; unless the assignee complies, the account debtor may discharge its obligation by paying the assignor, notwithstanding the notification.

The first bullet point is presumably easy to meet ' the assignment should identify the lease contract being assigned with enough specificity that the lessee can alert its payables department to remit payment under the right lease contract to the right assignee (eg, by identifying the master lease and the lease schedule number). The third bullet point should also be easy to meet ' the assignee can require the lessor to sign the notice, or if the notice has already gone out, have the lessor submit proof of the assignment to the lessee.

The second bullet point may prove the most troublesome for certain transactions, eg, container lease transactions where multiple items of equipment are subject to the same master interchange lease. It is not uncommon for some of the items to be financed by one lender and other items to be financed elsewhere. Presumably, the lessee and the assignee who takes a partial assignment can agree that the lessee will remit to the assignee the portion of the rent payments that relate to the assignee's assigned containers. The prohibition in Section 9-406(g) should be read to prohibit the lessor from imposing on the lessee the obligation to make partial payment to an assignee.

Note that there may be certain circumstances where the Section 9-406 discharge rules get trumped. For example, if a surety steps in and performs the obligations of the assignor, then the surety may have equitable subrogation rights superior to those of the assignee.

Issue #4 ' Contractual or Statutory Restrictions on Assignment

Section 9-406(d), (e) and (f) and Sections 9-407, 9-408 and 9-409 deal with contractual and statutory restrictions on assignment. These Sections are extremely complex. Following is a brief summary.

Section 9-406(d), (e) and (f)

These Sections deal with the assignment of, and security interests in, accounts and chattel paper (and under certain circumstances, payment intangibles and promissory notes), and render ineffective (i) a term in an agreement between the account debtor and assignor that prohibits or requires the consent of the account debtor to the assignment or the creation, attachment, perfection or enforcement of the security interest, or that provides that the assignment or security interest may give rise to a default or breach (Sections 9-406(d) and (e)) and (ii) a rule of law, statute or regulation that similarly prohibits or requires the consent of the government or account debtor to the assignment or the creation, attachment, perfection or enforcement of the security interest, or that provides that the assignment or security interest may give rise to a default or breach (Section 9-406(f)). Of course, Section 9-406(f) is subject to federal pre-emption and therefore does not override such laws as the federal Assignment of Claims Act, 31 USC '3727. In addition, watch out for non-uniform amendments to this Section (and to Section 9-408), as discussed earlier. Paradigm example: a collateral assignment of an intellectual property license by the licensor. Notwithstanding an anti-assignment clause in the license, the licensor may grant a valid security interest in its right to receive royalties under the license. (In this circumstance, the licensor is the “assignor” or “debtor” and the licensee is the “account debtor.”)

Section 9-407

This Section deals with the assignment of, and security interests in, an interest of a party under a lease, and renders ineffective a term in a lease agreement that prohibits or requires the consent of a party to the lease to the assignment or the creation, attachment, perfection or enforcement of the security interest, or that provides that the assignment or security interest may give rise to a default or breach (Section 9-407(a)). Notwithstanding the foregoing, a term in a lease agreement that provides that an assignment or security interest may give rise to a default or breach is effective to the extent that there is either: (i) a transfer by the lessee of the lessee's right of possession or use of the goods in violation of the term or (ii) a delegation of a material performance of either party to the lease contract in violation of the term (Section 9-407(b)). A lessor's creation of a security interest in its interest in a lease contract or its residual interest in the leased goods is not a material impairment under Section 2A-303(4), absent an actual delegation of the lessor's material performance (Section 9-407(c)).

Section 9-408

This Section deals with the assignment of, and security interests in, a general intangible, including a contract, permit, license, or franchise (and under certain circumstances, a payment intangible and promissory note), and renders ineffective (i) a term in an agreement between the account debtor and the debtor that would impair the creation, attachment, or perfection of the security interest, or that provides that the assignment or security interest may give rise to a default or breach (Section 9-408(a)) and (ii) a rule of law, statute or regulation that similarly would impair the creation, attachment, or perfection of the security interest, or that provides that the assignment or security interest may give rise to a default or breach (Section 9-408(c)). What is noteworthy about this Section is that, unlike Section 9-406, it does not render ineffective restrictions on enforcement. Section 9-408(d) provides that to the extent the term in the agreement between the account debtor and the debtor or a rule of law, statute or regulation would otherwise be effective, the creation, attachment or perfection of a security interest in the general intangible is not enforceable against the account debtor. Paradigm example: a collateral assignment of a non-exclusive intellectual property license by the licensee. Notwithstanding an anti-assignment clause in the license, the licensee may grant a valid security interest in its interest under the license. However, the assignee may not enforce the license against the licensor without the licensor's consent. Accordingly, while the assignee has a valid security interest as against a bankruptcy trustee of the licensee or other secured parties, it may not “step in the shoes” of the licensee vis-'-vis the licensor without the licensor's consent. (In this circumstance, the licensee is the “assignor” or “debtor” and the licensor is the “account debtor.”)

Section 9-409

This Section deals with the assignment of, and security interests in, a letter of credit, and renders ineffective a term in the letter of credit or a rule of law, statute, regulation, custom or practice that would impair the creation, attachment, or perfection of the security interest in the letter-of-credit right, or that provides that the assignment or security interest may give rise to a default or breach (Section 9-409(a)). However, similar to Section 9-408(d), Section 9-409(b) provides that to the extent the term is otherwise effective, the creation, attachment or perfection of a security interest in the letter-of-credit right is not enforceable against the applicant, issuer, nominated person or transferee beneficiary.

Comparison to Former Sections 9-206, 9-318 and 2A-303(3)

Section 9-403 is based on former Section 9-206, and Sections 9404-9406 are based on former Section 9-318. Section 9-407 is based on former Section 2A-303(3). Sections 9-408 and 9-409 are new. In particular, Section 9-408, which deals in part with restrictions on the assignability of general intangibles, has no counterpart in former Section 9-318(4), which does not address restrictions on the creation of a security interest in general intangibles other than a general intangible for money due or to become due. It is worth studying the prior sections since courts will continue to resort to prior case law under these sections.

Section 9-403/Former Section 9-206

These sections are very similar. The main difference is that Section 9-403 has been expanded to include all account debtors (defined as persons obligated on an account, chattel paper or general intangible), whereas former Section 9-206 was limited to buyers and lessees. Thus, for example, Section 9-403 would cover an agreement made by an account debtor under a service contract.

Section 9-404/Former Section 9-318(1)

These sections are very similar. Consistent with the change in Section 9-403, Section 9-404 references an enforceable agreement not to assert defenses or claims, whereas former Section 9-318(1) referenced defenses or claims “arising out of a sale.”

Section 9-405/Former Section 9-318(2)

Former Section 9-318(2) made explicit that the account debtor could agree that a modification or substitution is not effective against the assignee. This language was not carried over into Section 9-405, but presumably this was not intended to be a substantive change. In addition, Section 9-405 makes explicit that a notice can cut off the right of the assignor/account debtor to modify or substitute a fully performed contract.

Section 9-406(a)-(c) and (g)/Former Section 9-318(3)

These sections are very similar, except for Sections 9-406(b)(3) and 9-406(g) (partial assignments), which are new.

Section 9-406(d) and (e)/Former Section 9-318(4)

These sections are similar, except Section 9-406(d) and (e) go into much more detail. Section 9-406(f) is new and has no counterpart in former Section 9-318(4).

Section 9-407/Former Section 2A-303(3)

These sections are very similar.

Next month, the author will review the relevant and developing case law under Chapter 4 of Revised Article 9 and provide a checklist of “Must Do” items, particularly if you're representing the assignee of an equipment lease in a leveraged lease transaction.