Financing Accessions: A Real-World Analysis in Question and Answer Format

While proper diligence on the front end of the transaction can minimize the risk, the rules and exceptions do not follow the usual pattern applicable to Uniform Commercial Code analysis. This article will present a suggested analysis in the form of a series of questions.

1. If the item I am financing is easily removable from the Other Equipment, or if it is not an integral part of the Whole, is it even properly considered an Accession? Isn't the analysis the same as it applies to a real estate fixture?

This question identifies one of the most common misunderstandings plaguing Accession Lenders. If, in our example, the crane is “physically attached,” it qualifies as an Accession regardless of the cost, difficulty of removal, or if it is an integral part of the Other Equipment. Even if the nature of the purported Accession is frequently considered part of the Whole or an integral component to the Whole and not a stand-alone unit, an item “physically attached” to another item still creates an Accession. The “normal” or “frequent” understanding of what is the Whole, such as “a motor vehicle consists of physically attached tires,” is irrelevant in determining if the attachment (the tires) qualifies as an Accession. Note, however, that if the Accession loses its identity due to integration into the other Equipment, Section 9-336 applies and the Accession becomes “commingled” goods, subject to the specific rules of the section instead of 9-335. This is in stark contrast to the rules applied in many states to determine whether an item attached to a building is a fixture.

2. With regard to Other Equipment that is not covered by a certificate of title: Can I get a purchase money security interest (“PMSI”) in the Accession? Is my PMSI enough to protect my interest?

If the Other Equipment is not subject to a state certificate of title law, the normal UCC rules for perfection and priority apply. If the Accession Lender in our hypothetical timely files a UCC-1 financing statement within the 20-day purchase money security interest window with respect to the crane, and if the Other Equipment is a non-titled piece of construction equipment, the Accession Lender will have priority in the crane.

However, if the Accession Lender does not file a UCC-1 financing statement within the statutory period, or if the Accession does not otherwise qualify for PMSI protection (such as a sale/leaseback rather than a purchase from the seller of the Accession), the Accession Lender's security interest in the Accession is likely to be subordinate to the Other Equipment Lender's security interest in the Whole. The key issue is generally what rights the Other Equipment Lender is claiming; the commonly used phrase, “all equipment and all replacements, attachments and accessions thereto,” would be sufficient to give the security interest of the Other Equipment Lender priority to the Accession as well as the Other Equipment. In short, if the Other Equipment Lender claims an interest in the Whole, its interest will prime that of the Accession Lender in the Accession unless the Accession Lender has PMSI protection, just as in the case of a blanket lien filing that covers after-acquired property.

3. How is this different from the rights of a lessor under a true lease?

Of course, PMSI analysis is irrelevant where true leases are concerned, but there is a conceptual analogy. Just as a PMSI lender is given superior rights in newly acquired items that can be identified as financed by the PMSI loan, a lessor who owns an Accession before attachment to the Other Equipment is protected under most circumstances. An Accession Lessor does not have priority in the Accession if it acquired the Accession after the Accession's physical attachment to the Other Equipment.

4. So if I have protected my rights in the Accession, and the Other Equipment is not titled, I have no other problems?

Answering a question with a question: As an Accession Lender, do you have the right under your documentation to remove the Accession upon a borrower default and do you know the cost of removing the Accession from the Whole? In our hypothetical, assume that the Other Equipment is not a titled vehicle. You timely file your UCC-1 financing statement and can validly claim PMSI protection, thus achieving priority in the Accession. If the Whole is sold, you have rights, which are discussed herein, but what about immediately after the default?

If the Accession Lender has priority in the Accession, UCC Section 9-335(e) allows the removal of the Accession regardless of whether the Accession is difficult to remove, provided that the Accession Lender must promptly reimburse the Other Equipment Lender for damage caused by removing the Accession. As a practical matter, however, the lender or lessor may find it faces a difficult time obtaining possession of the Accession if the loan or lease document does not clearly give it the right to remove the item, particularly if the Other Equipment Lender or a landlord is also attempting to sequester the Whole.

In fact, regardless of what is provided in the loan or lease agreement, an Other Equipment Lender with a superior interest in the Whole may require an Accession Lender to give adequate assurance of its ability to pay for damage to the Whole caused by removal of the Accession.

The Accession Lessor in Rent-N-Roll v. Highway 64 Car & Truck Sales, 2010 Tenn. App. LEXIS 716 (2010), had a superior claim to the specialty tires that it had leased to the lessee over the Other Equipment Lender that financed the motor vehicle on which the tires were installed. Although it had the right to remove the tires, the Accession Lessor had to pay damages to the Other Equipment Lender because it had to cut into the body of the motor vehicle for purposes of removing the specialty tires.

There is an important limitation on this responsibility: The Accession Lender is not liable for any decrease in the market value of the Whole caused when properly removing the Accession, even if the Whole is worthless without the Accession being attached.

The Rent-N-Roll case underscores several points raised in this article, including that even the mere attachment of motor vehicle tires can create an Accession, so Accession Lessors, like Accession Lenders, must pay attention to the potential issues while acknowledging that indemnification by the lessee or borrower may be worthless. The perfect-world remedy would be to enter into an intercreditor agreement with the Other Equipment Lender so that the vehicle could be sold with the tires, but in many cases (such as tires), is this even practical?).

5. What if the Accession will be attached to Other Equipment that is subject to a state certificate of title law, such as a motor vehicle?

The simple answer is that the party with a perfected ownership or lienhold interest under state titling laws has priority in the Whole, including any Accessions under Section 9-335(d). In our hypothetical, the security interest of the Accession Lender would be subject and subordinate to the security interest of the Other Equipment Lender vehicle if: 1) The Other Equipment is a titled motor vehicle; 2) The Other Equipment Lender complies with the applicable state certificate of title law; and 3) The security interest of the Other Equipment Lender attaches to the Accession. This scenario is commonly found where one lender finances a chassis while others finance or lease Accessions placed on the chassis, assuming that the Accessions are not themselves covered by the motor vehicle title laws.

Once again, things may not be as simple as they appear. An Other Equipment Lender or a lessor who financed titled equipment and is listed as “lienholder” or “owner” on the certificate of title does not automatically have priority in all Accessions. Commentary in the UCC states that if the security interest of the Other Equipment Lender attaches to the Accession, then the Other Equipment Lender takes priority. In our example, the Accession Lender financing the crane may still have priority in the crane if the Other Equipment Lender's security interest does not attach to the crane. The rules regarding attachment must therefore be considered.

6. What controls whether the Other Equipment Lender's security interest in the Whole attaches to my Accession and therefore primes my security interest?

Veteran commercial lawyers know to look to the financing statement's description of collateral for this answer, possibly augmented by specific UCC language regarding proceeds or other special situations. In the case of Accessions to titled Other Equipment, this customary analysis breaks down: The UCC does not cover titled equipment. Unfortunately, certificates of title only describe the motor vehicle itself, and do not include language such as “all attachments, replacements or accessions” or the like.

The answer is that the description in the Other Equipment Lender's security agreement and NOT the description in the public registry or on a certificate of title controls for purposes of attachment. In another words, if the collateral description in the security agreement only lists the motor vehicle and does not provide for all “accessions” the Accession Lender may prevail. (The lesson for lenders and lessors financing motor vehicles and other titled equipment is clear: Always include accessions in your collateral description in the security agreement or lease.

7. Is there any way to finance an Accession to titled equipment and not lose out to the Other Equipment Lender?

Absent an intercreditor or subordination agreement, the safest alternative is to lease the Accession under a lease that will qualify as a true lease under UCC Article 2A. UCC Section 2A-310 provides protection to Accession Lessors. As with non-titled equipment, if the lease transaction is entered into before the Accession becomes physically attached to the Other Equipment, an Accession Lessor's (ownership) interest is generally protected. As discussed above, the Rent-N-Roll case involved an Accession Lessor that was held to have priority in the Accession over an Other Equipment Lender with a perfected security interest in the titled motor vehicle.

The principal exceptions to this rule are found in UCC Section 2A-310(4). An Accession Lessor's interest is subordinate to a buyer or lessee in the ordinary course of business and to the interest of a secured party with a perfected interest in the Whole who makes subsequent advances without knowledge of the leased Accession ' similar to the common exceptions most commercial lawyers are familiar with under UCC Article 9. The safest approach for Accession Lessors proposing to lease Accessions that will be attached to titled equipment are: 1) Be certain that it owns the Accession before attachment to the Other Equipment; 2) Examine the certificate of title before closing; and 3) At least notify the Other Equipment Lender that it should not make advances assuming that the Accession is owned by the lessee or otherwise subject to its security interest in the Whole.

Conclusion

Financing Accessions, like real estate fixture financings or financing inventory, requires additional factual investigation and a greater understanding of laws outside the Uniform Commercial Code. In simple terms, the suggested analysis is:

• First, determine whether the item is or is likely to be attached to another piece of equipment and, if so, consider it an Accession.
• Second, determine the cost and practicality of removing the Accession following a borrower or lessee default. If it will be costly to remove or to repair the Other Equipment, contact the Other Equipment Lender and see if an intercreditor agreement would be acceptable. In addition, be certain your loan or lease documentation properly addresses the issue of removal or disabling following a default.
• Third, if the Other Equipment is not titled, and if your transaction will be a financing, be sure you will have PMSI protection. Alternatively, if your transaction will be a lease, be sure that the equipment is purchased and leased to the lessee before it is attached to the Other Equipment.
• Fourth, if the Other Equipment is titled and if the transaction can be structured as a lease, follow the procedures described above to protect ownership rights in leased Accessions generally, but beware the possibility of future advances by an Other Equipment Lender holding an existing security interest in the Other Equipment without knowledge of your lease. If, however, the transaction is a financing, obtain the original or a reliable copy of the certificate of title and, if there is a lien against the Other Equipment, obtain a subordination or intercreditor agreement.

Barry Marks is a founding shareholder and Matthew D. Evans is an associate with Marks & Associates, P. C. Marks, a member of this newsletter's Board of Editors, centers his practice on equipment leasing and finance. The authors can be reached at [email protected] and [email protected], respectively.

Consider how you would address this familiar situation: Your borrower wants to finance a crane that will be attached to and used on a motorized piece of construction equipment, but does not need you to finance the construction equipment itself, only the crane attachment. On its face, this all sounds simple enough, but as many lenders and lessors have discovered, financing a unit that will be attached to equipment financed by another lender can be more challenging than it appears. Especially if the other item is a titled motor vehicle.

When financing an item of equipment (an “Accession”) that may become physically attached to other equipment (the “Other Equipment” and together with the Accession, the “Whole”), lenders (we will call them “Accession Lenders”) or lessors (“Accession Lessors”) should approach these situations with caution. The holder of an interest in the Other Equipment (we will call it the “Other Equipment Lender”) can take priority over the Accession Lender's security interest in the Accession or even the ownership interest of an Accession Lessor.

This issue is even more complicated where the Other Equipment is a motor vehicle, trailer or other equipment subject to a state's certificate of title law. Under Section 9-303 of the Uniform Commercial Code (UCC), local laws govern perfection and priority in goods covered by certificates of title. It should be noted that these laws are not uniform in their application and 9-303 is clear that the preemption is only for goods covered by certificates of title, not those that are merely eligible for titling.

While proper diligence on the front end of the transaction can minimize the risk, the rules and exceptions do not follow the usual pattern applicable to Uniform Commercial Code analysis. This article will present a suggested analysis in the form of a series of questions.

1. If the item I am financing is easily removable from the Other Equipment, or if it is not an integral part of the Whole, is it even properly considered an Accession? Isn't the analysis the same as it applies to a real estate fixture?

This question identifies one of the most common misunderstandings plaguing Accession Lenders. If, in our example, the crane is “physically attached,” it qualifies as an Accession regardless of the cost, difficulty of removal, or if it is an integral part of the Other Equipment. Even if the nature of the purported Accession is frequently considered part of the Whole or an integral component to the Whole and not a stand-alone unit, an item “physically attached” to another item still creates an Accession. The “normal” or “frequent” understanding of what is the Whole, such as “a motor vehicle consists of physically attached tires,” is irrelevant in determining if the attachment (the tires) qualifies as an Accession. Note, however, that if the Accession loses its identity due to integration into the other Equipment, Section 9-336 applies and the Accession becomes “commingled” goods, subject to the specific rules of the section instead of 9-335. This is in stark contrast to the rules applied in many states to determine whether an item attached to a building is a fixture.

2. With regard to Other Equipment that is not covered by a certificate of title: Can I get a purchase money security interest (“PMSI”) in the Accession? Is my PMSI enough to protect my interest?

If the Other Equipment is not subject to a state certificate of title law, the normal UCC rules for perfection and priority apply. If the Accession Lender in our hypothetical timely files a UCC-1 financing statement within the 20-day purchase money security interest window with respect to the crane, and if the Other Equipment is a non-titled piece of construction equipment, the Accession Lender will have priority in the crane.

However, if the Accession Lender does not file a UCC-1 financing statement within the statutory period, or if the Accession does not otherwise qualify for PMSI protection (such as a sale/leaseback rather than a purchase from the seller of the Accession), the Accession Lender's security interest in the Accession is likely to be subordinate to the Other Equipment Lender's security interest in the Whole. The key issue is generally what rights the Other Equipment Lender is claiming; the commonly used phrase, “all equipment and all replacements, attachments and accessions thereto,” would be sufficient to give the security interest of the Other Equipment Lender priority to the Accession as well as the Other Equipment. In short, if the Other Equipment Lender claims an interest in the Whole, its interest will prime that of the Accession Lender in the Accession unless the Accession Lender has PMSI protection, just as in the case of a blanket lien filing that covers after-acquired property.

3. How is this different from the rights of a lessor under a true lease?

Of course, PMSI analysis is irrelevant where true leases are concerned, but there is a conceptual analogy. Just as a PMSI lender is given superior rights in newly acquired items that can be identified as financed by the PMSI loan, a lessor who owns an Accession before attachment to the Other Equipment is protected under most circumstances. An Accession Lessor does not have priority in the Accession if it acquired the Accession after the Accession's physical attachment to the Other Equipment.

4. So if I have protected my rights in the Accession, and the Other Equipment is not titled, I have no other problems?

Answering a question with a question: As an Accession Lender, do you have the right under your documentation to remove the Accession upon a borrower default and do you know the cost of removing the Accession from the Whole? In our hypothetical, assume that the Other Equipment is not a titled vehicle. You timely file your UCC-1 financing statement and can validly claim PMSI protection, thus achieving priority in the Accession. If the Whole is sold, you have rights, which are discussed herein, but what about immediately after the default?

If the Accession Lender has priority in the Accession, UCC Section 9-335(e) allows the removal of the Accession regardless of whether the Accession is difficult to remove, provided that the Accession Lender must promptly reimburse the Other Equipment Lender for damage caused by removing the Accession. As a practical matter, however, the lender or lessor may find it faces a difficult time obtaining possession of the Accession if the loan or lease document does not clearly give it the right to remove the item, particularly if the Other Equipment Lender or a landlord is also attempting to sequester the Whole.

In fact, regardless of what is provided in the loan or lease agreement, an Other Equipment Lender with a superior interest in the Whole may require an Accession Lender to give adequate assurance of its ability to pay for damage to the Whole caused by removal of the Accession.

The Accession Lessor in Rent-N-Roll v. Highway 64 Car & Truck Sales, 2010 Tenn. App. LEXIS 716 (2010), had a superior claim to the specialty tires that it had leased to the lessee over the Other Equipment Lender that financed the motor vehicle on which the tires were installed. Although it had the right to remove the tires, the Accession Lessor had to pay damages to the Other Equipment Lender because it had to cut into the body of the motor vehicle for purposes of removing the specialty tires.

There is an important limitation on this responsibility: The Accession Lender is not liable for any decrease in the market value of the Whole caused when properly removing the Accession, even if the Whole is worthless without the Accession being attached.

The Rent-N-Roll case underscores several points raised in this article, including that even the mere attachment of motor vehicle tires can create an Accession, so Accession Lessors, like Accession Lenders, must pay attention to the potential issues while acknowledging that indemnification by the lessee or borrower may be worthless. The perfect-world remedy would be to enter into an intercreditor agreement with the Other Equipment Lender so that the vehicle could be sold with the tires, but in many cases (such as tires), is this even practical?).

5. What if the Accession will be attached to Other Equipment that is subject to a state certificate of title law, such as a motor vehicle?

The simple answer is that the party with a perfected ownership or lienhold interest under state titling laws has priority in the Whole, including any Accessions under Section 9-335(d). In our hypothetical, the security interest of the Accession Lender would be subject and subordinate to the security interest of the Other Equipment Lender vehicle if: 1) The Other Equipment is a titled motor vehicle; 2) The Other Equipment Lender complies with the applicable state certificate of title law; and 3) The security interest of the Other Equipment Lender attaches to the Accession. This scenario is commonly found where one lender finances a chassis while others finance or lease Accessions placed on the chassis, assuming that the Accessions are not themselves covered by the motor vehicle title laws.

Once again, things may not be as simple as they appear. An Other Equipment Lender or a lessor who financed titled equipment and is listed as “lienholder” or “owner” on the certificate of title does not automatically have priority in all Accessions. Commentary in the UCC states that if the security interest of the Other Equipment Lender attaches to the Accession, then the Other Equipment Lender takes priority. In our example, the Accession Lender financing the crane may still have priority in the crane if the Other Equipment Lender's security interest does not attach to the crane. The rules regarding attachment must therefore be considered.

6. What controls whether the Other Equipment Lender's security interest in the Whole attaches to my Accession and therefore primes my security interest?

Veteran commercial lawyers know to look to the financing statement's description of collateral for this answer, possibly augmented by specific UCC language regarding proceeds or other special situations. In the case of Accessions to titled Other Equipment, this customary analysis breaks down: The UCC does not cover titled equipment. Unfortunately, certificates of title only describe the motor vehicle itself, and do not include language such as “all attachments, replacements or accessions” or the like.

The answer is that the description in the Other Equipment Lender's security agreement and NOT the description in the public registry or on a certificate of title controls for purposes of attachment. In another words, if the collateral description in the security agreement only lists the motor vehicle and does not provide for all “accessions” the Accession Lender may prevail. (The lesson for lenders and lessors financing motor vehicles and other titled equipment is clear: Always include accessions in your collateral description in the security agreement or lease.

7. Is there any way to finance an Accession to titled equipment and not lose out to the Other Equipment Lender?

Absent an intercreditor or subordination agreement, the safest alternative is to lease the Accession under a lease that will qualify as a true lease under UCC Article 2A. UCC Section 2A-310 provides protection to Accession Lessors. As with non-titled equipment, if the lease transaction is entered into before the Accession becomes physically attached to the Other Equipment, an Accession Lessor's (ownership) interest is generally protected. As discussed above, the Rent-N-Roll case involved an Accession Lessor that was held to have priority in the Accession over an Other Equipment Lender with a perfected security interest in the titled motor vehicle.

The principal exceptions to this rule are found in UCC Section 2A-310(4). An Accession Lessor's interest is subordinate to a buyer or lessee in the ordinary course of business and to the interest of a secured party with a perfected interest in the Whole who makes subsequent advances without knowledge of the leased Accession ' similar to the common exceptions most commercial lawyers are familiar with under UCC Article 9. The safest approach for Accession Lessors proposing to lease Accessions that will be attached to titled equipment are: 1) Be certain that it owns the Accession before attachment to the Other Equipment; 2) Examine the certificate of title before closing; and 3) At least notify the Other Equipment Lender that it should not make advances assuming that the Accession is owned by the lessee or otherwise subject to its security interest in the Whole.

Conclusion

Financing Accessions, like real estate fixture financings or financing inventory, requires additional factual investigation and a greater understanding of laws outside the Uniform Commercial Code. In simple terms, the suggested analysis is:

• First, determine whether the item is or is likely to be attached to another piece of equipment and, if so, consider it an Accession.
• Second, determine the cost and practicality of removing the Accession following a borrower or lessee default. If it will be costly to remove or to repair the Other Equipment, contact the Other Equipment Lender and see if an intercreditor agreement would be acceptable. In addition, be certain your loan or lease documentation properly addresses the issue of removal or disabling following a default.
• Third, if the Other Equipment is not titled, and if your transaction will be a financing, be sure you will have PMSI protection. Alternatively, if your transaction will be a lease, be sure that the equipment is purchased and leased to the lessee before it is attached to the Other Equipment.
• Fourth, if the Other Equipment is titled and if the transaction can be structured as a lease, follow the procedures described above to protect ownership rights in leased Accessions generally, but beware the possibility of future advances by an Other Equipment Lender holding an existing security interest in the Other Equipment without knowledge of your lease. If, however, the transaction is a financing, obtain the original or a reliable copy of the certificate of title and, if there is a lien against the Other Equipment, obtain a subordination or intercreditor agreement.

Barry Marks is a founding shareholder and Matthew D. Evans is an associate with Marks & Associates, P. C. Marks, a member of this newsletter's Board of Editors, centers his practice on equipment leasing and finance. The authors can be reached at [email protected] and [email protected], respectively.