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UCC Searches in the Computer Age
By Scott Blakeley

As in most businesses, the introduction of computer technology has revolutionized the credit field. Access to seemingly limitless information and reporting is now available on a credit executive's desktop.

One example of how computer databases are used is in a lien search. For a business considering extending credit to a potential debtor, lien searches are very important as the search discloses the number and type of secured creditors the debtor has. This information may be used by the credit executive for cash flow and liquidation analysis of the debtor and could provide a compelling picture of the risk of extending credit.

While computers cut down on the time it takes to conduct a lien search, their efficiency may also create certain risks for credit executives. Uncovering a lien has everything to do with how that lien was recorded. A computerized database search of the debtor's name will not uncover liens that have been improperly recorded. Here's why: if a creditor who has filed a lien failed to properly record the debtor's name, the lien will not show up in a database search using the debtor's correct name, as it will not match the input it had originally been given. This is not such a widespread problem in manual searches because the person doing the manual search also checks for basic variations of the debtor's name.

In re Mines Tire Co., Inc.1, the debtor's name was not properly recorded, so the court had to consider whether a lien should stand. A database search had not uncovered the lien, yet the lien was uncovered in a manual search. Under Article 9 of the Uniform Commercial Code, courts generally allow liens to stand where the secured creditor's mistake in recording the debtor's name is not seriously misleading to anyone conducting a search. This court's analysis, accordingly, provides a warning to credit executives that computerized searches may not be thorough enough, in a case where a creditor has failed to properly record the debtor's name.

11. 194 B.R. 23 (Bankr. W.D.N.Y. 1996)

Selling The Business

In re Mines Tire Company, a tire center sold its business to the debtor, Mines Tire Company. Mines Tire Company executed three promissory notes to favor of the seller. The notes were supposedly secured by all of Mines Tire Company's newly purchased assets. The seller filed a financing statement in the name of "Mines Company, Inc.", leaving out the word "Tire." Thereafter, Mines Tire Company filed a Chapter 11 bankruptcy, which was later converted to Chapter 7.

The seller sought to foreclose on the collateral. The Chapter 7 trustee objected on behalf of the unsecured creditors involved in the case. The trustee contended that the seller had not properly perfected its lien because the seller failed to include the word "Tire" in its financing statement. A computer search by the trustee under the name "Mines Tire Company" did not reveal any lien in favor of the seller. The trustee contended it could avoid the seller's lien under the Bankruptcy Code's "strong arm" avoiding powers.

Lien Searches In The Computer Age

Perfecting a security interest in personal property is a multi-step procedure under Article 9 of the Uniform Commercial Code. When the debtor obtains secured financing, the debtor first executes a security agreement describing the collateral, which gives the creditor a security interest in the collateral. The creditor perfects the security interest when it files a financing statement with the filing office (usually the Secretary of State and, perhaps, the County Clerk) which adequately describes the collateral.

Section 9-402 of the Uniform Commercial Code provides that a financing statement must include the names of the debtor and the secured party. But section 9-402 also provides "[a] financing statement substantially complying with the requirements of this section is effective even though it contains minor errors which are not seriously misleading." The court framed the issue as whether leaving "Tire" out of the debtor's name was seriously misleading to the searcher. If it was found to be seriously misleading, it would render the seller's lien avoidable by the trustee.

As a general rule, courts treat mistakes involving a descriptive word as minor and not seriously misleading. The court provided three illustrations where courts have let stand liens, though mistakes were made executing financing statements: (1) "Excel Stores, Inc." was filed as "Excel Department Stores, Inc."; (2) "Nara Non Food Distributing, Inc." was filed as "Nara Food Distributing, Inc."; and (3) "The Kohn's Supermarket, Inc." was filed as "Kohn's Supermarket d/b/a Best K Foods, Inc."

The court stated:
"When determining whether an inaccuracy in the naming of the debtor in the financing statement was a "minor error" which was "not seriously misleading", a court must ask whether a reasonably diligent searcher would be likely to discover a financing statement indexed under the correct name. . . In this regard the inquiry must question the extent of the discrepancy between the debtor's true name and that indicated on the financing statement, so as to determine whether the filing gave the minimum information necessary to put any searcher on inquiry."

The trustee's computer search did not uncover any lien filed under the debtor's name. The trustee argued that the financing statement must be filed under the exact name of the debtor or it would be seriously misleading to the searcher conducting a computerized lien search. The court conducted its own search, manually, and concluded that a manual search would have located the indexed name and uncovered the lien. 2

A Credit Executive's Diligence With Lien Searches

The court discussed the duty of creditors in conducting their UCC searches:
"This Court wishes neither to encourage nor to dissuade the use of computers. If they are to be used, however, that use may not excuse or compromise the level of care which a creditor must exercise in conducting its search of lien filings. To the extent that a human searcher would inevitably examine all corporate names having certain basic components, a computer searcher should act similarly. It will not suffice to perform a word search for the precise corporate name. Rather, the interested party should expand its investigation to include all related entries through which a manual searcher might have stumbled."3

The court's decision goes beyond the issue of the propriety of computer versus manual lien searches. Rather, the court appears to burden credit executives to search every reasonable variation of a debtor's name, whether conducting a manual or computerized search. The court seems intent on protecting sloppy secured creditors at the expense of unsecured creditors. The court, however, provides little guidance on how broad a search must be before a missed name may be considered "seriously misleading." Credit executives who search UCC records before selling on open account should conduct very broad searches, whether by computer or manually.

22. 194 B.R. at 24

33. 194 B.R. at 26

Reprinted by permission from Trade Vendor Quarterly
Blakeley & Blakeley LLP

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