Virtually every small business lender requires a UCC lien (also known as a security interest) to secure their loans.
What is a UCC lien? How does it work? And how do they affect your business?
What Is a Lien?
A lien, or security interest, is a property interest in collateral, specified by your loan and security agreement.
UCC liens for business loans are no different than liens you may be familiar with in other areas of life, such as auto lenders who require a lien on your car as collateral for their car loan or mortgage lenders who require a lien on your house to serve as collateral for their mortgage loan.
Note that there are many different types of liens. The most common are:
Mortgage liens: Liens against real (real estate) property.
Vehicle liens: Liens against your vehicle.
Contractor liens: Liens that can be automatically imposed by unpaid contractors in the work done.
Tax liens: Liens that can be imposed by the government for missed taxes.
UCC liens: Liens in non-real (real estate) property granted by a debtor to a creditor.
But they all function the same way. If you don't pay your debt, the creditor can foreclose on the collateral or recover it in bankruptcy.
Types of UCC Liens
There are two primary types of liens used in business borrowing: blanket liens and liens on specific assets.
Specific liens apply only to specified property, like the vehicle in an auto loan scenario.
Blanket liens apply to all eligible property and are the most common type of lien used in business lending. Under a blanket lien, your creditor can take possession of any and all assets owned by your business (barring specific regulations and exemptions) in order to satisfy your repayment obligations.
To determine the type of lien, check the loan and security agreement. If it specifies limited collateral ("The refrigerator with serial number X767-23SDL"), it's a specific lien. If it's a laundry list of legalese detailing everything you own or ever could conceivably own, it's a blanket lien.
What Is a UCC-1 Financing Statement?
Consider this scenario: You've got a valuable piece of property that you pledge as collateral to secure a loan from the SBA. You then turn around and pledge that same collateral to secure a loan from Able. If go bankrupt, who gets the collateral?
Well, the short answer is the first to "perfect" the security interest. What does that mean? Well, a secured transaction has two parts. The first part is "attachment"--granting (or obtaining) a security interest in the property. The second part is "perfection"--putting other creditors on notice of the security interest in that property.
For most of human history, liens were perfected through possession. You couldn't give your cloak in pledge more than once because the first creditor had physical possession.
With the advent of deeds and titles, you could perfect your lien by making a notation on the document of record demonstrating ownership. All reasonable creditors will look at deed records before making a mortgage loan, so it making a note on the title will put them on notice.
But what if you want to pledge as collateral something that doesn't have a title document... without giving up possession? Well, you need a notice system.
In the United States, we use the Uniform Commercial Code (UCC) to standardize certain business practices. The "crown jewel" of U.S. law is Article 9: the rules for how secured transactions with personal property work.
Article 9 contains detailed rules for how to "perfect" a security interest in personal property. But in most cases, a security interest is "perfected" through a notice filing with the Secretary of State in the state where the debtor is organized.
This notice filing is called a UCC-1 financing statement. It's a standardized, one-page form that creditors use to give notice to other creditors of the existence of a lien. The UCC-1 statement is straightforward and simply includes the creditor's name and address, the borrower's name and address, and a clear description of all property included in the lien.
Whoever files first has first right (or "first lien") position on that collateral, and is entitled to first recovery. This puts the burden on subsequent creditors to review public records to determine whether a business has any existing UCC liens.
Effects on Your Business
When a lien is placed on your property, you don't technically own that property in its entirety anymore, and you're often required to take reasonable precautions to protect that collateral.
For example, if you own a restaurant and take out a business loan that designates your kitchen appliances as collateral, you're required to maintain ownership of those appliances until the loan is paid back. Depending on the terms of the loan, you may even be required to maintain those appliances in good working condition to uphold their value.
Potential for Savings
Nearly all lenders who offer low-interest products require a blanket UCC lien from borrowers, and most, such as the Small Business Administration and most banks (but not necessarily Able!), require that lien to be first position. Fortunately, in most cases attaching a UCC lien to your loan will significantly reduce your interest rates, saving you a lot of money over time.