Bankruptcy Court Rulings Pose Serious Threats
To Secured Lenders
CBAI continues to monitor the status of two troubling federal bankruptcy court decisions and to consult with community banks and attorneys involved in those cases regarding the progress of the litigation and any appeals. Both decisions were issued by federal judge Gerald Fines of the U.S. Bankruptcy Court for the Central District of Illinois, but if not overturned CBAI fears that the tactics and consequences of those cases could spread to other jurisdictions throughout Illinois.
In the first case, Judge Fines ruled that a bank has perfected security U.C.C. Article 9-securityinterest could be set aside by a bankruptcy trustee if the financing statement did not identify the debtor by his or her birth certificate name. The bank had relied on the name on the debtor’s driver’s license, the name commonly used by the debtor in business and used by the debtor on banking records (i.e., loan documents, account signature cards, etc.). The bank has appealed Judge Fines’ decision.
In the more recent case, Judge Fines concluded that a bankruptcy trustee could void a mortgage if the recorded mortgage instrument failed to state the elements listed in Section 11 of Illinois’ Conveyances Act (e.g., amount, maturity date and interest rate on the note). Even though that statute appears to be permissive rather than mandatory (stating that a recorded mortgage “may be” in substantially the following form and then identifying the elements mentioned above), the judge ruled that the statute creates a “safe harbor” assuring that mortgagees who specify those elements will have a mortgage interest that is unassailable, but conversely ruling that mortgagees who fail to include the statutory elements will have mortgages that could be voided in bankruptcy. This case is also being appealed.
In the interim, CBAI encourages community banks to consult with their bank counsel regarding how to face similar efforts in the future from bankruptcy trustees that might attempt to void an Article 9 security interest or a recorded mortgage. One note of caution: seeking safe harbor by attaching a rider or addendum to future mortgages that disclose the elements found in Section 11 of the Conveyances Act could be interpreted as a concession by the bank that its existing mortgages are legally deficient.
CBAI will closely monitor these appealed cases, offer any appropriate legal or practical consultation, and keep CBAI members apprised of the outcomes.