United States: Second Circuit Decision Reminds Us To Double-Check Documents
Official Committee of Unsecured Creditors v. JPMorgan Chase Bank, N.A. (In re Motors Liquidation Co.), Appeal No. 13-2187 (2nd Cir. Jan. 21, 2013)
In a decision that sent a shiver down the spine of attorneys and lenders alike, on January 21, 2015, the U.S. Court of Appeals for the Second Circuit (the “Second Circuit”) ruled that JPMorgan Chase Bank, N.A. (“JPMorgan”) had released its security interest on a $1.5 billion loan to General Motors (“GM”) by the inadvertent filing of a UCC-3 termination statement. The Second Circuit held that although JP Morgan and GM did not intend to terminate the security interest at issue, the termination was effective because JP Morgan authorized the filing of the UCC-3 termination statement.
In October 2001, GM entered into a synthetic lease financing transaction (“Synthetic Lease”), by which it obtained approximately $300 million in financing from a syndicate of lenders (the “Lenders”) including JPMorgan who served as the administrative agent. The Synthetic Lease was secured by mortgages on several pieces of real estate, which were perfected by the proper filing of two UCC-1 financing statements by JPMorgan (the “Synthetic Lease UCC-1s”). Separately, GM entered into an unrelated term loan facility (the “Term Loan”). JPMorgan also served as the administrative agent on this loan. The Term Loan was secured by security interests in a variety of GM’s assets, including equipment and fixtures at forty-two facilities throughout the United States. JPMorgan properly filed UCC-1 financing statements to perfect its security interest in the various assets, including one such statement filed in Delaware covering all GM’s equipment and fixtures at 42 of the facilities (the “Term Loan UCC-1”).
In September 2008, as the Synthetic Lease was nearing maturity, GM decided to pay-off the loan and contacted its counsel to prepare the necessary documentation, including documents to release the Lender’s security interests. In order to prepare the documents necessary to terminate the Lender’s security interests, GM’s counsel ordered a search for UCC-1 statements that had been recorded against GM in Delaware. This search yielded three UCC-1s: the Synthetic Lease UCC-1s and the Term Loan UCC-1. As part of the transaction, GM’s counsel prepared a closing checklist and UCC-3 termination statements to terminate all three security interests, mistakenly including the Term Loan UCC-1. Although all parties and their counsel reviewed the checklist and the draft documentation, no one caught the error. In October 2008, GM paid off the Synthetic Lease and the three UCC-3 termination statements were filed with the Delaware Secretary of State.
The mistake went unnoticed until 2009 when GM filed its Chapter 11 bankruptcy. JPMorgan became aware of the inadvertent filing of the UCC-3 statement relating to the Term Loan. JPMorgan advised the Official Committee of Unsecured Creditors (the “Committee”) appointed in GM’s bankruptcy of this filing mistake and asserted that the Term Loan was secured nonetheless because the filing was ineffective because it was unauthorized. The Committee commenced the underlying action against JPMorgan seeking a determination that, despite the error, the UCC-3 statement with respect to the Term Loan was effective and the Term Loan was unsecured. JPMorgan opposed this determination on the basis that under UCC §9-509(d)(1) because it did not intend to terminate the security interest related to the Term Loan, the filing was not authorized and therefore not effective. The United States Bankruptcy Court for the Southern District of New York (the “Bankruptcy Court”) agreed with JPMorgan and held that the mistaken UCC-3 statement was unauthorized and therefore not effective to terminate a secured lender’s interest in a debtor’s property. The Committee filed a direct appeal of the Bankruptcy Court’s decision to the Second Circuit.
The Second Circuit certified the question related to interpretation of UCC §9-509(d)(1) to the Delaware Supreme Court because it presented a significant issue of Delaware state law. The Delaware Supreme Court held that under UCC §9-509(d)(1) if the secured party of record authorized the filing of the UCC-3 statement, that statement is effective regardless of whether the secured party subjectively intended or understood the effect of filing the statement. The Second Circuit then held that although JP Morgan never intended to terminate the Term Loan UCC-1, it clearly authorized the filing by counsel of the UCC-3 statement with respect thereto. Accordingly, the Second Circuit held that the UCC-3 with respect to the Term Loan was effective, reversing the Bankruptcy Court’s decision, and thereby rendering the Term Loan unsecured.
This decision provides a terrifyingly simple, and for parties involved costly, reminder to always double check your documents.
Originally published March 13, 2015.