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Chapter 11

BUS 393 Chapter Notes - Chapter 11: Security Interest, Secured Creditor, Chattel Mortgage


Department
Business Administration
Course Code
BUS 393
Professor
Richard Yates
Chapter
11

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Chapter 11 – Priority of Creditors
Methods of Securing Debt
Secured creditor – successful in ensuring priority over other creditors
Personal Property
Real property – land, buildings, fixtures (items attached to the land)
Personal property – chattels (tangible, movable things) and choses in
action (intangible rights that are legally enforceable claims, eg. cheques and
promissory notes)
Pledge – when creditor has right to sell item if borrower does not repay the
loan (pawn shop)
When personal property used as security, creditor has right to take
possession upon default
The Traditional Approach
Conditional sale – possession of good is given to buyer, but seller
(creditor) retains ownership; after final payment, title is conveyed to
the buyer (SOGA applies)
Chattel mortgage – creditor is not the seller of goods. Typically,
debtor borrows money from bank, and bank requires security => title
of some good transferred to creditor as “collateral security”, while
debtor has possession of goods; after final payment, title of goods is
returned to debtor (Sale of Goods Act does not apply)
Assignment of accounts receivables – in case of default, creditor
has right to intercept payment of A/R
Leases – possession of goods goes to lessee while title remains with
lessor
oOperating lease – goods are rented to lessee to use during lease
period
oLease to purchase – credit purchase where title is transferred to
lessee and end of lease period
Personal Property Security Act
Used all across Canada, creating unified approach towards personal
property as security
Allows both tangible and intangible forms of personal property to be
used as security
Creating a Secured Relationship – 3 stages: 1) enter into contractual
agreement 2) secured interest must attach to the collateral 3) secured
interest must be perfected
oAttachment – when debtor receives value under the contract,
which gives the creditor a claim against the security in the event
of default
oPerfection – either through registration of the obligation with
appropriate government agency, or creditor obtaining physical
possession of collateral
Priority of Secured Creditors – generally determined by date of
registration
oException: purchase money security interest
oException: sales made in normal course of business
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Rights and Remedies upon Default
oCreditor can take possession of goods and sell – must usually
hire a bailiff to seize goods
oBefore creditor can sell goods, must notify debtor and give them
the right to redeem by paying any money owing – after
notification period expires, creditor can sell and charge debtor
for any shortfall and additional expenses
oIn BC, creditor loses right to sue for deficiency if he takes
possession of goods, fails to properly look after them, or fails to
get a fair price b/c of careless sale
oIf there is a surplus from the sale, debtor is entitled to surplus
oCreditor may choose to take goods and keep them – no
deficiency/surplus
Summary: If a person borrows money from a bank using a car as security,
attachment is when the money is advanced and perfection is when the bank
files registration. A buyer of the car would search the registry and be
forewarned to avoid buying it. In the case of default, the bank can recover
the vehicle, even from an innocent 3rd party.
Guarantees
Guarantors must pay when a debtor defaults – creates a secondary or
conditional obligation that arises only in the event of default
Indemnity is when a person agrees to be directly responsible for the debt,
sharing the responsibility – creates a primary obligation
Guarantee must include all elements of a contract, unless under seal (no
consideration needed)
oConsideration: advancement of funds, or refraining from suing the
debtor
Rights and Obligations of the Parties
Creditor should ensure guarantor understands the guarantee
Creditor must not subsequently weaken the position of the guarantor
(eg. substantial change of terms without consent)
Creditor must not withhold information from guarantor
Continuing Guarantee – allows creditor to continue advancing funds up
to a limit without affecting guarantor’s obligation to pay in event of
default
Creditor can collect from guarantor without first suing the debtor
Guarantor has subrogation rights to demand payment from debtor –
assumes rights of the creditor upon payment
Defences available to the debtor are also available to guarantor
Other Forms of Security
The Bank Act
Allows flexibility in items taken for security (eg. growing crops,
inventories, goods in process of manufacture)
Floating Charges
Floating charge – a security not fixed on any particular assets until
default or other specified event, allows business to continue without
interference, while giving creditor priority in case of default (eg.
inventory, goods in process of manufacturing)
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