A recent decision out of the Maryland federal courts is a good reminder of how critical it is to properly notify account debtors of an assignment of secured loans (and leases) so as to make the account debtor legally obligated to pay you, and to assure that they pay the assignor at their peril. 

The case, Forest Capital LLC v. BlackRock, Inc., 2015 U.S. Dist. LEXIS 23773 (D. Md. Feb. 26, 2015), involved a lawsuit filed by Forest Capital LLC against BlackRock, Inc. for conversion and violations of the Uniform Commercial Code (UCC). The facts of the case are quite different from a standard equipment lease/loan because it involved a factoring relationship. The lessons to be learned, however, are nonetheless applicable to what is a routine occurrence in our industry – the assignment of loans and leases. The case involved a factor who alleged that a depository institution improperly made two payments totaling $1.05 million to the borrower’s creditors despite receiving notice that the borrower’s rights in the monies held by the depository institution had been assigned to the factor.

The Court granted the depository institution’s motion to dismiss the lawsuit, finding, amongst other reasons, that the factor never gave the depository institution proper notice under the UCC. The Court found that the alleged notice (a December 2013 letter sent by the borrower) was legally insufficient because it was “vague” and did not “reasonably identify the rights assigned.” Moreover, the factor never countersigned, or was copied on, the letter.

While again the case involved unique facts, the notice was defective under the same UCC provisions governing the notice routinely given in the equipment leasing and finance industry when loans and leases are assigned (as is often the case when a broker or lessor is involved). Thus, the decision is nonetheless an important reminder to ensure that proper notice of assignment is given to the account debtor.

Proper notice of assignment achieves two important objectives for an assignee under two separate sections of Article 9 of the UCC. First, under UCC 9-406(a), it puts the account debtor “on the hook” for ensuring that payments are actually made to, and received by, the assignee. Second, under UCC 9-404(a), it cuts off the account debtor’s right to assert against the assignee claims and defenses – such as offset – arising after the notice is issued and related to the underlying loan transaction, as well as those claims and defenses arising after the notice is issued and related to other transactions between the account debtor and the assignor. Absent effective notice of assignment, the account debtor may continue to pay the assignor and may raise against the assignee defenses and claims which accrued even after the assignment took place (1.). 

This begs the question – what constitutes proper notification? 

First, the content of the notice must be sufficient. Under UCC 9-404(a) – the code section which cuts off defenses – the notice must be authenticated, convey the essential fact of the assignment, and identify the assignee. However, UCC 9-406 – the code section which obligates the account debtor to pay you and not the assignor – is somewhat more stringent. The notice must not only be authenticated (2.), but also must include a demand that future payments be made directly to the assignee (3.), and must “reasonably identify the rights assigned. (4.)” 

Authentication can normally be satisfied by sending the notice on the assignee’s letterhead or on a form upon which the assignee’s name appears (5.). As far as what constitutes “reasonable identification”, while there is no “black letter rule” defining it, an appropriate level of common sense should be employed. It should go without saying that an assignee should not rely on simply issuing new invoices listing the assignee’s address, or notifying the account debtor in conversation (as a factor unfortunately did in another case where the Court found the notice ineffective (6.)). The notice should be a separate written communication and care should be taken to identify the collateral, the loan documents, the parties to the loan documents, and indicate an account/loan number, if applicable. The more detail, the better. Also, keep in mind that if an account debtor is notified to pay anything less than the full amount of an installment to the assignee, he can ignore the notice because it’s ineffective (7.).
 
Second, the account debtor must actually receive the notification. Notice which is merely sent to the address listed in the loan documents which is no longer a valid address, is unlikely to pass muster. While we’re cognizant of the economic realities underlying deal flow in the equipment leasing and finance industry – especially on smaller ticket deals – it behooves an assignee to avoid treating the notice as a merely ministerial matter. Care should be taken to identify the proper address (e.g., an Internet search, post office inquiry, credit report, or skip trace). Also, as is the case in most commercial transactions, if the account debtor is a company, the appropriate agents to receive notice should be identified (e.g., CEO, office manager, etc.). Notice is probably best sent via ordinary U.S. Mail as well as via certified or registered mail, return receipt requested, as well as via email. 

Moreover, while again in many states an assignee’s ownership of the loan/lease is not predicated upon obtaining a written assignment, it’s important to remember that an account debtor has the right to request “reasonable proof” of the assignment from the assignee. Until such proof is received, any payments made to the assignor will count towards discharge of the obligation assigned (8.). Therefore, best practices dictate that the assignee obtain a written assignment and retain it in the file. 

Finally, these are all general guidelines and counsel on a state-by-state basis, and if possible, on a transaction-by-transaction basis, should review assignee notices. In addition, consumer transactions may be subject to other laws establishing special rules for consumer account debtors and thus care should be taken to address those rules as well.

Endnotes:

1. Notably, however, defenses and counterclaims are not available to the account debtor if he contractually waived those defenses in the loan/lease documents (i.e., the industry standard “Waiver of Defenses” provision) and certain conditions are met, such as the assignee has no knowledge of any defenses (UCC 9-403). It is also important to remember that notice of assignment is not required to validate the assignment itself. In fact, in many states, not only is notice irrelevant, but a written assignment itself is not even required.
2. UCC 9-406(a)
3. UCC 9-406(a)
4. UCC 9-406(b)(1)
5. UCC 9-406, Official Comment 2
6. In re Haley, 81 UCC rep. 2d 990 (Bankr. N.D. Ala. 2013).
7. UCC 9-406(b)(3)
8. UCC 9-406(c)