Small businesses often rely on financing in order to purchase equipment, buy real estate, hire employees and more.
While most small-business owners have a basic understanding of the effects that a small-business loan can have on their company, they are often not familiar with UCC-1 filings.
UCC-1 filings, are legal forms that give lenders the right to obtain your business’ assets in case you default on your loan. These filings can have significant implications for your business, so it’s important to understand what they are and how they can impact you.
What is a UCC-1 filing?
Before digging into this, you should first be familiar with the UCC, or the Uniform Commercial Code. This code is simply a set of guidelines that help govern U.S. business laws on commercial transactions. The rules found in the UCC aren’t laws.
Instead, they provide a model for states to follow when dealing with matters related to commercial transactions. Each state implements these rules differently, but the rules themselves don’t vary much between states.
UCC-1 filings, which are also referred to as UCC-1 financial statements, are legal forms that lenders file to give notice of their rights to a debtor’s collateral on a secured loan.
This filing may allow lenders to acquire a lien on the equipment of a small business in exchange for a loan.This means the lender has the right to retain possession of this property until the debt has been paid in full.
There are two primary types of UCC-1 filings: blanket liens and liens against specific collateral.
Blanket liens are liens that give lenders the right to retain possession of all of the borrower’s assets. For small businesses, this may include all of the equipment and inventory that your company owns.
Generally, blanket liens are preferable for lenders. Since the loan is protected by multiple assets, this type of UCC-1 filing significantly reduces the lender’s risk.
While blanket liens typically include all of the borrower’s assets, exceptions may be made if the lender can cover the remaining debt with only a portion of the assets.
This filing is commonly used by banks, the Small Business Administration (SBA) and alternative lenders.
Liens against specific collateral
UCC liens against specific collateral are used to secure the rights to one or more specific assets.
These liens are typically used by lenders to secure loans for equipment or inventory. In these cases, lenders are typically only interested in the assets being purchased with the loan.
When you might see a UCC-1 filing
Lenders generally file a UCC-1 when your small business first enters a financing agreement.
If you have taken out loans from multiple lenders, the first lender to file a UCC-1 retains the right to secure the assets covered by the lien. This prevents other lenders from taking possession of these assets if you are unable to pay back your loans.
Essentially, UCC-1 filings reserve a lender’s spot in line in case of default. This allows the lender to completely reimburse itself before other lenders can step in.
The second lender to file a UCC-1 will start to repossess assets after the first lender, then the third and so on. Since this could result in your small business losing a large portion of its assets, it is recommended that you do not borrow from multiple lenders simultaneously.
How UCC liens can impact your business
UCC-1 filings can have a number of negative effects on your small business.
It’s important that small-business owners understand these implications in order to avoid putting themselves and their business at risk.
All of your UCC liens from the past five years will be reflected on your business’ credit report.
Loans secured by a UCC lien may negatively impact your business’ credit score as they will increase your credit utilization ratio. If this ratio increases by too much, you may see your credit score drop. This is often the case if you have defaulted on a loan, but your score should be safe otherwise.
Most lenders require small business loans to be secured by collateral. Since small businesses have a limited amount of assets, you may be denied financing from other lenders until your current UCC liens are removed.
This occurs often when small businesses have a current blanket lien, as new lenders may not be able to secure any assets if you default on your loans.
UCC liens are also not always canceled immediately after your debt has been repaid. Even if you have paid back your entire loan, you may not be able to get additional financing until your previous lender has lifted the lien.
Loss of assets
When a lender files a UCC-1, all of your assets become at risk if you default on your loan.
Blanket liens are particularly dangerous as they allow lenders to sue your business for all of its assets — meaning you could effectively be put out of business if you are unable to repay your loan.
UCC-1 filings are used by lenders to reduce their risk by securing their rights to your assets in case you default on your loan.
While this is great for lenders, it can be harmful to your business. Before taking out a small-business loan, it’s necessary to understand what UCC filings are and what they mean for your company.
In order to escape the restrictions of a UCC-1 filing, it’s important to avoid borrowing from multiple lenders and pay back your loan as quickly as possible so that your liens may be removed.