Changes to UCC Code impacting co-ops.

Important revisions to Article 9 of the UCC Code, which governs secured transactions, were signed into law, effective July 1. Several subsections were repealed and/or amended, but of special interest to those who work in the residential real estate sector are the ones that, specifically, relate to the definition, perfection and termination of a co-op security interest.

The new amendments should have a positive impact on cooperative corporations by allowing them to more easily collect outstanding balances. Ostensibly, the updated UCC code corrects the confusion that was created by the Court of Appeals in the 1977 Shor case, when it merged leasehold interests and security interests in cooperative corporations. Subsequently, a number of New York courts issued controversial rulings that a co-op's proprietary lease should not be considered a perfected security agreement.

The implication of these decisions appeared to prevent a co-op from trying to enforce its tight to be paid all outstanding maintenance in the event of a default prior to transferring stock to a new owner. Moreover, when there were foreclosures, the unfortunate co-op would have to wait in line behind the bank and other lien holders to collect revenues owed, which usually meant the co-ops didn't recoup much. As a result, some co-ops retained attorneys at a considerable expense to execute and file individual security agreements with each shareholder of record.

With last month's ruling, thanks in large part to the perspicacity of the New York Bar Association's recommendations, there is no doubt that the cooperative corporation comes first in the collection process. The intent of this article is to highlight some of these new provisions and rules with respect to residential cooperative apartment corporations.

The revised Article 9 defines, for the first time, a "cooperative interest" as an interest in a "cooperative organization," which is now coupled with the right to occupy (possessory rights of a proprietary nature) an identifiable physical space belonging to the cooperative corporation. Furthermore, the revised article stipulates that a subsequent termination of the possessory rights does not cause an ownership interest to cease being a cooperative interest. Specific reference is made to the "cooperative record," which represents those records that define the cooperative's interest, and the mutual rights and obligations of the owners of the cooperative interest and the cooperative corporation. (A cooperative corporation is identified as an organization in which its principal asset is an interest in real property in this state and all ownership interests are cooperative interests.)

At long last, the new revisions define the "cooperative organization security interest" as a true security interest. This is, clearly, in favor of the cooperative corporation and is created by the cooperative record, thus securing the obligations incident to that ownership in a cooperative interest. A cooperative organization security interest becomes perfected when the cooperative interest first comes into existence, and remains perfected as long as the cooperative interest exists. Setting aside controversial court decisions, a cooperative corporation's typical proprietary lease may now be conclusively viewed as a perfected security agreement.

A precisely defined "cooperative security agreement" provides that the owner of a cooperative interest has an obligation to pay amounts to the cooperative organization incident to ownership of the cooperative interest. It states that a cooperative corporation has a direct remedy against that cooperative interest if such amounts are not paid.

When the purchase of a cooperative interest is financed by a loan, the collateral is the actual stock certificate issued by the cooperative corporation. Under the new rules, New York State law will govern the perfection, its effects -- or non-perfection - and termination of a lender's security interest. This is an exception to the general rule of law, i.e., the law in which either the debtor resides, or in which the collateral is located, has jurisdiction. Therefore, in the event a shareholder relocates, or if there is a relocation of the stock when bank loans are resold, it will not impact on New York State's jurisdiction.

As a special rule of law, a cooperative security interest may be perfected by 'filing a financing statement. However, the contents of the financing statement must now include the filing of the new "cooperative addendum" (available from the NYS Department of State website). Alternatively, in lieu of the addendum, the financing statement may include the following information: a) a description of the real property to which the collateral is related, including the number and street address of the cooperative unit; b) the location of the real estate by reference to a book and page number in a mortgage index maintained by the county clerk's office in which the property is situated; c) the county, city, town or village in which the property is situated; d) the real property tax designation associated with the real property in which the co-op unit is located or assigned by the local real property tax assessing authority (such as block and lot numbers in New York City, Nassau County, etc.); and e) the corporate name of the cooperative organization.

In fact, on the NYS Department of State's web site, filers are now warned that the standard forms used for filing under the former Article 9 are no longer compatible with the new requirements under the revised Article 9, and will no longer be accepted for filing. (The UCC-1 form does not include the required information.)

Another change states that a perfected cooperative security interest dates from the time an advance is made. Therefore, if a lender has made an advance and, subsequently, a second lender makes an advance, the second lender is protected in the event that the first lender later agrees to make future advances. The first lender's additional advances would be separated from its original perfected lien in prioritizing the obligations, proceeds, etc.

An initial financing statement covering a cooperative interest is now effective for a period of 50 years after the date of filing if a cooperative addendum is filed simultaneously with, or before the initial financing statement lapses. A termination statement, upon demand, must be delivered to a cooperative interest settlement. The new rules provide for the secured party to charge a reasonable fee to attend a settlement closing, unless held at the office of the secured party.

These new definitions and rules take on further significance to all current secured parties who perfected their liens under the old Article 9 in cooperative organizations. Under revised Article 9, current cooperative security interests only remain perfected for five (5) years from the date that the revised Article 9 took effect.

Thereafter, it can remain perfected only if the applicable requirements for perfection under the revised Article 9 (including filing the cooperative addendum or new identifying information) are satisfied before the five years expire. Thus, financing statements currently filed will cease to be perfected, and cease to maintain their priority after June 30, 2006, unless amended.

Finally, recent new loans issued to purchase a cooperative interest that have already closed after July 1, 2001 are affected. It is very likely that the Cooperative Addendum Financing Statement was not used when filing the lender's security interest.