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LLC Interests and Other Special Collateral
Practical Law Legal Update 4-525-5206 (Approx. 5 pages)
LLC Interests and Other Special Collateral
by PLC Finance
| Published on 01 Apr 2013 • USA (National/Federal) |
A discussion of various special kinds of collateral, with a special focus on LLC and LP interests.
In a secured financing, the borrower's payment and performance obligations are secured by a security interest granted by the borrower over some or all of its assets (collateral) in favor of the lender. Sometimes the collateral includes certain assets that require special attention from counsel because they raise important issues in connection with taking or enforcing a security interest in the collateral.
It is not unusual for collateral to include interests in a limited liability company (LLC) or a limited partnership (LP). A borrower may have subsidiaries formed as LLCs or LPs. Hedge funds are also often structured as LLCs or LPs, and hedge fund investors may use their LLC or LP interests as collateral for loans. LLCs and LPs are also often used in real estate mezzanine loan transactions.
Taking a security interest in LLC interests or LP interests raises additional issues for counsel compared to a pledge of corporate shares, including correctly classifying the LLC interests or LP interests under the Uniform Commercial Code (UCC) and properly perfecting the lender's security interest in the collateral.
UCC Classification of LLC and LP Interests
Ensuring that the lender fulfils the UCC requirements for obtaining a perfected security interest in the collateral is critical in a secured loan transaction because it protects the lender in case of the bankruptcy of the borrower or a breach of the borrower's obligations under the loan documents. It is also important to the borrower because the lender typically requires a perfected security interest in the collateral as a condition precedent to closing the financing.
The UCC categorizes property into different collateral types, and the type determines the requirements for a security interest's attachment, perfection, priority and choice of law. Depending on their characteristics, LLC interests and LP interests fall into one of the following UCC collateral types:
- A security.
- A financial asset held in a securities account.
Counsel must determine the UCC Article 9 collateral type for the LLC interests and LP interests in their transaction. There are several factors they must consider in connection with this classification, including whether the organizational documents of the LLC or LP provide that the interests are securities. The classification may not be obvious to counsel, for example just because the LLC interests or LP interests are certificated, it does not necessarily mean they are securities. If counsel incorrectly classifies the LLC or LP interests, the lender may not obtain a perfected security interest in this collateral. For more information on this issue, see Practice Note, Security Interests: LLC and LP Interests: UCC Classifications.
Other Issues with LLC and LP Interests
Other issues with LLC interests and LP interests include:
- State law issues relating to LLCs and LPs, such as correct descriptions of the collateral.
- Dealing with transfer restrictions in operating agreements or partnership agreements or under state laws.
- Additional closing requirements in a deal involving LLC or LP interests as collateral.
- Enforcement of the lender's security interest in the collateral, including its ability to access economic and control rights, dispose of the collateral and for a transferee to be admitted as a member of the LLC or a partner of the LP.
- Other enforcement issues, including obligations, risks and liabilities for lenders and transferees and securities law issues.
For more information about these issues and others in connection with LLC and LP interests as collateral and practical advice for counsel, see Practice Note, Security Interests: LLC and LP Interests.
For agreements related to security interests in LLC interests and LP interests, see Standard Documents:
Other Special Collateral
Other collateral with special issues include:
- Health-care-insurance receivables (see Practice Note, Security Interests: Health-care-insurance Receivables).
- Aircraft, ships and trains (see Practice Note, Security Interests: Aircraft, Vessels and Rolling Stock).
- Deposit accounts (see Practice Note, Security Interests: Deposit Accounts).
- Intellectual property (see Practice Note, Security Interests: Intellectual Property).
- Foreign assets (see Practice Note, Security Interests: Cross-border Issues).
- Securities accounts (see Practice Note, Security Interests: Investment Property).
- Commercial tort claims (see Practice Note, UCC Creation, Perfection and Priority of Security Interests).
- Money, capital calls and certificates of deposit (see Perfection Steps Checklist).