VOL. 25, NO. 16, December 16 2005 (Paush 01, 2062 B.S. )

Introduction To New Secured Transaction Ordinance 2062

By GANDHI PANDIT

Recently the government promulgated Secured Transaction Ordinance 2062. Even though the Ordinance has incorporated various legal issues relating to selling of goods on credit, one needs to understand the basic concept of secured transaction. Unless you are familiar with underlying concept of secured transaction law, you would not be able to understand the legal provisions of this ordinance. The purpose of this article is to explain underlying principal of secured transaction law that regulate the day to day business transaction that take place among the wholesaler, retailer and purchaser.

Secured transaction is as important as the concept of credit in modern business. It gives benefit both to creditor and debtor. Few purchasers (manufacturer, wholesaler, retailers, and consumer) have sufficient resources to pay cash for the goods being purchased, yet lenders are reluctant to lend money to a debtor solely upon the debtor's personal promise to repay the debt. In this situation, the creditor or seller do not wish to take risk of non payment by lending or selling goods on credit. They are willing to sell good or lend money if such promise of payment is guaranteed or payment is secured. If such loan or credit is guaranteed or secured by moveable property owned by debtor as collateral, the transaction becomes known as secured transaction. By giving security interest in the personal property (movable property), the debtor gets credit from the lender or seller, whereas the lender or seller is assured of repayment of credit on time. If debtor defaults in repayment, secured creditor has security over the personal property pledged as collateral from which he can realize his credit.

The key to this law is the concept of creating security interest in movable property and perfection of such interest. A security interest is every interest in movable property which secures payment or performance of an obligation. The nature of movable property is such that it can be removed from one place and taken out to other place easily. At the same time, in most of the secured transaction, the movable property in which a security interest is created, usually remains with debtor. In this situation, it is very likely that debtor can easily sell that movable property to others or obtain loan by placing the same movable property as collateral with other creditors. Then, the question arises as to how the creditor is protected from the dishonesty of debtor who himself keeps the physical control of movable property in which a security interest is already created in favor of creditor?

Secured transaction law has developed a legal mechanism which will help protect the interest of creditors should debtor fail to repay debt or should there be several other claims by other creditors on the same movable property placed as collateral. This is possible only where the law recognizes a system of creating and perfecting security interest in movable property and making rules of priority. Rule of priority determine which creditors should have the first right to foreclosure of collateral in case there are claims of several creditors in the same collateral.

What is Security interest ?

A security interest is every interest in movable property which secures payment or performance of an obligation. For example:

Buyer wants to buy a TV from Sony Company Dealer. The buyer does not have cash to pay full amount of the TV which cost Rs 50,000. The buyer request the seller to sell that TV on instalment that buyer will pay the total price on monthly instalment payment basis. The seller will agree to sell TV to buyer on credit by creating security interest in TV. Should buyer fails to pay instalment on time, Seller shall have right to capture TV from buyer and recover its credit by selling that TV. In this scenario, the seller is call secured creditor because he is a person in whose favor a security interest over that TV is created. Buyer is a debtor who owes price of TV to seller. Here the seller is secured party as he has right to recover TV should buyer fail to pay purchase price on time.

Creation of security interest:

In order to become secured party, the creditor must have security interest created in the personal property of the debtor. An enforceable security interest is created if following requirements are met:

Unless the collateral is in the possession of secured party, there must be a written agreement concluded between creditor and debtor describing the collateral and signed by the debtor. Value must be given to the debtor by creditors. Debtor must have present or future legal rights in Collateral.

Attachment:

If these requirements are met, the right of secured party is attached to the collateral. Attachment means that the creditors has enforceable security interest against the debtor should debtor default to repay debt and can satisfy the debt out of the designated collateral.

(Gandhi is Attorney at Law)

(To be continued)