Perfecting a Security Interest in Digital Assets – Clarification Is Coming

Many people and entities now own digital assets such as cryptocurrencies or non-fungible tokens (NFTs). And if these people or entities want to borrow money, they may want to use their digital assets as collateral for the loan. Although lenders are increasingly willing to accept digital assets as collateral, a problem they have encountered is how to perfect their security interest in digital assets.

Perfecting an interest in personal property

Digital assets are personal property. And the perfection of a security right is, in general, governed by Article 9 of the Uniform Commercial Code (UCC) – which has been adopted by all States.

Perfection under Article 9 can be accomplished by file a UCC-1 financing statement, by controlling the property or by owning the property. Which method to use depends on how the asset is characterized in Section 9. Although Section 9 lists a number of different types of assets, digital assets are not surprisingly included. since ownership of digital assets was not as common in 2010. — the last time Section 9 was revised.

Perfecting a right in digital assets under the current Article 9

Since Article 9 does not include digital assets, lenders have equated them with the types of property included in Article 9.

Some lenders have treated digital assets as “general intangibles” — which are perfected by filing a UCC-1 financing statement. Others as “investment property” – which can be honed by filing a UCC-1 or, preferably, by checking.

Some have equated them with “money,” which is perfected by possession. But because digital assets are intangible, there was uncertainty about whether they could be controlled or owned.

Clarity arrives with changes to Article 9 and a new Article 12

Clarifications on how to perfect a security interest in digital assets are ongoing. A few states have already amended their versions of Section 9 to address the issue.

In addition, the Uniform Law Commission and the American Law Institute have proposed amendments to the UCC, which are expected to be proposed to states for enactment later this year. The draft UCC amendments include a new Article 12, which governs transfers of interests involving a subset of digital assets called “controllable electronic records” or “CERs”, as well as amendments to Article 9 dealing with the perfection of a security interest in these CERs.

In general, states that have already amended their laws, as well as the proposed UCC amendments, provide that a security interest in digital assets or CERs can be realized by filing a UCC-1 and/or by controlling the asset. They also provide that a lender that has perfected by control has priority over a lender that has perfected by filing a UCC-1 but not by control.

Laws also define control. Under the UCC Amendment Bills, for example, control exists when a person has (1) the power to receive substantially all of the benefits of the CER, (2) the exclusive power to prevent others from enjoying substantially all of the benefits of the CER, and (3) the exclusive power to transfer control of the CER.

Conclusion

Recent changes to a small number of states’ UCC laws, as well as proposed changes to the UCC itself that states may be able to enact, clarify how lenders can hone their security interests in crypto. -currency, NFTs and certain other types of digital assets. If all states (or at least most states) amend their versions of Article 9 to address this issue, that should provide reassurance to lenders and borrowers interested in using digital assets as collateral. However, it is important that they keep track of state legislative developments to see if and when they have changed their versions of Section 9 to address perfection of security interests in this increasingly popular asset class. .

Sylvia B. Polson