Asset-Level Eligibility Series: Loans Used for “Personal, Family or Household Purposes"

This Legal Update explores why, in order for an underlying loan to be included in a warehouse facility’s borrowing base, the underlying loan cannot be used for “personal, family or household purposes.”

Example of Eligibility Criteria:

• The Obligor of such Loan has not entered into such Loan for personal, family or household purposes.

Consumer Transactions and the Uniform Commercial Code (UCC)

• Under Section 9-102(a) of the UCC, a “consumer transaction” is a transaction where an individual incurs an obligation primarily for personal, family or household purposes and a security interest backed by the collateral used for such purposes is granted to the secured party.
• Consumer goods and consumer transactions are subject to specific rules and protections under Article 9 of the UCC protecting the consumer obligor under the Loan.
• UCC 9-201(b) explicitly states that any applicable state consumer law would apply to a consumer transaction under the UCC.

Why Do Lenders Care if a Loan is a Consumer Transaction?

A key benefit of transactions being governed by the UCC is the creation of substantial uniformity and a standard set of rules that apply to secured transactions across all 50 states. The UCC creates certainty for lenders and establishes burdens of proof and guidelines to ensure that lenders are protected in a secured transaction. However, many of these guidelines specifically exempt consumer transactions, and consumer transactions are likewise explicitly subject to any state-specific regulations relating to consumers. Therefore, lenders would need to perform diligence in all applicable jurisdictions to determine the impact or effect consumer laws could have on the underlying collateral. This diligence can be costly and time-consuming and often mitigates the benefits that are sought to be obtained by entering into the warehouse transaction with the lender. Thus, consumer transactions are often excluded from the collateral portfolio through this eligibility criterion.

Conclusion

Given that consumer transactions are subject to a broad set of regulations relating to consumers, if an underlying loan was entered into for “personal, family or household” purposes, it would require a warehouse lender to undertake additional diligence, engage in a more complex regulatory compliance analysis, and adopt a different risk assessment—and these additional complexities could cut against the sought-after benefits of a warehouse facility. Therefore, a prohibition on the use of loans for “personal, family or household” purposes should be included in the eligibility criteria for a warehouse facility.