Let’s face it: business credit reports contain a lot of jargon and can be tough to understand. If you checked out our overview on business credit scores, you know how important it is to keep an eye on your report and review yours with a fine-tooth comb. If you have ever received a business loan, you may see what is called a UCC filing statement on your report. You might worry and think “What is this? How did it get there? What does it do, and how do I get rid of it?”
They can be the difference in being approved or denied funding for your business, but don’t worry, understanding how UCC-1 filings affect your business is easy. This article will have you ready to take charge of your credit score and take your small business to the next level.
First Things First: What Does UCC Stand For?
In the business world, UCC stands for Uniform Commercial Code, and since 1952 it has been used to create set standards by which states govern commercial and business laws. At its most general, the UCC is a broad statutory program that focuses on small business and entrepreneurial transactions. According to USLegal, the program was mainly enacted to combat two growing issues within U.S. business:
- contracts and legal intervention became cluttered and unmanageable during business dealings due to a lack of regulation and competing interests
- businesses in different states had different laws to abide by, complicating transactions and leading to issues with conflicting rules and regulations
Essentially, there was a need to create a blanket of standards by which, say, a business in Kentucky could quickly and fairly find funding for new equipment or a Merchant Cash Advance (MCA) from a lender in Pennsylvania.
The full Uniform Commercial Code is made up of 9 articles. These articles cover business dealings including the sale and lease of goods, funding transfers, letters of credit, investment securities and others.
We will focus on Article 9, which deals with secured transactions that can affect your business’s credit score. Article 9 handles the legal interests that lenders and creditors have with debtors, and is the reason why you may have seen a UCC filing on your business credit report.
What Is a UCC Filing?
Now that you understand the Uniform Commercial Code as a whole, it is important to learn what UCC-1 filings are and how they can affect the growth of your business. Simply put, a UCC financing statement is a lien placed on commercial assets as part of any type of business loan. They are made publicly available to allow lenders to judge a business’s creditworthiness and take action against defaulted loans.
What Is a UCC-1 Filing Used For?
When obtaining funding, the lender will “perfect” a filing as part of the contractual loan agreement to protect their interests. The debtor and lender must agree on the assets that may be seized before the contract is completed, therefore satisfying the Uniform Commercial Code.
You can think of it as a mortgage; when a mortgage loan agreement is made, the bank will place a lien on the house. If it comes down to it, the bank has legal recourse to seize the house. In the case of a Uniform Commercial Code lien, the lender in a business loan needs to be able to secure collateral to recoup their losses in case the loan agreement is breached.
Types of UCC Liens
There are two types of UCC filing liens that lenders can place on businesses: specific collateral liens and blanket liens.
With specific collateral liens, the debtor pledges certain assets that the lender will have a claim to. These liens are common for equipment and inventory loans, with the collateral usually being what the business owner used the funding for. For instance, the collateral for a loan to purchase a new forklift for a packaging company may be the forklift itself.
In blanket liens, the lender places a claim on most, or all, of a business’s total assets. If a debtor is in default on a loan, the lender will then have claim to all assets needed to satisfy the debt.
This type of lien is common involving traditional bank loans, Small Business Administration (SBA) loans, and short-term loans because these lenders need to fully protect their investment.
Who Uses UCC Filings?
When UCC-1 filings are perfected in a loan contract, they are submitted to the office of the Secretary of State and are then considered legally binding. The document is then placed into public record, making it easier for lenders to receive court orders to seize collateral. Being publicly available also gives potential lenders the ability to see if your business already has UCC filings placed against it, letting them know they will not be first in line to be paid for that asset in the event of a default. This information helps lenders make decisions and is visible on credit reports, which is why it is important to understand how it can affect your business credit score.
What Does a UCC-1 Filing Mean for Your Business’s Credit Score?
This depends on a few things. If there is a UCC filing on your credit report and you make all payments on the loan, there is no cause for concern. The presence of one on your business’s credit report is common, with hundreds of thousands filed in each state across the U.S. It will not affect the score itself and is only there to let the business owner and any lenders know that a lien is in place.
If the loan defaults, however, it can significantly impact your business. When action is taken on a UCC filing, there are a few consequences. First, the assets agreed upon when perfecting the lien can be seized, leaving a business without the equipment or inventory it needs. Also, the negative impact on your business credit score will cause potential problems if you want to qualify for a future loan.
Can a UCC Filing Affect Your Ability to Secure a Business Loan?
When applying for a small business loan, UCC-1 filings are one of the factors that a lender can consider when determining whether a business owner qualifies for funding. Lenders can be cautious or even deny loans to applicants with active liens, especially if they are in default.
Previous loans in default and derogatory credit items aside, it is possible that filings for loans in good standing can still affect your business’s creditworthiness.
How can that be?
Well, consider what you have learned about UCC filings. They are, essentially, a legally binding claim that a lender has to your business’s assets. One of the reasons that the Uniform Commercial Code was put into place was so that lenders are aware of dealings a business has with others, including active liens.
Some lenders are then hesitant to work with a debtor that has an active UCC-1 filing in place because, if the debtor goes into default, the lien which was filed first will be given precedence. After satisfying the lien placed in the first filing, a small business owner may not have the assets necessary to recoup the losses for any subsequent lenders. The risk may not be worth it to the potential lender, which could make it difficult to secure the funding your business needs.
How to Protect Your Small Business
First, find out if your business has any active UCC filings reported against it. Check your business’s credit report or head to the website of your state’s Secretary of State office. You will be able to find active liens and address any issues from there.
According to the Cornell Legal Information Institute, a UCC filing is effective for 5 years after the initial agreement. If the terms of the loan have not yet been paid off, however, the responsibility is on the lender to file an extension. During that time, it will stay on your business’s credit report and be visible to other potential lenders.
After a business has paid off the full balance of a loan, their credit report will still show an active lien until the 5 years (or any extension) have expired. In this case, it is important that the business owner files what is called a UCC-3 filing. The UCC-3 is used to make sure that liens are taken out of public record when the terms of a loan are satisfied, thus freeing up the borrower to proceed without the mark on their credit report and potentially receive future funding. You may ask the lender to do this, but it is also possible to terminate the filing yourself.
Reviewing Your Business Credit Score
Understanding the elements that go into determining your business’s credit score is essential knowledge for any successful business owner. It is important to continually check in on your business’s credit report, especially now that you have learned how lenders use often overlooked parts of it to determine creditworthiness.
Now that you know about what UCC-1 filings are, how they are used and what they mean for your bottom line, you can apply that knowledge when you are ready to expand your business to a new level.