Collateral and Lender’s Risk

Providing a loan to a borrower is commonplace nowadays, especially since they are usually required for large purchases such as a home or vehicle. Lenders are eager to provide loans for those who need it, entrusting not only on their promise to repay the loan, but also on collateral that secures the loan. A secured lender generally depends upon the representations in the loan agreement with the borrower, also relying on the borrower’s financial statements to determine whether the borrower is the owner of the collateral or if there is another; they receive a pledge from the person who owns it.

If the loan goes into default, the lender may seek to collect the collateral, or foreclose on it, only to find that the borrower was not the true owner. In this circumstance, the lender can only collect from the person(s) they received a pledge from. This has faced its share of scrutiny throughout the courts, attempting to determine when such a pledge is valid. In a 2009 case involving WL Homes LLC and Wachovia Bank, the court held that Wachovia bank had a valid pledge from WL Homes LLC through their subsidiary JHL Insurance Company because the President of JHL was also the CFO of WL Homes. The court said that because the President of the one company was the CFO of the other, his understanding was implicated while he acted as the principal agreeing to the loan given to WL Homes LLC by Wachovia. Knowledge is the main factor in regards to this collateral issue, whether or not the lender knew that the collateral was not in the name of the borrower but was owned by the borrower.

In order to avoid risk, it is important to thoroughly assess the collateral the borrower pledges to the lender. Proper identification of the owner or the rights-holder of all collateral being pledged helps to avoid lengthy and expensive litigation. Receiving expressed consent about the collateral, the true owner, and their pledge to the lender provides security against the debtor if he or she tries to challenge the lender’s security interest.

Property issues can be confusing and quite difficult to understand, which is why you need the assistance of an experienced attorney. The Law Office of Michael Alan Siddons can help you maneuver through the process. Call today for a free consultation at (610) 255-7500.

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