California Court Addresses
Priority of Unperfected Security Interest and Charging Order
In a decision rendered last
Wednesday by the California Court of Appeals, it addressed the question of
whether an unperfected security interest would have priority over a
subsequently entered charging order. On the facts of this case, it was held
that the charging order had priority. MDQ,
LLC v. Gilbert, Kelly, Crowley & Jennett LLP, B283025, 2019 WL948726,
___ Cal. Rptr. 3d __ (Feb. 27, 2019).
To secure payment for certain
legal fees, Gilbert Kelly took a security interest in certain expected distributions
to its client. In that same litigation, the client from whom Gilbert Kelly took
the security interest was held liable for almost $1 million. For reasons not
explained in the decision, Gilbert Kelly never filed a UCC-1 in order to
perfect its interest in the to be distributed funds. This case would turn upon
the question of whether the unperfected security interest, created first in
time, would have precedence over the subsequent charging order.
A charging order creates a lien
on the distributions made from an LLC. A charging order is not a voluntary lien
subject to Article 9 of the Uniform Commercial Code. In consequence, a charging
order is not subject to Article 9’s “perfection” requirements. In contrast, the
court determined that the interest held by the law firm was indeed a security
interest covered by the UCC. As such, its priority with respect to other liens
would be determined based upon the date of perfection.
In that the security interest
held by Gilbert Kelly was never perfected before the entry of the charging
order, it being deemed perfected, the charging order took precedence. As such,
until such time as the distributions from the LLC or other funds satisfy the
judgment entered, Gilbert Kelly will have to await payment.
Jay Adkisson has published a review of this decision; HERE IS A LINK to that review.
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