In most consumer credit transactions, non-payment is the critical element of default. Other defaults might include allowing the collateral to deteriorate in value, removing the collateral from an agreed location, or failing to adequately insure the collateral. These have become the usual and customary default provisions in a standard note, contract and security agreement. However, there certainly can be other events that may occur that endanger the repayment probabilities for a creditor.

In the past, it was not unusual to see broad default language in a security agreement that identified an event of default if the creditor “deemed itself insecure.” This type of broad brush, all-inclusive default language fell out of favor in recent years, as contract language became simplified and more direct—seemingly a function of regulators demanding clear and conspicuous contract and disclosure language. However, I, for one, have been rethinking the omission of the deem-yourself-insecure default provision.

While certainly (i) non-payment, (ii) failing to insure collateral, (iii) removing collateral, or (iv) allowing deterioration of collateral cover most events that endanger a creditor’s repayment probabilities, there are situations that fall outside of these four defaults, that may give rise to a creditor’s concern for repayment. And, in fact, some other events can be so significant as to justify the exercise of the default rights—giving rise to acceleration of the debt and demand for its immediate repayment and to the exercise of Article 9A remedies for default under a security agreement.

So, what is the solution for creditors in a world of potential matters that may arise to interfere with collection of payment and loss of collateral value? The best solution may be one of the oldest, the one that fell out of favor—the deem yourself insecure clause.

By including insecurity of the creditor in the litany of default provisions, the creditor will have a tool that could prove valuable in a situation that is not so readily apparent or so easily described on the front end of a transaction. While this is not a tool that should be used without due justification, it nevertheless may prove valuable in protecting the creditor’s position.

Practice Pointer: Check the default language in your form contracts. If it is too narrow, consider whether a revision may be warranted.

Please note: This is the one hundred twenty-eighth blog in a series of Back to Basics blogs, in which relevant and resourceful information can be easily accessed by clicking here.