General Security Agreements (GSA): 5 Top Tips & Traps
A general security agreement (GSA) is the most common form of personal property security to secure commercial loans and other business obligations owed to a financial institution or other creditor (Secured Party) used in the Atlantic Provinces. A GSA is an effective and efficient way to obtain security over business assets to secure commercial obligations. Despite its common use, however, Secured Parties can hold a false sense of security from having an executed GSA in hand. The legal requirements and the supporting documentation for this security are often deceptively complex and varied. There are traps, and not all are obvious. Here are five of the most common traps and tips on how Secured Parties can avoid them – and the potentially significant costs of falling into one.
1. What’s the form & scope of a GSA?
A GSA will secure any type of present or future obligation, including loans and guarantees, of the party that signs it (Debtor). Laws in the Atlantic Provinces don’t require Secured Parties to use a particular form or style of GSA. However, many financial institutions have their own preferred forms. A GSA normally includes:
- The Debtor’s representations, warranties and covenants.
- A description of the personal property assets secured by the GSA and the location of the personal property.
- The terms and conditions of the GSA.
- The enforcement rights in the event of default.
The trap? Sometimes the provisions of the GSA aren’t consistent with the commitment letter or the loan agreement. This can lead to uncertainty and litigation.
The tip? Review for consistency. When tailoring a GSA to a transaction, it’s important to review both the GSA and the commitment letter or loan agreement to ensure they’re consistent. This includes making certain the GSA secures the full scope of the personal property assets over which the Secured Party requires security, consistent with the requirements of the commitment letter or the loan agreement.
2. Who can give a GSA and how is a GSA authorized?
In business borrowing, a GSA is usually provided by a corporation. However, other types of business entities such as partnerships (general or limited), co-operatives and, rarely, individuals can also give GSA security.
The trap? Regardless of who or what kind of entity provides the GSA, a court could disallow GSA security if the Debtor’s name on the GSA is incorrect. It’s therefore essential to ensure the name of the Debtor executing the GSA is legally correct and the related registration is made in accordance with the regulations under the applicable Personal Property Security Act (PPSA).
The tip? Get proof of name. In the case of a business entity, the Secured Party (or its lawyer) preparing the GSA should obtain a certificate of incorporation for the Debtor from the applicable corporate registry to verify the Debtor’s name and legal status. In the case of individuals, the Secured Party can obtain a birth or change of name certificate or other proof mentioned in the relevant PPSA regulations.
A GSA is a significant contract for both the Debtor and Secured Party so it’s important for both that the GSA be properly and legally authorized.
The trap? If the GSA isn’t legally authorized, other creditors of the Debtor or a receiver or trustee in bankruptcy might successfully challenge the GSA on the basis it wasn’t properly authorized – and defeat the Secured Party’s priority ranking in relation to the secured assets.
The tip? Get proper written authorization from the Debtor:
- Directors’ Resolution.The Debtor’s directors (and in certain cases its shareholders) should authorize the GSA by written resolution. If the Secured Party is the Debtor’s regular banker, the banking resolutions likely suffice but check them to be sure.
- Shareholders’ Agreements. A shareholders’ agreement among the Debtor’s shareholders can restrict the Debtor’s right to give GSA security. The Secured Party should determine whether the Debtor’s shareholders have entered into any agreement restricting the Debtor’s authority to give such security and, if so, obtain the requisite additional approvals.
- Individuals. If any individual in addition to the Debtor is signing a GSA, for example in support of a guarantee, that individual should obtain Independent Legal Advice to ensure they understand what they are signing.
3. What types of assets can a GSA Secure?
A GSA can secure most types of personal property, both present and future and both tangible and intangible, including:
- Machinery and equipment the Debtor uses in carrying on its business.
- Serial Numbered Goods, including motor vehicles, vessels and tractor trailers.
- Inventory.
- Accounts receivable.
- Trademarks and other intellectual property.
- Securities such as stocks, bonds and investment accounts.
Often, a GSA states it secures all of the Debtor’s present and after-acquired personal property, followed by a list of specific categories of personal property charged; this is legally acceptable.
The traps & tips? Here are a few traps into which a Secured Party can fall in relation to the scope of the assets secured by a GSA and tips to avoid them:
Equipment. There could be a variety of equipment subject to the GSA, so it’s tempting to use the term “equipment” generally. The trap? Use of the term “equipment” in the GSA or the related registration isn’t sufficient to describe the assets secured without further describing the item or kind of equipment secured. The tip? For equipment such as vehicles, trucks, trailers, aircraft or certain other “serial numbered goods” (as defined by the applicable PPSA regulations), the PPSA registration should include their serial numbers and a specific description of these assets.
Shares & Investment Accounts. A Securities Transfer Act is in force in each Atlantic Province. The Act amended the relevant PPSA in each case. The trap? If the collateral charged by a GSA in such Atlantic Province includes shares, bonds or investment accounts, the GSA must comply with the specific applicable PPSA provisions. To avoid this trap, follow these tips:
- Privately Held Companies. In the case of shares or other securities where the Debtor has possession of the certificates (common in the case of privately owned companies), the description of the collateral in the GSA should include the shares being secured. The Secured Party should take physical possession of the share certificates, signed by the registered holder for transfer or accompanied by a signed transfer power.
- Publicly Traded Securities. In the case of securities issued by a publicly traded entity, an investment dealer probably holds the securities. The Secured Party should obtain a control agreement from the Debtor and the investment dealer to restrict the withdrawal of the securities from the investment account while the GSA remains in place and to give the Secured Party control over the account and the securities if the Debtor defaults and the Secured Party has to enforce the GSA.
- Financing Statement. In the Atlantic Provinces, the practice is to register a financing statement over Securities Transfer Act type collateral in addition to perfecting such security by control.
- Additional Provisions or Separate Pledge Agreement. If the shares, bonds or investment account have significant value, the Secured Party should consider adding representations, covenants and default provisions specifically related to Securities Transfer Act type collateral (for example, entitlement to dividends and voting rights), but that are often not included in a general form GSA, to the GSA. Another option is to take a separate pledge agreement in addition to the GSA.
Real Estate. A Secured Party might assume the Debtor’s “property” includes its real property (land, buildings, and so on). The trap? In the Atlantic Provinces, a GSA cannot secure interests in real property. The tip? Secure land, leasehold interests in land, rents and leases using real estate security such as a mortgage, debenture, assignment of lease or assignment of rents rather than a GSA.
4. What about registration of a GSA?
The Secured Party must register a notice of the security interest created by a GSA by filing a financing statement in the appropriate provincial Personal Property Registry (PPR), and perhaps also under the U.S. Uniform Commercial Code or elsewhere depending on the nature of the assets charged. The Secured Party might have to file multiple registrations in different provinces depending on the types of assets secured, where they are located and the jurisdictions in which the Debtor carries on business. Depending on the circumstances, a GSA that secures rents might have to be registered in the PPR in addition to registering the related assignment of rents in the land registry.
The trap? If the Secured Party doesn’t register properly, it can lose the benefits of the GSA. The legal rules governing such registrations are often complex to apply to a particular situation.
The tips? A Secured Party should seek legal advice to ensure proper registrations are made in all appropriate jurisdictions.
- Debtor’s Legal Name. It’s critical to ensure the financing statement includes all forms of the Debtor’s legal name and complies with the applicable PPSA requirements. For example, if the Debtor has a French or combined English/French or French/English form of name, the PPSA regulations require the Secured Party include all such forms of the name, not just the Debtor’s English or French name, on the financing statement. This can be done by obtaining a birth or change of name certificate or other proof mentioned in the relevant PPSA regulations.
- Serial Numbered Goods. If the Debtor’s property includes equipment that are “serial numbered goods” (as defined by the applicable PPSA regulations) either when the GSA is signed or at a future date but the PPSA registration doesn’t include serial numbered descriptions, the priority of the GSA with respect to such equipment can be jeopardized. To avoid this trap:
- Description. If the Debtor’s equipment includes vehicles, trucks, trailers, aircraft or certain other “serial numbered goods” (as defined by the applicable PPSA regulations), the PPSA registration should include their serial numbers and a specific description of these assets.
- Periodic Review. The same applies to such assets the Debtor subsequently acquires. The Secured Party (or its legal counsel) should periodically review the PPSA registration to ensure it continues to secure the full scope of the Debtor’s assets – including after-acquired serial numbered goods. If required, the financing statement can be amended to add assets.
- Financing Statement Renewal. The Secured Party must periodically renew the financing statement to ensure its registration remains valid. The Secured Party might also need to amend the financing statement if the Debtor changes its name, is involved with an amalgamation or the Debtor transfers the secured collateral to a third party and the Secured Party wants to retain its security against the transferred assets.
- Intellectual Property. Canadian federal laws govern trademarks, copyright, patents and certain other forms of intellectual property. Many of these laws are unclear about whether a Secured Party is required to register GSA security on such assets federally, in addition to registration in the applicable provincial PPR. Seek legal advice on this issue particularly if intellectual property forms a substantial portion of the assets the GSA secures.
5. What Legal Opinions should a Secured Party obtain respecting the enforceability, validity and effect of the GSA?
A Secured Party taking a GSA should obtain an appropriate written opinion from a lawyer on the legal issues related to the GSA. A lawyer won’t give an opinion respecting the priority ranking of a GSA against other competing security and other interests for various reasons, including the PPSA’s complex priority rules, the difficulty of identifying security and other interests arising outside the PPSA, and the fact the priority between competing security and other interests can depend on facts the lawyer can’t know at the date of the opinion. However, a lawyer will give an opinion on the GSA’s enforceability, validity and effect, providing the Secured Party with an additional layer of assurance.
The trap? An inaccurate or inadequate legal opinion can lead the Secured Party to rely on deficient security and give it a false sense of security about the enforceability, validity and effect of the GSA.
The tip? The practice in Canada is for the Debtor’s lawyer to provide the legal opinion. Review the legal opinion to ensure:
