Transferring property rights in digital property – a look at the ongoing development of UCC Article 12

Over the past several years it has become apparent that US state law governing the transfer of property rights (including both ownership rights and security interests) in certain assets that consist of, or are evidenced by, electronic records has lagged behind both technological developments and commercial practice.  Examples include:

• Virtual currencies
• Non-fungible tokens (NFTs)
• Payment intangibles and accounts evidenced by an electronic record and
• “Intangible money” (Virtual “fiat currency” – currency authorized or adopted by a government – not held in a deposit account).

Together, these are called “Covered Property.”

In particular, the current structure and terms of Article 9 of the Uniform Commercial Code has impaired efficient transfer of interests in Covered Property in at least two respects:

• The proper classification of the Covered Property under UCC Article 9 is not always clear.
• Even when it is clear, the classification often makes it difficult for a transferee or pledgee to be certain that the transferred interest is taken free of third-party claims, absent detailed examination of state UCC filing records and/or negotiation of intercreditor agreements or claim releases.

To address these issues, the Uniform Law Commission (ULC) and the American Law Institute (ALI), as the joint sponsors of the Uniform Commercial Code (UCC), established a committee that began work in 2019 on drafting proposed amendments to the UCC.  The amendments would both create a new Article 12 of the UCC and revise other, related provisions of the UCC – especially in Article 9. 

The first draft was presented to the ULC annual meeting this past July for review and comment.  Additional committee meetings later this year and early next year will continue this process.  Final review and approval by the ALI and the ULC is anticipated by July of 2022, and the new and amended provisions will then be recommended to the states for adoption (although a few states have jumped the gun and adopted either the draft UCC Article 12 or similar provisions). 

At a high level, Article 12 would extend the concept of “control” to Covered Property, granting a party in control the same type of super-priority currently granted to a party in control of electronic chattel paper.  The draft does, however, flesh out a little more precisely what it means to have “control,” and in doing so essentially reverts to the original proposed structure for control of transferable records first envisioned in the draft UETA – focusing on the ability to reliably determine the party in control, without creating a “safe harbor” that depends on the existence of an “authoritative copy.”  The commentary to the draft cautions, however, that in some instances having control of the electronic record doesn’t necessarily extend to rights in related property that is “tethered” to the electronic record (such as real estate or intellectual property that may be associated with an NFT).

For the most part, the current draft does not alter existing rules for transferable records, investment property, or deposit accounts.  It does make some minor adjustments to, and clarifies, the rules governing electronic and hybrid chattel paper.

The potential impact of UCC Article 12 on the transfer of rights in Covered Property is significant.  In particular, the current draft would create the possibility of an electronic equivalent to an “instrument” under UCC Article 9 (meaning, for example, that a person could establish a super-priority right to certain debt obligations that do not qualify as transferable records or electronic chattel paper), and even, by taking advantage of other provisions in UCC Article 9, a functional alternative to a transferable record.

We will continue to monitor developments as the draft approaches final form.  Find out more about the implications of this ongoing process by contacting any of us.