The Texas Legislature has recently passed what should be codified as a new Chapter 64 of the Texas Property Code, which will govern assignment of rents. The new statute apparently took effect June 17, 2011.

Background
It is quite common for commercial loans secured by real property to be secured also by an assignment of rents. The assignment language is typically found in a deed of trust, and it is sometimes set forth in a separate document. An assignment of rents can be particularly crucial in securing financing involving income producing property.

Historically, state courts have struggled with whether an assignment of rents is truly “absolute” or merely a “collateral” assignment akin to a security interest in rents. In a bankruptcy context, “perfection” of the assignment of rents has been a confusing issue, which in turn has impacted whether and to what extent post-bankruptcy rents constitute cash collateral under the Bankruptcy Code.

New Chapter 64

In a nutshell, new Chapter 64 effectively renders all assignments of rents securing loans as “collateral” assignments; clarifies when an assignment of rents is perfected; and governs notice provided in connection with the assignment of rents.

At the risk of oversimplification, here are some of the apparent highlights:

• Assignment of rents creates “a presently effective security interest in all accrued and unaccrued rents…” The apparent corollary to this is that assignments are effectively not absolute prior to default.
• On recordation of a document creating an assignment of rents, the security interest in the rents is perfected.
• Sets forth specific notice requirements; general rule is U.S. Postal Service or “commercially reasonable delivery service.” Allows the parties to specify the method and address for notice in the written agreement (“by any means agreed to by the intended recipient”).
• Upon compliance with applicable notice requirements, the lender may be entitled to collect rents directly from tenants, and tenants may be obligated to pay direct to lender.
• Upon default, lender may enforce by notice. This should typically include notice to the assignor (borrower) and notice to the affected tenants.
• Tenant notices: tenant’s address in lease may control; otherwise, tenant’s address at the real property. There is a statutory form of notice to tenant (§64.056).

Summary/Commentary

As with any new statute, we do not have the benefit of court interpretation, and there has been little commentary written. That said, the statute would appear to resolve what had been previously unsettled questions in the past regarding the “absolute” or “collateral” nature of the assignment and when and how the assignment was perfected. Arguably, this may also resolve the issue of to whom a tenant is required to pay rent once a default occurs and proper notice is given. Notice is the key to enforcement, and the statute provides specific notice requirements, and as mentioned, a statutory form for the notice to tenants.

In a bankruptcy context, resolving the issue of perfection would seem to be helpful on the issue of whether and to what extent the rents become cash collateral. That said, rents are generally considered property of the bankruptcy estate, so the careful lender should consult with counsel immediately upon a borrower’s bankruptcy filing when income producing property is involved. The automatic stay may still be implicated, and as mentioned above, it may be a while before we see any court interpretation or guidance regarding the relationship among the new Chapter 64 and Sections 361 (adequate protection), 362 (automatic stay) and 363 (cash collateral; use of property of the estate) of the Bankruptcy Code.

Meanwhile, however, one thing is certain – a new statutory framework is now in place and will now govern creation, documentation, and enforcement of assignments of rents in Texas.

*Roger Cox, a shareholder with the Underwood Law Firm, is Board Certified in Business Bankruptcy Law (and formerly Board Certified in Commercial/Real Estate Law) by the Texas Board of Legal Specialization. This article is for general information only and is not intended as legal advice.