non-issue because the end result in this case is the same under either Illinois or Wisconsin law. Both states have enacted the relevant portions of the Uniform Commercial Code in identical language. And even if the Illinois Consumer Deposit Security Act operates to alleviate the Illinois UCC's burden on lessors to pay interest on security deposits, this interaction has no legal significance. Bank One is entitled to summary judgment even under the UCC's more demanding interest payment provisions. Consequently, consistent with our prior opinions, we consult Wisconsin law to resolve the questions before us.
B. The Security Deposits Create a Security Interest Under Wisconsin's Uniform Commercial Code
In Demitropoulos II, we held that Wisconsin's Uniform Commercial Code applies to Demitropoulos' claim for interest on his security deposit. 924 F. Supp. at 896-97. Briefly recapped, our reasoning proceeded along the following lines: Article 9 of Wisconsin's UCC covers "any transaction (regardless of form) which is intended to create a security interest in personal property." Wis. Stat. § 409.102(1)(a). This includes security interests created by a contract (i.e., a lease), such as pledges. Id. § 409.102(2). The question before us was whether Bank One's lease form created a security interest in the class members' cash deposits. Undertaking a definitional analysis, we determined that it did. The UCC defines a security interest as "an interest in personal property . . . that secures payment or performance of an obligation." Id. § 401.201(37)(a). Personal property includes money. Id. § 990.01(27). And we found it reasonable to draw the inference that the deposit was designed to secure Demitropoulos' obligations under the lease. 924 F. Supp. at 896-97. Although sparse, case law in this area harmonized with our holding that Bank One had an Article 9 security interest in Demitropoulos' $ 550 cash deposit. See Werbosky v. Ford Motor Credit Co., 1996 U.S. Dist. LEXIS 1816, 1996 WL 76133, at *1 (S.D.N.Y. Feb. 22, 1996).
Nevertheless, the American Financial Services Association, writing as amicus curiae, contends that our conclusion was off-base. Its brief dwells on a single point: a security deposit paid to a lessor under a personal property lease is not a pledge of money, subject to Article 9. Rather, it creates a debt that the lessor owes the lessee. Such debts are outside the scope of Article 9. Moreover, the AFSA maintains, under "established common law rules" the lessor is not obligated to pay interest on this debt. As a final measure, the AFSA attacks the Werbosky case as wrongly decided, urging us to eschew reliance on it because the decision would "change settled law upsetting commercial expectations to no ultimate benefit." AFSA Br. at 13. We address these arguments in turn after expanding on our conclusion that the UCC applies to Demitropoulos' security deposit.
1. The Code's interpretive and definitional sections encompass the security deposits in this case
As an initial matter, we point out that Code's own provisions on interpretation call for the UCC to be "liberally construed." Wis. Stat. § 401.102(1). As judges, we must heed this directive. See RAY D. HENSON, SECURED TRANSACTIONS UNDER THE UNIFORM COMMERCIAL CODE § 2-2, pp. 10-11 (2d ed. 1979) ("This command from the enacting legislature is entitled to complete acceptance, recognition and enforcement by every court. . . . Is there any reason why the Code should not 'be liberally construed and applied to promote its underlying purposes and policies'? There is none. If the legislature commands, the courts must obey."). Consistent with this philosophy, Article 9 itself has a "very broad reach," generally covering any consensual security interest in personal property unless explicitly excluded by § 9-104. BARKLEY CLARK, THE LAW OF SECURED TRANSACTIONS UNDER THE UNIFORM COMMERCIAL CODE P 1.03, at 1-13 (rev. ed. 1993); see Wis. Stat. § 409.102(1)(a) & comment 5. Commentators have characterized Article 9's grasp as "octopus"-like and have marveled at its "sweeping breadth." CLARK, P 1.03, at 1-13; 4 JAMES J. WHITE & ROBERT S. SUMMERS, UNIFORM COMMERCIAL CODE § 30-2, at 6 (4th ed. 1995). With these standards in mind, we approach the Code's substantive provisions.
Article 9 applies to "security interests created by contract." Wis. Stat. § 409.102. The term "security interest" is defined expansively, as "any interest in personal property or fixtures which secures payment or performance of an obligation." Wis. Stat. § 401.201(37). Demitropoulos' security deposit is a creature of contract, Bank One's standard automobile lease form. And the Wisconsin legislature includes cash within the definition of personal property.
See Wis. Stat. § 990.01(27). The issue is therefore whether the deposit was given to secure payment or performance of an obligation. To that end, we know that the deposit was not to be used as the final lease payment. Pl's Add'l Facts P 3. It was, however, available to adjust Demitropoulos' liability in case of the lease's early termination, that is, to secure his obligation not to end the lease early. See Lease P 13.b. ("The charges for early termination will be as follows: . . . . Your liability under the Lease will be adjusted for any excess mileage charges . . . , damages to the Vehicle or other charges provided for in this Lease, and your security deposit."). Bank One has not cited any facts demonstrating that the deposit was not designed to secure an obligation, and, in the absence of contrary evidence, we must take the plaintiff's facts as true. Flaherty v. Gas Research Inst., 31 F.3d 451, 453 (7th Cir. 1994). Consequently, based on Article 9's required liberal construction, the broad definition of security interest, the provisions of the lease, and the absence of any facts that would remove this transaction from Article 9, we reaffirm our finding that the lease creates a security interest in Demitropoulos' deposit.
While scarce, the case law confronting this question supports us. In Werbosky v. Ford Motor Credit Co., the court held that a security deposit paid under an automobile lease created a security interest subject to Article 9's interest payment provisions. 1996 U.S. Dist. LEXIS 1816, 1996 WL 76133, at *1 (S.D.N.Y. 1996). Likewise, an equipment lessor was found to have an Article 9 security interest in a cash deposit the lessee paid to secure its performance. In re Atlanta Times, Inc., 259 F. Supp. 820, 827 (N.D. Ga. 1966), aff'd sub nom. Sanders v. National Acceptance Co., 383 F.2d 606 (5th Cir. 1967). And a judge evaluating a security deposit paid to utility company as a condition of uninterrupted electrical service found that the deposit created a security interest under Article 9. In re Barr, 180 Bankr. 156, 160 (N.D. Tex. 1995) (relying on Atlanta Times as persuasive authority).
2. The common-law rule employed in real property cases is inapplicable to a lease for personal property
The AFSA's primary argument against finding that Bank One took a security interest in Demitropoulos' security deposit is that "most commentators and courts" hold that real property (as opposed to personal property) lease security deposits create a debt, which is outside the reach of the UCC, not a pledge, which Article 9 explicitly embraces. Liberated from the confines of the UCC, the landlord-debtor is spared the burden of paying interest on the tenant's deposit. This "common-law rule," the AFSA contends, is equally germane to security deposits paid under a lease for personal property. According to the AFSA, all security deposits involve contract rights, regardless of whether the underlying lease is for personal or real property. Because courts do not apply the UCC to these contract rights when the lease involves real property, there is no reason to hold differently when the lease covers personal property.
The AFSA is comparing apples to oranges. Any common-law precepts applied to security deposits paid under real property leases are irrelevant because real property transactions are specifically carved out of Article 9. Section 9-104 spells out in detail what is excluded from the Article's scope. One of the excluded transactions is "the creation or transfer of an interest in or lien on real estate, including a lease or rents thereunder." U.C.C. § 9-104(j) (codified at Wis. Stat. § 409.104(10)). The landlord-tenant cases
that the AFSA relies on for the "common-law rule" that security deposits do not create Article 9 security interests are therefore inapposite -- real property lease deposits are encompassed by § 9-104(j)'s exclusion, while the automobile lease deposit in this case is not.
Although there are no Wisconsin decisions on point, the UCC case law in other jurisdictions explains the crucial distinction between money paid as security under real versus personal property leases. In holding that real property leases and rents are expressly excluded from the UCC, the following cases underscore the point that the UCC was meant to cover only claims under personal property leases. For example, In re Kavolchyck, 154 Bankr. 793 (S.D. Fla. 1993), aff'd, 164 Bankr. 1018 (S.D. Fla. 1994), faced the question whether a couple who was assigned rents under a real estate lease had to comply with Article 9's filing requirements to perfect their interest in the rents. Finding the rents outside the scope of Article 9, the court held that "Article 9 of the UCC does not cover the perfection of security interests in real property leases or rents derived therefrom." 154 Bankr. 793 at 797. Characterizing the assignees' right to rents as a "contract right" or as "personal property" did not alter the equation. Id. While contract rights and personal property are normally encompassed by Article 9, in this case the rents also constituted "interests in real estate" excluded by § 9-104(j). Id. at 797, 799. This exclusion overrode any of the UCC's inclusive provisions.
Likewise, In re Standard Conveyor Co., 773 F.2d 198, 204 (8th Cir. 1985), held that money deposited in an escrow account to secure the bankrupt real estate lessee's performance fell outside the scope of Article 9. The court was asked to determine which of two creditors had priority to the money in the escrow account. As part of this process, the court found that "an Article 9 security interest in the underlying proceeds of a real estate lease -- rents -- is expressly precluded by U.C.C. § 9-104(j)." Id. Other courts concur. See, e.g., In re Patterson, 64 Bankr. 189, 191-92 (Bankr. N.D. Ill. 1986) (money in escrow account designed to serve as advance rental and/or liquidated damages account were "rents from the lease of real estate" excluded from Article 9's coverage).
Finally, In re Bristol Assocs. Inc., 505 F.2d 1056 (3d Cir. 1974), the leading decision interpreting UCC § 9-104(j), held that rents under a real estate lease are excluded from Article 9 as "transactions touching realty." Id. at 1060. The landlord in that case assigned to a bank his interest in a real estate lease as collateral for a loan. When the landlord filed for bankruptcy, the bank and the receiver vied for priority in the rents. The receiver argued that because Article 9 expressly covers security interests in personal property and state law classified real estate leases as personal property, the § 9-104(j) exclusion did not apply. Id. at 1059-60. Rejecting the receiver's argument, the court found that regardless of whether the lease and its rents constituted personal property, their transfer was nevertheless specifically excluded by § 9-104(j).
These cases defeat the AFSA's argument that common-law rules excepting real estate leases from Article 9 must be extended to personal property leases. First, the decisions hold that "rents" paid under a real estate lease fall outside the scope of Article 9 by virtue of § 9-104(j), not "common-law rules." Whether the rents take the form of an escrow account, as in Standard and Patterson, or a tenant's security deposit, as in the AFSA's landlord-tenant cases, the money is paid to secure obligations under a real estate lease. In contrast, Demitropoulos' security deposit was paid under a personal property lease, which § 9-104(j) does not eliminate from Article 9. Second, AFSA's attempts to unify personal and real property leases by identifying them both as contract rights or personal property fails. Kavolchyck and Bristol render such labels irrelevant. Those cases provide that § 9-104(j) scrutinizes the transaction more closely -- even if rents or deposits are themselves contract rights or personal property, their connection with real estate precludes Article 9's application.
The conclusion we draw from the preceding analysis is that money paid under real property leases is distinguishable from money paid pursuant to a personal property lease. These transactions are not both subject to common-law rules; rather, real estate lease deposits are specifically carved out of Article 9 by statute, while personal property lease deposits remain squarely within the Article's scope.
The AFSA's authority is not to the contrary. The two cases cited as extending the "common-law rule" to personal property leases do nothing of the sort. For example, the AFSA quotes a portion of Mallory Assocs. v. Barving Realty Co., 300 N.Y. 297, 90 N.E.2d 468 (1949), another landlord-tenant dispute over a real estate lease deposit. But Mallory merely addressed the applicability of New York's real property law, not the scope of the UCC. In fact, Mallory was decided long before the UCC's enactment, and therefore bears not at all on the Code's breadth. Moreover, the decision could not have extended any common-law principle to personal property leases because the only lease before the court involved real estate. The AFSA's second case, United States v. Samel Refining Corp., 461 F.2d 941 (3d Cir. 1972), is equally unavailing. The quoted portion, which again examined a security deposit paid under a real, not a personal, property lease, says nothing about the UCC.
The court merely stated that "the relationship of a tenant to the landlord with respect to a security deposit is that of creditor and debtor." Id. at 943. As explained earlier, how a court characterizes a real estate lease deposit is irrelevant -- the UCC views real and personal property lease deposits as different animals.
3. Even the common law would subject Demitropoulos' security deposit to the UCC
Even if we assumed that common-law rules distinguishing debts from pledges were applicable here, it would not change our conclusion that Article 9 applies to this case. To begin with, courts are split on whether real estate lease deposits are debts or pledges. 2 MILTON R. FRIEDMAN, FRIEDMAN ON LEASES § 20.4, at 1166-67 (3d prtg. 1990); Comment, Interest on Security Deposits -- Benefit or Burden to Tenant?, 26 U.C.L.A. L. Rev. 396, 399-400 (1978). The primary difference between debts and pledges is that the landlord classified as a debtor has great discretion to manage the security deposit as he wishes, forcing the tenant to "rely heavily on the landlord's honesty for return of the deposit." Id. at 400. While the landlord in a pledgor-pledgee relationship may still commingle the deposit with his own funds, he is prohibited from "permanently disposing of the deposit or in any way jeopardizing the possibility of its eventual return to the tenant." Id. at 400-01.
Turning to the facts before us, Demitropoulos' deposit arrangement with Bank One resembles a pledge much more than a debt. First, the lease provides that the deposit is refundable. Demitropoulos need not simply rely on Bank One's charity for its return. In addition, the lease's early termination provisions lay out the specific circumstances in which the Bank is permitted to deplete the deposit. Its consumption is therefore not left to the whims of the Bank. Consequently, we find the AFSA's characterization of the deposit as a debt to be misguided. Even the common law would confer upon the deposit pledge status, bringing it within the UCC. See Wis. Stat. § 409.102(2) ("This chapter applies to security interests created by contract including pledge . . . .").
Having found that Wisconsin's Commercial Code applies to Demitropoulos' security deposit, we move on to examine what the Code says about paying interest on security deposits.
C. The UCC Requires Payment of Interest on Security Deposits Only if Any is Actually Earned
In Demitropoulos I, we held that because Bank One's lease form created a security interest in the cash deposits under Wisconsin's Uniform Commercial Code, the Code's provisions governing a secured party's rights and duties in collateral were also applicable. 924 F. Supp. at 896-97. One of those provisions is § 409.207(c):
(2) Unless otherwise agreed, when collateral is in the secured party's possession:
. . .
(c) The secured party may hold as additional security any increase or profits (except money) received from the collateral, but money so received, unless remitted to the debtor, shall be applied in reduction of the secured obligation . . . .