A "dragnet" clause—a/k/a "cross-collateralization" clause—states that collateral pledged to secure a borrower's obligations also secures the borrower's different obligations to the same lender.

Dragnet Clauses in Practice

In June, I attended a Pearl Jam concert in Berlin. The band, as usual, performed a terrific show. The crowd was great, but I seemed to recognize that their faces were, to be charitable, "of a certain age" (i.e. my age). It struck me that as institutional as the band is, and as many of its songs have become rock 'n roll staples, there is an entire generation of music listeners who do not recognize the breath of one of the most commercially and critically successful rock groups of all time.

I also saw a parallel in my day-to-day work: regardless of whether the economy sinks into recession, there is an entire generation of bankers, loan officers, and credit analysts that have no real exposure to the haunting, familiar flood of widespread defaults and unpaid loans that blew up (or fell apart) in the 2008-2010 financial crisis. This, of course, will inevitably change. It also reminds me that this new generation of younger lenders might benefit from some basic lessons about commercial lending terms that may make or break collections activities on loans that end up in the next bucket of special assets.

The Story of a Not-So Elderly Borrower in Default

Several years ago, I was retained by a longtime client, the Bank, to foreclose a commercial Deed of Trust on a loan that was long in default. The loan was for business purposes, the Borrower was Husband, and the loan was secured by a second-priority security interest in Husband's and Wife's personal residence.

The Deed of Trust evidencing the lien was, accordingly, executed by both Husband and Wife. The loan went into payment default shortly after funding, and several extensions of time or other forbearances were negotiated (the last of which expired in December Year 0). Ultimately, the indebtedness was reduced to a Judgment against Borrower in October Year 1. The Judgment was promptly recorded in the small town's county land records and perfected as a Judgment Lien.

Critically, the Deed of Trust contained (i) a power-of-attorney granted in favor of Bank, and (ii) a cross-collateralization clause covering:

the payment and performance of all present and future indebtedness, liabilities, obligations and covenants of Borrower or Grantor (cumulatively "Obligations") to Lender pursuant to...


all other presently existing or future written evidences of indebtedness, obligations, agreements, instruments, guaranties or otherwise with Lender (whether incurred for the same or different purposes than the foregoing).

After noticing the non-judicial foreclosure sale for early Year 11 and following some back-and-forth with the Borrower's counsel, Borrower and his Wife filed suit against the Bank seeking (a) an injunction preventing the foreclosure, (b) a judicial declaration that any foreclosure was untimely and illegal, and (c) lots of money. Plaintiffs argued that the foreclosure sale was invalid because the original indebtedness appeared to have matured in December Year 0, which was stuck upon the shelf more than 10 years before the scheduled foreclosure sale. This position was based on Tennessee statutes setting the (i) 10-year statute of limitations for the lien of a Deed of Trust (commencing from the date of maturity of the original principal), and (ii) 10-year enforceability period of a Judgment Lien.

Their argument seemed compelling at first, but it ultimately failed. Why?

The Scope of the Dragnet Clause.

Plaintiffs' (and their attorneys') fatal mistake was that they ignored that the fact that the holder of the Judgment Lien, the Bank, was also the original Deed of Trust's mortgagee. So the lien of the Deed of Trust secured payment of not just the original principal, but also the separate "evidence of indebtedness" shown by the Judgment Lien. The critical issue became whether the Judgment Lien, which "matured" the same day it was perfected by recordation in October Year 1, was still enforceable. Ultimately, the power-of-attorney granted to the Bank authorized it to execute, on Borrower's behalf and in his name, documentation renewing the Judgment Lien for another 10 years. With that renewal in place, Borrower's indebtedness to Bank evidenced by the Judgment Lien remained secured by— and foreclosable under—the Deed of Trust due to its dragnet clause.

What Does This Mean?

If all of this sounds a little arcane, that is because it is. The facts were also very unusual. But the lessons to be drawn are simple. To frame them in the immortal words of Eddie Vedder: First, not changing at all may predict your fate. That is, read your loan documents and if collection efforts commence, do not be afraid to use and rely upon the benefit of any cross-collateralization language. Second, you do not want to lose the candle of thought. That is, keep track of the dates of all of your judgment liens so that they stay enforceable. If you keep these basic principles of commercial lending and collections in mind, you will help advance your collections goals no matter how many of your memories and fingerprints are slowly raising.

Reprinted with permission from The Tennessee Banker September/October 2022.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.