UCC 9-340 gives the bank that holds a deposit account a default priority over any outside lender who takes that account as collateral. The bank can still apply the funds to debts the account holder owes it, through set-off or recoupment, even after another lender has perfected a security interest in the same account. For a secured lender, the practical result is that a deposit account pledged as collateral is only worth what the depository bank has not already claimed, unless the lender takes specific steps to displace the bank’s rights.
What Set-Off and Recoupment Mean Here
A set-off is when the bank applies money in a customer’s deposit account to a separate debt the customer owes the bank, like an overdue loan payment. Recoupment is narrower: the bank deducts amounts tied to the same relationship that produced the deposit balance, such as account fees or returned-item charges. Both let the bank take the money directly, without filing suit or getting a judgment first.
UCC 9-340 does not create these rights. Banks get them from common law and their account agreements. What 9-340 does is settle the priority fight when a third-party secured creditor claims the same funds.
The Default Rule: The Bank Wins
Under UCC 9-340(a), a bank maintaining a deposit account can exercise set-off or recoupment against a secured party that holds a security interest in that account.1Legal Information Institute. Uniform Commercial Code 9-340 – Effectiveness of Right of Recoupment or Set-off Against Deposit Account A lender who took a security interest in the borrower’s operating account can find those funds swept to cover a separate loan the borrower owes the bank itself.
UCC 9-341 reinforces this by providing that the bank’s rights and duties regarding the deposit account are not changed by the creation, attachment, or perfection of a security interest, by the bank’s knowledge of the security interest, or by the bank’s receipt of instructions from the secured party.2Legal Information Institute. Uniform Commercial Code 9-341 – Banks Rights and Duties With Respect to Deposit Account A bank that knows perfectly well another lender claims the account can still set off against it.
From the security-interest side, UCC 9-327(3) confirms the same result: a security interest held by the bank maintaining the account beats a conflicting security interest held by any other secured party, with one exception discussed below.3Legal Information Institute. Uniform Commercial Code 9-327 – Priority of Security Interests in Deposit Account
The One Way a Secured Party Overrides Set-Off
UCC 9-340(c) carves out a single scenario in which a secured party defeats the bank’s set-off: the secured party becomes the bank’s customer with respect to the deposit account. This is one of the three control methods described in UCC 9-104(a) and effectively means the secured party replaces the debtor on the account.4Legal Information Institute. Uniform Commercial Code 9-104 – Control of Deposit Account Once that happens, any set-off the bank tries to exercise for a debt owed by the original debtor is ineffective.1Legal Information Institute. Uniform Commercial Code 9-340 – Effectiveness of Right of Recoupment or Set-off Against Deposit Account
Watch the wording. Subsection (c) only blocks the bank’s set-off, not its recoupment. Even after the secured party becomes the customer, the bank can still recoup for claims arising from the deposit account relationship itself, like account fees and returned-item charges.
In practice this override is rare because becoming the bank’s customer is disruptive to the borrower’s operations. Most secured lenders reach for a lighter form of control instead, and that lighter form does not touch the bank’s set-off priority.
How Lenders Perfect an Interest in a Deposit Account
A security interest in a deposit account as original collateral can only be perfected by control. Filing a UCC-1 financing statement does not perfect it.5Legal Information Institute. Uniform Commercial Code 9-312 – Perfection of Security Interests in Chattel Paper, Deposit Accounts, Documents, Goods Covered by Documents, Instruments, Investment Property, Letter-of-Credit Rights, Letters of Credit, Money, and Oil and Gas Liens A lender who only files against a deposit account has an unperfected interest that will lose to almost every competing claim.
UCC 9-104(a) recognizes three ways to get control:4Legal Information Institute. Uniform Commercial Code 9-104 – Control of Deposit Account
- The lender and the depository bank are the same institution. Control is automatic.
- The debtor, the secured party, and the bank sign a three-party control agreement under which the bank will follow the secured party’s instructions without further debtor consent. This is by far the most common method.
- The secured party becomes the bank’s customer on the account, replacing the debtor. This is the only method that displaces the bank’s set-off priority under 9-340(c).
Most lenders pick the three-party control agreement because the debtor keeps operating the account day to day, and the lender gains the ability to freeze or redirect funds after a default. The tradeoff is exactly the point of this article: a control agreement does not override the bank’s set-off rights. A lender who wants absolute priority over the bank’s claims has to either become the customer or negotiate a subordination.
Subordination Agreements: The Practical Fix
Nothing in Article 9 prevents a bank from voluntarily giving up its priority. UCC 9-339 allows any party entitled to priority to subordinate by agreement.6Legal Information Institute. Uniform Commercial Code 9-339 – Priority Subject to Subordination In deposit-account collateral deals, the bank’s subordination is often the single most important document the lender negotiates.
A lender taking a security interest in a borrower’s deposit account will ask the depository bank to sign a subordination waiving or limiting its set-off rights. Banks resist because they are giving up real protection, but competitive pressure or the value of the depositor relationship pushes some to agree. Terms vary. Some banks waive set-off entirely, some limit it to specific debts like account fees, and some refuse.
Lenders who rely on a standard control agreement without pushing for subordination stay exposed to the bank’s priority. A deposit account with a $500,000 balance can be worth far less as collateral if the borrower also has a large loan sitting at the same bank.
The Bank Can Hold Both a Set-Off Right and a Security Interest
UCC 9-340(b) clarifies that a bank does not lose its set-off right by also taking a security interest in the same deposit account, and vice versa.1Legal Information Institute. Uniform Commercial Code 9-340 – Effectiveness of Right of Recoupment or Set-off Against Deposit Account The two are separate legal tools. A security interest requires attachment and perfection and is governed by Article 9. A set-off right lives in common law and the account agreement. Subsection (b) confirms that taking one does not waive the other, and the bank can exercise them independently.
Where the UCC’s Rule Does Not Reach
Credit Card Set-Offs Are Blocked by Federal Law
Regulation Z prohibits a credit card issuer from offsetting a cardholder’s credit card debt against funds on deposit with the same issuer.7eCFR. 12 CFR 1026.12 – Special Credit Card Provisions If your bank also issued your credit card, it cannot dip into your checking or savings account to pay the card balance through set-off. It can still sue and garnish through normal legal channels, and it can accept a cardholder’s authorization for automatic payments. The rule only blocks involuntary set-off, and it preempts any conflicting state rule.
Bankruptcy Freezes Set-Off in Place
When the debtor files bankruptcy, the automatic stay under 11 U.S.C. 362(a)(7) immediately halts set-offs.8Office of the Law Revision Counsel. 11 U.S. Code 362 – Automatic Stay Exercising a set-off in violation of the stay can expose the bank to sanctions and damages. The right itself is preserved by Section 553 for pre-petition mutual debts, and the bank can seek relief from the stay to exercise it, but three situations defeat the right entirely: the underlying claim is disallowed; the claim was transferred to the bank by someone other than the debtor within 90 days before filing while the debtor was insolvent; or the bank incurred the mutual debt within 90 days before filing, while the debtor was insolvent, to create a set-off position.9Office of the Law Revision Counsel. 11 USC 553 – Setoff
Federal Tax Liens Turn on Timing
If the bank exercises set-off before an IRS assessment creates a tax lien, the funds are no longer the taxpayer’s and the lien has nothing to attach to.10Internal Revenue Service. Federal Tax Liens If the tax lien attaches first, the bank takes the funds subject to it, and the IRS can levy on the bank. Separately, under 26 U.S.C. 6323(b)(10), a federal tax lien is not valid against a bank’s interest in a deposit account securing a loan the bank made without actual notice or knowledge of the lien.11Office of the Law Revision Counsel. 26 USC 6323 – Validity and Priority Against Certain Persons
Notice Is Not Required by the UCC
The UCC does not require the bank to notify the account holder before setting off. UCC 9-341 confirms that the bank’s rights are not modified by a secured party’s instructions or by the existence of a security interest.2Legal Information Institute. Uniform Commercial Code 9-341 – Banks Rights and Duties With Respect to Deposit Account Some states have banking regulations that require same-day or prompt notice, but they vary, and non-compliance does not necessarily invalidate the set-off. Secured lenders often learn about a set-off only after the money is gone, which is why balance monitoring and direct communication with the depository bank matter.
Common Lender Mistakes
Three recurring errors show up when lenders treat a deposit account as easy collateral.
Filing a UCC-1 instead of obtaining control is the most basic. Deposit accounts require perfection by control, so a financing statement alone leaves the interest unperfected.5Legal Information Institute. Uniform Commercial Code 9-312 – Perfection of Security Interests in Chattel Paper, Deposit Accounts, Documents, Goods Covered by Documents, Instruments, Investment Property, Letter-of-Credit Rights, Letters of Credit, Money, and Oil and Gas Liens
Taking a control agreement without asking for a subordination is the second. The control agreement perfects the interest, but it leaves the bank’s set-off priority intact. A lender who assumes the account balance equals available collateral can be badly wrong at default.
Ignoring the borrower’s other exposures at the depository bank is the third. Every dollar the borrower owes that bank on other credit facilities is potential set-off exposure, and it directly reduces the value of the account as collateral. Investigating the full banking relationship before pricing the deal is the safer path, and structuring the transaction correctly at the outset is cheaper than litigating priority after default.