Assignment 8: Automatic Perfection (with an Introduction to the Purchase Money Security Interest) Reference: Understanding Secured Transactions 1.05, 7.01, 7.02 Purchase Money Financing Debtors often obtain financing to enable them to acquire the item(s) in which they are granting a security interest This is purchase money financing Purchase money status can be important For priority purposes (PMSI may get priority over previously filed UCC-1 covering collateral) For perfection purposes Purchase Money Definitions SI in goods is a purchase-money SI if goods are purchase-money collateral [ 9-103(b)(1)] Goods are purchase-money collateral if they secure a purchase-money obligation with respect to the collateral [ 9-103(a)(1)] Purchase-money obligation is one: Incurred to seller, to secure all/part of the price of the collateral, or Incurred to lender, in exchange for value given to enable the debtor to acquire the collateral (and actually so used by debtor) [ 9-103(a)(2)] Automatic Perfection PMSI in consumer goods is automatically perfected upon attachment (no need for secured party to make UCC-1 filing) [ 9-309(1)] Rationale 1: cost of filing would drive up price of consumer goods Rationale 2: even without a UCC-1 filing, lenders can anticipate that debtor may have obtained consumer goods using PM credit 1
Carl H. Esbeck borrows $20,000 from Putnam County Bank to buy a guillotine He signs agreement granting Bank a SI in (1) 1,000 shares of Apple stock and (2) the guillotine PCB files a UCC-1, but it mistakenly identifies the debtor as Carl Hesbeck Does Bank have a perfected SI? Problem 1 Problem 1: Questions PMSI in consumer goods is automatically perfected upon attachment, even if no UCC-1 filing covers the collateral [ 9-309(1)] Answer to Problem 1 thus depends on 2 questions: Question 1: Does Bank have a PMSI? Question 2: Is the collateral consumer goods? Problem 1 Analysis Q1: PCB appears to have a PMSI in guillotine [ 9-103(a), (b)], but not the Apple stock PCB loaned $20K to Esbeck to buy the guillotine Esbeck used that $20K to buy the guillotine Esbeck granted PCB a SI in the guillotine Q2: Is the guillotine consumer goods in the hands of Esbeck? If Esbeck acquired the guillotine for personal use, it is consumer goods [ 9-102(a)(23)], and thus Bank s PMSI in it was automatically perfected when it attached [ 9-309(1)] If so, the mistake in Esbeck s name on UCC-1 is irrelevant, b/c PMSI was automatically perfected If Esbeck s primary use was for a business purpose, the guillotine is equipment No automatic perfection; UCC-1 would be necessary to perfect [ 9-310(a)] Bank s UCC-1 is ineffective (error in name was seriously misleading) [ 9-502(a), 9-506(b)] 2
Abrams buys a minivan from Columbia Honda for personal use Abrams agrees to pay $25,000 sale price in 72 equal monthly installments by contract stating Debtor hereby grants Columbia Honda a PMSI in the collateral [the minivan]. Is Columbia Honda s SI in the minivan automatically perfected upon attachment? Synthesis Problem PMSIs and Titled Goods 9-309(1) automatic perfection rule for PMSIs in consumer goods does NOT apply if the collateral is a titled vehicle ( Except as otherwise provided in Section 9-311(b) with respect to consumer goods that are subject to [certificate of title act].) Perfection requires compliance w/certificate of title act [ 9-311(a)] This makes sense, as 3d parties will look to title certificate for relevant information You sold a 60-inch TV to Joe Smith for $1,000 Smith paid with a check, but it bounced You let Smith keep the TV if (1) he paid by end of month, with interest and (2) he granted you a SI in the TV Smith signed an agreement to this effect Do you have to file a UCC- 1 to perfect? Problem 2 Problem 2 Problem: at time Smith signed the security agreement, Smith already had acquired rights in the TV, which you originally sold him on unsecured credit (by check) In that situation, is it proper to call the TV purchase money collateral and to call the SI a PMSI? 3
9-103, Official Comment 3 The concept of purchase-money security interest requires a close nexus between the acquisition of collateral and the secured obligation. Thus, a security interest does not qualify as a purchasemoney security interest if a debtor acquires property on unsecured credit and subsequently creates the security interest to secure the purchase price. 9-103, Comment 3 Example January 1: X buys furniture from Dealer for $5,000 on 90 days same as cash basis April 1: X still hasn t paid; offers to grant Dealer a SI in the furniture if Dealer will give X an additional 90 days to pay This SI would not be a PMSI, b/c it didn t enable X to acquire the furniture (X already owned rights in the furniture) Problem 2 Compared Question: Is Problem 2 different from the previous example (where debtor bought furniture 90 days same as cash )? Is there an argument for treating the secured party in Problem 2 as having a PMSI? If so, what specific language in the UCC supports that argument? Problem 2: Your Argument? Because Smith paid for the TV with a bad check, his title in the TV was voidable [ 2-403(1)(b)] Thus, you could void his title, and then agree to re-sell the TV to him on a secured basis If so, the re-extension of credit would have enabled him to re-acquire rights in the TV (after previous rights were voided ), so this would be a purchase money obligation under 9-103 Note: This argument would not apply in the 90 days same as cash hypo (in that example, X s title would not have been voidable under 2-403(1)) 4
Lambert buys a flat screen TV at BestBuy, signing a contract to pay in 24 monthly installments; BestBuy retains PMSI in TV Contract: Buyer warrants that he is buying the goods for personal, family, or household use BestBuy doesn t file a UCC-1 But, Lambert places the TV in the waiting room of his law office! Is BestBuy s SI perfected? Troupe Hypo Troupe Court held that the secured party could rely on the debtor s representation, in security agreement, that debtor was acquiring goods for personal use [p. 5] On this reasoning, TV is consumer goods, and Best Buy s PMSI is automatically perfected under 9-309(1), even if the representation turns out to have been false Is this a good result? Is there a persuasive counterargument? At one level, Troupe reasoning seems problematic, if not wrong A 3rd party dealing with Lambert would believe that the TV was equipment, not consumer goods Here, because the issue is perfection (3rd party rights), why should a statement in the security agreement control? Still, other decisions are consistent with Troupe Contrary result would potentially increase consumer credit costs (additional secured party due diligence would increase cost of consumer credit) Purchase Money Security Interests Most PMSI transactions are what might be called one-to-one transactions, e.g., Purchase money secured party extends credit for debtor to buy a specific asset (e.g., Seller of TV extends credit to Buyer of TV), and Purchase money secured party takes SI in only that asset (e.g., Seller takes SI in that TV) 5
In some cases, however, this is not true E.g., Problem 1: Esbeck takes out loan to buy a guillotine and grants SI in the guillotine, but also in Apple stock he already owns E.g., a security agreement may cross-collateralize multiple loans Suppose that ABC, Inc. buys a bulldozer and a copier in separate secured transactions Each time, ABC borrows the money for the purchase price of each item, and signs a security agreement that says: Debtor hereby grants Bank a SI in [the bulldozer] [the copier], and Debtor agrees that the collateral shall secure all sums owed to Bank, presently owed or incurred in the future. In ABC, Inc. example, this agreement would cross-collateralize the two loans I.e., the copier would now secure repayment of (a) the loan used to acquire the copier AND (b) the loan used to acquire the bulldozer Likewise, the bulldozer would secure repayment of both (a) the loan used to acquire it AND (b) the loan used to acquire the copier What s the advantage of such a clause? Transformation Rule Prior to 2000, some courts held that if a SI in an item of collateral also secured a debt other than the purchase price of that collateral, the SI could not be a PMSI [see, e.g., In re Parish] Rationale: PM status required one-to-one nexus between debt and collateral; cross-collateralization destroyed PM character of each individual transaction Transformation rule (if applied) could defeat Secured Party s ability to rely on automatic perfection rule Dual Status Rule : Pre-2000 Other courts instead applied the dual status rule Old 9-107: A security interest is a PMSI to the extent that it secures the purchase price Under the dual status rule, a SI can be both a PMSI (to the extent of the unpaid balance of the PM obligation) and a nonpmsi (to the extent it secures repayment of nonpm obligations) 6
Dual Status Rule Revised Article 9 adopted the dual status rule [ 9-103(b)(1), 9-103(f)] 9-103(f). In a transaction other than a consumergoods transaction, a purchase money security interest does not lose its status as such, even if: (1) the purchase money collateral also secures an obligation that is not a purchase money obligation; (2) collateral that is not purchase money collateral also secures the purchase money obligation; or (3) the purchase money obligation has been renewed, refinanced, consolidated, or restructured. Note, however, that 9-103(f) does not mandate that the court apply the dual status rule in a consumer-goods transaction [ 9-102(a)(24)] 9-103(h): in a consumer-goods transaction, courts are free to apply established approaches, which includes the transformation rule Thus, a court that had applied the transformation rule prior to 2000 (as in Parish) could continue to do so in consumer goods transactions In those states, a consumer lender whose documents use cross-collateralization provisions could not rely on automatic perfection (but would have to file to perfect) 7