Court of Appeals Upholds Security Interest
Where
Description of
Property was Technically Inaccurate
In a decision rendered last
Friday, the Kentucky Court of Appeals has upheld the security interest taken by
a bank in personal property where the UCC-1 of record with the Kentucky
Secretary of State accurately described the collateral, but where the incorrect
serial number was listed. Bishop v. Alliance Banking Co., No.
2012-CA-001605-MR (Ky. App. Oct. 11, 2013).
This opinion has been designated “To Be Published.”
Timothy and Candace Elkins delivered
a promissory note to Alliance Bank, which note was partially secured by a 1999
Case backhoe. Alliance filed a UCC-1
with the Kentucky Secretary of State perfecting their security interest in that
backhoe, describing it as a “1999 Case Backhoe 580L” and reciting a serial
number of 1100249697. Later that year
Elkins defaulted on the note, whereupon the bank filed an action for breach and
to obtain possession of the backhoe.
Elkins never defended the action, and a default judgment was entered in
favor of the bank. In addition to an
award of damages and for attorney’s fees, the trial court determined that
Alliance held a perfected security interest in the backhoe and granted it
possession thereof.
It turned out, however, that
between entering into the note/collateral agreement with Alliance and Alliance
bringing action for default, Elkins had sold the backhoe to Bishop. Alliance, upon learning of this sale, moved
to amend its complaint to add Bishop as a defendant. Also, at the time of finding out about the
sale of the collateral to Bishop, Alliance learned that Timothy Elkins’
representation of the serial number, which serial number was recited on the
financing statement, was incorrect; rather, the correct serial number
JJG0249697. Bishop would argue that the incorrect
serial number on the UCC-1 meant, inter
alia, that he was not on notice of Alliance’s security interest and that he
otherwise purchased the backhoe in good faith, for value and without knowledge
of a prior claim thereon. This position
was rejected by the trial court, and that rejection was affirmed by the Court
of Appeals.
Notwithstanding the fact that
the serial number listed on the UCC-1 of record with the Kentucky Secretary of
State was incorrect, the two serial numbers overlapped by six digits. Further, the financing statement did properly
describe the equipment as a “1997 Case backhoe, 580L.” Applying the “inquiry
test” of the UCC, and citing Nolin Prod.
Credit Ass’n v. Canmer Deposit Bank, 726 S.W.2d 693, 697 (Ky. App. 1986):
[A] description of collateral is
sufficient for either a security agreement or a financing statement if it puts
subsequent creditors on notice that, aided by inquiry, they may reasonably
identify the collateral involved. (Slip
op. at 5).
Bishop also argued that he had
contacted the Powell County Court and had been advised that there were no
recorded liens against the Case backhoe.
The Court of Appeals ascribed no importance to this action, it being at
the Kentucky Secretary of State that inquiry with respect to security interests
is to be made.
Prospectively, in language
quoted by the Court of Appeals, the trial court had indicated the protocol that
should be implied in order avoid problems of this nature:
Bishop was under a duty to make an
inquiry of the Secretary of State’s UCC records and if such inquiry was made
[Bishop] would have found that [Alliance Bank] was claiming an interest in an
1999 Case backhoe 580L Serial # 1100249697.
[Bishop] would then have noticed the similarities between the serial
numbers on [Alliance Bank’s] collateral and the one he was proposing to buy
from [Elkins]. [Bishop] would have asked
[Elkins] how many 1999 Case backhoe 580L[s] he owned and he would have called
[Alliance Bank] and inquired as to whether [Alliance Bank] claimed any interest
in the backhoe [Bishop] was about to purchase. (Slip op. at 2-3).
Clearly a purchaser has due
diligence obligations in order to ensure they are a purchaser in good faith
without notice of prior claims.
Furthermore, it would well behoove lenders to insist upon verification
of equipment serial numbers.
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