by Robert E. Hayes

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Unlike a UCC secured creditor, a judgment creditor frequently spends time searching for property which might be available to apply to its debt. One of the most common and desirable types of such property is a deposit account in which the judgment debtor maintains funds. The judgment creditor then seeks to garnish these funds and frequently discovers that they are the collateral of a UCC secured creditor who holds a perfected security interest in the deposit account, either because it is the bank where the deposit account is maintained or because a careful secured creditor has entered into a control agreement regarding the account with the bank where it is located. Can the judgment creditor reach the funds through garnishment?

Two lines of judicial authority have evolved. The first might be referred to as the “use it or lose it” test. This line of authority focuses on whether the secured creditor has declared a default prior to the time when the garnishment documents are served on it. Seemingly, courts which adopt this interpretation don’t have much trouble finding that, if the secured creditor has declared default before the garnishment papers are served it has the first priority of the funds in the deposit account. Conversely, if the secured creditor has not declared default (either because there is no default or because the secured creditor is forbearing to declare default) courts following this view conclude that the garnishing creditor has the right to the funds in the deposit account. The rationale is that if the secured creditor has not declared default it is not entitled to take control of the funds, and thus creditors such as a garnishing party are entitled to seize them.

Courts following the “use it or lose it” viewpoint base their analysis, at least in part, on the notion that a secured creditor doesn’t have the rights of a secured party until there is a default. In those circumstances where there is no issue that default has occurred, but in which the secured creditor is permitting the debtor to continue to access and use funds, these courts state that by permitting the debtor to continue to use funds the secured creditor has waived its rights as a secured creditor upon default.

Interestingly enough, the courts following the “use it or lose it” analysis frequently base their reasoning on an Eighth Circuit Court of Appeals case entitled Frierson v. United Farm Agency, Inc., 868 F.2d 302 (Eighth Circuit 1989). That court maintained that a UCC secured creditor wasn’t entitled to “refuse to exercise its rights . . . while it impairs the status of creditors by preventing them from exercising valid liens.”

The other line of analysis employed by courts facing this dispute, which we believe to be the correct analysis, refers to the fact that the UCC secured creditor’s rights are not limited to rights available upon default. These courts point out that the rights of a secured creditors include “control” of the deposit account and the creation of that control is not based upon the existence of a default. The rights of a secured creditor with a properly perfected security interest in a deposit account pre-exist those of a garnishing creditor and should permit the secured creditor to control funds in the account in a manner it deems best suited and most likely to result in full payment of its indebtedness. A good decision analyzing why the UCC secured creditor’s rights should be superior is rendered by the Nebraska Supreme Court in the case of Myers v. Christensen, 776 N.W.2d 201 (Nebraska 2009).

If a deposit account in which your institution claims a security interest is garnished, you must be careful to see that the garnishment disclosure required by statute is made in a timely fashion. We think, however, that you should also be careful to assure that the disclosure identifies your claim of a prior security interest. We also think it best to assure that funds levied upon, whether held in your institution or in another institution with which you have entered into a control agreement, are retained pursuant to SDCL 21-18-33 (a statute permitting the garnishee to hold funds pending entry of a judgment in the garnishment action) until such time as the court makes a decision on the question of priority.

Davenport, Evans, Hurwitz & Smith, LLP, located in Sioux Falls, South Dakota, is one of the State’s largest law firms. The firm’s attorneys provide business and litigation counsel to individuals and corporate clients in a variety of practice areas. For more information about Davenport Evans, visit