The federal Food Security Act (FSA) provides that a purchaser of farm products can take the products free of a security interest created by the seller unless a secured party takes certain actions to protect its lien. The options available to a secured creditor depend on whether the relevant state has established a Central Notification System (“CNS”) that has been certified by the Secretary of Agriculture. If a state has a CNS, the secured party can file an Effective Financing Statement (“EFS”) with the Secretary of State to notify buyers of the security interest. The buyer of the farm products must honor the security interest and provide the sale proceeds to the secured party if the appropriate statutory steps have been taken and the seller appears on a published list or within the CNS database by virtue of the secured creditor filing an EFS.
A recent case from Minnesota illustrates the importance of filing an EFS in a state with a CNS. Like South Dakota, Minnesota has a CNS. In Star Bank v. Anderson, the debtors had a large farming operation in central Minnesota. In 2016, Robert Anderson and his wife obtained a $1.4 million operating line from Star Bank. Star Bank obtained security interests from the Andersons, including a security interest in all “crops grown, growing, or to be grown.” Star Bank perfected its security interest by filing UCC financing statements and an EFS with the CNS operated by the Minnesota Secretary of State.
In 2019, Bushmills purchased nearly $500,000 worth of corn from Robert Anderson’s nephew, Zachary. Zachary delivered the corn to Bushmills in trucks owned by Robert. Bushmills paid Zachary for the corn and made no attempt to see that Robert (or the Bank) received the funds. Zachary, however, did not own any of the Anderson farming operations at that time, did not own his own corn, had not borrowed money from Star Bank, and was not listed as a debtor on Star Bank’s UCC or EFS. Bushmills assumed Zachary owned the corn.
Robert later defaulted on his loan with Star Bank. The Bank sued Bushmills, claiming Bushmills purchased “fronted corn” sold by Zachary but owned by Robert. Accordingly, the Bank claimed the corn was subject to its security interest. Star Bank argued that because Bushmills did not ensure that Star Bank received the funds, or obtain a lien waiver from the Bank, Bushmills was liable to the Bank for the value of the corn it purchased from Zachary. Bushmills argued there were disputed facts as to whether Zachary owned the corn, an assertion rejected by the court. The court sided with Star Bank, concluding the corn Bushmills purchased from Zachary was owned by Robert and was therefore subject to the Bank’s valid and perfected security interest. Because the Bank was not listed as a joint payee on any of the checks, and Bushmills did not obtain a lien waiver from Star Bank, Bushmills was liable to the Bank for the value of the corn. The lower court’s decision was upheld on appeal.
The Star Bank case illustrates the importance of filing an EFS in a state with a CNS, and the interplay between Article 9 of the UCC and the FSA. Article 9 generally provides that a creditor’s perfected security interest in personal property is effective against both the debtor and any third-party purchaser. Article 9, however, contains an exception for a “buyer in the ordinary course of business” who takes personal property free of a perfected security interest even if the buyer is aware of the security interest. This exception does not apply to a purchaser of farm products “from a person engaged in farming operations.” In those cases, the FSA steps in. Pursuant to the FSA, buyers of ag products are protected when purchasing farm products subject to a security interest unless the state has a CNS, and the secured party filed an EFS covering the farm products being sold. Agricultural lenders in South Dakota be mindful that filing a UCC financing statement is not enough when the lender’s lien covers farm products. In those situations, an EFS must be filed to protect against a purchaser taking the farm products free and clear of the creditor’s lien.
If you have questions, contact a Davenport Evans Lawyer at 605-336-2880 or [email protected].
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 www.dehs.com