Who's on First? Lien Priority in a Volatile World

By Adam Hertzke | July 11, 2012

Secured financing can sometimes seem simple: Get a security agreement, file a financing statement, make a loan. In the grain industry, even the multiple parties with interests in grain—banks, seed sellers, fertilizer providers, harvesters, and so on—can all get paid when grain prices are high enough to satisfy all of their claims.

Unfortunately, this simple view has been challenged as grain prices have fluctuated and input costs continue to rise. Several types of interests may compete for grain proceeds. Most farmers rely on secured credit provided by banks. Lawyers, bankers and many farmers know that the granting and enforcement of such consensual security interests is governed by Article 9 of the Uniform Commercial Code and the process is fairly well understood. Things get more complicated when grain buyers have to deal with statutory liens and the Food Security Act.

States have created statutory liens for nearly every person in the grain production value chain, but the liens created by each state are different in scope and enforcement. Statutory lienholders could include seed sellers, fertilizer providers, harvesters, warehousers and carriers, among others. Unfortunately for all parties, statutory liens vary widely. Each state’s law must be consulted to determine permitted liens, how they are perfected (such as by filing a financing statement), and what the priority of those liens will be.

The final complication discussed here arises from the rights of grain buyers. Before 1985, a buyer of grain or other farm products was always subject to security interests created by the seller. To mitigate the risk that grain buyers might have to pay twice, buyers routinely conducted searches against their sellers and cut checks payable to both their sellers and their sellers’ secured creditors.

The Federal Food Security Act of 1985 shifted the burden somewhat in favor of buyers. The act provides that buyers of farm products take free-of-security interests created by sellers, unless the holders of those security interests comply with certain requirements. Under the act, states may be certified as “central filing states” or “clear title states” and those without a central filing system are commonly known as “notice states.” Unless a state’s central filing system has been certified by the USDA, the state is a notice state. To date, 19 states have been certified as clear title states for some or all farm products. The list published on the USDA’s website at www.gipsa.usda.gov/Lawsandregs/cleartitle.html reveals, for example, that Minnesota and Nebraska are clear title states, but Iowa and Kansas are not.

In clear title states with an approved central filing system, secured parties must file an “effective financing statement” covering their security interest in the state where the grain is produced. Grain buyers must search the central filing before paying for grain. If any secured parties have filed against the grain being purchased, the buyer should obtain a release from the secured parties, or at least cut any checks payable to both the farmer and the secured parties.

The contents of the filing required in clear title states is different from that required under the Uniform Commercial Code, but a secured party must file both to be protected in those states. Matters become particularly difficult when multiple states are involved. Under the Food Security Act, the correct state in which to file is the state where the product is produced. Under the UCC, the correct state in which to file is the state where the debtor—not the product—resides (or was formed, if an entity).

In notice states, a buyer of farm products, including grain, in the ordinary course of business takes free-of-security interests created by the seller, unless the secured parties have given the buyer notice of their security interests. For this reason, lenders in notice states often require farm debtors to provide a list of their grain buyers.

The ways that statutory liens, the Uniform Commercial Code and the Food Security Act interact to determine priority vary from state to state.  Grain buyers would be well-served to fully understand lien priority in the states in which they operate so that they can make payments in a way that minimizes the risk of double payment.

Author: Adam Hertzke
Faegre Baker Daniels LLP
(515) 447-4719
adam.hertzke@FaegreBD.com