In this hypothetical, we will consider the following circumstances.
- “Farmer Bob” grows wheat (i.e., crops)
- “AgBank” has loaned Farmer Bob money secured in part by his wheat
- “Massive Grain Elevator” wants to purchase Farmer Bob’s wheat
Can Massive buy the wheat and not get the shaft from AgBank? It depends. In 1985 Congress passed the Food Security Act; the provision 7 U.S.C. Section 1961, titled Protection for Purchasers of Farm Products (FSA), constitutes a wholesale preemption of the Uniform Commercial Code (UCC). UCC Revised Article 9-320(a) provides that:
“a buyer in ordinary course of business, other than a person buying farm products from a person engaged in farming operations, take free of a security interest created by the buyer’s seller, even if the security interest is perfected and the buyer knows of its existence.”
In addition, Official Comment 4 to 9-320(a) provides that:
“this section does not enable a buyer of farm products to take free of the security interest created by the seller … however, a buyer of farm products may take free of a security interest under Section 1324 of the Food Security Act of 1985, 7. U.S.C. Section 1631″
Meanwhile, FSA Section 1324 provides that notwithstanding Article 9 of the UCC, farm product buyers, commission merchants and selling agents (buyers in ordinary course) take free of security interests in farm products created by sellers unless one of two exceptions applies: 1) direct notice or 2) special central filing.
Great. What does that mean?
If Massive is purchasing the wheat in a jurisdiction without a USDA certified central filing system (such as Ohio), then Massive, as a buyer in ordinary course, can take the wheat without the shaft (i.e., AgBank’s trailing security interest) if AgBank or Farmer Bob failed to notify Massive of AgBank’s security interest in the wheat within the year before Massive’s purchase of Farmer Bob’s wheat.
Why would AgBank even know to notify Massive in the first place? In a direct notice jurisdiction, the burden is shifted to AgBank to notify all of Farmer Bob’s buyers or potential buyers of its security interest in the wheat. The notice must be in writing and must contain:
- The names and addresses of the borrower and secured party
- The social security number or tax ID number of the borrower
- A description of the farm products and the crop year
- A reasonable description of the property on which the crops are grown, including the county where the property is located
It is up to Farmer Bob to pony up his buyer information to AgBank on a regular basis. What happens if Farmer Bob is less than honest and doesn’t provide AgBank with Massive’s name because Farmer Bob wants to keep all of the money he gets from Massive and go to Vegas? AgBank has a cow … but the FSA provides that if Farmer Bob sells his wheat “off-list,” he is subject to a civil penalty of $5,000 or 15 percent of the value of the farm products, whichever is greater.
What if Farmer Bob “sees the light” and tells Bank about Massive, and AgBank properly notifies Massive — yet Massive still makes the wheat proceeds check payable only to Farmer Bob? Massive gets the wheat and the shaft by taking the wheat subject to AgBank’s security interest, and AgBank can sue Massive for conversion.
What if all the above occurs, but Massive makes the check payable to both Farmer Bob and AgBank? Massive gets the wheat and is not left with the shaft!
What if this hypothetical occurs in a different jurisdiction?
Let’s now assume that Massive is purchasing wheat in a jurisdiction that has a USDA-certified central filing system (such as Montana). If Massive is a registered buyer in Montana, then Massive can take the wheat without the shaft (i.e., AgBank’s trailing security interest) if AgBank failed to file in accordance with the federal central filing procedures.
So what’s the federal central filing system? It’s not the same thing as central filing under the UCC. The federal filing system contemplates collecting information from two separate sources:
- The secured party must send an “effective financing statement” that shows the name of the debtor, the name of the security party, the type of farm product, the social security number or tax ID number of the debtor and a legal description of the realty on which the crops are grown
- Potential buyers are required to register with the secretary of state and, based on this information, the secretary of state receives a list of all potential buyers
Taking into account the information set forth above, the secretary of state then compiles a Master List organized by type of encumbered farm product and the county where each product is produced. The secretary of state will periodically send this Master List out to all of the registered buyers, thereby providing notice to the registered buyers that the crops are encumbered.
What if Massive failed to register with the Montana secretary of state, AgBank failed to file its financing statement and Massive made the check payable only to Farmer Bob? AgBank gets the shaft, and Massive gets the wheat.
What if all the above occurs, but Massive makes the check payable to both Farmer Bob and AgBank? Massive gets the wheat and is not left with the shaft.
What if Massive failed to register with the Montana secretary of state, AgBank property filed its financing statement and Massive made the check payable only to Farmer Bob? Massive gets the wheat and the shaft by taking the wheat subject to Bank’s security interest and Bank can sue Massive for conversion.
When purchasing farm products in jurisdictions without a USDA certified central filing system (such as Ohio) if the seller fails to tell its existing lender(s) about the potential purchaser and the potential purchaser pays the proceeds directly to the seller, the seller is subject to civil penalties. If the potential purchaser knows about the existing lender(s) and pays the proceeds directly to the seller, the potential purchaser is subject to a conversion action.
When purchasing farm products in jurisdictions with a USDA certified filing system (such as Montana), it is up to the potential purchaser to check with the applicable secretary of state for any registration requirements in order to comply with registration and notice procedures set forth in such jurisdictions. Failure to comply with such requirements resulting in payment solely to the seller could also result in a conversion action filed against the purchaser.