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Purchase Money Security Interests - Nuances and Pitfalls

Date: Nov 18, 2014 @ 07:00 AM
Filed Under: Legal

One of the great things about Article 9 of the Uniform Commercial Code (“UCC”) is that it specifically authorizes after-acquired collateral liens, which enable a secured party to obtain a lien in not only personal property assets the debtor now owns, but also all such assets the debtor subsequently acquires. Without an exception to the rule, however, once a debtor granted a secured party a blanket lien with an after acquired collateral provision the debtor would be at the mercy of the secured party if it ever again wished to finance the purchase of new goods. The law does not want the debtor to be at the mercy of the existing secured party, especially because the existing secured party (with the after acquired lien) is not harmed in any way when the debtor acquires new goods with money from a new lender … hence, the Purchase Money Security Interest (PMSI) exception.

The PMSI exception is a centerpiece of the equipment leasing and finance industry. While the PMSI is used frequently with great success, too often secured lenders gloss over the more sophisticated aspects of PMSIs with disastrous results. This article reviews some of the nuances and pitfalls of PMSIs to help secured lenders better navigate same and assure priority of their PMSI liens.

PMSIs are Limited to Goods and Certain Software

Neither the security agreement nor the financing statement need recite that the loan is a PMSI. (1.)  PMSI’s, however, can only exist in goods and software, and only in software the extent the software is acquired in a transaction in which the secured party also obtains a PMSI in goods for which the software is to be used. (2.) Thus, a secured party may not obtain a PMSI in software in an exclusively software transaction.

Under Article 9 “goods” includes, among other things, consumer goods, crops, fixtures, equipment, inventory, livestock and manufactured homes.(3.) Thus, a PMSI may not be obtained in other types of collateral such as accounts, chattel paper, documents, general intangibles and instruments. (4.) 

Funding A PMSI

A PMSI obligation has two key requirements: (1) the secured party gives new value; and (2) the new value enable the debtor to acquire an interest in certain goods. (5.) In short, for a PMSI to arise the value provided by the secured party must be used to purchase, or enable the debtor to purchase or acquire rights in, all or part of the collateral.

PRACTICE TIP: It is always best that the secured party tender the loan proceeds directly to the seller/vendor of the collateral to remove all doubt that the value enabled the debtor to “acquire” rights in the collateral. If the obligor has already provided a deposit or partial payment to the seller, it is advisable that the secured party pay the seller in full and the seller refund the deposit or partial payment to the obligor, rather than for the secured party to refund the obligor directly.

The “value” must be new value and may not be antecedent debt. The value, however, need not be limited to only the direct purchase price of the acquired collateral. Most courts have found a PMSI to include the negative equity of a trade in (6.) as well as taxes, freight and other expenses incurred to acquire the collateral, even enforcement expenses and attorney’s fees. (7.)  

In non-consumer transactions, PMSI and non-PMSI obligations may be secured simultaneously on PMSI collateral without disturbing the PMSI character. (8.)

Perfecting a PMSI Lien

How to perfect a PMSI differs depending on the type of “goods” involved in this transaction, such as equipment, fixtures, (9.)  inventory and livestock. Failure to be familiar with and fully and timely comply with these different rules can be fatal to the priority of a PMSI lien.


The requirement for the proper and timely perfection of a PMSI in goods other than inventory, livestock and fixtures, such as equipment and machinery is as follows:

… if the purchase-money security interest is perfected when the debtor receives possession of the collateral or within 20 days thereafter. (10.)

If the secured party files the finance statement within the twenty day period it is deemed to have been perfected before or contemporaneously with the delivery of the collateral to the debtor, and thus the secured party trumps any blanket lender with an after acquired provision. This rule also provides a complete defense to any attack by a bankruptcy trustee under a preference claim in the event of a bankruptcy filing by the debtor within 90 days of the delivery of the collateral. (11.) 

A dispute may arise as to when the debtor “receives possession of the collateral”, especially if the collateral is delivered in installments. Where the debtor takes delivery in stages and assembly is to occur at the debtor’s location, the debtor takes possession when, “after an inspection of the portion of the goods in the debtor’s possession, it would be apparent to a potential lender to the debtor that the debtor has acquired an interest in the goods as a whole.” (12.)  In the case of In re Piknik Products Company, Inc., 346 B.R. 863 (M.D. Ala. 2006), the secured party, Crouch, had delivered and bolted to the floor the “majority” of a Juicy Juice System, but did not file a financing statement within twenty days of said delivery. Crouch’s PMSI was contested and it argued that because the system had not yet been fully installed and was not yet operational the twenty day period had not yet begun to run. The Court rejected Crouch’s argument and denied Crouch purchase-money creditor status. The Court emphasized that the majority of equipment had been delivered and installed and that whether the equipment was operational was not the standard. Rather, the test for “receipt of possession under §9-324 is the impression of a potential lender regarding the debtor’s interest in the property.” Thus, secured parties should not assume the twenty days does not begin to run until the equipment is fully delivered, installed and operational or until the delivery and acceptance form is executed by the debtor.

A dispute may also arise regarding when the twenty days begins to run where the debtor has possession of the equipment, but only as a lessee or on a trial basis. In this case, at least one court has held that the twenty day grace period runs from the time the debtor had the right to purchase the equipment. (13.)

PRACTICE TIP: Because the 20 day period for filing the finance statement runs from when the debtor received the collateral, the secured party should consider two practices to shield its PMSI from attack. First, whenever possible, pre-file the finance statement. Article 9 specifically authorizes pre-filing. (14.) Thus, do not wait for full delivery of the collateral or an executed delivery and acceptance but file as soon as the documents are executed and perhaps even before delivery is even scheduled. Second, be sure to obtain and retain copies of all delivery documents, including copies of invoices, purchase orders, and bills of lading. Without these documents the secured party may be vulnerable to a claim by a prior filed all asset secured party who will not accept a claim of a PMSI, without putting the putative PMSI secured party to its proofs.

Finally, a dispute may also arise regarding perfection within twenty days when the collateral is a titled vehicle. Article 9 provides that a vehicle is not “covered’ by a certificate of title law until a valid application is made and the proper fee tendered. (15.) Practioners must closely review the applicable state title statute to determine whether perfection occurs when the lien is noted on the title or when the secured party submits the paperwork.


As noted above, one cannot obtain a PMSI in software unless the software is acquired in a transaction in which the secured party also obtains a PMSI in the goods in which the software is to be used. (16.) Note that the secured party must separately identify the software in the security agreement and file a financing statement, even if the PMSI in the goods was automatically perfected, such as in a PMSI consumer goods transaction. (17.)


The rules governing obtaining a PMSI in inventory differ significantly from those pertaining to PMSIs in other goods. A secured party can only obtain a PMSI in inventory, if;

  1. The purchase-money security interest is perfected when the debtor receives possession of the inventory Note: Because there is no grace period and the lien must be “perfected” prior to the debtor receiving possession, the UCC-1 must be filed and the lien must attach (which means the secured party must have provided value and a written security agreement must have been executed), prior to the debtor taking possession! (18.) ; and
  2. The purchase-money secured party sends an authenticated notification to the holder of the conflicting security interest; (19.) and
  3. The holder of the conflicting security interest receives the notification within five years before the debtor receives possession of the inventory; (20.)  and
  4. The notification states that the person sending the notification has or expects to acquire a purchase-money security interest in inventory of the debtor and describes the inventory. (21.)

Note: No 20 day grace period!

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