Professor Margit Livingston on Priorities in Accounts Under U.C.C. Article 9

Professor Margit Livingston on Priorities in Accounts Under U.C.C. Article 9


Accounts receivables or "receivables," which constitute a significant part of many enterprises' assets, are frequently proffered as collateral in secured lending transactions. Consequently, Article 9 secured parties must understand how to create and perfect security interests in accounts and how to assure their priority position in those accounts in both bankruptcy and non-bankruptcy situations. Generally speaking, there is no purchase-money or other superpriority offered to accounts financers. However, Professor Margit Livingston discusses how junior accounts financers may be able to gain priority over prior perfected secured parties by other methods, such as the holder-in-due course doctrine. She writes:
 
     Notwithstanding the general first-to-file priority rule, Article 9 provides for superpriorities in some cases that allow later parties to step ahead of earlier parties, if the later party complies with the statutory requirements. Secured parties holding purchase money security interests in inventory or equipment and chattel paper purchasers, for example, are the beneficiaries of such superpriorities. For accounts transactions, however, Article 9 almost universally adheres to the first-to-file priority rule and does not generally provide for any kind of superpriority. The Code gives an earlier filed accounts financer priority over a later purchase money inventory secured party in accounts generated from the sale of inventory on the basis that “the cash supplied from the receivables financer often will be used to pay the inventory financing.”
 
     Some junior accounts financers, however, have attempted to evade the rigid application of the first-to-file priority rule for accounts by asserting the status of a holder in due course or a good faith transferee. Article 9 specifically provides that it does not in any way “limit the rights of a holder in due course of a negotiable instrument.” Further, a holder in due course has priority over a prior perfected security interest to the extent provided in Article 3. And finally, an Article 9 filing does not constitute notice of a claim or defense to the instrument so as to deprive the holder of holder-in-due-course status. In addition, transferees of money or funds from a deposit account take free of any security interest “unless the transferee acts in collusion with the debtor in violating the rights of the secured party.”
 
     The rules protecting holders in due course and good faith transferees can conceivably be used by junior accounts financers to hoist themselves above secured parties holding senior security interests in accounts. For example, Secured Party A takes and perfects a security interest in Debtor’s current and after-acquired accounts. Secured Party B subsequently does the same. Under the first-to-file rule, A will have priority over B in Debtor’s accounts. Suppose Customer buys 1,000 widgets from Debtor and promises to pay for them in 60 days, thus creating an account. Later Customer tenders a check for the widgets payable to Debtor, and Debtor endorses the check to Secured Party B. B will argue that it is a holder in due course and thus has priority over A in the check as proceeds of the account. Similarly, if Debtor were to deposit the check into a bank account and then transfer funds from the account to B, B will assert the status of a good faith transferee under section 9-332, thereby defeating A’s senior security interest.
 
(citations omitted)