Summary of a Recent
Judicial Development in
Finance and Credit

Farm Service Agency Retains Perfected
Security Interest Despite Clerk's Error

Harrison M. Pittman
Staff Attorney

The United States Bankruptcy Court for the Eastern District of Arkansas, has ruled that a filing officer's erroneous termination of a properly filed financing statement filed by the Farm Service Agency ("FSA") did not cause the FSA's secured claim to become an unsecured claim, and therefore avoidable by the bankruptcy trustee. In re Masters, 273 B.R. 773 (Bankr. E.D. Ark. 2002).

Prior to filing his Chapter 13 bankruptcy petition, the debtor signed two promissory notes payable to the FSA. Id. at 774. The debtor later converted his case to a Chapter 7 bankruptcy. Id. Thereafter, the trustee for the Chapter 7 bankruptcy conducted a UCC lien search in the appropriate county office. Id. at 775. Because this office had erroneously terminated the FSA's financing statement several months earlier, the trustee did not locate any record of an outstanding perfected lien in the FSA's favor. Id. The FSA did not learn that the financing statement had been terminated until after the bankruptcy filing and the trustee's subsequent lien search. Id. After learning of the error, the FSA re-recorded its own copy of the original financing statement which showed the original filing date. Id.

The farm equipment and vehicles in which the FSA claimed a lien had already been sold by the trustee in accordance with an order of the bankruptcy court. Id. The trustee retained $41,453.09 from the sale of the collateral, an amount which was less than what the debtor allegedly owed to the FSA. Id. The $41,453.09 was also subject to the estate's claim for administrative expenses and a first lien claimed by another entity for $14,000.00. Id.

The FSA argued that under Arkansas law a secured party does not bear the burden created in the event that an error is made by a filing officer when filing a financing statement. Id. Specifically, the FSA relied on Ark. Code Ann. Sec. 4-9-401(1) (Michie Supp. 1999) which stated that, "presentation for filing of a financing statement and tender of the filing fee or acceptance of the statement by the filing officer constitutes filing under this chapter." Id. The trustee argued that when the financing statement was terminated by the filing officer, the FSA's claim became unperfected, and could therefore be avoided pursuant to 11 U.S.C. Sec. 544 (1994). Id. The trustee also argued that it would be more equitable to rule in his favor "because [the] FSA has other remedies to recover its loss as compared to the bankruptcy estate, which would have no standing to seek relief against any other entity or person." Id. at 777.

The bankruptcy court premised its analysis on the rule that questions arising in bankruptcy pertaining to the "validity, nature, and effect of liens are governed by the law of the state where the property is situated." Id. at 775 (citing In re STN Enter, Inc., 45 B.R. 959, 962 (Bankr. D.Vt. 1985)). The bankruptcy court noted that the parties had not cited to any controlling precedent by either the Arkansas Supreme Court or the Eighth Circuit Court of Appeals that interpreted Sec. 4-9-401(1) in relation to clerical mistake. Id. The court did, however, point out that the Arkansas Supreme Court had previously relied on the Official Comments to Article 9 of the Uniform Commercial Code as persuasive authority. Id. at 775-776 (citing Herringer v. Mercantile Bank of Jonesboro, 315 Ark. 218 (1993) (citing with approval official comments to UCC Article 9 enacted as Ark. Code Ann. Sec. 4-9-204)).

Specifically, the court noted that Ark. Code Ann. Sec. 4-9-401(1) mirrored Sec. 9-403 of the Uniform Commercial Code, and that the official comments to Sec. 9-407 state that "under Sec. 9-403(1) the secured party does not bear the risk that the filing officer will not properly perform his duties: under that section the secured party has complied with the filing requirements when he presents his financing statement for filing and the filing fee has been tendered or the statement accepted by the filing officer." Id. at 775 (quoting U.C.C. Sec. 9-407 cmt. (1) (1972)). The bankruptcy court also cited treatise materials, case law from other circuits, and case law from other bankruptcy courts to support this view. Id. at 776.

The bankruptcy court dismissed the trustee's equity argument by relying on a Second Circuit decision stating that "'If one balances interests between a creditor who does his best to file and is prevented by the clerk from doing so, and another who does his best to search and is prevented by the clerk from finding what he is looking for, the loss may well be held to fall on the second creditor rather than the first because of first creditor's priority of effort.'" Id. at 777 (quoting Ex-Cello Corp. v. Oneida Nat'l Bank & Trust Co. of Cent. New York (In re Mut. Bd. & Packaging Corp.), 342 F.2d 294,297-98 (2d Cir.1965)).

This case summary was prepared June, 2002