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November 16, 2011

Best Practices: Agricultural Liens and Article 9 of the UCC

by Starfield & Smith

When institutional lenders take liens on agricultural products (crops, livestock, the products thereof and supplies used or produced in a farming operation) as collateral for a loan, it is important to be mindful of the effect that statutory agricultural liens may have on the priority of the institutional lender’s lien. Statutory agricultural liens arise by operation of law for the benefit of farm suppliers/creditors that provide goods, services or labor to an agricultural producer or processor. Similar in concept and operation to a mechanics’ lien, the agricultural statutory lien gives the farm supplier/creditor a claim or lien against the crops, livestock or farm products for which the goods, services or labor were provided. The types of agricultural statutory liens vary widely and include seed supplier liens, fertilizer supplier liens and veterinarian’s liens, to name just a few.

Although the state statute creating the agricultural lien will govern when the statutory agricultural lien attaches and is effective, Article 9 of the UCC requires the agricultural statutory lienholder to file a UCC-1 financing statement to perfect its lien. Failure to file by the farm supplier/creditor would render its agricultural lien junior to any other creditor that first perfects a security interest or perfects an agricultural lien on the same farm products. Additionally, while Article 9 generally provides for filing in the jurisdiction where the debtor is organized, Article 9 also provides that, so long as farm products are located in a jurisdiction, the local law of that jurisdiction governs the perfection and the priority of a statutory agricultural lien on farm products. Consequently, in order to perfect an agricultural lien, the farm supplier/creditor must comply with the perfection requirements of the state in which the farm products are located. Some states have a statewide centralized filing system for perfecting agricultural liens, while other states require filing at the county level. Accordingly, a state-specific analysis is required by the institutional lender to determine whether to search for an agricultural lien perfected by a farm supplier/creditor at the state or county level.

With regard to priority, Article 9 generally provides that conflicting perfected security interests rank in priority according to the time of filing. However, Article 9 provides one important exception to the foregoing general priority rule in the case of agricultural liens. A perfected agricultural lien (i.e., one where a financing statement has been filed by the farm supplier/creditor) will have priority over a conflicting security interest in the same collateral if the state statute creating the agricultural lien so provides. This exception allows the perfected agricultural lien of a farm supplier/creditor to trump a pre-existing security interest (such as the institutional lender’s perfected UCC filing), but only if two requirements are met: first, the agricultural lien must be perfected, and second, the agricultural state lien statute must grant the agricultural lien a super-priority. Although agricultural lien statutes vary widely from state to state, a significant number of state agricultural lien statutes provide that the agricultural lien is superior to or has priority over other liens, regardless of when perfected, except tax liens and liens claimed by the state. Because this “super-priority agricultural statutory lien” can trump even a properly perfected UCC lien by the institutional lender, the institutional lender must be sensitive to this issue to assure proper lien priority.

From the institutional lender’s perspective, if the institutional lender is making a loan and farm products serve as the collateral (in whole or in part), the institutional lender must perform extra due diligence by (i) searching at both the state and county level for perfected agricultural liens, and (ii) reviewing the applicable state’s agricultural lien statute to discover what priority will be given to future agricultural liens that could trump the institutional lenders pre-existing security interest. In addition, institutional lenders should be cognizant of the fact that many agricultural liens – – even those with a super-priority – – are limited in time (e.g., expire one year after the farm crop has been harvested). The best practice in terms of the underwriting process and drafting the SBA Loan Authorization when there are existing agricultural liens is to note in both the credit approval memorandum and Loan Authorization that the institutional lender’s security interest in the farm product collateral is subject (and subordinate, if applicable) to existing agricultural liens and also noting when these perfected agricultural liens will expire. Additionally, even where there are no existing agricultural liens, if the state agricultural lien statue grants future agricultural liens a super-priority status, then likewise it should be noted in the credit approval memorandum that there is a super-lien priority agricultural lien statute that affects the type of farm products that are serving as the institutional lender’s collateral, which, if perfected (even at a later date), have the potential to trump the institutional lender’s existing security interest. By carefully focusing on the effect of statutory agricultural liens, institutional lenders can ensure that they obtain an enforceable priority lien on agricultural collateral and avoid repairs of the SBA guaranty due to unforeseen intervening super-priority agricultural liens.

For more information on the perfection of agricultural liens, contact Joe at jernst@starfieldsmith.com, or 215-542-7070.